UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
DC 20549





FORM
10-K






(Mark
One)





x ANNUAL REPORT UNDER SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934





For the
fiscal year ended May 31, 2008






oTRANSITION REPORT UNDER SECTION 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934




For the
transition period from ______________ to ______________




Commission
file number:  0-27587








ARKADOS
GROUP, INC.





(Exact
name of registrant as specified in its charter)






Delaware
            
            22-3586087(State or other
      jurisdiction of incorporation or organization)
            
            (I.R.S.
      Employer Identification No.)220
      Old New Brunswick Road, Piscataway, NJ
            
            08854(Address of
      principal executive offices)
            
            Zip
    codeIssuer's telephone
      number: (732)
      465-9300Securities
      registered under Section 12(b) of the Exchange Act:Title
      of each class
            
            Name
      of each exchange on which registeredSecurities
      registered under Section 12(g) of the Exchange
Act:






Common
Stock, $.0001 par value





(Title of
class)







(Title of
class)






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


o
Yes    x No




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


o Yes    x No




Indicate
by a check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports); and (2) has been subject to such filing requirements for
the past 90 days.  Yes x 
 No o




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




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






Large
      accelerated filer  o
              Non-Accelerated
      filer  o
            Accelerated filer
      o
              Smaller reporting company x




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


Yes o   No x




The
aggregate market value of the voting and non-voting common equity held by
non-affiliates1 computed
by reference to the price at which the common equity was last sold on September
11, 2008 was $ 4,326,233.




The
number of shares of common stock outstanding as of the latest practicable date,
September 12, 2008, was 30,535,147.


_______________


(1) The
information provided shall in no way be construed as an admission that any
person whose holdings are excluded from the figure is not an affiliate or that
any person whose holdings are included is an affiliate and any such admission is
hereby disclaimed.







ARKADOS
GROUP, INC.


FISCAL
2008 FORM 10-K




INDEX




Item
            PagePART
      IITEM
      1: Business
            4ITEM
      1A:  Risk Factors
            22ITEM
      1B:  Unresolved Staff Comments
            33ITEM
      2: Properties
            34ITEM
      3: Legal Proceedings
            34ITEM
      4: Submission of Matters to a Vote of Security Holders
            34PART
      IIITEM
      5: Market for Registrant’s Common Equity, Related Stockholder Matters and
      Issuer Purchases of Equity Securities
            35ITEM
      6: Selected Financial Data
            37ITEM
      7: Management’s Discussion and Analysis of Financial Condition and Results
      of Operations
            38ITEM
      7A:Quantitative and Qualitative Disclosures About Market
    Risk
            42ITEM
      8: Financial Statements and Supplementary Data
            42ITEM
      9: Changes in and Disagreements with Accountants on Accounting and
      Financial Disclosure
            44ITEM
      9A:Controls and Procedures
            44ITEM
      9B: Other Information
            45PART
      IIIITEM
      10: Directors, Executive Officers and Corporate Governance
            46ITEM
      11: Executive Compensation
            46ITEM
      12: Security Ownership of Certain Beneficial Owners and Management and
      Related Stockholder Matters
            46ITEM
      13: Certain Relationships and Related Transactions, and Director
      Independence
            46ITEM
      14: Principal Accountant Fees and Services
            46PART
      IVITEM
      15: Exhibits and Financial Statement Schedules
            47Signatures
            55













- 2
-


As
used in this Annual Report on Form 10-K, the terms “we”, “our” or “us” mean
Arkados Group, Inc., a Delaware corporation and its consolidated subsidiaries,
unless the context indicates otherwise.







NOTE RE:
FORWARD LOOKING INFORMATION





All
statements in this annual report on Form 10-K that are not historical are
forward-looking statements, including statements regarding our “expectations,”
“beliefs,” “hopes,” “intentions,” “strategies,” or the like. Such statements are
based on management’s current expectations and are subject to a number of risks
and uncertainties that could cause actual results to differ materially from
those set forth or implied by any forward looking statements. Some of these
risks are detailed in Part I, Item 1A “Risk Factors” and elsewhere in this
report. We caution investors that there can be no assurance that actual results
or business conditions will not differ materially from those projected or
suggested in such forward-looking statements as a result of various factors,
including, but not limited to, the risk factors discussed in this Annual Report on
Form 10-K. We expressly disclaim any obligation or undertaking to release
publicly any updates or revisions to any forward-looking statements contained
herein to reflect any change in our expectations with regard thereto or any
change in events, conditions, or circumstances on which any such statements are
based.




NOTE RE:
CERTAIN MARKS





This
Annual Report on Form 10-K contains registered and unregistered trademarks of
Arkados Group, Inc and its subsidiaries and other companies, as
indicated.  Unless otherwise clear from the context or noted in this
Annual Report, marks identified by “®” and “TM”
are registered marks and trademarks of Arkados Group, Inc. or its
subsidiaries.  All other trademarks and service marks are the property
of their respective owners.  iPod® is a registered trademark of Apple
Computer, Inc.  HomePlug® is a registered trademark of the HomePlug
Powerline Alliance, of which Arkados is a member.








































- 3
-


PART
I
 
 ITEM
      1.
              BUSINESS.




eneral





The
registrant, Arkados Group, Inc., was incorporated in the State of Delaware in
1998.





We are
principally engaged in developing and marketing technology and solutions
enabling broadband communication, multimedia, and networking over standard
household electrical lines. We conduct these activities principally through
Arkados, Inc., which is a wholly owned subsidiary. In September 2006, we changed
our corporate name from CDKnet.com, Inc., to its current form to align our
corporate identity with the “Arkados” brand developed by our subsidiary. Our
Arkados subsidiary is a member of the HomePlug Powerline Alliance, an
independent trade organization which has developed global specifications for
high-speed powerline communications.





Our
executive offices are located at 220 Old New Brunswick Road, Piscataway, NJ
08854. We can be reached at our principal offices by telephone at (732)
465-9300. Arkados maintains a website at www.arkados.com.





Except
for the documents on our website that are expressly incorporated by reference
into this report, the information contained on our website is not incorporated
by reference into this report and should not be considered to be a part of this
report. This includes the website referred to in the paragraph above, as well as
other websites that we refer to elsewhere in this report. All of these website
addresses are included in this document as inactive textual references
only.





Available
Information




We file
annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on
Form 8-K, proxy statements and all other reports, and amendments to these
reports, required of public companies with the SEC. The public may read and copy
the materials we file with the SEC at the SEC’s Public Reference Room at 100 F
Street NE, Washington, DC 20549. The public may obtain information on the
operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The
SEC also maintains a website at http://www.sec.gov that contains reports, proxy
and information statements and other information regarding issuers that file
electronically with the SEC. Copies of our fiscal 2008 Form 10-K may also be
obtained without charge by mailing a request to us at 220 Old New Brunswick
Road, Piscataway, NJ 08854 or by calling us at (732) 465-9300.





Overview





Arkados
provides hardware/software engines for a wide variety of products that enable
high-speed digital transmission of music, movies, video, voice, and broadband
data over the existing infrastructure of electrical power lines.





By
combining our system-on-chip (SoC) semiconductors with software and hardware
platform designs, our solutions address diverse target markets in a number of
growing market categories.





Significant
recent developments include our beginning the transition from development stage
company by generating $855,676 of revenue in the fiscal year ended May 31, 2008,
obtaining a second extension of convertible subordinated notes (now due June 30,
2009), obtaining a limited waiver of anti-dilution rights held the holders of
secured convertible notes to facilitate equity financing, and the addition of
Harris Cohen to our board of directors.





We have
designed our turnkey solutions to be used inside products for both consumers and
industry. For example, consumer products can use Arkados solutions as part of a
connected home entertainment and computing network, while industry can implement
Arkados solutions as a part of a utility company’s “smart grid” and “green
energy” solutions.





We are a
“fabless” semiconductor company, meaning we design semiconductors without the
capital requirements of owning and operating a fabrication
facility.  Our semiconductors are made from our designs by independent
fabricators.  We offer value to our customers by providing hardware
and software as a complete design solution that allows them to


- 4
-


build
devices that will distribute audio, video, voice, and data content throughout
the whole house, building, or “smart-grid” infrastructure.





Arkados
Products





Our
highly integrated semiconductors provide the internet or network connections
over existing electric lines for new consumer electronic products (such as
stereo systems, television sets, intercoms and personal iPods®). Our solutions
can also be used for bridging legacy products with newer home networking and
broadband communications technologies.





Arkados’
solutions offer a completely different approach than our
competitors.  Our solutions incorporate a processor and multiple
interfaces into the same chip that houses HomePlug communication technology, as
well as, provide application level software that runs on the chip,  We
believe this “system-on-a-chip” approach provides a more cost-effective and more
flexible strategy to bring products to market for our customers.





Customer-focused
Product Approach





While a
major component of our solutions is the ability for communication over power
lines, our SoC and software provides the foundation for the full realization of
a customer’s products. Our unique approach in designing our SoCs and software
allows our customers great flexibility in building products, while also
shortening their time-to-market and reducing their costs. For our direct
customers, using Arkados solutions means they can bring sophisticated and
full-featured products to market faster at a lower overall development cost by
using a single standards-based platform: Arkados’ versatile and programmable
ArkTIC® platform.





Arkados’
chip and software architecture was developed based upon specifications from the
HomePlug Powerline Alliance standard and, unlike products from its competitors,
our solutions will be extensible and scalable to HomePlug AV technology and
further to IEEE1901 standards.  This product strategy allows Arkados’
customers to easily port their applications to higher speed
architectures.





Excellent
User Experience





Products
that use our semiconductors are easy-to-install and easy-to-use since they
create connectivity through the existing electrical outlets and electrical
wires. For the end user, products that use Arkados solutions connect to each
other by simply plugging in, while also being reliable and secure. Arkados
solutions leverage the benefits of standard powerline communications
technologies that are used worldwide for in-building consumer electronics and
home-based systems, and to-the-home Broadband Powerline (“BPL”) and Smart Grid
applications.





Arkados
recently added to its product line by offering a license to an implementation of
the 802.15.3b Wireless Multimedia MAC.  The license is available to
any developer interested in jumpstarting their development process, and bringing
digital home multimedia products to market more quickly.





Technology





Arkados
is committed to building standards based solutions.  Currently,
Arkados’ SoC are based on the specifications developed by the HomePlug Powerline
Alliance and TIA-1113 standards. In the future, Arkados plans to support IEEE
P1901 and ITU G.hn standards when they become available.  Arkados has
been active in standards development since 2000.





System-on-Chip
Semiconductors





Arkados
has a number of design wins that employ our first SoC, the Arkados AI-1100,
which we started marketing in Fiscal 2007.  The device supports
applications such as whole-house music streaming, whole-house internet access,
and can be used in IPTV set-top boxes designed to decode and display standard
definition video content -- from sources as varied as surveillance cameras and
YouTube -- on regular TVs throughout the home. This turnkey solution fetures a
programmable MAC and an on-chip ARM 9 application processor. Its fully HomePlug
1.0 compliant MAC/PHY and Arkados extensions and software provide increased
performance and future proofing.


- 5
-


The
AI-1100 chip offers a single-chip integration of HomePlug 1.0.1 powerline
technology, ARM 926-JES CPU operating at 160 MHz, dual Ethernet interfaces, I 2S
Audio Interface, and a wide variety of other interfaces designed to support
connected home applications. Furthermore, the programmable nature of our
implementation allows ODMs/OEMs to extend the functionality of these products
and HomePlug technology.





Our next
generation SoC, the AI-2100, will be backwards compatible with our current chip
and it will feature an enhanced embedded Quality of Service (QoS) engine which
supports video flows for low jitter, lip synch and low latency
delivery.  Arkados’ architecture also features a programmable,
flexible MAC which may be configured for unique applications or field
upgradeable.  In addition, the architecture results in a reduced bill
of materials (BOM), allowing the production of fully featured products at a
lower cost.





Software





Today’s
digital products are incomplete without an array of software components that
enable both device-to-device communications and robust product features. Arkados
services our customers by providing a host of software components that run
directly on our chips, further eliminating development time for our customers.
These software components include application-level features (such as our
Direct-to-SpeakerTM multi-channel audio synchronization, networking and internet,
online gaming, etc.) embedded application support software (audio
compression/decompression, internet radio support, GUI support, video drivers,
etc.), Quality of Service engine, traffic management, and TCP/IP
components.





Market
Opportunities





Arkados
solutions contribute to several large markets each of which is global, broad,
and deep. The retail consumer electronics market, the whole-home custom
installation market, the smart grid market, and the subscription services market
combine to form a very broad potential base for Arkados solutions.





The
following is a brief compendium of publically available quotes that echo our
beliefs in the strength of Arkados’ target markets:




·
            Retail
      Consumer Electronics for the Digital Home
Market


o
            ABI
      Research: “Total network-enabled consumer electronics and media devices
      shipments are expected to grow from 92 million in 2007 to nearly 460
      million by 2012, exceeding the 368 million network-enabled home gateways,
      routers, network adapters and home network storage products shipped the
      same year.” (10/18/2007)


o
            ABI
      Research: “Networked Home Audio Market to Hit $7.2 Billion by 2012”
      (4/17/2007)


o
            Multimedia
      Intelligence as quoted by EETimes magazine: “By 2012, as consumer
      electronics manufacturers and operators gradually add IP connectivity
      across a broad array of equipment,” the analyst forecasts “the market for
      the resulting network interface semiconductors growing to nearly $2.5
      billion.” They continue, “With more than 60 million IP-enabled consumer
      electronics devices shipped into the market in 2007, the semiconductors
      underlying that connectivity already represent more than $560 million in
      annual revenues. The total includes the media-access control (MAC),
      physical interface (PHY) and related support chips.”
    (7/2007)


o
            iSuppli:
      “the worldwide home networking silicon total available market is expected
      to grow from $1.1 billion in 2007 to $3.1 billion in 2011, representing a
      compounded annual growth rate of approximately 29%.”
    (7/2007)


·
            Smart-Grid
      and Utility Applications Market


o
            From
      EDN Magazine: “in the electric industry alone, 500 million meters
      worldwide could be replaced over the next 10 years, resulting in
      semiconductor sales of at least $7.5 billion, according to Mark Buccini,
      director of strategic marketing for Texas Instruments’ microcontroller
      products.” And continues to say “a large number of those will be connected
      to a home area network, and that home network will have at least one
      device that can talk to the meter,” and that “the communications piece is
      as much as three times as big [as the $7.5B market for meters].”
      (6/24/2008)


o
            Techno
      Systems Research predicts a 106.4% CAGR for SmartGrid/Broadband Powerline
      markets from 2005-2011. (12/2007)


·
            Subscription
      and “over the top” Services


Many
      services currently available, from remotely-monitored security, to
      piped-in music, to health monitoring systems require costly professional
      installation for communication and distribution.  With the
      addition of a broadband pipe to the house, and the use of an in-home
      distribution method such as Arkados solutions provide, over-the-top (OTT)
      this type of solution allows the content owners to deliver the content
      directly to consumers.


o
            The
      Diffusion Group: “TDG found that 40% of broadband users are watching at
      least an hour of video per week on the Internet. More surprising is that
      30% of those are watching 25% or more of their TV online. Imagine what
      will happen when tens of millions of households are capable of watching
      broadband video on their big-screen, high-dollar, high-definition TVs and
      home theater systems.” (5/2008)


o
            Harbor
      Research: “The ability to monitor, repair and control equipment remotely
      over the Internet..... has changed the concept of service for manufacturers
      in key industries around the world.....These new services represent a
      multi-billion dollar opportunity. Market growth is also extremely
      strong.”(3/2006)





- 6
-


The
Growing Digital Home: Networked Consumer Electronics





As
broadband access to the home is becoming ubiquitous, home networking and
connectivity demands for digital home applications continues to grow – extending
the internet, and the services that travel on it, to every corner of the
house.





The
promise of sending digital communications over common power lines is now being
realized, and Arkados’ products serve several large and growing markets: retail
consumer electronic products, whole-house audio installations, smart-grid
utility company applications, broadband-over-powerline internet access, and the
distribution of internet-based services.





The
Arkados AI-1100 is the first HomePlug 1.0 compliant system-on-chip targeted for
the retail consumer electronics market. Coupled with software to create full
turnkey solutions for its customers, the Arkados AI-1100 has already received a
number of design wins, and is the engine behind the creation of
reasonably-priced multi-room audio and video distribution products for the
retail consumer market. Products coming to market soon will feature iPod®
docking stations and powered speakers that can be placed anywhere in the home,
with no additional wiring needed.





As a
subset of this market, the whole-house audio market category has been
particularly active. Arkados’ solutions offer a way to create retail audio
systems with features and functionality heretofore available only in
multi-thousand dollar custom audio installations.  Arkados’ customers
include Devolo AG, Channel Vision, IOGEAR, Gigafast, Tatung, and
Zinwell.  Higher product volumes are expected to be realized in fiscal
2009 and customers move their products from development into the
marketplace.





In
addition providing the connectivity engine for these retail consumer products,
Arkados provides solutions for custom and self installation high-end consumer
systems. These high-end custom audio systems, which address the existing home
market (expanding from their primary market target of newly constructed homes),
can feature as many as 8 separate audio zones and can process a wide range of
sources of audio content which can be streamed from any digital or legacy analog
source.  Russound, a leading custom multi-room audio distribution
system manufacturer, has selected the AI-1100 for use in its iBridge Power Dock.
Arkados has received initial volume commitments and NRE’s (Non-Recurring
Engineering) valued over $1.2 million from customers in this area, of which over
$641,000 has been recognized through May 31, 2008.  Arkados’ chips can
also power cameras, video endpoints, and sensors for other installed home
systems, such as for surveillance systems.





Smart
Energy and Utility Company Applications





Another
large potential market for Arkados’ solutions relates to energy conservation,
the “green” applications that help utility companies and their customers save
both money and energy.  For example, “Smart Grid” applications (Green
Energy, demand response, energy efficiency and grid modernization – i.e.,
reduction of carbon emissions) and home/building automation, such as controlling
air conditioner thermostats remotely, represent large and attractive
opportunities given today’s surging energy costs. Arkados has design wins at
MainNet (which has the largest installed base of business power line solutions
in the world) and Corporate Systems Engineering, with significant volumes
already committed.





Services





An
additional immediate potential market for the Arkados platform is for
subscription music services. Its software and chips enable the distribution of
Internet music services (e.g., Rhapsody, Yahoo! Music, AOL Music, Shoutcast
services).  The Company is actively working on reference designs and
business strategies to address this rapidly developing market.





- 7
-


Corporate Background





On May
24, 2004, we filed a merger certificate completing the acquisition of Miletos,
Inc., a previously unaffiliated Delaware corporation (the “Merger”). The
consideration for this Merger was 16,090,577 restricted shares of our common
stock and the assumption of certain liabilities of Miletos’ predecessor and
former controlling equity holders. The merger was completed according to the
terms of an Agreement and Plan of Merger dated as of May 7, 2004. Miletos merged
into a wholly owned subsidiary we formed for the merger which then changed its
name to “Arkados, Inc.”.





Simultaneously
with the merger, we completed a private placement of 883,334 shares of our
common stock for aggregate proceeds of $1,060,000, of which approximately
$950,000 were subscriptions for cash, $50,000 (41,667 shares) was for
outstanding debt of Arkados, and $59,800 (49,834 shares) was in lieu of
consulting fees. The sale was made to 10 accredited investors (“Investors”)
directly by us without any general solicitation or broker. The offering is
claimed to be exempt from registration pursuant to Section 4(2) under the
Securities Act of 1933, as amended. In addition, we settled liabilities relating
to outstanding convertible notes and payables for 700,000 common
shares.





Prior to
the Merger, on March 23, 2004, Miletos acquired the assets and business of
Enikia, LLC, a Delaware limited liability company at a public foreclosure sale,
including the intellectual property upon which Arkados’ development efforts are
based. Miletos was formed in February 2004, by control affiliates of Enikia.
These control affiliates were both secured creditors of Enikia and holders of
the controlling equity interest in Enikia. They contributed a secured promissory
note to Miletos in the initial principal amount of $9,221,000, dated June 1,
2002. The promissory note also represents obligations to the lender for
additional advances to Enikia by the control group which brought the aggregate
principal due at the time of foreclosure to approximately $11,100,000. At the
foreclosure sale, Miletos forgave $4,000,000 of the secured obligation in
exchange for substantially all of the assets of Enikia. The merger has been
treated as a reorganization of Arkados, Inc. via a reverse merger with Arkados
Group, Inc. The assets acquired at the foreclosure sale and certain liabilities
assumed by Arkados Group, Inc. have been recorded as historical
cost.





On March
3, 2007 we completed the merger of Arkados Wireless Technologies, Inc., our
wholly owned subsidiary (“Merger Sub”) with Aster Wireless, Inc. a Delaware
corporation (“Aster”) pursuant to an Agreement and Plan of Merger dated February
13, 2007 by and among Merger Sub and Arkados Group, Inc. In this merger, we
acquired synergistic talent and technology which has helped improve the
reliability and quality of audio streaming in our current generation chipset and
we believe will help deliver our next-generation chips to market more quickly,
with richer capabilities. This will translate to a better competitive position
in the marketplace.  The technology enhances the reliable distribution
of multimedia content, potentially over multiple distribution media, and is
designed to be embedded in new consumer electronics products and accessories for
audio, video distribution, set-top boxes and other multimedia entertainment
appliances.





Dependence
on Financing Activities





Although
we have started to generate revenue during the past two years, we continue to be
dependent on outside sources of financing to continue the development of our
semiconductors and software, and to further support sales. During fiscal 2008,
we completed a series of debt financings in the aggregate principal amount of
$855,000; we also issued notes in the amount of $125,000 which were converted
into equity in August 2008.  Andreas Typaldos, our Chairman and one
other Director loaned the Company $177,700.





From June
1, 2008 to August 31, 2008, we received approximately $649,000 which was
converted into equity in August 2008.  In addition, we received an
additional $20,000 which represents borrowings from related
parties.





We have
sought and will continue to seek various sources of financing but there are no
binding commitments from anyone to provide us with financing. In addition, there
is $11,383,261 principal amount of 6% Secured Convertible Debentures due June
28, 2009 (initially due December 28, 2008) issued during the period from
December 2004 to August 31, 2008 outstanding, which has been an impediment to
obtaining equity financing .  The documents were amended in January
2007 to eliminate the requirement that the holders of 60.1% of the outstanding
principal amount consent to our issuance of shares, debt or fixed convertible
securities to finance our operations, continue to contain a full “ratchet down”
provision which has a dilutive effect, which is triggered by future financing at
an effective price lower than the conversion and warrant exercise
price.





- 8
-


In July
2008, we reached an agreement with the holders of the Secured Debentures which
extended the due date to June 28, 2009 (which may be further extended if we
raise equity financing of more than $2 million before maturity), capitalizing
interest until the Secured Debentures are due and waiving the ratchet down
anti-dilution adjustment for certain equity financings completed before October
31, 2008.  In exchange for these amendments the Company will
exchange:





·
            new
      debentures for 25% of the outstanding principal amount of Secured
      Debentures ($2,845,815.25) having identical rights as the Secured
      Debentures, except that the conversion price is $0.25 rather than $0.85
      and




·
            new
      warrants for 25% of the existing warrants held by the holders of the
      Secured Debentures (2,332,131), identical to the warrants surrendered,
      except that the warrant exercise price is  $0.25 rather than
      $0.85 and the new warrants are only exercisable for cash until December 1,
      2008.




On August 7, 2008, we issued 1,690.080
units (each consisting of two shares of our common stock and one warrant) to 18
accredited investors for aggregate consideration of $845,038.47.  Of
this consideration $762,593.66 was cash or cash advances made to us after
April 15, 2008 and the balance was in exchange for prior obligations for
borrowed money and other accounts payable.  The warrants are exercisable until June
30. 2013 and entitle the holder to acquire one additional share of our common
stock for $0.25 per share.





While a
substantial portion of the net proceeds of these financing activities was
initially used to repay pre-existing debt, all of the proceeds during the fiscal
year 2008 were used to support Arkados’ operations. There is no assurance that
the holders of the Secured Debentures will continue to provide additional funds
to us, that future equity financing will be available  or that future
financing will not be impeded by the anti-dilution provisions of the documents.
Our ability to continue our operations depends on our ability to obtain
financing. If adequate funds are not available on acceptable terms, we may not
be able to retain existing and/or attract new employees, support product
development and fabrication, take advantage of market opportunities, develop or
enhance new products, pursue acquisitions that would complement our existing
product offerings or enhance our technical capabilities to develop new products
or execute our business strategy.





Industry
Background





Music,
movies, and a wide range of communication services are experiencing a
fundamental shift. The distribution of content to products, and in some cases
the products themselves, is transitioning from traditional methods. Digital
content is requires a new digital distribution model.





Arkados’
Standards-based Solutions





Arkados’
solutions directly address this opportunity by enabling electrical power sockets
to be turned into high-speed network ports, thereby providing a high-speed
pathway through which digital information can travel both inside a home, and to
the home. We believe that this shift creates demand for new products, and new
products will require new types of semiconductors that incorporate digital
technologies, supporting such functions as communication and media
rendering.





Our
ArkTIC® family of turnkey hardware and software solutions is designed to address
these requirements. In particular, Arkados has implemented a method that uses
power lines as a pathway for digital information, allowing end users to truly
achieve “plug-and-play” simplicity without the hassles of custom-installed
networks, or the dropouts, unreliable coverage and security issues of wireless
solutions.





Standards-compliance
Creates Market and Product Confidence





Members
of the Arkados team have been active in establishing standards for the powerline
communications industry since the year 2000. Standards are important in many
industries. For example, wireless standards have brought about a ubiquitous,
interoperable and affordable standard for portable data
communication.





Standards
are important for a number of reasons, but especially when both consumers and
service providers may be installing different pieces of the ecosystem – as in
the powerline communications industry.





Members
of the Arkados team participated in the creation of the HomePlug Powerline
Alliance, an independent industry




- 9
-


association.  The
Alliance’s mission is to enable and promote rapid availability, adoption and
implementation of cost effective, interoperable and standards-based home
powerline networks and products.  Formed in 2000, the Alliance
developed the HomePlug 1.0 specification that unified product vendors in support
of a single powerline solution for home networking. Later, in 2008, the
technology of the HomePlug 1.0 specification was adapted by the
Telecommunication Industry Association as TIA-1113 standard. In 2005, the
Alliance ratified HomePlug AV specification that is going to enable 200Mbps
class communication over power lines.




In-Stat
believes that HomePlug AV will be a potentially important technology for
multimedia networking, as the technology could provide a home network backbone.
Arkados has worked in significant ways to develop the HomePlug specifications
including HomePlug 1.0 and HomePlug AV for in-home technologies, HomePlug BPL
for broadband over powerline, and HomePlug Command &Control (C&C) for
low-speed command and control applications.





Arkados
is a Contributing Member of the HomePlug alliance. Members of the Arkados team
hold leadership positions in the Alliance and in several HomePlug working
groups. Oleg Logvinov, our president and CEO, serves as the Chief Strategy
Officer of the HomePlug Alliance. Mr. Logvinov is also a past president of the
Alliance, having been succeeded by Matthew Theall of Intel. Additionally, Jim
Reeber, our Director of Marketing has served as Chair of Marketing Working Group
since 2003, and Grant Ogata, our Executive Vice President of Worldwide
Operations, served as the Chairman of HomePlug Command and Control Working Group
and was instrumental in spearheading the alliance’s efforts to develop a
specification for a low-cost command and control technology in his role as the
working group chair.





The
HomePlug technology now dominates the marketplace. Market analyst In-Stat
forecasted that by 2010, the technology based on HomePlug specifications will
hold 85% of the worldwide market for powerline communications. The HomePlug
Powerline Alliance has brought together both personal computer and consumer
electronics companies on a global scale. Membership in the Alliance has grown to
include nearly 70 industry-leading companies. HomePlug Sponsor companies include
Cisco; Comcast; GE Energy., part of General Electric Co.; Intel Corporation; LG
Electronics; Motorola; Sharp Laboratories of America; and Texas Instruments
Incorporated (TI). Besides Arkados, contributor members include Corporate
Systems Engineering; Gigle Semiconductor; Intellon Corporation; SPiDCOM
Technologies; and YiTran Communications.





Arkados
is also a member of the IEEE P1901 group that is focused on the development of
powerline communication Physical Layer (PHY) and Media Access Control (MAC)
specifications. Working with the HomePlug Powerline Alliance, the Arkados team
has contributed to the development of a number of specifications that were
contributed to standards organizations, such as the Telecommunications Industry
Association.





The
Strategy behind Arkados Solutions





We are a
fabless semiconductor company that develops comprehensive platform solutions,
including system-on-chip (SoC) semiconductors, and firmware and software for
manufacturers of networked multimedia appliances and feature-rich networking
devices. Our platform solutions are designed to enable a systems-based approach
to networking and will allow our customers to build products that are simple and
intuitive to install, and easy to operate with intuitive and customizable user
interfaces.





We
believe that many of our customers plan to produce not just one standalone
device, but they will introduce many system components that work together. An
example is the audio market; our customers would not just introduce a dock for
an MP3 player, but would also produce a variety of speakers, control units, CD
players, adapters, boom-box style rendering points, etc. Our solutions enable
greater versatility and value that allows our customers to create each of those
components, sometimes with only a single hardware design.





The
primary goal of our solutions is to enable our customers’ plan to develop and
sell end-user systems. Our customers require a lower Bill of Materials (their
cost for manufacturing a product), and better ways to produce a variety of
components for end-user systems more quickly. We call our solutions “turnkey”
because they enable our customers to create entire lines of products without
dedicating their resources to long product development cycles, or extensive
software design.





Our
customers are also aware of our strategy to support a seamless transition to
higher-speed technologies as they become available. This promotes long life-span
of their development effort, and creates significant re-use of their software
components.




- 10
-


Inside
our SoC, we have included a powerful processor that allows applications to be
run directly on-chip. Multiple vertical applications can be built by loading
different firmware. This feature can broaden product offerings, and extend the
product lifecycle. The Arkados implementation of HomePlug technology offers
programmability that enables OEMs to extend the functionality of their products
and produce a variety of products from a single design.





Key
elements of our solution are as follows:





·
            Comprehensive
      platform solutions.


Our
      platform solutions consist of an integrated package of hardware, firmware
      and software designed to enable our customers to develop differentiated
      products in a cost-effective manner with short time-to-market. In addition
      to a high-performance SoC, we plan to provide our customers with
      customizable, high functionality firmware and software development kits to
      allow them to rapidly develop and differentiate their products. As a
      result, we would be able to reduce our customers’ investment in costly and
      time-consuming internal firmware and software development for their
      products, and from having to source different firmware and software for
      their end products from multiple
suppliers.





·
            Customizable
      firmware and software.


Our
      firmware, which is sold as a bundled solution with our SoCs, includes a
      real-time operating system and a set of application specific modules that
      support a wide range of functions including Web-based management, audio
      distribution, traffic classifications, etc. Our software platform includes
      a comprehensive suite of components, such as device link libraries and
      drivers, tools, sample code and documentation to create applications that
      would allow a wide range of networking devices and networked multimedia
      appliances.





·
            Targeted,
      high-performance SoCs.


Our
      SoC solutions are specifically designed for the powerline communication
      market. They are driven by function-specific blocks that allow
      simultaneous execution of complex operations, such as transmission of data
      over power lines and MPEG audio decoding and playback. Our SoCs support
      most major peripheral connection protocols, including USB, Ethernet,
      Infrared, I2S,
      and a number of specialized and general purpose interfaces. This support
      enables connectivity to a variety of playback, display and content
      creation devices including cameras, PCs, televisions and car and home
      audio systems.





In
contrast, competitors that do not provide comprehensive platform solutions such
as ours may be able to produce a greater variety of customized ICs to more
specifically address the particular requirements of an OEM. In addition,
solutions which do not include customizable firmware and software like ours may
allow OEMs to take advantage of a wider range of third-party developers. While,
these alternative solutions may be lower in cost for simple data networking
devices in comparison to our platform solutions, our solution will be more cost
effective and has higher reliability and performance for multi-media networking
including distributing audio and video throughout the home and outputting to
existing consumer electronic products.




- 11
-


Key
Strategic Elements
 
 Provided
we are able to continue to finance our operations, our objective is to be the
leading supplier of comprehensive platform solutions for high-performance and
feature-rich networked multimedia appliances and networking
devices.
 
 Key
elements of our strategy are:
 
 ·
                Maintain a full platform
      solution approach with industry-leading SoCs, firmware and
      software.We
      plan to continue to commit the resources of each of our hardware, firmware
      and software teams to drive innovation so that our solutions are at the
      forefront of the networked multimedia appliances and networking devices
      industries and capture a leading market share. We intend to continue to
      devote resources to increase the performance and functionality of our SoCs
      and expand the features and capabilities of our firmware and software.
      This enables great flexibility and value for our customers as they take
      products to consumer and enterprise
markets.
 
 ·
                Maintain our focus on
      feature-rich networked multimedia appliances and networking
      devices.We
      intend to build on our experience as a platform provider by continuing to
      focus primarily on customers that produce feature-rich networked
      multimedia appliances and networking devices. In addition, we intend to
      continue to work closely with manufacturers of other media rendering
      components to ensure that our platform solutions interface with their
      current and future technology components for optimal performance their end
      products.
 
 ·
                Maintain our focus on the
      integration of powerline and audio rendering functions to secure the
      leadership position in networked multimedia appliances and networking
      devices.We
      believe that the networked audio markets will continue to represent the
      largest near-term volume opportunity for networked multimedia appliance
      and networking device manufacturers. We intend to continue to focus on
      advancing functionality and promoting our solutions to win designs in this
      large and growing market. By including these options in our platform, we
      create a foundation that enables our customers to incorporate new features
      more quickly.
 
 ·
                Enable new growth markets, such
      as photo- and video-enabled networked multimedia
      appliances.We
      intend to build on our existing expertise to be the leading provider of
      comprehensive platform solutions in new markets. We intend to continue to
      invest our research and development efforts and engineering resources to
      develop new platforms and products and to strengthen our technological
      expertise. One example is our reference design that employs both our
      solutions as well as Blackfin®
      Processors by Analog Devices to provide a cost- effective platform for a
      variety of video applications based on powerline distribution. We believe
      that our focus in this area creates optimized solutions for our customers
      and increases the revenue potential for companies throughout the value
      chain.
 
 ·
                Expand our customer base while
      securing additional design wins with existing
      customers.We
      plan to be the leading supplier of new designs to our existing customers,
      and to secure a high market share with new customers entering this market.
      We intend to continue the expansion of our customer base by marketing our
      platform solutions to additional manufacturers of consumer devices.
      Further, we intend to broaden our reach within our existing customer base
      into their adjacent product lines that can utilize technologies that we
      intend to implement in the near future. By providing key hardware and
      software components to our customers, we believe we can deliver better
      value and features to our customers, while reducing design and
      manufacturing costs.
 
 ·
                Create
      business arrangements with companies to better serve our common OEM
      customers.We
      plan to go to market together with a number of companies who target
      specific areas of the marketplace. Since certain companies pursue many of
      the same customers who approve the products destined for the end-user, we
      plan to take advantage of this communality and together create solutions
      and offer even greater turnkey value. This approach offers OEM customers
      an easier point-of-contact and allows them to take advantage of
      efficiencies we have already built with our
  partners.


- 12
-


Our
Products





We design
and develop and are marketing highly integrated SoC semiconductors that are
designed to cater to the markets for powerline communications. Our chip designs
offer flexible solutions through programmability and remote firmware upgrades.
Our customers have responded very favorably to our platform offerings which we
call ArkTIC®, which
is an acronym for the Arkados Total Integration Concept.





Solutions
from our ArkTIC® family
of converged multimedia and networking solutions targets data-, audio-, photo-,
and video-enabled networked multimedia appliances and networking
devices.





The
ArkTIC® family
is a portfolio of turnkey hardware and software solutions that enable OEMs and
ODMs to quickly develop digitally networked consumer electronic products with a
competitive cost structure to address this rapidly developing market. Among
other networking interfaces, the first member of the ArkTIC® family
will supports a powerline communication interface based on the HomePlug
Powerline Specification 1.0.1.





We
started marketing our AI-1100 system-on-chip in Fiscal 2007. It is designed to
be embedded into various consumer electronics and multimedia networking devices
and deliver high-speed Internet/Networking connectivity and multimedia over the
power lines in a home. The AI-1100 chip offers a single-chip integration of
HomePlug 1.0.1 powerline technology, an ARM 926-JES CPU operating at 160 MHz,
dual Ethernet interfaces, an I2S Audio
Interface, and a wide variety of other interfaces designed to support connected
home applications. Furthermore, the programmable nature of our implementation
allows ODMs/OEMs to extend the functionality of these products and HomePlug
technology.







ArkTICTM
AI-1100 system-on-chip features:


·Based
      on HomePlug 1.0 Specification
              -  PHY/MAC
      sub-system is designed to allow for compliance with the HomePlug
      specification
              -  Arkados
      extensions for increased performance and future-proofing
              -  Programmable
      MAC functions for full flexibility
              ·ARM926
      Processor
              -  16k
      instruction cache & 4k data cache
              -  Memory
      Management Unit
              -  Embedded
      Trace Macrocell (ETM9)
              ·SDRAM
      Controller
              -  Supports
      external parts up to 256Mb
              ·SRAM
      Controller/Expansion Bus Interface
              -  Supports
      external boot Flash or external SRAM and acts as a general-purpose
      interface bus for external logic
              ·Ethernet controllers
              -  Standard
      MII port (802.3u) - or - PHY Emulation Port (PEP) MII (emulates Ethernet
      PHY)
              ·Video/Audio DSP Interface
              ·USB 1.1
      Device
              ·Serial
      I/O Controllers
              ·I2S
      for direct connection to audio DAC
              ·IrDA
              -  6550d
      compatible UART
              ·GPIO
      Controller
              ·JTAG /
      Debug Interface
              ·0.18μ CMOS,
      1.8V core, 3.3v I/O







- 13
-


Our
AI-1100 is the first in a series of devices built around existing and emerging
HomePlug Powerline Alliance networking specifications. This device supports the
HomePlug 1.0.1 specification along with a variety of multimedia applications.
Our Direct to SpeakerTM Internet Radio Reference Design (AI1100-DTS-INTR) and our
Direct-to-SpeakerTM MFi iPod Dock have received HomePlug 1.0 certification.
Furthermore, the programmable nature of the Arkados implementation allows OEMs
to extend the functionality of the HomePlug technology. Future devices will
include, among other enhancements, the implementation of new HomePlug standards,
such as HomePlug AV and HomePlug BPL, as they become available.





We have
modularized a core Orthogonal Frequency Division Multiplexing (OFDM) and
communication platform to rapidly develop customized solutions for each
powerline market. This enables efficient reuse and repurposing of technology
blocks, which can be used to create many specific solutions.





We also
provide consulting, software, and applications support, thereby facilitating
system integration in an effort to reduce our customers’ time-to-market and our
customers’ development costs.





In the
in-home networking portion of the market, we expect to deliver solutions for
both computer-centric and entertainment-centric applications by combining both
networking blocks and blocks that are capable of supporting end-user
applications for consumer electronics products inside our chips. Our chips are
designed to offer a high degree of programmability and may become an attractive
solution for a diverse range of home-networking products that merge traditional
consumer electronic functions with network-centric features.





In
another portion of the market, we expect to deliver highly integrated circuits
that combine both networking blocks and blocks that are capable of supporting
communications applications in demand from businesses such as hotels, office
parks, shopping plazas, apartment buildings, etc. This is sometimes referred to
as the multi-dwelling/multi-tenant unit (MDU/MTU) or the “commercial” market.
Downloadable firmware management capabilities make this an attractive solution
for remote management and service applications.





In the
Smart-Grid and Utility Applications portion of the market we expect to deliver
highly integrated circuits that combine both networking blocks and blocks that
are capable of supporting the communications applications that in demand from
service providers and utility companies. This portion includes the “green power”
applications that help utility companies to conserve energy and better manage
their network, such as Automated Meter Reading, Peak Shaving, and a host of
other applications that provide a variety of benefits and cost-saving measures.
Downloadable firmware management capabilities would make this an attractive
solution for remote management and service applications.





The application
of Arkados solutions





Listed
below are examples of the products that can be built based on the Arkados
semiconductors by ODMs and OEMs. Our customers have already developed some of
these products and either have or will be bringing them to market.


·
              CONSUMER
      ELECTRONICS - Devices that bridge current devices and content with
      existing and new consumer electronic products throughout the
      home.  Enjoy music from iPod, internet, or PC throughout the
      whole house - Watch video downloaded from the internet on your big screen
      TV,  view all digital photos stored on your PC on a digital
      photo frame or share new photos with loved ones via the internet by
      displaying them directly on a digital photo frame located thousands of
      miles away. This is a growing market that includes audio & video
      devices with embedded powerline technology. We expect this market to grow
      over the next few years as more video and audio products are released with
      networking technologies built-in. Televisions, stereos, powered speakers,
      receivers, DVD and CD players, digital picture frames, home intercom
      systems, and other products are targeted applications for powerline
      networking technology. Internet streaming content and home content servers
      should greatly increase the demand for HomePlug 1.0 and AV products. In
      particular, our solutions offer advanced features such as synchronized
      whole-house audio which, combined with its new ease of installation, may
      significantly broaden the marketplace for such
    applications.·
              NETWORK
      HARDWARE - New types of routers, switches, gateways, network attached
      storage, surveillance cameras, and other devices that offer various types
      of services to the SOHO (Small Office Home Office)
  network.
  - 14
-
 ·
              INTERNET
      TELEPHONY - As companies like Vonage, Comcast, Verizon and other service
      providers begin to roll-out new voice services to the home, an easy-to-use
      and reliable home network is needed. VoIP (Voice-over-IP) phones are
      currently produced by several vendors and we expect to see such products
      with HomePlug technology embedded into
them.
 
 ·
              HOME
      SECURITY - Many companies have created home security cameras that are
      networked through various means. Early market entrants GigaFast, ST&T,
      and Asoka have already created powerline networked security cameras with
      embedded web servers that allow direct access to the camera’s
      feed.
 
 ·
              SMART
      GRID – Many utility companies may implement applications that could
      provide benefits such as saving money due to automated operation, the
      ability to predict maintenance issues, implementing a self-healing grid
      architecture, reducing power outages, and making better use of their
      assets; managing the grid more intelligently to prevent blackouts and
      power disruptions; recovering more quickly after a power disruption;
      increasing security; implementing real-time monitoring of the state of the
      network, and managing a response; managing the quality of the power (to
      deliver differentiated services for businesses with sensitive electronics
      and computers); implementing “green power” programs that allow consumers
      to manage their electricity use and costs; and integrating control
      systems, power electronics, and distributed
  resources.








Customers





By
developing solutions to facilitate our customers’ rapid development of
full-featured next-generation products at reasonable prices, we position our
company as a builder of bridges. Our solutions are designed to bridge
entertainment and internet content to devices around the home, and to bridge
between communications technologies, such as WiFi and powerline, Ethernet and
powerline, and even to-the-home and in-the-home powerline technologies. We
believe the growth of digital technologies will increase beyond computing until
a large percentage of devices in the home seamlessly connect to some form of
digital content or communications.





Many of
our existing and potential customers are also currently in a specific
marketplace that is being affected by digital convergence and networking
technologies. We believe traditional networking companies are moving into
traditional consumer electronics areas, while the reverse is happening to
consumer electronics companies. Arkados provides platform solutions that allow
those companies to enter the new market space with ease and speed.





We
continue to gain considerable traction with our customers. We and our customers
have publicly displayed a wide variety of potential products that include
whole-house audio solutions (including music player docking stations, audio
bridges, powered speakers, computer drivers for whole-house networked
distribution of sound, and internet radio), and whole-house video distribution
systems (including Internet-based TV adapters, surveillance systems, and digital
picture frames).





Our
solutions have been shown in a number of public venues, including the 2007 and
2008 International Consumer Electronics Show, Microsoft’s WinHEC 2007, and other
conferences. Our prototypes or products have been publicly announced and/or
demonstrated by Analog Devices, Channel Vision, devolo AG, GigaFast, GoodWay,
Meiloon, PAC Electronics, Russound, Tatung, Zinwell, and Zylux. Many of these
companies are suppliers to top tier brands in the market place. Several of these
relationships, among others, have progressed into sales of chips, software
development services, and related revenue.





Arkados received
a major award from G4 Television for its HomePlug system-on-chip and
software solution. While more than 20,000 products were introduced at
the 2008 Consumer Electronics Show, only fifteen received G4’s CES 2008
“Best of the Best” product award.  Arkados won the award on the
strength of its embedded solution powering the IOGEAR Powerline
Stereo Audio System consisting of an iPod® dock that is used as an audio
source to distribute synchronized music to up to four different receivers. This
creates whole-house music at a fraction of the cost of dedicated installed
systems




We have
also been involved with our customers in projects related to Smart Grid
applications.





We have
experienced the beginning of semiconductor sales.  While most of our
revenue has come from design and development agreements, we expect that such
agreements will lead to volume orders, but we cannot assure you that they




- 15
-


will. We
are targeting the sale of our powerline connectivity products to a broad range
of communications, computing and consumer electronics ODMs/OEMs, but we have not
yet derived significant product revenue from these ODMs/OEMs due to lengthy
development cycle to develop and produce finished products. We are working
closely with many of the leading communications, digital entertainment and
consumer electronics companies some of which may result in design wins and
orders for our integrated circuits. There are multiple OEMs that are sampling
and testing our AI-1100 SoC chips, and one has announced a product incorporating
our chip, but factors such as design issues, compatibility issues and
manufacturing errors could delay the functioning of the products and prevent us
from making sales. As is evidenced by the HomePlug certification of several of
our reference designs for an Internet Radio and for a whole-house connected iPod
dock, we are focused on delivering a wide array of reference designs that can
help guide our customers through the product-to-market cycle.





Strategic
Relationships





In July
2004, Arkados entered into a five-year Silicon Product Development and Product
Collaboration Agreement with GDA Technologies, Inc., under which GDA assists
Arkados in translating Arkados chip designs into a mask that can be used by a
semiconductor foundry to manufacture Arkados designed integrated circuits in a
cost effective manner. We paid GDA $175,000 under the agreement in Fiscal 2007
and will pay GDA 20% of production costs as compensation for production
management services. In addition, we issued 150,000 shares of our restricted
common stock to GDA for nominal consideration.





We have
also entered into go-to-market strategies with a number of ODMs and other
technology companies. Since many companies in this space target the same
customer base as we do, we plan to collaborate to create solutions and offer
even greater turnkey value for OEMs. We have announced relationships and
strategies with several companies, including GigaFast and Tatung. Tatung
Corporation, a multi-billion dollar product design and manufacturing company,
and Arkados are developing whole-house digital media solutions that can
distribute music and video from a multitude of sources such as an iPod®, music
and video stored on computers, any internet radio station, and music and video
download services to existing stereo systems, televisions, and speakers
throughout the house.





Manufacturing




We have
developed strategic alliances to implement our fabless manufacturing strategy.
This is designed to allow us to concentrate on our design strengths, minimize
fixed costs and capital expenditures, access advanced manufacturing facilities,
and provide flexibility on sourcing multiple leading-edge technologies. We
contract with third parties for all of our wafer fabrication and assembly, as
well as for a portion of our design and testing.





Our
manufacturing process is designed as follows. After wafer fabrication by the
foundry, third-party assembly vendors package the wafer die. The finished
products are then sent for testing, either to third-party testers or to our
internal test facility, before shipment to our customers. We expect to qualify
each product, participate in process and package development, define and control
the manufacturing process at our suppliers where possible and practicable,
develop or participate in the development of test programs, and perform
production testing of products in accordance with our quality management system.
If possible, we plan to use multiple foundries, assembly houses, and test
houses. At present, we are using foundries in Japan owned by Fujitsu and we also
use third parties to aid in our test and qualification process.  Our
efforts to develop multiple sources of supply have been hindered by our lack of
adequate working capital.





Patents,
Licenses and Trademarks





Our
patent portfolio reflects our innovative development efforts and our forecasts
of how we envision the market will evolve. We have been awarded 11 U.S. Patents,
which we believe is an indicator that we have developed a good understanding
regarding key industry developments. We believe our patents not only help us to
safeguard our intellectual property, but will help us to position our company as
a leader in this space. We believe that some of our recently awarded patents are
integral to the implementation of powerline communication networks, which may
create value in our company given the global market for this technology and the
vast number of potential players in the marketplace.





We rely
on trade secret, patent, copyright, and trademark laws to protect our
intellectual property in our products and technology. We intend to continue this
practice in the future. In addition to our issued U.S. patents, we have over 30
pending U.S. patent applications, and various corresponding international
patents and applications.





- 16
-


To
complement our own research and development efforts, we have also licensed, and
expect to continue to license, from third parties a variety of intellectual
property and technologies important to our business.





Although
we have not received any notification from third parties that we are infringing
any of their intellectual property, there may be third party patents or other
intellectual property that we are infringing. If that were the case, third
parties could assert infringement claims against us or seek an injunction on the
sale of any of our products in the future. If such infringement were found to
exist, we may attempt to acquire the requisite licenses or rights to use such
technology or intellectual property. However, we cannot assure you that such
licenses or rights could be obtained on favorable terms or at all.





Research
and Development





We have
focused on R&D since our inception. Our company has placed extraordinary
value on the work done by our engineering staff, and we continue to create new
software solutions, technology implementations, system-on-chip semiconductors,
and the creation and development of intellectual property, that focus on helping
our customers to get full-featured connected products to market quickly and at a
lower cost. We protect our innovations with diligent patent and trademark
programs.





We
concentrate our research and development efforts on the design and development
of new products for each of our principal markets. At this point, 12 of our 16
employees are dedicated to research and development.  Research and
development expenditures were $1,987,313, $1,920,892, and $1,395,257 in the
years ended May 31, 2008, 2007 and 2006, respectively.





Our 2007
acquisition of Aster Wireless, near Rochester, NY strengthened our intellectual
property pool and added three  R&D employees to those that
currently work in New Jersey. The intellectual property that was developed by
Aster through years of R&D under the guidance of industry giants such as
Kodak® has allowed us to introduce new products complementary to our existing
product offerings. An example is our offering of a license to an implementation
of the 802.15.3b Wireless Multimedia MAC, which is available to any developer
interested in jumpstarting their development process, and bringing digital home
multimedia products to market more quickly. With these developments, Arkados
continues to offer a best-in-class platform for media-centric applications that
demand reliable delivery of time-sensitive data.





We also
fund certain research activities focused on other emerging product
opportunities. Our future success is highly dependent upon our ability to
develop complex new products, to transfer new products to volume production in a
timely fashion, to introduce them to the marketplace ahead of the competition,
to maintain competitive features, and to have them selected for design into
products of leading systems manufacturers.





Our
future success may also depend on assisting our customers with integration of
our components into their new products, including providing support from the
concept stage through design, launch, and production ramp. In this new converged
marketplace, we believe the role of the traditional semiconductor provider is
changing, and we have positioned ourselves as a platform provider that becomes
an integral part of our customer’s product development process. We believe that
our focus on application related features and software may contribute to our
success.





Intellectual
Property Portfolio





We focus
on developing patents that have direct application to growth and strength in our
business. Key patent areas include power line communications and wireless
communications technology and applications.  Examples include methods
for increasing resistance to noise, allowing more robust transmissions,
maximizing throughput, and several product-level applications such as adaptors
and connectivity devices. We believe our patent portfolio will provide a
competitive edge in the areas of the technology based on such new standards such
as IEEE1901 and upcoming ITU G.hn standards.





Our IP
Portfolio continues to grow. We diligently protect our inventions with US and
International patents. Currently, we have been issued 11 patents by the United
States Patent & Trademark Office, and have 25 pending applications. We also
prosecute our valuable IP on an international basis, and currently have 18
Pending International Applications.





We have
registered trademarks for Arkados® and ArkTIC®, and have two other trademark
applications pending.





- 17
-


As a
member of the HomePlug Alliance, we are obligated to license Necessary Patent
Claims (intellectual property rights without the use of which products cannot
conform to the HomePlug specifications) to any member of the alliance (including
competitors) on a reasonable and non-discriminatory basis (known as RaND) as
defined in the alliance’s Sponsor Agreement and Contributor Agreement. Under our
license and development agreements, we retain title to our patents, patent
applications and other licensed technology, and to any improvements that we
develop.





To
complement our own research and development efforts, we have also licensed, and
expect to continue to license, from third parties a variety of intellectual
property and technologies important to our business.





Although
we have not received any notification from third parties that we are infringing
any of their intellectual property, there may be third party patents or other
intellectual property that we are infringing. If that were the case, third
parties could assert infringement claims against us or seek an injunction on the
sale of any of our products in the future. If such infringement were found to
exist, we may attempt to acquire the requisite licenses or rights to use such
technology or intellectual property. However, we cannot assure you that such
licenses or rights could be obtained on favorable terms or at all.








Competition





Arkados
faces intense competition as a solution provider, a technology developer of
standards-based powerline technologies, as well as from other technologies also
focused on our target markets.  Our overarching value remains in our
ability to develop SoC/software solutions that help our customers to create
full-featured products that are cost-effective and can be brought to market
quickly.





Differentiation
of Arkados Solutions


Some
manufacturers have attempted to add HomePlug-based chips to their existing
products.  This “bolt-on” approach often leads to products that are
functional; however, the end product can be very expensive with decreased
margins.





Arkados’
solutions offer a completely different approach.  By incorporating a
processor and multiple interfaces into the same chip that houses HomePlug
communication technology, and by providing application level software that runs
on the chip, Arkados presents a more cost-effective and more flexible strategy
to bring products to market.





Building
on the architecture of the HomePlug 1.0 chip that offered a wide range of
advantages over the competition, Arkados is developing a HomePlug AV
System-on-Chip to provide an even greater range of differentiation and
advantages.





Business
Environment


Markets
for our products are highly competitive and we expect that competition will
continue to increase. We compete with other semiconductor suppliers that offer
standard semiconductors, application-specific integrated circuits, and fully
customized integrated circuits, including embedded software, chip, and
board-level products.





Our
competitive strategy has been to provide cost-effective integrated products
bundled with software that is designed to support a turnkey approach for a
variety of applications. We believe this approach, coupled with the benefits of
powerline communications technology, allows us to effectively compete due the
following aspects:





·
            Due
      to embedded HomePlug standard technology, we believe our product
      performance includes unique features such as whole-house connectivity,
      high throughput, ease of setup, and Quality-of-service mechanisms that
      preserve a positive end-user
experience


·
            Due
      to the integration of our system-on-chip and firmware solutions, we
      believe our potential customers will benefit from quicker time-to-market,
      a competitive bill-of-materials cost, an enhanced feature set, and lower
      development costs


·
            Due
      to our reliance on international technology standards, we believe our
      solutions are able comply with regulatory requirements on a global
      basis





We face
competition both from established players that are beginning to focus on
powerline networking technology, as well as recent entrants in the field. Some
of these competitors create solutions that are compliant with HomePlug Alliance




- 18
-


specifications,
while other competitors’ products are based on proprietary technologies.
Immediate key competitors in the HomePlug powerline networking portion include
Afa Technologies, Conexant Systems Inc., Intellon Corporation, and Maxim
Integrated Products Inc.  DS2 and Panasonic build ICs that are
incompatible with the HomePlug standard.





We expect
to face additional competition from new entrants in each of our markets, which
may include both large domestic and international integrated circuit
manufacturers and smaller, emerging companies. Many of our competitors have
substantially greater financial, engineering, manufacturing, marketing,
technical, distribution and other resources, broader product lines, greater
intellectual property rights, and longer relationships with customers than we
have.





In
addition, there are organizations worldwide may attempt to create technology
standards that compete with the industry specifications established by the
HomePlug Powerline Alliance. These include the Institute of Electrical and
Electronics Engineers (IEEE) and the International Telecommunication Union (ITU)
which may adopt standards different from, and incompatible with, the technology
inside our products. We also participate in these standards efforts. Other
industry organizations promote powerline communications, such as the Universal
Powerline Association, the Consumer Electronics Powerline Communication Alliance
(CEPCA) and the High Definition Powerline Communications (HD-PLC) Alliance. They
have also established technology or coexistence specifications that may conflict
with the HomePlug specifications.





As a
provider of powerline home connectivity integrated circuits, we face additional
competition from other home connectivity technologies such as twisted pair
cable, coaxial cable and wireless media. Despite the broad array of different
technologies deployed to date, we believe those technologies that do not require
new wires such as HomePNA, MoCA, 802.11 and other wireless alternatives, will
provide the competition to powerline solutions.













































- 19
-


Sales
and Marketing





We expect
to sell our products worldwide using the following channels:





·
            Sales and marketing
      partnerships with established
companies.


These
      relationships generally help to establish the presence in specific regions
      and access customers through already developed relationships. The benefits
      of using this channel are numerous, among them are added credibility,
      reduction of upfront sales and marketing expenses, acceleration of volume
      sales through incumbency of the customer base, and local customer support
      and account management.





·
            Advanced development
      partnerships with strategic
customers.


The
      benefits of using this channel include the creation of product focus,
      reduction of upfront sales and marketing expenses, acceleration of sales
      volumes through early commitments, and creation of incremental development
      revenues.





·
            Network of distributors that
      can support our customers
worldwide.


We
      have an agreement with Jedcom, a distributor in Taiwan. Under the terms of
      this agreement Jedcom would provide us with distribution, sales and
      marketing, and field application engineering support in Taiwan and certain
      regions of China.





We expect
to develop our sales force to include a network of direct sales regions. We
expect to establish international sales offices and develop relationships with
appropriate organizations located worldwide. We expect to supplement our direct
sales force with sales representative organizations and distributors. The scope
and development of our sales and marketing organization will depend, among other
things, on the amount of capital available to us and when products are ready for
testing.





Our
marketing consists of various programs that help create awareness and promote
the benefits of our various solutions, the worth of the company, and the value
of our technology to our target industries. Much of the marketing is handled
through press releases, website, involvement in trade shows and conferences,
press interview opportunities, placed articles, newsletters, white papers, and
through interpersonal relationships developed through numerous methods. We have
at times hired agencies to assist with specialized functions.




Regulatory
Environment




Our
customers’ products, which contain our solutions for powerline communications
technology must adhere to regulations about transmission power, permissible
frequencies of operation and electromagnetic interference (EMI) for both U.S.
and foreign governments. In some countries, certification tests must be
performed to ensure a vendor’s products comply with the regulations. While it is
our customers who are responsible to obtain certifications, we need to ensure
international regulations are adhered to.





The
Federal Communications Commission (FCC) administers regulations in the United
States. Our solutions are unlicensed devices in the U.S.A. and receive no
regulatory protection from interference from other devices and may not cause any
harmful interference to licensed devices. Those who operate unlicensed devices
must stop using a device when the FCC declares that the device is causing
harmful interference. Products using our solutions over power lines both inside
and outside the home are FCC-regulated and must comply with radiated emission
limits and various other technical standards.





Outside
of the United States, the International Electrotechnical Commission,
International Special Committee on Radio Interference (IEC/CISPR) is the primary
authority. IEC member states import IEC/CISPR standards into their own national
laws either in whole or in part. Powerline communications regulations are based
upon specific country requirements. In some countries, regulations may limit the
use of powerline communications in certain circumstances or to certain power
levels or frequency bands.





Before
products can be sold, most countries require electronic products to comply with
safety testing or to be certified. While it is our customers who are responsible
to obtain certifications, we need to ensure international regulations are
adhered to.








- 20
-


Regulations
and their enforcement and interpretation varies between countries. Regulatory
change or certification methodologies may require a redesign of products
containing our solutions. At its most severe, regulatory changes could terminate
the use of products already in the marketplace.




Backlog





We expect
sales outside of strategic partnership agreements to be made primarily pursuant
to standard short-term purchase orders for delivery of standard products. We
expect the quantity actually ordered by the customer, as well as the shipment
schedules, to be frequently revised, without significant penalty, to reflect
changes in the customer’s needs. As a result, we believe that in the future, our
backlog at any given time should not be used as a meaningful indicator of future
revenues.





As of May
31, 2008, we had a backlog of approximately $235,000 of orders we believe are
firm.





Employees





As of May
31, 2008, we had 16 full-time equivalent employees, including our CEO, Oleg
Logvinov. The majority (12) of our full time employees are engaged in research,
development, engineering with the remainder being divided to marketing and
administration.  Andreas Typaldos, our Chairman of the Board provides
us with leadership in our capital raising efforts on a part-time
basis.  Our future success depends, in part, on our ability to
continue to attract, retain and motivate highly qualified technical, marketing,
engineering, and management personnel. Due to the highly competitive nature of
the marketplace that we operate in and our financial condition, we have lost one
employees since May 31, 2008 and may continue to lose key employees. We expect
to be able to hire qualified personnel to fill open positions created by such
occurrences, although there can be no assurance that we will be able to do this
in the future. None of our employees are represented by collective bargaining
agreements.





From time
to time, we also employ outside contractors either for a specific project, or to
supplement our staff on a temporary basis.




























- 21
-


ITEM
      1A.
            RISK
      FACTORS.





An
investment in our common stock is speculative in nature, involves a high degree
of risk and should not be made by any investor who cannot afford the loss of
their entire investment. Each prospective purchaser should carefully consider
the following risks and speculative factors associated with our business and
capital structure, as well as others described elsewhere in this report, before
making any decision to buy, sell or hold our common stock.





This
report contains certain statements relating to future events or the future
financial performance of our company. Readers are cautioned that such statements
are only predictions, involve risks and uncertainties, and that actual events or
results may differ materially. In evaluating such statements, prospective
investors should specifically consider the various factors identified in this
memorandum, including the matters set forth below, which could cause actual
results to differ materially from those indicated by such forward-looking
statements.








Risks Related to Our
Financial Condition





Dependence
on financing.





Since we
are not generating significant revenue compared to our operating expenses, we
are dependent on outside sources of financing. We have financed our operations
by issuing secured and unsecured convertible debt and equity securities in
private placements, in some cases with equity incentives for the investor in the
form of warrants to purchase our common stock and have borrowed from affiliates
of our Chairman of the Board. We have sought and will continue to seek various
sources of financing but there are no commitments from anyone to provide us with
financing. If we are unable to obtain financing, we may have to suspend
operations, sell assets and will not be able to execute our business
plan.  If we default on our obligations to secured debt holders, our
assets could be seized and sold or retained to satisfy such
obligations.





Inability to obtain additional
financing would result in the suspension of our business.





Our
ability to continue our operations depends on our ability to obtain financing.
If adequate funds are not available on acceptable terms, we may not be able to
retain existing and/or attract new employees, support product development and
fabrication, take advantage of market opportunities, develop or enhance new
products, pursue acquisitions that would complement our existing product
offerings or enhance our technical capabilities to develop new products or
execute our business strategy.





Terms
of our outstanding 6% Secured Convertible Debentures due December 28, 2008
impedes our ability to obtain financing.




We issued
$9,283,461 principal amount of 6% Secured Convertible Debentures due December
28, 2008 issued during the period from December 2004 to December 31,
2007.  Due to the capitalization of interest payments and the issuance
of additional principal as a penalty as of April 1, 2008, the principal amount
of the Debentures outstanding May 31, 2008 was $11,051,709. The documents
related to these securities, although amended in January 2007 to eliminate the
requirement that the holders of 60.1% of the outstanding principal amount
consent to our issuance of shares, debt or fixed convertible securities to
finance our operations, continue to contain a full “ratchet down” provision
which has a dilutive effect which is triggered by future financing at an
effective price lower than the conversion and warrant exercise price. While a
substantial portion of the net proceeds of the sale of the Debentures was
initially used to repay pre-existing debt, all of the proceeds during the fiscal
year 2007 and 2008 were used to support Arkados’ operations. There is no
assurance that the holders will continue to provide additional funds to us or
that future financing will not be impeded by the anti-dilution provisions of the
documents. Our ability to continue our operations depends on our ability to
obtain financing. If adequate funds are not available on acceptable terms, we
may not be able to retain existing and/or attract new employees, support product
development and fabrication, take advantage of market opportunities, develop or
enhance new products, pursue acquisitions that would complement our existing
product offerings or enhance our technical capabilities to develop new products
or execute our business strategy.





- 22
-


If
we lose key employees and consultants, including our Chairman and CEO, or are
unable to attract or retain qualified personnel, our business could
suffer.




Our
future success depends, in part, on our ability to continue to attract, retain
and motivate highly qualified technical, marketing, engineering, and management
personnel. Due to the highly competitive nature of the marketplace that we
operate in and our financial condition, we have lost one employee since May 31,
2008 and may continue to lose key employees.  We are highly dependent
on our management, particularly our CEO, Oleg Logvinov and our Chairman, Andreas
Typaldos.  The loss of the services of either of Mr. Logvinov, Mr.
Typaldos or other personnel could have a material adverse effect on our
operations.  Although Mr. Logvinov is a party to an employment
agreement for his services until May 24, 2008, from time to time, our inability
to make payments under the agreement may give him the right to terminate his
employment with us at any time on short notice.  As of May 31, 2008,
we have failed to make payments totaling $ 466,033 due to Mr. Logvinov,
comprised of an unpaid bonus, salary and expenses.  We are negotiating
a longer term agreement with Mr. Logvinov, but there can be no assurance that he
will remain associated with us.  Similarly, Mr. Typaldos provides
services to us on a month to month basis under a consulting agreement that
expired on May 31, 2007 and there is no assurance that Mr. Typaldos will
continue to devote time and attention to our business.  As of August
31, 2008, we owe $1,367,633 in payroll to all officers and other employees,
including Mr. Logvinov.  Our failure to satisfy these obligations
creates a morale problem, increases the risk of our losing personnel at every
level and minimizes our chance to retain additional or replacement
staff.





Our
independent registered public accounting firm has expressed doubt about our
ability to continue as a going concern, which may hinder our ability to obtain
future financing





Our
consolidated financial statements as of May 31, 2008 have been prepared under
the assumption that we will continue as a going concern for the year ending May
31, 2009. Our independent registered public accounting firm has issued a report
that included an explanatory paragraph referring to our recurring losses from
operations and net capital deficiency and expressing substantial doubt in our
ability to continue as a going concern without additional capital becoming
available. Our ability to continue as a going concern is dependent upon our
ability to obtain additional equity or debt financing, attain further operating
efficiencies, reduce expenditures, and, ultimately, to generate revenue. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty





If
we fail to comply with the rules under the Sarbanes-Oxley Act related to
accounting controls and procedures, or if material weaknesses or other
deficiencies are discovered in our internal accounting procedures, our stock
price could decline significantly and raising capital could be more
difficult.





If we
fail to comply with the rules under the Sarbanes-Oxley Act related to accounting
controls and procedures, or, if material weaknesses or other deficiencies are
discovered in our internal accounting procedures, our stock price could decline
significantly and raising capital could be more difficult. Section 404 of the
Sarbanes-Oxley Act requires annual management assessments of the effectiveness
of our internal controls over financial reporting beginning with our financial
statements for the year ending May 31, 2009 and a report by our independent
auditors addressing these assessments beginning with the financial statements
for the year ending May 31, 2010. We are in the process of documenting and
testing our internal control procedures, and we may identify material weaknesses
in our internal control over financial reporting and other deficiencies,
including the lack of sufficient staff. If material weaknesses and deficiencies
are detected, it could cause investors to lose confidence in our financial
statements and result in a decline in our stock price and consequently affect
our financial condition. In addition, if we fail to achieve and maintain the
adequacy of our internal controls, we may not be able to ensure that we can
conclude on an ongoing basis that we have effective internal controls over
financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act.
Moreover, effective internal controls, particularly those related to revenue
recognition, are necessary for us to produce reliable financial reports and are
important to helping prevent financial fraud. If we cannot provide reliable
financial reports or prevent fraud, our business and operating results could be
harmed, investors could lose confidence in our reported financial information,
and the trading price of our Common Stock could drop significantly. In addition,
we cannot be certain that additional material weaknesses or significant
deficiencies in our internal controls will not be discovered in the
future.  Our stock price, ability to obtain financing and the listing
of our common stock on the OTCBB would be adversely impacted if we fail to
maintain effective disclosure controls and procedures.





- 23
-


We
have not generated significant revenue from our principal intended activities
and we have been dependent on a mall number of customers for substantially all
of out revenue.





While our
most recent quarters have reflected what we believe is the beginning of regular
customer activity, as a development stage company, we have generated limited
revenue principally from providing development services and generating data in
field test scenarios. We have not sold sufficient quantities of mass produced
semiconductors, which is the primary part of our expected revenue stream going
forward. In addition, substantially all of our revenue has been from a small
number of customers. It is difficult, in a market that is rapidly evolving, to
evaluate the future sales performance of powerline technology, and our
implementation of it. We may not successfully address any of these risks and may
never have significant revenue.





We expect losses
will continue for the foreseeable future. Our stock price may be affected by
such losses.





In our
short history, we have not reported an operating profit and do not expect to
report a profit in the near future, if at all. We have experienced losses from
operations since inception. Losses are likely to continue, and may cause
volatility in our stock price.





Risks Related to Our
Business Plans and Operations





Consumer
demand may not develop as we anticipate, and our business will
suffer.





The
initial and primary customers of our semiconductors are expected to be OEMs of
devices with uses for connectivity. OEM acceptance of powerline technology will
be driven by consumer demand for home connectivity. If consumer demand does not
develop as we anticipate, our products will sell slowly, or not at all, and our
business will suffer.





There are
several factors that may affect the expansion of the home connectivity
market:





·
            the
      emergence of competing standards for home
  connectivity





·
            new
      content or products that attract a large consumer
  base





·
            interoperability
      between different products in the same
market





·
            the
      success of marketing by OEMs





·
            the
      cost and availability of connected products using this technology or
      competing technologies





We have
only limited ability to influence in the resolution of the
foregoing.





Powerline
solutions for home connectivity may not gain acceptance.





Currently,
Ethernet and Wireless technologies enjoy a large market share of the home
connectivity market. As the market broadens beyond computer networking to
include audio/video applications, it is unclear which medium will be
predominant. Among the competing physical media, including coaxial cable,
Ethernet, phone line, and wireless, many are actively supported by various trade
associations that represent the interests of a variety of companies. Some have
greater market acceptance. If powerline technology does not achieve market
acceptance, there may be less demand or no demand at all, and our business will
suffer.





Powerline
technologies, other than the technologies implemented by Arkados may
proliferate.





Arkados
is developing products that comply with the specifications for powerline
networking developed by members of the HomePlug Powerline Alliance. However,
there may be other competing, independent efforts in this market. To the extent
that a competing effort establishes the predominant industry standard for
powerline technologies that are not based on Arkados’ chosen technologies, or,
if no standard predominates in each market, our business will
suffer.





- 24
-


Products
that incorporate our chosen technologies may fail in operation, or fail to be
certified by standards organizations.





Our
ODM/OEM customers may produce products that fail to work properly, either as a
consequence of the inclusion of our semiconductors and software, or an unrelated
problem; in which case, our business may suffer. If products that incorporate
our solutions fail to pass standards test, our business will
suffer.





We
may be unable to sell large volumes of semiconductors.





While we
plan to attract customers with plans for large numbers of products, there may be
cases when significant effort results in few semiconductors sold. When a company
agrees to develop products that use our solutions, and agrees to purchase our
solutions in volume, we consider the agreement a “design win.” Achieving a
design win does not create a binding commitment from that customer. A design win
is merely an expression of interest by a customer to make volume purchases, but
at any time a customer can discontinue using our solutions. To the extent that
we are unable to convert design wins into volume sales, our business will
suffer.





We
may not be able to attract and retain engineering and technical
talent.





The needs
of the business coupled with capital constraints will dictate our ability to
hire and retain staff, but we expect to need personnel in our technical and
engineering disciplines, as well as in operational roles. Since powerline
technology is a narrow engineering and technical specialty and we have limited
financial resources, attracting experienced and retaining talent has and is
expected to continue to be difficult. If we are unable to attract and retain
qualified personnel, our ability to develop and produce our products will be
limited.





Our
solutions have a long development and sales cycle. We may continue to incur
significant expenses before revenues are realized.





Significant
company resources must be dedicated to research and development, production and
sales and marketing in order to properly sell solutions into our target
markets.  We have and will continue incur substantial product
development expenses before generating associated revenues. Customers typically
spend two to nine months in testing before volume production of its own
products, which incorporate our solution. Sales cycles are lengthy and produce
delays between the time we incur expenses for research, development, sales and
marketing efforts, and the time that we generate revenue, if any revenue is
generated. If we do not generate revenue after we have incurred substantial
expenses to develop and market any of our products, our business will
suffer.





We
will depend on our OEM and ODM customers to produce successful products that
incorporate our solutions.





Our
customers are OEMs and ODMs in our target markets. They integrate our IC’s into
their products. If their products are not successful, we may not sell volume
quantities of our semiconductors. OEM and ODM products may be unsuccessful for
many reasons which are beyond our control. Any of these reasons may harm our
business.





We
will rely on third parties to fabricate, assemble and test our solutions, which
may increase costs or create delays.





As a
“fabless” semiconductor manufacturer, we do not own or operate a semiconductor
fabrication, assembly or testing facility. We have entered into an agreement
with GDA Technologies, Inc. to manage this process for us. In the future, GDA or
contract foundries, and assembly and test houses selected by us may also be
adversely affected for reasons beyond our control. This may result in our
inability to obtain products within the time frames, volumes or costs we
require, or at all. Any disruption in the availability of products, or problems
associated with the delivery, quality or cost of fabrication, assembly and
testing of our products may cause our business to suffer.





Our
specifications may result in unacceptable manufacturing yields from our
suppliers, which may increase our product costs or reduce supplies.





We write
specifications and create designs and our third-party suppliers manufacture
chips based on those specifications and designs. We have not yet entered into
volume production of our products, and our specifications may fall short of
producing volumes of semiconductors effectively and efficiently. This may cause
dies on our wafers to function poorly.






- 25
-


The term
“yield” is used to express the proportion of functional die expressed as a
percentage of total die on a wafer. If expected yields are not reached, our
product costs will increase. We may also experience problems when our products
are scaled to smaller geometries. Problems with yield may not be identified
until late in the product development cycle, or even once an end-product is
built and sold. Yield problems are difficult to detect, time consuming and
expensive to correct. These issues could affect our intention to deliver
products to customers in a timely manner.





Defects
in our products could hurt the business by harming our reputation, decreasing
our market acceptance, losing customer accounts, and creating liabilities for
our company.





Integrated
circuits are highly complex products, and may contain defects or bugs which may
not be detected until other products that incorporate our chips are shipped and
being used by end-users. Defects may harm our reputation and make customers
reluctant to buy our products. Correcting these defects is an expensive process.
If defects are not discovered until after we have commenced commercial
production of a new product, we might incur substantial additional development
costs. If we fail to solve problems in time, we may incur product recall, repair
or replacement costs. These problems may also result in claims against us by our
customers or consumers. Any such problems could divert our company resources
from other development efforts. Moreover, we would likely lose, or experience a
delay in, the market acceptance of our products. We could also lose credibility
with our current and prospective customers.





Regulation
in certain regions of the world, which limits our international
market.





Our
powerline communication products are designed to operate on frequencies that are
currently restricted by government regulations in certain areas of the world,
Japan as an example. As a result, our semiconductors cannot be used in products
used in such areas at this time. The international market will remain limited
unless the existing regulations are changed or until we develop products that
can operate within the constraints imposed by the existing
regulations.





Future
Federal Communications Commission, or FCC, regulation may restrict sales of our
products adversely affecting our business.





Our
powerline communication products are designed to operate on frequencies that are
not currently restricted by FCC regulations. OEM products incorporating our ICs
are regulated by the FCC. Operation of these products currently is not
restricted by the FCC as long as the products do not interfere with other radio
frequency, or RF, bands licensed by the FCC. We cannot assure you that this will
continue to be the case. Should government regulations change in the future,
making operation of our customers’ products at their current radio frequency
bands subject to restrictive regulation, or subjecting the frequencies on which
our products operate to restrictions, our customers’ desire to purchase our
products could diminish and our business may suffer.





Our
business is highly dependent on the expansion of the consumer digital
entertainment electronics market.





We expect
that the main growth in our product demand will be driven by the consumer
digital entertainment electronics market. We are focusing on audio/video
transmission and distribution products for the in-home use. We expect the
consumer digital market to expand; however, our strategy may not be successful.
Given current economic conditions in the United States and internationally, as
well as the large installed base of consumer electronics products, consumer
spending on home electronic products may not increase as expected. In addition,
the potential decline in consumer confidence and consumer spending could have a
material adverse effect on our business.





Our
success depends on our ability to introduce new products on a timely
basis.





Our
success depends upon our ability to develop new products for new and existing
markets, to introduce these products in a timely manner, and to have these
products gain market acceptance. The development of new products is highly
complex and we may experience delays in developing and introducing them.
Successful product development and introduction depend on a number of factors,
including:





·
            proper
      new product definition,





·
            timely
      completion of design and testing of new
  products,





- 26
-


·
            assisting
      our customers with integration of our components into their new products,
      including providing support from the concept stage through design, launch
      and production ramp,





·
            successfully
      developing and implementing the software necessary to integrate our
      products into our customers’
products,





·
            achievement
      of acceptable manufacturing yields,





·
            availability
      of wafer, assembly, and test
capacity,





·
            market
      acceptance of our products and the products of our
    customers





·
            obtaining
      and retaining industry certification
  requirements.





Although
we seek to design products that have the potential to become industry standard
products, we cannot assure you that the market leaders will adopt any products
introduced by us, or that any products that may be initially accepted by our
customers that are market leaders will become industry standard products. Both
revenues and margins may be materially affected if new product introductions are
delayed, or if our products are not designed into successive generations of our
customers’ products. We cannot assure you that we will be able to meet these
challenges, or adjust to changing market conditions as quickly and
cost-effectively as necessary to compete successfully. Our failure to develop
and introduce new products successfully could harm our business and operating
results.





Successful
product design and development is dependent on our ability to attract, retain,
and motivate qualified design engineers, of which there is a limited number. Due
to the complexity and variety of CMOS, precision linear, and mixed-signal
circuits, the limited number of qualified circuit designers and software
engineers, and the limited effectiveness of computer-aided design systems in the
design of such circuits, we cannot assure you that we will be able to
successfully develop and introduce new products on a timely basis.





Strong
competition in the high-performance integrated circuit market may harm our
business.





The
integrated circuit industry is intensely competitive and is characterized by
rapid technological change, price erosion, and design and other technological
obsolescence. Because of shortened product life cycles and even shorter
design-in cycles in a number of the markets that we serve, particularly consumer
entertainment, our competitors have increasingly frequent opportunities to
achieve design wins in next-generation systems. In the event that competitors
succeed in supplanting our products, our desired market share may not be
attainable and/or sustainable and net sales, gross margins, and results of
operations would be adversely affected.





In
powerline communications, our principal competitors include Intellon, Conexant,
Maxim, DS2, Panasonic Gigle Semiconductor, and Spidcom. In Network and Media
Processors Conexant, Cirrus Logic, Micrel, Texas Instruments, Atmel, and Sharp.
Many of our competitors have substantially greater financial, engineering,
manufacturing, marketing, technical, distribution and other resources, broader
product lines, greater intellectual property rights, and longer relationships
with customers than we have. We also expect intensified competition from
emerging companies and from customers who develop their own integrated circuit
products. In addition, some of our current and future competitors maintain their
own fabrication facilities, which could benefit them in connection with cost,
capacity and technical issues.





Increased
competition could adversely affect our business. We cannot assure you that we
will be able to compete successfully in the future or that competitive pressures
will not adversely affect our financial condition and results of operations.
Competitive pressures could reduce market acceptance of our products and result
in price reductions and increases in expenses that could adversely affect our
business and our financial condition.





Our
products may be characterized by average selling prices (ASPs) that decline over
short time periods; if we are unable to introduce new products with higher
selling prices or reduce our costs, our business and operating results could be
harmed.





Historically
in the integrated circuit industry, average selling prices of products have
decreased over time, while manufacturing costs may remain fixed. If we are
unable to introduce new products with higher margins or to reduce




- 27
-


manufacturing
costs to offset anticipated decreases in the prices of our products, our
operating results may be adversely affected. In addition, because of high fixed
costs in our industry, we are limited in our ability to reduce total costs
quickly in response to any revenue shortfalls. Because of these factors, we may
experience material adverse fluctuations in our future operating results on a
quarterly or annual basis.





Our
products are complex and could contain defects, which could reduce sales of
those products or result in claims against us.





Product
development in the markets we serve is becoming more focused on the integration
of multiple functions on individual devices. In addition to that, powerline
communication is a relatively new technology. There is a general trend towards
increasingly complex products. The greater integration of functions and
complexity of operations of our products increases the risk that our customers
or end users could discover latent defects or subtle faults after volumes of
product have been shipped. This could result in:





·
            material
      recall and replacement costs for product warranty and
    support,





·
            adverse
      impact to our customer relationships by the occurrence of significant
      defects,





·
            delay
      in recognition or loss of revenues, loss of market share, or failure to
      achieve market acceptance, and





·
            diversion
      of the attention of our engineering personnel from our product development
      efforts.





The
occurrence of any of these problems could result in the delay or loss of market
acceptance of our products and would likely harm our business, and may result
into our inability to secure a reasonable share of the market, In addition, any
defects or other problems with our products could result in financial or other
damages to our customers who could seek damages from us for their losses. A
product liability claim brought against us, even if unsuccessful, would likely
be time consuming and costly to defend.





We rely on
independent foundries to manufacture all of our wafers.





We rely
on independent foundries to manufacture all of our wafers. In order to produce
our silicon, we need to secure appropriate manufacturing services and
capacities. Our reliance on outside foundries involves several risks and
uncertainties, including the:





·
            inability
      to secure appropriate manufacturing services and
  capacities





·
            possibility
      of an interruption or loss of manufacturing
  capacity





·
            lack
      of control over delivery schedules, quality assurance, manufacturing
      yields and costs





·
            possible
      misappropriation of our intellectual
property





·
            inability
      to reduce our costs as quickly as competitors who manufacture their own
      products and are not bound by set
prices.





Market
conditions could result in wafers being in short supply and prevent us from
having adequate supply to meet our customer requirements. In addition, any
prolonged inability to utilize third-party foundries because of fire, natural
disaster, or otherwise, would have a material adverse effect on our financial
condition and results of operations. If we are not able to obtain additional
foundry capacity as required, our relationships with our customers would be
harmed and, consequently, our sales would likely be reduced, and we may be
forced to purchase wafers from higher-cost suppliers or to pay expediting
charges to obtain additional supply, if we are able to acquire wafers at
all.





In order
to secure additional foundry capacity, we may enter into contracts that commit
us to purchase specified quantities of silicon wafers over extended periods. In
the future, we may not be able to secure sufficient capacity with foundries in a
timely fashion or at all, and such arrangements, if any, may not be on terms
favorable to us. Moreover, if we are able to secure foundry capacity, we may be
obligated to utilize all of that capacity or incur penalties. These penalties
may be expensive and could harm our financial results.





- 28
-


We
will be dependent on our subcontractors to perform some of the design and key
manufacturing functions for us.





We will
depend on third-party subcontractors for the elements of the design, assembly,
packaging, and testing of our products. International operations and sales may
be subject to political and economic risks, including political instability,
currency controls, exchange rate fluctuations, and changes in import/export
regulations, tariff and freight rates, as well as the risks of natural disaster.
Although we will seek to reduce our dependence on a limited number of
subcontractors as demand for our products merits, the concentration of
subcontractors and manufacturing operations in certain areas of the World could
subject us to the risks of conducting business internationally, including
political and economic conditions in such regions as Asia, India, etc.
Disruption or termination of the assembly, packaging or testing of our products
could occur, and such disruptions could harm our business and operating results.
In addition, we are unable to predict whether events such as the epidemic of
SARS will have a negative effect on the design, supply, testing, and packaging
of our products.





We
may be unable to protect our intellectual property rights from third-party
claims and litigation.





Our
success depends on our ability to obtain patents and licenses and to preserve
our other intellectual property rights covering our technology, applications,
products, and development and testing tools. We seek patent protection for those
inventions and technologies for which we believe such protection is suitable and
is likely to provide a competitive advantage to us. In some cases, patent
applications have been deemed abandoned because we lacked adequate financial
resources to promptly prosecute the applications. We also rely substantially on
trade secrets, proprietary technology, non-disclosure and other contractual
agreements, and technical measures to protect our technology, application,
design, and manufacturing know-how, and work actively to foster continuing
technological innovation to maintain and protect our competitive position. We
cannot assure you that steps taken by us to protect our intellectual property
will be adequate, that our competitors will not independently develop or patent
substantially equivalent or superior technologies or be able to design around
patents that we may receive, or that our intellectual property will not be
misappropriated. Also, the laws of some foreign countries may not protect our
intellectual property as much as the laws of the United States.





Potential
intellectual property claims and litigation could subject us to significant
liability for damages and could invalidate our proprietary rights.





The
semiconductor industry is characterized by frequent litigation regarding patent
and other intellectual property rights. Even if we receive a patent grant we
would not be able to offer any assurance that it will not be invalidated,
circumvented, or challenged, that rights granted under the patent will provide
competitive advantages to us, or that any of our pending or future patent
applications will be issued with the scope of the claims sought by us, if at
all. As is typical in the semiconductor industry, we expect that we and our
customers may have received and may receive in the future, communications from
third parties asserting patents, mask work rights, or copyrights on certain of
our products and technologies. In the event third parties were to make a valid
intellectual property claim and a license was not available on commercially
reasonable terms, our operating results could be harmed. Litigation, which could
result in substantial cost to us and diversion of our resources, may also be
necessary to defend us against claimed infringement of the rights of others. An
unfavorable outcome in any such suit could have an adverse effect on our future
operations and/or liquidity.





If
we are unable to make continued substantial investments in research and
development, we may not be able to sell our products.





We plan
significant expenditures in research and development activities to develop
products and solutions. If we fail to make sufficient expenditures in research
and development programs, new technologies and process improvements implemented
by our competitors could render our current and planned products obsolete, and
our business could be harmed. Substantially all of our operating expenses are
related to research and development.





Pending
litigation.





We have
reported that three former officers of Enikia, LLC(Enikia, LLC being the company
from which we indirectly acquired patents and other assets relating to our
planned products), have filed a lawsuit against Andreas Typaldos, our Chairman,
Oleg Logvinov, our CEO, Enikia, Enikia’s former legal counsel, Miletos, Inc.,
Arkados and us. The action is






- 29
-


captionedRobert Dillon,
et al. v. Andreas Typaldos et al. , and was commenced in the Superior
Court of New Jersey, Chancery Division, Somerset County (Docket No. C-12102-04).
In August 2007 the Superior Court entered an order that states “Defendants,
Enikia LLC, Andreas Typaldos, Oleg Logvinov and Miletos, Inc. are dismissed from
the case and ordered to attend binding arbitration of the claims against them
pursuant to the Enikia operating agreement.  The remainder of the
Superior Court matter is stayed pending arbitration.  The arbitration
has been filed in the first quarter of 2008 and the arbitration hearing is
scheduled for October 20, 2008, with possible court litigation and appeals to
follow. We do not believe there is any merit to these claims and intend to
vigorously defend the action.  The outcome of any arbitration and/or
court litigation is inherently uncertain and we are required under our
certificate of incorporation, bylaws and employment agreements to indemnify our
officers and directors for certain liabilities, including the cost of defending
litigation brought against them in their capacity as such. A portion of our
indemnification liability is insured.





Obligation
to license certain intellectual property rights.





As a
member of the HomePlug Alliance, TIA TR30.1 and IEEE P1901, we are
obligated to license certain intellectual property rights to our competitors, on
a non-discriminatory basis, which may adversely affect our ability to
compete.





Risks
Related To Our Common Stock And Its Market Value





If
we fail to remain current on our reporting requirements, we could be removed
from the OTC Bulletin Board which would limit the ability of broker-dealers to
sell our securities and the ability of stockholders to sell their securities in
the secondary market.





Companies
trading on the OTC Bulletin Board, such as us, must be reporting issuers under
Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, and must
be current in their reports under Section 13, in order to maintain price
quotation privileges on the OTC Bulletin Board, and to be timely in such
filings.  If we fail to remain current on our reporting requirements or
file late three times in 12 calendar months, our stock could be removed from the
OTC Bulletin Board.  As a result, the market liquidity for our securities
could be severely adversely affected by limiting the ability of broker-dealers
to sell our securities and the ability of stockholders to sell their securities
in the secondary market.  There can be no assurance that in the future we
will always be current in our reporting requirements.





Our
common stock is subject to the “penny stock” rules of the SEC and the trading
market in our securities is limited, which makes transactions in our stock
cumbersome and may reduce the value of an investment in our stock.





SEC Rule
15g-9 establishes the definition of a “penny stock,” for the purposes relevant
to us, as any equity security that has a market price of less than $5.00 per
share or with an exercise price of less than $5.00 per share, subject to certain
exceptions.  For any transaction involving a penny stock, unless exempt,
the rules require:





·
            that
      a broker or dealer approve a person’s account for transactions in penny
      stocks; and





·
            the
      broker or dealer receive from the investor a written agreement to the
      transaction, setting forth the identity and quantity of the penny stock to
      be purchased.





In order
to approve a person’s account for transactions in penny stocks, the broker or
dealer must:





·
            obtain
      financial information and investment experience objectives of the person;
      and





·
            make
      a reasonable determination that the transactions in penny stocks are
      suitable for that person and the person has sufficient knowledge and
      experience in financial matters to be capable of evaluating the risks of
      transactions in penny stocks.





The
broker or dealer must also deliver, prior to any transaction in a penny stock, a
disclosure schedule prescribed by the SEC relating to the penny stock
market, which, in highlight form:





·
            sets
      forth the basis on which the broker or dealer made the suitability
      determination; and





·
            that
      the broker or dealer received a signed, written agreement from the
      investor prior to the transaction.





- 30
-


Generally,
brokers may be less willing to execute transactions in securities subject to the
“penny stock” rules.  This may make it more difficult for investors to
dispose of our common stock and cause a decline in the market value of our
stock.





Disclosure
also has to be made about the risks of investing in penny stocks in both public
offerings and in secondary trading and about the commissions payable to both the
broker-dealer and the registered representative, current quotations for the
securities and the rights and remedies available to an investor in cases of
fraud in penny stock transactions.  Finally, monthly statements have to be
sent disclosing recent price information for the penny stock held in the account
and information on the limited market in penny stocks.





The
market price of our common stock may be adversely affected by several
factors.





The
market price of our common stock could fluctuate significantly in response to
various factors and events, including:





·
            our
      ability to execute our business
plan;





·
            operating
      results below expectations;





·
            announcements
      of technological innovations or new products by us or our
      competitors;





·
            loss
      of any strategic relationship;





·
            industry
      developments;





·
            economic
      and other external factors; and





·
            period-to-period
      fluctuations in our financial
results.





In
addition, the securities markets have from time to time experienced significant
price and volume fluctuations that are unrelated to the operating performance of
particular companies. These market fluctuations may also materially and
adversely affect the market price of our common stock.





We have not paid dividends in the
past and do not expect to pay dividends in the future.  Any return on
investment may be limited to the value of our common stock.





We have
never paid cash dividends on our capital stock and do not anticipate paying cash
dividends on our capital stock in the foreseeable future.  The payment of
dividends on our capital stock will depend on our earnings, financial condition
and other business and economic factors affecting us at such time as the board
of directors may consider relevant.  If we do not pay dividends, our common
stock may be less valuable because a return on your investment will only occur
if our common stock price appreciates.





A
sale of a substantial number of shares of our common stock may cause the price
of our common stock to decline.





If our
stockholders sell substantial amounts of our common stock in the public market,
including shares issued upon the exercise of outstanding options or warrants,
the market price of our common stock could fall.  These sales also may make
it more difficult for us to sell equity or equity-related securities in the
future at a time and price that we deem reasonable or appropriate. 
Amendments to Rule 144 effective in February 2008 also substantially reduce
holding periods and eliminate burdens such as filing notices sale for
non-affiliated holders.  The amendments to the Rule are applicable to
the purchasers of securities prior to and following the effective date of the
amendments





Provisions
contained in outstanding secured convertible debentures provide holders a
greater share in the proceeds of a cash sale or merger than the amount of the
outstanding debt.





Certain
provisions of the $11,051,709 principal amount outstanding 6% Secured Debentures
require the redemption of such debentures and the warrants issued in connection
with the sale of the debentures in the event of a cash sale of our business or
cash merger that would give the debenture holders a return substantially greater
than the outstanding debt and interest.  Such payments would be made
before cash could be distributed either to general creditors or the holders of
our common stock.  The sale of these debentures has been the principal
source of our working capital since December 2005 and no authorization on the
part of our stockholders is require for our continuing to issue these
securities.  Although we have sought and continue to seek equity
financing to replace the sale of these securities as our primary source of
working capital, we have not been able to do so and there is no assurance that
we will be able to do so in the future.




- 31
-


Executive
Officers of the Registrant





Our
executive officers are:





Name
            
            PositionAndreas
      Typaldos
            
            Chairman
      of the BoardOleg
      Logvinov
            
            President,
      CEO and a DirectorBarbara
      Kane-Burke1
            
            CFO
      and Assistant SecretaryGrant
      Ogata
            
            Executive
      Vice President of Worldwide Operations





Andreas
Typaldos is a principal stockholder and was appointed Chairman of our Board in
February, 2005. Although our by-laws provide that the Chairman of the Board’s
primary responsibilities relate to the conduct of board and stockholder
meetings, Mr. Typaldos also serves as a consultant to us on a part-time basis
and has a significant impact on our strategic planning, marketing and capital
raising activities. He has thirty years of software experience as an
entrepreneur and founder/investor of a number of technology companies. In 1997,
Mr. Typaldos founded Enikia, LLC, whose technology and assets were subsequently
acquired by an entity controlled by Mr. Typaldos and merged into our Arkados,
Inc. subsidiary in May 2004. Mr. Typaldos serves as CEO of Xandros, Inc., a
privately held company, engaged in the sale of Linux desktop applications. From
September 1998 until June 2003, as founder and principal investor, Mr. Typaldos
also built a multi-million dollar software consulting business, e-Vantage
Solutions, Inc., until that company’s consulting activities ended shortly after
September 11, 2001. In addition, from September 1999 until December 2001,Mr. Typaldos was active
as Interim Chairman and CEO at NetGain Development, Inc., which was an internet
incubator/investment firm that funded internet and enabling technology
companies, including Enikia, Linux Global Partners, and other internet and
technology companies. Prior to that, Mr. Typaldos founded his first consulting
and software company in 1973 and in 1978, founded a successor company, AxsOne
(formerly known as Computron), which he took public in 1995 and of which he as
President until 1994 and Chairman/CEO until 1996. AxsOne is an international
client/server and internet-based enterprise applications software company that
supplies Fortune 5000 companies with records and content management and
compliance software (i.e., email and Instant Messaging-IM management), as well
as financial applications and workflow solutions.  Mr. Typaldos has a
Bachelors of Science Degree from Columbia University in Mathematical Methods for
Engineering and Operations Research. He also holds a Masters of Science Degree
in Computer Science from Pratt Institute. Mr. Typaldos serves on the Board of
Directors and Advisory Boards of a number of companies and non-profit
organizations.





Oleg
Logvinov was appointed President, CEO and a director on August 12, 2004 and has
served as President of Arkados since we merged Miletos into Arkados. Prior to
the merger, from February, 2000 to March, 2004, Mr. Logvinov served as Vice
President of Engineering and later as President of Enikia LLC. From March, 1998
to February, 2000, he served as Senior Director of Product Development and
System Engineering at OpenCon Systems Inc., a telecommunications software
service provider, and later CyberPath Inc., a venture-funded VoDSL Gateway
company spun off by OpenCon Systems Inc. Prior to that, he held senior
management positions at NITECH, INC from1996 to 1998, and CEM, Inc from 1991 to
1996. Mr. Logvinov holds a masters degree in electrical engineering from the
Technical University of Ukraine (KPI). He has also worked as a senior research
scientist and later research team leader at an R&D laboratory at the
Technical University of Ukraine and the Ukraine Department of Energy.  Oleg
Logvinov is the Chief Strategy Officer and immediate past President of the
HomePlug Powerline Alliance. Mr. Logvinov is a frequent industry speaker,
representing both the HomePlug alliance and Arkados at conferences around the
world.




Barbara
Kane-Burke was appointed CFO in April of 2007. She was most recently the
Corporate Controller for Pharmos Corp, a NASDAQ-traded biopharmaceutical company
where she was instrumental in helping Pharmos meet its financial disclosure
obligations under Sarbanes-Oxley.  Previously, she was CFO and
Treasurer of Whitewing Environmental Corp, and with Hoechst Celanese/Clariant,
where her duties included Controller for a business unit supplying raw materials
to the semiconductor industry.  Ms. Kane-Burke is responsible for all
of Arkados’ accounting, tax compliance, financial aspects of acquisition
planning, establishing and maintaining of banking relationships, and all other
financial and treasury functions.  Ms. Kane-Burke earned an MBA in
Accounting and Taxation from Fairleigh Dickinson University and a BA in
Education from East Stroudsburg University in Pennsylvania.




1 Ms.
Kane-Burke tendered her resignation as an officer, effective after the filing of
this report.
 
 - 32
-




Grant
Ogata joined Arkados in March 2007 as Executive Vice President of Worldwide
Operations. Mr. Ogata had been working with Arkados in a part-time capacity
since September 2006. Mr. Ogata was formerly Vice President of Global Sourcing
and Product Development of RadioShack Corporation Mr. Ogata has 28 years of
experience in the consumer electronics industry.  At RadioShack, Mr.
Ogata was responsible for developing hundreds of innovative products,
establishing key strategic partners and managing global sourcing and product
development offices in Japan, Taiwan, Hong Kong, China and Fort Worth, Texas.
Throughout the years, and through a six-year expatriate assignment in Asia, Mr.
Ogata gained intricate knowledge and contacts with key consumer electronic
manufacturers around the world. He has been instrumental in beginning the
transition of Arkados from a research and development company with solutions for
distributing audio and video through power lines, to a commercial enterprise
that provides these solutions to top tier companies globally.








ITEM
      1B.
            UNRESOLVED
      STAFF COMMENTS.








None.




























- 33
-


ITEM
      2.
            DESCRIPTION
      OF PROPERTY.




Our
executive offices are located at 220 Old New Brunswick Road, Piscataway, NJ
08854. The facility is approximately 6,500 sq. feet, occupied pursuant to a
lease which expires on June 30, 2009 and is adequate for our current
activities.  As a result of the acquisition of Aster Wireless in March
of 2007, we also have offices located at 150 Lucius Gordon Dr., West Henrietta,
NY 14586. The facility is approximately 1,041 sq. feet, occupied pursuant to a
lease which expires on February 28, 2009 and is adequate for our current
activities.  We may add to the space or seek larger facilities as our
operations expand.





ITEM
      3.
            LEGAL
      PROCEEDINGS.




In
December 2004, Robert Dillon, William Simons and Stephen Schuster (the
“Plaintiffs”) named us, our Arkados, Inc. subsidiary, Enikia, LLC, Oleg
Logvinov, our CEO, Andreas Typaldos, our Chairman, and others in a lawsuit. The
action is captionedRobert Dillon, et al. v. Andreas Typaldos et al., and was commenced in
the Superior Court of New Jersey, Chancery Division, Somerset County (Docket No.
C-12102-04). The plaintiffs seek damages and injunctive relief including, among
other things entitlement to a portion of the Common Shares issued as
consideration for Miletos, Inc. (an affiliate of Mr. Typaldos’) which merged
into our Arkados subsidiary. Plaintiffs, allege, among other things, that they
are entitled to various forms of equitable relief and unspecified damages, as a
result of the transfer of secured obligations of Enikia LLC held by affiliates
of Mr. Typaldos to Miletos and the merger of Miletos into our Arkados, Inc.
subsidiary based on numerous legal theories, including fraud, breadth of
fiduciary duty, misrepresentation, conversion, unjust enrichment and We do not
believe there is any merit to these claims and intend to vigorously defend the
action.   The Superior Court entered an Order on August 7, 2007
dismissing, Enikia, LLC, Andreas Typaldos, Oleg Logvinov and Miletos, Inc. from
the judicial proceeding and ordering them to attend binding arbitration of the
claims against them. The remainder of the Superior Court matter is stayed
pending arbitration   Plaintiffs filed an arbitration venued in
New York.  The hearing is scheduled for October 20, 2008 with the American
Arbitration Association, Case No: 13 117 Y 00150 08.




In
August, 2008 a $58, 691.87 judgment was entered against the company in the
matter of Porter Levay
& Rose, Inc. v. Arkados Group, Inc.  The case is pending in
the Superior Court of New Jersey, Law Division, Middlesex County (Docket No.
MID-L-008649-07) and involved non-payment of fees for investor relations
services and expenses.  Approximately $41,000 of the amount had
already been accrued as of May 31, 2008 and we do not anticipate that the amount
of the judgment exceeds the total amount accrued for such services as of August
31, 2008 by a material amount.


The
outcome of any litigation is inherently uncertain and we are required under our
certificate of incorporation, bylaws and employment agreements to indemnify our
officers and directors for certain liabilities, including the cost of defending
litigation brought against them in their capacity as such. Nevertheless, a
portion of our indemnification liability is insured and shares of our common
stock were escrowed at the time of the merger in which Arkados is the surviving
corporation, to indemnify us against certain claims being made in the above
actions.








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





None














- 34
-


PART
II





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





Our
common stock is currently quoted on the Over-The-Counter Bulletin Board under
the symbol “AKDS.OB”.





Market
Information





Our
shares of common stock were first quoted on the Over-The-Counter Bulletin Board
in 1999. The following table presents the high and low bid prices per share of
our common stock as quoted for the quarter ended August 31, 2008 and each
quarter in the years ended May 31, 2008 and May 31, 2007 which information was
provided by NASDAQ Trading and Market Services.




High Bid
            
            Low BidFirst
      Quarter 2008 through :September
      11, 2008
            $0.23
            
            $0.23Fiscal Year ended May
      31, 2008High Bid
            
            Low BidQuarter
      ended:May
      31, 2008
            $0.45
            
            $0.21February
      29, 2008
            $0.62
            
            $0.25November
      30, 2007
            $0.65
            
            $0.32August
      31, 2007
            $0.70
            
            $0.36Fiscal Year ended May
      31, 2007High Bid
            
            Low BidQuarter
      ended:May
      31, 2007
            $0.45
            
            $0.28February
      29, 2007
            $0.60
            
            $0.16November
      30, 2006
            $0.70
            
            $0.20August
      31, 2006
            $0.95
            
            $0.51




The above
prices represent inter-dealer quotations, without markup, markdown or
commissions, and may not represent actual transactions. The trading volume of
our common stock fluctuates and may be limited or nonexistent from time to time.
As a result, the above prices should not be considered to represent a liquid
trading market.





Holders





As of
September 10, 2008, we had 213 stockholders of record of our common
stock.





Dividend
Policy




We have
paid no dividends on our common stock and we do not expect to pay cash dividends
in the foreseeable future. The terms of the $11,051,709 principal amount
outstanding of 6% Secured Convertible Debentures due December 28, 2008 prohibit
our payment of any cash dividends or distributions without the consent of the
holders of 60% of the principal amount outstanding at the time of such dividend
or distribution. We currently do not have surplus from which we could pay
dividends and intend to retain any future earnings to finance the growth and
development of our business.








- 35
-


Recent
Sales Of Unregistered Securities; Use Of Proceeds From Registered
Securities




Information
concerning our sales of unregistered securities during the period covered by
this report has been reported by us on previously filed reports on Form 10-QSB
and Form 8-K.





Equity
Compensation Plan Information





The
following table sets forth certain information about our equity compensation
plans and agreements as of May 31, 2008:





Plan
      Category
            Number
      of securities
              to
      be issued upon
              exercise
      of
              outstanding
      options,
              warrants
      and rights
              
              (a)
            Weighted-average
              exercise
      price of
              outstanding
      options,
              warrants
      and rights
              
              (b)
            Number
      of securities
              remaining
      available
              for
      future issuance
              under
      equity
              compensation
      plans
              (excluding
      securities
              reflected
      in column
              (a)
              
              (c)Equity
      compensation plans
              approved
      by security holders
            —
            —
            60,000Equity
      compensation plans not
              approved
      by security holders
            14,972,381
            $0.51
            207,619Total
            14,972,381
            
            267,619





Our board
adopted a stock option plan in 1998 which was approved by stockholders. The plan
reserved 3,000,000 shares of old common stock for issuance upon the granting of
incentive and non-qualified stock option until June 30, 2008 with terms up to 10
years from the dated of grant. As a result of a reverse stock split the number
of shares available for grant was reduced to 60,000.





In 2004,
our board approved our 2004 Stock Option and Restricted Stock Plan (the “2004
Plan”) and set aside 6,000,000 shares for grant pursuant to incentive and
non-qualified stock options, and restricted stock awards. The 2004 Plan was
amended by the board in June 2006, to increase the number of shares subject to
options that can be granted to our officers, directors, employees and
consultants to 10,000,000; it was later amended in March 2007 to increase this
amount to 15,000,000. The 2004 Plan has not been approved by our stockholders
and accordingly, no “incentive stock options” as defined in the Internal Revenue
Code can be granted until such approval is obtained. The 2004 plan is currently
administered by our board of directors. There are options to purchase 14,972,281
shares outstanding under the 2004 Plan, as amended, of which 9,046,548 are
vested as of M ay 31, 2008..





In March
2006, our board approved the issuance of 180,000 warrants to purchase shares of
our common stock for $0.85 per share to an investor relations consultant. The
issuance of the warrants has not been approved by our stockholders.





In March
2007, our board approved the issuance of 240,000 options to purchase shares of
our common stock for $0.40 per share to an investor relations consultant. The
issuance of the options has not been approved by our stockholders.





In April
2008, our board approved the issuance of 150,000 options to purchase shares of
our common stock for $0.32 per share to a legal consultant. The issuance of the
options has not been approved by our stockholders.





- 36
-


ITEM
      6.
            SELECTED
      FINANCIAL DATA





The
following selected financial data should be read in conjunction with, and are
qualified in their entirety by, the consolidated financial statements and
related notes thereto contained in “Item 8. Financial Statements and
Supplementary Data” and “Item 7. Management’s Discussion and Analysis of
Financial Condition and Results of Operations” included herein.





Year
      Ended May 31.2008
            
            2007
            
            2006
            
            2005
            
            2004Revenues
            
            
            856,676
            
            
            131,735
            
            
            112,094
            
            
            832,910
            1
            
            —Operating
      expenses
            
            
            5,133,059
            2
            
            5,325,180
            2
            
            3,591,658
            
            
            6,878,388
            
            
            3,319,790Other
      income (expense), net
            
            
            (2,307,219
            )3
            
            (744,084
            )
            
            (465,472
            )
            
            (356,267
            )
            
            (1,091,269
            )Loss
      before income taxes
            
            
            (6,879,148
            )
            
            (6,033,075
            )
            
            (4,025,016
            )
            
            (7.001,365
            )
            
            (4,410,059
            )Net
      loss applicable to common shareholders
            
            
            (6,478,999
            )4
            
            (6,033,075
            )
            
            (4,025,016
            )
            
            (7,001,365
            )
            
            (4,410,059
            )Total
      assets
            
            
            1,390,689
            
            
            1,424,905
            
            
            594,987
            
            
            492,163
            
            
            1,424,905Long
      term obligations
            
            
            —
            5
            
            8,237,061
            
            
            4,255,789
            
            
            —
            
            
            —Cash
      dividends declared
            
            
            —
            
            
            —
            
            
            —
            
            
            —
            
            
            —Net
      loss per share basic and diluted
            
            
            (0.25
            )
            
            (0.24
            )
            
            (0.17
            )
            
            (0.30
            )
            
            (0.28
            )Weighted
      average of common shares
              Outstanding
      - basic and diluted
            
            
            26,134,528
            6
            
            25,152,463
            6
            
            23,777,360
            
            
            23,174,359
            
            
            2,504,517








1.
            Includes
      revenues related for a long term arrangement for product development and
      supply with one client that ended during fiscal year
  2006


2.
            Increases
      related to the effect of the acquisition of Aster Wireless in the amounts
      of $520,879 and $146,746 in the year ended May 31, 2008 and May 31, 2007,
      respectively


3.
            Includes
      interest penalty of 1,004,701 resulting from of waiver all potential
      defaults by the debtholders caused by our not making a scheduled interest
      payment of approximately $255,000


4.
            Includes
      benefit of sales of Arkados NJ Net Operating Loss in 2008 of
      $400,149,


5.
            As
      of May 31, 2008, all long term debt is due within the fiscal year 2009 and
      is therefore classified as short term
debt.


6.
            Includes
      the issuance of 1,078,554 shares related to the acquisition of Aster
      Wireless








- 37
-


ITEM
      7.
            MANAGEMENT’S
      DISCUSSION AND ANALYSIS OR PLAN OF
OPERATIONS




Readers
are urged to carefully review and consider the various disclosures made by us in
this Form 10-K for the period ended May 31, 2008, and our other filings with the
U.S. Securities and Exchange Commission. These reports and filings attempt to
advise interested parties of the risks and factors that may affect our business,
financial condition and results of operations and prospects. The forward-looking
statements made in this Form 10-K speak only as of the date hereof and we
disclaim any obligation to provide updates, revisions or amendments to any
forward-looking statements to reflect changes in our expectations or future
events.





Plan
of Operation





We are a
technology solutions company engaged in research and development activities
focused on the portion of the industry that provides the semiconductors and
software to enable broadband communications over standard electricity lines.
Arkados is member of an alliance of nearly 70 companies referred to as the
HomePlug Powerline Alliance. The alliance’s mission is to enable and promote
rapid availability, adoption and implementation of cost effective, interoperable
and standards-based home powerline networks and products. Arkados is also a
member of the IEEE P1901 working group that is focused on the standardization of
powerline communication technology.





During
the year ended May 31, 2008:





·
            Our
      customers have now brought consumer products incorporating our chip
      solutions to market in several areas of the world. Our solutions form the
      engine of products for the audio market being marketed by the German
      company devolo AG.  Devolo’s audio adapters, which transmit
      audio over household power lines, are currently in retail stores
      throughout Europe.


·
            We
      provide the underlying technology for an iPod-based whole-house audio
      system from IOGEAR, which is coming to market in the near future in the
      U.S. and other parts of the world.  This product has already won
      a major award, having been one of only 15 products (out of over 20,000) to
      receive G4 Television’s CES 2008 “Best of the Best” product
      award.


·
            Additionally,
      we recently announced our plans to release a reference design that will
      allow manufacturers to embed Arkados chip-and-software solutions into a
      device that enables the control of whole-house audio systems from Apple’s
      iPhoneTM or iPod® which may allow us to take advantage of the demonstrated
      market strength of iPod-related
products.


·
            We
      have also announced customers such as audio system manufacturer Russound,
      powerline networking specialist
GigaFast.


·
            We
      have also been involved with our customers in a number of projects
      relating to Broadband Over Powerline and Smart Grid trials. We have
      announced that our solutions are being used for Smart-grid application
      companies Corporate Systems Engineering and MainNet. We are currently
      partnering with MainNet Communications to develop applications to improve
      the reliability and efficiency of electrical grids, connect consumer
      electronic devices over power lines, enable energy-saving initiatives and
      deliver Broadband content to homes and offices.  Based on this
      deal, our future opportunities to create smart grid applications may be
      significant.


·
            We
      continued to increase our focus on sales and marketing and customer
      acquisition, after developing and demonstrating reference designs and
      prototypes of end-user products that incorporated our AI-1100 chip, the
      first in our family of ArkTIC® solutions, and demonstrated its
      capabilities and competitive
advantages.


·
            Our
      solutions have been displayed in a number of public venues, including the
      2008 International Consumer Electronics Show, where Arkados received G4
      Television’s “Best of the Best” award. Other venues included Computex
      2008, the 2007 HomePlug Powerline Technology Conference, the Electronic
      House Expo (EHX), Net-at-Home 2007, the 2007 HomePlug European Executive
      Seminar, and other conferences. Our prototypes or products have been
      publicly announced and/or demonstrated by Analog Devices, Channel Vision,
      devolo AG, GigaFast, GoodWay, Meiloon, PAC Electronics, Russound, Tatung,
      Zinwell, and Zylux. Some of these companies are suppliers to top tier
      brands in the marketplace. Several of these relationships, among others,
      have progressed into sales of chips, software development services, and
      other related revenue.


·
            We
      have participated in a broad variety of public events and conferences
      including the 2008 CES, WinHEC, HomePlug Executive Seminars, GlobalComm,
      United Powerline Technology Counsel events, Computex, Digital Hollywood,
      Intel Developer’s Forum, HomePlug Powerline Technology Conferences,
      Net@Home, Parks Associates’ Connections conferences, ACCESS ’06 Executive
      business forum, CEDIA and CeBIT.





- 38
-


We
continue to demonstrate our chip and reference design products to individual
potential customers, including both OEMs and ODMs. Such potential customers, if
they ultimately agree to design our chips into their end-user products (as is
the case with OEMs) or in the products of their own OEM customers (as is the
case with ODMs), could be responsible for the introduction of multiple end-user
products into the market, based on the timetables required for such product
introductions. Such an event could produce multiple revenue streams, including
revenues from each potential OEM customer that uses our chips in their end-user
products. In the case of each potential ODM customer that uses our chips in the
designs of the multiple OEM customers served by each ODM, there could be
multiple revenue streams attributable to each ODM that chooses to work with our
chips. In both cases, however, such revenue streams will affect future quarters,
based on the timetable associated with the deployment of end-user products by
such OEM and ODM customers. Thus far, two such ODMs and seven OEMs have publicly
announced their offering of a product incorporating our AI-1100
SoC.





We
believe the sales listed above marked the beginning of our transition from a
research and development entity to a commercial enterprise. As a part of
actively pursing key strategic customers, we have used our hardware/software
platform to customize prototypes for specific accounts.





We have
positioned ourselves to service significant demand from any major electronics or
networking manufacturer. We have held discussions at various levels with
household names in those industries, and we believe that many of these talks may
lead to firm orders in growing quantities.





We
require additional funding for the expansion of our research and development
efforts and the expansion of our sales and marketing organization, and to fund
consulting and manufacturing work needed in order for our chip to be ready and
available for mass production. We also plan to develop various end-user product
prototypes and reference designs to support our marketing efforts.





We will
contract with third parties for all of our wafer fabrication and assembly, as
well as for a portion of our design and testing. This “fabless” manufacturing
strategy is designed to allow us to concentrate on our design strengths,
minimize fixed costs and capital expenditures, access advanced manufacturing
facilities, and provide flexibility on sourcing multiple leading-edge
technologies through strategic alliances.





We expect
to qualify each product, participate in process and package development, define
and control the manufacturing process at our suppliers where possible and
practicable, develop or participate in the development of test programs, and
perform production testing of products in accordance with our quality management
system. If possible, we plan to use multiple foundries, assembly houses, and
test houses.





We have
not had significant revenue from operations since inception and, as of May 31,
2008, are still a development stage company. Furthermore, we have financed
operating losses since September 2004 with the proceeds primarily from related
party lending from our major stockholder and affiliated lenders, as well as
other stockholders and lenders, and from a capital raise to qualified investors
through a retail brokerage firm. From December 2005 to May 31, 2008, we sold an
aggregate $8,428,461 of 6% secured convertible debentures due December 28, 2008
of which $6,145,884 was purchased by institutional investors and the balance of
$2,282,576 by a limited liability company owned equally by our Chairman’s wife
and another director, Kathryn Typaldos and $45,000 principal amount to the
partners of Sommer & Schneider LLP, our principal securities counsel to
settle an equivalent amount of past due legal fees. During the fiscal year 2006,
we paid down a substantial portion of outstanding short term debt and other
liability and have issued approximately 600,000 shares of our common stock in
satisfaction of approximately $406,000 of short term liabilities. From June 1,
2008 to August 31, 2008, we received approximately $649,000 of financing which
was converted into equity in August 2008.  In addition, we received an
additional $20,000 which represents borrowings from related
parties.    Despite these milestones in improving our
financial position, our business plan to aggressively market our chips remains
constrained by our limited capital resources





If we are
unable to raise funds to finance our working capital needs, we will not have the
capital necessary for ongoing operations and for making our chip ready for mass
production and we could lose professional staff necessary to develop our
products and the value of our technology could be impaired. In addition, the
lack of adequate funding could jeopardize our development and delivery schedule
of our planned products. Such delays could in turn jeopardize relationships with
our current customers, strategic partners and prospective
suppliers.




- 39
-


Critical
Accounting Policies





Financial
Reporting Release No. 60 requires all companies to include a discussion of
critical accounting policies or methods used in the preparation of financial
statements. Our accounting policies are described in Note 2 of the notes to our
consolidated financial statements included in this report. Our consolidated
financial statements are prepared in accordance with accounting principles
generally accepted in the United States of America, which requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
The following is a brief discussion of the more significant accounting policies
and methods used by us. In addition, Financial Reporting Release No. 67 was
recently released by the SEC to require all companies to include a discussion to
address, among other things, liquidity, off-balance sheet arrangements,
contractual obligations and commercial commitments.





Basis of
Presentation





Our
consolidated financial statements have been prepared assuming we will continue
as a going concern despite substantial doubt as to our ability to do so.
Management anticipates losses in the foreseeable future and plans to finance
losses by raising additional capital. If we are unable to continue as a going
concern, adjustments would have to be made to the carrying value of
assets.





Revenue
Recognition





We
recognize revenue in accordance with SEC Staff Accounting Bulletin No. 101,
Revenue Recognition in Financial Statements, as amended (“SAB 101”). SAB 101
requires that four basic criteria must be met before revenue can be recognized:
(1) persuasive evidence of an arrangement exists; (2) delivery has occurred or
services rendered; (3) the fee is fixed or determinable; and (4) collectability
is reasonably assured. Under the provisions of SAB 101, we recognize revenue
when products are shipped, and the collection of the resulting receivable is
probable. If revenues are from a long term arrangement, revenue are recognized
when pre-determined milestones, which generally are related to substantial
scientific or technical achievement, are accomplished.





Accounting for Stock Based
Compensation





The
computation of the expense associated with stock-based compensation requires the
use of a valuation model. SFAS 123(R) is a new and very complex accounting
standard, the application of which requires significant judgment and the use of
estimates, particularly surrounding Black-Scholes assumptions such as stock
price volatility, expected option lives, and expected option forfeiture rates,
to value equity-based compensation. We currently use a Black-Scholes option
pricing model to calculate the fair value of its stock options. We primarily use
historical data to determine the assumptions to be used in the Black-Scholes
model and have no reason to believe that future data is likely to differ
materially from historical data. However, changes in the assumptions to reflect
future stock price volatility and future stock award exercise experience could
result in a change in the assumptions used to value awards in the future and may
result in a material change to the fair value calculation of stock-based awards.
SFAS 123(R) requires the recognition of the fair value of stock compensation in
net income. Although every effort is made to ensure the accuracy of our
estimates and assumptions, significant unanticipated changes in those estimates,
interpretations and assumptions may result in recording stock option expense
that may materially impact our financial statements for each respective
reporting period.





Accounting for Registration
Payment Arrangements





The
Company has reviewed the accounting for registration rights terms relating to
the shares of common stock issuable upon the conversion and exercise,
respectively, of the 6% Secured Convertible Debentures and related warrants
under the recently adopted FSP EITF 00-19-2. The Company granted demand
registration rights to the purchasers of the 6% Secured Debentures which
requires the Company to file an initial registration 45 days following demand.
Under the registration rights agreement, the Company incurs a penalty if it
fails to file within the 45 day period or if the SEC had not declared the
registration effective 90 days after filing. The holders of the 6% Secured
Debentures have not demanded registration. The Company believes it can comply
with a demand for registration in a timely manner and therefore no accrual for
the registration rights penalties has been made.




- 40
-


The
Year ended May 31, 2008





During
the year ended May 31, 2008, we had $857,000 of revenues compared to $132,000
for the same period in 2007. Revenues were a combination of revenues from chip
sales in the amount of $246,000 and revenues from service contracts in the
amount of $611,000 related to the achievement of certain milestones remaining
under a number of long term development contracts.  The chips are to
be used in audio adaptors and iPod® docking stations which were demonstrated at
CES earlier this year, as well as in other applications.  Total
operating expenses for the year ended May 31, 2008 were $5.1 million compared to
total operating expenses for the same period of 2007 of $5.3
million.  In both periods, the most significant expenses were
personnel, professional fees and related expenses.  Of the total $5.1
million in operating expenses in fiscal 2008, $866,636 was related to the
issuance of stock and stock options for services rendered by both our employees
and outside consultants.  As result of the increase in outstanding
debt, our interest expense increased during the year from $744,000 in 2007 to
$2,307,000 in 2008 which includes an interest penalty related to the 6% secured
debentures.





The
Year ended May 31, 2007





During
the year ended May 31, 2007, we had $132,000 of revenues compared to $112,000
for the same period in 2006. Revenues were a combination of revenues from chip
sales in the amount of $78,000 and revenues from service contracts in the amount
of $54,000 related to the achievement of certain milestones remaining under a
long term development contract.  The chips are to be used in an iPod®
dock which was demonstrated at CES earlier this year, as well as in other
applications.  Total operating expenses for the year ended May 31,
2007 were $5.2 million compared to total operating expenses for the same period
of 2006 of $3.6 million.  In both periods, the most significant
expenses were personnel, professional fees and related expenses, which increased
in the most recent period as we demonstrated our products and increased
marketing staff and efforts.  Of the total $5.3 million in operating
expenses in fiscal 2007, $959,000 was related to the issuance of stock and stock
options for services rendered by both our employees, Chairman and outside
consultants.  The incremental cost related to the Aster acquisition
recognized in the 4th quarter alone was $147,000.  As result of the
increase in outstanding debt, our interest expense increased during the year
from $465,000 in 2006 to $744,000 in 2007.





The
Year ended May 31, 2006





During
the year ended May 31, 2006, we had revenues of $112,000 which were realized as
the result of achieving certain benchmarks in a long term arrangement for
services and products with one client compared to $832,910 realized from
activities with the same client during the prior year. We estimated gross margin
from the receivable based upon cost estimates we prepared for the provision of
all of the services and products in the arrangement. We recorded $78,000 of
labor, material and supplies, and outside fabrication cost as Cost of Goods Sold
relying on these estimates, compared to $599,620 during the prior year. Total
operating expenses for the year ended May 31, 2006 were $3.6 million compared to
$6.9 million in the same period of fiscal year 2005. In both periods, the most
significant expenses were personnel, professional fees and related expenses.
Research and development expenses during the year were $1.4 million. Of the
total $4.6 million in operating expenses in fiscal year 2006, approximately
$856,000 was related to the issuance of stock and stock options for services
rendered by both our employees and outside consultants. In the prior year
period, this amount was $4.85 million. Given our reliance on outside sources of
capital, we expect significant additional charges relating to stock
compensation.





Liquidity
and Capital Resources





Our
principal source of operating capital has been provided in the form of equity
investments and, the private placement of debt securities coupled with warrants
and related party loans. We do not have any significant sources of revenue from
our operations. No assurance can be given that we can engage in any public or
private sales of our equity or debt securities to raise working capital. We have
depended, in part, upon loans from our present stockholders or management and
there can be no assurances that our present stockholders or management will make
any additional loans to us.





During
the year ended May 31, 2008, we were able to raise gross proceeds of $855,000
from the sale of convertible notes and warrants to accredited
investors.  In addition, borrowings of $125,000 from outside
investors  and $177,700 from our Chairman.  The net cash
provided from these financing activities exceeded the amount of cash consumed by
operations during the period by approximately $381,438.





On July
6, 2008, we reached an agreement with more than the requisite holders of 2/3 of
the outstanding $1,066,500 principal amount of 6% Convertible Subordinated Notes
due July 7, 2008 to extend the due date of the Notes to June 30,
2009.





- 41
-


There can
be no assurance that our efforts to convert our outstanding debt or to raise
additional capital will be successful, or even if successful will fund our
planned operations or capital commitments.





As of the
year ended May 31, 2008, we had cash of approximately $24,000 and negative
working capital of $15,988,337 compared to cash of $406,457 and negative working
capital of $2,739,224 at May 31, 2007. The decrease in working capital is
related to the long term debt becoming current and higher payables balances.
Subsequent to May 31, 2008, we received approximately $649,000 which was
converted into equity in August 2008.  In addition, we received an
additional $20,000 which represents borrowings from related parties. All of
these funds were used to support normal operating activities.





Our
present material commitments are the compensation of our employees, including
our executive officers, and professional and administrative fees and expenses
associated with the preparation of our filings with the Securities and Exchange
Commission and other regulatory requirements.





Commitments





We do not
have any commitments which are required to be disclosed in tabular form as of
May 31, 2008.





Off
Balance Sheet Arrangements





We do not
have any off balance sheet arrangements.







ITEM
      7A.
            QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK





Not applicable.








ITEM
      8.
            FINANCIAL
      STATEMENTS.




Our
financial statements are filed under this Item 8, beginning on page F-1 of this
report.















- 42
-


Arkados
Group, Inc. and Subsidiaries
 Development
Stage Enterprise
  
 CONTENTS
 
 
 
 
 
 PageREPORT
      OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMF –
      1CONSOLIDATED
      FINANCIAL STATEMENTSConsolidated
      Balance Sheet
              F –
      2Consolidated
      Statement of Operations
              F –
      3Consolidated
      Statement of Changes in Stockholders’ Deficiency
              F –
      4 to 5Consolidated
      Statement of Cash Flows
              F –
      6NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS
              F –
      7 to
                F –
      32
 
                    - 43
-
 Report
of Independent Registered Public Accounting Firm
 
 Board of
Directors and Stockholders
 Arkados
Group, Inc. and Subsidiaries
 
 
 We have
audited the accompanying consolidated balance sheet of Arkados Group, Inc. and
subsidiaries (A Development Stage Enterprise) as of May 31, 2008, and the
related consolidated statements of operations, stockholders’ deficit, and cash
flows for each of the years ended May 31, 2008, 2007 and 2006 and for the period
March 24, 2004 (inception) to May 31, 2008. These financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements based on our audit. The financial
statements for the period March 24, 2004 (inception) to May 31, 2004 reflect
total revenues and a net loss of $0 and $693,833, respectively, of the
cumulative totals. The other auditors’ report has been furnished to us in our
opinion, insofar as it relates to amounts included for such period, is based
solely on the report of such other auditors.
 
 We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating principles used
and significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
 
 In our
opinion, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of the Company as of May
31, 2008, and the results of its operations and cash flows for each of the years
ended May 31, 2008, 2007 and 2006 and for the period March 24, 2004 (inception)
to May 31, 2008 in conformity with generally accepted accounting principles in
the United States.
 
 The
accompanying financial statements have been prepared assuming that Arkados
Group, Inc. will continue as a going concern. As more fully described in Note 2,
the Company has incurred recurring operating losses and will have to obtain
additional capital to sustain operations. These conditions raise substantial
doubt about the Company’s ability to continue as a going concern. Management’s
plans in regard to these matters are also described in Note 2. The financial
statements do not include any adjustments to reflect the possible effects on the
recoverability and classification of assets or the amounts and classification of
liabilities that may result from the outcome of this uncertainty.
  By:
              /s/Sherb & Co.,
      LLPSHERB
      & CO, LLPCertified
      Public Accountants
 New York,
New York
 September
12, 2008
      F -
1
 ARKADOS
GROUP, INC. and Subsidiaries
 Consolidated
Balance Sheet
 (A
Development Stage Enterprise)
  
 May
      31,2007
              
              
              2008Current
      Assets:Cash
              
              $
              406,457
              
              
              $
              24,480Accounts
      receivable, net
              
              
              117,066
              
              
              
              34,976Inventory
              
              
              34,334
              
              
              
              —Total
      Current Assets
              
              
              557,857
              
              
              
              59,456Deferred
      financing costs
              
              
              281,711
              
              
              
              899,073Equipment,
      net
              
              
              46,916
              
              
              
              39,860Intangible
      assets, net
              
              
              485,825
              
              
              
              293,883Prepaid
      and other assets
              
              
              52,596
              
              
              
              98,417$
              1,424,905
              
              
              $
              1,390,689Liabilities
      and Stockholders’ DeficiencyCurrent
      Liabilities:Accrued
      expense and other liabilities
              
              $
              1,293,675
              
              
              $
              2,936,012Related
      party payable
              
              
              —
              
              
              
              23,717Related
      party debt
              
              
              —
              
              
              
              177,700Note
      payable
              
              
              —
              
              
              
              125,000Payroll
      taxes and related penalties and interest payable
              
              
              936,905
              
              
              
              936,906Short
      Term Debt
              
              
              1,066,500
              
              
              
              11,848,458Total
      Current Liabilities
              
              
              3,297,080
              
              
              
              16,047,793Convertible
      Debentures, including related party debt
              
              
              8,237,061
              
              
              
              —Commitments
      and Contingencies
              
              
              —
              
              
              
              —Stockholders’
      DeficiencyConvertible
      Preferred Stock - $.0001 par value;5,000,000
      shares authorized, zero shares outstanding
              
              
              —
              
              
              
              —Common
      stock, $.0001 par value, 100,000,000 sharesauthorized,
      26.082,221 and 26,278,888 issued and outstanding in 2007 and 2008,
      respectively
              
              
              2,608
              
              
              
              2,628Additional
      Paid in capital
              
              
              15,934,712
              
              
              
              17,865,822Treasury
      Stock
              
              
              (16,000
              )
              
              
              (16,000
              )Accumulated
      Deficit during development stage
              
              
              (26,030,556
              )
              
              
              (32,509,556
              )Total
      Stockholders’ deficiency
              
              
              (10,109,236
              )
              
              
              (14,657,104
              )$
              1,424,905
              
              
              $
              1,390,689
   See notes
to consolidated financial statements.
   
 F -
2
 ARKADOS
GROUP, INC. and Subsidiaries
 Consolidated
Statement of Operations
 (A
Development Stage Enterprise)
   
 CumulativeDuring
      theDevelopmentStage
      (MarchYear
      Ended May 31,
              
              
              24,
      2004 to2006
              
              
              2007
              
              
              2008
              
              
              May
      31, 2008)Net
      Sales
              
              $
              112,094
              
              
              $
              131,735
              
              
              $
              856,676
              
              
              $
              1,934,088Cost
      of Goods Sold
              
              
              79,980
              
              
              
              95,546
              
              
              
              295,546
              
              
              
              1,071,365Gross
      Profit
              
              
              32,114
              
              
              
              36,189
              
              
              
              561,130
              
              
              
              862,723Research
      and Development Expenses
              
              
              1,395,257
              
              
              
              1,920,892
              
              
              
              1,987,313
              
              
              
              6,552,314General
      and Administrative Expenses
              
              
              2,196,401
              
              
              
              3,404,288
              
              
              
              3,145,746
              
              
              
              15,069,804Net
      Loss From Operations
              
              
              (3,559,544
              )
              
              
              (5,288,991
              )
              
              
              (4,571,929
              
              
              
              (20,759,395
              )
 
 Interest
      Income (Expense)
              
              
              (465,472
              )
              
              
              (744,084
              )
              
              
              (2,307,219
              )
              
              
              (3,873,042
              )Net
      Loss Before Income Taxes
              
              
              (4,025,016
              )
              
              
              (6,033,075
              )
              
              
              (6,879,148
              )
              
              
              (24,632,437
              )Provision
      for Income Taxes
              
              
              —
              
              
              
              —
              
              
              
              (400,149
              )
              
              
              (400,149
              )Net
      Loss
              
              $
              (4,025,016
              )
              
              $
              (6,033,075
              )
              
              $
              (6,478,999
              )
              
              $
              (24,232,288
              )Net
      loss per share - basic and diluted
              
              $
              (0.17
              )
              
              $
              (0.24
              )
              
              $
              (0.25
              )Weighted
      Average of Common SharesOutstanding
      - basic and diluted
              
              
              23,777,360
              
              
              
              25,152,463
              
              
              
              26,134,528
   See notes
to consolidated financial statements.
        F -
3
 ARKADOS
GROUP, INC. and Subsidiaries
 Consolidated
Statement of Stockholders’ Deficiency
 (A
Development Stage Enterprise)
 Inception
March 24, 2004 to May 31, 2004 and the Years Ended May 31, 2005, 2006 2007, and
2008
    Preferred
      Stock
                
                Common
      Stock
                
                Additional
                  Paid
      in
                
                Accumulated
                  Deficit
      During
                  Development
                
                Treasury
                
                Total
                  Stockholders’Shares
                
                Amount
                
                Shares
                
                Amount
                
                Capital
                
                Stage
                
                Stock
                
                DeficiencyBalance
      as of March 24, 2004Post
      foreclosure sale
                —
                
                $
                —
                
                
                5,569
                
                $
                5,569
                
                $
                1,988,185
                
                $
                (8,277,267
                )
                $
                —
                
                $
                (6,283,513
                )Effect
      of Reorganization and Merger–May 24, 2004
                —
                
                
                —
                
                
                21,473,364
                
                
                (3,422
                )
                
                4,105,180
                
                
                —
                
                
                (16,000
                )
                
                4,085,758Sale
      of shares pursuant to PPM
                —
                
                
                —
                
                
                841,666
                
                
                84
                
                
                950,116
                
                
                —
                
                
                —
                
                
                950,200Issuance
      of shares for settlement of debts
                —
                
                
                —
                
                
                181,068
                
                
                18
                
                
                168,185
                
                
                —
                
                
                —
                
                
                168,203Amortization
      of stock compensation
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                359,537
                
                
                —
                
                
                —
                
                
                359,537Net
      loss (March 24,2004 to May 31, 2004)
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                (693,833
                )
                
                —
                
                
                (693,833
                )Balance
      as of May 31, 2004
                —
                
                
                —
                
                
                22,501,667
                
                
                2,250
                
                
                7,571,202
                
                
                (8,971,100
                )
                
                (16,000
                )
                
                (1,413,648
                )Shares
      issued for services
                —
                
                
                —
                
                
                575,000
                
                
                58
                
                
                724,753
                
                
                —
                
                
                —
                
                
                724,811Debt
      converted to equity
                —
                
                
                —
                
                
                125,000
                
                
                13
                
                
                75,483
                
                
                —
                
                
                —
                
                
                75,496Issuance
      of options for services
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                198,169
                
                
                —
                
                
                —
                
                
                198,169Valuation
      of equity rights and beneficial conversion features of debt
      raise
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                234,353
                
                
                —
                
                
                —
                
                
                234,353Amortization
      of stock compensation
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                3,617,681
                
                
                —
                
                
                —
                
                
                3,617,681Net
      Loss
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                (7,001,365
                )
                
                —
                
                
                (7,001,365
                )Balance
      as of May 31, 2005
                —
                
                
                —
                
                
                23,201,667
                
                
                2,321
                
                
                12,421,641
                
                
                (15,972,465
                )
                
                (16,000
                )
                
                (3,564,503
                )Shares
      issued for services
                —
                
                
                —
                
                
                75,000
                
                
                8
                
                
                22,492
                
                
                —
                
                
                —
                
                
                22,500Debt
      converted to equity
                —
                
                
                —
                
                
                609,786
                
                
                61
                
                
                405,683
                
                
                —
                
                
                —
                
                
                405,744Shares
      issued for debt accommodations and penalties
                —
                
                
                —
                
                
                466,600
                
                
                47
                
                
                267,253
                
                
                —
                
                
                —
                
                
                267,300Options
      issued for services
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                69,170
                
                
                —
                
                
                —
                
                
                69,170Valuation
      of equity rights and beneficial conversion features of debt
      raise
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                404,555
                
                
                —
                
                
                —
                
                
                404,555Amortization
      of stock compensation
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                497,347
                
                
                —
                
                
                —
                
                
                497,347Net
      Loss
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                —
                
                
                (4,025,016
                )
                
                —
                
                
                (4,025,016
                )Balance
      as of May 31, 2006
                —
                
                $
                —
                
                
                24,353,053
                
                $
                2,437
                
                $
                14,088,141
                
                $
                (19,997,481
                )
                $
                (16,000
                )
                $
                (5,922,903
                )
     F -
4
 ARKADOS
GROUP, INC. and Subsidiaries
 Consolidated
Statement of Stockholders’ Deficiency
 (A
Development Stage Enterprise)
 Inception
March 24, 2004 to May 31, 2004 and the Years Ended May 31, 2005, 2006 and
2007
   continued
  Preferred
      Stock
              
              Common
      Stock
              
              Additional
                Paid
      in
              
              Accumulated
                Deficit
      During
                Development
              
              Treasury
              
              Total
                Stockholders’Shares
              
              Amount
              
              Shares
              
              Amount
              
              Capital
              
              Stage
              
              Stock
              
              DeficiencyBalance
      as of May 31, 2006
              —
              
              $
              —
              
              
              24,353,053
              
              $
              2,437
              
              $
              14,088,141
              
              $
              (19,997,481
              )
              $
              (16,000
              )
              $
              (5,922,903
              )Shares
      issued for services
              —
              
              
              —
              
              
              475,000
              
              
              47
              
              
              341,953
              
              
              —
              
              
              —
              
              
              342,000Options
      issued for services
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              197,923
              
              
              —
              
              
              —
              
              
              197,923Valuation
      of equity rights
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              424,247
              
              
              —
              
              
              —
              
              
              424,247Amortization
      of stock compensation
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              418,997
              
              
              —
              
              
              —
              
              
              418,997Exercise
      of options
              —
              
              
              —
              
              
              175,604
              
              
              17
              
              
              1,739
              
              
              —
              
              
              —
              
              
              1,756Issuance
      of common stock for Aster Acquisition
              —
              
              
              —
              
              
              1,078,564
              
              
              107
              
              
              461,712
              
              
              —
              
              
              —
              
              
              461,819Net
      loss
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (6,033,075
              )
              
              —
              
              
              (6,033,075
              )Balance
      as of May 31, 2007
              —
              
              
              —
              
              
              26,082,221
              
              
              2,608
              
              
              15,934,712
              
              
              (26,030,556
              )
              
              (16,000
              )
              
              (10,109,236
              )Shares
      issued for services
              —
              
              
              —
              
              
              196,667
              
              
              20
              
              
              63,480
              
              
              —
              
              
              —
              
              
              63,500Options
      issued for services
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              105,448
              
              
              —
              
              
              —
              
              
              105,448Valuation
      of equity rights
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              1,064,495
              
              
              —
              
              
              —
              
              
              1,064,495Amortization
      of stock compensation
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              697,687
              
              
              —
              
              
              —
              
              
              697,688Net
      Loss
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (6,478,999
              )
              
              —
              
              
              (6,478,999
              )Balance
      as of May 31, 2008
              —
              
              
              —
              
              
              26,278,888
              
              $
              2,628
              
              $
              17,865,822
              
              $
              (32,509,556
              )
              $
              (16,000
              )
              $
              (14,657,104
              )
  
 See notes
to consolidated financial statements.
     F -
5
 ARKADOS
GROUP, INC. and Subsidiaries
 Consolidated
Statement of Cash Flow
 (A
Development Stage Enterprise)
  Cumulative
      Duringthe
      DevelopmentStageYear
      Ended May 31,
              
              
              (March
      24, 2004Cash
      Flows From Operating Activities
              
              2006
              
              
              2007
              
              
              2008
              
              
              to
      May 31, 2008)Net
      Loss
              
              $
              (4,025,016
              )
              
              $
              (6,033,075
              )
              
              $
              (6,478,999
              )
              
              $
              (24,232,288
              )Adjustments
      to reconcile net loss to net cash providedby
      (used) in operating activities:Depreciation
      and Amortization
              
              
              103,428
              
              
              
              305,667
              
              
              
              503,341
              
              
              
              1,044,573Common
      stock and warrants issued for services
              
              
              856,317
              
              
              
              958,920
              
              
              
              866,636
              
              
              
              7,582,071Warrants
      and Beneficial Conversion Rights with Debt
              
              
              251,233
              
              
              
              —
              
              
              
              —
              
              
              
              485,586Debt
      and Interest penalty
              
              
              —
              
              
              
              —
              
              
              
              1,004,701
              
              
              
              1,004,701Accounts
      Receivable
              
              
              15,022
              
              
              
              (107,668
              )
              
              
              82,090
              
              
              
              (34,976
              )Inventory
              
              
              —
              
              
              
              (34,334
              )
              
              
              34,334
              
              
              
              —Deferred
      Expenses
              
              
              (235,828
              )
              
              
              145,429
              
              
              
              328,411
              
              
              
              59,260Prepaid
      and Other assets
              
              
              (27,225
              )
              
              
              (30,395
              )
              
              
              (45,821
              )
              
              
              (103,441
              )Payroll
      taxes and related penalties and interest payable
              
              
              —
              
              
              
              (22,916
              )
              
              
              —
              
              
              
              (22,916
              )Related
      party payable
              
              
              —
              
              
              
              —
              
              
              
              23,717
              
              
              
              23,717Accounts
      Payable and accrued expenses
              
              
              (822,950
              )
              
              
              648,754
              
              
              
              2,142,452
              
              
              
              2,110,531Net
      Cash Provided by (Used) in Operating Activities
              
              
              (3,885,019
              )
              
              
              (4,169,618
              )
              
              
              (1,539,138
              )
              
              
              (12,083,182
              )Cash
      Flows from Investing ActivitiesPurchases
      of capital expenditures and Patents
              
              
              (1,174
              )
              
              
              (31,852
              )
              
              
              (540
              )
              
              
              (135,429
              )Net
      Cash Used in Investing Activities
              
              
              (1,174
              )
              
              
              (31,852
              )
              
              
              (540
              )
              
              
              (135,429
              )Cash
      Provided by Financing ActivitiesRelated
      party payables
              
              
              731,005
              
              
              
              —
              
              
              
              177,700
              
              
              
              1,576,726Note
      Payable
              
              
              —
              
              
              
              —
              
              
              
              125,000
              
              
              
              125,000Contribution
      of capital
              
              
              —
              
              
              
              —
              
              
              
              —
              
              
              
              1,232,646Exercise
      of Stock Options
              
              
              —
              
              
              
              1,756
              
              
              
              —
              
              
              
              1,756Repayment
      of debt
              
              
              (344,256
              )
              
              
              —
              
              
              
              —
              
              
              
              (344,256
              )Issuance
      of Debentures
              
              
              3,942,384
              
              
              
              5,052,577
              
              
              
              855,000
              
              
              
              10,599,961Repayment
      of related party payables
              
              
              (452,621
              )
              
              
              (446,406
              )
              
              
              —
              
              
              
              (949,027
              )Net
      Cash Provided by Financing Activities
              
              
              3,876,512
              
              
              
              4,607,927
              
              
              
              1,157,700
              
              
              
              12,242,806Net
      (Decrease) Increase in Cash
              
              
              (9,681
              )
              
              
              406,457
              
              
              
              (381,977
              )
              
              
              24,195Cash,
      beginning of the period
              
              
              9,681
              
              
              
              —
              
              
              
              406,457
              
              
              
              285Cash,
      end of the period
              
              
              —
              
              
              $
              406,457
              
              
              $
              24,480
              
              
              $
              24,480Supplemental
      disclosures of cash flow information:Cash
      paid for interest during the year
              
              
              35,382
              
              
              
              757
              
              
              
              1,480Cash
      paid for taxes during the year
              
              
              —
              
              
              
              —
              
              
              
              —Non
      cash investing activities:Acquisition
      of Aster Wireless
              
              
              —
              
              
              
              461,819
              
              
              
              —Non
      cash financing activities:Common
      stock and warrants issued for services
              
              
              92,210
              
              
              
              342,000
              
              
              
              63,500Shares
      and warrants issued with debt and beneficial conversion feature
      rights
              
              
              671,855
              
              
              
              —
              
              
              
              —Conversion
      of debt for equity
              
              
              405,744
              
              
              
              —
              
              
              
              —Conversion
      of accrued interest to debt
              
              
              
              
              
              
              263,431
              
              
              
              500,116Increase
      in debt as penalty
              
              
              
              
              
              
              —
              
              
              
              1,004,701Debt
      discount
              
              
              153,322
              
              
              
              424,247
              
              
              
              1,064,495
   Notes to
consolidated financial statements.
  F -
6
 Arkados
Group, Inc. & Subsidiaries (A Development Stage Enterprise)
 NOTES TO
FINANCIAL STATEMENTS
 YEARS
ENDED MAY 31, 2008,  2007 AND 2006
 
 
 1.
              DESCRIPTION OF
      BUSINESS
 
 Arkados
Group, Inc. (the “Company”), pursuant to an “Agreement and Plan of Merger”,
(“the Merger Agreement”) dated May 7, 2004 and consummated on May 24, 2004,
merged a wholly owned subsidiary, CDK Merger Corp., with Miletos, Inc. (the
“Merger”). CDK Merger Corp. was renamed “Arkados, Inc.” On August 30, 2006 the
Company changed its name from CDKNET.COM, Inc. to Arkados Group, Inc. All
references to CDKENT.COM, Inc. have been changed accordingly. Since Arkados
Group, Inc. and subsidiaries prior to May 7, 2004 had no meaningful operations,
this merger has been recorded as a reorganization of Arkados, Inc. via a reverse
merger with Arkados Group, Inc.
 
 The
Company, a development stage enterprise, is a fabless semiconductor company
providing integrated system-on-chip solutions that directly support networking,
smart grid and multimedia applications.  Arkados, “the HomePlug
Applications Company,” delivers a universal platform that enables the effortless
networking of home entertainment and computer devices using standard electricity
lines. We also license some ingredient technologies for wireless multimedia
solutions. The Company’s system-on-chip solutions are uniquely designed to drive
a wide variety of powerline-communication solutions such as utility company
applications, and powerline-enabled consumer electronics and home computing
products, such as stereo components, radios, speakers, MP3 players, computers,
televisions, gaming consoles, security cameras and cable and DSL modems. With
Arkados’ solutions, customers can bring numerous sophisticated, full-featured
products to market faster at a lower overall development cost using a single
platform: the company’s versatile and programmable ArkTICTM platform. Arkados
solutions leverage the benefits of standard powerline communications
technologies that are used worldwide for in-building and to-the-home Broadband
Powerline (“BPL”) applications.  The Company is a member of an
industry alliance of several companies referred to as the HomePlug Powerline
Alliance, “HomePlug”, for developing the standard of such technologies and is a
member of the IEEE P1901 working group.
 
 Miletos,
Inc. was a newly established entity, which acquired the assets and business of
Enikia, LLC in a public foreclosure sale on March 23, 2004 in exchange for the
forgiveness of $4,000,000 of secured debt and the assumption of certain
outstanding liabilities. The assets and certain liabilities acquired at the
foreclosure sale have been recorded at historical cost basis. The new entity,
Miletos, Inc. was predominately owned by a controlled group, which was the same
controlled group of Enikia, LLC and the same group became majority
holders.
 
 The
accompanying financials have been presented on a development stage basis using
March 24, 2004 as the date of inception.
 
 Pursuant
to the Merger Agreement, the consideration for the merger consisted of
16,340,577 shares of the Company’s restricted common stock (250,000 of such
common shares were contingent shares and were returned for cancellation as they
were not called upon as a result of a breach of a warranty or representation)
and 3,634,642 stock options at prices ranging from $.01 to $1.20 per share. In
addition $950,200 was raised through the sale of equity for working capital of
the Company.
   2.
              SUMMARY OF SIGNIFICANT
      ACCOUNTING POLICIES
 
 a.
              Basis of
      Presentation - The accompanying consolidated financial statements
      have been prepared assuming that the Company will continue as a going
      concern. The Company has incurred net losses of approximately $24 million
      since inception including a net loss of over $6 million for the recent
      year ended May 31, 2008. Additionally, the Company had a net working
      capital deficiency and shareholders’ deficiencies at May 31, 2007 and
      2008, and negative cash flow from operations since inception. These
      conditions raise substantial doubt about the Company’s ability to continue
      as a going concern. Management expects to incur additional losses in the
      foreseeable future and recognizes the need to raise capital to remain
      viable. The accompanying consolidated financial statements do not include
      any adjustments that might be necessary should the Company be unable to
      continue as a going concern.
 
 F -
7
 b.
              Principles of
      consolidation - The consolidated financial statements include the
      accounts of Arkados Group, Inc. (the “Parent”), and it’s wholly owned
      subsidiaries. Intercompany accounts and transactions have been eliminated
      in consolidation.
 
 c.
              Business
      combinations  We account for acquired businesses using
      the purchase method of accounting which requires that the assets and
      liabilities assumed be recorded at the date of acquisition at their
      respective fair values. Because of the expertise required to value
      intangible assets and intellectual property research and
      development “IPR&D”, we
      typically engage a third party valuation firm to assist management in
      determining those values. Valuation of intangible assets and IPR&D
      entails significant estimates and assumptions including, but not limited
      to: determining the timing and expected costs to complete projects,
      estimating future cash flows from product sales, and developing
      appropriate discount rates and probability rates by project. We believe
      that the fair values assigned to the assets acquired and liabilities
      assumed are based on reasonable assumptions. To the extent actual results
      differ from those estimates, our future results of operations may be
      affected by incurring charges to our statements of operations.
      Additionally, estimates for purchase price allocations may change as
      subsequent information becomes
available.
 
 d.
              Cash and cash
      equivalents - The Company considers investments in highly liquid
      instruments with a maturity of three months or less to be cash
      equivalents.
 
 e.
              Allowance for doubtful
      accounts - The Company records a bad debt expense / allowance based
      on management’s estimate of uncollectible accounts. The Company has not
      recorded any bad debt expense in each of the years ended May 31, 2006,
      2007 and 2008.
 
 f.
              Equipment -
      Equipment is recorded at cost. Depreciation is provided on the
      straight-line method based upon the estimated useful lives of the
      respective assets. Equipment is being depreciated over a period of seven
      years. Maintenance, repairs and minor renewals are charged to operations
      as incurred, whereas the cost of significant betterments is capitalized.
      Upon the sale or retirement of property and equipment, the related costs
      and accumulated depreciation are eliminated from the accounts and gains or
      losses are reflected in operations.
 
 g.
              Impairment of
      Long-Lived Assets - The Company reviews long-lived assets, certain
      identifiable assets and goodwill related to those assets on a quarterly
      basis for impairment whenever circumstances and situations change such
      that there is an indication that the carrying amounts may not be
      recovered. To the extent there has been any impairment such impairment has
      been record in the statement of
operations.
 
 h.
              Fair Value of
      Financial Instruments - The carrying value of cash, accounts
      receivable, other receivables, accounts payable and accrued expenses
      approximate their fair values based on the short-term maturity of these
      instruments. The carrying amounts of debt were also estimated to
      approximate fair value. The Company can not estimate the fair value of the
      remaining outstanding payroll taxes, penalties and interest recorded in
      connection with the merger.
 
 i.
              Revenue
      Recognition - The Company derives revenues from two sources – sales
      of products and revenues related to service and custom development
      activities.  For product sales, revenue is recognized when our
      products are shipped to our customers. Shipping documents and the
      completion of any customer acceptance requirements, when applicable, are
      used to verify product delivery or that services have been
      rendered.  Shipping costs are charged to cost of sales as
      incurred.  For sales related to development, the Company
      recorded revenues pursuant to a number of term development contracts. The
      revenues are earned and recorded are based on pre-determined milestones.
      When revenues within a pre-determined milestone have been partially
      earned, the Company records such progress billings as “Revenues earned not
      yet billed.” Such revenues are billable under the terms of the arrangement
      once the milestone has been fully completed. The Company also monitors
      estimated costs to complete such long term contract to the revenues to be
      earned to ensure that if there is an estimated loss to record to
 
 F -
8
 complete
      their obligation to fulfill the terms of such development contract, such
      loss existed. As of May 31, 2008, there were no long term contracts for
      which revenues were yet to be earned outstanding.j.
              Shipping and Handling
      Costs - Shipping and handling costs are normally FOB the Company’s
      factory, prepay and add. These costs are included in cost of goods
      sold.
 
 k.
              Inventory and
      Reserves – Inventories are stated on a first-in first-out basis at
      the lower of cost or market value. Cost includes fabricated wafers,
      purchased integrated circuits, subcontractor costs (such as assembly and
      test). Any write-down of inventory to reduce carrying value to lower of
      cost or market value is charged to cost of
  sales.
 
 l.
              Advertising
      Costs - All advertising costs, are expensed as incurred. The
      Company has not had any advertising costs in each of the last two
      years.
 
 m.
              Loss Per Share
      - Basic net loss per common share is computed by dividing net loss by the
      weighted average number of shares of common stock outstanding. For the
      years ended May 31, 2008, 2007 and 2006, diluted loss per share is the
      same as basic loss per share since the inclusion of approximately 15, 13
      and 11 million stock options and warrants, respectively, and as
      well as 24, 9 and 5 million shares of common stock issuable upon
      conversion of convertible indebtedness, respectively, would be
      anti-dilutive.
                  
 F -
9
 n.
              Stock Options –
      The Company adopted SFAS No. 123R, “Share Based Payments.” SFAS No. 123R
      requires companies to expense the value of employee stock options and
      similar awards and applies to all outstanding and vested stock-based
      awards.
 
 In
computing the impact, the fair value of each option is estimated on the date of
grant based on the Black-Scholes options-pricing model utilizing certain
assumptions for a risk free interest rate; volatility; and expected remaining
lives of the awards. The assumptions used in calculating the fair value of
share-based payment awards represent management’s best estimates, but these
estimates involve inherent uncertainties and the application of management
judgment. As a result, if factors change and the Company uses different
assumptions, the Company’s stock-based compensation expense could be materially
different in the future. In addition, the Company is required to estimate the
expected forfeiture rate and only recognize expense for those shares expected to
vest. In estimating the Company’s forfeiture rate, the Company analyzed its
historical forfeiture rate, the remaining lives of unvested options, and the
amount of vested options as a percentage of total options outstanding. If the
Company’s actual forfeiture rate is materially different from its estimate, or
if the Company reevaluates the forfeiture rate in the future, the stock-based
compensation expense could be significantly different from what we have recorded
in the current period. The impact of applying SFAS No. 123R approximated
$697,688, $418,997 and $497,347, respectively, in additional compensation
expense for the twelve months ended May 31, 2008, 2007, and
2006.  Such amount is included general and administrative expenses on
the statement of operations.
 
 In
accordance with SFAS 123R, the fair value of each option grant has been
estimated as of the date of the grant using the Black-Scholes option pricing
model with the following weighted average assumptions:
 
 The
Company has recorded compensation expense for the years ended May 31, 2008, 2007
and 2006, in the amounts of $866,636, $958,918, and $566,517,respectviely
attributed to the issuance and vesting of common shares,  stock
options and warrants for services.
 
 For
      Years Ended May 312008
              
              2007
              
              2006Risk
      free interest rate
              2.05%-4.14%
              
              5.00%
              
              5.00%Expected
      life
              2-5
      years
              
              4
      years
              
              4
      yearsDividend
      rate
              0.00%
              
              0.00%
              
              0.00%Expected
      volatility
              65%-99%
              
              43%
              
              43%
 
 o.
              Use of
      Estimates - The preparation of financial statements in conformity
      with generally accepted accounting principles requires management to make
      estimates and assumptions that affect the reported amounts of assets and
      liabilities and disclosure of contingent assets and liabilities at the
      date of the financial statements and revenues and expenses during the
      reporting period. Actual results could differ from those
      estimates.
 
 p.
              Comprehensive
      Income - SFAS No. 130, “Reporting Comprehensive Income”,
      establishes standards for reporting and displaying comprehensive income,
      comprising net income and other non-owner changes in equity, in the
      financial statements. For all periods presented, comprehensive income was
      the same as net income.
 
 q.
              Recent Accounting
      Pronouncements -
  
 In June
2008, the Financial Accounting Standards Board (“FASB”) issued EITF Issue No.
08-4,“Transition Guidance for
Conforming Changes to Issue No. 98-5  “(“EITF No. 08-4”)”. The
objective of EITF No. 08-4 is to provide transition guidance for conforming
changes made to EITF No. 98-5,“Accounting for Convertible Securities with Beneficial Conversion Features or
Contingently Adjustable Conversion Ratios” , that result from EITF No.
00-27“Application
of Issue No. 98-5 to Certain Convertible Instruments” , and SFAS No.
150,“Accounting
for Certain Financial Instruments with Characteristics of both Liabilities and
Equity” . This Issue is effective for financial statements issued for
   F -
10
 fiscal
years ending after December 15, 2008. Early application is permitted. The
Company is currently evaluating the impact of adoption of EITF No. 08-4 on the
accounting for the convertible notes and related warrants
transactions.
 
 In May
2008, the FASB issued FASB Staff Position (“FSP”) No. APB 14-1, “Accounting for Convertible Debt
Instruments That May Be Settled in Cash Upon Conversion (Including Partial Cash
Settlement”). (“FSP APB 14-1”). FSP APB 14-1 clarifies that convertible
debt instruments that may be settled in cash upon conversion (including partial
cash settlement) are not addressed by paragraph 12 of APB Opinion No. 14, “Accounting for Convertible Debt and
Debt Issued with Stock Purchase Warrants”.  Additionally, FSP
APB 14-1 specifies that issuers of such instruments should separately account
for the liability and equity components in a manner that will reflect the
entity’s nonconvertible debt borrowing rate when interest cost is recognized in
subsequent periods. FSP APB 14-1 is effective for financial statements issued
for fiscal years beginning after December 15, 2008, and interim periods within
those fiscal years. Early adoption is not permitted. The Company is currently
evaluating the impact of the adoption of FSP APB 14-1 on the Company’s financial
condition and results of operations.
 
 In March
of 2008, the FASB issued SFAS No. 161,“Disclosures about Derivative
Instruments and Hedging Activities”  – An Amendment of FASB’s
Statement No. 133, which expands the disclosure requirements in Statement 133
about an entity’s derivative instruments and hedging activities.  It
is effective for financial statements issued for fiscal years and interim
periods beginning after November 15, 2008.  The Company is currently
evaluating the impact that adopting SFAS No. 161 will have on its financial
position, cash flows, and statements of operations.
 
 In
September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements”
(“SFAS No. 157”), which clarifies the definition of fair value, establishes
guidelines for measuring fair value, and expands disclosures regarding fair
value measurements. SFAS No. 157 does not require any new fair value
measurements and eliminates inconsistencies in guidance found in various prior
accounting pronouncements. SFAS No. 157 and FSP 157-b are generally effective
for fiscal years beginning after November 15, 2007, and interim periods within
those fiscal years. The effective date of SFAS No. 157 for certain non-financial
assets and liabilities is fiscal years beginning after November 15, 2008 and for
interim periods within those years. The adoption of SFAS No. 157 on January 1,
2008 did not have a material impact on our financial statement.
 
   
 
    
 F -
11
 In
February 2007, the FASB issued Statement of Financial Accounting Standards No.
159, “The Fair Value Option
for Financial Assets and Financial Liabilities ” (“SFAS No. 159”). SFAS
No. 159 permits entities to choose to measure many financial instruments and
certain other items at fair value that are not currently required to be measured
at fair value. SFAS No. 159 also establishes presentation and disclosure
requirements designed to facilitate comparisons between entities that choose
different measurement attributes for similar assets and liabilities. SFAS No.
159 is effective for financial statements issued for fiscal years beginning
after November 15, 2007. The adoption of SFAS No. 159 on May 31, 2008 did not
have a material impact on our financial statements.
 
 In
December 2007, the FASB also issued SFAS No. 141 (revised 2007), “Business Combinations”
(“SFAS No. 141(R)”).  SFAS No. 141(R) will change the accounting for
business combinations.  Under SFAS No. 141(R), an acquiring entity
will be required to recognize all the assets acquired and liabilities assumed in
a transaction at the acquisition-date fair value with limited
exceptions.  SFAS No. 141(R) will change the accounting treatment and
disclosure for certain specific items in a business combination. SFAS No. 141(R)
applies prospectively to business combinations for which the acquisition date is
on or after the beginning of the first annual reporting period beginning on or
after December 15, 2008. SFAS No. 141(R) will impact the Company in the event of
any future acquisition.
 
 In
December 2007, the FASB issued SFAS No. 160,“Noncontrolling Interests in
Consolidated Financial Statements – An Amendment to ARB No.
51”  (“SFAS No. 160”). SFAS No. 160 establishes new accounting
and reporting standards for the non-controlling interest in a subsidiary and for
the deconsolidation of a subsidiary. Specifically, this statement requires the
recognition of a noncontrolling interest (minority interest) as equity in the
Consolidated Financial Statements and separate from the parent’s equity. The
amount of net income attributable to the noncontrolling interest will be
included in consolidated net income on the face of the income statement. SFAS
No. 160 clarifies that changes in a parent’s ownership interest in a subsidiary
that do not result in deconsolidation are equity transactions if the parent
retains its controlling financial interest. In addition, this statement requires
that a parent recognize a gain or loss in net income when a subsidiary is
deconsolidated. Such gain or loss will be measured using the fair value of the
non-controlling equity investment on the deconsolidation date. SFAS No. 160 also
includes expanded disclosure requirements regarding the interests of the parent
and its non-controlling interest. SFAS No. 160 is effective for fiscal years
beginning on or after December 15, 2008. Earlier adoption is prohibited. The
Company is currently evaluating the impact that adoption of SFAS No. 160 will
have on its financial position, cash flows or results of
operations.
   3.
              ACQUISITION OF ASTER
      WIRELESS TECHNOLOGIES, INC.
  On March
3, 2007 we completed the merger (“Aster Merger) of Arkados Wireless
Technologies, Inc., a wholly owned subsidiary of the Company (“Merger Sub”) with
Aster Wireless, Inc. a Delaware corporation (“Aster”) pursuant to that Agreement
and Plan of Merger dated February 13, 2007 by and among the Company, Merger Sub
and Aster (the “Merger Agreement”).  The assets and liabilities of
Aster are recorded as of the acquisition date at their estimated fair values.
The reported consolidated financial condition and results of operations of
Arkados after completion of the Aster Merger reflects these values, but will not
be restated retroactively to reflect the historical consolidated financial
position or results of operations at Aster. Arkados issued 1,000,000 shares of
Arkados common stock upon the cancellation of all shares of Aster capital stock
outstanding.  Under the terms of the Aster Merger, the Aster employees
received 50% of their deferred payroll which was paid 50% in cash and the
balance by the issuance of 78,564 shares of 50% in Arkados stock.
 
 F -
12
 The
purchase price is as follows (table in thousands):
 
 Fair
      value of Arkados shares issued at closing
              
              $
              462Transaction
      costs incurred by Arkados
              
              
              22Purchase
      price
              
              $
              484
  The fair
value of the Arkados shares used in determining the purchase price was $0.43 per
share, which was the price of Arkados common stock on the day that the closing
took place, March 2,2007
  
 The
purchase price has been allocated based on a valuation of Aster’s tangible and
intangible assets and liabilities an their following fair values (in
thousands)
 
 Total
      current assets
              
              $
              20Property
      and equipment and other assets
              
              
              17Intangible
      assets
              
              
              493Total
      current liabilities
              
              
              (74
              )Total
              
              $
              462
                  
 F -
13
 
 The
Company’s 2007 consolidated statement of operations includes the results of
operations from Aster from March 3, 2007 forward.  The following table
presents unaudited pro forma consolidated results of operations for Arkados for
the years ended May 31, 2006 and 2007 as though the Aster acquisition was
completed as of the beginning of each period.
 
 Year
      Ended
                May
      31, 2006
              
              
              Year
      Ended
                May
      31, 2007Net
      loss attributable to common shareholders
              
              $
              (4,562,406
              )
              
              $
              (6,576,100
              )Net
      loss per share attributable to common shareholdersBasic
      and diluted
              
              $
              (.18
              )
              
              
              (.25
              )Weighted
      average shares outstanding
              
              
              24,855,924
              
              
              
              25,982,128
 
  4.
              CONCENTRATION OF
      CREDIT RISK
 
 The
Company’s accounts receivable were concentrated with two
customers.  Accounts Receivable balances for the years ending May 31,
2008 and 2007 were $34,976 and $117,066, respectively on revenues of $856,076
and $131,735 for the same respective periods.
 
 The
Company may periodically have cash in excess of $100,000, the Federal Deposit
Insurance Corp. “FDIC” insurable limit. As of May 31, 2008 the cash balance was
$24,480, below the insurable limit.
   5.
              EQUIPMENT
 
 At May
31, 2008 equipment consists of the following:
 
 Furniture
              
              $
              14,878Computers
              
              
              10,840Equipment
              
              
              39,033Total
              
              
              64,751Less:
      Accumulated depreciation
              
              
              (24,890
              )Net
              
              $
              39,861
 
 Depreciation
expense for the years ended May 31, 2008 and 2007 was $7,000 and $4,000,
respectively.
   
 F -
14
 6.
              INTANGIBLE
      ASSETS
 
 The
Company owns 36 patents and patents pending, which are currently, being used in
the development of the Company’s products. Excluding the value assigned to
patents as part of the Aster acquisition, the Company had recorded $472,509 of
gross patents costs and $463,403 of accumulated amortization as of May 31, 2008.
The annual amortization of such intangible assets approximates $1,000 for the
next year.
 
 The
Company has allocated the intangible assets associated with the Aster
acquisition to Personnel, Patents and Technology.  The total value,
the number of years to be amortized, and the annual expense associated with such
amortization are contained in the table below.
 
 Total
                Cost
              
              
              #
      of years
                Amortization
              
              
              Annual
                AmortizationPersonnel
              
              $
              113,750
              
              
              
              1
              
              
              $
              113,750
              
              Fully
      amortizedPatent
              
              
              227,500
              
              
              
              5
              
              
              
              45,500Technology
              
              
              152,203
              
              
              
              5
              
              
              
              30,441Total
              
              $
              493,453
              
              
              
              
              
              
              $
              189,691
 
        
 F -
15
 7.
              PAYROLL TAX
      LIABILITIES
 
 Enikia
was in arrears for several years in its payment of federal and state payroll
taxes. Pursuant to the Merger Agreement, the Parent assumed up to $1.2 million
of the delinquent payroll taxes due and outstanding with the remaining
difference an assumed liability of the major shareholder of the Company. During
the year ended May 31, 2006, the Company made payments to both Federal and State
of NJ taxing authorities in the amount of $874,000. The payments represented
payroll taxes withheld by Miletos from its employees but not remitted to the
taxing authorities.  During the year ended May 31, 2008, an additional
$64,106 payment was made to the State of NJ for payment of payroll taxes.
Currently, there is $960,000 still recorded on the Company’s books as due and
outstanding to both the federal and state tax authorities for penalties and
interest incurred by Enikia related to its payroll liabilities. The Company does
not believe that it has a legal obligation to pay anything more to any taxing
authority, but until such clearance is received from the appropriate agencies,
the Company has elected to keep the liability on its books.
  
 8.
              ACCRUED EXPENSES AND
      OTHER LIABILITIES
 
 As of May
31, 2008, accrued expenses and other liabilities consist of the following
approximate amounts:
  Year
      Ended May 31,2008
              
              
              2007Accounts
      payable
              
              $
              1,307,239
              
              
              $
              507,436Accrued
      compensation
              
              
              1,019,557
              
              
              
              96,242Accrued
      technical and engineering fees
              
              
              —
              
              
              
              47,202Accrued
      interest payable
              
              
              482,941
              
              
              
              571,440Liabilities
      assumed per merger agreement
              
              
              34,673
              
              
              
              34,673Accrued
      other
              
              
              91,602
              
              
              
              36,682$
              2,936,012
              
              
              $
              1,293,675
 
 9.
              CONVERTIBLE DEBENTURES
      AND RELATED PARTY PAYABLES
 
 2004 6% Convertible
Notes - During the period from October to November 2005, the Company
borrowed $500,000 from certain of its existing stockholders for working capital
needs and such obligation is represented by notes. The notes, recorded as
Related Party Payables, bore interest at 6% per annum and contained certain
conversion features which would have been triggered if the Company had sold
equity at or above $1.25 per share. No expense was recorded for the beneficial
conversion feature, since conversion price was always at or above market. The
notes’ maturity was initially October 15, 2005, which was extended from time to
time by the holders. In February 2006, them Company and holders of $175,000 of
the outstanding principal of the notes agreed to discharge the Company’s
obligations for 160,765 shares of common stock and the payment of $81,018. The
remaining $325,000 of principal outstanding is due October 15, 2006 and is held
by an affiliate of the Company’s Chairman of the Board.
 
 10% Convertible Notes
- During the period from March 18, 2005 to May 12, 2005, the Company issued
$750,000 of 10% convertible extendable notes initially due June 8, 2005 (the
“10% Notes”). The due date of the 10% Notes was extended at the Company’s option
to September 8, 2005 by the Company’s payment of an extension fee aggregating
$20,000 for the entire issue and paying interest due on the 10% Notes to June 8,
2005. The Company paid $37,500 of principal with related interest on September
18, 2005 in full payment of two of the outstanding notes and obtained the
extension of the $712,500 then remaining notes by paying an additional sum of
$20,000 and issuing 85,000 shares of common stock to the remaining holders of
the 10% Notes. An expense of $76,500 was recorded related to the issuance of the
85,000 shares of common stock, using a share price of $.90. The Company paid
$22,167 of principal pursuant to a mandatory prepayment provision in September,
2005. Principal and accrued interest on the 10% Notes are convertible at the
holders’ option into shares of the Company’s common stock only after an event of
    F -
16
  default,
as defined in the Notes at the lower of $0.67 or the average closing bid price
of the Company’s common stock on the ten trading days preceding conversion. The
conversion right is limited in that it may not be exercised by a holder to the
extent it would result in such holder becoming the beneficial owner of more than
4.99% of the Company’s common stock. The 10% Notes were issued with 825,000 of
three year common stock warrant exercisable for $0.67 per share in the basis of
one warrant for each $1 of principal.
                          
 F -
17
 On
December 20, 2005, the Company paid $261,398 in satisfaction of a portion of the
10% Notes, of which $254,333 was principal and $7,064 was interest. The Company
previously reported that it did not make principal and interest payments
totaling $707,591 due on December 8, 2005 to holders of the Notes and the grace
period for such payment expired December 19, 2005. Holders of remaining $436,000
principal of the Notes agreed to extend the Maturity Date of the Notes to
January 15, 2006 and waived all prior defaults. The remaining principal balance
and interest was satisfied pursuant to agreements with the remaining holders of
the 10% Notes on February 1, 2006 by the Company’s payment of $268,824 and the
issuance of 293,116 shares of common stock.
 
 $200,000 Short Term
Borrowing - Beginning on June 10, 2005 and ending June 15, 2005, the
Company borrowed an aggregate of $200,000 from two lenders that are not
affiliates of the Company. During the quarter ended August 31, 2005 $100,000 of
these notes were repaid and during the quarter ended November 30, 2005 the
remaining $100,000 plus accrued interest on the notes was repaid.
 
 2005 6% Convertible
Notes - During the quarters ended August 31, 2005 and November 30, 2005,
the Company raised $912,500 and $154,000, respectively, of gross proceeds
from the private placement of an aggregate of 10.665 units (the “Units”) each
consisting of $100,000 principal amount 6% convertible subordinated promissory
notes (the “6% Notes”) and 14,286 detached warrants (the “Warrants”) to purchase
a like number of shares of the Company’s common stock, for $0.35 per share. The
Company issued an aggregate of 152,359 Warrants to the purchasers of the Units,
which have been valued at $74,802 and will be amortized as interest expense over
the term of the 6% Notes. In addition, the Company issued 238,213 common stock
warrants exercisable at $0.65 as part compensation to the placement agent, which
have been valued at $111,668 and will be amortized as interest expense along
with other expenses of the offering. Both the $0.35 and $0.65 Warrants have a
“net exercise” provision that permits the holder to convert the Warrants into
shares of the Company’s common stock. The 6% Notes (1) are due July 7, 2007 with
interest at the annual rate of 6% from the date of original issuance (increasing
to 12% per annum from an event of default as defined in the 6% Notes); (2) are
unsecured obligations of the Company and subordinated to senior secured loans to
the Company (if any) from banks, finance companies and similar institutions that
extend credit in the regular cause of such institution’s business; (3) are
convertible, subject to certain conditions and at two different price levels
($1.125 and $1.575 for a period of twenty trading days following the bid price
of common stock closing above $1.50 and $2.50, respectively, for a period of
five consecutive trading days), into shares of common stock; and (4) may be
redeemed by the Company in certain limited circumstances described below prior
to maturity. Since the beneficial conversion feature of the 6% Notes is (at the
lowest price) at a price greater than the market price of the stock upon
issuance of the 6% Notes, no value has been estimated or recorded for the
beneficial conversion feature.
 
 On July
6, 2007, the Company reached an agreement with more that the requisite holders
of 2/3 of the outstanding $1,066,500 principal amount of 6% Convertible
Subordinated Notes due July 7, 2007 to extend the due date of the Notes to June
30, 2008. In exchange for the amendment, the Company agreed to issue
approximately 188,200 three year warrants to purchase shares of the Company’s
common stock for $0.85 per share and lowered conversion prices in the Notes to
$0.85.
 
 On July
9, 2008,  Arkados Group Inc. (the “Company”) reached an agreement with
more that the requisite holders of 2/3 of the outstanding $1,066,500 principal
amount of 6% Convertible Subordinated Notes (the “Notes”) due June 30, 2008 to
extend the due date of the Notes to June 30, 2009.  In exchange for
the amendment, the Company agreed to exchange approximately 876,100 shares of
common stock, pro rata, for notes in the original principal amount of
$306,618.
 
 Related Party
Borrowings - Through December 19, 2005, the Company borrowed $253,075
from three directors and one stockholder. These advances were due on demand with
interest at the annual rate of 6% and $225,000 was paid on January 10, 2006. See
subsequent event for conversion of the remaining balance into shares of the
Company’s common stock with the holders.
 
 From
March 1, 2008 through May 31, 2008, the Company borrowed $177,700 from two
directors.  These advances were due on demand with interest at the
annual rate of 6%.
  
 F -
18
 6% Secured Debentures
- On December 19, 2005, the Company borrowed $267,900 from one of the accredited
investors that ultimately purchased 6% secured convertible debentures (the “6%
Secured Debentures”) in the December 28, 2005 financing. The loan was made on an
unsecured basis, was due on demand and was forgiven in exchange for $267,900 of
the $2.0 million principal amount of the 6% Secured Debentures and related
warrants. On December 28, 2005, the Company issued $2.0 million aggregate
principal amount and authorized $3.5 million 6% Secured Debentures to three
institutional investors. The 6% Secured Debentures have a term of three years
and mature on December 28, 2008, pay interest at the rate of 6% per annum,
initially payable semi-annually on January 1 and July 1 of each year beginning
July 1, 2006, and are secured by a grant of a security interest into
substantially all of the Company’s assets. The Company may elect to pay interest
on the 6% Secured Debentures in cash or in shares of common stock, subject to
certain conditions related to the market for such shares stock and the
registration of the shares issuable upon conversion of the 6% Secured Debentures
under the Securities Act of 1933, as amended (the “Securities
Act”).
 
 The 6%
Secured Debentures are convertible at any time at the option of the holder into
shares of the Company’s common stock at a price of $0.85 per share, subject to
adjustment as set forth therein. If, after the effective date of the
registration statement we agreed to file under the Securities Act (the
“Registration”), the closing price for the Company’s common stock exceeds $1.70
for any 20 consecutive trading days, The Company may, within one trading day
after the end of such period, require the holders of the 6% Secured Debentures
to immediately convert all or part of the then outstanding principal amount of
their 6% Secured Debentures. The terms of the conversion rights also contain
certain dilution provisions.
 
 The
Company has reviewed the accounting for registration rights terms relating to
the shares of common stock issuable upon the conversion and exercise,
respectively, of the 6% Secured Convertible Debentures and related warrants
under the recently adopted FSP EITF 00-19-2. The Company granted demand
registration rights to the purchasers of the 6% Secured Debentures which
requires the Company to file an initial registration 45 days following demand.
Under the registration rights agreement, the Company incurs a penalty if it
fails to file within the 45 day period or if the SEC had not declared the
registration effective 90 days after filing. The holders of the 6% Secured
Debentures have not demanded registration. The Company believes it can comply
with a demand for registration in a timely manner and therefore no accrual for
the registration rights penalties has been made.”
 
 On
December 28, 2005, pursuant to the purchase agreements with the purchasers of
the 6% Secured Debentures, the Company issued warrants to purchase an aggregate
of 941,176 shares of common stock for $1.00 per share, on or prior to December
28, 2010 and short term warrants to purchase up to an aggregate of 941,176
additional shares of common stock for $0.85 per share, each subject to
anti-dilution adjustments, including a “full ratchet down” to the purchasers of
the 6% Secured Debentures. The short term warrants are exercisable at any time
prior to the earlier of December 28, 2007 (subsequently changed to December 28,
2010) or twelve months after the effective date of the Registration Statement.
If no effective registration statement is obtained after one year then such
warrants have a cashless exercise option feature.
 
 Upon the
occurrence of certain events of default defined in the 6% Secured Debentures,
including events of default under the transaction documents related to the
financing, the full principal amount of the 6% Secured Debentures, together with
interest and other amounts owing, become immediately due and payable, the
principal obligation increases to 130% of the principal balance and the interest
rate increases to 18%.
 
 The
transaction documents relating to the 6% Secured Debentures issued in December
2005 contained a covenant that the Company would obtain the conversion of an
aggregate of $746,600 principal and related interest into shares of the
Company’s Common Stock at or above $0.67 per share on or before January 15,
2006. On February 1, 2006, as part of the sale of an additional $375,884 of the
6% Secured Debentures described above, the Company and the holders of all
outstanding 6% Debentures agreed to modify the covenant to permit the Company to
issue 604,956 shares of common stock and pay $405,744 in full satisfaction of
such outstanding principal and interest concurrently with the additional
investment and waived prior defaults. Two of the parties that agreed to accept
shares of common stock in lieu of repayment were directors of the Company, of
which one received 75,078 shares in satisfaction of $50,303 of principal and
interest and the other received 76,969 shares in lieu of $51,989 of principal
and interest.
 
 F -
19
 On
February 1, 2006, and February 24, 2006 the Company issued $375,884 and
$500,000, respectively, of additional principal of 6% Secured Debentures on
substantially the same terms as those debentures issued on December 28, 2005. As
a result, an aggregate of $2,875,884 of these debentures were outstanding as of
February 28, 2006. On February 1, 2006 and February 24, 2006 the Company issued
176,887 and 235,294 additional short and long term warrants, respectively, to
the purchasers of the additional 6% Secured Debentures. As a result, there were
1,353,357 short and 1,353,357 long term warrants outstanding as of May 31,
2007.
 
 On March
31, 2006, the Company issued $500,000 additional principal of the 6% Secured
Debentures to a limited liability company owned equally by the wife of our
chairman and another director on substantially the same terms as the 6% Secured
Debentures issued on December 28, 2005. After giving effect to this additional
issuance, there was $3,375,884 principal amount of the 6% Secured Debentures
outstanding, as well as 1,588,651 of the five year and 1,588,651 of the short
term warrants outstanding.
 
 The
Company received an advance of $500,000 from one of the holders of 6% Secured
Debentures on June 1, 2006.  The advance was due on demand and
forgiven in exchange for $500,000 principal amount of 6% Secured Debentures and
related warrants on June 30, 2006.
 
 The
Company issued $1,773,471 aggregate principal amount of 6% Secured Debentures on
June 30, 2006.  The consideration received by the Company for the
Secured Debentures consisted of $500,000 cash, forgiveness of repayment of the
$500,000 advance received June 1, 2006, forgiveness of $773,470 related party
debt due to Andreas Typaldos, the Company’s Chairman and principal shareholder
and a limited partnership controlled by his wife. The debentures have a term of
three years and mature on December 28, 2008. The 6% Secured Debentures pay
interest at the rate of 6% per annum, payable semi-annually on January 1 and
July 1 of each year beginning January 1, 2007.  These debentures are
on substantially the same terms as, and rank pari passu to, an aggregate of
$3,875,884 of 6% Secured Debentures outstanding as of May 31,
2006.  The Company issued 834,575 short term and 834,574 long term
warrants to the purchasers of the 6% Secured Debentures and entered into a
security agreement granting the purchasers a security interest in its assets to
secure the Company’s obligations under the debentures. Obligations under the
debentures are guaranteed by the Company’s wholly-owned operating
subsidiary.  At the same time, the outstanding short term warrants
were amended to expire at the earlier of December 28, 2010 or the twelve months
after the effective date of the Registration Statement.
 
 On June
30, 2006, the Company signed a letter amendment to the consulting agreement with
Andreas Typaldos dated May 21, 2004. The amendment removes the condition that
the Company raise $1,000,000 of equity financing before paying consulting fees
that accrued at the rate of $15,000 per month commencing June 1, 2006 as an
inducement for Mr. Typaldos forgiving the $360,000 of accrued and unpaid fees in
exchange for the $360,000 principal amount of 6% Secured Debentures and related
warrants.
 
 On August
18, 2006, the Company entered into an amendment agreement with the holders of
the $3,875,884 principal amount of 6% Secured Debentures outstanding as of May
31, 2006, including a limited liability company owned by the wife of our
Chairman, and one of our directors. The Amendment agreement makes material
changes to the securities purchase agreements, warrants, registration rights
agreements, security agreements and other ancillary documents we executed in
connection with an aggregate of $3,875,884 of 6% debentures the Company sold
during the period from December 28, 2005 to March 31, 2006.  The
material changes give the holders the same rights of redemption in the event of
a cash purchase of our assets as those held by the of $1,773,470.83 aggregate
principal amount of 6% Secured Debentures issued on June 30, 2006. As a result
of the Amendment, all of the 6% Secured Debentures and warrants must be redeemed
by the Company at a premium if it agrees to sell all of the Company’s assets to
a third party for cash and cash equivalents. In addition, as a result of the
amendment, all holders of the 6% Secured Debentures have the right to have
shares of Common Stock issuable upon conversion of the debentures and exercise
of the related warrants registered for resale under the Securities Act of 1933
within 60 days after receiving written demand of the holders of 60.1% of such
securities and have it declared effective 90 days thereafter.
 
 F -
20
 On
September 26, 2006, October 19, 2006 and November 30, 2006, the Company issued
$500,000, $500,000 and $400,000, respectively, of additional principal of the 6%
Secured Debentures on substantially the same terms as the 6% Secured Debentures
previously issued by the Company.  The Company issued 658,824 short
term and 658,824 long term warrants to the purchasers of the 6% Secured
Debentures.
 
 On
January 8, 2007, the Company entered into an amendment agreement with the
holders of the 6% Secured Debentures.  The Amendment agreement makes
material changes to the securities purchase agreements, warrants, registration
rights agreements, security agreements and other ancillary documents we executed
in connection with the 6% debentures the Company sold during the period from
December 28, 2005 to January 8, 2007, including removing the negative covenant
prohibiting the Company from issuing stock, warrants or convertible securities
at a fixed price to finance its operations, permitting the issuance of
additional secured debentures and warrants on the same terms as the outstanding
such securities, and providing that interest due on the debentures on January 1,
2007 and July 1, 2007 be added to principal on those dates.
 
 On
January 8, 2007 and February 28, 2007, the Company issued $288,000 and $327,000,
respectively, of additional principal of the 6% Secured Debentures on
substantially the same terms as the 6% Secured Debentures previously issued by
the Company.  The Company issued 289,410 short and 289,410 long term
warrants issued with these 6% Secured Debentures.
 
 On
September 26, 2006, October 19, 2006 and November 30, 2006, the Company issued
$500,000, $500,000 and $400,000, respectively, of additional principal of the 6%
Secured Debentures on substantially the same terms as the 6% Secured Debentures
previously issued by the Company.  The Company issued 658,824 short
term and 658,824 long term warrants to the purchasers of the 6% Secured
Debentures.
 
 During
the fourth quarter of 2007, the Company issued an aggregate of $1,264,106 of
additional principal of the 6% Secured Debentures on substantially the same
terms as the 6% Secured Debentures previously issued by the
Company.  The Company issued 594,874 short term and 594,874 long term
warrants to the purchasers of the 6% Secured Debentures.  The
individual issuances are identified below:
 
 March
      12, 2007
              
              $
              20,000March
      28, 2007
              
              
              150,000April
      15, 2007
              
              
              115,000April
      30, 2007
              
              
              70,000May
      10,2007
              
              
              380,000May
      31, 2007
              
              
              529,106Total
      during the 4th
      quarter of 2007
              
              $
              1,264,106
 
 During
the first half of 2008, the Company borrowed $855,000 at the times set forth
below, on an unsecured basis from affiliates of the Company’s Chairman and two
non-employee directors, with the understanding that these advances would be
exchanged for additional 6% Secured Debentures and related
warrants.  Such an exchange is subject to the consent of the holders
of outstanding 6% Secured Debentures or the satisfaction of the holders’
pre-emptive rights.
  July
      10, 2007
              
              $
              215,000August
      3, 2007
              
              
              150,000August
      22, 2007
              
              
              50,000August
      27, 2007
              
              
              20,000August
      31, 2007
              
              
              50,000September
      28, 2007
              
              
              100,000October
      16, 2007
              
              
              60,000October
      30, 2007
              
              
              90,000November
      7, 2007
              
              
              70,000November
      19, 2007
              
              
              50,000Total
      during the 1st half of 2008
              
              $
              855,000
 
 F -
21
 On
December 15, 2007, this related party debt was converted to additional principal
of the 6% Secured Debentures on substantially the same terms as the 6% Secured
Debentures previously issued by the Company.  The Company issued
402,353 short-term and 402,353 long-term warrants to the purchasers of the 6%
Secured Debentures.  Based on the issuance date of the debentures,
debt discounts were recorded in the third quarter of 2008 in the amount of
$118,723, respectively for 402,353 short and 402,353 long term warrants issued
with these 6% Secured Debentures.
 
 The
amortization recorded attributed to all the debt discounts amounted to $303,803
and has been recorded as interest expense for the year ended May 31,
2008.
 
 On
December 6, 2007, the Company entered into an Amendment Agreement with the
holders of the outstanding 6% Secured Debentures which made material changes to
the 6% Secured Debentures and other ancillary documents we executed in
connection to an aggregate of $8,428,461 of 6% Secured Debentures sold to
investors during the period from December 28, 2005 to May 31,
2007.  The material changes were made, at the Company’s request, to
facilitate the possible private placement of equity securities
included:
 
 ·
              waiver
      of defaults which could have occurred as a result of the Company failing
      to make an interest payment of approximately $230,000 on January 1, 2008
      until the earlier of an equity financing or March 3,
  2008;
  ·
              deferral
      of any request on the part of the holders of the 6% Secured Debentures, to
      require the filing of a registration statement under the Securities Act
      within 45 days of the request until April 15,
  2008;
  ·
              waiver
      of pre-emptive rights with respect to the equity financing;
      and
  ·
              extending
      the maturity date of the 6% Secured Debentures twelve months to December
      28, 2009 and converting all interest payments into additional principal
      (as of the date such payment is due) if the Company completes equity
      financing of $2.0 million on or before March 3,
  2008.
  The
Company also agreed to amend the 10,065,210 warrants outstanding and issued with
the then outstanding 6% Secured Debentures to be consistent with the 804,706 new
warrants issued December 15, 2007 by extending the expiration date from an
outside date of December 28, 2010 to December 28, 2012 and removing any
restriction on exercising the warrants on a cashless basis or any provision
which accelerates the expiration date if the shares issuable on exercise of the
warrants are registered for resale under the Securities Act.
 
 During
the 3rd quarter
of 2008, a deferred expense was recorded in the amount of $774,789 for the
extension of the expiration date of the warrants to December 28,
2012.  The amortization recorded for the year 2008 was $103,306 and
has been recorded as interest expense for the year ended May 31,
2008.
 
 On April
2, 2008, the Company entered into a Waiver and Amendment Agreement with the
holders of $9,283,461 issued principal amount of 6% secured convertible
debentures due December 28, 2008.  Pursuant to the Waiver and
Amendment, the Holders agreed to waive all potential defaults caused by our not
making a scheduled interest payment of approximately $255,000 which became due
under the terms of the Debentures, as previously amended on March 3,
2008.  The Holders agreed to add the interest due to principal and
make such a waiver in exchange for the Company issuing additional Debentures
equal to 10% of the principal amount of the Debentures held by the Holders
(after adding the past due interest to principal).
 
 F -
22
 As of May
31, 2008, there was a total of $11,051,709 in principal amount, including
interest converted to debt totaling $763,547, of the 6% Secured Debentures and
9,328,494 warrants outstanding.
 
 During
fiscal year 2008, a debt discount was recorded of $118,723 for warrants issued
with these 6% Secured Debentures. The amortization recorded attributed to the
debt discounts amounted to $302,803 and has been recorded as interest expense
for the year ended May 31, 2008.
 
 The
maturities of debt, including related party debt and excluding the debt discount
of $269,751, are as follows:
  Year
      ended May 31,
                2008
                
                $
                1,066,5002009
                
                $
                12,218,2092010
                
                $
                —
 
 
 Other
Obligations - As a consequence of the Company raising a aggregate of $3 million
of financing since June 2004, pursuant to the Company’s May 2004 employment
agreement with its chief executive officer, $91,875 of deferred salary payments
for the period from May 2004 to January 2006 representing 24.5% of his agreed
salary for such period and a bonus of $65,333 was due December 29, 2005. While
the deferred salary of $91,875 has been paid, the bonus of $65,333 remains
outstanding. The Company’s chief executive officer temporarily waived the right
to receive immediate payment of the $65,333 until May 31, 2007.  The
Company’s failure to pay this bonus and other amounts due under the employment
agreement gives the chief executive the right to terminate the agreement and
continue to receive salary at the annual rate of $300,000 for twelve months
following the date of such termination.
 
 The
Company has authorized the issue and sale of 6% Subordinated Notes due August
15, 2008 in the aggregate principal amount of not more than U.S.
$500,000.  Through year-end May 31, 2008, $125,000 was received as
part of this Subordinated Note.
 
 Included
in accrued expenses and other liabilities as of May, 31, 2008 is unpaid accrued
payroll of $954,224 (which includes three months of unpaid payroll for
non-executive employees in the amount of $346,182 and approximately 3 quarters
of unpaid executive payroll in the amount of $608,042), an unpaid bonus of
$65,333 due to the Company’s CEO since December 2005 and unpaid expense
reimbursement of approximately $79,000 due to executive officers.  As
of August 31, 2008, the Company had accrued and unpaid aggregate payroll of
$1,432,966.
 
 Related
Party Activities - As of February 29, 2008, the Company has reported a related
party payable in the amount of $23,717 which represents funds that were advance
to the Company by one of the Officers of the Company.
 
 In
aggregate, $4,162,893 of the $11,051,709 of 6% Secured Debentures is held by
related parties.
  F -
23
 
 10.
              INCOME
      TAXES
 
 At May
31, 2008, the Company has available unused net operating loss carryovers
approximately $23,000,000that may be applied
against future taxable income and expire at various dates through 2028. The
Company has a deferred tax asset arising from such net operating loss deductions
and has recorded an increase to the full valuation allowance in the amount of
$1,500,000 for the year ended May 31, 2008 since the likelihood of realization
of the tax benefits cannot be determined.
 
 2008Deferred
      tax asset:Net
      operating loss carryforward
              
              $
              8,050,000Valuation
      allowance
              
              
              (8,050,000
              )Net
      deferred tax asset
              
              $
              —
 
 A
reconciliation of the statutory federal income tax benefit to actual tax benefit
is as follows:
 
 Year
      ended May 31,2008
              
              2007
              
              2006Statutory
      federal income tax benefit
              35%
              
              35%
              
              35%Permanent
      timing differences -
                equity
      rights
              (11%)
              
              (8%)
              
              (25%)Income
      tax benefit not utilized
              (18%)
              
              (27%)
              
              (10%)State
      tax benefit
              (6%)
              
              
              
              —
 
 The
Company has had greater than 50% change in ownership of certain stock holdings
by shareholders of the Company pursuant to Section 382 of the Internal Revenue
Code, the net operating losses may be limited as to its utilization on an annual
basis. Currently no such evaluation has been performed.
 
 In 2007,
the Company sold $4,635,185 of its State Net Operating Loss carryforwards under
the State of New Jersey’s Technology Business Tax Certificate Transfer Program
(the Program”). The Program allows qualified technology and biotechnology
businesses in New Jersey to sell unused amounts of net operating loss
carryforwards and defined research and development tax credits for cash. The
proceeds from the sale in 2007, net of commissions, were $400,149 and were
recorded as a tax benefit in the accompanying statements of
operations.  The State renews the Program annually and currently
limits the aggregate proceeds to $60,000,000. We cannot be certain if we will be
able to sell any of our remaining or future New Jersey loss carryforwards or tax
credits under the Program.
 
 
 F -
24
 11.
              SHAREHOLDERS’
      DEFICIENCY
 
 2004
transactions
  a.
              On
      May 7, 2004, CDKNET.com, Inc and Miletos entered into an “Agreement and
      Plan of Merger” (“the Merger Agreement”). On May 24, 2004, the merger was
      consummated between a wholly owned subsidiary of CDKNET.com, Inc (CDK
      Merger Corp) and Miletos, Inc. The successor subsidiary was renamed
      Arkados, Inc. Because CDKNET.com, Inc and its subsidiaries had no
      meaningful operations prior to May 7, 2004 and equity ownership in
      CDKNET.com, Inc. in an amount greater than 50% was issued to the
      shareholders of Miletos, Inc., this transaction has been recorded as a
      reorganization of Arkados, Inc. via a reverse merger with CDKNET.com,
      Inc.
 
 b.
              In
      May 2004, prior to the consummation of the aforementioned reverse merger,
      the Company; (a) issued 200,000 common shares for services rendered by
      several individuals valued at $1.50 a share and were expensed prior to the
      consummation of the aforementioned reverse merger, (b) converted $150,834
      of indebtedness owed to a law firm affiliated with the former CEO for
      150,000 shares of common stock, (c) converted $165,000 of convertible
      debentures and related accrued of $51,539 for 549,866 shares of common
      stock.
 
 c.
              Pursuant
      to the Merger Agreement, as amended, the consideration for the merger
      consisted of 16,340,577 shares of the Company’s restricted common stock
      (250,000 of such common shares are contingent shares and will be returned
      for cancellation unless called upon as a result of a breach of warranty),
      39,401 shares of common stock to the former employees of Enikia, 100,000
      shares were issued to the major shareholder to assume the satisfaction of
      certain outstanding 401K liabilities due to the employees of the
      predecessor entity, 2,484,644 stock options exercisable at $.01 per share,
      1,149,998 stock options exercisable at $1.20 per share. In addition
      $950,200 was raised through the sale of 791,833 shares of common stock of
      the Company, 41,667 shares of common stock were issued to satisfy $50,000
      of indebtedness, and 49,833 shares of common stock for $59,800 of services
      rendered related to the equity raise. The $59,800 of services rendered was
      recorded as a cost of raising such
equity.
 
 d.
              The
      883,334 shares issued, pursuant to the terms of the Purchase Agreement
      relating to the aforementioned equity raise, have certain registration
      rights. In addition, such shareholders are entitled to liquidated damages,
      if a registration statement, registering such shares, is not filed within
      90 days of June 1, 2004 or if the registration statement is not declared
      effective until 120 days after June 1, 2004, or 180 days if such
      registration statement is subject to review by the Securities and Exchange
      Commission. Such liquidated damages are calculated monthly based on the
      delayed days of such registration not being effective. Such calculation is
      2% per month of the purchase price paid by such shareholders for the
      883,333 shares purchased limited to an aggregate of 18% of the aggregate
      purchase price paid for the 883,333 shares purchased. The Company accrued
      $190,800 in penalties for the failure to register such shares
      issued.
 
 e.
              The
      major shareholder of the Company allocated 2,345,410 shares of his shares
      in the Company to satisfy assumed obligations of Enikia for services
      previously rendered to the predecessor entities. Pursuant to Topic 5T of
      the Staff Accounting Bulletins, such contribution of the common shares of
      the Company have been recorded as a contribution by the shareholder to the
      Company in satisfaction of such liabilities recorded of $1,288,185. The
      major shareholder continues to negotiate for the allocation of additional
      shares to satisfy a separate assumed liability for services previously
      rendered to Enikia for capital transaction services. The recorded
      estimated value of such services yet to be negotiated is
      $700,000.
 
 F -
25
 2005
transactions
 
 f.
              During
      fiscal 2005, the Company issued 575,000 shares of common stock net of
      another 1,050,000, which was returned for non performance. These shares
      were valued at the fair market value of such stock upon issuance at prices
      ranging from $.50 to $2.15 per share. The aggregate compensation expense
      recorded in this fiscal year for these shares issued was
      $724,811
 
 g.
              During
      fiscal 2005, the Company issued 610,000 options at an exercise price of
      $1.20 per share which was above fair market value to its employees and
      directors and 1,725,000 options to third parties for services rendered at
      exercise prices ranging from $.01 to $1.20 per share. No compensation has
      been recorded for the options issued to employees and directors. The
      options to third parties have been valued at $900,461, which $582,292 has
      yet to be expensed due to the term of such services being
      performed.
 
 h.
              The
      Company recorded $234,143 of interest expense related to the valuation of
      the detachable warrants and the beneficial conversion feature of $750,000
      in debt raised from March to May 2005. This debt matured on June 8, 2005,
      hence predominately all of such interest expense was recorded in fiscal
      2005.
 
 i.
              In
      August 2004, a vendor converted $75,496 of payables for 125,000 shares of
      common stock.
   2006
transactions
 
 j.
              During
      the year ended May 31, 2006, the Company issued 750,000 stock options with
      an exercise price of $.45 per share to management and its employees, which
      vest over four years. Another 100,000 fully vested stock options with an
      exercise price of $.45 were issued to a consultant, an expense of $52,420
      was recorded for these stock options.k.
              On
      March 20, 3006, the Company issued warrants to purchase up to 180,000
      shares of our common stock for $0.85 per share to Emerging Capital Markets
      LLC as part compensation for investor relations consulting services for a
      three month period. The warrants vest in equal thirds on the first day of
      April, May and June 2006, provided there is no material breach of the
      related consulting agreement. Such investor relations consulting services
      agreement also provides for cash compensation in the amount of $20,000 per
      month for three months. This investor relations consulting agreement also
      provides for the requirement to obtain approval form this individual for
      any potential reverse stock splits greater than 1 for 5 and has the option
      to renew such agreement for another three months on the same
      terms
 
  2007
transactions
  l.
              In
      June 2006, the Company approved the issuance of 475,000 shares of Arkados
      stock, or $342,000, to Mr. Andreas Typaldos in recognition of his effort s
      to obtain financing for Arkados.
  m.
              During
      the first quarter of 2007, the Company issued to management and its
      employees: 1,785,000 stock options with exercise prices ranging from $.43
      to $.85; all of which vest over four
years.
  n.
              During
      the third quarter of 2007, the Company issued 100,000 shares with an
      exercise price of $.40 per share to the incoming CFO as a component of her
      employment contract.  Another 240,000 stock options with an
      exercise price of $.50, vesting over 6 months, were issued to a
      consultant; an expense of $80,917 was recorded for these stock
      options.
  o.
              On
      March 3, 2007, Arkados Wireless Technologies, Inc., our wholly owned
      subsidiary, filed a merger certificate completing the acquisition of Aster
      Wireless, Inc., a previously unaffiliated Delaware
      corporation.  The consideration for the Merger was 1,000,000
      restricted shares of our common stock. In addition, the Company issued an
      aggregate of 259,000 seven-year options to four employees through the
      acquisition exercisable at $0.405 per share which vest over 4 years
      aggregate of 78,564 shares of restricted stock to such
      employees.  We also issued 300,000 seven-year options to a
      consultant which vested on March 1, 2008 and are exercisable at $0.405 per
      share; an expense of $100,146 was
recognized.
  p.
              During
      the fourth quarter of 2007, the Company issued 3,010,000 stock options
      with exercise prices ranging from $.33 to $.40 per share to management and
      its employees, which vest over four years. Another 50,000 fully vested
      stock options with an exercise price of $.50 were issued to a consultant;
      an expense of $16,858 was recorded for these stock
  options.
    F -
26
 q.
              The
      Company issued 175,604 shares of its common stock with gross proceeds of
      $1,756 from the exercise of options by
  employees.
  r.
              For
      the year ended May 31, 2007, the Company incurred a non-cash charge of
      $418,997 for the amortization of stock
options.
  
 2008
transactions
  s.
              During
      the first quarter of 2008, the Company issued 30,000 shares to a vendor at
      a cost of $13,500 for the settlement of an outstanding
      balance.  During the fourth quarter of 2008, the Company issued
      166,667 shares to a consultant at a cost of
  $50,000.
  t.
              During
      the first quarter of 2008, the Company issued 190,000 options to three
      service providers; an expense in the amount of $50,274 was recognized for
      these options.  During the fourth quarter, the Company extended
      the expiration period of 263,333 options for an employee whose contract
      was not renewed; an expense in the amount of $30,244 was recognized for
      this extension.  In addition, in the same period, the Company
      issued 150,000 fully vested options with an exercise price of $.32 to a
      consultant; an expense in the amount of $24,930 was recognized for these
      options.
  u.
              During
      the third quarter of 2008, the Company issued 2,494,000 stock options with
      exercise prices of $.30 per share to management and its employees, which
      vest over four years.
  v.
              During
      the fourth quarter of 2008, the Company extended the expiration for two
      years of 2,227,864 $.01 options due to expire on May 24, 2008 issued to
      employees at the time of the reorganization. The value determined by Black
      Scholes of $714,076 will be amortized over the next two years for this
      extension.
  w.
              For
      the year ended May 31, 2008, the Company incurred a non-cash charge of
      $697,688 for the amortization of stock
options.
  
     
 F -
27
 
 11.
              STOCK-BASED
      COMPENSATION
 
 The
Company accounted for its stock option plans under APB No. 25, “Accounting for
Sock Issued to Employees,” (“APB 25”), under which no compensation cost is
recognized through May 31, 2005 and provided pro-forma disclosure only as
provided for under SFAS No. 123 and 148.
 
 Effective
June 1, 2005, the Company adopted SFAS no. 123R “Accounting for Stock-Based
Compensation” (“SFAS 123”).
 
 Compensation
based stock option and warrant activity for warrants and qualified and
unqualified stock options are summarized as follows:
 Shares
              
              
              Weighted
                Average
                Exercise
      PriceOutstanding
      at May 31, 2004
              
              
              3,894,142
              
              
              $
              0.79Granted
              
              
              2,330,000
              
              
              
              1.39Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              (131,500
              )
              
              
              57.19Outstanding
      at May 31, 2005
              
              
              6,092,642
              
              
              $
              0.75Granted
              
              
              1,125,000
              
              
              
              0.52Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              (330,990
              )
              
              
              2.40Outstanding
      at May 31, 2006
              
              
              6,886,652
              
              
              $
              0.64Granted
              
              
              5,824,000
              
              
              
              0.49Exercised
              
              
              (175,604
              )
              
              
              0.01Expired
      or cancelled
              
              
              —
              
              
              
              —Outstanding
      at May 31, 2007
              
              
              12,535,048
              
              
              $
              0.58Granted
              
              
              5,365,197
              
              
              
              0.21Exercised
              
              
              —Expired
      or cancelled
              
              
              (2,927,864
              )
              
              
              0.22Outstanding
      at May 31, 2008
              
              
              14,972,381
              
              
              $
              0.51
      
 F -
28
 Information,
at date of issuance, regarding stock option grants during the year ended May 31,
2008.
 
 Year
      ended May 31, 2008
              
              Shares
              
              
              Weighted-
                Average
                Exercise
                Price
              
              
              Weighted-
                Average
                Fair
                ValueExercise
      price exceeds market price
              
              
              253,000
              
              
              $
              0.84
              
              
              $
              0.11Exercise
      price equals market price
              
              
              2,884,000
              
              
              $
              0.49
              
              
              
              0.23Exercise
      price is less than market price
              
              
              2,227,864
              
              
              $
              0.01
              
              
              $
              0.32
   The
following table summarizes information about warrants and options outstanding
and exercisable at May 31, 2008:
 
 Outstanding
      and exercisableNumber
                Outstanding
              
              Weighted-
                Average
                Remaining
      Life
                In
      Years
              
              Weighted-
                Average
                Exercise
                Price
              
              Number
                ExercisableRange
      of exercise prices:$.01
      to $0.50
              
              
              10,337,264
              
              
              4.55
              
              $
              0.21
              
              
              5,394,764$0.51
      - $1.00
              
              
              2,453,333
              
              
              2.52
              
              $
              0.67
              
              
              1,470,000$1.01
      - $2.00
              
              
              2,181,784
              
              
              3.05
              
              $
              1.20
              
              
              2,181,78414,972,381
              
              
              
              
              
              
              
              
              9,046,548
 
 The
compensation expense attributed to the issuance of the options and warrants will
be recognized as they vest / earned. These stock options and warrants are
exercisable for three to ten years from the grant date.
 
 The
employee stock option plan stock options are exercisable for ten years from the
grant date and vest over various terms from the grant date to three
years.
      
 F -
29
 The
issuance of warrants attributed to debt issuances are summarized as
follows:
 Shares
              
              
              Weighted
                Average
                Exercise
      PriceOutstanding
      at May 31, 2004
              
              
              —
              
              
              $
              —Granted
              
              
              825,000
              
              
              
              .67Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              —
              
              
              
              —Outstanding
      at May 31, 2005
              
              
              825,000
              
              
              $
              .67Granted
              
              
              3,567,874
              
              
              
              .88Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              —
              
              
              
              —Outstanding
      at May 31, 2006
              
              
              4,392,874
              
              
              $
              .84Granted
              
              
              4,655,366
              
              
              
              .93Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              —
              
              
              
              —Outstanding
      at May 31, 2007
              
              
              9,048,240
              
              
              
              .88Granted
              
              
              1,821,676
              
              
              
              .85Exercised
              
              
              —
              
              
              
              —Expired
      or cancelled
              
              
              (825,000
              )
              
              
              .67Outstanding
      at May 31, 2008
              
              
              10,044,916
              
              
              
              .84
 
  Information,
at date of issuance, regarding warrant grants during the year ended May 31,
2008.
 
 Year
      ended May 31, 2008
              
              Shares
              
              
              Weighted-
                Average
                Exercise
                Price
              
              
              Weighted-
                Average
                Fair
                ValueExercise
      price exceeds market price
              
              
              1,821,676
              
              
              $
              .85
              
              
              $
              .14Exercise
      price equals market price
              
              
              —
              
              
              
              —
              
              
              
              —Exercise
      price is less than market price
              
              
              —
              
              
              
              —
              
              
              
              —
 
  The
following table summarizes information about warrants and exercisable at May 31,
2008:
 
 Outstanding
      and exercisableNumber
                Outstanding
              
              Weighted-
                average
                remaining
      life
                in
      years
              
              Weighted-
                Average
                Exercise
                Price
              
              Number
                ExercisableRange
      of exercise prices:$.01
      to $.35
              
              
              152,359
              
              
              2.1
              
              $
              .35
              
              
              152,359$.36
      - $.99
              
              
              9,892,563
              
              
              4.6
              
              $
              .85
              
              
              9,892,563$1.00
              
              
              —
              
              
              —
              
              $
              
              
              
              —10,044,916
              
              
              
              
              
              
              
              
              10,044,916
 
 Interest
expense attributed to the aforementioned warrants is being amortized over the
ratable term of each respective debt arrangement. See loans payable
above.
  F -
30
 12.
              COMMITMENTS AND
      CONTINGENCY
 
 a.
              The
      Company leases office space in Piscataway, New Jersey pursuant to a lease
      that began on May 8, 2006 and which expires on June 30, 2009. The annual
      base rent is approximately $101,000.  The Company leases office
      space in New York pursuant to a lease that began on March 1, 2007 and
      which expires on February 23, 2009. The annual base rent is approximately
      $10,400. There are no other material rental or lease commitment
      arrangements as of May 31, 2008.Total
      rental expenses for the years ended May 31, 2008, 2007 and 2006 was
      approximately $132,819, $108,242, and $40,000,
    respectively.
 
 b.
              The
      Company and its’ subsidiary, Arkados, have entered into employment
      agreements with all of the employees of Arkados, including the CEO, CFO
      and VP of Worldwide Operations of the Company. The general terms of the
      combined employment agreements are; (a) each employment agreement provides
      for a base salary up to $300,000 depending on the employment position of
      such employee, (b) each employee will receive standard employment benefits
      comparable to those previously
provided.
 
 c.
              The
      Company may be subject to future lawsuits relating to unresolved claims
      against Enikia LLC as a result of the contribution of debt owed to a
      control group of Enikia being contributed to Miletos, Inc. and Miletos
      purchasing the assets of Enikia at a public foreclosure sale in partial
      satisfaction of the $11,116,803 obligation of Enikia to such control
      group. Some of these claims have alleged fraud, several claims have been
      settled and others continue to be unresolved. The Company maintains that
      such claims are without basis because of the statutory provision of New
      Jersey law governing creditors rights following a public foreclosure sale
      and in that it had no privatcy of contract with the
    claimants.
                    F -
31
 13.
              SUBSEQUENT
      EVENTS
 
 On, July 9, 2008, the Company reached
an agreement and waiver with the holders of the Trident Notes to the
conversion  of $306,618 of principal and interest (representing 25% of
such principal and interest due as of June 30, 2008) in exchange for the
issuance of approximately 876,100 shares of the Company’s Common Stock to the
holders of the Company’s outstanding 6% Convertible Subordinated Notes due June
30, 2008, and the simultaneous amendment of the Trident Notes to extend the due
date one year, from June 30, 2008 to June 30, 2009.
 
 On August
7, 2008, Arkados Group, Inc. and the holders of the requisite principal amount
of outstanding 6% Secured Convertible Debentures due December 28, 2008 executed
an agreement to amend the debentures and make certain waivers, concurrently with
the closing of $750,000 of the private placement as follows:
 
 1.
              In
      exchange for debentures aggregating 25% of the principal outstanding or
      $2,845,815.25, the Company will issue identical debentures, except the
      conversion price will be $0.25 rather than
0.85.
  2.
              In
      exchange for 25% of the outstanding warrants held by debenture holders,
      the Company will issue 2,332,131 warrants identical to the warrants
      surrendered, except that the warrant exercise price is reduced from $0.85
      to $0.25 and the warrants are only exercisable for cash until December 1,
      2008.
  3.
              The
      due date of the debentures is extended six months to June 28, 2009, and
      will be extended another six months to December 28, 2009 if the Company
      raised equity financing, in the aggregated of more than $2,000,000 by the
      maturity date of the debentures, as
amended.
  4.
              Interest
      due on the debentures will be added to principal until
      maturity.
  5.
              The
      holders of the Debentures and Warrants waive the right of first refusal
      and any anti-dilution adjustments with respect to Company financing of up
      to $3,000,000 at no less than $0.25 per share and 50% warrant coverage
      completed on or before October 31,
2008.
  From June
1, 2008 to August 31, 2008, we completed an additional $50,000 of financing
which was converted into equity in August 2008.
 
 On August
7, 2008, we issued 1,690,080 units each consisting of two shares of our common
stock and one warrant to 18 accredited investors for aggregate consideration of
$845,038.47.  Of this consideration, $762,593.66 was cash or cash
advances incurred after April 15, 2008 and the balance was in exchange for prior
obligations for borrowed money and other accounts payable. The
warrants are exercisable until June 30. 2013 and entitle the holder to acquire
one additional share of our common stock for $0.25 per share. We issued
the shares of common stock and warrants in reliance on Rule 506 of Regulation D,
Section 4(2) and 4(11) of the Act for privately placed securities issued to
accredited investors.  No broker dealer was engaged for the offering
and we did not pay any commissions in connection with the sale of these
securities.
  On August
22, 2008, Harris Cohen was appointed to the Board of Directors of Arkados Group,
Inc.
   
 
  F -
32


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




None.







ITEM
      9A.
            CONTROLS
      AND PROCEDURES





Not
applicable.







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




(a)
Evaluation of Disclosure Controls and Procedures





Our
senior management is responsible for establishing and maintaining a system of
disclosure controls and procedures (as defined in Rule 13a-15 and 15d-15 under
the Exchange Act) designed to ensure that information required to be disclosed
by us in the reports that we file or submit under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
SEC’s rules and forms. Disclosure controls and procedures include, without
limitation, controls and procedures designed to ensure that information required
to be disclosed by an issuer in the reports that it files or submits under the
Act is accumulated and communicated to the issuer’s management, including its
principal executive officer or officers and principal financial officers, to
allow timely decisions regarding required disclosure.





In
performing its audit of our Consolidated Financial Statements for Fiscal 2006,
our independent auditors, Sherb & Co., LLP “Sherb”, notified our Board of
Directors of a material weakness in internal controls under standards
established by the American Institute of Certified Public Accountants.
Reportable conditions and material weaknesses involve matters coming to the
attention of our auditors relating to significant deficiencies in the design or
operation of internal controls that, in their judgment, could adversely affect
our ability to record, process, summarize, and report financial data consistent
with the assertions of management in the consolidated financial
statements.





A
material weakness is a control deficiency or combination of control deficiencies
that results in more than a remote likelihood that a material misstatement of
the annual or interim financial statements will not be prevented or detected. As
of May 31, 2006, we did not maintain effective controls related to transactional
accounting and financial reporting and reported these findings in our Form
10-KSB Annual Report for the year ended May 31, 2006. These deficiencies
included a lack of timely and sufficient financial statement account
reconciliation and analysis and lack of sufficient support resources within the
accounting and finance department. Management believes that such control
deficiencies represented a material weakness in internal control over financial
reporting that resulted in a reasonable likelihood that a material misstatement
in our financial statements will not be prevented or detected by our employees
in the normal course of performing their assigned functions.





During
the fiscal quarter ended February 28, 2007 we hired a full time financial
executive who became Chief Financial Officer in April 2007 and undertook to
remedy the deficiencies and prepare our accounting systems to comply with the
management reporting and audit requirements with respect to internal controls in
accordance with Section 404 of Sarbanes-Oxley applicable to us for the fiscal
years ending May 31, 2008 and May 31, 2009, respectively.  As noted
below, our evaluation of our disclosure controls and procedures permitted
management to conclude that such controls were effective as of May 31,
2008.  Due to its small size and limited financial resources, the
Company’s CFO, is the only employee involved in accounting and financial
reporting.  As a result, there is no segregation of duties within the
accounting function, leaving all aspects of financial control and physical
control of cash in the hands of the same employee.  The CFO is
currently working to put it in place compensating levels of controls to provide
for greater segregation of duties.  This assessment should not be
considered a report on efficacy of such controls as would be required under
Section 404 of SOX in connection with the audit of our financial statements for
the year ending May 31, 2008.





We have
carried out an evaluation under the supervision and with the participation of
our management, including our Chief Executive Officer and Chief Accounting
Officer, of our disclosure controls and procedures as defined in Exchange Act
Rule 13(a)-15(e). In designing and evaluating our disclosure controls and
procedures, we recognize that any disclosure controls and procedures, no matter
how well designed and operated, can only provide reasonable assurance of
achieving the desired control objective. As of  May 31, 2008,
management concluded that our disclosure controls and procedures are
effective.





- 44
-


(b)
Management’s Report on Internal Control over Financial Reporting





This
annual report does not include an attestation report of our registered public
accounting firm regarding internal control over financial
reporting.  Management’s report was not subject to attestation by our
registered public accounting firm pursuant to temporary rules of the SEC that
permit us to provide only management’s report in this annual
report.  Section 404 of the Sarbanes-Oxley Act requires annual
management assessments of the effectiveness of our internal controls over
financial reporting beginning with our financial statements for the year ending
May 31, 2009 and a report by our independent auditors addressing these
assessments beginning with the financial statements for the year ending May 31,
2010. We are in the process of documenting and testing our internal control
procedures, and we may identify material weaknesses in our internal control over
financial reporting and other deficiencies, including the lack of sufficient
staff.





(c)
Changes in Internal Controls Over Financial Reporting





As a
result of the identification of a material weakness described above, we have
implemented the following changes:





·
            We
      have hired a full time financial executive in January 2007, who was
      appointed Chief Financial Officer in April
2007


·
            Organized
      an Audit Committee consisting of our two outside
  directors


·
            Began
      the implementation of formalized policies, procedures and process
      documentation





Although
we have implemented the measures described above and believe they are effective,
we have not evaluated such controls against any standard, such as the framework
provided by Committee of Sponsoring Organizations of the Treadway Commission
(COSO) and expect that such documentation and testing will take significant time
and effort. We expect to make additional changes to our controls as we continue
to prepare to comply with the management reporting requirements of Section 404
of Sarbanes-Oxley. We recognize that “tone at the top” is a key element to an
organization’s control environment and are focused and committed to providing
the correct tone and structure within the company. We cannot assure you that we
will not in the future identify further deficiencies in our controls. However,
we plan to continue to review and make any necessary changes to the overall
design of our control environment in order to enhance our corporate governance
and reporting practices.





Other
than those described above, there have been no significant changes in our
internal control over financial reporting that occurred during the last fiscal
quarter of the fiscal year ended May 31, 2008 that have materially affected, or
are reasonably likely to materially affect, our internal control over financial
reporting.







ITEM
      9B.
            OTHER
      INFORMATION





On August
22, 2008, the appointment of Harris Cohen as a director of Arkados Group, Inc.
became effective pursuant to a board resolution adopted at a meeting held on
August 16, 2008.





Mr.
Cohen is President of Cooper Barrons, Inc., a private investment firm and hedge
fund manager, since 2002.  In 2008, he served as interim General
Manager, CFO and consultant to Netanya, Inc, owner of Return to Eden, an organic
healthfood store in Atlanta, Georgia.  From 1997 through 2001, he was
Portfolio Manager for the Bear Stearns Small Cap Mutual Fund and Institutional
Funds.  His fund was acknowledged as one of the top five small cap
funds over five years based on consistency of outperformance by USA
Today.  Before that, he was a Senior Equity Analyst at Furman Selz LLC
from 1994-1996.  Mr. Cohen received his MBA from NYU Stern School of
Business in 1993.  He graduated from Phillip Crosby’s Quality
Management College.  Prior to Graduate School, Mr. Cohen worked for
Coca-Cola and Barron’s Department Stores.  He received a BBA from the
University of Georgia in 1984.








- 45
-


PART
III








ITEM
      10.
            DIRECTORS,
      EXECUTIVE OFFICERS AND CORPORATEGOVERNANCE





In
accordance with Instruction G.3. of Form 10-K, we plan to incorporate the
information required in response to this Item 9 by reference to our definitive
information statement or proxy or file an amendment to this report to provide
such information before 120 days after May 31, 2008.






ITEM 11.
            EXECUTIVE
      COMPENSATION





In
accordance with Instruction G.3. of Form 10-K, we plan to incorporate the
information required in response to this Item 10 by reference to our definitive
information statement or proxy or file an amendment to this report to provide
such information before 120 days after May 31, 2008.






ITEM
      12.
            SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
  MANAGEMENT





In
accordance with Instruction G.3. of Form 10-K, we plan to incorporate the
information required in response to this Item 10 by reference to our definitive
information statement or proxy or file an amendment to this report to provide
such information before 120 days after May 31, 2008.








ITEM
      13.
            CERTAIN
      RELATIONSHIPS AND RELATED
TRANSACTIONS





In
accordance with Instruction G.3. of Form 10-K, we plan to incorporate the
information required in response to this Item 12 by reference to our definitive
information statement or proxy or file an amendment to this report to provide
such information before 120 days after May 31, 2008.








ITEM
      14.
            PRINCIPAL
      ACCOUNTANT FEES AND SERVICES





Audit
Fees





The
aggregate fees billed and unbilled for the fiscal years ended May 31, 2007 and
2008 for professional services rendered by our principal accountants for the
audits of our annual financial statements, and the review of our financial
statements included in our quarterly reports on Form 10-QSB were approximately
$68,105 and $31,600, respectively.





Audit-Related
Fees





The
aggregate fees billed for the fiscal years ended May 31, 2007 and 2008 for
assurance and related services rendered by our principal accountants related to
the performance of the audit or review of our financial statements, specifically
accounting research, were $0 and $0, respectively.





Tax
and Other Fees





There
aggregate fees billed for the fiscal years ended May 31, 2007 and 2008 for tax
related or other services rendered by our principal accountants in connection
with the preparation of our federal and state tax returns was $9,000 and
$14,700, respectively.





Approval
of Non-audit Services and Fees





We
created an Audit committee during fiscal year 2007, consisting solely of
independent directors and, consistent with SEC policies and guidelines regarding
audit independence, the Audit Committee will responsible for the pre-approval of
all audit and permissible non-audit services provided by our principal
accountants on a case-by-case basis.




- 46
-


PART
IV


ITEM
      15.
            EXHIBITS





EXHIBIT
INDEX




Incorporated
      by ReferenceExhibit
              Number
            Exhibit
      Description
            
            Form
            File
              Number
            Exhibit
            Filing
              Date
            Filed
              Herewith2.1
            Agreement
      and Plan of Merger dated as of May 7, 2004 between CDKnet.com, Inc., CDK
      Merger Corp., Miletos, Inc. and Andreas Typaldos, as Representative of
      Certain Stockholders of Miletos, Inc.
            
            10-K
            0-27587
            2.1
            9/17/042.2
            Amendment
      dated May 21, 2004 to the Agreement and Plan of Merger dated as of May 7,
      2004 between CDKnet.com, Inc., CDK merger Corp., Miletos, Inc. and Andreas
      Typaldos, as Representative of Certain Stockholders of Miletos,
      Inc.
            
            10-K
            0-27587
            2.2
            9/17/042.3
            Amendment
      Number 2, dated January 19, 2005, amending the Agreement and Plan of
      Merger, dated as of May 7, 2004, by and among CDKNet.Com, Inc., CDK Merger
      Corp., and Miletos, Inc., and Andreas Typaldos, in his individual capacity
      and as representative of the following stockholders of the Company: Renee
      Typaldos, Patra Holdings LLC, Andreas Typaldos Family Limited Partnership
      and Renee Typaldos Family Partnership, Ltd.
            
            10-QSB
            0-27587
            2.1
            1/23/062.4
            AGREEMENT
      AND PLAN OF MERGER dated as of February 13, 2007, among Arkados Group,
      Inc., a Delaware corporation, Arkados Wireless Technologies, Inc., a
      Delaware corporation and a newly formed wholly owned subsidiary Arkados
      Group, Inc. and Aster Wireless Inc., a Delaware
    corporation.
            
            8-K
            0-27587
            2.1
            2/21/073i.1
            Articles
      of Incorporation of the Registrant.
            
            10-SB
            0-27587
            3.1
            10/7/993i.2
            Amendment
      to the Articles of Incorporation.
            
            10-SB
            0-27587
            3.2
            10/7/993i.3
            Certificate
      of Merger of the Registrant.
            
            10-SB
            0-27587
            3.4
            10/7/993i.4
            Amendment
      to the Articles of Incorporation.
            
            10-SB
            0-27587
            3.5
            10/7/993i.5
            Amended
      and Restated Series A Designation
            
            10-QSB
            0-27587
            3.1
            2/14/033i.6
            Amendment
      to Certificate of Incorporation (Reverse Split) filed November 31,
      2003.
            
            10-QSB
            0-27587
            3.1
            2/17/043i.7
            Certificate
      of Amendment to Certificate of Incorporation
            
            10-QSB
            0-27587
            3.2
            2/17/043i.8
            Certificate
      of Ownership and Merger dated August 30, 2006.
            
            8-K
            0-27587
            3.1
            9/1/063ii.1
            By-Laws
      of the Registrant.
            
            10-SB
            0-27587
            3.3
            10/7/99





- 47
-


4.1
            Specimen
      of Common Stock Certificate.
            
            10-K
            0-27587
            4.1
            10/10/064.2*
            Form
      of Stock Option Grant Agreement under the CDKnet.com, Inc. 2004 Stock
      Option and Restricted Stock Plan.
            
            10-K
            0-27587
            4.7
            9/17/044.3
            Form
      of 6% Secured Convertible Debenture due December 28, 2008
            
            8-K/A
            0-27587
            4.1
            7/11/064.4
            Form
      of Common Stock Purchase Warrant (long term and short term warrants differ
      as to price and expiration date as set forth in footnotes to the form
      filed)
            
            8-K/A
            0-27587
            4.2
            7/11/064.5
            Registration
      Rights Agreement, dated as of December 28, 2005, by and among the
      Registrant, Bushido Capital Master Fund, L.P., Gamma Opportunity Capital
      Partners, L.P. Class A, and Gamma Opportunity Capital Partners, L.P. Class
      C
            
            8-K/A
            0-27587
            4.3
            7/11/064.6
            Form
      of Request for Extension of 6% Convertible Subordinated Note due July 7,
      2007
            
            8-K
            0-27587
            4.2
            7/17/074.7
            Form
      of three year warrant exercisable at $0.85
            
            8-K
            0-27587
            4.3
            7/17/074.8
            Form
      of 6% Secured Convertible Debenture due December 28, 2008, as amended
      December 15, 2007
            
            8-K
            0-27587
            4.1
            12/12/074.9
            Form
      of Common Stock Purchase Warrant, as amended December 15,
    2007
            
            8-K
            0-27587
            4.2
            12/12/074.10
            Form
      of 6% Secured Convertible Debenture due December 28, 2008, as amended
      April 2, 2008
            
            8-K
            0-27587
            4.2
            04/08/084.11
            Form
      of Request for Extension
            
            8-K
            0-27587
            4.2
            07/22/084.12
            Form
      of Extension, Waiver and Conversion Agreement
            
            8-K
            0-27587
            4.3
            07/22/084.13
            Form
      of 6% Secured Convertible Debenture due June 28, 2009, as amended August
      7, 2008 (convertible at $0.25).
            
            8-K
            0-27587
            4.1
            08/11/084.14
            Form
      of New Warrant exercisable at $0.25 per share.
            
            8-K
            0-27587
            4.2
            08/11/084.15
            Form
      of warrant exercisable at $0.25 per share until June 30,
      2013
            
            8-K
            0-27587
            4.3
            08/11/0810.1*
            Technology
      Horizons Corp. 1998 Equity Incentive Plan.
            
            10-SB
            0-27587
            10.1
            10/7/9910.2
            Registration
      Rights Agreements dated as of May 21, 2004 between CDKnet.Com, Inc. and
      several stockholders.
            
            10-K
            0-27587
            10.17.1
              10.17.2
            9/17/0410.3*
            Consulting
      Agreement dated as of May 21, 2004 between CDKnet.Com, Inc. and Andreas
      Typaldos.
            
            10-K
            0-27587
            10.18
            9/17/04




- 48
-


10.4*
            Employment
      Agreement dated as of May 23, 2004 between CDKnet.Com, Inc. and Oleg
      Logvinov.
            
            10-K
            0-27587
            10.19
            9/17/0410.5
            Silicon
      Product Development Production Collaboration Agreement dated July 28, 2004
      between GDA Technologies, Inc. and Arkados, Inc.
            
            10-K
            0-27587
            10.23
            9/17/0410.6
            Form
      of 10% convertible extendible note due June 8, 2005 in the aggregate
      authorized principal amount of $750,000
            
            10-QSB
            0-27587
            10.1
            4/19/0510.7
            Form
      of three year warrant exercisable at $0.67
            
            10-QSB
            0-27587
            10.2
            4/19/0510.8
            Form
      of registration rights agreement relating to the 10% convertible
      extendible notes and three year warrants
            
            10-QSB
            0-27587
            10.3
            4/19/0510.9*
            Stock
      Option Grant Agreement dated June 21, 2005
            
            8-K
            0-27587
            10.1
            6/24/0510.10
            Form
      of Securities Purchase Agreement
            
            8-K
            0-27587
            10.1
            7/14/0510.11
            Form
      of 6% Convertible Subordinated Note due July 7, 2007 in the aggregate
      authorized principal amount of $2.4 million
            
            8-K
            0-27587
            10.2
            7/14/0510.12
            Form
      of three year warrant exercisable at $0.35
            
            8-K
            0-27587
            10.3
            7/14/0510.13
            Securities
      Purchase Agreement, dated as of December 28, 2005, by and among the
      Registrant, Bushido Capital Master Fund, L.P., Gamma Opportunity Capital
      Partners, L.P. Class A, and Gamma Opportunity Capital Partners, L.P. Class
      C
            
            8-K
            0-27587
            99.1
            1/4/0610.14
            Security
      Agreement, dated as of December 28, 2005, by and among the Registrant,
      Gamma Opportunity Capital Partners, L.P. Class A, and Gamma Opportunity
      Capital Partners, L.P. Class C
            
            8-K
            0-27587
            99.2
            1/4/0610.15
            Subsidiary
      Guarantee dated as of December 28, 2005 executed by Arkados,
      Inc.
            
            8-K
            0-27587
            99.3
            1/4/0610.16
            Waiver
      dated as of January 17, 2006 to the Securities Purchase Agreement, dated
      as of December 28, 2005, by and among the Registrant, Bushido Capital
      Master Fund, L.P., Gamma Opportunity Capital Partners, L.P. Class A, and
      Gamma Opportunity Capital Partners, L.P. Class C
            
            10-QSB
            0-27587
            10.1
            1/23/0610.17
            Additional
      Issuance Agreement dated February 1, 2006 between the Registrant and
      Bushido Capital Master Fund, L.P.
            
            8-K
            0-27587
            99.4
            2/6/0610.18
            Amended
      and Restated Extension Waiver and Debt Conversion Agreement dated as of
      February 1, 2006 by and among the Registrant and each of the holders of
      the Registrant’s outstanding 10% Convertible Extendable Notes originally
      due June 8, 2005, 6% Convertible Notes original due October 15, 2005 and
      that Grid Note dated October 15, 2004
            
            8-K
            0-27587
            99.5
            2/6/06




- 49
-


10.19
            Debt
      Conversion Agreement (Note) dated as of January 11, 2006 between the
      Registrant and William Carson
            
            8-K
            0-27587
            99.6
            2/6/0610.20
            Debt
      Conversion Agreement (Advances) dated as of January 11, 2006 between the
      Registrant and William Carson
            
            8-K
            0-27587
            99.7
            2/6/0610.21
            Debt
      Conversion Agreement (Advances) dated as of January 11, 2006 between the
      Registrant and Gennaro Vendome
            
            8-K
            0-27587
            99.8
            2/6/0610.22
            Second
      Additional Issuance Agreement dated February 24, 2006 between the
      Registrant and Bushido Capital Master Fund, L.P., Gamma Opportunity
      Capital Partners, L.P. Class A, and Gamma Opportunity Capital Partners,
      L.P. Class C
            
            8-K
            0-27587
            99.5
            3/2/0610.23
            Third
      Additional Issuance Agreement dated March 31, 2006 between the Registrant
      and Cargo Holdings LLC
            
            8-K
            0-27587
            99.6
            4/6/0610.24
            Letter
      Agreement dated march 31, 2006 between the Registrant and Bushido Capital
      Master Fund, L.P., Gamma Opportunity Capital Partners, L.P. Class A, and
      Gamma Opportunity Capital Partners, L.P. Class C
            
            8-K
            0-27587
            99.7
            4/6/0610.25
            Warrant
      agreement dated March 20, 2006 issued to Emerging Capital Markets
      LLC
            
            8-K
            0-27587
            99.8
            4/6/0610.26
            Lease
      Agreement effective May 8, 2006 between Arkados, Inc. and Bridgeview Plaza
      Associates.
            
            8-K
            0-27587
            99.1
            5/9/0610.27
            Securities
      Purchase Agreement, dated as of December 28, 2005, by and among the
      Registrant, Bushido Capital Master Fund, L.P., Gamma Opportunity Capital
      Partners, L.P. Class A, and Gamma Opportunity Capital Partners, L.P. Class
      C
            
            8-K/A
            0-27587
            99.1
            7/11/0610.28
            Security
      Agreement, dated as of December 28, 2005, by and among the Registrant,
      Gamma Opportunity Capital Partners, L.P. Class A, and Gamma Opportunity
      Capital Partners, L.P. Class C
            
            8-K/A
            0-27587
            99.2
            7/11/0610.29
            Subsidiary
      Guarantee dated as of December 28, 2005 executed by Arkados,
      Inc.
            
            8-K/A
            0-27587
            99.3
            7/11/0610.30*
            Letter
      Amendment dated June 30, 2006 to the Consulting Agreement with Andreas
      Typaldos dated May 21, 2004
            
            8-K/A
            0-27587
            99.4
            7/11/0610.31
            Amendment
      Agreement dated August 18, 2006 between CDKnet.com, Inc., Bushido Capital
      Master Fund, LP, Gamma Opportunity Capital Partners, LP (Classes A and C),
      and Cargo Holdings LLC
            
            8-K
            0-27587
            99.1
            8/24/06




- 50
-


10.32
            Additional
      Issuance Agreement dated September 26, 2006 between Arkados Group, Inc.,
      Bushido Capital Master Fund, LP, Pierce Diversified Strategy Master Fund,
      LLC - Series BUS, Andreas Typaldos and Andreas Typaldos Family Limited
      Partnership
            
            8-K
            0-27587
            99.5
            10/2/0610.33
            Waiver
      and Amendment Agreement dated September 26, 2006 between Arkados Group,
      Inc. and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.6
            10/2/06


10.34
            Waiver
      and Amendment Agreement dated October 24, 2006 between Arkados Group, Inc.
      and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.6
            10/30/0610.35
            Third
      Additional Issuance Agreement dated November 30, 2006 between Arkados
      Group, Inc., Bushido Capital Master Fund, LP, Pierce Diversified Strategy
      Master Fund, LLC – Series BUS, Andreas Typaldos and Andreas Typaldos
      Family Limited Partnership
            
            8-K
            0-27587
            99.6
            12/5/0610.36
            Waiver
      and Amendment Agreement dated November 30, 2006 between Arkados Group,
      Inc. and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.7
            12/5/0610.37
            Fourth
      Additional Issuance Agreement dated January 8, 2007 between Arkados Group,
      Inc., Bushido Capital Master Fund, LP, Pierce Diversified Strategy Master
      Fund, LLC – Series BUS, Andreas Typaldos and Andreas Typaldos Family
      Limited Partnership
            
            8-K
            0-27587
            99.8
            5/11/0710.38
            Fifth
      Additional Issuance Agreement dated February 28, 2007 between Arkados
      Group, Inc., Bushido Capital Master Fund, LP, Pierce Diversified Strategy
      Master Fund, LLC – Series BUS, Andreas Typaldos and Andreas Typaldos
      Family Limited Partnership
            
            8-K
            0-27587
            99.9
            5/11/0710.39
            Sixth
      Additional Issuance Agreement dated March 6, 2007 between Arkados Group,
      Inc., Crucian Transition, Inc., Bushido Capital Master Fund, LP, Pierce
      Diversified Strategy Master Fund, LLC – Series BUS, Andreas Typaldos and
      Andreas Typaldos Family Limited Partnership
            
            8-K
            0-27587
            99.10
            5/11/0710.40
            Waiver
      and Amendment Agreement dated January 8, 2007 between Arkados Group, Inc.
      and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.11
            5/11/07




- 51
-


10.41
            Waiver
      and Amendment Agreement dated February 28, 2007 between Arkados Group,
      Inc. and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.12
            5/11/0710.42
            Waiver
      and Amendment Agreement dated March 6, 2007 between Arkados Group, Inc.
      and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.13
            5/11/0710.43
            Seventh
      Additional Issuance Agreement dated March 6, 2007 between Arkados Group,
      Inc., Crucian Transition, Inc., Bushido Capital Master Fund, LP, Pierce
      Diversified Strategy Master Fund, LLC – Series BUS, Andreas Typaldos and
      Andreas Typaldos Family Limited Partnership
            
            8-K
            0-27587
            99.14
            5/11/0710.44
            Waiver
      and Amendment Agreement dated May 7, 2007 between Arkados Group, Inc. and
      Bushido Capital Master Fund, L.P., Gamma Opportunities Capital Partners,
      LP Class A, Gamma Opportunities Capital Partners, LP Class C and Cargo
      Holdings LLC
            
            8-K
            0-27587
            99.15
            5/11/0710.45
            Eighth
      Additional Issuance Agreement dated May 30, 2007 between Arkados Group,
      Inc., Crucian Transition, Inc., Bushido Capital Master Fund, LP, Pierce
      Diversified Strategy Master Fund, LLC – Series BUS, Andreas Typaldos,
      Andreas Typaldos Family Limited Partnership, Kathryn Typaldos, Herbert H.
      Sommer and Joel C. Schneider
            
            8-K
            0-27587
            99.16
            6/05/0710.46
            Ninth
      Additional Issuance Agreement dated May 31, 2007 between Arkados Group,
      Inc., Crucian Transition, Inc., Bushido Capital Master Fund, LP, Pierce
      Diversified Strategy Master Fund, LLC – Series BUS, Andreas Typaldos,
      Andreas Typaldos Family Limited Partnership, Kathryn Typaldos, Herbert H.
      Sommer and Joel C. Schneider
            
            8-K
            0-27587
            99.17
            6/05/0710.47
            Waiver
      and Amendment Agreement dated May 30, 2007 between Arkados Group, Inc. and
      Bushido Capital Master Fund, L.P., Gamma Opportunities Capital Partners,
      LP Class A, Gamma Opportunities Capital Partners, LP Class C and Cargo
      Holdings LLC
            
            8-K
            0-27587
            99.18
            6/05/0710.48
            Waiver
      and Amendment Agreement dated May 31, 2007 between Arkados Group, Inc. and
      Bushido Capital Master Fund, L.P., Gamma Opportunities Capital Partners,
      LP Class A, Gamma Opportunities Capital Partners, LP Class C and Cargo
      Holdings LLC
            
            8-K
            0-27587
            99.19
            6/05/07




- 52
-


10.49*
            Limited
      waiver letter dated October 10, 2006 relating to the Employment Agreement
      dated as of May 23, 2006 between Arkados Group, Inc. (formerly CDKnet.com,
      Inc.) and Oleg Logvinov
            
            10-K
            0-27587
            10.34
            10/10/0610.50*
            Limited
      waiver letter dated November 9, 2006 relating to the employment agreement
      dated as of May 23, 2004 between Arkados Group, Inc. (formerly CDKnet.com,
      Inc.) and Oleg Logvinov.
            
            10-QSB
            0-27587
            10.1
            1/12/0710.51*
            Employment
      Agreement dated as of December 27, 2007 between Arkados Group, Inc. and
      Barbara Kane-Burke.
            
            8-K
            02-27587
            99.1
            4/25/0710.52
            Solicitation
      Agreement between Arkados Group, Inc. and Trident Partners,
      Ltd
            
            8-K
            0-27587
            99.1
            7/17/0710.53
            Letter
      Amendment dated September 10, 2007 to the Consulting Agreement with
      Andreas Typaldos dated May 21, 2004
            
            10-KSB
            0-27587
            10.53
            9/13/0710.54
            Amendment
      Agreement dated December 6, 2007 between Arkados Group, Inc., Bushido
      Capital Master Fund, LP, Gamma Opportunity Capital Partners, LP (Classes A
      and C), Cargo Holdings LLC, Crucian Transition, Inc., Pierce Diversified
      Strategy Master Fund, LLC – Series BUS, Andreas Typaldos Family Limited
      Partnership, Kathryn Typaldos, Herbert H. Sommer and Joel C.
      Schneider.
            
            8-K
            0-27587
            99.1
            12/12/0710.55
            Tenth
      Additional Issuance Agreement dated December 15, 2007 between Arkados
      Group, Inc., Crucian Transition, Inc., Bushido Capital Master Fund, LP,
      Pierce Diversified Strategy Master Fund, LLC – Series BUS, Andreas
      Typaldos, Andreas Typaldos Family Limited Partnership, Kathryn Typaldos,
      Herbert H. Sommer, Joel C. Schneider, Gennaro Vendome and William H.
      Carson
            
            8-K
            0-27587
            99.20
            12/22/0710.56
            Waiver
      and Amendment Agreement dated December 15, 2007 between Arkados Group,
      Inc. and Bushido Capital Master Fund, L.P., Gamma Opportunities Capital
      Partners, LP Class A, Gamma Opportunities Capital Partners, LP Class C and
      Cargo Holdings LLC
            
            8-K
            0-27587
            99.21
            12/22/0710.57
            Waiver
      and Amendment Agreement dated April 2, 2008 between Arkados Group, Inc.,
      and certain holders of Arkados Group, Inc. 6% secured convertible
      debentures due December 28, 2008.
            
            8-K
            0-27587
            99.1
            04/08/0810.58
            Solicitation
      Agreement between Arkados Group, Inc. and Trident Partners,
      Ltd
            
            8-K
            0-27587
            99.1
            07/22/0810.59
            Waiver
      and Amendment Agreement dated April 2, 2008 between Arkados Group, Inc.,
      and certain holders of Arkados Group, Inc. 6% secured convertible
      debentures due December 28, 2008.
            
            8-K
            0-27587
            99.1
            08/11/08




- 53
-


14.1
            Code
      of Business Conduct and Ethics
            
            10-K
            0-27587
            14.1
            9/17/0414.2
            Code
      of Ethics for Financial Executives
            
            10-K
            0-27587
            14.2
            9/17/0421
            Subsidiaries
      of the Registrant.
            
            
            
            
            
            X31.1
            Certification
      of Chief Executive Officer of Periodic Report pursuant to Rule 13a-14a and
      Rule 15d-14(a).
            
            
            
            
            
            X31.2
            Certification
      of Chief Financial Officer of Periodic Report pursuant to Rule 13a-14a and
      Rule 15d-14(a).
            
            
            
            
            
            X32.1
            Certification
      of Chief Executive Officer of pursuant to 18 U.S.C. - Section
      1350.
            
            
            
            
            
            X32.2
            Certification
      of Chief Financial Officer of pursuant to 18 U.S.C. - Section
      1350.
            
            
            
            
            
            X





*Compensation plans or arrangements in
which directors or executive officers are eligible to
participate.

















































- 54
-


SIGNATURES





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




Arkados
      Group, Inc. (Registrant)By:
            /s/ Oleg
      LogvinovPresident
      and Chief Executive Officer





By:
            /s/ Barbara
      Kane-BurkeChief
      Financial Officer (Principal
              Financial
      and Accounting Officer)Date:   
      September 12, 2008








In
accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated.







Date:   
      September 12, 2008
            By: 
      /s/ Oleg LogvinovOleg
      Logvinov, President, Chief
              Executive
      Officer and a Director








Date:
            By:Gennaro
      Vendome, Director








Date:
            By:William
      H. Carson, Director








Date:   
      September 12, 2008
            By:  /s/ Andreas
      TypaldosAndreas
      Typaldos, Chairman








Date:  
       September 12, 2008
            By: /s/ Harris
      CohenHarris
      Cohen, Director









- 55
-