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                                                                   EXHIBIT 10.40
                           Placement Agency Agreement


                                                              September 30, 1998

The Zanett Securities Corporation
Tower 49, 31st Floor
12 East 49th Street
New York, NY 10017

Gentlemen:

     This agreement ("Agreement") will confirm that Advanced Environmental
Recycling Technologies, Inc., a Delaware corporation (the "Company"), has
retained The Zanett Securities Corporation ("Zanett" or the "Placement Agent")
as its exclusive placement agent to assist the Company, during the four-week
period commencing on the date hereof (the "Term"), on a "best-efforts" basis, in
connection with the placement of up to 1,500 units (the "Units") at a price of
$1,000 per Unit, each Unit consisting of (i) one share of the Company's Series A
Convertible Preferred Stock, par value $1.00 per share (each, a "Preferred
Share"), convertible into shares of the Company's Class A Common Stock, par
value $.01 per share (the "Common Stock"), (ii) one Series X warrant to acquire
555 shares of Common Stock (each, a "Series X Warrant") and (iii) one Series Y
warrant to acquire 205 shares of Common Stock (each, a "Series Y Warrant" and,
together with a Series X Warrant, "Warrants"). The rights, preferences and
privileges of the Preferred Shares, including the terms upon which such
Preferred Shares will be convertible into shares of Common Stock, will be set
forth in a form of Certificate of Designations, Rights and Preferences to be
agreed upon by the Company and the Placement Agent (the "Certificate of
Designation"). The shares of Common Stock issuable upon conversion of the
Preferred Shares or otherwise pursuant to the Certificate of Designation are
referred to herein as the "Conversion Shares" and the shares of Common Stock
issuable upon exercise of or otherwise pursuant to the Warrants are referred to
herein as the "Warrant Shares." The Preferred Shares, the Warrants, the
Conversion Shares and the Warrant Shares are collectively referred to herein as
the "Securities." The Company agrees that, during the Term, Zanett shall have
the exclusive right to offer and place the Securities and that all
conversations, negotiations, documents and other materials exchanged between the
Company and the Placement Agent shall not be disclosed or released to any third
party without the prior written consent of Zanett. The Company acknowledges that
certain of the aforementioned Securities may be purchased by affiliates of
Zanett.

     The Units are being offered to "accredited investors" in accordance with
Regulation D promulgated under the Securities Act of 1933, as amended (the
"Securities Act"). Each prospective investor ("Investor") subscribing to
purchase the Units will be required to deliver, among other things, a Securities
Purchase Agreement between the Company and the Investor (the "Securities
Purchase Agreement") in form and substance reasonably satisfactory to Zanett and
the Company, representing and warranting, among other things, that such Investor
is an "accredited investor" as 
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such term is defined in Regulation D. Contemporaneous with the execution and
delivery of the Securities Purchase Agreement, the Investors shall execute and
deliver a Registration Rights Agreement (the "Registration Rights Agreement") in
form and substance reasonably satisfactory to Zanett and the Company pursuant to
which the Company will agree to provide the Investors certain registration
rights under the Securities Act with respect to the Conversion Shares and
Warrant Shares.

     The Securities Purchase Agreement, the Certificate of Designation, the
Warrants and the Registration Rights Agreement are referred to herein
collectively as the "Offering Documents." The offering of Units described in the
Offering Documents is referred to herein as the "Offering."

     1. Appointment of Placement Agent. Zanett is hereby appointed Placement
Agent of the Company for the purposes of assisting the Company in finding
qualified Investors to participate in the Offering. On the basis of the
representations and warranties and subject to the terms and conditions contained
herein, Zanett hereby accepts such agency and agrees to assist the Company in
finding qualified Investors to participate in the Offering. Zanett's agency
hereunder is not terminable by the Company except upon termination of the
Offering. Upon termination of the Offering, all subscriptions received, if any,
shall be returned to Investors.

     2. Closing; Placement Fee and Warrant; Expenses.

        a. Closing. Upon satisfaction of the conditions to the closing contained
in the Securities Purchase Agreement, the closing (the "Closing") of the
purchase and sale of the Units shall take place at the offices of Klehr,
Harrison, Harvey, Branzburg & Ellers LLP or such other mutually agreed place, at
such time and date (the "Closing Date") as may be agreed upon between the
Placement Agent, the Investors and the Company.

        b. Procedures at Closing. Counsel for the Placement Agent shall act as
escrow agent for the Closing (the "Escrow Agent"). At the Closing:

           (i) The Company shall deliver to the Escrow Agent, on behalf of the
Placement Agent and the Investors, an opinion of the Company's outside legal
counsel, dated as of the Closing Date, in such form as may be reasonably
acceptable to the Placement Agent and its counsel.

           (ii) The Company shall deliver to the Escrow Agent certificates from
the Company, signed by the President or a Vice President thereof, certifying
that attached thereto is a true and correct copy of resolutions adopted by the
Company's Board of Directors authorizing (A) the execution, delivery and
performance of this Agreement, the Securities Purchase Agreement, the
Registration Rights Agreement, the Warrants and other documentation related to
the Offering, (B) the execution and filing of the Certificate of Designation
with the Secretary of State of the State of Delaware, and (c) the issuance of
the Preferred Shares and the reservation for issuance and issuance of the
Conversion Shares and the Warrant Shares, and certifying that such resolutions
have not been modified, rescinded or amended and are in full force and effect.



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           (iii) The Company shall deliver to the Escrow Agent a certificate of
good standing of the Company, dated as of a recent date, from the Secretary
of State of the State of Delaware.

           (iv) Each Investor shall deliver to the Escrow Agent an executed copy
of the Securities Purchase Agreement and Registration Rights Agreement signed by
such Investor, and the Company shall deliver to the Escrow Agent with respect to
each Investor, an executed copy of its acceptance of the Securities Purchase
Agreement and Registration Rights Agreement executed by such Investor.

           (v) Each Investor shall have delivered promissory notes of the
Company (the "Notes") to the Escrow Agent or wire transferred immediately
available funds to an escrow account designated by the Escrow Agent, in each
case, in an amount equal to the aggregate purchase price of the Units(s) being
purchased by such Investor at the Closing.

           (vi) The Company shall have delivered to the Escrow Agent the duly
executed Preferred Shares and Warrants being purchased by the Investors in such
denominations as the Investors shall request.

           (vii) The Company and the Placement Agent shall instruct the Escrow
Agent to deliver the Notes to the Company and pay to the Company the cash
purchase price (all such consideration referred to collectively as the "Purchase
Price") for the Units subscribed for at the Closing, less the Placement Agent
Fee (as defined below), out of the funds on deposit in the escrow account
received from Investors whose Securities Purchase Agreements have been accepted.

        c. Placement Fee; Expenses. The Company covenants and agrees to pay to
the Placement Agent at the Closing a fee (the "Placement Agent Fees") equal to
10% of the aggregate Purchase Price. Such Placement Agent Fee shall be delivered
by the Escrow Agent to Zanett by wire transfer, in accordance with Zanett's
written wiring instructions, from the funds on deposit in the escrow account
simultaneously with payment for and delivery of the Units at the Closing under
the Securities Purchase Agreement as provided in paragraph 2(a) above. In
addition, the Placement Agent shall be entitled to receive from the Company a
non-accountable expense allowance (the "Expense Allowance") equal to three
percent (3%) of the aggregate Purchase Price. Such Expense Allowance shall be
delivered in the same manner as the Placement Agent Fee.

        d. Warrants. In addition to the Placement Agent Fees, at the Closing
under the Securities Purchase Agreement, the Company shall issue to the
Placement Agent and those officers of the Placement Agent set forth on Schedule
2(d) (the "Zanett Officers"), (i) Series X Warrants, in substantially the form
attached hereto as Exhibit A-1, to purchase, in the aggregate, 278.33 shares of
the Company's Common Stock for each $1,000 of Purchase Price and (ii) Series Y
Warrants, in substantially the form attached hereto as Exhibit A-2, to purchase,
in the aggregate, 102.7 shares of the Company's Common Stock for each $1,000 of
Purchase Price (collectively, the "Placement Warrants"). The Series X Warrants
shall be exercisable for a period of six (6) years from the first


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(1st) anniversary of the date of issuance at a price per share equal to $1.20
and the Series Y Warrants shall be exercisable for a period of five (5) years
from the second (2nd) anniversary of the date of issuance at a price per share
equal to $3.25. The shares of the Company's Common Stock issuable upon exercise
of the Placement Warrants shall hereinafter be referred to as the "Placement
Warrant Shares." The Company shall grant the Placement Agent and such officers
certain registration rights under the Securities Act with respect to the
Placement Warrant Shares pursuant to the Registration Rights Agreement.

     e. Expenses of Offering. The Company shall be responsible for and shall
bear all expenses directly and necessarily incurred by it in connection with the
Offering, including, but not limited to, the following: filing fees, registrar
and transfer agent fees, investigatory fees (including, but not limited to
travel, lodging and entertainment expenses), issuer's counsel and accounting
fees, blue sky fees and counsel, if any, and issue and transfer taxes, if any.
In the event the Closing does not occur during the Term, the Company shall
reimburse the Placement Agent for its reasonable out-of-pocket expenses incurred
in connection with the Offering.

     f. Non-Circumvention Period; Lockup Period.

     (i) The Company agrees that, during the period beginning on the date hereof
and ending five (5) years following the later of the date hereof and the date of
the Closing (as defined in Section 2(a) hereof) (the "Non-Circumvention
Period"), it will not, without the prior written consent of the Placement Agent,
negotiate or contract or have discussions concerning any such matters with any
Investor or any other party introduced to the Company by Placement Agent to
obtain additional financing in any form.

     (ii) The Company agrees that, during the period beginning on the date
hereof and ending on the date on which no Preferred Shares or Warrants remain
outstanding (the "Lock-up Period"), it will not, without the prior written
consent of the Placement Agent, negotiate or contract or have discussions
concerning any such matters with any other party to obtain additional financing
of any type in any form; provided, however, that the foregoing shall not limit
the Company's ability during the Lock-up Period (A) to obtain bank financing,
governmental bond or loan financing, equipment financing, and factoring or
receivable and inventory financing without the consent of the Placement Agent;
or (B) to sell up to 1,400 shares of Series B Preferred Stock and Series C
Preferred Stock of the Company to Marjorie Brooks, Steven Brooks, Joseph Brooks,
Douglas Brooks, Robert Mackie, Sr., Robert Mackie, Jr., Ike Tull, Michael Tull,
Mr. & Mrs. Delbert Allen, Jr., Mr. & Mrs. Fritz Friday, Allen & Co., Millenco
LLP and/or members of such individuals' immediate families.


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     3. Representations and Warranties and Covenants.

        a. The Company represents and warrants to Zanett that:

           (i) This Agreement has been duly authorized, executed and delivered
by the Company and, assuming the due execution by Zanett, constitutes a legal,
valid and binding agreement of the Company, enforceable against the Company in
accordance with its terms.

           (ii) The Company has delivered to Zanett true and complete copies of
the SEC Documents (as defined in the Securities Purchase Agreement) filed by the
Company on or after December 31, 1995 with the Securities and Exchange
Commission (the "SEC") pursuant to the reporting requirements of the Securities
Exchange Act of 1934, as amended (the "Exchange Act").

           (iii) The Company recognizes and confirms that Zanett (i) will use
and rely primarily on the SEC Documents and on information available from
generally recognized public sources in performing the services contemplated by
this Agreement without having independently verified the same; (ii) is
authorized to assist the Company in the structuring of the Offering with any
prospective purchaser who is an "accredited investor" as defined in Regulation D
under the Securities Act and to provide copies of the SEC Documents and forms of
the Securities Purchase Agreement and other Offering Documents to prospective
purchasers of the Company's securities in connection with the performance of
Zanett's services hereunder; and (iii) does not assume responsibility for the
accuracy or completeness of the SEC Documents.

           (iv) In addition to the foregoing, the Company hereby incorporates by
reference all of the representations and warranties and covenants to be set
forth in the Securities Purchase Agreement and the other Offering Documents with
the same force and effect as if specifically set forth herein.

           (v) For a period of five years from the Closing, (i) the Company
shall provide Zanett, within three (3) business days of the filing or
preparation thereof, with such financial and other statements including, without
limitation, management letters and consolidated financial statements as are
provided to any other lenders to or security holders of the Company; (ii) in the
event any current officer, director, employee, consultant or other agent ceases,
subsequent to the date hereof, to have such relationship with the Company and
such cessation has, or is likely to have, a material adverse effect on the
Company, taken as a whole, the Company shall promptly notify Zanett of such
event, which notification shall comprehensively describe such circumstances;
(iii) the Company shall, on a regular basis, provide to Zanett updates of any
material litigation and/or governmental proceedings which could reasonably be
expected to have a material adverse effect on the business of the Company; and
(iv) the Company shall promptly provide to Zanett notice of any event of default
under any agreement or other document with any lender or holder of any security
of the Company. Zanett shall hold in confidence and shall not make any
disclosure (except to an Investor) or use of any such information disclosed to
it pursuant to clauses (i) through (iv) above which the Company determines in
good faith to be confidential, and of which determination Zanett is so notified,
unless (a) the release of such information is ordered pursuant to a subpoena or
other

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order from a court or government body of competent jurisdiction or (b) the
information has been made generally available to the public other than by
disclosure in violation of this or any other agreement. Anything contained
herein to the contrary notwithstanding, Placement Agent's obligations to proceed
with the Offering is conditioned upon Placement Agent's due diligence
investigation of the Company. Zanett shall be fully informed by the Company of
any events which might have a material affect on the financial condition of the
Company. If, in Zanett's opinion, the condition of the Company, financial or
otherwise, and its prospects are affected in a material and/or adverse manner
and do not fulfill Zanett's expectations, Zanett shall have the sole discretion
to review and determine its continued interest in the Offering.

           (vi) For a period of the later of (i) five years from the Closing and
(ii) so long as Zanett, the Zanett Officers and/or their affiliates own any
securities of the Company, the Company shall make available, during regular
business hours, all records and books of account of the Company for inspection
by Zanett. The Company shall permit Zanett, during regular business hours, to
inspect its properties.

           (vii) The Company has the requisite corporate power and authority to
enter into and perform its obligations under this Agreement and to issue the
Placement Warrants in accordance with the terms hereof. The execution and
delivery of this Agreement and the Placement Warrants by the Company and the
consummation by it of the transactions contemplated hereby (including, without
limitation, the issuance of the Placement Warrants and the reservation for
issuance and issuance of the Placement Warrant Shares issuable upon exercise of
the Placement Warrants) have been duly authorized by the Company's Board of
Directors and no further consent or authorization of the Company, its Board of
Directors, or its shareholders is required.

           (viii) The Placement Warrant and the Placement Warrant Shares
issuable upon the exercise thereof are duly authorized and, upon issuance of the
Placement Warrants in accordance with the terms hereof and the Warrant Shares
upon exercise of the Placement Warrants in accordance with the terms thereof,
will be validly issued, fully paid and non-assessable, and free from all taxes,
liens and charges with respect to the issue thereof and shall not be subject to
preemptive rights or other similar rights of the shareholders of the Company.

           (ix) The execution, delivery and performance of this Agreement by the
Company and the consummation by the Company of the transactions contemplated
hereby will not (A) result in a violation of the Company's Certificate of
Incorporation or By-laws or (B) conflict with, or constitute a default (or an
event which with notice or lapse of time or both would become a default) under,
or give to others any rights of termination, amendment, acceleration or
cancellation of, any agreement, indenture or instrument to which the Company is
a party, or result in a violation of any law, rule, regulation, order, judgment
or decree (including federal and state securities laws and regulations)
applicable to the Company or by which any property or asset of the Company is
bound or affected (except, with respect to clause (B), for such conflicts,
defaults, terminations, amendments, accelerations, cancellations and violations
as would not, individually or in the aggregate, have a material adverse effect
on the operation, properties, prospects or financial condition of the Company
("Material Adverse Effect")). The Company is not in violation of its

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Certificate of Incorporation or By-laws and is not in default (and no event has
occurred which with notice or lapse of time of both would put the Company in
default) under, nor has there occurred any event giving others (with notice or
lapse of time or both) any rights of termination, amendment, acceleration or
cancellation of, any agreement, indenture or instrument to which the Company is
a party, except for possible defaults as would not, individually or in the
aggregate, have a Material Adverse Effect. The business of the Company is not
being conducted, and shall not be conducted, in violation of any law, ordinance
or regulation of any governmental entity, except for possible violations which
either singly or in the aggregate do not have a Material Adverse Effect. Except
as specifically contemplated by this Agreement and as required under the
Securities Act and any applicable state securities laws, the Company is not
required to obtain any consent, authorization or order of, or make any filing or
registration with, any court or governmental agency or any regulatory or self
regulatory agency in order for it to execute, deliver or perform any of its
obligations under this Agreement in accordance with the terms hereof.

           (x) The Company shall at all times after January 15, 1999 have
authorized, and reserved for the purpose of issuance, a sufficient number of
Placement Warrant Shares to provide for the full exercise of the outstanding
Placement Warrants.

           (xi) The Company shall promptly secure the listing of the Placement
Warrant Shares upon each national securities exchange or automated quotation
system, if any, upon which shares of Common Stock are then listed (subject to
official notice of issuance) and shall maintain, so long as any other shares of
Common Stock shall be so listed, such listing of all Placement Warrant Shares
from time to time issuable upon exercise of the Placement Warrants.

     b. The Zanett Officers each individually represent and warrant to the
Company that:

           (i) The Zanett Officer is acquiring the Placement Warrants and the
Placement Warrant Shares for its own account and not with a present view towards
the public sale or distribution thereof.

           (ii) The Zanett Officer is an "Accredited Investor" as that term is
defined in Rule 501(a) of Regulation D.

           (iii) The Zanett Officer understands that the Placement Warrants and
the Placement Warrant Shares are being issued to the Zanett Officer in reliance
upon specific exemptions from the registration requirements of United States
federal and state securities laws and that the Company is relying upon the truth
and accuracy of, and the Zanett Officer's compliance with, the representations,
warranties, agreements, acknowledgments and understandings set forth herein in
order to determine the availability of such exemptions and the eligibility of
the Zanett Officer to acquire the Placement Warrants and the Placement Warrant
Shares.

           (iv) The Zanett Officer understands that (i) except as provided in
the Registration Rights Agreement, the sale or resale of the Placement Warrants
and the Placement Warrant Shares issuable upon exercise thereof have not been
and are not being registered under the


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Securities Act or any state securities laws, and may not be transferred unless
(a) the resale of the Securities has been registered thereunder; or (b) the
Zanett Officer shall have delivered to the Company an opinion of counsel (which
opinion shall be in form, substance and scope customary for opinions of counsel
in comparable transactions) to the effect that the securities to be sold or
transferred may be sold or transferred pursuant to an exemption from such
registration; or (c) the Securities are sold under Rule 144 promulgated under
the Securities Act (or a successor rule) ("Rule 144"); or (d) the Securities are
sold or transferred to a non-broker dealer affiliate of the Zanett Officer who
agrees to sell or otherwise transfer such securities only in accordance with the
provisions of the terms hereof and who is an Accredited Investor; and (ii)
neither the Company nor any other person is under any obligation to register
such Securities under the Securities Act or any state securities laws (other
than pursuant to the Registration Rights Agreement). Notwithstanding the
foregoing or anything else contained herein to the contrary, such securities may
be pledged as collateral in connection with a bona fide margin account or other
lending arrangement.

           (v) This Agreement has been duly and validly authorized, executed and
delivered on behalf of Placement Agent and duly and validly executed and
delivered by each Zanett Officer and is the valid and binding agreement of each
of them enforceable against each of them in accordance with its terms.

           (vi) Placement Agent is a registered broker dealer (as such term is
defined under the Securities Act of 1933, as amended) and neither the Placement
Agent nor any Zanett Officer has made any general solicitations (as such term is
defined under the Securities Act of 1933, as amended) with respect to the sale
of the Securities.

           (vii) Neither the Placement Agent nor the Zanett Officers have any
authority to act on behalf of, or otherwise bind, the Company.

     4. Publicity. The Company shall not make any reference to Zanett, the
Zanett Officers or to any of their affiliates in any release or other
communication without Zanett's prior written consent. Without Zanett's prior
written consent, no advice rendered by Zanett in connection with the services
performed by Zanett pursuant to this Agreement will be quoted by the Company,
its affiliates or representatives nor will any such advice be referred to in any
report, document, release or other communication, whether oral or written,
prepared or issued or transmitted by such person, except to the extent required
by law (in which case the appropriate party shall so advise Zanett in writing
prior to such use and shall consult with Zanett with respect to the form and
timing of the disclosure).


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     5. Indemnification and Contribution.

        a. To the extent permitted by law, the Company will indemnify, hold
harmless and defend Zanett and each of its directors, officers, partners,
members, employees, agents and each person who controls Zanett within the
meaning of the Securities Act or the Exchange Act, if any, (each, an
"Indemnified Person"), against any joint or several losses, claims, damages,
liabilities or expenses (collectively, together with actions, proceedings or
inquiries by any regulatory or self-regulatory organization, whether commenced
or threatened, in respect thereof, "Claims") to which any of them may become
subject insofar as such Claims arise out of or are based upon: (i) any
transaction contemplated by this Agreement, the retention of Zanett as Placement
Agent under this Agreement, the performance of services by Zanett hereunder or
any involvement or alleged involvement of Zanett in the Offering or (ii) any
breach of any of the Company's representations, warranties or covenants
contained herein. The Company shall reimburse each of the Indemnified Persons,
promptly as such expenses are incurred and are due and payable, for any
reasonable legal fees or other reasonable expenses incurred by them in
connection with investigating or defending any such Claim. Notwithstanding
anything to the contrary contained herein, the indemnification agreement
contained in this Section 5(a) shall not (i) apply in instances where the Claims
were the result of Zanett's gross negligence or based on Zanett's wilful
misconduct, and (ii) apply to amounts paid in settlement of any Claim if such
settlement is effected without the prior written consent of the Company, which
consent shall not be unreasonably withheld.

        b. Promptly after receipt by an Indemnified Person under this Section 5
of notice of the commencement of any action (including any governmental action),
such Indemnified Person shall, if a Claim in respect thereof is made against the
Company under this Section 5, deliver to the Company a written notice of the
commencement thereof, and the Company shall have the right to participate in,
and, to the extent the Company so desires, to assume control of the defense
thereof with counsel mutually satisfactory to the Company and the Indemnified
Person; provided, however, that an Indemnified Person shall have the right to
retain its own counsel, with the fees and expenses to be paid by the Company,
if, in the reasonable opinion of counsel retained by the Indemnified Person, the
representation by such counsel of the Indemnified Person and the Company would
be inappropriate due to actual or potential differing interests between such
Indemnified Person and any other party represented by the Company's counsel in
such proceeding. The Company shall pay for only one separate legal counsel for
the Indemnified Persons, and such legal counsel shall be selected by Placement
Agent. The failure to deliver written notice to the Company within a reasonable
time of the commencement of any such action shall not relieve the Company of any
liability to the Indemnified Person under this Section 5, except to the extent
that the Company is actually prejudiced in its ability to defend such action.
The indemnification required by this Section 5 shall be made by periodic
payments of the amount thereof during the course of the investigation or
defense, as such expense, loss, damage or liability is incurred and is due and
payable.

        c. To the extent any indemnification by the Company of an Indemnified
Person is prohibited or limited by law or otherwise unavailable in respect of
any Claim, the Company agrees to make the maximum contribution with respect to
any amounts for which it would otherwise be liable under Section 5 to the
fullest extent permitted by law. In this regard, the Company shall


                                       9
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contribute to the amount paid or payable by such Indemnified Person as a result
of any such Claim (i) in such portion as is appropriate to reflect the relative
benefits received by the Company, on the one hand, and the Indemnified Person,
on the other, from the structuring and issuance of the securities in the
Offering or any other transaction in which Zanett rendered services hereunder or
(ii) if the allocation provided by clause (i) above is not permitted by
applicable law, in such proportion as is appropriate to reflect not only the
relative benefits referred to in clause (i) above but also the relative fault of
the Company, on the one hand, and of the Indemnified Person, on the other, in
connection with untrue statements or omissions or other actions (or alleged
untrue statements, omissions or other actions) which resulted in such Claim as
well as any other relevant equitable considerations. The relative benefits
received by the Company, on the one hand, and the Indemnified Person, on the
other, shall be deemed to be in the same proportion as the total gross proceeds
received by the Company in the Offering or any other financing bears to such
Indemnified Person's compensation. The relative fault of the Company on the one
hand and of the Indemnified Person on the other shall be determined by reference
to, among other things, whether such untrue statements or omissions or other
actions (or alleged untrue statements, omissions or other actions) relate to
information supplied or action taken by the Company, on the one hand, by the
Indemnified Person, on the other, and the relevant persons' relative intent,
knowledge, access to information and opportunity to correct or prevent such
untrue statements, omission or actions. The amount paid or payable by a party as
a result of the Claim shall be deemed to include any legal or other fees or
expenses reasonably incurred by such party in connection with investigating or
defending any action or claim. The Company and Zanett agree that it would not be
just and equitable if contribution pursuant to this Section 5 were determined by
pro rata allocation or by any other method of allocation which does not take
account of the equitable considerations referred to above.

        d. The aforesaid indemnity and contribution agreements shall apply to
any related activities engaged in by any Indemnified Person prior to this date
and to any modification of Zanett's engagement hereunder, and shall remain in
full force and effect regardless of any investigation made by or on behalf of
Placement Agent or any of its agents, employees, officers, directors or
controlling persons and shall survive the issuance of any securities in any
transaction referred to hereunder (including the Offering) and any termination
of this Agreement or Placement Agent's engagement hereunder. The Company agrees
to promptly notify Zanett of the commencement of any litigation or proceeding
against it or any of its directors, officers, agents or employees in connection
with the transactions contemplated hereby.

        e. The Company also agrees that no Indemnified Person shall have any
liability (whether direct or indirect, in contract or tort or otherwise) to the
Company, its owners, creditors or security holders for or in connection with
advice or services rendered or to be rendered by Zanett pursuant to this
Agreement, the transactions contemplated hereby or any Indemnified Person's
actions or inactions in connection with any such advice, services or
transactions except for liabilities (and related expenses) of the Company that
are determined by a final judgment of a court of competent jurisdiction to have
resulted primarily from such Indemnified Person's gross negligence or wilful
misconduct in connection with any such advice, actions, inactions or services.

     6. Survival of Certain Provisions. The representations, warranties,
covenants and provisions contained in Section 2(f), Section 3, Section 4 and
Section 5 hereof shall survive in full


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force and effect until that date which is three (3) years from the date hereof
(or such longer period as may be specified in such provisions) regardless of (a)
any completion or termination of any financing contemplated by this Agreement
(including the Offering), (b) any termination of this Agreement, or (c) any
investigation made by or on behalf of Placement Agent or any affiliate of
Placement Agent, and shall be binding upon, and shall inure to the benefit of,
any successors, assigns, heirs and personal representatives of the Company,
Zanett, the Indemnified Parties and any holder of Placement Warrants.

     7. Miscellaneous.

        a. All notices, requests, demands and other communications which are
required or may be given hereunder shall be in writing and shall be deemed to
have been duly given when delivered personally, receipt acknowledged or five (5)
days after being sent by registered or certified mail, return receipt requested,
postage prepaid. All notices shall be made to the parties at the addresses
designated above or at such other or different addresses which party may
subsequently provided with notice thereof, and, to their respective legal
counsel, as follows:

                 (i)      If to Placement Agent, to

                          The Zanett Securities Corporation
                          Tower 49, 31st Floor
                          12 East 49th Street
                          New York, NY 10017
                          Attention: Claudio Guazzoni

                          - with a copy to -

                          Klehr, Harrison, Harvey, Branzburg & Ellers
                          1401 Walnut Street
                          Philadelphia, PA 19102
                          Attention: Barry J. Siegel, Esquire

                 (ii)     If to the Company, to
        
                          Advanced Environmental Recycling Technologies, Inc.
                          FM 2169
                          Junction, Texas 76849
                          Attention: Chairman of the Board
        


                                      11
<PAGE>
 
                          -with a copy to -

                  Akin, Gump, Strauss, Hauer & Feld, L.L.P.
                  1500 NationsBank Plaza
                  300 Convent Street
                  San Antonio, Texas   78205
                  Attention: Pat Ryan, Esq.

        b. This Agreement may be executed simultaneously in two or more
counterparts, each of which shall be deemed an original, but all of which shall
constitute one and the same instrument. This Agreement, once executed by a
party, may be delivered to the other parties hereto by facsimile transmission of
a copy of this Agreement bearing the signature of the party so delivering this
Agreement.

        c. This Agreement shall be governed by, and construed in accordance
with, the laws of the State of New York (without regard to its conflict of laws
provisions). The Company hereby agrees to submit to the exclusive jurisdiction
of an arbitration panel of the National Association of Securities Dealers, Inc.
located in the City of New York in connection with any suit, action or
proceeding related to this Agreement or any of the matters contemplated hereby,
irrevocably waives any defense of lack of personal jurisdiction and irrevocably
agrees that all claims in respect of any suit, action or proceeding may be heard
and determined in by such panel. The Company irrevocably waives, to the fullest
extent it may effectively do so under applicable law any objection which it may
now or hereafter have to the laying of venue of any such suit, action or
proceeding brought before any such court and any claims that any such suit,
action or proceeding brought in any such arbitration panel has been brought in
an inconvenient forum. The Company further agrees to pay or reimburse Zanett for
all reasonable costs and expenses incurred by Placement Agent in connection with
the enforcement of any of its rights under this Agreement, including without
limitation, all attorneys' fees and expenses of its counsel.

        d. The section headings in this Agreement have been inserted as a matter
of convenience of reference and are not a part of this Agreement.

        e. This Agreement may not be modified or amended except in writing duly
signed by the parties hereto.

        f. If any term, provision, covenant or restriction contained in this
Agreement is held by a court of competent jurisdiction or other authority to be
invalid, void, unenforceable or against its regulatory policy, the remainder of
the terms, provisions, covenants and restrictions contained in this Agreement
shall remain in full force and effect and shall in no way be affected, impaired
or invalidated.

        g. Each party to this Agreement has participated in the negotiation and
drafting of this Agreement. As such, the language used herein shall be deemed to
be the language chosen by


                                       12
<PAGE>
 
the parties hereto to express their mutual intent, and no rule of strict
construction will be applied against any party to this Agreement.




                  [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK]


                                       13
<PAGE>
 
     Please sign and return the original and one copy of this letter to indicate
your acceptance of the terms set forth herein whereupon this letter and your
acceptance shall constitute a binding agreement between you and the Company.


                               Very truly yours,

                               ADVANCED ENVIRONMENTAL RECYCLING
                               TECHNOLOGIES, INC.




                            By: /s/ Joe G. Brooks    
                                -----------------------------
                                Name: Joe. G. Brooks
                                Title: President

Accepted and Agreed to this 
30th day of September, 1998.


THE ZANETT SECURITIES CORPORATION


By:   /s/ CM Guazzoni                  
      ------------------------------
      Name: CM Guazzoni
      Title:   President


/s/ Claudio Guazzoni
------------------------------------
Claudio Guazzoni


/s/ David McCarthy
------------------------------------
David McCarthy


/s/ Samuel L. Milbank
------------------------------------
Tony Milbank



                                       14
<PAGE>
 
                                  Schedule 2(d)

<TABLE>
<CAPTION>
                                                       Number of Series X                 Number of Series Y
                                                      Warrants per $1,000                 Warrants per $1,000
                   Officer                              of Purchase Price                  of Purchase Price
                   -------                              -----------------                  -----------------
<S>                                                          <C>                                <C>  
Claudio Guazzoni                                              83.50                              30.80

David McCarthy                                                83.50                              30.80

Tony Milbank                                                  55.66                              20.55

The Zanett Securities Corporation                             55.67                              20.55
                                                             ------                             ------

Total                                                        278.33                             102.70
</TABLE>