-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, I1xv5I0YG/26rpPYa7KtVsQs79l6qfFZssEsxZRQMaecJEMUDsyKc11tQKlgjvxM plnWivSJMaQazurGumBsCw== 0001047469-98-001199.txt : 19980116 0001047469-98-001199.hdr.sgml : 19980116 ACCESSION NUMBER: 0001047469-98-001199 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 19971031 FILED AS OF DATE: 19980115 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: TRO LEARNING INC CENTRAL INDEX KEY: 0000893965 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS PUBLISHING [2741] IRS NUMBER: 363660532 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-20842 FILM NUMBER: 98507497 BUSINESS ADDRESS: STREET 1: POPLAR CREEK OFFICE PLAZA STREET 2: 1721 MOON LAKE BOULEVARD CITY: HOFFMAN ESTATES STATE: IL ZIP: 60194 BUSINESS PHONE: 8477817800 MAIL ADDRESS: STREET 1: 1721 MOON LAKE BLVD SUITE 555 CITY: HOOFMAN ESGTATES STATE: IL ZIP: 60194 10-K 1 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE - --- ACT OF 1934 FOR THE FISCAL YEAR ENDED OCTOBER 31, 1997 or ___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____ to _____ COMMISSION FILE NUMBER 0-20842 ------- TRO LEARNING, INC. ------------------ (Exact name of Registrant as specified in its charter) Delaware 36-3660532 - -------- ---------- (State or other jurisdiction of incorporation or organization) (IRS Employer Identification Number) 1721 Moon Lake Blvd., Suite 555 Hoffman Estates, IL 60194 - ---------------------------------------------------- ----- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (847) 781-7800 -------------- 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 $.01 Per Share --------------------------------------- Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve months and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ___ The number of shares of the Registrant's common stock, par value $.01 per share, outstanding as of December 10, 1997 was: 6,405,346 shares. The aggregate market value of common stock (based on the closing price on December 10, 1997) held by non-affiliates of the Registrant was approximately $28,948,000. Index for exhibits is located on page 55. This document contains 59 pages. 1 DOCUMENTS INCORPORATED BY REFERENCE Certain information in the Proxy Statement for the Company's Annual Meeting of Stockholders to be held on April 16, 1998 (the "1998 Proxy Statement") is incorporated herein by reference in Part III of this Form 10-K. Pursuant to Regulation 14A under the Securities Exchange Act of 1934, the 1998 Proxy Statement will be filed with the Securities and Exchange Commission within 120 days after the close of the Company's fiscal year. NOTE REGARDING FORWARD LOOKING INFORMATION This Form 10-K contains forward looking statements identified by the use of "believes", "expects", "anticipates", and similar expressions. Such statements are subject to risk and uncertainties that could cause actual results to differ from those contemplated by the forward looking statement. Such risks and uncertainties include any change in the market acceptance of the Company's products and services, the risk of failure of the Company's technology to remain at market standards, the risk of the Company being able to finance its business operations, and other similar business and market risks. Readers are cautioned not to place undue reliance on such forward looking statements. 2 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 TABLE OF CONTENTS ----------------- Page ---- PART I Item 1. Business. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4 Item 2. Facilities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24 Item 3. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . 24 Item 4. Submission of Matters to Vote of Security Holders . . . . . . . . . 24 PART II Item 5. Market for Registrant's Common Stock and Related Stockholder Matters. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28 Item 6. Selected Consolidated Financial Data. . . . . . . . . . . . . . . . 29 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. . . . . . . . . . . . . . . . . . . . . . 30 Item 8. Financial Statements and Supplementary Data . . . . . . . . . . . . 37 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. . . . . . . . . . . . . . . 54 PART III Item 10. Directors and Executive Officers of the Registrant. . . . . . . . . 54 Item 11. Executive Compensation. . . . . . . . . . . . . . . . . . . . . . . 54 Item 12. Security Ownership of Certain Beneficial Owners and Management. . . 54 Item 13. Certain Relationships and Related Transactions. . . . . . . . . . . 54 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K. . 55 Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59 3 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS GENERAL: TRO Learning, Inc. (the Company) is a leading developer and marketer of microcomputer-based, interactive, self-paced instructional systems used in a wide variety of adult settings. Offering comprehensive educational courseware specifically designed for young adult and adult learners, the Company's PLATO-Registered Trademark- Learning Systems are marketed to middle schools and high schools, community colleges, job training programs, correctional institutions, government-funded programs, the military, and corporations. The Company's TRO Aviation Training Systems are marketed to airlines worldwide for use by commercial airline pilots, maintenance crews, and cabin personnel. COMPANY HISTORY: The Company was incorporated in July 1989 as Edu Corp., and in October 1992 it changed its name to TRO Learning, Inc. The Company's wholly-owned operating subsidiary is The Roach Organization, Inc. (TRO). TRO has two wholly-owned subsidiaries, one in Canada, TRO Learning (Canada), Inc., and one in the United Kingdom, TRO Learning (U.K.) Ltd. In September 1989, the Company acquired most of the assets of Control Data Corporation's (Control Data) computer-based education, training and testing business. Under the Company's senior management team, the marketing focus of the business was redirected from sales of hardware and data processing services to the delivery of solution-oriented courseware and training services to education providers in a wide variety of settings. In addition, the Company initiated a new business strategy of developing a library of courseware to market to commercial airlines. The Company made significant additional investments in organizational infrastructure and personnel for sales and marketing. At the same time, the Company reduced general and administrative expenses through implementation of cost controls and streamlined operations. The Company also made substantial investments in the development and introduction of new products and services, as well as the enhancement of its existing courseware for education and training applications. During fiscal 1992, the Company discontinued two businesses, the NASD testing center business and the end user computer training distribution business. In addition, in September 1993, the Company entered into a Certification and Testing Services Agreement with Sylvan Learning Systems (SLS), whereby SLS agreed to assume and perform the Company's rights and obligations under its Certification and Testing Services contracts. 4 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED COMPANY STRATEGY: The Company's strategy is to address the needs of adult and young adult learners by providing a broad range of interactive, multimedia, self-paced educational and training courseware delivered on personal computers. The critical elements of the Company's business strategy are as follows: TARGET ADULT AND YOUNG ADULT MARKET OPPORTUNITIES. The Company targets growing market niches that serve adult and young adult learners rather than pre-school and elementary school-aged children. These market niches, including the corporate workplace environment, have specific educational and training requirements that can be addressed by the Company's computer-based products and services. The Company's courseware incorporates themes, graphics and media appropriate to adult and young adult learners. PROVIDE COMPREHENSIVE, SOLUTION-ORIENTED COURSEWARE AND SERVICES. Drawing upon its extensive library of computer-based courseware, the Company's education and training specialists work closely with clients to design a program of instruction which meets their specific educational and training needs. The Company offers its products in modular form and flexible formats that can be tailored to a wide variety of applications. EMPHASIZE SALES OF HIGH MARGIN COURSEWARE. Since the acquisition from Control Data in 1989, the Company has redirected the marketing focus of the business from hardware and data processing services, which have generally experienced declining profit margins, to solution-oriented education and training courseware and services which generate higher profit margins and greater opportunities for growth. COMMITMENT TO ON-GOING COURSEWARE DEVELOPMENT AND SUPPORT. Since the acquisition, the Company has made substantial investments in developing and enhancing courseware for education and training applications and is committed to maintaining a diverse and comprehensive curriculum. The Company uses the design and structural advantages inherent in its proprietary software development systems to design and produce new courseware and services to meet the changing needs of its clients and prospects. INTERNET/INTRANET DELIVERY: The Company is focused on developing the broadest delivery system for its instructional management system and courseware library. The rapid acceptance and worldwide accessibility of the Internet, as well as the increased acceptance of a technology-based distance learning model, offers the potential of just-in-time learning and expanded access to PLATO education and training products. Internet delivery is also very supportive of the sales and marketing focus on organizations 5 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED INTERNET/INTRANET DELIVERY, CONTINUED providing a wide range of education and training services throughout the community, allowing for new distribution channels to complement the direct sales model. Corporations and many of the larger school districts and training organizations have developed intranets to share information and communication. The expanding availability of intranets offers a platform for the delivery and distribution of education and training across the organization to any location. With the availability of high-speed telecommunications links between facilities, intranets are a powerful delivery system for PLATO education and training. MARKET OVERVIEW: Many competitive, social, and political trends over the past few years have led to significant demand for technology-based education and training: - Identification by numerous government and private studies that basic skills and training deficiencies are a major threat to American industry's ability to achieve its goals and compete internationally. This trend has been accompanied by increased governmental and private-sector spending on basic skills and job skills training. - In industry, pressure to improve cost-efficiency and access to training and education has led to a willingness to adopt non-traditional training methods. - The acceleration of technological changes requires ongoing workforce retraining and skills enhancement. - Widely reported declines in standardized test scores and an increased demand by states and school districts for measurable results of such programs have increased concern over training and educational program effectiveness. - Legislative initiatives and governmental mandates (such as welfare, prison reform, and regulatory requirements in the aviation industry) have increased the demand for education and training outside traditional educational settings. - Dramatic improvements in the price and performance of hardware have made it feasible for more institutions to purchase microcomputers of adequate power to deliver effective educational and training courseware products. 6 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED MARKET OVERVIEW, CONTINUED - Advances in instructional design, programming, and presentation technologies have made it possible to develop courseware and software cost-effectively. - The development of multimedia software has heightened the interest in education and training, both for business and education as well as for the consumer market. A prominent example of these trends is the PLATO Learning System, which combines extensive courseware and curriculum management software with networked hardware and system management software. The Company believes sales will grow at a faster rate in the adult and young adult markets than in the traditional primary school markets. The adult and young adult segments of the education markets are receiving increased levels of funding as schools, government, and private sector programs seek to reduce school drop-out rates and to provide basic skills and education. Further, private sector employers continue to provide their employees with remedial and basic literacy skills training as well as specific job-related training. The demand for pilot and other airline personnel training is driven by several factors, including new aircraft acquisition, retrofitting existing equipment, and cross-training on various types of equipment. The Federal Aviation Administration (FAA) and foreign government regulators, as well as competitive factors, require commercial pilots and other flight personnel to be certified on new and upgraded equipment. Technological advances in aircraft, new aircraft acquisitions, and personnel promotions create an ongoing demand for high quality, standardized, flexible, and cost-effective training. Retrofitting existing aircraft to update equipment and to meet new regulatory requirements creates further industry need for training pilots, maintenance and in-flight personnel. The Company uses microcomputer-based educational technology to address these trends. This technology offers a number of advantages in both traditional and non-traditional educational settings, including self-pacing, interactive instruction, standardized curricula, individual tailoring of programs, remote service delivery, scheduling flexibility, and ready measurement of performance providing instantaneous student feedback. In addition, educational technology enables instructors to manage curricula and provide individualized tutoring rather than provide the same instruction for all students. 7 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES: The Company develops and markets microcomputer-based, interactive, self-paced instructional systems. The Company also delivers its PLATO Education courseware products to customers over the Internet or intranets. Although the design and specific features of a system depend upon the particular needs of each client, a learning system typically includes a library of educational courseware, instructional management software, a delivery system, and consulting services. The Company provides educational courseware and services to middle and high schools, community colleges, job training programs, correctional institutions, government-funded training programs, the military and private industry. It also provides courseware for the aviation industry, developed by the Company in partnership with aircraft operators. The suite of courseware currently available encompasses the majority of modern aircraft types manufactured by Boeing, Airbus, Fokker, Saab, Bombadier, ATR, British Aerospace and McDonnell-Douglas. Solutions are offered for all aspects of an airline's training requirements for flight crews (pilot and cabin staff) and ground personnel (aircraft maintenance and support services). In general, the PLATO Learning System offers educators an effective supplement or alternative to traditional, instructor-led education. A typical learning system installation consists of 10 to 30 workstations, educational courseware, instructional management software, and hardware and typically sells for $50,000 to $200,000. PLATO Learning Systems are currently installed at over 3,000 sites with an aggregate of approximately 52,000 workstations. The Company's PLATO clients include New York City Board of Education, State of Tennessee Board of Regents, California Department of Corrections, Montana Department of Corrections, AT&T, Abbott Laboratories, Honeywell, Georgia Pacific, Kimberly-Clark, Printpack, Saturn, USAA, Siemens, Bethlehem Steel, Houston Community College, Victoria Independent School District, Garland Independent School District, Dayton Public Schools, Polk County Schools, Glendale Union High School District, Weber County Schools, New Hampshire Technical College System, Florida Correctional Educational School Authority, and Open Learning Agency (Canada). The Company's Aviation Training Systems address the training needs of the aviation industry through the analysis, design and development of courseware specific to a particular training requirement; and through the resale of its library of courseware titles. In fiscal 1997, the average Aviation Training System sale was in excess of $300,000. Over the past seven years, the Company has sold to more than 90 of the world's major airlines and key companies within the aviation industry and its courseware can be found on over 1,400 workstations. The Company's Aviation Training clients include United Airlines, American Airlines, Lufthansa, SAS, Singapore Airlines, Flight Safety International, Crossair, Kuwait Airways, Malaysia Airlines, Gulf Air, Cathay Pacific Airways, Braathens SAFE, CST Berlin, Czeskolovenske Aerolinie, Hughes Flight Training, Icare and SAAB Aircraft. In fiscal 1997, the Company derived approximately 88% of its 8 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED Aviation Training revenues from sales to non U.S.-based air carriers. See Note 7 of Notes to Consolidated Financial Statements for geographic area information. COURSEWARE: The PLATO Learning System courseware library has over 5,000 hours of on-line instruction, including in excess of 3,300 lessons and 8,500 objectives. PLATO offers a comprehensive curriculum developed specifically for adult and young adult learners. The Company's Aviation courseware library consists of over 2,000 hours of on-line, highly-interactive instruction and simulation of aviation-related topics. This library is being increased by over 250 hours of new courseware each year developed by the in-house development team. The library covers a range of topics for pilot transition and recurrent training, in-flight cabin services (including safety and survival courses), maintenance and air traffic control. The following tables set forth the current PLATO and Aviation courseware. 9 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED COURSEWARE, Continued PLATO LEARNING SYSTEM COURSEWARE AND SOFTWARE OFFERINGS PLATO COURSEWARE: THIRD PARTY COURSEWARE: - ---------------- ---------------------- COMMUNICATION Reading Horizons Reading 1 and 2 Mindplay Writing Series Writing Series English Discoveries (ESL) Communication Projects for the Real World Reading for Information Job Skills for the Real World Writing in the Workplace Basic Skills for the Real World Advanced Reading Strategies Rediscover Science 6-9 and 9-12 Towards Algebra MATHEMATICS Business Software Training Series Math Fundamentals Substances Abuse Series Math Fundamentals (Spanish Edition) Blueprint Reading Applied Math Mastering Geometric Dimensioning and Data Skills Tolerancing Pre-Algebra Technical Skills Series Beginning, Intermediate and Advanced Health, Safety and Environmental Series Algebra Ultrakey Keyboarding Beginning and Intermediate Algebra (Spanish Edition) PLATO SOFTWARE PRODUCTS Geometry and Measurement 1 and 2 PLATO Curriculum Manager Trigonometry PLATO Pathways Instructional Management Calculus 1 and 2 System for Windows PLATO Remote Administration SCIENCE PLATO Records Transfer and Consolidation Science Fundamentals Utility Chemistry 1 and 2 PCD3 Authoring System Physics 1 and 2 PLATO S.T.A.R. SOCIAL STUDIES Social Studies TECHNOLOGY Quality Fundamentals LIFE SKILLS Life and Job Skills Parenting Skills 10 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED COURSEWARE, Continued TRO AVIATION COURSEWARE FLIGHT IN-FLIGHT SERVICES Airbus: A300-600 B747-700 and B757 Transition Training A310 Basic Service A320 Key Position A321 Recurrent Emergency Training A320 FMGS LOFT Trainer Cocktail Services A330 Preflight/Inflight/Postflight Responsibilities A340 New Tech Cart Boeing: B737-200 to B737-300 Differences Single Aisle Cabin and Galley Systems B737-300/400/500 Cabin and Galley Systems: B767 and DC-10 B737-300 FMGS LOFT Trainer B747 Equipment and Systems B747-400 Purser Control Center (PCC) B747-400 Systems Simulations Cabin Intercom Data Systems (CIDS) B747-400 Freighter Difference B757 SYSTEMS AND OPERATIONS B757/767 FMGS LOFT Trainer Traffic Collision and Avoidance (TCAS) Systems B767 Category (CAT) II and III Operations Canadair: Regional Jet North Atlantic Navigation Fokker: F50 South Atlantic Navigation F100 KNS 660 Area Navigation Saab 2000 International Flight Operations 2000 FMGS LOFT Trainer Head Up Guidance System (HUGS)* ACARS MAINTENANCE TRAINING ETOPS* McDonnell-Douglas MD-80 Aircraft Performance Jet Aircraft Maintenance Fundamentals* Collins 4200 and 6000* FMS Trainer Ramp Services Navigation Trainer* A340 CMCS Simulation B747-400 CMS Simulation SAFETY AND SURVIVAL First Aid GENERAL AVIATION General Safety and Emergency Beech Baron Safety and Emergency: A320/330/340 Beech Bonanza F33 and A36 Safety and Emergency: B737/747/767/777 Piper Arrow Dangerous Goods Piper Cheyenne IIIA Airline Security Eagle (PPL) Basic Cabin Crew Courses AIR TRAFFIC CONTROL CAA NERC System Central Flow Management _____________________________________________ * in development 11 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED PLATO COURSEWARE AND SOFTWARE: Each PLATO course teaches a set of skills which has been defined in terms of measurable performance. The course teaches the skill through a progression of tutorials and practice lessons with diagnostic feedback. New courseware developed has added an instructional model focused on problem-solving. Learners have access to assessments which target instruction. After each sequence of tutorial and practice, a test follows which verifies the learner's achievement. The PLATO Curriculum Manager (described below) can identify the specific skills each individual learner needs to master, and prescribe instruction the student needs. Teachers can adapt PLATO courseware to their own lesson plans because of its modular design. While PLATO can be used effectively with minimal teacher support, the Company believes that the greatest learning gains are achieved when teachers use PLATO to transform their role in the classroom from mere information presenter to that of tutor, manager, and counselor. PLATO courseware is correlated to many national standardized tests. Increasingly, educators are being judged according to their students' progress as measured by a number of these tests. Product correlation, therefore, has become an important factor in how educators evaluate the usefulness and effectiveness of an integrated learning system and its courseware. Some of the major standardized tests to which PLATO courseware is closely aligned are: Adult Basic Literacy Exam (ABLE) Comprehensive Adult Student American College Test (ACT) Assessment System (CASAS) California Achievement Test (CAT) General Education Development Exam California Basic Education Skills Test (GED) (CBEST) Scholastic Aptitude Test (SAT) Canadian Adult Achievement Test (CAAT) Test of Achievement and Proficiency (TAP) Test of Adult Basic Education (TABE) An independent evaluation conducted comparing PLATO computer-based education with traditional classroom instruction showed that PLATO computer-based education resulted in 10% greater learning gains with approximately half the instruction time. In addition, surveys and third party evaluations have shown that learners prefer PLATO over conventional classroom instruction because it is success-oriented, places the learner in control, does not waste time, sustains interest, supports learning on demand, and is private. 12 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED PLATO COURSEWARE AND SOFTWARE, Continued In late 1992, the Company undertook major upgrades and enhancements to its products. The new PLATO products represent a significant redesign of the Company's core PLATO curricula. Completed in 1995, the new PLATO products have four major elements: INSTRUCTIONAL IMPROVEMENTS. Hundreds of instructional improvements have been incorporated throughout the lessons based on learner and client feedback and subject-matter expert input. The new PLATO courseware is fully compatible with the existing PLATO curriculum structure so that learners encounter a smooth transition from old to new. A NEW USER INTERFACE. Streamlined screens and graphically-based function buttons that can be activated by either the keyboard or mouse improve learner interaction and control and give PLATO courseware a new look and feel. A NEW GRAPHIC LOOK. New graphics are instructionally integrated and visually appealing to our target audience of young adult and adult learners. The graphics were carefully designed and created to contribute to the instructional objectives and to enhance the learning experience. Animation and color combine to make the new PLATO products what the Company believes to be the premier computer-based instructional system on the market today. NEW INSTRUCTOR OPTIONS. New features have been added that allow instructors to easily preview and review all aspects of each lesson, including a review of all questions. This "page down" mode will be extremely helpful in facilitating instructor familiarization with PLATO lessons. Building on an excellent foundation, these new features significantly enhance and further improve the effectiveness and acceptance of PLATO. In 1995 and 1996, the Company completed the development of a major new program designed to enhance the foundation skills of workers in support of the high performance workplace required by business and industry to be competitive in today's global economy. PLATO-Registered Trademark- WorkSkills focuses on developing the reading, math, writing, and communication skills necessary for worker success, using a series of skill-building lessons structured in skill levels to accommodate the different competencies necessary to perform specific job functions. The PLATO WorkSkills curricula have broad applicability in the school and job training markets as well, fully complementing the core PLATO courseware library. The development of PLATO WorkSkills was the result of extensive consultation with a wide range of large and small companies representing many business sectors, as well as with state and local 13 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED PLATO COURSEWARE AND SOFTWARE, Continued secondary and adult educators, both individually and through an advisory group process. The new curricula will further enhance the Company's leadership position in the education and training market. In the past year, the first Windows-based curriculum, Advanced Reading Strategies, was released. It builds on the PLATO instructional model and adds extensive problem-based activities to enhance and extend learning, consistent with new trends in education and training. New courseware under development builds on this instructional architecture, adding extensive media, including animation, audio and video, and extending the problem-based applications. TRO AVIATION COURSEWARE: Substantially all of the Aviation Training courseware library has been developed over the last seven years. This courseware offers high-quality, cost-effective methods of meeting the training requirements imposed, in particular, by regulatory authorities. The demands placed on the aviation industry by these authorities make the use of computer-based training an efficient and cost-effective way of covering these training requirements. Courseware can be customized to accommodate different equipment configurations and individual airline operating policies. The Aviation Training group follows industry standard training analysis techniques and has received ISO 9001 certification for quality procedures. Courseware development begins with an initial analysis of the customer's training requirement, including the overall job and skills required, the relevant regulations, the target student population and a financial analysis of the costs of various training approaches (including the cost of not training). Following initial analysis, the design phase begins, during which time the details required in the courseware modules are gradually developed. At all times, the customer's training authority describes, checks and approves the technical content before it becomes finalized on screen, or supported with audio material. The development team includes specialists in video, computer audio, graphics and animation. Many of the courseware packages can be presented in different languages. 14 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED TRO AVIATION COURSEWARE, Continued Courseware developed includes tutorials and competency-based drill and practice procedure simulations, providing students with a realistic, highly-interactive, criterion-referenced training environment. Development tools, including many of the new Windows-based packages, enable courseware to be produced efficiently and to facilitate customization and maintenance. The Company is constantly reviewing new development tools and its development specialists are active in networking within the market place to ensure that only the most up-to-date, efficient and cost-effective tools are utilized. The Company also monitors some of the most advanced computer techniques, such as virtual reality. If these technologies become viable training tools, the Company is positioned to take full advantage of them. New regulations are continuously forcing aircraft operators into new training activities. One such area covers the training and licensing of aircraft maintenance staff. In response to this requirement, TRO partnered with Lufthansa to analyze, design and produce the Jet Aircraft Maintenance Fundamentals (JAMF) courseware package of some 130 hours. These regulations will eventually be adopted worldwide and TRO will initially be the only company to offer a fully comprehensive course covering the majority of topics demanded by the regulators. Additionally, there are a number of PLATO courses that have been identified to support some of the basic educational requirements of the new regulations. Another new area for Aviation Training is the introduction of Ab Initio courseware for new pilot students. An exclusive marketing contract has been signed to market this courseware worldwide. Topics ranging from Theory of Flight Meteorology and Power Plant to Navigation Principles are covered in this 150-hour package, which is delivered on CD-ROM and uses all relevant multi-media training techniques. The courseware addresses the topics required for basic pilot licenses from most of the regulatory authorities throughout the world. INSTRUCTION MANAGEMENT SOFTWARE: Both the Company's PLATO and Aviation courseware are managed by sophisticated computer-based software called the Curriculum Manager. It provides an effective means of monitoring learner progress and recording and reporting performance data. The Curriculum Manager provides access to courseware as well as administrative control of the integrated learning system, and gives instructors the flexibility to design customized learning paths to meet individual learner needs, program objectives and/or alignments. Through the Curriculum Manager, courseware can be 15 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED INSTRUCTION MANAGEMENT SOFTWARE, Continued presented as published or restructured to correspond to specific program requirements or teaching strategies. Instructors also have the flexibility to customize the criteria for learner access and mastery of courses. The Curriculum Manager also allows learners to work on their individual lesson plans while other learners are working independently on the system. Learners are not required to be assigned a specific workstation on the network since the system identifies them from their sign-on and password. The Company has just completed the development of a new, state-of-the-art, highly sophisticated Windows-based instructional management system, PLATO-Registered Trademark- Pathways, that will replace the current DOS-based Curriculum Manager for systems that support the Windows operating environment. PLATO Pathways incorporates a new, easy to use graphical user interface allowing administrators and instructors to create customized learning paths and monitor student progress. A new suite of reports, including graphical and comparative reports, has been designed into the new system. PLATO Pathways includes step-by-step help sequences to guide administrators and instructors to perform specific functions easily. Because PLATO Pathways is Windows-based, third-party programs compatible with MS DOS-TM-, MS Windows 3.x-TM-, or Windows-TM- 95 can be integrated easily into lesson plans to enhance the learning process. DELIVERY SYSTEMS: The PLATO delivery system is configured to use personal computers (PC's) running MS-DOS-TM- or MS-Windows/DOS-TM-. While the PLATO system can run on a stand-alone PC with a CD-ROM drive, the vast majority of installations use a local area network (LAN) with a file server computer and 10 to 30 workstation PC's. The PLATO system may be physically housed in a single room or laboratory setting or dispersed among several rooms within a building or buildings in a campus setting. Additionally, PLATO LAN-based systems may be configured with remote administration software enabling any number of distant learning locations and workstations to be connected to a central site via telecommunications software and hardware. Courseware is stored on the file server on a high speed hard disk or, for single PC's and CD-ROM server networks, on a CD-ROM. Students access the file server through the LAN and the network software accesses the courseware as needed. Instructors can monitor the system and the students via any workstation, or using a dedicated administrator's workstation, printing test results or other data on a network printer. A typical Aviation Training System is configured to run on 486 and Pentium-TM- multimedia PC's. Aviation Training courseware can run on stand-alone or networked systems ranging from a few 16 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED DELIVERY SYSTEMS, Continued workstations to a company-wide intranet with full administrative and student monitoring capabilities. Since many airlines have large information technology departments, the Company is becoming less involved in the supply and installation of hardware, but still retains a worldwide customer consultation and support capability when clients require it. There are also a growing number of airlines reviewing the benefits of using laptop computers with courseware to enable training at any time. PLATO ON THE INTERNET/INTRANET: During 1996, the Company initiated a project to develop the capability to deliver the PLATO courseware library over the Internet. The initial implementation of the system was piloted in Tennessee in partnership with Tennessee Tomorrow, Inc., a public private partnership involved with economic development. The test included delivery to medium and large businesses and community training organizations in the state. In addition to delivery via the Internet, the Company has successfully piloted this system on several client Intranets. Based on the positive results of the Tennessee pilot, the Company has introduced the production version of PLATO courseware on the Internet. The new platform includes a Windows-based learning folder that allows seamless access to both local computer and World Wide Web-based learning resources. The product includes delivery of the PLATO library over the Internet using the new PLATO Pathways instructional management system, access to Web links and off line resources, and discussion groups. Program coordinators, who manage learner activity, have special access to new Web-based tools for creating and managing learner activity, managing discussion groups and generating administrative reports on learner usage and progress. In addition, provisions have been made for adding third-party Web and non-Web based products to enhance the breadth and scope of the learning experience. Currently, TRO is delivering PLATO courseware on the Internet via a network of PLATO Education Partners (described below), a regional telephone company (BC-TEL), as well as several charter schools. In addition, the Company expects to deliver PLATO courseware on the Internet via another regional telephone company (Bell South) in 1998. The Company is currently adding new features such as the ACT WorkKeys locator tests, a new Windows-based assessment system, problem-based Web activities, and the Company's new Windows-based courseware products. 17 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCTS AND SERVICES, CONTINUED CONSULTING SERVICES: Pre-sale and post-sale support services provided by the Company's education consultants assist in the successful implementation of the Company's programs. Education consultants help clients prepare the site for installation of computer hardware and software, monitor the actual installation process, and provide on-site consultation and training for lab managers, instructors and administrators in the use and integration of courseware within their programs. The Company's education consultants maintain ongoing contact with each client, providing consultative and support services to ensure the success of their programs. SALES AND MARKETING: The Company's strategy is to use its own sales force in North America and the U.K. In Aviation Training, the Company utilizes agents in many foreign countries to supplement its marketing service and support activities. The Company has established exclusive distribution agreements with distributors experienced in education product distribution in the following countries: Singapore, Malaysia, Korea, Taiwan, United Arab Emirates, Brunei, Panama, Costa Rica and South Africa. The Company targets potentially large and high growth market niches to which the Company's existing and future products can be effectively sold. The Company's marketing and sales efforts are designed to increase market penetration and reinforce the Company's reputation for product quality, customer satisfaction, and service. As of October 31, 1997, sixty-nine account managers are responsible for sales of PLATO Learning Systems and for maintaining an active relationship with both current and potential clients. Sixty-one education consultants are responsible for training clients and implementing PLATO Learning Systems. In addition, as a strategy to extend PLATO Education's sales and marketing reach to businesses and other constituencies served by community colleges, the Company enters into contracts with PLATO Education Partners (PEP's). Under these arrangements, the PEP's, principally community colleges, market PLATO courseware and consulting services to small and medium sized businesses within the local community to meet the education and training needs of their employees. Within this strategy, the Company has also identified other organizations as Internet Marketing Partners to specifically market licenses for delivery of PLATO over the Internet. When the PEP commits to a minimum level of purchases of PLATO licenses or usage over a period of time, the Company expects generally to recognize revenue ratably over the contract term. 18 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED SALES AND MARKETING, CONTINUED The Company is also pursuing marketing relationships with Internet providers to make available the PLATO courseware library to consumers and businesses. The Company expects to recognize revenue from such sales principally as usage occurs. The Company reaches potential clients and reinforces its market image by attending and making presentations at national, regional and state conventions and conferences, sponsoring instructional and teaching seminars, and publicity in trade journals. It conducts extensive direct mail and telemarketing campaigns to targeted prospects within each market segment to secure leads and promote increased awareness of the Company and the PLATO courseware. In addition, the Company has developed and maintains a comprehensive web site on the Internet's World Wide Web, which allows for the dissemination of news and information about the Company's products, services, and clients. The Company has relationships with many industry associations, such as the American Association of Community and Junior Colleges, the National Alliance of Business, and the Corrections Education Association. Additional marketing activities to promote the effectiveness of PLATO products to potential clients include the publication of formal evaluation data, program and application reports, and the distribution of press/news releases to appropriate sources. The Company's Aviation Training products and services are marketed directly to airlines and training centers around the world through account managers based in Minneapolis and in London. Sales regions for the consolidated U.S. and U.K. operations include North America, South America, Asia/Pacific, Europe, Africa, and the Middle East. The Company participates in the major international air shows. In addition to direct sales activities, the Company markets to its prospective aviation clients by direct mail, including publication and distribution of its AVIATION NEWSLETTER and AVIATION PRODUCT UPDATE. Major trade publications also include articles about the Company's Aviation Training products and services. These publications are effective in reinforcing the Company's position as one of the leaders in aviation training. COMPETITION: In all of its markets, the Company competes primarily against more traditional methods of education and training, principally live classroom instruction. The Company has seen increased acceptance of multimedia-based, computer-aided methods of training and education due to, among other reasons, their flexibility, cost-efficiency, and demonstrated effectiveness. 19 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED COMPETITION, CONTINUED Within the education and training services market, the Company competes primarily on the basis of the depth and recognized quality of its courseware and its ability to deliver a flexible, cost-effective, and customized solution to a client's education and training needs on a timely basis. Based on recent competitive situations in which it has participated, the Company believes that product depth, quality, and effectiveness are more important competitive factors than price. Within the academic computer-based education market, the Company competes most directly with other learning system providers, including Viacom and Jostens Learning. While these companies are focused primarily on the elementary school market, they compete to some degree with the Company in the adult and young adult market. Although Viacom is significantly larger than the Company, PLATO courseware offers a comprehensive curriculum developed specifically for adult and young adult learners. In the post-secondary and training markets there are many regional and specialized competitors. The Company's competition in computer-based aviation training comes from three distinct sources: airframe manufacturers, airlines' internal training departments, and other computer-based training companies. Major airframe manufacturers such as Airbus, Boeing, and McDonnell-Douglas occasionally provide their own training programs with the purchase of the aircraft. Often, airlines accept these courses because they are included in the purchase price of the aircraft. Internal training departments of airlines also compete with the Company. The Company believes that airlines have developed their own training programs because the quality of training provided by airframe manufacturers has been inconsistent. Large airlines, for example, American Airlines and Delta Airlines, have significant internal resources to develop courseware. Internally developed programs include stand-up instruction, audio and video tape, and computer-aided training programs. The Company's major external competitor is Attachematc Corporation. The majority of this competitor's courseware, which is principally owned by third parties and marketed by Attachematc, uses older technology and was developed in a lower resolution than the Company's courseware. PRODUCT DEVELOPMENT AND CUSTOMER SUPPORT: The technological aspects of product development, maintenance, and client support are in many ways similar for all of the Company's products. The Company's product development and systems development group develops, enhances, and maintains the courseware, curriculum management software, and delivery system platforms employing a rigorous multi-phased product development methodology and process management system. While based on both classical instructional design concepts and models, as well as 20 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCT DEVELOPMENT AND CUSTOMER SUPPORT, CONTINUED traditional systems development management techniques, the product development methodology has been constructed to specifically address the creation of individualized, learner-controlled, interactive instruction using the full multimedia capabilities of today's personal computing and other related technologies. The integral quality control and assurance mechanisms and procedures of the development methodology enhance the instructional effectiveness and content integrity of the resulting product. They also help to ensure that the most appropriate and highest quality production values are achieved in the development of all software graphics, audio, video, and text. Central to the courseware development process are three proprietary software tools: the PLATO instructional management system, PLATO PATHWAYS - designed for system control, the tracking and reporting of student performance and administration; MICRO PLATO AUTHORING SYSTEM (MPAS) - software used in the enhancement and maintenance of existing PLATO courseware; and PLATO CURRICULUM DESIGN, DEVELOPMENT AND DELIVERY (PCD3) SYSTEM - a proprietary yet flexible MS-DOS-TM- based development tool. The Company recently released its first major new PLATO Education product specifically developed for Windows. The Advanced Reading Strategies (ARS) course has been developed with the Company's new WinPLATO architecture using the Asymetrix ToolBook Author system. Seven new Windows courses for the education and workplace environments are currently in development and will be released in phases during 1998. The Company's technical support group provides a full range of support services in an effort to ensure a client's satisfaction with the quality and effectiveness of its products and services. In addition, staff engineers continuously evaluate and recommend new technology that not only improves system performance and capability, but also reduces cost. Before release, each individual product undergoes a series of separate tests before it is approved and made available for client use. The Company does not develop any operating system software, as distinct from its courseware products, nor does it manufacture any hardware components. The Company assembles ("integrates") standard hardware components and off-the-shelf software products into an appropriately configured platform for the Company's proprietary courseware and management system which is then integrated and fully tested for 24 to 48 hours under normal operating conditions. Full-time professionals, with general technical expertise and extensive operational knowledge of the Company's products, provide pre-sales technical consultation and support to the Company's field sales organization and are responsible for the final technical review and approval of all proposed delivery platforms and installation configurations. These professionals also consult and 21 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PRODUCT DEVELOPMENT AND CUSTOMER SUPPORT, CONTINUED coordinate with the client, account manager, and installation team regarding site preparation, schedule system installation and confirm full acceptance. They also monitor client satisfaction, maintenance, and other support requirements. All manufacturers' warranties are passed through to the Company's clients. After the warranty periods are over, the Company offers maintenance contracts through third-party service organizations. The Company contracts with outside vendors, primarily BancTec Services Corp., for hardware installation and maintenance services for its client sites. In addition, the Company distributes a limited amount of third-party courseware and also purchases various off-the-shelf software and hardware products from Novell, Microsoft, and other vendors. The Company provides its clients with a 24-hour, toll-free, problem resolution and support "hotline" service. Through the use of a remote diagnostics tool and on-line access to the Company's "Client Profile" database, full-time client support specialists can address client issues and successfully resolve most problems during the initial call. Depending on the nature of the problem, the hotline staff may dispatch a service engineer to the client site, document the problem and refer it to the appropriate specialist for resolution, or call for immediate on-line support from more senior technical personnel. The Company has supplier relationships with several hardware and software vendors. Although these relationships are important to the Company, management believes that, in the event that such products or services were to cease to be available, alternative sources could be found on terms acceptable to the Company. PROPRIETARY RIGHTS: The Company regards its courseware and software as proprietary and relies primarily on a combination of statutory and common law copyright, trademark, trade secret laws, license and distribution agreements, employee and third-party non-disclosure agreements, and other methods to protect its proprietary rights. The Company owns the federal registration of the PLATO trade-mark. In addition, in 1989 Control Data assigned to the Company federally-registered copyrights in the PLATO courseware. The Company has not recorded the assignment of these copyrights because it believes the additional statutory rights resulting from recordation are not necessary for the protection of the Company's rights therein. The Company has federal copyrights in all PLATO and Aviation courseware produced since 1989. The Company has not applied for trademark registration at the state level, but has instead relied on its federal registrations and state common law rights to protect its proprietary information. The Company has registered trademarks in the United States and overseas for PLATO. The Company regards these registrations as material to its 22 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 1. BUSINESS, CONTINUED PROPRIETARY RIGHTS, CONTINUED business. The Company licenses some courseware and software from third-party developers and incorporates them into the Company's courseware offerings and integrated learning systems. Pursuant to a settlement agreement entered into in October 1992, the Company has granted certain limited courseware and software licenses to Drake and Control Data Systems, Inc. (CDSI). The licenses will permit Drake and CDSI to market certain earlier versions of portions of the PLATO courseware in certain specified situations. The Company believes that the limited licenses granted to Drake and CDSI will have no material adverse impact on its future business. BACKLOG: The Company's backlog consists of orders for the delivery of goods and services in future periods. The total Company backlog was approximately $11.7 million at October 31, 1997 and $17.5 million at October 31, 1996. The backlog for PLATO Education and Aviation Training was $8.5 million and $3.2 million, respectively, at October 31, 1997. From time to time, the Company may have longer-term contracts in its backlog for the delivery of Aviation Training and PLATO Learning Systems. At October 31, 1997, approximately $1.6 million of such orders (included in the foregoing backlog figure) are expected to be delivered subsequent to fiscal 1998. CYCLICALITY: The Company's quarterly operating results fluctuate as a result of a number of factors including the business and sales cycle, the amount and timing of new product introductions by the Company, product shipments, client funding issues, marketing expenditures, product development expenditures, and promotional programs. In addition, certain of the Company's PLATO Education and Aviation Training clients experience cyclical variations in funding which can impact the Company's revenue patterns. The Company's quarterly revenues can also fluctuate based upon spending patterns, budget cycles, and the fiscal year ends of these clients. The Company historically has experienced higher levels of revenues in its fourth fiscal quarter. EMPLOYEES: As of October 31, 1997, the Company employed 358 people on a full-time basis, including 73 in product development and operations, 209 in sales and marketing, 47 in technical support, and 29 in finance and administration. 23 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 2. FACILITIES The Company leases approximately 50,000 square feet of office and warehouse space in Edina and Bloomington, Minnesota for its corporate headquarters and 5,400 square feet of office space for its executive offices in Hoffman Estates, Illinois. The Company's Canadian subsidiary leases 2,700 square feet for its principal offices in Toronto, and the United Kingdom subsidiary occupies 8,000 square feet in Berkshire, England. The Company also maintains sales offices in Dallas, Houston, San Antonio and Texarkana, Texas; Skippack, Pennsylvania; Alexandria, Virginia; Huntington Beach, California; Ft. Lauderdale, Florida; Westport, Connecticut; Lenexa, Kansas; Chicago, Illinois; Nashville, Tennessee; and Charlotte, North Carolina. In Canada, the Company maintains sales offices in Vancouver, British Columbia; Bedford, Nova Scotia; Winnipeg, Manitoba; and Moncton, New Brunswick. The leases for the Company's offices in Edina and Bloomington, Minnesota expire March 31, 1999 and March 31, 2001, respectively and the lease for the executive offices in Hoffman Estates, Illinois expires August 31, 2000. See Note 6 of Notes to Consolidated Financial Statements. The Company's leased facilities are adequate to meet its business requirements. ITEM 3. LEGAL PROCEEDINGS On December 15, 1997, a securities fraud class action was filed in the United States District Court for the Northern District of Illinois against the Company and two of its current and former executive officers. The purported class action was filed on behalf of all persons who purchased common stock of the Company during the period December 7, 1995 through June 10, 1997, seeking damages for alleged violations of the federal securities laws. The complaint in the purported class action alleges that throughout this time period, defendants knowingly participated in a course of conduct involving misrepresentation and concealment of adverse material information about the business and finances of the Company. The complaint alleges that the course of action followed by the defendants caused the plaintiff and other members of the purported class to purchase the Company's securities at artificially inflated prices. The complaint seeks damages suffered as a result of the actions of the defendants, including costs, expenses and fees incurred in the litigation. The Company cannot predict the outcome of this litigation but believes it has meritorious defenses to these allegations and intends to defend itself vigorously. ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders, through the solicitation of proxies or otherwise, during the fourth quarter ended October 31, 1997. 24 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT The Executive Officers of the Company are as follows: William R. Roach Chairman of the Board, President and Chief Executive Officer G. Thomas Ahern Senior Vice President, PLATO Education Sales and Marketing Wellesley R. Foshay Vice President, Instructional Design and Cognitive Learning David H. LePage Vice President, Systems Development, Client Support and Operations Mary Jo Murphy Vice President, Corporate Controller and Chief Accounting Officer John Murray Senior Vice President, Operations Andrew N. Peterson Senior Vice President, Chief Financial Officer, Secretary and Treasurer Steven R. Schuster Vice President and Assistant Treasurer John C. Super Vice President, Marketing Carl Thompson Vice President, Aviation Sales and Operations Executive officers are appointed by, and serve at the discretion of, the Board of Directors. William R. Roach, age 57, has been Chairman of the Board of Directors, President and Chief Executive Officer of the Company since its founding in 1989. Prior to founding the Company, from 1987 to 1988, Mr. Roach was President and Chief Executive Officer of Applied Learning International, Inc. (ALI), a training and education company and successor to Advanced Systems, Inc. (ASI), and a Director and Senior Vice President of ALI's parent, National Education Corporation (NEC). From 1981 to 1987, Mr. Roach was the Chief Executive Officer of ASI, a New York Stock Exchange listed training and education company which was acquired by NEC in 1987. After leaving ALI in 1988, Mr. Roach led a group of investors in pursuing an acquisition in the field of training and education. 25 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT, CONTINUED G. Thomas Ahern, age 39, was promoted to Senior Vice President, PLATO Education Sales and Marketing in October 1997. From January to October 1997, he was Vice President, PLATO Education Sales, North America, and from December 1992 to October 1997 he served as Vice President, U.S. Sales, PLATO Education. Previously, he was Regional Vice President, Sales for the Company since its founding in 1989. From January 1989 to September 1989, Mr. Ahern was National Sales Manager for the training and education group of Control Data Corporation, a computer hardware, software and data services company. Wellesley R. Foshay, Ph.D., age 50, has served as Vice President, Instructional Design and Cognitive Learning since the Company's founding in 1989. From 1987 to 1989, Dr. Foshay was Senior Director, Quality Assurance, Standards and Training for ALI. David H. LePage, age 51, has served in his present capacity, Vice President, Systems Develop-ment, Client Support and Operations, since the Company's founding in 1989. From 1972 to 1989, Mr. LePage was General Manager, Systems Development and Technical Support for the training and education group of Control Data Corporation. Mary Jo Murphy, age 41, joined the Company in August 1993 as Vice President, Corporate Controller and Chief Accounting Officer. From 1986 to 1992, she was Corporate Controller for Krelitz Industries, Inc., a drug distribution company. Ms. Murphy, a Certified Public Accountant, was formerly an Audit Supervisor for Coopers & Lybrand. John Murray, age 42, joined the Company in 1989 as Managing Director of the United Kingdom subsidiary. He has served in his present capacity, Senior Vice President, Operations since October 1997. From April 1996 to October 1997 he held the position of Vice President, Product Development. From November 1994 to March 1996, Mr. Murray was Vice President, Aviation Sales and Operations. He served as Vice President, Eastern Aviation Sales and Operations, from 1991 to 1994. From 1986 to 1989, Mr. Murray was Manager of Training Systems Group for Control Data Limited. Andrew N. Peterson, age 45, joined the Company in April 1997 as Senior Vice President, Chief Financial Officer, Corporate Secretary and Treasurer. From 1995 to 1996 Mr. Peterson was Chief Financial Officer of TSR, Inc., a publishing company. From 1986-1994 Mr. Peterson held the position of Chief Financial Officer of Duplex Products, Inc., a business forms manufacturer. Mr. Peterson is a Certified Public Accountant and holds an MBA from Northern Illinois University. Steven R. Schuster, age 37, joined the Company in December 1996 as Vice President and Assistant Treasurer. From 1993 to 1996, he was Vice President for Norwest Bank, a financial services company. Mr. Schuster was formerly the Assistant Treasurer of St. Jude Medical, Inc. 26 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART I ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT, CONTINUED John C. Super, age 50, joined the Company in 1990 as a Workplace Account Manager. He has served in his present capacity as Vice President, Corporate Marketing, since February 1997. From 1992 through 1996 he served as Vice President, Strategic Sales and during 1991 as Vice President Sales, Eastern Region. Prior to joining TRO, Mr. Super served in sales and management capacities with Wicat Systems and Computer Curriculum Corporation. Carl E. Thompson, age 35, has served in his present capacity as Vice President, Aviation Sales and Operations and Managing Director of the United Kingdom Aviation Training subsidiary since April 1996. From November 1994 to March 1996 has was General Manager of the U.K. subsidiary. From May 1993 to October 1994 he was Manager - Customer Support, of Aviation Training. Prior to joining TRO, Mr. Thompson was Business Manager for CSS Limited, a computer services company. 27 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS MARKET INFORMATION: The Company's common stock is publicly traded on the NASDAQ National Market System under the symbol, TUTR. The following table presents the high and low closing prices for the Company's common stock as reported by NASDAQ for each quarter during the years ended October 31, 1997 and 1996: FISCAL 1997 ---------------------------------------- FIRST SECOND THIRD FOURTH --------- -------- ------- ---------- High $ 21.88 $ 11.50 $ 12.13 $ 11.00 Low 10.00 7.06 7.00 7.25 FISCAL 1996 ---------------------------------------- FIRST SECOND THIRD FOURTH --------- -------- ------- ---------- High $ 16.75 $ 17.00 $ 19.75 $ 19.50 Low 5.94 10.00 12.38 14.25 HOLDERS: There were approximately 4,100 stockholders of record as of December 10, 1997 (includes individual participants in security position listings). DIVIDENDS: The Company has not declared or paid dividends on its common stock. The Company's ability to pay dividends is restricted by its revolving loan agreement (see Note 3 of Notes to Consolidated Financial Statements). While future dividend payments are at the discretion of the Board of Directors, the Company is growth-oriented and there is no present intention to pay a cash dividend on its common stock. 28 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA (In thousands, except per share data)
YEAR ENDED OCTOBER 31, ---------------------------------------------------------------------- 1997 1996 1995 1994 1993 ----------- ------------ ------------ ------------ ----------- INCOME STATEMENT DATA: Revenues by product line: PLATO Education. . . . . . . . . . . . $ 33,265 $ 36,980 $ 30,613 $ 22,591 $ 17,333 Aviation Training. . . . . . . . . . . 3,694 4,425 6,724 5,774 9,200 ----------- ------------ ------------ ------------ ----------- Total revenues . . . . . . . . . . . . 36,959 41,405 37,337 28,365 26,533 Gross profit . . . . . . . . . . . . . 30,484 35,192 29,669 22,587 21,419 Selling, general and administrative expense. . . . . . . . . . . . . . 36,988 27,537 19,027 15,494 11,144 Product development and customer support. . . . . . . . . . . . . . 8,036 5,307 4,487 7,515 4,671 Operating income (loss). . . . . . . . (14,540) 2,348 6,155 (1,222) 5,604 Interest expense . . . . . . . . . . . (1,317) (723) (300) (344) (102) Provision (credit) for income taxes. . 4,061 564 2,157 (533) 1,950 Income (loss) from continuing operations . . . . . . . . . . . . (20,217) 982 3,752 (889) 3,785 Income (loss) from discontinued operations . . . . . . . . . . . . --- --- --- (1,250) (738) PER SHARE OF COMMON STOCK (Pro forma basis for 1993): Income (loss) from continuing operations . . . . . . . . . . . . (3.24) 0.15 0.60 (0.14) 0.63 Loss from discontinued operations . . . . . . . . . . . . -- --- --- (0.20) (0.12) Net income (loss). . . . . . . . . . . (3.24) 0.15 0.60 0.53 0.76 BALANCE SHEET DATA: Total assets . . . . . . . . . . . . . 29,088 42,327 33,660 26,931 21,312 Total liabilities. . . . . . . . . . . 28,341 21,515 14,158 10,990 8,973 Stockholders' equity . . . . . . . . . 747 20,812 19,502 15,941 12,339
29 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW: The Company is a leading developer and marketer of microcomputer-based, interactive, self-paced instructional systems used in a wide variety of adult settings. Offering comprehensive educational courseware specifically designed for young adult and adult learners, the Company's PLATO-Registered Trademark- Learning Systems are marketed to middle schools and high schools, community colleges, job training programs, correctional institutions, government-funded programs, the military and corporations. The Company's TRO Aviation Training Systems are marketed to airlines worldwide for use by commercial airline pilots, maintenance crews, and cabin personnel. In November 1997, the Company announced that it had retained BancAmerica ROBERTSON STEPHENS to advise it regarding strategic alternatives to enhance shareholder value. FISCAL 1997 COMPARED TO FISCAL 1996: REVENUES: Total revenues of $36,959,000 for 1997 decreased by $4,446,000 or 11% as compared to $41,405,000 for 1996. The following table highlights revenues by product line (in 000's):
PLATO Education AVIATION TRAINING TOTAL -------------------- ------- ------- ----------------------- 1997 1996 1997 1996 1997 1996 -------- -------- ------- ------- -------- -------- Courseware license and support . . . . . . . . $27,830 $31,252 $3,390 $4,183 $31,220 $35,435 Hardware, third party courseware and other . . 5,435 5,728 304 242 5,739 5,970 -------- -------- ------- ------- -------- -------- Total revenues. . . . . . . . . . . . . . $33,265 $36,980 $3,694 $4,425 $36,959 $41,405 -------- -------- ------- ------- -------- -------- -------- -------- ------- ------- -------- --------
As summarized in the above table, PLATO Education courseware license and support revenues of $27,830,000 for 1997 decreased by $3,422,000 or 11% as compared to 1996. The majority of this decrease occurred in the fourth quarter of 1997 as compared to 1996. The Company does not anticipate that this is a long term trend. Aviation Training revenues of $3,694,000 decreased by $731,000 or 17% from the prior year, reflecting a general weakness in the aviation industry. The Company's quarterly operating results fluctuate as a result of a number of factors including the business and sales cycle, the amount and timing of new product introductions by the Company, product shipments, client funding issues, marketing expenditures, product development expenditures and promotional programs. The Company historically has experienced higher levels of revenues in its fourth fiscal quarter. 30 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED FISCAL 1997 COMPARED TO FISCAL 1996, CONTINUED GROSS PROFIT: Gross profit for 1997 decreased by $4,708,000 or 13% to $30,484,000 as compared to $35,192,000 for 1996. This decrease was due principally to the decline in PLATO Education courseware revenues. The Company's gross margin was 82% for 1997 as compared to 85% for 1996, reflecting the decline in courseware revenues. PLATO Education gross margin for 1997 was 83% compared to 86% for 1996. Aviation Training gross margin was 81% for 1997 compared to 76% for 1996. SELLING, GENERAL, AND ADMINISTRATIVE EXPENSE: Selling, general, and administrative expense for 1997 increased by $9,451,000 or 34% to $36,988,000 as compared to $27,537,000 for 1996. This increase was principally due to the additional provision for doubtful accounts of approximately $5,132,000 recorded in 1997, when it was determined that payment for numerous sales contracts would not be received. The majority of these sales were to customers which are dependent upon various government funding sources, and therefore subject to standard non-appropriation of funds. This one time adjustment is not expected to recur in future years. In addition, PLATO Education selling expense increased by approximately $2,736,000, primarily for salaries, fringe benefits and travel due to the expansion of the sales and service organization. In late fiscal 1997, the Company initiated plans to restructure its operations to achieve significant cost reductions and improve operating efficiencies. PRODUCT DEVELOPMENT AND CUSTOMER SUPPORT: Product development and customer support expense for 1997 increased by $2,729,000 or 51% to $8,036,000 as compared to $5,307,000 for 1996. While PLATO Education product development spending was comparable for 1997 as compared to 1996, product development expense increased principally as a result of decreased capitalization and the increased effect of amortization of previously capitalized costs. 31 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED FISCAL 1997 COMPARED TO FISCAL 1996, CONTINUED OPERATING INCOME (LOSS): Operating loss for 1997 was $(14,540,000) as compared to operating income of $2,348,000 for 1996. This decline was due primarily to the decrease in PLATO Education revenues and gross profit, and the increase in PLATO Education selling, bad debt and product development expenses. INTEREST EXPENSE: Interest expense was $1,317,000 for 1997 as compared to $723,000 for 1996. Interest expense increased due to the Company's long term debt incurred during 1997. PROVISION FOR INCOME TAXES: The Company took a non-cash tax charge of $4,061,000 in 1997 to record a valuation allowance against the deferred tax asset. Such valuation allowance has been provided based on the inherent uncertainty of predicting the sufficiency of the future taxable income necessary to realize the benefit of the net deferred tax asset in light of the Company's recent loss history and the competitive nature of the industry in which the Company operates. FISCAL 1996 COMPARED TO FISCAL 1995: REVENUES: Total revenues of $41,405,000 for 1996 increased by $4,068,000 or 11% as compared to $37,337,000 in 1995. The following table highlights revenues by product line (in 000's):
PLATO Education AVIATION TRAINING TOTAL --------------------------------------------------------------------------- 1996 1995 1996 1995 1996 1995 --------- --------- --------- -------- --------- ------- Courseware license and support . . . . . . . . $31,252 $ 25,612 $ 4,183 $ 4,599 $ 35,435 $30,211 Hardware, third party courseware and other . . 5,728 5,001 242 2,125 5,970 7,126 --------- --------- --------- -------- --------- ------- Total revenues. . . . . . . . . . . . . . $36,980 $ 30,613 $ 4,425 $ 6,724 $ 41,405 $37,337 --------- --------- --------- -------- --------- ------- --------- --------- --------- -------- --------- -------
As summarized in the above table, PLATO Education revenues of $36,980,000 for 1996 increased by $6,367,000 or 21% as compared to 1995. This increase can be attributed to increased market penetration resulting from the expansion of the PLATO Education sales force and new products. 32 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED FISCAL 1996 COMPARED TO FISCAL 1995, CONTINUED REVENUES, CONTINUED: Aviation Training revenues of $4,425,000 decreased by $2,299,000 or 34% from the prior year, due principally to a decline in low margin hardware sales, reflecting the Company's focus on the sale of high margin courseware products. The decline in Aviation Training courseware revenues reflects a general weakness in the aviation industry. The Company's quarterly operating results fluctuate as a result of a number of factors including the business and sales cycle, the amount and timing of new product introductions by the Company, product shipments, client funding issues, marketing expenditures, product development expenditures and promotional programs. The Company historically has experienced higher levels of revenues in its fourth fiscal quarter. GROSS PROFIT: Gross profit for 1996 increased by $5,523,000 or 19% to $35,192,000 as compared to $29,669,000 for 1995. This increase was due principally to PLATO Education revenue growth and a favorable mix of courseware revenue. The Company's gross margin was 85% for 1996 as compared to 79% for 1995. Increased courseware revenues and a decline in hardware revenues resulted in a significantly improved gross margin for 1996. PLATO Education gross margin for 1996 was 86% compared to 84% for 1995. Aviation Training gross margin was 76% for 1996 compared to 57% for 1995. SELLING, GENERAL, AND ADMINISTRATIVE EXPENSE: Selling, general, and administrative expense for 1996 increased by $8,510,000 or 45% to $27,537,000 as compared to $19,027,000 for 1995. PLATO Education sales and marketing expenses, including commissions, increased $6,264,000, principally as a result of the growth in sales volume and the planned expansion of the sales and service organization. In addition, in the fourth quarter of 1996, the Company recorded a provision for doubtful accounts of approximately $1,700,000. 33 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED FISCAL 1996 COMPARED TO FISCAL 1995, CONTINUED PRODUCT DEVELOPMENT AND CUSTOMER SUPPORT: Product development and customer support expense for 1996 increased by $820,000 or 18% to $5,307,000 as compared to $4,487,000 for 1995. Product development expense of $2,947,000 increased by $366,000, or 14%, as a result of increased Aviation Training product development spending as well as a slight increase in PLATO Education spending. During fiscal 1996, the Company developed a new, state-of-the-art, Windows-based instructional management system that will replace the current DOS-based curriculum manager for systems that support the Windows operating system. These costs were offset by a decrease in spending due to the completion of the PLATO WorkSkills curricula. Customer support expense for PLATO Education of $2,097,000 increased by $438,000, or 26%, as a result of increased revenue levels and the broadening customer base. OPERATING INCOME: Operating income for 1996 was $2,348,000 as compared to $6,155,000 for 1995. This decline was due primarily to PLATO Education increased revenues and gross profit being more than offset by increased sales and marketing and customer support expenses. INTEREST EXPENSE: Interest expense was $723,000 for 1996 as compared to $300,000 for 1995. Interest expense increased due to a higher level of borrowings under the Company's revolving loan agreement during 1996. In addition, the sale of certain installment receivables at a discount resulted in the recognition of interest expense in the second quarter of fiscal 1996 (see Note 2 of Notes to Consolidated Financial Statements). LIQUIDITY AND CAPITAL RESOURCES: As of October 31, 1997, the Company's principal sources of liquidity included cash and cash equivalents of $537,000, net accounts receivable of $18,305,000 and its line of credit. The Company has total installment receivables of $6,829,000 at October 31, 1997, of which $6,264,000 are due within one year and are included in net accounts receivable. Net cash used in the Company's operating activities was $5,677,000 in 1997, $4,223,000 in 1996, and $4,782,000 in 1995. Cash flows from operations were used principally to fund the Company's working capital requirements. In addition to cash flows from operations, the Company has 34 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED LIQUIDITY AND CAPITAL RESOURCES, CONTINUED resources available under its revolving loan agreement to provide borrowings up to a maximum of $18,000,000 (see Note 3 of Notes to Consolidated Financial Statements). At October 31, 1997, borrowings of $8,908,000 were outstanding at an interest rate of 10%. The agreement provides for financial covenants which require a minimum level of operating profit and a minimum liabilities to equity ratio. The Company did not comply with the financial covenants for the year ended October 31, 1997. On December 8, 1997 the loan agreement was amended to waive compliance with certain covenants for the period ended October 31, 1997, to reset such covenants, to provide additional borrowings up to a maximum of $3,500,000 from time to time during certain periods of the term of the loan agreement and to extend the commitment through August 31, 1998. Additionally, the amendment terminated the Company's option to incur LIBOR-based interest loans and the option to automatically extend the commitment for an additional two years. The Company's net cash flow used in investing activities was $762,000 in 1997 and $1,020,000 in 1996 principally for capital expenditures. The Company's net cash flow provided by investing activities was $1,557,000 in 1995, principally from the sale of marketable securities to fund working capital needs. The Company's capital expenditures totaled $762,000, $1,033,000, and $668,000 in 1997, 1996 and 1995, respectively. At October 31, 1997, the Company had no material commitments for capital expenditures. The Company's net cash flow provided by financing activities was $6,527,000 in 1997, principally from long term debt issued, and $5,429,000 in 1996 and $3,319,000 in 1995, principally from borrowings under the line of credit. The Company took a non-cash tax charge of $4,061,000 in 1997 to record a valuation allowance against the deferred tax asset. Such valuation allowance has been provided based on the inherent uncertainty of predicting the sufficiency of the future taxable income necessary to realize the benefit of the net deferred tax asset in light of the Company's recent loss history and the competitive nature of the industry in which the Company operates. In prior years the primary differences between pretax earnings for financial reporting purposes and taxable income for income tax purposes included revenue recognition, the capitalization of product development costs and various reserves. The Company has net operating loss carryforwards of approximately $27.5 million which do not start expiring until 2004. 35 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED LIQUIDITY AND CAPITAL RESOURCES, CONTINUED From time to time, the Company evaluates making acquisitions of products or businesses that complement the Company's core business. The Company has no present understandings, commitments, or agreements with respect to any material acquisitions of other businesses, products, or technologies. However, the Company may consider and acquire other complementary businesses, products, or technologies in the future. The Company is currently reviewing financing alternatives to meet its short and long-term working capital, capital expenditure, and business investment requirements. 36 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Page (a) (1) Consolidated Financial Statements: Report of Independent Accountants. . . . . . . . . . . . . . . 38 Consolidated Balance Sheets as of October 31, 1997 and 1996. . 39 Consolidated Statements of Income for the years ended October 31, 1997, 1996 and 1995. . . . . . . . . . . . . . . . 40 Consolidated Statements of Stockholders' Equity for the years ended October 31, 1997, 1996 and 1995. . . . . . . . . . . . . 41 Consolidated Statements of Cash Flows for the years ended October 31, 1997, 1996 and 1995. . . . . . . . . . . . . . . . 42 Notes to Consolidated Financial Statements . . . . . . . . . . 43-53 (2) Consolidated Financial Statement Schedule for the years ended October 31, 1997, 1996 and 1995: Report of Independent Accountants on Consolidated Financial Statement Schedule . . . . . . . . . . . . . . . . . . . . . . 57 Schedule II. Valuation and Qualifying Accounts and Reserves. . 58 All other schedules called for under Regulation S-X are not submitted because they are not applicable, or because the required information is not material or is included in the consolidated financial statements or notes thereto. 37 REPORT OF INDEPENDENT ACCOUNTANTS To the Stockholders and Board of Directors of TRO Learning, Inc. We have audited the accompanying consolidated balance sheets of TRO Learning, Inc. and Subsidiaries as of October 31, 1997 and 1996, and the related consolidated statements of income, stockholders' equity and cash flows for each of the three years in the period ended October 31, 1997. 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 generally accepted auditing standards. Those standards require that we plan and perform the audit 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 consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of TRO Learning, Inc. and Subsidiaries as of October 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended October 31, 1997 in conformity with generally accepted accounting principles. COOPERS & LYBRAND L.L.P. Chicago, Illinois January 12, 1998 38 TRO LEARNING, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE DATA)
OCTOBER 31, ----------------------- 1997 1996 ---------- -------- ASSETS Current assets: Cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 537 $ 475 Accounts receivable, less allowances of $7,020 and $510, respectively . . . . . . . . . . . . 18,305 24,163 Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 990 1,097 Prepaid expenses and other current assets . . . . . . . . . . . . . . . . . . . . . . . . . . 688 1,051 -------- -------- Total current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20,520 26,786 Equipment and leasehold improvements, less accumulated depreciation of $4,092 and $3,250, respectively. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,271 1,368 Product development costs, less accumulated amortization of $2,562 and $680, respectively . . . 5,989 5,528 Deferred tax asset. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . --- 5,906 Other assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,308 2,739 -------- -------- $29,088 $42,327 -------- -------- -------- -------- LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,472 $ 2,588 Accrued employee salaries and benefits. . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,199 3,079 Accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,072 3,705 Revolving loan. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,908 8,612 Deferred tax liability. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . --- 1,845 Deferred revenue. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,949 1,137 -------- -------- Total current liabilities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24,600 20,966 Long term debt. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,050 --- Deferred revenue, less current portion. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 519 296 Other liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 172 253 Stockholders' equity: Common stock, $.01 par value, 25,000 shares authorized; 6,450 shares issued and 6,405 shares outstanding in 1997; 6,190 shares issued and 6,167 shares outstanding in 1996 . . . . . . . . . . . . . . . . . 64 62 Paid in capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22,074 21,634 Treasury stock at cost, 45 and 23 shares, respectively. . . . . . . . . . . . . . . . . . . . (469) (208) Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (20,660) (443) Foreign currency translation adjustment . . . . . . . . . . . . . . . . . . . . . . . . . . . (262) (233) -------- -------- Total stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 747 20,812 -------- -------- $29,088 $42,327 -------- -------- -------- --------
See Notes to Consolidated Financial Statements 39 TRO LEARNING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED OCTOBER 31, -------------------------------------- 1997 1996 1995 ---------- --------- --------- Revenues by product line: PLATO Education.............................................. $33,265 $36,980 $30,613 Aviation Training............................................ 3,694 4,425 6,724 ---------- --------- --------- Total revenues............................................. 36,959 41,405 37,337 Cost of revenues............................................... 6,475 6,213 7,668 ---------- --------- --------- Gross profit............................................... 30,484 35,192 29,669 ---------- --------- --------- Operating expenses: Selling, general and administrative expense.................. 36,988 27,537 19,027 Product development and customer support..................... 8,036 5,307 4,487 ---------- --------- --------- Total operating expenses................................... 45,024 32,844 23,514 ---------- --------- --------- Operating income (loss).................................. (14,540) 2,348 6,155 Interest expense............................................... (1,317) (723) (300) Interest income and other expense, net......................... (299) (79) 54 ---------- --------- --------- Income (loss) before income taxes........................ (16,156) 1,546 5,909 Provision for income taxes..................................... 4,061 564 2,157 ---------- --------- --------- Net income (loss)........................................ $(20,217) $ 982 $3,752 ---------- --------- --------- ---------- --------- --------- Income (loss) per common and common equivalent share: Net income (loss)........................................ $ (3.24) $ 0.15 $ 0.60 ---------- --------- --------- ---------- --------- --------- Weighted average common and common equivalent shares outstanding.............................................. 6,233 6,643 6,280 ---------- --------- --------- ---------- --------- ---------
See Notes to Consolidated Financial Statements 40 TRO LEARNING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS)
COMMON STOCK ---------------------------------------------- FOREIGN CURRENCY TOTAL TREASURY ACCUMULATED TRANSLATION STOCKHOLDERS' SHARES AMOUNT PAID IN CAPITAL STOCK DEFICIT ADJUSTMENT EQUITY ------- ------- --------------- -------- ----------- ------------ ------------ Balances, November 1, 1994. . . . . . . . 6,073 $ 61 $ 21,291 --- $ (5,177) $(234) $15,941 Net income. . . . . . . . . . . . . . . --- --- --- --- 3,752 --- 3,752 Exercise of stock options and shares issued under employee stock purchase plan. . . . . . . . . . . . 27 --- 54 --- --- --- 54 Repurchase of shares. . . . . . . . . . (28) --- --- (183) --- --- (183) Changes in exchange rates . . . . . . . --- --- --- --- --- (62) (62) ------- ------- --------------- -------- ----------- ------------ ------------ Balances, October 31, 1995. . . . . . . . 6,072 61 21,345 (183) (1,425) (296) 19,502 Net income. . . . . . . . . . . . . . . --- --- --- --- 982 --- 982 Exercise of stock options and shares issued under employee stock purchase plan. . . . . . . . . . . . 99 1 289 50 --- --- 340 Repurchase of shares. . . . . . . . . . (4) --- --- (75) --- --- (75) Changes in exchange rates . . . . . . . --- --- --- --- --- 63 63 ------- ------- --------------- -------- ----------- ------------ ------------ Balances, October 31, 1996. . . . . . . . 6,167 62 21,634 (208) (443) (233) 20,812 Net loss. . . . . . . . . . . . . . . . --- --- --- --- (20,217) --- (20,217) Exercise of options, stock grants and shares issued under employee stock purchase plan . . . . . . . . . . . . 260 2 440 --- --- --- 442 Repurchase of shares. . . . . . . . . . (22) --- --- (261) --- --- (261) Changes in exchange rates . . . . . . . --- --- --- --- --- (29) (29) ------- ------- --------------- -------- ----------- ------------ ------------ Balances, October 31, 1997. . . . . . . . 6,405 $ 64 $ 22,074 $(469) $(20,660) $(262) $ 747 ------- ------- --------------- -------- ----------- ------------ ------------ ------- ------- --------------- -------- ----------- ------------ ------------
See Notes to Consolidated Financial Statements 41 TRO LEARNING, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEAR ENDED OCTOBER 31, ---------------------------------------- 1997 1996 1995 ---------- --------- --------- Cash flows from operating activities: Net income (loss). . . . . . . . . . . . . . . . . . . . . . . . . . . . $(20,217) $ 982 $3,752 ---------- --------- --------- Adjustments to reconcile net income (loss) to net cash used in operating activities: Deferred income taxes. . . . . . . . . . . . . . . . . . . . . . . . . 4,061 564 2,157 Depreciation and amortization. . . . . . . . . . . . . . . . . . . . . 2,644 1,466 807 Provision for doubtful accounts. . . . . . . . . . . . . . . . . . . . 7,252 2,120 300 Disposal of fixed assets . . . . . . . . . . . . . . . . . . . . . . . 2 180 41 Amortization of deferred revenue . . . . . . . . . . . . . . . . . . . --- --- (251) Changes in assets and liabilities: Increase in accounts receivable. . . . . . . . . . . . . . . . . . . (1,394) (8,680) (6,153) (Increase) decrease in inventories . . . . . . . . . . . . . . . . . 107 (52) 141 (Increase) decrease in prepaid expenses and other current and noncurrent assets. . . . . . . . . . . . . . . . . . . . . . . 1,794 1,255 (1,746) Increase in product development costs. . . . . . . . . . . . . . . . (2,251) (3,356) (2,851) Increase in accounts payable. . . . . . . . . . . . . . . . . . . . 884 341 144 Increase (decrease) in accrued liabilities, accrued employee salaries and benefits and other liabilities. . . . . . . . . . . . 406 742 (522) Increase (decrease) in deferred revenue. . . . . . . . . . . . . . . 1,035 215 (601) ---------- --------- --------- Total adjustments. . . . . . . . . . . . . . . . . . . . . . . . . 14,540 (5,205) (8,534) ---------- --------- --------- Net cash used in operating activities. . . . . . . . . . . . . . . (5,677) (4,223) (4,782) ---------- --------- --------- Cash flows from investing activities: Capital expenditures . . . . . . . . . . . . . . . . . . . . . . . . . (762) (1,033) (668) Proceeds from disposal of fixed assets . . . . . . . . . . . . . . . . --- 13 --- Decrease in marketable securities. . . . . . . . . . . . . . . . . . . --- --- 2,225 ---------- --------- --------- Net cash provided by (used in) investing activities . . . . . . . . (762) (1,020) 1,557 ---------- --------- --------- Cash flows from financing activities: Proceeds from issuance of long-term debt . . . . . . . . . . . . . . . 6,050 --- --- Net proceeds from short term borrowings. . . . . . . . . . . . . . . . 296 5,164 3,448 Net proceeds from the issuance of common stock . . . . . . . . . . . . 442 290 54 Purchase of treasury stock . . . . . . . . . . . . . . . . . . . . . . (261) (25) (183) ---------- --------- --------- Net cash provided by financing activities. . . . . . . . . . . . . . 6,527 5,429 3,319 ---------- --------- --------- Effect of foreign currency on cash . . . . . . . . . . . . . . . . . . . (26) 58 (63) ---------- --------- --------- Net increase in cash and cash equivalents. . . . . . . . . . . . . . . . 62 244 31 Cash and cash equivalents at beginning of period . . . . . . . . . . . . 475 231 200 ---------- --------- --------- Cash and cash equivalents at end of period . . . . . . . . . . . . . . . $537 $475 $231 ---------- --------- --------- ---------- --------- --------- Cash paid for interest expense . . . . . . . . . . . . . . . . . . . . . $1,234 $829 $293 ---------- --------- --------- ---------- --------- ---------
See Notes to Consolidated Financial Statements 42 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- 1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: NATURE OF BUSINESS: TRO Learning, Inc. and its subsidiaries (the Company) develop and market microcomputer-based, interactive, self-paced instructional systems. The Company markets such systems primarily to educational institutions and private industry. The Company's fiscal year is from November 1 to October 31. Unless otherwise stated, references to the years 1997, 1996 and 1995 relate to the fiscal years ended October 31, 1997, 1996 and 1995, respectively. PRINCIPLE OF CONSOLIDATION: The accompanying consolidated financial statements include the accounts of TRO Learning, Inc. and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. USE OF ESTIMATES: The preparation of financial statements in conformity with 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. CONCENTRATION OF CREDIT RISK: Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of accounts receivable. Credit risk is minimized as a result of the large number of the Company's customers. The Company performs evaluations of its customers' credit worthiness and generally requires no collateral from its customers. Although many of the Company's educational customers are dependent upon various government funding sources, and are subject to non-appropriation of funds, the Company does not believe there is a significant concentration of risk associated with any specific governmental program or funding source. Reserves have been established for numerous sales contracts for which payments were not received in 1997 due to non-appropriation of funds. As of October 31, 1997, the Company had no significant concentrations of credit risk. 43 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED CASH EQUIVALENTS: The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Such investments are carried at cost, which approximates fair value. INVENTORIES: Inventories, which consist principally of goods purchased for resale, are stated at the lower of cost (first in, first out) or market. EQUIPMENT AND LEASEHOLD IMPROVEMENTS: Equipment and leasehold improvements are stated at cost, less accumulated depreciation. Depreciation is provided using the straight-line method over the estimated useful lives of the assets. Upon retirement or disposition, cost and related accumulated depreciation are removed from the accounts, and any gain or loss is included in the results of operations. Maintenance and repairs are expensed as incurred. OTHER ASSETS: Other assets include principally intangible assets and installment receivables with terms greater than one year. FAIR VALUE OF FINANCIAL INSTRUMENTS: The fair value of the Company's debt is estimated to approximate the carrying value of these liabilities based upon borrowing rates currently available to the Company for borrowings with similar terms. REVENUE RECOGNITION: Revenue from the sale of education and training courseware licenses, computer hardware and related support services, principally maintenance, is recognized when the courseware, hardware, and related services are delivered. Upon delivery, future service costs, if any, are accrued. Future service costs represent the Company's problem resolution and support "hotline" service for a one year period. Deferred revenue represents the portion of billings made or payments received in advance of services being performed or products being delivered. 44 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED PRODUCT DEVELOPMENT, ENHANCEMENT, AND MAINTENANCE COSTS: The Company develops education and training products, referred to hereafter as courseware products. Costs incurred in the development of the Company's current generation courseware products and related enhancements and routine maintenance thereof are expensed as incurred. All costs incurred by the Company in establishing the technical feasibility of new courseware products to be sold, leased, or otherwise marketed are expensed as incurred. Once technical feasibility has been established, costs incurred in the development of new generation courseware products are capitalized. Amortization is provided over the estimated useful life of the new courseware products, generally three years, using the straight-line method. Amortization begins when the product is available for general release to customers. Unamortized capitalized costs determined to be in excess of the net realizable value of the product are expensed at the date of such determination. INCOME TAXES: The Company accounts for income taxes as required under the provisions of Statement of Financial Accounting Standards 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. Under this method, deferred tax liabilities and assets are determined based on the difference between the financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. In addition, the amount of any future tax benefits are reduced by a valuation allowance to the extent such benefits are not expected to be realized. COMPUTATION OF INCOME (LOSS) PER SHARE: Income (loss) per share is based upon the weighted average number of shares of common stock outstanding and, where dilutive, common equivalent shares from stock options and warrants (using the treasury stock method) and other potentially dilutive securities. Fully diluted income (loss) per share is not presented since the results are equivalent to primary income (loss) per share. FOREIGN CURRENCY TRANSLATION: Results of operations for foreign entities are translated using the average exchange rates during the period. Assets and liabilities are translated using the exchange rate in effect at the balance sheet date. Resulting translation adjustments are recorded as a separate component of stockholders' equity. 45 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED NEW ACCOUNTING STANDARDS: In February 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards 128, "Earnings Per Share" (SFAS 128), which requires the dual presentation of basic and diluted earnings per share. Under SFAS 128, the dilutive effect of stock options is excluded for calculating basic earnings per share. The Company will be required to adopt SFAS 128 beginning in the interim period ending January 31, 1998, and all prior periods are required to be restated. There will be no impact on reported earnings per share for 1997 because the Company incurred a loss for the period. The impact is expected to result in an increase to reported earnings per share of $0.01 for 1996. In June 1997, the FASB issued Statement of Financial Accounting Standards 130, "Reporting Comprehensive Income" (SFAS 130). Under SFAS 130, companies are required to report comprehensive income as a measure of overall performance. Comprehensive income includes all changes in equity during a reporting period, except those resulting from investments by owners and distributions to owners. The Company will adopt SFAS 130 for the fiscal year ending October 31, 1999. In June 1997, the FASB issued Statement of Financial Accounting Standards 131, "Disclosure About Segments of an Enterprise and Related Information" (SFAS 131). SFAS 131 redefines how operating segments are determined and requires expanded quantitative and qualitative disclosures relating to an entity's operating segments. The Company will adopt SFAS 131 for the fiscal year ending October 31, 1999. The American Institute of Certified Public Accountants has issued Statement of Position 97-2 "Software Revenue Recognition". SOP 97-2 is effective for transactions entered into in fiscal years beginning after December 15, 1997 and provides guidance on applying generally accepted accounting principles in recognizing revenue on software transactions. The Company does not expect the application of the SOP to have a material impact on the Company's financial condition or results of operations. 2. ACCOUNTS RECEIVABLE: Accounts receivable include net installment receivables of $6,264,000 and $13,023,000 at October 31, 1997 and 1996, respectively. Installment receivables with terms greater than one year were $565,000 and $1,909,000 at October 31, 1997 and 1996, respectively, and are included in other assets on the consolidated balance sheets. The provision for doubtful accounts, included in selling, general and administrative expenses on the consolidated statements of income, was $7,252,000, $2,120,000 and $300,000 for 1997, 1996 and 1995, respectively. During 1996 and 1995, the Company sold certain installment receivables, on a non-recourse basis, to financial institutions. Approximately $735,000 and $1,081,000 of receivables were sold at their discounted present value of approximately $599,000 and $981,000 in 1996 and 1995, respectively, at an effective rate of 8.6% and 9.3%, respectively. The difference between the gross receivable amount and the proceeds has been recorded as interest expense in the consolidated statements of income. 46 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 3. DEBT: The components of debt at October 31 are as follows (in thousands): 1997 1996 ------ ------ Current: Revolving loan........................... $ 8,908 $8,612 15% term loan............................ 3,000 --- ------- ------ Total current debt..................... $11,908 $8,612 ------- ------ ------- ------ Long term: 10% subordinated convertible debentures.. $ 3,050 $ --- ------- ------ ------- ------ The weighted average interest rate of borrowings outstanding under the revolving loan was 10% and 8.9% at October 31,1997 and 1996, respectively. In March 1997, the Company expanded its revolving loan agreement to provide for a maximum $18 million line of credit. The agreement has a commitment through August 2, 1998 with an option to extend for an additional two years. Substantially all of the Company's assets are pledged as collateral under the agreement. Borrowings are limited by the available borrowing base, as defined, consisting primarily of certain accounts receivable and inventory, and bear interest at the prime rate plus 1.5% or the LIBOR rate plus 3.25%, as determined by the Company. A commitment fee is payable based on the unused portion of the line of credit. The agreement provides for restrictions on dividends, investments, additional indebtedness, and the sale of assets, as defined, and for financial covenants requiring a minimum level of operating profit and a minimum liabilities to equity ratio. The Company did not comply with the financial covenants for the period ended October 31, 1997. On December 8, 1997, the loan agreement was amended to waive compliance with certain covenants for the period ended October 31, 1997, to reset such covenants, to provide additional borrowings up to a maximum of $3,500,000 from time to time during certain periods of the term of the loan agreement and to extend the commitment through August 31, 1998. Additionally, the amendment terminated the Company's option to incur LIBOR-based interest loans and the option to automatically extend the commitment for an additional two years. In addition, the expanded revolving loan agreement makes available a $3 million term loan, at an annual interest rate of 15%, during the remaining term of the agreement. The funds were borrowed in May 1997 and used to reduce the balance of the outstanding revolving loan. Also, in March 1997, the Company issued $3,050,000 of 10% subordinated convertible debentures with interest payable semiannually. At the option of the holder, the debentures are convertible into the Company's common stock at $9.60 per share. The Company may redeem the debentures at 101% of principal, plus interest, subject to certain terms and conditions. The debentures have a scheduled maturity in 2004 and are subject to mandatory redemption at 25% of principal annually beginning in 2001. 47 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 3. DEBT, CONTINUED Scheduled maturities of long term debt are as follows (in thousands): 2001....................... $ 763 2002....................... 763 Thereafter................. 1,524 -------- $ 3,050 -------- -------- 4. INCOME TAXES: The components of income (loss) before provision for income taxes are as follows (in thousands): 1997 1996 1995 --------- ------- ------- United States . . . . . . . . . $(13,432) $2,066 $6,646 Foreign . . . . . . . . . . . . (2,724) (520) (737) --------- ------- ------- $(16,156) $1,546 $5,909 --------- ------- ------- --------- ------- ------- The components of the provision for income taxes are as follows (in thousands): 1997 1996 1995 --------- ------- ------- Federal . . . . . . . . . . . . $ 3,397 $ 703 $ 2,260 Foreign . . . . . . . . . . . . 408 (178) (269) State and local . . . . . . . . 256 39 166 --------- ------- ------- $ 4,061 $ 564 $ 2,157 --------- ------- ------- --------- ------- ------- The provision for income taxes differs from the amount computed by applying the U.S. federal statutory income tax rate to income (loss) before income taxes. The principal reasons for the differences are as follows (in thousands): 1997 1996 1995 --------- ------- ------- U.S. federal statutory rate at 34% $ (5,493) $ 525 $ 2,009 State taxes, net of U.S. federal income tax . . . . . . . . . (565) 52 166 Other . . . . . . . . . . . . . 10,119 (13) (18) --------- ------- ------- $ 4,061 $ 564 $ 2,157 --------- ------- ------- --------- ------- ------- 48 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 4. INCOME TAXES, CONTINUED The components of the deferred tax asset at October 31, are as follows (in thousands):
1997 1996 -------------------------- -------------------------- TEMPORARY TEMPORARY DIFFERENCE TAX EFFECTED DIFFERENCE TAX EFFECTED ---------- ------------ ----------- ------------- Current: Revenue recognition . . . . . . . . . . . . . . $ (3,793) $ (1,385) $(8,285) $ (3,065) Accrued liabilities and reserves. . . . . . . . 7,701 2,811 3,297 1,220 ---------- ------------ ----------- ------------- Total current deferred tax asset (liability). . . . . . . . . . . . . . . . . 3,908 1,426 (4,988) (1,845) ---------- ------------ ----------- ------------- Long-term: Net operating loss carryforwards. . . . . . . . 26,498 9,673 18,516 6,851 Product development expense recognition. . . . . . . . . . . . . . . . . (3,133) (1,144) (2,668) (987) Discontinued operations reserve . . . . . . . . 500 183 1,000 370 Equipment basis difference. . . . . . . . . . . 812 296 646 239 Revenue recognition . . . . . . . . . . . . . . (517) (189) (1,024) (379) Other . . . . . . . . . . . . . . . . . . . . . (345) (126) (356) (188) ---------- ------------ ----------- ------------- Total long-term deferred tax asset . . . . . 23,815 8,693 16,114 5,906 ---------- ------------ ----------- ------------- $ 27,723 $ 10,119 $11,126 $ 4,061 ---------- ----------- ---------- ----------- Less valuation allowance (10,119) --- ------------ ------------- $ --- $ 4,061 ------------ ------------- ------------ -------------
The Company took a non-cash charge of $4,061,000 in 1997 to record a valuation allowance against the deferred tax asset. Such valuation allowance has been provided based on the inherent uncertainty of predicting the sufficiency of the future taxable income necessary to realize the benefit of the net deferred tax asset in light of the Company's recent loss history and the competitive nature of the industry in which the Company operates. At October 31, 1997, the Company had a federal net operating loss carryforward of $21,639,000 and a foreign net operating loss carryforward of $5,854,000. These net operating loss carryforwards begin to expire in 2004. 49 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 5. STOCKHOLDERS' EQUITY: STOCK INCENTIVE AND STOCK OPTION PLANS: The Company has adopted various stock incentive and stock option plans that authorize the granting of stock options, stock appreciation rights, and stock awards to directors, officers and key employees, subject to certain conditions, including continued employment. Under these plans, 1,953,540 shares are reserved for granting. In September 1997, stock awards totaling 101,000 shares of the Company's common stock were granted to certain key employees for the purchase price of $1.00 per share. These shares vest over a five-year period and they may not be sold or transferred. Stock options are granted with an exercise price equal to the fair market value of the Company's common stock on the date of grant. All options become exercisable ratably over three years and expire ten years from the grant date. Effective for 1997, the Company has adopted the disclosure only provisions of SFAS 123, "Accounting for Stock-Based Compensation". All stock options are granted at an exercise price equal to the fair market value on the grant date and, accordingly, no compensation expense has been recognized in the accompanying consolidated financial statements. Had compensation expense been recognized based on the fair value of options granted, consistent with the provisions of SFAS 123, the Company's net income (loss) and net income (loss) per share would have been changed to the pro forma amounts as follows (in thousands, except per share amounts): AS REPORTED PRO FORMA ------------- ------------- Net income (loss): 1997 $ (20,217) $ (20,816) 1996 982 (40) Net income (loss) per share: 1997 $ (3.24) $ (3.34) 1996 0.15 (0.01) The fair value of these options was estimated using the Black-Scholes option pricing model with the following weighted average assumptions: Expected life: 5 years Interest rate: 5.5 to 6.7% Volatility: 70% to 73% Dividend yield: None 50 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 5. STOCKHOLDERS' EQUITY, CONTINUED STOCK INCENTIVE AND STOCK OPTION PLANS, Continued Information regarding stock option plans is as follows (in thousands): 1997 1996 1995 ------ ------ ------ Options at beginning of year 1,016 937 713 Options granted 151 196 259 Options exercised (148) (96) (19) Options forfeited (67) (21) (16) ------ ------ ------ Options outstanding at end of year 952 1,016 937 ------ ------ ------ ------ ------ ------ Options exercisable at end of year 646 623 562 ------ ------ ------ ------ ------ ------ Weighted average option prices: Outstanding at beginning of year $ 7.77 $6.12 $5.70 Granted 9.85 13.19 6.79 Exercised 2.68 2.89 0.77 Forfeited 12.88 6.81 4.92 Outstanding at end of year 8.53 7.77 6.12 Exercisable at end of year 7.76 6.25 5.34 STOCK WARRANTS AND CONVERTIBLE SECURITIES: In March 1997, the Company issued subordinated debentures which are convertible into shares of common stock at $9.60 per share (see Note 3). Concurrent with this issuance, the Company issued approximately 51,000 warrants to purchase common stock at $9.60 per share. The warrants expire from 2002 to 2007. 6. COMMITMENTS: The Company leases its warehouse, sales and administration facilities. Certain of these leases contain renewal options, escalation clauses and requirements that the Company pay taxes, insurance and maintenance costs. Commitments for future minimum rental payments under noncancelable leases for the next five years ending October 31, are as follows (in thousands): 1998......................$1,339 1999.........................792 2000.........................244 2001..........................19 2002...........................5 Rent expense was $1,616,000, $1,413,000 and $1,251,000 for 1997, 1996 and 1995, respectively. 51 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 6. COMMITMENTS, CONTINUED In December 1996, the Company extended an agreement for rights to distribute certain products. In consideration for this license, the Company agreed to pay royalties through April 1999. For each of the two years ended April 30, 1998 and 1999, the guaranteed minimum royalty is $625,000. Revenue from the sale of these products is recognized when the products are delivered to the customer, at which time costs are accrued for the earned royalty. 7. INDUSTRY SEGMENT AND GEOGRAPHIC AREA INFORMATION: The Company operates in one industry segment, namely education and training. Information about the Company's operations in different geographic areas is as follows (in thousands): YEAR ENDED OCTOBER 31 --------------------------------- 1997 1996 1995 -------- -------- -------- Revenues from unaffiliated customers: United States. . . . . . . . . . . . . $ 30,779 $33,217 $27,471 Canada . . . . . . . . . . . . . . . . 1,644 2,955 2,871 United Kingdom . . . . . . . . . . . . 4,536 5,233 6,995 -------- -------- -------- $ 36,959 $41,405 $37,337 -------- -------- -------- -------- -------- -------- Operating income (loss): United States. . . . . . . . . . . . . $(11,856) $3,006 $6,546 Canada . . . . . . . . . . . . . . . . (1,444) (528) (364) United Kingdom . . . . . . . . . . . . (1,240) (130) (27) -------- -------- -------- $(14,540) $2,348 $ 6,155 -------- -------- -------- -------- -------- -------- Total assets: United States. . . . . . . . . . . . $ 23,398 $35,497 $27,392 Canada . . . . . . . . . . . . . . . 1,026 2,322 2,052 United Kingdom . . . . . . . . . . . 4,664 4,508 4,216 -------- -------- -------- $ 29,088 $42,327 $33,660 -------- -------- -------- -------- -------- -------- Revenues from affiliates, while not significant, are recorded at established intercompany selling prices which are based upon cost plus mark-up. 52 TRO LEARNING, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED - -------------------------------------------------------------------------------- 8. SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED): (In thousands, except per share data)
JAN 31 APR 30 JUL 31 OCT 31 TOTAL ------- ------- ------- ------- ------- 1997: - ---- Revenues by product line: PLATO Education. . . . . . . $4,265 $6,224 $10,674 $12,102 $33,265 Aviation Training. . . . . . 822 1,376 669 827 3,694 ------ ------ ------- ------- ------- Total revenues . . . . . . . 5,087 7,600 11,343 12,929 36,959 Gross profit . . . . . . . . . 4,307 6,249 9,582 10,346 30,484 Net loss . . . . . . . . . . . (2,315) (2,281) (1,080) (14,541) (20,217) Net loss per common and common equivalent share. (0.37) (0.37) (0.17) (2.31) (3.24) 1996: - ---- Revenues by product line: PLATO Education. . . . . . . $4,545 $6,021 $10,917 $15,497 $36,980 Aviation Training. . . . . . 1,864 720 484 1,357 4,425 ------ ------ ------- ------- ------- Total revenues . . . . . . . 6,409 6,741 11,401 16,854 41,405 Gross profit . . . . . . . . . 5,195 6,109 9,422 14,466 35,192 Net income (loss). . . . . . . (1,049) (988) 725 2,294 982 Net income (loss) per common and common equivalent share . . . . . . (0.17) (0.16) 0.11 0.34 0.15
9. SUBSEQUENT EVENTS: In November 1997, the Company announced that it had retained BancAmerica ROBERTSON STEPHENS to advise it regarding strategic alternatives to enhance shareholder value. On December 15, 1997, a securities fraud class action was filed in the United States District Court for the Northern District of Illinois against the Company and two of its current and former executive officers. The purported class action was filed on behalf of all persons who purchased common stock of the Company during the period December 7, 1995 through June 10, 1997, seeking damages for alleged violations of the federal securities laws. The complaint in the purported class action alleges that throughout this time period, defendants knowingly participated in a course of conduct involving misrepresentation and concealment of adverse material information about the business and finances of the Company. The complaint alleges that the course of action followed by the defendants caused the plaintiff and other members of the purported class to purchase the Company's securities at artificially inflated prices. The complaint seeks damages suffered as a result of the actions of the defendants, including costs, expenses and fees incurred in the litigation. The Company cannot predict the outcome of this litigation but believes it has meritorious defenses to these allegations and intends to defend itself vigorously. 53 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART II - -------------------------------------------------------------------------------- ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. PART III - -------------------------------------------------------------------------------- ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT See the information with respect to the Directors of the Registrant which is set forth in the section entitled "Election of Directors" of the Company's 1998 Proxy Statement, which is incorporated herein by reference. See the information set forth in the section entitled "Compliance with Section 16(a) of the Securities Exchange Act of 1934" in the 1998 Proxy Statement, which is incorporated herein by reference. The 1998 Proxy Statement will be filed with the Securities and Exchange Commission within 120 days after the close of the Company's fiscal year. For information regarding Executive Officers of the Registrant, see Item 4A of this Report, which is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION See the information set forth in the sections entitled "Director Compensation", "Executive Compensation", and "Compensation Committee Interlocks and Insider Participation" in the 1998 Proxy Statement, which is incorporated herein by reference. Such incorporation by reference shall not be deemed to specifically incorporate by reference the information referred to in Item 402(a)(8) of Regulation S-K. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT See the information set forth in the section entitled "Security Ownership of Certain Beneficial Owners and Management" in the 1998 Proxy Statement, which is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS See the information set forth in the section entitled "Certain Relationships and Transactions" in the 1998 Proxy Statement, which is incorporated herein by reference. 54 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART IV - -------------------------------------------------------------------------------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Documents filed as a part of this report: 1. Financial Statements - see index on page 37. 2. Financial Statement Schedules - see index on page 37. (b) Reports on Form 8-K: None (c) Exhibits: The following documents are filed herewith or incorporated herein by reference and made a part of this Form 10-K. EXHIBIT NUMBER DESCRIPTION OF DOCUMENT - -------------- ----------------------- 3.01 Certificate of Incorporation of the Company (1) 3.02 Bylaws of the Company (1) 4.01 Form of stock certificate of the Company (1) 10.01 Amended and Restated Revolving Loan and Security Agreement between Sanwa Business Credit Corporation and The Roach Organization, Inc. and TRO Learning (Canada), Inc. dated March 5, 1997 10.02 Registration Agreement (1) 10.03 Exchange Agreement (1) 10.04 1993 Outside Director Stock Option Plan+ (4) 10.05 Warrants of the Registrant (1) 10.06 Series B Preferred Stock Purchase Agreement, as amended, and agreements relating thereto (1) 10.08 Lease for Edina, Minnesota office (5) 10.10 Settlement Agreement with Control Data (1) 10.11 Form of Indemnification Agreement (1) 10.12 Stock Purchase Warrant of TRO (1) 10.13 Certification and Testing Services Agreement between the Company and Sylvan Learning Systems, Inc. dated August 31, 1993 (2) 10.14 1993 Stock Option Plan + (3) 10.15 Severance and Non Competition Agreement with William R. Roach + (4) 10.16 Severance and Non Competition Agreement with Andrew N. Peterson+ 10.17 First Amendment to Amended and Restated Revolving Loan and Security Agreement between Sanwa Business Credit Corporation and The Roach Organization, Inc. and TRO Learning (Canada), Inc. dated March 18, 1997 10.18 Form of Series 1997 10% Subordinated Convertible Debentures due March 27, 2004 10.19 Form of Common Stock Warrants dated March 27, 1997 55 TRO LEARNING, INC. FORM 10-K FISCAL YEAR ENDED OCTOBER 31, 1997 PART IV - -------------------------------------------------------------------------------- ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K, CONTINUED 10.20 Second Amendment to Amended and Restated Revolving Loan and Security Agreement between Sanwa Business Credit Corporation and The Roach Organization, Inc. and TRO Learning (Canada), Inc. dated December 8, 1997 11.01 Statement re: computation of per share earnings 21.01 Subsidiaries of the Registrant (1) 23.01 Consent of Coopers & Lybrand L.L.P. with respect to Registration Statements on Form S-8 24.01 Powers of Attorney 27.00 Financial Data Schedule (1) Incorporated by reference to the corresponding exhibit to the Company's Registration Statement on Form S-1 (File No. 33-54296). (2) Incorporated by reference to the corresponding exhibit on the Company's Annual Report on Form 10-K for the year ended October 31, 1993 (File Number 0-20842). (3) Incorporated by reference to Exhibit A to the Company's 1994 Proxy Statement (File Number 0-20842). (4) Incorporated by reference to the corresponding exhibit on the Company's Annual Report on Form 10-K for the year ended October 31, 1994 (File Number 0-20842). (5) Incorporated by reference to the corresponding exhibit on the Company's Annual Report on Form 10-K for the year ended October 31, 1995 (File Number 0-20842). (6) Incorporated by reference to the corresponding exhibit on the Company's Annual Report on Form 10-K for the year ended October 31, 1996 (File Number 0-20842). + Management contract or compensatory plan, contract or arrangement. 56 REPORT OF INDEPENDENT ACCOUNTANTS To the Stockholders and Board of Directors of TRO Learning, Inc. Our report on the consolidated financial statements of TRO Learning, Inc. and Subsidiaries is included on page 38 of this Form 10-K. In connection with our audits of such financial statements, we have also audited the related financial statement schedule listed in the index on page 37 of this Form 10-K. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein. COOPERS & LYBRAND L.L.P. Chicago, Illinois January 12, 1998 57 TRO LEARNING, INC. AND SUBSIDIARIES SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS AND RESERVES FOR THE YEARS ENDED OCTOBER 31, 1995, 1996 AND 1997 (IN THOUSANDS) - --------------------------------------------------------------------------------
ADDITIONS ---------------------- CHARGED TO BALANCE AT CHARGED TO OTHER BEGINNING COSTS AND ACCOUNTS DEDUCTIONS BALANCE AT DESCRIPTION OF PERIOD EXPENSES (DESCRIBE) (DESCRIBE) END OF PERIOD - ---------------------------- ---------- ---------- ---------- ---------- ------------- Deducted in the balance sheets from the assets to which they apply: Allowance for doubtful accounts: For the year ended October 31, 1995 $ 363 $ 300 --- $ (79) (a) $ 584 For the year ended October 31, 1996 584 2,120 264 (b) (2,458) (a) 510 For the year ended October 31, 1997 510 7,252 --- (742) (a) 7,020 Allowance for inventory obsolescence: For the year ended October 31, 1995 388 125 --- (22) (a) 491 For the year ended October 31, 1996 491 150 --- (185) (a) 456 For the year ended October 31, 1997 456 --- --- (140) (a) 316
(a) Amounts written off, net of recoveries. (b) Amounts reclassified. 58 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 on January 12, 1998. TRO LEARNING, INC. By /s/William R. Roach ------------------------ William R. Roach Chairman of the Board, President and Chief Executive Officer 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 indicated on January 12, 1998. Signature: Title: /s/ William R. Roach Chairman of the Board, President and Chief - ------------------------- Executive Officer (principal executive officer) William R. Roach /s/ Andrew N. Peterson Senior Vice President, Chief Financial Officer, - ------------------------- Treasurer and Secretary Andrew N. Peterson (principal financial officer) /s/ Mary Jo Murphy Vice President, Corporate Controller and Chief - ------------------------- Accounting Officer Mary Jo Murphy (principal accounting officer) * - ------------------------- Jack R. Borsting Director * - ------------------------- Tony J. Christianson Director * - ------------------------- John L. Krakauer Director * - ------------------------- Vernon B. Lewis Director * - ------------------------- John Patience Director * By /s/ Mary Jo Murphy --------------------- Mary Jo Murphy Attorney-in Fact 59 EX-10.01 2 REVOLVING LOAN & SECURITY AGRMT AMENDED AND RESTATED REVOLVING LOAN AND SECURITY AGREEMENT BETWEEN SANWA BUSINESS CREDIT CORPORATION AND THE ROACH ORGANIZATION, INC. AND TRO LEARNING (CANADA), INC. Co-Borrowers Dated as of March 5, 1997 TABLE OF CONTENTS PAGE ---- 1. DEFINITIONS............................................... 1 1.1. Account Debtor...................................... 1 1.2. Accounts............................................ 1 1.3. Accounts Report..................................... 1 1.4. Accumulated Funding Deficiency...................... 1 1.5. Affiliate........................................... 2 1.6. Ancillary Agreements................................ 2 1.7. and/or.............................................. 2 1.8. Applicable Borrowing Margin......................... 2 1.9. Base Rate........................................... 2 1.10. Base Rate Revolving Loan............................ 2 1.11. Borrower's Knowledge................................ 2 1.12. Borrowing Base...................................... 2 1.13. Borrowing Base Certificate.......................... 2 1.14. Business Day........................................ 2 1.15. Capital Leases...................................... 3 1.16. Charges............................................. 3 1.17. Closing Date........................................ 3 1.18. Code................................................ 3 1.19. Collateral.......................................... 3 1.20. Contract Year....................................... 3 1.21. Default............................................. 3 1.22. Default Rate........................................ 3 1.23. Depository Bank..................................... 3 1.24. Designated Rate..................................... 3 1.25. Eligible Accounts................................... 4 1.26. Eligible Installment Accounts....................... 4 1.27. Eligible Inventory.................................. 4 1.28. Employee Benefit Plan............................... 4 1.29. Environmental Laws.................................. 4 1.30. Environmental Lien.................................. 4 1.31. Equipment........................................... 5 1.32. ERISA............................................... 5 1.33. ERISA Affiliate..................................... 5 1.34. Event of Default.................................... 5 1.35. Excess Interest..................................... 5 1.36. Financials.......................................... 5 1.37. FISCAL YEAR......................................... 5 1.38. Fixtures............................................ 5 1.39. General Intangibles................................. 5 i 1.40. Guarantor........................................... 6 1.41. Hazardous Materials................................. 6 1.42. Indebtedness........................................ 6 1.43. Installment Accounts................................ 6 1.44. Interest Period..................................... 6 1.45. Interest Rate Determination Date.................... 6 1.46. International Accounts.............................. 6 1.47. Inventory........................................... 6 1.48. Inventory Report.................................... 7 1.49. Liabilities......................................... 7 1.50. LIBOR Rate.......................................... 7 1.51. LIBOR Rate Revolving Loan........................... 7 1.52. Lock Box Account.................................... 7 1.53. Lock Box Agreement.................................. 7 1.54. Maturity............................................ 8 1.55. Maximum Amount of the Revolving Loan................ 8 1.56. Multiemployer Plan.................................. 8 1.57. Non-Use Fee......................................... 8 1.58. Operating Profit.................................... 8 1.59. Origination Date.................................... 8 1.60. Over Advance Facility............................... 8 1.61. Participant......................................... 8 1.62. PBGC................................................ 8 1.63. PERMITTED INDEBTEDNESS.............................. 8 1.64. PERMITTED SUBORDINATED INDEBTEDNESS................. 8 1.65. Person.............................................. 8 1.66. Plan Administrator.................................. 8 1.67. Plan Sponsor........................................ 8 1.68. Prime Rate.......................................... 9 1.69. Prohibited Transaction.............................. 9 1.70. Reportable Event.................................... 9 1.71. Revolving Loan...................................... 9 1.72. Revolving Loan Account.............................. 9 1.73. Revolving Loan Year................................. 9 1.74. Security Documents.................................. 9 1.75. SLOW MOVING INVENTORY............................... 9 1.76. Special Collateral.................................. 10 1.77. Special Deposit Account............................. 10 1.78. Special Deposit Agreement........................... 10 1.79. Stock............................................... 10 1.80. Subsidiary.......................................... 10 1.81. Telerate Screen..................................... 10 1.82. Term Loan........................................... 10 1.83. Term................................................ 10 ii 1.84. Term Loan Rate...................................... 10 1.85. Total Facility...................................... 10 2. CREDIT FACILITY: GENERAL TERMS............................ 11 2.1. Total Facility...................................... 11 2.2. Revolving Loan...................................... 11 2.3. Term Loan........................................... 12 2.4. Advances to Constitute One Revolving Loan........... 12 2.5. Interest Rate....................................... 13 2.6. Method of Borrowing; Method of Making Interest and Other Payments.................................... 16 2.7. Term of Agreement................................... 17 2.8. Payments Prior to End of Term....................... 17 2.9. Closing Fees........................................ 18 2.10. Non-Use Fee......................................... 18 2.11. Special Provisions Governing LIBOR Rate Revolving Loan.............................................. 18 2.12. Purposes............................................ 20 3. ELIGIBLE ACCOUNTS; ELIGIBLE INVENTORY..................... 21 3.1. Eligible Accounts................................... 21 3.2. Eligible Installment Accounts....................... 22 3.3. Eligible Inventory.................................. 22 4. PAYMENTS.................................................. 23 4.1. Revolving Loan Account; Method of Making Payments... 23 4.2. Payment Terms....................................... 23 4.3. Collection of Accounts and Payments................. 24 4.4. Application of Payments and Collections............. 25 4.5. Statements.......................................... 25 5. COLLATERAL: GENERAL TERMS................................. 25 5.1. Security Interest and Mortgage...................... 25 5.2. Disclosure of Security Interest..................... 26 5.3. Special Collateral.................................. 26 5.4. Further Assurances.................................. 26 5.5. Inspection and Field Reviews........................ 26 5.6. Location of Collateral.............................. 27 5.7. Lender's Payment of Claims Asserted Against Borrower.......................................... 27 6. COLLATERAL: ACCOUNTS...................................... 27 6.1. Verification of Accounts............................ 27 6.2. Assignments, Records and Accounts Report............ 27 6.3. Notice Regarding Disputed Accounts.................. 28 6.4. Sale or Encumbrance of Accounts..................... 28 iii 7. COLLATERAL: INVENTORY..................................... 28 7.1. Sale of Inventory................................... 28 7.2. Safekeeping of Inventory; Inventory Covenants....... 28 7.3. Records and Schedules of Inventory.................. 28 7.4. Returned and Repossessed Inventory.................. 29 7.5. Evidence of Ownership of Inventory.................. 29 8. COLLATERAL: EQUIPMENT..................................... 29 8.1. Maintenance of the Equipment........................ 29 8.2. Evidence of Ownership of Equipment.................. 29 8.3. Proceeds of the Equipment........................... 29 9. WARRANTIES AND REPRESENTATIONS............................ 30 9.1. General Warranties and Representations.............. 30 9.2. Account Warranties and Representations.............. 33 9.3. Inventory Warranties and Representations............ 34 9.4. ERISA Warranties and Representations................ 35 9.5. Automatic Warranty and Representation and Reaffirmation of Warranties and Representations... 37 9.6. Survival of Warranties and Representations.......... 37 10. COVENANTS AND CONTINUING AGREEMENTS....................... 37 10.1. Affirmative Covenants.............................. 37 10.2. Negative Covenants................................. 43 10.3. Contesting Charges................................. 46 10.4. Payment of Charges................................. 46 10.5. Insurance: Payment of Premiums..................... 46 10.6. Survival of Obligations Upon Termination of Agreement........................................ 47 11. DEFAULT; EVENTS OF DEFAULT: RIGHTS AND REMEDIES........... 47 11.1. Defaults........................................... 47 11.2. Acceleration of the Liabilities.................... 50 11.3. Remedies........................................... 50 11.4. Notice............................................. 51 12. CONDITIONS PRECEDENT TO DISBURSEMENT...................... 51 12.1. Conditions Precedent to Funding on Origination Date............................................. 51 12.2. Conditions Precedent to Continued Funding.......... 53 12.3. Conditions Precedent to Funding on the Closing Date............................................. 55 13. MISCELLANEOUS............................................. 55 13.1. Appointment of Lender as Borrower's Lawful Attorney-In-Fact................................. 55 13.2. Modification of Agreement: Sale of Interest........ 56 13.3. Attorneys' Fees and Expenses: Lender's Out-of-Pocket Expenses........................... 56 iv 13.4. Waiver by Lender................................... 57 13.5. Severability....................................... 58 13.6. Parties; Entire Agreement.......................... 58 13.7. Conflict of Terms.................................. 58 13.8. Waiver by Borrower................................. 58 14. GOVERNING LAW; SUBMISSION TO JURISDICTION................. 58 14.1. Notice............................................. 59 14.2. Release of Claims ................................. 60 14.3. Representation by Counse .......................... 60 14.4. Counterparts....................................... 60 14.5. Lender's Waiver of Jury............................ 60 v EXHIBITS 1.36 Financials 1.39 General Intangibles 1.53 Lock Box Agreement 1.78 Special Deposit Agreement 2.2(A) Revolving Note 2.3 Term Note 3.3(B) Location of Collateral 9.1(C) Corporate or Fictitious Names 9.1(K) Pending and Threatened Litigation 9.1(M) Permitted Liens 9.1(S) Trademarks, Brand Names, Copyrights, Patents and Patent Applications 9.4 Employment Benefit Plans 10.1(H) Officer's Certificate 10.2(K) Related Transactions with Affiliates 12.1(M) Landlord's Waivers vi AMENDED AND RESTATED LOAN AND SECURITY AGREEMENT THIS LOAN AND SECURITY AGREEMENT (THIS "AGREEMENT") IS MADE AS OF THE 5TH DAY OF MARCH, 1997, BY AND BETWEEN SANWA BUSINESS CREDIT CORPORATION, A DELAWARE CORPORATION ("LENDER") AND THE ROACH ORGANIZATION, INC., A DELAWARE CORPORATION ("ROACH") AND TRO LEARNING (CANADA), INC., A CANADIAN CORPORATION ("TRO") (ROACH AND TRO ARE COLLECTIVELY, THE "BORROWER"). W I T N E S S E T H: WHEREAS, Borrower and Lender entered into a Loan and Security Agreement dated August 2, 1995 to make available to Borrower a credit facility in the amount of Ten Million Dollars ($10,000,000); and WHEREAS, Borrower desires to borrow additional funds and to obtain other financial accommodations from Lender, and Lender is willing to make certain loans and to provide other financial accommodations to Borrower upon the terms and conditions set forth herein; NOW THEREFORE, in consideration of the terms and conditions contained herein, and of any loans or extension of credit heretofore, now or hereafter made to or for the benefit of Borrower by Lender, the parties hereto hereby agree as follows: 1. DEFINITIONS. A. GENERAL. 1.1. "ACCOUNT DEBTOR" shall mean any Person who is or who may become obligated to Borrower under, with respect to, or on account of an Account. 1.2. "ACCOUNTS" shall mean all accounts, contract rights, chattel paper, instruments and documents, whether now owned or hereafter acquired by Borrower. 1.3. "ACCOUNTS REPORT" shall mean a report delivered to Lender by Borrower, as required by Section 6.2, consisting of an aged trial balance of all of Accounts existing as of the date of such Accounts Report, specifying for each Account Debtor obligated on the Accounts, such Account Debtor's name, address and outstanding balance and the aging of such outstanding balance. 1.4. "ACCUMULATED FUNDING DEFICIENCY" shall have the meaning assigned to that term in Section 302 of ERISA. 1.5. "AFFILIATE" shall mean any and all Persons which, in the reasonable judgment of Lender, directly or indirectly, own or control, are controlled by or are under common control with Borrower, and any and all Persons from whom, in the reasonable judgment of Lender, Borrower has not or is not likely to exhibit independence of decision or action. For the purpose of this definition, "control" means the possession, directly or indirectly, of the power to direct or cause the direction of management and policies of a Person, whether through the ownership of voting securities, by contract or otherwise. 1.6. "ANCILLARY AGREEMENTS" shall mean all Security Documents and all agreements, instruments and documents, including without limitation, notes, guaranties, mortgages, deeds of trust, chattel mortgages, pledges, powers of attorney, consents, assignments, contracts, notices, security agreements, leases, financing statements, subordination agreements, trust account agreements and all other written matter whether heretofore, now, or hereafter executed by or on behalf of Borrower, or any other Person or delivered to Lender or any Participant with respect to this Agreement. 1.7. "AND/OR" shall mean one or the other or both, or any one or more of all, of the things or Person in connection with which the conjunction is used. 1.8. "APPLICABLE BORROWING MARGIN" shall mean (i) with respect to the Base Rate Revolving Loans, one and one-half percent (1.50%), and (ii) with respect to LIBOR Rate Revolving Loans, three and one-quarter percent (3.25%). 1.9. "BASE RATE" shall mean the fluctuating interest rate equal to the Prime Rate plus the Applicable Borrowing Margin then in effect. 1.10. "BASE RATE REVOLVING LOAN" shall mean the Revolving Loan, to the extent that it bears interest at the Base Rate. 1.11. "BORROWER'S KNOWLEDGE" or words of such import shall mean all knowledge, including, actual knowledge and knowledge of matters which any reasonable person in such position knew or should have known, of the respective officers, directors and managers of Borrower. 1.12. "BORROWING BASE" shall have the meaning ascribed to it in Section 2.2. 1.13. "BORROWING BASE CERTIFICATE" shall have the meaning ascribed to it in Section 12.2(B)(viii). 1.14. "BUSINESS DAY" shall mean (i) for all purposes other than as specified in clause(b), any day, other than a Saturday or Sunday, on which the main lobby of the Depository Bank and Lender are open for business with the general public, and (ii) with respect to all notices, determinations, findings and payments in connection with the LIBOR Rate, any day that is a Business Day described in clause (i) and that is also a day for trading by and between banks in dollar deposits in the applicable interbank LIBOR market. 2 1.15. "CAPITAL LEASES" shall mean any lease of personal property of any Person, as lessee, which, in accordance with generally accepted accounting principles, is (or is required to be) accounted for as a capital lease on the balance sheet of such Person. 1.16. "CHARGES" shall mean all national, federal, state, county, city, municipal, or other governmental (including, without limitation, the Pension Benefit Guaranty Corporation) taxes, levies, assessments, charges, liens, claims or encumbrances upon or relating to (i) the Collateral, (ii) the Liabilities, (iii) Borrower's employees, payroll, income or gross receipts, (iv) Borrower's ownership or use of any of its assets, or (v) any other aspect of Borrower's business. 1.17. "CLOSING DATE" shall mean the date on which the Term Loan initially is funded. 1.18. "CODE" shall mean the Internal Revenue Code of 1986, as amended. 1.19. "COLLATERAL" shall mean all of the property and interests in property described in Section 5.1 and all other property and interests in property which shall, from time to time, secure any part of the Liabilities. 1.20. "CONTRACT YEAR" shall mean initially, that period of time commencing on the Origination Date and ending one (1) day prior to the first anniversary of the Origination Date, and thereafter each period of one (1) year commencing on the day after the last day of the immediately preceding Contract Year and ending one (1) day prior to the anniversary of such date. 1.21. "DEFAULT" shall have the meaning ascribed to it in Section 11.1 herein. 1.22. "DEFAULT RATE" shall mean a rate per annum equal to two hundred (200) basis points in excess of the interest rate then in effect for the respective Liabilities. 1.23. "DEPOSITORY BANK" shall mean the banking institutions which are referred to in Section 4.3 and which shall be the signatories to the Special Deposit Agreement and the Lock Box Agreement which are attached hereto as Exhibits 1.75 and 1.53, respectively. 1.24. "DESIGNATED RATE" shall mean, with respect to (i) Base Rate Revolving Loans, the Base Rate, (ii) LIBOR Rate Revolving Loans, the LIBOR Rate, and (iii) the Term Loan, the Term Loan Rate. 1.25. "ELIGIBLE ACCOUNTS" shall mean those Accounts included in an Accounts Report which, as of the date of such Accounts Report and at all times thereafter (i) satisfy the requirements for eligibility as described in Section 3.1, (ii) do not violate the negative covenants and other provisions of this Agreement and do satisfy the affirmative covenants, warranties and other provisions of this Agreement and (iii) Lender, it its reasonable credit judgment, deems to be Eligible Accounts. 3 1.26. "ELIGIBLE INSTALLMENT ACCOUNTS" shall mean those Installment Accounts included in an Installment Accounts Report which, as of the date of such Account Report and at all times thereafter (i) satisfy the requirements for eligibility as described in Section 3.2, (ii) do not violate the negative covenants and other provisions of this Agreement and do satisfy the affirmative covenants, warranties and other provisions of this Agreement and (iii) Lender, in its reasonable credit judgment, deems to be Eligible Installment Accounts. 1.27. "ELIGIBLE INVENTORY" shall mean those items of Inventory (defined in Section 1.47 below) which are included in an Inventory Report and which, as of the date of such Inventory Report and, at all times thereafter, (i) satisfy the requirements for eligibility as described in Section 3.3, (ii) do not violate the negative covenants and other provisions of this Agreement and do satisfy the affirmative covenants, warranties and other provisions of this Agreement and (iii) Lender, in its reasonable credit judgment, deems to be Eligible Inventory. 1.28. "EMPLOYEE BENEFIT PLAN" shall mean (i) an employee benefit plan within the meaning of ERISA Section 3(3) maintained, sponsored, participated in or contributed to by Borrower, (ii) a pension plan within the meaning of ERISA Section 3(2) which is subject to Title IV of ERISA and which is maintained, sponsored, participated in or contributed to by an ERISA Affiliate, (iii) solely for purposes of the requirements of Section 601 ET. SEQ. of ERISA and 4980B of the Code, a welfare benefit plan within the meaning of ERISA Section 3(1) maintained, sponsored, participated in or contributed to by an ERISA Affiliate, and (iv) a multiemployer plan within the meaning of ERISA Section 3(37) or a multiple employer welfare arrangement within the meaning of ERISA Section 3(40) maintained, sponsored, participated in or contributed to by an ERISA Affiliate. 1.29. "ENVIRONMENTAL LAWS" shall mean the Resource Conservation and Recovery Act of 1987, the Comprehensive Environmental Response, Compensation and Liability Act, any so-called "Superfund" or "Superlien" law, the Toxic Substances Control Act, or any other federal state or local statute, law, ordinance, code, rule, regulation, order or decree regulating, relating to, or imposing liability or standards of conduct concerning, any hazardous, toxic or dangerous waste, substance or material, as now or at any time hereafter in effect. 1.30. "ENVIRONMENTAL LIEN" shall mean a lien in favor of any governmental entity for (i) any liability under any Environmental Laws, or (ii) damages arising from or costs incurred by such governmental entity in response to a release of a Hazardous Material into the environment. 1.31. "EQUIPMENT" shall mean all of Borrower's now owned and hereafter acquired equipment and Fixtures, including without limitation, furniture, machinery, vehicles and trade fixtures, together with any and all accessories, parts and appurtenances thereto, substitutions therefor and replacements thereof. 1.32. "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as amended. 4 1.33. "ERISA AFFILIATE" shall mean any corporation, trade or business that is, along with Borrower, a member of a controlled group of trades or businesses, or a member of any group of organizations, within the meanings of Sections 414(b), (c), (m) or (o) of the Code. 1.34. "EVENT OF DEFAULT" shall mean the occurrence or existence of any one or more of the events described in Section 11.1 herein. 1.35. "EXCESS INTEREST" shall mean have the meaning ascribed to it in Section 2.5(A)(iii)(b). 1.36. "FINANCIALS" shall mean those financial statements of Borrower attached hereto as Exhibit 1.36 or delivered to Lender pursuant to Section 10.1(H). 1.37. "FISCAL YEAR" shall mean Borrower's fiscal year, which commences on November 1 of each calendar year and terminates on October 31 of each calendar year. 1.38. "FIXTURES" shall mean all "fixtures" as such term is defined in the Uniform Commercial Code as adopted and in effect in the State of Illinois, now owned or hereafter acquired by Borrower. 1.39. "GENERAL INTANGIBLES" shall mean all choses in action, general intangibles, causes of action and all other intangible personal property of Borrower of every kind and nature (other than Accounts) now owned or hereafter acquired by Borrower. Without in any way limiting the generality of the foregoing, General Intangibles specifically includes, without limitation, those items set forth on Exhibit 1.39 (the "General Intangibles Schedule"), all corporate or other business records, security deposits, inventions, designs, patents, patent applications, trademarks, trade names, trade secrets, goodwill, copyrights, registrations, licenses, franchises, and tax refund claims owned by Borrower and all letters of credit, guarantee claims, security interests or other security held by or granted to Borrower to secure payment by an Account Debtor of any Accounts. 1.40. "GUARANTOR" shall mean any Person, other than Borrower, who is liable for the payment of any of the Liabilities, either primarily or secondarily (as a guarantor or an accommodation party). 1.41. "HAZARDOUS MATERIALS" shall mean any hazardous substance or pollutant or contaminant defined as such in (or for the purposes of) any Environmental Law and shall include, but not be limited to, petroleum, any radioactive material, and asbestos in any form or condition. 1.42. "INDEBTEDNESS" shall mean all of Borrower's liabilities, obligations and indebtedness to any Person of any and every kind and nature, whether primary, secondary, direct, indirect, absolute, contingent, fixed, or otherwise, heretofore, now or hereafter owing, due, or payable, however evidenced, created, incurred, acquired or owing and however arising, whether under written or oral agreement, by operation of law, or otherwise. Without in any way limiting the generality of the foregoing, Indebtedness specifically includes (i) the Liabilities, (ii) all 5 obligations or liabilities of any Person that are secured by any lien, claim, encumbrance, or security interest upon property owned by Borrower, even though Borrower has not assumed or become liable for the payment thereof, (iii) all obligations or liabilities created or arising under any lease of real or personal property, or conditional sale or other title retention agreement with respect to property used or acquired by Borrower, even though the rights and remedies of the lessor, seller or lender thereunder are limited to repossession of such property, (iv) all obligations and liabilities in respect of unfunded vested benefits under any Employee Benefit Plan or in respect of withdrawal liabilities incurred under ERISA by Borrower or any ERISA Affiliate to any Multiemployer Plan and (v) deferred taxes. 1.43. "INSTALLMENT ACCOUNTS" shall mean those specific Accounts whereby the Account Debtors are permitted by contract to make installment payments over time against the outstanding Account balance. 1.44. "INTEREST PERIOD" means any actual period applicable to a LIBOR Rate Revolving Loan as determined pursuant to Section 2.5(A)(iv). 1.45. "INTEREST RATE DETERMINATION DATE" means each date for calculating the LIBOR Rate for purposes of determining the interest rate applicable to any LIBOR Rate Revolving Loan made pursuant to Section 2.5(A). The Interest Rate Determination Date shall be the second Business Day prior to the first day of an Interest Period for a LIBOR Rate Revolving Loan. 1.46. "INTERNATIONAL ACCOUNTS" shall mean Accounts of which the Account Debtor is not organized under the laws of and qualified to do business in (i) one or more states located in the United States of America or (ii) Canada. 1.47. "INVENTORY" shall mean all goods, inventory, merchandise and other personal property, including, without limitation, goods in transit, wherever located and whether now owned or hereafter acquired by Borrower which is or may at any time be held for sale or lease, furnished under any contract of service or held as raw materials, work in process, supplies or materials used or consumed in Borrower's business, and all such property the sale or other disposition of which has given rise to Accounts and which has been returned to or repossessed or stopped in transit by Borrower. 1.48. "INVENTORY REPORT" shall mean a report delivered to Lender by Borrower, as required by Section 7.3, consisting of a detailed listing of all Inventory as of the date of such Inventory Report describing the kind, type, quality, quantity, location and the lower of cost (computed on the basis of a first-in, first-out cost flow assumption) or market value of such Inventory. 1.49. "LIABILITIES" shall mean all of Borrower's liabilities, obligations and indebtedness to Lender of any and every kind and nature, whether primary, secondary, direct, absolute, contingent, fixed, or otherwise (including, without limitation, interest, charges, expenses, attorneys' fees and other sums chargeable to Borrower by Lender, future advances made to or for the benefit of Borrower and obligations of performance), whether arising under 6 this Agreement, under any of the Ancillary Agreements or acquired by Lender from any other source, whether heretofore, now or hereafter owing, arising, due, or payable from Borrower to Lender, however evidenced, created, incurred, acquired or owing and however arising, whether under written or oral agreement, operation of law, or otherwise. 1.50. "LIBOR RATE" shall mean, for each Interest Period, a rate of interest equal to the sum of: (i) the rate of interest determined by Lender at which deposits in U.S. Dollars for the relevant Interest Period are offered based on information presented on the Telerate Screen as of 11:00 A.M. (London time) on the applicable Interest Rate Determination Date; PROVIDED, that if more than one (1) offered rate appears on the Telerate Screen in respect of such Interest Period, the arithmetic mean of all such rates (as determined by Lender) will be the rate used; PROVIDED, FURTHER, that if Telerate ceases to provide LIBOR quotations, such rate shall be the average rate of interest determined by Lender at which deposits in U.S. Dollars are offered for the relevant Interest Period by The Sanwa Bank, Limited (or its successor) to banks in London interbank markets as of 11:00 A.M. (London time) on the applicable Interest Rate Determination Date, PLUS (ii) the Applicable Borrowing Margin in effect. 1.51. "LIBOR RATE REVOLVING LOAN" shall mean the Revolving Loan, to the extent that it bears interest at the LIBOR Rate. 1.52. "LOCK BOX ACCOUNT" shall have the meaning ascribed to it in Section 4.3. 1.53. "LOCK BOX AGREEMENT" shall have the meaning ascribed to it in Section 4.3. 1.54. "MATURITY" shall mean the last day of the Term. 1.55. "MAXIMUM AMOUNT OF THE REVOLVING LOAN" shall mean an amount equal to $18,000,000. 1.56. "MULTIEMPLOYER PLAN" shall mean any plan described in Section 3(37) or 4001(a)(3) of ERISA to which contributions are or have been made by Borrower or any ERISA Affiliate. 1.57. "NON-USE FEE" shall have the meaning ascribed to it in Section 2.10. 1.58. "OPERATING PROFIT" shall have the meaning ascribed to it in Section 10.1(B). 1.59. "ORIGINATION DATE" shall mean August 2, 1995, the date on which the Revolving Loan initially was funded. 7 1.60. "OVER ADVANCE FACILITY" shall have the meaning ascribed to it in Section 2.2(B). 1.61. "PARTICIPANT" shall mean any Person, now or at any time or times hereafter, participating with Lender in the loans made by Lender to Borrower pursuant to this Agreement and the Ancillary Agreements. 1.62. "PBGC" shall mean the Pension Benefit Guaranty Corporation or any governmental body succeeding to its functions. 1.63. "PERMITTED INDEBTEDNESS" shall have the meaning ascribed to it in Section 10.2(J). 1.64. "PERMITTED SUBORDINATED INDEBTEDNESS" shall have the meaning ascribed to it in Section 10.2(J). 1.65. "PERSON" shall mean any individual, sole proprietorship, partnership, joint venture, trust, unincorporated organization, association, corporation, limited liability company, institution, entity, party, or government (whether national, federal, state, county, city, municipal or otherwise, including, without limitation, any instrumentality, division, agency, body or department thereof). 1.66. "PLAN ADMINISTRATOR" shall have the meaning assigned to it in Section 3(16)(A) of ERISA. 1.67. "PLAN SPONSOR" shall have the meaning assigned to it in Section 3(16)(B) of ERISA. 1.68. "PRIME RATE" shall mean, on any day, the highest "prime rate" of interest in the United States of America quoted by THE WALL STREET JOURNAL, Midwest Edition, on such day, or if THE WALL STREET JOURNAL is not published on such day, then on the most recent day of publication; provided, however, that in the event that THE WALL STREET JOURNAL ceases quoting a "prime rate" of the type described, "Prime Rate" shall mean, on any day, the highest per annum rate of interest quoted as the "Bank Prime Revolving Loan" rate for "This week" in Federal Reserve Report H.15. The "Prime Rate" shall change effective on the date of the publication of any change in the applicable index by which such "Prime Rate" is determined. 1.69. "PROHIBITED TRANSACTION" shall mean a transaction with respect to an Employee Benefit Plan that is prohibited under Code Section 4975 or ERISA Section 406 and not exempt under Code Section 4975 or ERISA Section 408. 1.70. "REPORTABLE EVENT" shall mean with respect to an Employee Benefit Plan, (i) an event described in Sections 4043(c), 4068(a) or 4063(a) of ERISA or in the regulations thereunder, (ii) receipt of a notice of withdrawal liability with respect to a Multiemployer Plan pursuant to Section 4202 of ERISA, (iii) an event requiring Borrower or any ERISA Affiliate to provide security for an Employee Benefit Plan under Code Section 401(a)(29), (iv) any failure to 8 make payment required under Code Section 412(m), the withdrawal of Borrower or any ERISA Affiliate from an Employee Benefit Plan in which it is a "substantial employer," as defined in Section 4001(a)(2) of ERISA, (v) the institution of proceedings to terminate an Employee Benefit Plan by the PBGC, or (vi) the filing of a notice to terminate an Employee Benefit Plan as a termination under Section 4041 of ERISA. 1.71. "REVOLVING LOAN" shall have the meaning ascribed to it in Section 2.2. 1.72. "REVOLVING LOAN ACCOUNT" shall have the meaning ascribed to it in Section 4.1. 1.73. "REVOLVING LOAN YEAR" shall mean the period of twelve (12) consecutive months commencing on the date hereof and each succeeding period of twelve (12) months. 1.74. "SECURITY DOCUMENTS" shall mean this Agreement and all other agreements, instruments, documents, financing statements, warehouse receipts, bills of lading, notices of assignment, schedules, assignments, mortgages and other written matter necessary or requested by Lender to create, perfect and maintain perfected Lender's security interest in, and/or lien on, the Collateral. 1.75. "SLOW MOVING INVENTORY" shall mean Inventory which has not been sold by Borrower within the preceding twelve (12) month period. 1.76. "SPECIAL COLLATERAL" shall have the meaning ascribed to it in Section 5.3. 1.77. "SPECIAL DEPOSIT ACCOUNT" shall have the meaning ascribed to it in Section 4.3. 1.78. "SPECIAL DEPOSIT AGREEMENT" shall have the meaning ascribed to it in Section 4.3. 1.79. "STOCK" shall mean all shares, options, interests, participations or other equivalents (however designated) of or in a corporation, whether voting or non-voting, including, without limitation, all agreements, instruments and documents convertible, in whole or in part, into any one or more or all of the foregoing. 1.80. "SUBSIDIARY" when used to determine the relationship of a Person to Borrower, means any Person of which (i) securities having ordinary voting power to elect a majority of the board of directors (or other persons having similar functions), or (ii) other ownership interests ordinarily constituting a majority voting interest, are at the time, directly or indirectly, owned or controlled by Borrower, or by one or more other Subsidiaries, or by Borrower and one or more Subsidiaries. 1.81. "TELERATE SCREEN" means the display designated as Screen 3750 on the Telerate System or such other screen on the Telerate System as shall display the London interbank offered rates for deposits in U.S. dollars quoted by selected banks. 9 1.82. "TERM LOAN" shall have the meaning ascribed to it in Section 2.3. 1.83. "TERM" shall have the meaning ascribed to it in Section 2.7. 1.84. "TERM LOAN RATE" shall be a fixed rate of interest equal to fifteen percent (15%) per annum. 1.85. "TOTAL FACILITY" shall have the meaning ascribed to it in Section 2.1. A. ACCOUNTING TERMS. Any accounting terms used in this Agreement which are not specifically defined shall have the meanings customarily given them in accordance with generally accepted accounting principles. B. OTHER TERMS. All other terms contained in this Agreement which are not otherwise defined in this Agreement shall, unless the context indicates otherwise, have the meanings provided for by the Uniform Commercial Code of the State of Illinois to the extent the same are used or defined therein. 2. CREDIT FACILITY; GENERAL TERMS. 2.1. TOTAL FACILITY. Provided there does not then exist an Event of Default or Default, and subject to the terms and conditions set forth in this Agreement, Lender agrees to make available for Borrower's use from time to time during the term of this Agreement, upon Borrower's request therefor, certain loans and other financial accommodations (the "Total Facility") consisting of the Revolving Loan and the Term Loan, as set forth more fully in Sections 2.2 and 2.3, respectively. 2.2. REVOLVING LOAN. A. The Total Facility shall include a revolving line of credit consisting of advances against Eligible Accounts, Eligible Installment Accounts and Eligible Inventory (the "Revolving Loan") evidenced by an Amended and Restated Revolving Note, in the form attached hereto as Exhibit 2.2(A), in an aggregate principal amount not to exceed, at any time outstanding, the lesser of (i) Eighteen Million Dollars ($18,000,000) or (ii) the Borrowing Base as reflected in a Borrowing Base Certificate. As used in this Agreement for this period of time, the "Borrowing Base" shall mean and, at any particular time and from time to time, be equal to the sum of (a) eighty five (85%) (or such lesser percentage as the Lender may, at any time and from time to time, determined in the exercise of its reasonable credit judgment) of Eligible Accounts as determined by Lender plus (b) seventy percent (70%) (or such lesser percentage as the Lender may, at any time and from time to time, determined in the exercise of its reasonable credit judgment) of Eligible Installment Accounts as determined by Lender plus (c) sixty percent (60%) (or such lesser percentage as Lender may at any time and from time to time, determine in the exercise of its reasonable credit judgment) of Eligible Inventory. Notwithstanding the foregoing, the following limitations shall apply: (1) the aggregate amount of advances against Eligible Installment Accounts shall not exceed, at any time, the lesser of (x) Nine Million Dollars 10 ($9,000,000) or (y) fifty percent (50%) of the Maximum Amount of the Revolving Loan then in effect; and (2) the aggregate amount of advances against Eligible Inventory shall not exceed, at any time, the lesser of (x) One Million Five Hundred Thousand Dollars ($1,500,000) or (y) fifteen percent (15%) of the Maximum Amount of the Revolving Loan then in effect. In the event Lender decreases the advance percentages to be applied to Eligible Accounts, Eligible Installment Accounts and Eligible Inventory which are contained in this Section 2.2, such decrease shall become effective immediately for the purpose of calculating the amount which Lender agrees to advance, or allow to remain outstanding, against Eligible Accounts, Eligible Installment Accounts and Eligible Inventory. B. Subject to the provisions of Section 2.2(A), in addition to the foregoing, Lender shall make available to Borrower an over advance facility (the "Over Advance Facility") in an amount not to exceed One Million Two Hundred Fifty Thousand Dollars ($1,250,000), provided that there shall be no outstanding Indebtedness under the Over Advance Facility for a period of not less than thirty (30) consecutive days during each Contract Year. 2.3. TERM LOAN. On the Closing Date, subject to the fulfillment or waiver of all conditions precedent set forth in Section 12.3 herein, Lender shall make a secured term loan (the "Term Loan") to Borrower in the principal amount equal to Three Million Dollars ($3,000,000). The Term Loan shall be evidenced by a promissory note to be executed and delivered by Borrower to Lender on the Closing Date, the form of which is attached hereto and made a part hereof as Exhibit 2.3 (the "Term Note"), shall bear interest as specified in Section 2.5(B) and shall be paid in accordance with the terms of the Term Note. The Term Loan shall be funded on the Closing Date, which shall be no later than June 30, 1997. In the event that the Term Loan shall not have been funded in full on or before June 30, 1997, Lender's obligation to fund the Term Loan shall be permanently eliminated. The proceeds of the Term Loan shall be used by Borrower solely for the purposes enumerated in Section 2.12 herein. The Term Loan shall be a part of the Total Facility. Lender acknowledges that Borrower's failure to fulfill any condition precedent to the funding of the Term Loan or Borrower's election to forego having Lender fund the Term Loan shall not constitute a Default hereunder. 2.4. ADVANCES TO CONSTITUTE ONE REVOLVING LOAN. All loans and advances by Lender to Borrower under this Agreement and the Ancillary Agreements (whether made as a Revolving Loan, a Term Loan or otherwise), shall constitute one loan and all indebtedness and obligations of Borrower to Lender under this Agreement and the Ancillary Agreements shall constitute one general obligation secured by the Collateral. 11 2.5. INTEREST RATE. (A) Revolving Loan. (i) (a) So long as no Event of Default has occurred and is continuing, Borrower shall pay to Lender interest on the Revolving Loan as follows: (x) Borrower shall pay interest on the principal balance of the amount outstanding under the Over Advance Facility equal to two hundred (200) basis points in excess of the Prime Rate; and (y) Borrower shall pay interest at the applicable Designated Rate on the outstanding principal balance of the Revolving Loan; provided, however, that upon the occurrence and during the continuation of an Event of Default, Lender may, at its option, raise the interest rate charges on the Liabilities to the Default Rate with respect to the Liabilities from the date of the occurrence of the Default until the earlier of (1) the Default is cured or waived by Lender or (2) the Liabilities are paid in full. Notwithstanding the provisions of the previous sentences, Borrower shall receive a ten (10) day period (commencing on the date of the occurrence of such application of the Default) to cure any non-monetary Default before Lender shall have the right to raise the interest rate charged on the Liabilities to the Default Rate. The applicable basis for determining the rate of interest with respect to the Revolving Loan shall be selected by Borrower initially at the time a request for an advance is given pursuant to Section 12.2(B)(vii). The basis for determining the interest rate with respect to the Revolving Loan may be changed from time to time by Borrower pursuant to Section 2.5(A)(v). (b) Interest on the Revolving Loan shall be computed by multiplying the closing daily balance of the Revolving Loan as reflected in Borrower's Revolving Loan Account for each day during the preceding month by the interest rate determined to be applicable hereunder on each such day. (c) Interest and all fees hereunder (other than prepayment fees) shall be computed on the basis of a 360-day year for the actual number of days elapsed. In computing interest on the Revolving Loan, the date of funding of the Revolving Loan or the first day of an Interest Period applicable to such Revolving Loan if it is a LIBOR Rate Revolving Loan, or with respect to a Base Rate Revolving Loan being converted from LIBOR Rate Revolving Loan, the date of conversion of such LIBOR Rate Revolving Loan to such Base Rate Revolving Loan, shall be included and the date of payment of such Revolving Loan or the expiration date of an Interest Period applicable to such Revolving Loan if it is a LIBOR Rate Revolving Loan, or with respect to a Base Rate Revolving Loan being converted to a LIBOR Rate Revolving Loan, the date of conversion of such Base Rate Revolving Loan to such LIBOR Rate Revolving Loan, shall be excluded; provided, that if a Revolving Loan is repaid on the same day on which it is made, one day's interest shall be paid on that Revolving Loan. (ii) Following the occurrence of an Event of Default, Borrower shall pay to Lender interest from the date of the Default to and including the date of cure of such Default on the outstanding principal balance of the Liabilities at the Default Rate applicable to such Liabilities; provided, however, that in the case of LIBOR Rate Revolving Loan, upon the expiration of the Interest Period in effect at the time any Default shall have occurred and be 12 continuing, such LIBOR Rate Revolving Loan shall become Base Rate Revolving Loan and thereafter bear interest at the Default Rate applicable to Base Rate Revolving Loan. (iii) (a) Interest shall be due at the Designated Rate as provided herein, after as well as before demand, default and judgment, notwithstanding any judgment rate of interest provided for in any statute. If any interest payment or other charge or fee payable hereunder exceeds the maximum amount then permitted by applicable law, then to the extent permitted by law and subject to the provisions of subparagraph (b) below, Borrower shall be obligated to pay the maximum amount then permitted by applicable law and Borrower shall continue to pay the maximum amount from time to time permitted by applicable law until all such interest payments and other charges and fees otherwise due hereunder (in the absence of such restraint imposed by applicable law) have been paid in full. (b) It is the intention of Lender and Borrower to comply with the laws of the State of Illinois, and notwithstanding any provision to the contrary contained herein or in the other Ancillary Agreements, Borrower shall not be required to pay and Lender shall not be permitted to collect any amount in excess of the maximum amount of interest permitted by law ("Excess Interest"). If any Excess Interest is provided for or determined to have been provided for by a court of competent jurisdiction in this Agreement or in any of the other Ancillary Agreements, then in such event: (a) the provisions of this subparagraph shall govern and control; (b) neither Borrower nor any guarantor or endorser shall be obligated to pay any Excess Interest; (c) any Excess Interest that Lender may have received hereunder shall be, at Lender's option (1) applied as a credit against the outstanding principal balance of the Liabilities or accrued and unpaid interest (not to exceed the maximum amount permitted by law), (2) refunded to the payor thereof, or (3) any combination of the foregoing; (d) the interest rate(s) provided for herein shall be automatically reduced to the maximum lawful rate allowed under applicable law, and this Agreement and the other Ancillary Agreements shall be deemed to have been, and shall be, reformed and modified to reflect such reduction; and (e) neither Borrower nor any guarantor or endorser shall have any action against Lender for any damages arising out of the payment or collection of any Excess Interest. (iv) Subject to the provisions of Section 2.11(G), in connection with each LIBOR Rate Revolving Loan, Borrower shall elect an interest period (each an "Interest Period") to be applicable to such Revolving Loan, which Interest Period shall be either a 30, 60 or 90 period; PROVIDED, that: (a) the initial Interest Period for any Revolving Loan shall commence on the date of funding of such Revolving Loan; (b) in the case of immediately successive Interest Periods, each successive Interest Period shall commence on the day on which the immediately preceding Interest Period expires; (c) if an Interest Period otherwise would expire on a day that is not a Business Day, such Interest Period shall expire on the next succeeding Business Day; 13 provided, that if such next succeeding Business Day falls in a new calendar month, then such Interest Period shall expire on the immediately preceding Business Day; (d) any Interest Period that begins on the last Business Day of a calendar month (or on a day for which there is no numerically corresponding day in the calendar month at the end of such Interest Period) shall, subject to paragraph (v) below, end on the last Business Day of a calendar month; (e) no Interest Period shall extend beyond the last day of the Term; (f) no Interest Period may extend beyond a date on which Borrower is required to make a required payment or prepayment of principal of the Revolving Loan (including prepayments pursuant to Section 2.8); and (g) there shall be no more than two (2) Interest Periods relating to LIBOR Rate Revolving Loans outstanding at any time. (v) Subject to the provisions of Section 2.5(A)(iv) and Section 2.11(G), Borrower shall have the option to: (a) convert at any time all or any part of any outstanding Base Rate Revolving Loan (except for loans pursuant to the Over Advance Facility which bear interest at the Prime Rate plus Two Hundred (200) basis points, and may not be converted to LIBOR Rate Loans) equal to Five Hundred Thousand Dollars ($500,000) and integral multiples of One Hundred Thousand Dollars ($100,000) in excess of that amount from a Base Rate Revolving Loan to a LIBOR Rate Revolving Loan or to convert a LIBOR Rate Revolving Loan in amounts equal to Five Hundred Thousand Dollars ($500,000) and integral multiples of One Hundred Thousand Dollars ($100,000) in excess of that amount from a LIBOR Rate Revolving Loan to a Base Rate Revolving Loan; or (b) upon the expiration of any Interest Period applicable to a LIBOR Rate Revolving Loan, to continue all, or any portion of such Revolving Loan equal to any multiple of One Hundred Thousand Dollars ($100,000) in excess of or below that amount (but in no event less than $500,000) as a LIBOR Rate Revolving Loan and the succeeding Interest Period(s) of such continued Revolving Loan shall commence on the last day of the Interest Period of the Revolving Loan to be continued; PROVIDED, that LIBOR Rate Revolving Loan may only be converted into Base Rate Revolving Loan on the expiration date of an Interest Period applicable thereto; PROVIDED, FURTHER, that no outstanding Revolving Loan may be continued as, or be converted into, a LIBOR Rate Revolving Loan when any Default with respect to the payment of money or any Event of Default has occurred and is continuing. (vi) Subject to the provisions of Sections 2.5(A)(v) and 2.11(G): (a) Borrower shall deliver a Notice of Conversion Continuation to Lender no later than 1:00 P.M. (Chicago, Illinois time) at least two (2) Business Days in 14 advance of the proposed conversion/continuation date. A Notice of Conversion/ Continuation shall certify: (1) the proposed conversion/continuation date (which shall be a Business Day); (2) the amount of the Revolving Loan to be converted/continued; (3) the nature of the proposed conversion/continuation; (4) in the case of a conversion to, or a continuation of, a LIBOR Rate Revolving Loan, the requested Interest Period; and (5) in the case of a conversion to, or a continuation of, a LIBOR Rate Revolving Loan, that no Default or Event of Default has occurred and is continuing or would result from the proposed conversion/continuation. In lieu of delivering the above-described Notice of Conversion/Continuation, Borrower may give Lender telephonic notice by the required time of any proposed conversion/continuation under Section 2.5(A)(v); provided, that such notice shall be promptly confirmed in writing by delivery of a Notice of Conversion/Continuation to Lender on or before the proposed conversion/continuation date. If on any day a Revolving Loan is outstanding with respect to which notice has not been delivered to Lender in accordance with the terms of this Agreement specifying the basis for determining the rate of interest, then for that day that Revolving Loan shall be deemed to be a reference to the Base Rate. (b) Lender shall not incur any liability to Borrower in acting upon any telephonic notice referred to above that Lender believes in good faith to have been given by or at the direction of an officer of Borrower or for otherwise acting in good faith under this Section 2.5(A)(vi) and, upon conversion/continuation by Lender in accordance with this Agreement pursuant to any telephonic notice, Borrower shall have effected such conversion or continuation, as the case may be, hereunder. (c) A Notice of Conversion/Continuation for conversion to, or continuation of, a LIBOR Rate Revolving Loan (or telephonic notice in lieu thereof) shall be irrevocable once given, and Borrower shall be bound to convert or continue in accordance therewith. (vii) Subject to the additional provisions of Section 2.5(A), each LIBOR Rate Revolving Loan requested must equal at least Five Hundred Thousand Dollars ($500,000) and may only be in additional integral multiples of One Hundred Thousand Dollars ($100,000). (B) Term Loan. (i) Prior to the occurrence of an Event of Default or Maturity, all outstanding amounts due to Lender under the Term Loan shall bear interest at a fixed rate of fifteen percent (15%) per annum, payable monthly in arrears. Upon the occurrence of an Event of Default or Maturity, the interest rate then in effect for the Term Loan shall increase by two percent (2%). (ii) Interest and all fees hereunder (other than prepayment fees) shall be computed on the basis of a 360-day year for the actual number of days elapsed. 2.6. METHOD OF BORROWING: METHOD OF MAKING INTEREST AND OTHER PAYMENTS. In its sole discretion, Lender may deem interest and other amounts payable hereunder (other than the principal balance of the Revolving Loan) to be paid by causing such amounts to be added to the 15 principal balance of the Revolving Loan, all as set forth on Lender's books and records. Unless otherwise directed by Lender, all payments to Lender hereunder shall be made by delivery thereof to Lender at its address set forth above or by delivery to Lender for deposit in the Depository Bank of all proceeds of Accounts or other Collateral in accordance with Section 4.3 hereof. If Lender elects to bill Borrower for any amount due hereunder, such amount shall be immediately due and payable with interest thereon as provided herein. Solely for the purpose of calculating interest earned by Lender with respect to the Revolving Loan, any check, draft, wire transfer or similar item of payment by or for the account of Borrower delivered to Lender or deposited in the Depository Bank in accordance with Section 4.3 hereof shall be applied by Lender on account of Borrower's Revolving Loan obligations on the second Business Day after Lender has received immediately available funds as a result of the deposit thereof in accordance with Section 4.3 hereof. Immediately available funds received by Lender after 2:00 p.m. (Chicago, Illinois time) shall be deemed to have been received on the following Business Day. 2.7. TERM OF AGREEMENT. This Agreement shall be in effect from the Origination Date, through and including August 2, 1998 (the "Term"), provided, however, that Borrower and Lender agree that Lender's commitment to lend with respect to the Total Facility shall be automatically extended for an additional two (2) year period, commencing on August 2, 1998 and terminating on August 2, 2000 unless and until by the sixtieth (60th) day prior to the end of any Contract Year, Lender or Borrower shall have notified the other in writing of that party's intention to terminate the Total Facility effective on the last day of said Contract Year, subject to earlier termination by Lender upon the occurrence of a Default as provided in Section 11.1. Upon the effective date of termination, all of the Liabilities shall become immediately due and payable without presentment, notice or demand, except as otherwise provided herein. Notwithstanding any termination, until all of the Liabilities shall have been fully paid and satisfied, Lender shall be entitled to retain its security interest in the Collateral, Borrower shall continue to remit collections of Accounts and proceeds of Collateral as provided in this Agreement, and Lender shall retain all of its rights and remedies under this Agreement. 2.8. PAYMENTS PRIOR TO END OF TERM. (A) In consideration of Lender's allowance of the voluntary prepayment or termination of the Revolving Loan prior to the end of the Term, in addition to all other sums due Lender hereunder, Borrower shall pay to Lender a prepayment penalty equal to the lesser of Eighteen Million Dollars ($18,000,000) or the amount of the Maximum Amount of the Revolving Loan in effect at the time of such voluntary prepayment TIMES (i) two percent (2%) if the voluntary prepayment and termination occurs in the first Contract Year; (ii) one percent (1%) if the voluntary prepayment occurs in the second Contract Year; or (iii) one-half percent (0.50%) of the voluntary prepayment occurs in the third Contract Year. (B) Borrower may, at any time, pre-pay the Term Loan, in whole or in part, in amounts of at least Two Hundred Fifty Thousand Dollars ($250,000). Such prepayments shall be applied to the scheduled installments of principal in the inverse order of maturity. In consideration of Lender's allowance of the voluntary prepayment or termination of the Term Loan prior to the end of the Term, in addition to all other sums due Lender hereunder, Borrower 16 shall pay Lender a prepayment premium of (i) one and one-half percent (1.5%) of principal prepaid, if such prepayment is made within one (1) year of the Closing Date, and (ii) one percent (1%) of principal prepaid, if such prepayment is made thereafter. Notwithstanding the foregoing, the prepayment premium for voluntary prepayments of the Term Loan shall be waived by Lender if the proceeds for the prepayment are derived from the secondary offering of Borrower's Stock. (C) Borrower shall make mandatory prepayments on the Term Loan in amounts equal to one hundred percent (100%) of the net cash proceeds received by Borrower from (i) the sale, transfer or other disposition of Borrower's fixed assets in excess of Fifty Thousand Dollars ($50,000) in any Fiscal Year, or (ii) the incurrence of any Permitted Subordinated Indebtedness subsequent to June 30, 1997. All such mandatory prepayments shall be applied to the scheduled installments of principal on the Term Loan in the inverse order of maturity. No mandatory prepayment shall be subject to a prepayment penalty or premium. 2.9. CLOSING FEES. Borrower shall pay to Lender the following closing fees, which shall be deemed earned and which shall be payable in full on the date hereof: (A) on account of the Revolving Loan, Fifty-Five Thousand Dollars ($55,000); and (B) on account of the Term Loan, Seventy-Five Thousand Dollars ($75,000). 2.10. NON-USE FEE. Borrower shall pay to Lender a Non-Use Fee equal to one-half of one percent (0.50%) per annum of the amount, if any, by which Eighteen Million Dollars ($18,000,000) has exceeded the average daily closing balance of the Revolving Loan during each calendar quarter or partial quarter during said period. The Non-Use Fee shall be payable in arrears on the first day of each calendar quarter and shall be calculated on the basis of a 360-day year for actual days elapsed. 2.11. SPECIAL PROVISIONS GOVERNING LIBOR RATE REVOLVING LOAN. Notwithstanding any other provision of this Agreement, the following provisions shall govern with respect to LIBOR Rate Revolving Loan as to the matters covered: (A) As soon a practicable after 1:00 p.m. (Chicago, Illinois time) on each Interest Rate Determination Date, Lender shall determine (which determination shall, absent manifest error, be final, conclusive and binding upon all parties) the interest rate that shall apply to the LIBOR Rate Revolving Loan for which an interest rate is then being determined for the applicable Interest Period and shall promptly give notice thereof (in writing or by telephone confirmed in writing) to Borrower. (B) If on any Interest Rate Determination Date Lender shall have determined (which determination shall be final and conclusive and binding upon Borrower) that: (i) by reason of any changes arising after the date of this Agreement affecting the LIBOR market or affecting the position of Lender in such market, adequate and fair means do not exist for ascertaining the applicable interest rate by reference to the LIBOR Rate 17 with respect to the LIBOR Rate Revolving Loan as to which an interest rate determination is then being made; or (ii) by reasons of (a) any change after the date hereof in any applicable law or governmental rule, regulation or order (or any interpretation thereof and including the introduction of any new law or governmental rule, regulation or order) or (b) other circumstances affecting Lender or the LIBOR market or the position of Lender in such market (such as for example, but not limited to, official reserve requirements required by Regulation D to the extent not given effect in the Libor Rate), the LIBOR Rate shall not represent the effective pricing to Lender for dollar deposits of comparable amounts for the relevant period; then, and in any such event, Lender shall, promptly after being notified of a borrowing, conversion or continuation, give notice (by telephone confirmed in writing) to Borrower of such determination. Thereafter, Borrower shall pay to Lender, upon written demand therefor, such additional amounts (in the form of an increased rate of, or a different method of calculating, interest or otherwise as Lender in its reasonable credit judgment shall determine) as shall be required to cause Lender to receive interest with respect to the LIBOR Rate Revolving Loan for the Interest Period following that Interest Rate Determination Date at a rate per annum equal to two (2%) percent per annum in excess of the effective pricing to Lender for dollar deposits to make or maintain the LIBOR Rate Revolving Loan. A certificate as to additional amounts owed Lender, showing in reasonable detail the basis for the calculation thereof, submitted in good faith to Borrower shall, absent manifest error, be final and conclusive and binding upon Borrower. (C) If on any date Lender shall have reasonably determined (which determination shall be final and conclusive and binding upon Borrower) that the making or continuation of any LIBOR Rate Revolving Loan has become unlawful or impossible by compliance by Lender in good faith with any law, governmental rule, regulation or order (whether or not having the force of law and whether or not failure to comply therewith would be unlawful), then, and in any such event, Lender shall promptly give notice (by telephone confirmed in writing) to Borrower of that determination. The obligation of Lender to make or maintain such LIBOR Rate Revolving Loan during any such period shall be terminated at the earlier of the termination of the Interest Period then in effect or when required by law and Borrower shall no later than the termination of the Interest Period in effect at the time any such determination pursuant to this Section is made or, earlier, when required by law, repay or prepay such LIBOR Rate Revolving Loan, together with all interest accrued thereon. (D) Borrower shall compensate Lender, upon written request by Lender (which request shall set forth in reasonable detail the basis for requesting such amounts and which shall, absent manifest error, be conclusive and binding upon Borrower), for all reasonable losses, expenses and liabilities (including, without limitation, any loss (including interest paid) sustained by Lender in connection with the re-employment of such funds) Lender may sustain: (1) if for any reason (other than a default by Lender or the failure of a borrowing to occur due to the occurrence of any event described in Section 2.11(C)) a borrowing of any LIBOR Rate Revolving Loan does not occur on a date specified therefor in a request for an advance, a Notice of Conversion/Continuation or a telephonic request for borrowing or conversion/continuation or a successive Interest period does not commence after notice therefor is given pursuant to Section 18 2.5(A)(vi); or (2) as consequence of any other default by Borrower to repay any LIBOR Rate Revolving Loan when required by the terms of this Agreement; provided, that during the period while any such amounts have not been paid, Lender shall reserve an equal amount from amounts otherwise available to be borrowed under the Revolving Loan. The provisions of this Section 2.11(D) shall survive the termination of this Agreement, the repayment of the Revolving Loan and the discharge of Borrower's other obligations hereunder. (E) Lender may make, carry or transfer LIBOR Rate Revolving Loan at, to, or for the account of, any of its branch offices or the office of an affiliate of Lender. (F) Calculation of all amounts payable to Lender under Section 2.11 shall be made though Lender had actually funded the relevant LIBOR Rate Revolving Loan through the purchase of a LIBOR deposit bearing interest at the LIBOR Rate in an amount equal to the amount of that LIBOR Rate Revolving Loan and having a maturity comparable to the relevant Interest Period and through the transfer of such LIBOR deposit from an offshore office to a domestic office in the United States of America; provided, however, that Lender may fund each of the LIBOR Rate Revolving Loan in any manner it sees fit and the foregoing assumption shall be utilized only for the calculation of amounts payable under Section 2.11. (G) Notwithstanding any of the foregoing, Borrower shall not be entitled to exercise its option to convert any portion of the Revolving Loan to a LIBOR Rate Revolving Loan until the earlier of (i) January 31, 1998 or (ii) receipt of TRO Leaning, Inc.'s audited annual financial statements for the fiscal year ended October 31, 1997 containing the unqualified opinion of its auditors. 2.12 PURPOSES. (A) The purpose of the Revolving Loan is to provide Borrower with (i) working capital financing and (ii) the funds necessary on the Origination Date to have refinanced Borrower's existing loan facility with Harris Trust and Savings Bank. (B) The purpose of the Term Loan is to provide Borrower with (i) funds to reduce the principal amount of the Revolving Loan, and (ii) funds to satisfy certain of its fees and expenses. 3. ELIGIBLE ACCOUNTS; ELIGIBLE INVENTORY. 3.1 ELIGIBLE ACCOUNTS. Eligible Accounts shall mean all Accounts other than the following: (A) Accounts which remain due one hundred and fifty (150) days past the invoice date; (B) International Accounts (except those International Accounts which Lender deems to be eligible, in Lenders role and absolute discretion); 19 (C) Accounts owing by a single Account Debtor, including a currently scheduled Account, if fifty percent (50%) or more of the balance owning by such Account Debtor is ineligible by reason of the criterion set forth in clause (A) or (B) above; (D) Accounts with respect to which the Account Debtor is an Affiliate of Borrower or a director, officer or employee of Borrower or its Affiliates; (E) Accounts with respect to which the Account Debtor is the United States of America or any department, agency or instrumentality thereof unless Borrower has complied with the Federal Assignment of Claims Act of 1940, as amended; (F) Accounts arising with respect to goods which have not been shipped and delivered to the Account Debtor or arising with respect to services which have not been fully performed and accepted by the Account Debtor; (G) Accounts with respect to which the Account Debtor is the subject of bankruptcy or a similar insolvency proceeding or has made an assignment for the benefit of creditors or whose assets have been conveyed to a receiver or trustee; (H) Accounts with respect to which the Account Debtor's obligations to pay the Account is conditional upon the Account Debtor's approval or is otherwise subject to any repurchase obligation or return right, as with sales made on a guaranteed sale, sale-and-return, sale on approval, or consignment basis (except with respect to Accounts in connection with which Account Debtors are entitled to return Inventory solely on the basis of the quality of such Inventory); (I) Accounts which are not evidenced by chattel paper or an instrument of any kind; (J) Accounts where the Account Debtor has an outstanding credit for the prior account period or has asserted any offset, counterclaim or defense denying liability thereunder; provided, however, that if such credit, offset, counterclaim or defense has been asserted, such Account shall be ineligible only to the extent of such asserted credit, offset, counterclaim or defense; (K) Accounts which are not subject to and covered by Lender's first priority perfected security interest and which are subject to any other lien, claim, encumbrance or security interest; (L) Accounts which are not evidenced by an invoice or other documentation in form acceptable to Lender; (M) If the Account Debtor is located in the State of New Jersey, all Accounts of such Account Debtor unless Borrower has filed a Notice of Business Activities Report with the New Jersey Division of Taxation for the then current year; 20 (N) If the Account Debtor is located in the State of Minnesota, all Accounts of such Account Debtor unless Borrower has filed a Business Activity Report with the Minnesota Department of Revenue; (O) Any Account unless each of the warranties and representations set forth in Section 9.2 has been reaffirmed with respect to such individual Account at the time that the most recent Accounts Report was delivered to Lender; (P) Accounts against which Lender is not legally permitted to make loans and advances; and (Q) Accounts which are not a valid, legally enforceable obligation of the relevant Account Debtor. 3.2 ELIGIBLE INSTALLMENT ACCOUNTS. Eligible Installment Accounts shall means all Installment Accounts other than the following: (A) Installment Accounts which remain due one hundred fifty (150) days past the invoice date; (B) Installment Accounts which remain due ninety (90) days past the invoice date of any invoice issued subsequent to the initial invoice; (C) Installment Accounts which would not be deemed Eligible Accounts under the provisions of Sections 3.1(B) through 3.1(Q) inclusive, of this Agreement. In the event that any Eligible Installment Account shall become ineligible due to the existence of a condition(s) set forth in this Section 3.2, the entire Installment Account (including future installment payments that are not yet due and payable) shall become ineligible. 3.3 ELIGIBLE INVENTORY. Eligible Inventory shall mean all Inventory other than the following: (A) Any item of Inventory which is not in good condition, or does not meet all standards imposed by any governmental agency, or department or division thereof, having regulatory authority over such goods, its use or sale, or is either currently unusable or currently unsalable in the ordinary course of Borrower's business, or is not otherwise acceptable to Lender due to age, type, category or quantity; (B) Any item of Inventory which is not located at one of the locations listed on Exhibit 3.3(B) attached hereto, is not subject to and covered by Lender's perfected security interest and is subject to any other lien, claim, encumbrance or security interest; (C) Any item of Inventory which has been consigned, sold or leased to any Person; 21 (D) Any item of Inventory unless each of the warranties and representations set forth in Section 9.3 has been reaffirmed with respect such item of Inventory at the date that the most recent Inventory Report was delivered to Lender; and (E) Any item of Inventory which is work in-process; (F) Any item of Inventory located in Canada or the United Kingdom; (G) Any item of Inventory which is Slow Moving Inventory; (H) Any item of Inventory which is courseware; (I) Any item of Inventory which is a sort of the FMST Simulator; and (J) Any item of Inventory which was purchased by Borrower in or as part of a "bulk" transfer or sale of assets unless Borrower, and the seller of such item, have complied with all applicable bulk sales or bulk transfer laws. 4. PAYMENTS. 4.1. REVOLVING LOAN ACCOUNT: METHOD OF MAKING PAYMENTS. Lender shall maintain a loan account (the "Revolving Loan Account") on its books in which shall be recorded (i) all loans and advances made by Lender to Borrower pursuant to this Agreement, (ii) all payments made by Borrower on all such loans and advances and (iii) all other appropriate debits and credits as provided in this Agreement, including, without limitation, all fees, charges, expenses and interest. All entries in the Revolving Loan Account shall be made in accordance with Lender's customary accounting practices as in effect from time to time. Unless otherwise agreed to in writing from time to time hereafter, all payments which Borrower is required to make to Lender under this Agreement or under any of the Ancillary Agreements shall be made by appropriate debits to the Revolving Loan Account. Lender may, in its sole and absolute discretion, elect to bill Borrower for such amounts in which case the amount shall be immediately due and payable with interest thereon at the rate set forth at the Base Rate. 4.2. PAYMENT TERMS. All of the Liabilities shall be payable to Lender at the address set forth in Section 13.10. The Liabilities will be repayable as follows: (i) interest shall be payable on the first day of each month (for the immediately preceding month), (ii) fees, costs, expenses and similar charges shall be payable as and when provided for in this Agreement or the Ancillary Agreements and (iii) the principal balance of the Liabilities shall be payable as and when provided for in this Agreement or the Ancillary Agreements, including without limitation, collections received with respect to any proceeds of Collateral as such proceeds are received; provided, however, that if at any time the (i) outstanding principal balance of the Revolving Loan exceeds the lesser of $18,000,000 (or such lesser amount of the Maximum Amount of the Revolving Loan then in effect) or the Borrowing Base or (ii) the outstanding principal balance of all of the Liabilities exceeds the Total Facility, Borrower shall immediately pay to Lender without demand such amount as is necessary to eliminate such excess. 22 4.3. COLLECTION OF ACCOUNTS AND PAYMENTS. Borrower shall establish: (i) a lock box account (the "Lock Box Account") in Lender's name with Harris Trust and Savings Bank and (ii) a special deposit account (the "Special Deposit Account") in Lender's name with a depository bank reasonably satisfactory to Lender (collectively, the "Depository Banks") into which Borrower and/or Borrower's Account Debtors will immediately deposit all remittances and proceeds of the Collateral in the identical form in which such payment was made; provided, however, if such remittance was made in the form of cash, Borrower may deposit said remittance with the Depository Banks in the form of a check. Notwithstanding the foregoing, Borrower may only deposit into the Special Deposit Account wire transfers Borrower receives from foreign Account Debtors; all other deposits to be made into the Lock Box Account. Depository Banks shall acknowledge and agree, in a manner satisfactory to Lender, that all payments made to the Lock Box Account and the Special Deposit Account are the sole and exclusive property of Lender, that Depository Banks have no rights of setoff against the funds in the Lock Box Account and that Depository Banks will wire, or otherwise transfer deposited funds in a manner satisfactory to Lender, funds deposited in the Lock Box Account and in the Special Deposit Account to Lender on a daily basis as soon as such funds are collected, all pursuant to the Lock Box Agreement in the form of Exhibit 1.53 attached hereto and the Special Deposit Agreement in the form of Exhibit 1.78 attached hereto. Borrower hereby agrees that all payments made to the Lock Box Account and the Special Deposit Account or otherwise received by Lender, whether on the Accounts or as proceeds of other Collateral or otherwise, will be the sole and exclusive property of Lender and will be applied on account of the Liabilities. After allowing two (2) Business Days for collection after such funds are received by Lender, Lender will credit (conditional upon final collection) all payments received through the Lock Box Account and the Special Deposit Account to the Revolving Loan Account. Borrower and any Affiliates, shareholders, directors, officers, employees, agents of Borrower and all Persons acting for or in concert with Borrower shall, acting as trustee for Lender, receive, as the sole and exclusive property of Lender, any monies, checks, notes, drafts or any other payments relating to or proceeds of Accounts or other Collateral which come into their possession or under their control and immediately upon receipt thereof, shall remit the same or cause the same to be remitted, in kind, to Lender, to the Lock Box Account or the Special Deposit Account or at Lender's address set forth in Section 13.10. Borrower agrees to pay to Lender any and all fees, costs and expenses (if any) which Lender incurs in connection with opening and maintaining the Lock Box Account and the Special Deposit Account and depositing for collection by Lender any check or item of payment received or delivered to Depository Banks or Lender on account of the Liabilities and Borrower further agrees to reimburse Lender for any claims asserted by Depository Banks in connection with the Lock Box Account and the Special Deposit Account or any returned or uncollected checks received by Depository Bank for deposit in the Lock Box Account and the Special Deposit Account, except claims relating to or caused by the malfeasance, recklessness or negligence of Lender. 4.4. APPLICATION OF PAYMENTS AND COLLECTIONS. Borrower irrevocably waives the right to direct the application of payments and collections received by Lender from or on behalf of Borrower, and Borrower agrees that Lender shall have the continuing exclusive right to apply and reapply any and all such payments and collections against the Liabilities in such manner as Lender may deem appropriate, notwithstanding any entry by Lender upon any of its books and 23 records. To the extent that Borrower makes a payment or payments to Lender or Lender receives any payment or proceeds of the Collateral for Borrower's benefit, which payment(s) or proceeds or any part thereof are subsequently invalidated, declared to be fraudulent or preferential, set aside or required to be repaid to a trustee, receiver or any other party under any bankruptcy act, state or federal law, common law or equitable cause, then, to the extent of such payment or proceeds received, the obligations to make such payments shall continue in full force and effect, as if such payments or proceeds had not been received by Lender. 4.5. STATEMENTS. All advances to Borrower, and all other debits and credits provided for in this Agreement, shall be evidenced by entries made by Lender in its internal data control systems showing the date, amount and reason for each such debit or credit. Until such time as Lender shall have rendered to Borrower written statements of account as provided herein, the balance in the Revolving Loan Account, as set forth on Lender's most recent statement, shall be rebuttably presumptive evidence of the amounts due and owing to Lender by Borrower. Not less than ten (10) days after the final day of each calendar month, Lender shall render to Borrower a statement setting forth the balance of the Revolving Loan Account, including principal, interest, expenses and fees. Each such statement shall be subject to subsequent adjustment by Lender and Lender's right to reapply payments in accordance with Section 4.4, but shall, absent manifest errors or omissions, be presumed correct and binding upon Borrower and shall constitute an account stated unless, within thirty (30) days after receipt of any statement from Lender, Borrower shall deliver to Lender written objection thereto specifying the error or errors, if any, contained in such statement. 5. COLLATERAL: GENERAL TERMS. 5.1. SECURITY INTEREST AND MORTGAGE. To secure the prompt payment to Lender of the Liabilities, Borrower hereby grants to Lender a continuing security interest in and to all of the following property and interest in property of Borrower, whether now owned or existing or hereafter acquired or arising and wherever located: (i) all Accounts, Inventory, Equipment, vehicles, contract rights, General Intangibles, tax refunds, chattel paper, instruments, letters of credit, documents and documents of title; (ii) all of Borrower's deposit accounts (general or special) with and credits and other claims against Depository Bank or Lender, or any other financial institutions with which Borrower maintains deposits; (iii) all of Borrower's now owned or hereafter acquired monies, and any and all other property of Borrower now or hereafter coming into the actual possession, custody or control of Lender or any agent or affiliate of Lender in any way or for any purpose (whether for safekeeping, deposit, custody, pledge, transmission, collection or otherwise); (iv) all insurance and condemnation proceeds of or relating to any of the foregoing; (v) all of Borrower's books and records relating to any of the foregoing; and (vi) all accessions and additions to, substitutions for, and replacements, products and proceeds of any of the foregoing. 5.2. DISCLOSURE OF SECURITY INTEREST. Borrower shall make appropriate entries upon its financial statements and books and records disclosing Lender's security interest in the Collateral. 24 5.3. SPECIAL COLLATERAL. Immediately upon Borrower's receipt of any Collateral which is evidenced or secured by an agreement, chattel paper, letter of credit, instrument or document, including, without limitation, promissory notes, documents of title and warehouse receipts (the "Special Collateral"), Borrower shall deliver the original thereof to Lender or to such agent of Lender as Lender shall designate, together with appropriate endorsements, the documents required to draw thereunder (as may be relevant to letters of credit) or other specific evidence (in form and substance acceptable to Lender) of assignment thereof to Lender. 5.4. FURTHER ASSURANCES. At Lender's request, Borrower shall, from time to time, (i) execute and deliver to Lender all Security Documents that Lender may reasonably request, in form and substance acceptable to Lender, and pay the costs of any recording or filing of the same and (ii) take such other actions as Lender may reasonably request in order to fully effect the purposes of this Agreement and to protect Lender's interest in the Collateral. Upon the occurrence of any Default, Borrower hereby irrevocably makes, constitutes and appoints Lender (and all Persons designated by Lender for that purpose) as Borrower's true and lawful attorney and agent-in-fact to sign the name of Borrower on any of the Security Documents and to deliver any of the Security Documents to such Persons as Lender, in its sole discretion, may elect. Borrower agrees that a carbon, photographic, photostatic, or other reproduction of this Agreement or of a financing statement is sufficient as a financing statement. 5.5. INSPECTION AND FIELD REVIEWS. Lender (by any of its officers, employees or agents) shall have the right, at any time or times during Borrower's usual business hours, without prior notice, to inspect and perform field reviews with regard to the Collateral, the Borrowing Base and all books and records related thereto (and to make extracts from such records) and the premises upon which any of the Collateral is located, to discuss Borrower's affairs and finances with any Person (including Borrower's independent certified public accountants) and to verify the amount, quality, value and condition of, or any other matter relating to, the Collateral. Notwithstanding the foregoing, provided that there does not then exist a Default or an Event of Default, Lender shall limit its inspections and field reviews to not more than four (4) times during each Contract Year. Borrower agrees to pay all of Lender's out-of-pocket costs and expenses plus a sum equal to $500.00 per person, per day, for each person participating in such field review/inspection. 5.6. LOCATION OF COLLATERAL. Borrower's chief executive office, principal place of business and all other offices and locations of the Collateral and books and records related thereto (including, without limitation, computer programs, printouts and other computer materials and records concerning the Collateral) are set forth on Exhibit 3.3(B) attached hereto. Borrower shall not remove its books and records or the Collateral from any such locations (except for removal of items of Inventory upon its sale in accordance with the terms of this Agreement) and shall not open any new offices or relocate any of its books and records or the Collateral except within the continental United States of America with at least thirty (30) days prior notice thereof to Lender. 5.7. LENDER'S PAYMENT OF CLAIMS ASSERTED AGAINST BORROWER. Lender may, but shall not be obligated to, at any time or times hereafter, in its reasonable discretion, and without 25 waiving any Default or waiving or releasing any obligation, liability or duty of Borrower under this Agreement or the Ancillary Agreements, pay, acquire or accept an assignment of any security interest, lien, claim or other encumbrance asserted by any Person against the Collateral. All sums paid by Lender under this Section 5.7, including all costs, fees (including without limitation reasonable attorneys' fees and paralegals' fees and court costs), expenses and other charges relating thereto, shall be payable by Borrower to Lender on demand and shall be additional Liabilities secured by the Collateral. 6. COLLATERAL: ACCOUNTS. 6.1. VERIFICATION OF ACCOUNTS. Any of Lender's officers, employees or agents shall have the right, at any time or times hereafter, in Lender's or Borrower's name or in the name of a firm of independent certified public accountants acceptable to Lender, to verify the validity, amount or any other matters relating to any Accounts by mail, telephone, telegraph or otherwise. 6.2. ASSIGNMENTS, RECORDS AND ACCOUNTS REPORT. Borrower shall keep accurate and complete records of its Accounts and as frequently as Lender shall require, but not less frequently than: (a) once per week (on or before the following Tuesday), Borrower shall deliver to Lender an Accounts Report regarding its Accounts for the preceding week, together with, upon Lender's request, copies of the invoices related thereto; and (b) once per month (on or before the twentieth (20th) day of each said calendar month), Borrower shall deliver to Lender an Accounts Report regarding its Installment Accounts for the preceding month, together with, upon Lender's request, copies of the invoices related thereto. Borrower shall also deliver to Lender, upon demand, the original copy of all documents, including, without limitation, repayment histories, present status reports and shipment reports, relating to the Accounts included in any Accounts Report and such other matters and information relating to the status of then existing Accounts as Lender shall reasonably request. 6.3. NOTICE REGARDING DISPUTED ACCOUNTS. Borrower shall give Lender prompt notice of any Accounts individually or in the aggregate in excess of $50,000 at any time or from time to time which are in dispute between any Account Debtor and Borrower. Each Accounts Report shall identify all disputed Accounts and disclose with respect thereto, in reasonable detail, the reason for the dispute, all claims related thereto and the amount in controversy. 6.4. SALE OR ENCUMBRANCE OF ACCOUNTS. Borrower shall not, without the prior written consent of Lender, sell, transfer, grant a security interest in or otherwise dispose of or encumber any of its Accounts to any Person other than Lender. 7. COLLATERAL: INVENTORY. 7.1. SALE OF INVENTORY. Unless a Default occurs, and Lender directs otherwise, Borrower may sell Inventory in the ordinary course of its business (which does not include a transfer in partial or total satisfaction of Indebtedness, sales in bulk, sale on consignment or sales on an approval or sale or return basis). All proceeds of such sales shall be part of the Collateral 26 and remitted to the Special Deposit Account. Borrower shall not rent, lease or otherwise transfer or dispose of any of the Inventory without Lender's prior written consent, except as set forth in this Section 7.1. 7.2. SAFEKEEPING OF INVENTORY: INVENTORY COVENANTS. Borrower shall maintain all Inventory in good and salable condition at all times. Lender shall not be responsible for (i) the safekeeping of the Inventory; (ii) any loss or damage thereto or destruction thereof occurring or arising in any manner or fashion, except when caused by the failure of Lender or its agents to exercise reasonable care with respect to the Inventory during any period of time during which Lender has foreclosed upon and owns good title to such Inventory; (iii) any diminution in the value of Inventory or (iv) any act or default of any carrier, warehouseman, bailee or forwarding agency or any other Person in any way dealing with or handling the Inventory. All risk of loss, damage, distribution or diminution in value of the Inventory shall be borne, as between Borrower and Lender, by Borrower, except as provided in clause (ii) above. 7.3. RECORDS AND SCHEDULES OF INVENTORY. Borrower shall keep correct and accurate records on a first-in, first-out basis, itemizing and describing the kind, type, quality and quantity of Inventory, Borrower's cost therefor and selling price thereof, and the withdrawals therefrom and additions thereto and Inventory then on consignment (if any, provided that Lender's prior written consent to such consignment must be obtained), and shall furnish to Lender, monthly on or before the twentieth (20th) day of each month, a current updated Inventory Report for the preceding month, based on the FIFO cost assumption. A complete physical count of the Inventory shall be conducted no less than annually and a report based on such count of the Inventory shall promptly thereafter be provided to Lender together with such supporting information as Lender shall request, including, without limitation, invoices relating to Borrower's purchase of goods listed in said report, as Lender shall, in its reasonable discretion, request. 7.4. RETURNED AND REPOSSESSED INVENTORY. If at any time prior to the occurrence of a Default, any Account Debtor returns any of the Inventory to Borrower, Borrower shall promptly determine the reason for such return and, if Borrower accepts such return, issue a credit memorandum (with a copy to be immediately sent to Lender) in the appropriate amount to such Account Debtor; provided, however, that Borrower shall not, without the prior consent of Lender, which consent shall not be unreasonably withheld when such consent is not inconsistent with protecting Lender's security interest in the Collateral, accept on any single day, returned Inventory the sale price of which was in excess of $75,000 in the aggregate or a total amount aggregating in excess of $150,000 in any thirty (30) day period. After the occurrence of a Default, and if Lender so directs, Borrower shall hold all returned Inventory in trust for Lender, shall segregate all returned Inventory from all other property of Borrower or in Borrower's possession and shall conspicuously label such returned Inventory as the property of Lender. Borrower shall, in all cases, immediately notify Lender of the return of any Inventory with a value in excess of $75,000, specifying the reason for such return and the location and condition of the returned Inventory. 7.5. EVIDENCE OF OWNERSHIP OF INVENTORY. Borrower shall, upon Lender's request, deliver to Lender all evidence of ownership of the Inventory. 27 8. COLLATERAL: EQUIPMENT. 8.1. MAINTENANCE OF THE EQUIPMENT. Borrower shall keep and maintain the Equipment in good operating condition and repair, ordinary wear and tear excepted, and shall make all necessary replacements thereof so that the value, utility and operating efficiency thereof shall at all times be maintained and preserved, ordinary wear and tear excepted, and shall promptly inform Lender of any additions to or deletions from the Equipment. Borrower shall not permit any such items to become affixed to real estate in such manner that such items of Equipment will become a fixture or an accession to other personal property. 8.2. EVIDENCE OF OWNERSHIP OF EQUIPMENT. Borrower shall, upon Lender's request, deliver to Lender all evidence of ownership of the Equipment (including, without limitation, bills of sale, invoices, certificates of title and applications for title). 8.3. PROCEEDS OF THE EQUIPMENT. Borrower shall not sell, transfer, lease, grant a security interest in or otherwise dispose of or encumber the Equipment or any part thereof to any Person other than Lender except for purchase money liens (including capitalized leases and other forms of installment purchase financing) granted to the Person financing a purchase of Equipment so long as the lien granted is limited to the specific fixed assets so acquired, the aggregate amount of indebtedness secured by all such liens as a result of purchases shall not exceed One Hundred Thousand Dollars ($100,000) at any time during the term hereof, and the transaction does not violate any other provision of this Agreement (notification of such purchase money lien to be provided within ten (10) days of acquisition of such fixed asset); provided, however, that in any Fiscal Year of Borrower, Borrower may sell or otherwise dispose of any single piece of Equipment with a net book value not to exceed $150,000 so long as all Equipment disposed of in any Fiscal Year of Borrower does not have a net book value in excess of $300,000 in the aggregate. In the event any Equipment is sold, transferred or otherwise disposed of as permitted in this Section 8.3, Borrower shall promptly notify Lender of such fact and deliver all of the cash proceeds of such sale, transfer or disposition to Lender, which proceeds shall be applied in accordance with Section 2.8(C) hereof, provided, however, that with Lender's prior written consent Borrower may use the proceeds of such sale, transfer or disposition to finance the purchase of replacement Equipment in which Lender has a first perfected security interest documented to the satisfaction of Lender and its counsel. Borrower shall deliver to Lender written evidence of the use of the proceeds for such purchase. All replacement Equipment purchased by Borrower shall be free and clear of all liens, claims, security interests and other encumbrances, except for the security interest granted to Lender or purchase money security interests consented to in writing by Lender. 9. WARRANTIES AND REPRESENTATIONS. 9.1. GENERAL WARRANTIES AND REPRESENTATIONS. Borrower warrants and represents that: (A) Roach is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware, and is qualified or licensed as a foreign entity 28 to do business in all other countries, states and provinces in which the laws thereof require Borrower to be so qualified or licensed; (B) TRO is a corporation duly organized, validly existing and in good standing under the laws of Canada, and is qualified or licensed as a foreign entity to do business in all other countries, states and provinces in which the laws thereof require Borrower to be so qualified or licensed; (C) Roach and TRO have not used, during the five (5) year period preceding the date of this Agreement, and do not intend to use, any other corporate or fictitious name, except as disclosed in Exhibit 9.1(C) attached hereto; (D) Borrower has the right and power and is duly authorized and empowered to enter into, execute, deliver and perform this Agreement and the Ancillary Agreements; (E) The execution, delivery and performance by Borrower of this Agreement and the Ancillary Agreements shall not, by their execution or performance, the lapse of time, the giving of notice or otherwise, constitute a violation of any applicable law, rule, regulation, judgment, order or decree or a breach of any provision contained in Borrower's articles of incorporation or by-laws, or contained in any agreement, instrument, indenture or other document to which Borrower is now a party or by which it is bound which violation would have a material adverse affect on Borrower; (F) This Agreement and the Ancillary Agreements are and will be the legal, valid and binding agreements of Borrower enforceable in accordance with their terms, except as enforcement thereof may be subject to the effect of applicable bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors' rights generally and to general principles of equity (regardless of whether such enforcement is sought in a proceeding in equity or at law); (G) Borrower's use of the proceeds of any advances made by Lender are, and will continue to be, legal and proper uses (duly authorized by its board of directors), in accordance with applicable laws, rules and regulations, as in effect as of the date hereof; (H) Borrower has, and is current and in good standing with respect to, all governmental approvals, permits, certificates, inspections, consents and franchises necessary to conduct and to continue to conduct its present and intended business as heretofore conducted by it or by Persons engaged in the same or similar business and to own or lease and operate its properties as now owned or leased and operated by it; (I) None of said approvals, permits, certificates, consents or franchises contain any term, provision, condition or limitation more burdensome than such as are generally applicable to Persons engaged in the same or similar business as Borrower; (J) Borrower now has capital sufficient to carry on its business and transactions and all businesses and transactions in which it is about to engage and is now solvent 29 and able to pay its debts as they mature and Borrower now owns property the fair salable value of which is greater than the amount required to pay Borrower's debts as they mature; (K) Except as disclosed on Exhibit 9.1(K) attached hereto and in the Financials, Borrower has no litigation pending, or to the best of its knowledge, threatened, and no Indebtedness (except for trade payables arising in the ordinary course of its business since the dates reflected in the Financials) and has not guaranteed the obligations of any other Person; (L) Borrower is not a party to any contract or agreement or subject to any charge, restriction, judgment, decree or order materially and adversely affecting its business, property, assets, operations or condition, financial or other, and is not a party to any labor dispute; there are no lockouts, strikes or walkouts relating to any labor contracts and no such contract is scheduled to expire during the Term; (M) Borrower has good, indefeasible and merchantable title to and ownership of the Collateral, free and clear of all liens, claims, security interests and other encumbrances, except those of Lender and those, if any, described on Exhibit 9.1(M) attached hereto; (N) Borrower is not in violation of any applicable statute, rule, regulation or ordinance of any governmental entity, including, without limitation, the United States of America or Canada, any state, city, town, province, municipality, county or of any other jurisdiction, or of any agency thereof, in any respect materially and adversely affecting the Collateral or Borrower's business, property, assets, operations or condition, financial or other; (O) Borrower is not in default under any indenture, loan agreement, mortgage, lease, trust deed, deed of trust or other similar agreement relating to the borrowing of monies to which it is a party or by which it is bound; (P) The Financials fairly present the assets, liabilities and financial condition and results of operations of Borrower and such other Persons described therein as of the dates thereof; there are no omissions or other facts or circumstances which are or may be material and there has been no material and adverse change in the assets, liabilities or financial or other condition of Borrower since the date of the Financials; there exist no equity or long term investments in or outstanding advances to any Person not reflected in the Financials; there are no actions or proceedings which are pending or, to the best of Borrower's knowledge, threatened, against Borrower or any other Person which might result in any material adverse change in Borrower's financial condition or materially and adversely affect Borrower's operations, its assets or the Collateral; (Q) Borrower has filed all federal, state and local tax returns and other reports, or has been included in consolidated returns or reports filed by an Affiliate, which Borrower is required by law, rule or regulation to file and all Charges that are due and payable have been paid; (R) Borrower's execution and delivery of this Agreement and of the Ancillary Agreements does not directly or indirectly violate or result in a violation of any applicable laws, 30 rules or regulations, including without limitation, the Securities Exchange Act of 1934, as amended, and Regulations U, G, T and X of the Board of Governors of the Federal Reserve System (12 CFR 221, 207, 220, and 224, respectively), and Borrower does not own or intend to purchase or carry any "margin security," as defined in such Regulations; (S) Exhibit 9.1(S) contains a true and complete list of all trademarks, brand-names, copyrights, patents, patent applications in which Borrower has an interest; (T) Borrower's Fiscal Year does and will continue to commence on the first day of November and terminate on the last day of October of each calendar year, unless such Fiscal Year is modified with the prior written consent of Lender, which consent shall not be unreasonably withheld; (U) (i) the operations of Borrower, any other obligor and each of Borrower's subsidiaries, if any, comply in all material respects with all applicable Environmental Laws; (ii) none of the operations of Borrower, any other obligor or any Subsidiary are subject to any judicial or administrative proceeding alleging the violation of any Environmental Laws; (iii) none of the operations of Borrower, any other obligor or any subsidiary are the subject of any federal or state investigation evaluating whether any remedial action is needed to respond to a release of any Hazardous Material into the environment; (iv) none of Borrower, any other obligor or any Subsidiary has filed any notice under any federal or state law indicating past or present treatment, storage or disposal of a Hazardous Material or reporting a spill or release of a Hazardous Material into the environment; and (v) none of Borrower, any other obligor or any Subsidiary has any known material contingent liability in connection with any release of any Hazardous Material into the environment. The materiality standard used in this Section 9.1(V) shall be exceeded if the facts giving rise to a breach or breaches of the representations or warranties contained herein might result in liability in excess of $50,000 in the aggregate. Borrower hereby indemnifies Lender, its successors and assignees, and agrees to hold Lender harmless from and against any and all losses, liabilities, damages, injuries, costs, expenses and claims of any and every kind whatsoever (including, without limitation, court costs and attorneys' fees) which at any time or from time to time may be paid, incurred or suffered by, or asserted against, Lender for, with respect to, or as a direct or indirect result of the violation by Borrower, any other obligor or any of Borrower's subsidiaries, of any laws, including but not limited to, the Environmental Laws or any laws or regulations relating to Hazardous Material, treatment, storage, disposal, generation and transportation, air, water and noise pollution, soil or ground or water contamination, the handling, storage or release into the environmental of Hazardous Materials; or with respect to, or as a direct or indirect result of the presence on or under, or the escape, seepage, leakage, spillage, discharge, emission or release from, properties utilized by Borrower, any other obligor or any of Borrower's subsidiaries in the conduct of their respective business into or upon any land, the atmosphere, or any watercourse, body of water or wetlands, of any Hazardous Material (including, without limitation, any losses, liabilities, damages, injuries, costs, expenses or claims asserted or arising under the Environmental Laws); and the provisions of and undertakings and indemnification set out in this Section 9.1(U) shall survive the satisfaction and payment of the Liabilities and the termination of this Agreement. 31 9.2. ACCOUNT WARRANTIES AND REPRESENTATIONS. Borrower warrants and represents that Lender may rely, in determining which Accounts listed on any Accounts Report are Eligible Accounts, without independent investigation, on all statements, warranties and representations made by Borrower on or with respect to any such Accounts Report and, unless otherwise indicated in writing by Borrower, that: (A) Such Accounts are genuine, are in all respects what they purport to be, are not reduced to a judgment and, if evidenced by any instrument, item of chattel paper, agreement, contract or documents, are evidenced by only one executed original instrument, item of chattel paper, agreement, contract, or document, which original has been endorsed and, upon Lender's request, will be delivered to Lender; (B) Such Accounts represent undisputed, bona fide transactions completed in accordance with the terms and provisions contained in any documents related thereto; (C) Except for credits issued to any Account Debtor in the ordinary course of Borrower's business for Inventory returned pursuant to Section 7.4, the amounts shown on the Accounts Report, and all invoices and statements delivered to Lender with respect to any Account, are actually and absolutely owing to Borrower and are not subject to any material contingencies; (D) To the best of Borrower's Knowledge, except as may be disclosed on such Accounts Report, there are no setoffs, counterclaims or disputes existing or asserted with respect to any Accounts included on an Accounts Report, and Borrower has not made any agreement with any Account Debtor for any deduction from such Account, except for discounts or allowances allowed by Borrower in the ordinary course of its business for prompt payment, which discounts and allowances have been disclosed to Lender and are reflected in the calculation of the invoice related to such Account; (E) To the best of Borrower's Knowledge, there are no facts, events or occurrences which in any way impair the validity or enforcement of any of the Accounts or tend to reduce the amount payable thereunder from the amount of the invoice shown an any Accounts Report, and on all contracts, invoices and statements delivered to Lender with respect thereto; (F) To the best of Borrower's Knowledge, all Account Debtors are solvent and had the capacity to contract at the time any contract or other document giving rise to or evidencing the Accounts was executed; (G) The goods, the sale of which gave rise to the Accounts, (i) were produced in full compliance with the Federal Labor Standards Act, 29 U.S.C. Sections 207 ET SEQ. as amended from time to time, and (ii) are not, and were not at the time of the sale thereof, subject to any lien, claim, security interest or other encumbrance, except those of Lender, and those removed or terminated prior to the date hereof; (H) Borrower has no knowledge of any fact or circumstances which would impair the validity or collectability of any of the Accounts; 32 (I) To the best of Borrower's knowledge, there are no proceedings or actions which are threatened or pending against any Account Debtor which might result in any material adverse change in its financial or other condition; and (J) The Accounts have not been pledged or sold to any Person or otherwise encumbered and Borrower is the owner of the Accounts free of all liens and encumbrances except those of Lender. 9.3. INVENTORY WARRANTIES AND REPRESENTATIONS. Borrower warrants and represents that Lender may rely, in determining which items of Inventory listed on any Inventory Report are Eligible Inventory, without independent investigation, on all statements, warranties and representations made by Borrower on or with respect to any such Inventory Report and, unless otherwise indicated in writing by Borrower, that: (A) All Inventory is located on premises listed on Exhibit 3.3(B) or is Inventory which is in transit and is so identified on the relevant Inventory Report; (B) The Inventory has been produced in full compliance with all requirements of the Federal Labor Standards Act, 29 U.S.C. Sections 207 ET SEQ., as amended from time to time; (C) Except as specified on Exhibit 3.3(B), no Inventory is now, and shall not at any time or times hereafter be, stored with a bailee, warehouseman or similar party without Lender's prior written consent and, if Lender gives such consent, Borrower will concurrently therewith cause any such bailee, warehouseman or similar party to issue and deliver to Lender, in form and substance acceptable to Lender, warehouse receipts therefor in Lender's name; and (D) Borrower is the owner of all of the Inventory free and clear of all claims, liens and encumbrances except those of Lender and none of the Inventory has been leased, rented, transferred or sold, either on consignment, on a sale or return basis, on approval, or otherwise. 9.4. ERISA WARRANTIES AND REPRESENTATIONS. Borrower warrants and represents that: (A) Exhibit 9.4 hereto lists all the Employee Benefit Plans. (B) Each Employee Benefit Plan is in compliance in all material respects with its terms and with the applicable provisions of ERISA and the Code, except where the failure to so comply would not have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower, and each such Employee Benefit Plan that is intended to be qualified under Section 401(a) of the Code has been determined by the Internal Revenue Service to be so qualified (or, consistent with Section 1140 of the Tax Reform Act of 1986, has been submitted to the Internal Revenue Service for such a determination within the applicable remedial amendment period), and each trust related to any such Employee Benefit Plan has been determined to be exempt from federal income tax under Section 501(a) of the Code or submitted to the Internal Revenue Service for such a determination; 33 (C) Except as set forth in Exhibit 9.4, no Employee Benefit Plan has an actuarial present value of projected benefit obligations that exceeds the fair market value of the net assets available for such benefits, calculated on the basis of the actuarial assumptions specified in the most recent actuarial valuation for such Employee Benefit Plan, and no such Employee Benefit Plan provides for subsidized early retirement benefits that, in the event of a reduction in force or plant closing, would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (D) Except as set forth on Exhibit 9.4, no Employee Benefit Plan is an employee welfare benefit plan within the meaning of Section 3(1) of ERISA that provides benefits to employees after termination of employment other than as required by Section 601 of ERISA; (E) Neither Borrower nor any of its ERISA Affiliates has breached in any material respect any of the responsibilities, obligations, or duties imposed on them by ERISA or the regulations promulgated thereunder with respect to any Employee Benefit Plan, which breach would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (F) Neither Borrower nor any ERISA Affiliate has (i) failed to make a required contribution or payment to a Multiemployer Plan or (ii) made a complete or partial withdrawal under Sections 4203 or 4205 of ERISA from a Multiemployer Plan, where such failure or complete or partial withdrawal would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (G) At the date hereof, the aggregate potential withdrawal liability, as determined in accordance with Title IV of ERISA, of Borrower and any ERISA Affiliates with respect to all Employee Benefit Plans that are Multiemployer Plans would not have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower and, to the best of Borrower's and its ERISA Affiliates' knowledge, no Multiemployer Plan is in reorganization or insolvent within the meaning of Section 4241 or 4245 of ERISA; (H) Neither Borrower nor any ERISA Affiliate has failed to make a required installment or any other required payment under Section 412 of the Code on or before the due date for such installment or other payment; (I) Neither Borrower nor any ERISA Affiliate is required to provide security to an Employee Benefit Plan under Section 401(a)(29) of the Code due to an Employee Benefit Plan amendment that results in an increase in current liability for the plan year; (J) No liability to the PBGC has been, or is expected by Borrower or any ERISA Affiliate to be, incurred by Borrower or any ERISA Affiliate, which liability would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower, and there are no premium payments that have become due and which are unpaid; 34 (K) No events have occurred in connection with any Employee Benefit Plan that might constitute grounds for the termination of any such Employee Benefit Plan by the PBGC or for the appointment by any United States District Court of a trustee to administer any such Employee Benefit Plan; (L) Except as set forth in Exhibit 9.4, no Reportable Event has, in the case of any Employee Benefit Plan other than a Multiemployer Plan, occurred and is continuing, or to the best of Borrower's knowledge, has occurred and is continuing in the case of any such Employee Benefit Plan that is a Multiemployer Plan; (M) No Employee Benefit Plan had an Accumulated Funding Deficiency, whether or not waived, as of the last day of the most recent fiscal year of such Employee Benefit Plan or, in the case of any Multiemployer Plan, as of the most recent fiscal year of such Multiemployer Plan for which the annual reports of such Multiemployer Plan's actuaries and auditors have been received; and (N) Borrower has not engaged in a Prohibited Transaction, which Prohibited Transaction would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower. 9.5. AUTOMATIC WARRANTY AND REPRESENTATION AND REAFFIRMATION OF WARRANTIES AND REPRESENTATIONS. Each request for an advance made by Borrower pursuant to this Agreement or the Ancillary Agreements shall constitute (i) an automatic warranty and representation by Borrower to Lender that there does not then exist a Default or an Event of Default and (ii) a reaffirmation as of the date of said request of all of the warranties and representations of Borrower contained in this Agreement and in the Ancillary Agreements. 9.6 SURVIVAL OF WARRANTIES AND REPRESENTATIONS. Borrower covenants, warrants and represents to Lender that all representations and warranties of Borrower contained in this Agreement and the Ancillary Agreements shall be true at the time of Borrower's execution of this Agreement and the Ancillary Agreements, and shall survive the execution, delivery and acceptance hereof and thereof by the parties thereto and the closing of the transactions described herein and therein or related hereto or thereto. 10. COVENANTS AND CONTINUING AGREEMENTS. 10.1. AFFIRMATIVE COVENANTS. Borrower covenants that it shall, unless Lender consents in writing otherwise: (A) On the last day of each Fiscal Year of Borrower, Borrower shall have Leverage of less than 1:1. For purposes hereof, the term "Leverage" shall be defined as the ratio of Total Liabilities to Shareholder's Equity. For purposes hereof, the term "Total Liabilities" shall be defined as, at any date, all liabilities of Borrower and its subsidiaries that, in accordance with generally accepted accounting principles, should be classified as liabilities on the balance sheet of Borrower and its subsidiaries, whether or not so classified. For purposes hereof, the 35 term "Shareholder's Equity" shall be defined as, at any date, the shareholder's equity of Borrower and its subsidiaries that, in accordance with generally accepted accounting principles, should be classified as shareholder's equity on the balance sheet of Borrower and its subsidiaries, whether or not so classified. Lender agrees that this financial covenant shall be measured only on the last day of each Fiscal Year of Borrower. (B) Borrower shall maintain Operating Profit, measured quarterly on the last day of each fiscal quarter of Borrower, on a cumulative, year-to-date basis. ------------------------------------------------- Third Quarter: 1995 ($1,475,000) ------------------------------------------------- Fourth Quarter: 1995 $3,725,000 ------------------------------------------------- First Quarter: 1996 ($2,375,000) ------------------------------------------------- Second Quarter: 1996 ($3,400,000) ------------------------------------------------- Third Quarter: 1996 ($1,225,000) ------------------------------------------------- Fourth Quarter: 1996 $5,200,000 ------------------------------------------------- First Quarter: 1997 ($4,221,000) ------------------------------------------------- Second Quarter: 1997 ($6,938,000) ------------------------------------------------- Third Quarter: 1997 ($3,721,000) ------------------------------------------------- Fourth Quarter: 1997 $7,875,000 ------------------------------------------------- First Quarter: 1998 ($4,221,000) ------------------------------------------------- Second Quarter: 1998 ($6,938,000) ------------------------------------------------- Third Quarter: 1998 ($3,721,000) ------------------------------------------------- Fourth Quarter: 1998 $7,875,000 ------------------------------------------------- 36 For purposes hereof, the term "Operating Profit" shall be defined as for any fiscal period, Borrower's (a) Net Income for such period, PLUS (b) all income taxes included as an expense of Borrower in determining Net Income for such period, PLUS (c) interest deducted as an expense of Borrower in the determination of Net Income for such period, determined in accordance with generally accepted accounting principles. For purposes hereof, the term "Net Income" shall be defined as, Borrower's consolidated net income (or loss) after income and franchise taxes and shall have the meaning given such term by generally accepted accounting principles, provided that there shall be specifically excluded therefrom tax-adjusted (i) gains or losses from the sale of capital assets, (ii) net income of any Person in which Borrower has an ownership interest, unless received by Borrower in a cash distribution, and (iii) any gains arising from extraordinary items, as determined in accordance with generally accepted accounting principles. (C) Pay to Lender, on demand, any and all fees, costs or expenses which Lender or any Participant pays to a bank or other similar institution arising out of or in connection with (i) the forwarding to Borrower or any other Person on behalf of Borrower, by Lender or any Participant, of proceeds of loans made by Lender to Borrower pursuant to this Agreement and (ii) the depositing for collection, by Lender or any Participant, of any check or item of payment received or delivered to Lender or any participant on account of the Liabilities; (D) At its sole cost and expense, keep and maintain the Collateral insured for its full insurable value against loss or damage by fire, theft, explosion, sprinklers, flood, business interruption, boiler and all other hazards and risks which are specified by Lender from time to time by obtaining policies naming Lender as Lender's loss payee, mortgagee and additional insured (none of which shall be cancelable or subject to modification without at least thirty (30) days notice to Lender) in coverage, form and amount and with companies satisfactory to Lender and at Lender's request will deliver each policy or certificate or insurance together with the applicable Lender's loss payee endorsement to Lender. In addition, Borrower will deliver renewals for all of such policies at least thirty (30) days prior to the expiration date of the subject policy. Without limiting the generality of the foregoing, unless otherwise agreed in writing by Lender, all of such policies shall (i) provide that no act of any person other than Lender will affect Lender's right to recover under such policies; (ii) be in amount at least equal to the greater of (a) original cost or (b) replacement value of the Collateral covered thereby; and (iii) contain an agreed value clause sufficient to eliminate any risk of co-insurance; (E) Notify Lender promptly and in no event later than ten (10) days of any event of occurrence causing a material loss or decline in value of the Collateral and the estimated (or actual, if available) amount of such loss or decline; (F) Maintain (a) product liability insurance in an amount customary for the business conducted by Borrower; and (b) general public liability insurance in an amount reasonably satisfactory to Lender but in no event less than $1,000,000 per occurrence, for bodily injury and property damage, by obtaining policies (none of which shall be cancelable or subject to modification without at least thirty (30) days notice to Lender) in coverage and form and with companies satisfactory to Lender with Lender's loss payable and additional endorsements in 37 favor of Lender and at Lender's request will deliver each policy or certificate of insurance to Lender. In addition, Borrower will deliver renewals for all of such policies at least thirty (30) days prior to the expiration date of the subject policy; (G) Upon Borrower's learning thereof, notify Lender promptly and in no event later than ten (10) days of (i) any material delay in Borrower's performance of any of its obligations to any Account Debtor and of any assertion of any claims, offsets, defenses or counterclaims by any Account Debtor and of any allowances or credits granted (including all credits issued for returned or repossessed Inventory) or other monies advanced by Borrower to any Account Debtor and (ii) all material adverse information relating to the financial or other conditions of any Account Debtor; (H) Keep books of account and prepare financial statements and furnish to Lender the following (all of the foregoing and following to be kept and prepared in accordance with generally accepted accounting principles applied on a basis consistent with the Financials, unless Borrower's independent certified public accountants concur in any changes therein and such changes are disclosed to Lender and are consistent with then generally accepted accounting principles): (i) as soon as available, but not later than one hundred twenty (120) days after the close of each Fiscal Year of Borrower, financial statements of Borrower (including: (a) a balance sheet; (b) a profit and loss statement; (c) a statement of cash flows; and (d) a reconciliation of Borrower's capital account with supporting footnotes) as at the end of such year and for the year then ended all in reasonable detail as requested by Lender and audited by Coopers & Lybrand, L.L.P. or another firm of independent certified public accountants of recognized national standing selected by Borrower and acceptable to Lender and containing the unqualified opinion of such independent certified public accountants with respect to the financial statements; (ii) as soon as available, but not later than thirty (30) days after the end of each month, an unaudited financial statement of Borrower (including a statement of profit and loss and of surplus for the month of the portion of Borrower's Fiscal Year then elapsed), all in reasonable detail as requested by Lender and certified by Borrower's principal financial officer as prepared in accordance with generally accepted accounting principles and fairly presenting the financial position and results of operations of Borrower for such period; (iii) as soon as available, but not later than forty-five (45) days after the end of each fiscal quarter of Borrower, a copy of Borrower's most recent Form 10-Q which was filed with the Securities Exchange Commission pursuant to the Securities Exchange of 1934, certified by an officer of Borrower; (iv) as soon as available, but not later than thirty (30) days after the end of each month, an officer's certificate in the form of Exhibit 10.1(H) attached hereto in which the chief financial officer of the Company certifies that, to the best of such officer's knowledge, no Default or Event of Default has occurred and is continuing or, if any Default or Event of Default has occurred and is continuing, specifying the nature and extent thereof, which certificate shall 38 set forth the calculations required to establish whether Borrower was in compliance with the covenants contained herein; (v) as soon as available, but not later than ninety (90) days after the end of each Fiscal Year of Borrower, projections certified by the chief financial officer of Borrower for each quarter of Borrower's next Fiscal Year, including, but not limited to a pro forma balance sheet and a pro forma statement of profits and losses and cash flow projections; and (vi) such other data and information (financial and other) as Lender, from time to time, may reasonably request, bearing upon or related to the Collateral, Borrower's financial condition or results of its operations, or the financial condition of any Person who is a guarantor of any of the Liabilities, including without limitation, to Accounts agings, Accounts Payable report and detailed inventory reports; (I) Notify Lender promptly upon, but in no event later than ten (10) Business Days after, Borrower's learning thereof, that any Eligible Account or Eligible Inventory which individually or in the aggregate exceeds $100,000 has ceased to be an Eligible Account or Eligible Inventory, respectively, and the reason(s) for such ineligibility; (J) Notify Lender, promptly upon, but no later than ten (10) days after, Borrower's learning of (i) any litigation affecting Borrower, whether or not the claim is considered by Borrower to be covered by insurance; or (ii) the institution of any suit or administrative proceeding which may materially and adversely affect the operations, financial condition or business of Borrower or which may affect Lender's security interest in the Collateral; (K) Provide Lender with copies of all agreements between Borrower and any warehouse at which Inventory may, from time to time, be kept and all leases or similar agreements between Borrower and any Person, whether Borrower is lessor or lessee thereunder; and (L) As to the following ERISA reports: (i) As soon as possible, and in any event within ten (10) Business Days, after Borrower knows or has reason to know that a Prohibited Transaction or a Reportable Event has occurred (whether or not the requirement for notice of such Reportable Event has been waived by the PBGC), which could have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower, deliver to Lender a certificate of a responsible officer of Borrower setting forth the details of such Prohibited Transaction or Reportable Event, the action that Borrower proposes to take with respect thereto, and, when known, any action taken or threatened by the Internal Revenue Service, Department of Labor, or PBGC; 39 (ii) Upon reasonable request of Lender made from time to time, deliver to Lender a copy of the most recent actuarial report, funding waiver request, and annual report filed with respect to any Employee Benefit Plan; (iii) Upon reasonable request of Lender made from time to time, deliver to Lender a copy of any Employee Benefit Plan; (iv) As soon as possible, and in any event within ten (10) Business Days, after it knows or has reason to know that any of the following have occurred with respect to any Employee Benefit Plan, deliver to Lender a certificate of a responsible officer of Borrower setting forth the details of the events described in (a) through (l) and the action that Borrower or any ERISA Affiliate proposes to take with respect thereto, together with a copy of any notice or filing from the PBGC or other agency of the United States government with respect to such of the events described in (a) through (l): (a) any Employee Benefit Plan has been terminated; (b) the Plan Sponsor intends to terminate any Employee Benefit Plan; (c) the PBGC has instituted or will institute proceedings under Section 4042 of ERISA to terminate any Employee Benefit Plan or to appoint a trustee to administer such Employee Benefit Plan, or Borrower or any ERISA Affiliate receives a notice from a Multiemployer Plan that such action has been taken by the PBGC with respect to such Multiemployer Plan; (d) Borrower or any ERISA Affiliate withdraws from any Employee Benefit Plan, or notice of any withdrawal liability is received by Borrower or any ERISA Affiliate; (e) any Employee Benefit Plan has received an unfavorable determination letter from the Internal Revenue Service regarding the qualification of the Employee Benefit Plan under Section 401(a) of the Code; (f) Borrower or any ERISA Affiliate fails to make a required installment or any other required payment under Section 412 of the Code on or before the due date for such installment or payment or has applied for a waiver of the minimum funding standard under Section 412 of the Code; (g) the imposition of any tax under Code Section 4980B(a) or the assessment by the Secretary of Labor of a civil penalty under Section 502(c) or 502(l) of ERISA; (h) there is a partial or complete withdrawal (as described in ERISA Section 4203 or 4205) by Borrower or any ERISA Affiliate from a Multiemployer Plan; (i) Borrower or any ERISA Affiliate is in "default" (as defined in ERISA Section 4219(c)(5)) with respect to payments to a Multiemployer Plan required by reason of its complete or partial withdrawal from such Employee Benefit Plan; (j) a Multiemployer Plan is in "reorganization" or "insolvent" (as described in Title IV of ERISA) or such Multiemployer Plan intends to terminate or has terminated under Section 4041A of ERISA; (k) the institution of a proceeding by a fiduciary of a Multiemployer Plan against Borrower or any ERISA Affiliate to enforce Section 515 of ERISA; or (l) Borrower or any ERISA Affiliate has increased benefits under any existing Employee Benefit Plan or commenced contributions to an Employee Benefit Plan to which Borrower or any ERISA Affiliate was not previously contributing. For purposes of this Section, Borrower shall be deemed (i) to have knowledge of all facts known by the Plan Administrator of any Employee Benefit Plan of which Borrower is the Plan Sponsor or in which Borrower participates or to which Borrower contributes, and (ii) to have knowledge of all facts known by the Plan Administrator of any Employee Benefit Plan of which any ERISA Affiliate is the Plan Sponsor or in which any ERISA Affiliate participates or to which any ERISA Affiliate contributes and which facts could lead to an event or condition that could have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower. 40 (M) Give written notice to Lender within ten (10) days of receipt of any notice that (i) the operations of Borrower, any other obligor or any Subsidiary are not in full compliance with requirements of applicable Environmental Laws; (ii) Borrower, any other obligor or any Subsidiary is subject to any Federal or state investigation evaluating whether any remedial action is needed to respond to the release of any Hazardous Material into the environment; or (iii) any properties or assets of Borrower, any other obligor or any Subsidiary are subject to any Environmental Lien; (N) Without limiting the generality of any of Borrower's other covenants and agreements, the operations of Borrower, any other obligor and each of Borrower's Subsidiaries shall at all times comply in all material respects with all applicable Environmental Laws. The materiality standard used in this Section 10.1(N) shall be exceeded if the facts giving rise to a breach or breaches of the covenant contained herein might result in liability in excess of $50,000 in the aggregate, whether or not such liability may be covered by insurance; and (O) Promptly provide Lender with all documents requested by Lender which are required from time to time by federal regulations and/or regulators. 10.2 NEGATIVE COVENANTS. Borrower covenants that it shall not, without the prior written consent of Lender, which consent shall not be unreasonably withheld where granting such consent is not inconsistent with protecting Lender's security interest in the Collateral: (A) Merge or consolidate with, purchase, lease or otherwise acquire all or substantially all of the assets or properties of, or acquire any capital stock, equity interests, debt or other securities of, any Person or sell all or substantially all of its assets to any Person; (B) Other than in the ordinary course of its business, acquire, purchase or make any investment in the obligations, stock securities or equity of any Person; (C) Declare or pay dividends upon any of Borrower's Stock or make any distribution of Borrower's property or assets or make any loans, advances or extensions of credit to any Person including, without limitation, to any Affiliate, officer or employee of Borrower, other than with respect to the ordinary course of Borrower's business; (D) Except as specifically permitted herein, make any material change in Borrower's capital structure or materially change the nature of Borrower's business in which it is presently engaged, or purchase or invest, directly or indirectly, in any assets or property (other than in the ordinary course of business) which are useful in, necessary for and are to be used in its business as presently conducted, except: (i) the contemplated sale of the Aviation Training Systems for an amount not less than Two Million Dollars ($2,000,000) to which Lender expressly consents on the condition that all sale proceeds are paid to Lender and that such sale would not otherwise cause a Default hereunder; and (ii) the raising of additional equity through a public offering or private placement of Borrower's common stock; (E) Enter into, or be a party to, any transaction or agreement, whether oral or in writing, with any Affiliate, director, officer or Stockholder of Borrower, except 41 agreements to pay salary and similar compensation to Borrower's employees in the ordinary course of and pursuant to the reasonable requirements of Borrower's business and upon fair and reasonable terms which are fully disclosed to Lender and are no less favorable to Borrower than would obtain in a comparable arm's length transaction with a Person not an Affiliate, director, officer or Stockholder of Borrower; (F) Enter into any transaction which materially and adversely affects the Collateral or Borrower's ability to repay the Indebtedness or permit a modification of any kind or nature with respect to any Account which materially and adversely affects the Collateral, including any of the terms relating thereto, except for credits given for Inventory returned pursuant to Section 7.4; (G) Guarantee or otherwise, in any way, become liable with respect to the obligations or liabilities of any Person, except (i) its Affiliates' obligations to Lender, and (ii) by endorsement of instruments or items of payment for deposit to the general account of Borrower or for deliver to Lender on account of the Liabilities; (H) Make deposits to or withdrawals from any of its deposit accounts for the benefit of any Affiliate; (I) Except as otherwise expressly permitted herein or in the Ancillary Agreements, encumber, pledge, mortgage, grant a security interest in, assign, sell, lease or otherwise dispose of or transfer, whether by sale, merger, consolidation, liquidation, dissolution, or otherwise, any of Borrower's properties, assets, rights or businesses or the Collateral, except sales of Installment Accounts for cash on a non-recourse basis or, with the written consent of Lender, on a recourse basis to Borrower if: (i) sales proceeds thereof are paid to Lender and are in an amount sufficient to pay all of the Liabilities relating to such Installment Accounts, and (ii) such sale would not otherwise cause a Default hereunder; (J) Incur or otherwise acquire any Indebtedness (other than the Liabilities), except for (i) trade payables arising in the ordinary course of Borrower's business, (ii) Indebtedness for borrowed money upon terms and conditions reasonably acceptable to Lender which is unsecured or secured by assets other than the Collateral and in each case is to Persons who execute and deliver to Lender (in form and substance acceptable to Lender and its counsel) subordination agreements subordinating their claims against Borrower to the payment of the Liabilities ("Permitted Subordinated Indebtedness"), and (iii) purchase money financing, to the extent that it is permitted herein (collectively, the "Permitted Indebtedness"); (K) Permit any Accounts owing to Borrower from any Affiliate to be payable on terms which would not allow Borrower to demand payment upon the occurrence of a default or permit the aggregate amount of all Accounts owing from its Affiliates at any time to exceed the amount set forth on Exhibit 10.2(K) unless a Default has occurred in which case Borrower shall permit no Accounts to be owing from its Affiliates; (L) Materially modify, amend or supplement Borrower's Articles of Incorporation or similar document; 42 (M) Enter into any agreement (other than employment agreements) with any Person that confers upon such Person the right or authority to control or direct a major portion of the business or assets of Borrower; (N) Alter or amend the commencement date or termination date of any Fiscal Year without the prior written consent of Lender, which shall not be unreasonably withheld; (O) Do any of the following: (i) Establish, maintain, or operate any Employee Benefit Plan that is not in compliance in all material respects with the provisions of ERISA, the Code, and all other applicable laws, and the regulations and interpretations thereunder, except where the failure to so comply would not have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (ii) Allow to exist any Accumulated Funding Deficiency with respect to any Employee Benefit Plan, which would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (iii) Terminate any Employee Benefit Plan, or withdraw or effect a partial withdrawal from any Multiemployer Plan, if such termination, withdrawal, or partial withdrawal would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (iv) Fail to make any contribution or payment to any Multiemployer Plan which Borrower or any ERISA Affiliate may be required to make under any agreement relating to such Multiemployer Plan, which failure would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (v) Fail to make any required installment or any other payment required under Section 412 of the Code on or before the due date for such installment or other payment, which failure would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (vi) Amend any Employee Benefit Plan so as to result in an increase in current liability for the plan year such that Borrower or any ERISA Affiliate is required to provide security to such Employee Benefit Plan under Section 401(a)(29) of the Code; (vii) Enter into any Prohibited Transaction, which Prohibited Transaction would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; 43 (viii) Permit the occurrence of any Reportable Event, which would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operation of Borrower; or (ix) Allow or permit to exist with respect to any Employee Benefit Plan any other event or condition known or which reasonably should be known to Borrower and which would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; or (P) Issue any Stock, other than common Stock, without Lender's prior written consent, which shall not be unreasonably withheld. 10.3 CONTESTING CHARGES. Notwithstanding anything to the contrary herein, Borrower may dispute any Charges without prior payment thereof, even if such non-payment may cause a lien to attach to Borrower's assets, provided that Borrower shall give Lender prompt notice of such dispute and shall be diligently contesting the same in good faith and by an appropriate proceeding and there is no danger of a loss or forfeiture of any of the Collateral and provided further that, if the same are potentially or actually in excess of $50,000 in the aggregate at any time hereafter, Borrower shall give Lender such additional collateral and assurances as Lender, in its reasonable discretion, deems necessary under the circumstances, immediately upon demand by Lender. 10.4 PAYMENT OF CHARGES. Subject to the provisions of Section 10.3, Borrower shall pay promptly when due all of the Charges. In the event Borrower, at any time or times hereafter, shall fail to pay the Charges or to promptly obtain the satisfaction of such Charges, Borrower shall promptly so notify Lender thereof and Lender may, without waiving or releasing any obligation or liability of Borrower hereunder or any Default, in its sole discretion, at any time or times thereafter, make such payment or any part thereof, (but shall not be obligated so to do) or obtain such satisfaction and take any other action with respect thereto which Lender deems advisable. All sums so paid by Lender and any expenses, including reasonable attorneys' fees, court costs, expenses and other charges relating thereto, shall be payable by Borrower to Lender upon demand and shall be additional Liabilities. 10.5 INSURANCE: PAYMENT OF PREMIUMS. All policies of insurance on the Collateral or otherwise required hereunder shall be in form and amount satisfactory to Lender and with insurers reasonably recognized as adequate by Lender. Borrower shall deliver to Lender the original (or certified copy) of each policy of insurance and evidence of payment of all premiums therefor and shall deliver renewals of all such policies to Lender at least thirty (30) days prior to their expiration dates. Such endorsement shall provide that the insurance companies will give Lender at least thirty (30) days' prior notice before any such policy shall be altered or canceled and that no act or default of Borrower or any other person shall affect the right of Lender to all insurers under such policies to pay all proceeds payable thereunder directly to Lender for application against the Liabilities in the inverse order of maturity. Borrower irrevocably makes, constitutes and appoints Lender (and all officers, employees or agents designated by Lender) as Borrower's true and lawful attorney and agent-in-fact for the purpose of making, settling and 44 adjusting claims under such policies, endorsing the name of Borrower in writing or by stamp on any check, draft, instrument or other item of payment for the proceeds of such policies and for making all determinations and decisions with respect to such policies. If Borrower shall fail to obtain or to maintain any of the policies required by this Agreement or to pay any premium relating thereto, then Lender, without waiving or releasing any obligation or default by Borrower hereunder, may (but shall be under no obligation to do so) obtain and maintain such policies of insurance and pay such premiums and take any other action with respect thereto which Lender deems advisable. All sums so disbursed by Lender, including reasonable attorneys' fees, court costs, expenses and other charges relating thereto, shall be payable by Borrower to Lender upon demand and shall be additional Liabilities. 10.6 SURVIVAL OF OBLIGATIONS UPON TERMINATION OF AGREEMENT. Except as otherwise expressly provided for in this Agreement and in the Ancillary Agreements, no termination or cancellation (regardless of cause or procedure) of this Agreement or the Ancillary Agreements shall in any way affect or impair the powers, obligations, duties, rights, and liabilities of Borrower or Lender in any way or respect relating to any transaction or event occurring prior to such termination or cancellation, the Collateral, or any of the undertakings, agreements, covenants, warranties and representations of Borrower or Lender contained in this Agreement or the Ancillary Agreements. All such undertakings, agreements, covenants, warranties and representations shall survive such termination or cancellation. 11. DEFAULT; EVENTS OF DEFAULT; RIGHTS AND REMEDIES 11.1 DEFAULTS. The occurrence of any one or more of the following events shall constitute a Default which, if not cured within the applicable grace period or waived by Lender, shall constitute an Event of Default: (A) Borrower fails to pay any part of the Liabilities when due and payable or declared due and payable and the same is not cured within five (5) days after Lender gives Borrower notice of such Default; (B) Borrower or any Affiliate fails or neglects to perform, keep or observe any other term, provision, condition or covenant contained in this Agreement or in the Ancillary Agreements, which is required to be performed, kept or observed by Borrower or such Affiliate and the same is not cured to Lender's satisfaction within fifteen (15) days after Lender gives Borrower notice identifying such default; provided, however, that breach of any of the provisions, conditions or covenants contained in Sections 10.1(A), 10.1(B), 10.1(D), 10.1(E), 10.1(F), 10.1(G), 10.1(I), 10.1(J), 10.1(M) and Section 10.2 shall without notice or time to cure be an immediate Event of Default. (C) A default shall occur and is not cured prior to the expiration of any applicable grace and/or cure period under any agreement, document or instrument, other than this Agreement or any of the Ancillary Agreements, now or hereafter existing, to which Borrower is a party or (ii) a default shall occur and is not cured prior to the expiration of any applicable grace and/or cure period; 45 (D) Any statement, warranty, representation, report, financial statement, or certificate made or delivered by Borrower, or any of its officers, employees or agents, to Lender is not true and correct in any material respect; (E) There shall occur any material uninsured damage to or loss, theft, or destruction of any of the Collateral in an amount in excess of $50,000; (F) The Collateral or any of Borrower's or any Guarantor's other assets are attached, seized, levied upon or subjected to a writ or distress warrant, or come within the possession of any receiver, trustee, custodian or assignee for the benefit of creditors and the same is not cured within thirty (30) days thereafter; an application of a receiver, trustee, or custodian for any of the Collateral or any of Borrower's or any Guarantor's other assets and the same is not dismissed within thirty (30) days after the application therefor; (G) An application is made by Borrower or any Guarantor for the appointment of a receiver, trustee or custodian for any of the Collateral or any of Borrower's or any Guarantor's other assets; a petition under any section or chapter of the Bankruptcy Code or any similar law or regulation is filed by or against Borrower or any Guarantor and is not dismissed within thirty (30) days after filing; Borrower or any Guarantor makes an assignment for the benefit of its creditors or any case or proceeding is filed by or against Borrower or any Guarantor for its dissolution, liquidation, or termination; Borrower or any Guarantor ceases to conduct its business as now conducted or is enjoined, restrained or in any way prevented by court order from conducting all or any material part of its business affairs; provided, however, notwithstanding anything stated to the contrary in this paragraph no cure time is allowed or permitted Borrower upon the happening of any of the foregoing events or occurrences stated in this Section 11.1(G) if the same are the voluntary actions taken by Borrower; (H) Except as permitted in Section 10.3, a notice of lien, levy or assessment is filed of record with respect all or any substantial portion of Borrower's or any Guarantor's assets by the United States, or any department, agency or instrumentality thereof, or by any state, county, municipal or other governmental agency including, without limitation, the Pension Benefit Guaranty Corporation, or any taxes or debts owing to any of the foregoing becomes a lien or encumbrance upon the Collateral or any of Borrower's or any Guarantor's other assets and such lien or encumbrance is not released within thirty (30) days after its creation; (I) Judgment(s) is or are rendered against Borrower in excess of $250,000 and Borrower fails to commence appropriate proceedings to appeal such judgment within the applicable appeal period or, after such appeal is filed, Borrower fails to diligently prosecute such appeal or such appeal is denied; (J) Borrower or any Guarantor becomes insolvent or fails generally to pay its debts as they become due; (K) Borrower or any ERISA Affiliate: 46 (i) Shall fail to pay when due an amount that is payable by it to the PBGC or to any Employee Benefit Plan and which failure has a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (ii) Has imposed against it any tax under Code Section 4980B(a) that has a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (iii) Has assessed against it by the Secretary of Labor a civil penalty with respect to any Employee Benefit Plan under ERISA Section 502(c) or 502(l) that has a material (in the reasonable opinion of Lender) adverse effect of the financial condition or results or operations of Borrower; (iv) Is in "default" (as defined in ERISA Section 4219(c)(5)) with respect to payments to a Multiemployer Plan resulting from Borrower's or any ERISA Affiliate's complete or partial withdrawal (as described in ERISA Sections 4203 or 4205) from such Multiemployer Plan, where such default would have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; (v) Has instituted against it by a fiduciary of any Multiemployer Plan an action to enforce ERISA Section 515 and such proceedings shall not have been dismissed within thirty (30) days thereafter, where such proceedings could have a material (in the reasonable opinion of Lender) adverse effect on the financial condition or results or operations of Borrower; or (vi) Permits any other event or condition to occur or exist with respect to an Employee Benefit Plan that has a material (in the reasonable opinion of Lender) adverse effect on the financial conditions or results or operation of Borrower; (L) If a default occurs under any agreement, instrument or document relating to any of the Liabilities and heretofore, now or at any time or times hereafter executed by, or delivered to Lender by Borrower or by any Guarantor and such default shall remain uncured through any applicable grace and/or cure period; (M) Borrower has not established a fully operational lock box in accordance with Section 4.3 hereof on or before May 15, 1997; or (N) If any material adverse change in the business or financial condition of Borrower occurs, or if any event that materially increases Lender's risk or materially impairs the Collateral occurs. 11.2 ACCELERATION OF THE LIABILITIES. Upon and after the occurrence of a Default, all or any portion of the Liabilities may, at the option of Lender and without demand, notice, or legal process of any kind, be declared, and immediately shall become, due and payable. 47 11.3 REMEDIES. Upon and after the occurrence of a Default, Lender shall have all of the following rights and remedies: (A) All of the rights and remedies of a secured party under the Illinois Uniform Commercial Code or other applicable law, all of which rights and remedies shall be cumulative, and none exclusive, to the extent permitted by law, and in addition to any other rights and remedies contained in this Agreement and in any of the Ancillary Agreements; (B) The right to (i) peacefully enter upon the premises of Borrower or any other place or places where the Collateral is located and kept, without any obligation to pay rent to Borrower or any other person, through self-help and without judicial process or first obtaining a final judgment or giving Borrower notice and opportunity for a hearing on the validity of Lender's claim, and remove the Collateral from such premises and places to the premises of Lender or any agent of Lender, for such time as Lender may require to collect or liquidate the Collateral, and/or (ii) require Borrower to assemble and deliver the Collateral to Lender at a place to be designated by Lender; (C) The right to (i) open Borrower's mail and collect any and all amounts due from Account Debtors provided that Lender forwards such mail to Borrower, (ii) notify Account Debtors that the Accounts have been assigned to Lender and that Lender has a security interest therein, and (iii) direct such Account Debtors to make all payments due from them upon the Accounts, including the Special Collateral, directly to Lender or to a lock box designated by Lender. Lender shall promptly furnish Borrower with a copy of any such notice sent and Borrower hereby agrees that any such notice in Lender's sole discretion, may be sent on Lender's stationery, in which event, Borrower shall, upon demand, co-sign such notice with Lender; and (D) The right to sell, lease or to otherwise dispose of all or any Collateral in its then condition, or after any further manufacturing or processing thereof, at public or private sale or sales, with such notice as provided in Section 11.4, in lots or in bulk, for cash or on credit, all as Lender, in its sole discretion, may deem advisable. At any such sale or sales of the Collateral, the Collateral need not be in view of those present and attending the sale, nor at the same location at which the sale is being conducted. Lender shall have the right to conduct such sales on Borrower's premises or elsewhere and shall have the right to use Borrower's premises without charge for such sales for such time or times as Lender may see fit. Lender is hereby granted a license or other right to use, without charge, Borrower's labels, patents, copyrights, rights of use of any name, trade secrets, trade names, trademarks and advertising matter, or any property of a similar nature, as it pertains to the Collateral, in advertising for sale and selling any Collateral and Borrower's rights under all licenses and all franchise agreements shall inure to Lender's benefit but Lender shall have no obligations thereunder. Lender may purchase all or any part of the Collateral at public or, if permitted by law, private sale and, in lieu of actual payment of such purchase price, may setoff the amount of such price against the Liabilities. The proceeds realized from the sale of any Collateral shall be applied first to the reasonable costs, expenses and attorneys' and paralegals' fees and expenses incurred by Lender for collection and for acquisition, completion, protection, removal, storage, sale and delivery of the Collateral; second to interest due upon any of the Liabilities; and third to the principal of the Liabilities. Lender shall account 48 to Borrower for any surplus. If any deficiency shall arise, Borrower shall remain liable to Lender therefor. 11.4 NOTICE. Borrower agrees that any notice required to be given by Lender of a sale, lease, other disposition of any of the Collateral or any other intended action by Lender, which is delivered to Borrower by: (i) confirmed facsimile transmission along with a copy which is deposited in the United States mail, postage prepaid and duly addressed to Borrower at the address set forth in Section 13.10, (ii) personal service, or (iii) overnight mail to Borrower at the address set forth in Section 13.10, at least fifteen (15) days prior to any such public sale, lease or other disposition or other action being taken, or the time after which any private sale of the Collateral is to be held, shall constitute commercially reasonable and fair notice thereof to Borrower. 12. CONDITIONS PRECEDENT TO DISBURSEMENT 12.1 CONDITIONS PRECEDENT TO FUNDING ON ORIGINATION DATE. The obligation of Lender to make the loans on the Origination Date to Borrower pursuant to the Total Facility were subject to the condition precedent that Lender had received, prior to the first disbursement of the proceeds of any of the loans hereunder, the following, duly executed in the form and substance satisfactory to Lender: (A) A duly executed copy of this Agreement; (B) A secured Promissory Note representing the Revolving Loan, duly executed by Borrower, payable to the order of Lender; (C) A Special Deposit Agreement (executed by TRO and the Depository Bank) and a Lock Box Agreement (executed by Roach and the Depository Bank); (D) UCC-1 and UCC-2 Financing Statements, as appropriate, duly executed by Borrower, as Debtor, in favor of Lender, as secured party, in the jurisdiction in which Borrower maintains its chief executive office and in each other jurisdiction in which Borrower conducts its business operations and/or maintains Collateral; (E) UCC/Tax/Judgment Lien Search Reports with respect to Borrower, together with duly executed releases and/or termination statements as Lender may request; (F) Certificate of the President of Borrower as to Officers and Directors, Directors' Resolutions and miscellaneous matters; (G) Certificate of Officer of Borrower as to the correctness of certain representations and warranties and as to no Events of Default; (H) Certified copies of the Articles of Incorporation and By-laws of Borrower; 49 (I) Certificates of Good Standing of recent date from the Secretary of State of the states of Minnesota, Delaware, Illinois and of each jurisdiction where the nature of any of Borrower's business operations requires qualification as a foreign corporation; (J) Warranty of Validity of Accounts duly executed by the Chief Executive Officer and the Chief Financial Officer of Borrower; (K) Warranty of Validity of Inventory duly executed by the Chief Executive Officer and the Chief Financial Officer of Borrower; (L) Favorable opinions of counsel for Borrower as to such matters as Lender may reasonably request; (M) Landlord's Waivers duly executed by the lessors of the real property leased by Borrower which is set forth on Exhibit 12.1(M) attached hereto; (N) Guaranty of TRO Learning, Inc.; (O) Negative Pledge Agreement of TRO Learning, Inc.; (P) Tax Identification Form; (Q) Certified copies of all insurance policies (unless Lender is willing to accept Certificate(s) of Insurance) in respect of all property, casualty, liability and other insurance maintained by Borrower in respect to the Collateral or otherwise in respect to its business, together with loss payable, mortgagee and other endorsements acceptable as to form and substance to Lender; (R) A letter from Borrower's auditor in compliance with Section 30.1 of the Illinois Public Accounting Act; (S) Such filings as Lender shall reasonably request in order to perfect its security interest in Borrower's General Intangibles; (T) Satisfaction that Borrower shall have not less than Six Hundred Thousand Dollars ($600,000) in availability under the Revolving Loan on the Origination Date; and (U) Such other opinions, documents, assignments, certificates or approvals as Lender reasonably may request. (V) The obligation of Lender to make the loans pursuant to the Total Facility to Borrower on the Origination Date was subject to the further condition precedent (which was satisfied by Borrower) that all proceedings taken in connection with the transaction contemplated by this Agreement, and all instruments, authorizations and other documents applicable thereto, were satisfactory in form and substance to Lender and its counsel. 50 12.2 CONDITIONS PRECEDENT TO CONTINUED FUNDING. (A) The obligation of Lender to make Revolving Loans to Borrower pursuant to the Total Facility is subject to the condition precedent that Lender shall have received, prior to the disbursement of any additional proceeds of the Revolving Loan, the following, duly executed in the form and substance satisfactory to Lender: (i) A duly executed copy of this Agreement; (ii) A secured Amended and Restated Promissory Note representing the Revolving Loan, duly executed by Borrower, payable to the order of Lender; (iii) UCC/Tax/Judgment Lien Search Reports with respect to Borrower, together with duly executed releases and/or termination statements as Lender may request; (iv) An Amended and Restated Certificate of an Officer of Borrower as to Officers and Directors, Directors' Resolutions and miscellaneous matters; (v) An Amended and Restated Certificate of Officer of Borrower as to the correctness of certain representations and warranties and as to no Events of Default; (vi) Favorable opinions of counsel for Borrower as to such matters as Lender may reasonably request; (vii) An Amended and Restated Guaranty of TRO Learning, Inc.; (viii) An Amended and Restated Negative Pledge Agreement of TRO Learning, Inc.; (ix) An update to Borrower's auditors advising them of this Agreement; (x) Certificates of Insurance; (xi) Such filings as Lender shall reasonably request in order to perfect its security interest in Borrower's General Intangibles; (xii) Such other opinions, documents, assignments, certificates or approvals as Lender reasonably may request; (xiii) Borrower shall have established and made operational certain lock box and special deposit accounts, upon terms and conditions acceptable to Lender, in Lender's sole and absolute discretion; and (xiv) The obligation of Lender to make additional Revolving Loans pursuant to the Total Facility to Borrower on the date hereof is subject to the further condition precedent that all proceedings taken in connection with the transaction contemplated by this Agreement, and all instruments, authorizations and other documents applicable thereto, shall be satisfactory in form and substance to Lender and its counsel. 51 (B) In addition to the foregoing, prior to Lender making of any and all loans hereunder, all of the following shall have been satisfied in a manner satisfactory to Lender: (i) No change in the condition or operations, financial or otherwise, of Borrower or any Affiliate, shall have occurred which change, in the reasonable credit judgment of Lender, may have a material adverse effect on Borrower or such Affiliate or on any of the Collateral; (ii) No litigation shall be outstanding or have been instituted or threatened which Lender determines to be material against Borrower or any Affiliate or any of the Collateral; (iii) All of the representations and warranties of Borrower set forth in this Agreement and each of the other Agreements to which Borrower is a party shall be true and correct on the date of the contemplated loan to the same extent as originally made on such date; (iv) No Event of Default or Default shall exist or be continuing; (v) Lender shall be satisfied that the transactions contemplated by this Agreement are in compliance with all applicable laws, regulations, orders, and contractual obligations deemed relevant by Lender; (vi) Lender's liens and security interests securing the Liabilities shall have been duly created and perfected and be of first priority, except as otherwise expressly permitted by this Agreement; (vii) Lender shall have received, on or prior to 1:00 P.M. (Chicago, Illinois time) no later than the day a Base Rate Revolving Loan is to be made and at least two (2) Business Days prior to the day a LIBOR Rate Revolving Loan is to be made, (i) a telephonic request (which telephonic request, in the case of LIBOR Rate Revolving Loan, shall be promptly confirmed in writing) from Borrower for an advance in a specific amount, and (ii) a current daily certificate identifying the current Borrowing Base and all other documents required to have been delivered to Lender hereunder prior to such date. In the case of LIBOR Rate Revolving Loan, advances may be made with respect to the Revolving Loan no more than twice each week and only in minimum amounts of Five Hundred Thousand Dollars ($500,000) or integral multiples of One Hundred Thousand Dollars ($100,000) in excess thereof. Each request for an advance for a Base Rate Revolving Loan or a LIBOR Rate Revolving Loan shall specify: (1) the proposed date of funding (which shall be a Business Day); (2) the amount and type of advance requested; (3) that the aggregate amount of the Revolving Loan (including the advance then noticed) will not exceed the unused loan availability; (4) whether such advance shall consist of a Base 52 Rate Revolving Loan or a LIBOR Rate Revolving Loan; and (5) if such advance, or a portion thereof is a LIBOR Rate Revolving Loan, the amount thereof and the initial Interest Period therefor; and (viii) Lender shall have received a certificate reconciling Borrower's Accounts Report and Inventory Report and setting forth Borrower's Borrowing Base (the "Borrowing Base Certificate") executed by a duly authorized officer of Borrower and delivered to Lender on the Origination Date (for the initial advance) and monthly on the twentieth (20th) day of each month thereafter during the Term. 12.3 CONDITIONS PRECEDENT TO FUNDING THE TERM LOAN ON THE CLOSING DATE. The obligation of Lender to fund the Term Loan to Borrower on the Closing Date pursuant to the Total Facility is subject to the condition precedent that, in addition to satisfaction of the additional conditions set forth in Section 12.2(B)(i) through (vi) hereof, Lender shall have received, prior to the Term Loan disbursement the following, duly executed in the form and substance satisfactory to Lender: (A) Satisfaction that Borrower has raised, subsequent to the date hereof and prior to the Closing Date, Three Million Dollars ($3,000,000) through the issuance of Stock and/or the incurrence of Permitted Subordinated Indebtedness; (B) A secured Promissory Note representing the Term Loan, duly executed by Borrower, payable to the order of Lender; and (C) Borrower's compliance with all of the terms and conditions of this Agreement. The obligation of Lender to make the Term Loan pursuant to the Total Facility to Borrower on the Closing Date is subject to the further condition precedent that all proceedings taken in connection with the transaction contemplated by this Agreement, and all instruments, authorizations and other documents applicable thereto, shall be satisfactory in form and substance to Lender and its counsel. 13. MISCELLANEOUS 13.1 APPOINTMENT OF LENDER AS BORROWER'S LAWFUL ATTORNEY-IN-FACT. Borrower, irrevocably designates, makes, constitutes and appoints Lender (and all persons designated by Lender) as Borrower's true and lawful attorney and agent in-fact and Lender, or Lender's agent, may, without notice to Borrower: (A) At any time hereafter, endorse by writing or stamp Borrower's name on any checks, notes, drafts or any other payment relating to and/or proceeds of the Collateral which come into the possession of Lender or under Lender's control and deposit the same to the account 53 of Lender for application to the Liabilities in order to preserve or protect Lender's security interest in the Collateral; (B) At any time after the occurrence of a Default, in Borrower's or Lender's name: (i) demand payment of the Collateral; (ii) enforce payment of the Collateral, by legal proceedings or otherwise; (iii) exercise all of Borrower's rights and remedies with respect to the collection of the Collateral; (iv) settle, adjust, compromise, extend or renew the Accounts and the Special Collateral; (v) settle, adjust or compromise any legal proceedings brought to collect the Collateral; (vi) if permitted by applicable law, sell or assign the Collateral upon such terms, for such amounts and at such time or times as Lender deems advisable; (vii) satisfy and release the Accounts and Special Collateral; (viii) take control, in any manner, of any item of payment or proceeds referred to in Section 4.3; (ix) prepare, file and sign Borrower's name on any proof of claim in Bankruptcy or similar document against any Account Debtor; (x) prepare, file and sign Borrower's name on any notice of lien, assignment or satisfaction of lien or similar document in connection with the Collateral; (xi) do all acts and things necessary, in Lender's reasonable discretion, to fulfill Borrower's obligations under this Agreement; and (xii) endorse by writing or stamp the name of Borrower upon any chattel paper, document, instrument, invoice, freight bill, bill of lading or similar information recorded on or contained in any data processing equipment and computer hardware and software relating to the Collateral to which Borrower has access; and (C) Notify the post office authorities to change the address for delivery of Borrower's mail to an address designated by Lender and receive, open and dispose of all mail addressed to Borrower in order to preserve or protect Lender's security interest in the Collateral; 13.2 MODIFICATION OF AGREEMENT: SALE OF INTEREST. This Agreement and the Ancillary Agreements may not be modified, altered or amended, except by an agreement in writing signed by Borrower and Lender. Borrower may not sell, assign or transfer this Agreement or the Ancillary Agreements or any portion hereof or thereof, including, without limitation, Borrower's right, title, interest, remedies, powers, or duties hereunder or thereunder. Borrower hereby consents to Lender's participation, sale, assignment, transfer or other disposition, at any time or times hereafter, of this Agreement or the Ancillary Agreements or of any portion hereof or thereof, including, without limitation, Lender's right, title interest, remedies, powers, or duties hereunder or thereunder. 13.3 ATTORNEYS' FEES AND EXPENSES: LENDER'S OUT-OF-POCKET EXPENSES. If, at any time or times, whether prior to or subsequent to the date hereof and regardless of the existence of a Default or an Event of Default, Lender incurs reasonable legal or other costs and expenses or employs counsel, accountants or other professionals for advice or other representation or services in connection with: (A) The preparation, negotiation and execution of this Agreement, all Ancillary Agreements, any amendment of or modification of this Agreement or the Ancillary Agreements or any sale or attempted sale of any interest herein to a Participant; 54 (B) Any litigation, contest, dispute, suit, proceeding or action (whether instituted by Lender, Borrower or any other Person) in any way relating to the Collateral, this Agreement, the Ancillary Agreements or Borrower's affairs; (C) Any attempt to enforce any rights of Lender or any Participant against Borrower or any other Person which may be obligated to Lender or such Participant by virtue of this Agreement or the Ancillary Agreements, including, without limitation, the Account Debtors; (D) Any attempt to inspect, verify, protect, collect, sell, liquidate or otherwise dispose of any of the Collateral; or (E) Any inspection, verification, protection, collection, sale, liquidation or other disposition of any of the Collateral, including without limitation, Lender's periodic or special audits of Borrower's books and records; then in any such event, the reasonable attorneys' and paralegals' fees and expenses arising from such services and all reasonably incurred expenses, costs, charges and other fees of or paid by Lender in any way or respect arising in connection with or relating to any of the events or actions described in this Section 13.3 shall be payable by Borrower to Lender upon demand and shall be additional Liabilities. Without limiting the generality of the foregoing, such expenses, costs, charges and fees may include accountants' fees, costs and expenses; court costs, fees and expenses; photocopying and duplicating expenses; court reporter fees, costs and expenses; long distance telephone charges; air express charges; telegram charges; secretarial over-time charges; and expenses for travel, lodging and food paid or incurred in connection with the performance of all such services. 13.4 WAIVER BY LENDER. Lender's failure, at any time or times hereafter, to require strict performance by Borrower of any provision of this Agreement or of any Ancillary Agreement shall not constitute a waiver, or affect or diminish any rights of Lender thereafter to demand strict compliance and performance therewith. Any suspension or waiver by Lender of a Default under this Agreement or any Ancillary Agreement shall not suspend, waive or affect any other Default under this Agreement or the Ancillary Agreements, whether the same is prior or subsequent thereto and whether of the same or of a different type. None of the undertakings, agreements, warranties, covenants and representations of Borrower contained in this Agreement or the Ancillary Agreements and no Default under this Agreement or the Ancillary Agreements shall be deemed to have been suspended or waived by Lender, unless such suspension or waiver is by an instrument in writing signed by an officer of Lender and directed to Borrower specifying such suspension or waiver. Notwithstanding any of the foregoing, any and all written waivers by Lender of any requirements in this Agreement subsequent to the Origination Date but prior to date hereof, including but not limited to Lender's waiver of Borrower's failure to maintain its quarterly Operating Profit for the fourth quarter of 1996, as reflected in the Third Amendment to Loan and Security Agreement dated January 6, 1997, shall be restated hereby. 13.5 SEVERABILITY. Wherever possible, each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement shall be prohibited by or invalid under applicable law, such provision shall be 55 in effective to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement. 13.6 PARTIES; ENTIRE AGREEMENT. This Agreement and the Ancillary Agreements shall be binding upon and inure to the benefit of the respective successors and assigns of Borrower and Lender. Borrower's successors and assigns shall include, without limitation, a trustee, receiver or debtor-in-possession of or for Borrower. Nothing contained in this Section 13.6 shall be deemed to modify Section 13.2. This Agreement is the complete statement of the agreement by and between Borrower and Lender and supersedes all prior negotiations, understandings and representations between them with respect to the subject matter of this Agreement. 13.7 CONFLICT OF TERMS. The provisions of the Ancillary Agreements are incorporated in this Agreement by this reference. Except as otherwise provided in this Agreement and except as otherwise provided in the Ancillary Agreements by specific reference to the applicable provision of this Agreement, if any provision contained in this Agreement is in conflict with, or inconsistent with, any provision in any Ancillary Agreement, the provision contained in this Agreement shall govern and control. 13.8 WAIVER BY BORROWER. Except as otherwise provided for in this Agreement, Borrower waives (i) presentment, demand and protest, notice of protest, notice of presentment, default, non-payment, maturity, release, compromise, settlement, extension or renewal of any or all commercial paper, accounts, contract rights, documents, instruments, chattel paper and guaranties at any time held by Lender on which Borrower may in any way be liable and hereby ratifies and confirms whatever Lender may do in this regard; (ii) all rights to notice and a hearing prior to Lender's taking possession or control of, or to Lender's replevy, attachment or levy upon the Collateral or any bond or security which might be required by any court prior to allowing Lender to exercise any of Lender's remedies; and (iii) the benefit of all valuation, appraisement, extension and exemption laws. Borrower acknowledges that is has been advised by its own counsel with respect to this Agreement and the transactions evidenced by this Agreement. 13.9 GOVERNING LAW; SUBMISSION TO JURISDICTION. THIS AGREEMENT HAS BEEN DELIVERED FOR ACCEPTANCE BY LENDER IN CHICAGO, ILLINOIS AND SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE INTERNAL LAWS (AS OPPOSED TO THE CONFLICTS OF LAW PROVISIONS) OF THE STATE OF ILLINOIS. BORROWER HEREBY (I) WAIVES ANY RIGHT TO A TRIAL BY JURY IN ANY ACTION TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT; (II) IRREVOCABLY SUBMITS TO THE JURISDICTION OF ANY STATE OR FEDERAL COURT LOCATED IN COOK COUNTY, ILLINOIS, OVER ANY ACTION OR PROCEEDING TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT; (III) WAIVES PERSONAL SERVICE OF ANY AND ALL PROCESS UPON BORROWER, AND (IV) IRREVOCABLY WAIVES, TO THE FULLEST EXTENT BORROWER MAY EFFECTIVELY DO SO, THE DEFENSE OF AN INCONVENIENT FORUM TO THE MAINTENANCE OF ANY SUCH ACTION OR PROCEEDING; (V) AGREES THAT A FINAL JUDGMENT IN ANY SUCH 56 ACTION OR PROCEEDING SHALL BE CONCLUSIVE AND MAY BE ENFORCED IN ANY OTHER JURISDICTIONS BY SUIT ON THE JUDGMENT OR IN ANY OTHER MANNER PROVIDED BY LAW; AND (VI) AGREES NOT TO INSTITUTE ANY LEGAL ACTION OR PROCEEDING AGAINST LENDER OR ANY OF LENDER'S DIRECTORS, OFFICERS, EMPLOYEES, AGENTS OR PROPERTY, CONCERNING ANY MATTER ARISING OUT OF OR RELATING TO THIS AGREEMENT IN ANY COURT OTHER THAN ONE LOCATED IN COOK COUNTY, ILLINOIS. NOTHING IN THIS SECTION 13.9 SHALL AFFECT OR IMPAIR LENDER'S RIGHT TO SERVE LEGAL PROCESS IN ANY MANNER PERMITTED BY LAW OR LENDER'S RIGHT TO BRING ANY ACTION OR PROCEEDING AGAINST BORROWER OR BORROWER'S PROPERTY IN THE COURTS OF ANY OTHER JURISDICTION. 13.10 NOTICE. Except as otherwise provided herein, any notice required hereunder shall be in writing and shall be deemed to have been validly served, given or delivered upon deposit in the United States certified or registered mails, with proper postage prepaid, or delivered by overnight courier or messenger delivery, addressed to the party to be notified as follows: If to Lender, at: Sanwa Business Credit Corporation One South Wacker Drive Chicago, Illinois 60606 Attn: Executive Vice President - Commercial Finance Division with a copy to: Sachnoff & Weaver, Ltd. 30 South Wacker Drive Suite 2900 Chicago, Illinois 60606 Attn: Richard G. Smolev If to Borrower, at: The Roach Organization, Inc. c/o TRO Learning, Inc. Poplar Creek Office Building 1721 Moon Lake Boulevard Suite 555 Hoffman Estates, IL 60194 Attn: William R. Roach with a copy to: Winston & Strawn 35 West Wacker Drive Chicago, Illinois 60601 Attn: Leland Hutchinson or to such other address as each party may designate for itself by like notice. Such notices shall be deemed delivered two days after being deposited in the United States mail, if mailed, one 57 business day after deposit with the overnight delivery service, if sent by overnight delivery, or upon actual receipt. The section titles and table of contents, if any, contained in this Agreement are and shall be without substantive meaning or content of any kind whatsoever and are not a part of the agreement between the parties hereto. All references herein to Sections, paragraphs, clauses and other subdivisions refer to the corresponding Sections, paragraphs, clauses and other subdivisions of this Agreement; and the words "herein", "hereof", "hereby", "hereto", "hereunder", and words of similar import refer to this Agreement as a whole and not to any particular Section, paragraph, clause or subdivision hereof. All Exhibits which are referred to herein or attached hereto are hereby incorporated by reference. 13.11 RELEASE OF CLAIMS. Borrower releases Lender from any and all causes of action or claims which Borrower may now or hereafter have for any asserted loss or damage to Borrower claimed to be caused by or arising from: (i) any failure of Lender to protect, enforce or collect in whole or in part any of the Collateral; (ii) Lender's notification to any Account Debtor of Lender's security interests in the Accounts and Special Collateral; (iii) Lender's directing any Account Debtor to pay any sums owing to Borrower directly to Lender; and (iv) any other act or omission to act on the part of Lender, its officers, agents or employees, except for gross negligence or willful misconduct. 13.12 REPRESENTATION BY COUNSEL. Borrower hereby represents that it has been represented by competent counsel of its choice in the negotiation and execution of this Agreement and the Ancillary Agreements; that it has read and fully understood the terms hereof and intends to be bound hereby. This Agreement has been thoroughly reviewed by counsel for Borrower and in the event of an ambiguity or conflict in the terms hereof, there shall be no presumption against Lender as the drafter hereof. 13.13 COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall constitute an original agreement, but all of which together shall constitute one and the same instrument. 13.14 LENDER'S WAIVER OF JURY. LENDER HEREBY WAIVES ANY RIGHT TO TRIAL BY JURY IN ANY ACTION TO ENFORCE OR PROSECUTE ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT. 58 IN WITNESS WHEREOF, this Agreement has been duly executed as of the date specified at the beginning hereof. THE ROACH ORGANIZATION, INC. By: /s/ SHARON FIERRO ------------------------------------ Name: ------------------------------------ Title: ------------------------------------ TRO LEARNING (CANADA), INC. By: /s/ SHARON FIERRO ------------------------------------ Name: ------------------------------------ Title: ------------------------------------ SANWA BUSINESS CREDIT CORPORATION By: /s/ CHESTER R. ZARA ------------------------------------ Name: CHESTER R. ZARA ------------------------------------ Title: VICE PRESIDENT ------------------------------------ 59 EX-10.16 3 SEVERANCE AND NONCOMPETITION AGREEMENT SEVERANCE AND NONCOMPETITION AGREEMENT This Agreement, dated as of April 23, 1997, is made by and between TRO Learning, Inc., a Delaware corporation (the "Company"), The Roach Organization, Inc., a wholly-owned subsidiary of the Company, (hereinafter referred to as "TRO") and Andrew N. Peterson, an officer of TRO (the "Officer"). The parties hereto agree as follows: 1. SEVERANCE. If the Officer's employment by the Company and TRO terminates because (a) the Company terminates the Officer's employment with the Company and TRO without Cause or (b) the Officer resigns from his employment with the Company and TRO with Good Reason, then the company shall pay to the Officer his salary, and continue the Officer's employee benefits, for a period of one year following the date on which the Company or the Officer gives written notice of termination. 2. NON-COMPETITION. The Officer shall not, while employed by the Company or TRO in any capacity (including as a consultant) and for a period of one (1) year thereafter (such one year period being referred to herein as the "Non-Compete Period"), on behalf of any person or entity other than the Company or TRO, engage or be interested, directly or indirectly, for himself or for any other person, as principal, agent, employer, employee, officer, director, partner, salesman, supervisor, consultant or otherwise, in any business or activity which is competitive with the principal businesses conducted by the Company on the date on which the Officer's employment with the Company and TRO terminates. The Non-Compete Period shall begin on the date of termination of the officer's employment with the Company and TRO, whether or not the Officer is entitled to continue to receive [his/her] salary and benefits from the Company pursuant to Section 1 above. Ownership by the Officer, as a passive investment, of less than five percent (5%) of the outstanding shares of the capital stock of any corporation with one or more classes of its capital stock listed on a national securities exchange or publicly traded in the over-the-counter market shall not constitute a breach of this Section 2. 3. NON-SOLICITATION. The Officer shall not, while employed by the Company as an employee or consultant and for a period of one (1) year thereafter, either directly or indirectly, on the officer's own behalf or in the services of or on behalf of others, divert, solicit or hire away, or attempt to divert, solicit or hire away to any person, concern or entity any person employed by the Company, whether or not such person is a full-time employee or a part-time employee of the Company and whether or not such employment is pursuant to written agreement or whether or not such employment is for a determined period or is at will. 4. SEVERABILITY. To the extent any provision of this Agreement shall be invalid or unenforceable, it shall be considered deleted herefrom and the remainder of such provisions of this Agreement shall be unaffected. In furtherance and not in limitation to the foregoing, should the duration or geographical extent of, or business activities covered by, any provision of this Agreement be in excess of that which is valid and enforceable under applicable law, then such 1 provision shall be construed to cover only the duration, extent or activities which may validly and enforceably be covered. 5. CONFIDENTIALITY. Officer agrees that Officer will not divulge to anyone (other than the Company, TRO or any persons employed or designated by the Company) any knowledge or information of any type whatsoever of a confidential nature relating to the business of the Company or TRO, including without limitation any of the Company's or TRO's trade secrets (unless readily ascertainable from public or published information or trade sources). Officer further agrees not to disclose, publish or make use of any such knowledge or information of a confidential nature without the prior written consent of the Company. 6. DEFINITIONS. "Cause" means (a) conviction of a felony or crime involving moral turpitude, (b) material dishonesty or material fraud with respect to the Company or TRO, or (c) repeated and substantial failure to perform the Officer's employment duties after reasonable notice of such failure. "Good Reason" means: (a) without Officer's express written consent, the assignment to Officer of any duties materially inconsistent with Officer's positions, duties, responsibilities and status with the Company and TRO as of the date of this Agreement or a material change in reporting responsibilities, titles or offices as presently in effect (other than as a result of termination); (b) without Officer's express written consent, a direct or indirect reduction in any substantial respect in rank or responsibilities, limitation or interference in any substantial respect with the performance of Officer's duties or responsibilities, or withdrawal in any substantial respect from the Officer of duties or responsibilities which are necessary or customary as an incident of officer's present position and status with the Company and TRO; or (c) except for generally proportionate reductions for all executives of the Company, a reduction by the Company in Officer's salary as in effect on the date hereof or as the same may be increased from time to time. 7. MISCELLANEOUS. (a) This Agreement is made under and shall be governed by and construed in accordance with the laws of the State of Illinois. (b) This Agreement contains the entire agreement of the parties relating to the subject matter hereof and supersedes all prior agreements and understandings with respect to such subject matter, and the parties hereto have made no agreements, representations or warranties relating to the subject matter of this Agreement which are not set forth herein. 2 (c) This Agreement shall extend to and be binding upon the officer, his legal representatives, heirs and distributees, and upon the Company, its successors and assigns. For purposes of this Agreement, unless the context otherwise requires, references herein to the Company shall include its subsidiaries and affiliated persons. (d) This Agreement may only be amended or modified with a writing signed by the parties hereto. (e) No term or condition of this Agreement shall be deemed to have been waived, nor shall there by any estoppel to enforce any provision of this Agreement, except by a statement in writing signed by the party against whom enforcement of the waiver or estoppel is sought. Any written waiver shall not be deemed a continuing waiver unless specifically stated, shall operate only as to the specific term or condition waived and shall not constitute a waiver of such term or condition for the future or as to act other than that specifically waived. (f) The headings of paragraphs in this Agreement are solely for convenience of reference and shall not control the meaning or interpretation of any provision of this Agreement. 3 IN WITNESS WHEREOF, this Agreement has been executed by the Parties hereto as of the date first set forth above. TRO Learning, Inc. By: /s/ William R. Roach ----------------------------------------- William R. Roach Its: Chairman of the Board, President and Chief Executive Officer The Roach Organization, Inc. By: /s/ William R. Roach ----------------------------------------- William R. Roach Its: Chairman of the Board, President and Chief Executive Officer /s/ Andrew N. Peterson ----------------------------------------- Andrew N. Peterson 4 EX-10.17 4 1ST AMEND-REVOLVING LOAN & SECURITY AGRMT FIRST AMENDMENT TO AMENDED AND RESTATED REVOLVING LOAN AND SECURITY AGREEMENT THIS FIRST AMENDMENT TO AMENDED AND RESTATED REVOLVING LOAN AND SECURITY AGREEMENT (together with all appendices, exhibits, schedules and attachments hereto, collectively this "AMENDMENT") is made and entered into as of March 18, 1997, by and between THE ROACH ORGANIZATION, INC., a Delaware corporation and TRO LEARNING (CANADA), INC., a corporation organized under the laws of Canada (collectively, the "BORROWER") and SANWA BUSINESS CREDIT CORPORATION, a Delaware corporation with its principal place of business at One South Wacker Drive, Chicago, Illinois 60606 ("LENDER"). RECITALS WHEREAS, Borrower and Lender entered into that certain Amended and Restated Revolving Loan and Security Agreement dated as of March 5, 1997 (the "LOAN AGREEMENT"), together with documents ancillary thereto, including, without limitation that certain Amended and Restated Guaranty of Payment and Performance dated as of March 5, 1997 made by TRO Learning, Inc. ("GUARANTOR") in favor of Lender; WHEREAS, Guarantor has requested that Lender consent to Guarantor incurring certain subordinated indebtedness pursuant to a private placement offering of series 1997 10% subordinated convertible debentures (the "DEBENTURES") in an aggregate amount of up to $7,000,000 (the "OFFERING"); WHEREAS, Lender's consent to the Offering is subject to, in part, Borrower agreeing to amend the Loan Agreement to provide that an "Event of Default" under the Debentures constitutes an Event of Default under the Loan Agreement; NOW THEREFORE, for and in consideration of the premises, the mutual covenants hereinafter set forth and other good and valuable consideration, the receipt and sufficiency of which the parties hereby acknowledge, the parties hereby agree as follows: ARTICLE 1. RECITALS AND DEFINITIONS 1.1. Borrower represents and warrants that the foregoing recitals are true and correct and constitute an integral part of this Amendment and Borrower and Lender hereby agree that all of the recitals of this Amendment are hereby incorporated herein and made a part hereof. 1.2. Unless otherwise defined herein or the context otherwise requires, all capitalized terms used herein shall have the same meanings as ascribed to them in the Loan Agreement. ARTICLE 2. AMENDMENT OF THE LOAN AGREEMENT 2.1. The following subsection shall be added as new subsection 11.1(O) to the Loan Agreement: (O) AN EVENT OF DEFAULT SHALL OCCUR OR EXIST PURSUANT TO ANY OF THOSE CERTAIN SERIES 1997 10% SUBORDINATED CONVERTIBLE DEBENTURES ISSUED BY TRO LEARNING, INC. IN AN AGGREGATE AMOUNT UP TO $7,000,000, AS THE SAME MAY BE AMENDED, MODIFIED, REPLACED OR SUBSTITUTED FROM TIME TO TIME (THE "DEBENTURES"). ARTICLE 3. REPRESENTATIONS AND WARRANTIES 3.1. Borrower hereby makes the following representations and warranties to Lender, which representations and warranties shall constitute the continuing covenants of Borrower and shall remain true and correct until all of Borrower's liabilities are paid and performed in full: a. The representations and warranties of Borrower contained in the Loan Agreement are true and correct on and as of the date hereof as though made on and as of such date; b. No Event of Default or event which, but for the lapse of time or the giving of notice, or both, would constitute an Event of Default under the Loan Agreement has occurred and is continuing or would result from the execution and delivery of this Amendment; c. Borrower is in full compliance with all of the terms, conditions and all provisions of the Loan Agreement and the other agreements; 2 d. This Amendment and all other agreements required hereunder to be executed by Borrower and delivered to Lender, have been duly authorized, executed and delivered on Borrower's behalf pursuant to all requisite corporate authority and this Amendment and each of the other agreements required hereunder to be executed and delivered by Borrower to Lender constitute the legal, valid and binding obligations of Borrower enforceable in accordance with their terms, except as enforceability thereof may be limited by bankruptcy, insolvency, reorganization, moratorium or other similar laws relating to creditors' rights; and e. Borrower hereby acknowledges and agrees that Borrower has no defense, offset or counterclaim to the payment of said principal, interest, fees or other liabilities and hereby waives and relinquishes any such defense, offset or counterclaim and Borrower hereby releases Lender and its respective officers, directors, agents, affiliates, successors and assigns from any claim, demand or cause of action, known or unknown, contingent or liquidated, which may exist or hereafter be known to exist relating to any matter prior to the date hereof. ARTICLE 4. RATIFICATION Except as expressly amended hereby, the Loan Agreement and all other agreements executed in connection therewith shall remain in full force and effect. The Loan Agreement, as amended hereby, and all rights and powers created thereby and thereunder or under such other agreements, are in all respects ratified and confirmed. From and after the date hereof, the Loan Agreement shall be deemed amended and modified as herein provided but, except as so amended and modified, the Loan Agreement shall continue in full force and effect and the Loan Agreement and this Amendment shall be read, taken and construed as one and the same instrument. On and after the date hereof, the term "Agreement" as used in the Loan Agreement and all other references to the Loan Agreement therein, in any other instrument, document or writing executed by Borrower or any guarantor or furnished to Lender by Borrower or any guarantor in connection therewith or herewith shall mean the Loan Agreement as amended by this Amendment. ARTICLE 5. MISCELLANEOUS 5.1. This Amendment may be signed in any number of counterparts, each of which shall be deemed to be an original, but all of which together shall constitute one and the same instrument. 5.2. Except as set forth in that certain letter to Lender from Sharon Fierro dated March 18, 1997 and as otherwise specified herein, this Amendment embodies the entire 3 agreement and understanding between Lender and Borrower with respect to the subject matter hereof and supersedes all prior agreements, consents and understandings relating to such subject matter. 5.3. The headings in this Amendment have been inserted for convenience only and shall be given no substantive meaning or significance in construing the terms of this Amendment. 5.4. This Amendment shall inure to the benefit of Lender and its successors and assigns and shall be binding upon and inure to the successors and assigns of Borrower, except that Borrower may not assign any of its rights in and to this Amendment. IN WITNESS WHEREOF, Borrower and Lender have caused this First Amendment to Amended and Restated Revolving Loan and Security Agreement to be executed and delivered as of the day and year written above. THE ROACH ORGANIZATION, INC. By: --------------------------------------- Name: ------------------------------------- Title: ------------------------------------ TRO LEARNING CANADA, INC. By: --------------------------------------- Name: ------------------------------------- Title: ------------------------------------ SANWA BUSINESS CREDIT CORPORATION By: --------------------------------------- Name: ------------------------------------- Title: ------------------------------------ AMENDMENT IS CONTINUED ON NEXT PAGE 4 REAFFIRMATION OF AMENDED AND RESTATED GUARANTY OF PAYMENT AND PERFORMANCE THE UNDERSIGNED PARTY, as guarantor ("GUARANTOR") of the above Borrowers pursuant to its Amended and Restated Guaranty of Payment and Performance (the "GUARANTY") identified below, acknowledges the terms and conditions set forth in this First Amendment to Amended and Restated Revolving Loan and Security Agreement and ratifies and reaffirms its guaranty obligations as set forth in the Guaranty, as reaffirmed. To further induce Lender to enter into this Amendment, Guarantor hereby represents and warrants to Lender that it possesses no claims, defenses, offsets, recoupment or counterclaims of any kind or nature against or with respect to the enforcement of the Loan Agreement or any other Ancillary Agreement, each as amended by this Amendment, or to the Guaranty (collectively, the "CLAIMS"), nor does Guarantor have any knowledge of any facts that would or might give rise to any Claims. If facts now exist which would or could give rise to any Claim against or with respect to the enforcement of the Loan Agreement, any Ancillary Agreement, or the Guaranty, Guarantor hereby unconditionally, irrevocably and unequivocally waives and fully releases any and all such Claims as if such Claims where the subject of a lawsuit, adjudicated to final judgment from which no appeal could be taken and therein dismissed with prejudice. DATED: As of March 18, 1997 TRO LEARNING, INC. By: ----------------------------------- Name: --------------------------------- Its: ---------------------------------- (Amended and Restated Guaranty of Payment and Performance dated as of March 5, 1997) 5 EX-10.18 5 1997 10% SUBORD CONVT DEBENTURE THE PAYMENT OF THIS INSTRUMENT, BOTH PRINCIPAL AND INTEREST, AND ALL OTHER INDEBTEDNESS EVIDENCED HEREBY, IS SUBJECT TO THE PRIOR RIGHTS OF THE COMPANY'S SENIOR LENDERS (AS DEFINED HEREIN). THE SECURITIES REPRESENTED BY THIS DEBENTURE HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 OR APPLICABLE STATE SECURITIES LAWS, AND MAY NOT BE SOLD, ASSIGNED, OFFERED, PLEDGED OR OTHERWISE TRANSFERRED FOR VALUE EXCEPT PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER SUCH ACT AND SUCH LAWS COVERING SUCH SECURITIES OR UNLESS THE ISSUER RECEIVES AN OPINION OF COUNSEL ACCEPTABLE TO THE ISSUER STATING THAT SUCH SALE, ASSIGNMENT, PLEDGE OR TRANSFER IS EXEMPT FROM THE REQUIREMENTS OF SUCH ACT AND SUCH LAWS. Series 1997 10% Subordinated Convertible Debenture Due ____________, 2004 No. 1997/10-______________ $________________ Chicago, Illinois _______________, 1997 KNOW ALL PERSONS BY THESE PRESENTS that TRO Learning Inc., a Delaware corporation (the "Issuer"), for value received, promises to pay to ___________________________, or registered assignee (the "Holder"), the principal sum of ____________________Dollars ($_____________) on ______________, 2004 (or at an earlier redemption date as provided for herein), together with interest on said principal amount from the date hereof until the principal amount is paid at the rate of ten percent (10%) per annum, compounded annually (this "Debenture"). Interest will be paid on July 1, and January 1 of each year, commencing July 1, 1997. Principal shall be payable at the office of the Issuer upon representation and surrender of this Debenture. Interest shall be paid by Issuer's check payable to the person listed as the registered owner of the Debenture on any interest payment date on the Debenture register maintained by the Issuer, and mailed on each interest payment date (other than a date which is a principal payment date) to said registered owner at the address shown on said Debenture register. 1. DEFINITIONS. Certain terms used herein and not otherwise defined (including capitalized terms used in the foregoing Recitals) shall have the following meanings: "CONVERSION PRICE" shall have the meaning set forth in Section 4(b) hereof. "ISSUER OBLIGATION" means the Senior Secured Obligations or the Subordinate Obligations, as the context requires. "PAYMENT IN FULL" or "PAID IN FULL" or any similar term(s) with respect to any Issuer Obligation means (a) the satisfaction and final payment in full of such Issuer Obligation in cash or cash equivalents reasonably acceptable to the payee, the termination of any obligation on the part of the holder of such Issuer Obligation to make any future loans or to afford any further financial accommodation to Issuer, and the full and timely performance of all obligations, or (b) in the case of any Issuer Obligation consisting of contingent obligations (including without limitation contingent obligations in respect of letters of credit or other indemnifications under the Senior Loan Documents), the setting apart of cash sufficient to discharge such portion of such Issuer Obligation in an account for the exclusive benefit of the holders thereof, in which account such holders shall be granted by Issuer a first priority perfected security interest in a manner acceptable to such holders, which payment or perfected security interest shall have been retained by the holders, in the case of each of (a) and (b) above, for a period of time in excess of all applicable preference or other similar periods under applicable bankruptcy, insolvency or creditors' rights law. "SENIOR LENDER" means Sanwa Business Credit Corporation and its successors and assigns and/or any other lender under a Senior Loan Agreement. "SENIOR LOAN AGREEMENT" means that certain Amended and Restated Loan and Security Agreement dated effective as of March 5, 1997, among the Senior Lender, The Roach Organization, Inc. and TRO Learning (Canada), Inc., as the same may hereafter be amended, supplemented, modified, replaced or refinanced from time to time and/or any other agreement for secured indebtedness refinancing or replacing such credit agreement in whole or in part. "SENIOR LOAN DOCUMENTS" means the Senior Loan Agreement and all other instruments, agreements and documents which create, evidence or secure the Senior Secured Obligations from time to time (including but not limited to any promissory notes, security agreements, guarantees, pledge agreements, hypothecation agreements, mortgages, financing statements, and all other agreements of any type whatsoever), delivered by Issuer, any guarantor or any other person or entity, as any of the same may be amended, supplemented, modified, replaced or refinanced by the Senior Lender from time to time. "SENIOR SECURED OBLIGATIONS" means all "Liabilities" as that term is defined in the Senior Loan Documents owing to the Senior Lender, including but not limited to principal, interest, fees and all other amounts owing to the Senior Lender under the Senior Loan Documents, from time to time. There is no limitation on the amount of Senior Secured Obligations that Issuer can incur. "SUBORDINATE CONVERTIBLE DEBENTURES" means those debentures of the Issuer designated as its Series 1997 10% Subordinated Convertible Debentures in the aggregate amount up to $7,000,000, also referred to herein as "Debentures". 2 "SUBORDINATE OBLIGATIONS" means all principal, interest, fees and all other amounts owing to the Holder under the Subordinate Convertible Debentures from time to time, whether in respect of principal, interest or otherwise. 2. SERIES. This Debenture is one of the Subordinate Convertible Debentures. All payments with respect to the Debentures shall be made to all holders of the Debentures PRO RATA, based upon amounts then due or owing. 3. REDEMPTION. (a) Except as set forth herein, this Debenture may not be prepaid or redeemed. (b) This Debenture may be redeemed by the Issuer, at its option, in whole or in part, if (i) the closing bid price of a single share of the Issuer's Common Stock, as reported in the principal market upon which the Issuer's public registered Common Stock is traded, is at least 200% of the Conversion Price for twenty consecutive trading days; (ii) the average daily trading volume of the Issuer's Common Stock for such twenty day period is not less than 40,000 shares; and (iii) the shares into which the Debentures are convertible are subject to an effective registration statement under the Securities Act of 1933 (the "Securities Act") or are saleable under Rule 144(k) thereunder. In the event of a redemption pursuant to this Section 3(b), the Issuer shall redeem this Debenture at 101% of the principal sum stated herein, together with all interest accrued and unpaid on said principal sum to the date of redemption. (c) The Issuer shall redeem Debentures representing at least 25% of the total principal amount of this Series, on a pro rata basis, on each of March ___, 2001, 2002, 2003 and 2004. (d) In the event of any redemption under Section 3(b) or Section 3(c), the Issuer shall provide a notice of redemption (the "Redemption Notice") to the registered Holder of this Debenture, at the address shown on the Issuer's Debenture register. If conversion is not elected in accordance with Section 4, the redemption shall take place on the date specified in the Redemption Notice, which shall not be earlier than 30 days subsequent to the date of the Redemption Notice (a "Redemption Date"). On a Redemption Date, this Debenture, if redeemed in whole, shall be deemed cancelled, null and void and of no further force and effect, provided that the Issuer pays to the holder hereof the redemption price. In the event of a partial redemption of this Debenture, the holder of this Debenture shall submit this Debenture to the Issuer, which shall make a notation on the face of this Debenture as to the amount which has been redeemed and, with respect to such amount redeemed, this Debenture shall be cancelled, null and void and of no further force and effect, provided that the Issuer pays the redemption price for the amount of this Debenture so redeemed. 3 4. CONVERSION. (a) This Debenture may be converted into shares of the Issuer's Common Stock, at the option of the holder, in whole but not in part, at the Conversion Price. No fractional shares of Common Stock shall be issued. Upon conversion of this Debenture, fractional shares, if applicable, shall be paid in cash based on the Conversion Price. (b) For purposes hereof, the term "Conversion Price" shall mean initially $_______per share. [120% of the average closing bid price for the twenty days prior to closing], and shall be subject to adjustment, as follows: (i) In case the Issuer shall at anytime hereafter subdivide or combine the outstanding shares of Common Stock or declare a dividend payable in Common Stock, the Conversion Price in effect immediately prior to the subdivision, combination or record date for such dividend payable in Common Stock shall forthwith be proportionately increased, in the case of combination, or decreased, in the case of subdivision or dividend payable in Common Stock, and each share of Common Stock issuable upon conversion of this Debenture shall be changed to the number determined by dividing the then current Conversion Price by the Conversion Price as adjusted after the subdivision, combination, or dividend payable in Common Stock. (ii) If any capital reorganization or reclassification of the capital stock of the Issuer, or consolidation or merger of the Issuer with another corporation, or the sale of all or substantially all of its assets to another corporation shall be effected in such a way that holders of Common Stock shall be entitled to receive stock, securities or assets with respect to or in exchange for Common Stock, then, as a condition of such reorganization, reclassification, consolidation, merger or sale, lawful and adequate provision shall be made whereby the holder hereof shall hereafter have the right to receive upon the basis and upon the terms and conditions specified in this Debenture and in lieu of the shares of the Common Stock of the Issuer into which this Debenture was immediately theretofore convertible, such shares of stock, securities or assets as may be issued or payable with respect to or in exchange for a number of outstanding shares of such Common Stock equal to the number of shares of such stock into which this Debenture was immediately theretofore convertible had such reorganization, reclassification, consolidation, merger or sale not taken place, and in any such case appropriate provisions shall be made with respect to the rights and interests of Holder to the end that the provisions hereof (including without limitation provisions for adjustments of the Conversion Price and of the number of shares into which this Debenture may be converted) shall thereafter be applicable, as nearly as may be, in relation to any shares of stock, securities or assets thereafter deliverable upon the conversion hereof. The Issuer shall not effect any such 4 consolidation, merger or sale, unless prior to the consummation thereof the successor corporation (if other than the Issuer) resulting from such consolidation or merger or the corporation purchasing such assets shall assume by written instrument executed and mailed to the registered holder hereof at the last address of such holder appearing on the books of the Issuer, the obligation to deliver to such holder such shares of stock, securities or assets into which, in accordance with the foregoing provisions, such holder may be entitled to convert this Debenture. (iii) If the Issuer distributes to all holders of Common Stock any assets (excluding ordinary cash dividends) or debt securities or any rights or warrants to purchase debt securities, assets or other securities (including Common Stock), the Conversion Price shall be adjusted in accordance with the formula: C(1) = C x (O x M) - F --------------- O x M where: C(1) = the adjusted Conversion Price. C = the current Conversion Price. M = the average market price of Common Stock for the 30 consecutive trading days commencing 45 trading days before the record date mentioned below. O = the number of shares of Common Stock outstanding on the record date mentioned below. F = the fair market value on the record date of the aggregate of all assets, securities, rights or warrants distributed. The Issuer's Board of Directors shall determine the fair market value in the exercise of its reasonable judgment. The adjustment shall be made successively whenever any such distribution is made and shall become effective immediately after the record date for the determination of stockholders entitled to receive the distribution. 5 (iv) If the Issuer issues or sells any shares of Common Stock for a consideration per share less than the Conversion Price then in effect (other than dividends payable in shares of Common Stock), or issues any options, warrants, or other rights to purchase Common Stock at a consideration per share less than the Conversion Price then in effect, or issues securities convertible into Common Stock at a conversion price per share of less than the Conversion Price then in effect, then the Conversion Price in effect immediately prior to such issuance or sale shall be adjusted by multiplying such Conversion Price by a fraction, (a) the numerator of which shall be an amount equal to the sum of (A) the aggregate number of shares of Common Stock outstanding immediately prior to such issuance or sale multiplied by the applicable Conversion Price in effect immediately prior to such issuance or sale, and (B) the total consideration payable to the Issuer upon such issuance or sale of such Common Stock and/or such purchase rights or convertible securities, plus the consideration payable to the Issuer upon the exercise of such purchase rights or upon conversion of such convertible securities, and (b) the denominator of which shall be an amount equal to the aggregate number of shares of Common Stock outstanding immediately after such issuance or sale plus the number of shares of Common Stock issuable upon the exercise of any purchase rights and/or upon the conversion of convertible securities issued in such issuance. If the Conversion Price is adjusted as the result of the issuance of any options, warrants or other purchase rights or upon the issuance of convertible securities, no further adjustments of such Conversion Price shall be made at the time of the exercise of such options, warrants or other purchase rights or convertible securities. If securities are sold for a consideration other than cash, the amount of the consideration other than cash received by the Issuer shall be deemed to be the fair value of such consideration as determined by the Board of Directors of the Issuer. (v) Upon any adjustment of the Conversion Price, then and in each such case, the Issuer shall give written notice thereof, by first class mail, postage prepaid, addressed to the registered holder of this Debenture at the address of such holder as shown on the books of the Issuer, which notice shall state the Conversion Price resulting from such adjustment and the increase or decrease, if any, in the number of shares into which this Debenture may be converted, setting forth in reasonable detail the method of calculation and the facts upon which such calculation is based. (c) The number of shares of Common Stock to be received upon conversion of this Debenture shall be equal to (x) the principal amount of this Debenture, divided by (y) the per share Conversion Price. Conversion shall be effected by the Holder completing and duly executing the conversion election form attached hereto (the "Conversion Election") and surrendering this Debenture, together with such Conversion Election, to the Issuer at its 6 principal office on or before the date for such conversion stated in the Conversion Election or before the Redemption Date stated in the Redemption Notice. This Debenture, or any part thereof called for redemption, must be covered in whole and not in part. (d) As soon as practicable after the receipt of the Conversion Election, the Company will cause to be issued in the name of and delivered to the Holder hereof, or as such Holder may direct, a certificate or certificates representing the shares of Common Stock acquired upon such exercise. No fractional shares of Common Stock shall be issued; in lieu of any fractional shares to which the Holder would otherwise be entitled, the Company shall pay cash equal to such fraction multiplied by the then effective Conversion Price. The Company shall also pay the Holder an amount equal to the interest accrued on the Debenture to the date of conversion. (e) Any shares of Common Stock issued upon conversion shall not be freely tradeable and shall be "restricted shares," shall be subject to the same restrictions on transfer as are the Debentures, and the certificate therefor shall contain a legend in substantially the form set forth on the face of this Debenture. In addition, all shares of Common Stock so issued shall be entitled to certain registration rights, as set forth herein and limited hereby. (f) A number of shares of Common Stock sufficient to provide for the exercise of the conversion rights upon the basis herein set forth shall at all items be reserved for the exercise thereof, subject to any required action of the shareholders. If any such shareholder action is required, the Issuer shall use its best efforts to cause such action to be taken. 5. SUBORDINATION. This Debenture is not, nor shall it ever be, secured by any collateral and is not, nor shall it ever be, the subject of any guaranty. The Subordinate Obligations are and shall be expressly subordinate and junior in right of payment to all Senior Secured Obligations until the Senior Secured Obligations have been Paid In Full. Holder's interest in and to the payment of principal, interest and premium or any other amounts due hereunder, is subordinate to the interest of the Senior Lender and subject to the terms of this Agreement. The Senior Lender has advanced funds and may from time to time advance additional funds in reliance upon the subordination of the Subordinate Obligations to the Senior Secured Obligations. Holder agrees to be fully unsecured with respect to the Subordinate Obligations and, to that end, Holder agrees to execute, file and/or record all such releases, termination statements and satisfactions as are requested by the Senior Lender in order to cause the Subordinate Obligations to be fully unsecured. 6. DEFAULT. Each of the following events shall be an Event of Default ("Event of Default") for purposes of this Debenture: 7 (a) The Issuer fails to pay when due any installment of interest on this Debenture within fifteen (15) days of the due date. (b) The Issuer fails to pay when due any principal or premium within 30 days of the due date. (c) The Issuer defaults in the due and punctual performance or observance of any material term contained in this Debenture, and such default continues for a period of sixty (60) days after written notice thereof to the Issuer; provided, however, that if such default cannot be cured within 60 days, corrective action must be instituted within such period, and such default must be cured as promptly as practicable, but in any event within 120 days. (d) Any representation or warranty made by or on behalf of the Issuer in this Debenture or in any certificate or other instrument delivered under or pursuant to any term hereof shall prove to have been untrue or incorrect in any material respect as of the date such representation or warranty was made or if any certificate, financial statement or financial schedule or other instrument prepared by the Issuer or any executive officer of the Issuer furnished or delivered under or pursuant to this Debenture after the date hereof shall prove to be untrue or incorrect in any material respect as of the date it was made, furnished or delivered. (e) The Issuer shall fail to deliver the appropriate number of shares of Common Stock in satisfaction of a Conversion Election by a Holder as provided herein and such default shall continue for a period of ten (10) days after written notice of such default to the Issuer. (f) The Issuer or any subsidiary shall default in any material respect in the due and punctual performance of any covenant or agreement in any note, bond, indenture, loan agreement, note agreement, mortgaged security agreement or other instrument evidencing indebtedness for borrowed money, excluding the Senior Loan Documents, in the principal amount of at least $250,000, and such default shall continue uncured or unwaived for more than 60 days after written notice to the Issuer thereof; the parties hereto agreeing that an event of default under the Senior Loan Documents shall not constitute an Event of Default hereunder. (g) The Issuer makes an assignment for the benefit of creditors, or admits in writing its inability to pay its debts as they become due, or files a voluntary petition in bankruptcy, or is adjudicated as bankrupt or insolvent, or files any petition or answer seeking for itself a reorganization arrangement composition readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation, or files any answer admitting the material allegations of a petition filed against the Issuer for any such relief, or a petition is filed against the Issuer and the petition is not dismissed within 60 days after the filing thereof, or if a trustee, receiver or similar officer is appointed for the Issuer for the 8 Issuer's property and such appointment is not dismissed within 60 days after such appointment. Upon the occurrence of an Event of Default, then not fewer than three Holders holding not less than an aggregate of twenty-five percent (25%) of the principal amount of the Debentures then outstanding may declare immediately due and payable the outstanding amounts under all the Debentures, and the same shall thereupon be immediately due and payable, and, subject to the terms contained in Sections 7 and 8 hereof, may exercise any and all remedies available under Illinois law or in equity. Upon the occurrence of an Event of Default as described in Section 6(e) hereof, the Holder hereof shall have the option to declare the principal amount hereof, and all accrued but unpaid interest thereon, to be immediately due and payable upon written notice from the Holder to the Issuer and, subject to the terms contained in Sections 7 and 8 hereof, to exercise any and all remedies available to it under Illinois law or at equity. 7. STANDBY; NON-INTERFERENCE. (a) At any time prior to the date the Senior Secured Obligations are Paid in Full, Holder shall not, except as expressly provided in Sections 7(d) and 7(f) hereof or with respect to the Issuer's obligations in Sections 4 and 14 hereof, (i) exercise any rights or remedies Holder may have under the Subordinate Convertible Debentures or otherwise; (ii) commence or join with any other creditors of Issuer (except the Senior Lender) in commencing any bankruptcy, reorganization, receivership or insolvency proceeding against Issuer; (iii) commence any action or proceeding against Issuer to enforce or collect any Subordinate Obligation; (iv) commence any action to obtain possession of property of Issuer, to exercise control over property of Issuer or to create, perfect or enforce any lien against property of Issuer; (v) exercise any control over or power to direct the use or distribution of insurance proceeds, condemnation proceeds, proceeds of sale of any property of Issuer; or (vi) take any action which interferes with or impairs Senior Lender's rights and remedies, in any manner whatsoever. (b) In the event Issuer defaults on its obligations to Senior Lender and, as a result, Senior Lender undertakes to enforce Senior Lender's security interests and liens in Issuer's assets, Holder agrees that Holder will not hinder, delay or otherwise prevent Senior Lender from taking any and all action which Senior Lender deems necessary to enforce Senior Lender's security interests and liens in Issuer's assets and to realize thereon or to take any action which interferes with or impairs Senior Lender's rights and remedies, in any manner whatsoever. (c) If any insolvency, bankruptcy, receivership, liquidation, reorganization or other similar proceedings are commenced by or against Issuer or its property, or if any proceedings for involuntary liquidation, dissolution or other winding up of Issuer whether or not involving insolvency or bankruptcy are commenced by or against Issuer, then 9 Senior Lender shall be entitled in any such proceeding to receive Payment in Full of all Senior Secured Obligations before Holder is entitled in any such proceedings to receive any payment on account of the Subordinate Obligations, and to that end, in any such proceedings, any payment or distribution of any kind or character, (whether in cash, cash equivalents, property (excluding the Issuer's Common Stock), by set-off or otherwise) to which Holder would be entitled but for the provisions hereof, shall be delivered to Senior Lender to the extent necessary to make Payment in Full of all Senior Secured Obligations remaining unpaid, after giving effect to any concurrent payment or distribution to or for Senior Lender in respect thereof. (d) At any time prior to the date the Senior Secured Obligations are Paid in Full, upon the occurrence of an Event of Default under the terms of the Subordinate Convertible Debentures, Holder may subject to the limitations on remedies contained in Section 6, on a date not earlier than two hundred seventy (270) days from the date an Event of Default occurs hereunder, (i) accelerate payments due pursuant to the Subordinate Convertible Debentures; (ii) demand payment from Issuer; (iii) bring suit against Issuer; and (iv) obtain a judgement against Issuer. Until the Senior Secured Obligations are Paid in Full, Holder may not record, register, or file such judgement or take any further actions to enforce its judgement against the assets of Issuer or do any of the other acts or exercise any other of the rights described in Section 7(a); provided, however, that this Section 7(d) shall not limit or impair Holder's rights to enforce the provisions of Sections 4 and 14 hereof. (e) Holder shall have no right to receive any payments or monies resulting from such action or proceeding until the Senior Secured Obligations are Paid in Full and Holder shall not take any action which interferes with or impairs Senior Lender's rights and remedies, in any manner whatsoever. (f) Subject to the provisions of Section 7(e), Holder may, in any proceeding described in Section 7(c) hereof, in the name of Holder, file claims, proofs of claims and other instruments of similar character necessary to enforce the obligations of Issuer in respect of the Subordinate Obligations. Neither this Section 7(f) nor any other provision hereof shall be construed to give Holder any right to vote any Issuer Obligation held by Senior Lender, any related claim or any portion of such claim, whether in connection with any resolution, arrangement, plan or reorganization, compromise, settlement, election of trustees or otherwise. (g) Nothing in this Agreement shall restrict the ability of the Senior Lender to declare a default, accelerate all or any portion of the Senior Secured Obligations and/or exercise any and all rights and remedies contained in the Senior Loan Documents. 10 8. PERMITTED PAYMENTS; RIGHT TO RETAIN PAYMENTS. (a) Holder shall not be entitled to receive or retain any direct or indirect payment (in cash, cash equivalents, property (excluding the Issuer's Common Stock), by set-off or otherwise) from Issuer of or on account of any Subordinate Obligations: (i) if the payment from Issuer to Holder would create a Default or an Event of Default under the terms of the Senior Loan Documents, or (ii) if there has occurred and is continuing an Event of Default under the terms of the Senior Loan Documents. Provided that no Event of Default or Default (as defined in the Senior Loan Agreement) shall have occurred and is continuing under the terms of the Senior Loan Agreement, Issuer shall be entitled to make to, and Holder shall be entitled to receive and retain (i) semi-annual installments of interest at the interest rate set forth in the Subordinated Loan Documents, commencing on July 1, 1997 and thereafter until Paid in Full and (ii) the redemption payments pursuant to Section 3(c) hereof. Nothing herein shall limit or impair Holder's rights to enforce the provisions of Sections 4 and 14 hereof. (b) Except as expressly provided in Section 8(a), at any time that any Senior Secured Obligation is outstanding, Issuer shall not make and Holder shall not receive or accept any payment (in cash, cash-equivalents, property, by set-off or otherwise) of any kind or nature with respect to the Subordinate Obligations, including but not limited to any prepayment of principal or interest. (c) If Issuer shall make any payments which the Holder is not permitted to receive and retain pursuant to this Agreement, then such payment shall be held in trust by Holder for the benefit of, and shall be paid over promptly to the Senior Lender, for application to the payment of the Senior Secured Obligations, in such order of priority as Senior Lender shall determine, in its sole and exclusive discretion. If Holder pays over any payment or distribution as provided above, then such payment or distribution shall be deemed to have been made by Issuer directly to Senior Lender and not to Holder and no Subordinate Obligation shall be discharged by reason of its receipt of any payment or distribution which is so paid over to Senior Lender. 9. COVENANTS. (a) The Issuer agrees that until this Debenture is paid in full, the Issuer will: (1) Do or cause to be done all things necessary to preserve and keep in full force and effect its corporate existence, rights (charter and statutory) and franchises and those of its subsidiaries. (2) Deliver to the Holder hereof: (i) as soon as practicable, but in any event within 45 days after the close of each of the Issuer's first three fiscal quarters, unaudited summary 11 consolidated operating results, balance sheets and cash flow statements and cash flow statements of the Company and its subsidiaries as of the end of such fiscal quarter, and in comparative form figures for the corresponding fiscal quarter of the previous fiscal year, all in reasonable detail, and certified by an authorized accounting officer of the Company, subject to year-end adjustments; (ii) as soon as practicable, but in any event within 90 days after the end of each fiscal year, a consolidated balance sheet of the Issuer and its subsidiaries, as of the end of such fiscal year, together with the related consolidated statements of operations, shareholders' equity and cash flow for such fiscal year, setting forth in comparative form figures for the previous fiscal year, all in reasonable detail, and duly certified by the Issuer's independent public accountants; (iii) concurrently with the delivery of the financial statements referred to in paragraphs (i) and (ii) above, a certificate of the Issuer signed by the President or Chief Financial Officer, stating that, to the best of such officer's knowledge after due inquiry, the Issuer has performed and observed each and every covenant contained in this Debenture to be performed by it and that no event has occurred and no condition then exists which constitutes an Event of Default or would constitute each an Event of Default upon the lapse of time or upon the giving of notice and the lapse of time; or, if any such event has occurred or any such condition exists, specifying the nature thereof; and (iv) provided that, if the Issuer is subject to the reporting requirements of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), delivery to the Holder of annual and quarterly reports, proxy statements and registration statements filed with the Securities and Exchange Commission as and when delivered to the public security holders of the Issuer shall be sufficient to satisfy the Issuer's obligations under this Section 9(a)(2). (3) Pay, and cause each subsidiary to pay, all taxes, assessments and other governmental charges imposed upon it or any of its properties or assets, except where the failure to so pay such taxes would not have a material adverse effect on the business or financial condition of the Issuer and its subsidiaries, taken as a whole, or where the Issuer is in good faith contesting the imposition of a tax or the amount due thereunder. (4) Conduct, and cause its subsidiaries to conduct, their respective businesses in substantial compliance with all laws and regulations governing the operation of such businesses, except where the failure to so conduct such businesses 12 would not have a material adverse effect on the business or financial condition of the Issuer and its subsidiaries, taken as a whole. (5) Maintain, and cause its subsidiaries to maintain, their respective properties and assets in generally good repair, working order and condition and maintain, with financially sound and reputable insurers, insurance with respect to such properties and assets against such losses, hazards, liabilities and risks, and in amounts, to the extent and in the manner customary for companies in similar businesses similarly situated, except where the failure to so maintain properties and assets or to so maintain insurance would not have a material adverse effect on the business or financial condition of the Issuer and its subsidiaries, taken as a whole. (b) The Issuer agrees that until this Debenture is paid in full, the Issuer will not declare or pay any dividend or make any other distribution on (i) the Common Stock or (ii) any class of preferred stock, unless (x) such dividend or distribution is permitted under the terms of the Senior Loan Documents AND (y) there is no Event of Default existing AND (z) the shareholders' equity of the Issuer, determined on a consistent basis in accordance with GAAP, after payment of the dividend, shall not be less than $20,812,000. 10. MODIFICATION OF DOCUMENTS (a) Senior Lender may amend, modify, extend, restate, replace or otherwise alter any Senior Loan Document in any manner whatsoever, without notice to or consent of Holder, including, but not limited to granting additional financial accommodations to Issuer, extending the term thereof, modifying the payment terms, increasing the principal amount of the loans, and interest rate thereof, and events of default. Any such amendment, modification, supplement, restatement or replacement shall not affect or impair the obligations of Holder and the Subordinate Obligations shall be subordinated to the Senior Secured Obligations as evidenced by the Senior Loan Documents, as amended, modified, supplemented, restated or replaced. Senior Lender shall have the right to exercise any and all rights and remedies granted to Senior Lender pursuant to the Senior Loan Documents, without notice to or consent of Holder. (b) At any time prior to the time the Senior Secured Obligations are Paid in Full, neither the Holder nor the Issuer shall, without the prior written consent of the Senior Lender, which consent may be withheld in Senior Lender's sole and absolute discretion, (i) amend, modify or otherwise alter the Subordinated Convertible Debentures in any manner whatsoever, including but not limited to modifications of the interest rate, payment terms, time for payments, or events of default, (ii) accept, retain, request or take any collateral for the Subordinated Obligations, (iii) increase the Subordinated Debt, or (v) except as expressly permitted pursuant to Section 8(a), accept payment of, demand payment of, sue for or receive all or any part of the Subordinated Debt. 13 11. REVIVAL OF SUBORDINATION. Notwithstanding the Payment in Full of any Issuer Obligation, if any payment on account of any Issuer Obligation or any proceeds of collateral thereunder which are received by Senior Lender or Holder are subsequently rescinded or otherwise required to be repaid to issuer or any other person for any reason, then, to the extent such payment(s) and/or proceeds are repaid to Issuer or such other person, the subordination effected hereby with respect to such Issuer Obligation shall be revived and continued in full force and effect as if such payment(s) and/or proceeds had not been received by the original recipient thereof. 12. MISCELLANEOUS PROVISIONS. The Issuer will not, by amendment of its Articles of Incorporation or through reorganization consolidation, merger, dissolution or sale of assets, or by any other voluntary act or deed, avoid or seek to avoid the observance or performance of any of the covenants, stipulations or conditions to be observed or performed hereunder by the Issuer, but will, at all times in good faith, assist, insofar as it is able, in the carrying out of all provisions hereof. This Debenture is issued in fully registered form without interest coupons. Transfer of this Debenture is restricted. The Issuer shall be entitled to treat the person or entity listed as the registered owner on its Debenture Register as the owner of this Debenture for all purposes. Upon receipt of evidence satisfactory to the Issuer of the loss, theft, destruction or mutilation of this Debenture and in the case of any such loss, theft or destruction, upon delivery of a bond of indemnity satisfactory to the Issuer if requested by the Issuer, or in the case of any such mutilation, upon surrender and cancellation of such Debenture, the Issuer shall issue a new Debenture identical in form to the lost, stolen, destroyed or mutilated Debenture. 13. NOTICES: ETC. (a) Any notice to a holder shall be in writing addressed to the Holder at the address last shown on the Issuer's Debenture register, shall be deemed given when delivered in person or three (3) days after deposit in the United States mail, postage prepaid and addressed in accordance with this section. Any notice to the Issuer shall be deemed given when delivered in person or three (3) days after deposit in the United States mail, postage prepaid and addressed as follows: If to Issuer: TRO Learning, Inc. 1721 Moon Lake Boulevard Suite 555 Hoffman Estates, IL 60194 Attn: Chief Financial Officer A party may change its address by notice given in conformity with this section. 14 (b) This Debenture shall be governed and interpreted under the laws of the State of Illinois, without regard to the conflicts of laws provision thereof. (c) Whenever reference is made herein to the issue or sale of shares of Common Stock, the term "Common Stock" shall include any stock of any class of the Company other than preferred stock with a fixed limit on dividends and a fixed amount payable in the event of any voluntary or involuntary liquidation, dissolution or winding up of the Company. (d) All shares of Common Stock or other securities issued upon the exercise of the Conversion Right shall be validly issued, fully paid and non-assessable, and the Company will pay all taxes in respect of the issuance thereof, if any. (e) Notwithstanding anything contained herein to the contrary, the Holder of this Debenture shall not be deemed a shareholder of the Company for any purpose whatsoever until and unless this Debenture has been converted pursuant to Section 3 hereof. 14. REGISTRATION RIGHTS. The Holder acknowledges and understands that the shares of Common Stock to be issued hereunder are not required to be registered under any securities laws except as set forth below. If such shares are not so registered, they will be "restricted securities" as that term is used under the Securities Act of 1933, as amended (the "Securities Act"), and the transferability and liquidity will be substantially restricted by federal and state securities laws and will bear a legend comparable to that set forth on the first page hereof. (a) On or before the nine-month anniversary of the date hereof, the Company shall file a registration statement under the Securities Act covering the sale of the Shares of Common Stock issuable upon conversion of the Debentures. The Company shall use its best efforts to have such registration statement declared effective by the Securities and Exchange Commission (the "Commission") by the twelve-month anniversary of the date hereof. The costs and expenses directly related to such registration, including but not limited to legal fees of the Company's counsel, audit fees, printing expense, filing fees and fees and expenses relating to qualifications under state securities or blue sky laws incurred by the Company shall be borne entirely by the Company; provided, however, that the persons for whose account the securities covered by such registration are sold shall bear the underwriting commissions, if any, applicable to their shares and fees of their legal counsel. If the holders of shares of Common Stock underlying the Debentures are the only persons whose shares are included in the registration pursuant to this section, such holders shall bear the expense of inclusion of audited financial statements in the registration statement which are not dated as of the Company's normal fiscal year or are not otherwise prepared by the Company for its own business purposes. The Company shall keep effective and maintain such registration statement for such period as may be necessary for the holders of such common stock to dispose of such securities and, from time to time shall amend or supplement, at the holder's expense, the prospectus or offering circular used in connection 15 therewith to the extent necessary in order to comply with applicable law; provided, that the Company shall not be required to maintain the effectiveness of such registration statement once holders of the Debentures can sell the shares underlying the Debentures under Rule 144(k) or any successor thereto under the Securities Act. (b) The managing underwriter of an offering registered pursuant to Section 14(a), if any, shall be selected by the holders of a majority of the shares issued or issuable upon the conversion of the Debentures for which registration has been requested and shall be reasonably acceptable to the Company. Without the written consent of the holders of a majority of the shares issued or issuable upon the exercise of the Debentures for which registration has been requested pursuant to this Section 14(b), neither the Company nor any other holder of securities of the Company may include securities in such registration if in the good faith judgment of the managing underwriter of such public offering the inclusion of such securities would interfere with the successful marketing of the share issued upon the conversion of the Debentures or require the exclusion of any portion of the shares issued upon the exercise of the Debentures to be registered. (c) If the Company proposes to claim an exemption under Section 3(b) of the Securities Act for a public offering of any of its securities or to register under the Securities Act (except by a claim of exemption or registration statement on a form that does not permit the inclusion of shares by its security holders) any of its securities, it will give written notice to all registered holders of the Debentures, and all registered holders of shares of Common Stock acquired upon the conversion of Debentures, of its intention to do so and, on the written request of any such registered holders given within twenty (20) days after receipt of any such notice (which request must be made within seven (7) years from the date of this Debenture), the Company will use its best efforts to cause all such shares, the registered holders of which shall have requested the registration or qualification thereof, to be included in such notification or registration statement proposed to be filed by the Company; provided, however, that (i) the Company shall not be required to include any such shares of Common Stock in any such registration for any holder who is able to sell all shares of Common Stock owned by such holder (or issuable to such holder upon conversion of this Debenture), and which benefit from the registration rights granted hereunder, during the three-month period beginning on the date such notice is received by such holder, without compliance with the registration requirements of the Securities Act pursuant to Rule 144(k) or any successor thereto under the Securities Act; (ii) the Company shall not be required to give such notice with respect to, or to include such Common Stock in, any such registration which is primarily (A) a registration of a stock option plan or other employee benefit plan or of securities issued or issuable pursuant to any such plan such as a registration on Form S-8, or (B) a registration of securities proposed to be issued in exchange for securities or assets of, or in connection with a merger or consolidation with, another corporation such as a registration on Form S-4; (iii) the Company shall not be required to include in any such registration any shares of Common Stock previously duly registered under the Securities Act; (iv) the Company may, in its sole discretion, withdraw any such registration statement and abandon the proposed offering in which any such holder had requested to participate; 16 (v) if the offering to which the registration statement relates is to be distributed by or through an underwriter, each such holder shall agree, as a condition to the inclusion of such holder's securities in such registration, to sell the securities held by such holder through such underwriter on the same terms and conditions as the underwriter agrees to sell securities on behalf of the Company and not to sell, transfer, pledge, assign or otherwise dispose of any shares of Common Stock not sold by such holder in such offering for such period (up to (90) days after the effective date of the registration statement) as may be required by the underwriter; and (vi) if the offering to which the registration statement relates is to be distributed by or through an underwriter and a greater number of securities is offered for participation in the proposed underwriting than, in the opinion of the Company's underwriter, can be accommodated without significantly adversely affecting the proposed underwriting, the amount of such securities otherwise to be included in the underwritten offering on behalf of all persons other than the Company may be reduced pro rata, in accordance with the number of shares of Common Stock proposed to be sold by each such holder, or may be eliminated entirely from such underwritten public offering. The costs and expenses of such offering, including but not limited to legal fees, special audit fees, printing expenses, filing fees, fees and expenses relating to qualifications under state securities or blue sky laws and the premiums for insurance, if any, incurred by the Company in connection with any registration made pursuant to this Section 14(c) shall be borne entirely by the Company; PROVIDED, HOWEVER, that any holders participating in such registration shall bear their own underwriting discounts and commissions and the fees and expenses of their own counsel or accountants in connection with any such registration. (d) In connection with the filing of a registration statement under Sections 14(a) and (c) hereof, the Company shall: (i) prepare and file with the U.S. Securities and Exchange Commission (the "Commission") such amendments to such registration statement and supplements to the prospectus contained therein as may be necessary to keep such registration statement effective until holders of the Debentures can sell the shares underlying the Debentures without restriction under Rule 144(k) or any successor thereto under the Securities Act; (ii) furnish to the security holders participating in such registration and to the underwriters of the securities being registered such reasonable number of copies of the registration statement, preliminary prospectus, final prospectus and such other documents as such underwriters may reasonably request in order to facilitate the public offering of such securities; (iii) use its best efforts to register or qualify the securities covered by such registration statement under such state securities or blue sky laws of such jurisdictions as such participating holders may reasonably request in writing within thirty (30) days following the original filing of such registration statement, except that the Company shall not for any purpose be required to execute a general consent 17 to service of process or to qualify to do business as a foreign corporation in any jurisdiction wherein it is not so qualified; (iv) notify the security holders participating in such registration, promptly after it shall receive notice thereof, of the time when such registration statement has become effective or a supplement to any prospectus forming a part of such registration statement has been filed; (v) notify such holders promptly of any request by the Commission for the amending or supplementing of such registration statement or prospectus or for additional information; (vi) prepare and file with the Commission, promptly upon the request of any such holders, any amendments or supplements to such registration statement or prospectus which, in the opinion of counsel for such holders (and concurred in by counsel for the Company), is required under the Securities Act or the rules and regulations thereunder in connection with the distribution of the shares by such holder; (vii) prepare and promptly file with the Commission and promptly notify such holders of the filing of such amendment or supplement to such registration statement or prospectus as may be necessary to correct any statements or omissions if, at the time when a prospectus relating to such securities is required to be delivered under the Securities Act, any event shall have occurred as the result of which any such prospectus or any other prospectus as then in effect would include an untrue statement of a material fact or omit to state any material fact necessary to make the statements therein, in the light of the circumstances in which they were made, not misleading; (viii) advise such holders, promptly after it shall receive notice or obtain knowledge thereof, of the issuance of any stop order by the Commission suspending the effectiveness of such registration statement or the initiation or threatening of any proceeding for that purpose and promptly use its best efforts to prevent the issuance of any stop order or to obtain its withdrawal if such stop order should be issued; (ix) not file any amendment or supplement to such registration statement or prospectus to which a majority in interest of such holders shall have reasonably objected on the grounds that such amendment or supplement does not comply in all material respects with the requirements of the Securities Act or the rules and regulations thereunder, after having been furnished with a copy thereof at least five (5) business days prior to the filing thereof, unless in the opinion of counsel for the Company the filing of such amendment or supplement is reasonably necessary to protect the Company from any liabilities under any applicable federal or state law and such filing will not violate applicable law; and 18 (x) at the request of any such holder, furnish on the effective date of the registration statement and, if such registration includes an underwritten public offering, at the closing provided for in the underwriting agreement: (i) opinions, dated such respective dates, of the counsel representing the Company for the purposes of such registration, addressed to the underwriters, if any, and to the holder or holders making such request, covering such matters as such underwriters and holder or holders may reasonably request; and (ii) letters, dated such respective dates, from the independent certified public accountants of the Company, addressed to the underwriters, if any, and to the holder or holders making such request, covering such matters as such underwriters and holder or holders may reasonably request, in which letter such accountants shall state (without limiting the generality of the foregoing) that they are independent certified public accountants within the meaning of the Securities Act and that in the opinion of such accountants the financial statements and other financial data of the Company included in the registration statement or the prospectus or any amendment or supplement thereto comply in all material respects with the applicable accounting requirements of the Securities Act. (e) The Company hereby indemnifies the holder of this Debenture and of any common stock issued or issuable hereunder, its officers and directors, and any person who controls such Debenture holder or such holder of common stock within the meaning of Section 15 of the Securities Act, against all losses, claims, damages and liabilities caused by any untrue statement of a material fact contained in any registration statement, prospectus, notification or offering circular (and as amended or supplemented if the Company shall have furnished any amendments or supplements thereto) or any preliminary prospectus or caused by any omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading except insofar as such losses, claims, damages or liabilities are caused by any untrue statement or omission contained in information furnished in writing to the Company by such holder or such holder of Common Stock expressly for use therein, and each such holder by its acceptance hereof severally agrees that it will indemnify and hold harmless the Company and each of its officers who signs such registration statement and each of its directors and each person, if any, who controls the Company within the meaning of Section 15 of the Securities Act with respect to losses, claims, damages or liabilities which are caused by any untrue statement or omission contained in information furnished in writing to the Company by such holder expressly for use therein. TRO LEARNING, INC. By -------------------------------- Its Chief Financial Officer 19 TRO LEARNING, INC. SERIES 1997 10% SUBORDINATED CONVERTIBLE DEBENTURES DUE , 2004, CONVERSION ELECTION NOTICE --------- ************** The original Debenture and this completed Conversion Election Notice shall be delivered to the Issuer. The undersigned hereby elects to exercise the conversion right contained in the attached Debenture and to purchase $ in shares of Common Stock of the Issuer at the applicable per -------------- share Conversion Price, to be determined as defined in the Debenture. Dated: ---------, ---- ---------------------------------------------- Notice: The signature must correspond with the name(s) as it appears on this Debenture in every particular without any change whatsoever. (Address) ------------------------------------------------------------ ------------------------------------------------------------ (Tax identification number or Social Security Number) ------------------------------------------- Signature Guaranty: -------------------------------------------------- 20 EX-10.19 6 COMMON STOCK WARRANT THE SECURITIES REPRESENTED BY THIS WARRANT HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 OR APPLICABLE STATE SECURITIES LAWS, AND MAY NOT BE SOLD, ASSIGNED, OFFERED, PLEDGED OR OTHERWISE TRANSFERRED FOR VALUE EXCEPT PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER SUCH ACT AND SUCH LAWS COVERING SUCH SECURITIES OR UNLESS THE ISSUER RECEIVES AN OPINION OF COUNSEL ACCEPTABLE TO THE ISSUER STATING THAT SUCH SALE, ASSIGNMENT, PLEDGE OR TRANSFER IS EXEMPT FROM THE REQUIREMENTS OF SUCH ACT AND SUCH LAWS. COMMON STOCK WARRANT To Purchase ______ Shares of Common Stock of TRO Learning, Inc. ______________, 1997 THIS CERTIFIES THAT, for good and valuable consideration ________________ or registered assigns is entitled to subscribe for and purchase from TRO Learning, Inc. (the "Company") at any time after the date hereof to and including ___________, 2002, ________________________(_____) fully paid and nonassessable shares of the Company's Common Stock, $.01 par value, at a price of $ ______ per share (the "Exercise Price"):* This Warrant is subject to the following provisions, terms and conditions: 1. EXERCISE; TRANSFERABILITY. The rights represented by this Warrant may be exercised by the holder hereof, in whole or in part (but not as to a fractional share of Common Stock), by written notice of exercise delivered to the Company twenty (20) days prior to the intended date of exercise and by the surrender of this Warrant (properly endorsed if required) at the principal office of the Company and upon payment to it by certified or bank check or wire transfer of the purchase price for such shares. 2. ISSUANCE OF SHARES. The Company agrees that the shares purchased hereby shall be and are deemed to be issued to the record holder hereof as of the close of business on the date on which this Warrant shall have been exercised by surrender of the Warrant and payment for the shares. Subject to the provisions of the next succeeding paragraph, certificates for the shares of stock so purchased shall be delivered to the holder hereof within a reasonable time, not exceeding ten (10) days after the rights represented by this Warrant shall have been so exercised, and, unless this Warrant has expired, a new Warrant representing the number of shares, if any, with respect to _______________________________ * The Exercise Price shall be equal to the conversion price of the debentures. which this Warrant shall not then have been exercised shall also be delivered to the holder hereof within such time. Notwithstanding the foregoing, however, the Company shall not be required to deliver any certificate for shares of stock upon exercise of this Warrant, except in accordance with the provisions, and subject to the limitations, of paragraph 7 hereof. 3. COVENANTS OF COMPANY. The Company covenants and agrees that all shares which may be issued upon the exercise of the rights represented by this Warrant will, upon issuance, be duly authorized and issued, fully paid, nonassessable and free from all taxes, liens and charges with respect to the issue thereof, and, without limiting the generality of the foregoing, the Company covenants and agrees that it will from time to time take all such action as may be required to assure that the par value per share of Common Stock is at all times equal to or less than the then effective purchase price per share of the Common Stock issuable pursuant to this Warrant. The Company further covenants and agrees that, during the period within which the rights represented by this Warrant may be exercised, the Company will at all times have authorized, and reserved for the purpose of issue or transfer upon exercise of the subscription rights evidenced by this Warrant, a sufficient number of shares of its Common Stock to provide for the exercise of the rights represented by this Warrant. 4. ANTI-DILUTION ADJUSTMENTS. The above provisions are, however, subject to the following: (a) In case the Company shall at any time hereafter subdivide or combine the outstanding shares of Common Stock or declare a dividend payable in Common Stock, the Exercise Price of this Warrant in effect immediately prior to the subdivision, combination or record date for such dividend payable in Common Stock shall forthwith be proportionately increased, in the case of combination, or decreased, in the case of subdivision or dividend payable in Common Stock. Upon each adjustment of the Exercise Price, the holder of this Warrant shall thereafter be entitled to purchase, at the Exercise Price resulting from such adjustment, the number of shares obtained by multiplying the Exercise Price immediately prior to such adjustment by the number of shares purchasable pursuant hereto immediately prior to such adjustment and dividing the product thereof by the Exercise Price resulting from such adjustment. (b) No fractional shares of Common Stock are to be issued upon the exercise of this Warrant, but the Company shall pay a cash adjustment in respect of any fraction of a share which would otherwise be issuable in an amount equal to the same fraction of the market price per share of Common Stock on the day of exercise as determined in good faith by the Company. (c) If any capital reorganization or reclassification of the capital stock of the Company, or consolidation or merger of the Company with another corporation, or the sale of all or substantially all of its assets to another corporation shall be effected in such a way that holders of Common Stock shall be entitled to receive stock, securities or assets with respect to or in exchange for Common Stock, then, as a condition of such reorganization, reclassification, consolidation, 2 merger or sale, lawful and adequate provision shall be made whereby the holder hereof shall thereafter have the right to purchase and receive, upon the basis and upon the terms and conditions specified in this Warrant and in lieu of the shares of Common Stock of the Company immediately theretofore purchasable and receivable upon the exercise of the rights represented hereby, such stock, securities or assets as may be issued or payable with respect to or in exchange for a number of outstanding shares of such Common Stock equal to the number of shares of such stock immediately theretofore purchasable and receivable upon the exercise of the rights represented hereby had such reorganization, reclassification, consolidation, merger or sale not taken place, and in any such case appropriate provisions shall be made with respect to the rights and interest of the holder of this Warrant to the end that the provisions hereof (including without limitation provisions for adjustments of the Warrant purchase price and of the number of shares purchasable upon the exercise of this Warrant) shall thereafter be applicable, as nearly as may be, in relation to any shares of stock, securities or assets thereafter deliverable, as nearly as may be, in relation to any shares of stock, securities or assets thereafter deliverable upon the exercise hereof. The Company shall not effect any such consolidation, merger or sale unless prior to the consummation thereof the successor corporation (if other than the Company) resulting from such consolidation or merger, or the corporation purchasing such assets, shall assume by operation of law or written instrument, the obligation to deliver to such holder such shares of stock, securities or assets as, in accordance with the foregoing provisions, such holder may be entitled to purchase. Notice of such assumption shall be promptly mailed to the registered holder hereof at the least address of such holder appearing on the books of the Company. Notwithstanding any language to the contrary set forth in this paragraph 4(c), if an occurrence or event described herein shall take place in which the shareholders of the Company receive cash for their shares of Common Stock of the Company and a successor corporation or corporation purchasing assets shall receive the transaction then, at the election of the record holder hereof, such corporation shall be obligated to purchase this Warrant (or the unexercised part hereof) from the record holder without requiring the holder to exercise all or part of the Warrant. If such corporation refuses to so purchase this Warrant the the Company shall purchase the Warrant for cash. In either case the purchase price shall be the amount per share that shareholders of the outstanding Common Stock of the Company shall receive as a result of the transaction multiplied by the number of shares covered by the Warrant, minus the aggregate Exercise Price of the Warrant. Such purchase shall be closed within 60 days following the election of the holder to sell this Warrant. (d) (i) If the Company issues or sells any shares of Common Stock for a consideration per share less than the Exercise Price then in effect (other than dividends payable in shares of Common Stock), or issues any options, warrants, or other rights to purchase Common Stock at a consideration per share less than the Exercise Price then in effect, or issues securities convertible into Common Stock at a Exercise Price per share of less than the Exercise Price then in effect, then the Exercise Price in effect immediately prior to such issuance or sale shall be adjusted by multiplying the Exercise Price by a fraction, the numerator of which shall be an amount equal to the sum of (A) the aggregate 3 number of shares of Common Stock outstanding immediately prior to such issuance or sale multiplied by the applicable Exercise Price in effect immediately prior to such issuance or sale, and (B) the total consideration payable to the Company upon such issuance or sale of such Common Stock and/or such purchase rights or convertible securities, plus the consideration payable to the Company upon the exercise of such purchase rights or upon conversion of such convertible securities, and the denominator of which shall be an amount equal to the aggregate number of shares of Common Stock outstanding immediately after such issuance or sale plus the number of shares of Common Stock issuable upon the exercise of any purchase rights and/or upon the conversion of convertible securities issued in such issuance. If the Exercise Price is adjusted as the result of the issuance of any options, warrants or other purchase rights or upon the issuance of convertible securities, no further adjustments of such Exercise Price shall be made at the time of the exercise of such options, warrants or other purchase rights or convertible securities. If securities are issued for a consideration other than cash, the amount of the consideration other than cash received by the Company shall be deemed to be the fair value of such consideration as determined by the Board of Directors of the Issuer. (ii) Upon any adjustment of the Exercise Price pursuant to subsection 4(d)(i) hereof, the holder of this Warrant shall thereafter (until another such adjustment) be entitled to purchase, at the new Exercise Price, the number of shares of Common Stock determined by multiplying the number of shares as to which this Warrant was exercisable immediately prior to such adjustment by the Exercise Price which would have been in effect but for subsection 4(d) hereof and dividing the product so obtained by the Exercise Price as adjusted pursuant to subsection 4(d)(i) hereof. (iii) ISSUANCE OF CASH. In case of the issuance of additional shares of Common Stock entirely for cash, the consideration received by the Company therefor shall be deemed to be an amount of cash received by the Company for such shares, without deducting therefrom any commissions or other expenses paid or incurred by the Company for any underwriting of, or otherwise in connection with, the issuance of such shares of Common Stock. (iv) ISSUANCE FOR PROPERTY. In case of the issuance of additional shares of Common Stock for a consideration other than cash, or for a consideration a part of which shall be other than cash, the amount of per share consideration other than cash received by the Company for such shares shall be deemed to be the fair market value of such consideration as determined in good faith by the Board of Directors. (e) Upon any adjustment of the Warrant purchase price, then, and in each such case, the Company shall give written notice thereof, by first class mail, postage prepaid, addressed to the registered holder of this Warrant at the address of such holder as shown on the books of the Company, which notice shall state the Warrant purchase price resulting from such adjustment and the increase or decrease, if any, in the number of shares purchasable at such price upon the exercise 4 of this Warrant, setting forth in reasonable detail the method of calculation and the facts upon which such calculation is based. (f) If any event occurs as to which in the good faith determination of the Board of Directors of the Company the other provisions of this paragraph 4 are not strictly applicable or if strictly applicable would not fairly protect the purchase rights of the holder of this Warrant or of Common Stock in accordance with the essential intent and principles of such provisions, then the Board of Directors shall make an adjustment in the application of such provisions, in accordance with such essential intent and principles, so as to protect such purchase rights as aforesaid. 5. COMMON STOCK. As used herein, the term "Common Stock" shall mean and include the Company's presently authorized shares of Common Stock and shall also include any capital stock of any class of the Company hereafter authorized which shall not be limited to fixed sum or percentage in respect of the rights of the holders thereof to participate in dividends or in the distribution, dissolution or winding up of the Company; provided that the shares purchasable pursuant to this Warrant shall include shares designated as Common Stock of the Company on the date of original issue of this Warrant or, in the case of any reclassification of the outstanding shares thereof, the stock, securities or assets provided for in Section 4 above. 6. NO VOTING RIGHTS. This Warrant shall not entitle the holder hereof to any voting rights or other rights as a stockholder of the Company. 7. TRANSFER OF WARRANT OR RESALE OF SHARES. In the event the holder of this Warrant desires to transfer this Warrant, or any Common Stock issued upon the exercise hereof, the holder shall provide the Company with a written notice describing the manner of such transfer and an opinion of counsel (reasonably acceptable to the Company) that the proposed transfer may be effected without registration or qualification (under any Federal or State law), whereupon such holder shall be entitled to transfer this Warrant or to dispose of shares of Common Stock received upon the previous exercise hereof in accordance with the notice delivered by such holder to the Company; PROVIDED, that an appropriate legend may be endorsed on this Warrant or the certificates for such shares respecting restrictions upon transfer thereof necessary or advisable in the opinion of counsel satisfactory to the Company to prevent further transfers which would be in violation of Section 5 of the Securities Act of 1933 (the "Securities Act"); and PROVIDED, FURTHER, that the holder shall not be entitled to transfer this Warrant in part if such transfer would result in a Warrant for less than one thousand (1,000) shares (unless such amount represents the residual balance of the number of shares subject to this Warrant); and PROVIDED, FURTHER that the prospective transferee or purchaser shall execute such documents and make such representations, warranties and agreements as may be required solely to comply with the registration exemptions relied upon by the Company for the transfer or disposition of the Warrant or shares issuable upon exercise of the Warrant. If, in the opinion of either of the counsel referred to in this paragraph 7, the proposed transfer or disposition described in the written notice given pursuant to this paragraph 7 may not be effected without registration or qualification of this Warrant or the shares of Common Stock issued upon the exercise hereof, the Company shall promptly give written notice thereof to 5 the holder hereof, and such holder will limit its activities in respect to such proposed transfer or disposition as, in the opinion of both such counsel, are permitted by law. 8. REGISTRATION RIGHTS. (a) If the Company proposes to claim an exemption under Section 3(b) for a public offering of any of its securities or to register under the Securities Act (the "Securities Act") (except by a claim of exemption or registration statement on a form that does not permit the inclusion of shares by its security holders) any of its securities, it will give written notice to all registered holders of Warrants, and all registered holders of shares of Common Stock acquired upon the exercise of Warrants, of its intention to do so and, on the written request of any such registered holders given within twenty (20) days after receipt of any such notice (which request must be made within five (5) years from the date of this Warrant), the Company will use its best efforts to cause all such shares, the registered holders of which shall have requested the registration or qualification thereof, to be included in such notification or registration statement proposed to be filed by the Company; provided, however, that (i) the Company shall not be required to include any such shares of Common Stock in any such registration for any holder who is able to sell all shares of Common Stock owned by such holder (or issuable to such holder upon exercise of this Warrant), and which benefit from the registration rights granted hereunder, during the three-month period beginning on the date such notice is received by such holder, without compliance with the registration requirements of the Securities Act pursuant to Rule 144(k) (or any successor thereto) under the Securities Act; (ii) the Company shall only be required to include this Warrant in any such registration where (A) the Common Stock issuable upon the exercise of such Warrant is also included in such registration and (B) it is contemplated that such Warrant will be exercised and such Common Stock will be offered in connection with such registration; (iii) the Company shall not be required to give such notice with respect to, or to include such Warrant or Common Stock in, any such registration which is primarily (A) a registration of a stock option plan or other employee benefit plan or of securities issued or issuable pursuant to any such plan such as a registration on Form S-8, or (B) a registration of securities proposed to be issued in exchange for securities or assets of, or in connection with a merger or consolidation with, another corporation such as a registration on Form S-4; (iv) the Company shall not be required to include in any such registration any shares of Common Stock previously duly registered under the Securities Act; (v) the Company may, in its sole discretion, withdraw any such registration statement and abandon the proposed offering in which any such holder had requested to participate; (vi) if the offering to which the registration statement relates is to be distributed by or through an underwriter, each such holder shall agree, as a condition to the inclusion of such holder's securities in such registration, to sell the securities held by such holder through such underwriter on the same terms and conditions as the underwriter agrees to sell securities on behalf of the Company and not to sell, transfer, pledge, assign or otherwise dispose of any shares of Common Stock not sold by such holder in such offering for such period (up to ninety (90) days after the effective date of the registration statement) as may be required by the underwriter; and (vii) if the offering to which the registration statement relates is to be distributed by or through an underwriter and a greater number of securities is offered for participation in the proposed underwriting than, in the opinion of the Company's underwriter, can be accommodated without significantly adversely affecting the proposed underwriting, the amount of such securities otherwise to be included in the underwritten offering on behalf of all persons other than the Company may be reduced pro rata, in accordance with the number of shares 6 of Common Stock proposed to be sold by each such holder, or may be eliminated entirely from such underwritten public offering. The costs and expenses of such offering, including but not limited to legal fees, special audit fees, printing expenses, filing fees, fees and expenses relating to qualifications under state securities or blue sky laws and the premiums for insurance, if any, incurred by the Company in connection with any registration made pursuant to this Section 8(a) shall be borne entirely by the Company; PROVIDED, HOWEVER, that any holders participating in such registration shall bear their own underwriting discounts and commissions and the fees and expenses of their own counsel or accountants in connection with any such registration. (b) On two occasions only, at any time during the period commencing one (1) year from the date hereof and ending five (5) years from the date hereof, upon request by the holders of Warrants and/or the holders of shares issued upon the exercise of the Warrants who collectively (i) have the right to purchase at least 20% of the shares subject to the Warrants, (ii) hold directly at least 20% of the shares purchased hereunder, or (iii) have the right to purchase or hold directly an aggregate of at least 20% of the shares purchasable or purchased hereunder, the Company will promptly take all necessary steps to register the sale of such shares by the holders thereof, on Form S-3 under the Securities Act (and, upon the request of such holders,under Rule 415 thereunder) and such state laws as such holders may reasonably request; provided, however, that (i) the Company shall not be required to include any such shares of Common Stock in any such registration for any holder who is able to sell all shares of Common Stock owned by such holder (or issuable to such holder upon exercise of this Warrant), and which benefit from the registration rights granted hereunder, during the three-month period beginning on the date such registration is requested by such holder, without compliance with the registration requirements of the Securities Act pursuant to Rule 144(k) (or any successor thereto) under the Securities Act; (ii) the Company shall only be required to include this Warrant in any such registration where (A) the Common Stock issuable upon the exercise of such Warrant is also included in such registration and (B) it is contemplated that such Warrant will be exercised and such Common Stock will be offered in connection with such registration; (iii) the Company shall not be required to include in any such registration any shares of Common Stock duly registered under the Securities Act and registered or qualified under all applicable state securities or blue sky laws upon original issuance; and (iv) the Company may, on not more than one occasion, delay the filing of any registration statement requested pursuant to this Section 8(b) to a date not more than 90 days following the date of such request if in the reasonable opinion of the Company at the time of such request such a delay is necessary in order not to significantly adversely affect financing efforts then underway at the Company (in which case the expiration date of this Section 8(b) shall be extended by a period equal to the period of such delay). The costs and expenses directly related to any registration requested pursuant to this Section 8(b), including but not limited to legal fees of the Company's counsel, audit fees, printing expense, filing fees and fees and expenses relating to qualifications under state securities or blue sky laws incurred by the Company shall be borne entirely by the Company; provided, however, that the persons for whose account the securities covered by such registration are sold shall bear the underwriting commissions applicable to their shares and fees of their legal counsel. If the holders of Warrants and the holders of shares of Common Stock underlying the Warrants are the only persons whose shares are included in the registration pursuant to this Section 8(b), such holders shall bear the expense of inclusion of audited financial statements in the registration statement 7 which are not dated as of the Company's normal fiscal year or are not otherwise prepared by the Company for its own business purposes. The Company shall keep effective and maintain any registration, qualification, notification or approval specified in this Section 8(b) for such period as may be necessary for the holders of the Warrants and such Common Stock to dispose of such securities and, from time to time shall amend or supplement, at the holder's expense, the prospectus or offering circular used in connection therewith to the extent necessary in order to comply with applicable law. If, at the time any written request for registration is received by the Company pursuant to this Section 8(b), the Company has determined to proceed with the actual preparation and filing of a registration statement under the Securities Act in connection with the proposed offer and sale for cash of any of its securities by it or any of its security holders, such written request shall be deemed to have been given pursuant to Section 8(a) hereof rather than this Section 8(b), and the rights of the holders of Warrants and or shares issued upon the exercise of the Warrants covered by such written request shall be governed by Section 8(a) hereof. The managing underwriter of an offering registered pursuant to this Section 8(b), if any, shall be selected by the holders of a majority of the Warrants and/or shares issued upon the exercise of the Warrants for which registration has been requested and shall be reasonably acceptable to the Company. Without the written consent of the holders of a majority of the Warrants and/or shares issued upon the exercise of the Warrants for which registration has been requested pursuant to this Section 8(b), neither the Company nor any other holder of securities of the Company may include securities in such registration if in the good faith judgment of the managing underwriter of such public offering the inclusion of such securities would interfere with the successful marketing of the Warrants and/or shares issued upon the exercise of the Warrants or require the exclusion of any portion of the Warrants and/or shares issued upon the exercise of the Warrants to be registered. Subject to the preceding sentence, shares to be excluded from an underwritten public offering shall be selected in the manner provided in Section 8(a) hereof. (c) If and whenever the Company is required by the provisions of Sections 8(a) or 8(b) hereof to effect the registration of Warrants and/or shares issued upon the exercise of the Warrants under the Securities Act, the Company will: (i) Prepare and file with the U.S. Securities and Exchange Commission (the "Commission") a registration statement with respect to such securities, and use its best efforts to cause such registration statement to become and remain effective for such period as may be reasonably necessary to effect the sale of such securities; (ii) prepare and file with the Commission such amendments to such registration statement and supplements to the prospectus contained therein as may be necessary to keep such registration statement effective for such period as may be reasonably necessary to effect the sale of such securities; 8 (iii) furnish to the security holders participating in such registration and to the underwriters of the securities being registered such reasonable number of copies of the registration statement, preliminary prospectus, final prospectus and such other documents as such underwriters may reasonably request in order to facilitate the public offering of such securities; (iv) use its best efforts to register or qualify the securities covered by such registration statement under such state securities or blue sky laws of such jurisdictions as such participating holders may reasonably request in writing within 30 days following the original filing of such registration statement, except that the Company shall not for any purpose be required to execute a general consent to service of process or to qualify to do business as a foreign corporation in any jurisdiction wherein it is not so qualified; (v) notify the security holders participating in such registration, promptly after it shall receive notice thereof, of the time when such registration statement has become effective or a supplement to any prospectus forming a part of such registration statement has been filed; (vi) notify such holders promptly of any request by the Commission for the amending or supplementing of such registration statement or prospectus or for additional information; (vii) prepare and file with the Commission, promptly upon the request of any such holders, any amendments or supplements to such registration statement or prospectus which, in the opinion of counsel for such holders (and concurred in by counsel for the Company), is required under the Securities Act or the rules and regulations thereunder in connection with the distribution of the Warrants or shares by such holder; (viii) prepare and promptly file with the Commission and promptly notify such holders of the filing of such amendment or supplement to such registration statement or prospectus as may be necessary to correct any statements or omissions if, at the time when a prospectus relating to such securities is required to be delivered under the Securities Act, any event shall have occurred as the result of which any such prospectus or any other prospectus as then in effect would include an untrue statement of a material fact or omit to state any material fact necessary to make the statements therein, in the light of the circumstances in which they were made, not misleading; (ix) advise such holders, promptly after it shall receive notice or obtain knowledge thereof, of the issuance of any stop order by the Commission suspending the effectiveness of such registration statement or the initiation or threatening of any 9 proceeding for that purpose and promptly use its best efforts to prevent the issuance of any stop order or to obtain its withdrawal if such stop order should be issued; (x) not file any amendment or supplement to such registration statement or prospectus to which a majority in interest of such holders shall have reasonably objected on the grounds that such amendment or supplement does not comply in all material respects with the requirements of the Securities Act or the rules and regulations thereunder, after having been furnished with a copy thereof at least five business days prior to the filing thereof, unless in the opinion of counsel for the Company the filing of such amendment or supplement is reasonably necessary to protect the Company from any liabilities under any applicable federal or state law and such filing will not violate applicable law; and (xi) at the request of any such holder, furnish on the effective date of the registration statement and, if such registration includes an underwritten public offering, at the closing provided for in the underwriting agreement: (i) opinions, dated such respective dates, of the counsel representing the Company for the purposes of such registration, addressed to the underwriters, if any, and to the holder or holders making such request, covering such matters as such underwriters and holder or holders may reasonably request; and (ii) letters, dated such respective dates, from the independent certified public accountants of the Company, addressed to the underwriters, if any, and to the holder or holders making such request, covering such matters as such underwriters and holder or holders may reasonably request, in which letter such accountants shall state (without limiting the generality of the foregoing) that they are independent certified public accountants within the meaning of the Securities Act and that in the opinion of such accountants the financial statements and other financial data of the Company included in the registration statement or the prospectus or any amendment or supplement thereto comply in all material respects with the applicable accounting requirements of the Securities Act. (d) The Company hereby indemnifies the holder of this Warrant and of any Common Stock issued or issuable hereunder, its officers and directors, and any person who controls such Warrant holder or such holder of Common Stock within the meaning of Section 15 of the Securities Act, against all losses, claims, damages and liabilities caused by any untrue statement of a material fact contained in any registration statement, prospectus, notification or offering circular (and as amended or supplemented if the Company shall have furnished any amendments or supplements thereto) or any preliminary prospectus or caused by any omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading except insofar as such losses, claims, damages or liabilities are caused by any untrue statement or omission contained in information furnished in writing to the Company by such Warrant holder or such holder of Common Stock expressly for use therein, and each such holder by its acceptance hereof severally agrees that it will indemnify and hold harmless the Company and each of its officers who signs such registration statement and each of its directors and each person, 10 if any, who controls the Company within the meaning of Section 15 of the Securities Act of 1933 with respect to losses, claims, damages or liabilities which are caused by any untrue statement or omission contained in information furnished in writing to the Company by such holder expressly for use therein. 9. ADDITIONAL RIGHT TO CONVERT WARRANT. (a) Subject to the provisions of Section 7 hereof, the holder of this Warrant shall have the right to require the Company to convert this Warrant (the "Conversion Right") at any time prior to its expiration into shares of Common Stock as provided for in this Section 9. Upon exercise of the Conversion Right, the Company shall deliver to the holder (without payment by the holder of any Exercise Price) that number of shares of Common Stock equal to the quotient obtained by dividing (x) the value of the Warrant at the time the Conversion Right is exercised (determined by subtracting the aggregate Exercise Price for the Warrant Shares in effect immediately prior to the exercise of the Conversion Right from the aggregate Fair Market Value for the Warrant Shares immediately prior to the exercise of the Conversion Right) by (y) the Fair Market Value of one share of Common Stock immediately prior to the exercise of the Conversion Right. (b) The Conversion Right may be exercised by the holder, at any time or from time to time, prior to its expiration, on any business day by delivering a written notice in the form attached hereto (the "Conversion Notice") to the Company at the offices of the Company exercising the Conversion Right and specifying (i) the total number of shares of Stock the Warrantholder will purchase pursuant to such conversion and (ii) a place and date not less than one nor more than 20 business days from the date of the Conversion Notice for the closing of such purchase. (c) At any closing under Section 9(b) hereof, (i) the holder will surrender the Warrant and (ii) the Company will deliver to the holder a certificate or certificates for the number of shares of Common Stock issuable upon such conversion, together with cash, in lieu of any fraction of a share, and (iii) the Company will deliver to the holder a new warrant representing the number of shares, if any, with respect to which the warrant shall not have been exercised. (d) "FAIR MARKET VALUE" means, with respect to the Company's Common Stock, as of any date: (i) if the Common Stock is listed or admitted to unlisted trading privileges on any national securities exchange or is not so listed or admitted by transactions in the Common Stock are reported on the NASDAQ National Market System, the reported closing price of the Common Stock on such exchange or by the NASDAQ National Market System as of such date (or, if no shares were traded on such day, as of the next preceding day on which there was such a trade); or (ii) if the Common Stock is not so listed or admitted to unlisted trading privileges or reported on the NASDAQ National Market System, and bid and asked prices therefor 11 in the over-the-counter market are reported by the NASDAQ system or National Quotation Bureau, Inc. (or any comparable reporting service), the mean of the closing bid and asked prices as of such date, as so reported by the NASDAQ System, or, if not so reported thereon, as reported by National Quotation Bureau, Inc. (or such comparable reporting service); or (iii) if the Common Stock is not so listed or admitted to unlisted trading privileges, or reported on the NASDAQ National Market System, and such bid and asked prices are not so reported by the NASDAQ system or National Quotation Bureau, Inc. (or any comparable reporting service), such price as the Company's Board of Directors determines in good faith in the exercise of its reasonable discretion. IN WITNESS WHEREOF, TRO Learning, Inc. has caused this Warrant to be executed by its duly authorized officers and this Warrant to be dated as of ________, 1997. TRO LEARNING, INC. By --------------------------------------- , President -------------------- By --------------------------------------- , Secretary -------------------- 12 EXERCISE FORM (TO BE SIGNED ONLY UPON EXERCISE OF WARRANT) TRO LEARNING, INC. The undersigned, the holder of the within warrant, hereby irrevocably elects to exercise the purchase right represented by such warrant for, and to purchase thereunder _____________________ shares of the Common Stock, $.01 par value, of TRO Learning, Inc. and herewith makes payment of $____________ therefor, and requests that the certificates for such shares be issued in the name of _____________________________ and be delivered to _________________________ whose address is __________________________________. Dated: ------------- ------------------------------------------ (Signature must conform in all respects to the name of holder as specified on the face of the warrant) (Address) (City - State - Zip) 13 ASSIGNMENT FORM (TO BE SIGNED ONLY UPON TRANSFER OF THE WARRANT) For value received, the undersigned hereby sells, assigns and transfers unto ________________________________ the right represented by the within warrant to purchase ________________ of the shares of Common Stock, $.01 par value, of TRO Learning, Inc. to which the within warrant relates, and appoints ______________________________ attorney to transfer said right on the books of TRO Learning, Inc., with full power of substitution in the premises. Dated: ------------- ------------------------------------------ (Signature must conform in all respects to the name of holder as specified on the face of the warrant) (Address) (City - State - Zip) In the presence of: 14 CONVERSION NOTICE (TO BE SIGNED ONLY UPON EXERCISE OF CONVERSION RIGHT SET FORTH IN SECTION 9 OF THE WARRANT) TO TRO LEARNING, INC.: The undersigned, the holder of the within Warrant, hereby irrevocably elects to exercise the Conversion Right set forth in Section 9 of such Warrant and to purchase __________________________ shares of the Common Stock, $.01 par value, of TRO Learning, Inc. The closing of this conversion shall take place at the offices of the Company on ___________________. Certificates for the shares to be delivered at the closing shall be issued in the name of _________________________________, whose address is ______________ ____________________________. Dated: ------------- ------------------------------------------ (Signature must conform in all respects to the name of holder as specified on the face of the warrant) (Address) 15 EX-10.20 7 2ND AMEND-REVOLVING LOAN & SECURITY AGRMT SECOND AMENDMENT TO AMENDED AND RESTATED REVOLVING LOAN AND SECURITY AGREEMENT THIS SECOND AMENDMENT TO AMENDED AND RESTATED REVOLVING LOAN AND SECURITY AGREEMENT (together with all appendices, exhibits, schedules and attachments hereto, collectively this "AMENDMENT") is made and entered into as of December 8, 1997, by and between THE ROACH ORGANIZATION, INC., a Delaware corporation and TRO LEARNING (CANADA), INC., a corporation organized under the laws of Canada (collectively, the "BORROWER") and SANWA BUSINESS CREDIT CORPORATION, a Delaware corporation with its principal place of business at One South Wacker Drive, Chicago, Illinois 60606 ("LENDER"). RECITALS WHEREAS, Borrower and Lender entered into that certain Amended and Restated Revolving Loan and Security Agreement dated as of March 5, 1997 by and between Borrower and Lenders, as amended by that certain First Amendment to Amended and Restated Revolving Loan and Security Agreement dated as of March 18, 1997 (as so amended the "LOAN AGREEMENT") together with documents ancillary thereto, including, without limitation that certain Amended and Restated Guaranty of Payment and Performance dated as of March 5, 1997 made by TRO Learning, Inc. ("GUARANTOR") in favor of Lender; WHEREAS, there now exists Events of Default under the Loan Agreement due to Borrower's failure to comply with the financial covenants set forth in Sections 10.1(A) and (B) therein as of the last day of Borrower's 1997 fiscal fourth (4th) quarter (the "COVENANT DEFAULTS"); and WHEREAS, Borrower has requested that Lender waive the Covenant Defaults and further amend the Loan Agreement as provided herein and Guarantor has consented to such amendment.; NOW THEREFORE, for and in consideration of the premises, the mutual covenants hereinafter set forth and other good and valuable consideration, the receipt and sufficiency of which the parties hereby acknowledge, the parties hereby agree as follows: ARTICLE 1. RECITALS AND DEFINITIONS 1.1 Borrower represents and warrants that the foregoing recitals are true and correct and constitute an integral part of this Amendment and Borrower and Lender hereby agree that all of the recitals of this Amendment are hereby incorporated herein and made a part hereof. 1.2 Unless otherwise defined herein or the context otherwise requires, all capitalized terms used herein shall have the same meanings as ascribed to them in the Loan Agreement. ARTICLE 2. WAIVER OF DEFAULTS Subject to the compliance by Borrower with the terms contained herein, Lender hereby unconditionally waives each of the Covenant Defaults and all of Lender's remedies that would have been available to Lender had it not waived the Covenant Defaults. Lender's waiver of the Covenant Defaults shall in no way be deemed a waiver of forebearance of any other default, whether now existing or hereafter arising or any other Event of Default under the Loan Agreement or any related document or agreement executed in connection therewith (including, without limitation, future breaches by the Borrower of the operating profit covenant set forth in Section 10.1(B) of the Loan Agreement). ARTICLE 3. AMENDMENT OF THE LOAN AGREEMENT 3.1. Borrower and Lender agree that, as of the date hereof and for so long as any Liabilities remain outstanding, Borrower may no longer elect to use the LIBOR Rate with respect to any Revolving Loans and, as such, the Designated Rate for all Revolving Loans shall be the Base Rate. Accordingly, all provisions in the Loan Agreement permitting Borrower's election of a LIBOR Rate are hereby stricken. All other Loan Documents hereby are modified accordingly. 3.2. Section 1.24 of the Loan Agreement hereby is deleted and the following substituted therefor: 1.24 "DESIGNATED RATE" SHALL MEAN, WITH RESPECT TO (i) REVOLVING LOANS NOT CONSTITUTING ADVANCES MADE PURSUANT TO THE OVER ADVANCE FACILITY OR SUPPLEMENTAL OVER ADVANCES, THE BASE RATE: (ii) REVOLVING LOANS CONSTITUTING ADVANCES MADE PURSUANT TO THE OVER ADVANCE FACILITY, THE FLUCTUATING RATE OF INTEREST EQUAL TO THE PRIME RATE PLUS TWO PERCENT (2%); (iii) REVOLVING LOANS CONSTITUTING THE SUPPLEMENTAL OVER ADVANCES, A FIXED RATE OF INTEREST EQUAL TO FIFTEEN PERCENT (15%) PER ANNUM; AND (iv) THE TERM LOAN, THE TERM LOAN RATE. 3.3. The following subsection shall be added as new subsection 2.2(C) to the Loan Agreement: (C) SUBJECT TO THE PROVISIONS OF SECTION 2.2(A) AND IN ADDITION TO THE OVER ADVANCE FACILITY, LENDER SHALL MAKE AVAILABLE TO BORROWER A SUPPLEMENTAL OVER 2 ADVANCE FACILITY (THE "SUPPLEMENTAL OVER ADVANCE FACILITY," EACH SUPPLEMENTAL OVER ADVANCE BEING A "SUPPLEMENTAL OVER ADVANCE") AS FOLLOWS: ----------------------------------------------- AGGREGATE MONTH OVER ADVANCE AVAILABLE ----------------------------------------------- DECEMBER, 1997 $1,000,000 ----------------------------------------------- JANUARY, 1998 $1,500,000 ----------------------------------------------- FEBRUARY, 1998 $2,500,000 ----------------------------------------------- MARCH, 1998 $3,500,000 ----------------------------------------------- APRIL, 1998 $3,500,000 ----------------------------------------------- MAY, 1998 $1,500,000 ----------------------------------------------- JUNE, 1998 $2,000,000 ----------------------------------------------- JULY, 1998 $2,000,000 ----------------------------------------------- AUGUST, 1998 $1,000,000 ----------------------------------------------- BORROWER AGREES THAT THE AGGREGATE AMOUNT OF SUPPLEMENTAL OVER ADVANCES MADE BY LENDER SHALL NEVER BE GREATER THAN THE DOLLAR AMOUNT SET FORTH IN THE ABOVE TABLE DURING EACH RESPECTIVE MONTH. THERE SHALL OCCUR AN IMMEDIATE EVENT OF DEFAULT IN THE EVENT THAT THE AGGREGATE AMOUNT OF SUPPLEMENTAL OVER ADVANCES EVER EXCEEDS THE RESPECTIVE DOLLAR AMOUNT SET FORTH IN THE ABOVE TABLE. IN NO EVENT SHALL THE AGGREGATE AMOUNT OF SUPPLEMENTAL OVER ADVANCES EVER EXCEED $3,500,000. (D) ALL ADVANCES MADE PURSUANT TO THE OVER ADVANCE FACILITY AND/OR THE SUPPLEMENTAL OVER ADVANCE FACILITY SHALL CONSTITUTE REVOLVING LOANS HEREUNDER. 3.3 Subsection 2.5(A)(i)(a) is hereby deleted in its entirety and the following is substituted therefor: (i) (a) SO LONG AS NO EVENT OF DEFAULT HAS OCCURRED AND IS CONTINUING, BORROWER SHALL PAY TO LENDER INTEREST ON ALL REVOLVING LOANS AT THE APPLICABLE DESIGNATED RATE BASED ON THE OUTSTANDING PRINCIPAL BALANCE OF THE REVOLVING LOANS; PROVIDED, HOWEVER, THAT UPON THE OCCURRENCE AND DURING THE CONTINUATION OF AN EVENT OF DEFAULT, LENDER MAY, AT ITS OPTION, RAISE THE INTEREST RATE CHARGES ON THE LIABILITIES TO THE DEFAULT RATE WITH RESPECT TO THE LIABILITIES FROM THE DATE OF THE OCCURRENCE OF THE DEFAULT UNTIL THE EARLIER OF (1) THE DEFAULT IS CURED OR WAIVED BY LENDER OR (2) THE LIABILITIES ARE PAID IN FULL. NOTWITHSTANDING THE PROVISIONS OF THE PREVIOUS SENTENCES, BORROWER SHALL RECEIVE A TEN (10) DAY PERIOD (COMMENCING ON THE DATE OF THE OCCURRENCE OF SUCH APPLICATION OF THE DEFAULT) TO CURE ANY NON-MONETARY DEFAULT BEFORE LENDER SHALL HAVE THE RIGHT TO RAISE THE INTEREST RATE CHARGED ON THE LIABILITIES TO THE DEFAULT RATE. 3.4 Section 2.7 of the Agreement is hereby deleted in its entirety and the following is substituted therefor: 3 2.7 TERM OF AGREEMENT. THIS AGREEMENT SHALL BE IN EFFECT FROM THE ORIGINATION DATE, THROUGH AND INCLUDING AUGUST 31, 1998 (THE "TERM"), SUBJECT TO EARLIER TERMINATION BY LENDER UPON THE OCCURRENCE OF A DEFAULT AS PROVIDED IN SECTION 11.1. UPON THE EFFECTIVE DATE OF TERMINATION, ALL OF THE LIABILITIES SHALL BECOME IMMEDIATELY DUE AND PAYABLE WITHOUT PRESENTMENT, NOTICE OR DEMAND, EXCEPT AS OTHERWISE PROVIDED HEREIN. NOTWITHSTANDING ANY TERMINATION, UNTIL ALL OF THE LIABILITIES SHALL HAVE BEEN FULLY PAID AND SATISFIED, LENDER SHALL BE ENTITLED TO RETAIN ITS SECURITY INTEREST IN THE COLLATERAL, BORROWER SHALL CONTINUE TO REMIT COLLECTIONS OF ACCOUNTS AND PROCEEDS OF COLLATERAL AS PROVIDED IN THIS AGREEMENT, AND LENDER SHALL RETAIN ALL OF ITS RIGHTS AND REMEDIES UNDER THIS AGREEMENT. 3.5 Subsections 10.1(A) and (B) are hereby deleted in their entirety and the following are substituted therefor: (A) RESERVED (B) BORROWER SHALL MAINTAIN OPERATING PROFIT, MEASURED QUARTERLY ON THE LAST DAY OF EACH FISCAL QUARTER OF BORROWER, AS FOLLOWS: ------------------------------------------------ ------------------------------------------------ FIRST QUARTER: 1998 ($2,900,000) ------------------------------------------------ SECOND QUARTER: 1998 ($450,000) ------------------------------------------------ THIRD QUARTER: 1998 $2,550,000 ------------------------------------------------ FOURTH QUARTER: 1998 $4,850,000 ------------------------------------------------ ------------------------------------------------ ARTICLE 4. FEES 4.1. FACILITY FEE. Borrower shall pay to Lender a facility fee in the amount of One Hundred Five Thousand and no/100 Dollars ($105,000.00), which fee shall be deemed fully earned and nonrefundable at the execution by Borrower of this Amendment and shall be paid concurrently with Borrower's execution of this Amendment. Such fee shall compensate Lender for the reasonable costs associated with the origination, structuring, processing, approving and closing of the Supplemental Over Advance Facility and the transactions contemplated by this Amendment, including, but not limited to, administrative, out-of-pocket, general overhead and lost opportunity costs, but not including any expenses for which Borrower has agreed to 4 reimburse Agent pursuant to any other provisions of this Amendment or any other related agreement or document, such as, by way of example, reasonable legal fees and expenses. 4.2. AMENDMENT FEE. Borrower shall pay to Lender an amendment fee in the amount of Fifty Thousand and no/100 Dollars ($50,000.00), which fee shall be deemed fully earned and nonrefundable at the execution by Borrower of this Amendment and shall be paid concurrently therewith. Such fee shall compensate Lender for the reasonable costs associated with this Amendment and documentation of the Supplemental Over Advance Facility. Such fee shall be separate and distinct from the facility fee identified in Section 4.1 above. 4.3. SUCCESS FEES. Upon the occurrence of a "Sale Event" (defined herein), Borrower shall pay to Lender a sales success fee (a "SALES SUCCESS FEE") in an amount equal to the greater of (i) Two Hundred Thousand and no/100 Dollars ($200,000) and (ii) the product of (x) 100,000 MULTIPLIED BY (y) the excess, if any, of the "Market Price" (defined herein) of a share of Guarantor's common stock as of the date of any Sale Event over the Market Price of a share of common stock of Guarantor as of the date of this Amendment. For purposes of this Section, the term "Market Price" for any day shall mean the last sale price quoted in the NASDAQ system on such day the term "Sale Event" shall mean: (A) the closing of any sale of securities of Guarantor to a person if, after such sale, such person, other than the persons who were Shareholders of Guarantor immediately prior to the effectiveness of such transaction, would own or control securities which possess in the aggregate the ordinary voting power to elect a majority of the directors of Guarantor; or (B) the effectiveness of a merger, consolidation or similar transaction involving Guarantor if, after such transaction, a person in the aggregate, other than the persons who were shareholders of Guarantor immediately prior to the effectiveness of such transaction, would own or control securities which possess in the aggregate the ordinary voting power to elect a majority of the surviving entity's directors; or (C) the sale of all or substantially all of the assets of Guarantor to another entity or person. Borrower shall pay to Lender a non-sales success fee (a "NON-SALES SUCCESS FEE") in an amount equal to Two Hundred Thousand and No/100 Dollars ($200,000) in the event that a Sales Event has not occurred prior to the earlier of (a) August 31, 1998, or (b) the date on which Lender accelerates the Liabilities pursuant to Section 11.2 of the Loan Agreement. Each of the Sales Success Fee and the Non-sales Success Fee shall be a Liability secured by the Collateral and shall be payable within three days of its determination and shall be separate and distinct from the fees identified in Sections 4.1 and 4.2 above. ARTICLE 5. REPRESENTATIONS AND WARRANTIES 5.1. Borrower hereby makes the following representations and warranties to Lender, which representations and warranties shall constitute the continuing covenants of Borrower and shall remain true and correct until all of Borrower's liabilities are paid and performed in full: 5 a. The representations and warranties of Borrower contained in the Loan Agreement are true and correct on and as of the date hereof as though made on and as of such date: b. Except for the Covenant Defaults, no Event of Default or event which, but for the lapse of time or the giving of notice, or both, would constitute an Event of Default under the Loan Agreement has occurred and is continuing or would result from the execution and delivery of this Amendment; c. Borrower is in full compliance with all of the terms, conditions and all provisions of the Loan Agreement and the other agreements; d. This Amendment and all other agreements required hereunder to be executed by Borrower and delivered to Lender, have been duly authorized, executed and delivered on Borrower's behalf pursuant to all requisite corporate authority and this Amendment and each of the other agreements required hereunder to be executed and delivered by Borrower to Lender constitute the legal, valid and binding obligations of Borrower enforceable in accordance with their terms, except as enforceability thereof may be limited by bankruptcy, insolvency, reorganization, moratorium or other similar laws relating to creditors' rights; and e. Borrower hereby acknowledges and agrees that Borrower has no defense, offset or counterclaim to the payment of said principal, interest, fees or other liabilities and hereby waives and relinquishes any such defense, offset or counterclaim and Borrower hereby releases Lender and its respective officers, directors, agents, affiliates, successors and assigns from any claim, demand or cause of action, known or unknown, contingent or liquidated, which may exist or hereafter be known to exist relating to any matter prior to the date hereof. ARTICLE 6. RATIFICATION Except as expressly amended hereby, the Loan Agreement and all other agreements executed in connection therewith shall remain in full force and effect. The Loan Agreement, as amended hereby, and all rights and powers created thereby and thereunder or under such other agreements, are in all respects ratified and confirmed. From and after the date hereof, the Loan Agreement shall be deemed amended and modified as herein provided but, except as so amended and modified, the Loan Agreement shall continue in full force and effect and the Loan Agreement and this Amendment shall be read, taken and construed as one and the same instrument. On and after the date hereof, the term "Agreement" as used in the Loan Agreement and all other references to the Loan Agreement therein, in any other instrument, document or writing executed by Borrower or any guarantor or furnished to Lender by Borrower or any guarantor in connection therewith or herewith shall mean the Loan Agreement as amended by this Amendment. 6 ARTICLE 7. MISCELLANEOUS 7.1 This Amendment may be signed in any number of counterparts, each of which shall be deemed to be an original, but all of which together shall constitute one and the same instrument. 7.2 Except as otherwise specified herein, this Amendment embodies the entire agreement and understanding between Lender and Borrower with respect to the subject matter hereof and supersedes all prior agreements, consents and understandings relating to such subject matter. 7.3 The headings in this Amendment have been inserted for convenience only and shall be given no substantive meaning or significance in construing the terms of this Amendment. 7.4 This Amendment shall inure to the benefit of Lender and its successors and assigns and shall be binding upon and inure to the successors and assigns of Borrower, except that Borrower may not assign any of its rights in and to this Amendment. IN WITNESS WHEREOF, Borrower and Lender have caused this Second Amendment to Amended and Restated Revolving Loan and Security Agreement to be executed and delivered as of the day and year written above. THE ROACH ORGANIZATION, INC. By: /s/ Andrew N. Peterson ------------------------------------- Name: Andrew N. Peterson ----------------------------------- Title: Senior Vice President ---------------------------------- TRO LEARNING CANADA, INC. By: /s/ Andrew N. Peterson ------------------------------------- Name: Andrew N. Peterson ----------------------------------- Title: Senior Vice President ---------------------------------- 7 SANWA BUSINESS CREDIT CORPORATION By: ------------------------------------- Name: ----------------------------------- Title: ---------------------------------- REAFFIRMATION OF AMENDED AND RESTATED GUARANTY OF PAYMENT AND PERFORMANCE THE UNDERSIGNED PARTY, as guarantor ("GUARANTOR") of the above Borrowers pursuant to its Amended and Restated Guaranty of Payment and Performance (the "GUARANTY") identified below, acknowledges the terms and conditions set forth in this Second Amendment to Amended and Restated Revolving Loan and Security Agreement and ratifies and reaffirms its guaranty obligations as set forth in the Guaranty, as reaffirmed. To further induce Lender to enter into this Amendment, Guarantor hereby represents and warrants to Lender that it possesses no claims, defenses, offsets, recoupment or counterclaims of any kind or nature against or with respect to the enforcement of the Loan Agreement or any other Ancillary Agreement, each as amended by this Amendment, or to the Guaranty (collectively, the "CLAIMS"), nor does Guarantor have any knowledge of any facts that would or might give rise to any Claims. If facts now exist which would or could give rise to any Claim against or with respect to the enforcement of the Loan Agreement, any Ancillary Agreement, or the Guaranty, Guarantor hereby unconditionally, irrevocably and unequivocally waives and fully releases any and all such Claims as if such Claims where the subject of a lawsuit, adjudicated to final judgement from which no appeal could be taken and therein dismissed with prejudice. DATED: As of December 8, 1997 TRO LEARNING, INC. By: /s/ Andrew N. Peterson ------------------------------------- Name: Andrew N. Peterson ----------------------------------- Its: Senior Vice President ----------------------------------- (Amended and Restated Guaranty of Payment and Performance dated as of March 5, 1997) 8 THE ROACH ORGANIZATION, INC. AND TRO LEARNING (CANADA), INC. SUBSTITUTED PROMISSORY NOTE (TERM LOAN) $3,000,000.00 December 8, 1997 Chicago, Illinois FOR VALUE RECEIVED, THE ROACH ORGANIZATION, INC., a corporation organized under the laws of the State of Delaware, and TRO LEARNING (CANADA), INC., a corporation organized under the laws of Canada (collectively, "BORROWERS"), promise to pay to the order of SANWA BUSINESS CREDIT CORPORATION, its successors, designees or assigns ("LENDER"), at its offices at One South Wacker Drive, Chicago, Illinois, or at such other place or places as Lender may from time to time designate in writing, the principal sum of Three Million and no/100 Dollars ($3,000,000.00), payable as follows: payments of interest only for six (6) months, commencing on the first day of June, 1997 and continuing on the first day of each month thereafter through and including November 1, 1997, followed by consecutive monthly principal payments of $50,000 each plus accrued and unpaid interest commencing on the first day of December, 1997 and continuing on the first day of each month thereafter and ending on the Maturity Date (as hereinafter defined). The principal balance hereunder shall bear interest at the fixed rate of fifteen percent (15%) per annum. The entire principal balance of this Note then outstanding, plus all accrued and unpaid interest thereon, shall be due and payable on August 31, 1998 (the "MATURITY DATE"), or such earlier date on which said amount shall be due and payable on account of acceleration by Lender. Notwithstanding the foregoing amortization schedule, all outstanding principal, interest costs and expenses due hereunder shall be paid to Lender upon termination of the Loan Agreement referred to below. This Note was executed and delivered pursuant to that certain Second Amendment to Amended And Restated Revolving Loan and Security Agreement dated as the date hereof amending that certain Amended and Restated Loan and Security Agreement dated as of March 18, 1997 between Borrower and Lender (as amended, restated supplemented or modified from time to time, the "LOAN AGREEMENT"), to which reference is hereby made for a statement of the terms and conditions under which the loans evidenced hereby are to be repaid and for a statement of remedies upon the occurrence of an "EVENT OF DEFAULT" as defined therein. The Loan Agreement is incorporated herein by reference in its entirety. All terms which are capitalized and used herein (which are not otherwise specifically defined herein) and which are defined in the Loan Agreement shall be used in this Note as defined in the Loan Agreement. Borrowers further promise to pay to Lender interest on the outstanding unpaid principal amount hereof, as provided in the Loan Agreement, from the date hereof until payment in full hereof as determined in accordance with the Loan Agreement; provided, however, that, upon the occurrence and during the continuance of an Event of Default, Borrowers promise to pay to Lender interest on the unpaid principal amount hereof at to the Default Rate applicable to the Liabilities evidenced by this Note as determined in accordance with the Loan Agreement. Interest shall be computed on the basis of a 360-day year for the actual number of days elapsed. In no contingency or event whatsoever shall the rate of interest paid by Borrowers under this Note exceed the maximum amount permissible under any law which a court of competent jurisdiction shall, in a final determination, deem applicable hereto. In the event that such a court determines that Lender has received interest hereunder in excess of the maximum amount permitted by such law, (i) Lender shall apply such excess to any unpaid principal owed by Borrowers to Lender or, if the amount of such excess exceeds the unpaid balance of such principal, Lender shall promptly refund such excess interest to Borrowers and (ii) the provisions hereof shall be deemed amended to provide for such permissible rate. All sums paid, or agreed to be paid, by Borrowers which are, or hereafter may be construed to be, compensation for the use, forbearance or detention of money shall, to the extent permitted by applicable law, be amortized, prorated, spread and allocated throughout the full term of all such indebtedness until the indebtedness is paid in full. This Note is secured by (i) the Loan Agreement and certain Ancillary Agreements and Security Documents (as such terms are defined in the Loan Agreement), and (ii) all security interests, liens and encumbrances heretofore, now or hereafter granted to Lender by Borrowers. Except as otherwise provided in the Loan Agreement, Borrowers waive presentment, demand and protest, notice of protest, notice of presentment and all other notices and demands in connection with the enforcement of Lender's rights hereunder, except as specifically provided and called for by this Note or the Loan Agreement, and hereby consents to, and waives notice of the release, addition, or substitution, with or without consideration, of any collateral or of any person liable for payment of this Note. Any failure of Lender to exercise any right available hereunder or otherwise shall not be construed as a waiver of the right to exercise the same or as a waiver of any other right at any other time. Whenever in this Note reference is made to Lender or Borrowers, such reference shall be deemed to include, as applicable, a reference to their respective successors and assigns and, in the case of Lender, any Participants to which it has sold or assigned its commitment to make the Term Loan pursuant hereto. The provisions of this Note shall be binding upon and shall inure to the benefit of such successors, assigns and Participants. Borrowers' successors and assigns shall include without limitation, a receiver, trustee or debtor in possession of or for Borrowers. The loan evidenced hereby has been made, and this Note has been delivered, at Chicago, Illinois and shall be governed by and construed in accordance with the internal laws (as opposed to the conflicts of laws provisions) of the State of Illinois. BORROWERS HEREBY (i) WAIVE ANY RIGHT TO A TRIAL BY JURY IN ANY ACTION TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS NOTE, THE LOAN AGREEMENT, THE ANCILLARY AGREEMENTS OR THE SECURITY DOCUMENTS; (ii) IRREVOCABLY SUBMIT TO THE JURISDICTION OF ANY STATE OR FEDERAL COURT LOCATED IN COOK COUNTY, ILLINOIS, OVER ANY ACTION OR PROCEEDING TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATING TO THIS NOTE, THE LOAN AGREEMENT, THE ANCILLARY AGREEMENTS OR THE SECURITY DOCUMENTS; (iii) IRREVOCABLY WAIVE, TO THE FULLEST EXTENT BORROWERS MAY EFFECTIVELY DO SO, THE DEFENSE OF AN INCONVENIENT FORUM TO THE MAINTENANCE OF ANY SUCH ACTION 2 OR PROCEEDING; (iv) AGREE THAT A FINAL JUDGMENT IN ANY SUCH ACTION OR PROCEEDING SHALL BE CONCLUSIVE AND MAY BE ENFORCED IN ANY OTHER JURISDICTION BY SUIT ON THE JUDGMENT OR IN ANY OTHER MANNER PROVIDED BY LAW; AND (v) AGREE NOT TO INSTITUTE ANY LEGAL ACTION OR PROCEEDING AGAINST LENDER OR ANY OF LENDER'S DIRECTORS, OFFICERS, EMPLOYEES, AGENTS OR PROPERTY, CONCERNING ANY MATTER ARISING OUT OF OR RELATING TO THIS NOTE, THE LOAN AGREEMENT, THE ANCILLARY AGREEMENTS OR THE SECURITY DOCUMENTS IN ANY COURT OTHER THAN ONE LOCATED IN COOK COUNTY, ILLINOIS. NOTHING IN THIS PARAGRAPH SHALL AFFECT OR IMPAIR LENDER'S RIGHT TO SERVE LEGAL PROCESS IN ANY MANNER PERMITTED BY LAW OR LENDER'S RIGHT TO BRING ANY ACTION OR PROCEEDING AGAINST BORROWERS OR THEIR PROPERTY IN THE COURTS OF ANY OTHER JURISDICTION. Wherever possible each provision of this Note shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Note shall be prohibited by or invalid under such law, such provision shall be ineffective to the extent of such prohibition or provision invalidity, without invalidating the remainder of or the remaining such provisions of this Note. This Note amends and restates in its entirety and shall be substituted for that certain Promissory Note dated as of May 9, 1997 in the original principal amount of $3,000,000.00 made by Borrower to the order of Lender. This Note represents a continuation of obligations evidenced by said note and shall not be deemed to be a novation of the indebtedness evidenced thereby for a payment of such indebtedness and the making of a new loan by Lender. THE ROACH ORGANIZATION, INC. By: /s/ Andrew N. Peterson ------------------------ Name: Andrew N. Peterson ---------------------- Title: Senior Vice President --------------------- TRO LEARNING (CANADA), INC. By: /s/ Andrew N. Peterson ------------------------ Name: Andrew N. Peterson ---------------------- Title: Senior Vice President --------------------- 3 EX-11.01 8 COMPUTATION OF INCOME EXHIBIT 11.01 TRO LEARNING, INC. COMPUTATION OF INCOME (LOSS) PER SHARE AND EQUIVALENT SHARE OF COMMON STOCK (IN THOUSANDS, EXCEPT PER SHARE DATA) - -------------------------------------------------------------------------------- YEAR ENDED OCTOBER 31, ---------------------------- 1997 1996 1995 --------- -------- ------- AVERAGE SHARES OUTSTANDING: 1. Weighted average number of shares of common stock outstanding during the period....... 6,233 6,120 6,066 2. Net additional shares assuming stock options and warrants exercised........................... -- 523 214 --------- -------- ------- 3. Weighted average number of shares and equivalent shares of common stock outstanding during the period.............................. 6,233 6,643 6,280 --------- -------- ------- --------- -------- ------- INCOME (LOSS): 4. Net income (loss).............................. $(20,217) $ 982 $3,752 --------- -------- ------- --------- -------- ------- PER SHARE AMOUNTS: Net income (loss)(line 4/line 3).................. $ (3.24) $ 0.15 $ 0.60 --------- -------- ------- --------- -------- ------- EX-23.01 9 CONSENT OF INDEPENDENT ACCOUNTANTS CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the registration statement of TRO Learning, Inc., on Form S-8 (File No. 333-30963) of our report dated January 12, 1998, on our audits of the consolidated financial statements and financial statement schedule of TRO Learning, Inc., as of October 31, 1997 and 1996, and for the years ended October 31, 1997, 1996, and 1995, which report is included in this Annual Report on Form 10-K. COOPERS & LYBRAND, L.L.P. Chicago, Illinois January 12, 1998 EX-24.01 10 POWERS OF ATTORNEY Exhibit 24.01 POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11 day of December, 1997. /s/ William R. Roach - ----------------------------- William R. Roach POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11 day of December, 1997. /s/ Jack R. Borsting - ----------------------------- Jack R. Borsting POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11 day of December, 1997. /s/ Tony Christianson - ----------------------------- Tony Christianson POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11th day of December, 1997. /s/ John L. Krakauer - ----------------------------- John L. Krakauer POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11th day of December, 1997. /s/ Vernon B. Lewis, Jr. - ----------------------------- Vernon B. Lewis, Jr. POWER OF ATTORNEY The undersigned, a Director and/or Officer of TRO Learning, Inc., a Delaware corporation (the "Company"), does hereby constitute and appoint William R. Roach, Andrew N. Peterson and Mary Jo Murphy, his or her true and lawful attorneys and agents, each with full power and authority (acting alone and without the other) to execute in the name and on behalf of the undersigned as such Director and/or Officer, the Company's Annual Report on Form 10-K and related amendments, if any. The undersigned hereby grants unto such attorneys and agents, and each of them, full power of substitution and revocation in the premises and hereby ratifies and confirms all that such attorneys and agents may do or cause to be done by virtue of these presents. Dated this 11 day of December, 1997. /s/ John Patience - ----------------------------- John Patience EX-27 11 EXHIBIT 27 FDS
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF INCOME FOUND IN THE COMPANY'S FORM 10-K FOR THE YEAR ENDED OCTOBER 31, 1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 12-MOS OCT-31-1997 OCT-31-1997 537 0 18305 7020 990 20520 1271 4092 29088 24600 3050 0 0 64 683 29088 36959 36959 6475 6475 45323 7252 1317 (16156) 4061 (20217) 0 0 0 (20217) (3.24) (3.24)
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