**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington
      D.C. 20549**





**FORM
      10-KSB/A**





**ANNUAL
      REPORT UNDER SECTION 13 OR 15(d) OF THE**


**SECURITIES
      EXCHANGE ACT OF 1934**


**For
      the fiscal year ended December 31, 2005**





**Commission
      File Number 000-22573**





**AXION
      POWER INTERNATIONAL, INC.**


(Name
      of
      small business issuer in its charter)





**Delaware**
            
            **65-0774638**(State
                or other jurisdiction of
            
            (I.R.S.
                Employerincorporation
                or organization)
            
            Identification
                No.)**3601
                Clover Lane****New
                Castle, Pennsylvania**
            
            **16105**(Address
                of principal executive offices)
            
            (Zip
                Code)Issuer’s
                telephone number
            
            **(724)
                654-9300**





Securities
      Registered under Section 12(b) of the Act





**None**





Securities
      Registered under Section 12(g) of the Act





**Common
      Stock, par value $0.0001 per share**





Check
      whether the issuer is not required to file reports pursuant to Section 13 or
      15(d) of the Exchange Act.  o





Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Exchange Act during the past 12 months (or for such shorter period
      that the registrant was required to file such reports), and (2) has been subject
      to such filing requirements for the past 90 days.  Yes o No x





Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will be contained,
      to
      the best of registrant’s knowledge, in a definitive proxy or information
      statement incorporated by reference in Part III of this Form 10-KSB or any
      amendment to this Form 10-KSB  x





Indicate
      by check mark whether the registrant is a shell company.  Yes o No x





During
      the year ended December 31, 2005, the registrant had no revenue.





Based
      on
      the average of the bid and asked prices reported on the OTC Pink Sheets on
      September 28, 2007, the aggregate market value of the
      7,601,056 shares of
      common equity held by non-affiliates was $17,862,483.




On
      September 28, 2007, the
      number of shares of common stock outstanding was 16,497,298.





Transitional
      Small Business Disclosure Format (Check one):  Yes
o No x







**Cautionary
      note regarding forward-looking information**





This
      Amended Annual Report on Form 10-KSB/A  contains
      certain “forward-looking statements” within the meaning of Section 27A of the
      Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of
      the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These
      forward-looking statements represented our expectations, beliefs, intentions
      or
      strategies concerning future events as of the filing of the original Annual
      Report on Form 10-KSB on April 17, 2006 (the “Original 10-KSB Date”), including,
      but not limited to, any statements regarding our assumptions about financial
      performance after that date; the continuation of historical trends; the
      sufficiency of our cash balances for future liquidity and capital resource
      needs; the expected impact of changes in accounting policies on our results
      of
      operations, financial condition or cash flows; anticipated problems and our
      plans for future operations; and the economy in general or the future of the
      electrical storage device industry, all of which were subject to various risks
      and uncertainties.





When
      used
      in this Amended Annual Report on Form 10-KSB/A and our other filings with the
      Securities and Exchange Commission (the “SEC”), in our press releases,
      presentations to securities analysts or investors, in oral statements made
      by or
      with the approval of an executive officer, the words or phrases “believes,”
“may,” “will,” “expects,” “should,” “continue,” “anticipates,” “intends,” “will
      likely result,” “estimates,” “projects” or similar expressions and variations
      thereof are intended to identify such forward-looking statements. However,
      any
      statements contained in this Amended Annual Report on Form 10-KSB/A that are
      not
      statements of historical fact may be deemed to be forward-looking
      statements.





We
      caution that these statements by their nature involved risks and uncertainties,
      certain of which are beyond our control, and actual results have differed
      materially. ***We
      have not updated or corrected these forward-looking statements in this
      amendment.***





**EXPLANATORY
      NOTE**





**Restatement
      of Historical Financial Statements**





In
      this
      Amended Annual Report on Form 10-KSB/A for the period ended December 31, 2005
      we
      have:




·
            Restated
                our audited consolidated financial statements for the period from
                September 18, 2003 (inception) through December 31, 2003 and the
                years
                ended December 31, 2004 and 2005as
                well as the cumulative since inception presentationas
                previously summarized in our Current Report on Form 8-K dated June
                12,
                2007;





·
            In
                certain places in the narrative, we excluded 1,301,700 (the "Excluded
                Shares") from our calculation of issued and outstanding common stock
                as
                such shares were to be issued to a foreign partnership, comprising
                1,000,000 shares to be issued directly from Axion and 301,700 shares
                to be
                issued upon the exercise of warrants held by four individuals, as
                the
                foreign partnership had not, as of December 31, 2005, delivered the
                purchase price for these shares - see corrected disclosure of these
                events
                in:  "Description of Business-Risk Factors-Over One million shares of
                our common stock were never paid for by the purchaser, and the stock
                certificates for these unissued shares is in the possession of this
                third
                party;" “Description of Business - Risk Factors -- We have issued
                convertible securities, warrants and options that may significantly
                increase the number of common shares outstanding.“Description of Business
                - Risk Factors - Our directors and officers will have significant
                influence over the outcome of any stockholder vote,” "Item 5 --Market for
                Common Equity and Related Stockholder Matters;" and "Item 11 - Security
                Ownership of Certain Beneficial Owners and Management and Related
                StockholderMatters."





·
            Corrected
                certain historical financial disclosures in the Description of Business
                section of this report to reflect the changes resulting from the
                restatement, which include changes to the following
                sections:





o
            “Description
                of Business—Our corporate
                history;





o
            “Description
                of Business—Our research and
                development”;


o
            “Description
                of Business—Risk Factors—The auditors report on our financial statements
                includes a going concern
                qualification”;


o
            “Description
                of Business—Risk Factors—We have incurred net losses since inception and
                we may not be able to generate sufficient revenue in the future to
                achieve
                or sustain profitability”;


o
            “Description
                of Business—Risk Factors—Our business will not succeed if we are not able
                to raise substantial additional
                capital”;


o
            “Description
                of Business - Risk Factors - Our directors and officers will have
                significant influence over the outcome of any stockholder
                vote.”


o
            “Description
                of Business—Risk Factors—Being a public company has increased our
                administrative costs”; and


o
            “Description
                of Business—Risk Factors—Technological changes in the battery industry
                could render our technology uncompetitive or
                obsolete.


o
            “Description
                of Business - Risk Factors -- We have issued convertible securities,
                warrants and options that may significantly increase the number of
                common
                shares outstanding.


o
            “Description
                of Business - Risk Factors -- Over one million shares of our common
                stock  were never paid for by the purchaser, and a stock certificate
                for these unissued shares is in the possession of this third
                party.





·
            Corrected
                certain historical financial disclosures in “Item 5 - Market for Common
                Equity and Related Stockholder Matters” to reflect changes to the “Sale of
                Unregistered Securities” disclosures resulting from the financial
                statement restatements, as well as reflect the impact of the Excluded
                Shares in the disclosure of “Securities Outstanding and
                Holders”.




·
              Restated
                  the Plan of Operations section of this report to reflect changes
                  resulting
                  from the restatement of the financial statements and to more closely
                  adhere to the requirements of Item 303 of Regulation S-B, which
                  do not
                  require a discussion and analysis of financial condition and results
                  of
                  operations due to our company’s historical lack of revenue;
 
 ·
              Restated
                  our Evaluation of Disclosure Controls and Procedures to report
                  the
                  underlying deficiencies that resulted in restatement of our financial
                  statements; and
 
 ·
              Corrected
                  the presentation in “Item 11 - Security Ownership of Certain Beneficial
                  Owners and Management and Related Stockholder Matters” to reflect the
                  impact of the Exclusion Shares on beneficial ownership of our directors,
                  officers and greater than 5%
                  stockholders.


This
      amended annual report presents information about our company as of April, 2006,
      when the Company’s original 2005 annual report was filed. As a result, it
      contains statements, including forward looking statements and risk factors
      that
      we identified at the time of the original report, many of which have been
      materially affected by events occurring after the date of our original annual
      report. We have not updated any of our previously reported disclosures other
      than the following:





·
            We
                have updated our disclosure in Item 8/A to reflect the circumstances
                which
                led our board of directors to determine that a re-audit of our financial
                statements was necessary and the subsequent determination by our
                Chief
                Executive and Chief Financial Officers, in light of the results of
                the
                re-audit, that our disclosure controls as of December 31, 2005 were
                ineffective; and





·
            The
                footnotes to the financial statements include information about events
                which occurred after December 31, 2005 in a footnote captioned “Subsequent
                events.”





As
      a
      result, this Amended 2005 Annual report does not present the current financial
      condition of the Company as of the date that it is being filed. We intend to
      file an amended 10-QSB for the quarter ended March 31, 2006, and then to file
      our delinquent reports for the quarters ended June 30, 2006, September 30,
      2006,
      March 31, 2007, and June 30, 2007, as well as our annual report for the year
      ended December 31, 2006. Investors will not have complete and updated
      information about the Company and its current financial condition unless and
      until all of these reports have been filed.








As
      more
      fully described in Notes 4, 5, and 6 to the restated audited consolidated
      financial statements included in this report, we have restated our consolidated
      financial statements to:




·
              Fully
                  impair certain notes receivable from Mega-C Power Corporation;
 
 ·
              Write-off
                  certain amounts previously reflected as intangible assets as in-process
                  research and development;
 
 ·
              Fully
                  impair certain patent costs previously
                  capitalized;
 
 ·
              Properly
                  account for certain options that were issued in connection with
                  our
                  financing and other business
                  arrangements;
 
 ·
              Record
                  expense for certain compensatory issuances of shares;
 
 ·
              Correct
                  certain errors and make certain reclassifications that were identified
                  during the course of the restatement and re-audit of our financial
                  statements for partial fiscal year from September 18, 2003 (inception)
                  to
                  December 31, 2003 and the years ended December 31, 2004 and 2005,
                  as more
                  fully described in Notes 4, 5, and 6;
                  and
 
 ·
              Revise
                  the footnote disclosure as necessary to reflect these and other
                  changes.





We
      are
      amending and restating Items 1, 5, 6, 7, 8A and 11 of Part II of our Annual
      Report on Form 10-KSB for the year ended December 31, 2005. No information
      in
      the original Annual Report on Form 10-KSB other than historical statements
      contained in the specific sections identified above is amended hereby as a
      result of the restatement. Accordingly, this amended Annual Report on Form
      10-KSB/A should be read in conjunction with the original Annual Report on Form
      10-KSB for the year ended December 31, 2005 and our periodic filings made with
      the SEC subsequent to the date of the filing of that original Annual Report,
      including any amendments to those filings, as well as any Current Reports filed
      on Form 8-K subsequent to the date of the filing of the original Annual Report
      on Form 10-KSB. In accordance with applicable SEC rules, this amended Annual
      Report on Form 10-KSB/A includes updated certifications from our Chief Executive
      Officer (CEO) and Chief Financial Officer (CFO) as Exhibits 31.1, 31.2, 32.1
      and
      32.2.





The
      amendment and restatement being provided is meant to provide the corrections
      required by the restatement described above and in the notes to our restated
      financial statements. Other than these corrections of historical financial
      information, we have not undertaken to update any other information from the
      originally filed Annual Report on Form 10-KSB, and you should not rely on such
      other information, especially information that constitutes forward-looking
      information.





We
      have
      not filed amended annual reports on Form 10-KSB for the years ended December
      31,
      2003, and 2004 , or filed amended quarterly reports on Form 10-QSB for the
      first
      three quarters of the years ended December 31, 2004 and 2005 because we believe
      the preparation of such reports would be unduly burdensome and the dissemination
      of multiple reports that each disclose a portion of the restatements would
      adversely impact the ability of a reader to easily and fully understand the
      overall impact of the restatements described herein.




The
      factors we considered in reaching our conclusion that filing amended annual
      and
      quarterly reports for each of the periods during the years ended December 31,
      2003 and 2004 and quarterly reports for the first three quarters of 2005 would
      present a significant hardship include:




·
              The
                  significant internal and external costs of preparing and filing
                  restated
                  financial statements in amended Forms 10-KSB for the years ended
                  December
                  31, 2003 and 2004;







·
              The
                  significant internal and external costs of preparing and filing
                  restated
                  financial statements in amended Forms 10-QSB for each of the quarterly
                  periods during the years ended December 31, 2004 and
                  2005;
 
 ·
              The
                  significant negative impact on our normal business operations resulting
                  from the disruptions inherent in such
                  preparation;
 
 ·
              The
                  delay such amended and restated Forms 10-KSB and 10-QSB would create
                  in
                  our ability to effect future financings, including having future
                  registration statements declared
                  effective;
 
 ·
              Management’s
                  reasoned belief that restated financial information for the quarterly
                  periods within 2004 and 2005 filed as amendments to previously
                  filed Forms
                  10-QSB would not enhance investor understanding of our company
                  and may
                  very well be detrimental to investor understanding; and
 
 ·
              Our
                  independent registered public accountants having performed the
                  procedures
                  they believe necessary to provide their opinion that the restated
                  financial statements for the period September 18, 2003 (inception)
                  to
                  December 31, 2003 and the years ended December 31, 2004 and 2005as
                  well as the cumulative since inception presentationwere otherwise fairly presented in all material
                  respects.





**TABLE
      OF CONTENTS**





**PAGE****Item
              1. Description of Business, Risk Factors**
            1**Item
                5.****Market
                for Common Equity and Stockholder Matters**
            23**Item
                6. Plan of Operation**
            28**Item
                7. Financial Statements**
            32**Item
                8A. Controls and Procedures**
            78**Item
              11. Security Ownership of Certain Beneficial Owners and Management
              and
              Related Stockholder Matters**
            79





**ITEM
      1. — DESCRIPTION OF BUSINESS**





**Our
      corporate history**





We
      were
      incorporated in Delaware in January 1997 as Tamboril Cigar Company, which
      operated a wholesale cigar business until December 1998 and was an inactive
      public shell from January 1999 until December 2003. Since January 2004, we
      have
      been engaged in the business of developing a new technology for the production
      of lead-acid-carbon energy storage devices that we refer to as “e 3 Supercells.”
      We changed our name to Axion Power International, Inc. and implemented a one
      share for 16 reverse split in June 2004. The values in this report have been
      restated where necessary to give retroactive effect to the reverse
      split.





Mega-C
      Power Corporation, which we refer to in this report as “Mega-C,” was a prior
      licensee of limited rights to the e 3 Supercell
      technology. In February 2003, the Ontario Securities Commission began an
      investigation into Mega-C’s stock sales that terminated Mega-C’s ability to
      finance its operations and continue in business.





Axion
      Power Corporation, which we refer to in this report as “APC,” was incorporated
      in September 2003 for the purpose of acquiring rights to the e 3 Supercell
      technology from the original owner of the patents, an Ontario corporation named
      C and T Co., Inc., which we refer to in this report as “C&T.” The founders
      of APC were shareholders of Mega-C who collectively invested approximately
      $3.9
      million in Mega-C and were facing a total loss when Mega-C was unable to
      continue in business.





In
      late
      December 2003, Tamboril had 1,875,000 shares outstanding. After evaluating
      the
      e 3 Supercell
      technology and APC, Tamboril’s management negotiated a series of related
      transactions that included:




·
              A
                  business combination between Tamboril and APC that was structured
                  as a
                  reverse takeover;
 
 ·
              The
                  establishment of an irrevocable trust, which we refer to as the
“Mega-C
                  Trust,” for the stated purpose of preserving thepotentialequitable rights of Mega-C’s creditors and shareholders while insulating
                  us from the litigation risks associated with the activities of
                  Mega-C and
                  its promoters; and
 
 ·
              A
                  purchase of the e3 Supercelltechnologyfrom C&T.




1


The
        business combination, trust establishment and technology acquisition
        transactions closed in December 2003 and January 2004, and in connection
        with
        the closings:


·
              We
                  issued 233,400warrantsto
                  Tamboril’s management in satisfaction of related-party
                  debt;
 
 ·
              We
                  issued 10,739,500commonshares and 608,600 warrants for the outstanding securities of
                  APC;
 
 ·
              C&T
                  purchased 1,250,000previouslyoutstanding common shares from Tamboril’s
                  management;
 
 ·
              We
                  purchased all of C&T’sinterestin
                  the e3 Supercell technology for 1,562,900 warrants;
                  and
 
 ·
              C&T
                  retained its rights to receive certain future payments that were
                  due under
                  its agreement with APC.
 
 Of
        the
        10,739,500 common shares that Tamboril issued for the outstanding securities
        of
        APC, 7,327,500 shares, or approximately 58% of our post-transaction
        capitalization, were deposited in the Mega-C Trust. The remaining 3,412,000
        shares were distributed among APC’s shareholders. After the closing, APC’s
        shareholders, C&T’s shareholders and the Mega-C Trust owned 95% of our
        stock. For financial reporting purposes, APC was deemed to be the accounting
        acquirer of Tamboril, followed by a recapitalization.





Since
      February 2004, we have been involved in litigation with certain promoters of
      Mega-C who are asserting a variety of claims arising from APC’s alleged
      interference in Mega-C’s affairs and our purchase of the e 3 Supercell
      technology. We filed an involuntary bankruptcy petition against Mega-C in April
      2004. In connection with the execution of the Amended and Restated Trust
      Agreement in February 2005, which formally recognized the jurisdiction of the
      bankruptcy court on all matters, Axion issued 500,000 additional shares to
      the
      Trust. This occurred in the fiscal year ended December 31, 2005. This issuance
      was considered Axion’s contribution to the Trust to obtain clear title to the
      technology and resolve all related matters. Accordingly, the shares were
      recorded as an expense for accounting and financial reporting purposes. Since
      July 2005, we have been involved in litigation with Mega-C’s Chapter 11 Trustee
      that focused primarily on whether the stock in the Mega-C Trust was property
      of
      the bankruptcy estate. On December 12, 2005, we entered into a settlement
      agreement with Mega-C’s Chapter 11 Trustee, the Mega-C Trust and others that
      will resolve substantially all disputes, including disputes arising from our
      purchase of the e 3 Supercell
      technology and derivative claims of Mega-C’s shareholders. The settlement
      agreement may not resolve all aspects of the litigation instituted by Lewis
      “Chip” Taylor, Chip Taylor in Trust, Jared Taylor, Elgin Investments, Inc. and
      Mega-C Technologies, Inc. (collectively the “Taylor Group”) which alleges an
      oral agreement with C&T gave the Taylor Group and/or C&T an ownership
      interest in the battery technology.





The
      settlement agreement is discussed in detail in Item 3 of the original Annual
      Report on Form 10-KSB on page 26. Since the terms of the settlement agreement
      fall within the range of outcomes contemplated by our original structure, the
      successful implementation of the agreement will not dilute the interests of
      our
      other stockholders.





Unless
      we
      tell you otherwise, references to:


·
              “Bankruptcy
                  Court” mean the U.S. Bankruptcy Court for the District of Nevada, Reno
                  Division;
 
 ·
              “Chapter
                  11 Trustee” mean William M. Noall, the Chapter 11 Trustee for Mega-C Power
                  Corporation;
 
 ·
              “Plan”
                  means the proposed Chapter 11 plan of reorganization for Mega-C
                  Power
                  Corporation that we have proposed with the Chapter 11 Trustee and
                  APC’s
                  founders under Chapter 11 of the United States Bankruptcy
                  Code;
 
 ·
              “Tamboril”
                  and “APC”
                  refer individually to those companies prior to the business combination,
                  unless the context requires otherwise:
                  and




2


·
              “we,”
                  “our,” “us” and “the company” refer collectively to our company and our
                  consolidated subsidiaries after the business
                  combination.


**The
      battery industry**





Batteries
      are a ubiquitous if largely invisible part of daily life. They produce electric
      current as a result of chemical reactions and power an endless variety of
      consumer products and industrial systems ranging from wristwatches and cell
      phones to transportation and material handling systems. For over 30 years,
      the
      battery industry has experienced a period of sustained growth fueled
      by:


·
              The
                  emergence of new technologies for transportation, entertainment
                  and
                  communication;
 
 ·
              Rapid
                  economic development and industrialization in less developed countries;
                  and
  ·
                Escalating
                    concern over the availability, cost and environmental impact
                    of fossil
                    fuels


There
      are
      two basic types of batteries: non-rechargeable “primary batteries” that are
      discharged once and then discarded; and rechargeable “secondary batteries.”
Rechargeable batteries are usually categorized in terms of their intended use
      for portable, stationary or motive applications; and described in terms of
      five
      key operating characteristics:


·
              *Cycle
                  life,*which refers to the number of times a battery can be charged and
                  discharged before it reaches the point where it cannot be recharged
                  to at
                  least 80% of its original rated
                  capacity;
 
 ·
              *Energy*,
                  which refers to the total amount of stored charge a battery can
                  deliver
                  under normal operating conditions and is expressed in terms of
                  watt-hours
                  (Wh) or kilowatt-hours (kWh);
 
 ·
              *Power,*which refers to the maximum amount of stored charge a battery can
                  deliver
                  per second and is expressed in terms of watts (W) or kilowatts
                  (kW);
 
 ·
              *Recharge
                  rate,*which determines the amount of time required for a charging system
                  to
                  restore a depleted battery to a fully charged state;
                  and
 
 ·
              *Efficiency,*which is a comparison between the amount of energy required to
                  charge a
                  battery and the amount of energy that can subsequently be discharged
                  from
                  that battery.
 
 According
        to Frost & Sullivan, the global market for rechargeable batteries is
        estimated at approximately $25 billion per year and is dominated by four
        core
        technologies:
 
 ·
              *Lead-acid*,
                  which accounts for approximately $18 billion in annual sales and
                  is used
                  for automotive starting, lighting and ignition systems, and a variety
                  of
                  motive and stationary power
                  applications;
 
 ·
              *Lithium
                  ion*,
                  which accounts for approximately $5 billion in annual sales and
                  is used
                  primarily for portable electronic
                  devices;
 
 ·
              *Nickel
                  cadmium*,
                  which accounts for approximately $900 million in annual sales and
                  is used
                  primarily for portable power tools and electronic devices;
                  and
 
 ·
              *Nickel
                  metal hydride*,
                  which accounts for approximately $800 million in annual sales and
                  is used
                  primarily for portable power tools, electronic devices and hybrid
                  electric
                  vehicles.




3





Lead-acid
      is the oldest and cheapest rechargeable battery technology in existence. If
      you
      dissect a 12-volt lead-acid battery, you will find that the battery consists
      of
      six separate cells and each cell contains two types of lead-based electrodes.
      The positive electrodes are usually lead alloy grids that are filled with lead
      dioxide paste. The negative electrodes are usually lead alloy grids that are
      filled with sponge lead paste. Within each cell, alternating positive and
      negative electrodes are sandwiched together with non-conductive separators
      that
      keep the electrodes from touching each other, wired in parallel and then stacked
      vertically in the cell. The cell is then filled with a sulfuric acid
      electrolyte, sealed, vented and connected in series to the other
      cells.





When
      the
      battery is discharged, both sets of electrodes react with the electrolyte and
      electricity is released. When the battery is recharged, the chemical reactions
      are reversed. These reversible chemical reactions are what make lead-acid
      batteries work, and ultimately what makes them fail. The principal causes of
      battery failure are:




·
              *Sulfation*,
                  where lead sulfate crystals build up on the negative electrodes
                  and impede
                  chemical reactions;
 
 ·
              *Grid
                  corrosion*,
                  where the electrolyte dissolves part of the electrode
                  grids;
 
 ·
              *Mass
                  shedding*,
                  where the lead pastes fall off the electrode grids and become inactive;
                  and
 
 ·
              *Electrolyte
                  loss,*where the cells dry out because of gasses produced during
                  charging.





Sulfation,
      mass shedding, grid corrosion and electrolyte loss are unavoidable. Battery
      manufacturers have developed many methods to slow the rates of sulfation, mass
      shedding, grid corrosion and electrolyte loss, but they cannot be eliminated.
      In
      most cases, capacity loss is limited for the first couple hundred cycles and
      then begins to drop off linearly. Ultimately, after a predictable number of
      cycles, the only alternative is to replace the battery.





Due
      primarily to their low cost and proven reliability, lead-acid batteries have
      become essential components in a variety of consumer and industrial products
      including:





·
            Automotive
                electrical systems;





·
            Golf
                carts, wheelchairs, forklifts and other motive applications;
                and





·
            Power
                backup and conditioning systems for computers, electronics and
                communications networks.





Nevertheless,
      lead-acid batteries have a number of inherent limitations,
      including:





·
            Relatively
                low power density;





·
            Relatively
                slow charge and discharge rates;





·
            Useful
                lives that are limited by internal chemical
                processes;





·
            Limitations
                on the proportion of the stored energy that can be used without battery
                damage; and





·
            Relatively
                high maintenance and recycling
                costs.





The
      last
      20 years have been a time of tremendous change in the battery industry. Where
      lead-acid batteries were once used primarily for starting, lighting and ignition
      applications, they have moved into the mainstream of motive applications,
      powering everything from wheelchairs and golf carts to forklifts and mining
      equipment. More recently, the focus has shifted to electric cars, hybrid
      electric vehicles and potential electric utility applications. Unfortunately,
      lead-acid battery technology has not been able to keep pace with increasingly
      demanding applications. Therefore, the battery industry currently faces a number
      of substantial challenges, including:


4


·
            Developing
                products that have improved energy and power to weight
                ratios;





·
            Developing
                products that charge and discharge more
                rapidly;





·
            Developing
                products that have longer cycle
                lives;





·
            Developing
                products that make a greater proportion of the stored energy available
                for
                use; and





·
            Developing
                more efficient and cost-effective recycling
                methods.





In
      response to these challenges, and others, a number of companies are developing
      and introducing products based on technologies other than lead-acid. These
      rechargeable battery technologies include lithium ion batteries, nickel cadmium
      batteries, nickel metal hydride batteries and supercapacitors. In general,
      these
      battery technologies are far more sophisticated and expensive than the lead-acid
      batteries they hope to replace.





We
      believe growth and technical change in the battery industry will continue to
      accelerate for the foreseeable future. While technologies like nickel-metal
      hydride and lithium ion are the current market leaders in certain
      high-performance applications like hybrid electric vehicles, we believe the
      cost
      and complexity of these technologies will ultimately be limiting factors,
      particularly in light of economic constraints on producers of mass market
      transportation products and electric utilities.





**Our
      business**





We
      are
      developing and preparing to introduce a new class of rechargeable battery
      technology that is part lead-acid battery and part supercapacitor. We call
      these
      devices “e 3 Supercells.”
      Like a lead-acid battery, an e 3 Supercell
      consists of a series of cells. Within the individual cells, however, our
      construction is different. Instead of using alloy grids filled with sponge
      lead
      paste for the negative electrodes, e 3 Supercells
      use carbon electrode assemblies. The resulting device is effectively half
      lead-acid battery and half supercapacitor. Because of their unique chemistry,
      e 3 Supercells
      are not subject to sulfation and are less susceptible to electrolyte loss and
      grid corrosion. They are also expected to offer higher power, faster recharge
      and longer cycle life than conventional lead acid batteries. We believe these
      performance features, if realized, will be highly advantageous in many potential
      applications.





Since
      inception, our primary focus has been research and development. We are now
      preparing to manufacture small batches of commercial prototype e 3 Supercells
      for sale to third parties in connection with a series of planned demonstration
      projects that are scheduled to begin in the third quarter of 2006. Our
      processes, designs and manufacturing techniques are not optimized and we believe
      additional research and development will be required to reduce costs and improve
      performance. As we make the transition from laboratory research to commercial
      prototype manufacturing we will need to:





·
            Refine
                our planned fabrication methods for carbon electrode
                assemblies;





·
            Demonstrate
                the feasibility of manufacturing e3Supercells
                using standard techniques and
                equipment;





·
            Demonstrate
                and document the performance of e3Supercells in key applications; and





·
            Respond
                appropriately to anticipated and unanticipated technical and manufacturing
                challenges.





We
      plan
      to develop e 3 Supercells
      for use in a variety of applications including:





·
            Starting,
                lighting and ignition applications;





·
            Motive
                power applications;


5


·
              Stationary
                  power applications;
 
 ·
              Hybrid
                  electric vehicle applications; and
 
 ·
              Military
                  applications.




We
      believe demand for cost-effective energy storage systems will grow rapidly.
      We
      also believe we can become a leader in the high performance battery market.
      We
      believe our competitive advantages will include:


·
              *Ease
                  of integration*.
                  Our planned electrode assemblies will be designed to replace the
                  standard
                  grid and paste negative electrodes in conventional lead-acid
                  batteries.
 
 ·
              *Superior
                  flexibility*.
                  By changing the number, geometry and arrangement of the electrode
                  assemblies, we expect to be able to configure our technology to
                  favor
                  either energy storage or power
                  delivery.
 
 ·
              *Reduced
                  lead content.*Depending on the energy, power and cycling requirements of a particular
                  application, our e3Supercells
                  will use from 40% to 60% less lead than conventional
                  batteries.





Our
      ability to establish and maintain a competitive position will be dependent
      on
      several factors, including the availability of raw materials and key components,
      our ability to design and manufacture commercial prototype e 3 Supercells,
      our ability to establish and operate facilities that can fabricate electrode
      assemblies and manufacture commercial e 3 Supercells
      of consistent quality at a predictable cost, our ability to establish and expand
      a customer base, our ability to compete against established and emerging battery
      technologies, the market for batteries in general, our ability to retain key
      personnel and other factors set forth in the “Risk Factors” section of this
      report.





Our
      management team has a diverse set of industry skills and experience, including
      backgrounds spanning research and development, precision manufacturing, quality
      control and finance, as well as expertise running complex organizations and
      managing rapid growth. Our objective is to become an industry leader in low
      cost, high performance energy storage systems. We plan to achieve this objective
      by pursuing the following core strategies:





·
            *Platform
                technology business model.*We
                plan to implement a platform technology business model where we will
                focus
                on developing and manufacturing carbon electrode assemblies that
                we can
                offer for sale to established battery manufacturers who want to produce
                e3Supercell
                products.





·
            *Initial
                focus on high-value market segments.*We
                believe commercial e3Supercells
                will be most appealing in high-value market segments where longer
                life,
                high performance and low maintenance costs are more important than
                initial
                purchase price.





·
            *Leverage
                relationships with thought leaders.*We
                are engaged in discussions with industry consortia, research institutions
                and other thought leaders in the fields of utility applications,
                hybrid
                electric vehicles and automotive fuel cell technology. As we develop
                our
                relationships in the field of energy research we believe the opportunities
                for government funding and consortia participation will expand rapidly,
                and improve our access to potential suppliers and
                customers.





·
            *Leverage
                relationships with battery manufacturers.*Our business model is based on the premise that we can most effectively
                address the needs of the market by selling electrode assemblies to
                established battery manufacturers who want to expand their existing
                product lines. This business model should allow us to leverage the
                competences, manufacturing facilities and distribution networks of
                established manufacturers, reduce our time to market and increase
                our
                potential market penetration.





·
            *Build
                a recognized brand*.
                We believe strong brand name recognition is important to increase
                product
                awareness and to effectively penetrate the mass market. We intend
                to
                differentiate our brand by emphasizing our combination of high performance
                and low total cost of ownership per storage
                cycle.





6





·
            *Secondary
                focus on emerging markets.*Emerging markets for fuel cell power systems, hybrid electric vehicles
                and
                conventional utility applications are becoming increasingly attractive.
                We
                are actively evaluating the potential for using e3Supercell
                products in these emerging markets.





·
            *Maintain
                our technical advantage and reduce manufacturing costs*.
                We intend to maintain our technical advantage by continuing to invest
                in
                research and development to improve the performance of our e3Supercell
                devices and lower our manufacturing
                costs.





The
      battery industry is mature, capital intensive, heavily regulated, highly
      competitive and averse to product performance risks associated with radical
      departures from established technology. Due to the nature of the industry,
      we do
      not believe we will be able to make a credible entry into the battery market
      until we have proven the advantages of our e 3 Supercell
      technology in demonstration projects with end users. Therefore, our business
      plan contemplates two discrete phases. During the demonstration phase, we will
      focus on producing small quantities of commercial prototype e 3 Supercells
      in our own manufacturing facilities. These commercial prototype e 3 Supercells
      will serve as the foundation for a series of demonstration projects with
      established end users. If the demonstration projects are successful and end
      user
      testing validates the advantages of our e 3 Supercell
      technology under real-world operating conditions, we can proceed to the
      commercialization phase.





We
      intend
      to begin manufacturing limited quantities of pre-commercial e 3 Supercell
      prototypes in the second quarter of 2006. The principal purpose of the
      pre-commercial prototypes will be to refine our manufacturing techniques and
      make early stage production devices available to potential partners who want
      to
      conduct preliminary product testing before committing to formal demonstration
      projects. While our initial manufacturing activities are not expected to
      generate substantial revenue, we believe they will significantly expand the
      pool
      of potential demonstration project partners and raise the profile of our planned
      e 3 Supercell
      products among potential users. In general, our development path in each target
      market we identify will include:





·
            *Prototype
                manufacturing.*We
                are finalizing design work and manufacturing plans for the commercial
                prototype e3Supercells.
                We intend to purchase raw materials and components from established
                manufacturers and then fabricate electrode assemblies and assemble
                the
                commercial prototype e3Supercells
                in company-owned facilities.





·
            *Demonstration
                projects.*When we have developed a commercial prototype e3Supercells
                for a particular target market, we will need to negotiate demonstration
                projects with industry participants, manufacture the required
                e3Supercells
                and document the performance of our products in real-world
                conditions.





·
            *Commercial
                production.*When we have developed sufficient data to support a decision to commence
                full scale production of a product or product line, we plan to pursue
                strategic relationships with one or more battery manufacturers that
                are
                willing to purchase electrode assemblies from us and use those electrode
                assemblies to manufacture co-branded commercial e3Supercells.





We
      have
      negotiated non-binding letters of intent with four alternative energy companies
      that want to evaluate our e 3 Supercells
      for use in wind and solar power generating facilities. There is no assurance
      that our current non-binding letters of intent will result in purchase
      contracts; that we will be able to produce commercial prototype e 3 Supercells
      in a timely manner; or that the cost of demonstration projects will not exceed
      current estimates. Moreover, there is no assurance that the performance
      advantages we anticipate will be demonstrated and documented under real-world
      conditions. Accordingly, there is no assurance that our planned demonstration
      projects will be successful or that we will be able to commercialize
      e 3 Supercells
      for a particular market segment.





Our
      planned demonstration projects are not expected to generate sufficient gross
      profit to offset our expected operating costs. Accordingly, we do not expect
      to
      attain profitability during the demonstration phase. If we enter into a
      commercialization relationship for a specific product or product line, we
      believe our margins are likely to improve. However there is no assurance that
      the commercialization of products for one or more market segments will generate
      sufficient revenue to offset our anticipated operating expenses and yield a
      profit.





7





*Commercialization
      phase* During
      the commercialization phase, we intend to implement a platform technology
      business model where we will develop and manufacture the carbon electrode
      assemblies that are unique to e 3 Supercells,
      and then sell those assemblies to established battery manufacturers who want
      to
      produce a co-branded commercial e 3 Supercell
      product. We believe a platform technology business model can reduce our time
      to
      market, allow us to rely on the established competences of existing
      manufacturers and forge a strong brand identity for e 3 Supercells,
      while allowing us to focus on a narrow band of value-added activities that
      appear likely to minimize our investment and maximize our
      profitability.





We
      will
      not be in a position to negotiate manufacturing relationships with established
      battery manufacturers until we complete our planned demonstration projects.
      Even
      if our planned demonstration projects are successful, we may be unable to
      negotiate manufacturing relationships on terms acceptable to us. If we decide
      to
      manufacture and distribute a line of commercial battery products ourselves,
      rather than sell carbon electrode assemblies to established battery
      manufacturers, our time to market and our anticipated capital costs may increase
      dramatically.





**Our
      development collaborators**





During
      the research stage, the late Dr. Brian Conway of the University of Ottawa was
      actively involved in the development and testing of our e 3 Supercell
      technology. In this capacity he supervised the testing of our early prototypes,
      documented the principal performance characteristics of our e 3 Supercell
      technology and provided technical guidance to our scientific and engineering
      teams. As we transition from research to manufacturing, our development
      collaborators will include East Penn Manufacturing Company, Inc. and Dr. Andrew
      F. Burke.





***East
      Penn Manufacturing Company, Inc.*** We have
      entered into a memorandum of understanding with East Penn, the largest
      independent battery manufacturer in North America. The MOU establishes the
      framework for a three-phase joint development and testing program that includes
      laboratory testing; prototype development and testing; and co-development of
      a
      series of pre-commercial e 3 Supercells.
      For the last three months, East Penn has been conducting its own tests to more
      fully characterize the electrode corrosion and mass shedding characteristics
      of
      our e 3 Supercell
      prototypes and confirm our in-house test results. We believe this joint
      development and testing program will help advance our e 3 Supercell
      technology through initial product rollout. The MOU only provides a general
      framework for our planned cooperation and does not include a detailed listing
      of
      the tasks to be completed, a complete allocation of the anticipated costs or
      the
      specific terms of the future economic relationship between our companies.
      Instead, the MOU contemplates that each stage of the testing and development
      process will be described in a more detailed agreement that clearly defines
      the
      respective rights and responsibilities of the parties.





***Dr.
      Andrew F. Burke, Ph.D*** **.** Dr.
      Burke is a member of the research faculty at the Institute of Transportation
      Studies, University of California at Davis, and a recognized expert in the
      field of electric and hybrid vehicle design, analysis, and testing. He directs
      the EV Power Systems Laboratory and performs research and teaches graduate
      courses on advanced electric driveline technologies, specializing in batteries,
      ultracapacitors, fuel cells and hybrid vehicle design. Dr. Burke is working
      with
      us in an effort to develop a high-power e 3 Supercell
      design that will be suitable for use in hybrid electric
      automobiles.





**Our
      strategic alliances**





Our
      business strategy involves developing proposed e 3 Supercell
      products for a variety of applications and then determining whether to partner
      the proposed product or continue development internally until a performance
      milestone is reached. In furtherance of this strategy, we are devoting
      substantial time, effort and attention to forging strategic alliances. Our
      primary focus in discussions with potential strategic partners has been to
      explore the potential for the formation of joint ventures to conduct
      demonstration projects where e 3 Supercells
      are built for use in a particular application or class of
      applications.





***Alternative
      Energy*** We
      have
      engaged in preliminary discussions with a number of potential strategic partners
      in the alternative energy industry and have signed non-binding letters of intent
      for following demonstration projects.





8





·
            *Hybridyne
                Power Systems*is
                an Ontario company that specializes in integrated hybrid (wind and
                solar)
                renewable energy systems and has signed a non-binding letter of intent
                to
                conduct a total of five demonstration projects with us over the next
                12
                months. The first demonstration project will be a 75 kilowatt hour
                project
                and is scheduled for the third quarter of 2006. Additional projects
                of
                increasing size and complexity will follow every three
                months.





·
            *Omni
                Power, Inc.*is
                an Ontario company that specializes in integrated clean power and
                grid
                connected inverter systems and has signed a non-binding letter of
                intent
                to conduct a total of five demonstration projects with us over the
                next 12
                months. The first project is planned for the third quarter of
                2006.





·
            *Vektec
                Electronics*is
                a New Zealand company that specializes in integrated renewable energy
                systems and has signed a non-binding letter of intent to conduct
                a total
                of five demonstration projects with us over the next 12 months. The
                first
                project is planned for the third quarter of
                2006.





·
            *CPE
                Div L*is
                an Ontario company that acts as a value added reseller of wind power
                generating equipment and has signed a non-binding letter of intent
                to
                conduct a total of five demonstration projects with us over the next
                18
                months. The first project is planned for the fourth quarter of
                2006.





Our
      alternative energy projects will typically include hundreds of interconnected
      e 3 Supercells
      and result in revenue of $50,000 to $75,000 per project. We are currently
      engaged in preliminary discussions with several manufacturers of UPS and DC
      Power systems and heavy use motive equipment for additional demonstration
      projects in those market segments.





***Fuel
      cell technology*** We are
      negotiating an agreement to provide e 3 Supercells
      for testing by a company that is developing a proprietary fuel cell system
      for
      automotive applications. The goal of the project is to develop a battery system
      that will be used in conjunction with fuel cell systems. The proposed agreement
      will not require the user to pay or reimburse any of the costs we incur in
      connection with the project or obligate the user to purchase products from
      us in
      the future. Likewise it does not require us to sell products to the user or
      sublicense our technology if we are unwilling to supply products on terms that
      the user finds acceptable. There is no assurance that our e 3 Supercell
      technology will satisfy the applicable performance requirements or that we
      will
      be able to negotiate an acceptable agreement respecting the future sale of
      battery products for use in fuel cell systems.





We
      believe that our existing and future strategic alliances will give us the
      advantage of significant technical know-how, operating experience and field
      support while giving our strategic partners an opportunity to participate in
      the
      early development of a promising technology. As we expand into the markets
      for
      uninterruptible power supplies and DC power systems, it may be difficult for
      us
      to find third parties that are willing to enter into strategic alliances on
      acceptable economic terms or at all. If we are not able to enter into a
      strategic alliance with respect to a particular proposed product, we may be
      required to undertake and fund further development using our own
      funds.





**Our
      patents and intellectual property**





We
      own
      four issued U.S. patents and have three patent applications pending at the
      date
      of this report covering various aspects of our e 3 Supercell
      technology. There is no assurance that any of the pending patent applications
      will ultimately be granted. Our issued patents are:





·
            U.S.
                Patent No. 6,466,429 (expires May 2021) - Electric double layer capacitor;





·
            U.S.
                Patent No. 6,628,504 (expires May 2021) - Electric double layer capacitor;





·
            U.S.
                Patent No. 6,706,079 (expires May 2022) - Method of formation and
                charge
                of the negative polarizable carbon electrode in an electric double
                layer
                capacitor; and





·
            U.S.
                Patent No. 7,006,346 (expires April 2024) - Positive Electrode of
                an
                electric double layer capacitor.





9





We
      have
      no duty to pay any royalties or license fees with respect to the
      commercialization of our e 3 Supercell
      technology and we are not subject to any field of use restrictions. We believe
      our patents and patent applications, along with our trade secrets, know how
      and
      other intellectual property will be critical to our success.





Our
      ability to compete effectively with other companies will depend on our ability
      to maintain the proprietary nature of our e 3 Supercell
      technology. We plan to file additional patent applications in the future.
      However the degree of protection offered by our existing patents or the
      likelihood that our future applications will be granted is uncertain.
      Competitors in both the United States and foreign countries, many of which
      have
      substantially greater resources and have made substantial investment in
      competing technologies, may have, or may apply for and obtain patents that
      will
      prevent, limit or interfere with our ability to make and sell products based
      on
      our e 3 Supercell
      technology. Competitors may also intentionally infringe on our patents. The
      prosecution and defense of patent litigation is both costly and time-consuming,
      even if the outcome is favorable to us. An adverse outcome in the defense of
      a
      patent infringement suit could subject us to significant liabilities to third
      parties. Although third parties have not asserted any infringement claims
      against us, there is no assurance that third parties will not assert such claims
      in the future.





We
      also
      rely on trade secrets, know-how and other unpatented technology and there is
      no
      assurance that others will not independently develop the same or similar
      technology or obtain unauthorized access to our trade secrets, know-how and
      other unpatented technology. To protect our rights in these areas, we require
      all employees, consultants, advisors and collaborators to enter into
      confidentiality agreements. These agreements may not provide meaningful
      protection for our unpatented technology in the event of an unauthorized use,
      misappropriation or disclosure. While we have attempted to protect the
      unpatented proprietary technology that we develop or acquire and will continue
      to attempt to protect future proprietary technology through patents, copyrights
      and trade secrets, we believe that our success will depend upon further
      innovation and technological expertise.





We
      may
      license technology from third parties. Our proposed products are still in the
      development stage and we may need to license additional technologies to optimize
      the performance of our products. We may not be able to license these
      technologies on commercially reasonable terms or at all. In addition, we may
      fail to successfully integrate any licensed technology into our proposed
      products. Our inability to obtain any necessary licenses could delay our product
      development and testing until alternative technologies can be identified,
      licensed and integrated.





In
      general, the level of protection afforded by a patent is directly proportional
      to the ability of the patent owner to protect and enforce his rights through
      legal action. Since our financial resources are limited, and patent litigation
      can be both expensive and time consuming, there can be no assurance that we
      will
      be able to successfully prosecute an infringement claim in the event that a
      competitor develops a technology or introduces a product that infringes on
      one
      or more of our patents or patent applications. There can be no assurance that
      our competitors will not independently develop other technologies that render
      our proposed products obsolete. In general, we believe the best protection
      of
      our proprietary technology will come from market position, technical innovation,
      speed-to-market and product performance. There is no assurance that we will
      realize any benefit from our intellectual property rights.





**Our
      competition**





We
      plan
      to compete with a number of established competitors in the battery in the
      battery and supercapacitor industry, including Maxwell, Energy Conversion
      Devices, Panasonic, Nippon-Chemicon, Ness, Enersys, Exide, Japan Storage
      Battery, Korea Storage Battery and others. In addition, many universities,
      research institutions and other companies are developing advanced energy storage
      technologies including symmetric supercapacitors, asymmetric supercapacitors
      with organic electrolytes, nickel metal hydride batteries, lithium ion batteries
      and advanced lead-acid batteries. Others are developing advanced energy
      production technologies like fuel cells, solar cells and windmills. Any or
      all
      of these technologies may compete with our technology. We expect to face
      increased competition in the future. Since many of our competitors are
      developing technologies that may ultimately have costs similar to, or lower
      than, our projected costs, there can be no assurance we will be able to compete
      effectively.





10





Most
      of
      our potential competitors have longer operating histories, greater name
      recognition, access to larger customer bases and significantly greater
      financial, sales and marketing, manufacturing, distribution, technical and
      other
      resources than us. As a result, they may be able to respond more quickly to
      changing customer demands or to devote greater resources to the development,
      promotion and sales of their products than we can. Our business will rely on
      sales of our energy storage products and our competitors with more diversified
      product offerings may be better positioned to withstand changing market
      conditions. Some of our competitors own, partner with, have longer term or
      stronger relationships with suppliers of raw materials and components, which
      could result in them being able to obtain raw materials on a more favorable
      basis than us. It is possible that new competitors or alliances among existing
      competitors could emerge and rapidly acquire significant market share, which
      would harm our business. We expect to compete on the basis of design
      flexibility, performance, reliability and total cost of ownership per storage
      cycle. If we fail to compete successfully, our business would suffer and we
      may
      lose or be unable to gain market share. In addition, the energy storage device
      market in general competes with other sources of renewable energy and
      conventional power generation. If prices for conventional and other renewable
      energy resources decline, or if these resources enjoy greater policy support
      than solar power, the energy storage device market could suffer.





The
      rechargeable battery industry has numerous technological and economic barriers
      to entry. The development of technology, equipment and manufacturing techniques
      and the operation of a facility for the automated production of rechargeable
      batteries require large capital expenditures, which may deter new entrants
      from
      commencing production. During the past few years, however, several Asian
      companies have gained manufacturing strength in rechargeable battery sector.
      In
      order to minimize our capital investment in manufacturing facilities and
      establish strong brand name recognition for our products, our overall strategy
      is to negotiate strategic alliances and other production agreements with
      established battery manufacturers that want to include a high-performance
      co-branded product in their existing product lines. There can be no assurance,
      however, that our platform technology business model will succeed in the battery
      industry.





**Raw
      materials**





During
      the research stage, we used readily available raw materials, off-the-shelf
      components manufactured by others and hand-made components fabricated by our
      staff. As we begin manufacturing, we will need to establish reliable supply
      channels for commercial quantities of raw materials and components. We believe
      established suppliers of raw materials and components will be able to satisfy
      our requirements on a timely basis. However we do not have any long-term supply
      contracts and the unavailability of necessary raw materials or components could
      delay the production of our products and adversely impact our results of
      operations.





**Environmental
      protection**





Lead
      is a
      toxic material that is a primary raw material in our e 3 Supercells.
      We also use, generate and discharge other toxic, volatile and hazardous
      chemicals and wastes in our research, development and manufacturing activities.
      We will be required to comply with federal, state and local laws and regulations
      regarding pollution control and environmental protection. Under some statutes
      and regulations, a government agency, or other parties, may seek to recover
      response costs from operators of property where releases of hazardous substances
      have occurred or are ongoing, even if the operator was not responsible for
      such
      release or otherwise at fault. In addition, more stringent laws and regulations
      may be adopted in the future, and the costs of complying with those laws and
      regulations could be substantial. If we fail to control the use of, or to
      adequately restrict the discharge of, hazardous substances, we could be subject
      to significant monetary damages and fines, or forced to suspend certain
      operations.





**Our
      research and development**





We
      engage
      in extensive research and development to improve our e 3 Supercell
      technology and our proposed products. Our goal is to increase efficiency and
      reduce costs in order to maximize our competitive advantage. Our research and
      development organization works closely with our engineering team, our suppliers
      and potential customers to improve our product design and lower manufacturing
      costs. During the periods ended December 31, 2003, 2004 and 2005, we incurred
      $2,328,580, $1,871,207 and $1,633,595, respectively on company sponsored
      research and development. While our limited financial resources and short
      operating history makes it difficult for us to estimate our future expenditures,
      we expect to incur research and development expenditures of increasing magnitude
      for the foreseeable future.




**Our
      employees**





We
      have
      22 full-time employees in Woodbridge, Ontario, including a 16-member scientific
      and engineering team, a three-member management and business development team
      and three clerical employees. Seven members of our scientific and engineering
      team hold PhDs and eight additional employees hold other advanced degrees.
      We
      began manufacturing activities in New Castle, Pennsylvania in March 2006. While
      we have not made our final staffing decisions at New Castle, we presently employ
      a staff of 10, including 7 people who are involved principally in manufacturing
      and 3 people who are involved principally in administration and sales. We are
      not subject to any collective bargaining agreements and believe our relations
      with our employees are good.




11





**RISK
      FACTORS**





*Investing
      in our common stock is very speculative and involves a high degree of risk.
      The
      following are among the risks we face related to our business, assets and
      operations. They are not the only risks we face. Additional risks and
      uncertainties not presently known to us or that we currently believe to be
      immaterial may also arise. Any of these risks could materially and adversely
      affect our business, results of operations and financial condition, which in
      turn could materially and adversely affect the trading price of our common
      stock.*





**Risks
      related to our business**





***We
      are an early stage company and our business and prospects are extremely
      difficult to evaluate.***





APC
      was
      organized in September 2003 for the purpose of licensing the e 3 Supercell
      technology from C&T and continuing research, development and
      commercialization of the technology. We operated a wholesale cigar business
      until December 1998 and were inactive from January 1999 until December 2003
      when
      we entered into the business combination with APC and purchased the
      e 3 Supercell
      technology from C&T. We do not have a substantial or stable operating
      history that you can rely on in connection with your evaluation of our company.
      Our business and prospects must be carefully considered in light of the history
      of our e 3 Supercell
      technology, the origins of our company and the many business risks,
      uncertainties and difficulties that are typically encountered by development
      stage companies that have no revenues and are making the transition from
      research and development to manufacturing. Some of the principal risks and
      difficulties we expect to encounter include our ability to:





·
            Resolve
                litigation that has impeded our growth and diverted our resources
                over the
                last two years, either through settlement or
                otherwise;





·
            Raise
                capital to finance the growth of our business and our expected losses
                until we can generate a profit;





·
            Improve
                the performance of our e3 Supercell technology and our proposed
                products;





·
            Complete
                our facilities expansion and establish supply relationships for parts
                and
                materials that will be used in the production of commercial prototype
                e3 Supercells for use in demonstration
                projects;





·
            Develop
                cost effective processing methods for our raw materials, fabrication
                methods for our electrode assemblies and manufacturing techniques
                for
                commercial prototype e3 Supercells;





·
            Negotiate
                demonstration projects in each of our principal market segments and
                produce commercial prototype e3 Supercells in sufficient quantities
                to support those demonstration
                projects;





·
            If
                our demonstration projects are successful and we decide to commercialize
                specific product, establish relationships or facilities for the
                manufacturing, distribution and service of those
                products;





·
            Maintain
                effective control over the inherently unpredictable costs of our
                research,
                product development, product testing and manufacturing
                activities;





·
            Adapt
                to competitive developments and changing market conditions and
                successfully execute our rapidly evolving and inherently unpredictable
                business plan;





·
            Implement
                and improve operational, financial and management control systems
                and
                processes;





·
            License
                complementary technologies and defend our intellectual property against
                potential claims;





·
            Attract,
                retain and motivate qualified personnel;
                and


·
              Manage
                  each of the other risks identified in this
                  report.


12




Because
      of our brief operating history and our early stage of development, we have
      limited insight into trends and conditions that may exist or might emerge and
      adversely affect our business. There is no assurance that our business strategy
      will be successful or that we will successfully address the risks identified
      in
      this report.





***The
      auditors report on our financial statements includes a going concern
      qualification.***





We
      had
      accumulated net losses of ($16,351,130) and a working capital deficit of
      ($85,914) at December 31, 2005. Our available and anticipated financial
      resources will not be sufficient to pay our anticipated operating expenses
      beyond August 2006. We are currently seeking additional capital in order to
      meet
      our anticipated obligations. Accordingly, the independent auditors’ report on
      our financial statements for the year ended December 31, 2005 contains a fifth
      explanatory paragraph that our financial statements have been prepared assuming
      that our company will continue as a going concern and that our history of
      litigation, operating losses and working capital deficits raise substantial
      doubt about that assumption.





***The
      settlement agreement is dependent on the sale of certain shares by the Mega-C
      Trust, subject to the confirmation and effectiveness of Mega-C’s plan of
      reorganization and may not resolve all pending
      litigation.***





We
      have
      entered into a settlement agreement to resolve all pending and potential claims
      that Mega-C or the Chapter 11 Trustee could assert against us, including the
      derivative claims of Mega-C’s shareholders. Many terms of the settlement
      agreement, including the releases, are subject to confirmation and effectiveness
      of the proposed Plan. Confirmation may also be impeded if the Mega-C Trust
      is
      unable to timely sell up to 1,000,000 of our shares to pay chapter 11
      administrative expenses, priority claims and unclassified and allowed unsecured
      creditor claims. The settlement ****** may
      not
      resolve all aspects of certain lawsuits that were filed by Mega-C’s promoters
      who have claimed that APC’s involvement in Mega-C’s affairs and our purchase of
      the e 3 Supercell
      technology damaged their interests. We believe the collateral claims of Mega-C’s
      promoters are without merit. However, we cannot give you any assurance that
      all
      conditions for the settlement agreement to become fully effective will occur
      or
      that Mega-C’s promoters will not ultimately prevail with respect to their claims
      against us. The cost of future litigation could have a material adverse impact
      on our financial condition and the value of our stock.





***Our
      quarterly revenues, expenses and operating results are inherently difficult
      to
      predict and if we do not meet investor expectations, our stock price will likely
      decline.***





We
      had no
      revenues during our first 29 months of operations. While we shipped our first
      products in March 2006 and expect to report modest sales revenue for the period
      ended March 31, 2006, our future revenues, expenses and operating results are
      difficult to predict and likely to fluctuate significantly from quarter to
      quarter. The amount and timing of future revenues are inherently uncertain
      and
      will be directly affected by a variety of factors, including:





·
            Initial
                demand for our specialty lead-acid batteries and our ability to increase
                demand for those products;





·
            Our
                ability to begin manufacturing our proposed commercial prototype
                e3 Supercells for testing purposes and demonstration
                projects;





·
            The
                availability, terms, timing, amount and nature of governmental subsidies,
                grants and incentives;





·
            The
                time required to install equipment, hire essential personnel and
                begin
                electrode fabrication operations;





·
            The
                number, value and timing of our planned demonstration projects, our
                ability to negotiate additional demonstration projects and the relative
                success of those projects;





13





·
            Our
                ability to negotiate manufacturing relationships or establish additional
                manufacturing facilities for any commercial e3 Supercells we decide
                to introduce; and





·
            The
                relative profitability to us of any commercial e3Supercells
                we decide to introduce.





Similarly,
      the amount and timing of future expenses are inherently uncertain and will
      be
      directly affected by a variety of factors, including:





·
            The
                cost of legal services that we will require in connection with Mega-C’s
                Chapter 11 case;





·
            The
                cost of maintaining a research and development staff to support our
                product development efforts;





·
            The
                cost of installing equipment, hiring personnel and commencing electrode
                fabrication operations;





·
            The
                cost of manufacturing and distributing specialty lead acid
                batteries;





·
            The
                cost of negotiating demonstration projects, manufacturing commercial
                prototype e3 Supercells, monitoring project performance and
                responding to unanticipated
                problems;





·
            The
                cost of refining product designs, developing new designs, developing
                new
                manufacturing techniques and responding to foreseen technical
                issues;





·
            Our
                ability to develop, manufacture and sell commercial e3 Supercells, or
                enter into relationships with other companies that want to manufacture
                or
                sell an e3 Supercell product;
                and





·
            Our
                ability to establish and maintain relationships with suppliers,
                manufacturing partners and end
                users.





The
      bulk
      of our planned operating expenses will be fixed over the short term. If revenue
      does not increase at the rates we presently anticipate, we will be unable to
      proportionately reduce our operating expenses, which would harm our operating
      results. If we fail to meet or exceed the expectations of investors and
      analysts, our stock price could decline and the declines could be
      dramatic.




***We
      have incurred net losses since inception and we may not be able to generate
      sufficient revenue in the future to achieve or sustain
      profitability.***





We
      have
      incurred net losses since inception and at December 31, 2005, we had cumulative
      net losses of ($16,351,130). To achieve profitability we will need to generate
      and sustain substantial revenue while maintaining reasonable cost and expense
      levels. We do not know whether our revenue will grow sufficiently to outpace
      our
      expenses, which we expect to increase as we expand our manufacturing capacity.
      We may not be able to achieve or increase profitability on a quarterly or an
      annual basis. If we do not achieve and sustain profitability or otherwise meet
      the expectations of securities analysts or investors, the market price of our
      common stock may decline.





***We
      do not believe revenue from demonstration projects will generate sufficient
      gross profit to offset all of our operating costs and result in a reported
      net
      profit.***





We
      have
      entered into non-binding letters of intent for a series of planned demonstration
      projects with distributors of wind and solar energy equipment and are engaged
      in
      preliminary discussions with manufacturers of UPS and DC Power systems and
      motive equipment. We anticipate revenue of $50,000 to $75,000 for each of our
      wind and solar demonstration projects, but cannot estimate our potential
      revenues from any additional demonstration projects we may negotiate. We believe
      our revenues from demonstration projects will be sufficient to offset our
      production costs and make a modest contribution to overhead. However we do
      not
      believe revenue from demonstration projects will generate sufficient gross
      profit to result in a net profit. Even if our demonstration projects are
      successful, we expect a delay of up to 12 months between the installation of
      our
      first demonstration projects and the receipt of our first revenue from the
      sale
      of commercial e 3 Supercells.
      Since we cannot predict the outcome of demonstration projects with certainty,
      we
      can offer no assurances that we will generate revenue from the sale of
      commercial e 3 Supercells,
      or that our future revenues will be sufficient to offset our future operating
      costs.





14





***Our
      business will not succeed if we are not able to raise substantial additional
      capital.***





We
      had
      $940,647 in current assets and $1,026,561 in current liabilities at December
      31,
      2005, leaving a net working capital deficit of ($85,914). After giving pro
      forma
      effect to:





·
            $1,500,000
                in estimated first quarter cash
                expenditures;





·
            The
                receipt of $590,000 in net proceeds from recent stock
                sales;





·
            The
                receipt of $1,000,000 net proceeds from a secured one-year promissory
                note; and





·
            The
                purchase of battery manufacturing equipment and inventories for
                $800,000;





we
      would
      have a working capital deficit of approximately ($795,914) at the date of this
      report. We intend to pursue financing as opportunities arise and are presently
      seeking capital; however, long-term capital requirements are difficult to plan
      for companies that are developing new products. We cannot assure you that
      adequate capital will be available to us on acceptable terms, or at all. If
      we
      are unable to obtain additional capital when needed, our research, development,
      manufacturing and testing activities will be materially and adversely affected
      and we may be unable to take advantage of future opportunities or respond to
      competitive pressures. Any inability to raise capital when we require it would
      seriously harm our business.





***We
      owe $1,000,000 to a director on a one-year note that is secured by all of our
      property.***





In
      connection with our purchase of the equipment and inventories for our battery
      manufacturing facility, we borrowed $1,000,000 from Robert Averill, a director
      and principal stockholder of our company. This debt is evidenced by a promissory
      note that bears interest at the rate of ten percent per annum. The interest
      is
      payable monthly and the principal balance is due on the first banking day of
      February 2007. The note is secured by a purchase money security interest in
      the
      assets of our wholly owned subsidiary Axion Battery Products, Inc., and is
      further secured by a security interest in all of our tangible and intangible
      assets, including the e 3 Supercell
      patents.





***We
      depend on key personnel and our business may be severely disrupted if we lose
      the services of our key executives and employees.***





Our
      business is dependent upon the knowledge and experience of our executives,
      key
      scientists and engineers. Given the competitive nature of our industry, there
      is
      a significant risk that one or more of our executives, key scientists or
      engineers might resign their positions, which could have a disruptive impact
      on
      our operations. If any of our executives, key scientists or engineers is unable
      or unwilling to continue in their present positions and we are not able to
      hire
      suitable replacements, our business may be disrupted. All our employees have
      written contracts that protect our proprietary information and prevent certain
      competitive activities after termination. But if any of our executives, key
      scientists or engineers joins a competitor or forms a competing company, we
      could lose important know-how and experience and incur substantial expense
      to
      recruit and train suitable replacements. We do not maintain key-man insurance
      for any of our executives, key scientists or engineers.





***The
      Mega-C Trust will have significant influence over the outcome of any stockholder
      vote.***





Under
      the
      original trust agreement, the trustee of the Mega-C Trust was required to vote
      the trust shares proportionally with the votes cast by our other shareholders.
      Under the settlement agreement and Plan, the Mega-C Trust and a liquidation
      trust for Mega-C will have the right to vote the number of shares that is equal
      to the lesser of the number of shares held by them, or the number of shares
      held
      by APC’s founders and their spouses and dependents. At the date of this report,
      assuming that a temporary restraining order entered by the Bankruptcy Court
      was
      no longer in effect, the Mega-C Trust and the liquidation trust would be
      entitled to cast a total of 4,934,309 votes at a meeting of stockholders and
      may
      have substantial influence over the outcome of any stockholder
      vote.





15





***Our
      directors and officers will have significant influence over the outcome of
      any
      stockholder vote.***





At
      December 31, 2005, and assuming the surrender of the remaining 500,000 shares
      by
      the Mega-C Trust, we will have 16,104,598 shares of common stock and 140,000
      shares of senior preferred stock that are presently convertible into 816,126
      shares of common stock. Our directors and officers own 3,826,376 shares of
      common stock, together with 67,633 shares of senior preferred stock that
      represent the voting equivalent of 394,305 common shares. They also own warrants
      and vested options to purchase 1,985,218 shares of common stock. Acting
      collectively, they will have substantial influence over the outcome of any
      stockholder vote and the only effective counterbalance will be the voting shares
      held by the Mega-C Trust.





***Our
      certificate of incorporation and by-laws provide for indemnification and
      exculpation of our officers and directors.***





Our
      Certificate of Incorporation provides for indemnification our officers,
      directors and employees to the fullest extent permitted by Delaware law. It
      also
      provides exculpation of our directors for monetary damages arising from breach
      of their fiduciary duties in cases that do not involve fraud or willful
      misconduct. We have recently obtained directors’ and officers’ liability
      insurance, which insures against liabilities that our directors or officers
      may
      incur in such capacities. We have been advised that the SEC believes that
      indemnification for liabilities arising under the securities laws is against
      public policy as expressed in the securities laws and is therefore
      unenforceable.





***Being
      a public company has increased our administrative costs.***





As
      a
      public company, we incur significant legal, accounting and other expenses that
      would not be incurred by a comparable private company. SEC rules and regulations
      have made some activities more time consuming and expensive and required us
      to
      implement corporate governance and internal control procedures that are not
      typical for development stage companies. We also incur a variety of internal
      and
      external costs associated with the preparation, filing and distribution of
      the
      periodic public reports and proxy statements required by the Exchange Act.
      During each of the years ended December 31, 2005 and 2004, we spent over a
      quarter million dollars for the legal fees, accounting fees and other costs
      associated with Exchange Act compliance. We expect SEC rules and regulations
      to
      make it more difficult and expensive for us to attract and retain qualified
      directors and executive officers.





***The
      growth we seek is rare and inherently problematic.***





The
      realization of our business objectives will require substantial future growth.
      Growth of this magnitude is rare and inherently problematic. Unless we are
      able
      to efficiently produce commercial prototype e 3 Supercells,
      successfully complete our planned demonstration projects, arrange for the
      manufacture and distribution of commercial e 3 Supercells
      and grow our business, we will not be successful. We expect that rapid growth
      and our complex business strategy will place a significant strain on our
      managerial, operational and financial resources. We must manage our growth,
      if
      any, through appropriate systems and controls. We must also establish, train
      and
      manage a much larger work force. If we do not manage the growth of our business
      effectively, our potential could be materially and adversely
      affected.





**Risks
      related to our e** **3** **Supercell
      technology**





***Our
      e*** ***3*** ***Supercells
      are not a superior solution for all applications that currently rely on
      lead-acid battery technology.***





While
      there are many similarities between our e3 Supercell technology
      and conventional lead-acid technology, e3 Supercells are not
      expected to be a superior solution for all applications that rely on lead-acid
      battery technology. In cases where total energy storage is the mission critical
      operating parameter, multiple e3 Supercells may be required to
      perform functions that could be performed by a single lead acid battery.
      Therefore e3 Supercells are not and should not be viewed as a
      fungible replacement for conventional lead acid batteries.





16




***We
      use lead as a primary raw material; compliance with environmental regulations
      can be expensive; and non-compliance with those regulations may result in
      potentially significant monetary damages and fines.***





Lead
      is a
      toxic material that is a primary raw material in our e 3 Supercells.
      We also use other toxic, volatile and hazardous chemicals in our research,
      development and manufacturing activities. We will be required to comply with
      federal, state and local laws and regulations regarding pollution control and
      environmental protection. Under some statutes and regulations, a government
      agency, or other parties, may seek to recover response costs from operators
      of
      property where releases of hazardous substances have occurred or are ongoing,
      even if the operator was not responsible for such release or otherwise at fault.
      In addition, more stringent laws and regulations may be adopted in the future,
      and the costs of complying with those laws and regulations could be substantial.
      If we fail to control the use of, or to adequately restrict the discharge of,
      hazardous substances, we could be subject to significant monetary damages and
      fines, or forced to suspend certain operations.





***We
      have never manufactured carbon electrode assemblies in commercial quantities
      and
      we may be unable to develop a cost effective alternative to conventional lead
      electrodes.***





During
      the research and development stage we used hand-made components that were then
      integrated into our laboratory prototypes. In connection with the transition
      from laboratory research to manufacturing, we will use mechanized fabrication
      methods. We have never manufactured commercial quantities of electrode
      assemblies. Therefore, we cannot be certain that we will be able manufacture
      commercial quantities of electrode assemblies that have suitable performance
      characteristics; or that we will be able to manufacture electrode assemblies
      at
      a cost that is reasonably competitive with conventional lead electrodes. If
      we
      cannot consistently manufacture quality electrode assemblies at a competitive
      cost we may be unable to develop a competitive product.





***We
      need to establish reliable supply channels for the other raw materials and
      components that will be used in our commercial prototype
      e*** ***3*** ***Supercells.***





During
      the research stage, we used readily available raw materials, off-the-shelf
      components manufactured by others and hand-made components fabricated by our
      staff. As we begin manufacturing, we will need to establish reliable supply
      channels for commercial quantities of raw materials and components. We believe
      established suppliers of raw materials and components will be able to satisfy
      our requirements on a timely basis. However we do not have any long-term supply
      contracts and the unavailability of necessary raw materials or components could
      delay the production of our products and adversely impact our results of
      operations.





***We
      must modify established lead-acid battery manufacturing processes to accommodate
      differences in our e*** ***3*** ***Supercell
      technology.***





We
      have
      purchased the equipment and inventory of a small battery company that had a
      manufacturing plant in western Pennsylvania. We will need to modify the
      production process to accommodate the differences between lead-acid technology
      and our e 3 Supercell
      technology. Our electrode assemblies are intended to replace standard lead
      electrodes without substantial changes in designs, manufacturing equipment
      or
      manufacturing methods, they will not necessarily function as simple “plug and
      play” replacements for conventional lead electrodes. In particular, our
      electrode assemblies can be bulkier than conventional lead electrodes. This
      increased bulk and other differences may require modification of battery designs
      and manufacturing techniques to accommodate our e 3 Supercell
      technology. If the required manufacturing process changes are more extensive
      or
      expensive than presently anticipated, our costs may be increased and the
      production of commercial prototype e 3 Supercells
      may be delayed.





17


***Our
        limited manufacturing capacity will restrict the number of market segments
        we
        can address at any particular time.***


We
      will
      have to prioritize our market entry initiatives and focus on market segments
      where we believe our e 3 Supercell
      technology has the greatest potential. The market segments that we have
      identified as initial targets only represent a small fraction of the total
      market for lead-acid batteries. There is no assurance that our commercial
      prototype e 3 Supercells
      will meet our performance expectations or that our e 3 Supercell
      technology will be able to compete effectively in a particular market segment.
      The failure to accurately assess the potential of a particular market segment
      and the suitability of our e 3 Supercell
      technology for users in that market segment would materially and adversely
      impact our operating results and future performance.





If
      our
      demonstration projects are successful, we will need to establish a manufacturing
      relationship with an existing battery company for the production of a co-branded
      product or make a decision to establish additional company-owned manufacturing
      facilities. Battery manufacturing plants are expensive and require extensive
      permits. The failure to establish a relationship with an existing manufacturer
      for the production of a co-branded product would significantly increase our
      time
      to market and our capital requirements.





***Quality
      or performance problems with our commercial prototype
      e*** ***3*** ***Supercells
      could result in a decrease in customers and revenue, or result in unexpected
      expenses and loss of market share.***





Our
      commercial prototype e 3 Supercells
      must meet stringent quality requirements. Since we intend to develop a new
      class
      of products, use new manufacturing methods and rely on untested quality control
      procedures, there is a significant risk that we will encounter unanticipated
      quality or performance problems. We will be unable to test for all possible
      failure scenarios. Our commercial prototype e 3 Supercells
      may contain defects in material and workmanship or fail to meet our performance
      expectations. Defects in material and workmanship and performance issues that
      are identified prior to shipment could cause us to incur significant
      re-engineering costs, divert the attention of our engineering personnel from
      product development efforts and significantly affect our customer relations
      and
      business reputation. Defects in material and workmanship and performance issues
      that are not identified until after products are delivered and installed could
      create a perception that our products are unreliable or unsuitable, adversely
      impact our credibility and impair the market acceptance of our proposed
      products. Future product failures could cause us to incur substantial expense
      to
      repair or replace defective products. Widespread product failures may damage
      our
      reputation, reduce our market share and cause sales to decline.





***Since
      we cannot test our proposed products for the duration of the warranty periods
      that are typical in our industry, we may be subject to unexpected warranty
      expense.***





Battery
      manufacturers typically offer warranty protection for a period of 5 to 8 years
      for defects in material and workmanship and declines in overall performance.
      We
      will need to offer warranty periods that are consistent with industry practice.
      Accordingly, we will bear the risk of warranty claims long after we have shipped
      product and recognized revenue. Although we have conducted accelerated testing
      of our laboratory prototypes, our commercial prototype e 3 Supercells
      have not and cannot be tested in an environment simulating the anticipated
      warranty period. As a result, we may be subject to unexpected warranty expense,
      which would harm our financial results.





***Technological
      changes in the battery industry could render our technology uncompetitive or
      obsolete.***





Rapidly
      evolving technology and increasing customer demands for higher energy and power
      densities, lighter weight and smaller size are prevalent in the battery
      industry. We will need to continuously enhance our e3 Supercell
      technology to keep pace with changing customer requirements. In addition, many
      universities, research institutions and other companies are developing advanced
      energy storage technologies including pump hydro and compressed air energy
      storage systems, flywheels, symmetric supercapacitors, asymmetric
      supercapacitors with organic electrolytes, nickel metal hydride batteries,
      lithium ion batteries and advanced lead-acid batteries. Others are developing
      advanced energy production technologies including fuel cells, micro turbines,
      solar cells and windmills. Additional new technologies are likely to emerge
      in
      the future. Any or all of these technologies may compete with our technology.
      Technologies developed by others may prove more advantageous or cost-effective
      than ours and may render our e3 Supercell technology obsolete.
      Our research and development expense was $2,328,580 in fiscal 2003, $1,871,207
      in fiscal 2004 and $1,633,595 in fiscal 2005. We will need to invest significant
      resources in research and development to maintain our competitive position,
      keep
      pace with technological advances in our industry and effectively compete in
      the
      future.





18




***Because
      we will compete in markets that are highly competitive and many of our
      competitors have greater resources, we may not be able to compete successfully
      and we may be unable to gain market share.***





The
      lead-acid battery industry is large, intensely competitive and resistant to
      technological change. We may be unable to convince established manufacturers
      and
      end users that products based on our e 3 Supercell
      technology are superior to available alternatives. There is no assurance that
      we
      will be able to compete effectively.





We
      plan
      to compete with a number of established competitors in the battery and
      supercapacitor industry, including Maxwell, Energy Conversion Devices,
      Panasonic, Nippon-Chemicon, Ness, Enersys, Exide, Japan Storage Battery, Korea
      Storage Battery and others. Most of our competitors have longer operating
      histories, greater name recognition, access to larger customer bases and
      significantly greater financial, technical, manufacturing, distribution,
      marketing and other resources than us. As a result, they may be able to respond
      more quickly to changing customer demands or to devote greater resources to
      the
      development, promotion and sales of their products than we can. Our business
      will rely on sales of our energy storage products and our competitors with
      more
      diversified product offerings may be better positioned to withstand changing
      market conditions. Some of our competitors own, partner with, have longer term
      or stronger relationships with suppliers of raw materials and components, which
      could result in them being able to obtain raw materials on a more favorable
      basis than us. It is possible that new competitors or alliances among existing
      competitors could emerge and rapidly acquire significant market share, which
      would harm our business. If we fail to compete successfully, our business would
      suffer and we may lose or be unable to gain market share. In addition, the
      energy storage device market in general competes with other sources of renewable
      energy and conventional power generation.





Research
      into the electrochemical applications for carbon nanotechnology is proceeding
      at
      a rapid pace and many private and public companies and research institutions
      are
      actively engaged in the development of new battery technologies based on carbon
      nanotubes, nanostructured carbon materials and other non-carbon materials.
      These
      new technologies may, if successfully developed, offer significant performance
      or price advantages when compared with our e 3 Supercell
      technology. There is no assurance that our existing patents or our pending
      and
      proposed patent applications will offer meaningful protection if a competitor
      develops a novel product based on a new technology.





***To
      the extent we enter into strategic relationships, we will be dependent upon
      our
      partners.***





Our
      proposed e 3 Supercell
      products are not intended for direct sale to end users and our business strategy
      will be dependant on our ability to enter into strategic relationships with
      battery manufacturers and manufacturers of alternative energy systems, UPS
      systems, DC Power systems and other products. The agreements governing any
      future strategic relationships are not likely to give us substantial control
      over the activities of any strategic relationship we negotiate and our future
      partners, if any, may retain the right to terminate a strategic relationship
      that we would prefer to continue. Our future partners will have significant
      discretion in determining the efforts and level of resources that they dedicate
      to our products and may be unwilling or unable to fulfill their obligations
      to
      us. In addition, our future partners may develop and commercialize, either
      alone
      or with others, products that are similar to or competitive with the products
      that we intend to produce.





**Risks
      relating to our intellectual property**





***We
      may be unable to enforce or defend our ownership of proprietary
      technology.***





Our
      ability to compete effectively will depend in part on our ability to maintain
      the proprietary nature of our e3 Supercell technology. The
      intellectual property we purchased from C&T includes four issued patents
      that cover various aspects of the e3 Supercell technology. We
      have filed three additional patent applications and plan to file other patent
      applications in the future. However the degree of protection offered by existing
      and pending patents or the likelihood that additional patents will be granted
      is
      uncertain. In many cases, the ultimate value of a patent is directly related
      to
      the patent holder’s ability to enforce its rights. Competitors in both the U.S.
      and foreign countries, many of whom have substantially greater resources and
      have made substantial investment in competing technologies, may have, or may
      apply for and obtain patents that will prevent, limit or interfere with our
      ability to make and sell products based on our technology. Competitors may
      also
      intentionally infringe on our patents. The defense and prosecution of patent
      litigation is both costly and time-consuming, even if the outcome is favorable.
      An adverse outcome in the prosecution of a patent infringement suit could
      invalidate all or a portion of our patent claims and an adverse outcome in
      the
      defense of a patent infringement suit could subject us to significant
      liabilities to third parties. Although third parties have not asserted any
      infringement claims against us, there is no assurance that third parties will
      not assert such claims in the future.





19




***We
      may require licenses of third-party technology that may not be available to
      us
      or may be very expensive and could prevent us from pursuing a particular
      development path.***





The
      fields of energy storage and nanotechnology enhanced materials have seen a
      proliferation of patents and patent applications in recent years and we may
      find
      that third party patents would be useful in the development of our e 3 Supercell
      technology or the manufacturing of products based on our technology. In such
      an
      event, the preferred choice may be to obtain a license to the third-party
      patent. Such licenses may not be available to us on reasonable terms, or at
      all.
      The inability to obtain any necessary third-party licenses could cause us to
      abandon a particular development path, which could seriously harm our business,
      financial condition and plan of operations.





***We
      may not be able to prevent others from using the names “Axion” and
“e*** ***3*** ***Supercell,”
      or similar marks in connection with energy storage products, which could
      adversely affect our name recognition.***





We
      are
      pursuing trademark registration for the names “Axion” and “e 3 Supercell”
      in the United States and Canada for use with energy storage devices. We are
      seeking similar registration of the “Axion” and “e 3 Supercell”
      names and trademarks in other foreign countries. We may not be successful in
      some of these jurisdictions. If we are unable to obtain trademark protection
      for
      the “Axion” and “e 3 Supercell”
      names, others may be able to sell products using the same or a similar name,
      which could lead to customer confusion. In addition, if there are jurisdictions
      where someone else has already established trademark rights in the “Axion” and
“e 3 Supercell”
      names, we may face trademark disputes and may have to market products under
      another name, which could hurt our marketing efforts. We may encounter trademark
      disputes with companies using marks which are confusingly similar to “Axion” and
“e 3 Supercell,”
      which if not resolved favorably could cause our branding efforts to
      suffer.





**Risks
      relating to our common stock**


***Over
        one million shares of our common stock were never paid for by the purchaser,
        and
        stock certificates for these unissued shares are in the possession of this
        third party.***
  In
        2005,
        we agreed to sell 1 million shares of common stock to a foreign partnership
        at a
        price of $2.50 per share as part of a group of comparable transactions where
        the
        purchaser planned to contribute a portfolio of small public company securities
        to a pair of offshore funds in exchange for fund units, and then use the
        fund
        units as security for bank financing that would be used to pay for the
        underlying securities. Contrary to the terms and conditions of our agreement,
        the foreign partnership is in possession of stock certificates representing
        these 1,000,000 shares; however, completion of the transaction is contingent
        upon receipt of the proceeds from the foreign partnership, which have not,
        as of
        yet, been received.   As such, the one million shares have not been
        duly issued and have been excluded from all calculations of the issued and
        outstanding shares of our common stock in this annual report.  We have
        instituted a lawsuit in an effort to collect the agreed upon purchase price;
        however, we can offer no assurance that this endeavor will be successful. 
Should we receive payment for this stock, the holders of our common stock
        will
        be diluted by the issuance of these additional shares.  In the event we
        never receive this payment, a certificate for these unissued shares may be
        beyond our control to cancel. There has been no accounting recognition of
        these
        events in the financial statements
 
 In
        connection with this offering, four holders of warrants to purchase our common
        stock agreed to exercise their warrants to purchase, in the aggregate, 301,700
        shares of our common stock for the purpose of selling them to the foreign
        partnership in a transaction that was substantially similar to the one we
        entered into with the same foreign partnership.  These shares were to be
        issued to the foreign partnership upon our receipt of payment, which was
        in turn
        contingent upon the foreign partnership tendering the payment of the purchase
        price for these shares.  Contrary to the terms and conditions of their
        agreements, the foreign partnership is in possession of stock certificates
        representing these shares without tendering the purchase price to either
        us or
        to the warrantholders. As such, the 301,700 shares have not been duly issued
        and
        have been excluded from all calculations of the issued and outstanding shares
        of
        our common stock in this annual report.    We have included these
        301,700 shares as outstanding warrants, pending receipt of the exercise
        price.  There has been no accounting recognition of these events in the
        financial statements.
 
 The
        foreign partnership has wrongful possession of certificates which on their
        face
        represent 1,301,700 shares, and they have refused our request for their return
        if payment was not tendered. As such, we have no control over these
        certificates, and can offer no assurances that these certificates will not
        be,
        or have not already been, transferred to innocent third party purchasers
        who may
        not have knowledge that the shares represented by these certificates are
        unissued and unpaid for. There is the possibility that such an innocent
        transferee could present one of these certificates for subsequent transfer
        at
        some time in the future, even though those shares remain unissued.


***Delaware
      law and our corporate charter and bylaws contain anti-takeover provisions that
      could delay or discourage takeover attempts that stockholders may consider
      favorable.*** **





Provisions
      in our certificate of incorporation may have the effect of delaying or
      preventing a change of control or changes in our management. These provisions
      include the following:





·
            The
                division of the board into three classes of directors that serve
                for
                rotating three-year terms;





·
            The
                right of the board to fill vacancies created by director resignations
                or
                the expansion of the board;





·
            The
                prohibition of cumulative voting in the election of directors, which
                would
                otherwise allow less than a majority of stockholders to elect director
                candidates;





·
            The
                requirement for advance notice for nominations of candidates for
                election
                to the board or for proposing matters that can be acted upon at a
                stockholders’ meeting;





·
            The
                ability to issue, without stockholder approval, up to 12,360,000
                additional shares of preferred stock with rights established by the
                board,
                which could be senior to the rights of holders of common stock;
                and


·
              The
                  right of the board to alter our bylaws without stockholder
                  approval.


20




We
      are
      subject to the provisions of Section 203 of the Delaware General Corporation
      Law. These provisions may prohibit large stockholders, in particular those
      owning 15% or more of our outstanding voting stock, from merging or combining
      with us. These restrictions in our certificate of incorporation, bylaws and
      under Delaware law could discourage potential takeover attempts and could reduce
      the price that investors might be willing to pay for shares of our common stock
      in the future and result in the market price being lower than they would without
      these provisions.





***The
      number of shares of common stock that are eligible for resale could depress
      our
      stock price.***





The
      substantial bulk of our issued and outstanding common shares and the common
      shares issuable upon the conversion of preferred stock and the exercise of
      warrants and options are either registered for resale under the Securities
      Act
      or eligible for resale under Rule 144. The potential sale of a significant
      number of our issued and outstanding shares may cause the market price of our
      common stock to decline, particularly if a large number of holders decide they
      want to sell at or about the same time.





***We
      have issued convertible securities, warrants and options that may significantly
      increase the number of common shares outstanding.***





At
      December 31, 2005, and assuming the surrender of the remaining 500,000 shares
      by
      the Mega-C Trust, we have 16,104,598 shares of common stock outstanding at.
      We
      have also issued:





·
            140,000
                shares of senior preferred stock that are convertible into 816,126
                shares
                of common stock;





·
            3,242,400
                warrants that entitle the holders to purchase common stock at prices
                that
                range from $2.00 to $6.00 per share and average $3.19 per share;





·
            255,885 vested
                stock options that entitle the holders to purchase common stock at
                prices
                that range from $2.00 to $5.00 per share and average $3.58 per share;
                and





·
            1,194,000
                unvested stock options that entitle the holders to purchase common
                stock
                at prices that range from $2.00 to $5.60 per share and average $
                3.02 per
                share.





If
      all
      holders of our vested options
      and warrantsimmediately exercised their conversion and stock purchase
      rights, we would receive $9,542,018
      in proceeds and have 19,602,883
      shares of common stock outstanding.





***We
      may issue stock to finance acquisitions.***





As
      a key
      component of our growth strategy, we intend to acquire complimentary
      technologies, facilities and other assets. Whenever possible, we will try to
      use
      our stock as an acquisition currency in order to conserve our available cash
      for
      operations. Future acquisitions may give rise to substantial charges for the
      impairment of goodwill and other intangible assets that would materially and
      adversely affect our reported operating results. Any future acquisitions will
      involve numerous business and financial risks, including:





·
            Difficulties
                in integrating new operations, technologies, products and
                staff;





·
            Diversion
                of management attention from other business concerns;
                and





·
            Cost
                and availability of acquisition financing.





We
      will
      need to be able to successfully integrate any businesses we may acquire in
      the
      future, and the failure to do so could have a material adverse effect on our
      business, results of operations and financial condition.





21





***We
      have provided and intend to continue offering compensation packages to our
      management and employees that emphasize equity-based
      compensation.***





As
      a key
      component of our growth strategy, we have provided and intend to continue
      offering compensation packages to our management and employees that emphasize
      equity-based compensation. In particular, as of December 31, 2005:





·
            Our
                incentive stock plan authorizes incentive awards for up to 2,000,000
                shares;





·
            Our
                independent directors’ stock option plan authorizes options for up to
                500,000 shares;





·
            We
                have outstanding contractual options for 710,000 shares that are
                held by
                executive officers; and





·
            We
                have outstanding contractual options for 39,900 shares that are held
                by
                attorneys and consultants.





We
      believe our equity compensation policies will allow us to provide substantial
      incentives while minimizing our cash outflow. Nevertheless, we will be required
      to account for the fair market value of equity compensation awards as operating
      expenses. As our business matures and expands, we expect to incur increasing
      amounts of non-cash compensation expense, which may materially and adversely
      affect our future operating results.





***Because
      of factors unique to us, the market price of our common stock is likely to
      be
      volatile.***





Daily
      trading in our common stock commenced in January 2004. Because of the manner
      in
      which we became a public company; the relatively small number of shares
      currently available for resale; the large number of shares that we have
      registered on behalf of selling stockholder; the early stage of our business
      and
      numerous other factors, the trading price of our common stock is likely to
      be
      highly volatile. In addition, actual or anticipated variations in our quarterly
      operating results; the introduction of new products by competitors; changes
      in
      competitive conditions or trends in the battery industry; changes in
      governmental regulation and changes in securities analysts' estimates of our
      future performance or that of our competitors or our industry in general, could
      adversely affect our future stock price. Investors should not purchase our
      shares if they are unable to suffer a complete loss of their
      investment.





***Our
      current “bid” and “asked” prices may not stabilize at current
      levels.***





During
      our first year of operations, our stock was quoted on the OTC Pink Sheets.
      While
      our stock has been quoted on the OTC Bulletin Board since January 2005, trading
      has been sporadic, trading volumes have been low and the market price has been
      volatile. On April 13, 2006, the bid and ask prices for our common stock were
      $2.55 and $2.75 per share, respectively. The current quotations are not
      necessarily a reliable indicator of value and there is no assurance that the
      market price of our stock will stabilize at or near current levels.





***We
      may not qualify for an Amex listing.***





We
      filed
      an application to list our common stock on the American Stock Exchange
      (“ **Amex** ”)
      in May
      2004. Due primarily to the risks associated with pending litigation and our
      complex business and financial history, our Amex listing application has been
      held in abeyance for over 18 months. In general, the Amex requires $4 million
      in
      stockholders’ equity; 400 public stockholders; 1 million publicly held shares; a
      market price of $3 per share; a market capitalization of $50 million; a market
      value of $15 million for shares in the public float; and the implementation
      of
      certain corporate governance standards. While we presently satisfy all of the
      qualitative and corporate governance standards established by the Amex, the
      Amex
      retains substantial discretion in matters relating to listing applications
      and
      they may conclude our litigation is not sufficiently resolved or our business
      is
      not sufficiently developed to qualify for a listing. Until our common stock
      is
      approved for listing on the Amex, the only available market will be the OTC
      Bulletin Board.




22


***Our
      common stock is subject to the SEC’s “penny stock”
rules.***





SEC
      rule
      3a51-1 defines a “penny stock” as any equity security that is not listed on a
      national securities exchange or the Nasdaq system and has a bid price of less
      than $5 per share. We are presently subject to the penny stock rules. Our market
      price has been highly volatile since January 2004 and there is no assurance
      that
      the penny stock rules will not continue to apply to our shares for an indefinite
      period of time. Before effecting a transaction that is subject to the penny
      stock rules, a broker-dealer must make a decision respecting the suitability
      of
      the purchaser; deliver certain disclosure materials to the purchaser and receive
      the purchaser's written approval of the transaction. Because of these
      restrictions, most broker-dealers refrain from effecting transactions in penny
      stocks and many actively discourage their clients from purchasing penny stocks.
      Therefore, both the ability of broker-dealers to recommend our common stock
      and
      the ability of our stockholders to sell their shares in the secondary market
      could be adversely affected by the penny stock rules.




**ITEM
      5. — MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER
      MATTERS**





**Market
      information**





During
      the year ended December 31, 2004, our stock was quoted on the OTC Pink Sheets.
      While our stock has been quoted on the OTC Bulletin Board since January 2005
      (Symbol: AXPW.OB), trading has been sporadic, trading volumes have been low
      and
      the market price has been volatile.





The
      following table shows the range of high and low bid prices for our common stock
      as reported by the OTC Pink Sheets and the OTC Bulletin Board for each quarter
      since the date of the business combination. The quotations reflect inter-dealer
      prices, without retail markup, markdown or commission and may not represent
      actual transactions.




**Period**
            
            **High**
            
            **Low**First
                Quarter 2004
            
            $
            7.20
            
            $
            1.28Second
                Quarter 2004
            
            $
            7.20
            
            $
            3.84Third
                Quarter 2004
            
            $
            7.00
            
            $
            4.00Fourth
                Quarter 2004
            
            $
            4.50
            
            $
            2.95First
                Quarter 2005
            
            $
            4.25
            
            $
            2.58Second
                Quarter 2005
            
            $
            6.00
            
            $
            2.30Third
                Quarter 2005
            
            $
            5.25
            
            $
            3.25Fourth
                Quarter 2005
            
            $
            4.65
            
            $
            3.40First
                Quarter 2006
            
            $
            6.00
            
            $
            2.50





On
      April
      13, 2006, the bid and ask prices for our common stock as reported on the OTC
      Bulletin Board were $2.55 and $2.75 per share, respectively.




23





**Securities
      outstanding and holders**





At
      December 31, 2005, and assuming the surrender of the remaining 500,000 shares
      by
      the Mega-C Trust, the following equity securities and stock purchase rights
      were
      outstanding.





*Common
                stock*
            16,104,598
                shares, including 6,327,500 shares held in by the Mega-C Trust;*Preferred
                stock*
            140,000
                shares presently convertible into 816,216 shares of common
                stock;*Warrants*
            3,242,400
                warrants exercisable at a weighted average price of $2.66 per share;*Stock
                options*
            1,449,885
                options, at a weighted average exercise price of $3.12 per share
                including
                255,885 vested options and 1,194,000 unvested
                options.





On
      March
      28, 2006, we had 397 record holders of common stock and 11 record holders of
      senior preferred stock. Approximately 2,196,500 shares are held in street name
      accounts by brokerage firms and other nominees for the benefit of approximately
      460 beneficial owners.





**Dividend
      Policy**





We
      have
      not paid and do not expect to pay dividends on our common stock. We are not
      obligated to pay cash dividends on our senior preferred stock in any quarter
      where we report a net loss for the quarter or the year-to-date then ended.
      Any
      future decision to pay dividends on our common stock and senior preferred stock
      will be at the discretion of our board and will depend upon, among other
      factors, our results of operations, financial condition, capital requirements
      and contractual restrictions.





**Information
      respecting equity compensation plans**





Summary
      Equity Compensation Plan Information The
      following table provides summary information on our equity compensation plans
      of
      December 31, 2005.


**Plan
                  category**
              
              **Number
                  of shares issuable on exercise of outstanding
                  options, warrants and rights**
              
              **Weighted average
                  exercise price of outstanding options,
                  warrants and rights**
              
              **Number
                  of**
                **shares**
                **available****for**
                **future**
                **issuance**
                **under equity
                  compensation**
                **plans****Equity compensation plans
                  approved by stockholders**2004
                  Incentive Stock Plan
              
              
              629,950
              
              $
              2.58
              
              
              1,151,0502004
                  Directors' Option Plan
              
              
              80,035
              
              $
              3.45
              
              
              390,400**Equity
                  compensation plans not approved by stockholders**Contract
                  options held by officers
              
              
              710,000
              
              $
              3.62Contract
                  options held by
                attorneys
                  and consultants
              
              
              29,900
              
              $
              3.02**Total
                  equity awards**
              
              
              1,449,885
              
              $
              3.15
              
              
              1,541,450




24





*Plans
      Approved by Stockholders* Our
      stockholders have adopted an incentive stock plan for the benefit of our
      employees, consultants and advisors. Under the terms of the plan, we are
      authorized to grant incentive awards for up to 2,000,000 shares of common stock.
      The incentive stock plan authorizes a variety of awards including incentive
      stock options, non-qualified stock options, shares of restricted stock, shares
      of phantom stock and stock bonuses. In addition, the plan authorizes the payment
      of cash bonuses when a participant is required to recognize income for federal
      income tax purposes because of the vesting of shares of restricted stock or
      the
      grant of a stock bonus.





Our
      stockholders have adopted an outside directors' stock option plan for the
      benefit of our non-employee directors in order to encourage their continued
      service as directors. Under the terms of the plan, we are authorized to grant
      incentive awards for up to 500,000 shares of common stock. Each eligible
      director who is appointed to fill a vacancy on the Board or elected to serve
      as
      a member of the Board may participate in the plan. Each eligible director will
      automatically be granted an option to purchase the maximum number of shares
      having an aggregate fair market value on the date of grant of twenty thousand
      dollars ($20,000) for each year of his term in office. In each case, the option
      exercise price will be the fair market value of the stock on the date of
      grant.





*Plans
      Not Approved by Stockholders* During
      our first two years of operations, we issued 1,079,200 stock options and
      warrants to officers, attorneys and consultants in connection with respective
      employment agreements. In January 2006, we issued 910,000 additional stock
      purchase options to officers and attorneys. The following paragraphs summarize
      these contractual stock options.





In
      January 2004, members of the law firm of Petersen & Fefer were granted
      contractual warrants to purchase 189,300 shares of our common stock at a price
      of $2.00 per share as partial compensation for services rendered. In August
      2004, the exercise price of the warrants was reduced to $1.00 per share for
      their remaining term. In March 2005, members of the law firm of Petersen &
Fefer were granted contractual warrants to purchase 140,000 shares of our common
      stock at a price of $1.00 per share as partial compensation for services
      rendered. The warrants were exercised in the fourth quarter of 2005





In
      February 2004 Canadian Consultants Bureau Ltd., an advisor to our board, was
      granted a contractual option to purchase 6,300 shares of our common stock at
      a
      price of $3.20 per share as partial compensation for services. In June 2005,
      Canadian Consultants Bureau was granted similar option to purchase 3,600 shares
      of our common stock at a price of $5.60 per share. The options are fully vested
      and may be exercised at any time during the four-year period commencing one
      year
      after the date of grant.





In
      July
      2004, our president and chief operating officer Charles Mazzacato was granted
      a
      contractual option to purchase 240,000 shares of our common stock at a price
      of
      $4.00 per share. This option will vest at the rate of 60,000 shares per year
      commencing July 31, 2005 and be exercisable for five years after each vesting
      date.





In
      July
      2004, our chief financial officer Peter Roston was granted a contractual option
      to purchase 200,000 shares of our common stock at a price of $4.00 per share.
      This option will vest at the rate of 50,000 shares per year commencing July
      31,
      2005 and be exercisable for five years after each vesting date.




25





In
      April
      2005, our chief executive officer Thomas Granville was granted a contractual
      option to purchase 180,000 shares of our common stock at a price of $2.50 per
      share. This option will vest at the rate of 7,500 shares per month commencing
      May 1, 2005 and be exercisable for five years after each vesting
      date.





In
      April
      2005, our European financial advisor Auric Trading Ltd. was granted a
      contractual option to purchase 30,000 shares of our common stock at a price
      of
      $2.50 per share. This option vested at the rate of 2,500 shares per month from
      May through December 2005, when the unvested option was terminated. The options
      are exercisable for two years after each vesting date.





In
      September 2005, our chief of research and development Edward Buiel was granted
      a
      contractual option to purchase 90,000 shares of our common stock at a price
      of
      $4.00 per share. This option will vest at the rate of 2,500 shares per month
      commencing October 2005 and be exercisable for five years after each vesting
      date.





In
      January 2006, our chief executive officer Thomas Granville was granted a
      contractual option to purchase 500,000 shares of our common stock at a price
      of
      $6.00 per share. A total of 300,000 options vested immediately as a bonus for
      services performed during 2005 and the balance will vest, subject to the
      attainment of certain specified objectives, over the next 12 months. The options
      will be exercisable for a period of three years from the issue
      date.





In
      January 2006, members of the law firm of Petersen & Fefer were granted a
      contractual option to purchase 360,000 shares of our common stock at a price
      of
      $6.00 per share. A total of 240,000 options vested immediately as a bonus for
      services performed during 2005 and the balance will vest at the rate of 10,000
      shares per month during the year ended December 31, 2006. The options will
      be
      exercisable for a period of three years from the issue date.





In
      January 2006, our chief of research and development Edward Buiel was granted
      a
      contractual option to purchase 35,000 shares of our common stock at a price
      of
      $6.00 per share. A total of 10,000 options vested immediately as a bonus for
      services performed during 2005 and the balance will vest, subject to the
      attainment of certain specified objectives, over the next 12 months. The options
      will be exercisable for a period of three years from the issue
      date.





In
      January 2006, our bankruptcy counsel Cecilia Rosenauer was granted a contractual
      option to purchase 15,000 shares of our common stock at a price of $6.00 per
      share. The options will vest on the effective date of Mega-C’s Chapter 11 plan
      of reorganization and be exercisable for a period of three years from the issue
      date.




**Sales
      of Unregistered Securities**





***2003
      Private Placements*** APC was
      incorporated in September 2003. Between the date of its incorporation and
      December 31, 2003, APC received $1.9 million in capital from sale of convertible
      notes payable that were converted into common stock before December 31, 2003.





***Reverse
      Takeover*** Tamboril
      had 1,875,000 shares of common stock outstanding on December 31, 2003,
      immediately prior to the first closing of the APC and C&T transactions. In
      connection with those transactions:





·
            We
                settled $484,123 in accrued compensation and other related party
                debt that
                we owed to two of our principal stockholders by issuing 233,400
                warrants.


·
            APC’s
                founders and noteholders transferred their rights to 4,040,000 shares
                and
                $1,900,000 in convertible notes to us for 10,739,500 shares of common
                stock and 608,600 warrants and concurrently agreed to deposit 7,327,500
                of
                their common shares in the Mega-C
                Trust;


·
            C&T
                bought 1,250,000 shares of our outstanding common stock from two
                of our
                principal stockholders for $200,000 and then distributed those shares
                to
                its stockholders;


·
            C&T
                agreed to transfer all of its right, title and interest in the
                e3Supercell
                technology to our company in exchange for 1,562,900 warrants and
                then
                distributed those warrants to its
                stockholders;




26




·
            We
                granted a two-year option to purchase 189,300 shares of common stock
                to
                our securities counsel and interim chief financial officer as partial
                compensation for post-transaction
                services.





***2004
      Private Placements*** During
      the year ended December 31, 2004, we sold 463,100 units, each consisting of
      one
      share of common stock and one warrant, together with 360,700 shares of common
      stock, for net cash proceeds of $1,607,134. We also received $868,020 in net
      cash proceeds from the exercise of 475,200 outstanding common stock purchase
      warrants.





***Augmentation
      of Mega-C Trust*** In
      February 2005, we issued 500,000 shares of our common stock to the Mega-C Trust.
      For accounting and financial reporting purposes, the stock issuance transaction
      was valued at $1,525,000, or $3.05 per share. Of this amount, $1 million was
      charged to expense in the first quarter of 2005 and the balance constitutes
      a
      fourth quarter adjustment. After giving effect to the augmentation, the Mega-C
      Trust owned 7,827,500 shares, or approximately 44.5% of our common stock
      outstanding on December 31, 2005.





***2005
      Private Placements*** During
      the year ended December 31, 2005:




·
              The
                  Company sold 285,000 shares of preferred stock for cash at a price
                  of $10
                  per share and issued 511,000 common stock purchase warrants exercisable
                  at
                  $2.00 to the purchasers of the preferred stock. After deducting
                  offering
                  expenses, the net proceeds of the preferred stock offering were
                  $2,754,110. We also issued 100,000 shares of preferred stock in
                  settlement
                  of a $1 million obligation to C&T. During the year ended December 31,
                  2005, an aggregate of 245,000 shares of preferred stock were converted
                  into 1,470,000 shares of common
                  stock.


·
              The
                  Company sold 600,000 units, each consisting of one share of common
                  stock
                  and a two-year warrant exercisable at $4.00 for a purchase price
                  $2.00 per
                  unit. After deducting offering expenses, the net proceeds of the
                  unit
                  offering were $1,171,310.
  ·
              A
                  director exercised 446,000 - $1warrants/options and 25,000 - $2
                  options
                  with a total exercise price of $496,000. The stock was issued and
                  included
                  in stock subscriptions receivable as of December 31, 2005. As of
                  June 19,
                  2006, the full amount has been settled.
  ·
              Other
                  holders exercised 382,665 options & warrants with an aggregate
                  exercise price of $787,395.




In
      addition to the completed financing transactions, we have agreed to sell 1
      million shares of common stock to a foreign partnership at a price of $2.50
      per
      share as part of a group of comparable transactions where the purchaser planned
      to contribute a portfolio of small public company securities to a pair of
      offshore funds in exchange for fund units, and then use the fund units as
      security for bank financing that would be used to pay for the underlying
      securities. Contrary to the terms and conditions of our agreement, the foreign
      partnership is in possession of a stock certificate representing these 1 million
      shares; however, completion of the transaction is contingent upon receipt of
      the
      proceeds from the foreign partnership, which have not, as of yet, been
      received.  As such, the one million shares have not been duly issued and
      have been excluded from all calculations of the issued and outstanding shares
      of
      our common stock in this annual report.  We have instituted a lawsuit in an
      effort to collect the agreed upon purchase price; however, we can offer no
      assurance that this endeavor will be successful.  Should we receive payment
      for this stock, the holders of our common stock will be diluted by the issuance
      of these additional shares.  In the event we never receive this payment, a
      certificate for these unissued shares may be beyond our control to cancel.
      There
      has been no accounting recognition of these events in the financial
      statements.




In
      connection with this offering, four holders of warrants to purchase our common
      stock agreed to exercise their warrants to purchase, in the aggregate, 301,700
      shares of our common stock for the purpose of selling them to the foreign
      partnership in a transaction that was substantially similar to the one we
      entered into with the same foreign partnership. 
      These shares were to be issued to the foreign partnership upon our receipt
      of
      payment, which was in turn contingent upon the foreign partnership tendering
      the
      payment of the purchase price for these shares.  Contrary to the terms and
      conditions of their agreements, the foreign partnership is in possession
      of stock certificates representing these shares  without tendering the
      purchase price to either us or to the warrantholders.  As such, the 301,700
      shares have not been duly issued and have been excluded from all calculations
      of
      the issued and outstanding shares of our common stock in this annual
      report.    We have included these 301,700 shares as outstanding
      warrants, pending receipt of the exercise price.  There has been no
      accounting recognition of these events in the financial statements.


The
        foreign partnership has wrongful possession of certificates which on their
        face
        represent 1,301,700 shares, and they have refused our request for their return
        if payment was not tendered. As such, we have no control over these
        certificates, and can offer no assurances that these certificates will not
        be,
        or have not already been, transferred to innocent third party purchasers
        who may
        not have knowledge that the shares represented by these certificates are
        unissued and unpaid for. There is the possibility that such an innocent
        transferee could present one of these certificates for subsequent transfer
        at
        some time in the future, even though those shares remain
        unissued.




27




Our
      private placement transactions were all exempt under Section 4(2) of the
      Securities Act. Our securities were issued to a limited number of purchasers,
      all of whom are accredited investors. Each purchaser was provided with
      information analogous to the information that would have been required in a
      registration statement under the Securities Act. We did not use any form of
      advertising or general solicitation in connection with the sale of these
      securities. The securities are non-transferable in the absence of an effective
      registration statement under the Act, or an available exemption and all
      certificates are imprinted with a restrictive legend to that
      effect.





**ITEM
      6. — PLAN OF OPERATION**





*The
      following plan of operation should be read in conjunction with the financial
      statements and the notes to those statements included elsewhere in this report,
      with the original Annual Report on Form 10-KSB for the year ended December
      31,
      2005 and our periodic filings made with the SEC subsequent to the date of the
      filing of that original Annual Report, including any amendments to those
      filings, as well as any Current Reports filed on Form 8-K subsequent to the
      date
      of the filing of the original Annual Report on Form 10-KSB. The statements
      in
      this Plan of Operation should be read to have been made as of the Original
      Filing Date. This discussion contains forward-looking statements that involve
      risks and uncertainties. Please see “Risk Factors” and “Cautionary Note
      Regarding Forward-Looking Information” elsewhere in this
      report.*





**Restatement**




In
      this
      Amended Annual Report on Form 10-KSB/A for the period ended December 31, 2005
      we
      have:





·
            Restated
                our audited consolidated financial statements for the period from
                September 18, 2003 (inception) through December 31, 2003 and the
                years
                ended December 31, 2004 and 2005as
                well as the cumulative since inception presentationas
                previously summarized in our Current Report on Form 8-K dated June
                12,
                2007;  ·
            In certain places in the narrative, we excluded
              1,301,700
              (the "Excluded Shares") from our calculation of issued and outstanding
              common stock as such shares were to be issued to a foreign partnership,
              comprising 1,000,000 shares to be issued directly from Axion and 301,700
              shares to be issued upon the exercise of warrants held by four
              individuals, as the foreign partnership had not, as of December 31,
              2005,
              delivered the purchase price for these shares - see corrected disclosure
              of these events in:  "Description of Business-Risk Factors-Over One
              million shares of our common stock were never paid for by the purchaser,
              and the stock certificates for these unissued shares is in the possession
              of this third party;" “Description of Business - Risk Factors -- We have
              issued convertible securities, warrants and options that may significantly
              increase the number of common shares outstanding.“Description of Business
              - Risk Factors - Our directors and officers will have significant
              influence over the outcome of any stockholder vote,” "Item 5 --Market for
              Common Equity and Related Stockholder Matters;" and "Item 11 - Security
              Ownership of Certain Beneficial Owners and Management and Related
              StockholderMatters."




·
            Corrected
                certain historical financial disclosures in the Description of Business
                section of this report to reflect the changes resulting from the
                restatement;





·
            Corrected
                certain historical financial disclosures in “Item 5 - Market for Common
                Equity and Related Stockholder Matters” to reflect changes to the “Sale of
                Unregistered Securities” disclosures resulting from the financial
                statement restatements, as well as reflect the impact of the Excluded
                Shares in the disclosure of “Securities Outstanding and
                Holders”.




28




·
            Restated
                this Plan of Operation to reflect changes resulting from the restatement
                of the financial statements and to more closely adhere to the requirements
                of Item 303 of Regulation S-B, which do not require a discussion
                and
                analysis of financial condition and results of operations due to
                our
                company’s historical lack of revenue;
                and





·
            Restated
                our Evaluation of Disclosure Controls and Procedures to report the
                underlying deficiencies that resulted in restatement of our financial
                statements.





·
            Corrected
                the presentation in “Item 11 - Security Ownership of Certain Beneficial
                Owners and Management and Related Stockholder Matters” to reflect the
                impact of the Exclusion Shares on beneficial ownership of our directors,
                officers and greater than 5%
                stockholders.




As
      more
      fully described in Notes 4, 5, and 6 to the restated audited consolidated
      financial statements included in this report, we have restated our consolidated
      financial statements to:





·
            Fully
                impair certain notes receivable from Mega-C Power Corporation;





·
            Write-off
                certain amounts previously reflected as intangible assets as in-process
                research and development expense;





·
            Fully
                impair certain patent costs previously
                capitalized;





·
            Properly
                account for certain options that were issued in connection with our
                financing and other business
                arrangements;





·
            Record
                expense for certain compensatory issuances of shares;
                and





·
            Correct
                certain errors and make certain reclassifications that were identified
                during the course of the restatement and re-audit of our financial
                statements for the partial fiscal year from September 18, 2003 (inception)
                to December 31, 2003 and the years ended December 31, 2004 and 2005,
                as
                more fully described in Notes 4, 5, and 6.





**This
      restated Plan of Operation speaks as of the date the original Annual Report
      on
      Form 10-KSB was filed. It has been amended and restated solely to correct those
      disclosures that were affected by the restatement of the company’s financial
      statements and to eliminate the discussion and analysis of the company’s
      financial condition and results of operations, which are not required by Item
      303 of Regulation S-B and which, in the view of management, do not add
      significantly to investors’ understanding of our finances. You should not rely
      on any of the information contained in “Item 6. — Management’s Discussion and
      Analysis and Plan of Operation” in the original Annual Report on Form
      10-KSB.**





**Overview**





At
      December 31, 2005, we had cumulative net losses of ($13,075,780). After giving
      effect to the beneficial conversion features associated with our sale of
      preferred stock in the first quarter of 2005, the cumulative loss allocated
      to
      common shareholders was ($16,351,131). We had $940,647 in current assets and
      $1,026,561 in current liabilities at December 31, 2005, leaving a net working
      capital deficit of ($85,914). Since inception, we have financed our operations
      through private sales of equity securities. Even if a private placement pending
      for 2006 is successfully completed, our available and anticipated financial
      resources would not be sufficient to pay our anticipated operating expenses
      beyond August 2006. Accordingly, the independent auditors’ report on our
      financial statements for the year ended December 31, 2005 contains a fifth
      explanatory paragraph that our financial statements have been prepared assuming
      that our company will continue as a going concern and that our history of
      litigation, operating losses and working capital deficits raise substantial
      doubt about that assumption.




29


During
      the years ended December 31, 2004 and 2005, we devoted substantial time, effort
      and financial resources to litigation arising from the business failure of
      Mega-C and our efforts to continue the development of the e 3 Supercell technology. Over the course of the litigation, it has become apparent
      that our principal opposition has come from promoters of Mega-C who were at
      least partially responsible for that company’s failure and want to advance their
      personal interests regardless of the cost to others.





On
      December 12, 2005, we entered into a settlement agreement that will resolve
      all
      pending and potential claims of Mega-C and the Chapter 11 Trustee, including
      derivative claims of Mega-C’s shareholders. Nevertheless, the settlement as
      implemented by the Plan may not resolve certain lawsuits that were filed by
      Mega-C’s promoters who have argued that our founder’s involvement in Mega-C’s
      affairs and our purchase of the e 3 Supercell technology damaged their interests. We believe the claims of Mega-C’s
      promoters are without merit and we have not accrued a loss contingency in our
      financial statements.





We
      expect
      our litigation costs to decline significantly over the next 12 months. We also
      believe that a successful mitigation of the litigation risks that have clouded
      our future for the last two years will facilitate our efforts to obtain needed
      operating capital. We can provide no guarantees that all of the litigation
      that
      lies before us will be resolved to our satisfaction.





**Plan
      of Operation**





*Financing
      activities* .
      We
      expect that we will need significant additional capital to pay our day-to-day
      operating costs, finance our research and development, cover costs associated
      with our manufacturing activities, pay for the development of a sales and
      marketing organization and finance the acquisition of complimentary assets,
      technologies and businesses. We intend to pursue financing as opportunities
      arise and are presently seeking capital; however, long-term capital requirements
      are difficult to plan for companies that are developing new products.
      Accordingly, we are engaged in negotiations with an NASD member broker/dealer
      that proposes to raise additional operating capital for us on a best efforts
      basis. We cannot assure you that adequate capital will be available to us on
      favorable terms, or at all. If we are unable to obtain additional capital when
      needed, our research, development, manufacturing and testing activities will
      be
      materially and adversely affected, and we may be unable to take advantage of
      future opportunities or respond to competitive pressures. Any inability to
      raise
      capital when we require it would seriously harm our business.





*Operating
      activities* .
      Our
      current cash outlays average approximately $500,000 per month. In connection
      with the transition from research to manufacturing, we plan to reduce the size
      of our scientific and technical staff and increase the size of our manufacturing
      staff. We do not anticipate that the total number of our employees will change
      significantly. Over the next several months, we intend to reduce spending on
      research and development and transfer a significant portion of our operations
      from our research facility in Ontario to our recently acquired production
      facility in Pennsylvania. While operations are likely continue in both locations
      for an indeterminate period of time, we believe the proposed changes will reduce
      our monthly overhead and streamline future operations. We will likely continue
      to spend at least $900,000 over the next twelve months on research and
      development to improve our designs for the e 3 Supercell and to develop demonstration projects. With the purchase of the plant
      and equipment at our Pennsylvania facility for approximately $800,000, we do
      not
      anticipate purchasing additional plant or significant equipment over the next
      twelve months, although we do intend to spend up to an additional $250,000
      on
      capital expenditures to modify some of the equipment at that facility to produce
      the e 3 Supercells. We also believe our litigation costs are likely to decline
      significantly over the next 12 months.





We
      began
      production of specialty lead-acid batteries during the first quarter of 2006.
      We
      shipped our first products to customers during the month of March and expect
      to
      report modest operating revenue for the period ended March 31, 2006. We believe
      sales of specialty lead acid batteries are likely to generate from $1.5 to
      $2
      million of sales revenue during the 2006 fiscal year.





We
      intend
      to begin production of commercial prototype e 3 Supercells during the second quarter of 2006. Our initial production runs will
      be used exclusively for characterization and performance testing and we do
      not
      expect to generate revenue from sales of commercial prototype e 3 Supercells until the third quarter of 2006. We have signed non-binding letters
      of intent for a series of alternative energy demonstration projects with
      distributors of wind energy equipment and anticipate sales revenues of $50,000
      to $75,000 per project.




30





While
      we
      believe our future revenue from the sale of specialty lead-acid batteries and
      commercial prototype e 3 Supercells will be sufficient to offset our anticipated manufacturing costs
      and
      make a modest contribution to overhead, the amount and timing of our anticipated
      revenues are uncertain. We expect our quarterly losses to increase during the
      first half of 2006 and then decline during the second half of 2006 as gross
      profits from product sales become available to offset a portion of our general
      and administrative cost. Our future revenues, expenses and operating results
      are
      inherently difficult to predict and likely to fluctuate significantly from
      quarter to quarter. The bulk of our planned operating expenses will be fixed
      over the short term. If revenue does not increase at the rates we presently
      anticipate, we will be unable to proportionately reduce our operating expenses,
      which would harm our operating results. If we fail to meet investor
      expectations, our stock price could decline and the declines could be
      dramatic.





Our
      current manufacturing and product demonstration plans have been formulated
      with
      the strategic goal of generating sufficient profit from battery sales and
      demonstration projects to bring us to the break even point in late 2006 or
      early
      2007. We do not know if our demonstration projects will be successful, but
      if
      they are, rapid growth is likely to place a significant strain on our
      managerial, operational and financial resources. In that event, our plans to
      reach break even in the short-term may be unattainable. To achieve profitability
      we will need to develop and introduce commercial e 3 Supercells that can be profitably manufactured by our company or other battery
      producers. We will then need to generate and sustain substantial revenue from
      the sale of our proposed products while maintaining reasonable expense levels.
      We must manage our growth, if any, through appropriate systems and controls.
      If
      we do not manage the growth of our business effectively, our future operating
      results will be materially and adversely affected.





**Off-balance
      sheet arrangements**





We
      do not
      have any off-balance sheet arrangements that have, or are reasonably likely
      to
      have, an effect on our financial condition, financial statements, revenues
      or
      expenses.





31




**ITEM
      7.**  **FINANCIAL
      STATEMENTS.**


The
            following financial statements are included in this Amended Annual Report
            on
            Form 10-KSB/A:
 **Audited
                      Financial Statements:**
                  
                  **Page**Report
                      of Freed Maxick & Battaglia, CPAs, PC on financial statements for the
                      periods ended December, 31, 2005, 2004 and 2003, in the cumulative
                      development stage period from inception (September 18, 2003A)
                      throught
                      December 31, 2005
                  
                  33Consolidated
                      Balance Sheet as of December 31, 2005, 2004 and 2003
                  
                  34Consolidated
                      Statement of Operations for the periods endedDecember
                      31, 2005 and 2004, and the period from Inception through December
                      31,
                      2005
                  
                  35Consolidated
                      Statement of Cash Flows for the periods endedDecember
                      31, 2005 and 2004, and 2003 and the period from Inception through
                      December
                      31, 2005
                  
                  36Consolidated
                      Statement of Changes in Stockholders’ Equity for the periods ended
                      December 31, 2005, 2004 and 2003
                  
                  37Footnotes
                      to the Financial StatementsNote
                      1 Organization and Operations
                  
                  38Note
                      2 Continued Operations
                  
                  38Note
                      3 Critical Accounting Policies
                  
                  39Note
                      4 Restatement of 2003 Financial Statements
                  
                  44Note
                      5 Restatement of 2004 Financial Statements
                  
                  47Note
                      6 Restatement of 2005 Financial Statements
                  
                  50Note
                      7 Mega-C Trust
                  
                  52Note
                      8 Notes Receivable
                  
                  53Note
                      9 Property and Equipment
                  
                  54Note
                      10 Transactions with a Related Party (C&T)
                  
                  54Note
                      11 Convertible Debt
                  
                  56Note
                      12 Note Payable to Related Party
                  
                  57Note
                      13 Stockholder's Equity
                  
                  57Note
                      14 Equity Compensation
                  
                  64Note
                      15 Income Taxes
                  
                  65Note
                      16 Related Parties
                  
                  69Note
                      17 Non-cash Transactions
                  
                  70Note
                      18 Commitments and Contingencies
                  
                  71Note
                      19 Subsequent Events
                  
                  73
  32
 **REPORT
          OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**
 
 Board
          of
          Directors and Stockholders
 Axion
          Power International, Inc.
 
 We
          have
          audited the accompanying consolidated balance sheets of Axion Power
          International, Inc. as of December 31, 2005, 2004 and 2003, and the related
          consolidated statements of operations, stockholders' equity, and cash flows
          for
          each of the periods then ended and for the cumulative development stage
          period
          from inception (September 18, 2003) through December 31, 2005. 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 audits to obtain reasonable assurance about whether the
          financial statements are free of material misstatement. The Company is
          not
          required to have, nor were we engaged to perform, an audit of its internal
          control over financial reporting. Our audits included consideration of
          internal
          control over financial reporting as a basis for designing audit procedures
          that
          are appropriate in the circumstances, but not for the purpose of expressing
          an
          opinion on the effectiveness of the Company’s internal control over financial
          reporting. Accordingly, we express no such opinion. 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
          report dated April 17, 2006, we expressed an unqualified opinion on the
          consolidated financial statements Axion Power International, Inc. as of
          and for
          the year ended December 31, 2005. Another auditor previously expressed
          an
          unqualified opinion on the consolidated financial statements as of and
          for the
          periods ended December 31, 2004 and 2003, dated March 28, 2005 and March
          18,
          2004, respectively. As described in Notes 4, 5, and 6 to the financial
          statements, the Company has restated its 2005, 2004 and 2003 financial
          statements to conform with accounting principles generally accepted in
          the
          United States of America. In connection with the restatements, we have
          re-audited the financial statements of the 2003 and 2004 periods, previously
          audited by another auditor, as well as the adjustments necessary to restate
          the
          2005 consolidated financial statements. Accordingly, our present opinion
          on the
          2005, 2004 and 2003 consolidated financial statements, as presented herein,
          has
          been updated to reflect the re-audit of these restatements.
 
 In
          our
          opinion, the consolidated financial statements referred to above, as restated,
          present fairly, in all material respects, the financial position of Axion
          Power
          International, Inc. as of December 31, 2005, 2004 and 2003, and the results
          of
          its operations, its cash flows and changes in stockholders' equity for
          the each
          of the periods then ended and for the cumulative development stage period
          from
          inception (September 18, 2003) through December 31, 2005 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. As discussed in Note 2 to
          the
          consolidated financial statements, the Company is a development stage Company
          with no revenues, recurring losses from operations and working capital
          deficits.
          As of December 31, 2005, the Company does not have readily available resources
          and operating cash flows are not adequate to fund operations. This raises
          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 2. The
          consolidated financial statements do not include any adjustments that might
          result from the outcome of this uncertainty.
 
 /s/
            FREED
            MAXICK & BATTAGLIA, CPAs, PC
 
 Buffalo,
          New York
 October
          1, 2007
  33
 
 Axion
          Power International, Inc.
 Consolidated
          Balance Sheets
 December
          31,
 (A
          Development Stage Company)
 
 (Restated)**2005**
                
                **2004**
                
                **2003***Assets*Current
                    AssetsCash
                    & cash equivalents
                
                $
                553,001
                
                $
                48,707
                
                $
                258,432Refundable
                    tax credits
                
                
                343,200
                
                
                166,003
                
                
                -Prepaid
                    expenses
                
                
                44,446
                
                
                12,213
                
                
                -Total
                    current assets
                
                
                940,647
                
                
                226,923
                
                
                258,432Property
                    & equipment, net
                
                
                264,942
                
                
                95,639
                
                
                -Total
                    Assets
                
                $
                1,205,589
                
                $
                322,562
                
                $
                258,432*Liabilities
                    & Stockholders' Equity*Current
                    Liabilities:Accounts
                    payable
                
                $
                538,119
                
                $
                342,886
                
                $
                25,876Accrued
                    expenses
                
                
                308,211
                
                
                247,382
                
                
                153,826Amounts
                    payable to related party (C&T)
                
                
                -
                
                
                1,101,403
                
                
                2,008,549Convertible
                    debt
                
                
                -
                
                
                -
                
                
                50,017Note
                    payable to related party
                
                
                180,231
                
                
                -
                
                
                -Total
                    current liabilities
                
                
                1,026,561
                
                
                1,691,671
                
                
                2,238,268Commitments
                    & Contingencies (Note 18)
                
                
                -
                
                
                -
                
                
                -Stockholdes'
                    Equity (Deficit):Convertible
                    Preferred stock-12,500,000 authorized-140,000 issued and
                    outstanding
                
                
                1,454,897
                
                
                -
                
                
                -Common
                    stock-50,000,000 authorized $0.0001 par value-16,604,598 shares
                    issued
                    & outstanding (12,961,933 and 10,660,818 in 2004 and 2003
                    respectively)
                
                
                1,660
                
                
                1,296
                
                
                1,067Additional
                    paid in capital
                
                
                15,950,173
                
                
                5,511,054
                
                
                1,522,674Subscriptions
                    receivable
                
                
                (721,000
                )
                
                -
                
                
                (350,000
                )Deficit
                    accumulated during development stage
                
                
                (16,351,130
                )
                
                (6,750,667
                )
                
                (3,097,030
                )Cumulative
                    foreign currency translation adjustment
                
                
                (155,572
                )
                
                (130,792
                )
                
                (56,547
                )Total
                    Stockholders' Equity (Deficit)
                
                
                179,028
                
                
                (1,369,109
                )
                
                (1,979,836
                )Total
                    Liabilities & Stockholders' Equity (Deficit)
                
                $
                1,205,589
                
                $
                322,562
                
                $
                258,432
 
 See
          Notes
          to Financial Statements
 
 34
 
 Axion
          Power International, Inc.
 Consolidated
          Statements of Operations
 Periods
          Ended December 31,
 (A
          Development Stage Company)
 
 
 (Restated)**2005**
                
                **2004**
                
                **2003**
                
                Inception
                  (9/18/2003)
                    to
                  12/31/05Revenues
                
                $
                -
                
                $
                -
                
                $
                -
                
                $
                -General
                    & administrative expenses
                
                
                4,485,175
                
                
                1,498,365
                
                
                201,034
                
                
                6,184,574Research
                    & development expenses
                
                
                1,633,595
                
                
                1,871,207
                
                
                2,328,580
                
                
                5,833,382Impairment
                    of assets
                
                
                379,755
                
                
                437,733
                
                
                567,416
                
                
                1,384,904Other
                
                
                (173,412
                )
                
                (153,668
                )
                
                -
                
                
                (327,080
                )Net
                    loss before income taxes
                
                
                (6,325,113
                )
                
                (3,653,637
                )
                
                (3,097,030
                )
                
                (13,075,780
                )Income
                    Taxes
                
                
                -
                
                
                -
                
                
                -
                
                
                -Deficit
                    accumulated during development stage
                
                
                (6,325,113
                )
                
                (3,653,637
                )
                
                (3,097,030
                )
                
                (13,075,780
                )Less
                    preferred dividends & beneficial conversion feature
                
                
                (3,275,351
                )
                
                -
                
                
                -
                
                
                (3,275,351
                )Net
                    loss applicable to common shareholders
                
                $
                (9,600,464
                )
                $
                (3,653,637
                )
                $
                (3,097,030
                )
                $
                (16,351,131
                )Basic
                    and diluted net loss per share
                
                $
                (0.67
                )
                $
                (0.30
                )
                $
                (0.91
                )
                $
                (1.36
                )Weighted
                    average common shares outstanding
                
                
                14,238,585
                
                
                12,175,489
                
                
                3,405,000
                
                
                11,984,524
 
 See
          Notes
          to Financial Statements
  35
 
 Axion
          Power International, Inc.
 Consolidated
          Statements of Cash Flows
 Periods Ended
          December 31,
 (A
          Development Stage Company)
 
 
 (Restated)**2005**
                
                
                **2004**
                
                
                **2003**
                
                
                Inception
                  (9/18/2003) to
                  12/31/05Cash
                    Flows from Operating Activities:Deficit
                    accumulated during development stage
                
                $
                (6,325,113
                )
                $
                (3,653,637
                )
                $
                (3,097,030
                )
                $
                (13,075,780
                )Adjustments
                    required to reconcile net loss to cash flows used by operating
                    activities:Depreciation
                
                
                58,157
                
                
                22,880
                
                
                -
                
                
                81,037Impairment
                      on assets
                
                
                379,755
                
                
                437,733
                
                
                567,416
                
                
                1,384,904Stock
                    issued for services
                
                
                2,172,430
                
                
                72,000
                
                
                48,952
                
                
                2,293,382Options
                    issued for services
                
                
                237,568
                
                
                427,584
                
                
                -
                
                
                665,152Amortization
                    of debt discount and accrued interest converted to stock
                
                
                -
                
                
                -
                
                
                24,788
                
                
                24,788Changes
                    in Operating Assets & LiabilitiesRefundable
                    tax credits
                
                
                (165,200
                )
                
                (153,668
                )
                
                -
                
                
                (318,868
                )Prepaid
                    expenses
                
                
                (30,753
                )
                
                (11,306
                )
                
                -
                
                
                (42,059
                )Accounts
                    payable
                
                
                176,821
                
                
                291,678
                
                
                25,367
                
                
                493,866Amounts
                    payable to related party (C&T)
                
                
                (100,000
                )
                
                (416,771
                )
                
                1,969,039
                
                
                1,452,268Accrued
                    expenses
                
                
                58,298
                
                
                92,745
                
                
                151,069
                
                
                302,112Net
                    cash used by operating activities
                
                
                (3,538,037
                )
                
                (2,890,762
                )
                
                (310,399
                )
                
                (6,739,198
                )Cash
                    Flows from Investing Activities:Purchase
                    of property & equipment
                
                
                (218,042
                )
                
                (111,412
                )
                
                -
                
                
                (329,454
                )Investment
                    in patents
                
                
                (51,399
                )
                
                (91,363
                )
                
                (25,126
                )
                
                (167,888
                )Investments
                    in notes receivable
                
                
                (328,356
                )
                
                (346,370
                )
                
                (542,290
                )
                
                (1,217,016
                )Net
                    cash used by investing activities
                
                
                (597,797
                )
                
                (549,145
                )
                
                (567,416
                )
                
                (1,714,358
                )Cash
                    Flows from Financing Activities:Proceeds
                    from convertible debt
                
                
                -
                
                
                400,000
                
                
                1,150,000
                
                
                1,550,000Proceeds
                    from related party debt-other
                
                
                173,510
                
                
                -
                
                
                -
                
                
                173,510Proceeds
                    from the exercise of warrants
                
                
                787,480
                
                
                868,020
                
                
                -
                
                
                1,655,500Proceeds
                    from sale of preferred stock; net of costs
                
                
                2,729,181
                
                
                -
                
                
                -
                
                
                2,729,181Collection
                    of subscriptions receivable
                
                
                -
                
                
                350,000
                
                
                -
                
                
                350,000Proceeds
                    from sale of common stock; net of costs
                
                
                971,371
                
                
                1,607,134
                
                
                -
                
                
                2,578,505Net
                    cash provided by financing activities
                
                
                4,661,542
                
                
                3,225,154
                
                
                1,150,000
                
                
                9,036,696Effect
                    of Exchange Rate on Cash
                
                
                (21,414
                )
                
                5,028
                
                
                (13,753
                )
                
                (30,139
                )Net
                    Change In Cash & Cash Equivalents
                
                
                504,294
                
                
                (209,725
                )
                
                258,432
                
                
                553,001Cash
                    and Cash Equivalents - Beginning of period
                
                
                48,707
                
                
                258,432
                
                
                -
                
                
                -Cash
                    and Cash Equivalents - Ending of period
                
                $
                553,001
                
                $
                48,707
                
                $
                258,432
                
                $
                553,001
 
 See
          Notes
          to Financial Statements
  36
 
 Axion
          Power International, Inc.
 Consolidated
          Statement of Stockholders' Equity (Deficit)
 Periods
          Ended December 31, 2003, 2004 and 2005
 (A
          Development Stage Company)
 
 Preferred
                
                CommonShares
                
                Amount
                
                Shares Issued and
                  Outstanding
                
                Common
                  Stock
                  Amount
                
                Additional
                  Paid-In
                  Capital
                
                Subscriptions
                  Receivable
                
                Deficit
                  Accumulated
                  During
                  Development Stage
                
                Other
                  Comprehensive
                  Income Cumulative
                  Translation
                  Adjustments
                
                Total
                  Stockholders'
                  Equity (Deficit)Inception
                    September 18, 2003
                
                
                -
                
                $
                -
                
                
                -
                
                $
                -
                
                $
                -
                
                $
                -
                
                $
                -
                
                $
                -
                
                $
                -Shares
                    issued to founders upon formation of Axion Power Corp
                
                
                
                
                
                
                
                
                1,360,000
                
                
                136
                
                
                (136
                )
                
                
                
                
                
                
                
                
                
                
                -Stock
                    based compensation
                
                
                
                
                
                
                
                
                170,000
                
                
                17
                
                
                48,936
                
                
                
                
                
                
                
                
                
                
                
                48,953Conversion
                    of debt to common stock
                
                
                
                
                
                
                
                
                1,108,335
                
                
                111
                
                
                1,449,889
                
                
                (350,000
                )
                
                
                
                
                
                
                
                1,100,000Discount
                    associated with warrants issued with convertible debt
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                86,402
                
                
                
                
                
                
                
                
                
                
                
                86,402Unamortized
                    discount at time of conversion on convertible debt
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (77,188
                )
                
                
                
                
                
                
                
                
                
                
                (77,188
                )Accrued
                    interest forgiven on related party convertible debt
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                15,574
                
                
                
                
                
                
                
                
                
                
                
                15,574Shared
                    issued during Recapitalization-
                    Shares issued to Mega-C trust
                
                
                
                
                
                
                
                
                6,147,483
                
                
                615
                
                
                (615
                )
                
                
                
                
                
                
                
                
                
                
                --
                    Equity acquired in recapitalization
                
                
                
                
                
                
                
                
                1,875,000
                
                
                188
                
                
                (188
                )
                
                
                
                
                
                
                
                
                
                
                -Net
                    Loss December 31, 2003
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (3,097,030
                )
                
                
                
                
                (3,097,030
                )Other
                    Comprehensive income (loss):Foreign
                    Currency Translation Adjustment
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (56,547
                )
                
                (56,547
                )Comprehensive
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (3,153,577
                )Balance
                    at December 31, 2003
                
                
                -
                
                
                -
                
                
                10,660,818
                
                
                1,067
                
                
                1,522,674
                
                
                (350,000
                )
                
                (3,097,030
                )
                
                (56,547
                )
                
                (1,979,836
                )Adjustment
                    to original shares issued to founders
                
                
                
                
                
                
                
                
                445,000
                
                
                45
                
                
                (45
                )
                
                
                
                
                
                
                
                
                
                
                -Adjustment
                    to original shares issued to Mega-C trust
                
                
                
                
                
                
                
                
                180,000
                
                
                18
                
                
                (18
                )
                
                
                
                
                
                
                
                
                
                
                -Conversion
                    of debt to common stock
                
                
                
                
                
                
                
                
                283,333
                
                
                28
                
                
                451,813
                
                
                350,000
                
                
                
                
                
                
                
                
                801,841Issuance
                    of warrants in consideration for acquired in-process research
&
                    development
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                563,872
                
                
                
                
                
                
                
                
                
                
                
                563,872Common
                    stock offering - net of cost
                
                
                
                
                
                
                
                
                823,800
                
                
                81
                
                
                1,607,053
                
                
                
                
                
                
                
                
                
                
                
                1,607,134Proceeds
                    from exercise of warrants
                
                
                
                
                
                
                
                
                475,200
                
                
                48
                
                
                867,972
                
                
                
                
                
                
                
                
                
                
                
                868,020Liability
                    satisfied as partial prepayment on options
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                306,000
                
                
                
                
                
                
                
                
                
                
                
                306,000Stock
                    based compensation
                
                
                
                
                
                
                
                
                45,000
                
                
                4
                
                
                191,738
                
                
                
                
                
                
                
                
                
                
                
                191,742Fractional
                    Shares Issued Upon Reverse Spilt
                
                
                
                
                
                
                
                
                48,782
                
                
                5
                
                
                (5
                )
                
                
                
                
                
                
                
                
                
                
                -Net
                    Loss December 31, 2004
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (3,653,637
                )
                
                
                
                
                (3,653,637
                )Other
                    Comprehensive income (loss):Foreign
                    Currency Translation Adjustment
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (74,245
                )
                
                (74,245
                )Comprehensive
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (3,727,882
                )Balance
                    at December 31, 2004
                
                
                -
                
                
                -
                
                
                12,961,933
                
                
                1,296
                
                
                5,511,054
                
                
                -
                
                
                (6,750,667
                )
                
                (130,792
                )
                
                (1,369,109
                )Proceeds
                    From Exercise of Warrants & Options
                
                
                
                
                
                
                
                
                853,665
                
                
                85
                
                
                1,283,395
                
                
                (496,000
                )
                
                
                
                
                
                
                
                787,480Common
                    Stock Offering Proceeds
                
                
                
                
                
                
                
                
                600,000
                
                
                60
                
                
                1,171,310
                
                
                (200,000
                )
                
                
                
                
                
                
                
                971,370Preferred
                    Stock Offering proceeds
                
                
                385,000
                
                
                3,754,110
                
                
                
                
                
                
                
                
                
                
                
                (25,000
                )
                
                
                
                
                
                
                
                3,729,110Conversion
                    of preferred to common
                
                
                (245,000
                )
                
                (2,475,407
                )
                
                1,470,000
                
                
                147
                
                
                2,475,260
                
                
                
                
                
                
                
                
                
                
                
                -Stock
                    issued for services
                
                
                
                
                
                
                
                
                500,000
                
                
                50
                
                
                1,524,950
                
                
                
                
                
                
                
                
                
                
                
                1,525,000Fair
                    Value of Options Issued for Non-Employee Services
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                237,568
                
                
                
                
                
                
                
                
                
                
                
                237,568Share
                    based compensation
                
                
                
                
                
                
                
                
                219,000
                
                
                22
                
                
                647,480
                
                
                
                
                
                
                
                
                
                
                
                647,502Impact
                    of beneficial conversion feature
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                3,099,156
                
                
                
                
                
                (3,099,156
                )
                
                
                
                
                -Preferred
                    Stock Dividends
                
                
                
                
                
                176,194
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (176,194
                )
                
                
                
                
                -Net
                    Loss December 31, 2005
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (6,325,113
                )
                
                
                
                
                (6,325,113
                )Other
                    Comprehensive income (loss):Foreign
                    Currency Translation Adjustment
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (24,780
                )
                
                (24,780
                )Comprehensive
                    loss
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                
                (6,349,893
                )Balance
                    at December 31, 2005
                
                
                140,000
                
                $
                1,454,897
                
                
                16,604,598
                
                $
                1,660
                
                $
                15,950,173
                
                $
                (721,000
                )
                $
                (16,351,130
                )
                $
                (155,572
                )
                $
                179,028
 
 See
          Notes
          to Financial Statements
 
 37
 **AXION
        POWER INTERNATIONAL, INC. NOTES TO CONSOLIDATED**
 **FINANCIAL
        STATEMENTS**
 **(A
        DEVELOPMENT STAGE COMPANY)**
 
 **Note
        1 — Organization and Operations**
 
 These
        consolidated financial statements of Axion Power International, Inc., a Delaware
        corporation formerly known as Tamboril Cigar Company (Tamboril), include
        the
        operations of it’s wholly owned subsidiaries Axion Power Corporation, a Canadian
        Federal corporation (“APC”) and C & T Co. Inc., an Ontario corporation
        (“C&T”) (collectively, the Company). Tamboril was incorporated in Delaware
        on January 9, 1997, operated a cigar manufacturing and distribution business
        until late 1998, and was inactive from January 1999 until December 2003.
        In June
        2004, Tamboril changed its name to Axion Power International, Inc. (“Axion”) in
        connection with the reverse acquisition, as discussed below, including the
        change in control of Tamboril to the former shareholders of APC.
 
 Axion
        is
        developing innovative battery/energy storage device technology. See the
        subsequent events note below for information about the acquisition of a battery
        manufacturing plant and the commencement of manufacture of specialty batteries.
  The
        acquisition of APC by Tamboril in December of 2003 was structured as a reverse
        acquisition. While Tamboril was the legal acquirer in the transaction, APC
        was
        the accounting acquirer because its stockholders held a majority voting interest
        in Tamboril upon completion of the transaction. The transaction was treated
        as a
        recapitalization of APC for accounting purposes. Tamboril had no material
        assets
        or liabilities and 1,875,000 common shares outstanding on December 31, 2003
        when
        it entered into a reverse acquisition with shareholders of APC. The historical
        financial statements presented prior to December 31, 2003 represent those
        of APC
        since its inception on September 18, 2003. The transactions of Tamboril are
        included beginning January 1, 2004. See the footnote captioned “Stockholder’s
        Equity.”
 
 In
        a
        series of transactions from 2003 to 2005 the Company acquired 100% of the
        outstanding shares of C&T. See the footnote captioned “Transactions with a
        related party (C&T)”. In summary, APC entered into a Development and License
        Agreement with C&T in November 2003 that provided for certain payments to
        C&T and gave APC the right to acquire all of C&T’s technical assets. The
        terms of the agreement were renegotiated by the Company in January of 2004.
        Under the amended agreement, the Company acquired the technology in its current
        state in exchange for warrants. The asset acquired was recorded as in-process
        research and development in the restated financial statements and fully
        expensed. Through a series of subsequent transactions the Company acquired
        full
        ownership of C&T in 2005 upon final satisfaction of the payments due under
        the original Development and License Agreement.
 
 **Note
        2 — Continued Operations**
 
 These
        financial statements have been prepared based on accounting principles
        applicable to a “going concern” which assumes that the Company will continue in
        operation for the foreseeable future and be able to realize its assets and
        discharge its liabilities in the normal course of business. At December 31,
        2005, there was substantial doubt about the Company’s ability to continue as a
        going concern because of its history of significant operating losses, negative
        cash flow from operations and working capital deficit. As described in the
        note
        captioned “Subsequent Events” below **,** the
        Company sold sufficient equity securities in the fourth quarter of 2006 to
        alleviate those concerns. The financial statements do not reflect adjustments
        that might be necessary if the “going concern” assumption was not appropriate.
        Management has successfully raised capital over the periods since December
        31,
        2005 which has allowed the company to continue to operate.
  38
  In
        February 2006 Company bought the manufacturing assets of a small lead-acid
        battery plant in a bank foreclosure sale. The Company is manufacturing small
        numbers of specialty batteries such as classic car and race car batteries.
        These
        types of batteries generally have larger profit margins than commodity batteries
        sold in the mass markets. See the note captioned “Subsequent Events.”
 
 The
        Company continues its research and development efforts and has entered the
        testing phase of its unique battery designs.
 
 **Note
        3 —Accounting Policies**
 
 ***Use
        of Estimates:*** **** The
        preparation of financial statements in conformity with accounting principles
        generally accepted in the United States of America requires management to
        make
        estimates and assumptions that affect reported amounts of assets and liabilities
        and disclosure of contingent assets and liabilities at the date of the financial
        statement and the reported amounts of revenues and expenses during the reporting
        period. Actual results could differ from the estimates.
 
 ***Principles
        of Consolidation*** **:** The
        consolidated financial statements include the accounts of Axion, and its
        wholly
        owned subsidiaries, APC and C&T (collectively, the Company). All significant
        inter-company balances and transactions have been eliminated in
        consolidation.
 
 ***Basis
        of Presentation*** **:** The
        financial statements have been presented in a “development stage” format in
        accordance with the provisions of Statement of Financial Accounting Standards
        (FASB) No. 7, *Accounting
        and Reporting by Development Stage Enterprises* .
        Since
        inception, the Company’s primary activities have been raising capital, obtaining
        financing, developing Axion’s energy storage technology and testing its proposed
        products.
 
 ***Segment
        Reporting:*** Management
        has determined that the Company is organized, managed and internally reported
        as
        one business segment. While Axion is a Delaware corporation, its principal
        assets during the period ended December 31, 2003 and the years ended December
        31, 2004 and 2005 were located at APC, a wholly owned subsidiary that was
        organized under the laws of Canada and did business in the Province of Ontario.
        At December 31, 2005, 2004 and 2003, the Company had no substantial business
        or
        properties in the U.S. The Company purchased the manufacturing assets of
        a
        failed small lead-acid battery manufacturing plant located in New Castle,
        Pennsylvania in early 2006 from a bank. As of December 31, 2006 the Company
        closed all Canadian facilities.
 
 ***Foreign
        Currency Translation:*** ** The
        accounts of APC and C&T are measured using the Canadian dollar
        as
        the functional currency for all the periods presented in the financial
        statements. The
        translation from Canadian dollars to U.S. dollars is performed for the balance
        sheet accounts using current exchange rates in effect at each of the balance
        sheet dates, and for the revenue and expense accounts using the average rate
        in
        effect during the periods. The resulting translation adjustments are recorded
        as
        a component of accumulated other comprehensive income within stockholders’
equity. Gains or losses resulting from transactions denominated in currencies
        other than the functional currency are included in the results of operations
        as
        incurred. The gains or losses arising from the inter-company loan denominated
        in
        U.S. dollars are directly reflected in other comprehensive income, as the
        amounts are not expected to be repaid in the foreseeable future.
 
 ***Cash
        and Cash Equivalents:*** **** For
        financial statement presentation purposes, the Company considers those
        short-term, highly liquid investments with original maturities of three months
        or less to be cash or cash equivalents.
 
 The
        Company’s cash and cash equivalents are on deposit with banks. Only a portion of
        the cash and cash equivalents would be covered by deposit insurance and the
        uninsured balances are substantially greater than the insured amounts. Although
        cash and cash equivalent balances exceed insured deposit amounts, management
        does not anticipate non-performance by the banks.
  39
  ***Fair
        Value of Financial Instruments:*** **** FASB
        No.
        107, " *Disclosures
        about Fair Value of Financial Instruments* ,"
        requires disclosure of fair value information about certain financial
        instruments, including, but not limited to, cash and cash equivalents,
        refundable tax credits, prepaid expenses, accounts payable, accrued expenses,
        amounts payable to related parties, notes payable to related parties and
        convertible debt-related securities. Fair value estimates discussed herein
        are
        based upon certain market assumptions and pertinent information available
        to
        management as of December 31, 2005. The carrying value of the balance sheet
        financial instruments included in the Company’s consolidated financial
        statements approximated their fair values.
 
 ***Property
        and Equipment:*** **** Property
        and equipment are recorded at cost. Depreciation is computed using the straight
        line method over the estimated useful lives of the assets, which were generally
        five years. Expenditures for renewals and betterments are capitalized.
        Expenditures for minor items, repairs and maintenance are charged to operations
        as incurred. Gain or loss upon sale or retirement due to obsolescence is
        reflected in the operating results in the period the event takes
        place.
 
 ***Patents:*** Patent
        acquisition and application costs are recorded at cost and amortized over
        their
        remaining useful life, not to exceed their legal life, beginning with the
        date
        the asset is placed in service.
 
 ***Impairment
        or Disposal of Long-Lived Assets:*** The
        Company adopted the provisions of FASB No. 144 (FASB 144), “ *Accounting
        for the Impairment or Disposal of Long-lived Assets* .”
This
        standard requires, among other things, that long-lived assets be reviewed
        for
        potential impairment whenever events or circumstances indicate that the carrying
        amounts may not be recoverable. We have fully impaired patent costs for all
        periods presented resulting in an impairment loss of $25,126, $91,363, and
        $51,399 in 2003, 2004 and 2005 respectively. This is based on the conclusion
        that future cash flows were not readily determinable and there was no way
        to
        reasonably estimate the expenses to be incurred in commercializing the patents.
        We have fully impaired patent costs for all periods presented. For further
        detail see the restatement notes below.
 
 The
        assessment of possible impairment is based on the ability to recover the
        carrying value of the asset from the expected future pre-tax cash flows
        (undiscounted and without interest charges) of the related operations. If
        these
        expected cash flows are less than the carrying value of such asset, an
        impairment loss is recognized for the difference between estimated fair value
        and carrying value. The primary measure of fair value is based on discounted
        cash flows. The measurement of impairment requires management to make estimates
        of these cash flows related to long-lived assets, as well as other fair value
        determinations.
  ***Impairment
        of Notes Receivable*** (Mega-C) ***:*** The
        Company tests its notes receivable for collectability pursuant to the standards
        in the FASB No. 5, *Accounting
        for Contingencies* (FASB
        5) ***.*** Based
        on
        management’s assessment of substantial doubt as to collectability pursuant to
        FASB 5, the Company fully impaired notes receivable for all periods presented
        resulting in an impairment loss of $542,290, $346,370 and $328,356 in 2003,
        2004, and 2005 respectively. See Notes 4, 5, & 6 about restatements herein.
 
 ***Comprehensive
        Income:*** The
        Company follows FASB No. 130, “ *Reporting
        Comprehensive Income* .”
        Comprehensive income, as defined by Statement 130, is the change in equity
        of a
        business enterprise during a reporting period from transactions and other
        events
        and circumstances from non-owner sources. In addition to the Company’s net loss,
        the change in equity components under comprehensive income include the foreign
        currency translation adjustment.
  40
  ***Stock-Based
        Compensation:*** Stock-based compensation is accounted for using the intrinsic value method
        prescribed in Accounting Principles Board Opinion (APB) No. 25, “ *Accounting
        for Stock Issued to Employees* ”
and
        related interpretations. Under APB 25, compensation cost for stock options
        issued to employees is measured as the excess, if any, of the fair value
        of the
        Company’s stock at the date of grant over the exercise price of the option
        granted. Compensation cost is recognized for stock options, if any, ratably
        over
        the vesting period. The Company discloses additional pro forma information
        as
        required under FASB No. 123, “Accounting for Stock-Based Compensation”, which
        shows the effects to the reported net loss had the Company elected to recognize
        compensation costs based on fair value of the options at the date of grant.
        Stock options and warrants issued to non-employees are recognized as
        compensation expense in the accompanying consolidated statements of operations
        and is based on the fair value of the services received or the fair value
        of the
        equity instruments issued, whichever is more readily determinable **.**
 
 ***Earnings
        per Common Share:*** Basic
        earnings per share is computed by dividing income applicable to common
        shareholders (the numerator) by the weighted-average number of common shares
        outstanding (the denominator) for the period. Diluted earnings per share
        assume
        that any dilutive convertible securities outstanding were converted, with
        related preferred stock dividend requirements, interest expense and outstanding
        common shares adjusted accordingly. It also assumes that outstanding common
        shares were increased by shares issuable upon exercise of those stock options
        and warrants for which the market price exceeds the exercise price, less
        shares
        which could have been purchased by the Company with the related proceeds.
        In
        periods of losses, diluted loss per share is computed on the same basis as
        basic
        loss per share as the inclusion of any other potential shares outstanding
        would
        be anti-dilutive. Had the Company recorded income applicable to common
        shareholders for the periods ended December 31, 2003, 2004 and 2005,
        weighted-average number of common shares outstanding would have increased
        by
        785,897, 1,386,612 and 2,970,730, respectively, for the fiscal years, reflecting
        the addition of dilutive securities in the calculation of diluted earnings
        per
        share. The increase in weighted average common shares for the cumulative
        period
        (September 18, 2003 to December 31, 2005) is 1,960,824 shares.
 
 ***Income
        Taxes:*** Deferred
        income taxes are recorded in accordance with FASB No. 109, “ *Accounting
        for Income Taxes* ,”
or
        FASB 109, and deferred tax assets and liabilities are determined based on
        the
        differences between financial reporting and the tax basis of assets and
        liabilities using the tax rates and laws in effect when the differences are
        expected to reverse. FASB 109 provides for the recognition of deferred tax
        assets if realization of such assets is more likely than not to occur.
        Realization of net deferred tax assets is dependent upon generating sufficient
        taxable income in future years in appropriate tax jurisdictions to realize
        benefit from the reversal of temporary differences and from net operating
        loss,
        or NOL, carryforwards. The Company has determined it more likely than not
        that
        the deferred tax asset resulting from these timing differences will not
        materialize and have provided a valuation allowance against the entire net
        deferred tax asset. Management will continue to evaluate the realizability
        of
        the deferred tax asset and its related valuation allowance. If the assessment
        of
        the deferred tax assets or the corresponding valuation allowance were to
        change,
        the Company would record the related adjustment to income during the period
        in
        which the determination is made. The tax rate may also vary based on actual
        results and the mix of income or loss in domestic and foreign tax jurisdictions
        in which operations take place.
 
 ***Research
        and Development*** **:** Research
        and development costs are recorded in accordance with FASB No, 2, “ *Accounting
        for Research and Development Costs,* ”
which
        requires that costs incurred in research and development activities covering
        basic scientific research and the application of scientific advances to the
        development of new and improved products and their uses be expensed as incurred.
        The policy of expensing the costs of research and development activities
        relate
        to (i) in-house work conducted by the Company; (ii) costs incurred in
        connection with contracts that outsource research and development to third
        party
        developers; and (iii) costs incurred in connection with the acquisition of
        intellectual property that is properly classified as in-process research
        and
        development. All research and development costs have been expensed.
  41
  The
        Company has reclassified all amounts paid and the value of the warrants issued
        to acquire the technology from C&T as a purchase of in-process research and
        development. Those amounts were previously reported as intangible assets
        on the
        Company’s consolidated financial statements for the years ended December 31,
        2005, 2004 and the period ended 2003, and have been charged to expense during
        the period ended December 31, 2003 in connection with the restatement. The
        decision to charge the acquisition cost of the technology was based on
        management’s determination that the technology was not fully developed at the
        acquisition date, there was no assurance that the technology would be
        successfully developed and there was no assurance that the cost of the
        technology could be recovered through future amortization charges. See Notes
        4,
        5, and 6 about restatements herein.
 
 ***Recent
        Accounting Pronouncements:*** ******
 
 In
        December 2004, the FASB issued FASB No. 123 (revised 2004) “ *Share-Based
        Payment* ,”
or
        FASB No. 123(R). FASB No. 123(R) revises FASB No. 123 “Accounting for
        Stock-Based Compensation,” and supersedes APB Opinion No. 25, and its related
        implementation guidance. This Statement eliminates the ability to account
        for
        share-based compensation using the intrinsic value method under APB Opinion
        No.
        25. FASB No. 123(R) focuses primarily on accounting for transactions in which
        an
        entity obtains employee services in share-based payment transactions. FASB
        No.
        123(R) requires a public entity to measure the cost of employee services
        received in exchange for an award of equity instruments based on the grant-date
        fair value of the award. That cost will be recognized over the period during
        which an employee is required to provide service in exchange for the award,
        known as the requisite service period, which is usually the vesting period.
        FASB
        No. 123(R) is effective for companies filing under Regulation S-B, Integrated
        Disclosure System for Small Business Issuers, (Regulation S-B) as of the
        beginning of the first interim or annual reporting period that begins after
        December 15, 2005, which for the Company will be its first quarter of the
        year
        ending December 31, 2006. Accordingly, the provisions of FASB No. 123(R)
        will
        apply to new awards and to awards modified, repurchased, or cancelled after
        the
        required effective date. Additionally, compensation cost for the portion
        of
        awards for which the requisite service has not been rendered that are
        outstanding as of the required effective date must be recognized as the
        requisite service is rendered on or after the required effective date. These
        new
        accounting rules will lead to a decrease in reported earnings. See the note
        captioned “Equity Compensation,” for expected impact of the adoption of FASB
        123(R), related to options outstanding at December 31, 2005.
  In
        December 2004, the FASB issued FASB No. 153, *“Exchanges
        of Nonmonetary Assets—an amendment of APB Opinion No. 29,”* which
        was effective for the Company starting July 1, 2005. Under FASB No. 153,
        the
        Company measured assets exchanged at fair value, as long as the transaction
        has
        commercial substance and the fair value of the assets exchanged is determinable
        within reasonable limits. A non-monetary exchange has commercial substance
        if
        the future cash flows of the entity are expected to change significantly
        as a
        result of the exchange. The adoption of FASB No. 153 did not have a material
        effect on the consolidated financial position, results of operations or cash
        flows.
  In
        May
        2005, the FASB issued FASB No. 154, “ *Accounting
        Changes and Error Corrections* ,”
which
        replaces APB Opinion No. 20 “Accounting Changes,” and FASB No. 3 “ *Reporting
        Accounting Changes in Interim Financial Statements* ,”
and
        changes the requirements for the accounting for and reporting of a change
        in
        accounting principle. This Statement requires retrospective application to
        prior
        periods’ financial statements of changes in accounting principle, unless it is
        impracticable to determine either the period-specific effects or the cumulative
        effect of the change. This Statement shall be effective for accounting changes
        and corrections of errors made in fiscal years beginning after December 15,
        2005. Early adoption is permitted for accounting changes and corrections
        of
        errors made in fiscal years beginning after the date this Statement is issued.
        The Company does not believe that adoption of FASB 154 will have a material
        impact on its financial statements.
  42
  In
        June
        2006, The FASB issued Interpretation No. 48 “ *Accounting
        for Uncertainty in Income Taxes—an interpretation of FASB Statement No.
        109* ”
(“FIN
        48”). This Interpretation clarifies the accounting for uncertainty in income
        taxes recognized in an enterprise’s financial statements in accordance with FASB
        No. 109, “ *Accounting
        for Income Taxes* ” *.* FIN 48
        prescribes a recognition threshold and measurement attribute for the financial
        statement recognition and measurement of a tax position taken or expected
        to be
        taken in a tax return. FIN 48 also provides guidance on de-recognition,
        classification, interest and penalties, accounting in interim periods,
        disclosure, and transition. FIN 48 is effective for fiscal years beginning
        after
        December 15, 2006. Earlier application of the provisions of FIN 48 is encouraged
        if the enterprise has not yet issued financial statements, including interim
        financial statements, in the period FIN 48 is adopted. The
        Company is currently evaluating the impact of adopting the provisions of
        FIN 48
        in fiscal 2006.
 
 In
        September 2006, the United States Securities and Exchange Commission (“SEC”)
        released Staff Accounting Bulletin No. 108 *,
        Considering the Effects of Prior Year Misstatements When Quantifying
        Misstatements in Current Year Financial Statements* ”
(“SAB
        108”). SAB 108 provides interpretive guidance on how public companies quantify
        financial statement misstatements. There have been two common approaches
        used to
        quantify such errors. Under an income statement approach, the “roll-over”
method, the error is quantified as the amount by which the current year income
        statement is misstated. Alternatively, under a balance sheet approach, the
“iron
        curtain” method, the error is quantified as the cumulative amount by which the
        current year balance sheet is misstated. In SAB 108, the SEC established
        an
        approach that requires quantification of financial misstatements based on
        the
        effects of the misstatements on each of the company’s financial statements and
        the related financial statement disclosures. This method is commonly referred
        to
        as a “dual approach” because it requires quantification of errors under both the
        roll-over and iron curtain methods. SAB 108 was effective for the Company
        as of
        December 31, 2006. The adoption of SAB 108 will not have a material impact
        on
        our consolidated financial position, results of operations or cash flows.
 
 In
        October 2006, the FASB issued FASB No. 157, “Fair Value Measurements” which
        establishes a framework for measuring fair value, and expands disclosures
        about
        fair value measurements. While FASB No. 157 does not apply under accounting
        pronouncements that address share-based payment transactions covered by FASB
        No.
        123, it establishes a theoretical framework for analyzing fair value
        measurements that is absent from FASB No.123. We have relied on the theoretical
        framework established by FASB No. 157 in connection with certain valuation
        measurements that were made in the preparation of these financial
        statements.
 
 In
        February 2007, Statement of Financial Accounting Standards No. 159, “The Fair
        Value Option for Financial Assets and Financial Liabilities-Including an
        Amendment of FASB Statement No. 115,” (FASB 159), was issued. This standard
        allows a company to irrevocably elect fair value as the initial and subsequent
        measurement attribute for certain financial assets and financial liabilities
        on
        a contract-by-contract basis, with changes in fair value recognized in earnings.
        The provisions of this standard are effective as of the beginning of our
        fiscal
        year 2009, with early adoption permitted. We are currently evaluating what
        effect the adoption of FASB 159 will have on our consolidated financial
        statements.
 
 In
        December of 2006 the Financial Accounitng Standards Board issued FSP No.
        EITF
        00-19-2, Accounting for Registration Payment Arrangements. This FSP specifies
        that the contingent obligation to make future payments or otherwise transfer
        consideration under a registration payment arrangement should be separately
        recognized and measured. The FSP also clarifies that a financial instrument
        subject to a registration payment arrangement should be separately accounted
        for
        in accordance with the applicable guidance without regard to the registration
        payment arrangement’s contingent obligation. The FSP is effective immediately
        for registration payment arrangements and the financial instruments subject
        to
        those arrangements that are entered into or modified subsequent to December
        21,
        2006. For registration payment arrangements and financial instruments subject
        to
        those arrangements that were entered into prior to December 21, 2006, the
        guidance is effective for financial statements issued for fiscal years beginning
        after December 15, 2006, and interim periods within those fiscal years. We
        are
        currently evaluating what effect the adoption of FSP No. EITF 00-19-2 will
        have
        on our consolidated financial statements.
 
 43
  **Note
        4 — Restatement of 2003 Financial Statements**
 
 The
        Company restated its consolidated balance sheet at December 31, 2003 and
        its
        consolidated statement of operations for the period then ended to correct
        errors
        reported in the originally filed financial statements. The following table
        reconciles the previously filed consolidated balance sheet at December 31,
        2003
        with the restated consolidated balance sheet included in this report.
 
 **December
                  31, 2003****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**Cash
                  and cash equivalents
              
              $
              455,369
              
              $
              (196,937
              )
              
              (1
              )
              $
              258,432Notes
                  receivable
              
              
              388,148
              
              
              (388,148
              )
              
              (2
              )
              
              **-**Intangible
                  assets
              
              
              1,794,000
              
              
              (1,794,000
              )
              
              (3
              )
              
              -Total
                  assets
              
              $
              2,637,517
              
              $
              (2,379,085
              )
              
              
              
              $
              258,432Accounts
                  payable and accrued expenses
              
              $
              88,000
              
              $
              91,702
              
              
              (1
              )
              $
              179,702Convertible
                  debt - related parties
              
              
              -
              
              
              50,017
              
              
              (4
              )
              
              50,017Amounts
                  payable to related party (C&T)
              
              
              1,159,000
              
              
              849,549
              
              
              (1)
                  (5
              )
              
              2,008,549Total
                  liabilities
              
              
              1,247,000
              
              
              991,268
              
              
              
              
              
              2,238,268Common
                  stock
              
              
              1,261
              
              
              (194
              )
              
              (6)(10
              )
              
              1,067Additional
                  paid-in capital
              
              
              1,895,556
              
              
              (372,882
              )
              
              (7)(10
              )
              
              1,522,674Subscriptions
                  receivable
              
              
              -
              
              
              (350,000
              )
              
              (1)(6
              )
              
              (350,000
              )Deficit
                  accumulated during development stage
              
              
              (506,300
              )
              
              (2,590,730
              )
              
              
              
              
              (3,097,030
              )Cumulative
                  foreign currency adjustment
              
              
              -
              
              
              (56,547
              )
              
              (8
              )
              
              (56,547
              )Total
                  stockholders’ equity (deficit)
              
              
              1,390,517
              
              
              (3,370,353
              )
              
              
              
              
              (1,979,836
              )Total
                  liabilities and stockholders’ equity (deficit)
              
              $
              2,637,517
              
              $
              (2,379,085
              )
              
              
              
              $
              258,432
 
 The
                    following table reconciles our previously
                    filed consolidated statement of operations for the period ended
                    December
                    31, 2003 with the restated consolidated statement of operations
                    included
                    in this report.
 
 **Period
                  Ended December 31, 2003****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**General
                  and administrative expenses
              
              $
              252,865
              
              $
              (51,831
              )
              
              (1)(7)(8
              )
              $
              201,034Research
                  and development expenses
              
              
              253,435
              
              
              2,075,145
              
              
              (1)(2)(3)(5)(8
              )
              
              2,328,580Impairment
                  of assets
              
              
              -
              
              
              567,416
              
              
              (2)(9
              )
              
              567,416Net
                  loss before and after taxes
              
              $
              (506,300
              )
              $
              (2,590,730
              )
              
              
              
              $
              (3,097,030
              )Basic
                  and diluted net loss per share
              
              $
              (0.17
              )
              $
              (0.74
              )
              
              
              
              $
              (0.91
              )Weighted
                  average common shares outstanding
              
              
              3,002,515
              
              
              402,485
              
              
              (11
              )
              
              3,405,000
  44
  **Reference
        Notes:**
 
 1.
              During
                  the restatement the Company identified certain “cut-off adjustments”
                  related to cash, current liabilities, subscription receivables
                  and
                  operating expenses. “Cut-off adjustments” refers to the proper
                  determination of which accounting period a transaction should be
                  recorded
                  in, particularly with transactions close to or overlapping the
                  end of an
                  accounting period.
 
 2.
              The
                  Company recorded $388,148 in advances to Mega-C Power Corporation
                  as notes
                  receivable and did not impair the notes for reporting purposes.
                  In
                  addition, the Company initially recorded invoices relating to Mega
                  C
                  advances as research and development expense amounting to $154,142.
                  In
                  2004, the Company adjusted these amounts with a reclassification
                  from
                  research and development to notes receivable. Accordingly, the
                  total note
                  receivable in 2003 amounted to $542,290 which has been expensed
                  in 2003 as
                  uncollectible accounts and impairment of assets. During the restatement,
                  the Company properly recorded the transaction in 2003 as an advance
                  to
                  Mega-C Power Corp. and reduced research and development expense.
                  In the
                  restated financial statements the Company has fully impaired the
                  total
                  note amount based on management’s assessment of substantial doubt as to
                  collectability pursuant to FASB 5.
 
 3.
              The
                  Company reported $1,794,000 of acquisition costs for the technology
                  as a
                  capital asset even though the technology was not fully developed
                  on the
                  acquisition date and should have been classified as a purchase
                  of in
                  process research and development. In the restated financial statements
                  the
                  Company has fully expensed these costs as in process research and
                  development.
 
 4.
              The
                  original financial statements disclosed proceeds from the sale
                  of common
                  stock; however the proceeds were initially related to convertible
                  debt
                  which, subsequently was converted to common stock. All convertible
                  debt
                  issued during 2003 was converted to common stock as of December
                  31, 2003,
                  except for $50,017, which was converted in January
                  2004.
 
 5.
              In
                  the restated financial statements, the Company accrued an additional
                  obligation related to the acquisition of the in-process research
                  and
                  development. This obligation was satisfied subsequent to December
                  31, 2003
                  with the issuance of 1,562,900 warrants valued at $563,872 which
                  were
                  initially valued and recorded at $25,000 and presented as issued
                  in 2003.
 
 6.
              During
                  the restatement, the Company determined the following with respect
                  to the
                  reverse acquisition between Tamboril and Axion Power
                  Corporation:
  ·
              The
                  original financial statements included the equity activity of Tamboril,
                  (the public shell company), prior to the reverse merger on December
                  31,
                  2003. The restated financial statements include the equity acquired
                  from
                  Tamboril as one line under the caption “Equity acquired in
                  recapitalization” on the statement of stockholder’s
                  equity;
  ·
              The
                  original financial statements included the historical activity
                  of Axion
                  Power Corporation, (the operating company), as one line in the
                  Statement
                  of Stockholder’s Equity under the caption “Acquisition of Axion Power and
                  effect of reverse merger”. In the restated financial statements, the
                  Company separately stated the activity of Axion Power Corporation
                  prior to
                  the merger; and
 ·
                The
                    original financial statements reported the reverse acquisition
                    as one
                    transaction in 2003. During the restatement the Company determined
                    that
                    the reverse acquisition occurred in a first closing on December
                    31, 2003
                    and a second closing on January 9, 2004. The restated financial
                    statements
                    reflect the issuance of these shares in the proper period.
  45
  7.
              The
                  adjustments aggregating $372,882 related to additional paid in
                  capital are
                  as follows:
 
 ·
              $24,788
                  increase relating to the discount related to warrants issued with
                  convertible debt and forgiven interest associated with the convertible
                  debt converted during 2003;
 
 ·
              $38,000
                  increase related to stock offering costs that were originally recorded
                  erroneously;
  ·
              $31,758
                  decrease relating to the Company reversing the fair value of options
                  and
                  warrants recorded in 2003 that were actually issued in January,
                  2004;
  ·
              $450,000
                  decrease relating to 1) $50,000 conversion of convertible debt
                  to common
                  stock that actually occurred during 2004 2) $400,000 of proceeds
                  received
                  in January, 2004 originally recorded in 2003;
  ·
              $48,936
                  increase relating to the valuation of shares for services originally
                  not
                  valued; and
  ·
              Other
                  miscellaneous and immaterial adjustments which account for the
                  difference
                  of $2,848.
  8.
              The
                  Company identified adjustments relating to foreign currency transaction
                  gains or losses and foreign currency translation adjustments based
                  on the
                  other adjustments.
  9.
              The
                  Company identified patent costs that were not initially accrued
                  amounting
                  to $25,126. Management has determined that these amounts are impaired
                  and
                  have written them off to expense.
  10.
              As
                  of result of the November 21, 2006, Mega C Chapter 11 plan of
                  reorganization, the Trust was required to return 1,000,000 shares
                  of the
                  Company’s common stock transferred to The Trust for the Benefit of the
                  Shareholders of Mega-C Power Corp. (the Trust) in conjunction with
                  the
                  original reverse acquisition on December 31, 2003 for cancellation
                  by the
                  Company. In the restated financial statements, the Company retroactively
                  adjusted the return of 1,000,000 shares against the original shares
                  issued
                  to the Trust that resulted in a reduction of $100 in the value
                  of common
                  stock and increase in additional paid in capital at December 31,
                  2003.
  11.
              Weighted
                  average shares outstanding have been updated to reflect the restatements
                  above.
  46
 
 **Note
        5 — Restatement of 2004 Financial Statements**
 
 The
        Company has restated its consolidated balance sheet at December 31, 2004
        and its
        consolidated statement of operations for the year then ended to correct for
        errors reported in the originally filed financial statements. The following
        table reconciles the previously filed consolidated balance sheet at December
        31,
        2004 with the restated consolidated balance sheet included in this
        report.
 
 **December
                  31, 2004****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**Cash
                  and cash equivalents
              
              $
              46,486
              
              $
              2,221
              
              
              (1
              )
              $
              48,707Refundable
                  tax credits
              
              
              -
              
              
              166,003
              
              
              (2
              )
              
              166,003Prepaid
                  expenses
              
              
              14,992
              
              
              (2,779
              )
              
              (1
              )
              
              12,213Total
                  current assets
              
              
              61,478
              
              
              165,445
              
              
              
              
              
              226,923Property
                  and equipment, net
              
              
              97,606
              
              
              (1,967
              )
              
              (3
              )
              
              95,639Notes
                  receivable
              
              
              958,523
              
              
              (958,523
              )
              
              (1)(4
              )
              
              -Intangible
                  assets
              
              
              1,920,522
              
              
              (1,920,522
              )
              
              (1)(5)(6
              )
              
              -Total
                  assets
              
              $
              3,038,129
              
              $
              (2,715,567
              )
              
              
              
              $
              322,562Accounts
                  payable and accrued expenses
              
              $
              643,758
              
              $
              (53,490
              )
              
              (1
              )
              $
              590,268Amounts
                  payable to related party (C&T)
              
              
              1,100,500
              
              
              903
              
              
              (1
              )
              
              1,101,403Total
                  liabilities
              
              
              1,744,258
              
              
              (52,587
              )
              
              
              
              
              1,691,671Common
                  stock
              
              
              1,396
              
              
              (100
              )
              
              (7)(8)
                  (11
              )
              
              1,296Additional
                  paid-in capital
              
              
              4,670,497
              
              
              840,557
              
              
              (9
              )
              
              5,511,054Deficit
                  accumulated during development stage
              
              
              (3,414,418
              )
              
              (3,336,249
              )
              
              
              
              
              (6,750,667
              )Cumulative
                  translation adjustment
              
              
              36,396
              
              
              (167,188
              )
              
              (10
              )
              
              (130,792
              )Total
                  stockholders’ equity (deficit)
              
              
              1,293,871
              
              
              (2,662,980
              )
              
              
              
              
              (1,369,109
              )Total
                  liabilities and stockholders’ equity (deficit)
              
              $
              3,038,129
              
              $
              (2,715,567
              )
              
              
              
              $
              322,562
 
 The
        following table reconciles the previously filed consolidated statement of
        operations for the year ended December 31, 2004 with the restated consolidated
        statement of operations included in this report.
 
 **Year
                  Ended December 31, 2004****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**General
                  and administrative expenses
              
              $
              1,376,031
              
              $
              122,334
              
              
              (1)(9)(10
              )
              $
              1,498,365Research
                  and development expenses
              
              
              1,551,790
              
              
              319,417
              
              
              (1)(3
              )
              
              1,871,207Impairment
                  of assets
              
              
              -
              
              
              437,733
              
              
              (4)(6
              )
              
              437,733Other
                  income
              
              
              (19,703
              )
              
              (133,965
              )
              
              (2)(10
              )
              
              (153,668
              )Net
                  loss before and after taxes
              
              $
              (2,908,118
              )
              $
              (745,519
              )
              
              
              
              $
              (3,653,637
              )Basic
                  and diluted net loss per share
              
              $
              (0.22
              )
              $
              (0.08
              )
              
              
              
              $
              (0.30
              )Weighted
                  average common shares outstanding
              
              
              13,180,689
              
              
              (1,005,200
              )
              
              (12
              )
              
              12,175,489
  47
 
 **Reference
        Notes:**
  1.
              During
                  the restatement the Company identified certain cut-off adjustments
                  related
                  to cash, prepaid expenses, note receivables, current liabilities,
                  and
                  operating expenses. “Cut-off adjustments” refers to the proper
                  determination of which accounting period a transaction should be
                  recorded
                  in, particularly with transactions close to or overlapping the
                  end of an
                  accounting period.
  2.
              During
                  the restatement the Company recorded a $166,003 refundable research
                  and
                  development tax credit from the Province of Ontario from 2004 which
                  the
                  Company previously did not record until 2005 because collection
                  was not
                  assured. Subsequently, this credit was received in
                  2007.
  3.
              During
                  the restatement the Company recorded an additional $1,967 of depreciation
                  expense for assets which were not originally depreciated.
  4.
              The
                  Company recorded $542,290 in 2003 and another $416,232 in 2004
                  in advances
                  to Mega-C Power Corporation as notes receivable and did not impair
                  the
                  notes for reporting purposes. In the restated financial statements
                  the
                  Company has fully impaired these note receivables based on management’s
                  assessment of substantial doubt as to collectability pursuant to
                  FASB 5.
                  Further, since this item was originally recorded as an asset on
                  a Canadian
                  subsidiary with a functional currency of the Canadian Dollar, the
                  balance
                  sheet effect of the change varies from the income statement charge
                  through
                  impairment of assets.
  5.
              The
                  Company reported the initial $1,794,000 of acquisition costs for
                  the
                  Company’s technology as a capital asset even though the technology was
                  not
                  fully developed on the acquisition date and should have been classified
                  as
                  a purchase of in process research and development. The Company has fully
                  expensed these costs as in process research and development in
                  2003.
  6.
              The
                  Company determined that the original patent costs capitalized of
                  $91,363
                  were impaired and has been written off to expense. The remainder
                  of the
                  adjustment relates to patent costs written off in 2003 due to cutoff
                  adjustments.
  7.
              The
                  original financial statements disclosed proceeds from the sale
                  of common
                  stock; however proceeds were initially convertible debt which,
                  subsequently was converted to common stock. All convertible debt
                  issued
                  was converted to common stock as of January 9, 2004 including $50,017
                  from
                  2003.
  8.
              The
                  original financial statements reported the reverse acquisition
                  as one
                  transaction in 2003. During the restatement the Company determined
                  that
                  the reverse acquisition occurred in the first closing on December
                  31, 2003
                  and the second closing on January 9, 2004. The restated financial
                  statements reflect the issuance of these shares in the proper
                  period.
  48
  9.
              The
                  adjustments aggregating $840,557 related to additional paid in
                  capital are
                  as follows:
  ·
              $111,724
                  increase related to transactions during 2003, as further described
                  in Note
                  4;
  ·
              $72,000
                  increase relating to the valuation of shares for services that
                  was
                  originally not valued;
  ·
              $34,375
                  increase relating to recording the intrinsic value of options granted
                  to
                  employees that was originally not
                  valued;
  ·
              $24,264
                  increase relating to the reversal of stock offering costs that
                  were
                  originally erroneously recorded;
  ·
              $65,269
                  increase relating to the increase in the valuation of options issued
                  for
                  services;
  ·
              $538,872
                  increase relating to the change in the valuation of 1,562,900 warrants
                  issued to a related party for the purchase of in process research
                  and
                  development noted in 2003;
  ·
              Other
                  miscellaneous and immaterial adjustments which account for the
                  difference
                  of the dollar amount adjusted of $5,947.
  10.
              The
                  Company identified adjustments relating to foreign currency transaction
                  gains or losses and foreign currency translation adjustments. In
                  addition,
                  the Company reclassified the transaction gain or loss on foreign
                  currency
                  to general and administrative expense on the restated financial
                  statements
                  to be consistent with all periods
                  presented.
 
 11.
              As
                  of result of the November 21, 2006, Mega C Chapter 11 plan of
                  reorganization, Trust was required to return 1,000,000 shares of
                  the
                  Company’s common stock distributed to the Trust in conjunction with the
                  original reverse acquisition on December 31, 2003 for cancellation
                  by the
                  Company. In the restated financial statements, the Company retroactively
                  adjusted the return of 1,000,000 shares against the original shares
                  issued
                  to the Trust that resulted in a reduction of $100 in the value
                  of common
                  stock and increase in additional paid in capital at December 31,
                  2003 that
                  carried over into 2004.
 
 12.
              Weighted
                  average shares outstanding changed due to 1) 1,000,000 share decrease
                  due
                  to the retroactive change in shares relating to the reverse acquisition
                  in
                  reference 11 above and 2) 5,200 share decrease due to restating
                  the timing
                  of shares issued in conjunction with the reverse acquisition in
                  reference
                  8 above.
   49
 **Note
          6 — Restatement of 2005 Financial Statements**
 
 We
          have
          restated our balance sheet at December 31, 2005 and our statement of operations
          for the year then ended to correct errors in the originally filed financial
          statements. The following table reconciles our previously filed consolidated
          balance sheet at December 31, 2005 with the restated consolidated balance
          sheet
          included in this report.
 **December
                  31, 2005****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**Cash
                  and cash equivalents
              
              $
              553,001
              
              $
              -
              
              
              
              
              $
              553,001Refundable
                  tax credits
              
              
              171,600
              
              
              171,600
              
              
              (1
              )
              
              343,200Prepaid
                  expenses
              
              
              44,446
              
              
              -
              
              
              
              
              
              44,446Total
                  current assets
              
              
              769,047
              
              
              171,600
              
              
              
              
              
              940,647Property
                  and equipment, net
              
              
              264,942
              
              
              -
              
              
              
              
              
              264,942Notes
                  receivable
              
              
              1,287,189
              
              
              (1,287,189
              )
              
              (2
              )
              
              -Intangible
                  assets
              
              
              2,154,066
              
              
              (2,154,066
              )
              
              (3)(4
              )
              
              -Total
                  assets
              
              $
              4,475,244
              
              $
              (3,269,655
              )
              
              
              
              $
              1,205,589Accounts
                  payable and accrued expenses
              
              $
              870,594
              
              $
              (24,264
              )
              
              (5
              )
              $
              846,330Note
                  payable to related party
              
              
              180,231
              
              
              -
              
              
              
              
              
              180,231Total
                  liabilities
              
              
              1,050,825
              
              
              (24,264
              )
              
              
              
              
              1,026,561Convertible
                  preferred stock
              
              
              1,454,897
              
              
              -
              
              
              
              
              
              1,454,897Common
                  stock
              
              
              1,760
              
              
              (100
              )
              
              (6
              )
              
              1,660Additional
                  paid-in capital
              
              
              15,027,134
              
              
              923,039
              
              
              (7
              )
              
              15,950,173Stock
                  subscriptions receivable
              
              
              (721,000
              )
              
              -
              
              
              
              
              
              (721,000
              )Deficit
                  accumulated during development stage
              
              
              (12,576,888
              )
              
              (3,774,242
              )
              
              
              
              
              (16,351,130
              )Cumulative
                  translation adjustment
              
              
              238,516
              
              
              (394,088
              )
              
              (8
              )
              
              (155,572
              )Total
                  stockholders’ equity
              
              
              3,424,419
              
              
              (3,245,391
              )
              
              
              
              
              179,028Total
                  liabilities and stockholders’ equity
              
              $
              4,475,244
              
              $
              (3,269,655
              )
              
              
              
              $
              1,205,589
 
 The
        following table reconciles our previously filed consolidated statement of
        operations for the year ended December 31, 2005 with the restated consolidated
        statement of operations included in this report.
 
 **Year
                  Ended December 31, 2005****Reported**
              
              **Adjustments**
              
              **Ref**
              
              **Restated**General
                  and administrative expenses
              
              $
              4,420,170
              
              $
              65,005
              
              
              (7)(8
              )
              $
              4,485,175Research
                  and development expenses
              
              
              1,635,377
              
              
              (1,782
              )
              
              (8
              )
              
              1,633,595Impairment
                  of assets
              
              
              -
              
              
              379,755
              
              
              (2)(4
              )
              
              379,755Other
                  income
              
              
              (168,427
              )
              
              (4,985
              )
              
              (8
              )
              
              (173,412
              )Net
                  loss before and after taxes
              
              
              (5,887,120
              )
              
              (437,993
              )
              
              
              
              
              (6,325,113
              )Less
                  preferred dividends & beneficial conversion
              
              
              (3,275,351
              )
              
              -
              
              
              
              
              
              (3,275,351
              )Net
                  loss applicable to common shareholders
              
              $
              (9,162,471
              )
              $
              (437,993
              )
              
              
              
              $
              (9,600,464
              )Basic
                  and diluted net loss per share
              
              $
              (0.60
              )
              $
              (0.07
              )
              
              
              
              $
              (0.67
              )Weighted
                  average common shares outstanding
              
              
              15,238,585
              
              
              (1,000,000
              )
              
              (6
              )
              
              14,238,585
  50
 
 **Reference
        Notes:**
 
 1.
              As
                  noted in the note captioned “Restatement of 2004 Financial Statements,”
                  the Company recorded $166,003 of refundable research and development
                  tax
                  credit from the Province of Ontario from 2004 which the Company
                  previously
                  did not record until 2005 because collection was not assured. The
                  difference from the above is due to the exchange rate as of December
                  31,
                  2004 adding $5,597 to the value of the asset. Subsequently, this
                  credit
                  was received in 2007. In addition, during the restatement, the
                  Company
                  recorded $171,600 of refundable research and development tax credit
                  related to 2005, which the Company previously did not record because
                  collection was not assured. The credit was received in
                  2007.
 
 2.
              The
                  Company recorded $542,290 in 2003, another $416,232 in 2004 and
                  $328,667
                  in 2005 in advances to Mega-C Power Corporation as notes receivable
                  and
                  did not impair the notes for reporting purposes. The Company has
                  fully
                  impaired these note receivables based on management’s assessment of
                  substantial doubt as to collectability pursuant to FASB 5. Further,
                  since
                  this item was originally recorded as an asset on a Canadian subsidiary
                  with a functional currency of the Canadian Dollar, the balance
                  sheet
                  effect of the change varies from the income statement charge through
                  impairment of assets.
 
 3.
              The
                  Company reported the initial $1,794,000 of acquisition costs for
                  the
                  Company’s technology as a capital asset even though the technology was
                  not
                  fully developed on the acquisition date and should have been classified
                  as
                  a purchase of in process research and development. The Company
                  has fully
                  expensed these costs as in process research and development in
                  2003.
                  Further, since this item was originally recorded as an asset on
                  the
                  Canadian subsidiary with a functional currency of the Canadian
                  dollar, an
                  additional asset of $176,000 related to foreign currency translation
                  adjustments has been eliminated in the restated financial
                  statements.
 
 4.
              The
                  Company determined that the original patent costs capitalized of
                  $51,399
                  were impaired and has been written off to expense. The remainder
                  of the
                  adjustment relates to patent costs written off in 2003 and
                  2004.
 
 5.
              The
                  Company determined that it was not obligated to pay an invoice
                  in the
                  amount of $24,264 that was erroneously charged in 2004 relating
                  to stock
                  offering costs.
 
 6.
              As
                  of result of the November 21, 2006, Mega C Chapter 11 plan of
                  reorganization, Trust was required to return 1,000,000 shares of
                  the
                  Company’s common stock distributed to the Trust in conjunction with the
                  original reverse acquisition on December 31, 2003 for cancellation
                  by the
                  Company. In the restated financial statements, the Company retroactively
                  adjusted the return of 1,000,000 shares against the original shares
                  issued
                  to the Trust that resulted in a reduction of $100 in the value
                  of common
                  stock and increase in additional paid in capital at December 31,
                  2003 that
                  carried over into 2005. This also resulted in a decrease of 1,000,000
                  shares in the weighted average shares
                  outstanding.
 7.
              The
                  adjustments aggregating $923,039 to additional paid in capital
                  are as
                  follows:
  ·
              $838,697
                  increase relating to equity transactions recorded during 2003 and
                  2004
                  further described in Note 4 and Note 5
                  respectively;
  ·
              $82,862
                  increase relating to recording the intrinsic value of options granted
                  in
                  2004 to employees over the vesting period that was originally not
                  valued;
  ·
              Other
                  miscellaneous and immaterial adjustments which account for the
                  difference
                  of the dollar amount adjusted of $1,480.
 8.
                The
                    Company identified adjustments relating to foreign currency transaction
                    gains or losses and foreign currency translation adjustments.
  51
  **Note
        7 — Mega-C Trust (the Trust)**
 
 ***Trust
        rationale:*** Mega-C
        Power Corp (Mega-C) was a company that previously held limited and non-exclusive
        license rights to the technology that APC licensed, , then purchased, from
        C&T. Mega-C had ceased substantive operations as a result of the
        investigation of the promoters and management by the Ontario Securities
        Commission (OSC) and was forced into bankruptcy in April, 2004. The Trust
        was
        created at the time of the reverse acquisition in response to the potential
        perceived equities of the Mega-C shareholders and risks of the situation.
        APC’s
        founders believed that the investors in Mega-C might be able to assert a
        variety
        of equitable claims to the energy storage technology the Company acquired
        from
        C&T. The Trust document required that when the Trust made its distribution;
        the beneficiary waived any claims on all parties. Therefore, while Axion
        had no
        control over the Trust, its mandates were believed to be an effective way
        to
        eliminate conflicting claims to the technology. The Company’s founders were also
        shareholders in Mega-C.
 
 Shortly
        after the formation of the Trust, Mega-C’s promoters filed suit against Axion
        and APC’s founders. In response, Axion and its affiliates filed an involuntary
        bankruptcy proceeding against Mega-C to force a judicial resolution.
 
 ***Trust
        corpus:*** The
        original corpus of the Trust was 7,327,500 shares of the common stock that
        APC’s
        shareholders had rights to in connection with the reverse acquisition on
        December 31, 2003. In connection with the execution of the Amended and Restated
        Trust Agreement in February 2005, which formally recognized the jurisdiction
        of
        the bankruptcy court on all matters, Axion issued 500,000 additional shares
        to
        the Trust. This occurred in the fiscal year ended December 31, 2005. This
        issuance was considered Axion’s contribution to the Trust to obtain clear title
        to the technology and resolve all related matters. Accordingly, the shares
        were
        recorded as an expense for accounting and financial reporting purposes. The
        stock issuance transaction was valued at $1,525,000, which represents the
        value
        of the shares on the date of issuance. As a result of the bankruptcy court’s
        ruling in November, 2006 (See the footnote captioned “Subsequent Events”)
        1,500,000 were returned to the Company for cancellation in 2006, of which
        1,000,000 represents an adjustment to the reverse acquisition and 500,000
        represents a return of the 2005 augmentation. (See the footnote captioned
        “Stockholder’s Equity.”)
 
 ***Trust
        Operations:*** The
        Trust did not conduct any substantive operations because Mega-C Power was
        forced
        into involuntary bankruptcy shortly after the Trust’s inception. As a result of
        the confirmation of Mega-C’s plan of reorganization on November 21, 2006 the
        Trust is now governed by a court appointed Trustee along with a court appointed
        Board from the Trust’s beneficiaries, none of which are Axion’s founders or
        management.
 
 ***Trust
        status:*** See
        “Subsequent Events” for disclosure about the ultimate result of the litigation.
 
 ***The
        Trust for the Benefit of the Shareholders of Mega-C Power
        Corp*** . ***consolidation:*** Under FASB
        Interpretation No. 46 (revised December 2003) *Consolidation
        of Variable Interest Entities an interpretation of ARB No. 51* ,
        ( FIN
        46R),
        reporting companies are required to consolidate a related variable interest
        entity (“VIE”) when the reporting company is the “primary beneficiary” of that
        entity and holds a variable interest in the VIE. The determination of whether
        a
        reporting company is the primary beneficiary of a VIE ultimately turns on
        whether the reporting entity will absorb a majority of the VIE’s anticipated
        losses or receive a majority of the VIE’s anticipated gains.
 
 Variable
        Interest Entity
 
 The
        Trust
        may be a variable interest entity because it has required outside infusions
        of
        cash over its existence.
  52
  Variable
        Interest
 
 The
        Company analyzed its transactions with and relationship to the Trust and
        concluded that it may have had a very small variable interest in the Trust
        based
        on its obligation to perform the acts necessary to have the SEC declare a
        registration statement effective. Further, Axion appeared to have had a limited
        variable interest based on its obligation, pursuant to the requirements in
        the
        Trust instrument that Axion pay Trust expenses until the required registration
        statement was declared effective. However, in reality, Axion never paid any
        significant Trust expenses for three reasons: (1) while the Trust included
        a
        provision for payment of expenses, no significant expenses were ever paid,
        (2)
        the Trust suspended operations on April 4, 2004 when Mega-C Power Corp. entered
        bankruptcy; and (3) the explicit obligation the Company had to pay certain
        expenses of the Trust ended on January 7, 2005 when the required registration
        statement was declared effective. The Company’s relationship to and transactions
        with the Trust, based on actual transactions, constituted a very small variable
        interest, if any, compared to other entities who provided much larger amounts
        of
        support to the Trust, for which the Company had no responsibility. Further
        no
        shares were expected to be returned to Axion at the time these assessments
        were
        made. The relative size of the variable interest is relevant to the
        determination of the primary beneficiary, as discussed below.
 
 Primary
        Beneficiary
 
 Axion
        did
        not and will not absorb a majority of the Trust’s anticipated losses or derive
        the benefit of a majority of the Trust’s gains, if any, at any time. The primary
        beneficiary, at the time of assessment, based on an assessment of what entity
        (entities) absorbs a majority of the entity’s expected losses, receives a
        majority of its expected residual returns, or both, as a result of holding
        variable interests, was the creditors and shareholders of Mega-C Power Corp,
        as
        a group. These were the entities, as groups, who would be affected by increases
        and decreases in the Trust’s primary asset, the Axion stock. These two groups
        will also suffer a diminution in assets available for distribution to them
        because of the expenses the Trust incurs. The increases and decreases in
        the
        value of the Axion stock in the Trust will have no effect on Axion. Axion
        may
        have had a very limited obligation in the first quarter of 2004 but few,
        if any,
        expenses were incurred by the Trust in that quarter. In the second quarter,
        Mega-C Power Corp. entered bankruptcy and the Trust became dormant and,
        effectively, under the Bankruptcy Court. Upon registration of the Trust shares
        in January 2005 Axion’s obligation to the Trust ended.
  
 Based
        on
        the above, Axion was not the primary beneficiary and accordingly, Axion is
        not
        required to consolidate the Trust. Through this series of business transactions,
        Axion accomplished its business strategy for perfecting title to the battery
        technology when the Bankruptcy Court in Reno confirmed the bankruptcy plan
        in
        2006.
 
 **Note
        8 —Notes Receivable**
 
 The
        notes
        receivable reflected in the Company’s previously filed financial statements
        represented non-interest bearing advances that the Company made to Mega-C
        both
        before and after the filing of the Chapter 11 case on April 4, 2004. The
        Company
        determined the carrying value at December 31, 2003 (which included advances
        made
        in the short period from September 18, 2003 to December 31, 2003 and all
        subsequent advances made in the fiscal years ended December 31, 2004 and
        2005 to
        be fully impaired due to lack of evidence of collectability. Accordingly,
        advances made during the short period from September 18, 2003 to December
        31,
        2003 and the fiscal years ended December 31, 2004 and 2005 were determined
        to be
        impaired as the advances were made and expenses in each of the respective
        years
        as the advances were made.
  53
  The
        Company restated its financial statements as of December 31, 2003, 2004 and
        2005
        and for the periods then ended by recording an allowance for doubtful accounts,
        in an amount equal to the aggregate of the advances, against the Mega-C advances
        as the advances were made. See Notes 4, 5, and 6 for details. The loss related
        to this allowance is included in the caption “Impairment of Assets” in the
        accompanying Statement of Operations.
 
 Pursuant
        to the settlement agreement discussed below in the note captioned “Subsequent
        Events,” the Company compromised its creditor claims in the Mega-C bankruptcy
        proceeding for $100.
 
 **Note
        9 — Property and Equipment**
 
 The
        company had no property and equipment at December 31, 2003. A summary of
        property and equipment at December 31, 2005 and 2004 is as follows:
 
 **Estimated
                  useful**
              
              **Restated********life**
              
              **2005**
              
              **2004**Asset
                  deposit
              
              
              
              
              $
              80,000
              
              $
              -Machinery
                  & equipment
              
              
              5
                  years
              
              
              270,902
              
              
              118,519Less
                  accumulated depreciation
              
              
              
              
              
              85,960
              
              
              22,880Net
              
              
              
              
              $
              264,942
              
              $
              95,639Depreciation
                  expense
              
              
              
              
              $
              58,157
              
              $
              22,880
 
 **Note
        10 — Transactions with a related party (C&T)**
 
 APC
        entered into a license agreement with C&T in November 2003, which required
        periodic payments until the unpaid balance was reduced to $1,000,000. The
        final
        payment of $1 million was payable after the completion of preliminary beta
        testing of the technology. Preliminary beta testing was completed in early
        2005
        and in March 2005, the balance of the obligation to C&T was satisfied
        through the issuance of 100,000 shares of preferred stock. (See the note
        captioned “Stockholder’s Equity” and “Commitments and
        Contingencies.” ****
 
 Under
        the
        November 2003 Development and License Agreement between APC and C&T, APC
        agreed to:
 
 ·
              pay
                  $794,000 to C&T in periodic
                  payments;;
 
 ·
              pay
                  $1 million to C&T when beta testing of the technology was successfully
                  completed;
 ·
              issue
                  12.5% of APC’s common stock to C&T;
 
 ·
              pay
                  royalties of 3.75% to C&T on future sales of products based on the
                  technology, and,
 
 ·
              if
                  APC becomes a public company, listed on a major exchange, issue
                  an
                  additional 12.5% of APC’s common stock for the acquisition of all
                  outstanding shares of C&T
                  stock.
 
 In
        January 2004, the terms of the agreement with C&T were renegotiated and the
        Company agreed to:
 
 ·
              assume
                  APC’s obligation to pay the remaining balance of the $794,000
                  obligation;
 
 ·
              assume
                  APC’s obligation to pay the $1 million contingent payment;
                  and  ·
              issue 1,562,900 warrants (25,000,000
                  pre
                  16:1 reverse split) to C&T in exchange for its residual interest in
                  the technology, including its patents; its reserved rights to develop
                  the
                  technology for use in mobile applications and consumer products;
                  and any
                  reserved royalties that were paid by Mega-C and Mega-C Technologies,
                  Inc
                  (MCT) under C&T’s earlier agreements with those companies, and the
                  shares of C&T will be transferred to Axion upon final payment of the
                  obligation under the license
                  agreement.
  54
  In
        its
        previously filed financial statements for the years ended December 31, 2005,
        2004 and 2003, the Company reported its investment in the technology as an
        intangible asset. As a result of the audit committee’s reassessment of the
        company’s accounting practices and procedures, after inquiries from the SEC,
        management concluded that amounts paid and payable to C&T, as well as the
        value of the warrants issued in connection with the Company’s purchase of the
        technology should have been expensed as in-process research and development
        when
        the liabilities were incurred because the technology was not fully developed
        when the license was executed and there were no alternative future use in
        its
        existing state. Similarly, the Company concluded that the amounts paid in
        relation to patents, patent applications and other intellectual property
        protection should have been impaired on a current basis because there was
        no
        assurance that those costs could be recovered through future cash
        flows.
 
 The
        Company restated its financial statements as of December 31, 2005, 2004 and
        2003
        and for the years then ended to eliminate the carrying value of the intangible
        asset on its balance sheet and correctly report the expenses associated with
        the
        purchase of in-process research and development and the acquisition of
        additional patents. The following paragraphs summarize the
        adjustments:
 
 *December
        31, 2003*  -
        The
        asset section of the Company’s balance sheet reflected $1,794,000 as a “future
        interest in affiliate company” as a long term-intangible asset. The liabilities
        section of the balance sheet reflected $1,159,000 as the “balance payable to
        acquire future interest in affiliate company.” The $635,000 difference between
        these two values represented the amounts paid to C&T during the period
        between November 15, 2003 (the date of the Development and License Agreement)
        and January 9, 2004 (the date of the renegotiation of the C&T contract). Of
        this amount, $350,000 was actually paid during 2003 and the balance was paid
        in
        January 2004.
 
 In
        the
        restated financial statements included in this report, the January cash payment
        has been reclassified as a 2004 event; the $1,794,000 obligation has been
        charged to expense as a purchase of in-process research and development;
        and the
        liability to C&T has been adjusted to $444,000, which represents the unpaid
        balance of the Company’s $794,000 fixed payment obligation to C&T at
        December 31, 2003. The $1 million beta completion payment obligation to C&T
        is reflected as a contingency and recorded as a liability in the restated
        financial statements as of December 31, 2003 because-completion was considered
        probable.
 
 In
        the
        restated financial statements, the Company accrued an additional obligation
        of
        approximately $564,000 to C&T in exchange for its residual interest in the
        technology as more fully described above. That obligation was satisfied after
        year end by the issuance of 1,562,900 warrants. Those warrants were initially
        valued at $25,000, recorded and presented as issued in 2003 as originally
        filed.
 
 *December
        31, 2004*  -
        The
        asset section of the Company’s balance sheet included in the Form SB-2 filed in
        April of 2005 reflected $1,794,000 as a “contingent future interest in affiliate
        company” under the caption “Other Assets.” The liabilities section of the
        balance sheet reflected $100,500 as “balance payable to acquire future interest
        in affiliate company” and $1,000,000 as the “contingent portion payable to
        acquire future interest in affiliate company.”
 
 In
        the
        restated financial statements included in this report, the liability to C&T
        has been reduced to $100,500 and is included as amount payable to C&T, which
        represents the unpaid balance of the Company’s $794,000 fixed payment obligation
        to C&T at December 31, 2004. The $1 million beta completion payment
        obligation to C&T has been included as amounts payable to C&T based on
        the likelihood being considered probable. Additionally, the company issued
        1,562,900 warrants (pre split 25,000,000 warrants) valued at approximately
        $564,000 in 2004 where the transaction had initially been recorded at $25,000
        in
        2003. The increase to the value of the warrants was charged to in process
        research and development during 2003 and credited to additional paid in capital
        in 2004.
  55
  *December
        31, 2005*  -
        The
        asset section of the Company’s balance sheet reflected $2,154,066 of “intangible
        assets” as a long-term asset of which $1,970,243 related to the intangible asset
        acquired from C&T (the fluctuation in the cost from 2004 to 2005 can be
        attributed to the fluctuation in the foreign exchange rate at the balance
        sheet
        date.).
 
 The
        statements do not reflect a contingent liability for certain tangible personal
        property owned by C&T labs, Inc. an affiliate of C&T that the Company
        has the option to purchase. The liability for $103,384 (Canadian) approximately
        $84,000 in US dollars was recorded in April 2006 at the time the Company
        elected
        to purchase the assets.
  **Note
        11- Convertible Debt**
  During
        2003, the Company obtained financing of $1.5 million from existing shareholders
        and other investors, which includes (1) convertible promissory notes with
        an
        aggregate principal amount of $1.5 million which bear interest at 12% and
        mature
        in 2005; and (2) warrants to purchase, at any time prior to January 1, 2005,
        an
        aggregate of 608,600 shares of the Company's common stock at exercise prices
        ranging from $1.50 to $ 3.00 per share. These notes are convertible at amounts
        ranging from $1.00 to $2.00 (post reverse stock split) into 1,158,333 shares
        of
        common stock. As of December 31, 2003, $350,000 of proceeds related to these
        notes had not yet been received by the Company. This amount is included in
        subscription receivable as of December 31, 2003, because the notes were
        converted to common stock prior to December 31, 2003.
  The
        Company used the Black-Scholes-Merton option pricing model in valuing the
        detachable warrants. The inputs for the valuation analysis of the warrants
        include the market value of the Company’s common stock, the estimated volatility
        of the Company’s common stock, the exercise price of the warrants and the risk
        free interest rate. The key inputs for the valuation analysis at December
        31,
        2003 were a volatility of 57%, common stock value of $1.00 and a risk free
        interest rate of 4.0%. In accordance with Accounting Principles Board Opinion
        14, Accounting Principles Board Opinion No. 14 (As Amended) *Accounting
        for Convertible Debt and Debt Issued with Stock Purchase
        Warrants* (APB 14)
        the Company recorded the warrants as a debt discount with offsetting charges
        to
        additional paid-in capital for relative their fair value of $86,402. The
        discount is amortized using the “effective yield” method.
 
 During
        2004, the Company obtained financing of $400,000 from an investor, which
        includes (1) convertible promissory notes with an aggregate principal amount
        of
        $400,000 which bear interest at 12% and mature in 2005; and (2) warrants
        to
        purchase, at any time prior to January 1, 2005, an aggregate of 233,400 shares
        of the Company's common stock at exercise prices ranging from $1.50 to $
        3.00
        per share. These notes are convertible at amounts ranging from $1.00 to $2.00
        (post reverse stock split) into 233,333 shares of common stock. These notes
        were
        converted on the same day as a result, there is no impact relating to the
        valuation of the related warrants and no interest was charged.
  The
        following tables summarize the transactions regarding the notes, related
        discount and accrued interest for the years ended December 31, 2003, 2004,
        and
        2005:
  Related
                Parties
              
              Other
              
              TotalPrincipal
                  amount of loans
              
              $
              750,000
              
              $
              750,000
              
              $
              1,500,000Amount
                  converted to common stock
              
              
              (700,000
              )
              
              (750,000
              )
              $
              (1,450,000
              )Balance
                  at December 31,2003
              
              
              50,000
              
              
              -
              
              
              50,000Principal
                  amount of loans
              
              $
              400,000
              
              
              -
              
              $
              400,000Amount
                  converted to common stock
              
              
              (450,000
              )
              
              -
              
              
              (450,000
              )Balance
                  at December 31,2004
              
              $
              -
              
              $
              -
              
              $
              -
  56
  Related
                  Discount and Accruals
 Related
                Parties
              
              Other
              
              TotalDiscount
                  attributable to fair value of warrants
              
              $
              47,692
              
              $
              38,710
              
              $
              86,402Amortization
                  of discount through Dec 31, 2003
              
              
              (7,497
              )
              
              (1,717
              )
              
              (9,214
              )Accrual
                  of stated interest through Dec 31, 2003
              
              
              11,336
              
              
              5,931
              
              
              17,267Amount
                  converted to common stock
              
              
              (49,837
              )
              
              (42,924
              )
              
              (92,761
              )Balance
                  at December 31,2003
              
              
              1,694
              
              
              -
              
              
              1,694Amount
                  converted to common stock
              
              
              (1,694
              )
              
              -
              
              
              (1,694
              )Balance
                  at December 31,2004
              
              $
              -
              
              $
              -
              
              $
              -
 
 **Note
        12 — Note Payable to Related Party**
 
 During
        the year ending December 31, 2005, the Company borrowed approximately $180,000
        from a member of the board of directors. The note originally charged interest
        at
        the rate of 6% per year and was due December 10, 2005. As of December 31,
        2005,
        the amount was still outstanding, resulting in a default interest rate of
        12%.
        The note was fully repaid in January 2006. Interest charges of approximately
        $2,000 were recorded.
 
 **Note
        13 — Stockholders' Equity**
 
 ***Authorized
        capital stock*** ***:***  As
        of
        December 31, 2005, the Company’s certificate of incorporation authorizes the
        issuance of 50,000,000 shares of common stock and 12,500,000 shares of preferred
        stock.
 
 ***Common
        stock:*** At
        December 31, 2005, 16,604,598 shares of common stock were issued and
        outstanding, as compared with 12,961,933 shares at December 31, 2004 and
        10,660,818 shares at December 31, 2003. The holders of common stock are entitled
        to one vote for each share held of record on all matters to be voted on by
        stockholders. There is no cumulative voting with respect to the election
        of
        directors, with the result that the holders of more than 50% of the shares
        voted
        for the election of directors can elect all of the directors. Holders of
        common
        stock are entitled to receive dividends when and if declared by the board
        out of
        funds legally available. In the event of liquidation, dissolution or winding
        up,
        the common stockholders are entitled to share ratably in all assets remaining
        available for distribution to them after payment of liabilities and after
        provision has been made for each class of stock, if any, having preference
        over
        the common stock. The common stockholders have no conversion, preemptive
        or
        other subscription rights and there are no redemption provisions applicable
        to
        the common stock. All of the outstanding shares of common stock are fully
        paid
        and non-assessable.
 
 ***Preferred
        Stock:*** At
        December 31, 2005, 140,000 shares of preferred stock were issued and
        outstanding. The Company’s certificate of incorporation authorizes the issuance
        of 12,500,000 shares of a blank check preferred stock. The Company’s board of
        directors has the power to establish the designation, rights and preferences
        of
        any preferred stock. Accordingly, the board of directors has the power, without
        stockholder approval, to issue preferred stock with dividend, liquidation,
        conversion, voting or other rights that could adversely affect the voting
        power
        or other rights of the holders of common stock.
  57
  ***Reverse
        Stock Split*** :
        In June
        2004, the Company implemented a one share for 16 reverse stock split. All
        share
        amounts and per share information has been retroactively adjusted to give
        effect
        to the reverse split.
 
 ***Equity
        Transactions -period ended December 31, 2003***
 
 *APC
        and Tamboril (now Axion) reverse acquisition* *:* ****** In
        December 2003 Tamboril entered into a reverse acquisition agreement with
        APC.
        Under the terms of the agreement, all outstanding securities of APC were
        acquired by Tamboril in exchange for newly issued stock. Upon consummation
        of
        the transaction, the former stockholders of APC owned the majority of Tamboril’s
        outstanding shares and controlled Tamboril’s Board of Directors.
 
 Prior
        to
        the reverse acquisition, APC issued rights to its founders for 1,360,000
        shares
        of APC common stock as additional shares for money contributed through the
        purchase of convertible debt. Accordingly, there was no expense recorded
        related
        to these issuances of these shares. However, there was one founder that did
        not
        contribute funds in which APC valued the 170,000 shares issued as expense
        for
        services rendered during the period ending December 31, 2003 amounting to
        $48,953 based on the value of the shares received for the funds contributed
        by
        the other founders. The founders purchased convertible debt from APC (See
        the
        note captioned “Convertible Debt.”) for $1,450,000 of which $350,000 was not
        collected until 2004 which is included as a subscription receivable. These
        convertible debt instruments were converted prior to the merger in which
        1,108,335 shares of APC common stock were issued as consideration for $1,450,000
        of convertible debt.
 
 The
        following collateral transactions were completed in conjunction with the
        original closings:
 
 ·
              Tamboril
                  had 1,875,000 shares of common stock outstanding at December 31,
                  2003
                  which is reflected as equity acquired in the
                  recapitalization.
 
 ·
              Tamboril
                  settled $484,123 in pre-merger accrued related party compensation
                  debt
                  through the issuance of 233,400 warrants. No corresponding expense
                  was
                  recorded on the Company’s records because the debt was included on the
                  legal acquirer’s (the shell company) records prior to the reverse
                  acquisition.
 
 ·
              Tamboril
                  issued 9,785,818 common shares (prior to the return of 1,000,000
                  shares
                  from The Trust for the Benefit of the Shareholders of Mega-C Power
                  Corp in
                  the fiscal year ended December 31, 2006, as disclosed in the note
                  captioned “Subsequent Events”) and 608,600 warrants to APC’s stockholders
                  in exchange for a substantial controlling interest in APC. This
                  includes
                  the common shares issued to the founders, common shares and warrants
                  issued in conjunction with the convertible notes, and shares issued
                  to the
                  Mega C Trust.
 
 As
        part
        of the above described transaction, APC shareholders, who had rights to the
        stock decided to have 7,147,483 shares of Tamboril shares to be issued to
        the
        Trust and APC shareholders retained the remaining shares. As a result of
        the
        November 21, 2006 Mega C Chapter 11 plan of reorganization, the Trust was
        required to return 1,000,000 shares of the common stock distributed to the
        Trust
        noted above for cancellation by the Company. The Company retroactively adjusted
        the return of the shares against the shares issued to the Trust resulting
        in
        6,147,483 net shares issued to the Trust at December 31, 2003.
 
 ·
              The
                  original reverse acquisition was amended on January 9, 2004. See
                  discussion of the amendment under the explanation of the equity
                  2004
                  below.
  58
  ***Equity
        Transactions -period ended December 31, 2004***
 
 Prior
        to
        the second part of the reverse acquisition on January 9, 2004, the Company
        adjusted the original shares issued to the founders by issuing rights to
        an
        additional 445,000 shares to the founders and 180,000 shares to the Trust.
        Since
        there was no additional service or money contributed there was no expense
        recorded related to the additional shares issued. Also, the Company issued
        45,000 shares to the CEO which amounted to $72,000 valued at the pink sheet
        bid
        price on the date of grant. Certain related parties purchased convertible
        debt
        from APC for $400,000. The $400,000 of convertible debt purchased during
        2004
        and the remaining $50,000 of convertible debt outstanding at December 31,
        2003
        was converted into 283,333 shares of APC common stock during 2004.
 
 *2004
        Private Placements:* ****** During
        the year ended December 31, 2004, the Company sold 823,800 shares of common
        stock and 463,100 warrants for net cash proceeds of $1,607,134. The Company
        also
        received $868,020 in cash proceeds from the exercise of 475,200 outstanding
        common stock purchase warrants. The Company issued 48,782 shares of common
        stock
        for rounding purposes in conjunction with the 2004 reverse stock
        split.
 
 ***Equity
        Transactions -Year ended December 31, 2005***
 
 ***Augmentation
        of Trust and Trust Settlement*** *:* In
        February 2005, the Company issued 500,000 shares of common stock to The Trust
        for the Benefit of the Shareholders of Mega-C Power Corp. For accounting
        and
        financial reporting purposes, the stock issuance transaction was valued at
        $1,525,000, which represents the value of the shares on the date of issuance.
        This amount was charged to general and administrative expenses during the
        year
        ended December 31, 2005. There
        were 500,000 shares returned to the Company for cancelation in November,
        2006 in
        connection with the bankruptcy court confirmation of the settlement. (See
        the
        footnote captioned “Subsequent Events”) Those shares were effectively the return
        of the 500,000 shares issued to the Trust in February, 2005. Those shares
        will
        be recorded as a reversal of the expense at fair value on the date of return
        in
        2006 ($1,125,000) and have been subsequently cancelled. In addition, under
        the
        bankruptcy court confirmation of the settlement, the Trust corpus was reduced
        another 1,000,000 shares, which were returned to the Company and cancelled.
        The
        return in 2006 was the result of a negotiated settlement and there are no
        contingencies surrounding the Trust shares in 2005. See the disclosure in
        the
        note captioned “Mega-C Trust.” This cancellation was considered a retroactive
        adjustment to the shares issued in the 2003 reverse acquisition.
 
 ***2005
        Private Placement of Senior Preferred:*** In
        February 2005, the board of directors designated 1,000,000 shares preferred
        stock as 8% Cumulative Convertible Senior Preferred Stock (the “senior
        preferred”). The Company sold 385,000 shares of senior preferred at a price of
        $10 per share. The net proceeds of the offering included $2,754,110 in cash
        and
        $1,000,000 in liability conversion. At December 31, 2005, $25,000 of this
        amount
        was included in stock subscription receivables. The Senior Preferred offering
        originally required the sale of a minimum of 500,000 shares ($5,000,000)
        before
        the offering proceeds would be available to the Company. The purchasers of
        the
        senior preferred ultimately waived this minimum offering condition. The
        preferred stock has liquidation preference equal to the stated value on the
        payment date before any payment or distribution is made to the holders of
        common
        stock.
 
 So
        long
        as any senior preferred shares are outstanding, the Company cannot (i) issue
        any
        series of stock having rights senior to or on parity with the senior preferred
        (ii) amend, alter or repeal any provision of its Certificate of Incorporation
        or
        bylaws to adversely affect the relative rights, preferences, qualifications,
        limitations or restrictions of the senior preferred, or (iii) effect a
        reclassification of the senior preferred without the consent of the holders
        of a
        two-thirds majority of the outstanding shares. The Company is not authorized
        to
        issue any additional shares of senior preferred.
  59
  To
        provide for immediate cash needs during the offering period, the Company
        agreed
        to issue warrants to any purchaser of senior preferred who agreed to loan
        the
        Company the amount of the share proceeds until the $5 million minimum
        subscription was reached. In connection therewith, the purchasers of $565,000
        of
        senior preferred agreed to release their subscription payments notwithstanding
        the minimum subscription and other restrictions in the associated private
        placement memorandum. As a result, the Company issued 282,500 warrants to
        those
        purchasers. By March 2005, the $5 million minimum was still not met and the
        Company agreed to issue 228,500 additional warrants to the purchasers of
        $2,285,000 of senior preferred who agreed to waive the minimum subscription
        requirement. The foregoing warrants are exercisable at a price of $2 per
        share,
        and expire on March 21, 2007. Since the warrants were detachable, granted
        in
        connection with the offering, immediately vested, and exercisable at a price
        that was less than the reported fair market value of the underlying common
        stock
        on the date of grant, the proceeds
        of the offering were allocated between the senior
        preferred and the
        warrants based on the relative fair value of each instrument. The assumed
        value
        of the senior
        preferred was
        determined based on the fair value of the underlying common shares and the
        fair
        value of the warrants was valued using the Black-Scholes-Merton option
        pricing model. The proceeds allocated to the senior
        preferred amounted to $3,440,268. The
        effective conversion price of the senior
        preferred was at a
        price lower than the market price of the common stock at the date of the
        issuance, resulting in a non-cash beneficial conversion feature of $2,315,482.
        This beneficial conversion feature was immediately recognized as additional
        non-cash dividends.
 
 Holders
        of senior preferred have the right to convert their shares into common stock
        at
        any time, at an original conversion price of $2.00. The Company was required
        to
        register the underlying shares by April 30, 2005. The shares were not registered
        until June 2005 and as a result the conversion price was reduced to $1.86
        per
        share. This reduction in the conversion price resulted in an additional
        beneficial conversion feature, valued at the fair value of the additional
        common
        shares issuable as a result of the reduced conversion price, amounting to
        $433,228.
 
 Holders
        of senior preferred are entitled to anti-dilution protection for certain
        subsequent events, including the issuance of equity or debt securities that
        may
        be converted into common stock at a conversion price that is less than the
        conversion price of the senior preferred. As discussed in the note captioned
        “Subsequent Events,” the Company recently sold approximately 823,000 shares of
        Series A Preferred Stock that is convertible at a price of $1.25 per share.
        This
        stock sale triggered the anti-dilution provisions of the senior preferred
        stock
        and giving effect to all required adjustments, the adjusted conversion price
        of
        the senior preferred is now $1.68 per share as of December 31, 2006.
 
 In
        September 2005, the Company offered all holders of preferred stock an early
        conversion incentive that was approximately equivalent to one year’s anticipated
        dividends on the preferred stock. While each share of senior preferred was
        convertible into 5.5 shares of common stock when the Company offered the
        early
        conversion incentive, 6 shares of common stock were issued for each share
        of
        senior preferred converted during the incentive period. A total of 245,000
        shares were converted. The fair value of the additional common shares issued
        as
        a result of this inducement was recorded as a preferred dividend, amounting
        to
        $350,446.
 
 The
        total
        of the beneficial conversion feature and conversion inducement for the year
        ended December 31, 2005 that is included in preferred dividends on the
        accompanying statement of operations amounted to $3,099,156. The Company
        analyzed the embedded derivative conversion feature and the free standing
        warrants issued in connection with the senior preferred and determined that
        the
        instruments are equity instruments and accordingly, are not accounted for
        as
        derivatives, requiring fair value accounting at each reporting
        period.
 
 Holders
        of senior preferred are entitled to receive dividends at the annual rate
        of 8%.
        Dividends are payable quarterly on the last day of March, June, September
        and
        December of each year. Dividends are cumulative from the date of issuance
        and
        payable to holders of record. In order to conserve available resources, the
        Company will not pay cash dividends on the senior preferred in any quarter
        where
        the Company reports a net loss. Any accrued dividends that are not paid in
        cash
        will be added to the stated value of the senior preferred. Dividends accrued
        and
        added to the stated value during the year ended December 31, 2005 amounted
        to
        $176,194.
  60
  The
        senior preferred had an initial stated value of $10.00 per share. Accrued
        dividends that are not paid in cash within 10 days of a payment date will
        automatically be added to the stated value and the stated value, as adjusted,
        will be used for all future dividend and conversion calculations. The following
        table summarizes the expected future stated value of the senior preferred
        at the
        end of each quarter through December 31, 2007
 
 **Quarter**
                **Ended**
              
              **Adjusted
                  Stated**
                **Value**
              
              **Quarter**
                **Ended**
              
              **Adjusted
                  Stated**
                **Value****31-Mar-06**
              
              **$10.86**
              
              31-Mar-07
              
              $11.75**30-Jun-06**
              
              **11.07**
              
              30-Jun-07
              
              $11.99**30-Sep-06**
              
              **11.29**
              
              30-Sep-07
              
              $12.23**31-Dec-06**
              
              **11.52**
              
              31-Dec-07
              
              $12.47
  The
        senior preferred is redeemable by the Company under certain conditions unless
        the holders elect to exercise their conversion rights prior to the redemption
        date. Twenty percent of the senior preferred will become redeemable when
        the
        market price of the Company’s common stock exceeds $6.00 per share for at least
        30 trading days within any period of 45 consecutive trading days. Thereafter,
        an
        additional twenty percent of the senior preferred will become redeemable
        for
        each $1.00 increase in the stabilized market price of the Company’s common
        stock. In connection with any proposed redemption of senior preferred, the
        Company will give each holder not less than 30 days notice of its intention
        to
        redeem a portion of the shares.
 
 2005
        Private Placement of Common Stock :
        Common
        stock private placement activities during the year ended December 31, 2005
        were
        as follows:
  ·
              The
                  Company sold 600,000 units, each consisting of one share of common
                  stock
                  and a two-year warrant exercisable at $4.00 for a purchase price
                  $2.00 per
                  unit, or $1,200,000, before offering costs. As of December 31,
                  2005,
                  $200,000 is included in stock subscriptions receivable, which was
                  received
                  in 2006.
 
 ·
              A
                  director exercised 446,000 - $1warrants/options and 25,000 - $2
                  options
                  with a total exercise price of $496,000. The stock was issued and
                  included
                  in stock subscriptions receivable as of December 31, 2005. As of
                  June 19,
                  2006, the full amount has been settled.
 
 ·
              Other
                  holders exercised 382,665 options & warrants with an aggregate
                  exercise price of $787,395.
 
 The
        private placement transactions were all exempt under Section 4(2) of the
        Securities Act. The securities were issued to a limited number of purchasers,
        all of whom are accredited investors.
 
 **Common
        Stock Issuances:** The
        following table represents per share issuances of common stock from inception
        through December 31, 2005, pursuant to FASB No. 7, “ *Development
        Stage Enterprises* ”:
  
 **2003**Description:
              
              Date
              
              Shares
              
              Per
                  share
                valuation
              
              Business reason:Shares
                  issued to founders
              
              
              9/18/2003
              
              
              1,360,000
              
              $
              0.00
              
              
              original
                  capitalization-no contributed capitalAPC
                  Founder
              
              
              9/18/2003
              
              
              170,000
              
              $
              0.29
              
              
              services
                  rendered with respect to formationSeed
                  debt financing
              
              
              12/31/2003
              
              
              500,000
              
              $
              1.00
              
              
              conversion
                  of debt and accrued interest to common stockSeries
                  I convertible debt
              
              
              12/31/2003
              
              
              533,334
              
              $
              1.50
              
              
              conversion
                  of debt and accrued interest to common stockSeries
                  II convertible debt
              
              
              12/31/2003
              
              
              75,000
              
              $
              2.00
              
              
              conversion
                  of debt and accrued interest to common stockMega-C
                  Trust
              
              
              12/31/2003
              
              
              6,147,484
              
              $
              0.00
              
              
              In
                  lieu of shares issuable to foundersTamboril
                  shareholders
              
              
              12/31/2003
              
              
              1,875,000
              
              $
              0.00
              
              
              recapitalization
                  measured at fair market value of Tamboril assets2003
                  Totals
              
              
              
              
              
              10,660,818
              
              $
              0.14
  61
  **2004**Description:
              
              Date
              
              Shares
              
              Per
                  share valuation
              
              Business reason:Shares
                  issued to founders
              
              
              1/9/2004
              
              
              445,000
              
              $
              0.00
              
              
              In
                  lieu of shares issuable to foundersMega-C
                  Trust
              
              
              1/9/2004
              
              
              180,000
              
              $
              0.00
              
              
              adjustment
                  is shares issuable to foundersOfficer
              
              
              1/9/2004
              
              
              45,000
              
              $
              1.60
              
              
              services
                  rendered by former officerSeries
                  I convertible debt-Igor Filipenko
              
              
              1/9/2004
              
              
              50,000
              
              $
              1.00
              
              
              conversion
                  of debt and accrued interest to common stockSeries
                  II convertible debt-Turitella
              
              
              1/9/2004
              
              
              133,333
              
              $
              1.50
              
              
              conversion
                  of debt and accrued interest to common stockSeries
                  III convertible debt-Turitella
              
              
              1/9/2004
              
              
              100,000
              
              $
              2.00
              
              
              conversion
                  of debt and accrued interest to common stockSeries
                  II common stock offering
              
              
              2/1/2004
              
              
              175,000
              
              $
              2.00
              
              
              common
                  stock & warrants issued for cashSeries
                  III common stock offering
              
              
              3/31/2004
              
              
              288,100
              
              $
              3.00
              
              
              common
                  stock & warrants issued for cashExercise
                  of Series I warrants
              
              
              various
              
              
              316,700
              
              $
              1.50
              
              
              warrants
                  exercised pursuant to original termsExercise
                  of Series II warrants
              
              
              various
              
              
              125,000
              
              $
              2.28
              
              
              warrants
                  exercised pursuant to original termsExercise
                  of Series II warrants
              
              
              various
              
              
              33,500
              
              $
              3.23
              
              
              warrants
                  exercised pursuant to original termsNovember
                  emergency funding
              
              
              11/1/2004
              
              
              314,000
              
              $
              1.50
              
              
              common
                  stock & warrants issued for cashDecember
                  emergency funding
              
              
              12/1/2004
              
              
              46,700
              
              $
              1.50
              
              
              common
                  stock & warrants issued for cashFractional
                  shareholders
              
              
              12/31/2004
              
              
              48,782
              
              $
              0.00
              
              
              shares
                  issued due to reverse split rounding formula2004
                  Totals
              
              
              
              
              
              2,301,115
              
              $
              1.34
  Description:
              
              Date
              
              Shares
              
              Per
                  share valuation
              
              Business reason:Mega-C
                  Trust
              
              
              2/28/2005
              
              
              500,000
              
              $
              3.05
              
              
              Trust
                  augmentationBanca
                  di Unionale
              
              
              3/18/2005
              
              
              30,000
              
              $
              2.00
              
              
              conversion
                  of Preferred and accrued dividendsBanca
                  di Unionale
              
              
              4/20/2005
              
              
              20,000
              
              $
              2.00
              
              
              conversion
                  of Preferred and accrued dividendsC&T
                  employees
              
              
              4/1/2005
              
              
              219,000
              
              $
              2.50
              
              
              employee
                  incentive share grants7
                  individuals
              
              
              6/10/2005
              
              
              29,565
              
              $
              3.57
              
              
              Exercise
                  of Director options3
                  individuals
              
              
              7/11/2005
              
              
              190,000
              
              $
              1.58
              
              
              conversion
                  of Preferred and accrued dividendsBanca
                  di Unionale
              
              
              7/11/2005
              
              
              10,000
              
              $
              1.60
              
              
              exercise
                  of preferred warrants3
                  individuals
              
              
              8/28/2005
              
              
              150,000
              
              $
              1.67
              
              
              conversion
                  of Preferred and accrued dividendsJames
                  Smith
              
              
              9/7/2005
              
              
              30,000
              
              $
              1.67
              
              
              conversion
                  of Preferred and accrued dividends2
                  individuals
              
              
              9/28/2005
              
              
              1,050,000
              
              $
              1.69
              
              
              conversion
                  of Preferred and accrued dividends2
                  individuals
              
              
              various
              
              
              226,900
              
              $
              1.79
              
              
              exercise
                  of Series I warrants3
                  individuals
              
              
              various
              
              
              91,200
              
              $
              2.40
              
              
              exercise
                  of Series III warrants2
                  individuals
              
              
              various
              
              
              25,000
              
              $
              1.60
              
              
              exercise
                  of Preferred warrantsOfficer
              
              
              10/20/2005
              
              
              446,000
              
              $
              1.00
              
              
              exercise
                  of warrants and optionsOfficer
              
              
              10/20/2005
              
              
              25,000
              
              $
              2.00
              
              
              exercise
                  of warrants6
                  individuals
              
              
              12/1/2005
              
              
              600,000
              
              $
              2.00
              
              
              common
                  stock and warrants2005
                  Totals
              
              
              
              
              
              3,642,665
              
              $
              1.93
  62
 
 ***Warrants:*** **** The
        following table provides summary information on the various warrants issued
        by
        the Company in private placement transactions; the warrants exercised to
        date;
        the warrants that are presently exercisable **** and
        the
        current exercise prices of such warrants.
 *2005
                    Restated*
                
                *2004
                    Restated*
                
                *2003
                    Restated*Shares
                
                Weighted
                  average
                  exercise
                  price
                
                Shares
                
                Weighted
                  average
                  exercise
                  price
                
                Shares
                
                Weighted
                  average
                  exercise
                  priceWarrants
                    outstanding January 1
                
                
                2,626,200
                
                $
                2.21
                
                
                842,000
                
                $
                1.77
                
                
                -
                
                $
                -Granted
                    during year
                
                
                1,111,000
                
                
                3.08
                
                
                2,259,400
                
                
                2.35
                
                
                842,000
                
                
                1.77Exercised
                
                
                (494,800
                )
                
                1.95
                
                
                (475,200
                )
                
                1.83
                
                
                -
                
                
                0.00Lapsed
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                -Outstanding
                    at December 31
                
                
                3,242,400
                
                $
                2.66
                
                
                2,626,200
                
                $
                2.21
                
                
                842,000
                
                $
                1.77Weighted
                    average years remaining
                
                
                
                
                
                1.50
                
                
                
                
                
                1.65
                
                
                
                
                
                2.04
  The
        following table summarizes the status of the Company's aggregate warrants
        as of
        December 31, 2005:
 *Warrants
                    Outstanding*
                
                *Warrants
                    Exercisable*Range
                    of exercise prices
                
                Shares
                
                weighted average
                    exercise price
                
                Weighted
                    average
                  remaining
                  life
                    in
                  years
                
                Shares
                
                weighted average
                    exercise price$1.50-$2.00
                
                
                2,254,000
                
                $
                2.00
                
                
                1.0
                
                
                2,254,000
                
                $
                2.00$2.01-$5.00
                
                
                988,400
                
                $
                4.17
                
                
                2.7
                
                
                988,400
                
                $
                4.17*Total
                    Shares*
                
                
                3,242,400
                
                
                
                
                
                
                
                
                3,242,400
  63
 
 **Registration
        Rights**
 
 ***General*** :
        The
        Company has filed a resale registration statement for the shares of common
        stock
        held by the Mega-C Trust. It has also filed or agreed to file resale
        registration statements for the shares of common stock issuable upon the
        conversion of the senior preferred and the exercise of the outstanding warrants.
 
 **Mega-C
        Trust:** The
        Company registered 7,327,500 shares of common stock held by the Mega-C Trust
        by
        a registration statement the SEC declared effective January 7, 2005. .   In
        paragraph 1(d) of the Settlement Agreement (See footnote captioned “Subsequent
        Events”), the Company agreed to register 5,700,000 of those shares (the "Plan
        Funding Shares") which were used to fund the proposed Chapter 11 Plan.  The
        Company subsequently filed a post-effective amendment relating to the resale
        or
        other disposition of 1,627,500 shares, of which, 1 million represents a portion
        of these Plan Funding Shares and 627,500 represent shares to pay expenses
        of the
        Trust In paragraph 1(d) of the Settlement Agreement, the Company further
        agreed
        to file such additional registration statements or post-effective amendments
        as
        may be necessary or desirable to facilitate or accommodate the sale or
        distribution of 4,700,000 of those shares.   The Settlement Agreement
        was incorporated and approved in its entirety in paragraph 6.1 of the Second
        Amended Plan, which further provided in paragraph 6.12 that the Second Amended
        Shareholder Trustee and the Liquidation Trustee have the right and power
        to
        request that the Company file such amendments to the registration statement
        for
        the Plan Funding Shares.
  **Senior
        Preferred:** The
        Company registered the resale of the shares of common stock issuable upon
        conversion of the senior preferred and was required to maintain an effective
        registration statement until September 18, 2006, the 18-month anniversary
        of the
        closing date of the preferred stock offering. In the event that the current
        registration statement was subsequently terminated, withdrawn or suspended
        for a
        period of more than 10 days, then the conversion price of the senior preferred
        was to be decreased by an initial delay adjustment of three percent (3%),
        plus
        an additional delay adjustment of two percent (2%) for every thirty day period
        (or portion thereof) that the underlying common stock is not subject to and
        included in an effective registration statement. The holders of senior
        preferred, or common stock issued upon conversion thereof, also have certain
        piggy-back registration rights with respect to future offerings. The
        registration statement included Axion’s Financial Statements for the period
        ended June 30, 2005 and the financial statements became out of date. Axion
        did
        not terminate, withdraw or suspend the registration statement. The
        Company believes that the financial statements going out of date is not enough
        to reactivate the registration delay provisions of the Series A Preferred
        Stock.
 
 **Warrants:** The
        Company has registered the resale of the shares of common stock issuable
        upon
        exercise of all warrants that were issued and outstanding in June 2005 and
        is
        required to maintain an effective registration statement until the expiration
        dates of the warrants. It is also obligated to file a resale registration
        statement for the warrants issued after June 2005. The recently issued warrants
        generally provide that they will be exercisable for terms of two to three
        years
        after the effective date of the required registration statements. However
        there
        are no cash penalties or exercise price adjustments associated with registration
        delays.
 
 During
        2006 & 2007, as a response to substantial unanticipated registration delays,
        the Company has extended the expiration dates of certain warrants that were
        issued in 2003, 2004 and 2005. Under the extensions, which presently expire
        in
        December 2007 and March 2008, the Company has retained the right to redeem
        the
        warrants at a price of $.01 per warrant if the underlying stock has been
        included in an effective registration statement under the Securities Act
        and has
        traded at an average bid price of $4 per share or more for at least 30 days
        before the call for redemption. The Company is in the process of determining
        the
        accounting treatment for the modifications.
 
 **Note14
        :** **Equity
        Compensation**
 
 The
        Company has two stockholder approved equity compensation plans and occasionally
        enters into employment and other contracts that provide for equity compensation
        arrangements other than those contemplated by the stockholder approved plans.
        The following sections summarize the Company’s equity compensation arrangements
        since September 18, 2003 (Inception).
 
 *Incentive
        Stock Plan Approved by Stockholders:* The
        Company’s stockholders have adopted an incentive stock plan for the benefit of
        its employees, consultants and advisors. Under the terms of the original
        plan,
        the Company was authorized to grant incentive awards for up to 1,000,000
        shares
        of common stock. At the Company’s 2005 annual meeting, its shareholders
        increased the authorization under the incentive stock plan to 2,000,000
        shares.
 
 The
        incentive stock plan authorizes a variety of awards including incentive stock
        options, non-qualified stock options, shares of restricted stock, shares
        of
        phantom stock and stock bonuses. In addition, the plan authorizes the payment
        of
        cash bonuses when a participant is required to recognize income for federal
        income tax purposes because of the vesting of shares of restricted stock
        or the
        grant of a stock bonus.
 
 The
        plan
        authorizes the grant of incentive awards to full-time employees of the Company
        who are not eligible to receive awards under the terms of their employment
        contract or another specialty plan. The plan also authorizes the grant of
        incentive awards to directors who are not eligible to participate in the
        Company’s outside directors’ stock option plan, independent agents, consultants
        and advisors who have contributed to the Company’s success.
 
 64
  The
        compensation committee administers the plan. The committee has absolute
        discretion to decide which employees, consultants and advisors will receive
        incentive awards, the type of award to be granted and the number of shares
        covered by the award. The committee also determines the exercise prices,
        expiration dates and other features of awards.
 
 The
        exercise price of incentive stock options must be equal to the fair market
        value
        of such shares on the date of the grant or, in the case of incentive stock
        options granted to the holder of more than 10% of the Company’s common stock, at
        least 110% of the fair market value of such shares on the date of the grant.
        The
        maximum exercise period for incentive stock options is ten years from the
        date
        of grant, or five years in the case of an individual own more than 10% of
        the
        Company’s common stock. The aggregate fair market value determined at the date
        of the option grant, of shares with respect to which incentive stock options
        are
        exercisable for the first time by the holder of the option during any calendar
        year, shall not exceed $100,000.
 
 In
        the
        first quarter of 2005, the compensation committee authorized stock bonuses
        under
        the incentive stock plan for an aggregate of 219,000 shares of common stock.
        These stock grants are fully vested and unrestricted, subject to compliance
        with
        the Company’s insider trading policies. The fair value of these shares, as
        determined by the Company’s stock price on the date of grant, amounted to
        $565,202 and was recorded as compensation during the year ended December
        31,
        2005
 
 *Outside
        Directors' Stock Option Plan Approved by Stockholders:* The
        Company’s stockholders have adopted an outside directors' stock option plan for
        the benefit of its non-employee directors in order to encourage their continued
        service as directors. Under the terms of the original plan, the Company was
        authorized to grant incentive awards for up to 125,000 shares of common stock.
        At the 2005 annual meeting, the Company’s shareholders increased the
        authorization under the incentive stock plan to 500,000 shares.
 
 Each
        eligible director who is, on or after the effective date, appointed to fill
        a
        vacancy on the Board or elected to serve as a member of the Board may
        participate in the plan. Each eligible director shall automatically be granted
        an option to purchase the maximum number of shares having an aggregate fair
        market value on the date of grant of twenty thousand dollars ($20,000). The
        option price of the stock subject to each option is required to be the fair
        market value of the stock on its date of grant. Options expire on the fifth
        anniversary of the date of grant. Any option granted under the plan shall
        become
        exercisable in full on the first anniversary of the date of grant, provided
        that
        the eligible director has not voluntarily resigned or been removed "for cause"
        as a member of the Board of Directors on or prior to the first anniversary
        of
        the date of grant (qualified option). Any qualified option shall remain
        exercisable after its first anniversary regardless of whether the optionee
        continues to serve as a member of the Board.
 
 During
        the year ended December 31, 2005, four directors of the Company waived an
        aggregate of $105,542 in accrued compensation as full payment of the exercise
        price of 29,565 options that had been issued to them in 2004 under the terms
        of
        the Directors’ Stock Option Plan.
 
 **Non-plan
        Equity Incentives Not Approved by Stockholders** *:* The
        Company has issued 1,079,200 stock purchase options and warrants to officers,
        attorneys and consultants in connection with respective agreements which
        do not
        reduce the shares available under the shareholder’s approved plans. The
        following paragraphs summarize these contractual stock options.
 
 In
        January 2004, members of the law firm of Petersen & Fefer were granted
        two-year contractual options to purchase 189,300 shares of common stock at
        a
        price of $2.00 per share as partial compensation for services rendered. These
        options were valued using the Black-Scholes-Merton option pricing model,
        which
        amounted to $68,296. As represented in the note captioned “Stockholder’s Equity”
Petersen also received 116,700 warrants as consideration of pre-merger Tamboril
        debt (the amount cited in “Stockholder’s Equity” is actually 233,400 because
        another party received the same number of warrants for a total of 233,400
        warrants). In August 2004, $1.00 of the exercise price of the total 306,000
        options and warrants owned by Petersen was considered paid in advance in
        consideration of unbilled legal services provided by the firm. The Company
        recorded $306,000 related to this reduction. All of the warrants and options
        were exercised in the fourth quarter of 2005, however, $306,000 of the amount
        is
        included in stock subscription receivable and was received in 2006.
 
 65
  In
        February 2004, an advisor to the board was granted a contractual option to
        purchase 6,300 shares of common stock at a price of $3.20 per share as partial
        compensation for services. In June 2004, the advisor was granted similar
        option
        to purchase 3,600 shares of common stock at a price of $5.60 per share. The
        options are fully vested and may be exercised at any time during the four-year
        period commencing one year after the date of grant. The options were valued
        at
        $17,067 using the Black-Scholes-Merton option pricing model and was included
        as
        expense in 2004.
  In
        July
        2004, the Company’s president and chief operating officer was granted a
        contractual option to purchase 240,000 shares of common stock at a price
        of
        $4.00 per share. This option will vest at the rate of 60,000 shares per year
        commencing July 31, 2005 and be exercisable for five years after each vesting
        date. The market value of the Company stock at the date of grant was greater
        than the exercise price which resulted in a total intrinsic value of $180,000.
        In accordance with APB 25 the Company is expensing the intrinsic value over
        the
        vesting period which resulted in expense of $18,750 and $45,000 during the
        years
        ended December 31, 2004 and 2005, respectively.
 
 In
        July
        2004, the Company’s chief financial officer was granted a contractual option to
        purchase 200,000 shares of common stock at a price of $4.00 per share. This
        option will vest at the rate of 50,000 shares per year commencing July 31,
        2005
        and be exercisable for five years after each vesting date. The market value
        of
        the Company stock at the date of grant was greater than the exercise price
        which
        resulted in a total intrinsic value of $150,000. In accordance with APB 25
        the
        Company is expensing the intrinsic value over the vesting period which resulted
        in expense of $15,625 and $37,500 during the years ended December 31, 2004
        and
        2005, respectively. These warrants, as well as those referenced in the preceding
        paragraph lapsed when the individuals terminated their employment with the
        Company.
 
 In
        March
        2005, members of the law firm of Petersen & Fefer were granted two-year
        contractual options to purchase an additional 140,000 shares of common stock
        at
        a price of $1.00 per share as partial compensation for services rendered.
        These
        warrants were valued based on the value of the services rendered, amounting
        to
        $201,570. All of the warrants were exercised in the fourth quarter of 2005,
        however, the $140,000 exercise price is included in stock subscription
        receivable and was received in 2006.
 
 In
        April
        2005, the Company’s chief executive officer was granted a contractual option to
        purchase 180,000 shares of common stock at a price of $2.50 per share. This
        option will vest at the rate of 7,500 shares per month commencing May 1,
        2005
        and be exercisable for five years after each vesting date.
 
 In
        April
        2005, a European financial advisor was granted a contractual option to purchase
        30,000 shares of common stock at a price of $2.50 per share. Options for
        an
        aggregate of 20,000 shares vested during the year ended December 31, 2005
        and
        will be exercisable for two years. On December 31, 2005, a total of 10,000
        unvested options were forfeited when the advisory agreement was terminated.
        The
        options were valued at $35,998 using the Black-Scholes-Merton option pricing
        model and included as expense in 2005.
 
 In
        September 2005, the Company’s chief of research and development was granted a
        contractual option to purchase 90,000 shares of common stock at a price of
        $4.00
        per share. This option will vest at the rate of 2,500 shares per month
        commencing October 2005 and be exercisable for five years after each vesting
        date.
  The
        above
        officer options were granted to employees and accordingly, are accounted
        for
        under APB 25. As noted above, the Company recorded expense for options issued
        with an exercise price less than the market value of the Company’s common stock
        of the date of grant. For options issued with an exercise price equal to
        or
        greater than the market value of the Company’s common stock on the date of
        grant, the Company recorded no compensation expense. The fair value of the
        options granted is included in pro-forma option expense included below.
 ***Equity
          Compensation Plans:***The
          Company did not have any stockholder approved equity compensation plans
          at
          December 31, 2003. The following table provides consolidated summary information
          on the Company’s equity compensation plans as of December 31, 2004 and
          2005.
  *2004
                    Restated*Shares
                
                Weighted average
                    exercise price
                
                Weighted
                    average fair
                  valueOptions
                    outstanding January 1
                
                
                0
                
                $
                0.00
                
                $
                0.00Granted
                    during year
                
                
                736,350
                
                $
                3.53
                
                $
                2.87Exercised
                
                
                0
                
                $
                0.00
                
                $
                0.00Lapsed
                
                
                0
                
                $
                0.00
                
                $
                0.00Outstanding
                    at December 31
                
                
                736,350
                
                $
                3.53
                
                $
                2.87Weighted
                    average exercise period remaining in years
                
                
                
                
                
                6.34
 *2005
                      Restated*Shares
                  
                  Weighted average
                      exercise price
                  
                  Weighted
                    average fair
                    valueOptions
                      outstanding January 1
                  
                  
                  736,350
                  
                  $
                  3.53
                  
                  $
                  2.87Granted
                      during year
                  
                  
                  1,254,500
                  
                  $
                  2.48
                  
                  $
                  1.34Exercised
                  
                  
                  (358,865
                  )
                  $
                  1.65
                  
                  $
                  2.32Lapsed
                  
                  
                  (182,100
                  )
                  $
                  3.04
                  
                  $
                  1.44Outstanding
                      at December 31
                  
                  
                  1,449,885
                  
                  $
                  3.12
                  
                  $
                  1.86Weighted
                      average exercise period remaining in years
                  
                  
                  
                  
                  
                  7.73
 66
 
 The
        following table summarizes the status of the Company's aggregate stock options
        as of December 31, 2005:
 
 *Options Outstanding*
              
              
              
              *Options Exercisable*Range
                  of exercise prices
              
              Shares
              
              weighted
                average
                exercise price
              
              Weighted
                average
                remaining
                life in years
              
              Shares
              
              weighted average
                  exercise price$2.00-$3.20
              
              
              895,641
              
              $
              2.52
              
              
              8.1
              
              
              111,641
              
              $
              2.70$3.21-$5.60
              
              
              554,244
              
              $
              4.07
              
              
              7.1
              
              
              144,244
              
              $
              4.27*Total
                  Shares*
              
              
              1,449,885
              
              
              
              
              
              
              
              
              255,885
  The
        following is a pro-forma summary of the impact on reported net loss and (loss)
        per share if the Company had elected to recognize compensation expense based
        on
        the fair value of the options granted at grant date as prescribed by FASB
        No.
        123:
 
 Years
                  ended December 31,**2005
                  Restated**
              
              **2004
                  Restated**per
                  share
              
              
              
              per
                  shareNet
                  loss applicable to common shareholders as reported
              
              $
              (9,600,464
              )
              $
              (0.67
              )
              $
              (3,653,637
              )
              $
              (0.30
              )Intrinsic
                  value of employee options
              
              
              82,500
              
              $
              0.01
              
              
              34,375
              
              $
              0.00Fair
                  value of options
              
              
              (553,263
              )
              $
              (0.04
              )
              $
              (230,110
              )
              $
              (0.02
              )Proforma
                  loss
              
              $
              (10,071,227
              )
              $
              (0.70
              )
              $
              (3,849,372
              )
              $
              (0.32
              )
  **Year**
              **Interest
                  Rate**
              **Dividend
                  Yield**
              **Expected
                  Volatility**
              **Expected
                  Life**2005
              4.0%
              0.0%
              52.0%
              100
                  months2004
              3.8%
              0.0%
              59.1%
              60
                  months
 
 The
        Company will be required to adopt FASB 123(R) using the “modified prospective”
transition method beginning with the first quarter of 2006. Under this method,
        awards that are granted, modified, or settled after December 15, 2005, will
        be
        measured and accounted for in accordance with FASB 123(R) which requires
        expense
        over the requisite service period. In addition, beginning in the first quarter
        of 2006, expense must be recognized in the statement of operations for unvested
        awards that were granted prior to the adoption of FASB 123(R). The expense
        will
        be based on the fair value determined at grant date under FASB 123, “Accounting
        for Stock-Based Compensation.” The following table summarizes the Company’s
        existing agreements and their expected pretax impact on earnings:
 
 **Post
                  Effective Date (December 15, 2005)**
                **Requisite
                  Service Recognition by Year****2005**
              
              **2006**
              
              **2007**
              
              **2008**
              
              **2009**
              
              **2010**Agreements
                  containing service update 2004 amortization inception dates within
                  the
                  year
              
              
              40
              
              
              28
              
              
              25
              
              
              22
              
              
              17
              
              
              17Shares
                  expected to vest
              
              
              239,350
              
              
              395,600
              
              
              311,600
              
              
              255,600
              
              
              115,600
              
              
              115,600Expected
                  pretax
                compensation
                  expense
              
              $
              553,263
              
              $
              666,529
              
              $
              566,449
              
              $
              362,246
              
              $
              130,644
              
              $
              43,928
 
 67
 
 **Note
        15 — Income Taxes**
 
 Following
        is a summary of the components giving rise to the income tax provision for
        the
        periods ended December 31, 2005, 2004 and 2003.
 
 Currently
                  payable:
              
              **2005**
              
              **2004**
              
              **2003**Federal
              
              $
              -
              
              $
              -
              
              $
              -State
              
              
              -
              
              
              -
              
              
              -Foreign
              
              
              -
              
              
              -
              
              
              -Total
                  currently payable
              
              
              -
              
              
              -
              
              
              -Deferred:Federal
              
              
              278,000
              
              
              132,000
              
              
              -State
              
              
              -
              
              
              -
              
              
              -Foreign
              
              
              996,000
              
              
              988,000
              
              
              979,000Total
                  deferred
              
              
              1,274,000
              
              
              1,120,000
              
              
              979,000Less
                  increase in allowance
              
              
              (1,274,000
              )
              
              (1,120,000
              )
              
              (979,000
              )Net
                  deferred
              
              
              -
              
              
              -
              
              
              -Total
                  income tax provision (benefit)
              
              $
              -
              
              $
              -
              
              $
              -
  68
  Individual
        components giving rise to the deferred tax asset are as follows:
 
 **2005**
              
              **2004**
              
              **2003**Future
                  tax benefit arising from net operating loss carry forwards
              
              $
              1,330,000
              
              $
              581,000
              
              $
              124,000Future
                  tax benefit arising from asset impairment
              
              
              551,000
              
              
              391,000
              
              
              207,000Future
                  tax benefit arising from available tax credits
              
              
              721,000
              
              
              383,000
              
              
              -Future
                  tax benefit arising from in-process research & development
                  costs
              
              
              715,000
              
              
              703,000
              
              
              648,000Future
                  tax benefit arising from options/warrants issued for
                  services
              
              
              56,000
              
              
              41,000Total
              
              
              3,373,000
              
              
              2,099,000
              
              
              979,000Less
                  valuation allowance
              
              
              (3,373,000
              )
              
              (2,099,000
              )
              
              (979,000
              )Net
                  deferred
              
              $
              -
              
              $
              -
              
              $
              -
 
 The
        components of pretax net loss are as follows:
 
 **2005**
              
              **2004**
              
              **2003**United
                  States
              
              $
              (3,178,299
              )
              $
              (766,731
              )
              $
              -Foreign
              
              
              (3,146,814
              )
              
              (2,886,906
              )
              
              (3,097,030
              )$
              (6,325,113
              )
              $
              (3,653,637
              )
              $
              (3,097,030
              )
 
 The
        Company has net operating loss carryovers of approximately $1,041,000 and
        $2,701,000 million available to reduce future income taxes in United States
        and
        Canadian, respectively. The United States carryovers expire in 2024 and 2025.
        The Canadian carryovers expire between 2010 and 2025. The Company also has
        generated Canadian tax credits related to research and development activities.
        A
        portion of this credit, amounting to approximately $343,000 is refundable
        and
        has been presented as such in the accompanying balance sheet. The remaining
        credit, amounting to $715,000 is available to offset future taxable income
        in
        Canada and expires in 2014 and 2015. The Company has adopted FASB 109 which
        provides for the recognition of a deferred tax asset based upon the value
        certain items will have on future income taxes and management's estimate
        of the
        probability of the realization of these tax benefits. The Company has determined
        it more likely than not that these timing differences will not materialize
        and
        have provided a valuation allowance against the entire net deferred tax asset.
        The utilization of NOL and tax credit carryforwards from Axion prior to the
        reorganization may be subject to a substantial annual limitation due to the
        ownership change limitations provided by the Internal Revenue Code of 1986,
        as
        amended, and similar state provisions. Accordingly, these amounts have not
        been
        included in the gross deferred tax asset number above.
 
 The
        reconciliation of the United States statutory federal income rate and the
        effective income tax rate in the accompanying consolidated statements of
        operations is as follows:
 
 **2005**
              
              **2004**
              
              **2003**Statutory
                  U.S. federal income tax rate
              
              
              34
              %
              
              34
              %
              
              34
              %Impact
                  of foreign tax credits
              
              
              (3
              )%
              
              (4
              )%
              
              (0
              )%Permanent
                  non-deductible differences
              
              
              (11
              )%
              
              (3
              )%
              
              (5
              )%Change
                  in valuation allowance
              
              
              (20
              )%
              
              (27
              )%
              
              (29
              )%Effective
                  income tax rate
              
              
              0
              %
              
              0
              %
              
              0
              %
 
 **Note
        16 — Related Parties**
 
 ***Related
        party notes payable:*** The
        Company had liabilities and notes outstanding to related parties as of December
        31, 2005, during the three fiscal years then ended, and subsequent. See the
        notes captioned “Transactions with a related party,” “Convertible Debt,” and
“Note payable to related party” for details. See the face of the Balance Sheet
        for the amounts.
 
 ***Preferred
        stock sales:*** The
        Company raised capital in a preferred stock offering during the three years
        ended December 31, 2005, discussed further in the note captioned “Stockholder’s
        Equity,” of which $2,576,330 related to transactions with board members and
        their family members.
  69
  ***Common
        stock sales:*** The
        Company raised capital in common stock offerings during the three years ended
        December 31, 2005, discussed further in the note captioned “Stockholder’s
        Equity,” of which $400,000 related to transactions to sell 200,000 shares to
        board members and their affiliates (approximately $880,000 through the sale
        of
        487,700 shares of common stock and 306,400 warrants in 2004).
 
 ***Legal
        fees:*** John
        Petersen is a director of the company and a partner in the law firm of Petersen
        & Fefer, which serves as the Company’s legal counsel. During the year ended
        December 31, 2005, approximately $550,000 of legal fees were incurred related
        to
        services provided ($475,000 - 2004). A portion of these fees were paid through
        equity instruments as discussed further in the note captioned “Stockholder’s
        Equity”. Axion did not pay John Petersen legal fees in 2003.
 
 ***Research
        and development payments to C&T:*** **** A
        current
        board member is the former majority shareholder of C&T prior to the
        acquisition by the Company. The company issued 1,562,900 warrants to purchase
        intangible assets from C&T, of which, 656,300 were issued to this individual
        and his immediate family members. In connection with the intangible property
        purchase agreement, the Company entered into a research and development project
        management agreement with C&T. Under the project management agreement, the
        Company has agreed to pay all direct costs and expenses associated with its
        research and development activities, including reasonable equipment, material,
        travel and employee costs actually incurred by C&T. In addition to the
        direct costs, C&T was paid a management surcharge equal to 50% of the
        salaries and bonuses paid to members of the C&T technical staff who are
        assigned to work on Company projects. During the years ended December 31,
        2005
        and 2004, research costs incurred under the project management agreement
        were
        approximately $115,000 and $701,000, respectively. Upon purchase of the
        outstanding shares of C&T but the Company in March 2005, the agreement was
        terminated and all necessary C&T employees assigned to Company projects have
        been hired by the Company.
 
 ***Trust
        for the Benefit of the Shareholders of Mega-C Power
        Corp:*** The
        Trustee for The Trust for the Benefit of the Shareholders of Mega-C Power
        Corp.
        served as an officer of one of our consolidated companies in 2004.
 
 ***Options
        and Warrants*** :
        As
        disclosed elsewhere herein the Company engaged in numerous financing
        transactions with a variety of related parties. See the footnotes captioned
        “Note Payable to Related Party,” “Stockholder's Equity” and “Subsequent Events”
for disclosure of these transactions.
 
 **Note
        17—Non-cash transactions**
 
 The
        Company entered in to the following non-cash investing and financing
        transactions during the years ended December 31, 2005, 2004 and
        2003.
  *Supplemental
                  cash flow information:***2005**
              
              **2004**
              
              **2003**Debt
                  converted to common stock
              
              $
              -
              
              $
              450,000
              
              $
              1,450,000Discount
                  & accrued interest converted to common stock
              
              
              -
              
              
              1,841
              
              
              24,788Liability
                  satisfied as partial prepayment on options
              
              
              -
              
              
              306,000
              
              
              -Equity
                  instruments issued to acquire in-process research &
                  development
              
              
              -
              
              
              563,872
              
              
              -Notes
                  payable to related parties converted to preferred stock
              
              
              1,000,000
              
              
              -
              
              
              -Dividend
                  accrued to preferred stock
              
              
              176,194
              
              
              -
              
              
              -Beneficial
                  conversion feature attributable to preferred stock
              
              
              3,099,156
              
              
              -
              
              
              -Preferred
                  converted to common stock
              
              
              2,475,407
              
              
              -
              
              
              -Common
                  stock issued in exchange for subscription receivable
              
              
              721,000
              
              
              -
              
              
              350,000Accrued
                interest forgiven or related party convertible debt
              
              
              -
              
              
              -
              
              
              15,574
 There
          were no payments for interest and income taxes during 2003, 2004 or
          2005.
 70
 
 **Note
        18 — Commitments and Contingencies**
 
 ***Employment
        Agreements:*** The
        Company’s Chief Executive Officer, President, Chief Financial Officer and Chief
        of Research and Development have each executed written employment agreements
        that provide for initial terms of two to four years, provide for the salaries
        and contractual stock options specified in the following table.
 
 **Name**
              
              **Position**
              
              **Date**
              
              **Term**
              
              **Salary**
              
              **Options**
              
              **Price**
              
              **Vesting**Thomas Granville
              
              
              CEO
              
              
              4/4/05
              
              
              24
                  Months
              
              $
              261,000
              
              
              180,000
              
              $
              2.50
              
              
              MonthlyCharles Mazzacato
              
              
              President
              
              
              7/27/04
              
              
              48
                  Months
              
              $
              160,000
              
              
              240,000
              
              $
              4.00
              
              
              MonthlyPeter
                  Roston
              
              
              CFO
              
              
              7/27/04
              
              
              48
                  Months
              
              $
              125,000
              
              
              200,000
              
              $
              4.00
              
              
              MonthlyEdward
                  Buiel
              
              
              CTO
              
              
              9/1/05
              
              
              36
                  Months
              
              $
              120,000
              
              
              90,000
              
              $
              4.00
              
              
              Monthly
 
 If
        any of
        these officers is terminated under certain circumstance, they will be entitled
        to receive a lump sum payment equal to six month’s base annual salary as
        liquidated damages. Subsequent to December 31, 2005 Charles Mazzacato resigned
        and Peter Roston was terminated for cause. Mr. Roston filed a lawsuit for
        liquidated damages. The Company determined the risk of loss as a result of
        this
        lawsuit is remote.
 
 ***Facilities:*** During
        the year ended December 31, 2005, all of the Company’s operations were conducted
        at its research and development center located at 100 Caster Avenue in
        Woodbridge, a suburb of Toronto, Ontario, Canada. The Company rented this
        facility under a month-to-month arrangement that required a minimum monthly
        rental of $8,150. The Company’s research and development center included
        approximately 14,000 square feet of floor space, including 5,000 square feet
        of
        management, administrative and engineering offices, 5,000 square feet of
        manufacturing facilities and 4,000 square feet of research
        laboratories ***.*** At
        the
        end of December, 2006 the Company closed the facilities and moved to New
        Castle,
        Pennsylvania. See the note captioned “Subsequent Events.”
 
 ***Contingent
        obligation to C&T:*** Under
        the November 2003 Development and License Agreement between APC and C&T the
        company was obligated to pay $1 million to C&T upon the successful
        completion of beta testing for the technology. Beta testing was completed
        in
        early 2005 and the parties entered into Second Amendment to the Development
        and
        License Agreement on March 18, 2005. Under the terms of this agreement, the
        Company was obligated to deliver certificates for 100,000 shares of preferred
        stock to persons designated by C&T and C&T was obligated to deliver a
        series of assignments and other documents to the Company. The Company issued
        the
        preferred stock certificates in March 2005 in connection with the completion
        of
        the senior preferred offering. However, C&T delayed the delivery of the
        assignments and other documents to the Company until February 2007. Since
        the
        Company’s only obligations under the March 2005 agreement were the delivery of
        the consideration specified therein, the certificates for the shares of senior
        preferred were prepared promptly and have been ready for delivery since March
        2005 and the delays in holding a formal closing were beyond the Company’s
        control, the attached financial statements reflect completion of the transaction
        in March 2005 even though the final document deliveries thereunder were not
        completed until March 2007
  71
  ***Taylor
        Litigation*** On
        February 10, 2004, Lewis “Chip” Taylor, Chip Taylor in Trust, Jared Taylor,
        Elgin Investments, Inc. and Mega-C Technologies, Inc. (collectively the “Taylor
        Group”) filed a lawsuit in the Ontario Superior Court of Justice Commercial List
        (Case No. 04-CL-5317) that named Tamboril, APC, Rene Pardo, Marvin Winick,
        Kirk
        Tierney, Joseph Piccirilli, Ronald Bibace, Robert Averill, James Smith, James
        Eagan, Thomas Granville, Joseph Souccar, Glenn W. Patterson, Canadian
        Consultants Bureau Inc., Robert Appel, Harold Rosen, Igor Filipenko, Valeri
        Shtemberg, Yuri Volfkovich, Pavel Shmatko, Michael Kishinevsky, Mega-C Power
        Corporation (Nevada), Mega-C Power Corporation (Ontario), C&T, Turitella
        Corporation, Gary Bouchard, Fogler Rubinoff LLP, Netprofitetc Inc., 503124
        Ontario Ltd., HAP Investments LLC, Infinity Group LLC, James Keim, Benjamin
        Rubin and John Doe Corporation as defendants. The settlement agreement may
        not
        resolve all aspects of the Taylor Litigation because the original statement
        of
        claim alleges an oral agreement with C&T gave the Taylor Group an ownership
        interest in the technology and/or C&T. Management believes the lawsuit is
        without merit, and accordingly no amounts have been provided for in the
        accompanying financial statements. The Company has offered to provide a
        coordinated legal defense for all individual defendants who agree to be
        represented by counsel for the Company. Any named defendant will be free
        to
        retain independent legal counsel, but the Company is not responsible for
        the
        costs of separate legal counsel. The Company has not agreed to indemnify
        any
        party against damage awards rendered against them or amounts paid in settlement
        of claims.
 
 In
        February 2005, the Bankruptcy Court stayed the Taylor Litigation pending
        resolution of Mega-C’s Chapter 11 bankruptcy case. On December 12, 2005, the
        Company entered into a settlement agreement with Mega-C and various others
        that
        became effective when the Court confirmed Mega-C’s Chapter 11 Plan of
        Reorganization in November 2006. A detailed description of the terms and
        effect
        of the settlement agreement is set forth below within Note captioned “Subsequent
        Events.”
 
 ***Contingent
        Shares*** The
        Company agreed to sell 1 million shares of common stock to a foreign partnership
        at a price of $2.50 per share as part of a group of comparable transactions
        where the purchaser planned to contribute a portfolio of small public company
        securities to a pair of offshore funds in exchange for fund units, and then
        use
        the fund units as security for bank financing that would be used to pay for
        the
        underlying securities. Contrary to the terms and conditions of the Company’s
        agreement, the foreign partnership is in possession of a stock certificate
        representing these 1 million shares; however, completion of the transaction
        is
        contingent upon receipt of the proceeds from the foreign partnership, which
        have
        not, as of yet, been received.  As such, the one million shares have not
        been duly issued and have been excluded from all calculations of the issued
        and
        outstanding shares of our common stock in the annual report which includes
        these
        financial statements.  The Company instituted a lawsuit in an effort to
        collect the agreed upon purchase price; however, the Company can offer no
        assurance the lawsuit will succeed.  Should the Company receive payment for
        this stock, the holders of common stock will be diluted by the issuance of
        these
        additional shares.  In the event The Company never receives this payment, a
        certificate for these unissued shares may be beyond our control to cancel.
  In
        connection with the offering described in the preceding paragraph, four holders
        of warrants to purchase the Company’s common stock agreed to exercise their
        warrants to purchase, in the aggregate, 301,700 shares of common stock for
        the
        purpose of selling them to the foreign partnership in a transaction that
        was
        substantially similar to the one the Company entered into with the same foreign
        partnership.  These shares were to be issued to the foreign partnership
        upon receipt of payment, which was in turn contingent upon the foreign
        partnership tendering the payment of the purchase price for these shares. 
Contrary to the terms and conditions of their agreements, the foreign
        partnership is in possession of a stock certificate representing these
        shares  without tendering the purchase price to either the Company or to
        the warrantholders.  As such, the 301,700 shares have not been duly issued
        and have been excluded from all calculations of the issued and outstanding
        shares of common stock in these financial statements.    The
        Company has included these 301,700 shares as outstanding warrants, pending
        receipt of the exercise price from the four warrantholders.
 
 Management
        concluded there is no requirement, pursuant to the requirements of FASB 5,
        to
        accrue any loss contingency based on the above described matters involving
        the
        1,000,000 and 301,700 shares. As a result, there has been no accounting
        recognition of these events in the financial statements.
  72
  **Note
        19 — Subsequent Events**
 
 ***Incorporation
        of new subsidiary:*** In
        January 2006, the Company incorporated a new subsidiary named Axion Battery
        Products, Inc. (“ABP”) under the laws of the Commonwealth of Pennsylvania for
        the purpose of operating a battery manufacturing facility in New Castle,
        Pennsylvania. ABP is a wholly owned operating subsidiary of Axion. The Company
        changed the name of this subsidiary and it is now Axion Power Battery
        Manufacturing Inc.
 
 ***Purchase
        of battery manufacturing equipment:*** In
        February 2006, ABP entered into an agreement to purchase all of the equipment,
        inventory and other tangible assets of the New Castle Battery Manufacturing
        Company, Inc. from National City Bank, Pennsylvania in a foreclosure sale
        conducted pursuant to the provisions of Article 9 of the Pennsylvania Uniform
        Commercial Code. The assets were purchased by ABP and include all equipment,
        molds, inventories, parts, supplies, trademarks, copyrights, patents, other
        intellectual property rights, permits, licenses and general intangible assets
        that were subject to the bank’s security interest. ABP paid $800,000 for the
        assets and incurred $20,244 of legal expenses directly associated with
        negotiating and executing this transaction. Of the $800,000 paid, $710,000
        was
        paid to the seller at closing and $90,000 was initially placed in an interest
        bearing escrow account pending the seller’s resolution of certain encumbrances
        on a portion of the purchased assets. In August 2006, it was determined that
        the
        encumbered assets would not be transferred to ABP and $83,250 of the deposit
        was
        returned resulting in a final purchase price of $736,994 that was allocated
        to
        manufacturing equipment and inventory valued at approximately $540,000 and
        $194,000, respectively, on the date of the purchase.
  ***Property
        rental:*** In
        February 2006, ABP entered into a lease agreement for an industrial building
        located in New Castle, Pennsylvania. The agreement provides for an initial
        term
        of two years with two renewal terms of five years each. The monthly rent
        payable
        for the initial term of the agreement is $10,000. During the two extension
        terms, the rent will based on market rates as determined by negotiation between
        the parties, or if the parties are unable to reach a mutually agreed rental
        rate, by an independent appraisal process. In addition to the monthly rental,
        ABP is obligated to pay all required maintenance costs, taxes and special
        assessments, maintain public liability insurance in the amount of $1 million,
        and maintain fire and casualty insurance for an amount equal to at least
        80% of
        the replacement value of the leased premises
 
 ***Debt
        Financing:*** In
        January 2006, ABP entered into a secured loan agreement with Robert Averill,
        a
        director of the Company, whereby Mr. Averill agreed to provide $1 million
        in
        acquisition and working capital financing for ABP’s purchase of the battery
        manufacturing facility. During 2006, the amount of the secured loan was
        increased to $1,510,000. The loan agreements require ABP to pay interest
        on the
        outstanding balance at the annual rate of 12%. Interest payments are due
        on the
        first day of each month commencing in February 2006. The loan is secured
        by a
        first priority interest in all of ABP’s equipment, inventory, furniture and
        fixtures, together with all substitutions or replacements and all proceeds
        from
        the sale thereof.
  The
        Company has signed the loan agreement as an accommodation party and assumed
        direct liability for the payment of ABP’s obligations. The Company has also
        granted Mr. Averill a first priority security interest in all of the Company’s
        equipment, inventory, furniture, fixtures and intellectual property, together
        with all substitutions or replacements and all proceeds from the sale thereof.
        As additional consideration for the loan, the Company has issued Mr. Averill
        50,000 common stock purchase warrants in January 2006 with an additional
        200,000
        warrants in December 2006. The warrants are exercisable for a period of three
        & four years from the issue date at a price of $6 per share. The warrants
        will be valued as of each date of grant using the Black-Scholes-Merton option
        pricing model. This amount will be recorded as a note discount and amortized
        into interest expense over the term of the loan.
  73
  During
        2006, the Company borrowed an additional $1,985,000 from three directors
        of the
        Company, including Mr. Averill, along with two of the original founders of
        APC.
        The loan agreements required the Company to pay interest on the outstanding
        balance at annual rates of 10% to 12%; provided for the issuance of 553,000
        common stock purchase warrants that were partially redeemable if the loans
        were
        repaid in a timely manner. The warrants are exercisable for a period of three
        & four years from the date of issuance at a price of $6 per share, and
        provide that the holders would be entitled to tender their respective notes
        in
        full or partial payment of the subscription price of any equity securities
        the
        Company elected to offer while the loans were outstanding.
 
 Borrowings
        under the loan arrangements are convertible into offering units at a price
        of
        $2.50 per unit. The unit consists of one share of common stock and one warrant
        to purchase one share of common stock at a price of $4.00 per share. The
        warrants are exercisable up until the first anniversary of the effective
        date of
        the common stock registration statement. The Company is in the process of
        determining the proper accounting treatment relating to the issuance of these
        loans.
 
 In
        October 2006, the Company redeemed 15,000 warrants and made aggregate payments
        of $1,540,000 on the loans, by conversion of $48,217 of interest and $1,491,783
        of principal into preferred shares. In December 2006, the holders of these
        loans
        converted an aggregate of $1,502,418 in principal and $130,833 in accrued
        interest into shares of the Company’s Series A Preferred Stock discussed below,
        and the company redeemed 66,387 warrants at this time. The unpaid balance
        of the
        Company’s loans was $500,799 plus $11,066 in interest at December 31, 2006.
        These balances remain unpaid as of August 31, 2007.
 
 ***Common
        Stock & Private Placements.*** In
        April 2006, two unaffiliated individual accredited investors purchased a
        total
        of 80,000 units for a purchase price of $2.50 per unit or $200,000.   Each
        unit consists of one share of common stock and one common stock purchase
        warrant
        with an exercise price of $4.00 per share. The warrants are exercisable up
        until
        the first anniversary of the effective date of the common stock registration
        statement. In April, 2006, the Company’s chief executive officer exercised his
        $2.00 options to purchase 56,700 shares, and the Company’s Chief Technical
        Officer received 6,000 unrestricted shares, pursuant to his 2005 employment
        contract. In December 2006, the CTO received an additional 250,000 restricted
        shares, pursuant to his 2006 employment contract; Unrestricted ownership
        of
        these 2006 grant shares will vest in lump sum at the end of a 3 year period
        in
        December of 2009. In November 2006, the Mega C bankruptcy confirmation resulted
        in the return of 1,500,000 shares. 1,000,000 of these shares were retroactively
        reflected as an adjustment to shares outstanding on December 31, 2003. The
        remaining 500,000 common shares issued in February 2005 were accounted for
        as a
        return of the augmentation shares issued in 2005.
  ***Sales
        of Series A Preferred Stock:*** ****** On
        October 18, 2006, the Company’s board of directors authorized a new series of
        preferred stock consisting of up to 2,000,000 shares designated Series A
        Convertible Preferred Stock. No more than 1,000,000 shares may be sold for
        cash
        and the remaining shares must be reserved for (i) issuance upon exercise of
        the conversion rights of holders of secured and unsecured short-term debt,
        and
        (ii) to pay in-kind dividends on the Preferred Stock. So long as any
        Preferred Stock is outstanding, the Company is prohibited from issuing any
        series of stock having rights senior to or on parity with the Preferred Stock
        without the approval of the holders of two-thirds of the outstanding Preferred
        Stock. The holders of Preferred Stock have no preemptive rights with respect
        to
        any other securities of the Company. Beginning on the six month anniversary
        of
        the initial closing date, the shares of Series A Preferred shall be convertible
        at the option of the holders of record at an initial conversion of $1.25
        per
        share. The conversion price is subject to adjustment if the corporation issues
        any shares less than the then existing conversion price. The company is in
        the
        process of determining the proper accounting treatment relating to the
        conversion feature of the Preferred Stock.
  During
        the months from June to October during 2006, certain of the Founders and
        Directors of the Company advanced funds (cash) to the Company on a short
        term
        basis in which the Company was obligated to repay the Founders no later than
        February 2007.  Those short term advances were eventually extinguished by
        conversion to preferred stock in October 2006.
  74
  On
        October 23, 2006, the Company sold 200,000 shares of a newly designated Series
        A
        Convertible Preferred Stock (the “Preferred Stock”) to three directors of the
        Company for total proceeds of $2,000,000.  $1,540,000 had been previously
        advanced to the Company as short term loans.  John Petersen purchased
        100,000 shares of Preferred Stock for $1,000,000, HAP Investments, LLC, a
        company controlled by Glenn Patterson, purchased 80,000 shares of Preferred
        Stock for $800,000 and Robert Averill purchased 20,000 shares of Preferred
        Stock
        for $200,000.
  In
        December 2006, the Company sold 400,000 additional shares of Series A Stock
        to 9
        accredited investors for gross proceeds of $4,000,000.  Concurrently, the
        Company issued 163,323 additional shares of Preferred Stock in settlement
        of
        $1,633,230 in outstanding debt related to Short Term Loans, and 20,000 shares
        valued at $200,000 to Thomas Granville, in settlement of service related
        debt.   HAP Investments, LLC, a company controlled by Glenn Patterson,
        accepted 40,000 shares of Preferred Stock in settlement of $400,000 of debt
        and
        Robert Averill accepted 120,000 shares of Preferred Stock in settlement of
        $1,200,000 of debt.  Mr. Granville is the Company’s chief executive officer
        and Messrs. Patterson and Averill are directors.
  In
        January 2007, the Company sold 40,000 additional shares of Preferred Stock
        to
        accredited investors for gross proceeds of $400,000.
  The
        following table summarizes the amounts and types of consideration received
        by
        the company in connection with its offering of Preferred Stock:
 **Date**
                
                **Transaction Description**
                
                **Shares**
                
                **Cash
                    Proceeds**
                
                **Debt
                    Reduction**October
                    2006
                
                
                Sale
                    of preferred stock through extinguishment of Short Term Debt
                
                
                154,000
                
                
                
                
                $
                1,540,000October
                    2006
                
                
                Subscription
                    for preferred stock
                
                
                46,000
                
                $
                460,000December
                    2006
                
                
                Subscription
                    for preferred stock
                
                
                400,000
                
                
                4,000,000December
                    2006
                
                
                Sale
                    of preferred stock in exchange for extinguishment of Debt
                
                
                183,323
                
                
                
                
                $
                1,833,230January
                    2007
                
                
                Subscription
                    for preferred stock
                
                
                40,000
                
                
                400,000823,323
                
                $
                4,860,000
                
                $
                3,373,230
 
 ***Options
        to purchase common stock*** :
        In
        January 2006, the Company’s chief executive officer was granted a contractual
        option to purchase 500,000 shares of our common stock at a price of $6.00
        per
        share. A total of 300,000 options vested immediately and the balance will
        vest,
        subject to the attainment of certain specified objectives, over the next
        12
        months. The options will be exercisable for a period of three years from
        the
        issue date.
 
 In
        January 2006, members of the law firm of Petersen & Fefer were granted a
        contractual option to purchase 360,000 shares of our common stock at a price
        of
        $6.00 per share. A total of 240,000 options vested immediately and the balance
        will vest at the rate of 10,000 shares per month during the year ended December
        31, 2006. The options will be exercisable for a period of three years from
        the
        issue date.
 
 In
        January 2006, the Company’s chief technical officer was granted a contractual
        option to purchase 35,000 shares of our common stock at a price of $6.00
        per
        share. A total of 10,000 options vested immediately and the balance will
        vest,
        subject to the attainment of certain specified objectives, over the next
        12
        months. The options will be exercisable for a period of three years from
        the
        issue date. In December 2006, the Company’s chief technical officer was granted
        a contractual option to purchase an additional 100,000 shares of our common
        stock at a price of $3.75 per share. A total of 50,000 options will vest
        on
        December 29, 2009 and the remaining 50,000 will vest on December 29, 2010.
        The
        options will be exercisable for a period of six years from the vesting date.
  In
          January 2006, the Company’s bankruptcy counsel was granted a contractual option
          to purchase 15,000 shares of our common stock at a price of $6.00 per share.
          The
          options vested on the effective date of Mega-C’s Chapter 11 plan of
          reorganization which occurred in November of 2006 and will be exercisable
          for a
          period of three years from the issue date.
 75
  **Mega-C
        Bankruptcy Court Litigation:** In April
        2004, the Company, APC and Thomas Granville filed an involuntary Chapter
        11
        petition against Mega-C in the U.S. Bankruptcy Court for the District of
        Nevada
        (Case No. 04-50962-gwz). In March 2005, the Bankruptcy Court appointed William
        M. Noall to serve as Chapter 11 Trustee for the Mega-C case. On June 7, 2005,
        the Chapter 11 Trustee commenced an adversary proceeding against Sally Fonner,
        the trustee of the Trust (Case No. 05-05042-gwz), demanding, among other
        things,
        the turnover of at least 7,327,500 shares held by the Trust as property of
        the
        bankruptcy estate. On July 27, 2005, the Company commenced an adversary
        proceeding against the Chapter 11 Trustee and Ms. Fonner (Case No. 05-05082-gwz)
        for the purpose of obtaining a judicial determination that as of the petition
        date:
  ·
              Mega-C's
                  license to commercialize the technology was
                  terminated;
  ·
              Mega-C
                  does not have any interest in the
                  technology;
  ·
              Mega-C
                  did not transfer any property to the Company with the intent to
                  damage or
                  defraud any entity;
  ·
              Mega-C
                  did not transfer any property to the Company for less than reasonably
                  equivalent value; and
  ·
              If
                  the court ultimately decides that Mega-C has a valid legal interest
                  in the
                  technology, then the Company is entitled to terminate the
                  Trust,
                  Further, Axion amended its complaint in September 2005 to assert
                  its legal
                  right to have the Trustee of the Mega C Trust hold the assets of
                  the Trust
                  for the benefit of the founders of APC in the event the bankruptcy
                  court
                  were to grant the Chapter 11 Trustee's request for turnover of
                  the Trust
                  assets and to set aside the Trust.  These two theories made it
                  necessary to name Ms. Fonner as a defendant in the lawsuit.
  **Settlement
        Agreement:** On
        December 12, 2005, the Company entered into a settlement agreement with Mega-C,
        represented by its Chapter 11 Trustee William M. Noall ("Noall"), and the
        Trust,
        represented by its trustee Sally A. Fonner ("Fonner"). Additional signatories
        to
        the settlement agreement include: (a) the company's subsidiaries APC and
        C&T; (b) Fonner in both her capacity as Mega-C's sole officer and director
        and as trustee of the Trust; (c) certain former stockholders of APC
        including Robert Averill, Joe Piccirilli, The Canadian Consultants Bureau
        Inc.,
        James Smith, James Eagan, Tom Granville, Joe Souccar, HAP Investments, LLC,
        Glenn Patterson, Igor Filipenko, Ron Bibace, Kirk Tierney, Infinity Group,
        LLC,
        James Keim and Turitella Corporation; (d) Paul Bancroft, and
        (e) certain former stockholders of C&T including, Yuri Volkovich, Pavel
        Shmatko, Albert Shtemberg, Edward Shtemberg, C&T Co., Inc. in Trust, Oksana
        Fylypenko, Andriy Malitskiy, Valeri Shtemberg, Yuri Shtemberg, Victor Eshkenazi,
        Miraslav E. Royz, and Rimma Shtemberg.
  76
  The
        settlement agreement was approved by the Bankruptcy Court after a hearing
        in an
        order dated February 1, 2006, subject to confirmation and effectiveness of
        Mega-C's Chapter 11 plan of reorganization. On November 8, 2006, the Bankruptcy
        Court entered an order confirming Mega-C's, Noall's, and Axion's plan of
        reorganization and the plan was subsequently substantially consummated on
        November 21, 2006. The settlement agreement was fully incorporated in the
        confirmed Chapter 11 plan.  At the date of these financial statements, the
        plan is fully effective and substantially consummated.  Accordingly, all
        pending and potential disputes between the parties have been resolved.  By
        way of summary of the Plan, the following steps have been accomplished: 
 and:
  ·
              The
                  Company has compromised and withdrawn  its notes receivable from
                  Mega-C to an allowed unsecured claim of $100;
  ·
              Mega-C
                  has assigned its interest, if any, in the technology and any and
                  all
                  tangible and intangible personal property in the Company's possession
                  to
                  the Company;
  ·
              The
                  Trust has been restated and retained 4,700,000 shares that will
                  be sold to
                  pay creditor claims that remain unsatisfied from the Liquidation
                  Trust
                  described below, with the balance to be or distributed to Mega-C's
                  shareholders in connection with the implementation of Mega-C's
                  Chapter 11
                  plan.
  ·
              A
                  newly created Liquidation Trust received the proceeds of loans
                  in the
                  amount of $2,055,000, secured by approximately 660,000 shares,
                  and legal
                  title to an additional approximately 340,000 shares that will be
                  sold to
                  pay creditor claims and Liquidation Trust expenses.
  ·
              The
                  former trustee of the Trust has received 627,500 shares in consideration
                  of the accumulated expenses incurred by the Trust through the effective
                  date of Mega-C's plan; and
  ·
              The
                  Trust has surrendered 1,500,000 shares to the Company which were
                  promptly
                  cancelled.
  The
        litigation settlement and releases provided by the plan, which are as broad
        as
        the law allows, are now binding on Mega-C, the Chapter 11 trustee, the Taylor
        Group and all other adverse parties that have or may have claims that could
        have
        been asserted by Mega-C. The plan requires the Liquidation Trust to seek
        dismissals of the Taylor litigation to the extent that it involves derivative
        actions that belong to the Chapter 11 estate.
 
 While
        certain aspects of the litigation discussed above are on appeal to the Ninth
        Circuit Court of Appeals, management believes the possibility of any adverse
        decision to the Company to be remote.
 
 The
        settlement agreement may not resolve all aspects of the Taylor Litigation
        because the original statement of claim alleges an oral agreement with C&T
        gave the Taylor Group an ownership interest in the technology and/or C&T.
        Because core contracts, notices and other substantial direct evidence contradict
        these allegations, the Company believes after consultation with counsel that
        the
        claims are without merit. The Company also believes that if the Taylor Group
        prevails, C&T’s former shareholders will bear primary legal responsibility
        for any judgment. However, there can be no assurance that the Taylor Group
        will
        not prevail or that Axion will not be held liable. The cost and outcome of
        future litigation could have a material adverse impact on the Company’s
        financial condition and the value of its stock.
 
 The
        company will record a recovery of notes receivable previously written off
        in
        November of 2006 in the amount of $100 as well as other assets received from
        Mega-C Power Corp. The other assets received, primarily miscellaneous fixed
        assets, have been determined to be negligible in value and no attempt has
        been
        made to secure an appraisal or record any amounts for these assets. Most
        importantly, the confirmation provides legal certainty, to the extent possible,
        in the company’s ownership of the technology.
  ***Future
        Litigation Costs:*** No
        amounts have been accrued in the accompanying balance sheet related to future
        litigation costs. Protracted litigation or higher than anticipated costs
        could
        significantly reduce available working capital and have a material adverse
        impact on the company’s financial condition.
 
 ***Grant
        from State of Pennsylvania*** :
        The
        Company received a grant from the state of Pennsylvania for approximately
        $1.2
        million. Of that total, $900,000 was in cash for equipment with the remainder
        for job training and tax credits. Of the total grant, $512,000 was received
        September 6, 2007.
  77
  **ITEM
          8A — CONTROLS AND PROCEDURES**





*Background.* On May
      3, 2006, we filed a post-effective amendment to a Form S-1 registration
      statement for the purpose of registering the resale of shares of our stock
      held
      by the Mega-C Trust. In connection with their review of that filing, the SEC’s
      staff raised a number of questions relating to our historical accounting
      practices. In response to the SEC’s questions, the audit committee of our board
      of directors concluded that our previously issued audited financial statements
      for the short period September 18, 2003 to December 31, 2003 and the years
      ended
      December 31, 2004 and 2005 should be evaluated for the accounting policies
      and
      procedures used. The company concluded our financial statements should be
      restated. Those restated financial statements were re-audited by the company’s
      independent external auditors for the fiscal year ended December 31, 2005. **





*Effectiveness
      of Disclosure Controls and Procedures* .
      We are
      required to maintain disclosure controls and procedures (as defined in Rules
      13a-15(e) and 15d-15(e) under the Exchange Act) that are designed to ensure
      that
      required information is recorded, processed, summarized and reported within
      the
      required timeframe, as specified in the rules set forth by the SEC. Our
      disclosure controls and procedures are also designed to ensure that information
      required to be disclosed is accumulated and communicated to management,
      including our Chief Executive Officer and Chief Financial Officer, to allow
      timely decisions regarding required disclosures.





Our
      management, with the participation of our Chief Executive Officer and Chief
      Financial Officer, evaluated the effectiveness of our disclosure controls and
      procedures as of December 31, 2005 and, based on this evaluation, our Chief
      Executive Officer and our Chief Financial Officer had previously concluded
      that
      the design of our system of disclosure controls and procedures were effective
      as
      of that date to ensure that material information relating to our company would
      be made known to them and that our system of disclosure controls and procedures
      was operating to provide a reasonable level of assurance that information
      required to be disclosed in our reports would be recorded, processed, summarized
      and reported in a timely manner, particularly during the period in which this
      Annual Report on Form 10-KSB was being prepared.





As
      a
      result of the findings of the audit committee, our Chief Executive Officer
      and
      Chief Financial Officer have subsequently concluded that the material weaknesses
      described below existed as of December 31, 2005. As a result, we have concluded
      that we did not maintain effective internal control over financial reporting
      as
      of December 31, 2005. For these reasons, we have now concluded that our
      disclosure controls and procedures were not effective as of December 31,
      2005.





We
      determined that the following material weakness existed as of December 31,
      2005:




·
            Inadequate
                controls over the process for the identification and implementation
                of the
                proper accounting for complex and non-routine transactions, particularly
                as they relate to accounting for equity based transactions, uncollectible
                accounts, in-process research and development expense, and various
                other
                adjustments as set forth in footnotes 4, 5, and 6 to our restated
                financial statements. This resulted in the restatement of our consolidated
                financial statements for the partial year from September 18, 2003
                (inception) to December 31, 2003, and the years ended December 31,
                2004
                and 2005.





·
            The
                failure to properly account for and report certain transactions in
                the
                originally reported financial statements for the quarters ended March
                31,
                June 30 and September 30, 2005 constituted material weaknesses in
                our
                internal control over financial reporting. These material weaknesses
                were
                also noted by our independent auditors in a letter to the Audit Committee
                of our board of directors dated April 17, 2006. As a result of those
                material weaknesses, in May 2006, we restated our financial statements for
                the quarters ended March 31, June 30 and September 30, 2005.





Because
      the material weaknesses identified in connection with the assessment of our
      internal control over financial reporting had not yet been remedied, our Chief
      Executive Officer and our Chief Financial Officer have concluded that our
      disclosure controls and procedures were not effective for the partial year
      from
      September 18, 2003 (inception) to December 31, 2003 and the years ended December
      31 2004 and 2005.





We
      have
      added or are initiating the following additional controls to the Company’s
      internal control over financial reporting, which we expect will improve such
      internal control subsequent to the date of the valuation. These changes
      are:





·
            We
                have added an experienced accountant to our accounting staff, whose
                responsibilities will include identification and implementation of
                proper
                accounting procedures relating to guidance on financial reporting
                issues
                that apply to the Company;





·
            We
                have performed additional analysis and other procedures in order
                to
                identify weaknesses and errors in order to develop an adequate system
                of
                disclosure and financial controls,





·
            We
                have contacted a firm to perform a review to evaluate the Company’s
                internal control over financial
                reporting,





·
            We
                have restructured certain departmental responsibilities as they relate
                to
                the financial reporting function,





·
            We
                have hired a new Chief Financial
                Officer.


*Changes
        in Internal Control over Financial Reporting* .
        No
        changes in our internal control over financial reporting occurred during
        the
        quarter ended December 31, 2005 that materially affected, or are reasonably
        likely to materially affect, our internal control over financial
        reporting.




78


**ITEM
      11 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS**




We
      had
      16,247,298 shares of common stock and 140,000 shares of preferred stock
      outstanding on April 21, 2006, the record date for the annual meeting. The
      following table sets forth certain information with respect to the beneficial
      ownership of our securities as of April 21, 2006, for (i) each of our directors
      and executive officers; (ii) all of our directors and executive officers as
      a
      group; and (iii) each person who we know beneficially owns more than 5% of
      our
      common stock.





Beneficial
      ownership data in the table has been calculated based on SEC rules that require
      us to identify all securities that exercisable for or convertible into shares
      of
      our common stock within 60 days of April 21, 2006 and treat the underlying
      stock
      as outstanding for the purpose of computing the percentage of ownership of
      the
      person holding those securities.





Except
      as
      indicated by footnotes, and subject to applicable community property laws,
      each
      person identified in the table possesses sole voting and investment power with
      respect to all capital stock held by that person. The address of each named
      executive officer and director, unless indicated otherwise by footnote, is
      c/o
      Axion Power International, Inc. 100 Caster Avenue, Woodbridge, Ontario L4L
      5Y9
      Canada.


**Common**
              
              **Preferred**
              
              **Exercisable**
              
              **Beneficial**
              
              **Percent****Stock**
              
              **Stock
                  (1)**
              
              **Rights
                  (2)**
              
              **Ownership**
              
              **of Total****Directors
                  and Named Executive Officers**Igor
                  Filipenko (3)
              
              
              785,900
              
              
              248,553
              
              
              674,200
              
              
              1,708,653
              
              
              9.8
              %Glenn
                  Patterson (4)(5)
              
              
              917,841
              
              
              
              
              
              310,870
              
              
              1,228,711
              
              
              7.0
              %Robert
                  Averill (4)
              
              
              672,226
              
              
              145,752
              
              
              234,174
              
              
              1,052,152
              
              
              6.0
              %John
                  L. Petersen (6)
              
              
              336,000
              
              
              
              
              
              299,900
              
              
              635,900
              
              
              3.6
              %Thomas
                  Granville (4)
              
              
              431,300
              
              
              
              
              
              407,200
              
              
              838,500
              
              
              4.8
              %Joseph
                  Souccar (4)
              
              
              326,309
              
              
              
              
              
              41,791
              
              
              368,100
              
              
              2.1
              %Charles
                  Mazzacato
              
              
              7,500
              
              
              
              
              
              116,250
              
              
              123,750
              
              
              0.7
              %Peter
                  Roston
              
              
              7,500
              
              
              
              
              
              91,667
              
              
              99,167
              
              
              0.6
              %Edward
                  Buiel
              
              
              31,000
              
              
              
              
              
              68,750
              
              
              99,750
              
              
              0.6
              %Howard
                  Schmidt
              
              
              -
              
              
              
              
              
              13,000
              
              
              13,000
              
              
              0.1
              %Michael
                  Kishinevsky
              
              
              -
              
              
              
              
              
              5,000
              
              
              5,000
              
              
              0.0
              %Directors
                  and officers
                as
                  a group (11 persons)
              
              
              3,515,576
              
              
              394,305
              
              
              2,262,802
              
              
              6,172,683
              
              
              35.2
              %**Greater
                  than 5% Stockholders**Mega-C
                  Stockholders Trust (7)(8)
              
              
              6,327,500
              
              
              
              
              
              
              
              
              6,327,500
              
              
              36.1
              %




(1)
            Represents
                shares of common stock issuable upon conversion of preferred stock
                held by
                the stockholder.(2)
            Represents
                shares of common stock issuable upon exercise of warrants and options
                held
                by the stockholder that are presently exercisable or will become
                exercisable within 60 days.




79




(3)
            Includes
                610,900 shares of common stock, 212,990 shares issuable upon the
                conversion of 36,533 shares of preferred stock and 455,400 shares
                issuable
                upon the exercise of warrants and options held by Dr. Filipenko;
                and
                175,000 shares of common stock, 35,563 shares issuable upon the conversion
                of 6,100 shares of preferred stock and 218,800 shares issuable upon
                the
                exercise of warrants and options held by Dr. Filipenko’s
                wife.(4)
            Excludes
                shares in the Mega-C Shareholders Trust that may be distributable
                to our
                directors and officers.


(5)
            Includes
                400 common shares owned by Mr. Patterson’s wife.(6)
            Includes
                331,500 shares of common stock held by Mr. Petersen, 4,500 shares
                of
                common stock held by Mr. Petersen’s wife and 299,900 shares issuable upon
                the exercise of warrants and options held by the law firm of Petersen
                & Fefer, Barberêche Switzerland.(7)
            Includes 6,850
              shares
              of common stock and 31,700 warrants that Sally Fonner, the trustee
              of the
              Mega-C Shareholders Trust holds for her personal account.(8)
            In accordance
              with a
              settlement agreement signed in December 2005, subject to confirmation
              and
              effectiveness of Mega-C’s Chapter 11 plan of reorganization, the Mega-C
              Trust intends to transfer an additional 627,500 shares to Sally Fonner
              as
              consideration for accumulated Trust expenses. Also as a result of the
              settlement agreement, 1,000,000 shares are expected to be transferred
              to a
              newly formed liquidation trust to pay administrative costs incurred
              by the
              Chapter 11 estate of Mega-C Power.; 4,700,000 shares will be distributed
              to Mega-C’s creditors and shareholders as described in the plan; and the
              Mega-C Trust will return 1,500,000 shares to us for cancellation. The
              1,500,000 shares have been excluded in the table
              above.




**ITEM
      13. — EXHIBITS.**





31.1
            Certification
                of Chief Executive Officer Pursuant to Rule 13a-14(a)31.2
            Certification
                of Chief Financial Officer Pursuant to Rule 13a-14(a)32.1
            Statement
                of Chief Executive Officer Pursuant to Section1350
                of Title 18 of the United States Code32.2
            Statement
                of Chief Financial Officer Pursuant to Section1350
                of Title 18 of the United States Code




**SIGNATURES**





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





**AXION
                POWER INTERNATIONAL, INC.**By
            /s/
                Thomas GranvilleThomas
                Granville, Chief Executive Officer and DirectorDate
                October 2, 2007By
            /s/
                Andrew Carr Conway, Jr.Andrew
                Carr Conway, Jr., Chief Financial OfficerDate
                October 2, 2007


80