UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2007.

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM                       TO

RENAISSANCE LEARNING, INC.

(Exact name of Registrant as specified in its charter)

Wisconsin (State or other jurisdiction of incorporation)		39-1559474 (I.R.S. Employer Identification No.)

2911 Peach Street
P.O. Box 8036
Wisconsin Rapids, Wisconsin
(Address of principal executive offices)

54495-8036
(Zip Code)

(715) 424-3636
(Registrant’s telephone number, including area code)

     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 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

     Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check One):

Large accelerated filer  o                     Accelerated filer  þ                     Non-accelerated filer  o

     Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

     Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Class		Outstanding at July 31, 2007
Common Stock, $0.01 par value		29,014,599

 

 

RENAISSANCE LEARNING, INC.

INDEX TO FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2007

				Page
PART I — FINANCIAL INFORMATION
Item 1.		Financial Statements
		Condensed Consolidated Balance Sheets at June 30, 2007 and December 31, 2006			1
		Condensed Consolidated Statements of Income for the Three Months and Six Months Ended June 30, 2007 and 2006			2
		Condensed Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2007 and 2006			3
		Notes to Condensed Consolidated Financial Statements			4
Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations			7
Item 3.		Quantitative and Qualitative Disclosures About Market Risk			11
Item 4.		Controls and Procedures			12
PART II — OTHER INFORMATION
Item 1A.		Risk Factors			12
Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds			12
Item 4.		Submission of Matters to a Vote of Security Holders			13
Item 6.		Exhibits			14
Certification
Certification
Certification
Certification

PART I — FINANCIAL INFORMATION

Item 1. Financial Statements

RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)

		June 30,				December 31,
		2007				2006
		(In Thousands, Except Share and Per
		Share Amounts)
ASSETS
Current assets:
Cash and cash equivalents		$	8,005			$	5,953
Investment securities			14,536				22,525
Accounts receivable, less allowance of $1,102 and $1,133, respectively			14,404				10,528
Inventories			5,268				4,108
Prepaid expenses			1,638				1,896
Income taxes receivable			2,231				1,291
Deferred tax asset			3,599				3,596
Other current assets			288				97
Total current assets			49,969				49,994
Investment securities			10,303				1,625
Property, plant and equipment, net			11,455				11,811
Deferred tax asset			264				—
Goodwill			47,022				46,973
Other intangibles, net			5,826				6,124
Capitalized software, net			490				727
Other non-current assets			85				457
Total assets		$	125,414			$	117,711
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	1,969			$	2,782
Deferred revenue			27,751				23,751
Payroll and employee benefits			5,062				4,750
Other current liabilities			3,457				3,429
Total current liabilities			38,239				34,712
Deferred revenue			1,895				885
Deferred compensation and other employee benefits			1,822				1,665
Deferred tax liability			—				878
Income taxes payable			4,193				—
Other noncurrent liabilities			208				—
Total liabilities			46,357				38,140
Shareholders’ equity:
Common stock, $.01 par value; shares authorized: 150,000,000; issued: 34,736,647 shares at June 30, 2007 and December 31, 2006			347				347
Additional paid-in capital			55,248				55,542
Retained earnings			124,611				124,290
Treasury stock, at cost: 5,766,518 shares at June 30, 2007; 5,733,130 shares at December 31, 2006			(99,393	)			(99,265	)
Unearned restricted stock compensation			(1,913	)			(1,417	)
Accumulated other comprehensive income			157				74
Total shareholders’ equity			79,057				79,571
Total liabilities and shareholders’ equity		$	125,414			$	117,711

See accompanying notes to condensed consolidated financial statements

RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(unaudited)

		Three Months								Six Months
		Ended June 30,								Ended June 30,
		2007				2006				2007				2006
		(In Thousands, Except Per Share Amounts)
Net sales:
Products		$	22,206			$	24,925			$	43,908			$	50,249
Services			4,971				4,394				9,957				10,188
Total net sales			27,177				29,319				53,865				60,437
Cost of sales:
Products			4,490				4,982				8,193				9,311
Services			2,443				1,875				5,310				4,681
Total cost of sales			6,933				6,857				13,503				13,992
Gross profit			20,244				22,462				40,362				46,445
Operating expenses:
Product development			4,636				4,305				9,702				8,487
Selling and marketing			8,835				7,389				18,240				16,744
General and administrative			3,612				3,692				7,455				8,898
Total operating expenses			17,083				15,386				35,397				34,129
Operating income			3,161				7,076				4,965				12,316
Other income, net			324				343				626				625
Income before taxes			3,485				7,419				5,591				12,941
Income taxes			1,307				2,745				2,096				4,788
Net income		$	2,178			$	4,674			$	3,495			$	8,153
Earnings per share:
Basic		$	0.08			$	0.16			$	0.12			$	0.27
Diluted		$	0.08			$	0.16			$	0.12			$	0.27
Cash dividends declared per share		$	0.07			$	0.05			$	0.12			$	0.10

See accompanying notes to condensed consolidated financial statements.

RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)

		For the Six Months Ended
		June 30,
		2007				2006
		(In Thousands)
Reconciliation of net income to net cash provided by operating activities:
Net income		$	3,495			$	8,153
Adjustments to arrive at cash provided by operating activities:
Depreciation and amortization			1,913				1,791
Amortization of investment discounts/premiums			26				134
Share-based compensation expense			485				223
Deferred income taxes			(1,145	)			1,862
Loss on sale of property			32				17
Excess tax benefits from share based payment arrangements			—				(393	)
Change in assets and liabilities, excluding the effects of acquisitions and divestitures:
Accounts receivable			(3,876	)			(1,904	)
Inventories			(1,160	)			814
Prepaid expenses			311				(142	)
Income taxes			2,982				(2,728	)
Accounts payable and other liabilities			(345	)			(189	)
Deferred revenue			5,010				(614	)
Other			129				(49	)
Net cash provided by operating activities			7,857				6,975
Cash flows from investing activities:
Purchase of property, plant and equipment			(1,591	)			(1,373	)
Purchase of investment securities			(20,729	)			(284	)
Maturities/sales of investment securities			20,250				11,359
Net proceeds from sale of property			566				—
Net cash (used) provided by investing activities			(1,504	)			9,702
Cash flows from financing activities:
Proceeds from exercise of stock options			8				16
Payment for cancellation of stock options			—				(993	)
Excess tax benefits from share based payment arrangements			—				393
Dividends paid			(2,902	)			(3,007	)
Purchase of treasury stock			(1,407	)			(14,933	)
Net cash used by financing activities			(4,301	)			(18,524	)
Net increase (decrease) in cash and cash equivalents			2,052				(1,847	)
Cash and cash equivalents, beginning of period			5,953				7,083
Cash and cash equivalents, end of period		$	8,005			$	5,236

See accompanying notes to condensed consolidated financial statements.

RENAISSANCE LEARNING, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. Consolidation

     The condensed consolidated financial statements include the financial results of Renaissance Learning, Inc. and our subsidiaries.

2. Basis of Presentation

     The condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) which are, in our opinion, necessary for a fair presentation of the results of the interim periods, and are presented on an unaudited basis. These financial statements should be read in conjunction with the financial information contained in our Annual Report on Form 10-K/A for the year ended December 31, 2006 (“2006 Annual Report”), which is on file with the U.S. Securities and Exchange Commission (the “SEC”).

     The results of operations for the three and six month periods ended June 30, 2007 and 2006 are not necessarily indicative of the results to be expected for the full year.

3. Earnings Per Common Share

     Basic earnings per common share is computed by dividing net income by the weighted average number of common shares outstanding during the period. Shares issued and shares reacquired during the period are weighted for the portion of the period they were outstanding. Diluted earnings per common share has been computed based on the weighted average number of common shares outstanding, increased by the number of additional common shares that would have been outstanding if the potentially dilutive stock option shares and restricted shares had been issued.

     The weighted average shares outstanding are as follows:

		Three Months Ended June 30,								Six Months Ended June 30,
		2007				2006				2007				2006
Basic weighted average shares outstanding			28,809,707				29,830,082				28,834,117				29,986,642
Dilutive effect of outstanding stock options			1,370				6,559				3,530				9,226
Dilutive effect of restricted shares			17,211				564				17,211				564
Diluted weighted average shares outstanding			28,828,288				29,837,205				28,854,858				29,996,432

     For the three months ended June 30, 2007 and 2006, there were 853,143 and 857,091 outstanding stock options, respectively, excluded from the calculation of diluted earnings per share because their effect was antidilutive. For the six months ended June 30, 2007 and 2006, there were 841,303 and 820,984 outstanding stock options, respectively, excluded from the calculation of diluted earnings per share because their effect was antidilutive. These options could be dilutive in the future.

4. Comprehensive Income

     For the quarters ended June 30, 2007 and 2006, comprehensive income was $2.2 million and $4.7 million, respectively. Total comprehensive income was $3.6 million and $8.2 million in the first six months of 2007 and 2006, respectively. Our comprehensive income includes net income and foreign currency translation adjustments.

5. Goodwill and Other Intangible Assets

     In accordance with Statement of Financial Accounting Standards No. 142, “Goodwill and Other Intangible Assets,” goodwill is not amortized and we are required to assess goodwill at least annually for impairment by applying a fair-value-based test. Other intangibles consist of customer relationships and tradename, which were acquired in connection with the purchase of AlphaSmart, Inc. (“AlphaSmart”). The tradename has an indeterminate life and therefore is not amortized. The customer relationships intangible is amortized over its useful life of ten years, on the declining balance method.

     For the three months ended June 30, 2007 and 2006, we recognized amortization expense of $149,000 and $182,000, respectively. For the six months ended June 30, 2007 and 2006, we recognized amortization expense of $298,000 and $364,000, respectively. Other intangibles consisted of the following (in thousands):

		June 30, 2007												December 31, 2006
		Gross				Accumulated								Gross				Accumulated
		Amount				Amortization				Net				Amount				Amortization				Net
Tradename		$	3,000			$	—			$	3,000			$	3,000			$	—			$	3,000
Customer relationships			4,150				1,324				2,826				4,150				1,026				3,124
		$	7,150			$	1,324			$	5,826			$	7,150			$	1,026			$	6,124

6. Share Based Compensation

     Options to purchase 5,291 shares of our common stock were granted during the six months ended June 30, 2007 and options to purchase 4,100 shares of our common stock were granted in the six months ended June 30, 2006. The exercise prices for all options are equal to the fair market value of our common stock on the date the options were granted.

     We also grant restricted shares or restricted share units to certain employees and our directors. For employees, restricted stock awards generally vest over a period of four years and for directors, upon termination of the individual’s tenure on our board. Restricted stock awards made to our directors are expensed when granted, and awards to employees are expensed ratably over the vesting period. We granted 78,815 shares of restricted stock during the six months ended June 30, 2007, and we granted 67,564 shares of restricted stock in the six months ended June 30, 2006. We value restricted stock awards at the closing market price of our common stock on the date of grant.

     As of June 30, 2007, the total unearned compensation related to share-based compensation awards, net of estimated forfeitures, was $1.8 million, which will be amortized as expense over the weighted average remaining period of 3.2 years. Total share-based compensation was $0.5 million for the six months ended June 30, 2007 and $0.3 million for the six months ended June 30, 2006.

     A summary of restricted stock activity for the six months ended June 30, 2007 is as follows:

						Weighted
						Average				Aggregate
						Value				Intrinsic
		Shares				Per Share				Value
		(In Thousands, except per share amount)
Balance at January 1, 2007			132			$	15.31			$	2,337
Granted			78				13.34
Vested			(13	)			12.33
Forfeitures			(7	)			14.79
Balance at June 30, 2007			190			$	14.72			$	2,498

7. Dividends

     On July 18, 2007, our Board of Directors declared a quarterly cash dividend, increasing it to $0.07 per share, payable September 4, 2007 to shareholders of record as of August 10, 2007.

8. Income Taxes

     Effective January 1, 2007, we adopted Financial Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in Income Taxes.” This interpretation provides specific guidance on how enterprises recognize and measure tax benefits associated with uncertain tax positions. As a result of the adoption of FIN 48, we recognized a $0.3 million increase in the liability for unrecognized tax benefits, which was accounted for as a reduction to the January 1, 2007 balance of retained earnings.

     We file income tax returns with the United States of America (“U.S.”), various U.S. states, and foreign jurisdictions. Our most significant jurisdictions are the U.S. and the State of Wisconsin. We are no longer subject to examinations by the U.S. for years before 2004. For Wisconsin and the remaining jurisdictions, with few exceptions, we are no longer subject to examinations by tax authorities for years before 2001. We are not currently under examination by the Internal Revenue Service. We do have various state tax audits and appeals in process at any given time. We do not anticipate any adjustments that would result in a material change to our financial position or results of operations.

     The total balance of our gross liability for unrecognized income tax benefits as of January 1, 2007 was $4.2 million. Included in this balance is $1.0 million related to enterprises acquired by us, for tax years prior to the acquisition. Because any adjustments to this portion of the liability would be charged to goodwill, such amounts would not affect our effective income tax rate, but could impact cash payments in future periods.

     We classify accrued interest and penalties related to unrecognized tax benefits as income tax expense in our consolidated statements of income. Included in our liability for uncertain income tax positions is $1.2 million of accrued interest and penalties.

9. Subsequent Event

     On July 18, 2007, our Board of Directors declared a special cash dividend of $0.75 per share, payable September 4, 2007 to shareholders of record as of August 10, 2007.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     Our results of operations can be affected by many factors including the general economic environment, state and federal budgetary decisions and the length and complexity of the sales cycle for school districts. National trends, federal legislation, Department of Education administrative policies and the way the foregoing align with our products and services can impact our business.

     Our strategy to transition to a subscription-based software sales model can significantly impact reported results. We believe that a business model based on subscription-based software offers long-term advantages over traditional perpetual licensing, including: (i) improved product utilization leading to higher levels of customer satisfaction, (ii) product adoption by more schools, (iii) more lifetime revenue per customer and (iv) a more predictable and reliable revenue stream. There are, however, near-term adverse impacts associated with this strategy. An increasing proportion of customer orders attributable to our subscription-based product and service offerings relative to customer orders of non-subscription-based offerings can result in a substantial portion of a period’s sales being initially deferred and recognized as revenue in future periods over the subscription period. Additionally, our customers who already own our products under perpetual license agreements may delay purchases of content and expansions while they are contemplating a transition to our newer subscription-based enterprise versions of our products. We believe that these factors influenced our results of operations for the three and six month periods ended June 30, 2007.

     Restructuring costs for the six months ended June 30, 2007 were $0.5 million, or $0.01 per share (after tax). The restructuring costs, which were recorded in the first quarter, were primarily related to a partial reorganization of our product development resources and resulted in a reduction in staff and assets related to the laptop line. Operating expenses for the six months ended June 30, 2006 include a restructuring charge of $1.9 million, or $0.04 per share (after tax), that was recorded in the first quarter of 2006. The restructuring charge was primarily comprised of separation expenses for former executives.

     The following table sets forth certain consolidated income statement data as a percentage of net sales, except that individual components of costs of sales and gross profit are shown as a percentage of their corresponding component of net sales:

		Three Months Ended June 30,								Six Months Ended June 30,
		2007				2006				2007				2006
Net Sales:
Products			81.7	%			85.0	%			81.5	%			83.1	%
Services			18.3	%			15.0	%			18.5	%			16.9	%
Total net sales			100.0	%			100.0	%			100.0	%			100.0	%
Cost of sales:
Products			20.2	%			20.0	%			18.7	%			18.5	%
Services			49.2	%			42.7	%			53.3	%			45.9	%
Total cost of sales			25.5	%			23.4	%			25.1	%			23.2	%
Gross profit:
Products			79.8	%			80.0	%			81.3	%			81.5	%
Services			50.8	%			57.3	%			46.7	%			54.1	%
Total gross profit			74.5	%			76.6	%			74.9	%			76.8	%
Operating expenses:
Product development			17.1	%			14.7	%			18.0	%			14.0	%
Selling and marketing			32.6	%			25.2	%			33.9	%			27.7	%
General and administrative			13.2	%			12.6	%			13.8	%			14.7	%
Total operating expenses			62.9	%			52.5	%			65.7	%			56.4	%
Operating income			11.6	%			24.1	%			9.2	%			20.4	%
Other, net			1.2	%			1.2	%			1.2	%			1.0	%
Income before taxes			12.8	%			25.3	%			10.4	%			21.4	%
Income taxes			4.8	%			9.4	%			3.9	%			7.9	%
Net Income			8.0	%			15.9	%			6.5	%			13.5	%

Three Months Ended June 30, 2007 and 2006

     Net Sales. Our net sales decreased by $2.1 million, or 7.3%, to $27.2 million in the second quarter of 2007 from $29.3 million in the second quarter of 2006. Deferred revenue increased by about $4.6 million in the second quarter this year, reaching a record level of $29.6 million, versus a $2.0 million increase in the prior year’s second quarter. Product revenues decreased by $2.7 million, or 10.9%, to $22.2 million in the second quarter of 2007 from $24.9 million in the second quarter of 2006. Product revenue decreased primarily due to lower laptop sales combined with the increase in deferred revenue resulting from new and renewal orders for subscription-based versions of our software.

     Service revenue increased by $0.6 million, or 13.1%, to $5.0 million in the second quarter of 2007 from $4.4 million in the second quarter of 2006. Service revenues increased primarily due to improvements in revenues for our technical services related to our Renaissance Place products.

     Cost of Sales. The cost of sales of products decreased by $0.5 million, or 9.9%, to $4.5 million in the second quarter of 2007 from $5.0 million in the second quarter of 2006. As a percentage of product sales, the cost of sales of products was essentially unchanged at 20.2% as compared to 20.0% in the second quarter of 2006.

     The cost of sales of services increased by $0.5 million, or 30.3%, to $2.4 million in the second quarter of 2007 from $1.9 million in the second quarter of 2006. As a percentage of sales of services, the cost of sales of services increased to 49.2% in the second quarter of 2007 from 42.7% in the second quarter of 2006 primarily due to personnel and infrastructure investments that were required for some of our remote and technical services and to price reductions on our professional development on-site service offering.

     Product Development. Product development expenses increased by $0.3 million, or 7.7%, to $4.6 million in the second quarter of 2007 from $4.3 million in the second quarter of 2006. Product development expenses were higher than a year ago primarily due to research costs related to our United Kingdom products. As a percentage of net sales, product development costs increased to 17.1% in the second quarter of 2007 from 14.7% in the second quarter of 2006.

     Selling and Marketing. Selling and marketing expenses of $8.8 million in the second quarter of 2007 were up by $1.4 million, or 19.6% from $7.4 million in the second quarter of 2006. As a percentage of net sales, selling and marketing expenses increased to 32.6% in the second quarter of 2007 from 25.2% in the second quarter of 2006. Higher selling and marketing expenses are due to the expansion of the sales force which was not fully underway a year ago.

     General and Administrative. General and administrative expenses were relatively unchanged at $3.6 million in the second quarter of 2007, as compared to $3.7 million in the second quarter of 2006. As a percentage of net sales, general and administrative expenses increased to 13.2% in the second quarter of 2007 from 12.6% in the second quarter of 2006.

     Operating Income. Operating income was $3.2 million, or 11.6% of net sales in the second quarter of 2007 compared to $7.1 million, or 24.1% of net sales in the second quarter of 2006. The decline was due to a reduction in net sales and increased operating expenses as explained in more detail above.

     Income Tax Expense. Income tax expense of $1.3 million was recorded in the second quarter of 2007 at an effective income tax rate of 37.5% of pre-tax income, compared to $2.7 million, or 37.0% of pre-tax income in the second quarter of 2006.

Six Months Ended June 30, 2007 and 2006

     Net Sales. Our net sales of $53.9 million in the first six months of 2007 were $6.5 million less than the $60.4 million in the first six months of 2006. Deferred revenue increased by $5.0 million in the first six months of 2007 versus a decrease of $0.6 million in the first six months of 2006. Product sales decreased by $6.3 million, or 12.6%, to $43.9 million in the first six months of 2007 from $50.2 million in the same period in 2006. Product revenue decreased primarily due to lower laptop sales combined with the increase in deferred revenue caused by new and renewal orders for subscription-based versions of our software.

     Service revenue of $10.0 million in the first six months of 2007 was relatively unchanged from $10.2 million in the first six months of 2006. Increased revenue from technical services was offset by not having a national conference in 2007.

     Cost of Sales. The cost of sales of products decreased by $1.1 million, or 12.0%, to $8.2 million in the first six months of 2007 from $9.3 million in the same period in 2006. As a percentage of product sales, the cost of sales of products was relatively unchanged at 18.7% in the first half of 2007 as compared to 18.5% in the first half of 2006.

     The cost of sales of services increased by $0.6 million, or 13.4%, to $5.3 million in the first six months of 2007 from $4.7 million in the same period in 2006. As a percentage of sales of services, the cost of sales of services increased to 53.3% in the first six months of 2007 from 45.9% in the first six months of 2006 primarily due to personnel and infrastructure investments that were required for some of our remote and technical services and to price reductions on our professional development on-site service offering.

     Product Development. Product development expenses were $9.7 million or 18.0% of sales in the first six months of 2007, compared to $8.5 million or 14.0% of sales for the first six months of 2006. Product development expenses were higher than a year ago primarily due to: (i) increases in personnel expenses, (ii) a one-time $0.5 million restructuring cost related to a partial reorganization of product development resources for the laptop line and (iii) research costs related to our United Kingdom products.

     Selling and Marketing. Selling and marketing expenses increased by $1.5 million, or 8.9%, to $18.2 million in the first half of 2007 from $16.7 million in the first half of 2006. As a percentage of net sales, selling and marketing expenses increased to 33.9% in the first six months of 2007 from 27.7% in the first six months of 2006. Higher selling and marketing expenses are due to the expansion of the sales force which was not fully underway until the third quarter of last year.

     General and Administrative. General and administrative expenses were $7.5 million, or 13.8% of sales in the first six months of 2007 compared to $8.9 million or 14.7% of sales in the first six months of 2006. General and administrative expenses decreased from the same period in 2006 due to a $1.9 million restructuring charge comprised of separation expenses for former executives recorded in the first quarter of 2006, offset by higher share based compensation expense and other increased personnel expenses in 2007.

     Operating Income. Operating income decreased by $7.3 million, or 59.7%, to $5.0 million in the first six months of 2007 from $12.3 million in the same period in 2006. As a percentage of net sales, operating income decreased to 9.2% in the first half of 2007 from 20.4% in the first half of 2006. The decline was due to a reduction in net sales and increased operating expenses as explained in more detail above.

     Income Tax Expense. Income tax expense of $2.1 million was recorded for the first six months of 2007 at an effective income tax rate of 37.5% of pre-tax income, compared to $4.8 million, or 37.0% of pre-tax income for the first six months of 2006.

Liquidity and Capital Resources

     As of June 30, 2007, our cash, cash equivalents and investment securities were $32.8 million, up $2.7 million from the December 31, 2006 total of $30.1 million. The increase was primarily due to the operating cash flow of $7.9 million, partially offset by $2.9 million in dividend payments, $1.6 million in capital additions and $1.4 million used to repurchase shares of stock in the first half of 2007.

     At June 30, 2007, we had a $15.0 million unsecured revolving line of credit with a bank which is available until May 31, 2008. The line of credit bears interest at either a floating rate based on the prime rate less 1.0%, or a fixed rate for a period of up to 90 days based on LIBOR plus 1.25%. The rate is at our option and is determined at the time of borrowing. We also have a $2.0 million unsecured revolving line of credit with a bank available until April 30, 2008. The line of credit bears interest based on the prime rate less 1.0%. As of June 30, 2007, the lines of credit had not been used.

     Our Board of Directors has approved a stock repurchase program under which we may purchase up to an aggregate total of 8 million shares. During the quarter and six months ended June 30, 2007, we repurchased approximately 102,000 and 115,000 shares, respectively, at a cost of $1.2 million and $1.4 million. As of June 30, 2007, the cumulative number of shares repurchased under this program was 7.8 million at an aggregate cost of $134.8 million. Depending on our stock valuation, cash availability and other factors, we may repurchase additional shares under this program.

     On July 18, 2007, we declared a special cash dividend of $0.75 per share and increased our quarterly cash dividend from $0.05 per share to $0.07 per share, both payable September 4, 2007 to shareholders of record as of August 10, 2007. We believe our strong levels of cash, cash equivalents and investment securities coupled with cash flow from operations will be sufficient to meet both our near-term and long-term working capital requirements for the foreseeable future.

Off-Balance Sheet Arrangements and Aggregate Contractual Obligations

     As of June 30, 2007, we did not have any off-balance sheet transactions, arrangements or obligations (including contingent obligations) that would have a material effect on our financial results.

     Operating Leases. We enter into operating leases, primarily for facilities that we occupy in order to carry out our business operations. We utilize operating leases for some of our facilities to gain flexibility and limit our exposure to many of the risks of owning commercial property, particularly with regard to international operations. These agreements have terms of one to seven years and cannot be terminated by either the lessor or us for reasons other than breach of the lease agreement. We do not anticipate early termination of any significant facility leases.

     Purchase Obligations. We enter into commitments with certain suppliers to purchase components for our hardware products, such as AlphaSmart computing devices, AccelScan scanners and the 2Know! Classroom Response System. The majority of these obligations will be settled within one year.

     As of June 30, 2007, our approximate contractual obligations for operating leases and purchase obligations were:

Contractual Obligations		Payments due by Period
						Less than												More than
(In thousands)		Total				1 year				1- 3 years				3-5 years				5 years
Operating lease obligations		$	6,359			$	1,113			$	3,854			$	1,055			$	337
Purchase obligations			5,594				5,462				132				—				—
Total		$	11,953			$	6,575			$	3,986			$	1,055			$	337

Critical Accounting Policies and Estimates

     The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make judgments, estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. There have been no significant changes to our critical accounting policies that were disclosed in our 2006 Annual Report.

Forward-Looking Statements

     In accordance with the Private Securities Litigation Reform Act of 1995, we can obtain a “safe-harbor” for forward-looking statements by identifying those statements and by accompanying those statements with cautionary statements which identify factors that could cause actual results to differ materially from those in the forward-looking statements. Accordingly, the foregoing “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the following “Quantitative and Qualitative Disclosures About Market Risk” may contain certain forward-looking statements relating to growth plans, projected sales, revenues, earnings and costs, and product development schedules and plans. Our actual results may differ materially from those contained in the forward-looking statements herein. Factors which may cause such a difference to occur include: (i) a delay or reduction in school purchases of our products due to state budgetary constraints resulting in a reduction in the funds available to schools and (ii) those factors identified in Item 1A, Risk Factors contained in our 2006 Annual Report, which factors are incorporated herein by reference to such report.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

     Interest Rate Risk. Our exposure to market interest rate risk consists of (i) the increase or decrease in the amount of interest income we can earn on our investment portfolio and (ii) the decrease or increase in value of our investment security portfolio if market interest rates increase or decrease, respectively. We anticipate that we will have sufficient liquidity to hold our investments to maturity; therefore, we do not expect to recognize any material losses or gains related to an increase or decrease in market interest rates.

     Market Risk. Our exposure to market risk relates to the quality of the holdings in our investment security portfolio. The fair market value of our investments is subject to increases or decreases in value resulting from the performance of the securities issuer, from upgrades or downgrades in the credit worthiness of the securities issuer and from changes in general market conditions.

     We seek to manage exposure to market risk by investing in accordance with our corporate investment policy as established by our Board of Directors. The goals of the policy are: (i) preservation of capital, (ii) provision of adequate liquidity to meet projected cash requirements, (iii) minimization of risk of principal loss through diversified short and medium term investments and (iv) maximization of yields in relationship to the guidelines, risk, market conditions and tax considerations.

     Our investment policy permits investments in obligations of the U.S. Treasury department and its agencies, money market funds and high quality investment-grade corporate and municipal interest-bearing obligations. The policy requires diversification to prevent excess concentration of issuer risk and requires the maintenance of minimum liquidity levels. The policy precludes investment in equity securities except for the specific purpose of funding the obligations related to our Supplemental Executive Retirement Plan. As of June 30, 2007, our investment securities had a market value of approximately $24.8 million and a carrying value of $24.8 million. Due to the type and duration of our investments, we do not expect to realize any material gains or losses related to market risk.

     Foreign Currency Exchange Rate Risk. The financial position and results of operations of our foreign subsidiaries are measured using local currency. Revenues and expenses of such subsidiaries have been translated into U.S. dollars using average exchange rates prevailing during the period. Assets and liabilities have been translated at the rates of exchange at the balance sheet date. Translation gains or losses are deferred as a separate component of shareholders’ equity. Aggregate foreign currency transaction gains and losses are included in determining net income. As such, our operating results are affected by fluctuations in the value of the U.S. dollar compared to the British pound, Canadian dollar, Euro and Indian Rupee. At this time, foreign exchange rate risk is not significant due to the relative size of our foreign operations and revenues derived from sales in foreign countries.

Item 4. Controls and Procedures

     We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate, to allow timely decisions regarding required disclosures. In designing and evaluating our disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives and management was necessarily required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

     As of June 30, 2007, an evaluation was performed under the supervision and with the participation of management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on that evaluation, management, including the CEO and CFO, concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC.

     There has been no change in our internal control over financial reporting that has occurred during the quarter ended June 30, 2007, that has materially affected, or is reasonably likely to materially affect, such internal control over financial reporting.

Part II — OTHER INFORMATION

Item 1A. Risk Factors

     There have been no material changes from risk factors previously disclosed in our 2006 Annual Report in response to Item 1A to Part I of Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

     On April 17, 2002, our Board of Directors authorized the repurchase of up to 5,000,000 shares of our common stock under our stock repurchase program. The repurchase of up to an additional 3,000,000 shares was authorized by our Board of Directors on February 9, 2005. No time limit was placed on the duration of the stock repurchase program, nor is there any dollar limit on the program. Repurchased shares become treasury shares and will be used for stock-based employee benefit plans, acquisitions and for other general corporate purposes.

     The following table shows information relating to the repurchase of shares of our common stock during the three months ended June 30, 2007:

Total

Maximum

Number

Number

of Shares

of Shares

Purchased

that May

as Part of

Yet Be

Total

Average

Publicly

Purchased

Number

Price

Announced

Under the

of Shares

Paid per

Plans or

Plans or

Period

Purchased

Share

Programs

Programs

April 1-30, 2007

13,066

(1)

$

12.24

8,066

367,850

May 1-31, 2007

62,760

(2)

11.84

57,795

310,055

June 1-30, 2007

36,027

11.64

36,027

274,028

Total

111,853

$

11.82

101,888

Item 4. Submission of Matters to a Vote of Security Holders

(a)		On April 18, 2007, the Company held its Annual Meeting of Shareholders.
(b)		Not applicable.
(c)		Set forth below is a description of the matter voted upon at the Annual Meeting of Shareholders and the number of votes cast for and against/withheld, as to such matter.

1.

Seven directors were elected to serve until the 2008 Annual Meeting of Shareholders and until their successors are elected and qualified. The results of this proposal are as follows:

						Against/
		For				Withheld
(1) Judith A. Paul			28,542,395				23,432
(2) Terrance D. Paul			28,542,355				23,472
(3) John H. Grunewald			28,508,420				57,407
(4) Gordon H. Gunnlaugsson			28,527,703				38,124
(5) Harold E. Jordan			28,529,018				36,809
(6) Addison L. Piper			28,546,133				19,694
(7) Judith A. Ryan			28,526,396				39,431

(d)

Not applicable.

Item 6. Exhibits

Exhibits.

Exhibit No.		Description
31.1		Section 302 certification by Terrance D. Paul
31.2		Section 302 certification by Mary T. Minch
32.1		Section 906 certification by Terrance D. Paul
32.2		Section 906 certification by Mary T. Minch

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Index to Exhibits

Exhibit No.		Description
31.1		Section 302 certification by Terrance D. Paul
31.2		Section 302 certification by Mary T. Minch
32.1		Section 906 certification by Terrance D. Paul
32.2		Section 906 certification by Mary T. Minch