Securities and Exchange Commission
Washington, D.C. 20549
-------------------------
Amendment No. 2 to
Schedule 13 E-3
Transaction Statement Under Section 13(e)
of the Securities Exchange Act of 1934
-------------------------
The American Education Corporation
(Name of the Issuer)
-------------------------
The American Education Corporation
(Name of Person(s) Filing Statement)
Common Stock, Par Value $0.025 Per Share
(Title of Class of Securities)
02553P101
(CUSIP Number of Class of Securities)
Jeffrey E. Butler
President and CEO
The American Education Corporation
7506 N. Broadway Extension, Suite 505
Oklahoma City, Oklahoma 73116
(405) 840-6031
(Name, Address and Telephone Number of Person Authorized to Receive
Notices and Communications on Behalf of Persons Filing Statement)
-------------------------
with copies to:
Jerry A. Warren
McAfee & Taft A Professional Corporation
211 North Robinson, Suite 100
Oklahoma City, Oklahoma 73102
(405) 235-9621
-------------------------
This statement is filed in connection with (check the appropriate box):
a. __ The filing of solicitation materials or an information statement
subject to Regulation 14A (Sections 240.14a-1 through 240.14b-2),
Regulation 14C (Sections 240.14c-1 through 240.14c-101), or Rule
13e-3(c) (Section 240.13e-3(c)) under the Securities Exchange Act
of 1934.
b. __ The filing of a registration statement under the Securities Act of
1933.
c. __ A tender offer.
d. X None of the above.
Check the following box if the soliciting materials or information
statement referred to in checking box (a) are preliminary copies. __
Check the following box if the filing is a final amendment reporting the
results of the transaction. __
CALCULATION OF FILING FEE
Transaction Valuation* Amount of Filing Fee**
---------------------- ----------------------
$453,500 $90.70
* Estimated maximum price to be paid in lieu of issuance of fractional
shares of Common Stock based upon the aggregate number of shares owned
by holders of less than 2,000 pre-reverse stock split shares and the
estimated number of other fractional shares that would result from the
forward stock split.
** Determined pursuant to Rule 0-11(b) (1), as amended by multiplying the
transaction value of $453,500 by one-fiftieth of one percent.
Check box if any part of the fee is offset as provided by Section
240.011(a)(2) and identify the filing with which the offsetting fee was
previously paid. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing. __
Amount Previously Paid:
Form or Registration No.:
Filing Party:
Date Filed:
INTRODUCTION
This Rule 13E-3 Transaction Statement (the "Schedule 13E-3") is
being filed by The American Education Corporation, a Nevada corporation
(the "Company"), in connection with a proposed going private transaction
in which the Company will effect a 1-for-2,000 reverse stock split of its
common stock, par value $0.025 per share (the "Reverse Split"). In the
Reverse Split, the holders of the Company's common stock will receive one
share of common stock for each 2,000 shares they hold immediately prior
to the effective date of the Reverse Split.
Those stockholders who, immediately following the Reverse Split,
would hold only a fraction of a share of Company common stock will, in
lieu thereof, be paid an amount, in cash, equal to $1,000 times such
fraction of a share and will no longer be stockholders of the Company.
Completion of the Reverse Split will result in the Company having less
than 300 stockholders of its common stock, enabling it to elect to
terminate the registration of its common stock pursuant to Section 12(g)
of the Securities Exchange Act of 1934. Stockholders who receive cash
in lieu of fractional shares will be entitled to appraisal rights for the
"fair value" of their fractional share under Nevada law.
Immediately after the completion of the 1-for-2,000 Reverse Split,
the Company will conduct a 100-for-1 forward stock split for those
stockholders, who following the Reverse Split, continue to hold at least
one (1) whole share of Company common stock (the "Forward Split"). The
Company does not intend to issue any fractional shares of stock as a
result of the Forward Split. Each stockholder who would otherwise be
entitled to a fractional share of common stock of the Company following
the Forward Split will, in lieu thereof, be paid an amount in cash equal
to $10.00 per share multiplied by such fraction. The Reverse Split and
the Forward Split are referred to collectively herein as the
"Transaction."
Under Nevada law and the Articles of Incorporation of the Company,
the Board of Directors of the Company may amend the Company's Articles of
Incorporation to conduct both the Reverse Split and the Forward Split
without the approval of the stockholders. Therefore, the Company is not
seeking stockholder approval for these actions and no vote is sought in
connection with these actions. The Transaction will be conducted upon the
terms and subject to the conditions set forth in the Company's disclosure
document (the "Disclosure Document").
The information contained in the Disclosure Document, including all
exhibits thereto, is hereby expressly incorporated herein by reference.
Capitalized terms used but not defined herein shall have the meanings
given to them in the Disclosure Document.
ITEM 1. SUMMARY TERM SHEET. The information set forth in the
Disclosure Document under the caption "Summary Term Sheet" is
incorporated herein by reference.
ITEM 2. SUBJECT COMPANY INFORMATION.
(a) Name and Address. The information set forth in the
Disclosure Document under the caption "Introduction-Company" is
incorporated herein by reference.
(b) Securities. The information set forth in the Disclosure
Document under the caption "Introduction-Company Securities" is
incorporated herein by reference.
(c) Trading Market and Price. The information set forth in
the Disclosure Document under the caption "Introduction-Company
Securities" is incorporated herein by reference.
(d) Dividends. The information set forth in the Disclosure
Document under the caption "Introduction-Company Securities" is
incorporated herein by reference.
(e) Prior Public Offerings. Not applicable.
(f) Prior Stock Purchases. Pursuant to the terms of a
$300,000 loan from the Company to the Company's President, Mr. Jeffrey E.
Butler, in 2000, Mr. Butler was entitled to repay the loan by
surrendering shares of Company Common Stock at the higher of market value
at the time of the loan commitment or at an amount
1
established by a subsequent independent valuation. Accordingly, in the
fourth quarter of 2003, Mr. Butler surrendered 200,000 shares of Common
Stock at $1.50 per share, the market value on the date of the loan
commitment.
ITEM 3. IDENTITY AND BACKGROUND OF THE FILING PERSON.
(a) Name and Address. The American Education Corporation,
the subject company, is the filing person of this Schedule 13E-3. The
information set forth in the Disclosure Document under the captions
"Introduction-Company," "Introduction-Security Ownership of Certain
Beneficial Owners and Management" and "Introduction-Management" is hereby
incorporated by reference.
(b) Business and Background of Entities. The information set
forth in the Disclosure Document under the caption "Introduction-
Management" is hereby incorporated by reference.
(c) Business and Background of Natural Persons. The
information set forth in the Disclosure Document under the captions
"Introduction-Security Ownership of Certain Beneficial Owners and
Management" and "Introduction-Management" is hereby incorporated by
reference.
ITEM 4. TERMS OF THE TRANSACTION.
(a) Material Terms. The information set forth in the
Disclosure Document under the captions "Special Factors," "Other Issues
Related to the Transaction - Stockholder Approval," and "Other Issues
Related to the Transaction - Material Federal Income Tax Consequences is
hereby incorporated by reference."
(c) Holders of less than one share following the Reverse
Split will be cashed out. Stockholders that would receive a fractional
share as a result of the Forward Split will receive cash in lieu of such
factional share. Whole shares will not be cashed out.
(d) The information set forth in the Disclosure Document
under the caption "Other Issues Related to the Transaction - Dissenters'
Rights" is hereby incorporated by reference.
(e) Provisions for Unaffiliated Security Holders. The
information set forth in the Disclosure Document under the caption
"Special Factors - Access Rights" is hereby incorporated by reference.
(f) Eligibility for Listing or Trading. Not applicable.
ITEM 5. PAST CONTACTS, TRANSACTIONS, NEGOTIATIONS AND AGREEMENTS.
(a) The Company is indebted to two major stockholder
affiliates, John D. Garber and Janis L. Butler, the wife of Jeffrey
Butler, for convertible subordinated debt in the amount of $305,880,
which was advanced in April 2003. The debt bears interest at 8% and the
interest is payable quarterly. Principal is due in one payment on
September 30, 2006. The debt is subordinated to the debt owed to the
Company's senior lender and is convertible into the Company's stock at
$0.40 per share.
On March 30, 2005, the Company entered into a Convertible Note
Purchase Agreement with David J. Smith (the "Note Purchaser"). Pursuant
to the terms of the Agreement the Company issued the Note Purchaser an
unsecured 8% Subordinated Convertible Note (the "Note") in the original
aggregate principal amount of $400,000. All principal and interest on
the Note is due and payable on March 30, 2006 (the "Initial Maturity
Date"), subject to the Note Purchaser's option to extend the Initial
Maturity Date twelve months to March 30, 2007 (the "Extended Maturity
Date"). The Company may not prepay principal or interest on the Note
prior to the Initial Maturity Date. The Note is convertible at any time
at the Note Purchaser's option into shares of the Company's common stock
at the initial conversion price of $0.463 per share (the "Conversion
Price"), subject to certain anti-dilution adjustments. Based upon the
current Conversion Price, the Note is convertible into 863,930.89 shares
of the Company's common stock. The Company has the option to issue any
fractional shares or to pay cash in lieu of any fractional shares.
Any shares of common stock issued upon conversion of the Note will have
"piggy-back" registration rights.
2
See Item 2(f) concerning a loan transaction between the
Company and Mr. Butler.
(b) Significant corporate events. The Company recently
completed the sale of all of the stock of its wholly owned subsidiary,
Learning Pathways Limited, a United Kingdom corporation. The information
set forth in the Disclosure Document under the caption "Special Factors -
Purpose of the Transaction" is incorporated herein by reference.
(c) Negotiations or contacts. None.
(e) Agreements involving the subject company's securities.
The information set forth in the Disclosure Document under the caption
"Introduction - Securities Ownership of Certain Beneficial Owners and
Management" is hereby incorporated by reference with respect to the stock
option ownership of the Company's officers and directors.
ITEM 6. PURPOSES OF THE TRANSACTION AND PLANS OR PROPOSALS.
(b) Use of Securities Acquired. The securities we obtain in
the Transaction will be retired.
(c)(1) - (c)(8) Plans. The Transaction is a reverse stock
split followed immediately by a forward stock split. The information set
forth in the Disclosure Document under the captions "Special Factors -
Purpose of the Transaction" is incorporated herein by reference.
(c)(1) None.
(c)(2) None.
(c)(3) The Company may be required to borrow money under its
existing line of credit with UMB Bank, N.A. to finance all or a portion
of the costs of the Transaction.
(c)(4) None.
(c)(5) None.
(c)(6) None.
(c)(7) The Company intends to file a Certificate of
Termination of Registration under Section 12(g)(4) of the Exchange Act as
soon as possible after consummation of the Transaction. The information
set forth in "Special Factors - Purpose of the Transaction" is hereby
incorporated by reference.
(c)(8) None.
ITEM 7. PURPOSES, ALTERNATIVES, REASONS AND EFFECTS.
(a) Purposes. The information set forth in the Disclosure
Document under the caption "Special Factors - Purpose of the Transaction"
is hereby incorporated by reference.
(b) Alternatives. The information set forth in the
Disclosure Document under the caption "Special Factors - Alternatives to
the Transaction" is hereby incorporated by reference.
(c) Reasons. The information set forth in the Disclosure
Document under the caption "Special Factors - Reasons for the
Transaction" is hereby incorporated by reference.
(d) Effects. The information set forth in the Disclosure
Document under the caption "Special Factors - Effects of the Transaction
on the Company" is hereby incorporated by reference.
3
ITEM 8. FAIRNESS OF THE GOING-PRIVATE TRANSACTION.
(a) Fairness. We believe the Transaction is fair to
unaffiliated stockholders. See "Special Factors - Fairness of the
Transaction."
(b) Factors Considered in Determining Fairness. The
information set forth in the Disclosure Document under the caption
"Special Factors - Factors Considered by the Board of Directors" is
incorporated herein by reference.
(c) Approval of Security Holders. The information set forth
in the Disclosure Document under the caption "Special Factors -
Stockholder Approval" is incorporated herein by reference.
(d) Unaffiliated Representative. The Company did not retain
an unaffiliated representative to act solely on behalf of unaffiliated
security holders for any purpose.
(e) Approval of Directors. All our directors, including the
directors who are not our employees, approved the Transaction. See
"Special Factors - Factors Considered by the Board of Directors."
(f) Other Offers. Not applicable.
ITEM 9. REPORTS, OPINIONS, APPRAISALS AND CERTAIN NEGOTIATIONS.
(a) Report, Opinion or Appraisal. The information set forth
in the Disclosure Document under the caption "Special Factors - Reports,
Opinions, Appraisals and Negotiations" is incorporated herein by
reference.
(b) Preparer and Summary of the Report, Opinion or Appraisal.
Not applicable.
(c) Availability of Documents. Not applicable.
ITEM 10. SOURCE AND AMOUNT OF FUNDS OR OTHER CONSIDERATION.
(a) - (d) Source of Funds; Conditions; Expenses; Borrowed
Funds. The information set forth in the Disclosure Document under the
caption "Other Issues Related to the Transaction - Source and Amount of
Funds" is incorporated herein by reference.
ITEM 11. INTEREST IN SECURITIES OF THE SUBJECT COMPANY.
(a) Securities Ownership. The information set forth in the
Disclosure Document under the caption "Introduction - Security Ownership
of Certain Beneficial Owners and Management" is incorporated herein by
reference.
(b) Securities Transactions. None.
ITEM 12. THE SOLICITATION OR RECOMMENDATION.
(d) Intent to Tender or Vote in a Going-Private Transaction.
Not Applicable.
(e) Recommendation of Others. Not applicable.
ITEM 13. FINANCIAL INFORMATION.
(a) Financial information. The information set forth under
the caption "Financial and Other Information" in the Disclosure Document
is incorporated herein by reference.
(b) Pro forma information. Not applicable.
4
ITEM 14. PERSONS/ASSETS, RETAINED, EMPLOYED, COMPENSATED OR USED.
(a) Solicitations or Recommendations; Employees and
Corporate Assets. Not applicable.
(b) Employees and Corporate Assets. The Company's Chief
Executive Officer, Jeffrey Butler and its Chief Financial Officer, Neil
Johnson, have organized and directed the planning of the Transaction and
the preparation of this Schedule 13E-3 and the Disclosure Document for
use in consummating the Transaction. Messrs. Butler and Johnson will
guide the Company through all phases of the Transaction and will perform
executive services on behalf of the Company in connection with the
Transaction.
ITEM 15. ADDITIONAL INFORMATION.
(b) Other material information. The information set forth in
the Disclosure Document and each Exhibit or Appendix thereto is
incorporated herein by reference.
ITEM 16. EXHIBITS.
(a) The Disclosure Document (filed herewith).
(a)(5)(i) The American Education Corporation Annual Report on
Form 10-KSB/A for the year ended December 31, 2004 (filed with the
Securities and Exchange Commission on September 9, 2005 and incorporated
herein by reference).
(a)(5)(ii) The American Education Corporation Quarterly
Report on Form 10-QSB for the quarter ended September 30, 2005 (filed
with the Securities and Exchange Commission on November 14, 2005 and
incorporated herein by reference).
(b) (1) Promissory Note dated March 31, 2004 from The
American Education Corporation in favor of UMB Bank, N.A. (incorporated
by reference to Exhibit 10.5 to the Company's Quarterly Report on Form
10-QSB for the quarter ended June 30, 2005).
(2) Promissory Note dated March 31, 2005 from The
American Education Corporation in favor of UMB Bank, N.A. (incorporated
by reference to Exhibit 10.6 to the Company's Quarterly Report on Form
10-QSB for the quarter ended June 30, 2005).
(c) Not applicable.
(d) Not applicable.
(f) Dissenters Rights Statement.
(g) Not applicable.
5
SIGNATURE
After due inquiry and to the best of my knowledge and belief, I
certify that the information set forth in this statement is true,
complete and correct.
By: /s/Jeffrey E. Butler
-----------------------
Name: Jeffrey E. Butler
Title: President and CEO
Date: January 4, 2006
-----------------------
6
Exhibit (a) to Schedule 13E-3
-----------------------------
[Disclosure Document]
[The American Education Corporation Letterhead]
January 31, 2006
Dear Stockholder,
The American Education Corporation (the "Company") intends to engage in a
transaction that will result in termination of the registration of our
common stock under the federal securities laws (the "Transaction"). This
will eliminate the significant expense required to comply with the
reporting and related requirements under such laws. Often referred to as
a "going private" transaction, the Transaction will be (1) a reverse
split of our common stock whereby each 2,000 outstanding shares of common
stock will be converted into one whole share, and in lieu of the Company
issuing fractional shares resulting from the combination, we will pay
cash equal to $1,000 multiplied by the fractional share which would
otherwise be held by a stockholder who has less than 2,000 pre-reverse
split shares (the "Reverse Split"), followed immediately by (2) a 100-
for-1 forward split for those stockholders who hold at least one whole
share of our common stock after the Reverse Split (the "Forward Split"),
with stockholders who would be entitled to receive a fractional share of
our common stock in connection with the Forward Split receiving in lieu
of such fractional share cash equal to $10.00 multiplied by such
fractional share.
After careful consideration, the board of directors of the Company has
concluded that the costs associated with being a "public" company are not
justified by the benefits. The board of directors has reviewed the
Transaction and considered its fairness to unaffiliated stockholders who
hold fewer than 2,000 shares as well as those affiliated and unaffiliated
stockholders holding 2,000 or more shares and believes that the
Transaction is in the best interests of the Company and all of its
stockholders. However, in connection with its evaluation, the board of
directors did not retain any advisors to render an opinion as to the
fairness of the Transaction to our stockholders of the consideration
to be received, or receive a report from an independent party appraising
the value of the shares to be cashed-out in the Transaction.
Under Nevada law and pursuant to the Articles of Incorporation of the
Company, the board of directors of the Company may amend the Company's
Articles of Incorporation by filing a Certificate of Change with the
Nevada Secretary of State to conduct both the Reverse Split and the
Forward Split without the approval of our stockholders. Therefore, the
Company is not seeking stockholder approval for the Transaction and no
vote is sought in connection with the Transaction. Under Nevada law,
stockholders are entitled to dissenters' appraisal rights in connection
with this type of "going private" transaction.
The attached document contains details on the Transaction and we urge you
to read it carefully.
Jeffrey E. Butler
President and Chief Executive Officer
- -----------------------------------------------------------------------
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved the transaction described herein,
passed upon the merits or fairness of the proposed transaction or passed
upon the adequacy or accuracy of the disclosure in this document. Any
representation to the contrary is unlawful and a criminal offense. No
person is authorized to give any information or to make any
representation not contained in this document or related Schedule 13E-3,
and if given or made, such information or representation should not be
relied upon as having been authorized by us.
- -----------------------------------------------------------------------
TABLE OF CONTENTS
SUMMARY TERM SHEET..................................................1
CAUTIONARY STATEMENT REGARDING FORWARD LOOKING STATEMENTS...........2
Introduction........................................................3
The Company.....................................................3
Company Securities..............................................3
Security Ownership of Certain Beneficial Owners and Management..4
Management......................................................5
Related Party Transactions......................................5
Subsidiaries of the Company.....................................6
SPECIAL FACTORS.....................................................6
Background......................................................6
Purpose of the Transaction......................................8
Reason for the Transaction......................................9
Factors Considered by the Board of Directors...................10
Alternatives to the Transaction................................12
Fairness of Transaction........................................13
Stockholder Approval...........................................21
Reports, Opinions, Appraisals and Negotiations.................21
Access Rights..................................................21
Reservation....................................................21
Structure of the Transaction...................................21
Effects of the Transaction.....................................23
OTHER ISSUES RELATED TO THE TRANSACTION............................24
Potential Conflicts of Interest................................24
Dissenters' Rights.............................................24
Exchange of Stock Certificates.................................25
Material Federal Income Tax Consequences.......................25
Source and Amount of Funds.....................................26
Source of Funds..............................................26
Expenses.....................................................26
Borrowed Funds...............................................26
FINANCIAL AND OTHER INFORMATION....................................26
SUMMARY TERM SHEET
This summary term sheet highlights selected information from this
disclosure document about the proposed transaction. This summary term
sheet may not contain all of the information that is important to you.
For a more complete description of the transaction, you should carefully
read this Disclosure Document and all of its Exhibits. For your
convenience, we have directed your attention to the location in this
disclosure document where you can find a more complete discussion of each
item listed below.
As used in this disclosure document, "the Company", "we", "ours" and "us"
refer to The American Education Corporation, and the "Transaction" refers
to the Reverse Split and the Forward Split, together with the related
cash payments to the stockholders in lieu of fractional shares of Company
common stock.
Reverse Split - The Reverse Split will provide for the reduction
in the number of authorized shares of common
stock from 30,000,000 to 15,000 shares. As a
result of the Reverse Split, the common
stockholders will receive one share of common
stock for each 2,000 shares they hold
immediately prior to the effective date of the
Reverse Split. In lieu of issuing any
fractional shares to stockholders with less
than 2,000 pre-Reverse Split shares, we will
make a cash payment equal to $0.50 per pre-
Reverse Split share to such stockholders.
Accordingly, after the Reverse Split,
stockholders with less than 2,000 pre-Reverse
Split shares will have no further interest in
the Company and will become entitled only to a
cash payment equal to $1,000 times the
fractional share the stockholder would
otherwise receive. (See "Special Factors-
Structure of the Transaction" beginning on
page 21).
Forward Split - Following the Reverse Split, the Company will
effect a 100-for-1 forward stock split for
those stockholders who hold at least one whole
post-Reverse Split share by increasing the
number of authorized shares of common stock
from 15,000 to 1,500,000. The Company does not
intend to issue any fractional post-Forward
Split shares. Instead, each stockholder who
would otherwise be entitled to a fractional
post-Forward Split share will receive cash in
lieu of fractional interests in an amount equal
to $10.00 times the fractional interest the
stockholder would otherwise receive. (See
"Special Factors-Structure of the Transaction"
beginning on page 21).
Primary Purpose - The primary purpose of the Transaction will be
to reduce the number of stockholders of record
to less than 300, thereby allowing us to elect
to "go private" so that we would no longer file
reports with the Securities and Exchange
Commission, which we would then promptly do
(See "Special Factors-Effect of the Transaction"
beginning on page 23).
Fairness - Our board of directors did not retain any
advisors to render an opinion as to the
fairness, from a financial standpoint, to our
stockholders of the consideration to be
received by them in connection with the
transaction. The board of directors did review
historical prices of the stock, the value the
market gives comparable companies and consider
the fairness of the transaction to all
stockholders. (See "Special Factors-Fairness of
Transaction" beginning on page 13).
1
Recent Trading - The following table provides a summary of the
Activities Company's high and low closing prices and the
average daily volume for each quarter for the
two years ended December 31, 2005:
High Low
Closing Closing Average
Period Price Price Daily Volume
------------------ ---------- --------- ------------
December 31, 2003 $0.70 $0.35 6,163
March 31, 2004 $0.52 $0.35 6,283
June 30, 2004 $0.57 $0.36 11,052
September 30, 2004 $0.55 $0.27 1,567
December 31, 2004 $0.51 $0.26 6,334
March 31, 2005 $0.75 $0.35 11,038
June 30, 2005 $0.62 $0.30 11,166
September 30, 2005 $0.63 $0.50 12,181
December 31, 2005 $0.70 $0.55 5,730
Effects - Following the completion of the Transaction, each
of our remaining stockholders, including
affiliates and members of management owning
common stock, will own a slightly increased or
slightly decreased (depending upon the size of
the indicated fraction of a post-Reverse Split
share) percentage of our outstanding common
stock. We do not anticipate any changes in the
Company's board of directors or management
following the Transaction. (See "Security
Ownership of Certain Beneficial Owners and
Management" beginning on page 4.) The future
business operations of the Company will not
change as a result of the Transaction.
Source of Funds - The funds for the Transaction will come from the
Company's working capital, and, possibly, from
our existing line of credit. (See "Other Issues
Related to the Transaction - Source and Amount
of Funds" beginning on page 26.)
Tax Consequences - Any receipt of cash in the Transaction by
stockholders holding pre-Reverse Split shares
will be a taxable transaction in the same way as
if they sold their shares in the market for the
amount of cash received in the Transaction. (See
"Special Factors-Material Federal Income Tax
Consequences" beginning on page 25).
Stockholder's Right - Under Nevada law, the Transaction does not
require approval by our stockholders. However,
our stockholders are entitled to dissenters'
rights of appraisal with respect to the
Transaction. (See "Other Issues Related to the
Transaction-Dissenters' Rights" on page 24 and
"Other Issues Related to the Transaction -
Stockholder Approval" beginning on page 21).
Reservation - The board of directors retains the right to
reject the Transaction if it determines that the
Transaction is not in the best interest of the
Company and its stockholders.
CAUTIONARY STATEMENT REGARDING
FORWARD LOOKING STATEMENTS
This document contains certain statements that are "forward-looking
statements." Those statements may include statements regarding the
intent, belief or current expectations of the Company or its officers
with respect to (i) the Company's strategic plans and ability to benefit
from this Transaction, (ii) the policies of the Company regarding capital
expenditures, dividends, financing and other matters, (iii) industry
trends affecting the Company's financial condition or results of
operations, (iv) the expenses associated with this Transaction, and (v)
the number of
2
stockholders following the Transaction. Readers of this document are
cautioned that reliance on any forward-looking statement involves risks
and uncertainties. Although the Company believes that the assumptions on
which the forward-looking statements contained herein are based are
reasonable, any of those assumptions could prove to be inaccurate given
the inherent uncertainties as to the occurrence or nonoccurrence of future
events. There can be no assurance that the forward-looking statements
contained in this document will prove to be accurate. The inclusion of a
forward-looking statement herein should not be regarded as a
representation by the Company that the Company's objectives will be
achieved. The "safe-harbor" provisions of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as
amended (the "1934 Act"), however, do not apply to going-private
transactions.
INTRODUCTION
The Company
The American Education Corporation, incorporated under the laws of
the state of Nevada, has its principal executive offices at 7506 N.
Broadway Extension, Suite 505, Oklahoma City, Oklahoma 73116. The
Company's telephone number is (405) 840-6031.
Company Securities
As of December 31, 2005, the Company had 14,133,461 shares of
common stock, par value $0.025 per share, issued and outstanding. The
Company's stock trades on the Over-The-Counter Bulletin Board ("OTCBB")
under the ticker symbol "AEDU.OB." The following is a summary of the
high and low closing prices of the Company's stock and the average daily
volume for each quarter of the past two years:
High Low
Closing Closing Average
Period Price Price Daily Volume
------------------ ---------- --------- ------------
December 31, 2003 $0.70 $0.35 6,163
March 31, 2004 $0.52 $0.35 6,283
June 30, 2004 $0.57 $0.36 11,052
September 30, 2004 $0.55 $0.27 1,567
December 31, 2004 $0.51 $0.26 6,334
March 31, 2005 $0.75 $0.35 11,038
June 30, 2005 $0.62 $0.30 11,166
September 30, 2005 $0.63 $0.50 12,181
December 31, 2005 $0.70 $0.55 5,730
The Company has never declared a cash dividend on its common stock
and does not anticipate declaring any dividends on the common stock in
the foreseeable future.
3
Security Ownership of Certain Beneficial Owners and Management
The following table sets forth ownership of the common stock of each
director and officer, all officers and directors as a group, and each
person known or believed by the Company to have beneficially owned five
percent or more of the Company's outstanding common stock as of December
31, 2005. Unless otherwise indicated, the beneficial owner has sole
voting and investment power over the common stock listed below:
Shares Beneficially
Owned
--------------------
Name/Address of Beneficial Owner Number Percent
- ---------------------------------- ----------------------
Jeffrey E. Butler (1) 1,813,845 12.0%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Thomas A. Shively (2) 950,664 6.4%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Neil R. Johnson (3) 343,500 2.4%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Monty C. McCurry (4) 306,066 2.1%
2134 S. Eagle Ct.,
Aurora, CO 80014
Newton W. Fink (5) 270,566 1.9%
1143 Corinth Greene Dr.,
Sun City Center, FL 33573
Stephen E. Prust (6) 608,434 4.2%
9025 East Kenyon Avenue,
Denver, CO 80237
John D. Garber (7) 3,936,986 27.3%
7323 Linden Terrace,
Carlsbad, CA 92009
Robert Schoolfield (8) 1,536,517 10.9%
5 Pleasant Cove,
Austin, TX 78746
David J. Smith (9) 863,930 5.8%
10 South Close, Workingham
Berks, United Kingdom
The Pennsylvania State 750,000 5.3%
University (10)
University Park, PA 16802
Officers and Directors 4,293,075 25.3%
as a Group (6 persons)
(1) (2) (3) (4) (5) (6)
(1) The amount and percentage figures include the possible exercise of
356,800 common stock options with an exercise price of $.35 per
share, 100,000 common stock options at $.25 per share, 360,000
common stock options at $.30 per share and 215,470 common stock
options at $.62 per share exercisable within 60 days.
(2) The amount and percentage figures include the possible exercise of
273,276 common stock options with an exercise price of $.35 per
share, 60,000 common stock options at $.25 per share, 260,000
common stock options at $.30 per share and 121,000 common stock
options at $.62 per share exercisable within 60 days.
(3) The amount and percentage figures include the possible exercise of
25,000 common stock options with an exercise price of $.35 per
share, 60,000 common stock options at $.25 per share, 125,000
common stock options at $.30 per share and 121,000 common stock
options at $.62 per share exercisable within 60 days.
4
(4) The amount and percentage figures include the possible exercise of
84,000 common stock options with an exercise price of $.35 per
share, 60,000 common stock options at $.13 per share, 42,666
common stock options at $.30 per share and 52,500 common stock
options at $.62 per share exercisable within 60 days.
(5) The amount and percentage figures include the possible exercise of
84,000 common stock options with an exercise price of $.35 per
share, 60,000 common stock options at $.13 per share, 42,666
common stock options at $.30 per share and 52,500 common stock
options at $.62 per share exercisable within 60 days.
(6) The amount and percentage figures include the possible exercise of
129,000 common stock options with an exercise price of $.35 per
share, 60,000 common stock options at $.13 per share, 42,666
common stock options at $.30 per share and 52,500 common stock
options at $.62 per share exercisable within 60 days.
(7) The amount and percentage figures include 3,192,286 shares of common
stock held by John D. Garber and Clare C. Garber as trustees of the
John D. Garber and Clare C. Garber Trust for which Mr. Garber is the
beneficiary; 440,000 shares of common stock held by John D. Garber
and Clare C. Garber, as trustees of the John D. Garber and Clare C.
Garber defined benefit plan, 40,000 owned personally by Mr. Garber
and 264,700 shares of common stock which would be issued to Mr. Garber
if he elects to convert his $105,880 8% Subordinated Convertible Note
dated April 1, 2003 to common stock.
(8) The amount and percentage figures include 737,528 shares of common
stock owned by the Schoolfield 1994 Charitable Unitrust for which
Mr. Schoolfield is the trustee; 614,607 shares of common stock owned
by Mr. Schoolfield individually; and 184,382 shares of common stock
owned by the Schoolfield Grandchildren's Trust for which Mr.
Schoolfield is the trustee.
(9) The amount and percentage figures include 863,930 shares of common
stock which would be issued to Mr. Smith if he elects to convert his
$400,000 8% Subordinated Convertible Note dated March 30, 2005 to
common stock.
(10) In 1999, the John D. Garber and Clare C. Garber Trust donated
750,000 shares of the Company's common stock to The Pennsylvania
State University.
The Company granted a total of options to purchase an aggregate of
900,000 share of its common stock at an exercise price of $0.62 per share
to its officers, directors and employees on December 30, 2005. Although
the exercise price of the stock options exceeds the cash-out price, the
option holders have no risk because they do not have to exercise the
options unless the Company's stock price increases in the future. The
options expire three years from the date of grant.
Management
Information regarding our board of directors and executive officers
is located at "Item 9-Directors, Executive Officers, Promoters and
Control Persons; Compliance with Section 16(a) of the Exchange Act" of
our Form 10-KSB/A, which is included as Exhibit B to this Disclosure
Document. The address of each of the directors and executive officers is
7506 N. Broadway Extension, Suite 505, Oklahoma City, Oklahoma 73116.
The Company's Chief Executive Officer, Jeffrey Butler and its Chief
Financial Officer, Neil Johnson, have organized and directed the planning
of the Transaction and the preparation of this Schedule 13E-3 and the
Disclosure Document for use in consummating the Transaction. Messrs.
Butler and Johnson will guide the Company through all phases of the
Transaction and will perform executive services on behalf of the Company
in connection with the Transaction.
No director or executive officer of the Company has, during the past
five years, been (i) convicted in a criminal proceeding (excluding
traffic violations or similar misdemeanors) or (ii) a party to any
judicial or administrative proceeding (except for matters that were
dismissed without sanction or settlement) that resulted in a judgment,
decree or final order enjoining the person from future violations of, or
prohibiting activities subject to, federal or state securities laws, or a
finding of any violations of such laws. Each director and executive
officer is a citizen of the United States.
Related Party Transactions
The Company had a note receivable due from its Chief Executive
Officer, Jeffrey E. Butler, in the amount of $300,000 that was advanced
on October 26, 2000 and due in October of 2003. The board of directors
and Mr. Butler agreed that the note would be repayable in cash or stock
at Mr. Butler's election. The board of directors and Mr. Butler agreed
that Mr. Butler's shares would be valued for loan repayment purposes at
the higher of (i) the market value on the date the loan commitment was
made, which was $1.50 per share or (ii) the amount determined by a
subsequent independent valuation of the of the Company's stock. Such a
valuuation was performed in early 2003 and it determined that the stock
was worth 0.81 per share. Accordingly, on the date Mr. Butler
surrendered his shares, October 26, 2003, he was credited with $1.50 per
share for loan repayment purposes. The market value of the Company's
common stock on that date was $0.60 per share and, thus, that implied
market value of the shares on the date the note was cancelled was
$120,000. Notwithstanding the actual agreement between the Company and
Mr. Butler, the promissory note memorializing the note was inadvertently
drafted to exclude the provisions allowing
5
repayment of the note with stock. Therefore, on January 30, 2004 the
board of directors signed a memorandum of action setting forth the terms
of the original agreement and ratifying Mr. Butler's repayment of the note
with stock.
The Company is indebted to two major Stockholder affiliates, John D.
Garber and Janis L. Butler, for convertible subordinated debt in the
amount of $305,880, which was advanced in April, 2003. The debt bears
interest at 8% and the interest is payable quarterly. Principal is due
in one payment on September 30, 2006. The debt is subordinated to the
debt owed the Company's senior lender and is convertible in the Company's
common stock at $0.40 per share. Janis L. Butler is the wife of Jeffrey
Butler.
Subsidiaries of the Company
- ---------------------------
Learning Pathways, Ltd.
- -----------------------
On November 4, 2005, the Company completed the sale of its wholly
owned United Kingdom Corporation, Learning Pathways, Ltd. to an unrelated
third party, The Learning Internet, Inc. The Learning Internet, Inc.
acquired all of the issued and outstanding stock of Learning Pathways,
Ltd. for $1. Additionally, in connection with this transaction, the
Company agreed to loan approximately $105,000 to the Learning Internet,
Inc. for operational expenses. The amount of the loan will be equal to
the tax refund received by Learning Pathways for the 2004 fiscal year.
As of the date of this disclosure document, Learning Pathways, Ltd. had
not received the expected tax refund, the loan has not been made and will
only be made when the refund has been received. The Company also agreed to
pay certain expenses of Learning Pathways, Ltd. after it was acquired by the
Learning Internet Inc. The Company estimates that the expenses will total
approximately $50,000. As part of the agreement, The Learning Internet and
the Company entered into a distribution agreement whereby The Learning
Internet agreed to continue to distribute the Company's products for the
foreseeable future. In connection with the distribution agreement, the
Company agreed to waive certain distribution fees that may have resulted
from the sale of the Company's products under the distribution agreement
through April of 2006.
The Company sold Learning Pathways because it has historically lost
money and adversely impacted the Company's financial performance. In
order to eliminate adverse impacts on future cash flow and earnings on
the Company's core business, the assets of Learning Pathways were
classified as impaired on December 31, 2004. The Company elected to take
this action rather than closing the business entirely, which was believed
to be a more costly and cash intensive alternative.
Dolphin, Inc., and Projected Learning Programs, Inc.
- ----------------------------------------------------
On December 31, 2005, the Company merged its two wholly owned
subsidiaries, Dolphin, Inc. and Projected Learning Programs, Inc.,
(inactive) into it to reduce the administrative burden and expenses
associated with continuing to operate the subsidiaries as separate
entities. Dolphin, Inc., the only operating subsidiary of the Company,
now operates as a division of the Company.
SPECIAL FACTORS
Background
The Company has been discussing the possibility of going private as
early as 2000 and since that time discussions have resurfaced
periodically and informally with the board. The board first informally
discussed the possibility of going private on February 19, 2000 as a
result of the sales of securities by a former officer of the Company,
which alarmed the board. Additional informal discussions occurred on
August 22, 2000 when the board approved and announced a share repurchase
program to repurchase shares of the Company's stock. On October 5, 2000,
Mr. Garber indicated an unsolicited and informal interest in underwriting
a share repurchase program and proposed the possibility of privatization
of the Company. On February 23, 2001, the board further discussed the
possibility of taking the Company private and the method of such
restructuring.
These discussions occurred in response to various stockholder
suggestions related to the Company's share price, the volatile nature of
the market and a growing realization by affiliates and the board of the
lack of liquidity for all stockholders on the OTCBB market. The Company
believes that various sales by former officers and
6
directors and non-affiliates were a significant contributing factor in the
drop of the Company's total market capitalization to a five year low in
December of 2003, which furthered the board's view as to the volatility
and lack of liquidity that resulted from being traded on the OTCBB market.
The board and some of our larger stockholders, in light of the substantial
sales by former officers and directors and their known impact on the
Company's market valuation, also have reviewed and considered from time-
to-time the unusual "top heavy" composition of the Company's ownership.
This ownership is comprised of approximately 15 persons who control 72
percent of the Company's outstanding shares. This top heavy ownership
would prevent any material stockholder from achieving liquidity on all or
a portion of their ownership without adversely impacting the value of
other stockholders or their remaining ownership. The valuations provided
by the OTCBB market over the past three and one half years and the impact
that any substantial sale into the market would have on the Company's
stock price prohibit any reasonable alternative for the major shareholders
to achieve liquidity or for the Company to raise capital to buy out major
stockholders.
Another significant factor in the Company's decision to go private
is the Sarbanes-Oxley Act, which was enacted in 2002. The requirements
of the Sarbanes-Oxley Act have resulted and will result in additional
legal, accounting, personnel, and other costs to the Company. As the
expense of compliance became clear, the Company had to consider
alternatives that would allow it to reduce its expenses to a degree that
would give the Company a better opportunity to operate profitably. Among
the expense reduction measures discussed was the possibility of going
private; however, beginning in late 2001 and continuing into mid 2003,
the Company and its industry segment went into a contraction, and the
Company's consolidated growth slowed and its profitability was impacted.
During this period, going private was not financially possible.
As an alternative to going private, the Company talked to a large
number of commercial lenders from the period of 2001 through 2004.
During much of this time period the Company was in difficult financial
circumstances. Discussions were carried out with virtually every
commercial lender in the Oklahoma City market and the Company was turned
down for revolving credit facility financing. Discussions were also
carried out during this period with Capital West Securities (Oklahoma's
primary investment bank) to determine if, and on what terms, the Company
would be able to sell convertible debt. Capital West advised the Company
that in order to secure investors in any convertible debt the Company
would have to offer the convertible debt at a discount to then current
market pricing, which would have been highly dilutive to all of the
Company's shareholders. The Company engaged New York Capital Corporation
in 2003 to look for commercial, convertible and asset based lenders.
This organization presented the Company to in excess of 30 sources of
capital, all of whom declined to provide funds to the Company.
In June of 2004, a disgruntled former employee filed unfounded
claims with the Company's lending bank, the SEC, the Public Accounting
Oversight Board and various Oklahoma regulatory agencies. This led to a
subsequent audit by the bank's auditors and the PCAOB review of the
Company's public accounting firm, which led to no changes in the
Company's accounting or audit practices. These factors, including the
cost of the incremental accounting and legal advice and the significant
management distraction, further motivated the Company's officers and
directors to review the benefits to the stockholders in remaining a
public entity.
The first serious consideration of the possibility of going private
occurred at a July 23, 2004 board meeting in Oklahoma City. The board of
directors asked the Company's counsel to prepare recommendations for
consideration. On October 4, 2004, management presented their
recommendations to the board of directors.
The Company began to improve its financial performance in 2004, but
its subsidiary operations continued to adversely impact the Company's
business. Management's main focus at this time was the effort to
restructure and possibly close or dispose of various business units. As
a result, management and the board had little time to devote to possible
privatization until early 2005.
The Company's internal deliberations on this matter and the
possibility of the move to privatize the Company were disclosed to the
public on April 1, 2005, after private financing was obtained by the
Company to increase its working capital. This was the loan in March 2005
from David Smith. The Company discussed that it was considering the
possibility of going private with Mr. Smith; however, the Company going
private was not a prerequisite to Mr. Smith's investment in the Company.
The Company does not believe that the fact that it was
7
considering the possibility of going private was a determinative factor
in Mr. Smith's decision to invest in the Company.
Mr. Smith first approached Mr. Butler concerning his interest in
investing in the Company in January of 2005. His interest in investing
in the Company was based primarily on his long-term knowledge of the
Company, his relationship with and confidence in Mr. Butler as a result
of their communications and contact over a period of time, and his belief
that the Company was responsive to the market's needs for educational
technology and instruction. Mr. Butler communicated Mr. Smith's interest
in investing in the Company to other members of the management team and
the Board. The consensus was if additional working capital financing was
available that the Company should act to secure these funds. Both
management and the board of directors believed that the Company should
proceed with negotiations with Mr. Smith concerning his investment in the
Company. At no time was there a discussion with Mr. Smith with respect
to his acquiring the Company.
The Company and Mr. Smith's negotiations of the terms of the note
were made on an arms-length basis and the Company believes that the terms
were fair and reasonable to the Company. After the terms of Mr. Smith's
investment were agreed upon, Mr. Butler discussed the transaction with
the Company's principal stockholders (John Garber, David Schoolfield,
Jeffrey Butler and Fred Weiss), who supported the Company's decision to
enter into the transaction with Mr. Smith. All references in this
disclosure document to the Company's "principal stockholders" refer to
Messrs. Garber, Schoolfield, Butler and Weiss.
Mr. Smith's background and career has centered on investments in
companies similar to the Company. Mr. Smith had recently retired from
the non-executive chairmanship of T&F Informa, Ltd., a major British
publishing corporation active in various aspects of educational
publishing. Prior to this position, he was president, respectively,
of the education division and of the tax and legal publications division
of the major Dutch publishing concern, Wolters Kluwer, NV, a publisher of
educational textbooks and software. Mr. Smith left Wolters Kluwer to
become the managing director of Taylor & Francis, PLC, a major UK
publisher of educational and professional publications. Subsequently,
Taylor and Francis merged with Informa PLC and Mr. Smith served as
Chairman of the combined businesses until his recent retirement.
The board of the directors of the Company approved the Transaction
including the reverse split ratio and the cash-out price in a June 13,
2005 board meeting. An additional meeting to discuss the updated
information included in this filing was held on December 21, 2005. The
factors that the board considered in determining the cash-out price are
set forth under "Factors Considered by the Board of Directors." The
reverse split ratio was set in an amount that would be necessary to
reduce the number of the Company's stockholders to less than 300.
Purpose of the Transaction
The primary purpose of the Transaction is to reduce our number of
stockholders of record to below 300. This, in turn, will enable us,
under applicable legal standards, to elect to deregister our securities
under the Securities Exchange Act of 1934 (the "1934 Act"), thereby
"going private." After the Transaction, we intend to deregister our
securities as soon as possible, in order to (i) eliminate the costs
associated with preparing and filing documents under the 1934 Act with
the U.S. Securities and Exchange Commission (the "SEC"), (ii) eliminate
or reduce the costs and other burdens associated with being a 1934 Act
registrant, including the costs of complying with Section 404 of the
Sarbanes-Oxley Act of 2002 ("Section 404"), relating to internal control
over financial reporting, (iii) avoid the requirements of regular
mandatory disclosure of our financial information and management analysis
not only to the public, but also to our competitors and commercial
counterparties, even when such disclosure would be adverse to a Company
objective, (iv) reduce the costs of administering stockholder accounts
and responding to stockholder requests, and (v) provide greater
flexibility in the management and governance of the Company.
There are no plans to engage in (i) any extraordinary transactions,
such as mergers, reorganizations or liquidations involving the Company or
its subsidiaries; (ii) any purchase, sale or transfer of a material
amount of assets of the Company or its subsidiaries; (iii) any change in
the Company's present dividend rate or policy, or indebtedness or
capitalization of the Company; (iv) any change in the present board of
directors or management of the Company; (v) any other material change in
the Company's business or structure; (vi) any class of the Company's
securities being delisted from a national securities exchange or cease to
be authorized to be quoted on an automated
8
quotation system operated by a national securities association; (vii) any
class of equity securities of the Company becoming eligible for
termination of registration under Section 12(g)(4) of the Exchange Act; or
(viii) the suspension of the Company's obligations to file reports under
Section 15(d) of the Exchange Act, except as follows:
(1) the Company may be required to borrow money under its line of
credit with UMB Bank, N.A. to finance all or a portion of the costs of
the Transaction; and
(2) the Company intends to deregister with the SEC under Section
12(g) as soon as practicable following the consummation the Transaction.
Reason for the Transaction
We expect to benefit from substantial cost savings as a result of
the Transaction and "going private," primarily from avoiding various 1934
Act compliance costs. The Transaction will also allow our management and
employees to devote more time and effort to improving our operations by
eliminating the time spent complying with the Company's financial
reporting requirements under the 1934 Act and managing stockholder
relations.
The legal requirements of public companies, including those recently
enacted pursuant to the Sarbanes-Oxley Act of 2002, create large
administrative and financial burdens for any public company. For
example, we estimate that the expenses associated with implementing the
additional processes and procedures necessary for compliance with Section
404 and the required attestation of those controls, to equal $300,000.
The $300,000 estimate of the cost of complying with Section 404 of
Sarbanes-Oxley was internally generated. The components of the expense
include (i) the need to hire a certified public accountant to run the
documentation process (salary plus fringe benefits estimated at $85,000),
(ii) the need to hire an accounting clerk (estimated $45,000), (iii) the
need to purchase software for internal control identification and
management (estimated $50,000), (iv) the required audit of our internal
controls and the change to a regional accounting firm (minimum $75,000),
and (v) one-third of CFO time to oversee the entire process ($45,000).
We derived these estimates after discussion with our auditors and with
representatives of other public companies who are or were estimating
costs of compliance. A survey by Financial Executive's International
in July of 2004 determined that companies with less than $100 million in
revenue will pay an average of $192,000 solely for external consulting,
software and other vendor charges. There are no known or probable
compliance problems with respect to Section 404, except for the time and
expense involved. Section 404 of the Sarbanes-Oxley Act requires all
public companies to develop "internal controls over financial reporting."
"Internal controls over financial reporting" is defined as controls and
other procedures of an issuer that are designed to ensure that
information required to be disclosed by the issuer in the reports that it
files or submits under the 1934 Act is recorded, processed, summarized
and reported, within the time periods specified in the SEC's rules and
forms. "Disclosure controls and procedures" include, without limitation,
controls and procedures designed to ensure that information required to
be disclosed by an issuer in the reports that it files or submits under
the Act is accumulated and communicated to the issuer's management,
including its principal executive and principal financial officers, or
persons performing similar functions, as appropriate to allow timely
decisions regarding required disclosure. Our management does not believe
that we can prudently pay the expense of complying with these legal
requirements in light of the fact that we have not realized many of the
benefits normally presumed to result from being a publicly traded company
(such as the development or existence of an active trading market for and
liquidity of our common stock, enhanced corporate image, and the ability
to use Company stock to attract, retain and grant incentives to
employees).
We believe that we would save approximately $30,000 per year in
costs associated with public filings under the 1934 Act, including legal
and accounting fees attributable to such filings. We would also expect
reductions in other administrative costs associated with being a public
company, including investor relation expenses and annual meeting costs,
of at least $20,000.
The cost savings figures set forth above are only estimates. The
actual savings we realize from going private may be higher or lower than
such estimates. Estimates of the annual savings to be realized once the
Reverse Split is consummated are based upon (i) the actual costs to us of
the services and disbursements in each of the categories listed above,
and (ii) the allocation to each category of management's estimates of the
portion of the
9
expenses and disbursements in such category believed to be solely or
primarily attributable to our publicly reporting company status.
In addition, although 1934 Act disclosure requirements currently
ensure that we provide information about us that the investing public
finds useful, the same information is often useful to our competitors and
to parties negotiating contracts with us. "Going private" would enable
us to shut off the flow of information that our business adversaries can
use against us.
The Company is not required by Nevada law to provide financial or
other information to its shareholders on a quarterly or annual basis;
however, after we "go private," we intend to provide our remaining
stockholders with annual and quarterly financial statements. We will
provide these financial statements by allowing our shareholders to access
a special website, accessible only to our shareholders. We will also
mail quarterly and annual financial statements to those shareholders that
cannot access the website or do not wish to do so. We anticipate that
the annual financial statements will be audited and will also contain a
management report to our stockholders. Additionally, we will continue to
have annual stockholders meetings as required by Nevada law.
Moreover, the Transaction will provide stockholders with fewer than
2,000 pre-Reverse Split shares with an efficient way to cash out their
investment in the Company because we will pay all transaction costs in
connection with the Transaction. Otherwise, stockholders with small
holdings would likely incur brokerage fees that are disproportionately
high relative to the market value of the Company's common stock.
Factors Considered by the Board of Directors
In the course of reaching its decision to implement the Transaction,
our board of directors considered various factors that would affect both
stockholders who retain their interest in the Company and those that
would be cashed out. The board of directors made its determination that
the Transaction was fair to (i) the Company's unaffiliated stockholders
that will be cashed-out in the Transaction, and (ii) the Company's
unaffiliated stockholders that will continue to hold the Company's shares
after the Transaction on June 13, 2005 and updated it on December 21, 2005.
The following factors favoring the Transaction were considered:
- anticipated reductions in the expenses of compliance with the
reporting, proxy statement disclosure and internal controls
compliance requirements of U.S. securities laws and the associated
drain on management time and attention;
- the anticipated difficulty of recruiting and retaining officers
and directors necessary for the Company's continued progress as a
result of public company regulatory complexity and potential
individual personal exposure, exacerbated by the director's belief
that the higher cost of meaningful insurance coverage to mitigate
this exposure was not justified in view of the Company's other
financial obligations;
- the valuation of the Company's securities on the OTCBB for the
past three years, as well as the valuations that have been
ascribed to other companies in the Company's same market segment
within the education industry that are of similar size and
relative profitability;
- the disproportionate current and expected increased cost of
regulatory compliance and other necessary public company expenses
relative to the current size of the Company and its negative
impact on the competitiveness and potential long-term success of
the Company;
- the public markets provides limited liquidity for all stockholders
who wish to sell or trade company securities as evidenced by the
table below listing our high and low stock prices and average
daily trading volume each quarter for the last twelve months;
- the trading price range of the Company's securities over a period
of three-years immediately preceding the preparation of the offer;
10
- the analysis of two similar companies, Touchstone Applied Science
Associates ("TASA") and Siboney Corporation and Subsidiaries
("SBON"), in the same industry with equal to or better than
records of financial performance and similar size that had
problems in increasing share prices as an OTCBB listed enterprise.
The Company reviewed and compared the financial data presented
in the table under the "Fairness of the Transaction" section of
this disclosure document for TASA, SBON and the Company and
compared the EBIT multiples indicated by market prices, noting
that at the historical EBIT multiples shown, the Company is valued
higher than either company on an average basis over the period.
- the highly concentrated ownership of the company, with
approximately 72% of the ownership in the hands of 15
stockholders, indicated the decision by any one of these
stockholders to attempt to sell into the OTCBB market for the
Company's securities would limit opportunities to other
stockholders for share price appreciation and liquidity.
- the sales of shares by one non-affiliated and two affiliated
shareholders that occurred in the 2000 to 2003 calendar years when
these shareholders liquated substantially all of their individual
holdings. These sales of 207,430, 402,400 and 267,310 common
shares over the period of three years are believed to be a
significant contributing factor that have negatively impacted the
value of the holdings of all company shareholders. During this
same period, share price declined from a high of $1.70 to $0.09
per share or by 95%. The Board believes that there are
approximately twenty other current shareholders with holdings
equal to or significantly larger than those above. The Board is
concerned that the possible future sale by any one of these
material current shareholders will likely impact the value of the
Company's securities for all company shareholders. It is believed
these cited liquidation events underscore the significant
volatility associated with the Company's securities listed on the
OTCBB market, amplified by the Company's current concentrated
ownership. These factors are believed to limit future liquidity
opportunities for all shareholders and are a consideration in the
Board's decision to privatize.
- the value being paid to the holders of less than 2,000 pre-Reverse
Split shares is higher than the market value, based on the $0.48
closing price on June 20, 2005, the day before the announcement
of the transaction, higher than the $0.39 per share net book value
of the common stock on March 31, 2005, which is prior to
announcement of the Transaction, higher than the $0.46 weighted
average closing price for the 30 trading days ending on June 20,
2005; higher than the $.41 weighted average closing price for the
60 days ending June 20, 2005; and higher than 10 times EBIT
(earnings before interest and taxes, which was the premium price in
an acquisition in our market segment (based upon reported
transactions in the Transaction Record, published by Berkery Noyes
and Company industry merger and acquisition advisory services).
The 10 times EBIT multiple is derived solely from ProQuest Company
acquisition of Voyager Expanded Learning in December of 2004, and,
as such, may be not be indicative of common multiples based upon
acquisition multiples in our industry. At December 31, 2004, our
EBIT was $344,574 and ten times our EBIT would have been
$3,445,740. The purchase price at ten times our EBIT would have
been $0.24 per share. The nine month EBIT of $636,033 would yield
a value of $6,360,330 or $.45 per share. We calculate EBIT in the
same manner that the EBIT of Voyager Expanded Learning was calculated.
- the issuance by the Company in March, 2005 of debt that is
convertible into common stock at $0.463 per share for 863,930.69
shares. This financing was the result of arms-length negotiation
with an unaffiliated person with experience in the Company's
industry. This recent financing represents the best terms that
the Company could secure after discussions with various potential
lenders and equity investors. See "Introduction - Background."
The price per share at which the note may be converted to stock is
the conversion rate in the debt instrument, and, as such, may not
be indicative of the same price at which the Company's stock could
be sold.
- the ability of smaller stockholders to receive cash for their
shares without being burdened by disproportionately high service
fees or brokerage commissions; and
11
- the ability of stockholders wishing to remain stockholders to
purchase sufficient shares in advance of the effective date of the
Transaction to cause them to own more than 2,000 pre-Reverse Split
shares.
The most weight was given to the pre-announcement historical price
performance of the Company and its industry OTCBB peers. The board of
directors believes that recent increases in the stock price since the
announcement represent an anomaly and are based on speculation since the
increase occurred after the announcement of the buy back price and there
was no other news released by the Company during the price increase after
June 20, 2005 other than the second quarter loss of $486,441 and the
downsizing of Dolphin. Approximate equal weighting was given to the other
factors.
The board of directors also considered the following potential
adverse factors of the Transaction:
- following the Transaction, the stockholders holding less than
2,000 shares of common stock before the Reverse Split will cease
to hold any equity interest in the Company and will lose their
ability to participate in the future growth of the Company, if
any, or benefit from increases, if any, in the value of the
Company. This factor is somewhat mitigated by the fact that these
stockholders may purchase shares of our common stock before the
Transaction to get over the 2,000 share threshold and avoid being
cashed out;
- the board did not retain a financial expert or receive a report
from an independent party appraising the value of the shares to be
cashed-out in the Transaction;
- the Transaction is being effected under Nevada law without
shareholder consent;
- the board did not select an independent representative to act
solely on behalf of the independent shareholders. This, coupled
with the lack of shareholder vote, gave unaffiliated shareholders
no say in negotiating the terms of the Transaction;
- the market for Company stock will become extremely illiquid or
even non-existent after the Transaction; and
- the payment for fractional shares is a taxable transaction for
stockholders.
Alternatives to the Transaction
The board of directors considered the following alternative
transactions to accomplish the reduction in the number of stockholders to
fewer than 300 holders of record and then "go private," but ultimately
determined the Transaction was the preferred method:
(a) A cash tender offer - The board of directors believed a cash
tender offer would not result in shares being tendered by a
sufficient number of record stockholders so as to accomplish
the "going private" objective. It was thought unlikely that
many holders of small numbers of shares would make the effort
to tender their shares of common stock and the cost of mounting
and completing the tender offer could be significant in
relation to the value of the shares of common stock sought to
be purchased. Additionally, there was the risk that holders of
greater than 2,000 shares would tender their shares, thereby
causing us to expend significant amounts of cash and possibly
not reduce the number of stockholders to less than 300; and
(b) A purchase of shares in the open market - The trading market
for our common stock is not particularly active; therefore, it
would be highly unlikely that shares of common stock could be
acquired by us from a sufficient number of record holders to
accomplish the "going private" objective. This is especially
true because there is no reason to believe that many record
holders of fewer than 2,000 shares would be looking to sell
their shares in response to open-market bids. Moreover, such a
program could be construed as an issuer self-tender offer,
resulting in regulatory
12
compliance costs. Additionally, a purchase of shares in the
open market would be subject to the same requirements of
Section 13E-3 as the Transaction.
The board of directors believed that "going private" through the
Reverse Split was preferable to the alternatives listed above due to the
negative factors listed in the description for each alternative listed
above.
The board of directors did not consider the following alternatives:
(a) Selling the Company to a third party - The board did not
consider selling the Company to a third party because the
Company's principal stockholders were not interested in a sale
of the Company. The principal stockholders were not interested
in a sale of the Company because they believe that:
1. The Company continues as a development stage enterprise and
is continuously improving its content and technology. Its
product and relationships with its customers are excellent;
2. Its recent financial history and consolidated financial
performance are largely a result of the Company's
subsidiaries and action by management to sell or close
these business units indicate improving future financial
results;
3. The Company's principal problem is marketing, selling and
distribution coverage and continuous management focus on
these areas will yield future improved results; and
4. Any potential buyer would not provide the Company with a
capitalized value at this time that exceeds the expected
future impact of these efforts.
(b) Remaining public - The board of directors did not further
consider the possibility of the Company remaining public
because the board had determined that the Company could no
longer bear the cost of remaining public and still compete in
its industry.
Fairness of Transaction
Based on a recent analysis of the distribution of our stockholders
we believe the Transaction would result in the cash-out of about 907,000
pre-Reverse Split shares of common stock (approximately 6.4% of the total
outstanding) for a total cash-out amount of approximately $453,500.
However, because holders can continue to buy and sell shares through the
effective date of the Transaction, this figure might change. No single
account can receive more than $999.50 in payment for its pre-Transaction
common stock.
We did not retain an outside party to provide a report or opinion
relating to (i) the fairness of the cash consideration to be paid to
unaffiliated stockholders holding fewer than 2,000 pre-Reverse Split
shares or would otherwise be entitled to fractional shares as a result of
the Forward Split, or (ii) the fairness of the Transaction to
unaffiliated stockholders that would remain shareholders of the Company.
No independent committee of the board of directors has reviewed or
approved the fairness of the Transaction. No unaffiliated representative
acting solely on behalf of the unaffiliated stockholders for the purpose
of negotiating the terms of the Transaction or preparing a report
concerning the fairness of the Transaction was retained by us or by our
unaffiliated directors (indeed, we do not even have any unaffiliated
directors). In spite of the factors listed above, the board of
directors believes that the Transaction is fair to both its unaffiliated
stockholders that will be cashed out in the Transaction and its
unaffiliated stockholders that will remain stockholders of the Company
for the reasons set forth in the remaining portions of this section.
Unaffiliated Stockholders to be Cashed-Out in the Transaction
The board believes that the Transaction is fair to its unaffiliated
stockholder who will be cashed-out in the Transaction. The conclusion of
the board was based upon a variety of factors. Primary among these was
the fact that most methods of calculating value yielded a share price
below the amount that the Company is offering. These methods include
liquidation value, going concern value (at 10 times EBIT), book value at
both December 31, 2004
13
and September 30, 2005, and the average market capitalization at the time
of the announcement, over the quarter preceding the announcement, and over
the year preceding the announcement. The board believes that actual sales
of stock are the best indicators of value. Other valuation methods such as
discounted cash flow that is based on future assumptions of performance
may serve to validate the market, but are only partially adequate and poor
substitutes for actual arms length transactions over a period of time.
The board recognizes that activity in the stock market for the
Company's stock since the announcement of the Transaction has resulted in
a stock price that is currently in excess of the offering price. The
board believes that this is an anomaly, is based on speculation, and is
solely the result of the announcement of the Transaction and therefore
does not impact an assessment of intrinsic fairness. The board believes
this because there was no other news regarding the Company during the
post-announcement increase in the stock price other than the second quarter
loss, and the downsizing of Dolphin, Inc.
The cash-out price of $0.50 reflects an 4.2% premium over the per
share price of $0.48 as reported for the common stock on June 20, 2005,
the day before the announcement of the Transaction and a 22% premium over
the $0.41 weighted average closing price for the 60 trading days ending
on the day before the announcement of the Transaction.
The going concern value is what the Company would be worth to
another party if it acquired and continued to operate the Company, rather
than liquidating the Company's assets. Based on a recent acquisition of
another firm within the Company's industry, the Company believes that a
10 times EBIT multiple is a reasonable measure of the going concern
value. Based on this assumption and 2004 EBIT of $344,574, the value of
the Company is $3,445,740, or $0.24 per share. The nine-month EBIT for
the period ending September 30, 2005 of $636,033 would yield a going
concern value of $6,360,330 or $.45 per share.
Liquidation value is what the assets of the Company are worth if
sold as a set of assets (rather than as an operating business) after
paying off all liabilities of the Company. Using this method, intangible
assets are not considered and tangible fixed assets should be considered
at fair market value of the depreciated asset which, in the case of the
Company's depreciated assets, is book value. At December 31, 2004, the
most the liquidation value of the Company could be was $362,019 or $0.03
per share (Current + Tangible Fixed Assets = $3,246,877 less Total
Liabilities = $2,884,858). At September 30, 2005 the most the
liquidation value could be was $1,171,447 or $.08 per share (Current +
Tangible Fixed Assets = $4,751,970 less Total Liabilities = $3,580,523).
The cash out price of $0.50 per share reflects a 525% premium over the
September 30, 2005 liquidation value per share.
The book value of the Company at December 31, 2004 was $5,392,714 or
$0.38 per share, and at September 30, 2005 was $4,990,051 or $.35 per
share. The cash out price of $0.50 per share reflects a 32% premium over
the book value per share.
The table below summarizes the valuation of the Company under the
methods described above, the value per share and the price per share
offered by the Company.
Basis Value Per Share
Liquidation Value (at 9/30/2005) 1,171,447 0.08
Book Value (at 09/30/2005 4,990,051 0.35
Book Value (at 12/31/2004) 5,392,714 0.38
Going Concern Value (10X EBIT at 9/30/2005) 6,360,330 0.45
Average Market Cap (03/21/2005-06/20/2005) 6,546,314 0.46
Average Market Cap (06/21/2004-06/20/2005) 6,560,298 0.46
Market Cap as of Announcement (06/20/2005) 6,784,061 0.48
OFFER PRICE 7,066,731 0.50
Average Market Cap (12/21/2004-06/20/2005) 7,163,329 0.51
14
Additionally, we identified two other companies that had similar
financial performance characteristics to the Company and we have compared
the historical market valuation of these companies to our historical
market valuation for the last three fiscal years. In making the
selection for comparative analysis, we selected companies that were (i)
listed on the OTCBB, (ii) profitable reporting companies, and (iii)
engaged in similar business in the educational technology segment of the
educational products industry. These companies were also selected
because they are of similar size, and profitability, after the
elimination of unusual and one-time events that may have impacted
financial performance in a single fiscal year. These companies were
selected by management using public filings with the SEC to determine
which companies fit the criteria set forth above.
15
COMPARATIVE FINANCIAL INFORMATION
---------------------------------
The following table shows comparative financial information and
historical market valuations for the Company, Touchstone Applied Science
Associates (TASA), and Siboney Corporation and Subsidiaries (SBON) for
the three most recent fiscal years. TASA and SBON were the only two
companies selected for comparison with the Company because they are the
only two profitable companies in our industry that are listed on the
Over-The-Counter Bulletin Board. Additionally, both TASA and SBON are of
similar size and profitability to us, excluding certain one-time events,
which are specified in the notes to the table below. The analysis in the
table below only analyzes historical factors and does not take into
account such items as projected earnings, projected cash flows or
growth rates. The Company used the financial information presented below
for its analysis because the Company's management believes these are the
most useful metrics for measuring the performance of the Company. These
two companies are highly similar to the Company as they both utilize
technology and content to address the K-12 market for both assessment and
instruction. They also utilize independent sales organizations and in-
house telesales operations to access the school marketplace and may have
regional market strengths that are different than the Company.
Differences may also exist in grade range coverage of each company's
content and assessment tools, the level of specialization in certain
subject areas, and their individual approaches to instructional design.
A short description of TASA and SBON is included in the footnotes to the
table below.
Comparative Financial Information
Company AEDU TASA SBON
Nine Months Ended 09/30/2005 07/31/2005 09/30/2005
Market Analysis
Based on Average
Stock Price
for Period
Market Cap $ 7,349,400 $ 9,447,945 $ 5,279,430
EBIT $ 636,033 $ 499,028 $( 1,110,877)
Market Cap as
Multiple of EBIT 11.56 18.93 (4.75)
Revenues $ 7,987,414 $ 8,008,945 $ 6,008,948
Company AEDU TASA SBON
Fiscal Year Ended 12/31/2004 10/31/2004 12/31/2004
Market Analysis
Based on Average
Stock Price
for Period
Market Cap $ 5,794,719 $ 8,172,156 $ 6,266,851
EBIT $ 344,574 $ 1,291,548 $ 580,107
Market Cap as
Multiple of EBIT 16.82 6.33 10.80
Revenues $ 10,399,865 $ 11,185,254 $10,182,717
Company AEDU TASA SBON
Fiscal Year Ended 12/31/2003 10/31/2003 12/31/2003
Market Analysis
Based on Average
Stock Price
for Period
Market Cap $ 4,946,711 $ 2,941,902 $ 4,221,859
EBIT $ 535,901 $ 1,043,982 $ 704,542
Market Cap as
Multiple of EBIT 9.23 2.82 5.99
Revenues $ 8,598,868 $ 9,761,638 $ 8,752,789
Company AEDU TASA SBON
Fiscal Year Ended 12/31/2002 10/31/2002 12/31/2002
Market Analysis
Based on Average
Stock Price
for Period
Market Cap $ 2,284,954 $ 2,386,897 $ 6,046,813
EBIT $ (792,855) $ 777,757 $ 1,206,187
Market Cap as
Multiple of EBIT (2.88) 3.07 5.01
Revenues $ 8,483,160 $ 7,562,468 $ 8,902,275
The average market cap as a multiple of EBIT for the period 2002 through
the third quarter of 2005 is 9.26 for AEDU, 8.31 for TASA and 4.55 for
SBON.
1. Touchstone Applied Science Associates (TASA) principal activity is to
develop, publish and distribute proprietary instructional and assessment
products to elementary and secondary schools, colleges and universities
throughout the United States. TASA's operations are carried out through
two segments: Assessment and Instructional. The Assessment segment
designs, develops and evaluates assessment needs for schools, school
districts and test and textbook publishers. The Instructional segment
designs, publishes and distributes 'consumable' student workbooks for
grades K-6 and creates and publishes books, pamphlets and test
preparation materials for teachers, students and parents.
16
2. Siboney Corporation (SBON) is engaged in the publishing of
educational software primarily for schools. SBON's educational software
is designed for use in teaching reading, language arts, writing, math,
science and English as a Second Language for students in grades
kindergarten through adult.
NOTES: EBIT for The American Education Corporation does not include
The write off of goodwill of $1,215,015 in 2005 and the impairment
of subsidiary of $1,150,000 for FY 2004
EBIT for Touchstone Applied Science Associates does not include
gain (loss) from sale/leaseback of assets of $94,079 for FY 2005,
$125,439 for FY 2004, $41,813 for FY 2003 and ($14,245) for
FY 2002
EBIT for Siboney Corporation And Subsidiaries does not include
Litigation Settlement Expense of $614,949 for FY 2004
EBIT for Siboney Corporation And Subsidiaries does not include
gains from sale of assets of $219,780 for FY 2004
17
The Company believes that the most salient point of the comparative
information presented in the table is that the only time the value of
these similar companies represented an EBIT multiple in excess of the
EBIT multiple of the Company represented by the cash-out price being
offered in this Transaction was after two consecutive years of growth in
EBIT of approximately 29% per year (in the case of TASA). Other significant
variations in performance seemed to have little impact on stock price.
Companies that are the size of these comparable companies have limited or
no analyst coverage and therefore many of the good or exciting things that
OTCBB companies do tend not to be noticed. The board therefore concluded
that shareholders whose holdings are less than 2,000 shares would be fairly
treated by having the option to cash out shares at a price that is higher
as a multiple of EBIT than the value typically attributed by the market to
the Company and similar OTCBB listed companies in the same industry.
Given the current and increasing cost of remaining public and after
careful consideration of the facts revealed in the board's detailed
comparative analysis of other public companies presented above, as well
as the above cited "Factors Considered by the Board of Directors", we
believe that the Transaction proposed is in the best interest of the
remaining stockholders, employees and stakeholders and fair to the
holders of less than 2,000 current shares who will no longer have an
investment in the Company.
The board also considered the terms of a recent investment in the
Company by an unaffiliated investor in determining whether the cash-out
price was far to unaffiliated stockholders being cashed-out in the
Transaction. On March 30, 2005, the Company entered into a Convertible
Note Purchase Agreement with David J. Smith (the "Note Purchaser").
Pursuant to the terms of the Agreement the Company issued the Note
Purchaser an unsecured 8% Subordinated Convertible Note (the "Note") in
the original aggregate principal amount of $400,000. All principal and
interest on the Note is due and payable on March 30, 2006 (the "Initial
Maturity Date"), subject to the Note Purchaser's option to extend the
Initial Maturity Date twelve months to March 30, 2007 (the "Extended
Maturity Date"). The Company may not prepay principal or interest on the
Note prior to the Initial Maturity Date. The Note is convertible at any
time at the Note Purchaser's option into shares of the Company's common
stock at the initial conversion price of $0.463 per share (the
"Conversion Price"), subject to certain anti-dilution adjustments. Based
upon the current Conversion Price, the Note is convertible into
863,930.89 shares of the Company's common stock. The Company has the
option to issue any fractional shares or to pay cash in lieu of any
fractional shares. The purchaser is an experienced, senior-executive
level manager with knowledge of the industry. The board believes that this
recent, negotiated transaction is reflective of the value of the Company
and considered the terms of the Note, along with the factors listed above,
in determining the fairness of the Transaction. However, the price per share
at which the Note may be converted is a conversion price only and just
one part of a complex transaction. As a result, the conversion price of the
Note may not be the same price at which the Company's stock could be sold.
The board of directors believes that the Transaction is fair to all
unaffiliated stockholders, including unaffiliated stockholders that
purchased shares of the Company's stock at prices in excess of the cash-
out price, or $0.50 per share. Any stockholder who is cashed-out as a
part of this Transaction that purchased shares of the Company's stock for
more than $0.50 per share will experience a loss a result of the
Transaction. Present stockholders (including those whose shares are
expected to be cashed out) generally will have an opportunity both to
evaluate all of the information contained herein and to compare the
potential value of an investment in the Company with that of other
available investments. The board of directors believes that the
Transaction is procedurally fair to our unaffiliated stockholders because
the Transaction is being effected in accordance with all requirements
under Nevada law and the stockholders are provided with dissenter's
rights of appraisal under Nevada law. In addition, between the date
hereof and the effective date of the Transaction, all stockholders of the
Company will have an opportunity to buy or sell in the public market a
number of pre-Reverse Split shares so that holders who would otherwise be
cashed out in whole or in part can continue to be stockholders and
continuing holders can also divide or otherwise adjust their existing
holdings as to become cashed-out stockholders as to some of all or their
pre-Reverse Split shares. However, the lack of liquidity in the Over-
The-Counter Bulletin Board may limit the ability of stockholders to
either buy or sell their shares at a satisfactory price. We have noted
that since the June 20, 2005 announcement, a number of holders have
increased their holdings and other holders have sold their stock. We
believe that the passage of time has allowed holders to implement their
decision to remain a stockholder or find other investment opportunities.
None of our directors or affiliates is expected to act so as to become a
wholly cashed-out stockholder. We believe that, in making their decision
to determine the $0.50 pre-Reverse Split cash-out price and the $10.00
per post-Reverse split cash-out price, our directors were conscious of
the importance of the
18
issues (including those that adversely affect continuing stockholders as
well as those that affect cashed-out stockholders) and acted in accordance
with their fiduciary duties to the Company and its stockholders.
The Transaction was approved by all of the directors of the Company,
including directors who are not employees of the Company.
Unaffiliated Stockholders that will not be Cashed-Out in the Transaction
The board of directors believes that the Transaction is fair to its
unaffiliated stockholders that will not be cashed-out as a result of the
Transaction because these stockholders can divide or otherwise adjust
their existing holdings so that they will be cashed out in the
Transaction. These stockholders will no longer have the advantage of
owning shares that are traded, albeit thinly, on a public market;
however, the board believes that the operating advantages that the
Company will gain as a result of not having to comply with the 1934 Act
will result in the Company becoming more profitable. If the Company is
more profitable then the value of its shares should increase, even though
that value will be negatively affected by the lack of public market for
the shares. We have noted that since the June 20, 2005 announcement, a
number of holders have increased their holdings and other holders have
sold their stock. We believe that the passage of time has allowed
holders to implement their decision to remain a stockholder or find other
investment opportunities.
The board believes that going private will (i) eliminate the costs
associated with preparing and filing documents under the 1934 Act, (ii)
eliminate or reduce the costs and other burdens associated with being a
1934 Act registrant, including the costs of complying with Section 404 of
the Sarbanes-Oxley Act of 2002 relating to internal control over
financial reporting, (iii) avoid the requirements of regular mandatory
disclosure of our financial information and management analysis not only
to the public, but also to our competitors and commercial counterparties,
even when such disclosure would be adverse to a Company objective, (iv)
reduce the costs of administering stockholder accounts and responding to
stockholder requests, and (v) provide greater flexibility in the
management and governance of the Company.
Reasoning of Specific Board Members
Certain members of the Company's Board of Directors will remain as
both shareholders and directors of the private company. These individuals
may be considered "affiliates" under Rule 12b-2 of the 1934 Act and, as
such, the SEC requires that these individuals express their views as to
the substantive and procedural fairness of the Transaction to the
Company's shareholders. Each director considered all of the factors under
"Factors Considered by the Board of Directors" with special emphasis on the
matters set forth for each director below:
Jeffrey E. Butler, Chairman and Director, will remain a director and
shareholder in the Company. Mr. Butler believes that the substantive and
procedural elements of the Transaction, as proposed, are fair to the
unaffiliated shareholders to be cashed out in the Transaction for the
following reasons: (i) The Company's major unaffiliated and affiliated
shareholders do not have an option to secure liquidity for their holdings
without damaging the share value of the unaffiliated shareholders. (ii)
The trading history and market for the Company's securities have proven
to be illiquid and volatile. (iii) All shareholders are exposed to the
possibility that one or more affiliated shareholders or a substantial
unaffiliated shareholder may find it necessary to sell a major portion of
his/her holdings. History indicates that such position liquidations
negatively impact share values of all other shareholders. (iv) The
concentrated ownership of a large portion of the Company's outstanding
shares, combined with the above factors, hinder potential future returns
for all shareholders. (v) Procedurally, the terms of the proposed
Transaction and various Company notices provide ample opportunity for all
investors to remain invested, liquidate or reduce the size of their financial
involvement in the Company. For those unaffiliated shareholders directly
affected there is a lower cost exit option at a fair price and a premium
to the historical average share price trading range, as well as an
opportunity to increase their investment to remain an investor in the
Company. Mr. Butler believes that the Transaction is fair to the
unaffiliated shareholders that will not be cashed-out in the Transaction
for the same reasons as provided under "SPECIAL FACTORS-Fairness of the
Transaction-Unaffiliated Stockholders that will not be Cashed-Out in the
Transaction."
19
Monty McCurry, Director, will remain a director and shareholder in the
Company. Mr. McCurry believes that the substantive and procedural
elements of the Transaction, as proposed, are fair to the unaffiliated
shareholders to be cashed-out in the Transaction for the following
reasons: (i) The trading history and market for the Company's securities
have proven to be illiquid and volatile. (ii) The Transaction represents
an opportunity for smaller shareholders to secure a cash-out at a premium
to the recent three-year historical price averages without brokerage-
related costs.(iii) Conversely, at their sole judgment, the smaller
shareholders may elect to invest modest amounts of additional capital to
maintain an ownership position for the longer term while management seeks
to continue to improve the business and secure liquidity for all owners
of the business at a point in the future. (iv) Larger unaffiliated
shareholders have a number of options to liquidate at near three year
highs or acquire additional shares and remain associated with a private
company in a belief that a future exit strategy will develop.
(v) Procedurally, the Company has conducted significant investigation
into the public market value of the Company and expended appropriate
resources in an effort to fairly document the Transaction as well as to
notify and advise its shareholders of their individual options and rights
relating to the Transaction. Mr. McCurry believes that the Transaction
is fair to the unaffiliated shareholders that will not be cashed-out in
the Transaction for the same reasons as provided under "SPECIAL FACTORS-
Fairness of the Transaction-Unaffiliated Stockholders that will not be
Cashed-Out in the Transaction."
Steven Prust, Director, will remain a director and shareholder in the
Company. Mr. Prust believes that the substantive and procedural elements
of the Transaction, as proposed, are fair to the unaffiliated
shareholders to be cashed-out in the Transaction for the following
reasons: (i) All affiliated and unaffiliated investors that are involved
with the Company as investors have historically been provided limited
opportunity to secure both liquidity and returns on their investment.
Mr. Prust believes that this limitation is a result of both the Company's
highly concentrated ownership and the nature of the OTCBB market. (ii)
The trading history and market for the Company's securities have proven
to be illiquid and volatile. (iii) The Company's offer in connection
with the Transaction is fair as it provides an exit for smaller
unaffiliated investors, but also provides the option for them to remain
shareholders. The offer is consistent with a significant trading range
history in the sixty days prior to June 20, 2005 and is consistent with
valuations based upon the Company's financial performance.
(iv) Procedurally, the Company has examined appropriate relevant facts
and circumstances, made available options to its shareholders to provide
these shareholders with the necessary opportunities to control their
investment position in the future business. Mr. Prust believes that the
Transaction is fair to the unaffiliated shareholders that will not be
cashed-out in the Transaction for the same reasons as provided under
"SPECIAL FACTORS-Fairness of the Transaction-Unaffiliated Stockholders
that will not be Cashed-Out in the Transaction."
Newton Fink, Director, will remain a director and shareholder in the
Company. Mr. Fink believes that the transaction is fair to the
unaffiliated shareholders to be cashed out in the Transaction for the
following reasons: (i) The trading history and market for the Company's
securities have proven to be illiquid and volatile. (ii) The price
offered to unaffiliated shareholder is consistent with the trading range
history; and the terms of the proposed Transaction allows those
shareholders who wish to remain involved to do so by making a modest,
incremental investment. (iii) Unaffiliated shareholders have had the
opportunity to liquidate or adjust their ownership given the early pre-
announcement by the Company and the length of time inherent to this
privatization process. The subsequent trading post transaction
announcement would seem to indicate that this realignment in non
affiliate ownership has taken place. (iv) The procedures utilized by
management and the Board with the resources available to them provide for
a number of investment options for all classes of shareholders and the
terms presented in the proposed Transaction appear to be fair and
procedurally sound. Mr. Fink believes that the Transaction is fair to the
unaffiliated shareholders that will not be cashed-out in the Transaction
for the same reasons as provided under "SPECIAL FACTORS-Fairness of the
Transaction-Unaffiliated Stockholders that will not be Cashed-Out in the
Transaction."
20
Stockholder Approval
Pursuant to Section 78.207 of the Nevada General Corporation Law
(Nevada Revised Statutes), a corporation that wants to increase or
decrease the number of authorized shares of stock, and correspondingly
increase or decrease the number of issued and outstanding shares of stock
held by each stockholder, may do so by resolution of the board of
directors without stockholder approval; provided that (i) less than 10%
of the outstanding shares are exchanged for cash in lieu of fractional
shares, and (ii) the increase or decrease in any class or series of
stock does not adversely affect any preference or other right of any
other class or series of stock. The Company is unaware of any judicial
decisions or other interpretations of Section 78.207, and, as such, has
not considered any judicial decisions or other interpretations of the
statute.
We anticipate that of the Reverse Split and the Forward Split will
result in less than 10% of the common stock of the Company that was
outstanding prior to the Reverse Split being exchanged for cash in lieu
of fractional shares. Further, the common stock is the only class of
stock of the Company that is outstanding. Therefore, Section 78.207 of
the Nevada General Corporation Law authorizes the Company to consummate
the Reverse Split and the Forward Split without submitting the issue to a
vote of the stockholders. The Certificate of Change that the Company
must file with the Nevada Secretary of State to effect the Reverse Split
and the Forward Split will provide that neither the Reverse Split nor the
Forward Split will be effective if they, individually or collectively,
result in more than 10% of the common stock of the Company being
exchanged for cash in lieu of fractional shares. Additionally, in the
unlikely event that the Reverse Split and the Forward Split would result
in more than 10% of the common stock of the Company being exchanged for
cash in lieu of fractional shares, the Company will immediately file a
subsequent Certificate of Change to its Articles of Incorporation to
ensure that the effects of the Reverse Split and the Forward Split have
not become effective. In that event, the Company anticipates taking
necessary corporate action to obtain stockholder approval of the
Transaction.
Reports, Opinions, Appraisals and Negotiations
The Company has not received any report, opinion or appraisal from
an outside party that is materially related to the Transaction
See also "Other Issues related to the Transaction - Material Federal
Income Tax Consequences."
Access Rights
No provision has been made to grant unaffiliated stockholders access
to our corporate files or to obtain counsel or appraisal services at our
expense.
Reservation
The Company reserves the right to abandon the transaction any time
before the filing of the necessary amendments to the Articles of
Incorporation with the Nevada Secretary of State. The Company also reserves
the right to delay the Transaction for any reason.
Structure of the Transaction
The Transaction consists of two steps: (i) the Reverse Split (with
a cash payment in lieu of receipt by a stockholder of less than 2,000
pre-Reverse Split shares) and (ii) the Forward Split of the common stock
(with a cash payment in lieu of fractional shares). The Effective Date
will be the date we file the Certificate of Change amending our Articles
of Incorporation to reduce the number of authorized shares of common
stock to 15,000. We will issue a press release ten days prior to the
date we intend to file to give stockholders advance notice of the
Transaction. As a result, each stockholder of record or beneficial
stockholder on the Effective Date will receive one share of common
stock for every 2,000 pre-Reverse Split shares held in his or her account
as of the Effective Date. Any stockholder of record who holds fewer than
2,000 pre-Reverse Split shares in his or her account at the time of the
Reverse Split (a "Cashed-Out Stockholder") will receive a cash payment on
the basis of $0.50 per pre-Reverse Split share and will no longer be a
stockholder of the Company after the Transaction.
21
Immediately following the Reverse Split and the payment to the
Cashed-Out Stockholders, we will affect the Forward Split by amending our
Articles of Incorporation to increase the number of authorized shares of
common stock to 1,500,000. As a result, all stockholders who are not
Cashed-Out Stockholders will receive in the Forward Split, effective on
the day after the Reverse Split, 100 shares of common stock for every one
share of common stock they held following the Reverse Split. If a
stockholder of record would hold a fractional share in his or her account
after the Forward Split, such stockholder will receive a cash payment of
$10.00 per pre-Forward Split share, or portion thereof, attributable to
such fractional share in lieu of receiving such fractional share (a
"Partially Cashed-Out Stockholder").
We intend for the Transaction to treat stockholders holding common
stock in street name through a nominee (such as a bank or broker) in the
same manner as stockholders whose shares are held of record in their own
names, and nominees will be instructed to effect the Transaction for
their beneficial holders. Accordingly, we also refer to those street
name holders who receive a cash payment instead of fractional shares as
"Cashed-Out Stockholders." However, nominees may have different
procedures and stockholders holding shares in street name should contact
their nominees.
In general, the Transaction can be illustrated by the following
examples. The amounts in these examples are gross amounts and do not
take into consideration the effect of income tax or tax withholding. See
"Material Tax Consequences."
Hypothetical Scenario Result
Mr. Smith is a stockholder who Instead of receiving a
holds 1,000 shares of common fractional share of common
stock in his account before stock immediately after the
the Transaction. Reverse Split, Mr. Smith's
shares will be converted into
the right to receive cash. Mr.
Smith would receive $500 ($0.50
x 1,000 shares). Note: If Mr.
Smith wants to continue his
investment in the Company,
before the Effective Date, he
can buy at least 1,000 more
shares. Mr. Smith would have to
act far enough in advance of the
Transaction so that the purchase
is completed and the additional
shares are credited in his
account by the Effective Date.
Ms. Jones has two separate Ms. Jones will receive cash
accounts. As of the payments equal to the cash-out
Effective Date, she holds price of her common stock in
1,000 shares of common stock each account instead of
in one account and 1,500 shares receiving fractional shares.
of common stock in the other. Ms. Jones would receive two
checks totaling $1,250 ($0.50 x
1,000 shares; and $0.50 x 1,500
shares). Note: If Ms. Jones
wants to continue her investment
in the Company, she can
consolidate or transfer her two
accounts before the Effective
Date into an account with at
least 2,000 pre-Reverse Split
shares. Alternatively, she can
buy at least 1,000 more shares
for the first account and 500
more shares for the second
account, and hold them in her
respective accounts. She would
have to act far enough in
advance of the Transaction so
that the consolidation or the
purchase is completed by the
Effective Date.
Mr. Walker holds 10,000 shares After the Transaction,
of common stock as of the Mr. Walker will hold 500
Effective Date. shares of common stock
Mr. Jackson holds 21,000 shares In the Reverse Split,
of common stock as of the Mr. Jackson's stock is
Effective Date. combined into 10.5 shares.
In the Forward Split, the
10.5 shares will be split into
1,050 shares of common stock.
22
Ms. Harris holds 1,000 shares We intend for the Transaction
of common stock in street name to treat stockholders holding
in a brokerage account as of shares of common stock in
the Effective Date. street name through a nominee
(such as a bank or broker) in
the same manner as stockholders
whose shares are registered in
their names. Nominees will be
instructed to effect the
Transaction for their beneficial
holders. If this occurs, Ms.
Harris will receive, through her
broker, a check for $500 ($0.50
x 1,000). However, nominees may
have a different procedure and
stockholders holding shares of
common stock in street name
should contact their nominees.
Effects of the Transaction
Our Articles of Incorporation, as amended, currently authorize the
issuance of 30,000,000 shares of common stock and 50,000,000 shares of
preferred stock, for an aggregate of 80,000,000 shares. As of December
31, 2005, 14,133,461 shares of common stock were outstanding, and no
shares of preferred stock were outstanding. Based upon our best
estimates, if the Transaction had been consummated as of that date, the
number of outstanding shares of common stock would have been reduced by
the Transaction from 14,133,461 to approximately 13,227,000. This would
have reduced the number of holders of record of common stock from
approximately 2,300 to approximately 110 or by approximately 2,190
stockholders of record and would also have reduced our number of
street-name stockholders from an estimated 800 to an estimated 170 or
by approximately 630 street-name stockholders.
Our common stock is currently registered under Section 12(g) of the
1934 Act and, as a result, we are subject to the periodic reporting and
other requirements of the 1934 Act. As a result of the Transaction, we
will have less than 300 holders of record of our publicly-traded common
stock, and the requirement that the Company maintain its registration
under the 1934 Act will become terminable. Upon the completion of the
Transaction, we could, and would, elect to become a "private" company.
As a result of the Company's deregistration, our shares of common stock
will no longer have an effective trading market, and as a practical
matter will no longer be publicly traded or quoted on the over-the-
counter market. In addition, following the Transaction we and our
insiders will no longer be required to file periodic and other reports
with the SEC, and we will formally terminate our reporting obligations
under the 1934 Act. In connection with the proposed Transaction, we have
filed a Rule 13e-3 Transaction Statement on Schedule 13E-3 (the "Schedule
13E-3") with the SEC.
The Transaction constitutes a part of a "going private" transaction
under the U.S. securities laws.
Based on the aggregate number of shares owned by holders of less
than 2,000 pre-Reverse Split shares as of September 30, 2005, and the
estimated number of other fractional shares that would result from the
Forward Split, we estimate that payments of cash in lieu of the issuance
of fractional shares will total approximately $453,500 in the aggregate.
No stockholder with a single account can receive more than $999.50.
The effects on the authorized capital of the Company and its
outstanding options set forth below reflect the changes resulting after
the consummation of both the Reverse Split and the Forward Split. The
common stock will have a $0.50 par value and the number of authorized
common shares will be 1,500,000 shares following consummation of the
Transaction. The conversion price for the outstanding convertible note
will change to $8.00 per share for convertible notes other than Mr.
Smith's, whose conversion rate will change to $9.26 per share. The
Company currently has 4,254,574 stock options issued and outstanding with
exercise prices ranging from $0.13 to $0.62 per share. Upon consummation
of the Transaction, each outstanding stock option will be adjusted so
that it is exercisable for one share after the Transaction for every 20
shares that it was exercisable for prior to the Transaction. The
exercise price for such options after the Transaction will be 20 times
the exercise price prior to the Transaction. After the Transaction, we
will have a total of 212,729 stock options outstanding with exercise
prices ranging from $2.60 to $12.40. The amount of unissued stock options
in any Company stock option plan will be
23
reduced such that the plan will have one (1) stock option available for
issuance after the Transaction for every 20 shares that it had available
for issuance prior to the Transaction.
OTHER ISSUES RELATED TO THE TRANSACTION
Potential Conflicts of Interest
The executive officers and directors of the Company may have
interests in the transaction that are different from your interests as a
stockholder. The officers and directors of the Company will remain as
such and affiliated stockholders, by virtue of the size of their stock
holdings, will have a proportionately greater number of shares and
voting power.
Dissenters' Rights
If you hold shares of the Company's common stock and you do not wish
to accept the cash payment in lieu of fractional shares, then Chapter
92A, Sections 300 through 500 inclusive, of the Nevada Revised Statutes
("Chapter 92A") provide that you may elect to have the Company purchase
your pre-Reverse Split shares for a cash price that is equal to the "fair
value" of such shares (exclusive of any appreciation or depreciation in
connection with the proposed transactions). The fair value of your
shares will be determined as of the day before the Reverse Split.
Chapter 92A is set forth in its entirety in Exhibit A to this
Disclosure Document. If you wish to exercise your dissenters' rights or
preserve the right to do so, you should carefully review Exhibit A. If
you fail to comply with the procedures specified in Chapter 92A in a
timely manner, you may loose your dissenters' rights. Because of
the complexity of those procedures, you should seek the advice of counsel
if you are considering exercising your dissenters' rights.
Within 10 days after the Effective Date of the reverse split and the
forward split, the Company will send a written notice (a "Dissenters'
Rights Notice") to all the record stockholders of the Company. The
Dissenters' Rights Notice will be accompanied by (i) a form for demanding
payment from the Company; (ii) a copy of the provisions of Chapter 92A;
and (iii) a brief description of the procedures that the stockholder must
follow to exercise his or her dissenter's rights. In order to remain
eligible to exercise dissenters' rights under Chapter 92A, a stockholder
must take the following actions within thirty (30) days of the date that
the Dissenters' Rights Notice was mailed:
- Deliver a written demand for payment on the form provided in the
Dissenters' Rights Notice; and
- Deliver the certificates representing the dissenting shares to the
Company in the manner set forth in the Dissenters' Rights Notice.
Within thirty (30) days after receipt of a demand for payment, the
Company shall pay each dissenter who complied with the provisions of
Chapter 92A the amount the Company estimates to be the fair value of such
shares, plus interest from the effective date of the Reverse Split. The
rate of interest shall be the average rate currently paid by the Company
on its principal bank loans. If a dissenting stockholder disagrees with
the amount of the Company's payment, the dissenting stockholder may,
within (30) days of such payment, (i) notify the Company in writing of
his or her own estimate of the fair value of the dissenting shares and
the amount of interest due, and demand payment of such estimate, less any
payments from the Company, or (ii) reject the offer by the Company if
he or she believes that the amount offered by the Company is less than
the fair value of his or her shares or that the interest due is
incorrectly calculated.
If a demand for payment remains unsettled, the Company is required
to commence a proceeding in the Clark County, Nevada district court
within sixty (60) days after receiving the demand. Each dissenter who is
made a party to the proceeds shall be entitled to a judgment in the
amount, if any, by which the court finds the fair value of the dissenting
shares, plus interest, exceeds the amount paid by the Company. If a
proceeding is commenced to determine the fair value of the common stock,
the costs of such proceeding, including the reasonable compensation and
expenses of any appraisers appointed by the court, shall be assessed
against the Company, unless the court finds
24
the dissenters acted
arbitrarily, vexatiously or not in good faith in demanding payment. The
court may also assess the fees and expenses of the counsel and experts
for the respective parties, in amounts the court finds equitable if the
court finds that (i) the Company did not comply with Chapter 92A or (ii)
the dissenting stockholders acted arbitrarily, vexatiously or not in good
faith with respect the rights of such stockholders provided by Chapter
92A.
Exchange of Stock Certificates
UMB Bank, n.a. will serve as exchange agent to receive stock
certificates of the Company from and to send cash payments to our
stockholders entitled to receive them. A copy of the Company's form of
exchange agent agreement with UMB is included as Exhibit D to this
Disclosure Document. Promptly following the effective date of the
Transaction, the exchange agent will send a letter of transmittal to each
Stockholder which will describe the procedures for surrendering stock
certificates in exchange for cash consideration or certificate
representing post-Transaction shares. Upon receipt of the certificates
and properly completed letters of transmittal, the exchange agent will,
within approximately 20 business days, make the appropriate cash payment
and, where applicable, deliver the new stock certificates to the
remaining stockholders of the Company. No interest will accrue on the
cash consideration payable pursuant to the terms of the Transaction.
Material Federal Income Tax Consequences
The following is a discussion of the material anticipated federal
income tax consequences of the Transaction to stockholders of the
Company. It should be noted that this discussion is based upon the
federal income tax laws currently in effect and as currently interpreted.
This discussion does not take into account possible changes in such laws
or interpretations, including any amendments to applicable statutes,
regulations and proposed regulations, or changes in judicial or
administrative rulings, some of which may have retroactive effective.
This discussion does not purport to address all aspects of the range of
possible federal income tax consequences of the Transaction and is not
intended as tax advice to any person. In particular, and without
limiting the foregoing, this discussion does not account for or consider
the federal income tax consequences to stockholders of the Company in
light of their individual investment circumstances or to holders subject
to special treatment under the federal income tax laws (for example, life
insurance companies, regulated investment companies, and foreign
taxpayers). This discussion does not discuss any consequence of the
Transaction under any state, local or foreign tax laws.
No ruling from the Internal Revenue Service will be obtained
regarding the federal income tax consequences to the stockholders of the
Company in connection with the Transaction. The Company has not received
an opinion of counsel regarding the federal income tax consequences to
the Company and its stockholders in connection with the Transaction.
However, each stockholder is encouraged to consult his or her tax adviser
regarding the specific tax consequences of the Transaction to such
stockholder, including the application and effect of federal, state,
local and foreign taxes, and any other tax laws.
The board of directors believes that the Transaction will be a tax-
free recapitalization to the Company and its continuing stockholders and
a taxable transaction to Cashed-Out Stockholders, and, to the extent
their fractional shares are cashed out, to Partially Cashed-Out
Stockholders, all as further detailed below. If the Reverse Split
qualifies as a recapitalization described in Section 368(a)(1)(E) of the
Internal Revenue Code of 1986, as amended (the "Code"), (i) no gain or
loss will be recognized by a stockholder of common stock who is neither a
Cashed-Out Stockholder nor a Partially Cashed-Out Stockholder, (ii) any
Cashed-Out Stockholder of Partially Cashed-Out Stockholder who receives
cash proceeds, which cannot exceed $999.50 for a single stockholder
account, from the sale of fractional shares of common stock will
recognize a gain or loss equal to the difference, if any, between such
proceeds and the basis of its common stock allocated to its fractional
share interests, and such gain or loss, if any, will generally constitute
capital gain or loss if its fractional share interests are held as
capital assets at the time of their sale, (iii) the tax basis of the new
common stock received by holders of common stock will be the same as the
tax basis of the common stock exchanged therefore, minus (in the case of
Partially Cashed-Out Stockholders) the basis allocated to the cashed-out
fractional share interest, and (iv) the holding period of the new common
stock in the hands of holders of new common stock will include the
holding period of their common stock exchanged therefore, provides that
such common stock was held as a capital asset immediately before the
exchange.
Certain Cashed-Out Stockholders and Partially Cashed-Out
Stockholders may be subject to information reporting with respect to the
cash received in exchange for their fractional shares of common stock.
If you are
25
subject to information reporting and do not provide appropriate
information when requested, you may also be subject to backup withholding
at a rate of 28%. Any amount withheld from you under such rules is not an
additional tax and may be refunded or credited against your federal income
tax liability, provided that the required information is properly
furnished in a timely manner to the IRS.
Source and Amount of Funds
Source of Funds
The funds to be used in the transaction (approximated $453,500) will be
from working capital and, possibly, the Company's existing line of
credit. As of the date of this disclosure statement, the Company's outstanding
debt under its line of credit is zero. In the event that the Company is
required to borrow money under the line of credit in order to consummate
the Transaction, the Company does not anticipate any difficulties in
repaying any amounts owed under the credit facility from working capital
generated. The current credit facility expires in March of 2006. The
Company expects to either extend the current credit facility with its
current bank or enter into a new facility of similar size with another
bank.
Expenses
Following is an itemized statement of all expenses incurred or estimated
to be incurred in connection with the transaction.
Filing Fees $90.70
Legal Fees $75,000
Mailing Expenses $5,500
Printing Costs $7,000
Transfer Agent fees $45,100*
- Includes a transaction fee of $2,500 plus $15 per account that
responds (estimated at 2,840 accounts).
The Company has paid or will be responsible for paying any or all
expenses related to the Transaction.
Borrowed Funds
If any borrowed funds are used as a part of the cost of this transaction,
they will come from the Company's line of credit with UMB Bank, N.A. The
Company has a $450,000 line of credit with a bank that was renewed on
March 31, 2005 and matures on March 31, 2006. Interest is at the bank's
prime rate plus 2.5% (currently 9.0%) paid monthly. The principal is due
at maturity. The loan is collateralized by accounts receivable and
inventory.
FINANCIAL AND OTHER INFORMATION
Our historical financial information is located at "Item 6 -
Management's Discussion and Analysis or Plan of Operation;" "Item 7 -
Financial Statements;" "Item 8 - Changes in and Disagreements With
Accountants on Accounting and Financial Disclosure" of our Amended Form
10-KSB/A, which is included as Exhibit B to this Disclosure Document, and
our Amended Quarterly Report on Form 10-KSB/A, which is included as
Exhibit C to this Disclosure Document. Our ratio of earnings to fixed
charges for the last two fiscal years and the nine months ended September
30, 2005 is shown below:
Period Earnings Fixed Charges Ratio
Year ended December 31 2003 $ 932,445 $134,081 6.95
Year ended December 31, 2004 $1,349,798 145,182 9.30
Nine months ended
September 30, 2005 ((289,313) 119,248 (2.42)(1)
(1) The deficiency of $408,561 resulted from the write-off of $1,215,015
of goodwill during the period.
26
EXHIBIT A TO DISCLOSURE DOCUMENT
--------------------------------
Nevada Revised Statutes Sections 92A.300-92A.500
NRS 92A.300 Definitions. As used in NRS 92A.300 to 92A.500,
inclusive, unless the context otherwise requires, the words and terms
defined in NRS 92A.305 to 92A.335, inclusive, have the meanings ascribed
to them in those sections.
(Added to NRS by 1995, 2086)
NRS 92A.305 "Beneficial stockholder" defined. "Beneficial
stockholder" means a person who is a beneficial owner of shares held in a
voting trust or by a nominee as the stockholder of record.
(Added to NRS by 1995, 2087)
NRS 92A.310 "Corporate action" defined. "Corporate action" means
the action of a domestic corporation.
(Added to NRS by 1995, 2087)
NRS 92A.315 "Dissenter" defined. "Dissenter" means a stockholder
who is entitled to dissent from a domestic corporation's action under NRS
92A.380 and who exercises that right when and in the manner required by
NRS 92A.400 to 92A.480, inclusive.
(Added to NRS by 1995, 2087; A 1999, 1631)
NRS 92A.320 "Fair value" defined. "Fair value," with respect to a
dissenter's shares, means the value of the shares immediately before the
effectuation of the corporate action to which he objects, excluding any
appreciation or depreciation in anticipation of the corporate action
unless exclusion would be inequitable.
(Added to NRS by 1995, 2087)
NRS 92A.325 "Stockholder" defined. "Stockholder" means a
stockholder of record or a beneficial stockholder of a domestic
corporation.
(Added to NRS by 1995, 2087)
NRS 92A.330 "Stockholder of record" defined. "Stockholder of
record" means the person in whose name shares are registered in the
records of a domestic corporation or the beneficial owner of shares to
the extent of the rights granted by a nominee's certificate on file with
the domestic corporation.
(Added to NRS by 1995, 2087)
NRS 92A.335 "Subject corporation" defined. "Subject corporation"
means the domestic corporation which is the issuer of the shares held by
a dissenter before the corporate action creating the dissenter's rights
becomes effective or the surviving or acquiring entity of that issuer
after the corporate action becomes effective.
(Added to NRS by 1995, 2087)
NRS 92A.340 Computation of interest. Interest payable pursuant to
NRS 92A.300 to 92A.500, inclusive, must be computed from the effective
date of the action until the date of payment, at the average rate
currently paid by the entity on its principal bank loans or, if it has
no bank loans, at a rate that is fair and equitable under all of the
circumstances.
(Added to NRS by 1995, 2087)
NRS 92A.350 Rights of dissenting partner of domestic limited
partnership. A partnership agreement of a domestic limited partnership
or, unless otherwise provided in the partnership agreement, an agreement
of merger or exchange, may provide that contractual rights with respect
to the partnership interest of a dissenting general or limited partner of
a domestic limited partnership are available for any class or group of
partnership interests in connection with any merger or exchange in which
the domestic limited partnership is a constituent entity.
(Added to NRS by 1995, 2088)
NRS 92A.360 Rights of dissenting member of domestic limited-
liability company. The articles of organization or operating agreement
of a domestic limited-liability company or, unless otherwise provided in
the articles of organization or operating agreement, an agreement of
merger or exchange, may provide that contractual
A-1
rights with respect to the interest of a dissenting member are available
in connection with any merger or exchange in which the domestic limited-
liability company is a constituent entity.
(Added to NRS by 1995, 2088)
NRS 92A.370 Rights of dissenting member of domestic nonprofit
corporation.
1. Except as otherwise provided in subsection 2, and unless
otherwise provided in the articles or bylaws, any member of any
constituent domestic nonprofit corporation who voted against the merger
may, without prior notice, but within 30 days after the effective date of
the merger, resign from membership and is thereby excused from all
contractual obligations to the constituent or surviving corporations
which did not occur before his resignation and is thereby entitled to
those rights, if any, which would have existed if there had been no
merger and the membership had been terminated or the member had been
expelled.
2. Unless otherwise provided in its articles of incorporation or
bylaws, no member of a domestic nonprofit corporation, including, but not
limited to, a cooperative corporation, which supplies services described
in chapter 704 of NRS to its members only, and no person who is a member
of a domestic nonprofit corporation as a condition of or by reason of the
ownership of an interest in real property, may resign and dissent
pursuant to subsection 1.
(Added to NRS by 1995, 2088)
NRS 92A.380 Right of stockholder to dissent from certain corporate
actions and to obtain payment for shares.
1. Except as otherwise provided in NRS 92A.370 and 92A.390, any
stockholder is entitled to dissent from, and obtain payment of the fair
value of his shares in the event of any of the following corporate
actions:
(a) Consummation of a conversion or plan of merger to which the
domestic corporation is a constituent entity:
(1) If approval by the stockholders is required for the
conversion or merger by NRS 92A.120 to 92A.160, inclusive, or the
articles of incorporation, regardless of whether the stockholder is
entitled to vote on the conversion or plan of merger; or
(2) If the domestic corporation is a subsidiary and is merged
with its parent pursuant to NRS 92A.180.
(b) Consummation of a plan of exchange to which the domestic
corporation is a constituent entity as the corporation whose subject
owner's interests will be acquired, if his shares are to be acquired in
the plan of exchange.
(c) Any corporate action taken pursuant to a vote of the
stockholders to the extent that the articles of incorporation, bylaws or
a resolution of the board of directors provides that voting or nonvoting
stockholders are entitled to dissent and obtain payment for their shares.
2. A stockholder who is entitled to dissent and obtain payment
pursuant to NRS 92A.300 to 92A.500, inclusive, may not challenge the
corporate action creating his entitlement unless the action is unlawful
or fraudulent with respect to him or the domestic corporation.
(Added to NRS by 1995, 2087; A 2001, 1414, 3199; 2003, 3189)
NRS 92A.390 Limitations on right of dissent: Stockholders of
certain classes or series; action of stockholders not required for plan
of merger.
1. There is no right of dissent with respect to a plan of merger
or exchange in favor of stockholders of any class or series which, at the
record date fixed to determine the stockholders entitled to receive
notice of and to vote at the meeting at which the plan of merger or
exchange is to be acted on, were either listed on a national securities
exchange, included in the national market system by the National
Association of Securities Dealers, Inc., or held by at least 2,000
stockholders of record, unless:
(a) The articles of incorporation of the corporation issuing the
shares provide otherwise; or
(b) The holders of the class or series are required under the plan
of merger or exchange to accept for the shares anything except:
(1) Cash, owner's interests or owner's interests and cash in
lieu of fractional owner's interests of:
(I) The surviving or acquiring entity; or
(II) Any other entity which, at the effective date of the
plan of merger or exchange, were either listed on a national securities
exchange, included in the national market system by the National
Association of Securities Dealers, Inc., or held of record by a least
2,000 holders of owner's interests of record; or
(2) A combination of cash and owner's interests of the kind
described in sub-subparagraphs (I) and (II) of subparagraph (1) of
paragraph (b).
2. There is no right of dissent for any holders of stock of the
surviving domestic corporation if the plan of merger does not require
action of the stockholders of the surviving domestic corporation under
NRS 92A.130.
(Added to NRS by 1995, 2088)
A-2
NRS 92A.400 Limitations on right of dissent: Assertion as to
portions only to shares registered to stockholder; assertion by
beneficial stockholder.
1. A stockholder of record may assert dissenter's rights as to
fewer than all of the shares registered in his name only if he dissents
with respect to all shares beneficially owned by any one person and
notifies the subject corporation in writing of the name and address of
each person on whose behalf he asserts dissenter's rights. The rights of
a partial dissenter under this subsection are determined as if the shares
as to which he dissents and his other shares were registered in the names
of different stockholders.
2. A beneficial stockholder may assert dissenter's rights as to
shares held on his behalf only if:
(a) He submits to the subject corporation the written consent of
the stockholder of record to the dissent not later than the time the
beneficial stockholder asserts dissenter's rights; and
(b) He does so with respect to all shares of which he is the
beneficial stockholder or over which he has power to direct the vote.
(Added to NRS by 1995, 2089)
NRS 92A.410 Notification of stockholders regarding right of
dissent.
1. If a proposed corporate action creating dissenters' rights is
submitted to a vote at a stockholders' meeting, the notice of the meeting
must state that stockholders are or may be entitled to assert dissenters'
rights under NRS 92A.300 to 92A.500, inclusive, and be accompanied by a
copy of those sections.
2. If the corporate action creating dissenters' rights is taken by
written consent of the stockholders or without a vote of the
stockholders, the domestic corporation shall notify in writing all
stockholders entitled to assert dissenters' rights that the action was
taken and send them the dissenter's notice described in NRS 92A.430.
(Added to NRS by 1995, 2089; A 1997, 730)
NRS 92A.420 Prerequisites to demand for payment for shares.
1. If a proposed corporate action creating dissenters' rights is
submitted to a vote at a stockholders' meeting, a stockholder who wishes
to assert dissenter's rights:
(a) Must deliver to the subject corporation, before the vote is
taken, written notice of his intent to demand payment for his shares if
the proposed action is effectuated; and
(b) Must not vote his shares in favor of the proposed action.
2. A stockholder who does not satisfy the requirements of
subsection 1 and NRS 92A.400 is not entitled to payment for his shares
under this chapter.
(Added to NRS by 1995, 2089; 1999, 1631)
NRS 92A.430 Dissenter's notice: Delivery to stockholders entitled
to assert rights; contents.
1. If a proposed corporate action creating dissenters' rights is
authorized at a stockholders' meeting, the subject corporation shall
deliver a written dissenter's notice to all stockholders who satisfied
the requirements to assert those rights.
2. The dissenter's notice must be sent no later than 10 days after
the effectuation of the corporate action, and must:
(a) State where the demand for payment must be sent and where
and when certificates, if any, for shares must be deposited;
(b) Inform the holders of shares not represented by
certificates to what extent the transfer of the shares will be restricted
after the demand for payment is received;
(c) Supply a form for demanding payment that includes the date
of the first announcement to the news media or to the stockholders of the
terms of the proposed action and requires that the person asserting
dissenter's rights certify whether or not he acquired beneficial
ownership of the shares before that date;
(d) Set a date by which the subject corporation must receive
the demand for payment, which may not be less than 30 nor more than 60
days after the date the notice is delivered; and
(e) Be accompanied by a copy of NRS 92A.300 to 92A.500,
inclusive.
(Added to NRS by 1995, 2089)
NRS 92A.440 Demand for payment and deposit of certificates;
retention of rights of stockholder.
1. A stockholder to whom a dissenter's notice is sent must:
(a) Demand payment;
A-3
(b) Certify whether he or the beneficial owner on whose behalf
he is dissenting, as the case may be, acquired beneficial ownership of
the shares before the date required to be set forth in the dissenter's
notice for this certification; and
(c) Deposit his certificates, if any, in accordance with the
terms of the notice.
2. The stockholder who demands payment and deposits his
certificates, if any, before the proposed corporate action is taken
retains all other rights of a stockholder until those rights are
cancelled or modified by the taking of the proposed corporate action.
3. The stockholder who does not demand payment or deposit his
certificates where required, each by the date set forth in the
dissenter's notice, is not entitled to payment for his shares under this
chapter.
(Added to NRS by 1995, 2090; A 1997, 730; 2003, 3189)
NRS 92A.450 Uncertificated shares: Authority to restrict transfer
after demand for payment; retention of rights of stockholder.
1. The subject corporation may restrict the transfer of shares not
represented by a certificate from the date the demand for their payment is
received.
2. The person for whom dissenter's rights are asserted as to
shares not represented by a certificate retains all other rights of a
stockholder until those rights are cancelled or modified by the taking of
the proposed corporate action.
(Added to NRS by 1995, 2090)
NRS 92A.460 Payment for shares: General requirements.
1. Except as otherwise provided in NRS 92A.470, within 30 days
after receipt of a demand for payment, the subject corporation shall pay
each dissenter who complied with NRS 92A.440 the amount the subject
corporation estimates to be the fair value of his shares, plus accrued
interest. The obligation of the subject corporation under this subsection
may be enforced by the district court:
(a) Of the county where the corporation's registered office is
located; or
(b) At the election of any dissenter residing or having its
registered office in this State, of the county where the dissenter
resides or has its registered office. The court shall dispose of the
complaint promptly.
2. The payment must be accompanied by:
(a) The subject corporation's balance sheet as of the end of a
fiscal year ending not more than 16 months before the date of payment, a
statement of income for that year, a statement of changes in the
stockholders' equity for that year and the latest available interim
financial statements, if any;
(b) A statement of the subject corporation's estimate of the
fair value of the shares;
(c) An explanation of how the interest was calculated;
(d) A statement of the dissenter's rights to demand payment
under NRS 92A.480; and
(e) A copy of NRS 92A.300 to 92A.500, inclusive.
(Added to NRS by 1995, 2090)
NRS 92A.470 Payment for shares: Shares acquired on or after date
of dissenter's notice.
1. A subject corporation may elect to withhold payment from a
dissenter unless he was the beneficial owner of the shares before the
date set forth in the dissenter's notice as the date of the first
announcement to the news media or to the stockholders of the terms of the
proposed action.
2. To the extent the subject corporation elects to withhold
payment, after taking the proposed action, it shall estimate the fair
value of the shares, plus accrued interest, and shall offer to pay this
amount to each dissenter who agrees to accept it in full satisfaction of
his demand. The subject corporation shall send with its offer a statement
of its estimate of the fair value of the shares, an explanation of how
the interest was calculated, and a statement of the dissenters' right to
demand payment pursuant to NRS 92A.480.
(Added to NRS by 1995, 2091)
NRS 92A.480 Dissenter's estimate of fair value: Notification of
subject corporation; demand for payment of estimate.
1. A dissenter may notify the subject corporation in writing of
his own estimate of the fair value of his shares and the amount of
interest due, and demand payment of his estimate, less any payment
pursuant to NRS 92A.460, or reject the offer pursuant to NRS 92A.470 and
demand payment of the fair value of his shares and interest due, if he
believes that the amount paid pursuant to NRS 92A.460 or offered pursuant
to NRS 92A.470 is less than the fair value of his shares or that the
interest due is incorrectly calculated.
A-4
2. A dissenter waives his right to demand payment pursuant to this
section unless he notifies the subject corporation of his demand in
writing within 30 days after the subject corporation made or offered
payment for his shares.
(Added to NRS by 1995, 2091)
NRS 92A.490 Legal proceeding to determine fair value: Duties of
subject corporation; powers of court; rights of dissenter.
1. If a demand for payment remains unsettled, the subject
corporation shall commence a proceeding within 60 days after receiving
the demand and petition the court to determine the fair value of the
shares and accrued interest. If the subject corporation does not commence
the proceeding within the 60-day period, it shall pay each dissenter
whose demand remains unsettled the amount demanded.
2. A subject corporation shall commence the proceeding in the
district court of the county where its registered office is located. If
the subject corporation is a foreign entity without a resident agent in
the State, it shall commence the proceeding in the county where the
registered office of the domestic corporation merged with or whose shares
were acquired by the foreign entity was located.
3. The subject corporation shall make all dissenters, whether or
not residents of Nevada, whose demands remain unsettled, parties to the
proceeding as in an action against their shares. All parties must be
served with a copy of the petition. Nonresidents may be served by
registered or certified mail or by publication as provided by law.
4. The jurisdiction of the court in which the proceeding is
commenced under subsection 2 is plenary and exclusive. The court may
appoint one or more persons as appraisers to receive evidence and
recommend a decision on the question of fair value. The appraisers have
the powers described in the order appointing them, or any amendment
thereto. The dissenters are entitled to the same discovery rights as
parties in other civil proceedings.
5. Each dissenter who is made a party to the proceeding is
entitled to a judgment:
(a) For the amount, if any, by which the court finds the fair
value of his shares, plus interest, exceeds the amount paid by the
subject corporation; or
(b) For the fair value, plus accrued interest, of his after-
acquired shares for which the subject corporation elected to withhold
payment pursuant to NRS 92A.470.
(Added to NRS by 1995, 2091)
NRS 92A.500 Legal proceeding to determine fair value: Assessment
of costs and fees.
1. The court in a proceeding to determine fair value shall
determine all of the costs of the proceeding, including the reasonable
compensation and expenses of any appraisers appointed by the court. The
court shall assess the costs against the subject corporation, except that
the court may assess costs against all or some of the dissenters, in
amounts the court finds equitable, to the extent the court finds the
dissenters acted arbitrarily, vexatiously or not in good faith in
demanding payment.
2. The court may also assess the fees and expenses of the counsel
and experts for the respective parties, in amounts the court finds
equitable:
(a) Against the subject corporation and in favor of all
dissenters if the court finds the subject corporation did not
substantially comply with the requirements of NRS 92A.300 to 92A.500,
inclusive; or
(b) Against either the subject corporation or a dissenter in
favor of any other party, if the court finds that the party against whom
the fees and expenses are assessed acted arbitrarily, vexatiously or not
in good faith with respect to the rights provided by NRS 92A.300 to
92A.500, inclusive.
3. If the court finds that the services of counsel for any
dissenter were of substantial benefit to other dissenters similarly
situated, and that the fees for those services should not be assessed
against the subject corporation, the court may award to those counsel
reasonable fees to be paid out of the amounts awarded to the dissenters
who were benefited.
4. In a proceeding commenced pursuant to NRS 92A.460, the court
may assess the costs against the subject corporation, except that the
court may assess costs against all or some of the dissenters who are
parties to the proceeding, in amounts the court finds equitable, to the
extent the court finds that such parties did not act in good faith in
instituting the proceeding.
5. This section does not preclude any party in a proceeding
commenced pursuant to NRS 92A.460 or 92A.490 from applying the provisions
of N.R.C.P. 68 or NRS 17.115.
(Added to NRS by 1995, 2092)
A-5
EXHIBIT B - 10-KSB/A
FORM 10-KSB/A
U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES ACT OF 1934
For the Transition Period from ________ to ________
Commission File #0-11078
THE AMERICAN EDUCATION CORPORATION
--------------------------------------------
(Name of Small Business issuer in its charter)
Nevada 73-1621446
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7506 N. Broadway Extension, Suite 505, Oklahoma City, OK 73116
---------------------------------------------------------------
(Address of principal executive offices ) (Zip Code)
(405) 840-6031
---------------------------
(Issuer's telephone number)
Securities registered under Section 12(b) of the Exchange Act: NONE
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, par value $.025 per share
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days.
YES X NO___
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB or any amendment to this Form 10-KSB. [ ]
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act.) YES___ NO X
Revenues for the year ended December 31, 2004: $10,186,517
State the aggregate market value of the voting and non-voting common
equity held by non-affiliates computed by reference to the price at which
the common equity was sold, or the average bid and asked price of such
common equity, as of a specified date within the past sixty days:
$4,333,544 based on 7,471,627 shares at $.58 per share, the last sale
price of the common stock on August 25, 2005. (For purposes of calculating
this amount only, all the directors and executive officers of the issuer
have been treated as affiliates.)
Number of shares of the issuer's common stock outstanding as of August 25,
2005: 14,133,461
Transitional Small Business Disclosure Format YES____NO X
TABLE OF CONTENTS TO FORM 10-KSB/A
PART I
Page Number
Item 1 Description of Business 3
Item 2 Description of Property 12
Item 3 Legal Proceedings 12
Item 4 Submission of Matters to a Vote of Security Holders 12
PART II
Item 5 Market for Common Stock and Related Stockholder
Matters 13
Item 6 Management's Discussion and Analysis or Plan
of Operation 14
Item 7 Financial Statements 17
Item 8 Changes In and Disagreements with Accountants on
Accounting and Financial Disclosure 17
Item 8A Controls and Procedures 17
Item 8B Other Information 17
PART III
Item 9 Directors, Executive Officers, Promoters, and
Control Persons; Compliance with Section 16(a) of
the Exchange Act 18
Item 10 Executive Compensation 19
Item 11 Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters 21
Item 12 Certain Relationships and Related Transactions 22
Item 13 Exhibits 23
Item 14 Principal Accountant Fees and Services 24
THE AMERICAN EDUCATION CORPORATION
FORM 10-KSB/A
PART I
- ------
Item 1. Description of Business.
- ------- ------------------------
The Company's Business
- ----------------------
The Company's primary business is the development and marketing of
educational software to elementary, middle and secondary schools, adult
literacy centers and vocational, junior and community colleges. The
Company develops software for Windows, registered, Macintosh,registered,
Unix, registered, and Linux, registered, operating systems. From 1995 to
2001, the Company's revenues were primarily derived from the sale of its
principal product family, the A+dvanced Learning System, registered,
Version 2.15, a comprehensive courseware offering developed by the
Company. In early 2001, the Company released the A+nyWhere Learning
System, registered, V 3.0 ("A+LS", registered), a Java, trademark, based
program designed to be the Company's future delivery platform for its
extensive grade level 1-12 educational content and assessment tools. The
new A+nyWhere Learning System, registered, V 3.0, and the browser-based
version, A+nyWhere Learning System, registered, V 4.0, accounted
for over eighty percent of the Company's total revenues at the close of
fiscal 2004, while the A+dvanced Learning System Version 2.15 accounted
for less than twenty percent of the Company's total revenues. A
significant body of historically generated data demonstrates the
educational effectiveness of the Company's products and their
instructional design. In accordance with the No Child Left Behind Act of
2001, the Company has conducted a series of formal effectiveness studies
to better inform its school customers of the potential performance of the
Company's products. These studies, which have been independently
reviewed, have established that the Company's instructional design is
effective in a range of instructional settings and grade levels. The
Company is currently engaged in additional scientifically-based research
studies to continue to compile data regarding the effectiveness of the
Company's products as its product offerings are upgraded and expanded.
The Company acquired two businesses in 1998, Projected Learning Programs,
Inc. ("PLP") and Learning Pathways, Limited ("LPL"). In 2001, management
elected to wind down and ultimately discontinue the catalog selling
operations conducted through the PLP subsidiary as a result of the
marketplace moving to increasing use of the Internet and the cash
expenditures required to operate a catalogue sales business. LPL, the
Company's Derby, United Kingdom subsidiary was acquired in late 1998. In
the latter part of 2000, LPL substantially completed the process of
converting the Company's A+LS, trademark, curriculum content to a product
presentation suitable for British educators and schools. LPL also
undertook the development of new UK-specific content that was focused on
the UK's new literacy and numeracy instructional requirements during 2001.
Significant portions of this new product offering were completed and
substantially released to the UK school market during the 2001 fiscal
year. From 2002 through the year ended December 31, 2004, the marketplace
in the UK became more competitive while receiving less funds for the
technology and products produced by LPL. As a result, a pattern of
continuing and sustained losses were recorded. Management elected to
write off the remaining goodwill and the Company's investment in this
subsidiary in fiscal 2004 and in this amendment to Form 10-KSB has
classified LPL as a discontinued operation.
The Company purchased Dolphin, Inc., ("Dolphin") in December 1999.
Dolphin is an established, 14 year-old developer of educational software
for many of the world's leading textbook and electronic publishers. The
Company purchased Dolphin to provide additional depth to the Company's
development activities and, through its ongoing industry contacts, to
assist the Company in initiating partnering opportunities in the areas of
content development, marketing and business development with major
textbook and assessment testing publishers.
The Company internally develops software and content and licenses, to a
limited extent, software or content from third parties for inclusion in
its products for the school market. The Company utilizes an in-house
programming staff and limited, external contract services to develop
software technology. The Company is the primary developer of its
curriculum content and employs full-time educational professionals to
assist in this electronic publishing effort. The Company also makes
extensive use of contract services to secure the specialized educator
skills that are necessary to publish the wide range of subject matter and
grade level content required by the Company's comprehensive product
offering, and to ensure their correlation to state and other educational
standards.
The Company's products are sold through school dealers, an in-house
employee telephone sales force and through direct mail programs. The
Company's products are sold for use in elementary, middle and high
schools, libraries, adult learning centers, correctional institutions,
community colleges, universities, private industry, and to a limited
extent, for home-based schooling.
The use of computers, software and the Internet as educational and
instructional aids in the nation's schools is the major focus of the
Company's marketing strategy. The Company's marketing plan calls for
separate promotional efforts to be directed toward the various segments of
the school market and channels of distribution that provide specialized
market access. Currently, the Company utilizes an in-house employee sales
force and a national network of independent school dealers to market its
products to schools. Each independent school dealer generally covers a
geographically limited territory such as a single state. Other marketing
efforts are executed through business partners as well as direct mail to
the school and library markets. The Company utilizes a direct company-
employed sales force and independent representatives to market its
products in the UK.
The Company is a technology-based business and is actively developing
diagnostic and prescriptive assessment testing and curriculum software
applications to facilitate the delivery of its assessment testing and
instructional content in a networked environment, which includes the
Internet. A significant percentage of the Company's current revenues are
derived from product sales to schools that deliver curriculum content on a
local area network ("LAN") within a single school site. The rapid
adoption of wide-area networks ("WAN"), and increased Internet usage, or
online delivery of the Company's products, are growing as a percentage of
the Company's revenues. In late 2000, the Company began the testing and
delivery of its content online. As a result of the availability of the
browser-based version, A+nyWhere Learning System V4.0, the Company, at
December 31, 2004, had 218 schools in 31 states using online curriculum
content for both school and home-based students. Online delivery of
content is a rapidly growing element of the Company's business and the
number of institutions under contract to the Company grew from 27 schools
in 2001 to 218 schools in 2004, a 707% increase. These users are largely
supported by company-maintained Tier 1 data facilities in Oklahoma City at
the Perimeter Technology Center, Inc., and at the Vericenter, Inc.
facility in Dallas, TX. Management believes that it has in place the
development of technology and programs to allow it to capitalize on the
forecasted, rapid changes in the structure of the marketplace for the
delivery of electronic-based instruction that will be required by school
districts in future years.
Principal Products
- ------------------
Educational Software
- --------------------
The Company engages in extensive efforts to develop new programming
technology as well as new instructional content and academic skills
assessment tools. As a result of this effort, the Company now supports
all contemporary Macintosh, Windows, Novell, Unix and Linux operating
systems with one of the largest curriculum offerings in the core subject
areas for grade levels 1-12. The Company now publishes under its various
A+, registered, brands 176 separate software titles and has another 14
titles in revision or development for release in 2005, including a
Kindergarten-level emergent reading program. All of the Company's
currently released products carry 2001 or later copyrights reflecting the
Company's commitment not only to development of content but also keeping
its products up to date.
There is a growing use of LAN, WAN and Internet technologies in schools
and school districts to provide educational content to students and the
Company provides these schools with software designed to perform in these
environments. The Company's educational software for the elementary,
middle and high school markets is designed for use in classroom
instruction and provides an array of educator tools and resources to
assist schools in meeting performance improvement objectives. The
Company's products for schools are designed for the professional
educator and feature a management function, which records assessment and
student activity data for both individual student and class performance
measurement. This management function also provides for a wide range of
performance reports, lesson materials, tests and assignments that are
required to meet the No Child Left Behind Act of 2001 initiative of the
Federal Government. A hallmark feature of the Company's products is a
unique authoring tool, which allows the educator to add, modify and expand
the graphics, text and incorporate the use of the Internet content to the
curriculum coursework provided by the Company. The Company's software is
correlated to over 96 major national and state standards so that educators
can develop specific lesson plans to assist students with a course of
study that is directly related to specific state or national learning
objectives, or to correct individual student skill deficiencies. The
Company's computer software products are carefully designed to be utilized
by individuals without extensive computer experience.
In an industry where there are in excess of 300 educational software
publishers, the Company has developed a distinctive niche in the form of
its content, delivery, instructional design and assessment tools. This
approach features high educational value and extensive content that is
highly correlated to the leading states' desired learning outcomes,
national educational objectives and major, adopted textbook series. The
Company has concentrated on a design of its products that offers
educational content substance that is highly specific to grade and age
level. These are delivered to the student by a Learning Management System
("LMS") that allows full educator control of the content delivery rather
than an approach controlled by the software. Various software tools, such
as the Company's products for assessment and instruction, allow the use of
the Internet as a source of content at the school's or individual
teacher's option. It also provides educators with the means to
effectively utilize the Company's products as a comprehensive supplemental
instructional solution designed to address individual student skill
deficiencies that may be identified by the Company's assessment tools. In
addition, the Company's product design is modular so that each title sold
by the Company has an integral LMS function. This management function is
shared so that new software titles purchased by a customer utilize
preexisting A+LS class and student records that have been previously
established. This feature allows schools to add additional content and
titles or updated versions simply and easily.
The No Child Left Behind Act of 2001 initiative places significant
emphasis on spending federal funds on programs that have been shown to
work using "scientifically-based" research. The Company's A+ brands in
various versions are supported by a body of research that validates the
Company's instructional design. In 2003, the Company amplified its ongoing
efforts to establish programs to document through rigorous, systematic and
objective procedures the educational effectiveness of its products. The
Company has published various white papers to document completed studies
of product performance in schools and has engaged the Institute for the
Advancement of Research in Education at Appalachian Educational
Laboratory, ("AEL"), Charleston, WV to assist the Company in continuing to
refine its design for future scientifically-based research, provide
independent review of completed studies; and the publication of the
results of these efforts. A total of nine studies have been undertaken
and four have been published and submitted to various industry
publications.
The majority of the Company's installed base is deployed in a LAN
environment as an LMS. The LMS allows teachers and school administrators
to monitor and analyze student performance, which is increasingly
important in the wake of the No Child Left Behind Act of 2001 initiative
which emphasizes school accountability. This approach provides complete
district, school and educator control of class and student lesson
assignments, an individualized path of study, skills assessment,
authoring, testing, reporting and the integration of third-party and
Internet-based content. The A+LS product family's capabilities and its
range of reporting, and documentation of individual student performance
and progress assist the educator in directing the use, and understanding
the effectiveness, of instruction, while improving the efficiency of the
learning process. Management believes that fewer than six companies in
the educational software industry provide a comprehensive, fully-managed
instructional LMS software solution that is comparable to the products
provided by the Company.
A+nyWhere Learning System, registered, Versions 3.0 and 4.0
- -----------------------------------------------------------
The A+nyWhere Learning System makes use of standardized Structured Query
Language ("SQL") and Open Database Connectivity ("ODBC") technology to
ensure transferability of student data between the system and the existing
customer databases. The powerful class and student management features of
this product provide the means to link and transfer student data to most
school and district central records. These features also include the
ability to dynamically assess student capabilities against specific
individual state standards, and to prescribe individualized instructional
plans based on such assessments. The system can be an important element
in providing the data needed to measure Adequate Yearly Progress (AYP) as
required by the No Child Left Behind Act of 2001.
From an educational content perspective, A+LS, Version 3.0 has been
designed as a comprehensive grade level 1-12 core curriculum solution. It
is a product family comprised of 176 subject titles that provide for an
interactive multimedia instructional environment with extensive sound and
graphics. Major subject areas covered are: reading, writing, mathematics,
science, history, geography and language arts. Each ascending grade level
subject title of the Company's content presents increasingly more complex
concepts that provide overlapping subject matter reinforcement by grade
level. As a body of published work, it is one of the most extensive in
the industry for the elementary, middle and secondary grade levels.
A+LS's content is divided into subject titles, each containing a number of
lessons. Each lesson contains a number of activities such as study,
practice exercises, tests and essay.
These instructional activities are further supported by computer adaptive
skill assessment tests for all subject areas and lesson-related
activities. This design facilitates the use of the advanced A+LS class
and student management system to pretest, posttest, record academic gains,
maintain academic performance data and to report on individual student and
class activities. This capability is required by schools to simplify and
assist in the management and reporting of student academic performance
data to comply with certain aspects of the No Child Left Behind Act of
2001. Using tools embedded in the Company's software, educators may
select a series of specific lessons across all subject areas to create a
curriculum plan for a specific time period, while specifying independent
mastery levels for each lesson for a class, group or an individual
student. They may also integrate third-party publishers' materials into
a specified course of study for enrichment or remediation activities. The
product design also permits the development of individualized courses of
study as a result of diagnostic testing and prescriptive capabilities
designed into A+LS for the at-risk or special education student, which
might require specific emphasis to correct skill deficiencies.
Approximately 11,000 public and private schools, centers of adult literacy
and correctional institutions have adopted appropriate title and subject
area components of this product family since its introduction in mid-1995.
During 2004 the Company continued to receive excellent marketplace
acceptance of A+nyWhere Learning System Version 4.0, the browser-based
version of Version 3.0. This version has most of the features of Version
3.0, but is designed to be delivered in standard Internet browsers.
Importantly, Version 4.0 utilizes all of the assessment testing resources
of Version 3.0. Version 4.0's browser-based delivery can be used as an
independent, stand alone solution as well as in combination with a Version
3.0 installation. This design approach is a major selling feature because
it allows schools to deploy a common instructional resource and
performance-tracking technology from a single vendor throughout a
community or campus; which simplifies the use, training and data
collection processes. In addition, the ability to deploy in LAN, WAN and
Internet configurations provides the school with a long-term solution to
effectively utilize computer and bandwidth resources as these are upgraded
over time.
Throughout 2004, the Company has maintained active development efforts in
updating and expanding both its technology and curriculum offerings for
the A+LS product family. During the year, a major new product addition
called State Snapshot Assessments was released. This product allows
administrators to schedule, report on, and prescribe from, frequent,
district wide pre- and post- assessments, in a highly automated fashion.
Through a relationship with CLEARVUE/eav, the Company also added full-
motion instructional video to 33 of its curriculum titles. Also,
approximately 14 individual titles, reflecting offerings in both English
and Spanish languages, were developed and or updated. The Company expects
this expanded, updated curriculum offering to generate additional revenue
opportunities with its existing and future school customers. In addition,
during fiscal 2004 significant portions of the Company's current
assessments and standards database were expanded, updated and realigned to
meet new or revised state and national academic standards; in total, 35
state standard sets were revised or added to keep pace with changes made
by state departments of education.
These ongoing investments in new technology provides the Company with the
means to deliver its products in the highly connected, future marketplace.
This capability should increase and enhance the Company's competitive
ability to expand its delivery alternatives to customers and to secure new
marketing and strategic business relationships.
A+ University, trademark
- ------------------------
A+ University, trademark, is a product training and staff development
product line, which is designed to instruct school administrators,
curriculum specialists and teachers in the use of the Company's various
products. Initial release of this new product family occurred in the
second quarter of 2002 and revisions and updates were made throughout
2004 to maintain currency to the Company's evolving product structure. It
is believed that this product family should become an important source of
incremental revenue from existing and new customers in future years.
A+dvancer Learning System, registered
- -------------------------------------
In mid-2003, the Company completed the development of A+dvancer Learning
System, an online assessment and course of remedial study, which is
aligned to the College Board's ACCUPLACER, registered, postsecondary test.
In 2004, the Company secured orders from approximately 40 postsecondary
institutions. ACCUPLACER is utilized by two and four-year institutions to
screen incoming, first-year students and their capabilities to be
successful in college-level studies. ACCUPLACER tests are widely used by
the nation's postsecondary institutions for admissions screening and is
thought to be the market leading admissions test in mathematics, reading,
writing, language comprehension and algebra. ACCUPLACER is designed to
render a single score and provides the admissions department with little
additional information should the student fail to achieve college's
minimum ACCUPLACER score. A+dvancer's assessment test identifies for
admissions personnel the specific undeveloped skills that caused the
student to fail the ACCUPLACER test, while providing diagnostic guidance
and a prescriptive recommendation for a course of study to build college-
level skills. In addition to the diagnostic/prescriptive test element,
A+dvancer provides for comprehensive online coursework to assist the
student in a highly focused course of study to develop or refresh the
skills necessary to retake the ACCUPLACER test. Controlled pilot studies
on the effectiveness of A+dvancer indicates that it provides both the
postsecondary admissions department and students seeking entry to these
institutions an important new online resource to simply and effectively
deal with the needs of developmental testing and instruction. A
significant percentage of graduating high school seniors seeking
admission, or individuals in the work force who are returning to
postsecondary institutions require remedial education programs to secure
entry into postsecondary institutions.
Third Party Publishing, Marketing Affiliations and Partnerships
- ---------------------------------------------------------------
The Company is actively pursuing and is being pursued by third-party
publishing and marketing companies, which have curriculum content that is
complementary to the publications of the Company or have access to
specialized segments of the market. Many of these companies do not have
the software management technology or distribution resources of the
Company. These relationships are generally sought by the Company to
supplement and complement the content of existing and planned A+LS subject
matter or to enter new markets. Management also believes continued
expansion of these types of relationships enhances the value of the
Company's products to educators and strengthens the business relationships
with its distributors and other business partners.
In 2003, the Company licensed its proprietary database of state academic
standards and the associated intermediate skill sets necessary to align
content to the various state and national standards for assessment testing
to Educational Testing Services (ETS), Princeton, NJ. The term of this
license is for two years and includes company maintenance and updates of
these standards.
During 2003, the Company licensed elements of content from GoKnow, Inc.
to primarily enhance its science content offerings and these product
enhancements were integrated into the Company's products offerings in
2003. GoKnow's internet-based content provides A+LS with access to its
Artemis, registered, service, which makes controlled access to pre-
screened, educationally sound web sites available, and provides
technologies forr efficiently using them. The Company subsequently
released three new science subject titles using the Artemis technology in
early 2004. These titles feature research-oriented science projects and
will help the Company round out its current award winning offerings for
science instruction to meet the national science standards.
In mid-2004, the Company entered into an agreement with the Southeastern
Kansas Educational Service Center of Greenbush, Kansas (Greenbush) to
jointly develop and market online, instructor-led course offerings that
would be eligible for academic credit. This arrangement would merge
content and technology independently developed by both the Company and
Greenbush. Development is in progress with an anticipated release of an
expanded online product offering in the Fall of 2005.
During 2004, the Company initiated discussions with US and UK-based
publishers, hardware suppliers, and other organizations associated with
the educational marketplace. The purpose of these discussions is to
license company technology, strengthen or to develop new channels of
access to the marketplace utilizing the Company's content and technology.
A number of these arrangements were consummated in 2004 and have been
announced in company or subsidiary press releases or literature. Several
other strategic partnering projects initiated in 2003 are still under
development, or are currently subject to confidential disclosure
restrictions.
The Market For Educational Software Products
- --------------------------------------------
The Company addresses five major market segments for its products; the K-
12 school, adult literacy, corrections, postsecondary and the home
markets.
The U.S. School Market
- ----------------------
In calendar 2004 the U.S. school market for educational software showed
indications of recovery and that the market segment for the Company's
products evidenced a return to growth. Leading market research
organizations are forecasting continued growth of the educational
technology market segment through 2005. The principal reasons for
this growth are increased availability of federal funding to schools, a
recovery or adjustment by individual states to their budget difficulties
and a growing priority of schools to purchase software with the assessment
data management capabilities similar to those offered by the Company to
permit them to deal with reporting requirements of the No Child Left
Behind Act of 2001 initiative. In the United States, future market growth
is also expected to be driven by record student enrollments in primary
through secondary schools projected through the year 2008. The U.S.
market is currently comprised of 15,000 school districts that control
111,000 schools. Many states in the South and Southwest with high
population growth projections are expected to have expansion of student
populations exceeding 20% during the next several years.
This market is well documented by industry sources to be moving to wider
use of technology, access to the Internet and the increasing use of online
services. The U.S. school market is closing on the mark that 100% of the
schools in the U.S. are connected to the Internet. Access to the Internet
is expected to increase in schools as more connections and greater
bandwidth access are installed throughout the nation's school buildings.
Importantly, it is believed that increased home access to the Internet
will open up the potential for distributed learning and "e-learning" with
the local school functioning as the hub of a community-wide network to
access educational resources.
Market growth is also expected to effect significant changes in the use
and increased adoption of technology to cope with teacher and physical
facility shortages in an attempt to gain increasing efficiency and to
secure more accountability for academic performance at the individual
school and district level. To meet the future challenges, schools are
expected to embrace the increased use of a range of technologies including
the areas of database management, e-learning through the Internet and its
capabilities. In addition the federal government's initiatives such as
the 21st Century and Reading First grant programs, combined with the No
Child Left Behind Act of 2001 initiative is expected to provide additional
impetus to market growth in 2004-2005 school years.
The Adult Literacy/Lifelong Learning/Corrections Market
- -------------------------------------------------------
The Company believes it has designed its curriculum content delivery so
that it is both appealing and engaging to children and not offensive to
adult learners. As a result, in 2004 the Company continued to have
success in this segment of the market. The Company has installed its
software in state and municipal centers of literacy and the juvenile and
adult corrections market segments, including a state wide deployment of
content in Kansas, Utah and Oklahoma in both the prison system and a
number of regional adult literacy centers. Preliminary information from
these installations is that the Company's products are highly effective in
preparing adults for high school equivalency tests and other recognized
measurements of literacy. The adult literacy and certain related market
segments are believed to be growing in excess of 20% per annum according
to industry sources. In some cases, these market segments are served by
specialized distributors and the Company is seeking to secure additional
dealers to support its expansion efforts in this area.
The Postsecondary Market
- ------------------------
This market segment includes both two and four year institutions, both
public and private, as well as the for-profit segment operated by
educational services companies. The Company is focused on the first time
freshman student population with underperforming college level placement
efforts, which is comprised of both traditional students, those moving
directly from high school to college and non-traditional students, those
returning for postsecondary education following other life-changing
events; such as the termination of military service, or those seeking
additional skills to improve employment opportunities. National
statistics from The American Association of Community Colleges indicate
that approximately forty percent of all graduating students are not
prepared to be successful in the postsecondary environment. Current U.S.
Department of Education studies indicate approximately 2.7 million
students are eligible for graduation from high school in its recent
publications on the 2002-2003 school year. The non traditional student
component of this market is estimated by the Company to represent
approximately 500,000 students in the current school year. The
combination of the graduating high school students and the population of
the non-traditional students returning to secure additional postsecondary
education skills requiring refresher and development of college entry
level skills is believed to represent a large target market for the
Company's product offerings designed specifically to support the
assessment and online instruction needs of this market segment.
The Home Market
- ---------------
The Company has not focused significant resources in marketing its
products to this market segment, which is believed to offer future
opportunities for growth and additional financial returns on the Company's
investment into educational content. Management believes that there is
an opportunity to move into this segment of the market with its current
products and training materials that should be of value to home educators
utilizing online access. The home education is growing at rates exceeding
15% per year according to industry sources. Many families are choosing to
educate their children at home versus the traditional school education
channels or to be actively involved in providing additional academic
emphasis through home-supervised study. Management believes that the
Company's products are designed in a manner to appeal to the home educator
who is seriously involved in the educational process of their children.
In addition, the Company has invested heavily in the correlation of its
products to most national and state instructional objectives. These
correlations should provide additional value-added support to the use of
its products by the home educator. The Company has and will continue to
attempt to identify marketing partners who have access to this market
segment and the financial and related resources to successfully penetrate
this marketplace.
Trade Names, Service Marks and Logo Types
- -----------------------------------------
The Company's service mark for the A+ products was registered with the
United States Patent and Trademark Office on the Principal Register,
registration number 1,345,712, on July 2, 1985. On April 18, 1989, the A+
trademark, for use with educational software, was registered with the
United States Patent and Trademark Office. The Company was notified that,
as of May 12, 1997, the use of the A+ symbol is deemed incontestable for
use on educational software. Other various trademarks and logos
associated with the Company's softtware products have also been
registered.
On June 16, 1995, the Company filed for the separate and expanded use of
its A+ registered mark as A+dvanced Learning System with its A+ logo
design to describe and identify this extensive family of educational
software products released in the latter part of fiscal 1995. This mark
was registered with the United States Patent and Trademark Office on
Principal Register, registration number 2,038,215, on February 18, 1997.
On December 29, 1999, the Company filed for the trademark A+Datalink which
has been approved for registration by the United States Patent and
Trademark Office.
The Company filed for additional separate and expanded use of its A+
registered mark for use as A+nyWhere Learning System and Adult Learning
System in the second quarter of 1999 and continued registration efforts on
these marks during 2000. In 2001, the Company was notified of the
registration of the A+nyWhere trademark. In addition, the Company
continued actions to file necessary documents in the United Kingdom to
ensure protection and preservation of its A+ brand in that country. The
A+LS mark was registered with the United Kingdom's Trade Marks Office,
registration number 2,194,275, on April 12, 1999. The A+ design and
A+dvanced Learning System has been approved for registration in the
United Kingdom.
In 2003 the Company filed for additional separate and expanded use of its
A+ registered mark as A+dvancer Learning System to describe this new
product family of educational software products for the postsecondary
marketplace.
The use of the Company's distinctive A+ logo is viewed as an integral,
distinctive brand element to the Company's product families and is
important to corporate recognition.
Production and Manufacturing
- ----------------------------
The Company purchases CD-ROM blanks from various sources. The Company
owns commercial quality, high-speed software duplication equipment and
duplicates its software both internally and externally. The Company
develops, with outside packaging developers, materials and packaging
concepts, and internally authors necessary product instructional manuals.
The Company maintains duplication equipment that is suitable for
production of catalogs and manuals. The Company secures product packaging
from external sources and performs quality control, final assembly,
inventory and distribution on most orders received. Large production runs
of catalogs and sales literature are contracted to outside printers. The
Company has no dependence on any individual supplier.
The Company, with its release to schools of the A+nyWhere Learning System,
Version 3.0 in 2001 and version 4.0 in 2002 has the capability to
electronically deliver and install its products at customer locations.
This capability should serve to further reduce the Company's cost of
publication of its products commencing in the year as it reduces the need
to produce its products and their extensive documentation on CD-ROM discs.
Research and Development
- ------------------------
At December 31, 2004, the Company employed twelve (12) full-time
development and support personnel in its product development efforts.
These individuals are responsible for the development of new versions of
the Company's software technology and the support and refinement of
current versions of its software offerings.
The Company employs a staff of professional educators who are responsible
for the development and support of its curriculum content. The Company
also utilizes part-time educational consultants in the design of its
curriculum-based product offering. These individuals provide the
curriculum design support on the development and enhancement of Company
products. These consultants allow the Company to effectively and
efficiently address the specialized grade level and diverse content needs
of its A+LS product family. Management believes that it will continue to
rely upon external sources for a portion of its new product content.
However, the growing sophistication and complexity of the interactive
design of company products will require continued expansion of in-house
curriculum and graphics development personnel resources.
At December 31, 2004, the Company employed ten (10) full-time education
professionals in support of this effort. These individuals plan, manage
and coordinate the efforts of up to twenty independent educational
consultants and graphic designers.
Research and Development Costs
- ------------------------------
Costs incurred with product development are charged to research and
development expense until technological feasibility of a product is
established. Thereafter, all software development costs are capitalized
and amortized on a straight-line basis over the product's estimated
economic life. The Company capitalized $1,372,955 in software
research and development costs in 2004 and $1,289,693 in 2003.
Amortization of product development costs for the year ended December 31,
2004, was $1,572,654 as compared to $1,446,373 for the year ended December
31, 2003.
Distribution and Sales Programs
- -------------------------------
In marketing its products, the Company utilizes approximately 40
independent school dealers to reach its school-based customers. During
2004, the Company hired and employed both field and in-house sales forces
to provide support to its dealers and to improve its access to school
customers in rural areas not easily reached by its dealers. This sales
team was comprised of four individuals at December 31, 2004.
Internet Marketing and e-commerce
- ---------------------------------
The Company views the Internet as a channel for future sales growth and
means to develop new customer service and support programs. In addition,
the Internet has become a valuable adjunct for improved customer service
and support on product use and technical matters. During 2004, the
Company invested substantial resources in improving and expanding its
Internet presence and e-commerce capabilities for all business units. The
Company employs full time personnel to update, functionally and
graphically, its www.amered.com, www.dolphinsoft.com, www.learnpath.com,
www.apluslearn.com, www.aplusanywhere.com, and www.advancerlearning.com
URL's. At the end of 2004, the Company has six active Internet site
facilities.
Backlog
- -------
The Company's software products are normally shipped within five days of
receipt of the order. The Company believes that a level of backlog at any
particular date may not be a meaningful indicator of future performance,
unless technical difficulties delay the fulfillment of orders related to
the release of new products.
Seasonality
- -----------
Decisions by schools and individual consumers to purchase educational
software have most frequently been made at the beginning or near the end
of school periods. The months of January and December generally represent
the lowest new order booking months for the Company and the school market
industry segment. This seasonal cycle can directly affect the Company's
total revenues and earnings levels in both the first and fourth quarterly
reporting periods.
Significant Customers
- ---------------------
The Company sells its A+LS product family almost exclusively to schools
through various school dealers of educational materials. No individual
customer accounted for more than 10% of total revenues in 2003 or 2004.
Competition
- -----------
The educational software industry is highly competitive and subject to
rapid change. An increasing number of new publicly financed and privately
funded organizations have been identified that are potentially competitive
to the Company's current business and future plans for electronically
delivered content. Many of these companies are better known and have
substantially greater financial, marketing and technical resources than
the Company. Such participants are textbook publishing companies and
their software divisions and other larger independent educational software
and content developers, which may compete directly with the Company.
The primary competitive factors applicable to the educational software
industry are product features (such as subject areas, graphics and color),
price, ease of use, suitability of the product offering for Internet
delivery, educational content, product reliability, sales support and
customer service. Management believes through constant analysis of its
competitors and ongoing surveys that it sponsors at the customer level
that the Company is currently competitive and enjoys a reputation as a
quality organization and publisher of educational material.
The Internet and the delivery of curriculum by electronic means may have
the capacity to alter the competitive environment and the current means to
content access for both the school and home customer. The Company, in the
judgment of management, has the necessary programs underway or planned to
develop the technology to remain competitive in the future marketplace
environment. Business development programs to identify future partners
and the means to exploit the Company's investment in both technology and
content are an ongoing process with a number of companies that have a
focus on the Internet, the education marketplace and are seeking content
partners.
Employees
- ---------
As of December 31, 2004, the Company had 63 full-time employees in its
domestic operations and 7 full-time employees in its UK subsidiary. The
Company believes that its relationship with employees is satisfactory.
Risk Factors Associated With the Business
- -----------------------------------------
The Company faces a number of risks associated with the successful
continuation its business and its future competitiveness. These
principally include, but are not limited to: 1) Increased competition in
a market segment where the Company competes with other organizations with
substantially more financial and organizational resources; 2) A change in
general economic conditions which may defer or delay funding to schools;
3) The general financial condition of the Company must remain strong
enough to permit it to continue to invest in maintaining and expanding its
products; 4) The ability of the Company to secure additional debt or
equity capital; 5) The ability of the Company to provide statistical or
scientifically-based research to support its claims of its products
educational effectiveness to meet the demands of the No Child Left Behind
Act of 2001; and, 6) Retention of key personnel and the ability to secure
experienced industry managerial and technical talent.
Investors should consider the risk associated with ownership of the
Company's common stock which has a history of price volatility, limited
trading volume activity and liquidity associated with the OTCBB market
status of these securities. Considering these factors, the value of the
Company's securities, as well as their liquidity, may be adversely
affected by the risk factors cited above as well as general market
conditions.
Item 2. Description of Property.
- ------- ------------------------
The Company leases approximately 17,600 sq. ft. of contiguous office and
light warehouse space in Oklahoma City, Oklahoma, under an agreement that
expires in December 2005. The monthly rent under this lease is $12,587.
Dolphin, Inc., a wholly owned subsidiary, leases 3,750 sq. ft. of office
space in Voorhees, New Jersey, under a lease agreement expiring May 31,
2009. Monthly lease expense is $4,922.
Learning Pathways, Limited, a wholly owned subsidiary, leases
approximately 3,500 sq. ft. of office space in Derby, United Kingdom. The
monthly lease expense approximates $1,580. The lease renews each month for
a period of ninety days.
Total corporate cost of leased facilities was $263,691 for 2004 for the
Company's Oklahoma, New Jersey and Derby, UK facilities. Cost of leased
facilities for 2003 was $280,363.
Item 3. Legal Proceedings.
- ------- ------------------
None.
Item 4. Submission of Matters to a Vote of Security Holders.
- ------- ----------------------------------------------------
There were no matters submitted for a vote of the security holders during
the last quarter of 2004.
PART II
- -------
Item 5. Market for Common Equity and Related Stockholder Matters.
- ------- ---------------------------------------------------------
As of December 31, 2004, there were approximately 2,300 record holders of
the Company's common stock. The Company's common stock trades on the OTC
Bulletin Board under the ticker symbol AEDU. The following is a summary
of the high and low bid quotations for the first two quarters of 2005 and
each quarter of 2004 and 2003.
2005 2004 2003
HIGH LOW HIGH LOW HIGH LOW
-------------- -------------- --------------
Quarter Ending March 31 $0.75 $0.35 $0.52 $0.35 $0.20 $0.07
Quarter Ending June 30 $0.62 $0.30 $0.57 $0.36 $0.45 $0.10
Quarter Ending September 30 -- -- $0.55 $0.28 $0.51 $0.22
Quarter Ending December 31 -- -- $0.51 $0.26 $0.70 $0.35
The above information was obtained from the Yahoofinance.com website. The
quotations reflect inter-dealer prices, without retail mark-up, markdown,
or commission and may not represent actual transactions.
Dividends
- ---------
The Company has never declared a cash dividend on the Common Stock and
does not anticipate declaring any dividends on the Common Stock in the
foreseeable future. The Company intends, at this point, to retain any
future earnings to support the Company's growth. Any payment of cash
dividends in the future will be dependent upon the amount of funds legally
available and is contingent upon the Company's earnings, financial
condition, capital requirements, and other factors which the Board of
Directors deem relevant.
Securities Authorized for Issuance Under Equity Compensation Plans
- ------------------------------------------------------------------
(a) (b) (c)
Number of
securities
remaining
Number of Weighted- available for
securities to average future issuance
be issued upon exercise under equity
exercise of price of compensation
outstanding outstanding plans (excluding
options, options, securities
warrants warrants reflected in
Plan Category and rights and rights column (a))
- ------------------------- --------------- --------------- ---------------
Equity compensation plans
approved by security
holders (1) 2,219,999 $ .28 449,031
Equity compensation plans
not approved by security
holders (2) 1,362,576 $ .34 0
--------- ------- -------
Total 3,582,575 $ .30 449,031
========= ======= =======
(1) Consists of the 1998 Employee Stock Option and the Director Stock
Option Plan.
(2) Consists of the 1996 Non-Qualified Stock Option Plan.
Item 6. Management's Discussion and Analysis or Plan of Operation
- ------- ---------------------------------------------------------
Overview
- --------
The American Education Corporation is a developer of instructional content,
computer adaptive assessment testing software, and software management
technology specifically designed to manage the delivery of and record the
results of student progress in schools and other institutions. Java-based
technology, the A+nyWhere Learning System, registered, ("A+LS") Versions
3.0 and 4.0 of educational software products, provides a research-based,
integrated curriculum offering of software for grade levels 1-12 for
Reading, Mathematics, Language Arts, Science, Writing, History, Government,
Economics and Geography. In addition, the Company provides formative
assessment testing and formative instructional content for various segments
of the primary, secondary and post secondary educational markets. All
company products are designed to provide for LAN, WAN and Internet delivery
options. The Company has developed computer adaptive, formative assessment
testing tools to provide educators with the resources to more effectively
use the Company's curriculum content, which is aligned to important state
and national academic standards. Spanish-language versions are available
for Mathematics and Language Arts for grade levels 1-8.
The A+LS comprehensive family of educational software is now in use in
over 11,000 schools, centers of adult literacy, colleges and universities,
and correctional institutions in the U.S., UK and other international
locations. A+dvancer, trademark, College Readiness Online, the Company's
postsecondary offering, identifies and assists students in attaining
college entry-level academic skills in Arithmetic, Elementary Algebra,
Reading Comprehension, and Sentence Skills. A+dvancer reduces demand on
institutional admissions and developmental departments, while providing
students with both improved skills assessment and the alignment to
developmental and remedial coursework in an online, self-paced learning
environment.
The Company is a technology-based publishing enterprise. To remain
competitive it must constantly invest in the development of programming
technology to keep its product offering up-to-date and ensure that its
products maintain compatibility with constantly changing and revised
database and operating system platforms sold to schools by other
developers. The Company must also update its content and underwrite
content revisions to realign its content with new, or updated state and
national educational standards and to develop additional educational
content offerings to remain competitive. In 2004, the Company incurred
costs of approximately $644,000 for these updates and new content-based
products. These investments are an essential, recurring cost of doing
business and impact the Company's operating cost and margin structures.
During 2004, the Company spent approximately $660,000 in modifying its
software engines to improve delivery of its content online and to develop
additional reporting and data management features to assist its customers
in meeting school accountability requirements.
The Company's business is subject to risks or uncertainties. Among these
uncertainties are a dependency on funding for school technology purchases,
lengthy sales cycles, seasonal demand cycles and a dependency on retention
of key personnel. Certain matters discussed herein (including the
documents incorporated herein by reference) may contain forward-looking
statements intended to qualify for the safe harbors from liabilities
established by the Private Securities Litigation Reform Act of 1995.
These forward-looking statements can generally be identified as such
because the context of the statement will include words such as the
Company "believes," "plans," "intends," "anticipates," "expects," or words
of similar import. Similarly, statements that describe the Company's
future plans, objectives, estimates, or goals are also forward-looking
statements. Such statements address future events and conditions
concerning capital expenditures, earnings, litigation, liquidity, capital
resources and accounting matters. Actual results in each case could differ
materially from those currently anticipated in such statements as a result
of factors such as future economic conditions, changes in customer
demands, future legislative, regulatory and competitive developments in
markets in which the Company operates and other circumstances affecting
anticipated revenues and costs. Accordingly, investors should be alert to
the possibility that factors beyond the control of management may have
impact on the short or long-term operations of the business.
Results of Operations
- ---------------------
Fiscal Year Ended December 31, 2004 Compared to Fiscal Year Ended December
31, 2003
Net consolidated revenues for the twelve months ended December 31, 2004
totaled $10,186,517 compared to net revenues of $8,230,285 for the year
ended 2003. This represents an increase of 24% in net consolidated
revenues over the prior fiscal year, and is attributable to an increase in
orders at AEC. Sales at Dolphin were relatively unchanged in 2004
compared to 2003. As a result of the continued sales decreases at
Learning Pathways, among other considerations, the Company has elected to
recognize an impairment loss in 2004 and has written down the carrying
value of Learning Pathway's assets to zero. In this amended Form 10-KSB/A
the statement of income has been restated to show the results of Learning
Pathways as a discontinued operation and, therefore, the comparisons
discussed here are only for the Company and its Dolphin, Inc. subsidiary.
AEC's revenue increase over 2003 is a result of the continuation of
increases in governmental education funding and as a result of billing
more schools directly as a condition of certain contract awards.
Cost of goods sold as a percentage of sales revenue for the year ended
December 31, 2004 decreased to 14% from 16% of net revenues for the same
period in 2003. This improvement is primarily due to the smaller
contribution of Dolphin-related revenues to consolidated corporate net
revenues. The Company's principal product families, A+nyWhere Learning
System, registered, and A+dvanced Learning System, registered, ("A+LS"),
provided gross profit margins of 97% in 2004. Cost of goods sold
represents the actual cost to produce the software products and includes
certain allocated overhead costs.
Total operating expenses recorded for the year ended December 31, 2004
were $7,522,597 or 74% of net revenues, compared to $6,012,388 or 73%, for
the previous fiscal year. The increase in the 2004 operating expenses is
largely attributable to the 55% increase in selling and marketing expenses
from $2,341,607 to $3,628,550 caused by changes in sales mix, which
resulted in increased sales commissions paid as the Company billed direct
to school customers a higher percentage of period orders. The Company
recognizes sales revenue based upon the type of customer. If the sale is
made to a distributor who in turn resells a product to the end user, the
amount of the sale is recorded, no commission is due the distributor
and the transaction is recorded as a net sale. If the sale is billed
direct to the school or other end user, a commission is paid to the
distributor or a sales representative, which increases the amount of the
sale, but a transaction of this nature would directly increase marketing
expense as a result of an obligation to pay a commission. These
commissions paid may vary in the percentage of the sale paid by the
Company, depending up the type of sale and the status of the individual or
organization making the sale. The decision to sell and to bill direct to
the customer and pay a subsequent commission can result from a number of
factors, including credit policy issues with individual distributors as a
result of payment history or limitations on authorized limits.
Additionally, method of delivery of the product may necessitate direct
billing to the customer and the subsequent payment of a commission. An
example would be an online product sale that requires delivery from
company servers and related record keeping on licensed number of users
accessing the product online as well as the number of units delivered.
This level of record keeping requires company monitoring and billing
directly to the customer. These factors create a change in sales mix
affecting the amount of commission paid and the manner in which revenues
may be recorded by the Company. Accordingly, these factors, and the
source and nature of recorded revenue, can impact period revenue
recognition and related costs of securing revenue may vary from period to
period. Operations expense increased from $435,999 to $501,401 as a result
of an increase in costs for essential technical support for the Company's
customers. General and administrative expenses increased from $1,938,629
to $1,978,757 or by 2%. This increase is attributable to several different
items. Internet operating costs increased approximately $60,000 resulting
from an increasing percentage of the Company's net revenues being derived
from providing customers with online access to our products. Deferred
compensation payable upon executive officers' and directors' retirement
increased approximately $170,000 from 2003 to 2004 as a result of increased
future benefits accrued and additional individuals who were eligible for
the program. Bad debt expense decreased approximately $180,000 versus 2003
because an increase in the allowance for doubtful accounts recorded in 2003
was not necessary in 2004.
Costs incurred in conjunction with product development are charged to
research and development expense until technological feasibility is
established. During fiscal 2004, the Company capitalized $1,372,955 of
product development costs, and net of accumulated amortization had
capitalized software costs of $3,815,680 at December 31, 2004.
Amortization of product development costs was $1,413,889 for 2004, a
9% increase over the $1,296,153 amortized in 2003. During 2004, the
Company made substantial progress in development efforts on revised,
updated and expanded curriculum offerings. The increase in amortization
expense is a result of this increase in capitalized development costs
associated with these essential investments in the Company's future and
competitive position.
Interest expense was $61,058 in 2004 compared to $68,556 in 2003
reflecting the lower amount of debt in 2004 offset by rising interest
rates during the year. Income tax expense decreased to 41% of pre-tax
income from continuing operations in 2004 compared to 46% in 2003 as a
result of fewer non-deductible expenses incurred in 2004. The Company
had a net loss of $(343,260) in 2004 compared to a net income of $173,577
in 2003 as a result of the impairment of the investment in Learning
Pathways noted above. There was a loss $(.02) per share in 2004 compared
to earnings of $.01 in 2003.
Liquidity and Capital Resources
- -------------------------------
The Company has invested significantly in the development of new products
and the acquisition and licensing of new products to improve the ability
of the organization and its published products to meet the needs of the
marketplace. These changes were required to update, expand and keep
current the Company's extensive curriculum product offerings and to
position the Company for long-term growth. To finance the business,
management has utilized secured bank revolving credit lines, bank financed
equipment loans, lease financing sources and convertible debt from private
individuals.
As of December 31, 2004 the Company's principal sources of liquidity
included cash and cash equivalents of $549,343, net accounts receivable of
$2,146,264 and inventory of $14,485. The Company's net cash provided by
operating activities during the year ended December 31, 2004 was
$2,137,957 compared to $1,613,460 for the same period in 2003. Net cash
used in investing activities for the year ended December 31 increased by
6% from $1,346,872 in 2003 to $1,426,219 in 2004, and was comprised
primarily of investment in capitalized software development costs. During
the year ended December 31, 2004, debt due to financial institutions was
reduced by $379,071 or 50%, reflecting bank indebtedness of $371,862 at
December 31, 2004. At December 31, 2004, the Company had working capital
of $1,097,949 compared to $782,983 at December 31, 2003. The Company's
term loan with its bank will be fully paid in November and the Company and
its lender recently agreed to extend the maturity of its revolving line of
credit until March 2006. The Company is continuing to discuss future
borrowing arrangements with its current lender and several other financing
sources.
In April 2003, the Company borrowed $305,880 from major shareholder
affiliates, which is subordinated to the debt owed to the Company's senior
lender. This debt matures in September of 2006 and is convertible into the
Company's common stock at $.40 per share. On March 30, 2005, the Company
entered into a Convertible Note Purchase Agreement with an unaffiliated
individual. Pursuant to the terms of the Convertible Note Purchase
Agreement, the Company issued the note purchaser an unsecured 8%
Subordinated Convertible Note in the original aggregate principal amount
of $400,000 (the "Note"). All principal and interest on the Note is due
and payable on March 30, 2006 (the "Initial Maturity Date"), subject to
the note purchaser's option to extend the Initial Maturity Date twelve
months to March 30, 2007 (the "Extended Maturity Date"). The Company may
not prepay principal or interest on the Note prior to the Initial Maturity
Date. The Note is convertible at any time at the note purchaser's option
into shares of the Company's common stock at the initial conversion price
of $0.463 per share, subject to certain anti-dilution adjustments. Any
shares of common stock issued upon conversion of the Note will have
"piggy-back" registration rights. The proceeds from the subordinated
convertible debt were used to reduce accounts payable, bank debt and to
support the normal operations of the business.
The Company has a $450,000 revolving line of credit with a bank that bears
interest at a rate of 2.50% over the prime rate (7.75% as of December 31,
2004) and matures on March 31, 2006. At December 31, 2004, the Company
had borrowed $112,895 under this line of credit. Additionally, the
Company has a term loan with an aggregate principal balance of $255,761 as
of December 31, 2004. The term loan bears interest at a rate of 2.00%
over the prime rate (7.25% as of December 31, 2004) and matures on
November 30, 2005. The Company is continuing to discuss future borrowing
arrangements with its current lender and several bank financing sources.
There are no material operating covenants in either of the subordinated
debt agreements nor in the bank loan agreements. The Company does not
believe that there are any covenants that affect the way the business is
operated or that would require material financial obligations.
With the expansion of the Company's product lines, the addition of new
products and markets and the increase in school spending that the Company
expects to see in 2005, management believes that the Company will return
to a pattern of growth similar to that demonstrated in prior years
(an average of approximately 20% per year). Management believes that it
can undertake this expansion with most of the Company's working capital
requirements secured from its operating cash flows. If successful, the
Company should be able to enhance the liquidity of the business and the
overall strength of the Company's balance sheet and financial position.
Additional working capital beyond that available within the Company has
been and may be required to expand operations. Management has and will
consider options available in providing such funding, including debt and
equity financing.
Off-Balance Sheet Arrangements
- ------------------------------
The Company does not have any off-balance sheet arrangements.
Contractual Cash Obligations
- ----------------------------
The following is a summary of the Company's significant contractual cash
obligations for the periods indicated that existed as of December 31, 2004
and is more fully disclosed in Notes 4 and 5 of the Notes to Consolidated
Financial Statements (amounts in thousands of dollars):
Year ended December 31
2005 2006 2007 2008 2009
---- ---- ---- ---- ----
Long and short term debt $372 $306 $ -- $ -- $ --
Operating leases 274 113 88 67 28
---- ---- ---- ---- ----
Total contractual obligations $646 $419 $88 $ 67 $ 28
==== ==== ==== ==== ====
Critical Accounting Policies
- ----------------------------
Management is responsible for the integrity of the financial information
presented herein. The Company's financial statements have been prepared
in accordance with accounting principles generally accepted in the United
States of America. Where necessary, they reflect estimates based on
management's judgment. Significant accounting policies that are important
to the portrayal of the Company's financial condition and results, which
in some cases require management's judgment, are summarized in the Notes
to Financial Statements which are included herein in Item 7.
Item 7. Financial Statements.
- ------- ---------------------
Financial Statements and Financial Statement Schedules - See Index to
Consolidated Financial Statements and Schedules immediately following the
signature page of this report.
Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure.
- ------- ---------------------------------------------------------------
Steakley, Gilbert & Morgan, P.C. has audited the Company's financial
statements for the years ending December 31, 1994 through 2004. There are
no disputes with the independent accountants regarding matters of
accounting or reporting.
Item 8A. Controls and Procedures.
- -------- ------------------------
It is the responsibility of the Chief Executive Officer and the Chief
Financial Officer to ensure that the Company maintains disclosure controls
and procedures designed to provide reasonable assurance that material
information, both financial and non-financial, and other information
required under the securities laws to be disclosed is identified and
communicated to senior management on a timely basis. The Company's
disclosure controls and procedures include controls and other procedures
of the Company that are designed to ensure that information required to be
disclosed by the Company in its reports that it submits under the
Securities Exchange Act of 1934, as amended, is recorded, processed,
summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms.
As of December 31, 2004, management, including the Chief Executive Officer
and Chief Financial Officer, conducted an evaluation of disclosure
controls and procedures pursuant to Exchange Act Rule 13a-14 as of the end
of the period covered by this report. Based on that evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded the
disclosure controls and procedures currently in place are adequate to
ensure material information and other information requiring disclosure are
identified and communicated in a timely fashion and that such disclosure
controls and procedures were effective. During the three months ended
December 31, 2004, there have been no changes in internal controls, or in
factors that have materially affected, or are reasonably likely to
materially affect, the Company's internal controls over financial
reporting.
Item 8B. Other Information.
- -------- ------------------
None.
PART III
- --------
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance With Section 16 (a) of the Exchange Act.
- ------- -------------------------------------------------------------
The directors and executive officers of the Company are set forth below.
All directors hold office until the next annual meeting of stockholders,
or until their death, resignation, retirement, removal, disqualification,
and until their successors have been elected and qualified. Vacancies in
the existing board are filled by a majority vote of the remaining
directors.
Name Age Position Director Since
- -----------------------------------------------------------------
Jeffrey E. Butler 63 President, Director, 1989
Chief Executive Officer
Thomas A. Shively 51 Executive Vice President and
Chief Operating Officer
Neil R. Johnson 54 Vice President and
Chief Financial Officer
Monty C. McCurry 59 Director 1989
Newton W. Fink 68 Director 1991
Stephen E. Prust 60 Director 1992
Business Experience
- -------------------
JEFFREY E. BUTLER became a director of the Company in August 1989 and was
elected Chief Executive Officer and President in March, 1990. From 1985 to
1990, Mr. Butler was a management consultant to businesses in the
biotechnology, computer science, software, educational and entertainment
video industries. Mr. Butler served as a director of Video Professor
Industries, Inc., a publicly held corporation, from February 1, 1989 to
October 31, 1990. Prior to establishing his management consulting
business, Mr. Butler was the Chief Executive Officer and President
of Infomed Corporation, which provided computer diagnostic equipment and
management services to hospitals, corporations and physicians. Prior to
1985, Mr. Butler was employed by Sandoz, Ltd., Corning, Inc. and Becton
Dickinson Corporation in middle and senior management positions.
THOMAS A. SHIVELY joined the Company as Executive Vice President in
September 1991. From 1990 to 1991, Mr. Shively was Vice President and
General Manager of AVID Home Entertainment, a division of LIVE Inc., with
headquarters in Denver, Colorado. From 1989 to 1990, he was Vice
President and General Manager of the Richie Resource Group with
headquarters in Minneapolis, Minnesota. From 1978 to 1988, he was
employed by Gelco Corporation, Minneapolis, Minnesota, a $2 billion NYSE
firm that was purchased by General Electric Corporation in 1988. During
the first five years of his career with Gelco, he was Director of
Corporate Planning and from 1983, he served as a staff Vice President and
as a Vice President of various Gelco operating divisions. Upon graduation
from the Wharton School of Finance and Commerce in 1976, Mr. Shively began
his business career with the 3M Corporation, Minneapolis, Minnesota.
NEIL R. JOHNSON has been employed by the Company since August 1998.
Immediately prior to being employed by the Company, Mr. Johnson was an
independent business consultant. From 1994 to 1997, Mr. Johnson was Chief
Financial Officer and Treasurer for Unit Parts, Inc., an Oklahoma City
based remanufacturer of automotive parts. From 1985 to 1994, Mr. Johnson
was Vice President of Corporate Finance and Treasurer of Doskocil
Companies, Inc., a diversified food products manufacturer. Prior to those
positions, Mr. Johnson spent twelve years with the public accounting firm
of Coopers & Lybrand. Mr. Johnson graduated from Valparaiso University in
1972 with a BS in Business Administration.
MONTY C. McCURRY was elected to the Board of Directors in April 1989.
Since 1985, Mr. McCurry has been the President of Executive Resource
Management, an executive search firm headquartered in Aurora, Colorado.
From 1969 to 1985, Mr. McCurry was employed by Paul M. Riggins and
Associates, an executive search firm where he was associate general
manager.
NEWTON W. FINK, Ed.D. was elected to the Board of Directors in January
1991. Dr. Fink is currently an Adjunct Professor of Educational
Leadership at National Louis University, Tampa, Florida. From 1998 to
2003, Dr. Fink was the Superintendent of Schools in Manteno, IL. From 1994
to 1998 he was Superintendent of the VIT Schools in Table Grove, IL. Prior
to 1994, Dr. Fink was the President of Computer Instructional Services,
Inc., a privately held corporation providing computer educational services
to individuals, schools, corporations and institutions. Additionally, he
has been employed as a teacher and an elementary/middle school principal
earlier in his career. Dr. Fink has also published and lectured
extensively on the use of computers in education.
STEPHEN E. PRUST was elected to the Board of Directors in April 1992.
Since 1992, Mr. Prust has provided business consulting services, including
advice on equity and debt transactions, mergers and acquisitions, to a
variety of companies, ranging from entertainment concerns, Internet start-
ups and industry consolidators. From 1990 to 1992, Mr. Prust was the
President of AVID Home Entertainment, a division of LIVE Entertainment,
Inc. From 1981 to 1990, Mr. Prust was a consultant to companies in the
entertainment industry. In 1975, Mr. Prust founded Dominion Music, Inc.,
a joint venture with K-Tel Records, Inc. He served as President of
Dominion Music until 1981.
Compliance with Section 16(a) of the Exchange Act
- -------------------------------------------------
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's directors, executive officers and holders of more than 10%
of the Common Stock to file with the Securities and Exchange Commission
initial reports of ownership and reports of changes in ownership of the
Common Stock. Based solely upon a review of Forms 3, 4 and 5 furnished to
the Company with respect to the year ended December 31, 2004, the Company
has determined that Messrs. Butler, Shively, Johnson, each had two Form
4's not filed timely and Messrs. McCurry, Fink, and Prust each had a Form
4 that was not filed timely.
Audit Committee Financial Expert
- --------------------------------
The entire Board of Directors serves as the Audit Committee of the Company
nor is the Company required under Regulation SB Item 401(e) governing SB
Corporations to have a formal audit committee. The Board of Directors does
not have a financial expert serving as a member of the Board. The Company
does not have a financial expert serving on its Board due to the Company's
size, financial condition for the past several years and its inability to
offer sufficient incentives and D&O insurance to attract a financial expert
to serve on the Board.
Code of Ethics
- --------------
The Company has adopted a written Code of Ethics that applies to the
Company's principal executive officer, principal financial officer,
principal accounting officer or controller and any persons performing
similar functions. The Company will provide a copy of its Code of Ethics
to any person without charge upon written request addressed to The
American Education Corporation, 7506 N. Broadway Ext. Suite 505, Oklahoma
City, Oklahoma 73116, Attention: Shareholder Relations.
Item 10. Executive Compensation.
- -------- -----------------------
Compensation
- ------------
The following table shows the compensation of the Company's executive
officers.
Summary Compensation Table
Long-Term
Annual Compensation Compensation
------------------------------ -------------------
Securities
Other Restricted Underlying
Name and Principal Annual Stock Options/
Position Year Salary Bonus Compensation(1) Awards SARS(#)
- ------------------------------------------------------------------------------
Jeffrey E. Butler, 2004 $150,167 $ 2,060 $ -- -- 356,800
President and Chief 2003.. 132,000 2,060 -- -- 360,000
Executive Officer 2002 120,462 -- -- -- 100,000
Thomas A. Shively, 2004 $144,399 $26,384 $ -- -- 273,276
Executive Vice 2003 126,500 -- -- -- 260,000
President 2002 115,442 -- -- -- 60,000
Neil R. Johnson, 2004 $122,609 $ -- $ -- -- 25,000
Vice President and 2003 108,350 -- -- -- 125,000
Chief Financial 2002 98,879 -- -- -- 60,000
Officer
(1) The executive officers did not receive any perquisites or other
benefits, the aggregate amount of which exceeded the lesser of $50,000 or
10% of their compensation.
Employment Agreements
- ---------------------
In December, 1998, the Company entered into an employment agreement with
Jeffrey E. Butler providing for a base salary and benefits as determined
by the Board of Directors, including incentive bonuses based on
profitability, that are provided to all employees of the Company. If Mr.
Butler is terminated without cause, his compensation will continue for one
year. In the event of a change in control, Mr. Butler may require the
Company to purchase up to 50% of his beneficial stock ownership. In
addition , Mr. Butler has a deferred retirement benefit as disclosed in
Note 10 of the Notes to Consolidated Financial Statements.
Messrs. Thomas A. Shively, and Neil R. Johnson also have employment
agreements with the Company. These agreements also provide for severance
payments and repurchase of a portion of their beneficial stock ownership
in the event of a change in control. They also have a deferred retirement
benefit as disclosed in Note 10 of the Notes to Consolidated Financial
Statements.
Stock Incentive Plans
- ---------------------
The shareholders approved an Incentive Stock Option Plan for employees,
including officers, during 1998, and approved amendments to the plan in
1999, 2000 and 2001 to increase the number of shares available. The total
common shares issuable under this plan are 2,650,000 shares. The Board of
Directors acts as the Compensation Committee ("Committee"). The Committee
of this Plan determines the employees who will receive options to purchase
common shares and the number granted. Option prices will be the fair
market value at date of grant. Options are exercisable as deemed by the
Committee and terminate within ninety days of employment termination, or
as designated by the Committee. In no event shall an option be exercisable
more than ten years from the date it is granted. No options may be issued
under this plan after March 31, 2008. Since its inception, options to
purchase 4,007,000 shares have been granted, 1,806,029 options have
expired, and 180,970 options have been exercised. At December 31, 2004,
there were options to purchase 2,020,001 shares outstanding under this
Plan.
In March 1996, a Non-Qualified Stock Option Plan was approved by the Board
of Directors. Since its inception non-qualified stock options to purchase
a total of 2,990,271 shares of restricted common stock have been issued,
1,431,995 have expired and 195,700 have been exercised. At December 31,
2004, there were options to purchase 1,362,576 shares outstanding.
Stock Option Grants In 2004
- ---------------------------
Options Percentage of Total Exercise
Granted Options Granted to Price Expiration
Name (Shares) Employees in 2004(Per share) Date
- -----------------------------------------------------------------------------
Jeffrey E. Butler 356,800 54.5% $.35 December 31, 2007
Thomas A. Shively 273,276 41.7% $.35 December 31, 2007
Neil R. Johnson 25,000 3.8% $.35 December 31, 2007
Additionally, in November 2004, 100,000 options for Mr. Butler and 60,000
options each for Mr. Shively and Mr. Johnson with an original expiration
date of February 2005 were extended to December, 2008, at its original
exercise price of $.25 per share.
Option Exercises and Fiscal Year-End Values
- -------------------------------------------
No executive officer exercised options during 2004. The following table
sets forth, for the executive officers named in the Summary Compensation
Table above, the year-end value of unexercised stock options:
Number of Securities Value of Unexercised
Underlying Unexercised In-the-Money
Options at Year-End Options at Year-End
Name Exercisable/Unexercisable Exercisable/Unexercisable
- ----------------------------------------------------------------------------
Jeffrey E. Butler 696,800/120,000 $22,000/$6,000
Thomas A. Shively 506,612/86,664 $14,667/$4,333
Neil R. Johnson 168,334/41,666 $10,167/$2,083
Directors' Compensation
- -----------------------
In 2004 the Company's non-employee directors each were granted 63,000
qualified options to purchase the Company's common stock at $.35 per
share. The directors received no compensation, other than stock options,
for services in their capacity as directors. In 2004, two directors
received cash compensation for services rendered outside of the scope of
normal directors duties. Monty McCurry received $21,500 for assisting the
Company in recruiting key personnel required for the Company's expansion
and growth. Stephen Prust received $5,000 for assistance to management in
the review of operations of the Company's subsidiaries whose operations
are causing large amounts of losses for the Company and the development of
strategic alternatives to manage the losses being generated by these
subsidiaries, including the potential sale of the subsidiaries. Both of
the extra assignments were related to the specific skills and experience
of each director.
The shareholders approved a Director's Stock Option Plan during 1998 and
approved an amendment to the Plan in 2001 to increase the number of shares
available. The total common shares issuable under this Plan are 200,000
shares. Each outside director initially elected or appointed after March
27, 1998, shall be granted options to purchase 5,000 shares of common
stock at the fair market value at the date of the grant. Additionally,
each outside director shall automatically be granted an option to purchase
3,000 shares of common stock, if available, in each succeeding calendar
year through termination of the Plan on March 31, 2008. Options granted
are exercisable immediately and for a period of three years after the date
of the grant or, if earlier, ninety days after the date when the
participant ceases to be a director of the Company. Since its inception
options to purchase a total of 292,998 shares of restricted common stock
have been issued and 93,000 have expired. At December 31, 2004, there were
199,998 options outstanding.
Item 11. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters.
- -------- --------------------------------------------------------------
The following table sets forth ownership of the common stock of each
director and officer, all officers and directors as a group, and each
person known or believed by the Company to have beneficially owned five
percent or more of the Company's outstanding common stock as of August 25,
2005. Unless otherwise indicated, the beneficial owner has sole voting and
investment power over the common stock listed below:
Shares Beneficially
Owned
--------------------
Name/Address of Beneficial Owner Number Percent
- ---------------------------------- ----------------------
Jeffrey E. Butler (1) 1,598,375 10.7%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Thomas A. Shively (2) 829,664 5.6%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Neil R. Johnson (3) 222,500 1.6%
7506 N. Broadway Ext.,
Oklahoma City, OK 73116
Monty C. McCurry (4) 253,566 1.8%
2134 S. Eagle Ct.,
Aurora, CO 80014
Newton W. Fink (5) 218,066 1.5%
1143 Corinth Greene Dr.,
Sun City Center, FL 33573
Stephen E. Prust (6) 555,934 3.9%
9025 East Kenyon Avenue,
Denver, CO 80237
John D. Garber (7) 3,672,286 26.0%
7323 Linden Terrace,
Carlsbad, CA 92009
Robert Schoolfield (8) 1,536,517 10.9%
5 Pleasant Cove,
Austin, TX 78746
David J. Smith (9) 863,930 5.8%
10 South Close, Workingham
Berks, United Kingdom
The Pennsylvania State 750,000 5.3%
University (10)
University Park, PA 16802
Officers and Directors 3,678,105 22.5%
as a Group (6 persons)
(1) (2) (3) (4) (5) (6)
(1) The amount and percentage figures include the possible exercise of
356,800 common stock options with an exercise price of $.35 per share,
100,000 common stock options at $.25 per share, and 360,000 common stock
options at $.30 per share exercisable within 60 days.
(2) The amount and percentage figures include the possible exercise of
273,276 common stock options with an exercise price of $.35 per share,
60,000 common stock options at $.25 per share, and 260,000 common stock
options at $.30 per share exercisable within 60 days.
(3) The amount and percentage figures include the possible exercise of
25,000 common stock options with an exercise price of $.35 per share,
60,000 common stock options at $.25 per share and 125,000 common stock
options at $.30 per share exercisable within 60 days.
(4) The amount and percentage figures include the possible exercise of
84,000 common stock options with an exercise price of $.35 per share,
60,000 common stock options at $.13 per share, and 42,666 common stock
options at $.30 per share exercisable within 60 days.
(5) The amount and percentage figures include the possible exercise of
84,000 common stock options with an exercise price of $.35 per share,
60,000 common stock options at $.13 per share, and 42,666 common stock
options at $.30 per share exercisable within 60 days.
(6) The amount and percentage figures include the possible exercise of
129,000 common stock options with an exercise price of $.35 per share,
60,000 common stock options at $.13 per share, and 42,666 common stock
options at $.30 per share exercisable within 60 days.
(7) The amount and percentage figures include 3,192,286 shares of common
stock held by John D. Garber and Clare C. Garber as trustees of the John
D. Garber and Clare C. Garber Trust for which Mr. Garber is the
beneficiary; 440,000 shares of common stock held by John D. Garber and
Clare C. Garber, as trustees of the John D. Garber and Clare C. Garber
defined benefit plan and 40,000 owned personally by Mr. Garber.
(8) The amount and percentage figures include 737,528 shares of common
stock owned by the Schoolfield 1994 Charitable Unitrust for which Mr.
Schoolfield is the trustee; 614,607 shares of common stock owned by Mr.
Schoolfield individually; and 184,382 shares of common stock owned by the
Schoolfield Grandchildren's Trust for which Mr. Schoolfield is the
trustee.
(9) The amount and percentage figures include 863,930 shares of common
stock which would be issued to Mr. Smith if he elects to convert his
$400,000 8% Subordinated Convertible Note dated March 30, 2005 to common
stock.
(10) In 1999, the John D. Garber and Clare C. Garber Trust donated 750,000
shares of the Company's common stock to The Pennsylvania State University.
Item 12. Certain Relationships and Related Transactions.
- -------- -----------------------------------------------
The Company had a note receivable due from its Chief Executive Officer,
Jeffrey E. Butler, in the amount of $300,000 that was advanced in October
2000 and due in 2003. In 2003 the Board of Directors approved a
transaction whereby the note would be paid in full in exchange for 200,000
shares of the Company's common stock owned by Mr. Butler. The stock has
been recorded as treasury stock at this cost.
The Company is indebted to two major shareholder affiliates, John D.
Garber and Janis L. Butler, for convertible subordinated debt in the
amount of $305,880, which was advanced in April, 2003. The debt bears
interest at 8% and the interest is payable quarterly. Principal is due in
one payment on September 30, 2006. The debt is subordinated to the debt
owed the Company's senior lender and is convertible into the Company's
common stock at $.40 per share.
Item 13. Exhibits.
- -------- ---------
The following documents have been filed as a part of this annual report:
Exhibit
No. Description of Exhibits
- ----------------------------------------------------------------------------
3.1 Amended and Restated Articles of Incorporation of The American
Education Corporation (incorporated by reference to the exhibit in
the Current Report on Form 8-K filed with the Securities and
Exchange Commission on June 25, 1998)
3.2 Bylaws of The American Education Corporation (incorporated by
reference to the Company's registration statement on Form S-8
filed with the Securities and Exchange Commission on October
22, 1999)
4.1 Form of Stock Certificate (incorporated by reference to the
Company's registration statement on Form S-8 filed with the
Securities and Exchange Commission on October 22, 1999)
4.2 Directors' Stock Option Plan (incorporated by reference to
Exhibit B to the Definitive Proxy Statement filed with the
Securities and Exchange Commission on April 24, 1998)
4.3 First Amendment to the Directors' Stock Option Plan
(incoorporated by reference to the Company's registration
statement on Form S-8 filed with the Securities and Exchange
Commission on October 22, 1999)
4.4 Stock Option Plan for Employees (incorporated by reference to
Exhibit C to the Definitive Proxy Statement filed with the
Securities and Exchange Commission on April 24, 1998)
4.5 First Amendment to the Stock Option Plan for Employees
(incorporated by reference to the Company's registration
statement on Form S-8 filed with the Securities and Exchange
Commission on October 22, 1999)
4.6 Second Amendment to the Stock Option Plan for Employees
(incorporated by reference to Exhibit 4.7 to the Company's
registration statement on Form S-8 filed with the Securities
and Exchange Commission on September 29, 2000)
10.1 Purchase Agreement for the acquisition by the Company of
Learning Pathways, Limited (incorporated by reference to the
exhibit in the Current Report on Form 8-K filed with the
Securities and Exchange Commission on December 15, 1998)
10.2 Stock Purchase Agreement for the acquisition by the Company of
Dolphin, Inc. (incorporated by reference to the exhibit in the
Current Report on Form 8-K filed with the Securities and
Exchange Commission on January 10, 2000)
10.3 Convertible Note Purchase Agreement dated March 30, 2005 by and
between The American Education Corporation and David J. Smith
(incorporated by reference to the exhibit in the Current Report
on Form 8-K filed with the Securities and Exchange Commission
on April 11, 2005)
10.4 The American Education Corporation 8% Subordinated Convertible
Promissory Note dated March 30, 2005 in favor of David J. Smith
(incorporated by reference to the exhibit in the Current Report
on Form 8-K filed with the Securities and Exchange Commission
on April 11, 2005)
10.5 Promissory Note dated March 31, 2004 from The American
Education Corporation in favor of UMB Bank, N.A. (incorporated
by reference to the exhibit in the quarterly report 10-Q
filed with the Securities and Exchange Commission on August 15,
2005)
10.6 Promissory Note dated March 31, 2004 from The American
Education Corporation in favor of UMB Bank, N.A. (incorporated
by reference to the exhibit in the quarterly report 10-Q
filed with the Securities and Exchange Commission on August 15,
2005)
10.7 Employment Agreement with Jeffrey E. Butler dated December 5,
1998 (incorporated by reference to the exhibit in the quarterly
report 10-Q filed with the Securities and Exchange Commission
on August 15, 2005)
10.8 Employment Agreement with Thomas A. Shively dated December 5,
1998 (incorporated by reference to the exhibit in the quarterly
report 10-Q filed with the Securities and Exchange Commission
on August 15, 2005)
10.9 Employment Agreement with Neil R. Johnson dated December 5,
1998 (incorporated by reference to the exhibit in the quarterly
report 10-Q filed with the Securities and Exchange Commission
on August 15, 2005)
10.10 Promissory Note dated October 16, 2000 from Jeffrey E. Butler
in favor of the Company (filed herewith)
10.11 Promissory Note dated September 30, 2004 from the Company in
favor of John Garber (filed herewith)
10.12 Promissory Note dated September 30, 2004 from the Company in
favor of Janis L. Butler (filed herewith)
11 Statement re: computation of per share earnings (filed
herewith)
21 Subsidiaries of The American Education Corporation (filed
herewith)
23.1 Consent of Steakley, Gilbert and Morgan
31.1 Certification of Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
Item 14. Principal Accountant Fees and Services
- -------- --------------------------------------
Audit Fees. The aggregate fees of Steakley, Gilbert, & Morgan, P.C. for
professional services rendered for the audit of the Company's annual
financial statements for the years ended December 31, 2004 and 2003, and
the review of the financial statements included in the Company's Forms 10-
QSB totaled $28,225 and $24,000, respectively.
Audit-Related Fees. The aggregate fees billed by Steakley, Gilbert, &
Morgan, P.C. for audit related services for the years ended December 31,
2004 and 2003, and are not disclosed in "Audit Fees" above, were $6,300
and $-0-, respectively.
Tax Fees. The aggregate fees billed by Steakley, Gilbert, & Morgan, P.C.
for tax compliance for the years ended December 31, 2004 and 2003 were
$8,325 and $7,800, respectively.
All Other Fees. The aggregate fees billed by Steakley, Gilbert, & Morgan,
P.C. for services, other than those described above, for the years ended
December 31, 2004 and 2003 were $-0- and $-0-, respectively.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
The American Education Corporation
September 8, 2005 By:/s/Jeffrey E. Butler
------------------------
Jeffrey E. Butler,
Chief Executive Officer
Chairman of the Board
Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Name Title Date
- ----------------- ------------------------- -----------------
Jeffrey E. Butler /s/Jeffrey E. Butler September 8, 2005
Chief Executive Officer
Chairman of the Board
Treasurer
Neil R. Johnson /s/Neil R. Johnson September 8, 2005
Chief Financial Officer
Chief Accounting Officer
Monty C. McCurry /s/Monty C. McCurry September 8, 2005
Director
Newton W. Fink /s/Newton W. Fink September 8, 2005
Director
Stephen E. Prust /s/Stephen E. Prust September 8, 2005
Director
The American Education Corporation
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
Item Page No.
- ----------------------------------------------- --------
Independent Auditors' Report F-1
Financial Statements:
Consolidated Balance Sheet, December 31, 2004 F-2
Consolidated Statements of Income for the years
ended December 31, 2004 and 2003 F-3
Consolidated Statements of Changes In Stockholders'
Equity for the years ended December 31, 2004 and 2003 F-4
Consolidated Statements of Cash Flows for the years
ended December 31, 2004 and 2003 F-5
Notes to Consolidated Financial Statements F-7
All schedules are omitted as the required information is included in
the financial statements or notes thereto or is not present in
sufficient amounts.
--------------------------------
INDEPENDENT AUDITORS' REPORT
- ----------------------------
To Board of Directors and Stockholders
The American Education Corporation
Oklahoma City, Oklahoma
We have audited the consolidated balance sheet of The American Education
Corporation as of December 31, 2004 and the related consolidated
statements of income, changes in stockholders' equity, and cash flows for
each of the two years in the period ended December 31, 2004. These
financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards
require that we plan and perform the audits to obtain reasonable assurance
about whether the financial statements are free of material misstatement.
An audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements. An audit also
includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of The
American Education Corporation as of December 31, 2004 and the
consolidated results of its operations and cash flows for each of the two
years in the period ended December 31, 2004, in conformity with U.S.
generally accepted accounting principles.
STEAKLEY, GILBERT & MORGAN
Oklahoma City, Oklahoma
March 23, 2005
(Except for Note 15, which is dated September 1, 2005)
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED BALANCE SHEET
December 31, 2004
ASSETS
Current assets:
Cash and cash equivalents $ 549,343
Accounts receivable, net of allowance for
returns and uncollectible accounts of
$250,000 (Note 1) 2,146,264
Inventory (Note 1) 14,485
Prepaid expenses and deposits 305,897
Deferred tax asset (Note 6) 86,542
-----------
Total current assets 3,102,531
Property and equipment, at cost (Note 1) 1,308,735
Less accumulated depreciation and amortization (1,164,389)
-----------
Net property and equipment 144,346
Other assets:
Capitalized software costs, net of accumulated
amortization of $7,652,777 (Note 1) 3,815,680
Goodwill, net of impairment (Note 1) 1,215,015
-----------
Total other assets 5,030,695
-----------
Total assets $ 8,277,572
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable trade $ 285,261
Accrued liabilities (Note 11) 693,122
Deferred revenue 654,337
Notes payable and current portion of long-term
debt (Note 4) 371,862
-----------
Total current liabilities 2,004,582
Other long-term accrued liabilities (Note 10) 470,475
Deferred income tax liability - Long-term (Note 6) 103,921
Long-term debt (Note 4) 305,880
-----------
Total liabilities 2,884,858
-----------
Commitments and contingencies (Notes 5, 7, 10 and 12) --
Stockholders' Equity (Note 3)
Preferred Stock $.001 par value;
Authorized-50,000,000 shares, issued and
outstanding-none; liquidation preference-$.02 per share --
Common Stock, $.025 par value;
Authorized 30,000,000 shares; issued and outstanding-
14,133,461 shares 359,186
Additional paid in capital 6,698,817
Treasury stock, at cost, 234,000 shares (319,125)
Retained deficit (1,346,164)
-----------
Total stockholders' equity 5,392,714
-----------
Total liabilities and stockholders' equity $ 8,277,572
===========
See accompanying notes and accountants' report.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2004 and 2003
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
Years ended December 31, 2004 and 2003
2004 2003
------------ --------------
Sales $10,186,517 $ 8,230,285
Cost of goods sold 1,398,246 1,350,977
------------ ------------
Gross Profit 8,788,271 6,879,308
------------ ------------
Operating expenses:
Selling and marketing 3,628,550 2,341,607
Operations 501,401 435,999
General and administrative 1,978,757 1,938,629
Amortization of capitalized
software costs 1,413,889 1,296,153
------------ ------------
Total operating expenses 7,522,597 6,012,388
------------ ------------
Operating income from
continuing operations 1,265,674 866,920
Other income (expense):
Interest expense (61,058) (68,556)
------------ ------------
Income from continuing
operations before income
taxes 1,204,616 798,364
Deferred income tax expense 493,673 366,106
------------ ------------
Income from continuing
operations 710,943 432,258
Loss from discontinued operations
(net of tax benefits 2004 -
$1,016,897; 2003 - $72,338)
(Note 15) (1,054,203) (258,681)
------------ ------------
Net income (loss) $ (343,260) $ 173,577
============ ============
Earnings per share: (Note 13)
Basic and diluted:
Continuing operations $ .05 $ .03
Discontinuing operations $ (.07) $ (.02)
Net income (loss) $ (.02) $ .01
See accompanying notes and accountants' report.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years ended December 31, 2004 and 2003
Additional Retained
Common Stock paid in Treasury Earnings
Shares Amount Capital Stock (Deficit)
-------------------- ---------- ---------- -----------
Balance at
December 31, 2002 14,280,961 $357,874 $6,649,240 $ (19,125) $(1,176,481)
Issuance of common
stock for cash and
services 52,500 1,312 2,363
Repurchase common stock,
at cost (200,000) (300,000)
Net income 173,577
Comprehensive Income adjustment:
Foreign currency
translation 22,527
---------- -------- ---------- --------- -----------
Balance at
December 31, 2003 14,133,461 359,186 6,674,130 ( 319,125) (1,002,904)
Net loss (343,260)
Comprehensive Income adjustment:
Foreign currency
translation 24,687
---------- -------- ---------- --------- -----------
Balance at
December 31, 2004 14,133,461 $359,186 $6,698,817 $(319,125) $(1,346,164)
========== ======== ========== ========= ===========
See accompanying notes and accountants' report.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 2004 and 2003
2004 2003
----------- -----------
Cash flows from operating activities:
Net income (loss) $ (343,260) $ 173,577
Adjustments to reconcile net income
(loss) to net cash provided by
operating activities:
Depreciation and amortization 2,768,465 1,617,405
Increase in reserve for bad debts 25,000 122,691
Services rendered for common stock -- 3,675
Deferred compensation 234,000 64,920
Foreign currency translation 24,687 22,527
Changes in assets and liabilities:
Accounts receivable 619,063 (911,999)
Inventories 1,966 19,993
Prepaid expenses and deposits (131,415) (111,724)
Accounts payable and accrued liabilities (604,125) (65,333)
Accounts payable - Affiliate -- (60,000)
Deferred revenue 44,637 371,620
Deferred income taxes (501,061) 366,108
----------- -----------
Net cash provided by operating
activities 2,137,957 1,613,460
----------- -----------
Cash flows from investing activities:
Purchase of property and equipment (53,264) (57,179)
Software development costs capitalized (1,372,955) (1,289,693)
----------- -----------
Net cash used in investing activities (1,426,219) (1,346,872)
----------- -----------
Cash flows from financing activities:
Proceeds received from issuance of debt -- 300,000
Principal payments on notes payable (379,071) (424,317)
----------- -----------
Net cash used in financing activities (379,071) (124,317)
----------- -----------
Net increase in cash 332,667 142,271
Cash at beginning of year 216,676 74,405
----------- -----------
Cash at end of year $ 549,343 $ 216,676
=========== ===========
Interest paid in cash $ 62,263 $ 70,121
=========== ===========
Income taxes paid $ 14,766 $ --
=========== ===========
See accompanying notes and accountants' report.
THE AMERICAN EDUCATION CORPORATION
SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
Years Ended December 31, 2004 and 2003
During 2003 the Company issued 52,500 shares of common stock valued at
$3,675 for services provided by outside directors and distributors, and
received 200,000 shares of its common stock as payment for a note receivable
of $300,000.
See accompanying notes and accountants' report.
THE AMERICAN EDUCATION CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2004
1. Summary of significant accounting policies
------------------------------------------
The summary of significant accounting policies of The American Education
Corporation ("the Company") is presented to assist in understanding the
Company's financial statements. These accounting policies conform to
generally accepted accounting principles and have been consistently
applied in the preparation of the financial statements.
Principles of consolidation
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. All material intercompany accounts and
transactions have been eliminated.
History and business activity
The American Education Corporation (formerly Plasmedics, Inc.) was
incorporated under the laws of the State of Colorado on February 23, 1981.
Through 1986, the Company's principal purpose was to manufacture and
market medical devices and medical technology. The Company's activities
from inception through 1984 were directed toward raising equity capital,
acquisition of license and patent rights and research and development.
From 1986 through 1990, the Company was essentially inactive and seeking
acquisition or merger candidates.
On January 8, 1991, the Company purchased substantially all of the assets
of American Educational Computer, Inc., and assumed specific trade
accounts payable and other accrued liabilities related to that business.
On August 15, 1991, Plasmedics, Inc., changed its name to The American
Education Corporation ("AEC"). AEC's principal business is the
development of educational computer software and its distribution to
retail outlets and school districts nationally.
On November 25, 1998, effective October 1, 1998, the Company purchased the
business of Learning Pathways, Limited, ("LPL"), an entity organized under
the laws of the United Kingdom, pursuant to an Agreement between the
Company and the stockholders of LPL. The transaction was accounted for
using purchase method accounting. The business of LPL principally is to
distribute the Anywhere Learning System in the United Kingdom. As of
December 31, 2004 the subsidiary is considered as an asset held for
sale and a provision for impairment of $1,150,000 has been recognized as
an operating expense in the consolidated statements of income. The results
of regular operations of LPL are also included in the consolidated
statements of income for the two years ended December 31, 2004. No
dividends were received from the foreign entity.
During 1999, the Company acquired 100% of the capital stock of Dolphin,
Inc., ("Dolphin") a New Jersey corporation. The acquisition was accounted
for using purchase method accounting. Results of Dolphin's operations are
included in the consolidated income statements for the two years ended
December 31, 2004. Dolphin provides software design services for
unaffiliated customers.
Revenue recognition
The Company recognizes revenue in accordance with the American Institute
of Certified Public Accountant's Statement of Position 97-2 and 98-9 on
software revenue recognition. The Company has recognized revenue and a
like amount of expense on products traded for advertising and promotional
services. Sales revenue and selling and marketing expense include
approximately $259,145 and $244,445 of such non-monetary transactions for
the years ended December 31, 2004 and 2003, respectively. Revenue for
software design services at Dolphin is recognized on the percentage-of-
completion method.
The Company has adopted revenue recognition policies regarding sales with
multiple deliverables which comply with Emerging Issues Task Force Issue
No. 00-21, "Revenue Arrangements with Multiple Deliverables," which became
effective July 1, 2003. Revenues from technical service contracts are
deferred and amortized ratably over the period of the service contract.
Capitalized software costs
Capitalized software costs consist of licenses for the rights to produce
and market computer software, salaries and other direct costs incurred in
the production of computer software and costs to defend the Company's
trademark. The Company accounts for software capitalization under the
guidelines of FASB 86. Costs incurred in conjunction with product
development are charged to research and development expense until
technological feasibility is established. Thereafter, all software
development costs are capitalized and amortized on a straight-line basis
over the product's estimated economic life of between three and five
years. Capitalized software costs at January 1, 2004 were $10,095,502
with $1,372,955 additional costs capitalized during 2004. Amortization
expense totaled $1,572,654 in 2004 and $1,446,373 in 2003. Capitalized
software costs are reviewed for potential impairment whenever events or
circumstances indicate that carrying amounts may not be recoverable.
Goodwill
Goodwill represents the excess of the cost of purchased companies over the
fair value of their net assets at dates of acquisition. Goodwill is
reviewed for possible impairment at least annually or more frequently
upon the occurrence of an event or when circumstances indicate that the
carrying amount is greater than its fair value. During 2004, the Company
determined that the carrying amount of LPL's goodwill exceeded its fair
value, accordingly, a goodwill impairment loss of $625,431 was recognized.
(See Note 15.) The changes in the carrying amount of goodwill for the
year ended December 31, 2004, are as follows:
Learning
Dolphin Pathways Total
---------- ----------- -----------
Balance as of
January 1, 2004 $1,215,015 $ 625,431 $1,840,446
Impairment losses -- (625,431) ( 625,431)
---------- ---------- ----------
Balance as of
December 31, 2004 $1,215,015 $ -- $1,215,015
========== ========== ==========
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or
market and consist of packaging and educational software materials.
Property and equipment
Property and equipment is stated at cost. Depreciation is provided on the
straight-line basis over the estimated useful life of the assets, which is
five years. Depreciation expense totaled $131,616 and $171,032 for 2004
and 2003, respectively. The components of property and equipment at
December 31, 2004, are as follows:
Furniture, fixtures and office equipment $ 692,750
Computers and software 583,344
Leasehold improvements 32,641
----------
1,308,735
Less: accumulated depreciation (1,164,389)
----------
Net property and equipment $ 144,346
Stock Options
The Company has historically measured compensation from issuing employee
stock options under the accounting prescribed by APB Opinion No. 25,
"Accounting for Stock Issued to Employees" which is an intrinsic value
method. Subsequent accounting pronouncements FAS 123 and FAS 148,
"Accounting for Stock Based Compensation," establish financial accounting
and reporting standards for stock-based employee compensation plans. FAS
123 defines a fair value based method of accounting for an employee stock
option. FAS 148 amends FAS 123 to provide alternative methods of
transition for an entity that voluntarily changes to the fair value based
method of accounting for stock-based employee compensation. The Company
plans to continue to use the intrinsic value method for stock-based
compensation until new accounting standards are finalized by the FASB.
Accordingly, the compensation cost for stock options has been measured as
the excess, if any, of the quoted market price of Company stock at the
date of the grant over the amount the employee must pay to acquire the
stock. The compensation cost is recognized over the vesting period of the
options. Hence, no compensation is incurred unless the market value is
greater than the option exercise price.
Pro forma information regarding net income (loss) and earnings (loss) per
share is required by FAS 123, and has been determined as if the Company
had accounted for its employee stock options under the fair value method
of that Statement. The Company is continuing to utilize the intrinsic
value-based method for accounting for employee stock options or similar
equity instruments.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
Company's pro forma income and earnings/(loss) per share are as follows
for the year ended:
2004 2003
---------- ----------
Net income/(loss) - as reported $(343,260) $ 173,577
Stock -based employee compensation
expense - pro forma 35,467 13,125
--------- ---------
Net income/(loss) - pro forma $(378,727) $ 160,452
========= =========
Basic earnings/(loss) per common
share-as reported $(.02) $.01
Diluted earnings/(loss) per common
share as reported (.02) .01
Basic earnings/(loss) per common
share - pro forma $(.02) $.01
Diluted earnings/(loss) per common
share-pro forma (.02) .01
Statements of cash flows
In the consolidated statements of cash flows, cash and cash equivalents
may include currency on hand, demand deposits with banks or other
financial institutions, treasury bills, commercial paper, mutual funds or
other investments with original maturities of three months or less.
Use of estimates
The preparation of the financial statements in conformity with U.S.
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
2. Options to purchase common stock
--------------------------------
The shareholders approved an Incentive Stock Option Plan for employees
during 1998 and approved amendments to the plan in 1999, 2000 and 2001 to
increase the number of shares available. The total shares issuable under
this plan are 2,650,000. The Committee of this Plan determines the
employees who will receive options to purchase common shares and the
number granted. Option prices will be the fair market value at date of
grant. Options are exercisable as deemed by the Committee and terminate
within ninety days of employment termination, or as designated by the
Committee. In no event shall an option be exercisable more than ten years
from the date it is granted. No options may be issued under this Plan
after March 31, 2008.
The shareholders also approved a Director's Stock Option Plan during 1998
and approved an amendment to the Plan in 2001 to increase the number of
shares available. The total shares issuable under this Plan are 200,000.
Each outside director initially elected or appointed shall be granted an
option to purchase 5,000 shares of common stock at the fair market value
at the date of the grant. Additionally, each outside director shall
automatically be granted an option to purchase 3,000 shares of common
stock as of January 1 of each succeeding calendar year, if options are
available, through termination of the Plan on March 31, 2008. Options
granted are exercisable immediately and for a period of three years after
the date of the grant or, if earlier, ninety days after the date when the
participant ceases to be a director of the Company.
The Company's non-qualified stock option plan originated in 1996. The
following table summarizes stock option plan activity:
(In Shares)
--------------------------
1998 1998
1996 Plan Directors Plan Employee Plan Total
--------- -------------- ------------- ---------
Number of shares under
options outstanding as of:
December 31, 2003 1,364,576 199,998 2,099,334 3,663,908
Shares granted 784,076 63,000 105,000 952,076
Shares exercised -- -- -- --
Shares expired (786,076) (63,000) (184,333) (1,033,409)
--------- ------- --------- ---------
December 31, 2004 1,362,576 199,998 2,020,001 3,582,575
========= ======= ========= =========
Option price
range per share $.13 - $.47 $.13 - $.35 $.25 - $.35
In November 2004, the Company extended the expiration date of 595,000
stock options, originally granted in 2002 with an expiration in February
2005, to December 31, 2008. The original exercise price was $.25 per
share, the market value at date of grant. The exercise price of the
options remains the same, however, since the market value of the Company's
common stock was $.27 per share at the date the modification of terms was
made, the Company has recorded compensation expense of $11,900.
3. Common and preferred stock
--------------------------
There were no common stock transactions during 2004.
4. Notes Payable and Long-term debt
--------------------------------
The Company had the following indebtedness under notes and loan
agreements:
Current Long-term Total
------- --------- ----------
Line of credit with bank,
originated December 23, 1999,
matures November 30, 2005;
initial line - $1,145,000,
payments of $24,000 per month
plus interest at the bank's
prime rate plus 2% (7.25% at
December 31, 2004), remaining
principal due at maturity,
secured by accounts receivable
and inventory $255,761 $ -- $ 255,761
Lines of credit with bank,
originated April 30, 1999, to
December 23,1999, matures
March 31, 2005; maximum line -
$450,000, interest at the bank's
prime rate plus 2.5% (7.75% at
December 31, 2004), payable
monthly, principal due at
maturity, secured by accounts
receivable and inventory 112,895 -- 112,895
Installment notes payable to
bank, originated, December 4, 2001 ,
matures June 4, 2005; principal and
interest due in monthly payments
of $734, interest at bank's
prime rate plus .25%, (5.50% at
December 31, 2004); secured by
equipment 3,206 -- 3,206
Subordinated debt due to
shareholder affiliates,
originated April 1, 2003,
matures September 30, 2006;
interest at 8% payable quarterly,
principal due at maturity,
convertible into the Company's
common stock at $.40 per share -- 305,880 305,880
-------- -------- ----------
$371,862 $305,880 $ 677,742
======== ======== ==========
Aggregate maturities of notes payable are as follows:
2005 $ 371,862
2006 305,880
----------
$ 677,742
==========
5. Operating leases
----------------
The Company leases office space in Oklahoma City, Oklahoma, under an
agreement renewed December 31, 2002 at $12,587 a month. The agreement
expires December 31, 2005.
The Company leases automobiles and certain office equipment with lease
payments totaling $6,868 per month. The agreements expire in October 2007
to February 2008.
Dolphin, Inc., a wholly owned subsidiary leases office space in Voorhees,
New Jersey, for $4,922 a month under a lease agreement expiring May 31,
2009. Dolphin, Inc. leases equipment for $540 a month until May 2009.
Learning Pathways, Limited, a wholly owned subsidiary, leases office space
in the United Kingdom. Monthly rent approximates $1,580. The lease renews
each month for a period of ninety days.
Total lease expense was $369,238 for 2004 and $372,948 for 2003.
Future rental commitments under lease agreements are as follows:
2005 $ 273,975
2006 113,215
2007 88,124
2008 67,303
2009 27,310
6. Income taxes
------------
Deferred tax liabilities and assets are recognized for the expected future
tax consequences of events that have been included in the financial
statements or tax returns, determined by using the enacted tax rates in
effect for the year in which the differences are expected to reverse.
The following is a reconciliation of the statutory federal income tax rate
to the Company's effective income tax rate:
2004 2003
------- -------
Statutory federal income tax rate (34.0%) 34.0%
State income taxes (6.0%) 6.0%
Nondeductible expenses 1.1% 6.4%
Foreign loss taxed at different rate (21.5%) 16.5%
----- -----
Effective income tax rate (60.4%) 62.9%
===== =====
Deferred tax liabilities and assets at December 31, 2004 are comprised of
the following:
Deferred tax liabilities:
Capitalized software $1,526,271
----------
Total deferred tax liabilities 1,526,271
Deferred tax assets:
Receivables allowance 80,000
Net operating loss carryforward 1,211,110
Vacation accrual and deferred compensation 194,732
Plant and equipment and related depreciation 23,050
----------
Total deferred tax assets 1,508,892
----------
Net liability $ (17,379)
==========
Net deferred tax asset $ 86,542
Net deferred tax liability (103,921)
----------
Net liability $ (17,379)
==========
A deferred tax asset has been recorded for the tax benefit of the net
operating loss carryforward. No valuation allowance has been recorded
against the deferred tax asset.
The Company has available U.S. net regular tax and alternative minimum tax
operating loss carryforwards of approximately $3,027,000 and $3,184,000,
respectively, expiring between the years 2021 and 2024.
7. Royalty agreements
------------------
Several of the Company's software titles are authored by independent
consultants for which royalty agreements exist. These agreements call for
quarterly payments based upon a percentage of the net sales of the
particular titles. These agreements expire in the years 2005 to 2010.
Royalty expense totaled $62,640 and $87,231 in 2004 and 2003,
respectively.
8. Related party transactions
--------------------------
The Company is indebted to two major shareholder affiliates for
convertible subordinated debt in the amount of $305,880, which was
advanced in April 2003 with an original maturity of April 2005. The debt
bears interest at 8% and the interest is payable quarterly. In September
2004, the maturity date of the debt was extended to September 2006. The
debt is subordinated to the debt owed the Company's senior lender and is
convertible at any time before maturity into the Company's common stock at
$.40 per share.
9. Significant customers and concentration of credit risk
------------------------------------------------------
Accounts Receivable
- -------------------
The Company sells its products almost exclusively to schools through
various distributors of educational materials.
No individual customer accounted for more than 10% of sales in 2004 or
2003.
The Company reserves for returns and bad debts in the normal course of its
operations. Management feels the allowance is sufficient to cover any
losses from uncollectible trade receivables.
Cash
- ----
The Company maintains its bank accounts with three financial institutions,
Cash deposits in excess of FDIC limits were approximately $441,000 at
December 31, 2004.
10. Commitments and contingencies
-----------------------------
The Company amortizes capitalized software costs over the products
estimated useful life. Due to inherent technological changes in the
software development industry, the period over which such capitalized
software costs are being amortized may have to be accelerated. Software
costs are carried in the accompanying balance sheet net of amortization.
The Company has employment agreements with its officers which include
salary terms and severance benefits. The Company has a deferred
retirement benefit agreement with its executive officers and has
accrued $470,475 as of December 31, 2004. Deferred benefit expense was
$234,000 in 2004 and $64,920 in 2003, respectively.
11. Accrued liabilities
-------------------
Accrued liabilities are comprised of the following at December 31, 2004:
Accrued interest $ 2,409
Accrued payroll, taxes and benefits 77,170
Accrued commissions and royalties 551,202
Accrued professional fees 15,600
Accrued - other 46,741
---------
$ 693,122
=========
12. Litigation
----------
The Company may be the subject of various legal proceedings that could
arise during the normal course of business. However, management knows of
no pending or threatened litigation involving the Company that is
considered material to the on-going operations and viability of the
Company.
13. Earnings per share
------------------
Basic earnings per share are computed by dividing earnings available to
common stockholders by the weighted average number of common shares
outstanding during the period. Diluted earnings per share reflect per
share amounts that would have resulted if dilutive potential common stock
had been converted to common stock.
The weighted average number of basic and diluted common shares outstanding
is as follows:
2004 2003
---------- ----------
Basic 14,133,461 14,324,714
Diluted 15,801,795 15,628,899
Employee stock options are included in the number of diluted common shares
using the treasury stock method.
14. Employee benefit plans
----------------------
The Company adopted a 401(k) Plan effective January 1, 1999. The Plan
allows eligible employees to defer part of their income on a tax-favored
basis into the Plan. The Plan is subject to the provisions of the
Employee Retirement Income Security Act of 1974 (ERISA). The Company may
make contributions to the Plan as a matching percentage or as a lump sum
amount determined annually. There were no matching contributions in 2004
and 2003.
15. Discontinued operations
-----------------------
In early 2005, the Company made the decision to seek a buyer for its
foreign subsidiary, Learning Pathways Ltd. due to continuing losses. The
Company impaired the value of its foreign assets by $1,150,000 as of
December 31, 2004. The Company anticipates the foreign operations will
cease during the year 2005. As a result, the Statements of Income for the
two years ended December 31, 2004 have been restated to reflect the
operations of Learning Pathways, Ltd. as discontinued. Costs of disposal
will be immaterial. Foreign assets and liabilities at December 31, 2004
were negligible and no separate balance sheet disclosure is considered
necessary.
Exhibit 10.10
NOTE PAYABLE
Oklahoma City, Oklahoma
Dated: October 26, 2000
$300,000.00
The Board of Directors (the "Board") of the Corporation has authorized a
loan of funds to Jeffrey E. Butler, the Company's Chief Executive Officer,
that is secured by the Corporation under a transaction with UMB Bank. The
intent of this action is to provide Mr. Butler with the funds to provide
for a cash settlement in the division of the marital estate in the divorce
proceedings with his wife, Carolyn L. Butler. The Board has taken this
action to avoid division of Mr. Butler's common stock holdings in the
Corporation as a result of this proceeding. The Board believes that
significant share holdings in the hands of Mrs. Butler will adversely
affect both share price and efforts to improve share price as a result of
Mrs. Butler's potential sale of stock. The Board also wishes to ensure
Mr. Butler's continued motivation and incentive to effectively manage the
business and to increase share value.
Accordingly, FOR VALUE RECEIVED, Jeffrey E. Butler (the "Maker") promises
to pay to The American Education Corporation (the "Payee"), at the
principal office of the Payee at 7506 N. Broadway Extension, Suite 505,
Oklahoma City, OK 73116, the principal amount of THREE HUNDRED THOUSAND
DOLLARS ($300,000.00), together with interest at the rate stated herein
on such outstanding principal amount.
The unpaid principal amount hereof from time to time outstanding shall
bear interest from the date hereof at a rate equal to the rate per annum
that the Payee pays on its lowest rate loans at UMB Bank, N.A. Interest
shall be computed on the actual number of days elapsed on the basis of a
year consisting of 360 days.
The principal amount of this note and all interest accrued but not yet
paid shall be paid in a single payment due October 26, 2003, unless
extended by the holder within the holder's sole discretion. The note may
be prepaid in whole or in part at any time without penalty.
Payments of both principal and interest are to be made in lawful money of
the United States of America.
The Maker and Payee have mutually agreed that the funds advanced to the
Maker are to be used only for expenses associated with a divorce
settlement including cash payments made as a part of such settlement and
for legal fees and other costs associated with the division of personal
property and not for any other purpose.
This Note is made under and governed by the laws of the State of Oklahoma.
This Note may be prepaid in whole or in part without penalty, and any such
prepayment shall be applied to accrued interest and then to principal.
/s/ Jeffrey E. Butler
- ---------------------
Jeffrey E. Butler
Exhibit 10.11
SENIOR, SUBORDINATED PROMISSORY NOTE
$105,880 September 30, 2004
As hereinafter provided, for value received, The American Education
Corporation ("the Payor") jointly and severally promises to pay to the
order of John Garber or his assigns ("the Payee"), One Hundred Five
Thousand Eight Hundred Eighty Dollars ($105,880), with interest at the
rate of 8% percent per annum, payable in full two years from the date
hereof. Interest shall be payable quarterly, beginning with the quarter
ending December 31, 2004.
The sums due under this promissory note ("the Note") may be exchanged for
common stock of the Payor at any time before this Note is paid in full,
based upon a purchase price of $0.40 per share.
IT IS AGREED that the Payor will assign a senior, subordinated only to the
debt that the Payor may have to assign from time-to-time to banking or
institutional investor interests, a security position it Payor's current,
fixed and long-term assets, all of its intellectual property to secure the
obligations of the Note to the Payee.
IT IS AGREED that if the Payor is required to raise additional capital
from other investment sources at terms, defined as the interest rate or
the conversion formula of debt to common stock, that are less favorable to
the terms to the Payee contained herein, that the Payor shall
automatically be required to adjust the appropriate terms of the Note to
reflect the identical terms provided to other investment sources.
IT IS FURTHER AGREED by the makers that if this Note is not paid when due
or declared due hereunder, the principal and accrued interest therein
shall draw interest at the rate of ten percent per annum, and that failure
to make any payment of principal or interest when due or any default under
any encumbrance or agreement securing this Note shall cause the whole Note
to become due at once, or the interest to be counted as principal, at the
option of the Payee. The Payor hereof severally waives presentment for
payment, protest, notice of nonpayment and of protest, and agree to any
extensions of time of payment and partial payments before, at or after
maturity, and if this Note or interest thereon is not paid when due, agree
to pay all reasonable costs of collection, including reasonable attorney's
fees, and also waive all exemptions in case of suit on this Note.
The Oklahoma courts shall have sole jurisdiction in connection with any
civil action brought in connection with this Note.
Executed this 30th day of September 2004.
THE AMERICAN EDUCATION CORPORATION
By /s/ Jeffrey E. Butler
------------------------------------------
Jeffrey E. Butler, Chief Executive Officer
Exhibit 10.12
SENIOR, SUBORDINATED PROMISSORY NOTE
$200,000 September 30, 2004
As hereinafter provided, for value received, The American Education
Corporation ("the Payor") jointly and severally promises to pay to the
order of Janis L. Butler ("the Payee"), Two Hundred Thousand Dollars
($200,000), with interest at the rate of 8% percent per annum, payable in
full two years from the date hereof. Interest shall be payable quarterly,
beginning with the quarter ending December 31, 2004.
The sums due under this promissory note ("the Note") may be exchanged for
common stock of the Payor at any time before this Note is paid in full,
based upon a purchase price of $.40 per share.
Payment of this Note by Payor shall not be subject to any offset rights
for any sums owed to the Payor by Jeffrey Butler regardless of the nature
of any such obligation. Accordingly, it shall not be a defense by the
Payor for failure or refusal to pay Payee hereunder that any such sums are
due to the Payor by Jeffrey Butler or that Payor has any claims against
Jeffrey Butler. In the event of the death, disability or the departure of
Jeffrey Butler from the employment of the Payor, for any reason, the
obligations of the Payor are immediately due in full, together with all
interest accrued at that date.
IT IS AGREED that the Payor will assign a senior, subordinated only to the
debt that the Payor may have to assign from time to time to banking
interests, a security position it Payor's current, fixed and long-term
assets, all of its intellectual property to secure the obligations of the
Note to the Payee.
IT IS FURTHER AGREED by the makers that if this Note is not paid when due
or declared due hereunder, the principal and accrued interest therein
shall draw interest at the rate of ten percent per annum, and that failure
to make any payment of principal or interest when due or any default under
any encumbrance or agreement securing this Note shall cause the whole Note
to become due at once, or the interest to be counted as principal, at the
option of the Payee. The Payor hereof severally waives presentment for
payment, protest, notice of nonpayment and of protest, and agree to any
extensions of time of payment and partial payments before, at or after
maturity, and if this Note or interest thereon is not paid when due, agree
to pay all reasonable costs of collection, including reasonable attorney's
fees, and also waive all exemptions in case of suit on this Note.
The Oklahoma courts shall have sole jurisdiction in connection with any
civil action brought in connection with this Note.
Executed this 30th day of September 2004.
THE AMERICAN EDUCATION CORPORATION
By /s/ Neil Johnson
-------------------------------------
Neil Johnson, Chief Financial Officer
Exhibit 11
Statement re: computation of per share earnings
Basic earnings per share are computed by dividing earnings available to
common stockholders by the weighted average number of common shares
outstanding during the period. Diluted earnings per share reflect per
share amounts that would have resulted if dilutive potential common stock
had been converted to common stock.
The weighted average number of basic and diluted common shares outstanding
is as follows:
2004 2003
---------- ----------
Basic 14,133,461 14,324,714
Diluted 15,801,795 15,628,899
Employee stock options are included in the number of diluted common shares
using the treasury stock method.
Exhibit 21
Subsidiaries of The American Education Corporation
Projected Learning Programs, Inc., an Oklahoma corporation (Inactive)
Learning Pathways, Limited, a United Kingdom corporation
Dolphin, Inc., a New Jersey corporation
Exhibit 23.1
Consent of Independent Auditors
We consent to the incorporation by reference in the Registration Statement
(Form S-8) filed October 22, 1999, pertaining to The American Education
Corporation Stock Option Plan for Employees and The American Education
Corporation Directors' Stock Option Plans of our report dated March 23,
2005, (except for Note 15 which is dated September 1, 2005) with respect
to the consolidated financial statement of The American Education Corporation
included in its Annual Report (Form 10-KSB/A) for the year ended December 31,
2004, filed with the Securities and Exchange Commission.
Steakley, Gilbert, & Morgan, P.C.
September 8, 2005
Oklahoma City, Oklahoma
Exhibit 31.1
CERTIFICATIONS
- --------------
I, Jeffrey E. Butler, certify that:
1. I have reviewed this annual report on Form 10-KSB/A of The American
Education Corporation;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this annual report, fairly present in
all material respects the financial condition, results of operations
and cash flows of the registrant as of, and for, the periods presented
in this report;
4. The registrant's other certifying officers and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and
have:
a) designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures as of the end of the period covered by this report
based upon such evaluation; and
c) disclosed in this report any change in the registrant's
internal control over financial reporting that occurred
during the registrant's most recent fiscal quarter (the
registrant's fourth quarter in the case of an annual report)
that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over
financial reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls over financial reporting.
Date: September 8, 2005
/s/ Jeffrey E. Butler
- ----------------------
Signature
Title: Chief Executive Officer
Exhibit 31.2
CERTIFICATIONS
I, Neil R. Johnson, certify that:
1. I have reviewed this annual report on Form 10-KSB/A of The American
Education Corporation;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this report;
3. Based on my knowledge, the financial statements, and other
financial information included in this annual report, fairly present in
all material respects the financial condition, results of operations
and cash flows of the registrant as of, and for, the periods presented
in this report;
4. The registrant's other certifying officers and I are responsible
for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and
have:
a) designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures as of the end of the period covered by this
report based upon such evaluation; and
c) disclosed in this report any change in the registrant's
internal control over financial reporting that occurred
during the registrant's most recent fiscal quarter (the
registrant's fourth quarter in the case of an annual report)
that has materially affected, or is reasonably likely to
materially affect, the registrant's internal control over
financial reporting;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls over financial reporting.
Date: September 8, 2005
/s/ Neil R. Johnson
- --------------------
Signature
Title: Chief Financial Officer
Exhibit 32.1
THE AMERICAN EDUCATION CORPORATION
Certification by Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
In connection with the Annual Report on Form 10-KSB/A of The
American Education Corporation (the "Company") for the year ended
December 31, 2004 as filed with the Securities and Exchange Commission
on the date hereof (the "Report"), I, Jeffrey E. Butler, Chief
Executive Officer of the Company, certify, pursuant to 18 U.S.C.
section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley
Act of 2002, that, to the best of my knowledge:
(1) The Report fully complies with the requirements of section
13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in
all material respects, the financial condition and result of the
operations of the Company.
By: /s/ Jeffrey E. Butler
---------------------
Jeffrey E. Butler
Chief Executive Officer
Exhibit 32.2
THE AMERICAN EDUCATION CORPORATION
Certification by Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
In connection with the Annual Report on Form 10-KSB/A of The
American Education Corporation (the "Company") for the year ended
December 31, 2004 as filed with the Securities and Exchange Commission
on the date hereof (the "Report"), I, Neil R. Johnson, Chief
Financial Officer of the Company, certify, pursuant to 18 U.S.C.
section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley
Act of 2002, that, to the best of my knowledge:
(1) The Report fully complies with the requirements of section
13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in
all material respects, the financial condition and result of the
operations of the Company.
By: /s/ Neil R. Johnson
-------------------
Neil R. Johnson
Chief Financial Officer
EXHIBIT C - 10-QSB
FORM 10-QSB
U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 2005
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE
ACT
For the Transition Period from ________ to ________
Commission File #0-11078
THE AMERICAN EDUCATION CORPORATION
-----------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
Nevada 73-1621446
- ------------------------------- ----------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
7506 North Broadway Extension, Suite 505, Oklahoma City, OK 73116
-------------------------------------------------------------------
(Address of principal executive offices)
(405) 840-6031
---------------------------
(Issuer's telephone number)
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.025 per share
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for
such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
YES X NO__
Indicate by check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). YES__ NO X
Number of shares of the issuer's common stock outstanding as of November 11,
2005: 14,133,461
Transitional Small Business Disclosure Format YES__ NO X
THE AMERICAN EDUCATION CORPORATION
INDEX
-----
Page No.
--------
PART I - FINANCIAL INFORMATION
Item 1 Consolidated Balance Sheets
September 30, 2005 and December 31, 2004 3
Consolidated Statements of Income
For the Three Months Ended September 30, 2005
and for the Three Months Ended September 30, 2004 4
For the Nine Months Ended September 30, 2005
and for the Nine Months Ended September 30, 2004 5
Consolidated Statements of Cash Flows
For the Nine Months Ended September 30, 2005
and for the Nine Months Ended September 30, 2004 6
Notes to Interim Consolidated Financial
Statements 7
Item 2 Management's Discussion and Analysis
Of Financial Condition and Results of
Operations 11
Item 3 Controls and Procedures 15
PART II - OTHER INFORMATION 16
SIGNATURE PAGES 18
PART I - FINANCIAL INFORMATION
ITEM 1 - CONSOLIDATED BALANCE SHEETS
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED BALANCE SHEETS
September 30 December 31
2005 2004
------------ -----------
(unaudited) (audited)
ASSETS
Current assets:
Cash and cash equivalents $ 866,460 $ 549,343
Accounts receivable, net of allowance
for returns and uncollectible accounts
of $265,000 and $200,000 3,188,167 2,146,264
Inventory 16,344 14,485
Prepaid expenses and deposits 420,482 305,897
Deferred tax asset 107,266 86,542
----------- -----------
Total current assets 4,598,719 3,102,531
Property and equipment, at cost 1,372,480 1,308,735
Less accumulated depreciation and
amortization (1,219,229) (1,164,389)
----------- -----------
Net property and equipment 153,251 144,346
Other assets:
Capitalized software costs, net of
accumulated amortization of $8,825,140
and $7,652,777 3,766,930 3,815,680
Goodwill, net of accumulated
amortization of $-0- and $369,097 -- 1,215,015
Deferred tax asset - long-term 51,674 --
----------- -----------
Total other assets 3,818,604 5,030,695
----------- -----------
Total assets $ 8,570,574 $8,277,572
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable trade $ 67,134 $ 285,261
Accrued liabilities 1,054,443 693,122
Deferred revenue 1,031,329 654,337
Notes payable and current portion of
long-term debt 745,642 371,862
----------- -----------
Total current liabilities 2,898,548 2,004,582
Other long-term accrued liabilities 681,975 470,475
Deferred income tax liability - Long-term -- 103,921
Long-term debt -- 305,880
----------- -----------
Total liabilities 3,580,523 2,884,858
----------- -----------
Commitments and contingencies -- --
Stockholders' Equity:
Preferred Stock, $.001 par value;
Authorized - 50,000,000 shares-issued
and outstanding-none -- --
Common Stock, $.025 par value
Authorized 30,000,000 shares
Issued and outstanding - 14,133,461
shares 359,186 359,186
Additional paid in capital 6,698,817 6,698,817
Treasury stock, at cost, 234,000 shares (319,125) (319,125)
Retained deficit (1,346,164) (1,346,164)
Year-to-date earnings (402,663) --
----------- -----------
Total stockholders' equity 4,990,051 5,392,714
----------- -----------
Total liabilities and stockholders'
equity $ 8,570,574 $ 8,277,572
=========== ===========
The accompanying notes are an integral part of the financial statements.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
THREE MONTHS ENDED September 30, 2005 AND 2004
(unaudited)
2005 2004
----------- -----------
Sales $ 2,489,284 $ 2,601,412
Cost of goods sold 234,091 346,636
----------- -----------
Gross profit 2,255,193 2,254,776
Operating expenses:
Selling and marketing 960,623 809,070
Operations 163,749 124,911
General and administrative 571,610 523,610
Amortization of capitalized software
costs 409,064 362,854
----------- -----------
Total operating expenses 2,105,046 1,820,445
----------- -----------
Operating income from continuing
operations 150,147 434,331
Other income (expense):
Interest expense (13,543) (19,615)
----------- -----------
Income from continuing operations
before income taxes 136,604 414,716
Deferred income tax expense 54,642 165,886
----------- -----------
Income from continuing operations 81,962 248,830
Loss from discontinued operations (net of
tax benefits 2005 - $42,448; 2004 - $0 )
(Note 14) (63,671) (227,438)
----------- -----------
Net Income $ 18,291 $ 21,392
=========== ===========
Earnings per share:
Basic:
Continuing operations $ .006 $ .018
Discontinued operations $ (.005) $ (.016)
Net income $ .001 $ .002
Diluted:
Continuing operations $ .005 $ .016
Discontinued operations $ (.004) $ (.015)
Net income $ .001 $ .001
Weighted average common shares outstanding:
Basic 14,133,461 14,133,461
Diluted 17,074,264 15,668,711
The accompanying notes are an integral part of the financial statements.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
NINE MONTHS ENDED September 30, 2005 AND 2004
(unaudited)
2005 2004
----------- -----------
Sales $ 7,987,414 $ 7,873,473
Cost of goods sold 861,658 1,016,713
----------- -----------
Gross profit 7,125,756 6,856,760
Operating expenses:
Selling and marketing 2,733,628 2,752,851
Operations 449,206 372,638
General and administrative 1,802,744 1,401,795
Impairment of goodwill (Note15) 1,215,015 --
Amortization of capitalized software costs 1,172,364 1,040,721
----------- -----------
Total operating expenses 7,372,957 5,568,005
----------- -----------
Operating income (loss) from
continuing operations (247,201) 1,288,755
Other income (expense):
Interest expense (42,112) (50,039)
----------- -----------
Income (loss) from continuing operations
before income taxes (289,313) 1,238,716
Deferred income tax expense (benefit) (71,464) 494,645
----------- -----------
Income (loss) from continuing operations (217,849) 744,071
Loss from discontinued operations
(net of tax benefits 2005 -
$104,855; 2004 - $0 ) (Note 14) (184,814) (526,698)
----------- -----------
Net Income (loss) $ (402,663) $ 217,373
=========== ===========
Earnings per share:
Basic:
Continuing operations $ (.015) $ .052
Discontinued operations $ (.013) $ (.037)
Net income (loss) $ (.028) $ .015
Diluted:
Continuing operations $ (.013) $ .048
Discontinued operations $ (.011) $ (.034)
Net income (loss) $ (.024) $ .014
Weighted average common shares outstanding:
Basic 14,133,461 14,133,461
Diluted 17,074,264 15,668,711
The accompanying notes are an integral part of the financial statements.
THE AMERICAN EDUCATION CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004
(unaudited)
2005 2004
----------- -----------
Cash flows from operating activities:
Net income (loss) $ (402,663) $ 217,373
Adjustments to reconcile net income
(loss) to net cash provided by
(used in) operating activities:
Depreciation and amortization 2,442,218
1,255,875
Reserve for bad debts 65,000 132,014
Deferred compensation 211,500 163,500
Other -- 29,074
Changes in assets and liabilities:
Accounts receivable (1,106,903) (453,050)
Inventories (1,859) 4,091
Prepaid expenses and other (114,585) (260,433)
Accounts payable and accrued liabilities 143,194 (406,832)
Deferred revenue 376,992 266,835
Deferred income taxes (176,319) 442,560
----------- -----------
Net cash provided by operating activities 1,436,575 1,391,007
----------- -----------
Cash flow from investing activities:
Software development costs capitalized (1,123,613) (958,213)
Purchase of property and equipment (63,745) (29,456)
----------- -----------
Net cash used in investing activities (1,187,358) (987,669)
Cash flows from financing activities:
Proceeds received from issuance of debt 400,000 --
Principal payments on notes payable (332,100) (263,023)
----------- -----------
Net cash provided by financing activities 67,900 (263,023)
----------- -----------
Net increase in cash 317,117 140,315
Cash at beginning of the period 549,343 216,676
----------- -----------
Cash at end of the period $ 866,460 $ 356,991
=========== ===========
The accompanying notes are an integral part of the financial statements.
THE AMERICAN EDUCATION CORPORATION
Part I
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
FOR THE PERIODS ENDED SEPTEMBER 30, 2005 AND 2004
NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- -----------------------------------------------------------------
1. Description of Business:
-----------------------
The American Education Corporation's ("the Company") business is the
development and marketing of educational software to elementary, middle and
secondary schools, adult literacy centers and vocational, junior and
community colleges. In addition, the Company has two subsidiaries, Learning
Pathways, Ltd. ("LPL"), Derby, UK, and Dolphin, Inc. ("Dolphin"), Voorhees,
NJ. LPL modifies the Company's U.S. curriculum offering to conform to the
UK's educational system and markets these products directly to UK and other
international markets. Dolphin is a developer of educational software for
many of the nation's leading textbook and electronic publishers. As
indicated below, both of these subsidiaries' status has changed in the past
twelve months in an effort to reorganize the Company and concentrate on the
core profitable business.
In December 2004, the Company determined that the assets of LPL were
impaired and its value was written down to zero. Subsequently, it has been
classified as an asset held for sale and, therefore, its operations are
shown as discontinued. On November 7, 2005, subsequent to the closing of
this reporting period, the Company transferred all of the stock of LPL to
Learning.com who has assumed the responsibility for the LPL operations. The
Company expects to incur approximately $60,000 in additional expenses
related to its disposition of LPL in the fourth quarter of 2005. Under the
terms of the agreement with Learning.com, the Company will receive royalties
on sales of its product by LPL beginning in January 2006.
Effective June 2005, the Company determined that the goodwill of the Dolphin
subsidiary was impaired and it was written off. The Company is exiting the
software development business for outside customers and will be transferring
certain Dolphin employees to the Company's payroll to enhance internal
development efforts.
2. Basis of Presentation:
---------------------
The summary of significant accounting policies of the Company is presented
to assist in understanding the Company's financial statements. These
accounting policies conform to generally accepted accounting principles and
have been consistently applied in the preparation of the financial
statements.
The Company's consolidated financial statements include the Company and its
wholly owned subsidiaries. All material intercompany transactions have been
eliminated.
The interim consolidated financial statements at September 30, 2005, and for
the three and nine-month periods ended September 30, 2005 and 2004 are
unaudited, but include all adjustments that the Company considers necessary
for a fair presentation. The December 31, 2004 balance sheet was derived
from the Company's audited financial statements.
The accompanying unaudited financial statements are for the interim periods
and do not include all disclosures normally provided in annual financial
statements. They should be read in conjunction with the Company's audited
financial statements included in the Company's Form 10-KSB/A for the year
ended December 31, 2004. The accompanying unaudited interim financial
statements for the three and nine month periods ending September 30, 2005
are not necessarily indicative of the results that can be expected for the
entire year.
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported revenues and expenses during the reporting
period. Actual results could differ from those estimates.
3. Revenue Recognition:
-------------------
The Company recognizes revenue in accordance with the American Institute of
Certified Public Accountant's Statement of Position 97-2, 98-9 and
modifications thereto on software revenue recognition. The Company has also
adopted revenue recognition policies regarding sales with multiple
deliverables which comply with Emerging Issues Task Force Issue No. 00-21,
"Revenue Arrangements with Multiple Deliverables," which became effective
July 1, 2003. Revenue for software design services at Dolphin is recognized
on the percentage-of-completion method.
4. Capitalized Software Costs:
--------------------------
Capitalized software costs consist of licenses for the rights to produce and
market computer software, salaries and other direct costs incurred in the
production of computer software. Costs incurred in conjunction with product
development are charged to research and development expense until
technological feasibility is established. Thereafter, all software
development costs are capitalized and amortized on a straight-line basis
over the product's estimated economic life of between three and five years.
5. Goodwill:
--------
Goodwill represents the excess of the cost of purchased companies over the
fair value of their net assets at the date of acquisition. Goodwill is
reviewed for possible impairment at least annually or more frequently upon
the occurrence of an event or when circumstances indicate that the carrying
amount is greater than its fair value. During 2005, the Company determined
that the carrying amount of the goodwill related to the acquisition of
Dolphin exceeded its fair value and an impairment loss of $1,215,015 has
been recognized. (See Note 15.)
6. Inventories:
-----------
Inventories are stated at the lower of cost (first-in, first-out), or
market, and consist of packaging and educational software materials.
7. Property and Equipment:
----------------------
Property and equipment is stated at cost. Depreciation is provided on the
straight-line basis over the estimated useful life of the assets, which is
five years.
8. Debt:
----
The Company had the following indebtedness under notes and loan agreements:
Current Long-term Total
--------- --------- --------
Line of credit with bank, matures
November 30, 2005; payments of
$24,000 per month plus interest at
the bank's prime rate plus 2%
(8.75% at September 30, 2005) $ 39,762 $ -- $ 39,762
Revolving line of credit with bank,
matures March 31, 2006; maximum line -
$450,000, interest at the bank's prime
rate plus 2% (8.75% at September 30,
2005) -- -- --
Subordinated debt due to unrelated
individual, originated March 30, 2005,
matures March 30, 2006 and may be renewed
for one year at the option of the holder;
interest at 8% payable at maturity;
convertible into the Company's common
stock at $.463 per share 400,000 -- 400,000
Subordinated debt due to shareholder
affiliates, originated April 1, 2003,
matures September 30, 2006; interest
at 8% payable quarterly, principal due
at maturity, convertible into the
Company's common stock at $.40 per
share 305,880 -- 305,880
-------- --------- --------
$745,642 $ -- $745,642
======== ========= ========
9. Stock Options:
-------------
The Company has historically measured compensation from issuing employee
stock options under the accounting prescribed by APB Opinion No. 25,
"Accounting for Stock Issued to Employees" which is an intrinsic value
method. Accounting pronouncement SFAS No. 123(R), "Share-based Payment,"
replaces SFAS No. 123 and supersedes APB Opinion No. 25. SFAS 123 (R)
establishes financial accounting and reporting standards for transactions in
which an entity exchanges its equity instruments for goods or services.
This Statement focuses primarily on accounting for transactions in which an
entity obtains employee services in share-based payment transactions. SFAS
123(R) requires a public entity to measure the cost of employee services
received in an exchange for an award of equity instruments based on the
grant-date fair value of the award. That cost will be recognized over the
period during which an employee is required to provide service in exchange
for the award (the vesting period). As a small business issuer the Company
is required to adopt SFAS No. 123(R) effective as of the beginning of the
first interim or annual reporting period that begins after December 15,
2005. This Statement applies to all awards granted after the required
effective date and to awards modified, repurchased, or cancelled after
that date. The cumulative effect of initially applying this Statement, if
any, will be recognized as of the required effective date.
The following pro forma disclosures show the effect on net income as if SFAS
123(R) had been applied prior to the required effective date. The Company's
pro forma income and earnings per share are as follows for the nine months
ended September 30:
2005 2004
-------- --------
Net income (loss) - as reported ($402,663) $217,373
Stock - based employee compensation expense -
pro forma 48,500 46,485
-------- --------
Net income (loss) - pro forma (451,163) 170,888
Basic earnings per common share - as reported ($.03) $.02
Diluted earnings per common share - as reported (.02) .01
Basic earnings per common share - pro forma ($.03) $.01
Diluted earnings per common share - pro forma (.03) .01
10. Statements of Cash Flows:
------------------------
In the Consolidated Statements of Cash Flows, cash and cash equivalents may
include currency on hand, demand deposits with banks or other financial
institutions, treasury bills, commercial paper, mutual funds or other
investments with original maturities of three months or less. The carrying
values of the Company's assets and liabilities approximate fair value due to
their short-term nature.
11. Income Taxes:
------------
The Company has adopted the provisions of Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes" ("SFAS 109"). SFAS 109
requires recognition of deferred tax liabilities and assets for the expected
future tax consequences of events that have been included in the financial
statements or tax returns, determined by using the enacted tax rates in
effect for the year in which the differences are expected to reverse.
12. Computation of Earnings Per Share:
---------------------------------
The Company has adopted Statement of Financial Accounting Standards No. 128
"Earnings Per Share" ("SFAS 128"). SFAS 128 requires presentation of basic
and diluted earnings per share. Basic earnings per share are calculated
based only upon the weighted average number of common shares outstanding
during the period. Diluted earnings per share are calculated based upon the
weighted average number of common and, where dilutive, potential common
shares outstanding during the period, utilizing the treasury stock method.
Potential common shares include conversion of convertible debt and options
to purchase common stock.
The weighted average number of basic and diluted common shares outstanding
is as follows:
2005 2004
---------- ----------
Basic 14,133,461 14,133,461
Diluted 17,074,264 15,668,711
13. Commitments and Contingencies:
-----------------------------
The Company amortizes capitalized software costs over the product's
estimated useful life. Due to inherent technological changes in the
software development industry, the period over which such capitalized
software cost is being amortized may have to be accelerated.
14. Discontinued Operations:
-----------------------
Effective December 31, 2004 Learning Pathways, Ltd. was deemed to be an
asset held for sale and an impairment loss of $1,150,000 was recognized. On
November 7, 2005 LPL was subsequently sold and, therefore, in 2005 the
results of operations for this business unit are presented as discontinued
operations. The income statement for the prior year has been restated to
reflect the results as if LPL had been discontinued as of the beginning of
2004. Assets and liabilities at September 30, 2005 were not material, and,
therefore, no separate balance sheet disclosure is deemed necessary.
15. Impairment of Goodwill:
----------------------
Effective June 30, 2005 the Company determined that the goodwill recorded on
the balance sheet that resulted from the acquisition of Dolphin was impaired
and wrote off the entire amount of $1,215,015. The Company is winding down
Dolphin's software development business for outside customers and will
transfer certain Dolphin employees to the Company's payroll to expand its
internal software development staff.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
- ------------------------------------------------------------------
Overview
- --------
The American Education Corporation is a developer of instructional content,
computer adaptive assessment testing software, and software management
technology specifically designed to manage the delivery of and record the
results of student progress in schools and other institutions. Java-based
technology, the A+nyWhere Learning System, registered, ("A+LS") Versions 3.0
and 4.0 of educational software products, provides a research-based,
integrated curriculum offering of software for grade levels 1-12 for
Reading, Mathematics, Language Arts, Science, Writing, History, Government,
Economics and Geography. In addition, the Company provides formative
assessment testing and formative instructional content for various segments
of the primary, secondary and postsecondary educational markets. All
Company products are designed to provide for LAN, WAN and Internet delivery
options. The Company has developed computer adaptive, formative assessment
testing tools to provide educators with the resources to more effectively
use the Company's curriculum content, which is aligned to important state
and national academic standards. Spanish-language versions are available
for Mathematics and Language Arts for grade levels 1-8.
The A+LS comprehensive family of educational software is now in use in over
11,000 schools, centers of adult literacy, colleges and universities, and
correctional institutions in the U.S., UK and other international locations.
A+dvancer, trademark, College Readiness Online, the Company's postsecondary
offering, identifies and assists students in attaining college entry-level
academic skills in Arithmetic, Elementary Algebra, Reading Comprehension,
and Sentence Skills. A+dvancer reduces demand on institutional admissions
and developmental departments, while providing students with both improved
skills assessment and the alignment to developmental and remedial coursework
in an online, self-paced learning environment.
The Company is a technology-based publishing enterprise. To remain
competitive it must constantly invest in the development of programming
technology to keep its product offering up-to-date and ensure that its
products maintain compatibility with the frequently changing and revised
database and operating system platforms sold to schools by other developers.
The Company must also update its content and underwrite content revisions to
realign its content with new or updated state and national educational
standards to remain competitive. To accomplish this essential, ongoing
corporate function requires the retention and recruitment of a highly
skilled professional workforce. These investments are essential, recurring
costs of doing business that impact the Company's operating cost and margin
structures.
The Company's business is subject to risks or uncertainties. Among these
uncertainties are a dependency on funding for school technology purchases,
lengthy sales cycles, seasonal demand cycles and a dependency on retention
of key personnel. Certain matters discussed herein (including the
documents incorporated herein by reference) may contain forward-looking
statements intended to qualify for the safe harbors from liabilities
established by the Private Securities Litigation Reform Act of 1995. These
forward-looking statements can generally be identified as such because the
context of the statement will include words such as the Company "believes,"
"plans," "intends," "anticipates," "expects," or words of similar import.
Similarly, statements that describe the Company's future plans, objectives,
estimates, or goals are also forward-looking statements. Such statements
address future events and conditions concerning capital expenditures,
earnings, litigation, liquidity, capital resources and accounting matters.
Actual results in each case could differ materially from those currently
anticipated in such statements as a result of factors such as future
economic conditions, changes in customer demands, future legislative,
regulatory and competitive developments in markets in which the Company
operates and other circumstances affecting anticipated revenues and costs.
Accordingly, investors should be alert to the possibility that factors
beyond the control of management may have impact on the short or long-term
operations of the business. The Company undertakes no duty to update
forward-looking statements to reflect the impact of events or circumstances
that arise after the date the forward-looking statement was made.
RESULTS OF OPERATIONS - THREE MONTHS ENDED SEPTEMBER 30, 2005
AS COMPARED TO THE THREE MONTHS ENDED SEPTEMBER 30, 2004
- --------------------------------------------------------
Effective December 31, 2004, the Company's UK subsidiary, Learning Pathways,
was deemed to be an asset held for sale and its value was written down to
zero as an impairment loss. Therefore, its operations are shown as
discontinued. The 2004 amounts have been restated to reclassify the results
of Learning Pathways as discontinued. Therefore, the comparisons discussed
here for the quarter and for the nine months ended September 30, 2005 below
are only for the Company and its Dolphin, Inc. subsidiary. Net consolidated
sales for the three months ended September 30, 2005 totaled $2,489,284
compared to $2,601,412 for the same period in 2004. This represents a
decrease of 4% over the comparable 2004 quarter and is attributable to an
increase in revenues at AEC offset by decreases at Dolphin. The Company
achieved an increase at AEC of approximately $25,000, or 1% over the prior
year, despite what management believes to be the negative impacts of
hurricanes Katrina, Rita and Wilma on third quarter revenue results. The
geographic areas affected by these hurricanes include several of the
Company's largest revenue producing states. The Company believes that these
weather-related impacts to its revenues are temporary and that most orders
anticipated for this quarter were delayed or deferred to a future period.
Management believes that state and federal governmental programs for
educational funding remain positive for the foreseeable future. However, it
should be noted that recent spikes in fuel and overall energy costs are of
concern and the impact of these significant, unplanned costs are being
monitored for their possible impact on the Company's future performance.
The sales decrease of approximately $138,000 at Dolphin is a result of the
previously announced exit from the contract software development business.
Dolphin employees began to provide additional development resources for AEC
during the third quarter of 2005. The Company expects that Dolphin contract
development services sales to outside customers will be completed by the end
of the 2005 fiscal year.
Cost of goods sold as a percentage of sales revenue for the three months
ending September 30, 2005 decreased to 9% from 13% of net revenues for the
same period in 2004. This improvement is attributed to a larger portion of
consolidated sales contributed by the core AEC operating unit. The Company's
principal product family, A+nyWhere Learning System(r), provided gross profit
margins of 97% in the third quarter of 2005, consistent with prior quarters.
Cost of goods sold represents the actual cost to produce the software
products and includes certain allocated overhead costs.
Total operating expenses for the three months ended September 30, 2005,
increased to $2,105,046, compared to $1,820,445 for the same 2004 quarter, an
increase of 16%. As a percentage of sales revenue, operating expenses
increased from 70% in 2004 to 85% in 2005. The increase in total operating
expenses is a result of increases in marketing and selling expenditures,
operations expenses, general and administrative expenses and amortization of
product development costs. Selling and marketing costs increased by 19%, from
$809,070 for the three months ended September 30, 2004, to $960,023 for the
current period. The increase in the third quarter 2005 selling expenses is
largely attributable to changes in sales mix, which resulted in increased
sales commissions of approximately $135,000 as the Company billed a higher
percentage of orders directly to school customers. The Company recognizes
sales revenue based upon the type of customer. If the sale is made to a
distributor who in turn resells a product to the end user, the amount of the
sale is recorded and no commission is due the distributor and the
transaction is recorded as a net sale. If the sale is billed direct to the
school or other end user, a commission is paid to the distributor or a sales
representative, which increases amount of the sale, but increases marketing
expense as a result of an obligation to pay a commission. These commissions
paid may vary depending upon the type of sale and the status of the
individual or organization making the sale. The decision to sell and to
bill direct to the customer and pay a subsequent commission can result from
a number of factors, including credit policy issues with individual
distributors as a result of payment history or limitations on authorized
limits. Additionally, method of delivery of the product may necessitate
direct billing to the customer and the subsequent payment of a commission.
An example would be an online product sale that requires delivery from
Company servers and the related record keeping on the licensed number of
users accessing the product online as well as the number of units delivered.
This level of record keeping requires Company monitoring and billing
directly to the customer. These factors create a change in sales mix
affecting the amount of commission paid and the manner in which revenues may
be recorded by the Company. Accordingly, these factors and the source and
nature of recorded revenue can impact period revenue recognition.
Additionally, the related costs of securing revenue may vary from period to
period. Operating expenses increased by 31% from $124,911 for the three
months ended September 30, 2004 to $163,749 for the same period in 2005.
This increase results from increased compensation and benefits due to
additional technical support staff hired during the year. General and
administrative expenses increased by 9% from $523,610 in 2004 to $571,610.
General and administrative salaries and benefits increased approximately
$37,000 due to the addition of personnel in several areas and audit and
legal fees increased approximately $10,000 as a result of additional legal
work during the third quarter.
Interest expense was $13,543 for the three months ended September 30, 2005
as compared to $19,615 for the same 2004 quarter, reflecting the lower
amount of bank debt outstanding on an average daily basis somewhat offset by
the additional interest cost of the increase in convertible debt issued by
the Company. There was net income of $18,291 for the three months ended
September 30, 2005 compared to net income of $21,392 for the same period in
2004.
RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 2005
AS COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 2004
- -------------------------------------------------------
Net sales for the nine months ended September 30, 2005, totaled $7,987,414
compared to $7,873,473 for the same period in 2004. This represents an
increase of 1% over the comparable 2004 period and is attributable to an
increase in revenues at AEC offset by decreases at Dolphin. The Company
achieved an increase at AEC of approximately $250,000, or 3% over the prior
year, despite the negative impacts of hurricanes Katrina, Rita and Wilma on
third quarter's revenue. Management believes that the environment for state
and federal governmental educational funding remains positive for the
foreseeable future. The sales decrease of approximately $135,000 at Dolphin
is a result of the previously announced exit from the contract software
development business. As noted above, the Dolphin employees began to
provide additional development resources for AEC during the third quarter of
2005. The Company expects that Dolphin sales to customers that it is
obligated to complete under the existing contracts and their associated
performance obligations will be completed by the end of the 2005 fiscal
year.
Cost of goods sold as a percentage of sales revenue for the nine months
ending September 30, 2005 decreased to 11% compared to 13% for the same
period in 2004. As noted for the quarterly results, this improvement is
attributed to the increase in the sales contributed by the core AEC
operating unit, which has lower cost of sales as a percentage of sales than
Dolphin. The Company's principal product families, A+dvanced Learning System
and the A+nyWhere Learning System, provided gross profit margins of 97%
in the first nine months of 2005.
Total operating expenses for the nine months ended September 30, 2005
(excluding the $1,215,015 impairment of goodwill write-down), increased to
$6,157,942, compared to $5,568,005 for the same 2004 period, an increase of
11%. As a percentage of sales revenue, operating expenses increased from
71% in 2004 to 77% in 2005. The increase in total operating expenses is a
result of a decrease in marketing and selling expenditures, an increase in
operations expenses, an increase in general and administrative expenses as
well as an increase in amortization of product development charges for the
period. Selling and marketing expenses decreased from $2,752,851 for the
nine months ended September 30, 2004 to $2,733,628 for the same period in
2005 and is primarily the result of a decrease in commission expense because
of changes in sales mix. Sales mix changes can occur, as noted above in the
discussion of third quarter results, when a higher or lower amount of the
Company's sales are billed directly as a result of credit policies and
contributions to total revenues by different sales channels which require
the payment of varying commission rates. Operations expense increased from
$372,638 in 2004 to $449,206 for the same period in 2005, or 21%. This
increase is due to the addition of staff in the operations department during
the period. General and administrative expenses increased from $1,401,795 to
$1,802,744, or by 29%, due to several different reasons. General and
administrative salaries and benefits increased approximately $115,000 due to
the addition of personnel in accounting and other departments. Deferred
compensation payable upon executive officers' and directors' retirement for
the period increased $48,000 as a result of additional employees who were
eligible for this program, compared to the prior year. Audit and legal fees
increased approximately $58,000 as a result of required additional legal
costs experienced during the first nine months of 2005 and the preparation
of the Company's tax returns earlier in fiscal 2005 as compared to 2004.
Outside services increased approximately $64,000 due to consulting fees paid
to integrate the Learning Letter Sounds product line content into the
Company's product line and advice regarding the future of Dolphin. Bad debt
expense increased $72,000 over the prior year as a result of an increase in
the allowance for uncollectible accounts based upon higher accounts
receivable balances due to the seasonal nature of the Company's business.
Interest expense for the nine months ended September 30, decreased from
$50,039 in 2004 to $42,112 in 2005 reflecting the reduction in average daily
bank debt levels in 2005 compared to the prior year offset by higher
interest rates and higher interest due to the increase in convertible debt
issued by the Company in 2005. There was a net loss of $402,663 for the nine
months ended September 30, 2005, as compared to a net income of $217,373
reported for the same period in 2004. The decrease results from charges
recognized by the impairment of goodwill at Dolphin of $1,215,015 for the
period.
Liquidity and Capital Resources
- -------------------------------
The Company has invested significantly in the development of new products
and the acquisition and licensing of new products to improve the ability of
the organization and its published products to meet the needs of the
marketplace. These changes were required to update, expand and keep current
the Company's extensive curriculum product offerings and to position the
Company for long-term growth. To finance the business, management has
utilized secured bank revolving credit lines, bank financed equipment loans,
lease financing sources and convertible debt from private individuals.
As of September 30, 2005 the Company's principal sources of liquidity
included cash and cash equivalents of $866,460, net accounts receivable of
$3,188,167 and inventory of $16,344. The Company's net cash provided by
operating activities during the nine months was $1,436,575 in 2005 compared
to $1,391,007 in 2004. Net cash used in investing activities for the same
period increased by 20% from $987,669 in 2004 to $1,187,358 in 2005, and was
comprised primarily of investment in capitalized software development costs.
During the nine months ended September 30, 2005 debt due to financial
institutions was reduced by $332,100 or 89%, reflecting bank indebtedness of
$39,762 at September 30, 2005.
In April 2003, the Company borrowed $305,880 from major shareholder
affiliates, which is subordinated to the debt owed to the Company's senior
lender. This debt matures in September of 2006 and is convertible into the
Company's common stock at $.40 per share. On March 30, 2005, the Company
entered into a Convertible Note Purchase Agreement with an unaffiliated
individual. Pursuant to the terms of the Convertible Note Purchase
Agreement, the Company issued the note purchaser an unsecured 8%
Subordinated Convertible Note in the original aggregate principal amount of
$400,000. All principal and interest on the Note is due and payable on
March 30, 2006 (the "Initial Maturity Date"), subject to the Note
Purchaser's option to extend the Initial Maturity Date twelve months to
March 30, 2007 (the "Extended Maturity Date"). The Company may not prepay
principal or interest on the Note prior to the Initial Maturity Date. The
Note is convertible at any time at the note purchaser's option into shares
of the Company's common stock at the initial conversion price of $0.463 per
share, subject to certain anti-dilution adjustments. Any shares of common
stock issued upon conversion of the Note will have "piggy-back" registration
rights. The proceeds from the subordinated convertible debt were used to
reduce accounts payable, bank debt and to support the normal operations of
the business.
At September 30, 2005, the Company had working capital of $1,700,171
compared to $1,097,949 at December 31, 2004. The Company has a $450,000
revolving line of credit that bears interest at a rate of 2.00% over the
prime rate (8.75% as of September 30, 2005) and matures on March 31, 2006.
At September 30, 2005, the Company had no borrowings under this line of
credit. Additionally, the Company has a term loan with an aggregate
principal balance of $39,762 as of September 30, 2005. The term loan
bears interest at a rate of 2.00% over the prime rate (8.75% as of September
30, 2005) and matures on November 30, 2005. The Company is continuing to
discuss future borrowing arrangements with its current lender and several
bank financing sources.
With the addition of new products, the Company's expanded market presence,
the elimination of unprofitable subsidiary operations and the current
favorable trends in government school spending, it is believed that the
Company will maintain a pattern of sustainable growth in revenues and
earnings in future years, barring unforeseen external circumstances and
events. Management believes that the Company can support this expansion
from its operating cash flows and credit lines. If successful, the Company
should be able to enhance the overall financial performance of the business
and continue to improve the Company's balance sheet and financial position.
Additional working capital beyond that available to the Company from its
internally generated cash flows may be required to expand operations as a
result of anticipated continued growth of the business. Management has and
will consider options available to access such funding, including expanded
debt and additional equity financing as dictated by the needs of the
business.
Off-Balance Sheet Arrangements
- ------------------------------
The Company does not have any off-balance sheet arrangements.
Critical Accounting Policies
- ----------------------------
Management is responsible for the integrity of the financial information
presented herein. The Company's financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States of America. Where necessary, they reflect estimates based on
management's judgment. Significant accounting policies that are important
to the portrayal of the Company's financial condition and results, which in
some cases require management's judgment, are summarized in the Notes to
Interim Consolidated Financial Statements, which are included herein.
ITEM 3 - CONTROLS AND PROCEDURES
- --------------------------------
It is the responsibility of the Chief Executive Officer and the Chief
Financial Officer to ensure that the Company maintains disclosure controls
and procedures designed to provide reasonable assurance that material
information, both financial and non-financial, and other information
required under the securities laws to be disclosed is identified and
communicated to senior management on a timely basis. The Company's
disclosure controls and procedures include controls and other procedures of
the Company that are designed to ensure that information required to be
disclosed by the Company in its reports that it submits under the Securities
Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported within the time periods specified in the Securities and Exchange
Commission's rules and forms.
As of September 30, 2005, management, including the Chief Executive Officer
and Chief Financial Officer, conducted an evaluation of disclosure controls
and procedures pursuant to Exchange Act Rule 13a-14 as of the end of the
period covered by this report. Based on that evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded the disclosure
controls and procedures currently in place are adequate to ensure material
information and other information requiring disclosure are identified and
communicated in a timely fashion and that such disclosure controls and
procedures were effective. During the three months ended September 30,
2005, there have been no changes in internal controls, or in factors
that have materially affected, or are reasonably likely to materially
affect, the Company's internal controls over financial reporting.
THE AMERICAN EDUCATION CORPORATION
PART II - OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings
-----------------
Management knows of no pending or threatened litigation involving the
Company that is considered material to the on-going operations and viability
of the Company.
Item 2. Changes in Securities
---------------------
None.
Item 3. Default Upon Senior Securities
------------------------------
Omitted from this report as inapplicable.
Item 4. Submission of Matters to Vote of Securities Holders
---------------------------------------------------
None.
Item 5. Other Information
-----------------
Omitted from this report as inapplicable.
Item 6. Exhibits
--------
The following exhibits have been filed as a part of this report:
Exhibit
No. Description of Exhibits
- ------- ---------------------------------------------------------------
3.1 Articles of Incorporation of The American Education Corporation
(incorporated by reference Annex B to the Definitive Proxy
Statement filed with the Securities and Exchange Commission on
October 12, 2001)
3.2 Bylaws of The American Education Corporation (incorporated by
reference to Annex C to the Definitive Proxy Statement filed
with the Securities and Exchange Commission on October 12, 2001)
4.1 Form of Stock Certificate (incorporated by reference to Form 8-
A12G/A filed with the Securities and Exchange Commission on
January 20, 2004)
4.2 Directors' Stock Option Plan (incorporated by reference to
Exhibit B to the Definitive Proxy Statement filed with the
Securities and Exchange Commission on April 24, 1998)
4.3 First Amendment to the Directors' Stock Option Plan
(incorporated by reference to the Company's registration
statement on Form S-8 filed with the Securities and
Exchange Commission on October 22, 1999)
4.4 Stock Option Plan for Employees (incorporated by reference to
Exhibit C to the Definitive Proxy Statement filed with the
Securities and Exchange Commission on April 24, 1998)
4.5 First Amendment to the Stock Option Plan for Employees
(incorporated by reference to the Company's registration
statement on Form S-8 filed with the Securities and Exchange
Commission on October 22, 1999)
4.6 Second Amendment to the Stock Option Plan for Employees
(incorporated by reference to Exhibit 4.7 to the Company's
registration statement on Form S-8 filed with the Securities and
Exchange Commission on September 29, 2000)
10.1 Purchase Agreement for the acquisition by the Company of
Learning Pathways, Limited (incorporated by reference to the
exhibit in the Current Report on Form 8-K filed with the
Securities and Exchange Commission on December 15, 1998)
10.2 Stock Purchase Agreement for the acquisition by the Company of
Dolphin, Inc. (incorporated by reference to the exhibit in the
Current Report on Form 8-K filed with the Securities and
Exchange Commission on January 10, 2000)
10.3 Convertible Note Purchase Agreement dated March 30, 2005 by and
between The American Education Corporation and David J. Smith
(incorporated by reference to the exhibit in the Current Report
on Form 8-K filed with the Securities and Exchange Commission on
April 11, 2005)
10.4 The American Education Corporation 8% Subordinated Convertible
Promissory Note dated March 30, 2005 in favor of David J. Smith
(incorporated by reference to the exhibit in the Current Report
on Form 8-K filed with the Securities and Exchange Commission on
April 11, 2005)
10.5 Promissory Note dated March 31, 2004 from The American Education
Corporation in favor of UMB Bank, N.A. (incorporated by
reference to the exhibit in the quarterly report 10-Q filed with
the Securities and Exchange Commission on August 15, 2005)
10.6 Promissory Note dated March 31, 2004 from The American Education
Corporation in favor of UMB Bank, N.A. (incorporated by
reference to the exhibit in the quarterly report 10-Q filed with
the Securities and Exchange Commission on August 15, 2005)
10.7 Employment Agreement with Jeffrey E. Butler dated December 5,
1998 (incorporated by reference to the exhibit in the quarterly
report 10-Q filed with the Securities and Exchange Commission on
August 15, 2005)
10.8 Employment Agreement with Thomas A. Shively dated December 5,
1998 (incorporated by reference to the exhibit in the quarterly
report 10-Q filed with the Securities and Exchange Commission on
August 15, 2005)
10.9 Employment Agreement with Neil R. Johnson dated December 5, 1998
(incorporated by reference to the exhibit in the quarterly
report 10-Q ffiled with the Securities and Exchange Commission
on August 15, 2005)
10.10 Promissory Note dated October 16, 2000 from Jeffrey E. Butler in
favor of the Company (incorporated by reference to the exhibit
in the annual report 10-KSB/A filed with the Securities and
Exchange Commission on September 9, 2005)
10.11 Promissory Note dated September 30, 2004 from the Company in
favor of John Garber (incorporated by reference to the exhibit
in the annual report 10-KSB/A filed with the Securities and
Exchange Commission on September 9, 2005)
10.12 Promissory Note dated September 30, 2004 from the Company in
favor of Janis L. Butler (incorporated by reference to the
exhibit in the annual report 10-KSB/A filed with the Securities
and Exchange Commission on September 9, 2005)
31.1 Certification of Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.
32.1 Certification of the Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of the Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
American Education Corporation
/s/ Jeffrey E. Butler
---------------------
Jeffrey E. Butler,
Chief Executive Officer
Chairman of the Board
Treasurer
/s/ Neil R. Johnson
---------------------
Neil R. Johnson
Chief Financial Officer
Chief Accounting Officer
Date: November 14, 2005
Exhibit 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, Jeffrey E. Butler, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of The American
Education Corporation;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of the end
of the period covered by this report based upon such evaluation; and
c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of registrant's board of
directors (or persons performing the equivalent functions):
a) all significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls over financial reporting.
Date: November 14, 2005
/s/ Jeffrey E. Butler
- ----------------------
Signature
Title: Chief Executive Officer
Exhibit 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO SECTION 302
OF THE SARBANES-OXLEY ACT OF 2002
I, Neil R. Johnson, certify that:
1. I have reviewed this quarterly report on Form 10-QSB of The American
Education Corporation;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects
the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:
a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about the
effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based upon such
evaluation; and
c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the registrant's
most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of registrant's board of
directors (or persons performing the equivalent functions):
a) all significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls over financial reporting.
Date: November 14, 2005
/s/ Neil R. Johnson
- --------------------
Signature
Title: Chief Financial Officer
Exhibit 32.1
CERTIFICATION BY CHIEF EXECUTIVE OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report on Form 10-QSB of The American
Education Corporation (the "Company") for the period ended September 30,
2005 as filed with the Securities and Exchange Commission on the date hereof
(the "Report"), I, Jeffrey E. Butler, Chief Executive Officer of the
Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002,
that, to my knowledge:
(1) The Report fully complies with the requirements of section 13(a)
or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and result of the operations of
the Company.
By: /s/ Jeffrey E. Butler
---------------------
Jeffrey E. Butler
Chief Executive Officer
November 14, 2005
Exhibit 32.2
CERTIFICATION BY CHIEF FINANCIAL OFFICER
PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report on Form 10-QSB of The American
Education Corporation (the "Company") for the period ended September 30,
2005 as filed with the Securities and Exchange Commission on the date hereof
(the "Report"), I, Neil R. Johnson, Chief Financial Officer of the Company,
certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002, that, to my knowledge:
(1) The Report fully complies with the requirements of section 13(a)
or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and result of the operations of
the Company.
By: /s/ Neil R. Johnson
-------------------
Neil R. Johnson
Chief Financial Officer
November 14, 2005
EXHIBIT D - Form of Exchange Agent Agreement
Date: October 18, 2005
UMB Bank, N.A., as Exchange Agent
P.O. Box 410064
Kansas City, MO 64141-0064
Attention: Nancy L. Hoffman
RE: Stock Split by The American Education Corporation
Ladies and Gentlemen:
Pursuant to an Amendment to the Certificate of Incorporation of
the American Education Corporation (the "Company"), the Company will
effect (1) a 1-for-2,000 reverse split of its common stock whereby each
2,000 outstanding shares of common stock will be converted into one whole
share, and in lieu of the Company issuing fractional shares resulting from
the reverse split to Stockholders of less than 2,000 pre-reverse split
shares, the Company will pay cash equal to $1,000 multiplied by the
fractional share which would otherwise be held by such stockholder (the
"Reverse Split"), followed immediately by (2) a 100-for-1 forward split
for those stockholders who hold at least one whole share of Company common
stock after the Reverse Split (The "Forward Split"), with stockholders who
would be entitled to receive a fractional share of our common stock in
connection with the Forward Split receiving in lieu of such fractional
share cash equal to $10.00 multiplied by such fractional share
(collectively, the "Transaction"). The Transaction contemplates the use
of an Exchange Agent (a) to notify the shareholders of the Company that
they may proceed to surrender their shares and as to the process for such
surrender, (b) to accept the surrender of such shares, and (c) to issue
new share certificates representing the shares owned after the Transaction
and checks for payments made in lieu of any fractional shares on behalf of
the Company.
The effective date of the Transaction is the date the
Certificate of Change to amend the Certificate of Incorporation is filed
with the Secretary of State of the State of Nevada (the "Effective Date").
In connection with your appointment as Exchange Agent, you are
authorized and instructed as follows:
1. As soon as reasonably practicable after the Effective Date, the
Exchange Agent shall mail to each owner of shares of record at the close
of business on the business day immediately preceding the Effective Date a
Letter of Transmittal in the form attached hereto as Exhibit A. For the
purpose of such mailing, the identities and addresses of such owners of
shares shall be established by a shareholders list and address labels to
be acquired from UMB Bank, N.A., as the transfer agent. UMB Bank, N.A.
shall cause such shareholders list and address labels to be provided to
Exchange Agent for use in the mailing.
2. Upon receipt by Exchange Agent of a certificate(s) representing
shares, together with a Letter of Transmittal, which in a sole judgement
of Exchange Agent (subject to the right of the Company to waive defects or
irregularities) has been properly completed, and other required documents,
Exchange Agent will cause to be issued a certificate representing the
shares owned after the Transaction and a check for any fractional shares
payable upon either the Reverse Split or the Forward Split (to be paid
only to the extent of immediately available funds provided by the
Company), to the surrendering stockholder at the rates set forth in the
first paragraph above, subject to the terms presented in this letter and
in the Letter of Transmittal. For the purpose of making any such payment,
the Company shall deposit with Exchange Agent, from time to time as
necessary, in advance, sufficient monies to permit all payments
anticipated by this Paragraph 2 to be made. These monies will be held by
the Exchange Agent in a segregated trust account, the principal of which
is held for the benefit of holders of common stock of the Company who are
entitled to cash payments in lieu of fractional shares. UMB shall be
entitled to keep all sweep fees, shareholder servicing fees or similar
fees charged by UMB on this account or received by mutual funds into which
the funds are invested. To the extent that Exchange Agent does not have
sufficient funds available to make payments for fractional shares on any
business day, Exchange Agent shall fax a notice of deficiency to Company.
Company shall wire to Exchange Agent sufficient funds to cover all such
checks by no later than 12:00 p.m. Central Time on the second business day
following notification of deficiency by Exchange Agent. In the event
Company fails to wire sufficient funds to Exchange Agent by 12:00 p.m.
Central Time on the second business day following notice of deficiency,
Exchange Agent shall have the right to immediately terminate this
agreement upon written notice to Company.
3. Exchange Agent will keep such records as are reasonably
necessary to document the receipt and processing of shares and Letters of
Transmittal surrendered to the Exchange Agent.
4. Exchange Agent shall retain shares, Letter of Transmittal, and
related documents, properly surrendered to it until the Termination Date,
as hereinafter defined, and following said Termination Date shall deliver
such shares, Letters of Transmittal and other items to the Company.
5. Exchange Agent shall prepare and distribute any necessary 1099
information forms and shall perform any necessary backup withholding.
6. The Exchange Agent:
(a) shall have no obligation to make payment for any fractional
shares unless the Company shall have deposited with to the
Exchange Agent fully collected funds sufficient to pay in
full all amounts due and payable with respect thereto;
(b) shall have no duties or obligations other than those
specifically set forth in this letter, or as may be
subsequently agreed to by the Exchange Agent and the
Company;
(c) shall have no responsibility as to the validity,
sufficiency, value, enforceability or genuineness
of the Transaction, the shares or any certificates
therefor;
(d) may rely upon and shall be fully protected in relying and
acting upon any certificate, instrument, opinion, notice,
letter, facsimile transmission, telex, telegram,
stockholder list, mailing label or other instrument, or any
security delivered to Exchange Agent and reasonably
believed by Exchange Agent to be genuine and to have been
signed or initiated by the proper party or parties;
(e) may rely and shall be fully protected in relying and acting
upon written or oral instructions of the Company with
respect to any matter (including incomplete or defective
surrender of Letters of Transmittal or shares) relating to
service as Exchange Agent, which instruction may be issued
by Jeffrey E. Butler or Neil Johnson;
(f) may consult with and act upon an opinion of legal counsel
satisfactory to the Exchange Agent and shall not be
responsible for any action taken or omitted to be taken in
reliance upon such opinion; and
(g) shall be indemnified and held harmless by the Company from
and against any loss, fee, cost, expense, damage, liability
or other claim reasonably incurred by the Exchange Agent
and arising out of its service hereunder and not arising
from the gross negligence or willful misconduct of the
Exchange Agent.
7. The Company will pay the Exchange Agent compensation for
services as set forth on the fee schedule attached hereto as Exhibit B.
8. The exchange agency created hereby shall terminate on the
Termination Date, which shall be October 18, 2006. On or promptly after
the Termination Date, or upon termination as described in Paragraph 2,
Exchange Agent shall deliver to the Company any amounts held by it for
payment for fractional shares and such items as are specified by Paragraph
4 hereof. Thereupon, Exchange Agent shall have no further duty to accept
surrender of Letters of Transmittal or shares or to make payments with
respect thereto and Exchange Agent shall be released from any further
obligation hereunder.
Very truly yours,
By /s/ Neil R. Johnson
Title Chief Financial Officer
UMB Bank, N.A., hereby agrees to accept appointment as Exchange
Agent and to act in accordance with the foregoing letter.
UMB BANK, N.A.
By
Title
Date
Exhibit A
LETTER OF TRANSMITTAL
For Shares of Common Stock, $.025 par value
of
The American Education Corporation
This Letter of Transmittal should be completed, signed and submitted,
together with the certificate(s) representing your shares of
The American Education Corporation Common Stock, to:
UMB Bank, n.a.
By hand: UMB Bank, n.a. By courier: UMB Bank, n.a. By mail: UMB Bank, n.a.
Securities Transfer Division Securities Transfer Division Securities Transfer Division
928 Grand Blvd. 928 Grand Blvd. P.O. Box 410064
Kansas City, MO 64106 Kansas City, MO 64106 Kansas City, MO 64141-0064
Ladies and Gentlemen:
Pursuant to (1) a reverse split of the American Education Corporation (the
"Company") common stock whereby each 2,000 outstanding shares of common stock
will be converted into one whole share, and in lieu of us issuing fractional
shares resulting from the combination, the Company will pay cash equal to $1,000
multiplied by the fractional share which would otherwise be held by a
stockholder who has less than 2,000 pre-reverse split shares (the "Reverse
Split"), followed immediately by (2) a 100-for-1 forward split for those
stockholders who hold at least one whole share of Company common stock after the
Reverse Split (the "Forward Split"), with stockholders who would be entitled to
receive a fractional share of our common stock in connection with the Forward
Split receiving in lieu of such fractional share cash equal to $10.00 multiplied
by such fractional share (collectively, the "Transaction"), the undersigned
hereby encloses herewith and surrenders to UMB Bank, n.a. the following
described certificate(s) (the "Certificate(s)") representing pre-Transaction
shares of the Company Common Stock (the "Old Shares").
- --------------------------------------------------------------------------------
DESCRIPTION OF CERTIFICATE(S) SUBMITTED
(If the space provided below is inadequate, the Certificate
number(s) and number of Shares should be listed on a
separate schedule signed and affixed hereto.)
- -------------------------------------- ---------------------- ------------------
Number of Shares
Certificate Represented by
Name and Address of Registered Holder Number Certificate
- ------------------------------------------------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
---------------------- ------------------
Total Shares
---------------------- ------------------
- --------------------------------------------------------------------------------
NOTE: If the name or address indicated on the label above is not correct, please
make any necessary changes.
- --------------------------------------------------------------------------------
The undersigned hereby surrenders the Certificates representing the Old
Shares in exchange for (i) a certificate or certificates representing
post-Transaction shares (the "New Shares") of the Company Common Stock, and (ii)
a cash payment for any fractional shares (the "Fractional Share Payment"), each
calculated as set forth in the first paragraph above.
You are hereby authorized and instructed to prepare in the name of and
deliver to the address indicated above (unless otherwise instructed in the
following boxes) (i) a certificate or certificates representing New Shares, and
(ii) funds to which the undersigned is entitled as a result of the Transaction.
IMPORTANT: THIS LETTER OF TRANSMITTAL (OR A FACSIMILE HEREOF) AND ALL OTHER
DOCUMENTS AND INSTRUMENTS REQUIRED HEREBY SHOULD BE MAILED OR DELIVERED TO UMB
BANK, N.A. AT ONE OF THE ADDRESSES SET FORTH ABOVE.
- -------------------------------------- ---------------------------------------
SPECIAL REGISTRATION
AND PAYMENT INSTRUCTIONS SPECIAL DELIVERY INSTRUCTIONS
COMPLETE ONLY if the stock COMPLETE ONLY if delivery of the stock
certificate(s) evidencing the Company certificate(s) evidencing the Company
Common Stock is/are to be registered Common Stock or a Fractional Share
in a name, or the Fractional Share Payment is to be made OTHER than to
Payment check is to be made payable to the address(es) of the registered
a name, OTHER than the name(s) of the holder(s) appearing under "DESCRIPTION
registered holder(s) appearing under OF CERTIFICATES SUBMITTED" on page 1
"DESCRIPTION OF CERTIFICATES or, if the box immediately to the left
SUBMITTED" on page 1. of this box is filled in, OTHER than
to the address appearing therein.
Issue stock certificate to or make Mail stock certificate or Fractional
check payable to: Share Payment to:
(See instruction 4):
Name _________________________________
Name _________________________________ ______________________________________
______________________________________ Address: _____________________________
Address: _____________________________ ______________________________________
______________________________________ (Please Print)
(Please Print)
______________________________________
(Signature)
Signature(s) guaranteed by an Eligible
Guarantor Institution:
(See Instruction 4)
Authorized Signature _________________
Name of Firm _________________________
- -------------------------------------- ---------------------------------------
Please provide your Taxpayer Identification Number (or the Taxpayer
Identification Number of the person named in the "SPECIAL REGISTRATION AND
PAYMENT INSTRUCTIONS" box above) in the Substitute Form W-9 below and certify
(or have the person named in the "SPECIAL REGISTRATION AND PAYMENT INSTRUCTIONS"
box above certify) by signing and dating below. For most individual taxpayers,
the Taxpayer Identification Number is such person's Social Security Number.
- ------------------------------- ---------------------------------------- -----------------------------
SUBSTITUTE Part I-PLEASE PROVIDE YOUR TIN IN THE ___________________________
Form W-9 BOX AT RIGHT AND CERTIFY BY SIGNING AND Social Security Number
Department of the Treasury DATING BELOW:
Internal Revenue Service OR ________________________
Employer Identification
Payor's Request for Taxpayer Number
Identification Number ("TIN")
(If awaiting TIN write
"Applied For")
- ------------------------------- ----------------------------------------------------------------------
Part II-For Payees NOT subject to backup withholding, see the enclosed
"Guidelines for Certification of Taxpayer Identification Number on
Substitute Form W-9" and complete as instructed therein.
- ------------------------------- ----------------------------------------------------------------------
CERTIFICATION-Under penalties of perjury, I certify that:
(1) The number shown on this form is my correct taxpayer identification number
(or I am waiting for a number to be issued to me), and
(2) I am not subject to backup withholding because either (a) I am exempt from
backup withholding, (b)I have not been notified by the Internal Revenue
Service (the "IRS") that I am subject to backup withholding as a result of
a failure to report all interest or dividends, or (c) the IRS has
notified me that I am no longer subject to backup withholding.
Certification Instructions-You must cross out item (2) above if you have been
notified by the IRS that you are subject to backup withholding because of
underreporting interest or dividends on your tax return. However, if after
being notified by the IRS that you were subject to backup withholding you
received another notification from the IRS that you are no longer subject to
backup withholding, do not cross out item (2). (Also see instructions in the
enclosed guidelines.) The Internal Revenue Service does not require your
consent to any provision of this document other than the certificate required
to avoid backup withholding.
- -------------------------------------------------------------------------------------------------------
Signature: ________________________________________________ Date:____________________________________
- -------------------------------------------------------------------------------------------------------
The undersigned hereby warrants that the undersigned has full power and
authority to submit, sell, assign and transfer the Old Shares evidenced by the
Certificate(s) described above, and that the Old Shares are free and clear of
all liens, charges and encumbrances and not subject to any adverse claim. The
undersigned will, upon request, execute any additional documents necessary or
desirable to complete the transfer of the Old Shares evidenced by the
Certificate(s).
All authority herein conferred shall survive the death or incapacity of the
undersigned, and all obligations of the undersigned hereunder shall be binding
upon the heirs, representatives, successors and assigns of the undersigned.
- --------------------------------------------------------------------------------
SIGN HERE
Dated ___________________________
_________________________________ _________________________________________
City and State where signed
_________________________________________
_________________________________ Signature(s) of Stockholder(s) or Agent(s)
Telephone number (including (Exactly as reflected on the Certificate(s).
area code) If signature is by trustee, executor,
administrator, guardian, attorney-in-fact,
officer for a corporation acting in a
fiduciary or representative capacity, or
other person, please set forth title.)
(See Instruction 3.)
- --------------------------------------------------------------------------------
INSTRUCTIONS:
A. DELIVERY OF LETTERS OF TRANSMITTAL AND CERTIFICATES; MAILING OF NEW
CERTIFICATE(S).
The method of delivery of this Letter of Transmittal and the Certificate(s)
to UMB Bank, n.a. is at your option and risk, but, if sent by mail, registered
mail is suggested.
The stock certificate(s) for the New Shares of the Company Common Stock and
any Fractional Share Payment will be mailed by UMB Bank, n.a. as soon as
practicable after the effective date of the reverse stock split and after
receipt of a properly executed Letter of Transmittal together with the
Certificate(s).
B. SIGNATURE(S); CERTIFICATE(S) IN DIFFERENT NAME(S).
1. The signature (or signatures, in the case of Certificate(s) owned by two
or more holders) on this Letter of Transmittal should correspond exactly with
the name(s) of the registered holder(s) as written on the face of the
Certificate(s) unless such Certificate(s) has been transferred by the registered
holder(s), in which event this Letter of Transmittal should be signed in exactly
the same form as the name of the last transferee indicated on the transfers
attached to or endorsed on the Certificate(s).
2. The Certificate(s) need not be endorsed or accompanied by any instrument
of assignment or transfer other than this Letter of Transmittal, if registered
in the name of the person(s) signing this Letter of Transmittal as long as the
new certificate(s) for the Company Common Stock is/are to be issued to such
person(s).
3. If this Letter of Transmittal is signed or if the endorsement on any
Certificate(s) is executed by a trustee, executor, administrator, guardian,
officer of a corporation, attorney-in-fact, or in any other representative or
fiduciary capacity, the person signing this Letter of Transmittal or executing
the endorsement must give such person's full title in such capacity and
appropriate evidence of authority to act in such capacity must be forwarded with
any Certificate(s).
4. If the new certificate is to be in the name(s) of a person or persons,
or the Fractional Share Payment is to be made payable to a person or persons,
other than the person(s) in whose name(s) the Old Shares are registered, the
signature(s) of the person(s) signing this Letter of Transmittal must be
guaranteed in the "Special Registration and Payment Instructions" box by an
Eligible Guarantor Institution (as defined by Rule 17Ad-15 under the Securities
Exchange Act of 1934 (12 CFR 240.17Ad-15)) in the space provided.
5. The person(s) in whose name(s) the certificate(s) evidencing New Shares
is/are to be issued must supply his, her or its Taxpayer Identification Number
and provide the certification contained in the "TAXPAYER IDENTIFICATION NUMBER"
box on page 3 of this Letter of Transmittal. Failure to furnish the Taxpayer
Identification Number and the certification will result in backup withholding on
payments due, if any, to the holder.
6. If you have any questions about the surrender of your Certificate(s) or
completion of this Letter of Transmittal, please contact UMB Bank, n.a. at (800)
884-4225.
7. If a holder wishes to receive multiple stock certificates for New Shares
(for example, to simplify substantiation of the tax basis of the New Shares)
such holder should attach to this Letter of Transmittal written instructions
indicating the number of Company stock certificates desired and the number of
shares of Company Common Stock to be represented by each Company stock
certificate. All reasonable requests, as determined by the Company in its
discretion, will be honored.
C. MUTILATED, LOST, STOLEN OR DESTROYED CERTIFICATES.
If a Certificate(s) has been mutilated, lost, stolen or destroyed, you should
contact UMB Bank, n.a. at (800) 884-4225 for further instructions as to
obtaining a surety bond that may be required before delivery of the
certificate(s) evidencing the Company Common Stock or any Fractional Share
Payment.
EXHIBIT (E) TO DISCLOSURE DOCUMENT
DISSENTING STOCKHOLDERS' RIGHTS
Pursuant to Chapter 92A (Section 300 through 500 inclusive) of
the Nevada Revised Statutes ("Chapter 92A"), any stockholder of the
Company is entitled to dissent to the Transaction, and obtain payment of
the fair value of his shares. In the context of the Transaction, Chapter
92A provides that you may elect to have the Company purchase your pre-
Reverse Split shares for a cash price that is equal to the "fair value" of
such shares. The fair value of your shares means the value of such shares
immediately before the effectuation of the Transaction, excluding any
appreciation or depreciation in anticipation of the Transaction unless
exclusion of any appreciation or depreciation would be inequitable.
Chapter 92A is set forth in its entirety in Exhibit A to the
Disclosure Document. If you wish to exercise your dissenters' rights or
preserve the right to do so, you should carefully review Exhibit A to the
Disclosure Document. If you fail to comply with the procedures specified
in Chapter 92A in a timely manner, you may loose your dissenters' rights.
Because of the complexity of those procedures, you should seek the advice
of counsel if you are considering exercising your dissenters' rights.
Within 10 days after board approval of the Reverse-Split, the
Company will send a written notice (a "Dissenters' Rights Notice") to all
the record stockholders of the Company. The Dissenters' Rights Notice
will be accompanied by (i) a form for demanding payment from the Company
that includes the date of the first announcement to the news media or to
the stockholders of the terms of the proposed action and requires that the
person asserting dissenter's rights certify whether or not they acquired
beneficial ownership of the shares before that date; (ii) a copy of the
provisions of Chapter 92A; and (iii) a brief description of the procedures
that a stockholder must follow to exercise his dissenter's rights.
In order to maintain eligible to exercise dissenters' rights
under Chapter 92A, you must take the following actions within thirty (30)
days of the date that the Dissenters' Rights Notice was delivered: (i)
deliver a written demand for payment on the form provided in the
Dissenters' Rights Notice; (ii) certify whether you acquired beneficial
ownership of the shares before the date set forth in the Dissenters'
Rights Notice; and (iii) deliver the certificates representing the
dissenting shares to the Company. A stockholder who demands payment and
deposits his stock certificates before the Transaction is consummated
retains all other rights of a stockholder until those rights are cancelled
by the consummation of the Transaction.
Within thirty (30) days after receipt of a demand for payment,
the Company must pay each dissenter who complied with the provisions of
Chapter 92A the amount the Company estimates to be fair value of such
shares, plus interest from the effective date of the Reverse Split. The
rate of interest shall be the average rate currently paid by the Company
on its principal bank loans. The payment will be accompanied by the
following: (i) financial statements for the Company for the year ended
December 31, 2004 and the most recent interim financial statements; (ii) a
statement of the Company's estimate of the fair value of the shares; (iii)
an explanation of how the interest was calculated; (iv) a statement of the
dissenter's rights to demand payment for the difference between the
Company's estimate of the fair value of the shares and the stockholder's
estimate of the fair value of the shares; and (v) a copy of Chapter 92A.
If the Company does not deliver payment within thirty (30) days of receipt
of the demand for payment, the dissenting stockholder by enforce his
rights by commencing an action in Clark County, Nevada or if the
dissenting stockholder resides or has its registered office in Nevada, in
the county where the dissenter resides or has its registered office.
If a dissenting stockholder disagrees with the amount of the
Company's payment, the dissenting stockholder may, within (30 days of such
payment, (i) notify the Company in writing of this or her own estimate of
the fair value of the dissenting shares and the amount of interest due,
and demand payment of such estimate, less any payments for the Company, or
(ii) reject the offer by the Company if he or she believes that the amount
offered by the Company is less than the fair value of this or her shares
or that the interest due is incorrectly calculated.
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If a demand for payment remains unsettled, the Company must
commence a proceeding in the Clark County, Nevada district court within
sixty (60) days after receiving the demand. Each dissenter who is made a
party to the proceeds shall be entitled to a judgment in the amount, if
any, by which the court finds the fair value of the dissenting shares,
plus interest, exceeds the amount paid by the Company. If a proceeding is
commenced to determine the fair value of the common stock, the costs of
such proceeding, including the reasonable compensation and expenses of any
appraisers appointed by the court, shall be assessed against the Company,
unless the court finds the dissenters acted arbitrarily, vexatiously or
not in good faith in demanding payment. The court may also assess the
fees and expenses or the counsel and experts for the respective parties,
in amounts the court finds equitable if the court finds that (i) the
Company did not comply with Chapter 92A or (ii) the dissenting
stockholders acted arbitrarily, vexatiously or not in good faith with
respect the rights of such stockholders provided by Chapter 92A.
Capitalized terms not defined in this Exhibit shall have the
meaning given to such terms in the Disclosure Document.
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