UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549





FORM
10-Q





x
            Quarterly
      Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of
      1934





For the
quarterly period ended November 30, 2009





 ̈
            Transition
      Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of
      1934





For the
transition period from _______________ to _______________.





Commission
File No. 000-50916





Peoples
      Educational Holdings, Inc.(Exact
      name of registrant as specified in its
charter)





Delaware
              
              41-1368898(State
      or other jurisdiction of
                incorporation
      or organization)
              
              (I.R.S.
      Employer Identification No.)





299
      Market Street, Saddle Brook, NJ  07663(Address
      of principal executive offices) (Zip Code)(201)
      712-0090(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 x          No
 ̈





Indicate
by check mark whether the registrant has submitted electronically and posted on
its Website, if any, every Interactive Data File required to be submitted and
posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or
for such shorter period that the registrant was required to submit and post such
file).          Yes   ̈          No
 ̈





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.  See definition of “large accelerated
filer,”  “accelerated filer” and “smaller reporting company” in Rule
12b-2 of the Exchange Act. (Check one):





Large
      accelerated filer  ̈
            Accelerated
      filer  ̈Non-accelerated
      filer  ̈ (Do
      not check if a smaller reporting company)
            Smaller
      reporting company x





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





Indicate
the number of shares outstanding of each of the Issuer's classes of common
stock, as of the latest practical date: 4,462,202 shares of Common Stock (par
value $0.02 per share) outstanding on December 31, 2009.










TABLE OF
CONTENTS





PagePART
      I.
                                                  FINANCIAL
      INFORMATIONItem
      1:
                                                  Financial
      Statements:Condensed
      Consolidated Balance Sheets as of November 30, 2009 (Unaudited) and May
      31, 2009 and November 30, 2008 (Unaudited)
                                                  3Condensed
      Consolidated Statements of Operations for the Three and Six Months Ended
      November 30, 2009 and 2008 (Unaudited)
                                                  4Condensed
      Consolidated Statements of Cash Flows for the Six Months Ended November
      30, 2009 and 2008 (Unaudited)
                                                  5Notes
      to Condensed Consolidated Financial Statements (Unaudited)
                                                  6Item
      2:
                                                  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                                                  10Item
      4:
                                                  Controls
      and Procedures
                                                  18PART
      II.
                                                  OTHER
      INFORMATIONItem
      1:
                                                  Legal
      Proceedings
                                                  19Item
      2:
                                                  Unregistered
      Sales of Equity Securities and Use of Proceeds
                                                  19Item
      3:
                                                  Defaults
      Upon Senior Securities
                                                  19Item
      4:
                                                  Submission
      of Matters to a Vote of Security Holders
                                                  19Item
      5:
                                                  Other
      Information
                                                  19Item
      6:
                                                  Exhibits
                                                  19SIGNATURES
                                                  19EXHIBITS
                                                  20


2


Part I


Financial
Information





Item
1. Financial Statements





PEOPLES EDUCATIONAL HOLDINGS, INC. AND
SUBSIDIARY


CONDENSED CONSOLIDATED BALANCE
SHEETS





UNAUDITED
                                                                
                                                                
                                                                
                                                                
                                                                
                                                                UNAUDITED(In Thousands-Except Share
      Data)
                                                                
                                                                November 30,
      2009
                                                                
                                                                
                                                                May 31,
2009
                                                                
                                                                
                                                                November 30,
      2008ASSETSCurrent
    AssetsCash and Cash
      Equivalents
                                                                
                                                                $
                                                                118
                                                                
                                                                
                                                                $
                                                                42
                                                                
                                                                
                                                                $
                                                                36Accounts Receivable, Net of
      Allowances forDoubtful Accounts and
      Returns
                                                                
                                                                
                                                                2,203
                                                                
                                                                
                                                                
                                                                2,842
                                                                
                                                                
                                                                
                                                                2,816Inventory,
    Net
                                                                
                                                                
                                                                4,047
                                                                
                                                                
                                                                
                                                                4,219
                                                                
                                                                
                                                                
                                                                4,009Prepaid Expenses and
      Other
                                                                
                                                                
                                                                347
                                                                
                                                                
                                                                
                                                                323
                                                                
                                                                
                                                                
                                                                401Prepaid Marketing
      Expenses
                                                                
                                                                
                                                                617
                                                                
                                                                
                                                                
                                                                862
                                                                
                                                                
                                                                
                                                                1,096Deferred Income
      Taxes
                                                                
                                                                
                                                                708
                                                                
                                                                
                                                                
                                                                1,092
                                                                
                                                                
                                                                
                                                                661Total Current
      Assets
                                                                
                                                                
                                                                8,040
                                                                
                                                                
                                                                
                                                                9,380
                                                                
                                                                
                                                                
                                                                9,019Equipment - At Cost, Less
      Accumulated Depreciationof $2,358, $2,241 and $2,142,
      respectively
                                                                
                                                                
                                                                319
                                                                
                                                                
                                                                
                                                                387
                                                                
                                                                
                                                                
                                                                511Other
AssetsDeferred Prepublication Costs,
      Net
                                                                
                                                                
                                                                12,233
                                                                
                                                                
                                                                
                                                                13,466
                                                                
                                                                
                                                                
                                                                14,588Deferred Income
      Taxes
                                                                
                                                                
                                                                700
                                                                
                                                                
                                                                
                                                                1,006
                                                                
                                                                
                                                                
                                                                1,250Trademarks,
    Net
                                                                
                                                                
                                                                188
                                                                
                                                                
                                                                
                                                                170
                                                                
                                                                
                                                                
                                                                192Prepaid Expenses and
      Other
                                                                
                                                                
                                                                224
                                                                
                                                                
                                                                
                                                                273
                                                                
                                                                
                                                                
                                                                272Prepaid Marketing
      Expenses
                                                                
                                                                
                                                                -
                                                                
                                                                
                                                                
                                                                -
                                                                
                                                                
                                                                
                                                                247Total Other
      Assets
                                                                
                                                                
                                                                13,345
                                                                
                                                                
                                                                
                                                                14,915
                                                                
                                                                
                                                                
                                                                16,549Total
Assets
                                                                
                                                                $
                                                                21,704
                                                                
                                                                
                                                                $
                                                                24,682
                                                                
                                                                
                                                                $
                                                                26,079LIABILITIES AND STOCKHOLDERS'
      EQUITYCurrent
      LiabilitiesCurrent Maturities of Long Term
      Obligations
                                                                
                                                                $
                                                                2,012
                                                                
                                                                
                                                                $
                                                                2,034
                                                                
                                                                
                                                                $
                                                                2,044Accounts
      Payable
                                                                
                                                                
                                                                5,392
                                                                
                                                                
                                                                
                                                                3,998
                                                                
                                                                
                                                                
                                                                6,980Accrued
      Compensation
                                                                
                                                                
                                                                155
                                                                
                                                                
                                                                
                                                                170
                                                                
                                                                
                                                                
                                                                155Other Accrued
      Expenses
                                                                
                                                                
                                                                557
                                                                
                                                                
                                                                
                                                                855
                                                                
                                                                
                                                                
                                                                276Deferred
      Revenue
                                                                
                                                                
                                                                375
                                                                
                                                                
                                                                
                                                                278
                                                                
                                                                
                                                                
                                                                486Total Current
      Liabilities
                                                                
                                                                
                                                                8,491
                                                                
                                                                
                                                                
                                                                7,335
                                                                
                                                                
                                                                
                                                                9,941Long Term Obligations, Less
      Current Maturities
                                                                
                                                                
                                                                6,528
                                                                
                                                                
                                                                
                                                                11,854
                                                                
                                                                
                                                                
                                                                8,458Total
      Liabilities
                                                                
                                                                
                                                                15,019
                                                                
                                                                
                                                                
                                                                19,189
                                                                
                                                                
                                                                
                                                                18,399Commitments and
      ContingenciesStockholders'
      EquityPreferred Stock, authorized
      1,500,000 shares; none issuedCommon Stock, $0.02 par value;
      authorized 8,500,000 shares; issued:4,478,434, 4,478,434 and 4,470,734
      shares, respectively
                                                                
                                                                
                                                                90
                                                                
                                                                
                                                                
                                                                90
                                                                
                                                                
                                                                
                                                                89Additional Paid In
      Capital
                                                                
                                                                
                                                                8,094
                                                                
                                                                
                                                                
                                                                8,060
                                                                
                                                                
                                                                
                                                                8,034Accumulated
      Deficit
                                                                
                                                                
                                                                (1,435
                                                                )
                                                                
                                                                
                                                                (2,593
                                                                )
                                                                
                                                                
                                                                (379
                                                                )Treasury Stock - 16,232 shares, at
      cost
                                                                
                                                                
                                                                (64
                                                                )
                                                                
                                                                
                                                                (64
                                                                )
                                                                
                                                                
                                                                (64
                                                                )Total Stockholders'
      Equity
                                                                
                                                                
                                                                6,685
                                                                
                                                                
                                                                
                                                                5,493
                                                                
                                                                
                                                                
                                                                7,680Total Liabilities and
      Stockholders' Equity
                                                                
                                                                $
                                                                21,704
                                                                
                                                                
                                                                $
                                                                24,682
                                                                
                                                                
                                                                $
                                                                26,079





See Notes to Condensed Consolidated
Financial Statements.


3





PEOPLES EDUCATIONAL HOLDINGS, INC. AND
SUBSIDIARY


CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS (UNAUDITED)





(In Thousands, Except Per Share
Data)





Three Months
      Ended
                      
                      
                      Six Months
      EndedNovember
30,
                      
                      
                      November
30,2009
                      
                      
                      2008
                      
                      
                      2009
                      
                      
                      2008Revenue,
Net
                      
                      $
                      7,305
                      
                      
                      $
                      8,279
                      
                      
                      $
                      22,054
                      
                      
                      $
                      24,276Cost of
    RevenueDirect
Costs
                      
                      
                      2,727
                      
                      
                      
                      3,102
                      
                      
                      
                      10,141
                      
                      
                      
                      11,509Prepublication Cost
      Amortization
                      
                      
                      1,328
                      
                      
                      
                      1,694
                      
                      
                      
                      2,728
                      
                      
                      
                      3,352Total
                      
                      
                      4,055
                      
                      
                      
                      4,796
                      
                      
                      
                      12,869
                      
                      
                      
                      14,861Gross
Profit
                      
                      
                      3,250
                      
                      
                      
                      3,483
                      
                      
                      
                      9,185
                      
                      
                      
                      9,415Selling, General and
      Administrative Expenses
                      
                      
                      3,640
                      
                      
                      
                      3,629
                      
                      
                      
                      7,150
                      
                      
                      
                      7,219Income (Loss) from
      Operations
                      
                      
                      (390
                      )
                      
                      
                      (146
                      )
                      
                      
                      2,035
                      
                      
                      
                      2,196Other Expenses,
      Net
                      
                      
                      3
                      
                      
                      
                      9
                      
                      
                      
                      14
                      
                      
                      
                      17Interest
      Expense
                      
                      
                      65
                      
                      
                      
                      208
                      
                      
                      
                      160
                      
                      
                      
                      437Income (Loss) Before Income
      Taxes
                      
                      
                      (458
                      )
                      
                      
                      (363
                      )
                      
                      
                      1,861
                      
                      
                      
                      1,742Income Tax Expense
      (Benefit)
                      
                      
                      (155
                      )
                      
                      
                      (143
                      )
                      
                      
                      703
                      
                      
                      
                      639Net Income
      (Loss)
                      
                      $
                      (303
                      )
                      
                      $
                      (220
                      )
                      
                      $
                      1,158
                      
                      
                      $
                      1,103Net Income (Loss) per Common
      Share:Basic
                      
                      $
                      (0.07
                      )
                      
                      $
                      (0.05
                      )
                      
                      $
                      0.26
                      
                      
                      $
                      0.25Diluted
                      
                      $
                      (0.07
                      )
                      
                      $
                      (0.05
                      )
                      
                      $
                      0.26
                      
                      
                      $
                      0.25Weighted-average Number
      of Common Shares
      Outstanding:Basic
                      
                      
                      4,462
                      
                      
                      
                      4,455
                      
                      
                      
                      4,462
                      
                      
                      
                      4,455Diluted
                      
                      
                      4,462
                      
                      
                      
                      4,455
                      
                      
                      
                      4,465
                      
                      
                      
                      4,455





See Notes to Condensed
Consolidated Financial Statements.


4





PEOPLES EDUCATIONAL HOLDINGS, INC. AND
SUBSIDIARY


CONDENSED CONSOLIDATED STATEMENTS OF
CASH FLOWS (UNAUDITED)





(In
    Thousands)
                
                Six Months
      EndedNovember
30,2009
                
                
                2008Cash Flows From Operating
      ActivitiesNet Income
                
                $
                1,158
                
                
                $
                1,103Adjustments to Reconcile Net
      Income to Net CashProvided by Operating
      ActivitiesDepreciation
                
                
                117
                
                
                
                148Amortization of Prepublication
      Costs and Intangible Assets
                
                
                2,735
                
                
                
                3,357Stock-Based
      Compensation
                
                
                34
                
                
                
                21Market Value Adjustment of
      Interest Rate Swap
                
                
                (79
                )
                
                
                25Deferred Income
      Taxes
                
                
                690
                
                
                
                649Changes in Assets and
      LiabilitiesAccounts
      Receivable
                
                
                639
                
                
                
                848Inventory
                
                
                172
                
                
                
                385Prepaid Expenses and
      Other
                
                
                25
                
                
                
                (6
                )Prepaid Marketing
      Expenses
                
                
                245
                
                
                
                (19
                )Accounts Payable and Accrued
      Expenses
                
                
                1,081
                
                
                
                1,911Deferred
      Revenue
                
                
                97
                
                
                
                11Net Cash Provided By Operating
      Activities
                
                
                6,914
                
                
                
                8,433Cash Flows From Investing
      ActivitiesPurchases of
      Equipment
                
                
                (49
                )
                
                
                (93
                )Expenditures for
      Intangibles
                
                
                (25
                )
                
                
                (6
                )Expenditures for Prepublication
      Costs
                
                
                (1,495
                )
                
                
                (2,740
                )Net Cash Used In Investing
      Activities
                
                
                (1,569
                )
                
                
                (2,839
                )Cash Flows From Financing
      ActivitiesNet Payments Under Line of
      Credit
                
                
                (4,247
                )
                
                
                (4,591
                )Principal Payments On Long-Term
      Debt
                
                
                (1,022
                )
                
                
                (1,020
                )Net Cash Used In Financing
      Activities
                
                
                (5,269
                )
                
                
                (5,611
                )Net Increase (Decrease) in Cash
      and Cash Equivalents
                
                
                76
                
                
                
                (17
                )Cash and Cash
      EquivalentsBeginning of
      Period
                
                
                42
                
                
                
                53End of
    Period
                
                $
                118
                
                
                $
                36Supplemental Cash Flow
      InformationCash Payments
      for:Interest
                
                $
                252
                
                
                $
                410





See Notes to Condensed Consolidated
Financial Statements.


5





Peoples
Educational Holdings, Inc., and Subsidiary


Notes
to Condensed Consolidated Financial Statements (UNAUDITED)





NOTE 1 – Nature of Business
and Basis of Presentation


Nature of
Business: Peoples Educational Holdings, Inc. (PEH), through its wholly owned
subsidiary, Peoples Education, Inc. (PE), is a leading publisher and distributor
of supplemental instructional materials for the kindergarten through high school
sector (K-12).  PE designs and produces materials in both print and
electronic format, with a growing emphasis on Internet-based delivery. The
materials are predominantly state-specific and standards-based, focused on
state-required tests.  PE also distributes college preparation
products developed internally and by other publishers and literacy products
developed by other publishers.  Marketing channels include direct and
commission sales representatives, telemarketing, direct mail, and catalogs. PE
and PEH are together referred to herein as the Company.





Basis of
Presentation: The accompanying unaudited condensed consolidated financial
statements have been prepared by the Company in accordance with the rules and
regulations of the Securities and Exchange Commission and instructions to Form
10-Q and therefore do not include all information and disclosures necessary for
a fair presentation of the consolidated financial position, results of
operations, and cash flows in conformity with accounting principles generally
accepted in the United States of America. These unaudited condensed consolidated
financial statements contain, in the opinion of management, all adjustments
(consisting of normal accruals and other recurring adjustments) necessary for a
fair presentation of the consolidated financial position, results of operations,
and cash flows for the periods presented.  In preparing the
accompanying condensed consolidated financial statements, management has
evaluated subsequent events through January 14, 2010. The operating results for
the three and six month periods ended November 30, 2009 are not necessarily
indicative of the operating results to be expected for the full fiscal year.
Accordingly, these unaudited
condensed consolidated financial statements should be read in conjunction with
the audited consolidated financial statements and the related notes included in
our Annual Report on Form 10-K for the year ended May 31,
2009.





Use of Estimates: Management is required
to make certain estimates and assumptions which affect the amounts of assets,
liabilities, revenue and expenses that the Company has reported and the
disclosure of contingent assets and liabilities at the date of the condensed
consolidated financial statements.  Actual results could differ
materially from these estimates and assumptions.





NOTE 2 – Revenue Recognition
and Accounts Receivable


Revenue
is recognized when products are shipped, the customer takes title and assumes
risk of loss, and collection of related receivable is probable. The allowances
for returns were as follows:





November
      30, 2009
                  
                  $
                  758,000May
      31, 2009
                  
                  $
                  520,000November
      30, 2008
                  
                  $
                  776,000





This
allowance is recorded at the time of revenue recognition, if the right of return
exists, and is recorded as a reduction of revenue and accounts receivable. The
Company recognizes shipping and handling revenues as part of revenue, and
shipping and handling expenses as part of cost of revenue on the consolidated
statements of operations.  The Company recognizes subscription based
revenue on its electronic products prorata over the life of the subscription
agreement.




The
Company provides credit to its customers determined on a customer-by-customer
basis. Trade receivables are carried at original invoice amount less an estimate
made for doubtful accounts based on a monthly review of all outstanding amounts.
Management determines the allowance for doubtful accounts after reviewing
individual customer accounts as well as considering both historical and expected
credit loss experience. Trade receivables are written off when deemed
uncollectible. Recoveries of trade receivables previously written off are
recorded when received.  The allowance for doubtful accounts was
$40,000 for all periods presented.


6





Peoples
Educational Holdings, Inc., and Subsidiary


Notes
to Condensed Consolidated Financial Statements (UNAUDITED)





NOTE 3 – Basic and Diluted Per
Share Amounts


Basic per
share amounts are computed, generally, by dividing net income or loss by the
weighted average number of common shares outstanding.  Diluted per
share amounts assume the conversion, exercise or issuance of all potential
common stock instruments, unless their effect is anti-dilutive thereby reducing
the loss or increasing the income per common share.  Due to the net
losses for the three months ended November 30, 2009 and 2008, diluted shares
were the same as basic shares since the effect of options and warrants would
have been anti-dilutive. The dilutive effect of these additional shares for the
six months ended November 30, 2009 and 2008 was to increase the weighted average
common shares outstanding by 3,238 and -0- shares, respectively.





NOTE 4– Deferred
Prepublication Costs


Deferred
prepublication costs are capitalized and amortized over a three or five-year
period (the estimated lives of the related publications) using the straight-line
method beginning on the in-stock date of the publication.  The
activity in deferred prepublication costs is as follows for the periods
presented:





(In
    Thousands)Three Months
      Ended
                  
                  
                  Six Months
      EndedNovember
30,
                  
                  
                  November
30,2009
                  
                  
                  2008
                  
                  
                  2009
                  
                  
                  2008Balances,
      Beginning
                  
                  $
                  12,800
                  
                  
                  $
                  14,857
                  
                  
                  $
                  13,466
                  
                  
                  $
                  15,200Prepublication Cost
      Additions
                  
                  
                  761
                  
                  
                  
                  1,425
                  
                  
                  
                  1,495
                  
                  
                  
                  2,740Amortization
      Expense
                  
                  
                  (1,328
                  )
                  
                  
                  (1,694
                  )
                  
                  
                  (2,728
                  )
                  
                  
                  (3,352
                  )Balances,
      Ending
                  
                  $
                  12,233
                  
                  
                  $
                  14,588
                  
                  
                  $
                  12,233
                  
                  
                  $
                  14,588





The
estimated future amortization expense over the next five years as related to the
above deferred prepublication costs is as follows:





(In
    Thousands)Remainder of fiscal year
      ending  2010
                  
                  $
                  2,535Year ending May 31,
      2011
                  
                  
                  4,400Year ending May 31,
      2012
                  
                  
                  2,821Year ending May 31,
      2013
                  
                  
                  1,411Year ending May 31, 2014 and
      thereafter
                  
                  
                  1,066$
                  12,233





The
future estimated expense amount is expected to increase as the Company continues
its investments in additional prepublication costs.





NOTE 5 – Prepaid Marketing
Expense


The costs
of catalogs and promotional materials that have not been completed or delivered
to customers are carried as a prepaid expense until the actual date of
completion and mailing. Prepaid samples consist of materials that will be
distributed to educators and are expensed as they are
distributed.  Prepaid marketing expenses include samples, catalogs and
promotional materials.


7





Peoples
Educational Holdings, Inc., and Subsidiary


Notes
to Condensed Consolidated Financial Statements (UNAUDITED)





Prepaid
marketing expenses are presented in the balance sheets as follows:





(In
    Thousands)November 30,
                    
                    
                    May 31,
                    
                    
                    November 30,2009
                    
                    
                    2009
                    
                    
                    2008Total Prepaid
      Balance
                    
                    $
                    617
                    
                    
                    $
                    862
                    
                    
                    $
                    1,343Less current
      portion
                    
                    
                    617
                    
                    
                    
                    862
                    
                    
                    
                    1,096Long-term
      balance
                    
                    $
                    -
                    
                    
                    $
                    -
                    
                    
                    $
                    247





NOTE 6 – Financing
Arrangements


The
Company has a $20 million credit agreement with Sovereign
Bank.  Amounts borrowed under the agreement are secured by
substantially all of the assets of the Company.  The agreement
provides for a $10 million revolving line of credit and a $10 million term loan
as follows:





·
            The
      revolving line of credit provides for advances up to $10 million and
      expires in March 2012.  The interest rate on the revolving line
      of credit is in a range from LIBOR plus 2.0% to LIBOR plus 2.25%, or prime
      to prime plus 0.5%, with the exact interest rate based on the ratio of the
      Company’s total funded debt to EBITDA. The average interest rates for the
      reporting periods ending November 30, 2009, May 31, 2009 and November 30,
      2008 were 2.5%, 3.5% and 4.4%, respectively.  At November 30,
      2009, $2.0 million was outstanding under this facility, and $8.0 million
      was available for borrowing.





·
            The
      term loan is for $10 million and matures in December 2012.  The
      term loan provides for 20 equal quarterly payments of principal and
      interest which began on March 31, 2008.  The term loan bears
      interest at the same rate as the revolving line of credit for $3.25
      million of the $6.5 million outstanding at November 30,
      2009.  In May 2007, the Company entered into a swap agreement to
      fix the interest rate on the balance of the term loan for three years at a
      rate of 5.3% plus an interest spread of 2.00% to 2.25% based upon the
      Company’s total funded debt to EBITDA ratio. After the three-year period,
      the interest rate reverts back to a variable rate. The change in the fair
      value of the interest rate swap is recognized as an adjustment to interest
      expense during each reporting period.  For the six months ended
      November 30, 2009, The Company recorded a credit to interest expense of
      $79,000.





The
credit agreement contains certain financial covenants, calculated on a
consolidated basis for the Company, which, among other things, impose a maximum
ratio of total funded debt to EBITDA, and a minimum fixed charge coverage
ratio.  These financial covenants also restrict the payment of
dividends on the Company’s common stock.





NOTE 7– Income Taxes


On a
quarterly basis, the Company estimates what the effective tax rate will be for
the full fiscal year and records a quarterly income tax provision based on the
anticipated rate. As the year progresses, the Company refines the estimate based
on the facts and circumstances by each tax jurisdiction. The effective tax rates
for the three and six months ended November 30, 2009 and 2008 were approximately
37% for all periods.





The
Company established a valuation allowance of $700,000 during fiscal year ended
May 31, 2009. As ofNovember30, 2009, there has been no change to the
valuation allowance which had previously been provided related to the tax
benefit of our available federal and state Net Operating Losses.


8





Peoples
Educational Holdings, Inc., and Subsidiary


Notes
to Condensed Consolidated Financial Statements (UNAUDITED)





The carrying value of the net deferred
tax asset assumes thatthe
Companywill be able to
generate sufficient taxable income in the future.The Company performsa comprehensive tax review quarterly and
if future levels of taxable income are not sufficient or fail to materialize in
the near term, management will adjust the valuation allowance
accordingly.





NOTE8– Recently Issued Accounting
Standards


In May 2009, theFinancial Accounting Standards Board
(“FASB”)updated its
guidance in ASC 855 (formerly SFAS No. 165) regarding subsequent events,
establishing principles and requirements for subsequent events. In particular,
ASC 855 sets forth the period after the balance sheet date during which
management shall evaluate events or transactions that may occur for potential
recognition or disclosure in the financial statements, the circumstances under
which an entity shall recognize events or transactions occurring after the
balance sheet date in its financial statements, and the disclosures that an
entity shall make about events or transactions that occurred after the balance
sheet date. This updated guidance is effective for interim periods ending after
June 15, 2009.The adoption ofASC 855did not have a material impact on the
Company’s financial condition or results of operation.





In June 2009, theFASBapproved the “FASB Accounting Standards
Codification” (“Codification”) as the single source of authoritative,
nongovernmental, U.S. Generally Accepted Accounting Principles (“GAAP”) to be
launched on July 1, 2009.  The Codification does not change current
U.S. GAAP or howthe
Companyaccounts for its
transactions or the nature ofrelated disclosures made; instead it is
intended to simplify user access to all authoritativeU.S. GAAP by providing all the
authoritative literature related to a particular topic in one
place.  All existing accounting standard documents will be superseded,
and all other accounting literature not included in the Codification will be
considered non-authoritative.  The Codification is effective for
interim and annual periods ending after September 15, 2009.  The
Codification is effective forthe Companybeginning with the quarter
endedNovember 30,2009 anddidnot have an impact on its financial
condition or results of operations.





In June 2009, the FASB updated its
guidance in ASC 810 (formerly SFAS No. 167,Amendments to FASB
Interpretation No. 46(R)).
ASC 810 is intended to address (1) the effects on certain provisions of FASB
Interpretation No. 46 (revised December 2003),Consolidation of
Variable Interest Entities,
as a result of the elimination of the qualifying special- purpose entity concept
in FAS 166, and (2) constituent concerns about the application of certain key
provisions of Interpretation 46(R), including those in which the accounting and
disclosures under the Interpretation do not always provide timely and useful
information about an enterprise’s involvement in a variable interest entity.
This statement must be applied as of the beginning of each reporting
entity’s first annual reporting period that begins after November
15, 2009. The Company does not expect the adoption of ASC 810 to have
an impact on the Company’s results of operations, financial condition or cash
flows.





In October 2009, the FASB issued FASB
Accounting Standards Update (“FASB ASU”) No. 09-13, “Revenue Recognition (Topic
605): Multiple-Deliverable Revenue Arrangements (a consensus of the FASB
Emerging Issues Task Force)” (“FASB ASU 09-13”). FASB ASU 09-13 updates the
existing multiple-element arrangement guidance currently in FASB ASC 605-25
(“Revenue Recognition-Multiple-Element Arrangements”). This new guidance
eliminates the requirement that all undelivered elements have objective and
reliable evidence of fair value before a company can recognize the portion of
the overall arrangement fee that is attributable to the items that have already
been delivered. Further, companies will be required to allocate revenue in
arrangements involving multiple deliverables based on the estimated selling
price of each deliverable, even though such deliverables are not sold separately
by either the company itself or other vendors. This new guidance also
significantly expands the disclosures required for multiple-element revenue
arrangements. The revised guidance will be effective for the first annual period
beginning on or after June 15, 2010.The Company iscurrently evaluating the impact FASB ASU
09-13 will have on our consolidated financial statements.





9




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





FORWARD–LOOKING
STATEMENTS





This Form
10-Q contains “forward-looking statements” (as defined in section 21E of the
Securities Exchange Act of 1934) regarding the Company and its markets. These
forward-looking statements involve a number of risks and uncertainties,
including (1) changes in demand from customers, (2) changes in product or
customer mix or revenues and in the level of operating expenses, (3) rapidly
changing technologies and the Company's ability to respond thereto, (4) the
impact of competitive products and pricing, (5) federal, state and local levels
of educational spending, (6) the Company's ability to retain qualified
personnel, (7) the Company’s ability to retain its distribution agreements in
the College Preparation and Literacy markets, (8) the sufficiency of the
Company’s copyright protection, and (9) the Company’s ability to continue to
rely on the services of a third-party warehouse, and other factors disclosed
below and throughout this report. The actual results that the Company achieves
may differ materially from any forward-looking statements due to such risks and
uncertainties. The Company undertakes no obligation to revise any
forward-looking statements in order to reflect events or circumstances that may
arise after the date of this report. Readers are urged to carefully review and
consider the various disclosures made by the Company in this report, including
the discussion set forth below, and in the Company's other reports filed with
the Securities and Exchange Commission from time to time that attempt to advise
interested parties of the risks and factors that may affect the Company's
business and results of operations.





SEASONALITY





The
supplementary school publishing business is seasonal, cycling around the school
year that runs from September through May. Typically, the major marketing
campaigns, including mailings of new catalogs and focused sales efforts, begin
in September when schools reopen. General marketing efforts, including
additional sales and marketing campaigns, catalog mailings, and complimentary
copies, continue throughout the school year.





Each of
our product lines has its own seasonality. Excluding the Literacy product line
which was launched in March 2009, the average revenue percentage over the past
two full fiscal years by quarter is summarized in the table below.





Jun - Aug
                
                
                Sep - Nov
                
                
                Dec - Feb
                
                
                Mar - May1st Quarter
                
                
                2nd Quarter
                
                
                3rd Quarter
                
                
                4th QuarterTest Preparation, Assessment, and
      Instruction
                
                
                29%
                
                
                
                26%
                
                
                
                21%
                
                
                
                24%College
      Preparation
                
                
                66%
                
                
                
                15%
                
                
                
                6%
                
                
                
                13%Total Revenue (excluding Literacy
      revenue)
                
                
                43%
                
                
                
                22%
                
                
                
                15%
                
                
                
                20%





PRODUCT
OVERVIEW





We are a
leading publisher and distributor of supplemental instructional materials for
the kindergarten through high school sector (K-12).  We design and
produce materials in both print and electronic format, with a growing emphasis
on Internet-based delivery. The materials are predominantly state-specific and
standards-based, focused on state-required tests.  We also distribute
college preparation products developed internally, and by other publishers, and
literacy products developed by other publishers.





Test
Preparation, Assessment, and Instruction Product Group





Test Preparation,
Assessment


·
            We
      create and sell print and web-based materials targeted to grades 1-12 to
      help students prepare for state proficiency tests. The Measuring Up®Test Preparation and Assessment print products are sold in eleven
      states. MeasuringUp® is
      positioned as standards-based, state customized instruction and classroom
      assessment, designed to be an integral part of a school’s instructional
      program throughout the school
year.


10





·
            Measuring
      up ePath a web-based assessment product developed in conjunction with
      Cisco Learning Systems, has been rebranded and is now called ePath Assess
      and is part a multi-product suite called ePath Knowledge.  ePath
      Knowledge®is
      a series of three state customized online tools designed to meet unique
      needs of schools and districts.  ePath Assess provides formative
      assessment and ongoing progress-monitoring that allows educators to make
      data-driven decisions. ePath Discovery delivers immediate online
      standards-based instructional intervention for students.  Lastly,
      Practice Path provides an easy-to-use student-based interface for online
      standards and test-based skill building and practice.  The ePath
      Knowledge suite of tools provides educators with online options to best
      meet the needs of their students and teachers while providing state
      customized content for assessment and
  instruction.





Instruction


·
            We
      have two product lines within this group: Focused Instruction and remedial
      and multicultural related materials. Focused Instruction materials provide
      standards–based, state-specific supplemental instruction on particular
      subject areas such as reading comprehension, mathematics problem solving,
      and vocabulary development.  Essential to this strategy is the
      market alignment of the Focused Instruction and Test Preparation and
      Assessment products so that both product lines are suitable for sale to an
      identical customer base with an identical sales force.  We
      continue to sell our backlist remedial and multicultural materials, but we
      are not investing in new development for these
  products.





College
Preparation Product Group





We have
the exclusive U.S. high school distribution rights for college textbooks and
related instruction materials published by two major college
publishers.  In addition to these distributed products, we also
publish our own proprietary products for the college preparation
market.  The college preparation products that we offer are utilized
in a wide range of Advanced Placement, honors, electives and other high-level
high school courses.Distribution revenue
consists of direct billings to customers, as well as commissions earned on sales
generated by our marketing efforts, but billed directly by the college
publishers.  Such sales, for which the commission rate varies, include
purchases by schools through online bookstores and sales derived as a result of
purchases made through state adoption contracts.





Literacy
Product Group





In March
2009, we entered into exclusive sales and distribution agreements within the
United States for specific products with three literacy publishers. These
material include an extensive selection of leveled reading materials; high
interest engaging resources for striving readers; series that integrate reading,
science and social studies, and selections and strategies for students who are
in the process of learning English.


11


RESULTS
OF OPERATIONS





Three Months Ended November
30, 2009 vs. Three Months Ended November 30, 2008





(Amounts in Thousands - Except Per Share Data)
                    
                    Three Months Ended November 30,2009
                    
                    
                    2008RevenueTest
      Preparation, Assessment and Instruction
                    
                    $
                    4,907
                    
                    
                    
                    67.2%
                    
                    
                    $
                    6,090
                    
                    
                    
                    73.6%College
      Preparation
                    
                    
                    1,993
                    
                    
                    
                    27.3%
                    
                    
                    
                    2,189
                    
                    
                    
                    26.4%Literacy
                    
                    
                    405
                    
                    
                    
                    5.5%
                    
                    
                    
                    -
                    
                    
                    
                    0.0%Total
      Revenue
                    
                    
                    7,305
                    
                    
                    
                    100.0%
                    
                    
                    
                    8,279
                    
                    
                    
                    100.0%Cost
      of RevenueDirect
      Costs
                    
                    
                    2,727
                    
                    
                    
                    37.3%
                    
                    
                    
                    3,102
                    
                    
                    
                    37.5%Prepublication
      Cost Amortization
                    
                    
                    1,328
                    
                    
                    
                    18.2%
                    
                    
                    
                    1,694
                    
                    
                    
                    20.5%Total
      Cost Of Revenue
                    
                    
                    4,055
                    
                    
                    
                    55.5%
                    
                    
                    
                    4,796
                    
                    
                    
                    57.9%Gross
      Profit
                    
                    
                    3,250
                    
                    
                    
                    44.5%
                    
                    
                    
                    3,483
                    
                    
                    
                    42.1%Selling,
      General and Administrative ExpensesMarketing
      and Selling
                    
                    
                    2,496
                    
                    
                    
                    34.2%
                    
                    
                    
                    2,571
                    
                    
                    
                    31.1%General
      and Administrative
                    
                    
                    1,144
                    
                    
                    
                    15.7%
                    
                    
                    
                    1,058
                    
                    
                    
                    12.8%Total
      Selling, General and Administrative Expenses
                    
                    
                    3,640
                    
                    
                    
                    49.8%
                    
                    
                    
                    3,629
                    
                    
                    
                    43.8%Operating
      Loss
                    
                    
                    (390
                    )
                    
                    
                    -5.3%
                    
                    
                    
                    (146
                    )
                    
                    
                    -1.8%Other
      Expenses, Net
                    
                    
                    3
                    
                    
                    
                    0.0%
                    
                    
                    
                    9
                    
                    
                    
                    0.1%Interest
      Expense
                    
                    
                    65
                    
                    
                    
                    0.9%
                    
                    
                    
                    208
                    
                    
                    
                    2.5%Loss
      Before Income Tax Benefit
                    
                    
                    (458
                    )
                    
                    
                    -6.3%
                    
                    
                    
                    (363
                    )
                    
                    
                    -4.4%Income
      Tax Benefit
                    
                    
                    (155
                    )
                    
                    
                    -2.1%
                    
                    
                    
                    (143
                    )
                    
                    
                    -1.7%Net
      Loss
                    
                    $
                    (303
                    )
                    
                    
                    -4.2%
                    
                    
                    $
                    (220
                    )
                    
                    
                    -2.7%Net
      Loss per Common Share:Basic
      and Diluted
                    
                    $
                    (0.07
                    )
                    
                    
                    
                    
                    
                    $
                    (0.05
                    )





Overview





Due to
economic conditions and the current status of state and federal economies, many
schools are reacting to budgetary pressures and have been holding back or
delaying orders.  These circumstances have had an adverse impact on
our revenue for the period.  Net revenue for the quarter was $7.3
million, a decline of 11.8% from the same period in the prior
year.  Test Preparation, Assessment, and Instruction revenue decreased
19.4% on a year-over-year basis while College Preparation revenue decreased
9.0%. Revenue for the quarter, generated by our new Literacy product group was
$405,000. Net loss for the quarter was $303,000, an increase of $83,000 from the
prior year.  Basic and diluted loss per common share for the quarter
were ($0.07), compared to ($0.05) for the same period last
year.


12


REVENUE





Test Preparation,
Assessment, and Instruction





Revenue
for this product group for the quarter was $4.9 million, compared to $6.1
million during the same period in the prior year. Test Preparation and
Assessment revenue for the quarter was $4.4 million, a decrease of 17.9% from
the prior year, while Instruction revenue was $0.5 million, a decrease of $0.2
million from the prior year.





College
Preparation





College
Preparation revenue for the quarter was $2.0 million, compared to $2.2 million
during the same period in the prior year.   Revenue from the sale
of products offered from the two major college publishers was $1.9 million, a
decline of 8.5% from the prior year.  Revenue from our proprietary
products and other distribution agreements was $119,000, a decline of $23,000
from the prior year.





Literacy





Revenue
for this product group, which was launched in March 2009, was $405,000 for the
quarter. These new products allow us to enter a market niche for which we
previously did not have a product offering. In November 2009, we expanded our
product offering by adding two new series from one of our existing literacy
publishers.  In addition, we anticipate growing the number of products
within this group initially through additional distribution agreements and in
the future by in-house development.





COST OF REVENUE





Cost of
revenue for the three months ended November 30, 2009 was $4.1 million (55.5% of
revenue) compared to $4.8 million (58.0% of revenue) during the same period in
the prior year.





Cost of
revenue consists of two components: direct costs and amortization of
prepublication costs.


Direct
costs consist of (1) product cost, which includes paper, printing, and binding
for proprietary print products and product purchases for nonproprietary
products, (2) web-hosting fees for our electronic products, (3) royalties on
proprietary products, and (4) warehousing and shipping costs for all
non-electronic products.





·
            Direct
      costs as a percentage of revenue were 37.3% for the quarter ended November
      30, 2009, which was comparable to the prior year percentage of
      37.5%.





·
            Prepublication
      costs include one-time expenses associated with developing and producing
      new or revised proprietary products.  It includes all editorial
      expenses, writing, page design and makeup, art and other permissions,
      prepress, and any other costs incurred up to the print/bind stage of the
      books.  Prepublication costs are capitalized and expensed on a
      straight-line basis over a three- or five-year period, based upon the
      product. We believe our amortization policy is in line with industry
      practice.  For the three months ended November 30, 2009, we
      amortized $1.3 million of prepublication costs, a decrease of $366,000
      from the prior year as a result of lower spending levels over the past
      three fiscal years.





MARKETING
AND SELLING





Marketing
and selling expenses for the quarter were $2.5 million, a decrease of $75,000
and 2.9% from the prior year. The expense as a percent of revenue increased from
31.1% in the prior year to 34.2% in the current period.





Marketing
expenses within this category increased $74,000 for the quarter, primarily due
to expenses associated with the Literacy product group which did not exist in
the prior year.   Selling expenses within this category decreased
$149,000 from the prior year primarily due to lower revenue. As a percentage of
revenue, the expense increased from 19.5% in the prior year to 20.1%, primarily
due to revenue mix.


13


GENERAL
AND ADMINISTRATIVE





General
and administrative expenses for the quarter were $1.1 million, an increase of
8.1% on a year-over-year basis.  The increase is timing related, as
the expense for the six months ended November 30, 2009 was 1.3% lower than the
prior year.





INTEREST
EXPENSE





Interest
expense for the quarter was $65,000, compared to $208,000 for the same period in
the prior year.  The change is due to lower average outstanding debt
on a year-over-year basis and lower interest rates.  Included in
interest expense was the fair value adjustment for our swap agreement, which for
the quarter was $40,000 of income, compared to $37,000 of expense during the
same period in the prior year.





Six Months Ended November
30, 2009 vs. Six Months Ended November 30, 2008





(Amounts in Thousands - Except Per Share Data)
                    
                    Six Months Ended November 30,2009
                    
                    
                    2008RevenueTest
      Preparation, Assessment and Instruction
                    
                    $
                    11,173
                    
                    
                    
                    50.7%
                    
                    
                    $
                    12,741
                    
                    
                    
                    52.5%College
      Preparation
                    
                    
                    9,614
                    
                    
                    
                    43.6%
                    
                    
                    
                    11,535
                    
                    
                    
                    47.5%Literacy
                    
                    
                    1,267
                    
                    
                    
                    5.7%
                    
                    
                    
                    -
                    
                    
                    
                    0.0%Total
      Revenue
                    
                    
                    22,054
                    
                    
                    
                    100.0%
                    
                    
                    
                    24,276
                    
                    
                    
                    100.0%Cost
      of RevenueDirect
      Costs
                    
                    
                    10,141
                    
                    
                    
                    46.0%
                    
                    
                    
                    11,509
                    
                    
                    
                    47.4%Prepublication
      Cost Amortization
                    
                    
                    2,728
                    
                    
                    
                    12.4%
                    
                    
                    
                    3,352
                    
                    
                    
                    13.8%Total
      Cost Of Revenue
                    
                    
                    12,869
                    
                    
                    
                    58.4%
                    
                    
                    
                    14,861
                    
                    
                    
                    61.2%Gross
      Profit
                    
                    
                    9,185
                    
                    
                    
                    41.6%
                    
                    
                    
                    9,415
                    
                    
                    
                    38.8%Selling,
      General and Administrative ExpensesMarketing
      and Selling
                    
                    
                    4,779
                    
                    
                    
                    21.7%
                    
                    
                    
                    4,817
                    
                    
                    
                    19.8%General
      and Administrative
                    
                    
                    2,371
                    
                    
                    
                    10.8%
                    
                    
                    
                    2,402
                    
                    
                    
                    9.9%Total
      Selling, General and Administrative Expenses
                    
                    
                    7,150
                    
                    
                    
                    32.4%
                    
                    
                    
                    7,219
                    
                    
                    
                    29.7%Operating
      Income
                    
                    
                    2,035
                    
                    
                    
                    9.2%
                    
                    
                    
                    2,196
                    
                    
                    
                    9.0%Other
      Expenses, Net
                    
                    
                    14
                    
                    
                    
                    0.1%
                    
                    
                    
                    17
                    
                    
                    
                    0.1%Interest
      Expense
                    
                    
                    160
                    
                    
                    
                    0.7%
                    
                    
                    
                    437
                    
                    
                    
                    1.8%Income
      Before Income Tax Expense
                    
                    
                    1,861
                    
                    
                    
                    8.4%
                    
                    
                    
                    1,742
                    
                    
                    
                    7.2%Income
      Tax Expense
                    
                    
                    703
                    
                    
                    
                    3.2%
                    
                    
                    
                    639
                    
                    
                    
                    2.6%Net
      Income
                    
                    $
                    1,158
                    
                    
                    
                    5.3%
                    
                    
                    $
                    1,103
                    
                    
                    
                    4.5%Net
      Income per Common Share:Basic  and
      Diluted
                    
                    $
                    0.26
                    
                    
                    
                    
                    
                    
                    $
                    0.25


14


Overview





The six
months ended November 30, 2009 was a challenging period. Due to economic
conditions and the current status of state and federal economies, many schools
are reacting to budgetary pressures and have been holding back or delaying
orders.  These circumstances have had an adverse impact on our revenue
for the period.  Net revenue for the six months period was $22.1
million, a decline of 9.2% from the same period in the prior
year.  Test Preparation, Assessment, and Instruction revenue decreased
12.3% on a year-over-year basis while College Preparation revenue decreased
16.7%. These declines were offset by $1.3 million of revenue generated by our
new Literacy product offering. Despite the overall shortfall in revenue, we were
able to offset the revenue decline by reducing expenses, resulting in net income
for the six month period  ended November 30, 2009  of $1.2
million, an increase of 5.0% over the prior year.  Basic and diluted
earnings per common share for the period were $0.26, compared to $0.25 in the
prior year.





REVENUE





Test Preparation,
Assessment, and Instruction





Revenue
for this product group for the six months ended November 30, 2009 was $11.2
million, a decline of 12.3% compared to the prior year. Test Preparation and
Assessment revenue for the period was $9.7 million, a 12.5% decline from the
prior year while Instruction revenue was $1.5 million, a decrease of $0.2
million on a year-over-year basis.





College
Preparation





College
Preparation revenue for the six months ended November 30, 2009 was $9.6 million,
compared to $11.5 million during the same period in the prior
year.  Revenue from the sale of products offered from the two major
college publishers, which represents more than 90% of the total revenue within
this product group, was $9.1 million, a decline of 16.6% compared to the prior
year. Revenue from other distribution agreements and from our proprietary
products was $531,000, a decline of $117,000 from the prior
year.  Revenue for this product group is extremely seasonal;
historically over 81% of the annual revenue is derived in the six months ended
November 30th.





Literacy





Revenue
for this product group, which was launched in March 2009, was $1.3 million for
the six months ended November 30. 2009. These new products allow us to enter a
market niche for which we previously did not have a product offering. In
November 2009, we expanded our product offering by adding two new series from
one of our existing literacy publishers. We expect to continue growing this
product group by adding new products, initially through additional distribution
agreements, and in the future by in-house development.





COST OF REVENUE





Cost of
revenue for the six months ended November 30, 2009 was $12.9 million (58.4% of
revenue) compared to $14.9 million (61.2% of revenue) during the same period in
the prior year.





Cost of
revenue consists of two components: direct costs and amortization of
prepublication costs.


Direct
costs consist of (1) product cost, which includes paper, printing, and binding
for proprietary print products and product purchases for nonproprietary
products, (2) web-hosting fees for our electronic products, (3) royalties on
proprietary products, and (4) warehousing and shipping costs for all
non-electronic products.





·
            Direct
      costs as a percentage of revenue declined from 47.4% in the prior year to
      46.0% in the current year.  The percentage decrease is primarily
      due to revenue mix, as College Preparation revenue for the period
      decreased from 47.5% of the total revenue in the prior year, to 43.6% in
      the current year.  College Preparation direct costs are
      substantially higher than the direct cost of our other
      products.


15


·
            Prepublication
      costs include one-time expenses associated with developing and producing
      new or revised proprietary products.  It includes all editorial
      expenses, writing, page design and makeup, art and other permissions,
      prepress, and any other costs incurred up to the print/bind stage of the
      books.  Prepublication costs are capitalized and expensed on a
      straight-line basis over a three- or five-year period, based upon the
      product. We believe our amortization policy is in line with industry
      practice. For the six months ended November 30, 2009, we amortized $2.7
      million of prepublication costs, a year-over-year decline of $624,000 due
      to lower spending levels over the past three fiscal
  years.





MARKETING
AND SELLING





Marketing
and selling expenses for the six months ended November 30, 2009 were $4.8
million which remained consistent with the prior year. As a percent of revenue,
the expense increased from 19.8% in the prior year to 21.7% in the current
year.





Marketing
expenses within this category increased $155,000 for the period primarily due to
expenses associated with the Literacy product group which did not exist in the
prior year.  Selling expenses within this category decreased $192,000
from the prior year due primarily due to lower revenue.  As a
percentage of revenue, selling expenses increased from 14.2% in the prior year
to 14.7% due primarily to revenue mix.





GENERAL
AND ADMINISTRATIVE





General
and administrative expenses for the six months ended November 30, 2009 were $2.4
million, a decrease of 1.3% over the prior year.





INTEREST
EXPENSE





Interest
expense for the six months ended November 30, 2009 was $160,000, a decrease of
$277,000 compared to the same period in the prior year.  The decrease
is due to lower interest rates and lower average outstanding debt on a
year-over-year basis.  Included in interest expense was the fair value
adjustment for our swap agreement, which for the six months ended November 30,
2009 was $79,000 of income, compared to $25,000 of expense during the same
period in the prior year.





LIQUIDITY AND CAPITAL
RESOURCES





Net cash
provided by operating activities for the six months ended November 30, 2009 was
$6.9 million.  Cash was primarily provided by our net income before
depreciation, amortization and deferred income taxes, as well as decreases in
accounts receivable, inventory and prepaid marketing expenses and an increase in
accounts payable and accrued expenses.





Net cash
used in investing activities was $1.6 million, consisting primarily of
prepublication cost expenditures of $1.5 million.  Prepublication
expenditures for the six months ended November 30, 2009 were $1.2 million lower
than the prior year. The decrease in expenditures is primarily related to
timing, as we expect the full year expenditures to be comparable to the prior
year expenditures of $4.8 million.





Net cash
used in financing activities was $5.3 million, consisting of $4.2 million of net
payments on our revolving line of credit and $1.0 million of payments on our
term loan and capital leases.





We have a
$20 million credit agreement with Sovereign Bank.  Amounts borrowed
under the agreement are secured by substantially all of the assets of the
Company.  The agreement provides for a $10 million revolving line of
credit and a $10 million term loan as follows:


16


·
            The
      revolving line of credit provides for advances up to $10 million and
      expires in March 2012.  The interest rate on the revolving line
      of credit is in a range from LIBOR plus 2.0% to LIBOR plus 2.25%, or prime
      to prime plus 0.5%, with the exact interest rate based on the ratio of the
      Company’s total funded debt to EBITDA.  The average interest
      rates for the reporting periods ending November 30, 2009, May 31, 2009 and
      November 30, 2008 were 2.5%, 3.5% and 4.4%, respectively.  At
      November 30, 2009, $2.0 million was outstanding under this facility, and
      $8.0 million was available for
borrowing.





·
            The
      term loan is for $10 million and matures in December 2012.  The
      term loan provides for 20 equal quarterly payments of principal and
      interest which began on March 31, 2008.  The term loan bears
      interest at the same rate as the revolving line of credit for $3.25
      million of the $6.5 million outstanding at November 30,
      2009.  In May 2007, we entered into a swap agreement to fix the
      interest rate on a portion of the balance of the term loan for three years
      at a rate of 5.3% plus an interest spread of 2.00% to 2.25% based upon our
      funded debt to EBITDA ratio. After the three year period, the interest
      rate reverts back to a variable rate.  The change in the fair
      value of the interest rate swap is recognized as an adjustment to interest
      expense during each reporting period.  For the six months ended
      November 30, 2009, we have recorded a credit to interest expense of
      $79,000.





The
credit agreement contains certain financial covenants, calculated on a
consolidated basis for the Company, which, among other things, impose a maximum
ratio of total funded debt to EBITDA, and a minimum fixed charge coverage
ratio.  These financial covenants restrict the payment of dividends on
the Company’s common stock.





We use
our cash and borrowing availability under our financing arrangements, together
with cash generated from operations, to meet our cash needs.  We
believe that our borrowing capacity together with our existing sources of cash
will be sufficient to meet our anticipated cash needs for the balance of the
fiscal year.  We intend to continue investing in prepublication costs
for our proprietary products, using cash generated from operations, and
borrowings under financing arrangements.  As we develop more products,
additional investments in inventory will be required.





OFF-BALANCE
SHEET ARRANGEMENTS





None.





CRITICAL
ACCOUNTING ESTIMATES





Our
significant accounting policies are summarized in the footnotes to our financial
statements included in our May 31, 2009 Form 10-K.  Some of our
accounting policies require management to exercise significant judgment in
selecting the appropriate assumptions for calculating financial estimates. These
judgments are subject to an inherent degree of uncertainty.  These
judgments are based on our historical experience, known trends in our industry,
terms of existing contracts and other information from outside sources, as
appropriate.  Actual results may differ from these estimates under
different assumptions and conditions.  Certain of the most critical
estimates that require significant judgment are as follows:





Revenue
Recognition and Allowance for Returns


Revenue
is recognized when products are shipped, the customer takes title and assumes
risk of loss, and collection of the related receivable is probable. On November
30, 2009, we had a returns valuation allowance of $758,000.  The
allowance is recorded at the time of revenue recognition, if the right of return
exists, and is recorded as a reduction of accounts receivable. This allowance is
estimated by management based on our historical rate of returns.  We
recognize shipping and handling revenues as part of revenue, and shipping and
handling expenses as part of cost of revenue on the statements of operations.
Subscription based revenue on our electronic products is recognized prorata over
the life of the subscription agreement.





Deferred
Prepublication Costs


Deferred
prepublication costs are recorded at their original cost and amortized over a
three or five-year period, based on the estimated lives of the related
publications.  The net carrying value of the deferred prepublication
costs is periodically reviewed and compared to an estimate of future net
undiscounted cash flows.  On November 30, 2009, we had an allowance
against this asset of $159,000.  If future net undiscounted cash flows
are not sufficient to realize the net carrying value of the asset, an impairment
charge may be necessary.


17


Allowance
for Doubtful Accounts


Credit to
our customers is determined on a customer-by-customer basis. Trade receivables
are carried at original invoice amount less an estimate made for the doubtful
receivables based on a monthly review of all outstanding amounts. We determine
the allowance for doubtful accounts after reviewing individual customer accounts
as well as considering both historical and expected credit loss experience.
Trade receivables are written off when deemed uncollectible. Recoveries of trade
receivables previously written off are recorded when received. The allowance for
doubtful accounts was $40,000 at November 30, 2009 and is believed to be
adequate for any exposure to loss.





Allowance
for Excess and Slow-Moving Inventory


We
continuously monitor our inventory on hand for salability.  This
monitoring includes review of historical sales experience, projected sales
activity by title, and any planned changes to a title that are known by
management.  Any slow-moving or non-salable inventory identified is
reserved or written down at that time.  The reserve of $765,000 at
November 30, 2009 is believed to be adequate to cover potential inventory loss
exposure.





Income
Taxes


We
recognize deferred tax assets and liabilities based on the differences between
the financial statements carrying amounts and the tax basis of assets and
liabilities. We provide a valuation allowance for deferred tax assets if we
determine, based on the weight of available evidence, that it is more likely
than not that some or all of the deferred tax assets will not be realized. As of
May 31, 2009, a valuation allowance has been provided in the amount of $700,000
related to the tax benefit of our available federal and state Net Operating
Losses. The carrying value of the net deferred tax asset assumes that we will be
able to generate sufficient taxable income in the future. We perform a
comprehensive tax review quarterly, and if future levels of taxable income are
not sufficient or fail to materialize in the near term, management will adjust
the valuation allowance accordingly.





Item
4.  Controls and Procedures





Evaluation
of Disclosure Controls and Procedures


Under the
supervision and with the participation of our Chief Executive Officer and our
Chief Financial Officer, we conducted an evaluation of the effectiveness of the
design and operation of our disclosure controls and procedures (as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange
Act of 1934 (the “Exchange Act”)), as of the end of the period covered by this
Quarterly Report on Form 10-Q (the “Evaluation Date”).




The
purpose of this evaluation is to determine if, as of the Evaluation Date, our
disclosure controls and procedures were operating effectively such that the
information relating to the Company, required to be disclosed in our Securities
and Exchange Commissions (“SEC”) reports (i) was recorded, processed,
summarized and reported within the time periods specified in SEC rules and
forms, and (ii) was accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate to allow timely decisions regarding required
disclosures.




Based on
this evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that, as of the Evaluation Date, our disclosure controls and
procedures were operating effectively.





Changes
in Internal Control over Financial Reporting


During
the fiscal quarter covered by this report, there has been no change in our
internal control over financial reporting (as defined in Rule 13a-15(f) under
the Exchange Act) that has materially affected, or is reasonably likely to
materially affect, our internal control over financial
reporting.


18


PART
II


OTHER
INFORMATION





Item
1.  Legal Proceedings





None.





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





During
the three-months ended November 30, 2009, we did not issue any securities
without registration under the Securities Act of 1933.





In
October 2005, our Board of Directors approved a share repurchase program,
permitting us to repurchase up to 100,000 shares of our common
stock.  We did not repurchase any shares during the three months ended
November 30, 2009.  At November 30, 2009, 83,768 shares remained that
could be purchased under the plan or programs.  No share repurchase
plan or program expired, or was terminated, during the period covered by this
report.





Item
3.  Defaults Upon Senior Securities





None.





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





None.





Item
5.  Other Information





None.





Item
6.  Exhibits





Exhibit
      31.1
            CEO
      Certification pursuant to Rule
13a-14(a).




Exhibit
      31.2
            CFO
      Certification pursuant to Rule
13a-14(a).




Exhibit
      32
              Certification
      of the CEO and the CFO pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002.





SIGNATURES





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





Dated:      January
      14, 2010
              PEOPLES
      EDUCATIONAL HOLDINGS, INC.By: /s/ Brian T.
BeckwithBrian
      T. BeckwithPresident
      and Chief Executive
Officer


19