**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

Washington, D.C. 20549

**Form 10-K**

(Mark One)

**[**( **] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

For the fiscal year ended.................................................February 28, 2009

OR

 

**[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

For the transition period from..........................to.............................

 

Commission file number........**0-17249**

**AURA SYSTEMS, INC.**

(Exact name of registrant as specified in its charter)

| **Delaware**                                                   | **95-4106894**                       |
|----------------------------------------------------------------|--------------------------------------|
| (State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) |

**2330 Utah Avenue**

**El Segundo, California 90245**

(Address of principal executive offices)

Registrant's telephone number, including area code:**(310) 643-5300**

Former name, former address and former fiscal year, if changed since last report:

 

Name of each exchange on which registered:**None**

Securities registered pursuant to Section 12(b) of the Act:**None**

Securities registered pursuant to Section 12(g) of the Act:**Common Stock**

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yeso    Nox

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yeso    Nox

 

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.

YesxNoo

?

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such            files).

Yes  x No  o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated file, a non-accelerated filer or a smaller reporting company (as defined in Rule 12b-2 of the Act).

 

----

 

|   | Large Accelerated FileroAccelerated FileroNon-accelerated filero   | Smaller Reporting Companyx |
|--------|------------------------------------------------------------------------------|----------------------------|

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

|   | YesoNox |
|--------|---------|

 

 

**APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY**

**PROCEEDINGS DURING THE PRECEDING FIVE YEARS:**

 

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. YesxNoo

On August 31, 2008 the aggregate market value of the voting stock held by non-affiliates of the Registrant was $47,837,662. The aggregate market value has been computed by reference to the last sale price of the stock on August 29, 2008.

On June 3, 2009, the Registrant had 47,394,898 shares of common stock outstanding.

 

----

**TABLE OF CONTENTS**

 

|         |                                                                                                                 |
|--------------|----------------------------------------------------------------------------------------------------------------------|
| **PART I**   |                                                                                                                 |
|         | ITEM 1. BUSINESS                                                                                                     |
|         | ITEM 1A. RISK FACTORS                                                                                                |
|         | ITEM 2. PROPERTIES                                                                                                   |
|         | ITEM 3. LEGAL PROCEEDINGS                                                                                            |
|         | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY

HOLDERS                                                         |
|         | ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
|         | ITEM 6. SELECTED FINANCIAL DATA                                                                                      |
|         |                                                                                                                 |
| **PART II**  |                                                                                                                 |
|         | ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS                 |
|         | ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                                  |
|         | ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA                                                                  |
|         | ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE                         |
|         | ITEM 9A(T). CONTROLS AND PROCEDURES                                                                                  |
|         | ITEM 9B. OTHER INFORMATION                                                                                           |
|         |                                                                                                                 |
| **PART III** |                                                                                                                 |
|         | ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, AND CORPORATE GOVERNANCE                                                     |
|         | ITEM 11. EXECUTIVE COMPENSATION                                                                                      |
|         | ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL

OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS             |
|         | ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE                                   |
|         | ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES                                                                 |
|         |                                                                                                                 |
| **PART IV**  |                                                                                                                 |
|         | ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES                                                                     |
|         |                                                                                                                 |
|         | SIGNATURES                                                                                                           |
|         |                                                                                                                 |
|         |                                                                                                                 |
|         |                                                                                                                 |
|         |                                                                                                                 |
|         |                                                                                                                 |

 

 

----

**SPECIAL NOTE** **REGARDING FORWARD-LOOKING STATEMENTS** 

 

*This Report contains forward-looking statements within the meaning of the federal securities laws. Statements other than statements of historical fact included in this Report, including the statements under the headings “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Business” and elsewhere in            this Report regarding future events or prospects are forward-looking statements. The words “approximates,” “believes,” “expects,” “anticipates,” “estimates,” “intends,” “plans” “would “should,” “may,” or other similar expressions in this Report, as well as other statements regarding matters that are not historical fact, constitute forward-looking statements. We caution            investors that any forward-looking statements presented in this Report are based on the beliefs of, assumptions made by, and information currently available to, us. Such statements are based on assumptions and the actual outcome will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict. Although we believe that our assumptions are reasonable, they are not guarantees of future performance and some will inevitably            prove to be incorrect. As a result, our actual future results may differ from our expectations, and those differences may be material. Accordingly, investors should use caution in relying on forward-looking statements to anticipate future results or trends.*

 

*Some of the risks and uncertainties that may cause our actual results, performance or achievements to differ materially from those expressed or implied by forward-looking statements include the following:*

 

|   | **•** | *Our ability to generate positive cash flow from operations;* |
|--------|------------|---------------------------------------------------------------|

|   | **•** | *Our ability to obtain additional financing to fund our operations;* |
|--------|------------|----------------------------------------------------------------------|

|   | **•** | *Our business development and operating development; and* |
|--------|------------|-----------------------------------------------------------|

|   | **•** | *Our expectations of growth in demand for our products.* |
|--------|------------|----------------------------------------------------------|

 

*We do not intend to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise except to the extent required by law. You should interpret all subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf as being expressly qualified by the cautionary statements in this            Report. As a result, you should not place undue reliance on these forward-looking statements.*

*References in this Report to “we”, “us”, “the Company,” “Aura” or “Aura Systems”, includes Aura Systems, Inc. and its subsidiaries.*

 

 

**WHERE YOU CAN FIND MORE INFORMATION**

 

As a public company, we are required to file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission (the “SEC”). You may read and copy any of our materials on file with the SEC at the SEC’s Public Reference Room at 100 F Street N.E., Washington, DC 20549. Our filings are available to the            public over the Internet at the SEC’s website at http://www.sec.gov. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the Public Reference Room. We also make available copies of our Forms 8-K, 10-K, 10-Q, Proxy Statement and Annual Report at no charge to investors through our website, http://www.aurasystems.com, as soon as reasonably practicable after filing such material with the SEC.

 

----

**PART I**

**ITEM 1. BUSINESS**

**Introduction**

We design, assemble and sell the AuraGen®, our patented mobile power generator that uses the engine of a vehicle or any other prime mover to generate electric power. The AuraGen® delivers on-location, plug-in electricity for any end use, including industrial, commercial, recreational and military applications. The AuraGen® system consists of three            primary subsystems (i) the patented axial design alternator, (ii) the electronic control unit (“ECU”) and (iii) mounting kit that is a mechanical interface between the alternator and the prime mover. Compared to the traditional solutions addressing the multi-billion dollar North American mobile power market (i.e., Gensets, traditional alternators, permanent magnet alternators, dynamic and static inverters), we believe the AuraGen® provides alternating            current (“AC”) power as well as simultaneous direct current (“DC”) power with greater reliability and flexibility at a lower cost to the end user and significantly environmentally cleaner. We began commercializing the AuraGen® in late 1999 as a 5,000-watt 120/240V AC machine compatible with certain Chevrolet engine models. In 2001, we added an 8,000 watt configuration and also introduced AC/DC and the Inverter Charger System (“ICS”)            options. In Fiscal 2008, we introduced a dual system that generates up to 16,000-watts of continuous power and we plan to introduce additional power configurations during fiscal 2010.We now have configurations available for more than 90 different engine types, including a majority of General Motors and Ford models, some Daimler Chrysler models and numerous others engine models made by International, Isuzu, Nissan, Hino (Toyota), Mitsubishi, Caterpillar, Detroit Diesel, Cummins, and            Freightliner. Also starting in fiscal 2008, the AuraGen has been installed on a number of boats for both government and recreational end users. In the middle of fiscal 2009, we introduced and began to sell the “Oasis”, our all electric Transport Refrigeration Unit (“TRU”) for mid size trucks. The Oasis consists of the AuraGen power solution and an all electric transport refrigeration system. To date, AuraGen® units have been sold in numerous            industries, including transport refrigeration, utilities, telecommunications, emergency/rescue, public works, catering, oil and gas, transportation, government and the military.

In May 2008, we entered into an agreement with Emerald Commercial Leasing, Inc., of Conley, Georgia, whereby we acquired the transport refrigeration assets of Emerald, including all rights to drawings, designs, sketches, layouts integration know-how, parts, and vendor lists for the all electric refrigeration system based on commercial refrigeration design valued at approximately $400,000. In            addition, the agreement returns the previously assigned exclusive selling rights for the transport refrigeration industry to Aura. As a result, Aura can now offer a complete TRU solution to its customers. No value was assigned to the intangible assets, and the inventory was valued based on its cost to Emerald. The Company acquired only the refrigeration assets of Emerald in order to be able to offer a complete system consisting of the refrigeration unit and the power source for the            refrigeration unit to the refrigeration trucking industry. In addition, we reached an agreement in principle to purchase their service facility for $1,050,000. The facility consists of approximately 6 acres of land and a building of approximately 10,000 square feet with several truck service bays and a small amount of office space. The facility will be used by Aura for warehousing, service, and installation of the AuraGen for customers in the southeastern United States. Due to the            national economic down turn, and in particular the uncertainties in the real estate market, the purchase of the facility has been put on indefinite hold. Aura is currently renting the facility on a month to month basis at $7,000 per month rent.

In February, 2009 we entered into an exclusive distribution and supply agreement with WePower a Wind-Turbine company. Under the agreement Aura will exclusively provide its generators globally for wind energy harvesting applications to WePower, and in return Aura will be the exclusive supplier of generators to WePower for their wind-turbines. The agreement also requires WePower to purchase            from Aura a minimum of 3,000 systems per year. To date, WePower has placed an order for 700 systems to be delivered during the first two quarters of our fiscal 2010.

WePower provides vertical wind turbines to a variety of applications including, but not limited to, Windvertising(TM) branded media platforms. This platform enables the placement of advertising on WePower's turbines which, in turn, generate emission free wind energy to power corresponding advertising billboards.The combination of the wind turbines and the patented AuraGen power generation system will enable environmental ly friendly outdoor advertising that, in addition to reducing carbon emissions, will save money for businesses through tax incentives, energy rebates and carbon credits. Similar to the advertisement application, WePower has developed 3-5 kW turbines for cell tower applications. The WePower turbines are designed to enable environmentally friendly            electric power needed for cell tower operations, which in addition to reducing carbon emissions will save money for businesses through reduced dependence on grid power, reverse metering, tax incentives, and energy

 

----

rebates. Other applications for WePower’s small turbines are for street lights as well as power for the common areas of residential complexes.

In June, 2009 we entered into an exclusive commercial and industrial distribution agreement with Genergy Inc. for the distribution of AuraGen products in the Republic of Korea (ROK). The initial agreement is for a period of five years with automatic renewals for two years periods, provided the distributor has complied with all of its obligations. Under the agreement, Genergy Inc. is            required to purchase a minimum of $9.5 million over the initial contract life to retain the distribution Agreement.

**The AuraGen®**

The AuraGen® is composed of three basic subsystems. The first subsystem is the generator that is bolted to, and driven by, the vehicle's engine or any other prime mover. The second subsystem is the ECU, which filters, conditions the electricity to provide clean, steady voltages for both AC and DC power, and provides for variable speed applications as well as load following for            increased efficiency (load following means that at any instant the power generated is equal to the power demanded up to the maximum rated power) . The third subsystem consists of mounting brackets and supporting components for installation and integration of the generator with the vehicle engine or the prime mover.

The AuraGen is a load following machine, is now available in three continuous power levels, (a) 5,000 watts AC/DC, (b) 8,000 watts AC/DC and (c) 16,000 watts AC/DC.  All AC power is pure sine wave with total harmonic distortion of less than 2.1% and is available in both 120 VAC and or 240 VAC.  In addition, the power generated on all models can be partitioned to provide            simultaneous AC and 14 or 28 volts of DC or only DC, if required by the user.  The AuraGen power levels can be generated as the prime mover speed varies from stationary to maximum rated speed. . The VIPER (the military version of the AuraGen® system includes as an option a complete power management system which (i) monitors in real time the batteries’ voltage and temperature, (ii) provides a partition of the power between AC and DC simultaneously with the            ability to be programmed from all AC to all DC, (iii) monitors the RPM of the generator, (iv) monitors the temperatures of the generator and the ECU, (iv) monitors the raw power generated, (v) monitors both the AC and DC loads as to voltage and current, (vi) provides programming of load prioritization and load shedding, and (vii) monitors the voltage of the internal 400VDC buss.

We provide custom engineered brackets for our models that attach to over 90 different engine and chassis models. We also provide Power Take Off (“PTO”) and hydraulic driven interfaces for bigger trucks that do not involve direct attachment to the vehicle engine.

**Mobile and Remote Power Industry**

The mobile and remote power generation market is large and growing. Vehicles used in the telecommunications, utilities, public works, construction, catering, and oil and gas industries, emergency/rescue and military and recreational vehicles rely heavily on mobile power for their internal systems. In addition, mobile work sites require on-location electricity to power equipment ranging from            computers to power tools. Hybrid vehicles are rapidly penetrating the market place and require a significant amount of on board electric power. Separate from these mobile, vehicle related applications, there are other applications that are considered remote power applications. These are applications that are not mobile and are also not connected to the power grid, which is where most electric power for residential and commercial power is drawn from. These include wind turbines and            other stationary applications that require a solution that converts mechanical energy into electrical energy.

Based on studies conducted by the U.S. government, Business Communications Company, Inc. and others, we estimate the annual gross North American for non hybrid vehicle related mobile power generation market in 2008 is at least $2.5 billion and growing. Worldwide growth is expected to be fueled by increases in the development and construction of industrial infrastructures, significant growth            in homeland security expenditures, and increased use of sophisticated electronic equipment in underdeveloped areas where grid-based electricity is unavailable or unreliable. We also believe that mobile power has become increasingly important as backup to electric grid power supply. The need for on board power for hybrid vehicles is increasing rapidly and will surpass the demand for 500,000 annual units shortly. All wind generated power systems use a generator to convert wind energy            to electric energy. The AuraGen provides a variable speed efficient generator to convert the mechanical energy harvested by the wind turbine from the wind energy to electrical energy. WePower currently focuses on small to medium (1-100 kW) vertical wind turbines and under the agreement the AuraGen will be used exclusively by WePower for its vertical wind turbines. The current AuraGen configuration is designed to provide power in the 1-8.5 kW range, and for higher power levels we            combine multiple AuraGens on a common shaft. To date we have successfully combined two units on a single shaft to provide 16 kW of power. While in principal there is no difference between combining

 

----

2 or more AuraGens on a single shaft, we have not done so as of yet. During fiscal 2010 we plan to develop an AuraGen capable of generating from 30 kW up to 100 kW of power without the need of combining systems. Currently, the principal application of the AuraGen in the wind power market is to power a single, stand alone power requirement, such as an advertising billboard, unlike a windmill            farm, which has a primary purpose of feeding electricity into the power grid.

The traditional available solutions for mobile and remote power users are:

|   | **•** | Gensets,Gensets are standalone power generation units that are not incorporated into a vehicle and require external fuel, either gasoline or diesel, in order to generate electricity. Gensets (i) are generally noisy and cumbersome to transport because of their weight and size, (ii) typical run at                            constant speed to generate 50 or 60 Hz of AC power, (iii) must be operated at a significant part of the rated power to avoid wet staking, (iv) are significantly de-rated in the presence of harmonics in the loads and (v) require significant scheduled maintenance and service. Genset technology has been utilized since the 1950s. |
|--------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

High-Output Alternators,High-output alternators are traditionally found in trucks and commercial vehicles and the vehicle’s engine is used as the prime mover. All high-output alternators provide their rated power at very high RPM and significantly less power at lower RPM. In addition high-output alternators are generally            only 30% efficient at the low RPM range and increase to 50% efficiency at the high end of the RPM range. The power generated by high-output alternators is 12 or 24 Volt DC and an inverter is required if 120 Volt AC power is needed. In addition, due to the low power output at low RPMs, in order to get significant power, a throttle controller is used to speed-up the engine.

|   | **•** | Inverters,Inverters are devices that invert battery DC to AC. Inverters as mobile power generators are traditionally used in low power requirements, typically less than 2,500 watts, and do not have the ability to recharge the batteries used as the source of power. Thus, typical inverter users                            require other means to recharge the used batteries such as “shore-power” or gensets. More recently dynamic inverters became available. Dynamic inverters use power from the alternator to augment power from the batteries and are able to achieve power levels in excess of 6,000 watts. Dynamic inverters introduce significant stresses on both the batteries and alternators, which causes significant life shortening for both. Dynamic inverters use power from the                            alternator. When the inverter is turned on, the alternator is switched off from the vehicle battery and tied into a transformer that uses electronics controls to change the DC alternator inputs to AC inverter output. A separate transformer winding provides battery charging so that fully regulated 120 Volt AC and 12 Volt DC power is available as long as the engine is running at high enough RPM to provide power for the load and the battery charging. All dynamic                            inverters require a high-output alternator to be able to output significant AC power. As is often the case, the limiting factor is the high-output alternator. In order to get stable output, a very accurate throttle controller is also needed to maintain steady speed on the engine. |
|--------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | **•** | Permanent-Magnet Alternators.Recently a number of companies have introduced alternators using exotic permanent magnets. These alternators tend to have higher power generation capabilities than regular alternators at lower engine RPM. In order to be practical in an under-the–hood environment                            (200oF) active cooling must be added, since the magnets are demagnetized at approximately 176oF. There are other issues that require an active control system that will add and subtract magnetic field strength as the engine RPM increases. |
|--------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

Wind Turbines. Wind turbines convert wind energy into mechanical energy (prime mover). The mechanical energy is converted into electric energy through a generator. Traditional generators operate at one speed. Because the wind energy varies continuously and is unpredictable a gear box and transmission is needed to provide the            constant speed required by the generator. In addition traditional wind turbines require the capability of moving the blades into and out of the wind. There are two types of wind turbines, (i) the traditional large horizontal machines, and (ii) smaller vertical axis machines. The horizontal machines must be turned into the wind and away from the wind when the wind speed is too large. The vertical machines capture the wind from all directions and do not require a mechanism to move            them into the wind. However typically they do require a brake to slow down the machine when the wind speeds are too large.

|   | **•** | Fuel Cells.Fuel cells are solid-state devices that produce electricity by combining a fuel containing hydrogen with oxygen. They have a wide range of applications, and can be used in place of the internal combustion engine and traditional lead-acid and lithium-ion batteries. The most                            widely deployed fuel cells cost about $4,500 per kilowatt. |
|--------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

----

|   | **•** | Batteries. Batteries convert stored chemical energy to electrical energy. |
|--------|------------|---------------------------------------------------------------------------|

**Competition**

The industry in which we operate is competitive. The primary competition for the AuraGen® is the Genset industry, and there are approximately 44 Genset manufacturers in the United States. These competitors include: Onan, Honda and Kohler.

There are many high-output alternator manufacturers. Some of the better known ones are Delco-Remy, Bosch, Nippon Densu, Hitachi, Mitsubishi and Prestolite.

There are many manufacturers of standard electric generators. Some of the better known ones are General Electric, Westinghouse, and ABB.

There are many inverter manufacturers; some of the better-known are, Trace Engineering, Vanner, and Xentrex.

The main competitors for the Oasis all electric TRU are Thermoking and Carrier. Both Thermoking and Carrier provide diesel based TRUs for midsize trucks. The diesel based comparable systems provided by Thermoking and Carrier are approximately $6,000 less expensive than the Oasis, however they require frequent regular scheduled maintenance and a separate diesel engine that consumes            approximately 0.4-0.6 gallons per operating hour.

We do not compete directly with anyone for the generators that will be used by WePower since our agreement calls for us to be the sole supplier of generators to WePower. However, there are a number of small manufacturers who provide vertical wind turbines in direct competition with WePower. These other vertical wind turbine manufacturers use other types of generators such as permanent magnet            alternators (see above), or DC and conventional induction machines.

Most of our competitors have greater financial, technical, and marketing resources than the Company, have larger budgets for research, new product development and marketing, and have long-standing customer relationships. We also compete with many larger and more established companies in the hiring and retention of qualified personnel. Our financial condition has limited our ability to market            the AuraGen® aggressively. The AuraGen® uses new technology and has only been available in the marketplace for a few years. As described below, because our product is radically different from traditionally available mobile power solutions, users may require lengthy evaluation periods in order to gain confidence in the product. OEMs and large fleet users also typically require considerable time to make changes to their planning and production.

Because of our limited financial and staff resources, we have focused our sales and marketing activities to a few industrial and military segments. In particular, we have focused on selling to the U.S. military, including the U.S. Coast Guard (the “USCG”), homeland security agencies and emergency/rescue operations, such as the Federal Emergency Management Agency.

More recently we expanded our focus and are now marketing to companies in the oil and gas segment, the transport refrigeration segment, state and local governments, in particular, the Department of Transportation (“DOT”), and in the recreational boating industry.

**Competitive Advantages of the AuraGen®**

We believe the AuraGen® is a superior product due to its convenience, cost efficiency, fuel efficiency, reliability, flexibility in power output, quality of the electricity generated, and its ability to provide the full power at variable speeds as well as provide load following architecture. . The AuraGen® is not sensitive to temperature or altitude variations            and generates the rated power at or near idle engine RPM.

The ability to operate at variable speed makes the Aura solution very attractive when the speed of the prime mover varies and is unpredictable, such as wind turbines and automotive applications. The variable speed solution is a direct consequence of our system architecture where we separated the power generation from the power delivery by the power buss.

The load following capability is also a direct result of the system architecture and the separation of the power generation from the power delivery. The user always draws power from the power buss and the generator only fills the power buss with whatever power was drained by the user.

 

----

The AuraGen® does not require scheduled maintenance and is offered with a three-year warranty, compared to the typical one-year warranty available for a Genset or inverter.

In addition, the AuraGen® is significantly cleaner for the environment than Gensets, the other generally available mobile power solution. The AuraGen® uses the automotive engine, which is highly regulated for environmental protection. Gensets use small engines that produce significantly higher levels of emissions per unit of power output than the automobile            engine.

The Oasis system provides an environmentally friendly solution that also provides significant cost savings to the users. When life cycle costs are compared between the Oasis and the diesel based solution over a 7 year period (typical life time for a TRU) the Oasis system could potentially save an average user approximately $20,000.00. In addition the Oasis solution provides zero emissions            since the extra diesel is completely eliminated. This is a significant marketing advantage for those customers who care about the environment. The refrigeration component of the Oasis system is modeled after commercial refrigeration system that does not require any custom parts.

The AuraGen power solution or wind turbine is rather different from all other known solutions in the market place. The AuraGen system architecture that separates the power delivery from the user provides the AuraGen with the ability to provide a system that can ensure the end user of uninterrupted power when wind is just not available as well as load following for higher efficiencies and            lower operating costs. In addition, the nature of the Auragen is such that it can be used as a motor to start the mechanical turbine and also as a brake when wind speeds become too high. The system ability to supply pure sine wave AC power provides the ability to connect to the power grid and the ability to supply DC power allows for charging batteries. The overall system with the built in inverter and bi directional power supply is significantly cheaper than other solutions where            the sine wave inverter alone can cost as much as $0.80 per watt ($4,000 for a 5 kW inverter). The AuraGen advantages for wind applications can be summarized as; (i) Variable speed capabilities without a gear box or transmission, (ii) Load following removes the need for over sizing and provides a more efficient utilization, (iii) Higher operating efficiencies 92%+, (iv) A factor of 2.5+ times more power per unit volume results in lower weight and smaller size, (v) One moving part            (the rotor) with the moving mass being 2/3 less than other systems, (vi) Ability to provide both AC and DC power simultaneously, (vii) Seamless transition from generator to battery sources for uninterrupted power to AC loads, (viii) Software changes for output frequencies such as 60 Hz or 50 Hz without hardware changes, (ix) Power management system with automatic load priority program and load shedding capabilities, and (x) Significant cost savings when compared to NeFeB PM            (neodymium magnet) machines or other induction or synchronous generators and alternators.

We believe that barriers to entry make it less likely that a product superior to the AuraGen® will become available in the foreseeable future. The inventions upon which the AuraGen® is based are protected by patents issued by the U.S. Patent Office. To our knowledge, there are no other patents for axial induction machines with solid rotors such as the            AuraGen®.

Manufacturers and end users of mobile power solutions (including the military) typically require completion of extensive evaluation and approval processes before embracing new systems. After extensive testing, a number of federal, state, DOT departments, and some major industrial companies have approved the AuraGen® for purchase.

Thousands of AuraGen® units are currently being used for multiple applications and in all types of operating environments, providing a good sample set for reliability analysis. The results show very low failure rates, which we are reducing further via minor hardware and software modifications, better assembly procedures and improved installation training. The U.S. Army has            performed its own tests and is continuing to test the AuraGen® under severe conditions. The VIPER, in use by the Special Forces and other combat forces, has been air-drop-certified by the U.S. Army and has been, and is, successfully deployed in Operation Enduring Freedom and Operation Iraqi Freedom.

The AuraGen® system passed all of the Underwriters Laboratories (“UL”) testing in 2002 and 2003. In late 2004 and early 2005 the U.S. Marine Corps successfully tested the VIPER for safety and other operational capabilities at the Aberdeen Test grounds.

**Target Markets**

After the Company emerged from Chapter 11 reorganization under new management in January 2006, our sales and marketing activities were expanded to include the following markets.

Military, Homeland Security Administration and Other Federal Agencies

 

----

We believe the VIPER is a superior mobile power solution compared with existing alternatives for numerous military applications. The VIPER capability to produce both 120 Volt AC and 28 Volt DC power simultaneously at low engine RPM is critical for many military applications. In addition, the VIPER’s power management system, provides military users with the ability to monitor the            quality and quantity of available power, the state of the on-board batteries, and the ability to prioritize different electric loads. The USCG, after three years of testing, selected the VIPER as the power system for its 190 new patrol boats; SAIC is using the VIPER on all of its VACIS gamma ray scan systems that are used for homeland and base security applications, and numerous units of special forces and regular army are using the VIPER in both Iraq and Afghanistan. The Department            of Defense issued a report to Congress in August 2006, which discussed the success of the VIPER in Iraq and Afghanistan. More recently in May 2009, at the Joint Service Power Expo, the Advance Research Lab (a U.S.N facility) under the U.S. Army contract, presented the results from their testing of numerous alternators to determine their power output at low RPM and at elevated under the hood temperatures that are expected in desert warfare. The results show that our VIPER system was            the only tested device that performed as advertised. All the other tested systems only generated approximately 50% of the rated power at idle speed and had significant further de-rating as the temperature increased. Currently a number of military OEMs are exploring the use of the VIPER for various military programs.

Marine

We believe that the AuraGen® is an ideal product for recreational boats with a length of 25 to 50 feet. The National Oceanic and Atmospheric Administration tested the AuraGen® on the “Magna Spirit”, a research vessel, for 3,000 miles on the open ocean and reported flawless performance. The USCG tested the VIPER for three years before choosing it to            power 190 new patrol boats. The United States Navy also tested the VIPER for over 10,000 nautical miles with flawless performance. All of these organizations are leaders in the introduction of new technologies and safety for marine applications. More recently a major boat OEM successfully tested the AuraGen® on one of their production boats, and the Company is currently pursuing the required boat related certifications from UL. While the Company is not expecting any            delays in getting the required certification, no assurances can be given as to when, or if, such required certification will be completed.

Oil and Gas Industry

The oil and gas industry is a heavy user of mobile power for service. We have identified a number of oil and gas service providers that require the power level, as well as the power quality, generated by the AuraGen®. In particular, there is a need for very large power to start inductive loads such as compressors, fans and electric motors. Typically the starting power required            is known as lock rotor and can easily reach 30,000 watts. The AuraGen® ICS design and architecture is such that it can easily support these power levels for the very short times that are required to start the loads. We have demonstrated 30,000 watts starting power for numerous compressors and motors.

Mid - Size Refrigeration TrucksMid size refrigeration trucks are used throughout the country for the delivery of food. These trucks typically have a diesel engine mounted over the cab that is used as a generator for the refrigeration unit. The AuraGen® is an ideal power source that can eliminate the need for the extra diesel engine            thus reducing operating cost and fuel costs. The AuraGen’s® ability to provide high wattage, start-up power is critical for this application, since a typical refrigeration system requires a two to four horsepower compressor. Such compressors require 20,000 to 30,000 watts of starting power. The Company has now sold over 100 systems for this application and is anticipating significant growth in this segment.

Emergency/Rescue 

The emergency/rescue market relies heavily upon mobile power for lights, communications gear, instruments, medical equipment and digital equipment and tools. As the emergency/rescue market has undergone a transition to digital equipment and portable computers, it has experienced constant growth in mobile power needs. Approximately 20 of these organizations have started to use the            AuraGen®. Recently the Red Cross has used the AuraGen® to power its communication needs in support of disaster relief during Hurricane Katrina and the wildfires in California in October 2007. In addition, hundreds of fire trucks are now using the AuraGen® as their mobile power source.

Wind Turbines

The market for wind energy is expanding as governments and people are looking for alternative sources of energy. Traditional wind energy solutions are based on horizontal wind turbines with one or more blades. Such machines can vary in size from very small to extremely large with blades that are more than 200 feet long. All such machines require a high tower, and a mechanical system that can            rotate the turbine into the wind direction and away from the

 

----

wind when it becomes too strong. These machines need substantial open space and are not found in cities. A less common solution that is gaining acceptance rapidly is based on a vertical design. In such a design the turbine is always in the wind, considerably less space is needed, it is more aesthetically appealing, and the generator and support equipment can be placed on the ground. WePower            is aggressively pursuing the vertical design solution.

The AuraGen is an ideal solution for this application due to the unique design architecture that provides the end user with flexibility and uninterrupted power as wind conditions change. The unique design provides both AC and DC power capabilities allowing easy integration into the grid and the ability to charge batteries. The electronic control box also provides the ability to perform at            variable speeds (wind speed is unpredictable and uncontrollable) without the need for a gear box or transmission, resulting in upfront cost savings as well as maintenance and operational cost savings.

Currently, the principal application of the AuraGen in the wind power market is to power a single, stand alone power requirement, such as an advertising billboard, unlike a windmill farm, which has a primary purpose of feeding electricity into the power grid.

**Facilities, Manufacturing Process and Suppliers**

We assemble and test the AuraGen® at our 27,000 square foot facility in El Segundo, California, with components that are produced by various suppliers. Since December 31, 2007, we have been on a month-to-month lease. In February 2008, we entered into a lease for a new facility of approximately 25,500 square feet, near our current facility. The lease is for a term of five            years, commencing May 1, 2008, and carries a base rent of $28,019 per month. The planned leasehold improvements for the new facility took longer than expected to complete due to numerous changes in layout and other requirements that resulted from changing business requirements as well as the delays in the acquisition of the facility in Georgia. We expect to be able to move into this facility by the end of July 2009. and terminate the month-to-month lease on our current facilities at            that time. We feel this facility is sufficient for our current needs. Early in our AuraGen® program, we determined it was most cost-effective to outsource production of components and sub-assemblies to volume-oriented manufacturers, rather than produce these parts in-house. As a result of this decision, and based on then anticipated sales, prior to fiscal 2001 we purchased, a substantial inventory of components and sub-assemblies at volume prices. Since sales did not            meet our expectations, we have been assembling, testing and selling product from this inventory for several years. In order to renew our inventory of components, we will need to renew contracts with such manufacturers or locate other suitable manufacturers. Since we emerged from our Chapter 11 reorganization in January 2006, we have renewed our relationships with a number of our old suppliers and are developing relationships with others. To ensure quality and reliability in the            field, we use highly qualified suppliers, the majority of which are ISO 9002 compliant.

**Distribution and Product Support**

We provide a turnkey product and service to support our customers in every area. We have performed all of the development, from basic physics to detailed engineering. We believe our core capabilities provide a solid foundation to resolve technical issues, develop an ongoing line of new products and continually enhance our products.

Our vehicle integration team develops, engineers, and supplies all of the brackets, pulleys, idlers, belts, tensioners and other components that comprise a mounting system. The group also specifies all of the requirements of the AuraGen® to allow its use with other mobile drives, such as hydraulic systems and PTO applications.

Our sales and distribution efforts can be classified into three groups; (i) direct sales, (ii) distribution agreements, and (iii) OEM agreements. We employee a sales force, who is compensated with a modest base salary, and commissions based on sales. Our wind related applications are through an exclusive distribution and supply agreement that we entered into with WePower in February 2009. We            also have an exclusive distribution agreement in Korea for military applications and recently entered into an exclusive agreement with another distributor to market and sell our products in Korea for commercial and industrial applications. We are currently negotiating with a number of other entities for distribution agreements in different parts of the globe. We sell AuraGen for TRU using cold plate solutions through one large manufacturer of such cold plate solutions, and expect to            continue with this relationship for fiscal 2010. Our Oasis solution is being sold directly with the aid of large national as well as local leasing companies (most refrigeration trucks are leased by the end users). We sell directly to the military, government agencies and military contractors. While we have not yet reached any OEM agreements with truck manufacturers, we are working closely with all the major truck manufacturers both domestic and foreign to integrate the AuraGen into            their vehicle at the factory or at the port of entry.

**Research and Development**

 

----

We believe that ongoing research and development is important to the success of our product in order to utilize the most recent technology, to develop additional products and additional uses for existing products, to stay current with changes in vehicle manufacture and design and to maintain an ongoing advantage over potential competition. We are engaged in numerous new and enhanced            developments of our AuraGen/VIPER both as company sponsored research and development (“R&D”) and contract related R&D activities. Under contracts to the U.S Navy and general Dynamics with additional corporate funds we combined the output of two of our 8.5 kW systems into a single 16 kW circuit. Among other benefits, this provides us the required power solution to pursue the 40,000 BTU refrigeration trailer market. We are also developing a 3 phase solutions which            will allow us to provide 3 phase shore power interface to our systems. The 3 phase solution should be completed by the end of the second quarter of fiscal 2010. We have enhanced our coil designs and are completing testing. Early results show significant improvements in efficiency with the new coil designs. We are developing a 30 kW system and are starting to examine a 100 kW system. Both of these systems are being developed for military applications. We expect a prototype 30 kW            system by the end of the current year.

We are currently in the final testing of our new 9 inch diameter 4 kW machine and expect to have it in production before the end of the current year. We are also enhancing our ECU to be able to provide more power when the prime mover is off. Our current system provides approximately 4 kW when the engine is off and our enhanced system is expected to provide as much as 7 kW with the engine-off            mode.

For wind applications we are modifying our machine by increasing the number of poles such that we will have maximum generating power at much lower RPMs (wind turbine speeds are expected to be in the 100s RPM as compared to automotive applications of 1,000 RPM). We expect to have our first 12 pole machines operating by the end of July 2009.

In order to support larger power systems we are redesigning our ECU with a 1,200VDC buss and ability to handle up to 150 amps of excitation current.

In addition to the above activities, we plan to start developing electric motors based on the AuraGen technology with the focus of this development on the 1⁄2 to 10 horsepower segment of the industry.

**Patents and Intellectual Property**

Our intellectual property portfolio consists of trademarks, proprietary know-how and patents.

In the area of electromagnetic technology, we have developed numerous magnetic systems and designs that result in a significant increase of magnetic field density per unit volume that can be converted into useful power energy or work. This increase in field density is a factor of three to four, which, when incorporated into mechanical devices, could result in a significant reduction in size            and cost of production for the same performance.

The applications of these technological advances are in machines used every day by industrial, commercial and consumers. We have applied technology to numerous applications in industrial machines, such as generators, motors, actuators and linear motors.

The U.S. Patent Office awarded us 29 patents applicable to automotive and industrial applications. Of those patents, four are focused directly on the AuraGen®, seven are basic magnetic actuation, two are for control systems associated with controlling the magnetic fields in different configurations and sixteen are focused on the EVA application.

The sixteen (16) patents associated with the EVA application cover the implementation of a controlled magnetic field as applied to linear motors. Many of the same techniques are implemented into the AuraGen® control systems and, in particular, the control of the high power board used in the new AuraGen® inverter mode, which uses many elements from the EVA            application.

**Areas of AuraGen® Technology Innovation:**

We hold the following patents: Nos. 5,734,217; 6,157,175; 6,700,214; 6,700,802; with expiration dates of 2015, 2017, 2019 and 2019 respectively. The above patents cover three areas, as described below.

Induction Machine

 

----

The basic patent covers a new form of induction machine with superior performance in a much smaller size than conventional machines. The solid cast rotor, the shaped magnetic field, the secondary conduction path through the steel, and the axial magnetic orientations are key components of this innovation.

Control System

This system separates the power generation from the power delivery by introducing a 400 VDC buss. For each cycle of each phase, part of the cycle power is drawn from the bus to run the electronics and energize the coils, while during the other part of the cycle, power is delivered to charge up the buss. The control system must balance all the timing to effect zero voltage change to the buss            under dynamic variations of frequency and loads. The ability to optimize in real time the slip frequency is a key innovation in motor and generator control for variable speed, variable frequency, and variable load systems.

Bi-Directional Power Supply (“BDP”)

The patented ICS system developed by Aura provides a new capability in power systems. The BDP allows a system to use multiple sources of power simultaneously. It is a key component in providing the ability to deliver both AC and DC power simultaneously, as well as the ability to handle large power surges without the need for a throttle controller.

**Employees**

As of May 15, 2009, we employed 60 persons on a full time basis. We are not a party to any collective bargaining agreements.

**Significant Customers**

During the year ended February 28, 2009, we conducted business with two major customers whose sales comprised 16.2% and 10.2% of net sales, respectively. As of February 28, 2009, no amounts were receivable from these customers. During the year ended February 29, 2008, we conducted business with three major customers whose net sales comprised 42% of net sales. As of February 29, 2008, three            customers accounted for 30% of net accounts receivable.

**Backlog**

As of June 11, 2009, we had a backlog of approximately $29.5 million. Of this amount, approximately $6.0 million is for the 2010 fiscal year and approximately $23.5 million is for delivery after the 2010 fiscal year. Approximately $1.8 million in the current year and $4.5 million for delivery after fiscal 2010 is subject to cancellation or renegotiation at the convenience of the government.            As of June 2008, we had a backlog of approximately $5.5 million, of which approximately $4.2 million was for delivery after the 2009 fiscal year.

| **ITEM 1A. Risk Factors**  |
|---------------------------------|

**Risk Factors Relating to Our Business**

***We have a history of losses and we may not be profitable in any future period.***

In each fiscal year since our organization in 1987 we have not made an operating profit. We have an accumulated deficit in excess of $364 million from our inception through February 28, 2009. Since emerging from bankruptcy, we have incurred approximately $25 million in losses. We cannot assure you that we will be able to achieve or maintain profitability or positive cash flow.

***If we are unable to raise capital, our ability to implement our current business plan and ultimately our viability as a company could be adversely affected.***

The cash flow generated from our operations to date has not been sufficient to fund our working capital needs, and we cannot predict when operating cash flow will be sufficient to fund working capital needs. In June 2005 we were forced to file for protection under Chapter 11 of the U.S. Bankruptcy Code, from which we emerged under a court-approved plan of reorganization on January 31,            2006.

 

----

In the past, in order to maintain liquidity we have relied upon external sources of financing, principally equity financing and private and bank indebtedness. We have no bank line of credit and require additional debt or equity financing to fund ongoing operations. If we cannot raise needed funds, we would be forced to make substantial reductions in our operating expenses, which could            adversely affect our ability to implement our current business plan and ultimately our viability as a company.

***Our auditors have qualified their report on our financial statements to indicate that there is substantial doubt as to our ability to continue as a going concern, which could adversely affect our ability to obtain third party financing.***

Our auditors, Kabani and Company, have qualified their report on the current financial statements to indicate that there is “substantial doubt” about our ability to continue as a going concern. This opinion is based upon our continuing losses from operations. The existence of the going concern qualification could affect our ability to obtain financing from third parties or could            result in increased cost of this financing.

***Our success over the short-term depends on the commercial success of the AuraGen® products, as we are not currently engaged in any other line of business.***

Because we have focused our business on developing mobile power solutions in the 3,000 to 25,000 watts range, rather than on diversifying into other areas, our success in the foreseeable future will be dependent upon the commercial success of the AuraGen® product line.

 

***We may have difficulty managing our growth.***

 

We will need to hire employees, rebuild our sales and production infrastructure and improve our operating and financial systems in order to effectively manage any significant growth in demand for our products. If we do not effectively manage our growth, we will not be successful in executing our business plan, which could have a material adverse affect on our business, results of operations            and financial condition.

***The market acceptance of the AuraGen® is uncertain.***

Our business is dependent upon sales generated from the AuraGen® family of products and increasing acceptance of these products. We cannot assure you that our products will achieve broad acceptance in the marketplace. The AuraGen® uses new technology and has only been available in the marketplace for a few years. Our financial condition has limited our ability            to market the AuraGen® to potential customers. Because our product is radically different from traditionally available mobile power solutions, users may require lengthy evaluation periods in order to gain confidence in the product. OEMs and large fleet users also typically require considerable time to make changes to their planning and production.

***Our business and prospects may be adversely affected by general economic conditions.***

The national economic slowdown has resulted in deferred, delayed and cancelled orders commencing in the latter part of fiscal 2009 and may continue to adversely affect market acceptance and use of AuraGen® products.

***Our business may be adversely affected by industry competition.***

The industry in which we operate is competitive. We face substantial competition from companies that have been offering traditional solutions such as Gensets for the last 50 years, and there are more than 40 Genset manufacturers in the United States. These competitors include: Onan, Honda and Kohler. In the TRU area we are competing with Thermo-king and Carrier who dominate the business in            the USA.Most of our competitors have greater financial resources than we do, have larger budgets for research, new product development and marketing and have long-standing customer relationships. We must compete with many larger and more established companies in the hiring and retention of qualified personnel.

Moreover, this market may attract new competitors that have longer operating histories, greater name recognition and significantly greater financial, technical and marketing resources than us. Our failure to meet our projections for our products’ market acceptance or the ability of our competitors to capture a first mover advantage could have a material adverse impact upon our            business, operating results and financial condition. Furthermore, new product introductions or product enhancements by our current or future competitors or the use of other technologies could cause a loss of market acceptance of our products.

 

----

***We depend on our intellectual property to provide us with a competitive advantage.***

We rely on a number of patents and patent applications to protect the AuraGen® products from unauthorized use by competitors. Our efforts to protect our proprietary rights may not prevent infringement by others or ensure that these rights will provide us with a competitive advantage. We cannot assure you that the patents pending relating to the AuraGen® system            or future patent applications will be issued or that any issued patents will not be invalidated, circumvented or challenged.

A portion of our proprietary technology depends upon trade secrets and unpatented technology and proprietary knowledge related to the development, promotion and operation of our products. While we generally enter into confidentiality agreements with our employees, consultants and vendors, we cannot assure you that our trade secrets and proprietary technology will not become known or be            independently developed by competitors in such a manner that we have no practical recourse, and there can be no assurance that others will not develop or acquire equivalent expertise or develop products that render our current or future products noncompetitive or obsolete.

Litigation regarding intellectual property rights could be time-consuming and expensive and could divert our technical and management personnel from their work. We cannot assure you that such litigation expenses will not occur in the future. There also can be no assurance that other parties will not take, or threaten to take, legal action against us, alleging infringement of such            parties” patents by our current or proposed products. We cannot assure you that we will have adequate financial resources to successfully institute or defend intellectual property litigation. Insurance coverage to indemnify us against liability for infringement of other parties’ intellectual property rights is either unavailable or prohibitively expensive.

 

Competition for key employees is intense, and we cannot assure you that we will be able to retain our key employees or that we will be able to attract, assimilate and retain other highly qualified personnel in the future. While we may enter into agreements with our employees regarding patents, confidentiality, and related matters, we do not generally have employment agreements with our            employees. The loss of key personnel, especially without notice, or the inability to hire or retain qualified personnel, particularly given our anticipated growth, could have a material adverse effect on our business, operating results and financial condition.

 

***We depend on third party manufacturers for certain product components.***

We rely extensively on subcontracts with third parties for the manufacture of most components of the AuraGen®. If these providers do not produce these products on a timely basis, if the products do not meet our specifications and quality control standards, or if the products are otherwise flawed, we may have to delay product delivery, or recall or replace unacceptable            products. In addition, such failures could damage our reputation and could adversely affect our operating results. As a result, we could lose potential customers and any revenues that we may have at that time may decline dramatically.

Although we generally use standard industrial and electrical parts and components for our products, some of our components are currently available only from a single source or from limited sources. We may experience delays in production of the AuraGen® if we fail to identify alternate vendors or if any parts supply is interrupted or reduced, or if there is a significant            increase in production costs or decline in component quality.

***We will need to renew sources of supply to meet increases in demand for the AuraGen®.***

We purchased the basic components for the AuraGen® units currently being sold under a bulk order placed prior to fiscal 2001. Due to sales not meeting anticipated levels, we have been selling from this inventory. In order to renew this inventory, we will need to renew contracts with such manufacturers or locate other suitable manufacturers. Although we believe that there are a            number of potential manufacturers of the components, we cannot assure you that renewed contracts for components can be obtained on favorable terms. Any material adverse change in such contracts could increase our cost of goods.

| **Risks Relating to Our Common Stock**  |
|----------------------------------------------|

 

***Because our operating results have been uneven and may continue to fluctuate, this could affect our stock price.***

 

Because our efforts since 1999 have been focused entirely on the introduction of the AuraGen® family of products into the marketplace, our revenues and operating results have been uneven and may continue to be so during our

 

----

current fiscal year and beyond. These fluctuations could affect our stock price. Factors which could affect our operating results include:

 

|   | - The size, timing and shipment of individual orders; |
|--------|-------------------------------------------------------|

|   | - Market acceptance of our products; |
|--------|--------------------------------------|

|   | - Development of direct and indirect sales channels; and |
|--------|----------------------------------------------------------|

|   | - The timing of introduction of new products or enhancements. |
|--------|---------------------------------------------------------------|

 

 

***We may issue additional shares of our authorized common stock without obtaining the approval of our stockholders.***

 

As of the date of this report, our corporate charter currently authorizes our Board of Directors to issue up to 75,000,000 shares of common stock, of which 48,022,114 shares were outstanding as of May 15, 2009. The power of the Board of Directors to issue authorized shares of common stock is generally not subject to stockholder approval under Delaware state law, the            state of our corporate organization. Any additional issuance of our common stock may have the effect of further diluting the equity interest of stockholders, and such dilution could be substantial.

 

***Because our common stock is subject to rules governing low priced securities, market liquidity for our common stock could be adversely impacted.***

 

Our common stock trades below $5.00 per share and is not listed on the Nasdaq Stock Market or a national or regional securities exchange. Therefore, our common stock is subject to the low priced security or so-called “penny stock” rules that impose additional sales practice requirements on broker-dealers who sell such securities to persons other than established customers and            accredited investors. For any transaction involving a penny stock, unless exempt, the rules require, among other things, the delivery, prior to the transaction, of a disclosure schedule required by the SEC relating to the penny stock market. These rules also require that the broker determine, based upon information obtained from the investor, that transactions in penny stocks are suitable for the investor, and require the broker to obtain the written consent of the investor prior to            effecting the penny stock transaction. The broker-dealer must also disclose the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and, if the broker-dealer is the sole market-maker, the broker-dealer must disclose this fact and the broker-dealer’s presumed control over the market. Finally, monthly statements must be sent disclosing recent price information for the penny stock held in the account and            information on the limited market in penny stocks. As long as our common stock is characterized as a penny stock, the market liquidity for these shares could be severely affected. The regulations relating to penny stocks could limit the ability of broker-dealers to sell these securities and, in turn, the ability of stockholders to sell their shares in the secondary market.

***The potential exercise of outstanding warrants and options could adversely affect the market price of our common stock, dilute the holdings of existing stockholders and impede our ability to obtain additional equity financing.***

As of June 1, 2009, we had outstanding 5,765,511 options and warrants to purchase our common stock at exercise prices ranging between $1.50 and $4.00. If those option and warrant holders exercise these securities, we will be obligated to issue additional shares of common stock at the stated exercise price. As of June 8, 2009, the closing price of our common stock was $0.94 per share. The            existence of such rights to acquire common stock at fixed prices may prove a hindrance to our efforts to raise future equity funding, and the exercise of such rights will dilute the percentage ownership interest of our stockholders and may dilute the value of their ownership. Future sale of shares issuable on the exercise of outstanding warrants and options at fixed prices below prevailing market prices, or expectations of such sales, could adversely affect the prevailing market            price of our common stock, particularly since such warrants or options may be exercised at a fixed price and resold. Further, the holders of the outstanding warrants may exercise them at a time when we would otherwise be able to obtain additional equity capital on terms more favorable to us.

 

***We do not expect to pay dividends on our common stock in the foreseeable future.***

 

Although our stockholders may receive dividends if, as and when declared by our Board of Directors, we do not presently intend to pay dividends on our common stock until we are able to generate revenues and profits on a sustained basis and available cash exceeds our working capital requirements. Therefore, you should not purchase our common stock if you need immediate or future income by way            of dividends from your investment.

 

----

**ITEM 2. PROPERTIES**

Effective December 31, 2007, the lease on our current facility expired and we are now on a month-to-month lease. In February 2008, we entered into a lease for a new facility of approximately 25,500 square feet, near our current facility. The lease is for a term of five years, commencing May 1, 2008, and carries a base rent of $28,019 per month. We expect to move into this new facility in the            second quarter of fiscal 2010 and at that time vacate our present facility. The Company also negotiated to purchase the service and installation facilities of Emerald, which comprises approximately 6 acres of land and a building of approximately 10,000 square feet with several truck service bays and a small amount of office space. Due to the national economic down turn, and in particularly the uncertainties in the Real Estate market, the purchase of the facility has been put on            indefinite hold. Aura is currently renting the facility on a month to month basis at $7,000 per month rent. We believe that these facilities will be adequate for our current needs.

| **ITEM 3. LEGAL PROCEEDINGS**  |
|-------------------------------------|

Except as described below, we are not a party to any material pending legal proceedings.

**Barovich/Chiau et. al. v. Aura Systems, Inc. et. al. (Case No. CV -95-3295).**

As previously reported in our fiscal 2000 report on Form 10-K, we settled shareholder litigation in the referenced matter in January 1999. On November 20, 1999, the parties entered into an Amended Stipulation of Settlement, In January 2006, the bankruptcy court in our Chapter 11 proceeding (In re Aura Systems, Inc., United States Bankruptcy Court, Central District of California, Case Number            LA 05-24550-SB), approved the settlement of this claim for approximately 465,000 shares of common stock in the reorganized company. The Company reserved the shares and they are included in the outstanding and issued share presentations since the confirmation of the reorganization plan in January 2006. Plaintiffs appealed the ruling of the bankruptcy court to the District Court of Appeals claiming they were a secured creditor under the Plan of Reorganization, and therefore entitled            to full payment in cash over a period of five years. The appellate court upheld the ruling of the bankruptcy court, and Plaintiffs appealed this decision to the Ninth Circuit Court of Appeals. The Ninth Circuit Court of Appeals recently upheld the decision. The Company is currently working with Plaintiffs’ attorney to arrange the distribution of the shares.

**ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

No matters were submitted to a vote of security holders in the fourth quarter of fiscal 2009.

**PART II**

**ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES**

Our shares are listed on the OTC Bulletin Board under the symbol “AUSI”. Set forth below are high and low bid prices for our common stock for each quarterly period in the two most recent fiscal years. Such quotations reflect inter-dealer prices, without retail mark-up, markdown or commissions and may not necessarily represent actual transactions in the common            stock. We had 3,274 stockholders of record as June 6, 2009.

| Period                                 | High   | Low    |
|----------------------------------------|--------|--------|
| ------                                 | -----  | -----  |
| Fiscal 2008                            |   |   |
| First Quarter ended May 31, 2007       | $1.80  | $1.21  |
| Second Quarter ended August 31, 2007   | $1.46  | $0.85  |
| Third Quarter ended November 30, 2007  | $1.73  | $1.35  |
| Fourth Quarter ended February 29, 2008 | $2.36  | $1.55  |
|                                   |   |   |
| Period                                 | High   | Low    |
| ------                                 | -----  | -----  |
| Fiscal 2009                            |   |   |
| First Quarter ended May 31, 2008       | $1.80  | $1.01  |
| Second Quarter ended August 31, 2008   | $1.30  | $1.03  |
| Third Quarter ended November 30, 2008  | $1.30  | $0.40  |

 

 

----

 

| Fourth Quarter ended February 28, 2009 | $1.00 | $0.36 |
|----------------------------------------|-------|-------|

On June 8, 2009, the reported closing sales price for our common stock was $0.94.

**Dividend Policy**

We have not paid any dividends on our common stock and we do not anticipate paying any dividends on our common stock in the foreseeable future.

**Sales of Unregistered Securities**

In the year ended February 28, 2009, we issued 2,915,000 shares of common stock for cash proceeds of $2,437,057 and collected subscription receivables of $677,255.In addition, 2,397,137 shares were issued upon the exercise of warrants for total consideration of $2,282,405; 400,000 shares of common stock were issued for the acquisition of $400,000 worth of inventory and supplies in connection            with the acquisition of the refrigeration assets of Emerald Commercial Leasing; 430,329 shares of common stock were issued for the exercise of warrants in lieu of payments on our secured notes payable; 100,000 shares of common stock were issued pursuant to an employment agreement we entered into with our Vice President; 2,069,742 shares of common stock were issued upon the conversion of $2,069,742 of secured notes payable and associated accrued interest; 98,442 shares of common            stock were issued in settlement of $98,442 of accounts payable; and 150,000 shares of common stock were issued as fees to members of our Board of Directors for a loan and associated loan guarantees by the Board members. Shares issued for non cash consideration were valued pursuant to EITF 96-18. The Company recorded a gain on settlement of debt of $32,820 and $6,742, respectively for the stock issued for settlement of accounts payable of $98,442 and for stock issued for interest            settlement of notes. All such securities were issued and sold in reliance on the exemption from registration contained in Section 4(2) of the Securities Act of 1933, and the certificates representing such securities contain a restrictive legend reflecting the limitations on future transfer of those securities. The offer and sale of these securities was made without public solicitation or advertising. The investors represented to us that they were knowledgeable and sophisticated, and            were experienced in business and financial matters so as to be capable of evaluating an investment in our securities and were an “accredited investor” within the meaning of Regulation D promulgated under the Securities Act of 1933. Each of these investors was afforded full access to information regarding our business.

**Repurchases of Equity Securities**

We did not repurchase any shares of our common stock during the fourth quarter of fiscal 2009.

| **Performance Graph** |
|-----------------------|

The following graph compares the cumulative total stockholder return of the Company with the cumulative total return on the NASDAQ Stock Market Index (U.S.) and the S&P Small Cap Industrial 600 Index† . The Comparisons in the graph are required by the Securities and Exchange Commission and are not intended to forecast or be indicative of possible            future performance of the Company’s common stock.

COMPARISON OF FIVE YEAR CUMULATIVE TOTAL RETURN*

AMONG AURA SYSTEMS, INCORPORATED, THE NASDAQ STOCK MARKET (U.S.) INDEX AND THE S & P SMALL CAP INDUSTRIAL INDEX

 

----

$100 INVESTED ON 2/28/2004 IN STOCK OR INDEX-INCLUDING REINVESTMENT OF DIVIDENDS. FISCAL YEAR ENDING FEBRUARY 28

 

|   | Cumulative Total Return and Year-to-Year Percent Return |
|--------|---------------------------------------------------------|

 

|                             |              | Feb-04   | Feb-05   | Feb-06   | Feb-07   | Feb-08   | Feb-09   |
|----------------------------------|-------------------|----------|----------|----------|----------|----------|----------|
| AURA SYSTEMS, INC.               | Cum ret           | $ 100.00 | $ 61.55  | $ 18.49  | $ 9.39   | $ 10.24  | $ 5.60   |
|                             | Year to Year %ROI | -12%     | -38%     | -70%     | -49%     | 9%       | -45%     |
| NASDAQ STOCK MARKET INDEX (U.S.) | Cum ret           | $ 100.00 | $ 101.08 | $ 112.39 | $ 119.03 | $ 114.87 | $ 67.88  |
|                             | Year to Year %ROI | 52%      | 1%       | 11%      | 6%       | -4%      | -41%     |
| S & P SC INDUSTRIAL 600      | Cum ret           | $ 100.00 | $ 154.32 | $ 179.87 | $ 221.00 | $ 198.20 | $ 112.25 |
|                             | Year to Year %ROI | -20%     | 54%      | 17%      | 23%      | -10%     | -43%     |

 

† The S&P Small Cap Industrial 600 Index is a composite of stocks including many in related industries to the Company’s business. The trading symbol for the index is ^SML.

**ITEM 6. SELECTED FINANCIAL DATA**

The following Selected Financial Data has been taken or derived from our audited consolidated financial statements and should be read in conjunction with and is qualified in its entirety by the full-consolidated financial statements, related notes and other information included elsewhere herein.

AURA SYSTEMS, INC. AND SUBSIDIARIES

 

----

 

|                                                            | February 28, 2009 |   | February 29, 2008 | February 28, 2007 |   | February 28, 2006 |   | February 28,2005 |
|-----------------------------------------------------------------|-------------------|--------|-------------------|-------------------|--------|-------------------|--------|------------------|
| Net revenues                                                    | $2,415,529        |   | $2,849,331        | $1,624,074        |   | $1,756,105        |   | $2,525,431       |
| Cost of goods sold                                              | $1,539,985        |   | $1,746,361        | $745,060          |   | $614,327          |   | $1,573,116       |
| Inventory write down                                            | $-                |   | $52,675           | $419,765          |   | $439,188          |   | $2,088,703       |
| Gross profit (loss)                                             | $875,544          |   | $1,050,295        | $459,249          |   | $702,590          |   | $(1,136,388)     |
| Expenses:                                                       |              |   |              |              |   |              |   |             |
| Engineering, research & development                         | $1,872,683        |   | $1,541,617        | $1,048,529        |   | $1,483,247        |   | $2,482,668       |
| Selling, general and administrative                             | $8,204,793        |   | $8,246,812        | $5,200,393        |   | $5,867,388        |   | $6,886,542       |
| Class action litigation & other legal settlements           | $-                |   | $-                | $-                |   | $267,726          |   | $2,765,192       |
| Impairment losses on long-lived assets                          | $-                |   | $-                | $-                |   | $-                |   | $544,510         |
|                                                            |                   |   |                   |                   |   |                   |   |                  |
| Total expenses                                                  | $10,077,476       |   | $9,788,429        | $6,248,922        |   | $7,618,361        |   | $14,767,615      |
|                                                            |              |   |              |              |   |              |   |             |
| Loss from operations                                            | $(9,201,932)      |   | $(8,738,134)      | $(5,789,673)      |   | $(6,915,771)      |   | $(13,815,300)    |
| Other (income) and expense:                                     |              |   |              |              |   |              |   |             |
| Impairment of investments                                       | $-                |   | $-                | $-                |   | $-                |   | $286,061         |
| Gain (loss) on sale of investments/assets                       | $-                |   | $1,500            | $7,750            |   | $(2,446,798)      |   | $-               |
| Interest expense                                                | $702,650          |   | $168,607          | $392,977          |   | $6,602,020        |   | $18,965,852      |
| Loss on settlement of debt                                      | $39,562           |   | $(84,425)         | $-                |   | $-                |   | $-               |
| Other                                                           | $21,058           |   | 28,640            | $6,453            |   | $(50,000)         |   | $(166,345)       |
| Change in derivative liability                                  | $-                |   | $-                | $-                |   | $16,254,502       |   | $(4,622,235)     |
| Minority interest                                               | $-                |   | $-                | $-                |   | $-                |   | $(3,970)         |
| Gain on extinguishment of debt obligations, net of income taxes | $-                |   | $-                | $-                |   | $1,730,979        |   | $-               |
| Preferred stock dividend                                        | $-                |   | $-                | $-                |   | $-                |   | $525,377         |
|                                                            |                   |   |                   |                   |   |                   |   |                  |

 

| Net Income (loss)                        | $(9,843,962) |   | $(8,960,486) | $(6,168,447) |   | $6,864,488 |   | $(28,800,040) |
|------------------------------------------|--------------|--------|--------------|--------------|--------|------------|--------|---------------|
|                                     |              |   |              |              |   |            |   |               |
| Net loss per common share                | $(0.24)      |   | $(0.28)      | $(0.25)      |   | $2.24      |   | $(22.35)      |
|                                     |              |   |              |              |   |            |   |               |
| Weighted average number of common shares | 41,716,958   |   | 32,252,902   | 25,114,154   |   | 3,063,216  |   | 1,288,114     |
|                                     |              |   |              |              |   |            |   |               |
| Cash/cash equivalents               | $317,256     |   | $37,532      | $1,051,259   |   | $472,482   |   | $61,376       |
| Working capital                          | $(2,164,606) |   | $48,314      | $832,744     |   | $2,567,684 |   | $(34,338,147) |
| Total assets                             | $5,291,547   |   | $5,258,627   | $5,549,137   |   | $7,891,377 |   | $13,305,777   |
| Total debt                               | $5,056,731   |   | $4,462,233   | $4,907,824   |   | $5,140,554 |   | $36,535,119   |
| Net stockholders’ equity (deficit) | $234,816     |   | $796,394     | $2,103,666   |   | $4,082,983 |   | $(23,883,233) |

Prior period amount regarding number of shares outstanding and the price per share have been restated to give effect to a 1 for 338 reverse split which became effective upon our exit from bankruptcy on January 31, 2006.

 

----

**ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF** 

**Forward Looking Statements.**

 

*This Management’s Discussion and Analysis of Financial Condition and Results of Operations includes many forward-looking statements. For cautions about relying on such forward looking statements, please refer to the section entitled “Forward Looking Statements” at the beginning of this Report immediately prior to “Item 1”.*

**Overview**

We design, assemble and sell the AuraGen®, our patented mobile power generator that uses the engine of a vehicle or any other prime mover to generate power. The AuraGen® delivers on-location, plug-in electricity for any end use, including industrial, commercial, recreational and military applications. We began commercializing the AuraGen® in late            1999. To date, AuraGen® units have been sold in numerous industries, including transport refrigeration, hybrid vans, recreational, utilities, telecommunications, emergency/rescue, public works, catering, oil and gas, transportation, government and the military.

We have not yet achieved a level of AuraGen® sales sufficient to generate positive cash flow. Accordingly, we have depended on repeated infusions of cash in order to maintain liquidity as we have sought to develop sales. During fiscal 2002 through fiscal 2004, we substantially reduced our internal staffing due to the slower-than-anticipated level of AuraGen®            sales. We also suspended substantially all research and development activities. We continued to downscale our operations in fiscal 2005 and 2006. Since emerging from Chapter 11 proceeding, we have begun to increase our research and development activities and started to increase our staff in engineering and sales.

In September 2004, we entered into agreements with a group of investors and holders of secured debt in order to recapitalize the Company. These agreements are referred to as the “2004 Recapitalization Transactions”. Completion of the 2004 Recapitalization Transactions was intended to provide us with a more stable financial condition by infusing new capital through the sale of            units comprising shares of Series B Preferred Stock and common stock warrants, conversion of $3.5 million of secured debt into shares of Series B Preferred Stock and warrants, extension of the maturity of the remaining $2.1 million of secured debt to August 2005, and the settlement of legal claims with former management. However, we continued to require further financing to remain solvent. Accordingly, subsequent to the end of fiscal 2005, in June 2005 we filed for protection under            Chapter 11 of the U.S. Bankruptcy Code, and emerged on January 31, 2006 under a plan of reorganization.

In May 2008, we entered into an agreement with Emerald Commercial Leasing, Inc., of Conley, Georgia, whereby we acquired the transport refrigeration assets of Emerald, including all rights to drawings, designs, sketches, layouts integration know-how, parts, and vendor lists for the all electric refrigeration system based on commercial refrigeration design valued at approximately $400,000. In            addition, the agreement returns the previously assigned exclusive selling rights for the transport refrigeration industry to Aura. As a result, Aura can now offer a complete TRU solution to its customers. No value was assigned to the intangible assets, and the inventory was valued based on its cost basis to Emerald. The Company acquired only the refrigeration assets of Emerald in order to be able to offer a complete system consisting of the refrigeration unit and the power source            for the refrigeration unit to the refrigeration trucking industry. In addition, we reached an agreement in principle to purchase their service facility for $1,050,000. The facility consists of approximately 6 acres of land and a building of approximately 10,000 square feet with several truck service bays and a small amount of office space. The facility will be used by Aura for warehousing, service, and installation of the AuraGen for customers in the southeastern United States. Due            to the national economic down turn, and in particularly the uncertainties in the real estate market, the purchase of the facility has been put on indefinite hold. Aura is currently renting the facility on a month to month basis at $7,000 per month rent.

Our consolidated financial statements included in this Report have been prepared on the assumption that we will continue as a going concern, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business.

Our ability to continue as a going concern is dependent upon the successful achievement of profitable operations and the ability to generate sufficient cash from operations and obtain financing sources to meet our obligations. There is no assurance that such efforts will be successful.

 

----

Our current level of sales reflects our efforts to introduce a new product into the marketplace. Many purchases of the product are being made for evaluation purposes. We seek to achieve profitable operations by obtaining market acceptance of the AuraGen® as a competitive - superior - product providing mobile power, thereby causing sales to increase dramatically to levels which            support a profitable operation. There can be no assurance that this success will be achieved.

**Critical Accounting Policies and Estimates**

Our management’s discussion and analysis of our financial conditions and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of financial statements requires management to make estimates and disclosures on the date of the            financial statements. On an on-going basis, we evaluate our estimates, including, but not limited to, those related to revenue recognition. We use authoritative pronouncements, historical experience and other assumptions as the basis for making judgments. Actual results could differ from those estimates. We believe that the following critical accounting policies affect our more significant judgments and estimates in the preparation of our consolidated financial            statements.

*Revenue Recognition*

 

The Company’s revenue recognition policies are in compliance with Staff accounting bulletin (SAB) 104. Sales revenue is recognized at the date of shipment to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is reasonably assured. Payments received before            all of the relevant criteria for revenue recognition are satisfied are recorded as unearned revenue.

 

We recognize revenue for product sales upon shipment and when title is transferred to the customer. When Aura performs the installation of the product, revenue and cost of sales are recognized when the installation is complete. We have in the past earned a portion of our revenues from license fees and recorded those fees as income when we fulfilled our obligations under the particular            agreement.

 

Terms of our sales generally provide for Shipment from our facilities to customers FOB point of shipment. Title passes to customers at the time the products leave our warehouse.

 

The Company does not offer a general right of return on any of its sales and considers all sales as final. However, if a customer determines that a different system configuration would better suit their application, we will allow them to exchange the system and bill them the incremental cost, or credit them if there is a decrease in the system cost. While some sales are for evaluative            purposes, they are still considered final sales. The customers evaluation is for them to determine if there is a benefit to them to outfit additional vehicles in their fleets.

 

The only potential post delivery obligation the Company might have is for the installation of the unit. However, the unit is typically delivered at the time of installation, and the billing is done when the installation is complete. Any discounts that are offered are done as a reduction of the invoiced amount at the time of billing. The Company does not utilize bill and hold. The Company            does provide customers with a warranty; however, due to the low sales volume to date, the amount has not been material and is expensed as incurred.

 

*Inventory Valuation and Classification*

Inventories consist primarily of components and completed units for our AuraGen® product. Inventories are valued at the lower of cost (first-in, first-out) or market. Provision is made for estimated amounts of current inventories that will ultimately become obsolete due to changes in the product itself or vehicle engine types that go out of production. Due to continuing lower            than projected sales, we are holding inventories in excess of what it expects to sell in the next fiscal year. The net inventories which are not expected to be realized within a 12-month period based on current sales forecasts have been reclassified as long term. Management believes that existing inventories can, and will, be sold in the future without significant costs to upgrade it to current models and that the valuation of the inventories, classified both as current and            long-term assets, accurately reflects the realizable values of these assets. The AuraGen® product being sold currently is not technologically different from those in inventory. Existing finished goods inventories can be upgraded to the current model with only a small amount of materials and manpower. We make these assessments based on the following factors: i) existing orders, ii) age of the inventory, iii) historical experience and iv) our expectations as to future            sales. If expected sales volumes do not materialize or if

 

----

significant discounts from current pricing levels are granted to generate sales, there would be a material impact on our financial statements.

*Valuation of Long-Lived Assets*

Long-lived assets, consisting primarily of property and equipment, and patents and trademarks, comprise a small portion of our total assets. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that their carrying values may not be recoverable. Recoverability of assets is measured by a comparison of the carrying value of an asset to the future            net cash flows expected to be generated by those assets. Net cash flows are estimated based on expectations as to the realize-ability of the asset. Factors that could trigger a review include significant changes in the manner of an asset's use or our overall strategy.

Specific asset categories are treated as follows:

Accounts Receivable: We record an allowance for doubtful accounts based on management's expectation of collect-ability of current and past due accounts receivable.

Property, Plant and Equipment: We depreciate our property and equipment over various useful lives ranging from five to ten years. Adjustments are made as warranted when market conditions and values indicate that the current value of an asset is less than its net book value.

Patents and trademarks: As our business depends on using new technology to create new products, impairments in patents can be triggered by changed expectations regarding the foreseeable commercial production of products underlying such patents.

When we determine that an asset is impaired, we measure any such impairment by discounting an asset's realizable value to the present using a discount rate appropriate to the perceived risk in realizing such value. When we determine that an impaired asset has no foreseeable realizable value, we write such asset down to zero.

 

**Results of Operations**

**Fiscal 2009 compared to Fiscal 2008**

*Revenues*

Net revenues in fiscal 2009 decreased $433,802 to $2,415,529 from $2,849,331 in fiscal 2008, a decrease of 15%. The decrease is attributable to normal sales fluctuations period to period due to our relatively small sales volume and new customer base, and the poor economic climate which caused some of our customers to delay delivery of some product into fiscal 2010.

*Cost of Goods*

Cost of goods sold in fiscal 2009 decreased $206,376 to $1,539,985from $1,746,361 in fiscal 2008. As a percentage of net revenues, cost of goods sold increased to 64 % in fiscal 2009 from 61% in fiscal 2008. The increase is attributable to the variation in the mix of products sold. Refrigeration systems are comprised of a larger amount of non-Aura manufactured components, which carry a lower            gross margin at the resale level.

*Engineering, Research and Development*

Engineering, research and development costs increased $331,066 to $ 1,872,683 in fiscal 2009 from $1,541,617 in fiscal 2008. The increase is primarily attributable to increased rent of approximately $380,000 relating to the Georgia facility we began using in June of 2008, and the new facility in El Segundo, California, which began in May of 2008, partially offset by a reduction in the use of            outside consultants of approximately $100,000.

*Selling, General and Administrative Expense*

 

----

Selling, general and administrative decreased $ 42,019 to $8,204,793 in fiscal 2009 from $8,246,812 in fiscal 2008. The decrease is due to a decrease in the amount of employee options and warrants expensed in the current year to $378,184 from $1,640,208 in the prior fiscal year, offset partially by an increase in compensation expense of approximately $1,300,000 including increases in            employee related expenses such as health insurance and payroll taxes of approximately $180,000.

*Non-Operating Income and Expense*

Net interest expense increased $534,043 to $702,650 in fiscal 2009 from $168,607 in fiscal 2009. The increase is attributable to a higher level of debt owing to a Board member, which increased from $500,000 at the end of fiscal 2008 to $2,300,000 at the end of fiscal 2009 and for the induced conversion charge of $368,900 for the notes conversion. Additionally, the 7% convertible notes were            outstanding for the entire fiscal 2009 year, compared to only two months in fiscal 2008. [is this right?]

*Net Income/Loss*

Our net loss increased $883,476 to $9,843,962 in fiscal 2009 from $8,960,486 in fiscal 2008 as a result of our increase in costs associated with the Georgia facility, our new El Segundo facility, and increased compensation and related costs.

**Liquidity and Capital Resources**

 

In fiscal 2009, we incurred losses of $9.8 million and had negative cash flows from operations of $6.3 million. In order to fund our cash needs we raised $2.4 million from the sale of our stock in private placements and $2.3 million from the exercise of outstanding warrants. We also borrowed $350,000 in short term notes from individuals, with interest rates of 10%, of which we have repaid            $75,000. Additionally, during fiscal 2009, we received periodic advances from a Board member totaling $1.3 million. These advances carry an interest rate of 10% and are due on demand. As of February 28, 2009, the total amount owing to this Board member is $2.3 million. If our sales are comparable to our fiscal 2009 sales, we estimate we would need to raise approximately $8.0 million to fund our operations at present levels, and an additional $.5 million for capital expenditures            related to our new facility and upgrading our computer systems. If we are successful in raising this capital, it will enable us to increase our marketing efforts, add new employees, and increase our research and development. If we are unable to raise sufficient funds, we may have to curtail our operations until such time as funding could be arranged.

At February 28, 2009, we had cash of approximately $0.30 million, compared to approximately $0.05 million at February 29, 2008. Working capital at February 28, 2009 was a negative $2.2 million as compared to approximately $50,000 at the end of the prior fiscal year. At February 28, 2009, we had accounts receivable, net of allowance for doubtful accounts, of approximately $300,000 compared to            approximately $800,000 at February 29, 2008. In fiscal 2009 we acquired property and equipment at a cost of approximately $240,000. We acquired property and equipment at a cost of approximately $170,000 in fiscal 2008. As of February 28, 2009, we expect to need approximately $150,000 to complete the build-out of the El Segundo facility. We also expect to need approximately $150,000 to upgrade our computer and software systems. During fiscal 2009, we incurred additional debt            obligations to one of our Board members in the amount of $1,300,000, with an interest rate of 10%.

In the year ended February 28, 2009, we issued 2,915,000 shares of common stock for cash proceeds of $2,437,057 and collected subscription receivables of $677,255.In addition, 2,397,137 shares were issued upon the exercise of warrants for total consideration of $2,282,405; 400,000 shares of common stock were issued for the acquisition of $400,000 worth of inventory and supplies in connection            with the acquisition of the refrigeration assets of Emerald Commercial Leasing; 430,329 shares of common stock were issued for the exercise of warrants in lieu of payments on our secured notes payable; 100,000 shares of common stock were issued pursuant to an employment agreement we entered into with our Vice President; 2,069,742 shares of common stock were issued upon the conversion of $2,069,742 of secured notes payable and associated accrued interest; 98,442 shares of common            stock were issued in settlement of $98,442 of accounts payable; and 150,000 shares of common stock were issued as fees to members of our Board of Directors for a loan and associated loan guarantees by the Board members. Shares issued for non-cash consideration were valued pursuant to EITF 98-15. The Company recorded a gain on settlement of debt of $32,820 and $6,742, respectively for the stock issued for settlement of accounts payable of $98,442 and for stock issued for interest            settlement of notes.

In the year ended February 29, 2008, we issued 6,891,791 shares of common stock for cash proceeds of $6,433,088; we issued 2,012,577 shares of common stock as penalty shares for failure to timely file a registration statement, and we issued 183,533 shares of common stock in satisfaction of $183,533 of secured notes payable. The shares issued

 

----

were valued at the fair market value of $267,958 and a loss on settlement of debt of $84,425 was recorded in the accompanying financials.

The national economic slowdown has resulted in numerous delays and cancellations of customers and potential customers for acquisitions of new equipment, tools and vehicles as well as delays in upgrades of existing equipment and vehicles. At the same time, the economic conditions have created an environment where potential customers are open to discussions and evaluations of equipment that            could result in operational savings. The above conditions may have a significant impact on our business in fiscal 2010 .

 

We have seen a major slow down in the last quarter of fiscal 2009 and the first quarter of fiscal 2010. This was in the form of a slow down in delivery schedules for existing contracts and a significant slowdown in new contracts. Almost a million dollars in commercial deliveries on existing contracts during the second half of fiscal 2009 were pushed into fiscal 2010.            Similarly, approximately $800,000 of a military related program approved by Congress in September of 2008 has been delayed and pushed into the second quarter of fiscal 2010.

 

During the next twelve months, subject to market conditions, we intend on expanding our AuraGen/Viper business both domestically and internationally. There are four major components necessary to execute a significantly expanding business; (i) augmentation of management and staff, (ii) purchase orders, (iii) facilities and equipment, and (iv) working capital. We plan to add senior quality            assurance and quality control staff as well as a number of mechanical and electrical engineers, a number of technicians and a number of test engineers. We plan to add approximately 10 people to our staff in fiscal 2010.

 

In order to achieve the planned results for fiscal 2010 we will need sufficient working capital for (i) daily operations, (ii) purchase of raw materials and subassemblies, (iii) purchase of the required equipment, and (iv) supporting cash flow. We estimate that this will require us to raise approximately $8.0 million in new capital. We plan to raise the required capital through the private            placement of equity or convertible debt. While no assurances can be given that we will be successful in completing any future financings, currently we have informal commitments for approximately $2.0 million dollars for new capital, and, we have strong indications of interest for an additional $4.5 million dollars in the private placement.

 

We are selling systems for all of the applications currently identified in our business model for fiscal 2010. In addition, we are also in the process of enhancing our product line to address an even larger market segment. We currently provide 5 kW, 8.5 kW and 16 kW solutions and we plan to introduce during the next twelve months 4kW, 12 kW, 25 kW and 50 kW solutions. While there can be no            assurances given that we will complete all the developments described above and be able to commercialize them in the planned time, our business model for fiscal 2010 does not contemplate sales for any product not currently available.

Since 2002 substantially all of our revenues from operations have been derived from sales of the AuraGen®. The cash flow generated from our operations to date has not been sufficient to fund our working capital needs, and we cannot predict when operating cash flow will be sufficient to fund working capital needs. In June 2005 we were forced to file for protection under Chapter            11 of the U.S. Bankruptcy Code, from which we emerged under a court-approved plan of reorganization in January 2006.

In the past, in order to maintain liquidity we have relied upon external sources of financing, principally equity financing and private and bank indebtedness. We have no bank line of credit and require additional debt or equity financing to fund ongoing operations. We have commenced a private placement for up to $7.5 million. However, we have no binding commitments from third parties to            provide financing and we cannot assure you that financing will be available at the times or in the amounts required. The issuance of additional shares of equity in connection with such financing could dilute the interests of our existing stockholders, and such dilution could be substantial. If we cannot raise needed funds, we would also be forced to make further substantial reductions in our operating expenses, which could adversely affect our ability to implement our current            business plan and ultimately our viability as a company.

**Contractual Obligations**

The table below describes the Company’s future contractual obligations, including items not included in the consolidated balance sheet, as of February 28, 2009:

 

|                        |   |                       |   |   |                          |   |   |                   |   |   |                   |   |   |                           |   |   |   |   |   |   |
|-----------------------------|--------|----------------------------|--------|--------|-------------------------------|--------|--------|------------------------|--------|--------|------------------------|--------|--------|--------------------------------|--------|--------|--------|--------|--------|--------|
|                        |   | **Payments Due by Period** |   |   |                          |   |
| **Contractual Obligations** |   | **Total**                  |   |   | **Less Than 1** **Year** |   |   | **1-3** **Years** |   |   | **3-5** **Years** |   |   | **More Than 5** **Years** |   |

 

 

----

 

|  

Long Term Debt Obligations             | (a)    | $      | 500,000   |   |   | $       | 0       |   |   | $       | 0       |   |   | $       | 500,000 |   |   | $       | 0      |   |
|------------------------------------------------|--------|--------|-----------|--------|--------|---------|---------|--------|--------|---------|---------|--------|--------|---------|---------|--------|--------|---------|--------|--------|
| Capital lease obligations                      |   | $      | 0         |   |   | $       | 0       |   |   | $       | 0       |   |   | $       | 0       |   |   | $       | 0      |   |
| Operating leases                               | (b)    | $      | 1,400,950 |   |   | $  | 336,228 |   |   | $  | 672,456 |   |   | $  | 392,266 |   |   | $  | 0      |   |
| Minimum license commitment                     |   | $      | 0         |   |   | $  | 0       |   |   | $  | 0       |   |   | $  | 0       |   |   | $       | 0      |   |
| Fixed asset and inventory purchase commitments |   | $      | 0         |   |   | $  | 0       |   |   | $  | 0       |   |   | $  | 0       |   |   | $  | 0      |   |
|                                           |   |   |      |   |   |    |    |   |   |    |    |   |   |    |    |   |   |    |   |   |
| Total contractual cash obligations             |   | $      | 1,900,950 |   |   | $       | 336,228 |   |   | $       | 672,456 |   |   | $       | 892,266 |   |   | $       | 0      |   |
|                                           |   |   |      |   |   |    |    |   |   |    |    |   |   |    |    |   |   |    |   |   |

|   | (a) | Represents $500,000 of five year, 7% convertible debentures, convertible into our common stock at a price of $3.00 per share. For additional information regarding the terms of these Notes, see the discussion appearing above in “Liquidity and Capital Resources.” |
|--------|-----|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (b) | Represents obligations for the lease of our facilities which began May 1, 2008. |
|--------|-----|---------------------------------------------------------------------------------|

 

**ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

We are exposed to various market risks, including changes in interest rates. Market risk is the potential loss arising from adverse changes in market rates and prices. We consider our exposure to market risks to be immaterial. Historically, we have not entered into derivative financial instrument transactions to manage or reduce market risk or for speculative purposes. Our long term debt            obligations all bear interest at fixed rates and, therefore, have no exposure to interest rate fluctuations. Our risk related to foreign currency fluctuations is not material at this time, as any accounts we have in foreign denominations are not in themselves material.

 

As we anticipate needing to use the cash we held at year end within a short period, we have invested it in money market accounts, and we do not expect that the amount of fluctuation in interest rates will expose us to any significant risk due to market fluctuation.

 

**ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA**

See Index to Consolidated Financial Statements at page F-1.

**ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE**

Not applicable.

 

**ITEM 9A(T). CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controls and Procedures**

 

The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934, is recorded, processed, summarized and reported within the specified time periods. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that            information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is accumulated and communicated to its management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. As of the end of the period covered by this report, the Company’s management evaluated, with the participation of            the Company’s Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company’s disclosure controls and procedures. Based on the evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of February 28, 2009.

 

**Changes in Internal Control Over Financial Reporting**

 

----

 

There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s fiscal quarter ended February 28, 2009, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

**Inherent Limitations on Effectiveness of Controls**

 

The Company does not expect that its disclosure controls and procedures or its internal control over financial reporting will prevent all error and all fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable not absolute, assurance that the objectives of the control procedure are met. Because of the inherent limitations in all            control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the            control. The design of any control procedure also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure,            misstatements due to error or fraud may occur and not be detected.

 

**Management’s Annual Report on Internal Control Over Financial Reporting**

 

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the            preparation of financial statements for external purposes in accordance with United States generally accepted accounting principles. Internal control over financial reporting includes policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation            of financial statements in accordance with United States generally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisitions, use or disposition of the Company’s assets that could have a material effect on the financial statements.

 

Management assessed the effectiveness of the Company’s internal control over financial reporting as of February 29, 2008. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control-Integrated Framework . Based on this assessment, and on those            criteria, management concluded that the Company’s internal control over financial reporting was effective as of February 28, 2009.

 

This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the            Company to provide only management’s report in this annual report.

 

**ITEM 9B. OTHER INFORMATION**

 

None

**PART III**

**ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE** 

*Directors*

The following table sets forth our directors and executive officers, their age, and the office they hold.

| Name   | Age    | Title  |
|--------|--------|--------|
|   |   |   |

 

 

----

 

| **Directors**                |   |                                                                                          |
|------------------------------|--------|-----------------------------------------------------------------------------------------------|
|                         |   |                                                                                          |
| Melvin Gagerman              | 66     | Chairman, Director, Chief Executive Officer, Chief Financial Officer and President            |
| Arthur J. Schwartz, PhD      | 61     | Director, Chief Technical Officer                                                             |
| Dr. Maurice Zeitlin          | 67     | Director, Chairman - Nominating Committee; member, Compensation Committee and Audit Committee |
| Warren Breslow               | 66     | Director, Chairman - Audit Committee; member, Nominating Committee and Compensation Committee |
| Salvador Diaz-Verson, Jr.    | 54     | Director, Chairman, Compensation Committee; member, Audit Committee and Nominating Committee  |
|                         |   |                                                                                          |
| **Other Executive Officers** |   |                                                                                          |
|                         |   |                                                                                          |
| Don Macleod                  | 51     | President                                                                                     |
| Yedidia Cohen                | 53     | Vice President of Engineering                                                                 |

 

The following sets forth certain information with respect to our directors and executive officers.

**Melvin Gagerman -**Mr. Gagerman has been the CEO and CFO of the Company since we emerged from Chapter 11 proceedings on January 31, 2006. He has many years of experience in all aspects of managing companies and a very strong background in accounting and finance. Mr. Gagerman was the President of Hollywood Trading Co., a distributor of novelty items,            from 2000 until February 2006, when he became CEO of the Company. Prior to that Mr. Gagerman was the CEO of Surface Protection Industries from 1976 to 1977, where he successfully reorganized key management positions; established relationships with new distributors and upgraded manufacturing abilities, developed aggressive marketing programs to revitalize mature product lines and identified new market opportunities to increase sales and profits. From 1973 to 1975 Mr. Gagerman was the            Chairman and CEO of Applause, where he successfully reorganized a world famous designer, manufacturer and distributor of licensed and generic stuffed toys which had sales of $137 million per year, 700 employees and losses of 12 million dollars a year. By aggressively altering product lines, adding new lines, cutting overhead, restructuring several key management positions, the company produced a $4.5 million profit within one year. Mr. Gagerman has also served as Managing Partner of            Good, Gagerman & Berns, an accounting firm, National Audit Partner for Laventhol and Horwath and Audit Supervisor at Coopers and Lybrand.

**Arthur J. Schwartz, PhD**– Dr. Schwartz has been CTO and a director of the Company since it emerged from Chapter 11 proceedings on January 31, 2006. From 2002 to 2006 Dr. Schwartz was a principal in the business consulting firm Aries Group Ltd. Dr. Schwartz is one of the founders of the Company and was a member of Aura’s management            from1987 until 2002 as Executive Vice President, CTO and director. Dr. Schwartz has been has been involved in all technical aspects of the Company and has been instrumental in many of our government programs. Prior to founding Aura, Dr. Schwartz worked at Hughes Aircraft Company as a senior scientist on classified programs. Dr. Schwartz has a Ph.D in Physics.

**Dr. Maurice Zeitlin**- Dr. Maurice Zeitlin has been a director of the Company since it emerged from Chapter 11 proceedings on January 31, 2006. Since 1985, Dr Zeitlin has been the President and owner of Maurice A. Zeitlin M.D., a Medical Corporation. He currently practices administrative medicine and is the medical director for several Los Angeles            area hospitals. Dr. Zeitlin was a Major in the USAF from 1972 until 1974 He attended the University of Chicago and received his M.D in 1967.

**Warren Breslow**- Mr. Breslow has been a director and Chairman of the Audit Committee since it emerged from Chapter 11 bankruptcy proceedings on January 31, 2006. Mr. Breslow is the General Partner and Chief Financial Officer of Goldrich & Kest Industries (“G & K Industries”), a property management firm. He joined G & K            Industries in 1972 as controller and assumed his current position as General Partner and Chief Financial Officer in 1974. As General Partner and Chief Financial Officer of G & K, Mr. Breslow oversees the financial aspects of G & K’s construction activity, as well as their management operations and information systems center. He is also past president and lifetime member of the board of directors of the Stephen S. Wise Temple, and supports numerous charitable and civic            organizations. Prior to his association with Goldrich & Kest Industries, Mr. Breslow was a manager with the International Accounting firm of Laventhol & Horwath. He is a CPA and graduated from the Bernard Baruch School of Business Administration.

 

----

**Salvador Diaz-Verson, Jr.**is a director of the Company and has served in this capacity since June, 2007. He previously served as a director of the Company from 1997 to 2005. Mr. Diaz-Verson is the founder, Chairman and President of Diaz-Verson Capital Investments, Inc., an Investment Adviser registered with the SEC, where he has served since 1991.            Mr. Diaz-Verson served as President and member of the Board of Directors of American Family Corporation (AFLCAC Inc.) a publicly held insurance holding company, from 1979 until 1991. Mr. Diaz-Verson also served as Executive Vice President and Chief Investment Officer of American Family Life Assurance Company, subsidiary of AFLAC Inc., from 1976 through 1991. He is currently a Director of the board of Miramar Securities, Clemente Capital Inc., Regions Bank of Georgia and The            Philippine Strategic Investment Holding Limited. Since 1992, Mr. Diaz-Verson has also been a member of the Board of Trustees of the Christopher Columbus Fellowship Foundation, appointed by President George H.W. Bush in 1992, and re-appointed by President Clinton in early 2000. Mr. Diaz-Verson is a graduate of Florida State University.

 

**Don Macleod –**Mr. Macleod has served as President of the Company since April 2009.Dr. Macleod previously served as an Executive Director of Seagate Technology where he was responsible for motor design, manufacturing development and production line transfer to manufacturing locations. He has also held            Executive Director level positions at Seagate in advanced concepts, media engineering and business process development. Prior to joining Seagate in 1986, Dr. Macleod served as VP of Engineering and a member of the board of directors at Applied Motion Products. Dr. Macleod has been named on 31 U.S. patents, published eight papers on motor technology at international conferences, and led the development of motor technology for disc drives. Dr. Macleod earned his Ph.D. in electrical            engineering at the University of Leeds in the UK.

 

**Yedidia Cohen**– Mr. Cohen has been employed by us since July, 2001, developing numerous magnetic applications, and has been our VP of Engineering since May, 2006. Prior to being appointed VP of Engineering he was the lead engineer on the AuraGen mechanical tasks. Mr. Cohen has extensive experience in designing and building highly reliable and            durable weapon systems. He spent much of his professional carrier at Raphael (Weapon development and testing facility for the Israeli Army). In addition to his vast experience in weapon systems, Mr. Cohen worked for ElectricPower Corporation in Haifa, Israel, where he specialized in conceptual design of power generation plane, thermodynamic calculations, design of boilers, pressure vessels and heat exchangers. In addition to his engineering skills Mr. Cohen has experience in            building and managing teams of engineers working on complex tasks. Mr. Cohen has a M.S.E.E degree in Mechanical Engineering from the Technion in Haifa, Israel.

*Section 16(a) Beneficial Ownership Reporting Compliance*

Section 16(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), requires our officers and directors, and beneficial owners of more than ten percent of the common stock, to file with the Securities and Exchange Commission and the National Association of Securities Dealers, Inc. reports of ownership and changes in ownership of the common stock.            During the year ended February 28, 2007, Warren Breslow, a director, acquired 384,615 shares of common stock for which he failed to file a Form 4. During the year ended February 28, 2009, the following directors failed to file a Form 4 for their acquisition of stock: Melvin Gagerman – 5,500 shares upon the exercise of warrants, the acquisition of 12,500 shares and the issuance of 12,500 warrants; Dr. Arthur Schwartz – 50,000 shares upon the exercise of warrants, the            acquisition of 12,500 shares and the issuance of 12,500 warrants; Dr. Maurice Zeitlin – 94,065 shares upon the exercise of warrants, the acquisition of 12,500 shares and the issuance of 12,500 warrants; Warren Breslow – 55,000 shares upon the exercise of warrants, the acquisition of 100,000 shares and the issuance of 100,000 warrants – Salvador Diaz-Verson Jr. – the acquisition of 12,500 shares and the issuance of 12,500 warrants.

*Code of Ethics*

 

We have a Code of Ethics for all of our employees, including our Chief Executive Officer, Chief Financial Officer and Principal Accounting Officer. The purpose of the Code is to ensure that our business is conducted in a consistently legal and ethical matter. A copy of our Code of Ethics is included as an exhibit to this Annual Report on Form 10-K.

 

*Audit Committee*

 

The Audit Committee of our Board of Directors recommends selection of independent public accountants to our Board, reviews the scope and results of the year-end audit with management and the independent auditors, reviews our accounting principles and our system of internal accounting controls and reviews our annual and quarterly reports before filing with the SEC. The            current members of the Audit Committee are Warren Breslow, (Chairman), Dr. Maurice Zeitlin and Salvador Diaz-Verson. Our Board has determined that all members of the Audit Committee are “independent” under the rules of the SEC and the listing standards of NASDAQ. Our Board also determined that Mr. Breslow is an “audit committee financial expert” in accordance with applicable SEC

 

----

regulations. The Audit Committee has adopted a written Audit Committee charter. A copy of our current Audit Committee Charter is included as an exhibit to this Annual Report on Form 10-K.

**ITEM 11. EXECUTIVE COMPENSATION** 

**COMPENSATION DISCUSSION AND ANALYSIS**

 

*Executive Compensation Policy and Objectives*

 

Our policy in compensating executive officers, including the executive officers named in the Summary Compensation Table appearing below (the “named executive officers”), is to establish methods and levels of compensation that will

 

|   | **•** | attract and retain highly qualified personnel |
|--------|------------|-----------------------------------------------|

|   | **•** | provide meaningful incentives to promote profitability and growth and reward superior performance. |
|--------|------------|----------------------------------------------------------------------------------------------------|

 

To achieve these policies we follow the basic principles that annual compensation should be competitive with similar companies and long term compensation should generally be linked to the Company’s return to shareholders.

 

We also believe that compensation for individual executives should be aligned to the performance of areas of the business over which the executive has the most control.

 

Executive compensation policies are implemented through a combination of annual and long-term methods of compensation. Compensation for the named executive officers includes

 

|   | **•** | base salary, |
|--------|------------|--------------|

|   | **•** | eligibility to receive annual cash bonuses, and |
|--------|------------|-------------------------------------------------|

|   | **•** | stock-based compensation in the form of stock options under employee stock option plans. |
|--------|------------|------------------------------------------------------------------------------------------|

These primary components are available for flexible use by our company in a manner that will effectively implement our stated objectives with respect to compensation arrangements for each of the executive officers. Each of these components is discussed in more detail below. When setting the compensation arrangements for each executive officer, the Compensation Committee            considers these components individually, as well as on an aggregate (total compensation) basis. There is no pre-determined relationship between base salary of our executives and any of the other principal components of compensation. Each element of compensation is considered both individually and in terms of total overall compensation.

 

*Role of Company Management in Compensation Decisions*

The Compensation Committee makes decisions regarding the compensation of the Chief Executive Officer usually in conjunction with input from the Chief Executive Officer, including base compensation, equity incentive awards, annual incentive award payments. The Chief Executive Officer annually reviews compensation for the other named executive officers and makes            recommendations to the Compensation Committee based upon individual and company performance. The Compensation Committee reviews and approves, and may exercise discretion to modify, all recommendations made by the Chief Executive Officer.

*Primary Components of Executive Compensation.*

|   | **Base Salary** |
|--------|-----------------|

 

The base salaries of our executive officers are set by the Compensation Committee after consideration of a number of factors, including the executive’s position, level of responsibility, tenure and performance. The Compensation Committee also considers the compensation levels of executives in comparable companies, along with the executive compensation            recommendations made by our chief executive officer. In addition, the Compensation Committee evaluates whether the base salary levels of our executives are appropriate relative to our size and financial performance compared with the other companies reviewed. Relying primarily on these factors, the Compensation Committee sets the base salaries of our executive officers at levels designed to meet its objective of attracting and retaining highly qualified individuals. The Compensation            Committee also believes that the continuity of leadership derived from the retention of well qualified executive officers is in the best interests of our shareholders. The base salaries of our executive officers are not set at any specific level as compared to the

 

----

compensation levels of companies reviewed and the Compensation Committee does not assign relative weights or importance to any specific measure of the company’s financial performance.

Effective January 1, 2006, Mr. Gagerman’s base salary was set at $25,000 per month in connection with his appointment as Chairman of the Board and Chief Financial Officer. Mr. Gagerman’s base salary was later increased from $25,000 to $30,000 per month, effective November 1, 2006, pursuant to a written employment agreement (the “Gagerman            Agreement”). The decision to increase Mr. Gagerman’s base salary was based primarily upon the increase in his responsibilities since May 2006, when he formally assumed the role of President and Chief Executive Officer.

Dr. Arthur J. Schwartz, a director, was a consultant to the Company from March 1, 2006, until November 30, 2006, at which time he was appointed Chief Technical Officer. Dr. Schwartz receives an annual base salary of. $180,000.

 

|   | **Annual Cash Incentive Payment** |
|--------|-----------------------------------|

We consider the use of annual performance bonuses from time to time where appropriate, to motivate participants to achieve company growth and enhance shareholder value. The incentive bonus plan permits plan participants to receive a cash bonus that is tied to the company’s performance and achievement of measures relating to an individual’s own            performance during a specified fiscal year. The types of measures and relative weight of those measures used in determining annual incentive awards are tailored to the named executive officer’s position and responsibilities. We maintain an annual cash bonus plan for Mr. Gagerman, which was established effective November 1, 2006, beginning in fiscal year 2007, under the terms of the Gagerman Agreement. We do not presently have in effect an annual cash bonus plan in effect            with respect to any other named executive officer.

The Gagerman Agreement provides for an annual bonus to be approved by the Board of Directors of up to $100,000 based on objective and subjective milestones and, in the case of the 2007 fiscal year, provided the company has the available cash, and an additional annual bonus at the discretion of the Board of Directors of up to $100,000 for achievements in excess of            expected milestones. The initial qualitative milestones and their quantitative relative weight were specified in the Gagerman Agreement for fiscal 2007, fiscal 2008 and fiscal 2009, and relate to achievement of specified business, financial and organizational performance goals. The Compensation Committee may change both the qualitative goals and relative weight of the goals by giving notice to Mr. Gagerman prior to the fiscal quarter that the change will take effect. In addition,            the Compensation Committee retains the discretion under the Gagerman Agreement to pay an annual bonus regardless of whether the stated milestones are achieved. The milestones are set with the expectation that it is probable that the milestones will be met in the applicable fiscal year. In December 2007 the Compensation Committee determined to award Mr. Gagerman a bonus of $100,000 for the fiscal 2007 year. This bonus has not yet been paid due to the lack of excess cash available.            The Compensation Committee has determined that the performance goals were not sufficiently met and therefore no bonus would be paid for the 2008 and 2009 fiscal years.

 

|   | **Long-Term Equity Based Compensation Awards** |
|--------|------------------------------------------------|

To date we have had limited cash flow from operations. As a result, we have placed special emphasis on equity-based compensation, in the form of options and warrants, to preserve our cash for operations. Long-term equity based compensation awards are granted to our executive officers pursuant to our equity plans. The Compensation Committee believes that long-term equity            based compensation awards are an effective incentive for senior management to increase the long-term value of the company’s common stock as well as aiding the company in attracting and retaining senior management. These objectives are accomplished by making awards under the plan, thereby providing senior management with a proprietary interest in the continued growth and performance of the company and more closely aligning their interests with those of our shareholders. In            addition, because options may sometimes terminate when an executive leaves the company, we believe that options are a useful incentive in promoting the retention of executives.

|   | *2006 Stock Option Plan* |
|--------|--------------------------|

In September 2006 our Board of Directors adopted an employee stock option plan, which was approved by the shareholders in March 2009. The option plan authorizes the Board of Directors or a committee of directors designated by the Board (the “Option Committee”) to grant options to employees, directors and consultants. At the time of the option grant the Option            Committee designates the option for federal tax purposes as an “incentive stock option” or “non-statutory stock option.” The named executive officers are eligible to receive option grants under the option plan.        

All determinations regarding the granting of options to executive officers, including the amount, exercise price, and terms of vesting, are made by the Option Committee after seeking input from management. The Option

 

----

Committee makes long-term equity based compensation awards after a review of a number of factors, including length of service, the performance of the company, the relative levels of responsibility of the executive and his or her contributions to the business, including recommendations of supervisors, and prior option grants received by the executive. Awards may be granted to the same            executive on more than one occasion.

Stock option grants may be subject to a vesting period based upon continued employment during the option term or may fully vest upon grant. The Option Committee may make grants at any particular time during the year. The exercise price of the options must be at least equal to the fair market value of such shares on the date the stock option is granted or such later date            as the Option Committee specifies.

In fiscal 2007, pursuant to the Gagerman Agreement, and following his appointment as CEO in May 2006, Mr. Gagerman was awarded a total of 300,000 options to purchase common stock under our employee stock option plan, exercisable at $2.00 per share, for a period of three years, of which 50,000 were designated as incentive stock options, the maximum amount allowable as            incentive stock options under federal tax law for this grant. This grant primarily reflected his increased responsibilities as CEO. These 300,000 options were granted in addition to 600,000 warrants which were awarded to Mr. Gagerman in connection with his assuming the duties of Chairman and Chief Financial Officer effective February 2006. The 300,000 options vest at the rate of 25,000 per month. The Gagerman Agreement provides for acceleration of the vesting, and termination of the            options prior to the expiration of the three year term, under circumstances specified in the Gagerman Agreement.

Subsequent to the end of fiscal 2007, in order to provide additional incentives to Mr. Gagerman, and in recognition of his accomplishments as both CEO and acting CFO, Mr. Gagerman was granted an additional 100,000 options, exercisable at $2.00 per share, with a term of five years. This grant was subject to shareholder approval of the option plan. In addition, subsequent            to the end of fiscal 2007, we determined to extend the term of his 600,000 warrants from three years to five years and to fix the exercise price at $2.00 per share during the term of the warrants, subject to shareholder approval of the plan, which approval was obtained in March 2009.

Pursuant to our agreements with Mr. Gagerman, all of the options and warrants granted to him have a “cashless exercise feature” which allows Mr. Gagerman, at his option, to receive a reduced number of shares upon exercise of the options or warrants instead of paying the exercise price in cash.

In fiscal 2008 Dr. Schwartz and Yedidia Cohen were each granted 150,000 options, exercisable at $2.00 per share, with a term of five years.

 

|   | **Other Benefits***.* |
|--------|-----------------------|

We provide all eligible employees, including executive officers, with certain benefits, including health and dental coverage, company-paid term life insurance coverage, disability insurance, 401(k) plan, paid time off and paid holiday programs. Other perquisites and personal benefits, such as automobile allowances and country club dues, are considered on a case-by-case            basis. Executive perquisites and benefits are provided to ensure overall compensation for named executive officers is adequate.

 

Our executive officers are eligible to participate in our 401(k) plan, with Mr. Cohen currently being the only executive officer to participate. We do not presently maintain any other deferred compensation or retirement plans.

 

We provide the foregoing benefit programs to provide executive officers with benefits that are competitive with those in the marketplace without incurring substantial cost to the Company.

 

*Employment Agreements.*Other than our written employment agreement with Melvin Gagerman, we do not have employment agreements with any of our named executive officers and generally do not enter into long-term employment agreements with our executive officers. Information regarding Mr. Gagerman’s written employment agreement            is discussed below.

 

*Severance Agreements.*Other than severance provisions contained in our written employment agreement with Melvin Gagerman, we generally do not enter into severance agreements or similar agreements providing for payments upon termination of employment or change-in-control. Such agreements, when entered into, are negotiated on a            case-by-case basis.

 

| *Material Tax and Accounting Implications of Executive Compensation Program* |
|------------------------------------------------------------------------------|

 

SFAS 123R sets forth the accounting treatment for options effective March 1, 2006. This accounting rule requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Prior to March 1, 2006 we followed Accounting Principles Board

 

----

Opinion No. 25 (“APB 25”), Accounting for Stock Issued to Employees, and related Interpretations for measurement and recognition of stock-based transactions with employees. Under APB 25, generally no compensation expense was recognized in connection with the grant of a stock option since at the date of grant, the exercise price of stock options was set either at, or above,            current price at closing of market or, at the price at closing of market on a pre-determined future date. Because the adoption of SFAS 123R’s fair value method will have an impact on our results of operations, this may have an impact on the level of share-based payments being issued.

 

U.S. federal income tax law prohibits publicly held companies from deducting certain compensation paid to a named executive officer that exceeds $1 million during the tax year. To the extent that compensation is based upon the attainment of performance goals set by the Compensation Committee pursuant to plans approved by our shareholders, the compensation is not            included in the computation of this limit. Although the Compensation Committee intends, to the extent feasible and where it believes it is in the best interests of the company and our shareholders, to attempt to qualify executive compensation as tax deductible, it does not intend to permit this tax provision to dictate the committee’s development and execution of effective compensation plans.

 

*Tax Consequences of Incentive Stock Options.*

 

Our 2006 stock option plan authorizes the grant of both “incentive stock options” and “non-qualified stock options.” The grant of an incentive stock option will not result in any immediate tax consequences to us or the optionee. An optionee will not realize taxable income, and we will not be entitled to any deduction, upon the timely exercise of an            incentive stock option, but the excess of the fair market value of the shares of our common stock acquired over the option exercise price will be includable in the optionee’s “alternative minimum taxable income” for purposes of the alternative minimum tax. If the optionee does not dispose of the shares of our common stock acquired within one year after their receipt, and within two years after the option was granted, gain or loss realized on the subsequent            disposition of the shares of our common stock will be treated as long-term capital gain or loss.

 

*Tax Consequences of Non-qualified Stock Options.*

 

In general, the grant of a non-qualified stock option or warrant will not result in any immediate tax consequences to us or the optionee. Upon the exercise of a non-qualified stock option or warrant, generally the optionee will realize ordinary income and we will be entitled to a deduction, in each case, in an amount equal to the excess of the fair market value of the            shares of our common stock acquired at the time of exercise over the exercise price.

 

 

 

 

 

 

 

 

----

 

**COMPENSATION COMMITTEE REPORT**

The Compensation Committee has reviewed and discussed with management the “Compensation Discussion and Analysis” for the fiscal year ended February 28, 2009. Based on this review and discussion, the Compensation Committee recommended to the board of directors that the “Compensation Discussion and Analysis” section be included in the            Company’s Annual Report on Form 10-K for the fiscal year ended February 28, 2009.

 

**The Compensation Committee:**

**Warren Breslow**

**Dr. Maurice Zeitlin**

**Salvatore Diaz-Verson**

The following table summarizes all compensation earned for the fiscal years ended February 28, 2009, February 29, 2008, and February 28,2007, to the individual who served as our chief executive officer during fiscal 2009, and the three other most highly compensated executive officers who were serving in such capacity as of February 28, 2009            (the "named executive officers").

**2009 Summary Compensation Table**

| **Name and Principal Position**                   |   | **Fiscal Year** |   | **Salary ($)** |  

 

 

 

 

 

**Option**

**Awards**

**($) (3)** |  

 

 

 

 

 

**Non-Equity Incentive Plan Compensation** |  

 

 

 

 

 

**All Other**

**Compensation ($)** |  

 

 

 

 

 

 

**Total**

**($)** |
|---------------------------------------------------|--------|-----------------|--------|----------------|-------------------------------------------------------------------------------------|--------------------------------------------------------------------------------------------|-------------------------------------------------------------------------------------|----------------------------------------------------------------------------|
|                                              |   |            |   |           |                                                                                |                                                                                       |                                                                                |                                                                       |
| Melvin Gagerman (1)                               |   | 2009            |   | 360,000        | -                                                                                   | -                                                                                          | 46,863(5)                                                                           | 406,863                                                                    |
| Chief Executive Officer,

Chief Financial Officer |   | 2008            |   | 360,000        | -                                                                                   | -                                                                                          | 50,326(5)                                                                           | 410,326                                                                    |
|                                              |   | 2007            |   | 319,154(2)     |  

171,359                                                                     |  

100,000(4)                                                                         |  

19,320(5)                                                                   |  

609,833                                                            |
| Arthur J. Schwartz                                |   | 2009            |   | 180,000        | -                                                                                   | -                                                                                          | 3,420(6)                                                                            | 183,420                                                                    |
| Chief Technical Officer                           |   | 2008            |   | 180,000        | 34,512                                                                              | -                                                                                          | 2,229(6)                                                                            | 216,741                                                                    |
|                                              |   | 2007            |   | 42,231(7)      | -                                                                                   | -                                                                                          | -                                                                                   | 42,231                                                                     |
| Yedidia Cohen                                     |   | 2009            |   | 180,000        | -                                                                                   | -                                                                                          | 3,282(6)                                                                            | 183,282                                                                    |
| Vice President of Engineering                     |   | 2008            |   | 177,116        | 31,460                                                                              | -                                                                                          | 1,898(6)                                                                            | 210,474                                                                    |
|                                              |   | 2007            |   | 164,285        | -                                                                                   | -                                                                                          | 808(6)                                                                              | 165,093                                                                    |

| (1) | Mr. Gagerman was elected Chairman and Chief Financial Officer effective February 1, 2006 and was elected President and Chief Executive Officer effective May 25, 2006. |
|-----|------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

| (2) | Mr. Gagerman’s salary was $25,000 per month from January 1, 2006 until December 1, 2006 at which time it was increased to $30,000 per month. |
|-----|----------------------------------------------------------------------------------------------------------------------------------------------------|

| (3) | Reflects the amount recognized for financial statement reporting purposes for the applicable fiscal year in accordance with FAS 123R, assuming no forfeitures. |
|-----|----------------------------------------------------------------------------------------------------------------------------------------------------------------|

| (4) | Represents incentive plan cash bonus awarded to Mr. Gagerman for fiscal 2007, which has been earned but not yet paid. |
|-----|-----------------------------------------------------------------------------------------------------------------------|

| (5) | Represents automobile and country club dues allowances, the cost of life insurance premiums, and medical expense reimbursements. |
|-----|----------------------------------------------------------------------------------------------------------------------------------|

| (6) | Represents Company matching contributions to the 401(k) plan. |
|-----|---------------------------------------------------------------|

| (7) | Dr. Schwartz, a director and executive officer, was a consultant to the Company from March 1, 2006, until November 30, 2006, at which time he was appointed Chief Technical Officer. Salary for fiscal 2007 only includes amounts paid as Chief Technical Officer effective December 1, 2006. |
|-----|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

----

No bonuses or stock awards were granted to the above individuals for the 2009, 2008 or 2007 fiscal years.

 

 

 

**Outstanding Equity Awards at 2009 Fiscal Year-End**

 

The following table summarizes certain information regarding the number and value of all options to purchase our common stock held by the individuals named in the Summary Compensation Table at February 28, 2009. No stock awards or equity incentive plan awards were issued or outstanding during fiscal 2009.

 

**2009 OUTSTANDING EQUITY AWARDS AT FISCAL YEAR END**

 

 

|                | **Option Awards**

                                                             |
|---------------------|--------------------------------------------------------------------------------------|
|                | **Number of****Securities****Underlying****Unexercised****Options**

**(#)**

  | **Number of****Securities****Underlying****Unexercised****Options**

**(#)**

  | **Equity****Incentive****Plan** **Awards:****Number of****Securities****Underlying****Unexercised****Unearned****Options**

**(#)**

  | **Option****Exercise****Price****($)**

  |  

 

 

 

 

**Option****Expiration****Date**

  |
| **Name**

     | **Exercisable**

                                                               | **Un-exercisable**

  |   |   |
|                |                                                                                 |   |   |   |   |
|                |                                                                                 |   |   |   |   |
| Melvin Gagerman (a) | 250,000                                                                              | 0 | -- | $2.00(a) | 1/31/11(a) |
| Melvin Gagerman (b) | 350,000(b)                                                                           | 0 |   | $2.00(b) | 1/31/11(b) |
| Melvin Gagerman (c) | 300,000(c)                                                                           | 0 |   | $2.00 | 11/01/11 |
| Melvin Gagerman     | 100,000                                                                              | 0 |   | $2.00 | 12/17/12 |
| Arthur J. Schwartz  | 150,000                                                                              | 0 | - | $2.00 | 03/01/12 |
| Yedidia Cohen       | 150,000                                                                              | -- | -- | $2.00 | 03/01/12 |
|                |                                                                                 |   |   |   |   |

 

|   | (a) | Effective January 31, 2006, Mr. Gagerman was awarded 250,000 Management Warrants by our Board of Directors as authorized under our Chapter 11 Plan of Reorganization. The terms of the Management Warrants provided for an exercise price of $2.00 per share during the first twelve (12) months from the effective date of issuance (January 31,                            2006), $2.50 per share from the 13th to the 24th month from the effective date of issuance; and $3.00 per share from the 25th to the 36th month from the effective date of issuance. However, under the terms of Mr. Gagerman’s employment agreement, the exercise price was to be $2.00 per share. In fiscal 2008 the term of these options was extended from three years to five years. |
|--------|-----|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (b) | Effective January 31, 2006, Mr. Gagerman was awarded 350,000 Director Warrants by our Board of Directors as authorized under our Chapter 11 Plan of Reorganization. The terms of the Director Warrants provided for an exercise price of $2.50 per share. However, under the terms of Mr. Gagerman’s employment agreement, the exercise price                            was to be $2.00 per share. In fiscal 2008 the term of these options was extended from three years to five years. The term and exercise price of the options in the table gives effect to shareholder approval of the Option Plan. |
|--------|-----|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | **(c)** | These options were granted pursuant to the Gagerman Agreement entered into effective November 1, 2006. Options vest at the rate of 25,000 per month from the date of grant (November 1, 2006) and are exercisable at a price of $2.00 per share, with a term of three years. In fiscal 2008 the term of these options was extended from three years to                            five years. |
|--------|---------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

**Option Exercises and Stock Vesting During 2009**

 

No stock options were exercised during fiscal 2009 by the individuals named in the Summary Compensation Table. No stock awards were issued or outstanding during fiscal 2009.

 

----

**Employment Contracts, Termination of Employment Contracts and Change in Control Arrangements**

**Gagerman Employment Agreement**

 

Effective November 1, 2006, we entered into a written employment agreement with Melvin Gagerman (the “Gagerman Agreement”) regarding the terms and conditions of his employment as CEO. The Gagerman Agreement originally was in effect through February 28, 2010, and, commencing March 1, 2007, is automatically extended by an additional year at the beginning of            each fiscal year unless we give prior notice of our intent not to extend the agreement. Accordingly, the Gagerman Agreement is currently in effect until February 28, 2013. The agreement may be terminated before its stated expiration by either of the parties under specified terms and conditions Following are the material terms of the Gagerman Agreement.

 

|   | *Base Salary and Annual Bonus.* |
|--------|---------------------------------|

 

Mr. Gagerman is entitled to a base salary of $360,000 per year. The Gagerman Agreement also provides for an annual bonus to be approved by the Board of Directors of up to $100,000 based on objective and subjective milestones and, in the case of the 2007 fiscal year, provided the company has the available cash, and an additional annual bonus at the discretion of the Board            of Directors of up to $100,000 for achievements in excess of expected milestones. The initial qualitative milestones and their quantitative relative weight were specified in the Gagerman Agreement for fiscal 2007, fiscal 2008 and fiscal 2009, and relate to achievement of specified business, financial and organizational performance goals. The Company may change both the qualitative goals and relative weight of the goals by giving notice to Mr. Gagerman prior to the fiscal quarter            that the change will take effect. In addition, we retain the discretion under the Gagerman Agreement to pay an annual bonus regardless of whether the stated milestones are achieved. Bonuses are payable within 45 days after the end of the applicable fiscal year.

 

|   | *Stock Options* |
|--------|-----------------|

 

The Gagerman Agreement provides for him to receive options to purchase 300,000 shares of common stock at an exercise price of $2.00 per share, of which 50,000 options are designated for tax purposes as “incentive stock options” and the remaining options are non-qualified options. The Gagerman Agreement originally provided for an option term of three years,            which was subsequently extended to five years. The options vest at the rate of 25,000 per month. Unvested options vest if the Gagerman Agreement is terminated by either party under specified circumstances. All of these options vested as of November 2007. In addition to the 300,000 options granted under the Gagerman Agreement, Mr. Gagerman has been granted an additional 700,000 options and warrants, described elsewhere in this Report, and remains eligible for future equity            compensation awards.

 

|   | *Life Insurance, Dues and Car Allowance* |
|--------|------------------------------------------|

 

The Gagerman Agreement requires us to pay life insurance premiums on his private life insurance policy, up to $7,500 per year. Mr. Gagerman is also entitled to receive $2,000 per month as an automobile allowance and country club dues, and reimbursement of the country club initiation fee of up to $8,000.

 

|   | *Medical Benefits* |
|--------|--------------------|

 

In addition to health and dental insurance generally available to all of our employees, Mr. Gagerman is also entitled to receive reimbursement of up to $15,000 per year for all non-covered medical and dental expenses for himself and his spouse, including deductibles and co-payments. His agreement also entitles him to reimbursement for the cost of long term care            insurance.

 

|   | *Early Termination of Agreement* |
|--------|----------------------------------|

 

The Gagerman Agreement provides that either party may terminate the agreement prior to its stated term upon occurrence of the following events:

 

|   | **•** | Death or Permanent Disability– The agreement automatically terminates upon Mr. Gagerman’s death or disability (as determined under our Long-Term Disability Plan, which provides for a benefit of 50% of his monthly salary to a maximum of $6,000 per month). |
|--------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | By the Company For Cause- We may terminate the agreement for “cause”. The agreement defines “cause” to include: |
|--------|------------|-----------------------------------------------------------------------------------------------------------------------------------------|

 

----

 

|   | **•** | a breach by Mr. Gagerman of his obligations not to compete with us during the term of his employment; |
|--------|------------|-------------------------------------------------------------------------------------------------------|

|   | **•** | a breach by Mr. Gagerman of his obligation to maintain confidential information |
|--------|------------|---------------------------------------------------------------------------------|

|   | **•** | commission of an act of fraud, embezzlement or dishonesty which is injurious to us; |
|--------|------------|-------------------------------------------------------------------------------------|

|   | **•** | intentional misconduct which is detrimental to our business or reputation |
|--------|------------|---------------------------------------------------------------------------|

 

|   | **•** | By the Company for Non-Performance– We may terminate the agreement upon 120 days prior notice in the event of “non-performance” by Mr. Gagerman. The agreement defines “non-performance” to mean a determination by not less than 75% of the members of our Board of                            Directors that Mr. Gagerman is not performing his duties as CEO and the continuation of the non-performance for 15 days after receiving notice of the Board’s determination. |
|--------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | By The Company Without Cause or Non-Performance– We may terminate the agreement upon not less than 12 months notice, without regard to Mr. Gagerman’s performance. |
|--------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | By Mr. Gagerman For Cause– Mr. Gagerman may terminate the agreement for “cause” upon not less than 45 days notice. The agreement defines “cause” to include: |
|--------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | A change in his job responsibilities resulting from a demotion; and |
|--------|------------|---------------------------------------------------------------------|

|   | **•** | His removal as a member of the Board of Directors. |
|--------|------------|----------------------------------------------------|

 

|   | **•** | By Mr. Gagerman Without Cause– Mr. Gagerman may terminate the agreement upon not less than 120 days notice without regard to whether we are meeting our obligation under the agreement. |
|--------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | By Mr. Gagerman Upon a Change of Control- Mr. Gagerman may terminate the agreement upon not less than 30 days notice at any time following a “change in control.” The agreement defines change of control to mean: |
|--------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | **•** | The acquisition by a new investor of more than 50% of our common stock, or |
|--------|------------|----------------------------------------------------------------------------|

|   | **•** | The change of a majority of our board members either by an individual or by one or more groups acting together. |
|--------|------------|-----------------------------------------------------------------------------------------------------------------|

 

|   | *Severance Benefits Upon Termination* |
|--------|---------------------------------------|

 

Base Salary and Bonus. Upon the termination of Mr. Gagerman’s employment as CEO, he is entitled to receive accrued salary, unpaid bonus payments (if any) through the effective date of his termination.

 

Employee Benefits. All employee benefits, including life insurance premiums and automobile and dues allowances, cease to accrue as of the date of termination.

 

Stock Options– Upon the termination of Mr. Gagerman’s employment as CEO the portion of the 300,000 options which are vested as of the date of termination remain exercisable in accordance with their terms. The unvested portion of the 300,000 options terminate upon termination of the agreement unless:

 

|   | **•** | termination is a result of a “change in control”; or |
|--------|------------|------------------------------------------------------------------|

|   | **•** | We terminate the agreement other than for “cause” or “non-performance.” |
|--------|------------|-------------------------------------------------------------------------------------------------|

 

in which case the unvested options become fully exercisable upon termination. All of these options were fully vested as of November 2007, subject to shareholder approval of the Plan.

 

Lump Sum Severance Payment- Under the terms of the agreement Mr. Gagerman is entitle to a lump sum severance payment within 45 days of termination equal to the greater of one year’s base salary ($360,000), or the unpaid balance of the base salary which would have been payable if Mr. Gagerman remained employed through the            stated term of employment in effect immediately prior to the termination if:

 

|   | **•** | termination is a result of a “change in control”; |
|--------|------------|---------------------------------------------------------------|

|   | **•** | Mr. Gagerman terminates the agreement for “cause”; or |
|--------|------------|-------------------------------------------------------------------|

|   | **•** | We terminate the agreement other than for “cause” or “non-performance.” |
|--------|------------|-------------------------------------------------------------------------------------------------|

 

Each of these events is referred to as a “severance payment event.”

 

**Potential Payments to the Named Executive Officers Upon Termination or Change in Control**

 

----

 

Other than the benefits provided for in Mr. Gagerman’s written employment agreement, which are described above, none of the named executive officers are entitled to any payments or benefits upon termination, whether by change in control or otherwise, other than benefits available generally to all employees.

 

Upon the occurrence of a severance payment event for Mr. Gagerman, assuming he were terminated as of February 28, 2009, he would be entitled to a severance payment of $1,080,000, payable within 45 days of the date of his termination.

 

                

| **Director Compensation During Fiscal 2009** |
|----------------------------------------------|

 

The following table summarizes all compensation paid to directors other than named executive officers during fiscal 2009.

 

**2009 DIRECTOR COMPENSATION TABLE**

 

 

| **Name**

               | **Fees**

**Earned**

**or Paid**

**in** **Cash**

**($)**

  | **Stock**

**Awards**

**($)**

  | **Option**

**Awards**

**($) (1)(2)**

  | **Non-Equity****Incentive Plan****Compensation**

**($)**

  | **All Other****Compensation**

**($)**

  | **Total**

**($)**

  |
|-------------------------------|--------------------------------------------------------------------------|----------------------------------------|------------------------------------------------|-------------------------------------------------------------------|------------------------------------------------|----------------------------|
| Maurice Zeitlin (3)           | -                                                                        | -                                      | 13,553                                         | -                                                                 | -                                              | 13,553                     |
| Warren Breslow (4)            | -                                                                        | -                                      | 13,553                                         | -                                                                 | -                                              | 13,553                     |
| Salvador Diaz-Verson, Jr. (5) | -                                                                        | -                                      | 13,553                                         | -                                                                 | -                                              | 13,553                     |

|   | (1) | Reflects the amount recognized for financial statement reporting purposes for fiscal year 2009 in accordance with FAS 123(R), assuming no forfeitures. |
|--------|-----|--------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (2) | In fiscal 2008 Messrs. Zeitlin, Breslow and Diaz-Verson were each granted Director Warrants (options) to acquire 25,000 shares, of our common stock at an exercise price of $2.50 per share, respectively, being not less than the fair market value of our common stock on the date of grant, which options vest at a rate of 25% every six months                            and expire in October 2012. The fair market value of each of these options at the time of grant, computed in accordance with FAS 123(R), was $13,553. |
|--------|-----|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (3) | The director had 50,000 options outstanding as of February 28, 2009. |
|--------|-----|----------------------------------------------------------------------|

|   | (4) | The director had 50,000 options outstanding as of February 28, 2009. |
|--------|-----|----------------------------------------------------------------------|

|   | (5) | The director had 25,000 options outstanding as of February 28, 2009. |
|--------|-----|----------------------------------------------------------------------|

 

Our Board of Directors may, at its discretion, compensate directors for attending board and committee meetings and reimburse the directors for out-of-pocket expenses incurred in connection with attending such meetings. Our directors are also eligible to receive stock option grants under our 2006 employee stock option plan and Director Warrants authorized under our Chapter            11 Plan of Reorganization.

***Compensation Committee Interlocks and Insider Participation***

During the 2009 fiscal year our Compensation Committee was comprised of Messrs. Breslow, Diaz-Verson, Jr., and Zeitlin. None of the members of the Compensation Committee was an executive officer or employee of the Company. During the 2009 fiscal year, none of our executive officers served on our Compensation Committee.

**ITEM 12.****SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**

The following table sets forth, to the extent of our knowledge, certain information regarding our common stock owned as of June 1, 2009 (i) by each person who is known to be the beneficial owner of more than five percent (5%) of our outstanding Common Stock, (ii) by each of our Directors and the named executive officers in the Summary Compensation Table, and (iii) by all            Directors and current executive officers as a group:

| **Beneficial Owner** | **Number of Shares of****Common Stock** | **Percent of****Common Stock (1))** |
|----------------------|-----------------------------------------|-------------------------------------|

 

 

----

 

|                                                          |      |   |
|---------------------------------------------------------------|-----------|--------|
| ICM Asset Management, Inc. (2)(3)                             | 2,816,512 | 5.9%   |
| James M. Simmons (2)(4)                                       | 3,067,833 | 6.4%   |
| Koyah Ventures, LLC (2)(5)                                    | 2,712,598 | 5.6%   |
| Melvin Gagerman (6)                                           | 1,219,834 | 2.5%   |
| Arthur Schwartz (7)                                           | 884,909   | 1.8%   |
| Maurice Zeitlin (8)                                           | 1,153,760 | 2.4%   |
| Warren Breslow (9)                                            | 1,700,878 | 3.5%   |
| Salvador Diaz-Verson, Jr. (10)                                | 140,934   | *      |
| Yedidia Cohen (11)                                            | 120,463   | *      |
| All current executive officers and Directors as a group (six) | 5,220,778 | 10.9%  |
|                                                          |      |   |

* Less than 1% of outstanding shares.

|   | (1) | Beneficial ownership is determined in accordance with rules of the U.S. Securities and Exchange Commission. The calculation of the percentage of beneficial ownership is based upon 48,022,114 shares of common stock outstanding on May 15, 2009. In computing the number of shares beneficially owned by any shareholder and the percentage                            ownership of such shareholder, shares of common stock which may be acquired by a such shareholder upon exercise or conversion of warrants or options which are currently exercisable or exercisable within 60 days of June 1, 2009, are deemed to be exercised and outstanding. Such shares, however, are not deemed outstanding for purposes of computing the beneficial ownership percentage of any other person. Shares issuable upon exercise of warrants and options which are                            subject to shareholder approval are not deemed outstanding for purposes of determining beneficial ownership. Except as indicated by footnote, to our knowledge, the persons named in the table above have the sole voting and investment power with respect to all shares of common stock shown as beneficially owned by them. |
|--------|-----|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (2) | Number of shares owned is as of December 31, 2008, and is based upon information contained in Schedule 13G jointly filed with the SEC on February 12, 2009, by ICM Asset Management, Inc., Koyah Ventures, LLC, Koyah Leverage Partners, L.P. and James M. Simmons. The business address of these filers is 601 W. Main Avenue, Suite 600,                            Spokane, Washington 99201. ICM Asset Management, Inc., James M. Simmons and Koyah Ventures, LLC constitute a group sharing beneficial ownership within the meaning of Rule 13d-5(b)(1), but are not part of a group with any other person. Koyah Leverage Partners, L.P. expressly disclaims membership in a group and disclaims beneficial ownership of the common stock covered by the Schedule 13G. ICM Asset Management, Inc. is a registered investment adviser whose clients have                            the right to receive or the power to direct the receipt of dividends from, or the proceeds from the sale of, the common stock. James M. Simmons is the Chief Executive Officer and controlling shareholder of ICM Asset Management, Inc. and the manager and controlling owner of Koyah Ventures, LLC. Koyah Ventures, LLC is the general partner of Koyah Leverage Partners, L.P. and other investment limited partnerships of which ICM Asset Management, Inc. is the investment                            adviser. No individual client of ICM holds more than five percent of the outstanding common stock. |
|--------|-----|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

|   | (3) | Includes sole dispositive and voting power of 862 shares and shared voting and dispositive power of 2,815,650 shares. |
|--------|-----|-----------------------------------------------------------------------------------------------------------------------|

|   | (4) | Includes sole dispositive and voting power of 75,661 shares and shared voting and dispositive power of 2,992,172 shares. |
|--------|-----|--------------------------------------------------------------------------------------------------------------------------|

|   | (5) | Includes sole dispositive and voting power of 100,000 shares and shared voting and dispositive power of 2,612,598 shares. |
|--------|-----|---------------------------------------------------------------------------------------------------------------------------|

|   | (6) | Includes 1,036,972 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|-----|-------------------------------------------------------------------------------------|

|   | (7) | Includes 251,183 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|-----|-----------------------------------------------------------------------------------|

|   | (8) | Includes 88,692 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|-----|----------------------------------------------------------------------------------|

|   | (9) | Includes 336,813 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|-----|-----------------------------------------------------------------------------------|

|   | (10) | Includes 73,489 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|------|----------------------------------------------------------------------------------|

|   | (11) | Includes 113,827 warrants and options exercisable within 60 days of June 1, 2009. |
|--------|------|-----------------------------------------------------------------------------------|

 

The mailing address for the officers and directors is c/o Aura Systems, Inc., 2330 Utah Avenue, El Segundo, CA 90245.

 

**Securities Authorized for Issuance Under Equity Compensation Plans****as of February 28, 2009**

 

----

**Equity Compensation Plan Information as of February 28, 2009**

 

|                                                       |   |                             |      |   |                             |   |   | **Number of Securities**                           |   |
|------------------------------------------------------------|--------|----------------------------------|-----------|--------|----------------------------------|--------|--------|----------------------------------------------------|--------|
|                                                       |   |                             |      |   | **Weighted-average**             |   |   | **Remaining Available for**                        |   |
|                                                       |   | **Number of Securities to**      |      |   | **Exercise Price of**            |   |   | **Future Issuance Under Equity**                   |   |
|                                                       |   | **be Issued Upon Exercise**      |      |   | **Outstanding**                  |   |   | **Compensation Plans**                             |   |
|                                                       |   | **of Outstanding Options,**      |      |   | **Options, Warrants and Rights** |   |   | **(Excluding Securities Reflected in Column (a))** |   |
| **Plan Category**                                          |   | **Warrants and Rights**

**(a)** |      |   | **(b)**                          |   |   | **(c)**                                            |   |
|                                                       |   |                             |      |   |                             |   |   |                                               |   |   |   |   |
| Equity compensation plans approved by security holders (1) |   |                             | 2,690,778 |   |                             | $      | 2.37   |                                               |   |   | 3,239,211 |   |
| Equity compensation plans not approved by security holders |   |                             | -         |   |                             |   | -      |                                               |   |   | - |   |
| To                                                         |   |                             |      |   |                             |   |   |                                               |   |   |   |   |

|   | (1) | Reflects warrants for management and directors under our Chapter 11 Bankruptcy Plan of Reorganization, which was approved by our creditors and shareholders and became effective in January 2006. A total of 500,000 warrants to purchase our common stock were reserved for issuance to management from time to time and 500,000 warrants were                            reserved for issuance to our directors from time to time. Also includes options under the 2006 Stock Option Plan. The 2006 Stock Option Plan authorizes the Company to grant stock options exercisable for up to an aggregate number of shares of common stock equal to the greater of (i) 3,000,000 shares of common stock, or (ii) 10% of the number of shares of common stock outstanding from time to time. |
|--------|-----|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

**ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE** 

*Related Transactions*

Since the beginning of the 2009 fiscal year, Mr. Breslow, a director, has made various temporary advances to the Company totaling $1,300,000. The highest amount outstanding at any one time was $1,800,000, and as of May 31, 2009, there was an outstanding balance of $1,800,000. Interest on the advances was at a rate of 10% per annum and totaled $113,366.08 for the year            ended February 28, 2009. No principal or interest was paid to Mr. Breslow in the current fiscal year. In connection with an advance of $500,000 on December 18, 2008, Mr. Breslow was given 100,000 shares of our common stock and 100,000 five year warrants with an exercise price of $3.00. Mr. Breslow also required the other four Board members to each guarantee $125,000 of this advance, for which guarantee they each required a grant of 12,500 shares of our common stock and the issuance            of 12,500 five year warrants exercisable at $3.00 per share, as specified below. All of Mr. Breslow’s advances are payable on demand. Mr. Breslow also exercised 55,000 warrants during the current year at an exercise price of $1.00.

Mr. Schwartz, a director and officer, was granted 12,500 shares of our common stock and 12,500 five year warrants with an exercise price of $3.00 for guaranteeing $125,000 of the $500,000 loan made to the Company by Mr. Breslow. Mr. Schwartz also exercised 50,000 warrants during the current year at an exercise price of $1.00.

Mr. Gagerman, a director and an officer, was granted 12,500 shares of our common stock and 12,500 five year warrants with an exercise price of $3.00 for guaranteeing $125,000 of the $500,000 made to the Company by Mr. Breslow. Mr. Gagerman also exercised 5,500 warrants during the current year at an exercise price of $1.00.

 

----

Dr. Zeitlin, a director, was granted 12,500 shares of our common stock and 12,500 five year warrants with an exercise price of $3.00 for guaranteeing $125,000 of the $500,000 the loan made to the Company by Mr. Breslow. Dr. Zeitlin also exercised 94,065 warrants during the current year at an exercise price of $1.00.

Mr. Diaz-Verson, a director, was granted 12,500 shares of our common stock and 12,500 five year warrants with an exercise price of $3.00 for guaranteeing $125,000 of the $500,000 the loan made to the Company by Mr. Breslow.

*Review and Approval of Related Party Transactions*

Our Audit Committee is responsible for the review and approval of all related party transactions required to be disclosed to the public under SEC rules. This procedure, which is contained in the written charter of our Audit Committee, has been established by our Board of Directors in order to serve the interests of our shareholders. Related party transactions are reviewed            and approved by the Audit Committee on a case-by-case basis. Under existing, unwritten policy no related party transaction can be approved by the Audit Committee unless it is first determined that the terms of such transaction is on terms no less favorable to us than could be obtained from an unaffiliated third party on an arms-length basis and is otherwise in our best interest.

*Director Independence*

Our Board is comprised of a majority of independent directors under the rules of the SEC and the listing standards of NASDAQ. Our independent directors are Messrs. Zeitlin, Breslow, and Diaz-Verson. Our Board has determined that each member of the Audit Committee, Compensation Committee and Nominating Committee is independent under such rules and standards. Messrs.            Gagerman and Schwartz are not independent directors under applicable SEC rules.

 

**ITEM 14. PRINCIPAL ACCOUNTING FEES AND DISCLOSURES**

The Audit Committee regularly reviews and determines whether specific non-audit projects or expenditures with our independent auditors potentially affect their independence. The Audit Committee’s policy is to pre-approve all audit and permissible non-audit services provided by our independent auditors. Pre-approval is generally provided by the Audit Committee for            up to one year, as detailed as to the particular service or category of services to be rendered, as is generally subject to a specific budget. The Audit Committee may also pre-approve additional services of specific engagements on a case-by-case basis.

 

The following table sets forth the aggregate fees billed to us by Kabani & Co. for the years ended February 28, 2009, and February 29, 2008:

 

|                  |   |                        |   |   |     |   |    |   |
|-----------------------|--------|-----------------------------|--------|--------|----------|--------|---------|--------|
|                  |   | **Year Ended February 28,** |   |
|                  |   | **2009**                    |   |   | **2008** |   |
| Audit Fees(1)         |   | $                           | 90,000 |   |     | $      | 110,500 |   |
| Audit-related fees(2) |   |                        | -      |   |     |   | -       |   |
| Tax fees(3)           |   |                        | 5,000  |   |     |   | -       |   |
| All other fees        |   |                        | -      |   |     |   | -       |   |
|                  |   |                        |   |   |     |   |
| Total                 |   | $                           | 95,000 |   |     | $      | 110,500 |   |
|                  |   |                        |   |   |     |   |

 

|   |   |                                                                                                                                                                                                                                                                                                                              |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (1)    |   | Included fees for professional services rendered for the audit of our annual financial statements and review of our annual report on Form 10-K and for reviews of the financial statements included in our quarterly reports on Form 10-Q for the first three quarters of the years ended February 28, 2009 andFebruary 29, 2008. |
|   |   |                                                                                                                                                                                                                                                                                                                              |
| (2)    |   | Includes fees for professional services rendered in connection with our evaluation of internal controls.                                                                                                                                                                                                                          |
| (3)    |   | Includes fees for professional services rendered in connection with the preparation of our income tax returns.                                                                                                                                                                                                                    |

 

 

**Policy on Audit Committee Pre-Approval of Audit and Permissible Non-Audit Services of Independent Auditors**

 

----

The Audit Committee pre-approves all audit and permissible non-audit services provided by our independent auditors. These services may include audit services, audit-related services, tax and other services. Pre-approval is generally provided for up to one year, and any pre-approval is detailed as to the particular service or category of services and is generally subject            to a specific budget. The independent auditors and management are required to periodically report to the Audit Committee regarding the extent of services provided by the independent auditors in accordance with this pre-approval, and the fees for the services performed to date. The Audit Committee may also pre-approve particular services on a case-by-case basis. During fiscal 2008 and 2009 all services provided by Kabani and Company were pre-approved by the Audit Committee in            accordance with this policy.

**PART IV**

**ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES**

Documents filed as part of this Form 10-K:

| ***1.***   | ***Financial Statements*** |
|----------------------|----------------------------|

See Index to Consolidated Financial Statements at page F-1

| ***2.***   | ***Financial Statement Schedules*** |
|----------------------|-------------------------------------|

See Index to Consolidated Financial Statements at page F-1

| ***3.***   | ***Exhibits*** |
|----------------------|----------------|

See Exhibit Index

 

----

**INDEX TO EXHIBITS**

**Description of Documents**

 

| 2.1    | First Amended Plan of Reorganization of Aura Systems, Inc.(2)                                                                                                                                                                                                                    |
|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1    | Amended and Restated Certificate of Incorporation of Aura Systems, Inc. as amended by Amendment to Amended and Restated Certificate of Incorporation of Aura Systems, Inc.                                                                                                       |
| 3.2    | Amended and Restated Bylaws of Aura Systems, Inc. as amended to date.                                                                                                                                                                                                            |
| 10.1   | Form of Unsecured Creditor Warrants issued under First Amended Plan of Reorganization of the Company. (3)                                                                                                                                                                        |
| 10.2   | Form of Management Warrants issued under First Amended Plan of Reorganization of Aura Systems, Inc.(3)                                                                                                                                                                           |
| 10.3   | Form of Director Warrants issued under First Amended Plan of Reorganization of t Aura Systems, Inc. (3)                                                                                                                                                                          |
| 10.4   | Aura Systems, Inc. 2006 Stock Option Plan. (3)                                                                                                                                                                                                                                   |
| 10.5   | Form of Aura Systems, Inc. Non-Statutory Stock Option Agreement. (3)                                                                                                                                                                                                             |
| 10.6   | Employment Agreement dated January 4, 2007, by and between the Company and Melvin Gagerman. (3)                                                                                                                                                                                  |
| 10.7   | Full Release dated as of January 31, 2006, by Aura Systems, Inc. for the benefit of Koyah Leverage Partners, L.P., Koyah Partners, L.P. Koyah Ventures LLC, Raven Partners, L.P., Koyah Microcap Partners Master Fund, L.P. and James M. Simmons. (3)                            |
| 10.8   | Consolidated, Amended and Restated Security Agreement dated as of January 31, 2006, by Aura Systems, Inc. for the benefit of Koyah Leverage Partners, L.P., Koyah Partners, L.P. Koyah Ventures LLC, Raven Partners, L.P., and Koyah Microcap Partners Master Fund, L.P. (3)     |
| 10.9   | Consolidated, Amended and Restated Stock Pledge Agreement dated as of January 31, 2006, by Aura Systems, Inc. for the benefit of Koyah Leverage Partners, L.P., Koyah Partners, L.P. Koyah Ventures LLC, Raven Partners, L.P., and Koyah Microcap Partners Master Fund, L.P. (3) |
| 10.10  | Amended and Restated Intercreditor Agreement dated as of January 31, 2006, by and among Aura Systems, Inc., Koyah Leverage Partners, L.P., Koyah Partners, L.P. Koyah Ventures LLC, Raven Partners, L.P., and Koyah Microcap Partners Master Fund, L.P. (3)                      |
| 10.11  | Amended and Restated Promissory Note dated January 31, 2006, by Aura Systems, Inc. in favor of Raven Partners, L.P. (3)                                                                                                                                                          |
| 10.12  | Amended and Restated Promissory Note dated January 31, 2006, by Aura Systems, Inc. in favor of Koyah Ventures, LLC (3)                                                                                                                                                           |
| 10.13  | Consolidated, Amended and Restated Promissory Note dated January 31, 2006, by Aura Systems, Inc. in favor of Koyah Partners, L.P. (3)                                                                                                                                            |
| 10.14  | Consolidated, Amended and Restated Promissory Note dated January 31, 2006, by Aura Systems, Inc. in favor of Koyah Microcap Partners Master Fund, L.P. (3)                                                                                                                       |
| 10.15  | Consolidated, Amended and Restated Promissory Note dated January 31, 2006, by Aura Systems, Inc. in favor of Koyah Leverage Partners, L.P. (3)                                                                                                                                   |
| 10.16  | Lease between Aura Systems Inc., and Alliance Commercial Partners (3)                                                                                                                                                                                                            |
| 10.17  | Lease between Aura Systems Inc., and Derek Lidow as Trustee for the Lidow Family Trust and Alexander Lidow (3)                                                                                                                                                                   |
| 10.18  | Form of 7% Convertible Subordinated Debenture (4)                                                                                                                                                                                                                                |
| 10.19  | Asset Purchase Agreement by and among Aura Systems, Inc. and Emerald Commercial Leasing, Inc. (4)                                                                                                                                                                                |
| 10.20  | Mutual Agreement Ending AuraGen Distributorship Exclusivity between Emerald Commercial Leasing, Inc. and Aura Systems Inc.(4)                                                                                                                                                    |
| 10.21  | Employment Agreement Dated May 15, 2008, by and between Joseph Dickman and the Company. (4)                                                                                                                                                                                      |
| 10.22  | Conversion Agreement dated as of September 1, 2008, by and among Aura Systems, Inc., Koyah Leverage Partners, L.P., Koyah Partners, L.P. Koyah Ventures LLC, and Raven Partners, L.P. (5)                                                                                        |
| 10.23  | Distributorship Agreement dated February 27, 2009, by and between Aura Systems, Inc. and WePower LLC.                                                                                                                                                                            |
| 10.24  | Executive Employment Agreement by and between Don Macleod and Aura Systems, Inc. (6)                                                                                                                                                                                             |
| 14.1   | Code of Ethics (3)                                                                                                                                                                                                                                                               |
| 31.1   | CEO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                      |
| 31.2   | CFO Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                                                                                                                                      |
| 32.1   | Certification pursuant to 18 U.S.C. Section 1350                                                                                                                                                                                                                                 |
|   |                                                                                                                                                                                                                                                                             |
|   |                                                                                                                                                                                                                                                                             |
| (2)    | Incorporated by reference from the Company’s Current Report on Form 8-K filed with the SEC on January 20, 2006.                                                                                                                                                            |

 

 

----

 

| (3) | Incorporated by reference from the Company’s Report on Form 10-K filed with the SEC for the year ended February 28, 2005. |
|-----|---------------------------------------------------------------------------------------------------------------------------------|
| (4) | Incorporated by reference from the Company’s Report on Form 10-K filed with the SEC for the year ended February 29, 2008. |
| (5) | Incorporated by reference from the Company’s Current Report on Form 8-K filed with the SEC on October 14, 2008            |
| (6) | Incorporated by reference from the Company’s Current Report on Form 8-K filed with the SEC on April 24, 2009              |

 

 

----

Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

AURA SYSTEMS, INC.

| Dated: | June 15, 2009           |
|--------|-------------------------|
|   |                    |
| By:    | /s/ Melvin Gagerman     |
|   | Melvin Gagerman         |
|   | Chief Executive Officer |

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.

| Signatures                   | Title                                                                                                                                                                               | Date          |
|------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|---------------|
| /s/ Melvin Gagerman          | Chief Executive Officer, Acting Chief Financial Officer Director and Chairman of the Board (Principal Executive Officer, Principal Financial Officer, Principal Accounting Officer) | June 15, 2009 |
| Melvin Gagerman              |
|                         |                                                                                                                                                                                |          |
| /s/ Arthur Schwartz          | Director                                                                                                                                                                            | June 15, 2009 |
| Arthur Schwartz              |
|                         |                                                                                                                                                                                |          |
|                         | Director                                                                                                                                                                            | June 15, 2009 |
| /s/ Maurice Zeitlin          |
| Maurice Zeitlin              |                                                                                                                                                                                |          |
|                         | Director                                                                                                                                                                            | June 15, 2009 |
| /s/ Warren Breslow           |
| Warren Breslow               |                                                                                                                                                                                |          |
|                         | Director                                                                                                                                                                            | June 15, 2009 |
| /s/Salvador Diaz-Verson, Jr. |
| Salvador Diaz-Verson, Jr.    |                                                                                                                                                                                |          |
|                         | Director                                                                                                                                                                            | June 15, 2009 |
|                         |

 

----

 

 

**Index to Consolidated Financial Statements**

 

| Report of Independent Registered Public Accounting Firm                                               | F-1         |
|-------------------------------------------------------------------------------------------------------|-------------|
|                                                                                                  |        |
| Consolidated Financial Statements of Aura Systems, Inc. and Subsidiaries:                             |        |
|                                                                                                  |        |
| Consolidated Balance Sheets - February 28, 2009 and February 29, 2008                                 | F-2         |
| Consolidated Statements of Operations - Years ended February 28, 2009 and February 29, 2008           | F-3         |
| Consolidated Statements of Stockholders' Equity - Years ended February 28, 2009 and February 29, 2008 | F-4         |
| Consolidated Statements of Cash Flows - Years ended February 28, 2009 and February 29, 2008           | F-5 to F-6  |
| Notes to Consolidated Financial Statements                                                            | F-7 to F-18 |

 

 

Schedules other than those listed above are omitted because they are not required or are not applicable, or the required information is shown in the respective consolidated financial statements or notes thereto.

 

----

**REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**

To the Board of Directors and Stockholders

Aura Systems, Inc. and subsidiaries

We have audited the accompanying consolidated balance sheets of Aura Systems, Inc. (a Delaware corporation) and subsidiaries as of February 28, 2009 and February 29, 2008, and the related consolidated statements of operations, stockholders' equity (deficit), and cash flows for each of the two years in the period ended February 28, 2009. These financial statements are the responsibility of            the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the            financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Aura Systems, Inc. and subsidiaries as of February 28, 2009 and February 29, 2008, and the results of their operations and their cash flows for each of the two years in the period ended February 28, 2009 in conformity with accounting principles            generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern.  During the years ended February 28, 2009 and February 29, 2008, the Company incurred losses of $9,843,962 and $8,960,486, respectively and had negative cash flows from operating activities of $6,311,970 and $7,334,594, respectively during the years ended            February 28, 2009 and February 29, 2008. These factors, among others, as discussed in Note 10 to the consolidated financial statements, raise substantial doubt about the Company’s ability to continue as a going concern. Management’s plans in regard to these matters are also described in Note 10. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

/s/ Kabani & Company, Inc.

**Certified Public Accountants**

 

Los Angeles, California

June15 , 2009

 

 

----

 

 

 

**F-1**

 

 

**AURA SYSTEMS, INC. AND SUBSIDIARIES**

**CONSOLIDATED BALANCE SHEETS**

 

|                                                                                                                                                      |   | **February 28, 2009** |   | **February 29, 2008** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------|--------|-----------------------|
| **ASSETS**                                                                                                                                                |   |                  |   |                  |
| Current assets:                                                                                                                                           |   |                  |   |                  |
| Cash and cash equivalents                                                                                                                                 |   | $317,256              |   | $37,532               |
| Accounts receivable, net of allowance for doubtful accounts of $60,000 and $99,300                                                                        |   | 319,249               |   | 787,054               |
| Inventory-current                                                                                                                                         |   | 1,500,000             |   | 1,500,000             |
| Other current assets                                                                                                                                      |   | 255,620               |   | 266,184               |
| Total current assets                                                                                                                                      |   | 2,392,125             |   | 2,590,770             |
|                                                                                                                                                      |   |                  |   |                  |
| Property, plant, and equipment, net                                                                                                                       |   | 353,444               |   | 193,905               |
| Non-current inventories net of allowance for obsolete inventories of $2,425,994 and $2,724,399                                                            |   | 2,545,978             |   | 2,473,952             |
|                                                                                                                                                      |   |                       |   |                       |
| Total assets                                                                                                                                              |   | $5,291,547            |   | $5,258,627            |
|                                                                                                                                                      |   |                       |   |                       |
| **LIABILITIES AND STOCKHOLDERS' EQUITY**                                                                                                                  |   |                  |
| Current liabilities:                                                                                                                                      |   |                  |   |                  |
| Accounts payable                                                                                                                                          |   | $1,075,202            |   | $708,359              |
| Notes payable                                                                                                                                             |   | 225,000               |   | 824,358               |
| Notes payable- related party                                                                                                                              |   | 1,800,000             |   | 509,863               |
| Accrued expenses                                                                                                                                          |   | 1,037,917             |   | 529,876               |
| Customer advances                                                                                                                                         |   | 418,612               |   | -                     |
|                                                                                                                                                      |   |                       |   |                       |
| Total current liabilities                                                                                                                                 |   | 4,556,731             |   | 2,542,456             |
|                                                                                                                                                      |   |                  |   |                  |
| Convertible notes payable                                                                                                                                 |   | 500,000               |   | 1,889,777             |
|                                                                                                                                                      |   |                       |   |                       |
| Total liabilities                                                                                                                                         |   | 5,056,731             |   | 4,462,233             |
|                                                                                                                                                      |   |                  |   |                  |
|                                                                                                                                                      |   |                  |   |                  |
| Commitments and contingencies                                                                                                                             |   |                  |   |                  |
|                                                                                                                                                      |   |                  |   |                  |
| Stockholders' equity :                                                                                                                                    |   |                  |   |                  |
| Common stock, $0.0001par value, 50,000,000 shares authorized, 46,344,770 and 37,783,539 issued and outstanding at February 28, 2009 and February 29, 2008 |   | 4,634                 |   | 3,778                 |
| Additional paid-in capital                                                                                                                                |   | 364,222,963           |   | 355,618,690           |
| Subscription receivable                                                                                                                                   |   | (27,416)              |   | (704,671)             |
| Accumulated deficit                                                                                                                                       |   | (363,965,365)         |   | (354,121,403)         |
|                                                                                                                                                      |   |                       |   |                       |
| Total stockholders' equity                                                                                                                                |   | 234,816               |   | 796,394               |
|                                                                                                                                                      |   |                       |   |                       |
| Total liabilities and stockholders' equity                                                                                                                |   | $5,291,547            |   | $5,258,627            |
|                                                                                                                                                      |   |                       |   |                       |

 

 

**The accompanying notes are an integral part of these consolidated financial statements.**

 

 

----

 

**F-2**

 

 

----

**AURA SYSTEMS, INC. AND SUBSIDIARIES**

 

**CONSOLIDATED STATEMENTS OF OPERATIONS**

**For the Years Ended February 28, 2009 and February 29, 2008**

 

|                                  |   | 2009         | 2008         |   |
|---------------------------------------|--------|--------------|--------------|--------|
|                                  |   |              |              |   |
| Net revenues                          |   | $2,415,529   | $2,849,331   |   |
| Cost of goods sold                    |   | 1,539,985    | 1,746,361    |   |
| Inventory write down                  |   | -            | 52,675       |   |
|                                  |   |              |              |   |
| Gross profit                          |   | 875,544      | 1,050,295    |   |
|                                  |   |         |         |   |
| Operating expenses                    |   |         |         |   |
| Engineering, research and development |   | 1,872,683    | 1,541,617    |   |
| Selling, general, and administrative  |   | 8,204,793    | 8,246,812    |   |
|                                  |   |              |              |   |
| Total operating expenses              |   | 10,077,476   | 9,788,429    |   |
|                                  |   |              |              |   |
| Loss from operations                  |   | (9,201,932)  | (8,738,134)  |   |
|                                  |   |              |              |   |
| Other income (expense):               |   |         |         |   |
| Gain on disposition of assets         |   | -            | 1,500        |   |
| Interest expense, net                 |   | (702,650)    | (168,607)    |   |
| Gain (Loss) on settlement of debt     |   | 39,562       | (84,425)     |   |
| Other income (expense), net           |   | 21,058       | 28,640       |   |
|                                  |   |              |              |   |
| Total other expense                   |   | (642,030)    | (222,352)    |   |
|                                  |   |              |              |   |
| Net Loss                              |   | $(9,843,962) | $(8,960,486) |   |
|                                  |   |         |         |   |
| Basic and diluted loss per share      |   | $(0.24)      | $(0.28)      |   |
|                                  |   |              |              |   |
| *Weighted-average shares outstanding  |   | 41,716,958   | 32,252,902   |   |
|                                  |   |              |              |   |

 

Basic and diluted weighted average number of shares outstanding are equivalent because the effect of

|   | dilutive securities is anti-dilutive. |
|--------|---------------------------------------|

|   | **The accompanying notes are an integral part of these consolidated financial statements** |
|--------|--------------------------------------------------------------------------------------------|

 

**F-3**

 

----

**AURA SYSTEMS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY**

 

|                                           |   |   | CommonStock Shares |   | CommonStock Amount |   |   | Additional Paid-In Capital |   | Subscription Receivable |   | AccumulatedDeficit |   | Total Stockholders' Equity |
|------------------------------------------------|--------|--------|--------------------|--------|--------------------|--------|--------|----------------------------|--------|-------------------------|--------|--------------------|--------|----------------------------|
|                                           |   |   |                    |   |                    |   |   |                            |   |                         |   |                    |   |                            |
| Balance, February 28, 2007                     |   |   | 28,695,638         |   | $2,870             |   |   | $347,261,713               |   | -                       |   | $(345,160,917)     |   | $2,103,666                 |
| Common stock issued in private placements, net |   |   | 6,891,791          |   | 689                |   |   | 6,432,400                  |   | $(704,671)              |   | -                  |   | 5,728,418                  |
| Stock issued for settlement of secured debt    |   |   | 183,533            |   | 18                 |   |   | 267,939                    |   | -                       |   | -                  |   | 267,957                    |
| Penalty shares issued                          |   |   | 2,012,577          |   | 201                |   |   | (201)                      |   | -                       |   | -                  |   | -                          |
| Employee options expense                       |   |   | -                  |   | -                  |   |   | 1,656,838                  |   | -                       |   | -                  |   | 1,656,838                  |
| Net Loss                                       |   |   | -                  |   | -                  |   |   | -                          |   | -                       |   | (8,960,486)        |   | (8,960,486)                |
| Balance, February 29, 2008                     |   |   | 37,783,539         |   | $3,778             |   |   | $355,618,690               |   | (704,671)               |   | $(354,121,403)     |   | $796,394                   |
| Common stock issued in private placements, net |   |   | 2,915,000          |   | 292                |   |   | 2,436,766                  |   |  

 

585,750 |   | -                  |   | 3,002,807                  |
| Warrants exercised                             |   |   | 2,397,717          |   | 240                |   |   | 2,282,165                  |   | -                       |   | -                  |   | 2,282,405                  |
| Shares issued in exchange for assets purchased |   |   | 400,000            |   | 40                 |   |   | 399,960                    |   | -                       |   | -                  |   | 400,000                    |
| Warrants exercised for note settlement         |   |   | 430,329            |   | 43                 |   |   | 430,286                    |   | -                       |   | -                  |   | 430,329                    |
| Shares issued for services                     |   |   | 100,000            |   | 10                 |   |   | 99,990                     |   | -                       |   | -                  |   | 100,000                    |
| Shares issued for note conversion              |   |   | 2,069,742          |   | 207                |   |   | 2,069,535                  |   | -                       |   | -                  |   | 2,069,742                  |
| Shares issued for debt settlement              |   |   | 98,442             |   | 9                  |   |   | 58,871                     |   | -                       |   | -                  |   | 58,880                     |
| Shares issued as note guarantee fee            |   |   | 150,000            |   | 15                 |   |   | 62,985                     |   | -                       |   | -                  |   | 63,000                     |
| Subscription settled with payable              |   |   | -                  |   | -                  |   |   | -                          |   | 91,505                  |   |               |   | 91,505                     |
| Induced conversion charge                      |   |   | -                  |   | -                  |   |   | 368,900                    |   | -                       |   | -                  |   | 368,900                    |
| Employee options expense                       |   |   | -                  |   | -                  |   |   | 394,814                    |   | -                       |   | -                  |   | 394,814                    |
| Net Loss                                       |   |   | -                  |   | -                  |   |   | -                          |   | -                       |   | (9,843,962)        |   | (9,843,962)                |
| Balance, February 28, 2009                     |   |   | 46,344,770         |   | $ 4,634            |   |   | $364,222,963               |   | $(27,416)               |   | $(363,965,365)     |   | $234,816                   |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                           |   |   |               |   |               |   |   |                       |   |                    |   |               |   |                       |
|                                                |        |        |                    |        |                    |        |        |                            |        |                         |        |                    |        |                            |  |  |  |  |

 

**The accompanying notes are an integral part of these consolidated financial statement**

F-4

 

----

 

----

**AURA SYSTEMS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

 

**For the Years Ended February 28, 2009 and February 29, 2008**

 

|                                                                       |   | 2009         |   | 2008         |   |   |
|----------------------------------------------------------------------------|--------|--------------|--------|--------------|--------|--------|
|                                                                       |   |              |   |              |   |   |
| Cash flows from operating activities:                                      |   |         |   |         |   |   |
| Net loss                                                                   |   | $(9,843,962) |   | $(8,960,486) |   |   |
| Adjustments to reconcile net loss to net cash used in operating activities |   |         |   |         |   |   |
| Depreciation and amortization                                              |   | 78,980       |   | 35,462       |   |   |
| Gain on disposition of assets                                              |   | -            |   | (1,500)      |   |   |
| Bad debt expense                                                           |   | 29,184       |   | -            |   |   |
| Change in reserve for inventory obsolescence                               |   | (298,405)    |   | 52,675       |   |   |
| Operating expense charged for warrants and employee stock options          |   | 394,814      |   | 1,656,838    |   |   |
| Stock issued for inventory purchase                                        |   | 400,000      |   | -            |   |   |
| Operating expense charged for induced conversion                           |   | 368,900      |   | -            |   |   |
| (Gain) Loss on debt settlement                                             |   | (39,562)     |   | 84,425       |   |   |
| Stock issued for loan guarantee fee                                        |   | 63,000       |   | -            |   |   |
| Stock issued for compensation                                              |   | 100,000      |   | -            |   |   |
| (Increase) decrease in:                                                    |   |         |   |         |   |   |
| Accounts receivable                                                        |   | 438,621      |   | (537,070)    |   |   |
| Inventories                                                                |   | 875,246      |   | (81,104)     |   |   |
| Other current assets                                                       |   | 10,564       |   | (22,330)     |   |   |
| Increase (decrease) in:                                                    |   |         |   |         |   |   |
| Accounts payable and accrued expenses                                      |   | 1,092,038    |   | 603,121      |   |   |
| Customer advances                                                          |   | 418,612      |   | -            |   |   |
| Deferred income                                                            |   | -            |   | (164,625)    |   |   |
|                                                                       |   |              |   |              |   |   |
| Net cash used in operating activities                                      |   | (6,311,970)  |   | (7,334,594)  |   |   |
|                                                                       |   |              |   |              |   |   |
| Cash flows from investing activities:                                      |   |         |   |         |   |   |
| Purchase of property, plant, and equipment                                 |   | (238,519)    |   | (170,850)    |   |   |
| Proceeds from disposal of property, plant, and equipment                   |   | -            |   | 1,500        |   |   |
|                                                                       |   |              |   |              |   |   |
| Net cash used in investing activities                                      |   | (238,519)    |   | (169,350)    |   |   |
|                                                                       |   |              |   |              |   |   |

 

The accompanying notes are an integral part of these consolidated financial statements

 

 

F-5

----

**AURA SYSTEMS, INC. AND SUBSIDIARIES**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

 

|                                                 | 2009      |   | 2008        |   |
|------------------------------------------------------|-----------|--------|-------------|--------|
|                                                 |           |   |             |   |
| Cash flows from financing activities:                |      |   |        |   |
| Proceeds from notes payable                          | 350,000   |   | 704,000     |   |
| Proceeds from related party loans payable            | 1,300,000 |   | 500,000     |   |
| Payments on notes payable                            | (125,000) |   | (442,201)   |   |
| Net proceeds from warrants exercised                 | 2,282,405 |   | -           |   |
| Net proceeds from issuance of common stock           | 3,022,807 |   | 5,728,418   |   |
|                                                 |           |   |             |   |
| Net cash provided by financing activities            | 6,830,212 |   | 6,490,217   |   |
|                                                 |           |   |             |   |
| Net increase (decrease) in cash and cash equivalents | 279,724   |   | (1,013,727) |   |
| Cash and cash equivalents, beginning of year         | 37,532    |   | 1,051,259   |   |
|                                                 |           |   |             |   |
| Cash and cash equivalents, end of year               | $317,256  |   | $37,532     |   |
|                                                 |           |   |             |   |
| Supplemental disclosures of cash flow information:   |      |   |        |   |
| Interest paid                                        | $578,068  |   | $132,375    |   |
|                                                 |           |   |             |   |
| Income taxes paid                                    | $-        |   | $ -         |   |
|                                                 |           |   |             |   |

 

The accompanying notes are an integral part of these consolidated financial statements

Supplemental schedule of non-cash financing and investing activities:

During the year ended February 28, 2009, $2,069,743 of notes payable and accrued interest was converted into 2,069,743 shares of common stock, 430,329 shares of common stock were issued upon the exercise of warrants in lieu of payments on notes payable of $430,329, 400,000 shares of common stock were issued in satisfaction of a liability for assets purchased with a value of $400,000, 98,442            shares of common stock were issued in satisfaction of $98,442 of previously recorded liabilities, subscription receivable of $91,505 was settled against previously recorded liability of the same amount.

During the year ended February 29, 2008, $183,533 of notes payable was converted into 183,533 shares of common stock.

 

**The accompanying notes are an integral part of these consolidated financial statements**

F-6

 

 

56

 

 

 

----

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

**NOTE 1 - ORGANIZATION AND OPERATIONS**

**General**

Aura Systems, Inc., ("Aura", “We” or the "Company") a Delaware corporation, was founded to engage in the development, commercialization, and sales of products, systems, and components, using its patented and proprietary electromagnetic and electro-optical technology. Aura develops and sells AuraGen® mobile induction power systems to the industrial, commercial,            and defense mobile power generation markets. In addition, we hold patents for other technologies that have not been commercially exploited.

**Chapter 11 reorganization**

On June 24, 2005 we filed for reorganization under Chapter 11 of the U.S. Bankruptcy Code, in the United States Bankruptcy Court, Central District of California, (Case Number LA 05-24550-SB). We secured a Debtor in Possession (“DIP”) loan from Blue Collar Films LLC (“BCF”) for one million dollars and secured an additional $1.2 million DIP loan from AGP Lender LLC.            In addition a group of individual investors provided an additional $1.16 million in DIP financing. We submitted a reorganization plan that was approved by the court and voted and approved by the DIP lenders, the secured creditors, the unsecured creditors, the shareholders and the new money investors. Under the reorganization plan (i) the secured creditor retained $2.5 million in a secured note payable over 48 months at 7% annual interest with the first payment starting 12 months            after the reorganization, (ii) the Series B Preferred Stock holders received new common shares calculated by dividing the total cash invested in the Series B Placement by $3.37, (iii) the Series A Preferred Stock holders converted their 1.8 Series A Preferred Stock for one new common share, (iv) the common shareholders converted 338 of their shares for one new share, and (v) the DIP loans converted their loans into approximately 6.07 million new shares of common stock, and (vi) all            the unsecured creditors received new shares of common stock valued at one share per $1.75 in claim. An additional 5.89 million shares of common stock were issued for the new money and reorganization related fees. 254,127 additional shares were issued to shareholders to settle their claims in excess of the bankruptcy court approval.

All of the outstanding litigation and disputes were settled during the bankruptcy. The real estate was sold to an unrelated third party in December 2005 for gross proceeds of $8,750,000. After satisfaction of the mortgage liabilities and payment of the costs of the sale, approximately $2.9 million was due us. From this amount, $1.9 million was paid to the minority shareholder,            approximately $470,000 was used to satisfy outstanding legal bills, and the balance of $595,000 was received by the Company in March of 2006. All disputes regarding the real estate were settled.

We emerged from Chapter 11 proceedings effective January 31, 2006.

**NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

**Principles of Consolidation**

The consolidated financial statements include the accounts of Aura and our subsidiary, Aura Realty, Inc.. Significant inter-company amounts and transactions have been eliminated in consolidation.

**Revenue Recognition**

The Company’s revenue recognition policies are in compliance with Staff accounting bulletin (SAB) 104. Sales revenue is recognized at the date of shipment to customers when a formal arrangement exists, the price is fixed or determinable, the delivery is completed, no other significant obligations of the Company exist and collectability is

 

58

 

 

 

----

reasonably assured. Payments received before all of the relevant criteria for revenue recognition are satisfied are recorded as unearned revenue.

 

We recognize revenue for product sales upon shipment and when title is transferred to the customer. When Aura performs the installation of the product, revenue and cost of sales are recognized when the installation is complete. We have in the past earned a portion of our revenues from license fees and recorded those fees as income when we fulfilled our obligations under the particular            agreement.

 

Terms of our sales generally provide for Shipment from our facilities to customers FOB point of shipment. Title passes to customers at the time the products leave our warehouse.

 

The Company does not offer a general right of return on any of its sales and considers all sales as final. However, if a customer determines that a different system configuration would better suit their application, we will allow them to exchange the system and bill them the incremental cost, or credit them if there is a decrease in the system cost. While some sales are for evaluative            purposes, they are still considered final sales. The customers evaluation is for them to determine if there is a benefit to them to outfit additional vehicles in their fleets.

 

The only potential post delivery obligation the Company might have is for the installation of the unit. However, the unit is typically delivered at the time of installation, and the billing is done when the installation is complete. Any discounts that are offered are done as a reduction of the invoiced amount at the time of billing. The Company does not utilize bill and hold. The Company            does provide customers with a warranty; however, due to the low sales volume to date, the amount has not been material and is expensed as incurred.

**Comprehensive Income**

We utilize Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income." This statement establishes standards for reporting comprehensive income and its components in a financial statement. Comprehensive income as defined includes all changes in equity (net assets) during a period from non-owner sources. Examples of items to be included in comprehensive            income, which are excluded from net income, include foreign currency translation adjustments and unrealized gains and losses on available-for-sale securities. Comprehensive income is not presented in our financial statements since we did not have any of the items of comprehensive income in any period presented.

**Cash and Cash Equivalents**

Cash and equivalents include cash on hand and cash in time deposits, certificates of deposit and all highly liquid debt instruments with original maturities of three months or less. We maintain cash deposits at a bank located in California. Deposits at this bank are insured by the Federal Deposit Insurance Corporation up to $100,000. We have not experienced any losses in such accounts and            believe we are not exposed to any significant risk on cash and cash equivalents.

**Accounts Receivable**

Accounts receivable consist primarily of amounts due from customers. We have provided for an allowance for doubtful accounts, which we believe to be sufficient to account for all uncollectible amounts.

**Inventories**

Inventories are valued at the lower of cost (first-in, first-out) or market, on a standard cost basis. Due to continuing lower than projected sales, we are holding inventories in excess of what we expect to sell in the next fiscal year. As of February 28, 2009 and February 29, 2008, $2,545,978, and $2,473,952, respectively, of inventories have been classified as long-term assets. (See            Note 3.)

**Property, Plant, and Equipment**

 

59

 

 

 

----

Property, plant, and equipment, including leasehold improvements, are recorded at cost, less accumulated depreciation and amortization. Depreciation is provided using the straight-line method over the estimated useful lives of the respective assets as follows:

 

 

| Machinery and equipment | 5 to 10 years |
|-------------------------|---------------|
| Furniture and fixtures  | 7 years       |

 

Improvements to leased property are amortized over the lesser of the life of the lease or the life of the improvements. Amortization expense on assets acquired under capital leases is included with depreciation and amortization expense on owned assets.

Maintenance and minor replacements are charged to expense as incurred. Gains and losses on disposals are included in the results of operations.

**Patents and Trademarks**

We capitalize the cost of obtaining or acquiring patents and trademarks. Amortization of patent and trademark costs is provided for by the straight-line method over the shorter of the legal or estimated economic life.

**Valuation of Long-Lived Assets**

We review long-lived assets and identifiable intangibles in accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," on at least an annual basis or whenever events or circumstances indicate that the carrying amount of such assets may not be fully recoverable.

**Stock-Based Compensation**

In December 2004, the FASB issued SFAS No. 123 (Revised 2004), "Share-Based Payment" ("SFAS 123R"), which requires the measurement of all employee share-based payments to employees, including grants of employee stock options, using a fair value based method and the recording of such expense in the consolidated statements of operations. In March 2005, the SEC issued Staff Accounting            Bulletin No. 107 ("SAB 107") regarding the SEC's interpretation of SFAS 123R and the valuation of share-based payments for public companies. The Company has adopted SFAS 123R and related FASB Staff Positions ("FSPs") as of March 1, 2006 and recognized stock-based compensation expense using the modified prospective method.

During the year ended February 28, 2009, the Company granted 450,000 options to an employee to purchase our stock at a price of $3.00. During the year ended February 29, 2008, the Company granted 1,491,500 options to purchase our stock at prices of $2.00 and $3.00. There were no options granted during the year ended February 28, 2007.

The Company incurred stock options related expenses of $378,184 and $1,640,208, during the years ended February 28, 2009 and 2008, respectively as selling, general & administrative expenses. The Company incurred stock options related expenses of $16,630 and $16,630, during the years ended February 28, 2009 and 2008, respectively as engineering, research & development            expenses.

**Fair Value of Financial Instruments**

Our financial instruments include cash and cash equivalents, accounts receivable, and notes receivable, accounts payable, and accrued expenses. The carrying amounts of these instruments approximate their fair value due to their short maturities.

 

60

 

 

 

----

**Advertising Expense**

Advertising costs are charged to expense as incurred and were immaterial for the years ended February 28, 2009, February 29, 2008 and February 28, 2007.

**Research and Development**

Research and development costs are expensed as incurred. These costs include the expenses incurred in the development of the 200amp ECU, the Tamgen (dual generator), and the eight inch generator.

**Income Taxes**

We utilize SFAS No. 109, "Accounting for Income Taxes," which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Under this method, deferred income taxes are recognized for the tax consequences in future years of differences between the tax bases of assets            and liabilities and their financial reporting amounts at each period end based on enacted tax laws and statutory tax rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized.

We have significant income tax net operating losses; however, due to the uncertainty of the realize-ability of the related deferred tax asset, a valuation allowance equal to the amount of deferred income taxes has been established at February 28, 2009 and February 29, 2008.

**Loss per Share**

The consolidated net loss per common share is based on the weighted-average number of common shares outstanding during the year.

**Estimates**

The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

**Major Customers**

During the year ended February 28, 2009, we conducted business with two major customers whose sales comprised 16.2% and 10.2% of net sales, respectively. As of February 28, 2009, no amounts were receivable from these customers. During the year ended February 29, 2008, we conducted business with three major customers whose net sales comprised 42% of net sales. As of February 29, 2008,            three customers accounted for 30% of net accounts receivable.

**Recently Issued Accounting Pronouncements**

In September 2006, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 157, Fair Value Measurements ("SFAS 157"), which defines fair value, establishes guidelines for measuring fair value and expands disclosures regarding fair value measurements. SFAS 157 does not require any new fair value measurements but rather eliminates            inconsistencies in guidance found in various prior accounting pronouncements. SFAS 157 is effective for the Company beginning in the first quarter of 2008. In February 2008, the FASB released a FASB Staff Position (FSP FAS 157-2—Effective Date of FASB Statement No. 157) which delays the effective date of SFAS No. 157 for all non-financial assets and non-financial liabilities, except those that are recognized or disclosed at fair value in the financial statements on a recurring            basis (at least annually) to fiscal years beginning after November 15, 2008. Adoption of SFAS No. 157 did not affect the Company’s consolidated financial condition, results of operations or cash flows.

 

61

 

 

 

----

In December 2007, the FASB issued SFAS No. 141(R), "Business Combinations". This Statement replaces SFAS No. 141, Business Combinations. This Statement retains the fundamental requirements in Statement 141 that the acquisition method of accounting (which Statement 141 called the purchase method) be used for all business combinations and for an acquirer to be            identified for each business combination. This Statement also establishes principles and requirements for how the acquirer: a) recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree; b) recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase and c) determines what information to disclose to enable users of the financial            statements to evaluate the nature and financial effects of the business combination. SFAS No. 141(R) will apply prospectively to business combinations for which the acquisition date is on or after Company's fiscal year beginning March 1, 2009. The Company does not expect this statement to have any impact on its consolidated financial statements. However, the Company will be required to expense costs related to any acquisitions after February 28, 2009.

In December 2007, the FASB issued SFAS No. 160, "Non-controlling Interests in Consolidated Financial Statements". This Statement amends ARB 51 to establish accounting and reporting standards for the non-controlling (minority) interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a non-controlling interest in a subsidiary is an ownership interest in the            consolidated entity that should be reported as equity in the consolidated financial statements. SFAS No. 160 is effective for the Company's fiscal year beginning March 1, 2009. Management is currently evaluating the effect of this pronouncement on financial statements.

In March 2008, the FASB issued FASB Statement No. 161, Disclosures about Derivative Instruments and Hedging Activities. The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity's financial position, financial performance, and cash            flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The new standard also improves transparency about the location and amounts of derivative instruments in an entity's financial statements; how derivative instruments and related hedged items are accounted for under Statement 133; and how derivative instruments and related hedged items affect its financial position, financial            performance, and cash flows. Management is currently evaluating the effect of this pronouncement on financial statements.

In May of 2008, FSAB issued SFASB No.162, The Hierarchy of Generally Accepted Accounting Principles. The pronouncement mandates that the GAAP hierarchy reside in the accounting literature as opposed to the audit literature. This has the practical impact of elevating FASB Statements of Financial Accounting Concepts in the GAAP hierarchy. This pronouncement will become            effective 60 days following SEC approval. The company does not believe this pronouncement will impact its financial statements.

In May of 2008, FASB issued SFASB No. 163, Accounting for Financial Guarantee Insurance Contracts-an interpretation of FASB Statement No. 60. The scope of the statement is limited to financial guarantee insurance (and reinsurance) contracts. The pronouncement is effective for fiscal years beginning after December 31, 2008. The Company does not believe this pronouncement will impact its            financial statements.

On December 30, 2008 FASB issued FIN 48-3, “Effective Date of FASB Interpretation No. 48 for Certain Nonpublic Enterprises”. This FSP defers the effective date of FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes, for certain non-public enterprises as defined in paragraph 289, as amended, of FASB Statement No. 109, Accounting for Income Taxes, including            non-public not-for-profit organizations. However, non-public consolidated entities of public enterprises that apply U. S. GAAP are not eligible for the deferral. Nonpublic enterprises that have applied the recognition, measurement, and disclosure provisions of Interpretation 48 in a full set of annual financial statements issued prior to the issuance of this FSP also are not eligible for the deferral. This FSP shall be effective upon issuance. The Company does not believe this            pronouncement will impact its financial statements.

**Reclassifications**

Certain reclassifications have been made to the 2008 financial statements to conform to the 2009 presentation.

**NOTE 3 – INVENTORIES**

 

62

 

 

 

----

Inventories at February 28, 2009 and February 29, 2008 consisted of the following:

 

 

|                                       | 2009        |   | 2008        |
|--------------------------------------------|-------------|--------|-------------|
|                                       |             |   |             |
| Raw materials                              | $2,642,833  |   | $2,915,168  |
| Finished goods                             | 3,829,139   |   | 3,783,183   |
|                                       |             |   |             |
|                                       | 6,471,972   |   | 6,698,351   |
| Reserve for potential product obsolescence | (2,271,535) |   | (2,566,487) |
|                                       |             |   |             |
|                                       | 4,200,437   |   | 4,131,864   |
| Non-current portion                        | (2,545,978) |   | (2,473,952) |
| Discount on long term inventory            | (154,459)   |   | (157,912)   |
|                                       |             |   |             |
| Current portion                            | $1,500,000  |   | $1,500,000  |
|                                       |             |   |             |

 

Inventories consist primarily of components and completed units for the Company’s AuraGen® product.

Early in its AuraGen® program, we determined it was most cost-effective to outsource production of components and subassemblies to volume-oriented manufacturers, rather than produce these parts in house. As a result of this decision, and based on then anticipated sales, we purchased, prior to fiscal 2001, a substantial inventory of components at volume prices, most of which            was then assembled into finished AuraGen® units. Since sales did not meet such expectations, we have been selling product from this inventory for several years. Management has analyzed its inventories based on its current business plan, current orders for future delivery, and pending proposals with prospective customers and has determined we do not expect to realize all of its inventories within the next year. The net inventories as of February 29, 2008 and February            28, 2007, which are not expected to be realized within a 12-month period have been reclassified as long term.

We assessed the net realize-ability of these assets, and the potential obsolescence of inventory. In accordance with this assessment, management has recorded a reserve of $2,271,535 and $2,566,487 at February 28, 2009 and February 29, 2008, respectively. Management has recorded a discount on long term inventory of $154,459 and $157,912 at February 28, 2009 and February 29, 2008,            respectively. The Company only reduces the reserve for items that have been disposed of, that had a reserve associated with them.

**NOTE 4 – PROPERTY, PLANT, AND EQUIPMENT**

Property, plant, and equipment at February 28, 2009 and February 29, 2008 consists of the following:

 

|                                           | 2009       |   | 2008       |
|------------------------------------------------|------------|--------|------------|
|                                           |            |   |            |
| Machinery and equipment                        | $1,054,422 |   | $1,055,845 |
| Furniture and fixtures                         | 1,438,312  |   | 1,411,283  |
| Leasehold improvements                         | 200,124    |   | -          |
|                                           | 2,692,859  |   | 2,467,128  |
| Less accumulated depreciation and amortization | 2,339,415  |   | 2,273,223  |
| Property, plant and equipment, net             | $353,444   |   | $193,905   |

 

 

63

 

 

 

----

 

|   |  |   |  |
|--------|--|--------|--|

 

Depreciation and amortization expense was $78,980 and $35,462 for the years ended February 28, 2009 and February 29, 2008, respectively.

**NOTE 5 – NOTES PAYABLE**

Notes payable at February 28, 2009 and February 29, 2008 consisted of the following:

 

|                         | 2009     |   | 2008       |
|------------------------------|----------|--------|------------|
|                         |          |   |            |
| Notes payable (a)            | $ 0      |   | $2,003,249 |
| Demand notes payable (b)     | 225,000  |   | -          |
| Convertible note payable (c) | 500,000  |   | 710,886    |
|                         | 725,000  |   | 2,714,135  |
| Less current portion         | 225,000  |   | 824,358    |
| Long-term portion            | $500,000 |   | $1,889,777 |
|                         |     |   |       |
|                         |     |   |       |

 

|   | (a) | Represents notes payable dated January 31, 2006, bearing interest at a rate of 7% per annum and secured by our intellectual property. The notes carry a term of five years with interest accruing the first twelve months, principal and interest payments beginning the thirteenth month, and continuing through month sixty. During the year                            ended February 28, 2009, 430,329 warrants held by the note-holders were converted into common stock in lieu of payments on the notes. As of September 1, 2008, the Company induced the note holder to convert the note into common shares by entering into a conversion agreement. This agreement entailed conversion of the balance of the notes and accrued interest in the amount of $1,603,912 into 1,603,912 shares of Common Stock. The Company recorded an induced conversion                            charge of $368,900, for the difference between the fair market value of the common stock on the date of agreement and the conversion rate which was expensed as interest expense when the conversion right was exercised by the note holder. |
|--------|-----|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | (b) | Consists of two demand notes payable of $100,000 and $50,000, with interest at an annual rate of 10%, and one demand note of $150,000, with a balance of $75,000 and a flat interest fee of $10,000. |
|--------|-----|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

|   | (c) | Consists of convertible notes payable bearing interest at a rate of 7%, due in 2013. The notes are convertible into our common stock at a price of $3.00 per share. The Company accrued interest of $35,187 on the note during the year ended February 28, 2009. $12,964 of the interest was paid off in common stock of the Company. |
|--------|-----|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

 

 

 

64

 

 

 

----

Future maturities of notes payable at February 28, 2009 are as follows:

 

| Year Ending February 28, |     |
|--------------------------|----------|
|                     |     |
| 2010                     | $225,000 |
| 2011                     | 0        |
| 2012                     | 0        |
| 2013                     | 500,000  |
| Total                    | $725,000 |

 

**Note 6 – NOTES PAYABLE – RELATED PARTY**

Consists of notes payable to a member of our Board of Directors, payable on demand, and bearing interest at a rate of 10% per annum. During the year ended February 28, 2009, $103,503 of accrued and unpaid interest was charged to interest expense and is included in accrued interest.

**NOTE 7 - ACCRUED EXPENSES**

Accrued expenses at February 28, 2009 and February 29, 2008 consisted of the following:

 

|                                 | 2009       |   | 2008     |
|--------------------------------------|------------|--------|----------|
|                                 |            |   |          |
| Accrued payroll and related expenses | $904,849   |   | $461,515 |
| Other                                | 133,068    |   | 68,361   |
| Total                                | $1,037,917 |   | $529,876 |
|                                 |            |   |          |

 

**NOTE 8 - COMMITMENTS AND CONTINGENCIES**

**Leases**

In February 2008, we entered into a lease for a new facility of approximately 25,500 square feet, near our current facility. The lease is for a term of five years, commencing May 1, 2008, and carries a base rent of $28,019 per month. We anticipate moving to this facility in the second quarter of fiscal 2010, when the build-out of the new facility is expected to be completed. Until such            time we are on a month to month lease in our current facilities. Rent expense charged to operations amounted to $687,768 and $300,629 for the years ended February 28, 2009 and February 29, 2008, respectively.

Rent commitments for the next five years ending on February 28:

|   | February 28, 2010 | $336,228 |
|--------|-------------------|----------|

|   | February 28, 2011 | $336,228 |
|--------|-------------------|----------|

|   | February 28, 2012 | $336,228 |
|--------|-------------------|----------|

|   | February 28, 2013 | $336,228 |
|--------|-------------------|----------|

|   | February 25, 2014 | $56,038 |
|--------|-------------------|---------|

|   | Total | $1,400,950 |
|--------|-------|------------|

 

 

65

 

 

 

----

 

**Litigation**

**Barovich/Chiau et. al. v. Aura Systems, Inc. et. al. (Case No. CV -95-3295).**

As previously reported in our fiscal 2000 report on Form 10-K, we settled shareholder litigation in the referenced matter in January 1999. On November 20, 1999, the parties entered into an Amended Stipulation of Settlement, requiring that we make payment of $2,260,000 (plus interest) in thirty-six equal monthly installments of $70,350. On October 22, 2002, after we had failed to make            certain monthly payments, Plaintiffs applied for and obtained a judgment against us for $935,350, representing the balance due. We have subsequently made only two monthly payments of $70,350 each, reducing the amount owed to $794,650 (plus interest) as of February 28, 2005. Subsequent to the end of fiscal 2005, the bankruptcy court in our Chapter 11 proceeding (In re Aura Systems, Inc., United States Bankruptcy Court, Central District of California, Case Number LA 05-24550-SB),            approved the settlement of this claim in the amount of approximately $820,000 as an unsecured claim under our Chapter 11 Plan of Reorganization. As an unsecured claim the Plan provides for the claim to be satisfied by the issuance of approximately 465,000 shares of common stock in the reorganized company. Plaintiffs appealed the ruling of the bankruptcy court to the District Court of Appeals claiming they were a secured creditor under the Plan of Reorganization, and therefore            entitled to full payment in cash over a period of five years. The appellate court upheld the ruling of the bankruptcy court, and Plaintiffs have appealed this decision to the Ninth Circuit Court of Appeals. The Ninth Circuit Court of Appeals also upheld the ruling of the bankruptcy court.

**NOTE 9 - STOCKHOLDERS' EQUITY**

**Common Stock**

At February 28, 2009, February 28, 2008 and 2007, we had 50,000,000 shares of $0.0001 par value common stock authorized for issuance. During the years ended February 28, 2009 and February 29, 2008, we issued 8,560,650 and 9,087,901 shares of common stock, respectively.

In the year ended February 28, 2009, we issued 2,915,000 shares of common stock for cash proceeds of $2,437,057 and collected subscription receivables of $677,255 which included the offsetting of a payable of $91,505 against the subscription receivable ; 2,397,717 shares were issued upon the exercise of warrants for total consideration of $2,282,405; 400,000 shares of common stock were            issued for the acquisition of $400,000 worth of inventory and supplies in connection with the acquisition of the refrigeration assets of Emerald Commercial Leasing; 430,329 shares of common stock were issued for the exercise of warrants - the consideration received by the Company was the relief of the note payable the Company owed to the note holder; 100,000 shares of common stock were issued pursuant to an employment agreement we entered into with our Vice President; 2,069,742            shares of common stock were issued upon the conversion of $2,069,742 of secured notes payable and associated accrued interest. In conjunction with this transaction, the Company recorded an induced conversion charge in accordance with SFAS 84, in the amount of $368,900, which is included in interest expense. 98,442 shares of common stock were issued in settlement of $98,442 of accounts payable; and 150,000 shares of common stock were issued as fees to members of our Board of            Directors for a loan and associated loan guarantees by the Board members. Shares issued for non cash consideration were valued pursuant to EITF 96-18. The Company recorded a gain on settlement of debt of $32,820 and $6,742, respectively for the stock issued for settlement of accounts payable of $98,442 and for stock issued for interest settlement of notes.

In the year ended February 29, 2008, we issued 6,891,791 shares of common stock for cash proceeds of $6,433,088; we issued 2,012,577 shares of common stock as penalty shares for failure to timely file a registration statement, and we issued 183,533 shares of common stock in satisfaction of $183,533 of secured notes payable. The shares issued were valued at the fair market value of            $267,958 and a loss on settlement of debt of $84,425 was recorded in the accompanying financials.

 

66

 

 

 

----

 

 

**Employee Stock Options**

In September, 2006, our Board of Directors adopted the 2006 Employee Stock Option Plan. Activity in this plan is as follows:

 

|                           |   | 2006 Plan                       |
|--------------------------------|--------|---------------------------------|
|                           |   |                            |
|                           |   | Weighted-Average Exercise Price |   | Aggregate Intrinsic Value |   | Number of Options |
|                           |   |                                 |   |  |   |  |
| Outstanding, February 28, 2007 |   | -                               |   |   |   | - |
| Issued                         |   | $2.00-3.00                      |   |   |   | 1,491,500 |
| Cancelled                      |   | -                               |   |   |   | - |
| Outstanding, February 29, 2008 |   | $ 2.00-3.00                     |   |   |   | 1,491,500 |
| Issued                         |   | $3.00                           |   |   |   | 450,000 |
| Cancelled                      |   | $3.00                           |   |   |   | 28,500 |
| Outstanding, February 28, 2009 |   | $2.00-3.00                      |   |   |   | 1,913,000 |
|                                |        |                                 |  |  |  |  |  |

 

 

The exercise prices for the options outstanding at February 28, 2009, and information relating to these options is as follows:

 

| Options Outstanding      |   | Exercisable Options |      |
|--------------------------|--------|---------------------|-----------|
| Range of Exercise

Price |   | Number              |      | Weighted Average Remaining Life |   | Weighted Average Exercise Price |   | Weighted Average Remaining Life |   | Number |   | Weighted Average Exercise Price |   |
| $2.00-$3.00              |   |                | 1,913,000 |   |   | 3.42 years |   | $ | 2.42 |   |   | 3.19 years |   |   | 1,398,500 |   | $ | 2.25 |   |
|                          |        |                     |           |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The weighted average fair values of the options on the date of grant for the year ended February 28, 2009 and 2008 were $1.24 per share and $0.377 per share, respectively.

**Warrants**

Activity in issued and outstanding warrants is as follows:

 

 

67

 

 

 

----

 

|                           | Number of Shares | Weighted Average Exercise Prices |
|--------------------------------|------------------|----------------------------------|
| Outstanding, February 28, 2007 | 6,178,537        | $2.74                            |
| Issued                         | 801,642          | $2.98                            |
| Exercised                      | -                | -                                |
| Outstanding, February 29, 2008 | 6,980,179        | $2.77                            |
| Issued                         | 2,785,606        | $1. 11                           |
| Exercised                      | (2,828,046)      | $0.96                            |
| Cancelled                      | (3,332,451)      | $2.91                            |
| Expired                        | (152,777)        | $2.25                            |
| Outstanding, February 28, 2009 | 3,452,511        | $1.30                            |

 

During the year ended February 28, 2009, 100,000 warrants were granted to a Board member as a fee for entering into a loan agreement with the Company, and 50,000 warrants, 12,500 each, were issued to the other four Board members as a fee for guaranteeing the note. The warrants have an exercise price of $3.00. The grant date fair value of the warrants amounted to $17,338 which was            calculated using the Black-Scholes option pricing model with the following assumptions: risk-free rate of return of 2.25%, volatility of 80.28%, a dividend yield of 0% and an expected life of five years. During the year ended February 28, 2009, the Company also re-priced 2,635,606 warrants granted originally with equity issuance in February 2006. The new exercise price was $1.00 per share.

During the year ended February 29, 2008, we issued 776,642 warrants at an exercise price of $3.00 and 25,000 warrants to one of the Board members at an exercise price of $2.50. The company issued 90,000 warrants as payment for consulting services. The grant date fair value of the warrants amounted to $82,974 which was calculated using the Black-Scholes option pricing model with the following            assumptions: risk-free rate of return of 4%, volatility of 91%, a dividend yield of 0% and an expected life of five years.

The exercise prices for the warrants outstanding at February 29, 2008, and information relating to these warrants is as follows:

 

| Range of Exercise Prices |   | Stock Warrants Outstanding |   | Stock Warrants Exercisable |   | Weighted-Average Remaining Contractual Life |   | Weighted-Average Exercise Price of Warrants Outstanding |   | Weighted-Average Exercise Price of Warrants Exercisable |   |  

Intrinsic Value |
|--------------------------|--------|----------------------------|--------|----------------------------|--------|---------------------------------------------|--------|---------------------------------------------------------|--------|---------------------------------------------------------|--------|-------------------------|
| $2.00-$3.00              |   | 2,029,419                  |   | 1,877,336                  |   | 24 months                                   |   | $2.44                                                   |   | $2.49                                                   |   | $0.00                   |
| $3.50                    |   | 805,589                    |   | 805,589                    |   | 34 months                                   |   | $3.50                                                   |   | $3.50                                                   |   | $0.00                   |
| $4.00                    |   | 617,503                    |   | 617,503                    |   | 23 months                                   |   | $4.00                                                   |   | $4.00                                                   |   | $0.00                   |

**NOTE 10 – GOING CONCERN**

 

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern.  During the years ended February 28, 2009 and February 29, 2008, the Company incurred losses of $9,843,962 and $8,960,486, respectively and had negative cash flows from operating activities of $6,311,970 and $7,334,594, respectively. The consolidated            financial statements do not include any adjustments that might result from the outcome of this uncertainty.

 

68

 

 

 

----

During the next twelve months we intend on expanding our AuraGen/Viper business both domestically and internationally. There are four major components necessary to execute a significantly expanding business; (i) augmentation of management and staff, (ii) purchase orders, (iii) facilities and equipment, and (iv) working capital.

We recently hired a new president who is assuming the responsibility for Chief Operating Officer. We have also very recently added senior people (PhDs) to our technical staff, and a new Vice President of Sales. We plan to add senior quality assurance and quality control staff as well as a number of mechanical and electrical engineers, a number of technicians and a number of test            engineers. We plan to add approximately 10 people to our staff in fiscal 2010.

 

We currently have a backlog for fiscal 2010 of approximately $6.0 million. While our business plan calls for us to achieve sales significantly greater than this level, no assurances can be given that we will be successful. In order to achieve the planned results we will need sufficient working capital for (i) daily operations, (ii) purchase of raw materials and subassemblies, (iii)            purchase of the required equipment, and (iv) supporting cash flow. Our cash flow analysis is based on certain assumptions that include 45 days for collection of account receivables after shipment, 30 day terms for accounts payable to vendors and suppliers, and all monthly operational costs paid during the month in which they are incurred. Based on our business model and projections, as well as historical costs for COGS and other expenses, we determined that the Company will need to            raise approximately $8.0 million in new capital. We plan to raise the required capital through the private placement of equity or convertible debt. Currently we have indications of interest for approximately $2.0 million dollars for new capital, and while no assurances can be given that we will be successful in completing the contemplated private placement, we have additional indications of commitments for an additional $4.5 million dollars in the private placement.

 

We are selling systems for all of the applications currently identified in our business model for fiscal 2010. In addition, we are also in the process of enhancing our product line to address an even larger market segment. We currently provide 5 kW, 8.5 kW and 16 kW solutions and we plan to introduce during the next twelve months 4kW, 12 kW, 25 kW and 50 kW solutions. While there can be            no assurances given that we will complete all the developments described above and be able to commercialize them in the planned time, our business model for fiscal 2010 does not contemplate sales for any product not currently available.

 

If the Company is unable to generate profits and unable to continue to obtain financing for its working capital requirements, it may have to curtail its business sharply or cease business altogether.

 

The financial statements do not include any adjustments relating to the recoverability and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. The Company's continuation as a going concern is dependent upon its ability to generate sufficient cash flow to meet its obligations on a timely basis, to retain its current financing, to            obtain additional financing, and ultimately to attain profitability.

 

Substantial additional capital resources will be required to fund continuing expenditures related to our research, development, manufacturing and business development activities. During the year ended February 29, 2009, the Company completed a private placement wherein it raised $2,437,057 to be used to fund the Company’s working capital needs. Assurance cannot be given that this            source of financing will continue to be available to the Company and demand for the Company’s equity instruments will be sufficient to meet its capital needs.

**NOTE 11- INCOME TAXES**

The Company did not record any income tax expense due to net loss during the years ended February 28, 2009 and February 29, 2008. The actual tax benefit differs from the expected tax benefit computed by applying the combined United States corporate tax rate and the State of California tax rate of 40% to loss before income taxes as follows for the years ended February 28, 2009 and February            29, 2008:

 

|     |   |   |   | 2009   | 2008   |   |
|----------|--------|--------|--------|--------|--------|--------|
| Current: |   |   | $      |   | $      |   |   |
| Federal  |   |   |   | -      |   | -      |   |
| State    |   |   |   | 800    |   | 800    |   |
|     |   |   |   |   |   |   |
| Total    |   |   |   | 800    |   | 800    |   |
|     |   |   |   |   |   |   |   |
| Deferred |   |   |   |   |   |   |   |

 

 

69

 

 

 

----

 

| Federal                    |   |   |   | -      |   | -      |   |
|----------------------------|--------|--------|--------|--------|--------|--------|--------|
| State                      |   |   |   | -      |   | -      |   |
|                       |   |   |   |   |   |   |
| Total                      |   |   |   | -      |   | -      |   |
| Total Income Tax Provision |   |   |   |   |   |
|                       |   |   | $      | 800    | $      | 800    |   |

 

The provision for income tax is included with other expense in the accompanying consolidated financial statements.

 

|                                       | 2009   |   | 2008   |   |
|--------------------------------------------|--------|--------|--------|--------|
|                                       |        |   |        |   |
| Expected tax benefit                       | 34.0%  |   | 34.0%  |   |
| State income taxes, net of federal benefit | 6.0    |   | 6.0    |   |
| Changes in valuation allowance             | (40.0) |   | (40.0) |   |
| Total                                      | -%     |   | - %    |   |

 

The following table summarizes the significant components of our deferred tax asset at February 28, 2009 and February 29, 2008:

 

 

|                       | 2009           |   | 2008          |
|----------------------------|----------------|--------|---------------|
| Deferred tax asset         |           |   |          |
| Deferred tax carry-forward | $119,267,000   |   | $121,373,000  |
| Valuation allowance        | (119,267,000 ) |   | (121,373,000) |
| Net deferred tax asset     | $ -            |   | $ -           |

 

We recorded an allowance of 100% for its net operating loss carry-forward due to the uncertainty of its realization.

Provision for income taxes has not been provided in these financial statements due to the net loss. At February 28, 2009, we had operating loss carry-forwards of approximately $298,168,684, which expire through 2024. The NOLs have begun expiring for the prior years. The availability of the Company's net operating loss carry-forwards are subject to limitation under section 382 of the            Internal Revenue Code.

**NOTE 12 - EMPLOYEE BENEFIT PLANS**

We sponsor two employee benefit plans: The Employee Stock Ownership Plan (the "ESOP") and a 401(k) plan.

The ESOP is a qualified discretionary employee stock ownership plan that covers substantially all employees. We did not make any contributions to the ESOP during the years ended February 28, 2009, February 29, 2008 and February 28, 2007.

 

70

 

 

 

----

We sponsor a voluntary, defined contribution 401(k) plan. The plan provides for salary reduction contributions by employees and matching contributions by us of 20% of the first 7% of the employees' pre-tax contributions. The matching contributions included in selling, general, and administrative expenses were $30,821 and $18,197 for the years ended February 28, 2009 and February 29, 2008            , respectively.

**NOTE 13 - SEGMENT INFORMATION**

We are a United States based company providing advanced technology products to various industries. The principal markets for our products are North America, Europe, and Asia. All of our operating long-lived assets are located in the United States. We operate in one segment.

Total net revenues from customer geographical locations are as follows for the years ended February 28, 2009 and February 29, 2008:

 

|          | 2009       |   | 2008       |   |
|---------------|------------|--------|------------|--------|
|          |            |   |            |   |
| United States | $1,697,089 |   | $2,310,747 |   |
| Canada        | 282,736    |   | 155,344    |   |
| Europe        | 6,139      |   | 8,020      |   |
| Asia          | 429,565    |   | 341,286    |   |
| Africa        | -          |   | 33,934     |   |
|          |            |   |            |   |
| Total         | $2,415,529 |   | $2,849,331 |   |
|          |            |   |            |   |

**NOTE 14 - SUBSEQUENT EVENTS**

Subsequent to year end the Company entered into a five year exclusive distributorship agreement with Genergy Inc., for the distribution of AuraGen products in the Republic of Korea. Genergy Inc. also signed a binding subscription agreement for a private placement for 1,000,000 shares.

In addition, the Company has issued 1,050,128 shares of the Company’s common stock through the issuance of private placements and the exercise of outstanding warrants.

 

 

 

71