**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

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**Form10-K**

 

**(Mark One)**
| ** ** | **ý** | ** ** | **ANNUAL  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|------------|------------|------------|--------------------------------------------------------------------------------------------|

 

**For the fiscal year endedDecember 31, 2004**

 

**Commission FileNumber:  0-31226**

 
| **INVESTOOLS INC.**                                            |
|----------------------------------------------------------------|
| (Exact name of Registrant as specified in its charter)         |
|                                                           |   |   |
| **Delaware**                                                   | ** ** | **76-0685039** |
| (State or other jurisdiction of incorporation or organization) |   | (I.R.S. Employer Identification No.) |
|                                                           |   |   |
| **585 East 1860 South  Provo, Utah**                           | ** ** | **84606** |
| (Address of principal executive offices)                       |   | (Zip Code) |
|                                                           |   |   |
| Registrant’s telephone number, including area code:       |
| **(801) 724-6913**                                             |
|                                                           |   |   |
| Securities registered pursuant to Section 12(b) of the Act:    |   | **None** |
| Securities registered pursuant to Section 12(g) of the Act:    |   | **Common Stock, $.01 par value per share** |
|                                                           |   | (Title of Class) |

 

Indicate by check mark whether the Registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities and Exchange Actof 1934 during the preceding 12 months (or for such shorter period that theRegistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.
| Yes | ý |   | No | o |   |
|-----|--------|--------|----|---|--------|

 

Indicate by check mark if disclosure of delinquent filers pursuant toItem 405 of Regulation S-K is not contained herein, and will not be contained,to the best of Registrant’s knowledge, in definitive proxy or informationstatements incorporated by reference in Part III of this Form 10-K or anyamendment to this Form 10-K. 

 

Indicate by check mark whether the Registrant is an accelerated filer(as defined in Rule 12b-2 of the Exchange Act). Yes ý No o

 

The aggregate market value of voting and non-votingcommon equity held by non-affiliates of the Registrant as of June 30, 2004 (thelast business day of the Registrant’s most recently completed second fiscalquarter) based on the closing price of the common stock on the American StockExchange for such date, was $90.6 million.

 

The number of shares of the Registrant’s common stock converted andoutstanding on March 15, 2005 was 44,978,968.

 

**Documents Incorporated byReference:**

 

The registrant’s definitive proxy statement filed or to be filed withthe Securities and Exchange Commission pursuant to Regulation 14A involving theelection of directors at the annual meeting of the shareholders of theregistrant scheduled to be held on June 10, 2005 is incorporated by referencein Part III of the Form 10-K.

 

 

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**INVESTOOLS INC.**

**FORM 10-K REPORT INDEX**

** **
| **FORWARD LOOKING STATEMENT** | ** **                                                                                                            |
|-------------------------------|-----------------------------------------------------------------------------------------------------------------------|
|                          |                                                                                                                  |   |
| **PART  I**                   | ** **                                                                                                            |
|                          |                                                                                                                  |   |
| ITEM 1.                       | BUSINESS                                                                                                              |   |
| ITEM 2.                       | PROPERTIES                                                                                                            |   |
| ITEM 3.                       | LEGAL PROCEEDINGS                                                                                                     |   |
| ITEM 4.                       | SUBMISSION OF  MATTERS TO A VOTE OF SECURITY HOLDERS                                                                  |   |
|                          |                                                                                                                  |   |
| **PART II**                   | ** **                                                                                                            |
|                          |                                                                                                                  |   |
| ITEM 5.                       | MARKET FOR  REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER  REPURCHASES OF EQUITY SECURITIES |   |
| ITEM 6.                       | SELECTED  CONSOLIDATED FINANCIAL DATA                                                                                 |   |
| ITEM 7.                       | MANAGEMENT’S  DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS                           |   |
| ITEM  7A.                     | QUANTITATIVE  AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                                           |   |
| ITEM  8.                      | FINANCIAL  STATEMENTS AND SUPPLEMENTARY DATA                                                                          |   |
| ITEM  9.                      | CHANGES  IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE                                 |   |
| ITEM  9A.                     | CONTROLS  AND PROCEDURES                                                                                              |   |
| ITEM  9B.                     | OTHER  EVENTS                                                                                                         |   |
|                          |                                                                                                                  |   |
| **PART  III**                 | ** **                                                                                                            | ** ** |
|                          |                                                                                                                  |   |
| **PART  IV**                  | ** **                                                                                                            | ** ** |
|                          |                                                                                                                  |   |
| ITEM 15.                      | EXHIBITS AND  FINANCIAL STATEMENTS                                                                                    |   |
|                               |                                                                                                                       |  |  |

 

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**INVESTOOLS INC. AND SUBSIDIARIES**

**NOTES TO CONSOLIDATED FINANCIAL STATEMENTS**

 

**ForwardLooking Statement**

** **

All statements inthis Annual Report on Form 10-K that are not historical are forward-lookingstatements within the meaning of Section 21E of the Securities Exchange Act of1934.  Such forward-looking statements may be identified by words such as “believe”,“intend”, “expect”, “may”, “could”, “would”, “will”, “should”, “plan”, “project”,“contemplate”, “anticipate”, or similar statements.  In addition, from time to time, we (or ourrepresentatives) may make forward-looking statements of this nature in ourannual report to shareholders, proxy statement, quarterly reports on Form 10-Q,current reports on Form 8-K, press releases or in oral or written presentationsto shareholders, securities analysts, members of the financial press orothers.  All such forward-lookingcautionary statements, whether written or oral, and whether made by us or onour behalf, are expressly qualified by these cautionary statements and anyother cautionary statements which may accompany the forward-lookingstatements.  In addition, theforward-looking statements reflect only our current views concerning future events,and we assume no obligation to publicly update or revise any forward-lookingstatements made herein or any other forward-looking statements we make, whetheras a result of new information, future events, or otherwise.  Forward-looking statements are subject torisks and uncertainties which could cause actual results, performance or trendsto differ materially from those expressed in the forward-lookingstatements.  We have made everyreasonable effort to ensure that the information and assumptions on which thesestatements and projections are based are current, reasonable, and complete, butthere can be no assurance that management’s expectations, beliefs orprojections as expressed in the forward-looking statements will actually occuror prove to be correct.  Factors thatcould cause actual results to differ materially are discussed under “Business —Factors That May Affect Future Results.”

 

**PartI**

** **

# **Item 1**.                                   Business

# ** **

## **Operations Overview**

## ** **

INVESTools Inc.(referred to as “INVESTools”, “we”, “us”, or “our”) is a leader in investoreducation.  Our mission is to educate andempower individual investors to make their own financial decisions to achievetheir unfulfilled financial goals anytime, anywhere by using the INVESToolsMethodTM live, by correspondence or online establishing the INVESTools Method asthe most widely recognized, adopted and endorsed approach to investoreducation.  We offer a full range ofinvestor education products and services that provide lifelong learning andsupport to self-directed investors to help them improve their investmentperformance.  We have more than 144,000graduates and 51,000 subscribers to our websites.  Our products and services are built aroundthe INVESTools Method, a unique integration of a disciplined investing process,web-based tools, personalized instruction and support.  Our investor education products and servicesare offered in a variety of learning formats with courses ranging frombeginning to advanced, thus addressing the needs of all investor levels.

 

In January 2005,we announced the relocation of our corporate headquarters from Houston, Texasto Salt Lake City, Utah.  Our interimcorporate headquarters and principal executive office is located at 585 East1860 South, Provo, Utah 84606.  We also maintainoffices in New York, New York; Houston, Texas; Palo Alto, California and SanRafael, California.  We intend for thecorporate relocation to Salt Lake City to be complete in May 2005.

 

## **Corporate Background**

## ** **

INVESTools wasincorporated in Delaware on May 21, 2001 and began operations on December 6,2001, as a result of a merger between ZiaSun Technologies, Inc., a Nevadacorporation (ZiaSun), and Telescan, Inc., a Delaware corporation(Telescan).  Former ZiaSun and Telescanstockholders acquired an approximate 75% and 25% ownership interest inINVESTools, respectively.  The merger wasaccounted for under the purchase method of accounting.  ZiaSun and Telescan each became wholly ownedsubsidiaries of INVESTools.

 

Our subsidiariesare:

 

•                  ZiaSun, which owns 100% of OnlineInvestors Advantage, Inc. (OIA).  OIAowns 100% of the following dormant entities that have no operations:  INVESTools Asia Pacific Pte., Limited(INVESTools Asia), Investor Education California, LLC, INVESTools Hong KongLtd. (INVESTools Hong Kong), Seminar Marketing Group, Inc. (SMG) and MemoryImprovement Systems, Inc. (MIS).

 

•                  Telescan, which owns 100% ofINVESTools, Inc., a dormant California corporation with no operations(INVESTools California).

 

•                  SES Acquisition Corp., a Californiacorporation operating under the name 360 Group. We acquired 360 Group on February26, 2004.  360 Group was a directmarketing agency that offered services such as custom database development andmanagement, strategic planning, media list planning and buying, creative and

 

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productionservices, response management and analytic services.  We acquired 360 Group in order to internalizeour marketing department.

 

•                  Prophet Financial Systems, Inc.(Prophet), a California corporation, acquired on January 26, 2005.  Prophet is a Web-based content and servicesprovider that enables active investors to use technical analysis to trade moreprofitably.  Prophet’s website,ProphetNet, is a premier Web provider of advanced charting technology.

 

## **Business Segments**

## ** **

Managementanalyzes our operations by reviewing financial information regarding productsand services that are aggregated into a single operating segment, investoreducation.

 

## **Business Strategy**

## ** **

Our products andservices are built around a 5-Step Investing Formula that is designed to teachboth experienced and beginning investors how to approach the stock selectionprocess according to our proven investing formula.  Course offerings are generally combined withpersonalized instruction and ongoing support and are offered in a variety of learningformats, which solidify the students’ understanding of the investing processand help in their effort to take control of their financial future.

 

We seek to offerinvestors a full range of investor education products that provide lifelonglearning.  Generally, students areintroduced to our products and services through a free preview event.  Attendees of the preview event are given aninvitation to attend a more comprehensive instructor-led workshop or purchasean in-depth DVD-based home study program, both of which include subscriptionaccess to the Online Investor ToolboxTM website. Workshops and home study programs are often bundled with personalized,one-on-one coaching sessions, which are spread out over a period of time andinclude ongoing support through a live 800-number hotline for technicalassistance.  Following completion of theinitial workshop or home study program, graduates are offered continuingeducation and advanced courses to build on what they have learned.  Products are offered under INVESToolsInvestor Education, Success Magazine Investor Education, BusinessWeek InvestorEducation and CNBC Investor Education brands.

 

### *Learning Formats*

 

Dependingon the brand under which the learning formats are marketed, content andservices available to students (i.e., length of workshop, number of coachingsessions and access to certain Online Investor Toolbox features) may vary.

 

•                  Preview Event – We offer a free eventthat introduces attendees to basic investing concepts and provides a broad overviewof the financial markets.  Depending onthe brand under which the preview event is marketed, participants may receive agift for attending.  Attendees areoffered an invitation to attend a more comprehensive workshop or purchase anin-depth DVD-based home study program.

 

•                  Workshops – We offer one and two-daylive, instructor-led investing workshops that cover topics ranging from basicinvesting principles to advanced strategies. The workshops provide hands-on experience using our proprietary OnlineInvestor Toolbox website.  The basicinvesting principles workshop includes a six month subscription to the OnlineInvestor Toolbox website as part of the workshop fee.

 

•                  Home Study Programs – We offerseveral of our courses in a DVD at home study format.  These programs are offered to previewattendees who are unable to attend the instructor-led workshops and workshopgraduates seeking to expand their investment knowledge base through advancedcourses.  The DVD-based home studyprograms provide hands-on training using our proprietary Online InvestorToolbox website.  The basic investingprinciples home study course includes a six month subscription to the OnlineInvestor Toolbox website as part of the home study course fee.

 

•                  One-on-One Coaching – Our personalizedcoaching line of products offer investors one-on-one coaching and support ininteractive sessions with a coach.  Thesessions, which are offered for both basic and advanced courses, allowinvestors to learn at their own pace and successfully apply what they arelearning.  One-on-one coaching is offeredover a set period of time, depending upon the course.

 

•                  Live Coaching Workshops – In 2004, weintroduced a live coaching format that provides students with an in depth,interactive learning experience and a low student to teacher ratio.  These courses are offered in an attractiveresort location, and are taught by our most experienced coaches.  They included stock and options training aswell as more advanced active investing courses.

 

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•                  Ongoing Support (web subscriptions) –As long as alumni maintain an active subscription to the Online InvestorToolbox website, they have unlimited e-mail access to instructors.  Students who participate in the one-on-onecoaching program also have access to instructors through a Live Chat onlinesupport option and coaches through a live 800-number hotline where they cancheck their work.

 

•                  eLearning (web subscriptions) – In2004, we introduced short, online tutorials called webinars on two topics,Market Forecast and Covered Calls, through our Online Investor Toolboxwebsite.  The click on demand webinarsare designed to walk graduates through the portion of the Online InvestorToolbox site that relates to the subject being covered.  In 2005, we will extend online delivery ofour products through our eToolbox strategy.

 

### *Course Offerings*

 

•                  5-Step Investing Formula – Thisfoundational course is designed to teach both experienced and beginninginvestors how to select stocks according to a step-by-step, disciplinedinvesting process.  The 5 steps are:  (1) searching for an investment, (2) industrygroup analysis, (3) fundamental analysis, (4) technical analysis, and (5)portfolio management.  There are noprerequisites to take this course.

 

•                  Basic Options – This course isdesigned to introduce investors to the power of options and teach them how tostart trading options to give them opportunities to increase profits anddiversify their investing strategies. The course also provides investors with a number of options-relatedstrategies such as puts, covered calls and LEAPS that may help their investmentportfolio.  Students must complete the5-Step Investing Formula prior to taking this course.

 

•                  Advanced Options – This course is amulti-part course designed to teach investors advanced options strategies onestep at a time.  Building on theprinciples taught in our Basic Options course, the Advanced Options courseintroduces new options strategies such as debit spreads, credit spreads,diagonal spreads, straddles and strangles, index options and butterflyspreads.  Students must complete the5-Step Investing Formula and Basic Options prior to taking this course.

 

•                  Advanced Technical Analysis – Thiscourse is designed to teach investors technical analysis and advanced chartingtechniques to identify investment opportunities, reduce ambiguity and to givethem opportunities to profit in any financial market condition.  The course teaches the skills and disciplineto interpret trends and trading opportunities based on the physical behavior ofthe market as seen through technical analysis and charting techniques.  Students must complete the 5-Step InvestingFormula prior to taking this course.

 

•                  INVESTools Currency TraderTM - Thiscourse, which was added in early 2005, prepares investors to trade in the forexmarkets using the same risk management skills and principles that professional,institutional and advanced individual currency traders utilize.  The course focuses on technical analysis andadvanced charting techniques to help investors identify, analyze and leverageglobal currency trading opportunities, reduce risk and increase profitpotential.  The course provides investorswith the proper know-how for taking advantage of the steady stream of uniqueopportunities created by the constant flow of world events.  There are no prerequisites to take thiscourse.

 

### *Continuing Education Programs*

 

Designedfor the serious student, our continuing education programs offer students a comprehensiveaccess to a multitude of products at one price point.  Typically investors receive additional homestudy courses, one-on-one coaching sessions and extended Online InvestorToolbox access.  Depending on the brandunder which the programs are marketed, content and services available tostudents (i.e., length of workshop, number of coaching sessions and access tocertain Online Investor Toolbox features) may vary.

 

•                  Associate Investor Program – Inaddition to the foundational 5-Step Investing Formula course and initial sixmonth Online Investor Toolbox access, the Associate Investor Program providesinvestors with six 5-Step Investing Formula one-on-one coaching sessions, theBasic Options home study course and six Basic Options one-on-one coachingsessions.

 

•                  Master Investor Program – In additionto the foundational 5-Step Investing Formula course and initial six monthOnline Investor Toolbox access, the Master Investor Program provides investorswith nine 5-Step Investing Formula one-on-one coaching sessions, the BasicOptions Workshop, Basic Options home study course, nine Basic Optionsone-on-one coaching sessions, the Advanced Options home study course, anadditional twelve months of Online Investor Toolbox access and a one year VIPpass for basic and alumni workshops.

 

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•                  Program of High Distinction – Inaddition to the foundational 5-Step Investing Formula course and initial sixmonth Online Investor Toolbox access, the Program of High Distinction providesinvestors with six 5-Step Investing Formula one-on-one coaching sessions, theBasic Options Workshop, Basic Options home study course, nine Basic Optionsone-on-one coaching sessions, the Advanced Options Workshop, Advanced Optionshome study course, nine Advanced Options one-on-one coaching sessions, theAdvanced Technical Analysis Workshop, Advanced Technical Analysis home studycourse, six Advanced Technical Analysis one-on-one coaching sessions, theActive Investing Workshops, a three day live Program of High Distinction mentortraining class in a resort location, an additional 24 months of Online InvestorToolbox access and a two year VIP pass for basic, alumni and advancedworkshops.

 

•                  Active Investing Workshops – Threedynamic, intensive workshops, which were added in early 2005, are offered toinvestors.  The three workshops – one forstocks, one for options and one for currency trading – are designed to offerattendees more sophisticated strategies and technology.  Attendees are taught how to take advantage ofshorter-term (intraday to one-week) price swings by closely monitoring themarket during open hours and making numerous, quick but well informed decisionsto buy, hold or sell.  This aggressivetrading technique is based primarily on the real-time technical analysis ofvolume, key indicators and technical chart patterns and formations.  Each workshop has a low student to teacherratio to give investors the personal training and deeper comprehension.  Attendees are provided the use of their owntrading station complete with computer, dual monitors, streaming data and livepaper trading accounts.  With guidancefrom an experienced instructor, investors practice money management, evaluatingand calibrating risk tolerance, monitoring total cash flow and activelymanaging portfolio growth, all in real time.

 

### *Value Added Tools*

 

•                  Online Investor Toolbox – Our OnlineInvestor Toolbox websites gives investors access to the investment tools neededto execute the strategies taught in our investor education programs.  The site has proprietary features that arenot accessible on other financial websites, including more than 50 pre-builtstock searches, comparative reports, market indicators, market commentary andportfolio tracking features.  An initialsix month subscription to the site is included with the purchase of a basiclevel investing workshop or home study course. At the end of the initial subscription, graduates are offered renewalsfor a fee, which depends on the length of the renewal period and whetheradditional products or services are purchased. Currently, we offer one to sixty month subscription renewals.

 

•                  OptionsXpress® Trading Platform – Afeature that was added in 2005, the OptionsXpress Trading Platform allowsgraduates to trade without leaving the Online Investor Toolbox website.

 

## **Sales and MarketingStrategy**

## ** **

Revenue is derivedfrom: (i) the initial sale of our products and services as a result ofmarketing efforts across multiple acquisition channels which include, but arenot limited to, radio, television, print, postal mail and email directmarketing campaigns driving customers to either a free preview of investoreducation products offered at locations near the prospect or the opportunity tospeak with a telesales representative about the products offered; and (ii) theadditional sale of products and services to graduates as a result of continuedinteraction with us in workshops, periodic email and direct mail communicationsand through access to coaches and instructors. In 2004, we made the decision to expand our student acquisition effortsby engaging with multiple external marketing agencies to produce a DirectResponse Television (DRTV) infomercial designed to drive lead flow to theINVESTools brand.  The DRTV infomercialwas launched in January 2005.

 

We experiencedgrowth in initial product sales in 2004 as a result of:  (i) continued refinements to our initiatedand controlled direct marketing efforts for branded partnerships, such asBusinessWeek Investor Education and CNBC Investor Education, and (ii) expandedrelationships with co-marketing partners, such as Money In Training and SuccessMagazine Investor Education, where the partners themselves are responsible fordriving leads and acquiring new customers to the organization.  We experienced significant growth inadditional product sales and services to graduates as a result of theintroduction of multiple new products and product bundles.

 

## **Industry Trends**

## ** **

Technology hasgenerated significant growth in the education markets and acceptance offor-profit involvement in the improvement of education is now a mainstreamconcept.  However, only recently has theeducation market begun to emerge as a true industry.  Broadly defined, the education industrycovers a full range of for-profit and non-profit educational products andservices that are delivered through both traditional and technology-basedchannels and includes such disparate elements as early childhood education,corporate training and lifelong learning. We believe that our mission of fulfilling the lifelong education needsof self-directed investors most accurately falls within the confines of theeducation industry.

 

Of the $105billion for-profit sector, (1) which has grown rapidly for most of the pastdecade, it is estimated that the nearly

 

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$17 billion marketfor post-secondary education is expected to be the fastest growing sector inthe industry for the next several years. (2) Related to the market for investor education, since more than halfof all U.S. households, an estimated 53 million, own equity securities, 48% ofwhich were initially purchased inside employer retirement plans,(3)we believe that a significant opportunity exists to educate the public abouthow to make good investment decisions.  AHarris Interactive / Securities Industry Association survey (4) confirmed ourbelief, citing that as more investment related information has become availableto the public through the Internet, and with increasing cases of corporateaccounting fraud and financial mismanagement, as well as the need for reformrelated to the United States Social Security program, investors continue tolook to the securities industry to educate them about how to make better investmentsto secure their financial future.

 

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(1) KnowledgeQuestEducation Group LLC, 2002

(2) School ReformNews, August 2002

(3) ICI/SIA Study,Equity Ownership in America, 2002

(4) HarrisInteractive Annual SIA Investor Survey, November 2003

 

## **Competition**

## ** **

Generally,competitive factors within the educational market include the range and depthof foundational and continuing education course offerings, the quality ofinstructors and coaches, the quality of reference materials provided inconnection with course studies and the cost of the educational process.  We are aware of several companies thatprovide some level of investor education in similar delivery formats.  However, we believe that:  (i) the depth and quality of our curriculumand training, (ii) the range of our foundational and continuing educationcourse offerings, from beginner to advanced, (iii) our branded and co-marketingproduct distribution partnerships, (iv) the quality of our instructors, and (v)our database of prospects and students provide us with a considerablecompetitive advantage compared to other investor education providers.

 

## **Intellectual Property**

## ** **

We have registeredand received approval for a number of trademarks in the United States andforeign countries that are important to our future success.  Of critical importance to us is theINVESTools trademark.  The INVESToolstrademark is a widely recognized, adopted and endorsed approach to investoreducation and is associated with quality and reliable service.  Loss of the proprietary use of the INVESToolstrademark or a diminution in the perceived quality associated with that namecould harm our growth in the investor education industry.  Although management believes that ourtrademarks provide adequate protection for the proprietary aspects of ourbusiness operations, management cannot assure that such trademarks will:  (i) be of substantial protection orcommercial benefit to us, (ii) afford us adequate protection from competingproducts, or (iii) not be challenged or declared invalid.

 

We have registeredand maintain a multitude of domain names to ensure continuity of delivery forall of our websites.  Domain names aretypically renewed several months prior to their respective expiration dates fora period of two years or longer to prevent loss of ownership.

 

Most of ourproducts and services are based on proprietary technology that is updated tomeet customer needs and remain competitive. Protecting our rights to our proprietary technology and their twopatents is important.  Our basetechnology allows us to offer distinctive services and products to customers,which differentiates us from our competitors. The patent protection associated with our proprietary technology expiresat different times over the next 12 years. Although management believes that our patents provide adequateprotection for the proprietary aspects of our technology, management cannotassure that such patents will:  (i) be ofsubstantial protection or commercial benefit to us, (ii) afford us adequateprotection from competing products, or (iii) not be challenged or declaredinvalid.

 

We attempt toprotect our trade secrets and other proprietary information with productdevelopment partners, employees and consultants through nondisclosureagreements, contract provisions and copyright, patent, trademark and tradesecret laws.  With respect totechnologies that we license to third parties for use in specific applicationsor platforms, we rely on licensing agreements to ensure additional protectionrelated to the source code of our products as a trade secret and as anunpublished copyright work.  Managementbelieves that our products, trademarks and other proprietary rights do notinfringe on the proprietary rights of third parties, and management is notaware of any current infringement claims against us.

 

## **Regulatory Compliance**

## ** **

### *General*

### * *

Withthe exception of the general requirement that we and our subsidiaries beregistered or qualified to do business in the United States and any foreigncountries in which we operate, the products and services provided through theuse of our technology currently are not subject to the approval of anygovernment regulatory body.  However,certain foreign countries require that we register with their respectivesecurities and investments commission or similar regulatory body prior toconducting investment-related workshops. We have registered with the Australian Securities and InvestmentsCommission (ASIC) and have a compliance officer residing in Australia.

 

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We arenot a broker-dealer or otherwise engaged in the business of effectingtransactions in securities.  We are notan investment adviser or otherwise engaged in providing investment advice ormaking investment recommendations.

 

### *Sales and Marketing*

### * *

Ourproducts and services are marketed via a number of distribution channels,including radio, television, print, postal mail and email direct marketingcampaigns, which are regulated by numerous federal and state laws andregulations, including, but not limited to, anti-fraud laws, consumerprotection laws, privacy laws, telemarketing laws, telephone solicitation lawsand spam laws.  While to date we have notbeen adversely impacted by such regulation, management believes that our marketingactivities will increasingly be subject to such regulation, which may:  (i) limit our ability to solicit newcustomers or offer additional products or services to existing customers, and(ii) result in noncompliance, which can subject us to fines or various forms ofcivil or criminal prosecution.  Suchregulation could have an adverse effect on our financial condition and resultsof operations.  We have reviewed ourmarketing and sales practices and have made modifications, where required, toensure compliance.  We continue tomonitor the status of existing and proposed regulatory guidelines to ensurecompliance.

 

Althoughour operations on the Internet are not currently regulated by any governmentagency, it is possible that a number of laws and regulations may be adopted inthe future governing the Internet.  Inaddition, existing laws may be interpreted to apply to the Internet in ways notcurrently applied.  Regulatory and legalrequirements are subject to change and may become more restrictive, making ourbusiness units’ compliance more difficult or expensive or otherwise restrictingour ability to conduct their businesses as they are now conducted.

 

### *Securities and Exchange Commission*

### * *

As apublic company, we are required to file periodic reports, as well as otherinformation, with the Securities and Exchange Commission (SEC) withinestablished deadlines.  Any document wefile with the SEC may be viewed or copied at the SEC’s Public Reference Room at450 Fifth Street, N.W., Washington, D.C. 20549. Additional information regarding the Public Reference Room can beobtained by calling the SEC at (800) SEC-0330. Our SEC filings are also available to the public through the SEC’s web sitelocated at http://www.sec.gov.

 

Wemaintain a corporate Web site at http://www.investools.com, on which investorsmay access free of charge our annual report on Form 10-K, quarterly reports onForm 10-Q and amendments to those reports as soon as is reasonably practicableafter furnishing such material with the SEC. In addition, we will voluntarily provide electronic or paper copies ofour filings free of charge upon request to our Investor Relations department at(801) 724-6913.

 

## **Human Resources**

## ** **

At December 31,2004, we had 374 employees.  Of the 374employees, 22 percent were employed in customer acquisition related positions,55 percent were employed in customer fulfillment and retention relatedpositions, 10 percent were employed in technology positions, and 13 percentwere employed in administrative and marketing positions.  We also had 12 persons under contractprimarily in educational services.

 

Our key personnelare covered by employment and confidentiality agreements.  No persons employed by us, either full,part-time or on a contract basis, are covered by a collective bargainingagreement or represented by a union, and we have never experienced a workstoppage due to protesting or related activities.  Management considers relations with ourpersonnel to be good.

 

## **Factors That May AffectFuture Results**

## ** **

### *Our business may suffer if we are not successful indeveloping, maintaining and defending proprietary aspects of technology used inour products and services.*

### * *

Oursuccess and ability to compete are dependent on our ability to develop andmaintain the proprietary aspects of our technology.  Litigation may be necessary in the future toenforce our intellectual property rights, to protect trade secrets, todetermine the validity and scope of the proprietary rights of others or to defendagainst claims of infringement or invalidity. Any such litigation, even if we prevailed, could be costly and divertresources and could have a material adverse effect on our business, operatingresults and financial condition.  We cangive no assurance that our means of protecting our proprietary rights will beadequate, or that our competitors will not independently develop similartechnology.  Any failure by us to protectour intellectual property could have a material adverse effect on our business,operating results and financial condition. We integrate third-party software into code creating and supporting someof our products and services.  Thisthird-party software may not continue to be available on commerciallyreasonable terms.  We believe, however,there are alternative sources for such technology.  If we are unable to maintain licenses to thethird-party software included in the code supporting our product services,features of our products or services could be unavailable, until equivalentsoftware could be developed or licensed and integrated.  This delay could adversely affect ourbusiness, operating results and financial condition.

 

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### *Any negative changes in economic conditions,significant price increases, inflation or adverse events related to variousindustries, or the willingness of investors to trade could harm discretionaryspending and have a material adverse effect.*

### * *

Webelieve that the level of public interest in investing, particularly in thesecurities and option markets as well as electronic trading has significantlyinfluenced the market for its products and services.  The securities markets have experiencedsubstantial volatility in recent periods. A sharp drop or sustained or gradual decline in securities prices orother developments in the securities markets typically could cause individualinvestors to be less inclined to invest in the securities markets, which wouldbe likely to result in reduced interest in our investor educational productsand services.

 

### *We depend on continued growth in use of the Internetand online commerce.*

### * *

Ourability to expand our delivery platforms and penetrate new markets could bestagnated without continued growth in the use and efficient operation of theInternet.  Web-based markets forinformation, products and services are new and rapidly evolving.  If Internet usage does not continue to growor increases more slowly than anticipated, we could be unable to secure newsponsorship and subscription arrangements for our offerings.  To the extent our business relies onweb-based delivery platforms, our operations will also be dependent on adequatenetwork infrastructure, consistent quality of service and availability tocustomers of cost-effective, high-speed Internet access.  If our systems cannot meet customer demandfor access and reliability, these requirements will not be satisfied, andcustomer satisfaction could degrade substantially, adversely affecting ourprospects for market penetration and profitability.

 

### *Future regulations or the interpretation of existinglaws pertaining to the Internet could decrease the demand for our products orincrease the cost of doing business.*

### * *

Anynew law or regulation pertaining to the Internet, or the application orinterpretation of existing laws, could increase our cost of doing business,decrease the demand for our products and services, or otherwise harm ourbusiness.  We must comply with a varietyof federal and state laws affecting the content of materials distributed overthe Internet, as well as regulations and other laws restricting the collection,use and disclosure of personal information that we may obtain in the course ofproviding our online services.  Futurelaws or regulations may relate to information retrieved from or transmitted overthe Internet, consumer protection, online content, user privacy, taxation andthe quality of products and services. Compliance with future laws and regulations, or existing laws as theymay be interpreted in the future, could be expensive, time consuming,impractical or impossible.

 

### *We may be liable for invasion of privacy ormisappropriation by other of our users’ information, which could adverselyaffect our reputation and financial results.*

### * *

Someof our services require the disclosure of sensitive information by theuser.  We rely on a number of securitysystems for our services to protect this information from unauthorized use oraccess.  We cannot predict whether newtechnological developments could circumvent these security measures.  If the security measures that we use toprotect personal information or credit card information are ineffective, we maybe subject to liability, including claims for invasion of privacy,impersonation, unauthorized purchases with credit card information or othersimilar claims.  In addition, the FederalTrade Commission and several states have investigated the use of personalinformation by certain Internet companies. We could incur significant expenses if new regulations regarding the useof personal information are introduced or if our privacy practices areinvestigated.

 

### *Laws and regulations can affect our operations and maylimit our ability to operate in certain jurisdictions.*

### * *

Federal,state and international laws and regulations impact our operations and may limitour ability to obtain authorization to operate in some states orcountries.  Many federal, state andinternational governmental agencies assert authority to regulate providers ofinvestment education programs.  Althoughwe believe that we are currently in compliance with all such regulation, therecan be no assurance that the federal, state or international regulatorystructure will not change.  For example,if we were required to comply with, or found to be in violation of, aregulatory body’s current or future licensing or regulatory requirements, wecould be subject to civil or criminal sanctions, including monetarypenalties.  Additionally, we could berequired to incur significant on-going expenses to comply with regulatoryrequirements or, conceivably, could be barred from providing investmenteducation services in that jurisdiction. If any of these things occur, they could have a material adverse effecton our business and results of operations and may cause our stock price todecline.

 

### *If we are not able to continually enhance ourweb-based products and services and adapt them to changes in technology, ourfuture revenue growth could be adversely affected.*

### * *

If ourimprovement and adaptation of our web-based products and services is delayed,results in systems interruptions or is not aligned with market expectations orpreferences, our revenue growth could be adversely affected.  The online environment is rapidly evolving,and the technology used in web-based products changes quickly.  We must therefore be able to quickly modifyour solutions to adapt to emerging online standards and practices,technological advances, and changing user and sponsor preferences.  Ongoing enhancement of our web site,web-based products and related

 

8

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technologywill entail significant expense and technical risk.  We may use new technologies ineffectively orfail to adapt our web site, web-based products and related technology on atimely and cost-effective basis.

 

### *We rely on our strategic partners to provide us withaccess to leads and customers.*

### * *

Wecurrently accesses approximately 90% of our new students through co-branding (BusinessWeek and CNBC) and co-marketing (Success Magazine and Money in Training)relationships.  Our strategic partnersmay enter into identical or similar relationships with our competitors, whichcould diminish the value of the partners for customer acquisition.  Our strategic partners could terminate theirrelationship with us.  If any of theseorganizations were to terminate their relationship with us our ability todistribute our product and services could be impaired.  We may not be able to maintain our existingrelationships or enter into new strategic relationships.

 

### *Our ability to offer courses may be affected bynatural disaster, strikes and other unpredictable events.*

### * *

Naturaldisasters, external labor disruptions and other adverse events may affect ourability to conduct our business, resulting in loss of revenue.  Severe blizzards or floods may reduce theability of our course participants to travel to our courses.  These natural disasters may also disrupt theprinting and transportation of the materials used in our direct mail campaigns.  Furthermore, postal strikes could occur inthe countries where we operate which could delay and reduce delivery of ourdirect mail marketing materials. Transportation strikes could also occur in the countries where weoperate, adversely affecting course attendance. The future occurrence of any of these events could have a materialadverse effect on our business and results of operations and may cause ourstock price to decline.

 

### *If we do not successfully introduce new programs,products and services, our growth rate and revenue will be reduced*.

### * *

Ourgrowth strategy is dependent on our ability to sell existing training programs,products and services to new students, to open new markets and to develop andintroduce new educational programs, products and services.  If we are unable to expand our markets andproducts, our growth rate and revenue will be reduced.  Market conditions and the level of customerinterest may be different for our current products than for new products, andthere can be no assurance that we will be able to compete favorably with, andobtain market acceptance for, any such new programs, products or services.

 

### *We may desire or need to raise additional capital inthe future and it may not be available on acceptable terms.*

### * *

If weneed but are unable to obtain additional capital to expand our operations andinvest in new products and services, our business may be adversely affected. In the future we may require substantial additional capital to financeongoing operations or the growth of our business.  To the extent that our existing sources ofliquidity and cash flow from operations are insufficient to fund ouractivities, we may need to raise additional funds.  We cannot be certain that we will be able toobtain additional financing on favorable terms. If we fail to raise additional funds, we may need to sell debt oradditional equity securities or to reduce our growth to a level that can besupported by our cash flow.  Withoutadditional capital, we may not be able to: further develop or enhance our servicesand products; acquire necessary technologies, products or businesses; expandoperations in the United States or internationally; hire, train and retainemployees; market our services and products; or respond to competitivepressures or unanticipated capital requirements.

 

### *We need to successfully integrate recently acquiredand potential additional operating companies.*

### * *

As aresult of recent acquisitions and, as part of our general business strategy, weexpect to experience significant growth and expect such growth to continue intothe future.  This growth is expected toplace a significant strain on our management, financial, operating andtechnical resources.  Failure to managethis growth effectively could have a material adverse effect on our financialcondition or results of operations. There can be no assurance that we will be able to effectively integratethe acquired companies with our own operations. Expansion will place significant demands on our marketing, sales,administrative, operational, financial and management information systems,controls and procedures.  Accordingly,our performance and profitability will depend on the ability of our officersand key employees to (i) manage our business and our subsidiaries as a cohesiveenterprise, (ii) manage expansion through the timely implementation andmaintenance of appropriate administrative, operational, financial andmanagement information systems, controls and procedures, (iii) add internalcapacity, facilities and third-party sourcing arrangements as and when needed,(iv) maintain service quality controls, and (v) attract, train, retain,motivate and manage effectively our employees.  There can be no assurance that we willintegrate and manage successfully new systems, controls and procedures for ourbusiness, or that our systems, controls, procedures, facilities and personnel,even if successfully integrated, will be adequate to support our projectedfuture operations.  Any failure toimplement and maintain such systems, controls and procedures, add internalcapacity, facilities and third-party sourcing arrangements or attract, train,retain, motivate and manage effectively our employees could have a materialadverse effect on our business, financial condition and results of operations.

 

### *We are dependent on our chief executive officer andchairman of the board for his depth of industry experience and knowledge.*

### * *

We arehighly dependent on the services of Lee K. Barba, our CEO and Chairman of theBoard.  Mr. Barba has extensiveexperience, knowledge and contacts in the financial and investmentindustries.  If Mr. Barba were to

 

9

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terminatehis employment with us, we would lose valuable human capital, adverselyaffecting our business.  We currently donot maintain key man insurance on Mr. Barba or any other member of our seniormanagement team.  Neither Mr. Barba norany other member of our senior management team intends to retire or is nearingretirement age.

 

### *Legal proceedings could adversely affect our businessand results of operations.*

### * *

We arefrom time to time involved in various lawsuits and legal proceedings.  While the Company does not believe it isprobable that it will have to pay any significant amounts in the lawsuit filedagainst the Company by the Australian Securities and Investment Commission asdescribed in Item 3, below, an adverse finding could subject the Company toundetermined penalties.  Although we arecurrently not a party to any other material legal proceedings, any claim, withor without merit, could result in costly litigation or require us to modify orcease sales of our products or services, any of which could have a materialadverse effect on our business and results of operations.

 

# **Item 2**.                                   Properties

# ** **

Our headquarters are currently located in Provo, Utah.  In August 2004, we entered into a 63 monthlease agreement for a facility in Salt Lake City, Utah that commences on May 1,2005.  We expect to move currentoperations from leased facilities in Provo, Utah to the Salt Lake City, Utahlocation in the first half of 2005.  Itis expected that the month-to-month lease for the Provo facility will beterminated at approximately the same time.

 

In September 2003, we discontinued the use of a leased office space inProvo, Utah.  As such, this lease wassublet to an independent party for an amount that does not cover in full ourlease obligation under the original lease agreement.  During 2003 as part of the restatement, thisshortage was recognized as a loss related to the lease agreement, and anappropriate long-term liability was recorded for the amount of theshortage.  See Footnote 3 of theConsolidated Financial Statements for further explanation of this matter.  Square footage and the monthly rent of thisfacility are not reflected in the figures shown in the table below.

 

In addition to the Provo and Salt Lake City, Utah locations, we haveleased office space in New York, New York, Houston, Texas, and San Rafael,California.

 

In April 2004, we ceased operations of our wholly owned subsidiaryInvestor Education California, LLC.

 

The following table shows the amount of square footage of our leasedfacilities and monthly rent as of December 31, 2004:

 
| **City**   | ** ** | **Square Feet  Rented** | ** ** | **Monthly Rent  as of  December 2004** | ** ** |
|------------|------------|-------------------------|------------|----------------------------------------|------------|
| Provo      |       | 30,000                  |       | $                                      | 38,575     |   |
| San Rafael |       | 6,016                   |       | 17,266                                 |       |
| Houston    |       | 9,495                   |       | 22,520                                 |       |
| New York   |       | 235                     |       | 4,846                                  |       |
|       |       | 45,746                  |       | $                                      | 83,207     |   |

 

# **Item 3**.                                   LegalProceedings

# ** **

From time to time we are involved in certain legal actions arising inthe ordinary course of business.  It isthe opinion of management that such litigation will be resolved without amaterial adverse effect on our financial position or results of operations.

 

On July 9, 2004, the Australian Securities and Investment Commission(ASIC) filed a lawsuit against Online Investors Advantage, one of our wholly-ownedsubsidiaries (OIA) and Phillip Town, a workshop presenter on behalf of OIA(Town).  The lawsuit, filed in theSupreme Court of Queensland, alleges that (i) OIA failed to provide a financialservices guide or other information to attendees at seminars held in Brisbaneand Melbourne in July 2004, as otherwise required under the AustralianCorporations Act; (ii) failed to provide to the attendees of the Brisbaneseminar a warning regarding the provision of general financial advice that wasrequired to be given under the Corporations Act; (iii) engaged in misleading ordeceptive conduct at the Brisbane and Melbourne seminars, regarding certainoral representations made by the presenter at the seminars (on behalf of OIA)and regarding certain written representations appearing in the registrationform for workshops conducted on behalf of Online; and (iv) carried on afinancial services business, as defined in the Corporations Act, without therequired Australian license.  ASIC soughta temporary injunction prohibiting OIA from holding any workshops while thelawsuit is pending.  The court did notgrant the injunction but did order OIA to place $0.4 million into

 

10

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escrow for allrevenues received from its workshops while the lawsuit is pending.  These amounts are included in current portionof restricted cash in the accompanying Consolidated Balance Sheets.  ASIC sought to stop OIA from delivering theworkshop and to refund to participants the fees paid for the workshop.  In addition, if the court finds in favor ofASIC, we could be assessed penalties.  Atrial of the proceedings was heard on September 6-8, 2004, in the Supreme Courtof Queensland.  At trial, ASIC abandonedtwo of its allegations that OIA had engaged in misleading and deceptiveconduct.  At the conclusion of the trialthe court reserved its decision.  Weanticipate the court’s judgment at any time. We believe that we have good defenses to the alleged claims and intendto continue to vigorously defend against this lawsuit.  At this time it is not possible to determinethe amount of penalties that may be assessed, if any.  Furthermore, we believe that it is notprobable that we will have to pay any significant amounts as a result of thisproceeding.

 

On March 4, 2003,a foreign national filed a complaint in the San Diego Superior Court againstZiaSun Technologies, Inc., one of our wholly-owned subsidiaries (ZiaSun).  The complaint alleges that certainindividuals, who are not parties in the lawsuit, persuaded the plaintiff topurchase shares of ZiaSun common stock and the complaint also alleges a failureto deliver a stock certificate.  ZiaSundoes not have any ownership or control of the third party brokerage house fromwhom plaintiff claims to have purchased stock. The plaintiff was seeking unspecified damages for the alleged fraud inthe sale of the stock.  On February 9,2005, the court awarded a summary judgment in our favor.

 

In December 2004,one of our vendors sued for collection of a disputed accounts receivable.  We are in discussions with the vendorregarding a resolution of the claim.  Webelieve that this will be resolved without a material adverse effect on us.

 

We are not awareof pending claims or assessments, other than as described above, which may havea material adverse effect on our financial position or results of operation.

 

# **Item 4**.                                   Submissionof Matters to a Vote of Security Holders

# ** **

During the fourthquarter of 2004, there were no matters submitted to a vote of the stockholders.

 

**PartII**

** **

# **Item 5**.            Marketfor Registrant’s Common Equity, Related Stockholder Matters and IssuerRepurchases of Equity Securities

 

Our common stockis traded on the American Stock Exchange under the symbol IED.  The following table sets forth, for the periodsindicated, the high and low sales prices.

 
| ** **                  | ** ** | **Company Common Stock** | ** ** |
|-----------------------------|------------|--------------------------|------------|
| ** **                  | ** ** | **High**                 | ** ** | **Low** | ** ** |
| 2004                        |       |                     |       |   |   |
| Quarter ended March 31      |       | $                        | 2.90       |   | $ | 1.51 |   |
| Quarter ended June 30       |       | 2.50                     |       | 1.71 |   |
| Quarter ended September  30 |       | 2.27                     |       | 1.58 |   |
| Quarter ended December  31  |       | 3.50                     |       | 2.10 |   |
|                        |       |                     |       |   |   |
| 2003                        |       |                     |       |   |   |
| Quarter ended March 31      |       | $                        | 0.39       |   | $ | 0.17 |   |
| Quarter ended June 30       |       | 0.34                     |       | 0.14 |   |
| Quarter ended September  30 |       | 1.37                     |       | 0.15 |   |
| Quarter ended December  31  |       | 1.80                     |       | 0.59 |   |

 

On March 15, 2005,the closing price of our common stock as reported by the American StockExchange was $4.91.  As of March 15,2005, we had 813 stockholders of record, and approximately 8,700 beneficialholders.

 

## **Dividend Policy**

## ** **

We have neverdeclared a cash dividend on our common stock. The Board of Directors currently intends to retain all earnings for usein our business, and therefore, does not anticipate paying any cash dividendson our common stock in the foreseeable future. The declaration of dividends, if any, in the future would be subject tothe discretion of the Board of Directors, which may consider factors such asour results of operations, financial condition, capital needs and acquisitionstrategy, among other things.  See Item 7- Management’s Discussion and Analysis of Financial Condition and Results ofOperations and our consolidated financial statements and the notes thereto.

 

In accordance withthe agreement pursuant to which the stock was issued, on May 15, 2002, the120,000 outstanding shares of our Series A Convertible Preferred Stock convertedinto 1,666,667 shares of our common stock. Accrued dividends of

 

11

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$75,000 were convertedinto 41,667 shares of common stock.

 

## **Equity Compensation PlanInformation**

## ** **

The followingtable sets forth information as of December 31, 2004 with respect to our equitycompensation plans previously approved by stockholders and equity compensationplans not previously approved by stockholders.

 
| ** **                                              | ** ** | **Equity Compensation Plans**                                                                      | ** ** |
|---------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------|------------|
| **Plan Category**                                       | ** ** | **Number of securities to  be issued upon exercise  of outstanding options,  warrants and rights** | ** ** | **Weighted average  exercise price of  outstanding options,  warrants and rights** | ** ** | **Number of securities  remaining available for  future issuance under  equity compensation  plans (excluding  securities reflected in  column (a))** | ** ** |
| ** **                                              | ** ** | **(a)**                                                                                            | ** ** | **(b)** | ** ** | **(c)** | ** ** |
| Equity compensation  plans approved by stockholders (1) |       | 3,304,468 –  3,854,468                                                                        |       | $ | 1.63 |   | 3,135,375 –  3,685,375 |   |
| Equity compensation  plans not approved by stockholders |       | —                                                                                             |       | — |   | — |   |
| Total                                                   |       | 3,304,468 –  3,854,468                                                                        |       | $ | 1.63 |   | 3,135,375 –  3,685,375 |   |

 

----

(1) This amount includes an option granted by the Company to its ChiefExecutive Officer in 2002.  The vestingof the options is contingent upon an event occurring in the future.  Based upon the terms of the option, thenumber of shares issuable upon exercise of the option, if any, will be between50,000 to 550,000 shares at an exercise price of $0.18 per share.  The option was granted under the INVESTools2001 Stock Option Plan, which was approved by stockholders.

 

**Issuer Purchases of Equity Securities**

 

In October 2004, we repurchased 304,000 shares of our common stock for$0.7 million pursuant to a separation agreement and general release with ScottK. Waltz, our former Senior Vice President and Chief Marketing Officer.

 

12

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# **Item 6**.                                   SelectedConsolidated Financial Data

# ** **

The selected consolidated financial data presented below should be readin conjunction with the consolidated financial statements of INVESTools and relatedfootnotes included elsewhere in this document. The selected consolidated financial data has been derived from theconsolidated financial statements of INVESTools and has been restated toreflect adjustments discussed in Footnote 3, Restatement to the ConsolidatedFinancial Statements.

 

**Statementof Operations**

 
| ** **                                                                         | ** ** | **Years Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                         | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                                                                         | ** ** | ** **                   | ** ** | **Restated** | ** ** | **Restated** | ** ** | **Restated** | ** ** | ** ** | ** ** |
|                                                                               |       |                         |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Revenue                                                                            |       | $                            | 97,169     |   | $ | 69,802 |   | $ | 53,923 |   | $ | 51,560 |   | $ | 54,667 |   |
| Cost of revenue                                                                    |       | 64,225                       |       | 41,172 |   | 25,411 |   | 22,794 |   | 21,157 |   |
| Selling expense                                                                    |       | 23,973                       |       | 20,427 |   | 19,023 |   | 18,429 |   | 16,962 |   |
| General and  administrative expense                                                |       | 18,837                       |       | 12,783 |   | 14,154 |   | 8,458 |   | 7,784 |   |
| Special charges                                                                    |       | 1,084                        |       | 673 |   | — |   | 6,454 |   | 73,051 |   |
| Net loss before income  taxes and cumulative effect of accounting change           |       | (11,719                      | )          | (5,771 | ) | (5,401 | ) | (9,151 | ) | (67,446 | ) |
| Net loss from  continuing operations before cumulative effect of accounting change |       | (11,727                      | )          | (7,301 | ) | (5,207 | ) | (9,151 | ) | (70,547 | ) |
| Cumulative effect of  accounting change                                            |       | —                       |       | — |   | (28,417 | ) | — |   | — |   |
| Net loss available to  common stockholders                                         |       | $                            | (11,727    | ) | $ | (7,301 | ) | $ | (33,669 | ) | $ | (9,044 | ) | $ | (77,226 | ) |
| Net loss per common  share - diluted                                               |       |                         |       |   |   |   |   |   |   |   |   |
| Net loss from  continuing operations before cumulative effect of accounting change |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.12 | ) | $ | (0.28 | ) | $ | (2.37 | ) |
| Net loss from  discontinued operations                                             |       | $                            | —     |   | $ | — |   | $ | — |   | $ | 0.01 |   | $ | (0.23 | ) |
| Cumulative effect of  accounting change, net of tax                                |       | $                            | —     |   | $ | — |   | $ | (0.68 | ) | $ | — |   | $ | — |   |
| Net loss available to  common stockholders                                         |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.80 | ) | $ | (0.27 | ) | $ | (2.60 | ) |
| Diluted weighted  average shares outstanding                                       |       | 45,045                       |       | 43,692 |   | 41,983 |   | 32,684 |   | 29,744 |   |

 

**BalanceSheet Data**

 
| ** **                       | ** ** | **As of December 31,** | ** ** |
|----------------------------------|------------|------------------------|------------|
| ** **                       | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                       | ** ** | ** **             | ** ** | **Restated** | ** ** | **Restated** | ** ** | **Restated** | ** ** | ** ** | ** ** |
|                             |       |                   |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Cash and cash  equivalents       |       | $                      | 10,736     |   | $ | 4,458 |   | $ | 5,160 |   | $ | 5,930 |   | $ | 3,524 |   |
| Marketable securities            |       | 13,840                 |       | 7,808 |   | — |   | — |   | — |   |
| Working capital deficit          |       | (18,858                | )          | (9,723 | ) | (5,501 | ) | (3,316 | ) | (542 | ) |
| Total assets                     |       | 49,778                 |       | 26,551 |   | 25,305 |   | 55,174 |   | 47,713 |   |
| Total stockholders’  equity |       | (7,232                 | )          | 3,184 |   | 10,284 |   | 43,213 |   | 42,099 |   |

 

13

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The restatementsof amounts previously presented in selected financial data are summarized asfollows:

 
| ** **                                                              | ** ** | **As  Restated**                              | ** ** | **As  Reported** | ** ** |
|-------------------------------------------------------------------------|------------|-----------------------------------------------|------------|------------------|------------|
| ** **                                                              | ** ** | **(in thousands, except per share  amounts)** | ** ** |
| **2003:**                                                               |       |                                          |       |             |       |   |   |
| Revenue                                                                 |       | $                                             | 69,802     |             | $          | 73,420 |   |
| Net income (loss)  before income taxes                                  |       | (5,771                                        | )          | 30               |       |
| Net loss from  operations before cumulative effect of accounting change |       | (7,301                                        | )          | (1,500           | )          |
| Net loss available to  common stockholders                              |       | $                                             | (7,301     | )                | $          | (1,500 | ) |
| Net loss per common  share - diluted                                    |       |                                          |       |             |       |
| Net loss from operation  before cumulative effect of accounting change  |       | $                                             | (0.17      | )                | $          | (0.03 | ) |
| Cumulative effect of  accounting change, net of tax                     |       | $                                             | —     |             | $          | — |   |
| Net loss available to  common stockholders                              |       | $                                             | (0.17      | )                | $          | (0.03 | ) |
|                                                                    |       |                                          |       |             |       |
| Working capital deficit                                                 |       | $                                             | (9,723     | )                | $          | 321 |   |
| Total stockholders’  equity (deficit)                              |       | 3,184                                         |       | 13,867           |       |

 
| ** **                                                                         | ** ** | **As Restated**                               | ** ** | **As Reported** | ** ** |
|------------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|-----------------|------------|
| ** **                                                                         | ** ** | **(in thousands, except per share  amounts)** | ** ** |
| **2002:**                                                                          |       |                                          |       |            |       |   |   |
| Revenue                                                                            |       | $                                             | 53,923     |            | $          | 56,142 |   |
| Net loss before income  taxes                                                      |       | (5,401                                        | )          | (1,650          | )          |
| Net loss from  continuing operations before cumulative effect of accounting change |       | (5,207                                        | )          | (1,456          | )          |
| Net loss available to  common stockholders                                         |       | $                                             | (33,669    | )               | $          | (29,918 | ) |
| Net loss per common  share - diluted                                               |       |                                          |       |            |       |
| Net loss from  continuing operations before cumulative effect of accounting change |       | $                                             | (0.12      | )               | $          | (0.03 | ) |
| Cumulative effect of  accounting change, net of tax                                |       | $                                             | (0.68      | )               | $          | (0.68 | ) |
| Net loss available to  common stockholders                                         |       | $                                             | (0.80      | )               | $          | (0.71 | ) |
|                                                                               |       |                                          |       |            |       |
| Working capital deficit                                                            |       | $                                             | (5,501     | )               | $          | (986 | ) |
| Total stockholders’  equity (deficit)                                         |       | 10,284                                        |       | 15,166          |       |

 

14

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# **Item 7**.                                   Management’sDiscussion and Analysis of Financial Condition and Results of Operations

# ** **

## **Business Overview**

## ** **

Our mission is to educate and empower individual investors to maketheir own financial decisions to achieve their unfulfilled financial goals byusing the INVESTools Method TM, an integration of Web-based tools,instruction and support.  We do notpromote individual stocks, bonds, derivatives or any other types ofinvestments, but rather teach investors how to perform research and analyzeinvestments.  Such investor education isdelivered through instructor-led workshops, home study products, and one-to-onecoaching, and includes an Online Investor Toolbox TM websitesubscription.  We market our workshopproducts through radio/television and print media as well as direct mailingsand email, or in conjunction with events or conferences conducted by ourco-marketing partners.

 

At workshop events and subsequent to workshop events attendees have theopportunity to purchase additional products. This has become a significant revenue channel and source of increasedlifetime value of each student.  Leadsgenerated in the marketing process are additionally pursued throughtelemarketing efforts selling the entire range of products.

 

## **Restatement**

## ** **

During 2004, we restated our Consolidated Financial Statements as ofDecember 31, 2003 and for each of the years in the two year period endedDecember 31, 2003, as discussed in detail in Footnote 3 to our ConsolidatedFinancial Statements.  Certainadjustments impacting our Consolidated Financial Statements for 2001 were alsoidentified, and we have recorded the cumulative effect of adjustments for 2001of $1.1 million to the opening accumulated deficit for 2002.  The $1.1 million adjustment to openingaccumulated deficit resulted from errors related to the timing of revenuerecognition as described in the paragraphs below.

 

We previously issued consolidated balance sheets, consolidatedstatements of operations, comprehensive loss, stockholders’ (deficit)/equityand cash flows for the years ended December 31, 2003 and December 31, 2002, andthe three fiscal quarters of 2004.  Basedon errors discovered, these consolidated financial statement have beenrestated.

 

The aggregate effect of the restatement increased previously reportednet loss available to common shareholders for the years ended December 31, 2003and December 31, 2002 by $5.8 million and $3.8 million, respectively.  The aggregate effect of the restatementincreased previously reported basic and diluted loss per share for the yearsended December 31, 2003 and December 31, 2002 by $0.14 and $0.09, respectively.

 

Errors in previously issued financial statements were identified in thefollowing three areas:

 

### *Timing of RevenueRecognition*

### * *

•                  We recognized a full month ofsubscription revenue in the month of sale, which, on an overall basis, causedimproper acceleration of revenue in the month of sale;

 

15

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•                  Website subscribers had been allowedto defer the commencement of their subscription period while subscriptionrevenue had been accounted for commencing in the month of sale;

•                  Certain subscription renewals bystudents that still had remaining Web time were recognized ahead of the renewalperiod start date;

•                  We recognized one-on-one coachingsessions over an estimated time period of performance which was significantlydifferent from when the coaching sessions were actually conducted.  Accordingly revenue was inappropriately accelerated;

•                  A sales return reserve was establishedfor anticipated product returns, based on historical return percentages.  Historically, we failed to establish areserve for sales returns.

 

### *Recording of a Liability for Sales Tax Exposure*

### * *

Werecorded liabilities for potential sales tax related to sales in variousstates.  The effect of recording thepotential sales tax liability on our previously reported financial statementsis to record an accrued liability for the potential sales tax exposure with acorresponding increase to selling expense.

 

### *Loss on Sublease*

### * *

During2003, we moved our operations into a larger facility.  We had subleased the abandoned facility to athird party for the duration of our contractual lease period.  The sublease payments for the abandonedfacility were less than our contractually obligated lease payments.  As a result, we recorded the obligation inexcess of the sublease amount at the time the facility was abandoned.  The effect of recording the excess leaseobligation on our previously reported financial statements is to record anaccrued liability of the excess lease obligation with a corresponding increaseto general administrative expense.

 

The followingdiscussion in this Management’s Discussion and Analysis of Financial Conditionand Results of Operations reflects the effects of the Restatements.

 

## **Concentration Risk**

## ** **

We currentlyaccess approximately 90% of our new students through our co-branding (BusinessWeekand CNBC) and co-marketing (Success Magazine and Money in Training)relationships.  The loss of one of thesepartners could have a material adverse effect on our financial performance inthe short-term.  Our long-term agreementwith CNBC has expired, and we are currently operating under a month-to-monthagreement with CNBC while we negotiate a new arrangement.  While we hope to conclude negotiations withCNBC shortly, recent management changes at CNBC makes us less optimistic aboutour ability to mutually agree to a renewal of this relationship on economicterms similar to those we have previously enjoyed.** **However, we areconstantly pursuing new student acquisition partnerships and we believebusiness from new and existing partnerships would replace such lost volumes ifthey were to occur.  There can be noassurance that we will be successful in establishing new partnerships.

 

## **Acquisition of 360 Group**

## ** **

In February 2004,we acquired 360 Group.  360 Group, was adirect marketing company that provided services such as custom databasedevelopment and management, strategic planning, media and list planning and buying,creative and production services, response management, and analyticservices.  We acquired 360 Group tointernalize our marketing department and we do not intend to continue toprovide services to third parties.  Atclosing the sellers received 830,000 shares of our common stock valued at$1,875,000 and $875,000 in cash.  Inaddition, we incurred $669,000 of cost related to the acquisition, of which$226,000 was paid with 100,000 shares of our common stock.  During the three months ended June 30, 2004,the sellers received an additional cash payment of $213,000 based on a networking capital provision provided for in the merger agreement recorded asadditional purchase price resulting in an increase in goodwill.  In October 2004, the sellers received anadditional cash payment of $438,000 and 415,000 shares of common stock valuedat $842,000 based on 360 Group achieving revenue targets during the threemonths ended September 30, 2004 which was recorded as additional purchaseprice.  In addition to the mergerconsideration discussed above, we will be obligated to pay up to an aggregateof 415,000 shares of our common stock and approximately $438,000 in cash asadditional merger consideration in the form of earn out payments if certainfuture revenue targets are achieved in 2005. In connection with the merger, Scott K. Waltz, the former VicePresident, Client Services of 360 Group, was named our Senior Vice President,Chief Marketing Officer, and Don Klabunde, the former Chief Technology Officerof 360 Group, was named our Vice President, Chief Information Officer.

 

Effective October19, 2004, we entered into a separation agreement and general release effectiveas of October 13, 2004, with Scott K. Waltz, our former Senior Vice Presidentand Chief Marketing Officer.  Theseparation agreement requires us to pay Mr. Waltz $0.2 million in severance andrelated benefits.  Additionally, pursuantto the agreement, we repurchased 304,000 shares of our common stock earned aspart of the 2004 earnout for $0.7 million as discussed in the previousparagraph.

 

We believe thatthe strategic acquisition of 360 Group has been instrumental in increasingtotal student acquisition and return on marketing.  360 Group has been managing all studentacquisition efforts as well as building, and coordinating our marketingdatabase initiatives to improve student retention and cross-selling efforts.

 

16

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## **Critical AccountingPolicies**

## ** **

Management’sDiscussion and Analysis of Financial Condition and Results of Operations isbased upon the Consolidated Financial Statements, which have been prepared inaccordance with generally accepted accounting principles in the UnitedStates.  The preparation of thesefinancial statements requires us to make estimates and assumptions that affectthe reported amounts of assets, liabilities, revenue and expenses, and relateddisclosure of contingent assets and liabilities.

 

We base ourestimates on historical experience and on various other assumptions that arebelieved to be reasonable under the circumstances, the results of which formthe basis for making judgments about the carrying values of assets andliabilities that are not readily apparent from other sources.  Actual results may differ from these estimatesunder different assumptions or conditions.

 

An accountingpolicy is deemed to be critical if it requires an accounting estimate to bemade based on assumptions about matters that are highly uncertain at the timethe estimate is made, and if different estimates that reasonably could havebeen used, or changes in the accounting estimates that are reasonably likely tooccur periodically, could materially impact the financial statements.  We believe the following critical accountingpolicies reflect our more significant estimates and assumptions used in thepreparation of the Consolidated Financial Statements.

 

### *Income Taxes*

### * *

Theprovision for income taxes is calculated using the asset and liabilitymethod.  Deferred income taxes reflectthe net tax effect of temporary differences between the carrying amounts ofassets and liabilities for financial reporting purposes and the amounts usedfor income tax purposes.  We providevaluation allowances against the deferred tax assets if, based on availableevidence, it is more likely than not that some portion or all of the deferredtax assets will not be realized.  Basedon all available information, we do not believe it is more likely than not thatour deferred tax assets will be utilized. In determining the adequacy of the valuation allowance, which totaled$11.4 million as of December 31, 2004, we assess our profitability by takinginto account the present and anticipated amounts of domestic and internationalearnings, as well as the anticipated taxable income as a result of the reversalof future taxable temporary differences. For financial reporting purposes, we generally provide taxes at the rateapplicable for the appropriate tax jurisdiction.

 

### *Valuation of Long-Lived Assets, Including Goodwill*

### * *

Wereview annually, or more often if events or circumstances indicate a potentialimpairment exists, goodwill for impairment in accordance with SFAS No. 142, *Goodwill and Other Intangible Assets*.  We have completed our annual impairmentreview during the fourth quarter of 2004. We did not identify any impairment to our goodwill as a result of thisreview.  We review long-lived assets,including certain identifiable intangibles, for impairment whenever events orchanges in circumstances indicate that we will not be able to recover the asset’scarrying amount in accordance with SFAS No. 144, *Accounting for the Impairment or Disposal of Long-Lived Assets*.

 

Forlong-lived assets held and used, including acquired intangibles, we initiateour review whenever events or changes in circumstances indicate that thecarrying amount of a long-lived asset may not be recoverable.  Recoverability of an asset is measured bycomparing its carrying amount to the expected undiscounted cash flows expectedto result from the use and eventual disposition of that asset, excluding futureinterest costs that would be recognized as an expense when incurred.  Any impairment to be recognized is measuredby the amount by which the carrying amount of the asset exceeds its fair marketvalue.  Significant management judgmentis required in:

 

•                  identifying a triggering event thatarises from a change in circumstances;

•                  forecasting future operating results;and

•                  estimating the proceeds from thedisposition of long-lived or intangible assets.

 

Materialimpairment charges could be necessary should different conditions prevail ordifferent judgments be made.

 

### *Revenue Recognition*

### * *

Werecognize revenue in accordance with Staff Accounting Bulletin No. 104, *Revenue Recognition* (SAB 104), andFinancial Accounting Standards Board (FASB) Emerging Issues Task Force No.00-21 *Accounting for Revenue Arrangementswith Multiple Deliverables* (EITF 00-21).  Revenue is not recognized until it isrealized or realizable and earned.  Thecriteria to meet this guideline are: (i) persuasive evidence of an arrangementexists, (ii) delivery has occurred or services have been rendered, (iii) theprice to the buyer is fixed or determinable, and (iv) collectibility isreasonably assured.

 

Wesell our products in various bundles that contain multiple deliverables thatinclude personal training sessions, website subscriptions, educationalworkshops along with other products and services.  In accordance EITF 00-21, sales arrangementswith multiple deliverables are divided into separate units of accounting if thedeliverables in the arrangement meet the following criteria: (i) the producthas value to the customer on a standalone basis; (ii) there is

 

17

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objectiveand reliable evidence of the fair value of undelivered items; and (iii)delivery or performance of any undelivered item is probable and substantiallyin our control.  The fair value of eachseparate element is generally determined by prices charged when each product issold separately.  In certainarrangements, we offer these products bundled together at a discount.  The discount is allocated pro rata to eachelement of revenue based on the relative fair value of each element when fairvalue support exists for each element in the arrangement.  If fair value of all undelivered elements inan arrangement exists but the fair value does not exist for a deliveredelement, then revenue is recognized using the residual method.  Under the residual method, the fair value ofundelivered elements is deferred and the remaining portion of the arrangementfee (after allocation of 100% of any discount to the delivered item) isrecognized as revenue.  We provide somevery limited rights of return in connection with our arrangements.  We estimate our returns based on historicalexperience and maintain an allowance for estimated returns, which as beenreflected as an accrued liability.  Eachtransaction is separated into its specific element and revenue from eachelement is recognized according to the following policies:

 
| **Product**                   | ** ** | **Recognition  policy**                                                        |
|-------------------------------|------------|--------------------------------------------------------------------------------|
| Workshop                      |       | Deferred and recognized as the workshop is provided                            |
| Home study                    |       | Recognized upon shipping to customer                                           |
| One on one coaching sessions  |       | Deferred and recognized as sessions are performed                              |
| Website subscription renewals |       | Deferred and recognized on a straight-line basis  over the subscription period |

 

Deferredrevenue arises from subscriptions to the websites, workshops and personaltraining sessions because the payments are received before the delivery of theservice has been rendered.  Deferredrevenue is recognized into revenue over the period that the services areperformed or the contract period expires. We also sell certificates to attend workshops in the future.  Revenue from these sales is deferred untilthe certificate is used or expires.

 

18

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**Revenue**

 
| ** **                      | ** ** | **For the year ended December 31,** | ** ** | **2004 vs. Restated 2003** | ** ** | **Restated 2003 vs.  Restated 2002** | ** ** |
|---------------------------------|------------|-------------------------------------|------------|----------------------------|------------|--------------------------------------|------------|
| ** **                      | ** ** | **2004**                            | ** ** | **2003**                   | ** ** | **2002**                             | ** ** | **Change** | ** ** | **%** | ** ** | **Change** | ** ** | **%** | ** ** |
| ** **                      | ** ** | ** **                          | ** ** | **Restated**               | ** ** | **Restated**                         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|                            |       |                                |       |                       |       |                                 |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Workshops                       |       | $                                   | 20,290     |                       | $          | 34,973                               |       | $ | 31,720 |   | $ | (14,683 | ) | (42 | )% | $ | 3,253 |   | 10 | % |
| One-on-one  coaching            |       | 37,963                              |       | 14,679                     |       | 2,274                                |       | 23,284 |   | 159 | % | 12,405 |   | 546 | % |
| Home  Study                     |       | 33,542                              |       | 12,841                     |       | 7,928                                |       | 20,701 |   | 161 | % | 4,913 |   | 62 | % |
| Web  Site Renewals              |       | 23,905                              |       | 9,912                      |       | 6,332                                |       | 13,993 |   | 141 | % | 3,580 |   | 57 | % |
| Other  online revenues          |       | 1,745                               |       | 3,315                      |       | 7,358                                |       | (1,570 | ) | (47 | )% | (4,043 | ) | (55 | )% |
| Other  revenue                  |       | 5,177                               |       | 1,545                      |       | 1,521                                |       | 3,632 |   | 235 | % | 24 |   | 2 | % |
| Total  sales transaction volume |       | 122,622                             |       | 77,265                     |       | 57,133                               |       | 45,357 |   | 59 | % | 20,132 |   | 35 | % |
| Change  in deferred revenue     |       | (25,453                             | )          | (7,463                     | )          | (3,210                               | )          | (17,990 | ) | 241 | % | (4,253 | ) | 132 | % |
| Total  Revenue                  |       | $                                   | 97,169     |                       | $          | 69,802                               |       | $ | 53,923 |   | $ | 27,367 |   | 39 | % | $ | 15,879 |   | 29 | % |

 
| ** **                 | ** ** | **%****of  Revenue** | ** ** |
|----------------------------|------------|----------------------|------------|
| ** **                 | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                 | ** ** | ** **           | ** ** | **Restated** | ** ** | **Restated** | ** ** |
|                       |       |                 |       |   |   |   |   |
| Workshops                  |       | 21                   | %          | 50 | % | 59 | % |
| One-on-one coaching        |       | 39                   | %          | 21 | % | 4 | % |
| Home Study                 |       | 35                   | %          | 18 | % | 15 | % |
| Web Site Renewals          |       | 25                   | %          | 14 | % | 12 | % |
| Other online revenues      |       | 2                    | %          | 5 | % | 14 | % |
| Other revenue              |       | 5                    | %          | 2 | % | 3 | % |
| Change in deferred revenue |       | (27                  | )%         | (10 | )% | (7 | )% |
| Total Revenue              |       | 100                  | %          | 100 | % | 100 | % |

 

In the tableabove, total sales transaction volume (TSTV) represents sales generated in eachperiod before the impact of recognition of deferred revenue from prior periodsand the deferral of any of the sales.  Webelieve that sales transaction volume before changes in deferred revenue is animportant measure of business volume.

 

Sales ofone-on-one coaching, home study and website subscription renewals all increasedfor the year ended December 31, 2004 as compared to 2003.  Several factors contributed directly to thisincrease in revenue.  In the firstquarter of 2003, we began offering additional products during theworkshops.  These sales are typicallymade as the students are completing workshops, and are generally variouscombinations of advanced home study programs, advanced workshops, additionalone-on-one coaching sessions and additional website subscription renewals.  For the year ended December 31, 2004, salesat workshops accounted for 85% of the increase in one-on-one coaching sessions,or $19.9 million, 94% of the increase in home study sales, or $19.5 million,and 30% of the increase in website renewals, or $4.2 million, when compared tothe same periods in 2003.  Some of thisvolume was sold as part of the Masters program introduced in February 2004 andthe Program of High Distinction introduced in July 2004.  The Masters program combines basic andadvanced home study products, additional one-on-one coaching sessions, 12-monthwebsite subscription renewal, and a one-year workshop certificate into oneproduct.  The Program of High Distinctionprovides for three advanced workshops, advanced home study products, additionalone-on-one coaching sessions, 24-month website subscription renewal, 24-monthhotline service subscription and a two-year workshop certificate into oneproduct.

 

Websitesubscription renewal revenue increased $14.0 million for the year endedDecember 31, 2004.  We continue toimprove and enhance our Online Investor Toolbox websites, offering morefeatures and improved service to our students. Website subscription renewals sold by our telemarketing departmentincreased $7.8 million, or 56%, of the $14.0 million increase for the yearended December 31, 2004.  The remainingincrease for the year ended December 31, 2004, was a result of increased salesof advanced products at workshops that are bundled with website subscriptionrenewals.

 

Deferred revenueincreased $18.0 million for the year ended December 31, 2004, when compared tothe same period in 2003.  The increasewas a result of increased sales of one-on-one coaching sessions, advancedworkshops and website subscription renewals during the year ended December 31,2004.  Revenue from the one-on-onecoaching sessions,

 

19

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advanced workshopsand website subscription renewals is deferred and recognized in future periodsas services to the student are delivered. The introduction of the Masters and Program of High Distinction in 2004have caused deferred revenues to significantly increase due to the increasedquantities of advanced workshops, one-on-one coaching sessions, and increasedwebsite renewals.  Additionally, theMasters and Program of High Distinction have course lives of 12-months and24-months, respectively, which have caused us to defer revenue over longercontractual periods when compared to products that were sold in 2003 that onlyhad six-month contractual lives.  As weexecute our lifetime value of the student strategy, more of the sales will bein advanced products where more revenue is deferred over longer contractualperiods.

 

## **Cost of Revenue**

 
| ** **          | ** ** | **For the year ended December 31,** | ** ** | **2004 vs. Restated 2003** | ** ** | **Restated 2003 vs.  Restated 2002** | ** ** |
|---------------------|------------|-------------------------------------|------------|----------------------------|------------|--------------------------------------|------------|
| **Cost of Revenue** | ** ** | **2004**                            | ** ** | **2003**                   | ** ** | **2002**                             | ** ** | **Change** | ** ** | **%** | ** ** | **Change** | ** ** | **%** | ** ** |
| ** **          | ** ** | ** **                          | ** ** | **Restated**               | ** ** | **Restated**                         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue             |       | $                                   | 97,169     |                       | $          | 69,802                               |       | $ | 53,923 |   |   |   |   |   |   |   |   |   |
|                |       |                                |       |                       |       |                                 |       |   |   |   |   |   |   |   |   |   |   |
| Partner Commissions |       | 32,345                              |       | 23,192                     |       | 11,559                               |       | $ | 9,153 |   | 39 | % | $ | 11,633 |   | 101 | % |
| Payroll cost        |       | 13,118                              |       | 8,605                      |       | 4,562                                |       | 4,513 |   | 52 | % | 4,043 |   | 89 | % |
| Other               |       | 19,221                              |       | 9,691                      |       | 9,600                                |       | 9,530 |   | 98 | % | 91 |   | 1 | % |
| Cost of Revenue     |       | $                                   | 64,684     |                       | $          | 41,488                               |       | $ | 25,721 |   | $ | 23,196 |   | 56 | % | $ | 15,767 |   | 61 | % |

 
| ** **          | ** ** | **%****of  Revenue** | ** ** |
|---------------------|------------|----------------------|------------|
| ** **          | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **          | ** ** | ** **           | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| Revenue             |       | 100                  | %          | 100 | % | 100 | % |
|                |       |                 |       |   |   |   |   |
| Partner Commissions |       | 33                   | %          | 33 | % | 21 | % |
| Payroll cost        |       | 14                   | %          | 12 | % | 9 | % |
| Other               |       | 20                   | %          | 14 | % | 18 | % |
| Cost of Revenue     |       | 67                   | %          | 59 | % | 48 | % |

 

We defer asignificant portion of our revenues associated with one-on-one coaching andrenewal products to future periods. However, we recognize the costs associated with deferred revenue as theyare incurred.  These costs consist ofsolicitation costs, including commissions, partner commissions, credit cardfees and materials.  Since we recordcosts as they are incurred, the analysis in the table below is calculated ascost of revenue as a percentage of TSTV generated in each period before theimpact of recognition of deferred revenue from prior periods and the deferralof any of the revenue.  See the summaryof the components of revenues before changes in deferred revenue and theresulting actual revenue recognized under Revenue above.  The calculation in the table below is anon-GAAP measure, which management believes provides useful information as itmore closely matches the cost of generating sales with the sales actually soldin a period, whether those sales were recognized as revenue currently ordeferred until future periods.  Thesepercentage measures omit the small amount of fulfillment costs yet to beincurred corresponding to the incremental deferred revenue in the year.  Over two-thirds of deferred revenue amountsrelate to website subscriptions, for which the remaining fulfillment costsrepresent an allocation of website costs which are substantially fixed innature at current subscriber levels.  Thebalance of deferred revenue primarily corresponds to one-on-one coaching sessions,for which the remaining fulfillment cost represents labor cost of less than 15%of related coaching revenue.

 
| ** **            | ** ** | **Years Ended**        | ** ** |
|-----------------------|------------|------------------------|------------|
| ** **            | ** ** | **December 31,  2004** | ** ** | **December 31,  2003** | ** ** | **December 31,  2002** | ** ** |
| ** **            | ** ** | ** **             | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| Partner Commissions   |       | 26                     | %          | 30 | % | 20 | % |
| Payroll costs         |       | 11                     | %          | 11 | % | 8 | % |
| Other                 |       | 16                     | %          | 13 | % | 17 | % |
| Total cost of revenue |       | 53                     | %          | 54 | % | 45 | % |

 

Partnercommissions consist of amounts that are paid to co-branding and co-marketingpartnerships based on sales achieved through these channels.  At the end of December 2003 and August 2004,we entered into revised agreements with two of our co-marketing partners,whereby partner commissions were increased on initial workshop sales whereinitial customer

 

20

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acquisition takesplace, while reducing partner commissions related to sales generated duringcustomer fulfillment and retention.  Theprimary reason for the increase in the amount of partner commissions is due toour increased revenue for the year ended December 31, 2004 and as a directresult of increases in advanced bundled product sales that are sold atsignificantly higher prices. Additionally, partner commissions decreased as a percentage of revenueas a result of modifications of existing arrangements with co-marketingpartners.

 

Payroll costs arecommissions based on a percentage of revenues that are paid to employees basedon the amount of sales achieved at each event. Payroll costs increased $4.5 million for the year ended December 31,2004, when compared to the same periods in 2003.  The primary reason for the increase inpayroll costs is due to our increased revenues for the year ended December 31,2004.  The primary reason for theincrease in payroll costs as a percentage of revenues is due to our increasedrevenues for the year ended December 31, 2004, and increases in advancedbundled product sales that are sold at significantly higher price points.

 

Other costsconsist of material costs (including shipping costs), credit card fees, travelexpenditures and other costs directly related to revenues.  Other costs increased $9.5 million for theyear ended December 31, 2004.  Theprimary reason for the increase in other costs is due to increased revenues forthe year ended December 31, 2004. Additionally, $3.1 million of the increase in other costs is a directresult of the 360 Group acquisition completed in February 2004, which increasedother costs as a percentage of revenue. The 360 Group was acquired to internalize our marketing functions.  The 360 Group provided direct marketingservices for third parties at the time the acquisition was completed.  We have been fulfilling the remainder ofthese contracts during 2004 and will not be providing marketing services tooutside parties once these contracts are fulfilled during the first quarter of2005.

 

## **Selling Expenses**

 
| ** **            | ** ** | **Years Ended December 31,**           | ** ** | **2004 vs. Restated 2003** | ** ** | **Restated 2003 vs.  Restated 2002** | ** ** |
|-----------------------|------------|----------------------------------------|------------|----------------------------|------------|--------------------------------------|------------|
| ** **            | ** ** | **2004**                               | ** ** | **2003**                   | ** ** | **2002**                             | ** ** | **Change** | ** ** | **%** | ** ** | **Change** | ** ** | **%** | ** ** |
| ** **            | ** ** | ** **                             | ** ** | **Restated**               | ** ** | **Restated**                         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **            | ** ** | **(in thousands, except percentages)** | ** ** |
| Marketing (a)         |       | $                                      | 15,814     |                       | $          | 9,993                                |       | $ | 8,889 |   | $ | 5,821 |   | 58 | % | $ | 1,104 |   | 12 | % |
| Other                 |       | 8,548                                  |       | 10,622                     |       | 10,342                               |       | (2,074 | ) | (20 | )% | 280 |   | 3 | % |
| Total selling expense |       | $                                      | 24,362     |                       | $          | 20,615                               |       | $ | 19,231 |   | $ | 3,747 |   | 18 | % | $ | 1,384 |   | 7 | % |

 

**Selling Expenses as a Percentage of Revenue**

 
| Marketing (a)         |   | 16 | % | 14 | % | 16 | % |   |   |   |   |   |   |   |   |
|-----------------------|--------|----|---|----|---|----|---|--------|--------|--------|--------|--------|--------|--------|--------|
| Other                 |   | 9  | % | 15 | % | 19 | % |   |   |   |   |   |   |   |   |
| Total selling expense |   | 25 | % | 29 | % | 35 | % |   |   |   |   |   |   |   |   |

 

----

(a) Includes the related party marketing expenseitemized below

 
| Related party selling  expense |   | $ | — |   | $ | 501 |   | $ | 4,880 |   | $ | (501 | ) | (100 | )% | $ | (4,379 | ) | (90 | )% |
|--------------------------------|--------|---|--------|--------|---|-----|--------|---|-------|--------|---|------|---|------|----|---|--------|---|-----|----|

 

Marketing expensesincreased $5.8 million in the year ended December 31, 2004 when compared to thesame period in 2003, primarily due to an increased spending on direct mail, radioand newspaper advertising associated with our co-branded channels and spendingon product development costs.  Theseincreases were partially offset by a reduction in email advertising and areduction in printing and shipping costs associated with our previewmarketing.  Selling expense as apercentage of revenue has been decreasing every year as we have been movingtowards selling through the co-marketing partners, for which there is nomarketing and limited travel and facility related elements of selling cost forus.

 

The related partyexpense component of selling expense is Generation Marketing LLC (Gen M).  At one time, five individuals owned Gen M,four of whom were our former officers and directors.  These officers and directors each owned16.75% of Gen M for a total of 67%.  GenM handled a significant portion of our marketing needs from direct mail tomedia buys.  In 2002, we hired a secondmarketing agency to handle some of the marketing needs for one of the brands toreduce our reliance on a related party. In May 2002 and February 2003, the former officers and directors soldtheir interests in Gen M to an unrelated third party.  As such Gen M is no longer a related party.

 

21

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## **General and AdministrativeExpense**

 
| ** **            | ** ** | **Years Ended December 31,**           | ** ** | **2004 vs. Restated 2003** | ** ** | **Restated 2003 vs. Restated 2002** | ** ** |
|-----------------------|------------|----------------------------------------|------------|----------------------------|------------|-------------------------------------|------------|
| ** **            | ** ** | **2004**                               | ** ** | **2003**                   | ** ** | **2002**                            | ** ** | **Change** | ** ** | **%** | ** ** | **Change** | ** ** | **%** | ** ** |
| ** **            | ** ** | ** **                             | ** ** | **Restated**               | ** ** | **Restated**                        | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **            | ** ** | **(in thousands, except percentages)** | ** ** |
|                  |       |                                   |       |                       |       |                                |       |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Payroll               |       | $                                      | 10,854     |                       | $          | 7,719                               |       | $ | 8,366 |   | $ | 3,135 |   | 41 | % | $ | (647 | ) | (8 | )% |
| Other                 |       | 8,095                                  |       | 5,156                      |       | 5,945                               |       | 2,939 |   | 57 | % | (789 | ) | (13 | )% |
| Total G&A expense |       | $                                      | 18,949     |                       | $          | 12,875                              |       | $ | 14,311 |   | $ | 6,074 |   | 47 | % | $ | (1,436 | ) | (10 | )% |
|                       |            |                                        |            |                            |            |                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

**General and Administrative Expense as a Percentageof Revenue**

 
| Payroll               |   | 11 | % | 11 | % | 16 | % |   |   |   |   |   |   |   |   |
|-----------------------|--------|----|---|----|---|----|---|--------|--------|--------|--------|--------|--------|--------|--------|
| Other                 |   | 9  | % | 7  | % | 11 | % |   |   |   |   |   |   |   |   |
| Total G&A expense |   | 20 | % | 18 | % | 27 | % |   |   |   |   |   |   |   |   |

 

For the year endedDecember 31, 2004, general and administrative expenses increased by $6.1million compared to the same period of 2003. The increase was primarily attributable to four distinct items.  First, the acquisition of 360 Group increasedgeneral and administrative payroll expense. Secondly, the Company’s ongoing litigation in Australia as well as acomprehensive review of course materials lead to an increase in legalexpenses.  Thirdly, increased workrelating to compliance with Section 404 of the Sarbanes Oxley Act of 2002 andtax issues caused our accounting fees to increase.  Finally, the substantial increase in thenumber of associates employed by us led to increases in health insurance, rent,travel, and other general and administrative expenses.

 

## **Liquidity**

 

### *Cash Flows*

 

AtDecember 31, 2004, our principal sources of liquidity consisted of $24.6million of cash and cash equivalents and marketable securities as compared to$12.3 million at December 31, 2003 as well as cash generated from operations.

 

Netcash provided by operating activities was $17.4 million at December 31, 2004compared to $7.4 million net cash provided by operating activities during2003.  The primary reason for theincrease in operating cash flows was an increase of $25.3 million in deferredrevenue resulting from the growth in sales of one-on-one coaching and websiterenewal products discussed above.  Theincrease was partially offset by the net loss of $8.2 million excluding $3.6million of non-cash charges.

 

AtDecember 31, 2004, net working capital increased by $8.8 million, to $13.1million compared to $4.3 million at December 31, 2003 excluding short-termdeferred revenue, which is substantially a non-cash liability.  Short-term deferred revenue increased $17.9million, to $31.9 million at December 31, 2004 compared to $14.0 million atDecember 31, 2003.  The primary reasonfor the increase in net working capital was due to increases in cash and cashequivalents, marketable securities, accounts receivable and inventoriespartially offset by increases in accounts payable, accrued payroll and otheraccrued liabilities.  At December 31,2004, long-term portion of deferred revenue increased $7.9 million, to $8.4million compared to $0.5 million at December 31, 2003, as a result of therelease of our Program of High Distinction product bundle that contains variousadvanced workshops and one-on-one coaching sessions resulting in a significantincrease in deferred revenue that will be recognized over the 24 monthcontractual period.

 

Weinvest our excess cash balances in government agency securities that areearning approximately a 2.5% average rate of interest and have ladderedmaturities through 2007.  At December 31,2004, we had $13.8 million invested in marketable securities compared to $7.8million at December 31, 2003.  During 2004several investments were sold, or matured providing proceeds from the sales andmaturity of investments of $10.8 million as compared to $0.6 million from thematurity of investments in 2003.  During2004, we purchased $16.8 million in additional marketable securities comparedto $8.4 million in additional marketable securities for the same period in2003.

 

InJune 2004, we authorized a stock repurchase program under which we canrepurchase up to 3.5 million shares over a two year period.  During 2004 we repurchased 1.1 million sharesof our common stock for a total cost of $2.2 million.  At December 31, 2004, the remainingrepurchase authorization under this program totaled 2.4 million shares.

 

Weexpect to continue to use our liquid assets to invest in our infrastructure tosupport our growth.  In 2004, we invested$1.4 million in equipment and software and $0.1 million in connection with theacquisition of 360 Group, net of cash acquired. We utilized a portion of the cash acquired in the acquisition of 360Group to fund the cash portion of

 

22

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theacquisition related costs.  Theacquisition will require additional cash payments of $0.4 million in 2006,assuming certain revenue performance targets are achieved in 2005.

 

Weexpect that our current cash and cash equivalents and marketable securitiesbalances and cash flows from operations will be sufficient to meet our workingcapital and other capital requirements for at least 12 months.

 

### *Contractual Obligations and Commercial Commitments*

 

Wehave various financial obligations and commitments in the ordinary course ofconducting its business.  We havecontractual obligations requiring future cash payments under existingcontractual arrangements, such as management, consulting and non-competition agreements.

 

Thefollowing table details our known future cash payments (on an undiscountedbasis) related to various contractual obligations as of December 31, 2004.

 
| ** **                                       | ** ** | **Payments Due By Period** | ** ** |
|--------------------------------------------------|------------|----------------------------|------------|
| **(in thousands)**                               | ** ** | **Total**                  | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** | **2008** | ** ** | **2009** | ** ** | **Thereafter** | ** ** |
|                                             |       |                       |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Operating leases (1)                             |       | $                          | 4,705      |   | $ | 853 |   | $ | 925 |   | $ | 909 |   | $ | 784 |   | $ | 736 |   | $ | 498 |   |
| Data and communications  purchase agreements (2) |       | 796                        |       | 654 |   | 142 |   | — |   | — |   | — |   | — |   |
| Management employment agreements  (3)            |       | 2,023                      |       | 1,167 |   | 785 |   | 71 |   | — |   | — |   | — |   |
|                                             |       |                       |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Total contractual  obligations                   |       | $                          | 7,524      |   | $ | 2,674 |   | $ | 1,852 |   | $ | 980 |   | $ | 784 |   | $ | 736 |   | $ | 498 |   |

 

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(1) Our operating leases include office space andoperating facilities.  The terms of theagreements vary from 2004 until 2010.

 

(2) We have supply contracts with various vendors offinancial data and communications services providing for minimum monthlycommitments.  These contracts have termsfrom 2004 to 2006.

 

(3) We have entered into an agreement with a certainsenior executives which require us to make cash payments over the contractualperiods.

 

InMarch 2004, the employment agreement for the Chief Executive Officer wasextended for three years.  Under theterms of the extended agreement we will be obligated to pay $425,000 in 2005,$425,000 in 2006, and $71,000 in 2007.

 

InFebruary 2004, as part of the acquisition of 360 Group, we executed employmentagreements with two new executives, Scott Waltz and Don Klabunde that had termsfor three years.  A subsequent separationagreement was executed in October 2004 with Scott Waltz.  Under these agreements, we will be obligatedto pay these two executives $272,000 in 2005 and $180,000 in 2006.

 

InJanuary 2005, an employment agreement for the Chief Financial Officer wasexecuted for two years.  Under the termsof this agreement we will be obligated to pay $290,000 in 2005.

 

InJanuary 2005, an employment agreement for the Vice President of Technology wasexecuted for two years in conjunction with the acquisition of Prophet.  Under the terms of this agreement we will beobligated to pay $180,000 in each of 2005 and 2006.

 

## **Issued But Not YetAdopted Accounting Standards**

 

In December 2004,the FASB issued Statement of Financial Accounting Standards (SFAS) No. 123R, *Share-Based Payment*.  SFAS No. 123R is a revision of FASB StatementNo. 123, Accounting for Stock-Based Compensation.  SFAS No. 123R supersedes APB Opinion No. 25,Accounting for Stock Issued to Employees, and its related implementationguidance.  SFAS No. 123R****establishes standards for the accounting for transactionsin which an entity exchanges its equity instruments for goods or services.  It also addresses transactions in which anentity incurs liabilities in exchange for goods or services that are based onthe fair value of the entity’s equity instruments or that may be settled by theissuance of those equity instruments. SFAS No. 123R focuses primarily on accounting for transactions in whichan entity obtains employee services in share-based payment transactions.  SFAS No. 123R requires that the cost resultingfrom all share-based payment transactions be recognized in the financialstatements.  It also establishes fairvalue as the measurement objective in accounting for share-based paymentarrangements and requires all entities to apply a fair-value-based measurementmethod in accounting for share-based payment transactions with employees.  The provisions of this statement areeffective for interim or annual periods beginning after June 15, 2005.  Accordingly, we are still assessing theimpact, if any, SFAS No. 123R****will have onour financial statements.

 

23

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In November 2004,the FASB issued SFAS No.****151, *Inventory Costs*, an amendment of ARB No.43, Chapter 4, which would be effective for inventory costs incurred duringfiscal years beginning after June 15, 2005. The amendments made by SFAS No. 151 will improve financial reporting byclarifying that abnormal amounts of idle facility expense, freight, handlingcosts, and wasted materials (spoilage) should be recognized as current-periodcharges and by requiring the allocation of fixed production overheads toinventory based on the normal capacity of the production facilities.  We are still assessing the impact, if any, SFASNo. 151 will have on our financial statements.

 

In December 2004,the FASB issued SFAS No. 153, *Exchanges ofNonmonetary Assets*, an amendment of APB Opinion No. 29.  The amendments made by SFAS No. 153 are basedon the principle that exchanges of nonmonetary assets should be measured based onthe fair value of the assets exchanged. The amendment also eliminates the narrow exception for nonmonetaryexchanges of similar productive assets and replaces it with a broader exceptionfor exchanges of nonmonetary assets that do not have commercial substance.  The provisions of SFAS No. 153 are effectivefor nonmonetary asset exchanges occurring in fiscal periods beginning afterJune 15, 2005.  We are still assessingthe impact, if any, SFAS No. 151 will have on our financial statements.

 

# **Item 7A**.         Quantitative and QualitativeDisclosures About Market Risk

 

We are exposed tomarket risk, which is the potential loss arising from adverse changes in marketprices and rates.  During 2004, weinvested excess cash in marketable securities that are subject to interest raterisk, which is not considered to be material to us.  We do not enter, or intend to enter, intoderivative financial instruments for trading or speculative purposes.

 

# **Item 8**.            Financial Statements andSupplementary Data

 

The financialstatements are filed pursuant to Item 15(a)1.

 

# **Item 9**.            Changes in and Disagreements withAccountants on Accounting and Financial Disclosure

 

NONE

 

# **Item 9A**.         Controls and Procedures

 

## **(a)   Evaluation of Disclosure Controls andProcedures**

 

We maintaindisclosure controls and procedures (as such term is defined in Rules 13a-15(e)and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “ExchangeAct”)) that are designed to ensure that information required to be disclosed inthe reports filed or submitted under Exchange Act, is recorded, processed,summarized, and reported within the time periods specified by the Commission’srules and forms.  Disclosure controls andprocedures are designed to ensure that information required to be disclosed byus in our Exchange Act reports is accumulated and communicated to ourmanagement including our principal executive and financial officers, asappropriate, to allow timely decisions regarding required disclosures.

 

The Companypreviously issued consolidated balance sheets, consolidated statements ofoperations, comprehensive loss, stockholders’ (deficit)/equity and cash flowsfor the years ended December 31, 2003 and December 31, 2002, and the firstthree fiscal quarters of 2004.  Based onerrors discovered, these consolidated financial statements have beenrestated.  As a result, management, inconsultation with the Audit Committee, and KPMG, concluded that restatementswere necessary to our Consolidated Financial Statements for the fiscal yearsended December 31, 2003 and 2002 and for each of the quarterly periods endedMarch 31, 2004, June 30, 2004 and September 30, 2004.  These restatements, as well as specificinformation regarding its impact on the years 2002 through 2004, is discussedin Footnote 3 - Restatement of the Financial Statements included in Part IV,Item 15, Financial Statements and Supplementary Data of this Annual Report onForm 10-K for the period ended December 31, 2004.

 

We identified thedeficiencies outlined below in our internal control over financial reporting,and management has determined that each of these deficiencies individuallyconstitutes a material weakness (as defined under standards established by thePublic Company Accounting Oversight Board or PCAOB) in our internal controlover financial reporting.  As of the dateof this report, we have not completed our assessment and our auditors have notcompleted their audit of our internal controls over financial reporting.  Therefore, additional material weaknesses maybe discovered from the date of this report through the date of the report onour internal controls over financial reporting.

 

*Materialweakness related to revenue.* Our accounting policies and practices over revenue recognition and therelated sales returns and allowances were inconsistent with generally acceptedaccounting principles in the United States (GAAP) which resulted in improperacceleration of revenue.  We lackedpersonnel with adequate expertise in accounting for revenue recognition, andfailed to consistently inform finance personnel of the impact of the changingbusiness on our financial reporting, and we lacked appropriate processes tocompensate for the lack of certain system controls.

 

24

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*Materialweakness related to inadequate or ineffective policies and practices relatingto expense accrual process. *Wehad not appropriately accounted for losses related to the sublease of officespace due to a lack of policy and practice to identify, calculate and recordliabilities related to sublease agreements. We lacked personnel with adequate expertise and understanding of GAAP.

 

*Materialweakness related to inadequate policies and practices in accruing potentialsales tax exposures.* Our policies and practices for recording sales tax liabilities wereinconsistent with GAAP.  We lackedpersonnel with adequate expertise in sales and income tax issues.

 

Our ChiefExecutive Officer and Chief Financial Officer evaluated the effectiveness ofour disclosure controls and procedures in place as of the end of the periodcovered by this annual report.  Based onthis evaluation, taking into account the material weaknesses described above,the Chief Executive Officer and Chief Financial Officer have concluded that ourdisclosure controls and procedures were not effective as of the period coveredby this report.

 

## **Assessment of InternalControl Over Financial Reporting**

 

Our management isresponsible for establishing and maintaining adequate internal control overfinancial reporting, as that term is defined in Exchange Act Rules 13a-15(f)and 15d-15(f).  Under the supervision andwith the participation of our management, including the Chief Executive Officerand the Chief Financial Officer, we are in the process of conducting anevaluation of our internal control over financial reporting.

 

Our evaluation ofour internal control over financial reporting has not yet been completed.  There can be no assurance that as a result ofthe ongoing evaluation of internal control over financial reporting, additionalmaterial weaknesses will not be identified or that any deficiencies identified,either alone or in combination with others, will not be considered a materialweakness.

 

Pursuant toCommission Release No. 34-50754, the Securities and Exchange Commission issuedan exemptive order providing a 45 day extension for filing management’s annualreport on internal control over financial reporting and the attestation reportof the independent public accounting firm. We elected to utilize this 45-day extension.  Therefore, this Annual Report on 10-K doesnot include such reports.  Thisinformation will be included in an amended Form 10-K, which we will file withthe Securities and Exchange Commission no later than May 2, 2005

 

## **(b)   Changes in Internal Control Over FinancialReporting**

 

During theevaluation referred to in Item 9A(a) above, we have identified no change ininternal control over financial reporting that occurred during our last fiscalquarter that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

 

In order toremediate the material weaknesses in internal control over financial reportingand ensure the integrity of our financial reporting processes stated above, weare in the process of implementing the following actions:

 

•                  a comprehensive review of internalcontrol over financial reporting through our ongoing review being performed inconnection with our efforts to comply with the requirements of Section 404 ofthe Sarbanes-Oxley Act of 2002, including additional remediation as necessary;

•                  additional training for our finance,accounting and certain other personnel in (i) revenue recognition, (ii) expenseaccrual processes, and (iii) the application of technical accountingpronouncements to certain transactions that occur outside the normal course ofbusiness;

•                  implementation of detailed, newrevenue recognition policies that are consistent with GAAP;

•                  review of the systems and controls inplace to appropriately capture the new revenue recognition policies andprocedures, including evaluating a new software package to allow us to automatethe new processes;

•                  modification of systems andprocedures to (i) ensure appropriate sales returns and allowance reserve isestablished and consistently reviewed for reasonableness, and (ii) establishappropriate deterrent controls;

•                  creation of a new position, Directorof External Financial Reporting and Compliance to review and coordinate theimplementation of new revenue-related pronouncements and regulations underGAAP;

•                  creation of a new position, Directorof Tax Compliance to review and coordinate the implementation of processes tomaintain compliance with Federal and State tax statutes.

 

In addition, in aneffort to improve internal control over financial reporting, we continue toemphasize the importance of establishing the appropriate environment inrelation to accounting, financial reporting and internal control over financialreporting and the importance of identifying areas of improvement and to createand implement new policies and procedures

 

25

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where materialweaknesses or significant deficiencies exist.

 

# **Item 9B**.         Other Events

 

Effective March25, 2005, we entered into Indemnity Agreements with each of our officers anddirectors.  The agreement provides thatwe will indemnify the applicable officer or director and hold him or herharmless from and against any and all losses which he or she may incur by reasonof his or her election or service as our officer, director, employee, agent,fiduciary or representative (or any subsidiary or affiliate of ours) to thefullest extent permitted by law.  Theagreement also provides that we will purchase and maintain in effect forbenefit of the indemnified party, binding and enforceable policies of directorsand officers liability insurance.  Theform of Indemnity Agreement is attached to this report as Exhibit 10.20.

** **

**PartIII**

In accordance withparagraph (3) of General Instruction G to Form 10-K, Part III of this Report isomitted because we will file adefinitive proxy statement involving the election of directors with theSecurities and Exchange Commission not later than 120 days after the close ofthe fiscal year pursuant to Regulation 14A.

 

Reference is madeto the sections of such proxy statements entitled “Nominees for Director”, “Organizationof the Board of Directors”, “Executive Officers”, “Summary Compensation Table”,“Security Ownership of Certain Beneficial Owners and Management”, “CertainRelationships and Related Transactions and Principal Accounting Fees andServices”, which sections of such proxy statement are incorporated herein.

 

26

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**PartIV**

** **

# **Item15.         Exhibits and FinancialStatements**

 

The followingdocuments are filed as part of this Form 10-K:

 

**1.                     Consolidated FinancialStatements**

 
|   |   | Report  of Independent Public Accountants                                                                                                                                                                                                                                   |   |   |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
|   |   | Consolidated Balance Sheets  as of December 31, 2004 and 2003                                                                                                                                                                                                               |   |   |
|   |   | Consolidated  Statements of Operations for the Years Ended December 31, 2004, 2003 and 2002                                                                                                                                                                                 |   |   |
|   |   | Consolidated  Statements of Cash Flows for the Years Ended December 31, 2004, 2003 and 2002                                                                                                                                                                                 |   |   |
|   |   | Consolidated  Statements of Stockholders’ Equity for the Years Ended December 31, 2004,  2003 and 2002                                                                                                                                                                 |   |   |
|   |   | Notes to  Consolidated Financial Statements                                                                                                                                                                                                                                 |   |   |
|   |   |                                                                                                                                                                                                                                                                        |   |   |
|   |   | All other schedules have been omitted since the required information  is not present or is not present in amounts sufficient to require submission  of the schedule, or because the information required is included in the  financial statements or notes thereto.

  |   |   |
|   |   |                                                                                                                                                                                                                                                                        |   |   |
| **2.** |   | **Exhibits**                                                                                                                                                                                                                                                                |   |   |

 
|   |       |                                                                                                                                                                                                                                                                                                                                                                                                                                         |   |   |
|--------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| 2.1    |       | Agreement and Plan of Merger dated February 26,  2004, by and among INVESTools Inc., SES Acquisition Corp., Service  Enhancement Systems, Inc., Ted B. Shuel and Jamie Lynn Speas Shuel, as  Trustee of The Shuel Family Trust, Scott K. Waltz, individually, Ted B.  Shuel, individually, and Jamie Lynn Speas Shuel, individually. (Incorporated  by reference from INVESTools’ Current Report on Form 8-K filed on March 10,  2004.) |   |   |
| 2.2    |       | Stock  Purchase Agreement dated as of January 26, 2005, among the Company, Prophet  Financial, each of Timothy Knight and Andreas Bechtolsheim, and each of the  individuals or entities listed on Exhibit A thereto. (Incorporated by  reference from INVESTools’ Current Report on Form 8-K filed on February 1,  2005.)                                                                                                              |   |   |
| 3.1    | ** ** | **Amended  and Restated Certificate of Incorporation of INVESTools Inc. (Included as  Annex V to the joint proxy statement/prospectus filed in Registration No.  333-67454.)**                                                                                                                                                                                                                                                               |   |   |
| 3.2    | ** ** | **By-laws  of INVESTools Inc. (Included as Annex VI to the joint proxy  statement/prospectus filed in Registration No. 333-67454.)**                                                                                                                                                                                                                                                                                                         |   |   |
| 10.1   | ** ** | **Amended  Stock Option Plan of Telescan. (Incorporated by reference from Telescan’s  Post-Effective Amendment No. 1 to Form S-8 filed February 2, 1994.)**                                                                                                                                                                                                                                                                             |   |   |
| 10.2   | ** ** | **Amended  and Restated 1995 Stock Option Plan of Telescan. (Incorporated by reference  from Telescan’s Registration Statement on Form S-8 filed November 21, 2000.)**                                                                                                                                                                                                                                                                  |   |   |
| 10.3   | ** ** | **2000  Stock Option Plan of Telescan. (Incorporated by reference from Telescan’s  Registration Statement on Form S-8 filed November 21, 2000.)**                                                                                                                                                                                                                                                                                       |   |   |
| 10.4   | ** ** | **Amended  1999 Stock Option Plan of ZiaSun. (Incorporated by reference from ZiaSun’s  Post-Effective Amendment No. 1 to Form S-8 filed June 14, 2000.)**                                                                                                                                                                                                                                                                               |   |   |
| 10.5   | ** ** | **Non-Qualified  Stock Option Agreement between ZiaSun and Allen D. Hardman. (Incorporated by  reference from ZiaSun’s Registration Statement on Form 10-SB filed September  16, 1999.)**                                                                                                                                                                                                                                               |   |   |
| 10.6   | ** ** | **Lease  Agreement between EsNET Properties L.C. and OIA, dated May 25, 1999.  (Incorporated by reference from ZiaSun’s Registration Statement on Form 10-SB  filed September 16, 1999.)**                                                                                                                                                                                                                                              |   |   |
| 10.7   | ** ** | **Lease  Agreement between DC Mason Ltd. and OIA, dated October 7, 1998. (Incorporated  by reference from ZiaSun’s Registration Statement on Form 10-SB filed  September 16, 1999.)**                                                                                                                                                                                                                                                   |   |   |
| 10.8   | ** ** | **Lease  Agreement between Gordon Jacobson and OIA, dated June 22, 1999. (Incorporated  by reference from the ZiaSun’s Registration Statement on Form 10-SB filed  September 16, 1999.)**                                                                                                                                                                                                                                               |   |   |
| 10.9   | ** ** | **Non-Competition  Agreement, dated March 8, 2000, between OIA and MIT, LLC. (Incorporated by  reference from ZiaSun’s Current Report on Form 8-K filed on August 1, 2001.)**                                                                                                                                                                                                                                                           |   |   |
| 10.11  |       | Termination Agreement and General Release by and  between INVESTools Inc. and Scott Elder dated August 26, 2003. (Incorporated  by reference from INVESTools’ Quarterly Report on Form 10-Q filed November  14, 2003.) (1)                                                                                                                                                                                                              |   |   |
| 10.12  |       | Termination Agreement and General Release by and  between INVESTools Inc. and Ross Jardine dated August 26, 2003. (Incorporated  by reference from INVESTools’ Quarterly Report on Form 10-Q filed November  14, 2003.) (1)                                                                                                                                                                                                             |   |   |
| 10.14  |       | Employment Agreement dated February 26, 2004 by and  between Scott K. Waltz and INVESTools Inc. (Incorporated by reference from  INVESTools’ Current Report on Form 8-K filed on March 10, 2004.)(1)                                                                                                                                                                                                                                    |   |   |
| 10.15  |       | Employment Agreement dated February 26, 2004 by and  between Don Klabunde and INVESTools Inc. (Incorporated by reference from  INVESTools’ Current Report on Form 8-K filed on March 10, 2004.)(1)                                                                                                                                                                                                                                      |   |   |

 

27

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| 10.16  |       | Executive  Employment Agreement dated January 26, 2005, by and between the Company and  Timothy Knight. (Incorporated by reference from INVESTools’ Current Report on  Form 8-K filed on February 1, 2005.)(1)                                          |   |   |
|--------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| 10.17  |       | Executive  Employment Agreement, dated as of January 17, 2005, between the Company and Ida  Kane. (Incorporated by reference from INVESTools’ Current Report on Form 8-K  filed on January 19, 2005.)(1)                                                |   |   |
| 10.18  |       | Employment  Agreement, dated December 9, 2003 and effective as of March 4, 2004, between  the Company and Lee Barba. (Incorporated by reference from INVESTools’  Current Report on Form 8-K filed on December 13, 2004.)(1)                            |   |   |
| 10.19  |       | Separation  Agreement and General Release, dated October 19, 2004 and effective as of  October 13, 2004, between the Company and Scott K. Waltz. (Incorporated by reference  from INVESTools’ Current Report on Form 8-K filed on October 25, 2004.)(1) |   |   |
| 10.20* | ** ** | **Form  of Indemnity Agreement.**                                                                                                                                                                                                                            |   |   |
| 21.1*  | ** ** | **Subsidiaries  of INVESTools.**                                                                                                                                                                                                                             |   |   |
| 23.1*  |       | Consent of KPMG LLP.                                                                                                                                                                                                                                         |   |   |
| 31.1*  |       | Section 302 Certification of Chief Executive Officer                                                                                                                                                                                                         |   |   |
| 31.2*  |       | Section 302 Certification of Chief Financial Officer                                                                                                                                                                                                         |   |   |
| 32.1*  |       | Section 906 Certification of Chief Executive Officer                                                                                                                                                                                                         |   |   |
| 32.2*  |       | Section 906 Certification of Chief Financial Officer                                                                                                                                                                                                         |   |   |

 

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*              Indicates documents filedherewith.

(1)           Management contracts or compensationplans or arrangements.

 

28

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## **Signatures**

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities Act of 1934, theRegistrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized in the City of Provo, State of Utah, onMarch 31, 2005.

 

 
|   | INVESTools Inc. |
|--------|-----------------|
|   |            |
|   | By:             | /s/ LEE K. BARBA |   |
|   |            | Lee K. Barba, Chief Executive Officer and Director |

 

Pursuant to therequirements of the Securities Act of 1934, this report has been signed belowby the following persons in the capacities and on the date indicated

 
| **Signature**                        | ** **                                     | **Title**                                         | ** ** | **Date**       |
|--------------------------------------|------------------------------------------------|---------------------------------------------------|------------|----------------|
|                                 |                                           |                                              |       |           |
| ** **                           | **PRINCIPAL EXECUTIVE  OFFICER:**              | ** **                                        | ** ** | ** **     | ** ** |
|                                 |                                           |                                              |       |           |
|   /s/ LEE K. BARBA         |                                           | Chief Executive Officer and Chairman of the Board |       | March 31, 2005 |
|   Lee K. Barba             |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
| ** **                           | **PRINCIPAL FINANCIAL /  ACCOUNTING OFFICER:** | ** **                                        | ** ** | ** **     | ** ** |
|                                 |                                           |                                              |       |           |
|   /s/ IDA K. KANE          |                                           | Chief Financial Officer                           |       | March 31, 2005 |
|   Ida K. Kane              |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
| ** **                           | **DIRECTORS:**                                 | ** **                                        | ** ** | ** **     | ** ** |
|                                 |                                           |                                              |       |           |
|   /s/ DOUGLAS T. TANSILL   |                                           | Director                                          |       | March 31, 2005 |
|   Douglas T. Tansill       |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
|   /s/ MICHAEL H. GOLDSMITH |                                           | Director                                          |       | March 31, 2005 |
|   Michael H. Goldsmith     |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
|   /s/ F. WARREN MCFARLAN   |                                           | Director                                          |       | March 31, 2005 |
|   F. Warren McFarlan       |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
|   /s/ HANS VON MEISS       |                                           | Director                                          |       | March 31, 2005 |
|   Hans von Meiss           |                                           |                                              |       |           |
|                                 |                                           |                                              |       |           |
|   /s/ STEPHEN C. WOOD      |                                           | Director                                          |       | March 31, 2005 |
|   Stephen C. Wood          |                                           |                                              |       |           |

 

29

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**ReportOf Independent Registered Public Accounting Firm**

 

The Board of Directors and Shareholders

INVESTools Inc.:

 

We have audited the accompanying consolidated balance sheets ofINVESTools, Inc. and subsidiaries as of December 31, 2004 and 2003, and therelated consolidated statements of operations, stockholders’ (deficit) equityand comprehensive loss and cash flows for each of the years in the three-yearperiod ended December 31, 2004.  Inconnection with our audits of the consolidated financial statements, we havealso audited the accompanying financial statement schedule.  These consolidated financial statements andfinancial statement schedule are the responsibility of the Company’smanagement.  Our responsibility is toexpress an opinion on these consolidated financial statements and financialstatement schedule based on our audits.

 

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

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the financial position of INVESToolsInc. and subsidiaries as of December 31, 2004 and 2003 and the results of theiroperations and their cash flows for each of the years in the three-year periodended December 31, 2004 in conformity with U.S. generally accepted accountingprinciples.  Also in our opinion, therelated financial statement schedule, when considered in relation to the basicconsolidated financial statements taken as a whole, presents fairly, in allmaterial respects, the information set forth therein.

 

As discussed in Note 3 to the accompanying consolidated financialstatements, the consolidated balance sheet as of December 31, 2003 and therelated statement of operations, stockholders’ equity and cash flows for eachof the years in the two-year period ended December 31, 2003, have beenrestated.  Additionally, the accompanyingfinancial statement schedule as of December 31, 2003 and for each of the yearsin the two-year period ended December 31, 2003 has been restated.

 

As discussed in Note 1 to the consolidated financial statements, theCompany changed, effective January 1, 2002, its method of accounting forgoodwill and other intangible assets as required by Statement of FinancialAccounting Standards No. 142, Goodwill and Other Intangible Assets and effectiveJanuary 1, 2003, the Company changed its method of accounting forstock-based compensation by adopting Statement of Financial Accounting StandardNo. 123, Accounting for Stock-Based Compensation.

 

KPMG LLP

Salt Lake City, Utah

March 31, 2005

 

30

----

 

###### **INVESTOOLSINC. AND SUBSIDIARIES**

###### **CONSOLIDATED BALANCE SHEETS**

(in thousands)

 
| ** **                                                                                                                                          | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|
| ** **                                                                                                                                          | ** ** | **2004**         | ** ** | **2003** | ** ** |
| ** **                                                                                                                                          | ** ** | ** **       | ** ** | **Restated** | ** ** |
| **ASSETS**                                                                                                                                          | ** ** | ** **       | ** ** | ** ** | ** ** |
| Current assets:                                                                                                                                     |       |             |       |   |   |
| Cash and cash  equivalents                                                                                                                          |       | $                | 10,736     |   | $ | 4,458 |   |
| Marketable securities                                                                                                                               |       | 13,840           |       | 7,808 |   |
| Accounts receivable,  net allowances of $7 and $197, respectively                                                                                   |       | 2,194            |       | 319 |   |
| Current portion of  restricted cash                                                                                                                 |       | 384              |       | — |   |
| Other current assets                                                                                                                                |       | 2,493            |       | 420 |   |
| **Total  current assets**                                                                                                                           |       | 29,647           |       | 13,005 |   |
|                                                                                                                                                |       |             |       |   |   |
| Long-term restricted  cash                                                                                                                          |       | 1,876            |       | 357 |   |
| Goodwill                                                                                                                                            |       | 14,315           |       | 11,958 |   |
| Intangible assets, net                                                                                                                              |       | 2,152            |       | 399 |   |
| Furniture and  equipment, net                                                                                                                       |       | 1,574            |       | 832 |   |
| Other long-term assets                                                                                                                              |       | 214              |       | — |   |
| ** **                                                                                                                                          |       |             |       |   |   |
| **Total  assets**                                                                                                                                   |       | $                | 49,778     |   | $ | 26,551 |   |
| ** **                                                                                                                                          |       |             |       |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ (DEFICIT)/EQUITY**                                                                                            |       |             |       |   |   |
| Current liabilities:                                                                                                                                |       |             |       |   |   |
| Current portion of  deferred revenue                                                                                                                |       | $                | 31,957     |   | $ | 14,044 |   |
| Accounts payable                                                                                                                                    |       | 4,994            |       | 1,391 |   |
| Accrued payroll                                                                                                                                     |       | 2,178            |       | 1,544 |   |
| Accrued tax liabilities                                                                                                                             |       | 5,103            |       | 4,038 |   |
| Other current liabilities                                                                                                                           |       | 4,273            |       | 1,711 |   |
| **Total  liabilities, current**                                                                                                                     |       | 48,505           |       | 22,728 |   |
|                                                                                                                                                |       |             |       |   |   |
| **Long-term  liabilities:**                                                                                                                         |       |             |       |   |   |
| Other long-term accrued  liabilities                                                                                                                |       | 84               |       | 163 |   |
| Long-term portion of  deferred revenue                                                                                                              |       | 8,421            |       | 476 |   |
| **Total  liabilities**                                                                                                                              |       | 57,010           |       | 23,367 |   |
|                                                                                                                                                |       |             |       |   |   |
| **Stockholders’  (deficit)/equity:**                                                                                                           |       |             |       |   |   |
| Common stock, $0.01 par  value; 60,000 shares authorized; 44,966 and 44,189 shares issued and  outstanding December 31, 2004 and 2003, respectively |       | 449              |       | 442 |   |
| Additional paid-in  capital                                                                                                                         |       | 129,097          |       | 127,058 |   |
| Accumulated other  comprehensive loss                                                                                                               |       | (32              | )          | (2 | ) |
| Deferred stock  compensation                                                                                                                        |       | (998             | )          | (293 | ) |
| Accumulated deficit                                                                                                                                 |       | (135,748         | )          | (124,021 | ) |
| ** **                                                                                                                                          |       |             |       |   |   |
| **Total  stockholders’ (deficit)/equity**                                                                                                      |       | (7,232           | )          | 3,184 |   |
| ** **                                                                                                                                          |       |             |       |   |   |
| **Total  liabilities and stockholders’ (deficit)/equity**                                                                                      |       | $                | 49,778     |   | $ | 26,551 |   |

 

See accompanying notes tothese consolidated financial statements.

 

31

----

 

###### **INVESTOOLSINC. AND SUBSIDIARIES**

###### **CONSOLIDATED STATEMENTS OFOPERATIONS**

(in thousands, except pershare amounts)

 
| ** **                                                                   | ** ** | **Years Ended December 31,** | ** ** |
|------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                   | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                                   | ** ** | ** **                   | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| ** **                                                                   |       |                         |       |   |   |   |   |
| **Revenue**                                                                  |       | $                            | 97,169     |   | $ | 69,802 |   | $ | 53,923 |   |
| **Costs  and expenses:**                                                     |       |                         |       |   |   |   |   |
| Cost of revenue                                                              |       | 64,225                       |       | 41,172 |   | 25,411 |   |
| Selling expense                                                              |       | 23,973                       |       | 19,926 |   | 14,143 |   |
| Related party selling  expense                                               |       | —                       |       | 501 |   | 4,880 |   |
| General and  administrative expense                                          |       | 18,837                       |       | 12,783 |   | 14,154 |   |
| Special charges                                                              |       | 1,084                        |       | 673 |   | — |   |
| Depreciation and  amortization expense (a)                                   |       | 960                          |       | 596 |   | 675 |   |
| Total costs and  expenses                                                    |       | 109,079                      |       | 75,651 |   | 59,263 |   |
| Net loss from  operations                                                    |       | (11,910                      | )          | (5,849 | ) | (5,340 | ) |
| **Other  income (expense):**                                                 |       |                         |       |   |   |   |   |
| Gain (loss) on sale of  assets                                               |       | (77                          | )          | 4 |   | (2 | ) |
| Interest income  (expense) and other, net                                    |       | 268                          |       | 74 |   | (59 | ) |
| Total other income  (expense)                                                |       | 191                          |       | 78 |   | (61 | ) |
| **Net loss  before income taxes and cumulative effect of accounting change** |       | (11,719                      | )          | (5,771 | ) | (5,401 | ) |
| Income tax expense  (benefit)                                                |       | 8                            |       | 1,530 |   | (194 | ) |
| **Net  loss before cumulative effect of accounting change**                  |       | (11,727                      | )          | (7,301 | ) | (5,207 | ) |
| Cumulative effect of accounting  change                                      |       | —                       |       | — |   | (28,417 | ) |
| **Net  loss**                                                                |       | (11,727                      | )          | (7,301 | ) | (33,624 | ) |
| Preferred stock  dividend                                                    |       | —                       |       | — |   | (45 | ) |
| **Net  loss available to common stockholders**                               |       | $                            | (11,727    | ) | $ | (7,301 | ) | $ | (33,669 | ) |
| Net loss per common  share – basic and diluted:                         |       |                         |       |   |   |   |   |
| Net loss before  cumulative effect of accounting change                      |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.12 | ) |
| Cumulative effect of  accounting change                                      |       | —                       |       | — |   | (0.68 | ) |
| **Net  loss available to common stockholders**                               |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.80 | ) |
| Basic and diluted  weighted average shares outstanding                       |       | 45,045                       |       | 43,692 |   | 41,983 |   |

 

----

(a) Depreciation and amortization expense would be further classified asfollows:

 
| Cost of revenue                     |   | $   | 459    |   | $      | 316 |   | $ | 310 |   |
|-------------------------------------|--------|-----|--------|--------|--------|-----|--------|---|-----|--------|
| Selling expense                     |   | 389 |   | 188    |   | 208 |   |
| General and  administrative expense |   | 112 |   | 92     |   | 157 |   |
|                                |   | $   | 960    |   | $      | 596 |   | $ | 675 |   |

 

See accompanying notes tothese consolidated financial statements.

 

32

----

 

###### **INVESTOOLSINC. AND SUBSIDIARIES**

###### **CONSOLIDATED STATEMENTS OF CASHFLOWS**

(in thousands)

 
| ** **                                                                          | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                                          | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                                          | ** ** | ** **                   | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| **Cash  flows from operating activities:**                                          |       |                         |       |   |   |   |   |
| Net loss                                                                            |       | $                            | (11,727    | ) | $ | (7,301 | ) | $ | (33,624 | ) |
| Reconciling  adjustments:                                                           |       |                         |       |   |   |   |   |
| Depreciation and  amortization                                                      |       | 960                          |       | 596 |   | 675 |   |
| Deferred taxes                                                                      |       | —                       |       | 2,830 |   | 2,036 |   |
| Provision for sales  return reserve                                                 |       | 1,652                        |       | 1,550 |   | 541 |   |
| Provision for bad debt  expense                                                     |       | 3                            |       | 142 |   | 30 |   |
| Stock compensation  expense                                                         |       | 290                          |       | 349 |   | 649 |   |
| Provision for inventory  reserve                                                    |       | 171                          |       | — |   | — |   |
| Cumulative effect of  accounting change                                             |       | —                       |       | — |   | 28,417 |   |
| Amortization of  discount on marketable securities                                  |       | —                       |       | 30 |   | — |   |
| Impairment of  internally capitalized software                                      |       | 486                          |       | — |   | — |   |
| Changes in operating  assets and liabilities, net of effect of acquired businesses: |       |                         |       |   |   |   |   |
| Accounts receivable                                                                 |       | (1,525                       | )          | 214 |   | 855 |   |
| Restricted cash                                                                     |       | (384                         | )          | — |   | — |   |
| Other current assets                                                                |       | (2,273                       | )          | (87 | ) | 89 |   |
| Accounts payable                                                                    |       | 2,610                        |       | (1,679 | ) | (578 | ) |
| Deferred revenue                                                                    |       | 25,290                       |       | 6,492 |   | 3,281 |   |
| Accrued payroll                                                                     |       | 425                          |       | 427 |   | 98 |   |
| Other current  liabilities                                                          |       | 382                          |       | (351 | ) | (1,284 | ) |
| Accrued tax liabilities                                                             |       | 1,062                        |       | 4,222 |   | (155 | ) |
| Net cash provided by  operating activities                                          |       | 17,422                       |       | 7,434 |   | 1,030 |   |
| ** **                                                                          |       |                         |       |   |   |   |   |
| **Cash  flows from investing activities:**                                          |       |                         |       |   |   |   |   |
| Purchases of marketable  securities                                                 |       | (16,776                      | )          | (8,370 | ) | — |   |
| Proceeds from sales of  marketable securities                                       |       | 10,731                       |       | 600 |   | — |   |
| Purchases of fixtures,  furniture and equipment                                     |       | (1,379                       | )          | (767 | ) | (829 | ) |
| Investment in 360  Group, net of cash received of $1.5 million                      |       | (62                          | )          | — |   | — |   |
| Net cash used in  investing activities                                              |       | (7,486                       | )          | (8,537 | ) | (829 | ) |
| ** **                                                                          |       |                         |       |   |   |   |   |
| **Cash  flows from financing activities:**                                          |       |                         |       |   |   |   |   |
| Payment on notes  payable                                                           |       | (253                         | )          | (14 | ) | (44 | ) |
| Changes in long-term  restricted cash                                               |       | (1,513                       | )          | 561 |   | (561 | ) |
| Repurchase of stock                                                                 |       | (2,213                       | )          | (201 | ) | — |   |
| Exercise of stock options                                                           |       | 321                          |       | 55 |   | — |   |
| Payments on share  rescission liability                                             |       | —                       |       | — |   | (366 | ) |
| Net cash (used in)  provided by financing activities                                |       | (3,658                       | )          | 401 |   | (971 | ) |
| ** **                                                                          |       |                         |       |   |   |   |   |
| **Increase  (decrease) in cash and cash equivalents:**                              |       | 6,278                        |       | (702 | ) | (770 | ) |
| **Cash  and cash equivalents:**                                                     |       |                         |       |   |   |   |   |
| Beginning of year                                                                   |       | 4,458                        |       | 5,160 |   | 5,930 |   |
| End of year                                                                         |       | $                            | 10,736     |   | $ | 4,458 |   | $ | 5,160 |   |

 

See accompanying notes to these consolidated financialstatements

 

33

----

 

###### **INVESTOOLSINC. AND SUBSIDIARIES**

###### **CONSOLIDATED STATEMENTS OFSTOCKHOLDERS’ (DEFICIT) EQUITY**

###### **ANDCOMPREHENSIVE LOSS**

(in thousands)

 
| ** **                                       | ** ** | **Compre-**           | ** **  | **Preferred Stock**         | ** ** | **Common Stock**   | ** ** | **Additional**              | ** ** | **Accumulated**

**Other**

**Compre-** | ** ** | **Deferred**

**Stock**  | ** ** | ** **                      | ** ** | **Total  Stock-**       | ** ** |
|--------------------------------------------------|------------|-----------------------|-------------|-----------------------------|------------|--------------------|------------|-----------------------------|------------|-----------------------------------------|------------|--------------------------|------------|---------------------------------|------------|-------------------------|------------|
| ** **                                       |
| ** **                                       |
| ** **                                       | ** ** | **hensive**

**Loss** | ** **  | **Outstanding**

**Shares** | ** ** | **Par**

**Value** | ** ** | **Outstanding**

**Shares** | ** ** | **Par**

**Value**                      | ** ** | **Paid-In**

**Capital** | ** ** | **hensive**

**Income  (Loss)** | ** ** | **Compen-**

**sation** | ** ** | **Accumulated**

**Deficit** | ** ** | **holder’s**

**Equity** | ** ** |
| ** **                                       |
| **Balance,  December 31, 2001, As Reported**     | ** ** | **$**                 | **—**  | ** **                  | **120**    | ** **         | **$**      | **1**                       | ** ** | **40,792**                              | ** ** | **$**                    | **408**    | ** **                      | **$**      | **125,855**             | ** ** | **$** | **—** | ** ** | **$** | **—** | ** ** | **$** | **(81,920** | **)** | **$** | **44,344** | ** ** |
| Adjustment to opening accumulated  deficit (A)   |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | —                  |       | (1,131 | ) | (1,131 | ) |
| **Balance,  December 31, 2001, (Restated)**      | ** ** | **—**            | ** **  | **—**                  | ** ** | **—**         | ** ** | **—**                  | ** ** | **—**                              | ** ** | **—**               | ** ** | **—**                      | ** ** | **—**              | ** ** | **(83,057** | **)** | **43,213** | ** ** |
| Conversion of preferred  stock                   |       | —                |        | (120                        | )          | (1                 | )          | 1,708                       |       | 17                                      |       | 59                       |       | —                          |       | —                  |       | — |   | 75 |   |
| Issuance of common stock  for bonuses            |       | —                |        | —                      |       | —             |       | 714                         |       | 7                                       |       | 221                      |       | —                          |       | —                  |       | — |   | 228 |   |
| Options granted to  officers for bonuses         |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | 350                      |       | —                          |       | —                  |       | — |   | 350 |   |
| Options granted to  contractors                  |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | 162                      |       | —                          |       | (132                    | )          | — |   | 30 |   |
| Expiration of share  rescission offer            |       | —                |        | —                      |       | —             |       | (78                         | )          | (1                                      | )          | 1                        |       | —                          |       | —                  |       | — |   | — |   |
| Acquisition of minority  interest                |       | —                |        | —                      |       | —             |       | 70                          |       | 1                                       |       | 15                       |       | —                          |       | —                  |       | — |   | 16 |   |
| Amortization of deferred  stock compensation     |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | 41                      |       | — |   | 41 |   |
| Net loss (Restated)                              |       | (33,624               | )           | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | —                  |       | (33,624 | ) | (33,624 | ) |
| 4% convertible preferred  stock dividends        |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | —                  |       | (45 | ) | (45 | ) |
| **Balance,  December 31, 2002 (Restated)**       | ** ** | **$**                 | **(33,624** | **)**                       | **—** | ** **         | **$**      | **—**                  | ** ** | **43,206**                              | ** ** | **$**                    | **432**    | ** **                      | **$**      | **126,663**             | ** ** | **$** | **—** | ** ** | **$** | **(91** | **)** | **$** | **(116,720** | **)** | **$** | **10,284** | ** ** |
| Issuance of common stock  for bonuses            |       | —                |        | —                      |       | —             |       | 1,154                       |       | 12                                      |       | 277                      |       | —                          |       | —                  |       | — |   | 289 |   |
| Repurchase of common  stock                      |       | —                |        | —                      |       | —             |       | (268                        | )          | (3                                      | )          | (198                     | )          | —                          |       | —                  |       | — |   | (201 | ) |
| Stock issued due to  option exercise             |       | —                |        | —                      |       | —             |       | 82                          |       | 1                                       |       | 54                       |       | —                          |       | —                  |       | — |   | 55 |   |
| Issuance of restricted  stock                    |       | —                |        | —                      |       | —             |       | 15                          |       | —                                  |       | 12                       |       | —                          |       | (12                     | )          | — |   | — |   |
| Deferred stock  compensation                     |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | 250                      |       | —                          |       | (250                    | )          | — |   | — |   |
| Amortization of deferred  stock compensation     |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | 60                      |       | — |   | 60 |   |
| Net loss (Restated)                              |       | (7,301                | )           | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | —                  |       | (7,301 | ) | (7,301 | ) |
| Unrealized losses on marketable  securities, net |       | (2                    | )           | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | (2                              | )          | —                  |       | — |   | (2 | ) |
| **Balance,  December 31, 2003 (Restated)**       | ** ** | **$**                 | **(7,303**  | **)**                       | **—** | ** **         | **$**      | **—**                  | ** ** | **44,189**                              | ** ** | **$**                    | **442**    | ** **                      | **$**      | **127,058**             | ** ** | **$** | **(2** | **)** | **$** | **(293** | **)** | **$** | **(124,021** | **)** | **$** | **3,184** | ** ** |
| Repurchase of common  stock                      |       | —                |        | —                      |       | —             |       | (1,054                      | )          | (11                                     | )          | (2,202                   | )          | —                          |       | —                  |       | — |   | (2,213 | ) |
| Stock issued due to  option exercise             |       | —                |        | —                      |       | —             |       | 487                         |       | 5                                       |       | 316                      |       | —                          |       | —                  |       | — |   | 321 |   |
| Issuance of common stock  for acquisition        |       | —                |        | —                      |       | —             |       | 1,344                       |       | 13                                      |       | 2,930                    |       | —                          |       | —                  |       | — |   | 2,943 |   |
| Deferred stock  compensation                     |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | 992                      |       | —                          |       | (992                    | )          | — |   | — |   |
| Amortization of deferred  stock compensation     |       | —                |        | —                      |       | —             |       | —                      |       | —                                  |       | 3                        |       | —                          |       | 287                     |       | — |   | 290 |   |
| Net loss                                         |       | (11,727               | )           | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | —                          |       | —                  |       | (11,727 | ) | (11,727 | ) |
| Unrealized losses on marketable  securities, net |       | (30                   | )           | —                      |       | —             |       | —                      |       | —                                  |       | —                   |       | (30                             | )          | —                  |       | $ | — |   | (30 | ) |
| **Balance,  December 31, 2004**                  | ** ** | **$**                 | **(11,757** | **)**                       | **—** | ** **         | **$**      | **—**                  | ** ** | **44,966**                              | ** ** | **$**                    | **449**    | ** **                      | **$**      | **129,097**             | ** ** | **$** | **(32** | **)** | **$** | **(998** | **)** | **$** | **(135,748** | **)** | **$** | **(7,232** | **)** |

 

----

(A) The Company has recorded the cumulative effect of adjustments of $1.1million for 2001 to opening accumulated deficit for 2002.  See Footnote 3 Restatement for further discussionregarding the nature of the adjustments.

 

See accompanying notes tothese consolidated financial statements.

 

34

----

 

**1.**                                      THECOMPANY

 

INVESTools Inc.(the Company) is a leader in investor education.  The Company’s mission is to educate andempower individual investors to make their own financial decision to achievetheir unfulfilled financial goals anytime, anywhere by using the INVESToolsMethodTM live by correspondence or online establishing the INVESTools MethodTM asthe most widely recognized, adopted and endorsed approach to investoreducation.  The Company offers a fullrange of investor education products and services that provide lifelonglearning and support to self-directed investors to help them improve theirinvestment performance.  The Company’sproducts and services are built around the INVESTools Method, a uniqueintegration of a disciplined investing process, web-based tools, personalizedinstruction and support.  Its investoreducation products and services are offered in a variety of learning formatswith courses ranging from beginning to advanced for all investor levels.

 

In January 2005,the Company announced the relocation of its corporate headquarters fromHouston, Texas to Salt Lake City, Utah. The Company’s interim corporate headquarters and principal executiveoffice is located at 585 East 1860 South, Provo, Utah 84606.  We also maintain offices in New York, NewYork; Houston, Texas; Palo Alto, California and San Rafael, California.  The Company intends for the corporateheadquarter relocation to Salt Lake City to be complete in May 2005.

 

## **Concentration Risk**

 

The Companycurrently accesses approximately 90% of our new students through ourco-branding (BusinessWeek and CNBC) and co-marketing (Success Magazine and Moneyin Training) relationships.  The loss ofone of these partners could have a material adverse effect on our financialperformance in the short-term.  TheCompany’s long-term agreement with CNBC has expired, and the Company is currentlyoperating under a month-to-month agreement with CNBC while it negotiates a newarrangement.  While the Company hopes toconclude negotiations with CNBC shortly, recent management changes at CNBC makethe Company less optimistic about its ability to mutually agree to a renewal ofthis relationship on economic terms similar to those the Company has previouslyenjoyed.  However, the Company isconstantly pursuing new student acquisition partnerships and it believesbusiness from new and existing partnerships could replace such lost volumes ifthey were to occur.  There can be noassurance that the Company will be successful in establishing new partnerships.

 

The Company payscommissions to its co-marketing and co-branding partners for sales that aregenerated through the various partners’ channels.  The rates at which partners are paidcommissions varies depending on the partner and based upon whether the salesare generated at the customer acquisition point, customer fulfillment point orcustomer retention point.  Commissionsare expensed as incurred at the time of sale.

 

At the end of2003, the Company revised one of its co-marketing partner’s commissionagreements and in August of 2004, the Company revised another one of itsco-marketing partner’s commission agreements. These revisions resulted in the Company increasing the amount ofcommission rates paid for initial customer acquisition sales generated atpreview events through these co-marketing channels and a reduction in thecommission rates paid for customer fulfillment and retention sales.

 

## **Corporate Background**

 

The Company wasincorporated in Delaware on May 21, 2001 and began operations on December 6,2001, as a result of a merger between ZiaSun Technologies, Inc., a Nevadacorporation (ZiaSun), and Telescan, Inc., a Delaware corporation(Telescan).  Former ZiaSun and Telescanstockholders acquired an approximate 75% and 25% ownership interest in theCompany, respectively.  The merger wasaccounted for under the purchase method of accounting.  ZiaSun and Telescan each became wholly ownedsubsidiaries of the Company.

 

The Company’ssubsidiaries are:

 

•                  ZiaSun, which owns 100% of OnlineInvestors Advantage, Inc. (OIA).  OIAowns 100% of the following dormant entities that have no operations:  INVESTools Asia Pacific Pte., Limited(INVESTools Asia), Investor Education California, LLC, INVESTools Hong KongLtd. (INVESTools Hong Kong), Seminar Marketing Group, Inc. (SMG) and MemoryImprovement Systems, Inc. (MIS).

 

•                  Telescan, which owns 100% ofINVESTools, Inc., a dormant California corporation with no operations(INVESTools California).

 

•                  SES Acquisition Corp., a Californiacorporation operating under the name 360 Group. The Company acquired 360 Group on February 26, 2004.  360 Group was a direct marketing agency thatoffered services such as custom database development and management, strategicplanning, media list planning and buying, creative and production services,response management and analytic services. The Company acquired 360 Group in order to internalize its marketingdepartment.

 

35

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•                  Prophet Financial Systems, Inc.(Prophet), a California corporation, acquired by the Company on January 27,2005.  Prophet is a Web-based content andservices provider that enables active investors to use technical analysis totrade more profitably.  Prophet’swebsite, Prophet.Net, is the premier Web provider of advanced chartingtechnology.

 

## **Restatement**

 

The Company hasrestated its Consolidated Financial Statements as of December 31, 2003, and foreach of the years in the two-year period ended December 31, 2003, as discussedin more detail in Footnote 3.  Certainadjustments impacting the Company’s Consolidated Financial Statements forperiods prior to 2002 were also identified, and the Company has recorded thecumulative effect of adjustments of $1.1 million for 2001 to the openingaccumulated deficit for 2002.

 

**2.**                                      SIGNIFICANT ACCOUNTING POLICIES ANDRELATED INFORMATION

 

## **Principles ofConsolidation**

 

The consolidatedfinancial statements include the accounts of the Company and its majority-ownedsubsidiaries for which the Company exercises control.  All intercompany transactions have beeneliminated.

 

## **Use of Estimates**

 

Preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities, thedisclosed amounts of contingent assets and liabilities and the reported amountsof sales return reserve, revenues and expenses. Management believes the most significant estimates and assumptions areassociated with the valuation of intangibles, goodwill and taxes.  If the underlying estimates and assumptionsupon which the financial statements are based change in future periods, actualamounts may differ from those included in the accompanying consolidatedfinancial statements.

 

## **Financial Instruments**

 

The carrying valueof the Company’s financial instruments approximate fair value.  Financial instruments consist primarily ofcash and cash equivalents, marketable securities, accounts receivable, accountspayable and other accrued liabilities.

 

## **Cash Equivalents**

 

The Companyconsiders all investments with an original maturity to the Company of threemonths or less to be cash equivalents. These investments primarily consist of money-market accounts.

 

The amountsincluded in the consolidated financial statements approximate fair value at thebalance sheet date.  The Company maintainsdeposits in banks, which may exceed the amount of federal deposit insuranceavailable.  Management believes thepotential risk of loss on these accounts to be minimal.

 

## **Marketable Securities**

 

Managementconsiders all of its investments as available-for-sale.  Accordingly, marketable securities are statedat fair value, with unrealized gains and losses presented net of tax andreported as a separate component of stockholder’ (deficit) equity.  Realized gains and losses are recognizedusing the specific identification method. Gains are recognized when realized and are recorded in our ConsolidatedStatement of Operations in Other expense. Losses are recognized as realized or when management has determined another-than-temporary decline in fair value has occurred.

 

## **Accounts Receivable**

 

Approximately 99%of the revenue received for workshops, products and Web site subscriptions arepaid by credit cards.  Receivables fromcustomers billed for other services are reserved when collection becomesdoubtful.

 

In 2001, inconnection with the sale of two companies, the Company received notesreceivables from the buyers totaling $150,000 due in two equal installments onJune 15, 2003 and 2004.  No payment wasreceived on June 15, 2003 and 2004.  InDecember 2004, the Company settled for $85,000, which was reported as interestincome and other.

 

## **Allowance for SalesReturns**

 

Provisions forsales return reserves primarily relate to products and service arrangements andare recorded as a reduction to revenue. These provisions are made based on historical experience and changes incustomer preferences.  At December 31,

 

36

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2004, 2003 and2002 allowance for sales returns of $1.2 million, $1.1 million and $0.1 millionrespectively, are included as part of other current liabilities in theaccompanying Consolidated Balance sheets.

 

## **Inventories**

 

Inventories arestated at the lower of cost (using the first-in, first-out method) or marketvalue.  The Company’s inventories consistof manuals and DVDs that comprise the Company’s educational products.  At December 31, 2004, $1.3 million in netinventories are included as part of other current assets in the accompanyingConsolidated Balance Sheets.

 

## **Restricted Cash**

 

The Company uses merchantaccount vendors to process credit card transactions.  Under the terms of these agreements, themerchant account vendor has the right to withhold credit card funds to covercharge backs in the event the Company is unable to honor its commitments.  Such funds can be held for up to a year afterthe Company has terminated its relationship with the merchant accountvendor.  At December 31, 2004 and 2003,the Company has $1.9 million and $0.4 million, respectively, of funds due frommerchant account vendors.  During 2004,the Company entered into a merchant account agreement with a new vendor that isexpected to substantially reduce credit card processing fees.  As a result of this new agreement, restrictedcash increased $1.5 million. Additionally, the Company has $0.4 million held in an escrow accountuntil the resolution of the Company’s litigation with the Australian Securitiesand Investment Commission (ASIC), see Footnote 9, Commitments and Contingenciesfor further discussion regarding ASIC litigation.

 

## **Furniture and Equipment**

 

Furniture andequipment is stated at cost less accumulated depreciation.  Depreciation is calculated on a straight-linemethod over the estimated useful lives of the assets, which range from two tofive years.

 

Depreciation expensewas approximately $0.6 million, $0.5 million and $0.6 million for the yearsended December 31, 2004, 2003 and 2002, respectively.

 

The following is adetail of our furniture and equipment (in thousands):

 
| ** **                                       | ** ** | **2004** | ** **  | **2003** | ** ** |
|--------------------------------------------------|------------|----------|-------------|----------|------------|
| **Furniture  and equipment:**                    |       |     |        |     | ** ** |
| Computer and office  equipment                   |       | $        |  2,127 |     | $          |  1,110 | ** ** |
| Furniture                                        |       | 296      |        | 128      |       |
| Leasehold improvements                           |       | 224      |        | 85       |       |
| Total furniture and  equipment                   |       | 2,647    |        | 1,323    |       |
| Less: accumulated  depreciation and amortization |       | (1,073   | )           | (491     | )          |
| **Furniture  and equipment, net**                |       | $        | 1,574       |     | $          | 832 |   |

 

The Companycapitalizes the costs of software developed for internal use in compliance withStatement of Position, or SOP 98-1, *Accountingfor the Costs of Computer Software Developed or Obtained for Internal Use*.  No costs were capitalized in 2003 and2002.  As of December 31, 2004, therewere no costs capitalized for computer software developed for internal use (seeNote 10).  Amortization of software developedfor internal use begins when the internal use software is ready for its intendeduse, and is computed on a straight-line basis over the estimated use of theproduct.

 

## **Investments**

 

The Companyacquired the outstanding minority interest of INVESTools Asia and INVESToolsHong Kong in August 2002, and these operations were wholly owned subsequent tothis acquisition.

 

## **Goodwill and IntangibleAssets**

 

Goodwill isrelated to purchase acquisitions and is recorded apart from identifiableintangible assets.  In June 2001, the Financial Accounting Standards Board(FASB) issued Statement of Financial Accounting Standards (SFAS) No. 142, *Goodwill and Other Intangible Assets* (SFASNo. 142).

 

Upon adoption ofSFAS No. 142, amortization of existing goodwill ceased and the remaining bookvalue is tested for impairment at least annually, or more often if events orcircumstances indicate a potential impairment exists.  Provisions of SFASNo. 142 state that any impairment loss identified upon adoption of thisstandard is recognized as a cumulative effect of a change in accountingprinciple.  Any subsequent impairment loss recognized under the provisionsof SFAS

No. 142 isrecorded as a charge to current period earnings.

 

On January 1,2002, the Company adopted SFAS No. 142 and established its annual review forimpairment at December 31.

 

37

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The Companyrecognized a write-down of goodwill in the amount of $28.4 million as ofJanuary 1, 2002.  Based on the analysiscompleted at December 31, 2004, 2003 and 2002, the Company’s review indicatedno further impairment of Goodwill.

 

The followingunaudited pro forma results of operations data for the years ended December 31,2004, 2003 and 2002 are presented as if the provisions of SFAS No. 142 had beenin effect for all periods presented (amount in thousands except per shareamounts):

 
| ** **                                                | ** ** | **Years Ended December 31,** | ** ** |
|-----------------------------------------------------------|------------|------------------------------|------------|
| ** **                                                | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                | ** ** | ** **                   | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| **Net  loss as reported:**                                |       | $                            | (11,727    | ) | $ | (7,301 | ) | $ | (33,624 | ) |
| Add: cumulative effect  of change in accounting principle |       | —                       |       | — |   | (28,417 | ) |
| Adjusted net loss                                         |       | $                            | (11,727    | ) | $ | (7,301 | ) | $ | (5,207 | ) |
| ** **                                                |       |                         |       |   |   |   |   |
| **Basic  and diluted EPS:**                               |       |                         |       |   |   |   |   |
| Net loss                                                  |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.80 | ) |
| Add: cumulative effect  of change in accounting principle |       | —                       |       | — |   | (0.68 | ) |
| Adjusted net loss                                         |       | $                            | (0.26      | ) | $ | (0.17 | ) | $ | (0.12 | ) |

 

For further informationregarding goodwill and other intangible assets, refer to Note 5.

 

## **Long Lived Assets**

 

In accordance withSFAS No. 144, *Accounting for the Impairmentor Disposal of Long-Lived Assets*, long-lived assets, such asproperty, equipment and definite-lived intangibles subject to amortization, arereviewed for impairment whenever events or changes in circumstances indicatethat the carrying value of an asset may not be recoverable.  Recoverability of assets to be held and usedis measured by a comparison of the carrying amount of an asset or asset groupto estimated future undiscounted net cash flows of the related asset or groupof assets over their remaining lives.  Ifthe carrying amount of an asset exceeds its estimated future cash flows, animpairment charge is recognized for the amount by which the carrying amountexceeds the estimated fair value of the asset. Impairment of long-lived assets is assessed at the lowest levels forwhich there are identifiable cash flows that are independent of other groups ofassets.  Assets to be disposed of arereported at the lower of the carrying amount or fair value, less the estimatedcosts to sell.

 

During 2004, theCompany recognized an impairment loss of $0.5 million as a result of theCompany’s abandonment of the development of a project to enhance the Company’sinternal use software.  The Company didnot recognize any impairment of long-lived assets during the years endedDecember 31, 2003 and 2002.

 

## **Income Taxes**

 

The Company usesthe asset and liability method of accounting for income taxes.  Under the asset and liability method,deferred tax assets and liabilities are recognized for the future taxconsequences attributable to differences between the financial statement carryingamount of existing assets and liabilities and their respective tax bases, andoperating loss and tax credit carry-forwards. Deferred tax assets and liabilities are measured using enacted tax ratesexpected to apply to taxable income in the years in which those temporarydifferences are expected to be recovered or settled.  The effect on deferred tax assets andliabilities of a change in tax rates is recognized in income in the period thatincludes the enactment date.  A valuationallowance is provided when it is more likely than not that some or all of thedeferred tax assets may not be realized.

 

## **Revenue Recognition**

 

The Companyrecognizes revenue in accordance with Staff Accounting Bulletin No. 104, *Revenue Recognition* (SAB 104), and Financial AccountingStandards Board (FASB) Emerging Issues Task Force No. 00-21 *Accounting for Revenue Arrangements with Multiple Deliverables*(EITF 00-21).  Revenue is not recognizeduntil it is realized or realizable and earned. The criteria to meet this guideline are: (i) persuasive evidence of anarrangement exists, (ii) delivery has occurred or services have been rendered,(iii) the price to the buyer is fixed or determinable, and (iv) collectibilityis reasonably assured.

 

The Company sellsits products in various bundles that contain multiple deliverables that includeone-on-one coaching sessions, website subscriptions, educational workshopsalong with other products and services. In accordance EITF 00-21, sales arrangements with multiple deliverablesare divided into separate units of accounting if the deliverables in thearrangement meet the following criteria: (i) the product has value to thecustomer on a standalone basis; (ii) there is objective and reliable evidenceof the fair value of undelivered items; and (iii) delivery or performances of anyundelivered item is probable and substantially in

 

38

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the Company’s control.  The fair value of each separate element isgenerally determined by prices charged when sold separately.  In certain arrangements, the Company offersthese products bundled together at a discount. The discount is allocated pro rata to each element based on the relativefair value of each element when fair value support exists for each element inthe arrangement.  If fair value of allundelivered elements in an arrangement exists, but fair value does not existfor a delivered element, then revenue is recognized using the residualmethod.  Under the residual method, thefair value of undelivered elements is deferred and the remaining portion of thearrangement fee (after allocation of 100 percent of any discount to thedelivered item) is recognized as revenue. The Company provides some very limited rights of return in connectionwith its arrangements.  The Companyestimates its returns based on historical experience and maintains an allowancefor estimated returns, which has been reflected as an accrued liability.  Each transaction is separated into itsspecific elements and revenue from each element is recognized according to thefollowing policies:

 
| **Product**                          | ** ** | **Recognition policy**                                                         |
|--------------------------------------|------------|--------------------------------------------------------------------------------|
| Workshop                             |       | Deferred and recognized as the workshop is  provided                           |
| Home study                           |       | Recognized upon shipping to customer                                           |
| One-On-One  Coaching Sessions        |       | Deferred and recognized as sessions are  performed                             |
| Web site  subscriptions and renewals |       | Deferred and recognized on a straight-line  basis over the subscription period |

 

**Deferred Revenue**

 

Deferred revenue arises from subscriptions to thewebsites, workshops and one-on-one coaching sessions because the payments arereceived before the delivery of the service has been rendered.  Deferred revenue is recognized into revenueover the period that the services are performed or the contract periodexpires.  The Company also sellscertificates to attend workshops in the future. Revenue from these sales is deferred until the certificate is used orexpires.

 

**Stock–Based Compensation**

 

Through December 31, 2002, the Company accountedfor stock-based compensation issued to directors, officers, and employees inaccordance with the provisions of Accounting Principles Board (“APB”) OpinionNo. 25, *Accounting for Stock Issued toEmployees,* and related interpretations.  Under APB No. 25, compensation expense isrecognized if an option’s exercise price on the measurement date is below thefair market value of the Company’s common stock.  The compensation, if any, is amortized toexpense over the vesting period. However, on January 1, 2003, the Company adopted the fair valueexpense recognition method available under SFAS No. 148.  SFAS No. 148 permits recognition onprospective basis whereby any new options granted after January 1, 2003will be accounted for using the fair value of the option at the date of thegrant.  The Company has chosen to makethis estimate using the Black-Scholes option pricing model.  The value of the option is amortized ratablyinto expense over the appropriate vesting period.

 

For options granted through December 31, 2002,which were accounted for under the provisions of APBNo. 25, SFAS No.  123, *Accounting for Stock-Based Compensation,*  requires pro forma information regarding net loss as if theCompany had accounted for its stock options granted under the fair value methodprescribed by SFAS No. 123.  For purposesof the pro forma disclosures, the estimated fair value of the stock optionsgranted is amortized over the vesting periods of the respective stockoptions.  The following is the pro formadisclosure and the related impact on the net loss attributable to commonstockholders and net loss per common share for the years ended December 31,2004, 2003 and 2002 (amounts in thousands except per share amounts).

 

39

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| ** **                                                | ** ** | **Years Ended December 31,** | ** ** |
|-----------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                | ** ** | **2004**                          | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                                | ** ** | ** **                        | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| Net loss as  reported                                     |       | $                                 | (11,727    | ) | $ | (7,301 | ) | $ | (33,624 | ) |
|                                                      |       |                              |       |   |   |   |   |
| Add:  Stock-based compensation recorded, net of taxes     |       | —                            |       | — |   | — |   |
| Deduct: Pro  forma stock-based compensation, net of taxes |       | (156                              | )          | (237 | ) | (475 | ) |
|                                                      |       |                              |       |   |   |   |   |
| Pro forma  net loss                                       |       | $                                 | (11,883    | ) | $ | (7,538 | ) | $ | (34,099 | ) |
|                                                      |       |                              |       |   |   |   |   |
| Basic and  diluted loss per share – as reported      |       | $                                 | (0.26      | ) | $ | (0.17 | ) | $ | (0.80 | ) |
| Basic and diluted  loss per share – pro forma        |       | (0.26                             | )          | (0.17 | ) | (0.81 | ) |

 

The fair value of options granted were estimated usingthe Black-Scholes option pricing model with the following assumptions:

 
| ** **                                      | ** ** | **2004**        | ** ** | **2003**            | ** ** | **2002** | ** ** |
|-------------------------------------------------|------------|-----------------|------------|---------------------|------------|----------|------------|
|                                            |       |            |       |                |       |     |       |
| Risk free interest  rate factors                |       | 4.02% to  4.53% |       | 3.40% to  4.30%     |       | 3.10%    |       |
| Volatility  factors                             |       | 55% to 118%     |       | 123.02% to  157.60% |       | 145.94%  |       |
| Expected  lives                                 |       | 7 years         |       | 7 to 10  years      |       | 5 years  |       |
| Assumed  dividend yield                         |       | —          |       | —              |       | —   |       |
| Weighted  average fair value of options granted |       | $1.95           |       | $0.24               |       | $0.16    |       |

 

**Advertising Costs**

 

The Company expenses the production costs ofadvertising the first time the advertising takes place.  Advertising costs are included in sellingexpenses.  Advertising costs for theyears ended December 31, 2004, 2003 and 2002 were $15.8 million, $10.0million, and $8.9 million, respectively.

 

**Loss Per Share**

 

Basic net loss per share is computed by dividing thenet loss (numerator) by the weighted average number of shares of common stockoutstanding (denominator) during the periods. Diluted net loss per share gives effect to common share equivalentsconsidered to be potential common shares, if dilutive, computed using thetreasury stock method.  At December 31,2004, 2003 and 2002, there were approximately 3.3 million, 3.8 million, and 4.4million shares, respectively, of common stock potentially issuable with respectto stock options, which were excluded from the net loss per share calculationbecause the shares were not dilutive.

 

**Recently Issued Accounting Standards**

 

In December 2004, the FASB issued SFAS No. 123R, *Share-Based Payment*.  SFAS No. 123R is a revision of SFAS No. 123,Accounting for Stock-Based Compensation. SFAS No. 123R supersedes APB Opinion No. 25, *Accounting for Stock Issued to Employees*, and its relatedimplementation guidance.  SFAS No. 123Restablishes standards for the accounting for transactions in which an entityexchanges its equity instruments for goods or services.  It also addresses transactions in which anentity incurs liabilities in exchange for goods or services that are based onthe fair value of the entity’s equity instruments or that may be settled by theissuance of those equity instruments. SFAS No. 123R focuses primarily on accounting for transactions in whichan entity obtains employee services in share-based payment transactions.  SFAS No. 123R requires that the costresulting from all share-based payment transactions be recognized in thefinancial statements.  It also establishesfair value as the measurement objective in accounting for share-based paymentarrangements and requires all entities to apply a fair-value-based measurementmethod in accounting for share-based payment transactions with employees.  The provisions of this statement areeffective for interim or annual periods beginning after June 15,2005.  Accordingly, the Company is stillassessing the impact, if any, SFAS****No. 123R willhave on the Company’s financial statements.

 

In November 2004, the FASB issued SFAS No. 151, *Inventory Costs*, an amendment of ARB No.43, Chapter 4, which would be effective for inventory costs incurred duringfiscal years beginning after June 15, 2005.  The amendments made by SFAS No. 151 willimprove financial reporting by clarifying that abnormalamounts of idle facility expense, freight, handling costs, and wastedmaterials (spoilage) should be recognized as current-period charges and byrequiring the allocation of fixed production overheads to inventory based onthe normal capacity of the production facilities.  Accordingly, the Company is still assessing

 

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the impact, if any, SFAS No. 151will have on the Company’s financial statements.

 

In December 2004, the FASB issued SFAS No. 153, *Exchanges of Nonmonetary Assets*, anamendment of APB Opinion No. 29.  Theamendments made by SFAS No. 153 are based on the principle that exchanges ofnonmonetary assets should be measured based on the fair value of the assetsexchanged.  The amendment also eliminatesthe narrow exception for nonmonetary exchanges of similar productive assets andreplaces it with a broader exception for exchanges of nonmonetary assets thatdo not have commercial substance.  Theprovisions of SFAS No. 153 are effective for nonmonetary asset exchanges occurringin fiscal periods beginning after June 15, 2005.  The Company is still assessing the impact, ifany, SFAS No. 153 will have on the Company’s financialstatements.

 

**Reclassifications**

 

Certain prior years’ balances have been reclassifiedto conform to the current year’s presentation.

 

**3.**                                      RESTATEMENT

 

The Company’s previously issued consolidated balancesheets, consolidated statements of operations, comprehensive loss, stockholders’(deficit)/equity and cash flows for the years ended December 31, 2003 and December 31,2002, and the first three fiscal quarters of 2004 have been restated to correctcertain accounting errors.

 

The aggregate effect of the restatement increasedpreviously reported net loss available to common shareholders for the yearsended December 31, 2003 and December 31, 2002 by $5.8 million and $3.8million, respectively.  Of the $5.8million increase $3.6 million, $1.9 million, and $0.1 million were a result ofrevenue recognition issues, the recording of a liability for sales taxexposure, and the loss on sub-lease, respectively which have been describedbelow.  Of the $3.8 million increase $2.2million and $1.6 million, were a result of revenue recognition issues and therecording of a liability for sales tax exposure, respectively which have beendescribed below.  The aggregate effect ofthe restatement increased previously reported basic and diluted loss per sharefor the years ended December 31, 2003 and December 31, 2002 by $0.14and $0.09, respectively.

 

Errors in previously issued financial statements wereidentified in the following three areas:

 

*Timing ofRevenue Recognition*

 

•                  The Company recognized a full monthof subscription revenue in the month of sale, which, on an overall basis,caused improper acceleration of revenue in the month of sale;

•                  Website subscribers had been allowedto defer the commencement of their subscription period while subscriptionrevenue had been accounted for commencing in the month of sale;

•                  Certain subscription renewals bystudents that still had remaining Web time were recognized ahead of the renewalperiod start date;

•                  The Company recognized one-on-onecoaching sessions over an estimated time period of performance which wassignificantly different from when the coaching sessions were actuallyconducted.  Accordingly, revenue was inappropriatelyaccelerated;

•                  A sales return reserve wasestablished for anticipated product returns, based on historical returnpercentages.  Historically, the Companyfailed to establish a reserve for sales returns.

 

*Recordingof Liability for Sales Tax Exposure*

 

The Company recorded liabilities for potential salestaxes related to sales in various states. The effect of recording the potential sales tax liability on the Company’spreviously reported financial statements is to record an accrued liability forthe potential sales tax exposure with a corresponding increase to sellingexpense.

 

*Loss onSub-Lease*

 

During 2003, the Company moved its operations into alarger facility.  The Company hadsubleased the abandoned facility to a third party for the duration of theCompany’s contractual lease period.  Thesublease payments for the abandoned facility were lessthan the Company’s contractually obligated lease payments.  As a result, the Company recorded theobligation in excess of the sublease amount at the time the facility wasabandoned.  The effect of recording theexcess lease obligation on the Company’s previously reported financialstatements is to record an accrued liability for the excess lease obligationwith a corresponding increase to general and administrative expense.

 

41

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**Restated Financial Statements**

 
| ** **                                                               | ** ** | **Year Ended December 31,  2003**     | ** ** | **Year Ended December 31,  2002** | ** ** |
|--------------------------------------------------------------------------|------------|--------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                               | ** ** | **As  Restated**                           | ** ** | **As  Reported**                       | ** ** | **As  Restated** | ** ** | **As  Reported** | ** ** |
| ** **                                                               | ** ** | **(in thousands, except per share  date)** | ** ** |
|                                                                     |       |                                       |       |                                   |       |   |   |   |   |   |   |   |   |
| Revenue                                                                  |       | $                                          | 69,802     |                                   | $          | 73,420 |   | $ | 53,923 |   | $ | 56,142 |   |
| Selling  expense                                                         |       | 19,926                                     |       | 17,981                                 |       | 14,143 |   | 12,611 |   |
| General and administrative  expense                                      |       | 12,783                                     |       | 13,181                                 |       | 14,154 |   | 14,154 |   |
| Net loss  from operations                                                |       | (5,849                                     | )          | (48                                    | )          | (5,340 | ) | (1,589 | ) |
| Net loss  before income taxes and cumulative effect of accounting change |       | (5,771                                     | )          | 30                                     |       | (5,401 | ) | (1,650 | ) |
| Net loss  before cumulative effect of accounting change                  |       | (7,301                                     | )          | (1,500                                 | )          | (5,207 | ) | (1,456 | ) |
| Net Loss                                                                 |       | (7,301                                     | )          | (1,500                                 | )          | (33,624 | ) | (29,873 | ) |
| Net loss  attributable to common shareholders                            |       | $                                          | (7,301     | )                                      | $          | (1,500 | ) | $ | (33,669 | ) | $ | (29,918 | ) |
| Net loss per  common share–basic and diluted:                       |       |                                       |       |                                   |       |   |   |   |   |
| Net Loss before  cumulative effect of accounting change                  |       | $                                          | (0.17      | )                                      | $          | (0.03 | ) | $ | (0.12 | ) | $ | (0.03 | ) |
| Net loss from  effect of accounting change                               |       | —                                     |       | —                                 |       | (0.68 | ) | (0.68 | ) |
| Cumulative  effect of accounting change                                  |       | $                                          | (0.17      | )                                      | $          | (0.03 | ) | $ | (0.80 | ) | $ | (0.71 | ) |
| Comprehensive  Loss                                                      |       | $                                          | (7,303     | )                                      | $          | (1,502 | ) | $ | (33,624 | ) | $ | (29,873 | ) |

 
| ** **                                   | ** ** | **Year Ended December 31,  2003** | ** ** |
|----------------------------------------------|------------|----------------------------------------|------------|
| ** **                                   | ** ** | **As  Restated**                       | ** ** | **As  Reported** | ** ** |
|                                         |       |                                   |       |   |   |
| Deferred  Revenue                            |       | $                                      | 14,044     |   | $ | 8,622 |   |
| Accrued tax  liability                       |       | 4,038                                  |       | 561 |   |
| Other  current liabilities                   |       | 1,711                                  |       | 566 |   |
| Total  current liabilities                   |       | 22,728                                 |       | 12,684 |   |
| Other  long-term liabilities                 |       | 163                                    |       | — |   |
| Long-term  portion of deferred revenue       |       | 476                                    |       | — |   |
| Total  liabilities                           |       | 23,367                                 |       | 12,684 |   |
| Accumulated  deficit                         |       | (124,021                               | )          | (113,338 | ) |
| Total  stockholders’ equity             |       | 3,184                                  |       | 13,867 |   |
| Total liabilities  stockholders’ equity |       | $                                      | 26,551     |   | $ | 26,551 |   |

 

Certain adjustments impacting the Company’sconsolidated financial statements for periods prior to 2002 were alsoidentified, and the Company has recorded the cumulative effect of adjustmentsof $1.1 million for 2001 to opening accumulated deficit for 2002.  The $1.1 million adjustment to opening accumulateddeficit resulted from errors related to timing of revenue recognition asdescribed in the paragraphs above.

 

42

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There was no net effect due to the errors discoveredon cash provided by operations, cash (used in) investing activities, cash (usedin) financing activities in our previously issued consolidated statements ofcash flow in the years ended December 31, 2003 and December 31, 2002.

 

**4.**                                      MARKETABLE SECURITIES

 

During 2003, the Company started investing excess cashin short-term marketable securities consisting of primarily government backedsecurities with maturities ranging from one month to three years.  The Company determines realized gains andlosses on a specific identification basis. The realized gains and losses are included in interest income and other,net, in the accompanying Consolidated Statements of Operations.  No security has been in a continuousunrealized loss position for twelve or more months.

 

The following table summarizes unrealized gains andlosses on the Company’s investments in marketable securities based on quotedmarket prices as of December 31, 2004 and 2003:

 
| ** **                    | ** ** | **As of December 31, 2004** | ** ** | **As of December 31, 2003** | ** ** |
|-------------------------------|------------|----------------------------------|------------|----------------------------------|------------|
| ** **                    | ** ** | **Amortized  Cost**              | ** ** | **Gross  Unrealized  Losses**    | ** ** | **Gross  Unrealized  Gains** | ** ** | **Estimated  Fair Value** | ** ** | **Amortized  Cost** | ** ** | **Gross  Unrealized  Losses** | ** ** | **Gross  Unrealized  Gains** | ** ** | **Estimated  Fair Value** | ** ** |
| Government backed  securities |       | $                                | 13,870     |                             | $          | (33 | ) | $ | 3 |   | $ | 13,840 |   | $ | 7,810 |   | $ | (5 | ) | $ | 3 |   | $ | 7,808 |   |
| Total                         |       | $                                | 13,870     |                             | $          | (33 | ) | $ | 3 |   | $ | 13,840 |   | $ | 7,810 |   | $ | (5 | ) | $ | 3 |   | $ | 7,808 |   |

 

The following table summarizes contractual maturitiesof the Company’s investments in marketable securities as of December 31,2004:

 
| ** **                              | ** ** | **Amortized  Cost** | ** ** | **Estimated  Fair Value** | ** ** |
|-----------------------------------------|------------|---------------------|------------|---------------------------|------------|
| ** **                              | ** ** | **(in thousands)**  | ** ** |
| Due within  one year                    |       | $                   | 7,716      |                      | $          | 7,698 |   |
| Due after  one year through three years |       | 6,154               |       | 6,142                     |       |
|                                         |            |                     |            |                           |            |  |  |

 

**5.**                                      ACQUISITIONS

 

On February 26, 2004, the Company acquiredService Enhancement Systems, Inc., a privately held California corporationoperating under the assumed name 360 Group (360 Group).  360 Group was a direct marketing company thatprovided services such as custom database development and management, strategicplanning, media and list planning and buying, creative and production services,response management, and analytic services. The Company acquired 360 Group to internalize its marketing departmentand does not intend to continue to provide services to third parties.  At closing, the sellers received a cashpayment of $875,000 and 830,000 shares of the Company’s common stock valued at$1,875,000.  In addition, the Companyincurred $669,000 of costs related to the acquisition, of which $226,000 were paid with 100,000 shares of the Company’s commonstock.  During the three months ended June 30,2004, the sellers received an additional cash payment of $213,000 based on anet working capital adjustment provided for in the merger agreement recorded asadditional purchase price resulting in an increase to goodwill.  Pursuant to the merger agreement, in October 2004,the sellers received an additional cash payment of $438,000 and 415,000 sharesof common stock valued at $842,000 based on 360 Group achieving revenue targetsduring the three months ended September 30**,**2004.  The consideration paid in October of2004 was recorded as additional purchase price.

 

The following table summarizes the purchase price for360 Group and includes the payments for the working capital adjustment and earnout discussed above:

 
| ** **                               | ** ** | **(in thousands)** | ** ** |
|------------------------------------------|------------|--------------------|------------|
| Value of  common stock issued to sellers |       | $                  | 2,717      |   |
| Cash paid to  sellers                    |       | 1,525              |       |
| Transaction  costs                       |       | 669                |       |
|                                     |       |               |       |
| Total  purchase price                    |       | $                  | 4,911      |   |

 

In addition to the merger consideration in the tableabove, the Company will be obligated to pay up to an aggregate of 415,000shares of its common stock and approximately $438,000 in cash as additionalmerger consideration in the form of earn out

 

43

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payments if certain futurerevenue targets are achieved in 2005.

 

The following table summarizes the allocation of thepurchase price for 360 Group and the estimated amortization period for theacquired intangibles:

 
| ** **                                               | ** ** | **(in thousands)** | ** ** |
|----------------------------------------------------------|------------|--------------------|------------|
| Current  assets                                          |       | $                  | 2,003      |   |
| Furniture,  fixtures and equipment                       |       | 487                |       |
| Acquired  intangibles:                                   |       |               |       |
| Developed  technology/database infrastructure (16 years) |       | 1,600              |       |
| Non  competition agreement (2 years)                     |       | 500                |       |
| Goodwill                                                 |       | 2,357              |       |
| Assets  acquired                                         |       | 6,947              |       |
| Liabilities,  including notes payable - assumed          |       | $                  | 2,036      |   |
|                                                     |       |               |       |   |
| Net assets  acquired                                     |       | $                  | 4,911      |   |

 

The following unaudited pro forma results ofoperations for the years ended December 31, 2004 and 2003 assumes thepurchase of 360 Group occurred on January 1, 2003, after giving effect ofcertain adjustments, including, but not limited to, amortization of intangibleassets, tax adjustments and assumes the purchase price has been allocated tothe assets purchased and the liabilities assumed based on their values at thedate of purchase.  The foregoingunaudited pro forma results of operations are presented for illustrativepurposes only and are not necessarily indicative of the operating results thatwould have occurred if the transaction had been consummated at the datesindicated.  Furthermore, such unauditedpro forma results of operations are not necessarily indicative of futureoperating results of the combined companies due to changes in operatingactivities following the purchase, and should not be construed asrepresentative of the operating results of the combined companies for anyfuture dates or periods.  Pro forma netloss includes amortization of the intangible assets.

 

 
| **(in thousands, except per share data)** | ** ** | **2004**   | ** ** | **2003**     | ** ** |
|-------------------------------------------|------------|------------|------------|--------------|------------|
| ** **                                | ** ** | ** ** | ** ** | **Restated** | ** ** |
| Revenue                                   |       | $          | 97,925     |         | $          | 74,164 |   |
| Net loss                                  |       | (11,401    | )          | (2,698       | )          |
| Basic and  diluted net loss per share     |       | $          | (0.25      | )            | $          | (0.06 | ) |

 

Effective October 19, 2004, the Company enteredinto a separation agreement and general release effective as of October 13,2004, with Scott K. Waltz, the former Senior Vice President and Chief MarketingOfficer of the Company.  At the time ofacquisition, Mr. Waltz entered into a 3-year employment agreement with theCompany.  Mr. Waltz’s non-competeagreement did not go into effect until the expiration of that employmentagreement or his termination of employment with the Company.  As a result of Mr. Waltz’s termination, theCompany reduced the estimated useful life associated with the non-competeagreement from five years to two years, the remaining contractual life of theagreement, as of the termination date.

 

**2002 Acquisition**

 

In August 2002, the Company terminated the jointventure agreement with Messrs. Hon Leong Chong and Eric Tan and purchased their25% interest in INVESTools Asia and their ownership of INVESTools Hong Kong, adevelopment stage entity, formed in 2001 (see discussion later in this Note).  In consideration for selling their interestin the INVESTools Asia and INVESTools Hong Kong companies, the Companyreimbursed Messrs. Chong and Tan for their original capital contribution toINVESTools Asia equal to a total of approximately $14,000 and issued a total of70,000 shares of the Company’s common stock to them.  Messrs. Chong and Tan remained employed bythe Company as directors of the Asia and Hong Kong companies.

 

In May 2003, the Company closed the offices in Asiaand terminated the contracts with Messrs. Chong and Tan.  The INVESTools Asia customers continue to beserviced out of the Provo office.

 

**6.**                                      GOODWILL AND INTANGIBLE ASSETS

 

The Company has goodwill related to threeacquisitions; the acquisition of OIA in 1999, the acquisition of Telescan in2001 and the acquisition of 360 Group in 2004. In accordance with SFAS No. 142, goodwill is no longer amortized, buttested for impairment annually.  Inconnection with the preparation of the financial statements as of December 31,2004, 2003 and 2002, the Company compared the carrying value of the goodwill tothe fair value of the reporting units and determined that no additionalimpairment was warranted.

 

44

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The impairment testing is performed in two steps: (i)the determination of impairment, based upon the fair value of a reporting unitas compared to its carrying value, and (ii) if there is animpairment, measure the amount of impairment loss by comparing theimplied fair value of goodwill with the carrying amount of that goodwill.

 

The changes in the carrying amount of goodwill for theyear ended December 31, 2004 were as follows:

 

 
| ** **                                 | ** ** | **(in thousands)** | ** ** |
|--------------------------------------------|------------|--------------------|------------|
| Balance as  of December 31, 2003      |       | $                  | 11,958     |   |
| Additions  due to acquisition of 360 Group |       | 2,357              |       |
| Balance as  of December 31, 2004      |       | $                  | 14,315     |   |

** **

**Acquired Intangibles**

 

Acquired intangibles with finite lives as of December 31,2004 and 2003 were as follows:

 
| ** **                     | ** ** | **As of December 31, 2004** | ** ** | **As of December 31, 2003** | ** ** |
|--------------------------------|------------|----------------------------------|------------|----------------------------------|------------|
| ** **                     | ** ** | **Gross  Carrying  Amount**      | ** ** | **Accumulated  Amortization**    | ** ** | **Weighted  Average  Remaining  Useful Life** | ** ** | **Gross  Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Weighted  Average  Remaining  Useful Life** | ** ** |
| ** **                     | ** ** | **(in thousands)**               | ** ** | ** **                       | ** ** | **(in thousands)** | ** ** | ** ** | ** ** |
| Existing  technology and other |       | $                                | 2,160      |                             | $          | (394 | ) | 13.2 years |   | $ | 560 |   | $ | (161 | ) | 6.2 years |   |
| Non competition                |       | 500                              |       | (114                             | )          | 1.75 years |   | — |   | — |   |   |   |
| Total acquired  intangibles    |       | $                                | 2,660      |                             | $          | (508 | ) | 11.1 years |   | $ | 560 |   | $ | (161 | ) | 6.2 years |   |

 

 

Amortization expense was $347,000, $81,000 and $75,000for the years ended December 31, 2004, 2003, and 2002, respectively.

 

Estimated future amortization expense is as follows:

 
| 2005                                  |   | $     | 524    |   |
|---------------------------------------|--------|-------|--------|--------|
| 2006                                  |   | 311   |   |
| 2007                                  |   | 100   |   |
| 2008                                  |   | 100   |   |
| 2009                                  |   | 100   |   |
| Thereafter                            |   | 1,017 |   |
| Total  estimated amortization expense |   | $     | 2,152  |   |

 

**7.**                                      INCOME TAXES

 

The provision for income taxes consists of thefollowing (in thousands):

 
| ** **                          | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------|------------|-----------------------------------|------------|
| ** **                          | ** ** | **2004**                          | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                          | ** ** | ** **                        | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| **Current:**                        |       |                              |       |   |   |   |   |
| Federal                             |       | $                                 | —     |   | $ | (1,198 | ) | $ | (2,391 | ) |
| State                               |       | 8                                 |       | (102 | ) | 161 |   |
| **Deferred:**                       |       |                              |       |   |   |   |   |
| Federal                             |       | —                            |       | 2,467 |   | 2,385 |   |
| State                               |       | —                            |       | 363 |   | (349 | ) |
| Total income  tax expense (benefit) |       | $                                 | 8          |   | $ | 1,530 |   | $ | (194 | ) |

 

45

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The following table reconciles the differences betweenthe statutory Federal income tax rate at 34% and the effective tax rate for continuingoperations (in thousands):

 
| ** **                                             | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                             | ** ** | **2004**                          | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                             | ** ** | ** **                        | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| Federal  statutory rate                                |       | $                                 | (3,984     | ) | $ | (1,962 | ) | $ | (1,836 | ) |
| State income  taxes, net of Federal income tax benefit |       | 5                                 |       | (67 | ) | 106 |   |
| Expenses not  deductible for tax purposes              |       | 162                               |       | 65 |   | (30 | ) |
| Utilization  of net operating loss                     |       | —                            |       | 2,186 |   | — |   |
| Change in  valuation allowance                         |       | 3,906                             |       | 2,541 |   | 2,990 |   |
| Change in  deferred tax rate                           |       | —                            |       | — |   | (826 | ) |
| Federal/State  tax refund recognition                  |       | —                            |       | (1,198 | ) | — |   |
| Other                                                  |       | (81                               | )          | (35 | ) | (598 | ) |
| Total income  tax expense (benefit)                    |       | $                                 | 8          |   | $ | 1,530 |   | $ | (194 | ) |

 

The tax effects of temporary differences that giverise to significant portions of the Federal and State deferred tax assets arecomprised of the following (in thousands):

 
| ** **                        | ** ** | **Years Ended December 31,** | ** ** |
|-----------------------------------|------------|-----------------------------------|------------|
| ** **                        | ** ** | **2004**                          | ** ** | **2003** | ** ** |
| ** **                        | ** ** | ** **                        | ** ** | **Restated** | ** ** |
| **Deferred  tax assets:**         |       |                              |       |   |   |
| Allowance  for bad debts          |       | $                                 | 3          |   | $ | 77 |   |
| Accrued  liabilities              |       | 685                               |       | 389 |   |
| Deferred  revenue                 |       | 3,284                             |       | 186 |   |
| Inventory  reserve                |       | 19                                |       | — |   |
| Book/tax  depreciation            |       | —                            |       | 154 |   |
| Sales tax  reserve                |       | 1,753                             |       | 1,356 |   |
| Net  operating loss carry forward |       | 6,501                             |       | 5,476 |   |
| Gross  deferred tax assets        |       | 12,245                            |       | 7,638 |   |
| Valuation  allowance              |       | (11,390                           | )          | (7,638 | ) |
|                              |       |                              |       |   |   |
| Net deferred  tax assets          |       | $                                 | 855        |   | $ | — |   |
|                              |       |                              |       |   |   |
| **Deferred  Tax Liabilities:**    |       |                              |       |   |   |
| Prepaid  assets                   |       | $                                 | 95         |   | $ | — |   |
| Book/Tax  depreciation            |       | 6                                 |       | — |   |
| Section 197  Intangibles     |       | 754                               |       | — |   |
| Gross  deferred tax liabilities   |       | $                                 | 855        |   | $ | — |   |
|                              |       |                              |       |   |   |   |   |
| Net deferred  tax asset           |       | $                                 | —     |   | $ | — |   |

 

At December 31, 2004, the Company had availableapproximately $16.7 million of net operating loss carry forwards for Federalincome tax purposes.  This carry forward, which may provide future taxbenefits, begins to expire in 2021.  Additionally, U.S. Federal income taxlaw limits a corporation’s ability to utilize net operating losses if itexperiences an ownership change of greater than 50% over a three-year period.  As a result of this limitation the netoperating loss currently available for use is $9.3 million.

 

In assessing the realizability of deferred tax assetsat December 31, 2004, the Company considered whether it was more likelythan not that some portion or all of the deferred tax assets would not berealized.  The ultimate realization of deferred tax assets is dependentupon the generation of future taxable income during the periods in which thosetemporary differences become deductible.  The Company considers thescheduled reversal of deferred tax liabilities, projected future taxable incomeand tax planning strategies in making this assessment.  Based on availableinformation, management does not believe it is more likely than not that isdeferred tax assets will be utilized.  Accordingly, the Company hasestablished a valuation allowance equal to the net deferred tax assets.

 

46

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The valuation allowance increased by $3.8 million, $1.9million, and $3.4 million during 2004, 2003 and 2002, respectively.  Subsequently recognized tax benefits relatingto the valuation allowance for deferred tax assets as of December 31, 2004will be allocated as follows:

 
| Income tax benefit that would be reported  in the consolidated statement of earnings |   | $     | 8,359  |   |
|--------------------------------------------------------------------------------------|--------|-------|--------|--------|
| Goodwill and  other non current intangible assets                                    |   | 3,011 |   |
| Additional  paid-in capital                                                          |   | 20    |   |
| Total                                                                                |   | $     | 11,390 |   |

 

**8.**                                      STATEMENT OF CASH FLOWS

 

The supplemental cash flow information for December 31,2004, 2003 and 2002 is as follows:

 
| ** **                                                | ** ** | **2004**           | ** ** | **2003**     | ** ** | **2002**     | ** ** |
|-----------------------------------------------------------|------------|--------------------|------------|--------------|------------|--------------|------------|
| ** **                                                | ** ** | ** **         | ** ** | **Restated** | ** ** | **Restated** | ** ** |
| ** **                                                | ** ** | **(in thousands)** | ** ** |
| Cash paid  during the year for:                           |       |               |       |         |       |         |       |
| Interest                                                  |       | $                  |  8    |         | $          |  3      |       | $ |  3 |   |
| Income taxes                                              |       | $                  | 3          |         | $          | 218          |       | $ | — |   |
| Non-cash  investing and financing activities:             |       |               |       |         |       |         |       |
| Common stock  issued for acquisitions                     |       | $                  | 2,943      |         | $          | —       |       | $ | — |   |
| Deferred  stock compensation resulting from option grants |       | $                  | 992        |         | $          | 262          |       | $ | 162 |   |
| Conversion  of preferred stock                            |       | $                  | —     |         | $          | —       |       | $ | 75 |   |
| Mark to  market on marketable securities                  |       | $                  | (30        | )            | $          | (2           | )          | $ | — |   |
| Write off of  accounts receivable                         |       | $                  | 193        |         | $          | 95           |       | $ | 30 |   |

 

**9.**                                      COMMITMENTS AND CONTINGENCIES

 

**Commitments**

 

*OperatingLeases*

 

Equipment and facilities are leased under variousoperating leases expiring at various dates through the year 2010.  Certain of these leases contain renewaloptions.  Rent expense was $1.0 millionfor 2004, $0.9 million for 2003, and $1.1 million for 2002.

 

At December 31, 2004, future minimum leasepayments under non-cancelable operating leases were as follows:

 
| ** **             | ** ** | **Operating  Leases** | ** ** | **Sub-lease  Income** | ** ** | **Net  Operating  Leases** | ** ** |
|------------------------|------------|-----------------------|------------|-----------------------|------------|----------------------------|------------|
| ** **             | ** ** | ** **            | ** ** | **(in thousands)**    | ** ** | ** **                 | ** ** |
| For the  fiscal years: |       |                  |       |                  |       |                       |       |
| 2005                   |       | $                     | 853        |                  | $          | (71                        | )          | $ | 782 |   |
| 2006                   |       | 925                   |       | (71                   | )          | 854                        |       |
| 2007                   |       | 909                   |       | —                |       | 909                        |       |
| 2008                   |       | 784                   |       | —                |       | 784                        |       |
| 2009                   |       | 736                   |       | —                |       | 736                        |       |
| 2010 and  after        |       | 498                   |       | —                |       | 498                        |       |
| Total lease  payments  |       | $                     | 4,705      |                  | $          | (142                       | )          | $ | 4,563 |   |

 

47

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**Contingencies**

 

From time to time the Company is involved in certainlegal actions arising in the ordinary course of business.  It is the opinion of management that suchlitigation will be resolved without a material adverse effect on the Company’sfinancial position or results of operations.

 

On July 9, 2004, the Australian Securities andInvestment Commission (ASIC) filed a lawsuit against Online InvestorsAdvantage, a wholly-owned subsidiary of the Company (OIA) and Phillip Town, aworkshop presenter on behalf of OIA (Town). The lawsuit, filed in the Supreme Court of Queensland, alleges that (i)OIA failed to provide a financial services guide or other information toattendees at seminars held in Brisbane and Melbourne in July 2004, asotherwise required under the Australian Corporations Act; (ii) failed to provideto the attendees of the Brisbane seminar a warning regarding the provision ofgeneral financial advice that was required to be given under the CorporationsAct; (iii) engaged in misleading or deceptive conduct at the Brisbane andMelbourne seminars, regarding certain oral representations made by thepresenter at the seminars (on behalf of OIA) and regarding certain writtenrepresentations appearing in the registration form for workshops conducted onbehalf of Online; and (iv) carried on a financial services business, as definedin the Corporations Act, without the required Australian license.  ASIC sought a temporary injunctionprohibiting OIA from holding any workshops while the lawsuit is pending.  The court did not grant the injunction butdid order OIA to place $0.4 million into escrow for all revenues received fromits workshops while the lawsuit is pending. These amounts are included in current portion of restricted cash in theaccompanying Consolidated Balance Sheets. ASIC sought to stop OIA from delivering the workshop and to refund toparticipants the fees paid for the workshop. In addition, if the court finds in favor of ASIC, the Company could beassessed penalties.  A trial of theproceedings was heard on September 6-8, 2004 in the Supreme Court ofQueensland.  At trial, ASIC abandoned twoof its allegations that OIA had engaged in misleading and deceptiveconduct.  At the conclusion of the trialthe court reserved its decision.  TheCompany anticipates the court’s judgment at any time.  The Company believes that it has gooddefenses to the alleged claims and intends to continue to vigorously defendagainst this lawsuit.  At this time it isnot possible to determine the amount of penalties that may be assessed, ifany.  Furthermore, the Company believesthat it is not probable that it will have to pay any significant amounts as aresult of this proceeding.

 

On March 4, 2003, a foreign national filed acomplaint in the San Diego Superior Court against ZiaSun Technologies, Inc., awholly-owned subsidiary of the Company (ZiaSun).  The complaint alleges that certainindividuals, who are not parties in the lawsuit, persuaded the plaintiff topurchase shares of ZiaSun common stock and the complaint also alleges a failureto deliver a stock certificate.  ZiaSundoes not have any ownership or control of the third party brokerage house fromwhom plaintiff claims to have purchased stock. The plaintiff was seeking unspecified damages for the alleged fraud inthe sale of the stock.  On February 9,2005, the court awarded a summary judgment in favor of the Company.

 

In December 2004, a vendor of the Company suedfor collection of a disputed accounts receivable.  The Company is in discussions with the vendorregarding a resolution of the claim.  TheCompany believes that this will be resolved without material adverse effect onthe Company.

 

The Company establishes contingent liabilities when aparticular contingency is both probable and estimable.  For the contingencies noted above the Companyhas accrued amounts considered probable and estimable.  The Company is not aware of pending claims orassessments, other than as described above, which may have a material adverseimpact on the Company’s financial position or results of operation.

 

**10.**                               SPECIAL CHARGES

 

Special charges consisted of the following (inthousands):

 
| ** **                           | ** ** | **Years Ended December 31,** | ** ** |
|--------------------------------------|------------|-----------------------------------|------------|
| ** **                           | ** ** | **2004**                          | ** ** | **2003** | ** ** | **2002** | ** ** |
| Severance  Costs                     |       | $                                 | 597        |   | $ | 673 |   | $ | — |   |
| Impairment  of internal use software |       | 487                               |       | — |   | — |   |
| Total                                |       | $                                 | 1,084      |   | $ | 673 |   | $ | — |   |

 

The Company has recorded severance costs associatedwith involuntary termination of 19 and 16 employees for the years ended December 31,2004 and 2003, respectively.

 

The Company capitalized $0.5 million related to aproject to enhance the Company’s internal use software in 2004.  At December 31, 2004, the Companyabandoned the project to enhance the Company’s internal use software and the$0.5 million was written-off and recorded as part of General and Administrativeexpense in the accompanying Consolidated Statements of 

 

48

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Operations.

 

The following table presents the activity associatedwith severance costs (in thousands):

 
| ** **              | ** ** | **Balance at   December 31,  2003** | ** ** | **Severance   costs** | ** ** | **Severance   benefits paid** | ** ** | **Balance at   December 31,  2004** | ** ** |
|-------------------------|------------|------------------------------------------|------------|-----------------------|------------|-------------------------------|------------|------------------------------------------|------------|
| Remaining  2003 accrual |       | $                                        | 324        |                  | $          | —                        |       | $                                        | 324        |   | $ | — |   |
| 2004  severance costs   |       | —                                   |       | 597                   |       | 478                           |       | 119                                      |       |
|                    |       | $                                        | 324        |                  | $          | 597                           |       | $                                        | 802        |   | $ | 119 |   |

 

**11.****                               STOCKHOL****DERS****’ EQUITY**

 

**Classes of Capital Stock**

 

The Company has two classes of capital stock:convertible preferred stock and common stock. The Company is authorized to issue up to 60 million shares of commonstock with a par value of $.01 per share and 1 million shares of convertiblepreferred stock with a par value of $.01 per share.

 

**12.****                               STOCKP****LAN****S**

 

**Employee Stock Option Plans**

 

The Company’s purpose of granting stock options is toattract, retain, motivate and reward officers, directors and employees of theCompany.

 

*Descriptionof Plans*

 

INVESTools 2001 Stock Option Plan

 

This plan is the only plan out of which the Company can grant optionsat this time.  The Company has reserved 6million shares for grant under this plan, which was approved by stockholders inDecember 2001, for issuance to officers, directors and employees.  Incentive options are granted at fair marketvalue of the Company’s common stock at the date of grant, as determined by theBoard of Directors, and generally expire ten years from the date of grant.  At December 31, 2004, there are3,135,375 shares available for grant under this plan.

 

Telescan Stock Option Plans

 

The Company reserved 427,456 shares of its common stock for issuanceunder three stock option plans for the employees and former directors ofTelescan.  No new options are beinggranted under these plans.  Optionsgranted under these plans were granted at fair market value at the date ofgrant and generally expire ten years from the date of grant.  At December 31, 2004, there are 355,317shares available for exercise under this plan.

 

ZiaSun Stock Option Plans

 

The Company reserved 1,296,600 shares of its common stock for issuanceunder one stock option plan for the officers, employees and former directors ofZiaSun.  No new options are being grantedunder this plan.  Options granted underthis plan were granted at fair market value at the date of grant and generallyexpire ten years from the date of grant. At December 31, 2004, there are 266,150 shares available forexercise under this plan.

 

49

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*EmployeeStock Option Plan Activity*

 

The following is a summary of option activity underthese plans:

 
| ** **                                                      | ** ** | **2004**   | ** ** | **2003**                               | ** ** | **2002**   | ** ** |
|-----------------------------------------------------------------|------------|------------|------------|----------------------------------------|------------|------------|------------|
| ** **                                                      | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| ** **                                                      | ** ** | ** ** | ** ** | ** **                             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Outstanding  at beginning of year                               |       | 3,779,359  |       | $                                      | 1.47       |       | 4,387,195  |   | $ | 1.57 |   | 4,070,296 |   | $ | 2.28 |   |
| Granted                                                         |       | 607,000    |       | $                                      | 2.27       |       | 1,029,500  |   | $ | 0.29 |   | 600,000 |   | $ | 0.18 |   |
| Cancelled                                                       |       | (592,198   | )          | $                                      | 2.04       |       | (1,555,836 | ) | $ | 0.99 |   | (283,101 | ) | $ | 8.85 |   |
| Exercised                                                       |       | (489,693   | )          | $                                      | 0.67       |       | (81,500    | ) | $ | 0.67 |   | — |   | $ | — |   |
|                                                            |       |       |       |                                   |       |       |       |   |   |   |   |   |   |   |   |   |
| Outstanding  at end of year                                     |       | 3,304,468  |       | $                                      | 1.63       |       | 3,779,359  |   | $ | 1.47 |   | 4,387,195 |   | $ | 1.57 |   |
|                                                            |       |       |       |                                   |       |       |       |   |   |   |   |   |   |
| Options  exercisable at year-end                                |       | 1,771,718  |       |                                   |       | 1,629,945  |       |   |   | 1,605,399 |   |   |   |
| Weighted  average fair value of options granted during the year |       | $          | 1.95       |                                   |       |       | $          | 0.24 |   |   |   | $ | 0.16 |   |   |   |
|                                                                 |            |            |            |                                        |            |            |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

The following table summarizes information aboutoptions outstanding at December 31, 2004:

 
| ** **                    | ** ** | **Options Outstanding**              | ** ** | **Options Exercisable**                   | ** ** |
|-------------------------------|------------|--------------------------------------|------------|-------------------------------------------|------------|
| ** **                    | ** ** | ** **                           | ** ** | **Weighted**                              | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Range of Exercise  Prices** | ** ** | **Number  Outstanding  At 12/31/04** | ** ** | **Average  Remaining  Contractual  Life** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Number  Exercisable  At 12/31/04** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
| $                             | 0.00       | -                                    | $          | 2.50                                      |       | 2,829,250 |   | 7.64 |   | $ | 0.78 |   | 1,334,000 |   | $ | 0.49 |   |
| $                             | 2.51       | -                                    | $          | 5.00                                      |       | 374,321 |   | 5.86 |   | 3.55 |   | 336,821 |   | 3.61 |   |
| $                             | 5.01       | -                                    | $          | 7.50                                      |       | 32,400 |   | 2.36 |   | 6.38 |   | 32,400 |   | 6.38 |   |
| $                             | 7.51       | -                                    | $          | 10.00                                     |       | 13,917 |   | 4.19 |   | 8.88 |   | 13,917 |   | 8.88 |   |
| $                             | 10.01      | -                                    | $          | 50.00                                     |       | 54,580 |   | 4.53 |   | 27.98 |   | 54,580 |   | 27.98 |   |
|                          |       | 3,304,468                            |       | 7.32                                      |       | $ | 1.63 |   | 1,771,718 |   | $ | 2.10 |   |

 

**Restricted Stock**

 

In April 2004, the Board of Directors of theCompany approved the INVESTools Inc. 2004 Restricted Stock Plan (the Plan),which was ratified by the Company’s stockholders in June 2004.  The purpose of the Plan is to (i) attract andretain employees of the Company and its subsidiaries, qualified individuals toserve as members of the Board, and consultants to provide services to theCompany; (b) motivate participating employees, directors and consultants, bymeans of appropriate incentives, to achieve long-range goals; (c) provideincentive compensation opportunities that are competitive with those of othersimilarly situated companies; and (d) further align Plan participants’interests with those of the Company’s other stockholders through compensationalternatives based on the Company’s stock; and thereby promote the long-termfinancial interest of the Company and its subsidiaries, including the growth invalue of the Company’s equity and enhancement of long-term stockholderreturn.  The Plan will be administered bythe Compensation Committee (the Committee) of the Board of Directors, which iscomprised of at least two or more directors of the Company appointed by theBoard.

 

There are 500,000 shares of Company common stockavailable for issuance under the Plan. The shares of Company common stock awarded under the Plan may be eitherpreviously authorized but unissued shares or issued shares which have beenreacquired by the Company after their original issuance (including but notlimited to shares purchased on the open market).

 

50

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Shares of Company common stock awarded under the Planand later reacquired by the Company pursuant to the Plan will again becomeavailable for Awards under the Plan.

 

Unless otherwise provided for in the Plan, Awardsgranted under the Plan may not be sold, assigned, transferred, pledged orotherwise encumbered for a period of four years or such shorter period as theCommittee may determine (the Restricted Period).  At its discretion, the Committee may, at anytime after the date of an Award, adjust the length of the Restricted Period toaccount for individual circumstances of a Participant or group of Participants.

 

In December 2004, the Company issued 5,000 sharesof restricted stock with a fair value of $3.40 per share to members of theCompany’s Advisory board members.  Therestrictions on the restricted stock awards granted lapse over a period of 12months.  The fair value of the restrictedstock awards was recorded as a component of deferred stock compensation and isamortized to stock-based compensation expense as the restrictions lapse.

 

**Stock Repurchase Plan**

 

In June 2004, the Company authorized a stockrepurchase program under which the Company can repurchase up to 3,500,000shares over a two year period.  Theshares will be retired upon acquisition. As of December 31, 2004, the Company repurchased and retired1,054,203 shares of its own common stock for a total cost of $2.2 million.  The remaining repurchase authorization underthis program totaled 2,445,797 shares at December 31, 2004.

 

**13.****                               EMPLOYEEBENEFITS**

 

In the first quarter of 2003, the defined contribution401(k) Profit Sharing Plans for the employees of OIA and Telescan wereconsolidated into one plan, the INVESTools 401(k) Plan.  The plan provides participants with amechanism for making contributions for retirement savings.  Each participant may contribute specifiedamounts of eligible compensation.  TheCompany matches participant contributions up to 1% of salary.

 

**14.****                               RELATEDPARTIES**

 

The related party expense component of selling expenseis Generation Marketing LLC (Gen M).  Atone time, five individuals owned Gen M, four of whom were former officers anddirectors of the Company.  The officersand directors of the Company each owned 16.75% of Gen M for a total of67%.  Gen M handled a significant portionof the Company’s marketing needs from direct mail to media buys.  In 2002, the Company hired a second marketingagency to handle some of the marketing needs for one of the brands to reducethe Company’s reliance on a related party. In May 2002 and February 2003, the former officers and directorssold their interests in Gen M to an unrelated third party and in February 2003,Scott Elder and Ross Jardine sold their interests in Gen M to an unrelatedthird party.  As such Gen M is no longera related party.

 

The Company incurred $0.5 million and $4.9 million inmarketing expenses to Generation Marketing for the period January 1, 2003to February 28, 2003 and for the year ended December 31, 2002,respectively.

 

**15.****                               SEGMENTREPORTING**

 

The Company consists of a single operating segmentdelivering investor education, which provides lifelong learning and support toself-directed investors.

 

**16.****                               SHARESSUBJECT TO RESCISSION**

 

In September 2000, the Company acquired all ofthe issued and outstanding shares of Seminar Marketing Group, Inc. (SMG) for370,000 shares of unregistered and restricted shares of the Company’s commonstock.  The issuance of these shares wasintended to be issued in a transaction exempt from the registrationrequirements under the Securities Act of 1933, as amended (Securities Act)pursuant to Rule 506 of Regulation D. Upon subsequent review of the transactionby the Company’s attorneys, it was determined that the issuance of the sharesdid not meet the technical requirements of the Securities Act.  In January 2001, the Company made anoffer of rescission to the former SMG stockholders pursuant to which they would be compensated with a cash amount equal tothe consideration paid for the shares originally granted plus the statutoryrate of interest of 12%.  The SMGstockholders had until February 6, 2002 to accept or reject theoffer.  During 2001, the Company paidapproximately $90,000 to SMG stockholders to rescind their shares.  All but six SMG stockholders accepted theoffer to rescind the shares.  Theliability at December 31, 2001 of $366,000 does not include the amountreclassified from the share rescission liability into additional paid in capitalrelated to these six stockholders as the deadline for these individuals hadpassed and the possibility of having any of these individuals later exertingtheir rights to the rescission have expired.

 

51

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**17.****                               SUBSEQUENTEVENTS**

 

**Acquisition of Prophet**

 

In January 2005, the Company announced theacquisition of Prophet Financial Systems (Prophet), a California corporationlocated in Palo Alto and owner of Prophet.Net, for $7.9 million in cash.  Prophet creates Web-based products thatenable active investors to use technical analysis to trade moreprofitably.  Prophet derives its revenuethrough three primary business activities, which include the sale ofsubscriptions to retail investors, the licensing of its tools to brokerage andfinancial sites and advertising.  Prophethas more than 4,400 paying subscribers and licensees, including OptionsXpress,Scottrade, Standard & Poor’s and America Online.  At the time of the acquisitions, Prophet had22 full time employees.  In connectionwith the transaction, Tim Knight, Prophet’s Chief Executive Officer, Presidentand founder entered into a two-year employment agreement with the Company asVice President Technology.

 

52

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**18.****                               UNAUDITEDQUARTERLY FINANCIAL DATA**

 

See****Note 3 for adescription of the nature of the restatements.

 
| ** **                                              | ** ** | **Fiscal Year 2004**                           | ** ** |
|---------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                              | ** ** | **Quarter Ended  December 31, 2004**      | ** ** | **Quarter Ended  September 30, 2004** | ** ** |
| ** **                                              | ** ** | ** **                                     | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                              | ** ** | **(in thousands, except per share  data****)** | ** ** |
| **Income Statement**                                    |       |                                           |       |   |   |   |   |   |   |   |
| Revenue                                                 |       | $                                              | 24,920     |   | $ | 23,890 |   | $ | 24,437 |   |
| Selling  expense                                        |       | 5,595                                          |       | 7,107 |   | 6,860 |   |
| General and  administrative expense                     |       | 4,678                                          |       | 5,030 |   | 5,061 |   |
| Net loss  from operations                               |       | (6,831                                         | )          | (3,261 | ) | (2,486 | ) |
| Net loss before  minority interest and income taxes     |       | (6,713                                         | )          | (3,217 | ) | (2,442 | ) |
| Net loss                                                |       | $                                              | (6,718     | ) | $ | (3,217 | ) | $ | (2,442 | ) |
| Basic and  diluted earnings per share of common stock   |       |                                           |       |   |   |   |   |
| Net income  (loss)                                      |       | $                                              | (0.15      | ) | $ | (0.07 | ) | $ | (0.05 | ) |
| Weighted  average shares outstanding -basic and diluted |       | 44,958                                         |       | 45,311 |   | 45,311 |   |
| ** **                                              | ** ** | ** **                                     | ** ** |
| ** **                                              | ** ** | **(in thousands, except per share  data****)** | ** ** |
| **Balance Sheet**                                       | ** ** | ** **                                     | ** ** |
| Deferred  revenue                                       |       | $                                              | 31,957     |   | $ | 23,712 |   | $ | 18,013 |   |
| Accrued tax  liabilities                                |       | 5,103                                          |       | 4,733 |   | 536 |   |
| Other  current liabilities                              |       | 4,273                                          |       | 2,876 |   | 1,921 |   |
| Total  current liabilities                              |       | 48,505                                         |       | 38,933 |   | 28,083 |   |
| Other  long-term accrued liabilities                    |       | 84                                             |       | 104 |   | — |   |
| Long-term  portion of deferred revenue                  |       | 8,421                                          |       | 5,583 |   | 4,421 |   |
| Accumulated  deficit                                    |       | (135,748                                       | )          | (129,031 | ) | (116,915 | ) |
| Total stockholders’  (Deficit) equity              |       | (7,232                                         | )          | 35 |   | 12,151 |   |
| Total  liabilities and stockholders’ equity        |       | $                                              | 49,778     |   | $ | 44,655 |   | $ | 44,655 |   |

 
| ** **                                              | ** ** | **Quarter Ended  June 30, 2004**          | ** ** | **Quarter Ended  March 31, 2004** | ** ** |
|---------------------------------------------------------|------------|------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                              | ** ** | **As Restated**                                | ** ** | **As Reported**                        | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                              | ** ** | **(in thousands, except per share  data****)** | ** ** |
| **Income Statement**                                    |       |                                           |       |                                   |       |   |   |   |   |
| Revenue                                                 |       | $                                              | 25,140     |                                   | $          | 25,609 |   | $ | 23,219 |   | $ | 22,973 |   |
| Selling  expense                                        |       | 5,930                                          |       | 5,678                                  |       | 5,341 |   | 5,120 |   |
| General and  administrative expense                     |       | 4,670                                          |       | 4,845                                  |       | 4,459 |   | 4,601 |   |
| Net loss  from operations                               |       | (1,623                                         | )          | (921                                   | )          | (196 | ) | (136 | ) |
| Net loss  before minority interest and income taxes     |       | (1,619                                         | )          | (917                                   | )          | (171 | ) | (215 | ) |
| Net loss                                                |       | $                                              | (1,619     | )                                      | $          | (917 | ) | $ | (174 | ) | $ | (218 | ) |
| Basic and  diluted earnings per share of common stock   |       |                                           |       |                                   |       |   |   |   |   |
| Net income  (loss)                                      |       | $                                              | (0.04      | )                                      | $          | (0.02 | ) | $ | (0.00 | ) | $ | (0.00 | ) |
| Weighted  average shares outstanding -basic and diluted |       | 45,329                                         |       | 45,329                                 |       | 44,578 |   | 44,578 |   |
|                                                    |       |                                           |       |                                   |       |   |   |   |   |
| ** **                                              | ** ** | **(in thousands, except per share  data****)** | ** ** |
| **Balance Sheet**                                       | ** ** | ** **                                     | ** ** |
| Deferred  revenue                                       |       | $                                              | 19,309     |                                   | $          | 13,774 |   | $ | 16,508 |   | $ | 12,156 |   |
| Accrued tax  liabilities                                |       | 4,554                                          |       | 604                                    |       | 4,260 |   | 562 |   |
| Other  current liabilities                              |       | 1,738                                          |       | 995                                    |       | 1,595 |   | 781 |   |
| Total  current liabilities                              |       | 30,505                                         |       | 20,277                                 |       | 29,088 |   | 20,224 |   |
| Other  long-term accrued liabilities                    |       | 123                                            |       | —                                 |       | 143 |   | — |   |
| Long-term  portion of deferred revenue                  |       | 3,892                                          |       | 2,902                                  |       | 1,632 |   | — |   |
| Accumulated  deficit                                    |       | (125,814                                       | )          | (114,473                               | )          | (124,195 | ) | (113,556 | ) |
| Total  stockholders’ equity                        |       | 3,781                                          |       | 15,122                                 |       | 5,309 |   | 15,948 |   |
| Total  liabilities and stockholders’ equity        |       | $                                              | 38,301     |                                   | $          | 38,301 |   | $ | 36,172 |   | $ | 36,172 |   |

 

53

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| ** **                                                   | ** ** | **Fiscal Year 2003**                           | ** ** |
|--------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                   | ** ** | **Quarter Ended  December 31, 2003**      | ** ** | **Quarter Ended  September 30, 2003** | ** ** |
| ** **                                                   | ** ** | **As Restated**                                | ** ** | **As Reported** | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                                   | ** ** | **(in thousands, except per share  data****)** | ** ** |
| ** **                                                   |       |                                           |       |   |   |   |   |   |   |
| **Income Statement**                                         |       |                                           |       |   |   |   |   |   |   |
| Revenue                                                      |       | $                                              | 23,321     |   | $ | 23,976 |   | $ | 16,249 |   | $ | 17,437 |   |
| Selling  expense                                             |       | 5,717                                          |       | 5,066 |   | 5,425 |   | 4,971 |   |
| General and  administrative expense                          |       | 3,206                                          |       | 3,242 |   | 3,406 |   | 3,617 |   |
| Net income  (loss) from operations                           |       | (561                                           | )          | 716 |   | (1,477 | ) | 432 |   |
| Net income  (loss) before minority interest and income taxes |       | (524                                           | )          | 753 |   | (1,425 | ) | 484 |   |
| Net income  (loss)                                           |       | $                                              | (590       | ) | $ | 687 |   | $ | (1,425 | ) | $ | 484 |   |
| Basic  earnings per share of common stock                    |       |                                           |       |   |   |   |   |   |   |
| Net income  (loss)                                           |       | $                                              | (0.01      | ) | $ | 0.02 |   | $ | (0.03 | ) | $ |  0.01 |   |
| Weighted  average shares outstanding - basic                 |       | 44,214                                         |       | 44,214 |   | 43,910 |   | 43,910 |   |
| Diluted  earnings per share of common stock                  |       |                                           |       |   |   |   |   |   |   |
| Net income  (loss)                                           |       | $                                              | (0.01      | ) | $ | 0.02 |   | $ | (0.03 | ) | $ | 0.01 |   |
|                                                         |       |                                           |       |   |   |   |   |   |   |
| Weighted  average shares outstanding - diluted               |       | 44,214                                         |       | 46,063 |   | 43,910 |   | 44,407 |   |
| ** **                                                   |       |                                           |       |   |   |   |   |   |   |
| **Balance  Sheet**                                           |       |                                           |       |   |   |   |   |   |   |
| ** **                                                   |       |                                           |       |   |   |   |   |   |   |
| Deferred  revenue                                            |       | $                                              | 14,044     |   | $ | 8,622 |   | $ | 13,030 |   | $ | 7,254 |   |
| Accrued tax  liabilities                                     |       | 4,038                                          |       | 561 |   | 3,200 |   | 374 |   |
| Other  current liabilities                                   |       | 1,711                                          |       | 566 |   | 1,594 |   | 953 |   |
| Total  liabilities                                           |       | 23,367                                         |       | 12,684 |   | 24,339 |   | 14,933 |   |
| Accumulated  deficit                                         |       | (124,021                                       | )          | (113,338 | ) | (123,431 | ) | (114,025 | ) |
| Total  stockholders’ equity                             |       | 3,184                                          |       | 13,867 |   | 3,895 |   | 13,301 |   |
| Total  liabilities and stockholders’ equity             |       | $                                              | 26,551     |   | $ | 26,551 |   | $ | 28,234 |   | $ | 28,234 |   |

 
| ** **                                                          | ** ** | **Quarter Ended  June 30, 2003**          | ** ** | **Quarter Ended  March 31, 2003** | ** ** |
|---------------------------------------------------------------------|------------|------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                          | ** ** | **As Restated**                                | ** ** | **As Reported**                        | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                                          | ** ** | **(in thousands, except per share  data****)** | ** ** |
| ** **                                                          | ** ** | ** **                                     | ** ** |
| **Income Statement**                                                | ** ** | ** **                                     | ** ** |
| Revenue                                                             |       | $                                              | 17,054     |                                   | $          | 18,127 |   | $ | 13,176 |   | $ | 13,880 |   |
| Selling  expense                                                    |       | 4,741                                          |       | 4,256                                  |       | 4,044 |   | 3,688 |   |
| Net income  (loss) from operations                                  |       | (1,848                                         | )          | (290                                   | )          | (1,966 | ) | (906 | ) |
| Net income  (loss) before minority interest  and  income taxes |       | (1,838                                         | )          | (280                                   | )          | (1,987 | ) | (927 | ) |
| Net income  (loss)                                                  |       | $                                              | (3,302     | )                                      | $          | (1,744 | ) | $ | (1,987 | ) | $ | (927 | ) |
| Basic and  diluted earnings per share of common stock          |       |                                           |       |                                   |       |   |   |   |   |
| Net income  (loss)                                                  |       | $                                              | (0.08      | )                                      | $          | (0.04 | ) | $ | (0.05 | ) | $ | (0.02 | ) |
| Weighted  average shares outstanding - basic and diluted       |       | 43,423                                         |       | 43,423                                 |       | 43,206 |   | 43,206 |   |
| ** **                                                          |       |                                           |       |                                   |       |   |   |   |   |
| **Balance  Sheet**                                                  |       |                                           |       |                                   |       |   |   |   |   |
| ** **                                                          |       |                                           |       |                                   |       |   |   |   |   |
| Deferred  revenue                                                   |       | $                                              | 11,504     |                                   | $          | 6,715 |   | $ | 9,423 |   | $ | 5,560 |   |
| Accrued tax  liabilities                                            |       | 2,848                                          |       | 476                                    |       | 2,478 |   | 591 |   |
| Other  current liabilities                                          |       | 1,469                                          |       | 1,132                                  |       | 900 |   | 710 |   |
| Total  current liabilities                                          |       | 20,495                                         |       | 12,997                                 |       | 17,391 |   | 11,451 |   |
| Accumulated  deficit                                                |       | (122,007                                       | )          | (114,509                               | )          | (118,705 | ) | (112,765 | ) |
| Total  stockholders’ equity                                    |       | 5,133                                          |       | 12,631                                 |       | 8,343 |   | 14,283 |   |
| Total  liabilities and stockholders’ equity                    |       | $                                              | 25,628     |                                   | $          | 25,628 |   | $ | 25,734 |   | $ | 25,734 |   |

 

54

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| ** **                                                            | ** ** | **Fiscal Year 2002**                           | ** ** |
|-----------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                            | ** ** | **Quarter Ended   December 31, 2002**     | ** ** | **Quarter Ended   September 30, 2002** | ** ** |
| ** **                                                            | ** ** | **As Restated**                                | ** ** | **As Reported** | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                                            | ** ** | **(in thousands, except per share  data)**     | ** ** |
|                                                                  |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| **Income Statement**                                                  |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| Revenue                                                               |       | $                                              | 15,322     |   | $ | 16,028 |   | $ | 11,556 |   | $ | 12,228 |   |
| Selling  expense                                                      |       | 4,456                                          |       | 3,986 |   | 3,024 |   | 2,700 |   |
| Net income  (loss) from operations                                    |       | (740                                           | )          | 436 |   | (1,383 | ) | (387 | ) |
| Net income  (loss) before minority interest and income taxes     |       | (767                                           | )          | 409 |   | (1,354 | ) | (358 | ) |
| Net income  (loss) before cumulative effect of accounting change |       | (573                                           | )          | 603 |   | (1,363 | ) | (367 | ) |
| Net income  (loss)                                                    |       | $                                              | (816       | ) | $ | 360 |   | $ | (1,353 | ) | $ | (357 | ) |
| Basic  earnings per share of common stock                             |       |                                           |       |   |   |   |   |   |   |
| Net income  (loss) before cumulative effect of accounting change |       | $                                              | (0.01      | ) | $ | 0.01 |   | $ | (0.03 | ) | $ | (0.01 | ) |
| Cumulative  effect of change in accounting principle             |       | $                                              | (0.01      | ) | $ | — |   | $ | — |   | $ | — |   |
| Net income  (loss)                                                    |       | $                                              | (0.02      | ) | $ | 0.01 |   | $ | (0.03 | ) | $ | (0.01 | ) |
| Weighted  average shares outstanding – basic                     |       | 42,893                                         |       | 42,893 |   | 42,653 |   | 42,653 |   |
| Diluted  earnings per share of common stock                           |       |                                           |       |   |   |   |   |   |   |
| Income  (loss) from continuing operations                        |       | $                                              | (0.01      | ) | $ | 0.01 |   | $ | (0.03 | ) | $ | (0.01 | ) |
| Cumulative  effect of change in accounting principle             |       | $                                              | (0.01      | ) | $ | — |   | $ | — |   | $ | — |   |
| Net income  (loss)                                                    |       | $                                              | (0.02      | ) | $ | 0.01 |   | $ | (0.03 | ) | $ | (0.01 | ) |
| Weighted  average shares outstanding - diluted                        |       | 42,893                                         |       | 42,943 |   | 42,653 |   | 42,653 |   |
| ** **                                                            | ** ** | **(in thousands, except per share  data****)** | ** ** |
| **Balance Sheet**                                                     |       |                                           |       |   |   |   |   |   |   |   |   |   |   |
| Deferred  revenue                                                     |       | $                                              | 8,028      |   | $ | 4,820 |   | $ | 6,556 |   | $ | 4,178 |   |
| Accrued tax  liability                                                |       | 2,140                                          |       | 608 |   | 1,654 |   | 592 |   |
| Other  current liabilities                                            |       | 908                                            |       | 766 |   | 959 |   | 693 |   |
| Total  liabilities                                                    |       | 15,021                                         |       | 10,139 |   | 12,634 |   | 8,928 |   |
| Accumulated  deficit                                                  |       | (116,720                                       | )          | (111,838 | ) | (115,904 | ) | (112,198 | ) |
| Total  stockholders’ equity                                      |       | 10,284                                         |       | 15,166 |   | 11,031 |   | 14,737 |   |
| Total  liabilities and stockholders’ equity                      |       | $                                              | 25,305     |   | $ | 25,305 |   | $ | 23,665 |   | $ | 23,665 |   |

 

55

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| ** **                                                                                            | ** ** | **Fiscal Year 2002**                           | ** ** |
|-------------------------------------------------------------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                                                            | ** ** | **Quarter Ended   June 30, 2002**         | ** ** | **Quarter Ended   March 31, 2002** | ** ** |
| ** **                                                                                            | ** ** | **As Restated**                                | ** ** | **As Reported** | ** ** | **As Restated** | ** ** | **As Reported** | ** ** |
| ** **                                                                                            | ** ** | **(in thousands, except per share  data****)** | ** ** |
| ** **                                                                                            | ** ** | ** **                                     | ** ** |
| **Income Statement**                                                                                  | ** ** | ** **                                     | ** ** |
| Revenue                                                                                               |       | $                                              | 13,849     |   | $ | 14,466 |   | $ | 13,196 |   | $ | 13,420 |   |
| Selling  expense                                                                                      |       | 3,486                                          |       | 3,084 |   | 3,177 |   | 2,841 |   |
| Net income  (loss) from operations                                                                    |       | (1,781                                         | )          | (762 | ) | (1,436 | ) | (876 | ) |
| Net income  (loss) before minority Interest, cumulative effect of accounting change and  income taxes |       | (1,828                                         | )          | (809 | ) | (1,416 | ) | (856 | ) |
| Net income  (loss) before cumulative effect of accounting change                                 |       | (1,857                                         | )          | (838 | ) | (1,414 | ) | (854 | ) |
| Net income  (loss)                                                                                    |       | $                                              | (1,857     | ) | $ | (838 | ) | $ | (29,598 | ) | $ | (29,038 | ) |
| Basic and  diluted earnings per share of common stock                                                 |       |                                           |       |   |   |   |   |   |   |
| Net income  (loss) before cumulative effect of accounting change                                 |       | $                                              | (0.05      | ) | $ | (0.02 | ) | $ | (0.04 | ) | $ | (0.02 | ) |
| Cumulative  effect of change in accounting principle                                             |       | $                                              | —     |   | $ | — |   | $ | (0.69 | ) | $ | (0.69 | ) |
| Net (loss)                                                                                            |       | $                                              | (0.05      | ) | $ | (0.02 | ) | $ | (0.73 | ) | $ | (0.71 | ) |
| Weighted  average shares outstanding – basic and diluted                                         |       | 41,578                                         |       | 41,578 |   | 40,778 |   | 40,778 |   |
| ** **                                                                                            |       |                                           |       |   |   |   |   |   |   |
| **Balance  Sheet**                                                                                    |       |                                           |       |   |   |   |   |   |   |
| Deferred  revenue                                                                                     |       | $                                              | 6,319      |   | $ | 4,418 |   | $ | 5,063 |   | $ | 3,780 |   |
| Accrued tax  liabilities                                                                              |       | 1,310                                          |       | 572 |   | 366 |   | 30 |   |
| Other  current liabilities                                                                            |       | 912                                            |       | 841 |   | 1,179 |   | 1,107 |   |
| Total  liabilities                                                                                    |       | 13,016                                         |       | 10,306 |   | 11,361 |   | 9,670 |   |
| Accumulated  deficit                                                                                  |       | (114,551                                       | )          | (111,841 | ) | (112,679 | ) | (110,988 | ) |
| Total  stockholders’ equity                                                                      |       | 11,880                                         |       | 14,590 |   | 13,585 |   | 15,276 |   |
| Total  liabilities and stockholders’ equity                                                      |       | $                                              | 24,896     |   | $ | 24,896 |   | $ | 24,946 |   | $ | 24,946 |   |

 

Earnings per share are computed independently for each of the quarterspresented.  Therefore, the sum of thequarterly earnings per share may not equal the total for the year.

 

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**INVESTOOLS INC. AND SUBSIDIARIES**

 

###### **INVESTOOLS INC.VALUATION AND QUALIFYING ACCOUNTS AND RESERVES**

(inthousands)

 

**Schedule II**

 
| ** **                                                             | ** ** | ** **                          | ** ** | **Addition**                         | ** ** | ** **                          | ** ** | ** **     | ** ** |
|------------------------------------------------------------------------|------------|-------------------------------------|------------|--------------------------------------|------------|-------------------------------------|------------|----------------|------------|
| **Description**                                                        | ** ** | **Balance at Beginning  Of Period** | ** ** | **Charged  to Revenue  and Expense** | ** ** | **Charged  to Other  Accounts (1)** | ** ** | **Deductions** | ** ** | **Balance  at End of  Period** | ** ** |
|                                                                   |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Deducted  from asset accounts:                                         |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Provisions  for losses on trade accounts receivable and sales returns: |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Year Ended December 31,  2004:                                    |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Provision  for inventory reserve                                       |       | $                                   | —     |                                 | $          | 171                                 |       | $              | —     |   | $ | — |   | $ | 171 |   |
| Bad debt  allowance                                                    |       | 197                                 |       | 3                                    |       | —                              |       | (193           | )(2)       | 7 |   |
| Sales return  allowance                                                |       | 1,070                               |       | 1,652                                |       | 2,311                               |       | (3,874         | )(3)       | 1,160 |   |
| Total                                                                  |       | $                                   | 1,267      |                                 | $          | 1,826                               |       | $              | 2,311      |   | $ | (4,067 | ) | $ | 1,338 |   |
|                                                                   |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Year Ended December 31,  2003 (Restated):                         |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Bad debt  allowance                                                    |       | $                                   | 150        |                                 | $          | 142                                 |       | $              | —     |   | $ | (95 | )(2) | $ | 197 |   |
| Sales return  allowance (Restated)                                     |       | 142                                 |       | 1,550                                |       | 895                                 |       | (1,517         | )(3)       | 1,070 |   |
| Total                                                                  |       | $                                   | 292        |                                 | $          | 1,692                               |       | $              | 895        |   | $ | (1,612 | ) | $ | 1,267 |   |
|                                                                   |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Year Ended December 31,  2002 (Restated):                         |       |                                |       |                                 |       |                                |       |           |       |   |   |
| Bad debt  allowance                                                    |       | $                                   | 150        |                                 | $          | 30                                  |       | $              | —     |   | $ | (30 | )(2) | $ | 150 |   |
| Sales return  allowance (Restated)                                     |       | 54                                  |       | 541                                  |       | 273                                 |       | (726           | )(3)       | 142 |   |
| Total                                                                  |       | $                                   | 204        |                                 | $          | 571                                 |       | $              | 273        |   | $ | (756 | ) | $ | 292 |   |

 

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(1)          Reclassfrom deferred revenue to other accrued liabilities for cash refunds related tosales returns.

(2)          Uncollectible accounts written-off, net of recoveries.

(3)          Represents cash paid out for refunds.

 

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