** **

**SECURITIES AND EXCHANGE COMMISSION**

 

**Washington,D.C. 20549**

 

**FORM 10-QSB**

 

ý**QUARTERLY REPORT UNDER SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

** **

**For the quarterly period ended: June 30, 2005**

 

**OR**

 

o**TRANSITION REPORT UNDER SECTION 13 OR 15 (d)OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from                 to                 **

 

**Commission File No.  ****0-31805**

 

**POWEREFFICIENCY CORPORATION**(Exact Name of Small Business Issuer as Specified in its Charter)

 

| **Delaware**                             | **22-3337365**                       |
|------------------------------------------|--------------------------------------|
| (State or Other Jurisdiction of          | (I.R.S. Employer Identification No.) |
| Incorporation or Organization)           |                                 |
|                                     |                                 |
|                                     |                                 |
| **3900 Paradise Road, Suite 283**        | **(702) 697-0377**                   |
| **Las Vegas, NV 89109**                  | (Issuer’s Telephone Number,     |
| (Address of Principal Executive Offices) | Including Area Code)                 |

 

Check whether the issuer (1)filed all reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the past 12 months (or for such shorter period thatthe registrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.   Yes ý   No o

 

The number of sharesoutstanding of the Issuer’s Common Stock, $.001 Par Value, as of June 30, 2005was 5,020,418.

 

Transitional Small BusinessDisclosure Format (check one):   Yes o   No ý

 

 

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**POWER EFFICIENCY CORPORATIONFORM 10-QSB INDEX**

 
| PART I — FINANCIAL INFORMATION                                                                                              |   |   |
|----------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| ITEM 1. Financial Statements                                                                                                     |   |   |
| Condensed Balance Sheet as of June 30, 2005                                                                                      |   |   |
| Condensed Statements of Operations for the three months ended June 30, 2005 and 2004 and six months ended June 30, 2005 and 2004 |   |   |
| Condensed Statements of Cash Flows for the six months ended June 30, 2005 and 2004                                               |   |   |
| Notes to Condensed Financial Statements                                                                                          |   |   |
| ITEM 2. Management’s Discussion and Analysis Or Plan of Operation                                                           |   |   |
| ITEM 3. Controls and Procedures                                                                                                  |   |   |
| Part II — OTHER INFORMATION                                                                                                 |   |   |
| ITEM 1. Legal Proceedings                                                                                                        |   |   |
| ITEM 2. Changes in Securities and Use of Proceeds                                                                                |   |   |
| ITEM 3. Defaults Upon Senior Securities                                                                                          |   |   |
| ITEM 4. Submission of Matters to a Vote of Security Holders                                                                      |   |   |
| ITEM 5. Other Information                                                                                                        |   |   |
| ITEM 6. Exhibits and Reports on Form 8-K                                                                                         |   |   |
| Signatures                                                                                                                       |   |   |
| Certification of Chief Executive Officer as Adopted                                                                              |   |   |
| Certification of Chief Financial Officer as Adopted                                                                              |   |   |

** **

**2**

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** **

**PART I. FINANCIAL INFORMATION**

 

**Item 1. Financial Statements**

 

**POWER EFFICIENCY CORPORATION**CONDENSED BALANCE SHEET

Unaudited

 
| ** **                                                                                                                      | ** ** | **June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------|------------|--------------|------------|
| ** **                                                                                                                      | ** ** | **2005**     | ** ** |
| ASSETS                                                                                                                          |       |         |       |
| CURRENT ASSETS:                                                                                                                 |       |         |       |
| Cash                                                                                                                            |       | $            | 101,647    |   |
| Accounts receivable, net                                                                                                        |       | 59,830       |       |
| Inventory, net of reserve                                                                                                       |       | 174,275      |       |
| Prepaid expenses and other current assets                                                                                       |       | 149,635      |       |
| Total Current Assets                                                                                                            |       | 485,387      |       |
|                                                                                                                            |       |         |       |
| PROPERTY AND EQUIPMENT,  Net                                                                                                    |       | 17,626       |       |
| OTHER ASSETS:                                                                                                                   |       |         |       |
| Patents, net                                                                                                                    |       | 12,470       |       |
| Goodwill                                                                                                                        |       | 1,929,963    |       |
| Website, net                                                                                                                    |       | 6,517        |       |
| Deferred financing costs, net                                                                                                   |       | 127,906      |       |
| Total Other Assets                                                                                                              |       | 2,076,856    |       |
|                                                                                                                            |       |         |       |
| Total Assets                                                                                                                    |       | $            | 2,579,869  |   |
|                                                                                                                            |       |         |       |
| LIABILITIES AND  STOCKHOLDERS’ EQUITY                                                                                      |       |         |       |
| CURRENT LIABILITIES:                                                                                                            |       |         |       |
| Accounts payable and accrued expenses                                                                                           |       | $            | 494,748    |   |
| Accrued salaries and payroll taxes                                                                                              |       | 94,867       |       |
| Notes payable—related party                                                                                                |       | 300,000      |       |
| Notes payable—former officers                                                                                              |       | 62,353       |       |
| Total Current Liabilities                                                                                                       |       | 961,968      |       |
|                                                                                                                            |       |         |       |
| LONG TERM LIABILITIES                                                                                                           |       |         |       |
| Notes payable—Pali Capital,  net                                                                                           |       | 1,219,268    |       |
|                                                                                                                            |       |         |       |
| Total Liabilities                                                                                                               |       | 2,171,236    |       |
|                                                                                                                            |       |         |       |
| STOCKHOLDERS’ EQUITY:                                                                                                      |       |         |       |
| Series A-1 Convertible Preferred Stock, $.001 par value, 10,000,000  shares authorized, 4,714,279 shares issued and outstanding |       | 4,715        |       |
| Common stock, $.001 par value, 50,000,000 shares authorized,  5,020,418 issued and outstanding                                  |       | 5,020        |       |
| Additional paid-in capital                                                                                                      |       | 16,716,750   |       |
| Accumulated deficit                                                                                                             |       | (16,317,852  | )          |
| Total Stockholders’ Equity                                                                                                 |       | 408,633      |       |
|                                                                                                                            |       |         |       |
| Total Liabilities and  Stockholders’ Equity                                                                                |       | $            | 2,579,869  |   |

 

**Accompanying notes are an integral part of thefinancial statements**

 

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**POWER EFFICIENCY CORPORATION**CONDENSED STATEMENTS OFOPERATIONS

Unaudited

 
| ** **                                    | ** ** | **For the three months ended June 30,** | ** ** | **For the six months ended June 30,** | ** ** |
|-----------------------------------------------|------------|-----------------------------------------|------------|---------------------------------------|------------|
| ** **                                    | ** ** | **2005**                                | ** ** | **2004**                              | ** ** | **2005** | ** ** | **2004** | ** ** |
| REVENUES                                      |       |                                    |       |                                  |       |   |   |   |   |
| Product, net                                  |       | $                                       | 94,694     |                                  | $          | 57,131 |   | $ | 145,785 |   | $ | 141,419 |   |
| Miscellaneous                                 |       | —                                  |       | 7,475                                 |       | — |   | 12,725 |   |
| Total Revenues                                |       | $                                       | 94,694     |                                  | $          | 64,606 |   | $ | 145,785 |   | $ | 154,144 |   |
| COMPONENTS OF COST OF PRODUCT REVENUES:       |       |                                    |       |                                  |       |   |   |   |   |
| Material and labor                            |       | 73,596                                  |       | 26,614                                |       | 105,383 |   | 67,794 |   |
| Allocated costs                               |       | 12,484                                  |       | 12,596                                |       | 21,155 |   | 36,529 |   |
| Inventory obsolescence and other write-offs   |       | —                                  |       | —                                |       | — |   | 29,484 |   |
| Total Cost of Product Revenues                |       | 86,080                                  |       | 39,210                                |       | 126,538 |   | 133,807 |   |
| GROSS MARGIN                                  |       | 8,614                                   |       | 25,396                                |       | 19,247 |   | 20,337 |   |
| COSTS AND EXPENSES:                           |       |                                    |       |                                  |       |   |   |   |   |
| Research and development                      |       | 71,246                                  |       | 94,103                                |       | 126,650 |   | 208,297 |   |
| Selling, general and administration           |       | 406,978                                 |       | 472,258                               |       | 612,211 |   | 920,298 |   |
| Depreciation and amortization                 |       | 5,461                                   |       | 18,982                                |       | 12,328 |   | 37,502 |   |
| Total Costs and Expenses                      |       | 483,685                                 |       | 585,343                               |       | 751,189 |   | 1,166,097 |   |
| LOSS FROM OPERATIONS                          |       | (475,071                                | )          | (559,947                              | )          | (731,942 | ) | (1,145,760 | ) |
| OTHER (EXPENSE) INCOME                        |       |                                    |       |                                  |       |   |   |   |   |
| Interest (expense) income—net            |       | (136,436                                | )          | (6,273                                | )          | (261,181 | ) | (7,597 | ) |
| Total Other (Expense) Income                  |       | (136,436                                | )          | (6,273                                | )          | (261,181 | ) | (7,597 | ) |
| NET LOSS                                      |       | $                                       | (611,507   | )                                     | $          | (566,220 | ) | $ | (993,123 | ) | $ | (1,153,357 | ) |
| BASIC AND FULLY DILUTED LOSS PER COMMON SHARE |       | $                                       | (.12       | )                                     | $          | (.11 | ) | $ | (.20 | ) | $ | (.28 | ) |
| WEIGHTED AVERAGE COMMON SHARES OUTSTANDING    |       | 5,020,418                               |       | 5,018,926                             |       | 5,020,418 |   | 5,018,926 |   |
|                                               |            |                                         |            |                                       |            |  |  |  |  |  |  |  |  |  |

 

**Accompanying notes are an integral part of thefinancial statements**

 

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** **

**POWER EFFICIENCY CORPORATION**

CONDENSEDSTATEMENTS OF CASH FLOWS

Unaudited

 
| ** **                                                                                                                                                   | ** ** | **For the  six months ended June 30,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                                                                                                   | ** ** | **2005**                               | ** ** | **2004** | ** ** |
|                                                                                                                                                         |       |                                   |       |   |   |
| CASH FLOWS FROM OPERATING  ACTIVITIES:                                                                                                                       |       |                                   |       |   |   |
| Net  loss                                                                                                                                                    |       | $                                      | (993,123   | ) | $ | (1,153,357 | ) |
| Adjustments to reconcile  net loss to net cash used for operating activities:                                                                                |       |                                   |       |   |   |
| Depreciation and amortization                                                                                                                                |       | 12,328                                 |       | 37,502 |   |
| Amortization of deferred financing costs                                                                                                                     |       | 30,882                                 |       | — |   |
| Bad debt expense                                                                                                                                             |       | 4,530                                  |       | 5,493 |   |
| Inventory obsolescence reserve and other write-offs                                                                                                          |       | —                                 |       | 29,484 |   |
| Debt discount related to issuance of debt securities                                                                                                         |       | 112,462                                |       | — |   |
| Warrants and options issued in connection with the issuance of debt  securities, employment agreements, and consulting fees                                  |       | 69,859                                 |       | — |   |
| Changes in assets and liabilities:                                                                                                                           |       |                                   |       |   |   |
| (Increase) Decrease in:                                                                                                                                      |       |                                   |       |   |   |
| Accounts receivable                                                                                                                                          |       | (32,827                                | )          | 3,079 |   |
| Inventory                                                                                                                                                    |       | 13,542                                 |       | 28,457 |   |
| Prepaid expenses and other current assets                                                                                                                    |       | (10,331                                | )          | (761 | ) |
| Restricted cash for interest escrow                                                                                                                          |       | 95,798                                 |       | — |   |
| Increase (Decrease) in:                                                                                                                                      |       |                                   |       |   |   |
| Accounts payable and accrued expenses                                                                                                                        |       | (142,619                               | )          | 144,564 |   |
| Customer deposits                                                                                                                                            |       | —                                 |       | 20,907 |   |
| Accrued salaries and payroll taxes                                                                                                                           |       | (33,600                                | )          | 162,040 |   |
| Net Cash Used for Operating  Activities                                                                                                                      |       | (873,099                               | )          | (722,592 | ) |
| CASH  FLOWS FROM INVESTING ACTIVITIES                                                                                                                        |       |                                   |       |   |   |
| Purchase of property and equipment                                                                                                                           |       | —                                 |       | (21,576 | ) |
| Net Cash Used for  Investing Activities                                                                                                                      |       | —                                 |       | (21,576 | ) |
| CASH  FLOWS FROM FINANCING ACTIVITIES:                                                                                                                       |       |                                   |       |   |   |
| Deferred financing costs                                                                                                                                     |       | (60,070                                | )          | — |   |
| Proceeds from line of credit—related party                                                                                                              |       | 300,000                                |       | 300,000 |   |
| Proceeds from issuance of equity securities                                                                                                                  |       | 255,326                                |       | 184,800 |   |
| Proceeds from issuance of debt securities                                                                                                                    |       | 125,000                                |       | — |   |
| Payments to former officers                                                                                                                                  |       | (37,981                                | )          | (10,000 | ) |
| Net Cash Provided by  Financing Activities                                                                                                                   |       | 582,275                                |       | 474,800 |   |
| Decrease  in cash                                                                                                                                            |       | (290,824                               | )          | (269,368 | ) |
| Cash  at beginning of period                                                                                                                                 |       | 392,471                                |       | 285,508 |   |
| Cash  at end of period                                                                                                                                       |       | $                                      | 101,647    |   | $ | 16,140 |   |
| NON-CASH FINANCING TRANSACTIONS—Common stock issued in conjunction with the  settlement of accounts payable and accrued salaries\payroll\other expenses |       | $                                      | —     |   | $ | 37,400 |   |

** **

**Accompanyingnotes are an integral part of the financial statements**

 

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** **

**NOTE1****—****BASIS OF PRESENTATION**

The accompanying financial statements have beenprepared by the Company, without an audit. In the opinion of management, alladjustments have been made, which include normal recurring adjustmentsnecessary to present fairly the condensed financial statements. Operatingresults for the six months ended June 30, 2005 are not necessarily indicativeof the operating results for the full year. Certain information and footnotedisclosures normally included in financial statements prepared in accordancewith accounting principles generally accepted in the United States of Americahave been condensed or omitted. The Company believes that the disclosuresprovided are adequate to make the information presented not misleading. Certainamounts in the financial statements have been reclassified from prior periodpresentations. These unaudited condensed financial statements should be read inconjunction with the audited financial statements and related notes included inthe Company’s Annual Report for the year ended December 31, 2004 on Form 10-KSBand Form 10-KSB/A.

The preparation of condensed financial statements inconformity with accounting principles generally accepted in the United Statesof America requires management to make estimates and assumptions that affectthe reported amounts of assets and liabilities and disclosure of contingentassets and liabilities at the dates of the financial statements and thereported amounts of revenue and expenses during the reporting period. Actualresults could differ from those estimates.

**NOTE 2**—GOING CONCERN:

The accompanying financialstatements have been prepared assuming the Company is a going concern, whichassumption contemplates the realization of assets and satisfaction ofliabilities in the normal course of business. The Company suffered recurring losses from operations, a recurringdeficiency of cash from operations, including a cash deficiency ofapproximately $873,000 from operations for the six months ended June 30, 2005,and lacks sufficient liquidity to continue its operations.  On July 8, 2005, the Company closed a$2,430,000 private offering, from which the Company will use to fund itsoperations (see Note 8).

These factors raisesubstantial doubt about the Company’s ability to continue as a going concern.  The financial statements do not include anyadjustments relating to the recoverability and classification of recorded assetamounts or the amount of liabilities that might be necessary should the Companybe unable to continue in existence. Continuation of the Company as a going concern is dependent uponachieving profitable operations in the long-term and raising additional capitalto support existing operations for at least the next twelve months.  Management’s plans to achieve profitabilityinclude developing new products, obtaining new customers and increasing salesto existing customers.

**NOTE 3—COMMITMENTS AND CONTINGENCIES**

On April 11, 2005, the Companybegan leasing approximately 1,500 square feet of office space in Las Vegas,Nevada. The lease is between Glenborough IX LLC and a management company ownedby the current Chief Executive Officer and was signed on February 7, 2005. OnFebruary 10, 2005, the Company’s board of directors voted to assume all

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payments under this lease andindemnify the Chief Executive Officer’s management company for all payments andobligations for the lease. The lease includes a payment of $2,728 per month,which includes all cleaning and utilities, except phone and internet service.The term of the lease is one year.

On June 23, 2005, the Companyagreed to begin leasing approximately 4,000 square feet of office space in LasVegas, Nevada commencing February 1, 2006. The lease is between 3960 HHP LLC and a management company owned by thecurrent Chief Executive Officer and was signed on June 23, 2005.  On June 29, 2005, the Company’s board ofdirectors voted to assume all payments under this lease and indemnify the ChiefExecutive Officer’s management company for all payments and obligations for thelease.  The lease includes payments of$11,292 per month, with annual increases, which includes all cleaning andutilities, except phone and internet service. The term of the lease is five years. Upon commencement of this lease, the Company plans on vacating itscurrent office space and has reached an agreement with a third party which willlease the Company’s existing offices in Las Vegas when the Company vacates themin February 2006.

**NOTE 4—NOTES PAYABLE**

On February 24, 2005, theCompany entered into a financing transaction in which the Company issued$125,000 in Senior Secured Notes under the same offering through which theCompany issued $1,464,806 in Senior Secured Notes in October 2004. Thisoffering was originally intended to close on December 31, 2004 but theplacement agent and the Company agreed to keep the offering open past theoriginal closing date. After the February 24 closing the offering wasterminated.  Under the original terms,all of the Senior Secured Notes were to become due one year after issuance, buton March 28, 2005, the Company received consent, from all of the Senior SecuredNote holders of the first and secondary offering, to extend the maturity datefor an additional year.  These notes willnow mature in October 2006 and February 2007, respectively.

The holders of the Noteswere issued 144,232 warrants, with an exercise price of $0.65 per share, inconnection with the issuance of $125,000 in Notes.  The value of suchwarrants approximates $24,000 and was reflected as debt discount which is beingamortized to interest expense over the term of the Notes.  The Company paid a placement agent acommission of $12,500 and 14,423 warrants which are being amortized over thelife of the Notes, with the same rights and provisions as the Warrants issuedto the holders of the Notes.

**NOTE 5—EMPLOYMENT AGREEMENTS**

The Company entered into anemployment and compensation agreement with Steven Strasser, the Company’scurrent Chief Executive Officer, effective June 1, 2005.  The agreement is for a term of five years,with a base salary for the first year of the agreement of $275,000 with annualincreases of at least 5% of the current year’s base salary and bonuses at thediscretion of the compensation committee of the board of directors.   During the first year of the Agreement, andamount equal to $215,000 of the base salary shall be paid by grant of stockoptions under the Company’s 2000 Stock Option and Restricted Stock Plan topurchase 1,612,500 shares of the Company’s common stock, par value $0.001 pershare, vesting in equal quarterly installments over the year ending June 1,2006, and the remaining $60,000 of the base salary is to be paid in cash.  The

7

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agreement with Mr. Strasseralso provides, among other things, for reimbursement of certain businessexpenses and for certain payments to be made to Mr. Strasser in the event of achange of control.  Mr. Strasser alsoreceived 1,818,180 incentive stock options which will vest over a five yearperiod and have an exercise price of $0.22, and 1,181,820 non-qualified stockoptions which will vest over a five year period and have an exercise price of$0.20. The agreement also provides for certain non-competition and nondisclosurecovenants.  During the second quarter,$39,812 was charged as compensation expense under this agreement.

The Company entered into anemployment and compensation agreement with John (BJ) Lackland, the Company’scurrent Chief Financial Officer and Chief Operating Officer, effective June 1,2005.  The agreement is for a term offive years, with a base salary for the first year of the agreement of $175,000with annual increases of at least 5% of the current year’s base salary andbonuses at the discretion of the compensation committee of the board ofdirectors.   During the first year of theAgreement, an amount equal to $55,000 of the base salary shall be paid by grantof stock options under the Company’s 2000 Stock Option and Restricted StockPlan to purchase 412,500 shares of the Company’s common stock, par value $0.001per share, vesting in equal quarterly installments over the year ending June 1,2006, and the remaining $120,000 of the base salary is to be paid in cash.  The agreement with Mr. Lackland alsoprovides, among other things, for reimbursement of certain business expensesand for certain payments to be made to Mr. Lackland in the event of a change ofcontrol.  Mr. Lackland also received1,733,750 incentive stock options which will vest over a five year period andhave an exercise price of $0.20, and 66,250 non-qualified stock options whichwill vest on June 1, 2006 and have an exercise price of $0.20. The agreementalso provides for certain non-competition and nondisclosure covenants.  During the second quarter, $12,675 wascharged as compensation expense under this agreement.

The Company entered into anemployment and compensation agreement with Nicholas Anderson, the Company’scurrent Chief Technology Officer, effective June 1, 2005.  The agreement is for a term of five years,with a base salary for the first year of the agreement of $210,000 with annualincreases of at least 5% of the current year’s base salary and bonuses at thediscretion of the compensation committee of the board of directors.  The agreement with Mr. Anderson alsoprovides, among other things, for reimbursement of certain business expensesand for certain payments to be made to Mr. Anderson in the event of a change ofcontrol.  Mr. Anderson also received2,000,000 incentive stock options which will vest over a five year period andhave an exercise price of $0.20. The agreement also provides for certainnon-competition and nondisclosure covenants. This employment and compensationagreement supersedes Mr. Anderson’s employment agreements dated April 1, 2001and salary reduction agreement dated October 20, 2004.  During the second quarter, $5,680 was chargedas compensation expense under this agreement.

**NOTE 6—RELATED PARTY TRANSACTIONS**

On June 9, 2005 and on June16, 2005, the Company entered into financing transactions in which the Companyissued a $200,000 convertible, unsecured note, and a $100,000 convertible,unsecured note respectively (collectively, the “Bridge Notes”) to Summit EnergyVentures LLC, an entity owned entirely by the Company’s current Chief ExecutiveOfficer and Chief Financial Officer that is also one of the Company’s principal

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stockholders.  The Notes bear interest of 10% perannum.  The Bridge Notes’ accruedinterest and principal are due on July 23, 2005 (the “Maturity Date”).  In the event that the Bridge Notes andaccrued interest are not paid in full at the Maturity Date, interest shallaccrue on the outstanding principal of and, to the extent permitted by law,interest on the Bridge Notes from the Maturity Date up to and including thedate of payment, at a rate equal to 18% per annum (compounded annually).  The Bridge Notes were converted into equityon July 8, 2005 (see Note 8).

**NOTE 7—STOCKHOLDERS’ EQUITY**

In connection withthe issuance of $125,000 in Senior Secured Notes, the Company issued 144,232warrants to the Note holders and 14,423 warrants as a fee to the placementagent of the offering.  The warrants havean exercise price of $0.65 per share and expire in five years (see Note 4).

On April 28, 2005, the Company issued 1,204,819 shares of series A-1convertible preferred stock, convertible into 1,000,000 shares of common stock,and warrants to purchase 500,000 shares of common stock to Summit EnergyVentures, LLC for an aggregate purchase price of $200,000 in cash.  As of June 30, 2005, Summit Energy Ventures,LLC owned 2,785,969 shares of series A-1 convertible preferred stock,convertible into 2,315,203 shares of common stock.

On April 28, 2005, the Company issued 180,723 sharesof series A-1 convertible preferred stock, convertible into 150,000 shares ofcommon stock and warrants to purchase 75,000 shares of common stock, toCommerce Energy Group, Inc., an affiliate of Commonwealth Energy Corporation,in consideration of Commerce Energy Group’s cancellation of a license agreementwith the Company for single-phase technology. As a result, the Company will receive 100% of the benefits of futuresales of the single-phase products.  Asof June 30, 2005, Commerce Energy Group, Inc. owned 1,928,310 shares of seriesA-1 convertible preferred stock, convertible into 1,603,645 shares of commonstock.

**NOTE 8—SUBSEQUENT EVENTS**

On July 8, 2005, the Companyissued 12,150,000 shares of common stock and 6,075,000 warrants (the “InvestorWarrants”) in a private offering (the “Offering”) to accredited investors foran aggregate of $2,430,000.  The pershare purchase price of the common stock was $0.20 (the “Common Stock PurchasePrice”). The Investor Warrants have a per share exercise price of $0.44 andexpire 5 years from the date of issuance.

Joseph Stevens &Company, Inc. (the “Placement Agent”), a registered broker dealer, acted as thesole placement agent for the Offering. For its services, the Placement Agent received commissions andnon-accountable fees totaling $237,900 and 3,645,000 warrants (the “PlacementAgent Warrants”). The Placement Agent Warrants have a per share exercise priceof $0.20 and expire five years from the date of issuance.

Two convertible notes (the “BridgeNotes”) issued by the Company, to Summit Energy Ventures, LLC, on June 9,2005 and June 16, 2005, in the aggregate principal amount of $300,000, wereconverted into 1,500,000 shares of common stock and 750,000 Investor Warrantson the same terms as those offered to investors in the Offering and no

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commissions, fees orsecurities were issued to the Placement Agent in connection with suchconversion (see Note 6).

On July 8, 2005, the Company’s4,714,279 shares of outstanding Series A-1 Preferred Stock were converted into3,918,848 shares of common stock.

In conjunction with theOffering, the Company entered into an agreement with the Placement Agent (the “PlacementAgency Agreement”). The Placement Agency Agreement requires, among otherthings, the Company to pay certain fees related to the Offering; provides thePlacement Agent a right of first refusal to manage any private or publicoffering of equity securities of the Company, under certain defined conditions,for a period of one year after the Offering; requires the Company to enterLock-Up Agreements (as defined below) with all of the Company’s directors,officers and significant shareholders; grants the investors in the Offering andthe Placement Agent certain registration rights, which require the Company toregister their common stock as well as the common stock underlying the InvestorWarrants and Placement Agent Warrants through filing a registration statementwithin sixty (60) days of closing the Offering, and make the registrationstatement effective (the “Effective Date”) within one hundred and twenty days(120) of closing the Offering; and grants the common stock, Investor Warrantsand Placement Agent Warrants issued through the Offering “weighted average”anti-dilution protection for subsequent issuances of common stock (orsecurities convertible into common stock) at less than the Common StockPurchase Price.

On various dates precedingJuly 8, 2005, the Company entered into lock-up agreements (the “Lock-UpAgreements”) with all of the Company’s officers, members of the board ofdirectors and shareholders that held, prior to the Offering, more than 5% ofthe outstanding shares of the Company’s common stock.  Specifically, the persons entering Lock-UpAgreements with the Company included: Nicholas Anderson, Leonard Bellezza, John(BJ) Lackland, Rick Pulford, Raymond Skiptunis, Steven Strasser, CommerceEnergy Group, and Summit Energy Ventures LLC. The Lock-Up Agreements restrict all of these Persons from selling anyshares of common stock for a period of twelve months from the Effective Date(the “Lock-Up Period”); provided, however, that the Lock-Up Period shallterminate if at any time after the date which is ninety days after the EffectiveDate, the 20-day average of the closing bid price of the shares of common stockon the OTC Bulletin Board exceeds two hundred percent of the Common StockPurchase Price of $0.20, or $0.40.

**ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION**

**OVERVIEW**

The Registrant generatesrevenues from a single business segment: the design, development, marketing andsale of proprietary solid state electrical components designed to reduce energyconsumption in alternating current induction motors.  The Registrant began generating revenues fromsales of its patented *Power Commander*®line of motor controllers in late 1995.

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**RESULTSOF OPERATIONS: FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2005 AND 2004.**

**SPECIALNOTE REGARDING FORWARD-LOOKING STATEMENTS**

We may, in discussions of our future plans, objectives and expectedperformance in periodic reports filed by us with the Securities and ExchangeCommission (or documents incorporated by reference therein) and written andoral presentations made by us, include projections or other forward-lookingstatements within the meaning of Section 27A of the Securities Exchange Act of1933 or Section 21E of the Securities Act of 1934, as amended. Such projectionsand forward-looking statements are based on assumptions, which we believe arereasonable but are, by their nature, inherently uncertain. In all cases,results could differ materially from those projected. Some of the importantfactors that could cause actual results to differ from any such projections orother forward-looking statements are discussed below, and in other reportsfiled by us under the Securities Exchange Act of 1934, including under thecaption “Risk Factors” in our Annual Report on Form 10-KSB. Our forward lookingstatements are based on information available to us today, and except asrequired by law, we undertake no obligation to update any forward lookingstatement, whether as a result of new information, future events or otherwise.

**REVENUES**

Total revenues for thethree months ended June 30, 2005, were approximately $95,000, compared to$65,000 for the three months ended June 30, 2004, an increase of $30,000 or46%. This increase is mainly attributable to an increase in sales in theelevator and escalator market segment. Sales to a government agency totaledapproximately $50,000 during the three months ended June 30, 2005.  Revenue of $7,475 was recognized for agovernment grant received associated with development expenses relatedto a medium voltage product application during the three months ended June 30,2004. No governmentgrant income was recognized for the three months ended June 30, 2005.

Total revenues for thesix months ended June 30, 2005, were approximately $146,000, compared to $154,000for the six months ended June 30, 2004, a decrease of $8,000 or 5%.  Thisdecrease is mainly attributable to revenue of $12,725 that was recognized for agovernment grant received associated with development expenses relatedto a medium voltage product application during the six months ended June 30,2004.  No government grant income was recognized forthe three months ended June 30, 2005.

**COSTOF PRODUCT REVENUES**

Total cost ofproduct revenues, which includes material and direct labor, allocated costs,and inventory obsolescence and other write-offs for the three months ended June30, 2005 were approximately $86,000 compared to $39,000 for the three monthsended June 30, 2004 an increase of $47,000 or 121%.  As a percentage of product revenues, total costof revenues increased to approximately 90% for the three months ended June 30,2005 compared to approximately 69% for the three months ended June 30,2004.  The increase in the costs as apercentage of product revenues was primarily due an increase in the productionof higher costing units in 2005.  Also,allocated costs were approximately $13,000 for the three months ended June 30,2005 and 2004.  As a percentage ofproduct

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revenues allocatedcosts were 14% for the three months ended June 30, 2005 compared to 22% for thethree months ended June 30, 2004.  Theallocated costs as a percentage of product revenues decreased as the allocatedcosts were absorbed by a higher volume of product revenues.  Material and labor costs as a percentage ofproduct revenues increased to 78% for the three months ended June 30, 2005compared to 47% for the three months ended June 30, 2004. Material and laborcosts as a percentage of product revenues were approximately 64%.  This increase was largely due to the use of aturnkey manufacturer resulting in higher direct labor costs per unit in 2005.

Total cost of productrevenues, which includes material and direct labor, allocated costs, andinventory obsolescence and other write-offs for the six months ended June 30,2005 were approximately $127,000 compared to approximately $134,000 for the sixmonths ended June 30, 2004, a decrease of $7,000 or 5%.  As a percentage of product revenues, totalcosts of product revenues decreased to approximately 87% for the six monthsended June 30, 2005 compared to approximately 95% for the six months ended June30, 2004.  The decrease in the costs as apercentage of product revenues was primarily due to no charges to inventory forobsolescence and other write-offs for the six months ended June 30, 2005compared to $30,000 for the six months ended June 30, 2004, offset by theCompany utilizing a turn-key manufacturer for production in 2005. Also,allocated costs were $22,000 for the six months ended June 30, 2005 compared to$37,000 for the six months ended June 30, 2004, a decrease of $15,000 or41%.  As a percentage of product revenueallocated costs were 15% for the six months ended June 30, 2005 compared to 26%for the six months ended June 30, 2004. The allocated costs as a percentage of product revenues decreased as theallocated costs were absorbed by a higher volume of product revenues andbecause the Company began the use of a turnkey manufacturer.

**OPERATINGEXPENSES**

**Researchand Development Expenses**

Research and developmentexpenses were approximately $71,000 for the three months ended June 30, 2005,as compared to approximately $94,000 for the three months ended June 30, 2004,a $23,000 or a 24% decrease.  This decrease is mainly attributable to theCompany’s restructuring and cost reduction program implemented in August andSeptember of 2004.

Research and developmentexpenses were approximately $126,000 for the six months ended June 30, 2005, ascompared to approximately $208,000 for the six months ended June 30, 2004, an$82,000 or a 39% decrease. This decrease is mainly attributable to the Company’srestructuring and cost reduction program implemented in August and September of2004, partially offset by a $26,000 charge during the six months ended June 30,2004, related to laboratory testing done for further product development.

**Selling,General and Administrative Expenses**

Selling, general andadministrative expenses were approximately $400,000 for the three months endedJune 30, 2005, as compared to $472,000 for the three months ended June 30, 2004a decrease of $72,000 or 15%. The decrease in selling, general andadministrative expenses over the prior year was due primarily to a decrease inpayroll and payroll related costs, as well as the elimination of some fixedcosts related to the

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reduction in workforceand the Company’s decision to restructure its operations in August andSeptember of 2004.

Selling, general andadministrative expenses were approximately $607,000 for the six months endedJune 30, 2005, as compared to $920,000 for the six months ended June 30, 2004 adecrease of $313,000 or 34%. The decrease in selling, general andadministrative expenses over the prior year was due primarily to a decrease inpayroll and payroll related costs, as well as the elimination of some fixedcosts related to the reduction in workforce and the Company’s decision torestructure its operations in August and September of 2004.

**FinancialCondition, Liquidity, and Capital Resources: For the Six Months Ended June 30,2005**

Since inception, theRegistrant has financed its operations primarily through the sale of its equitysecurities, debt securities and using available bank lines of credit. As ofJune 30, 2005, the Registrant had cash of $101,647.

Cash used for operatingactivities for the six months ended June 30, 2005 was $873,099 which consistedof: a net loss of $993,123; less depreciation and amortization of $12,328,amortization of deferred financing costs of $30,882, bad debt expenses of$4,530, amortization of debt discount related to issuance of debt securities of$112,462, warrants issued in connection with the issuance of debt, employmentagreements, and consulting fees of $69,859; offset by increases in accountsreceivable of $32,827, and  prepaidexpenses and other current assets of $10,331 and decreases in inventory of$13,542, restricted cash of $95,798, accounts payable and accrued expenses of$142,619 and accrued salaries and payroll taxes of $33,600.

Cash used for operatingactivities for the six months ended June 30, 2004 was $722,592, which consistedof: a net loss of $1,153,357; less depreciation and amortization of $37,502,bad debt expense of $5,493, inventory obsolescence reserve of $29,484,decreases in accounts receivable of $3,079, inventory of $28,457, increases in accountspayable and accrued expenses of $144,564, customer deposits of $20,907, accruedsalaries and payroll taxes of $162,040.  In addition,these amounts were partially offset by an increase in prepaid expenses of $761.

Cash used in investingactivities for the first half of fiscal 2004 was $21,576. The amount consistedof the purchase of fixed assets.

Net cash provided byfinancing activities for the first half of fiscal year 2005 was $582,275 whichconsisted of: proceeds from the issuance of debt securities and notes payableof $125,000 and $300,000, respectively; proceeds from the issuance of equitysecurities of $255,326, partially offset by repayments of loans to formerofficers of $37,981 and an increase in deferred financing costs of $60,070.

Net cash provided byfinancing activities for the six months ended June 30, 2004 was $474,800, whichprimarily consisted of proceeds of $174,800 from the issuance of equitysecurities related to the Company’s Regulation “S” stock offering and $300,000of proceeds from the Summit Energy Ventures line of credit.

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The Registrant expects toexperience growth in its operating expenses, particularly in research anddevelopment and selling, general and administrative expenses, for theforeseeable future in order to execute its business strategy. As a result, theRegistrant anticipates that operating expenses will constitute a material useof any cash resources.

Since capital resourcesare insufficient to satisfy the Registrant’s liquidity requirements, managementintends to sell additional equity or debt securities or obtain debtfinancing.   The Registrant believesit can raise additional funds through private placements of equity.  However, there are no assurances thatsufficient capital can be raised.

**CashRequirements and Need for Additional Funds**

The Registrantanticipates a substantial need for cash to fund its working capital requirements.  In accordance with the Registrant’s preparedexpansion plan, it is the opinion of management that approximately $2.0 millionwill be required to cover operating expenses, including, but not limited to,marketing, sales and operations during the next twelve months. OnJuly 8, 2005 the Company completed a stock offering for in excess of $2.4million (see Note 8 to the Financial Statements), which netted approximately$1.8 million.

**ITEM 3. CONTROLS AND PROCEDURES**

**(a) Evaluation of Disclosure Controls and Procedures.**  Under the supervision and with theparticipation of its Chief Executive Officer and Chief Financial Officer,management has evaluated the effectiveness of the Company’s disclosure controlsand procedures as of the end of the period covered by this report pursuant toRule 13a-15(b) under the Securities Exchange Act of 1934 (the ExchangeAct).  Based on that evaluation, theChief Executive Officer and Chief Financial Officer have concluded that, as ofthe end of the period covered by this report, the Company’s disclosure controlsand procedures are effective in ensuring that information required to bedisclosed in the Company’s Exchange Act reports is (1) recorded, processed,summarized and reported in a timely manner, and (2) accumulated andcommunicated to the Company’s management, including its Chief Executive Officerand Chief Financial Officer, as appropriate to allow timely decisions regardingrequired disclosure.

**(b) Changes in Internal Controls.** There were nosignificant changes in the Company’s internal controls or in other factors thatcould significantly affect these controls subsequent to the date of theirevaluation, nor were there any significant deficiencies or material weaknessesin the Company’s internal controls. Accordingly, no corrective actions were required or undertaken.

**PART II—OTHERINFORMATION**

**ITEM1. LEGAL PROCEEDINGS**

The Company is currently inlitigation with the owners of the Livonia, Michigan property that the Companyvacated in 2004.  The Company has accrued a reserve for the estimated lossin relation to the settlement of the litigation.

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**ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS**

**Recent Sales of Unregistered Securities**

Thefollowing details several recent sales of unregistered securities theRegistrant made to Summit Energy Ventures, LLC, a private equity firmspecializing in energy related technologies (“Summit”) and Commonwealth EnergyCorporation. All of the sales were exempt from the registration requirements ofthe Securities Act pursuant to Section 4(2) of the Securities Act.

On April 28, 2005, theRegistrant issued 1,204,819 shares of Series A-1 Convertible Preferred Stock,convertible into 1,000,000 shares of Common Stock, and Warrants to purchase500,000 shares of Common Stock to Summit for an aggregate purchase price of$200,000 in cash.  The requisitepercentage of current holders consented and waived the anti-dilutionprovisions.

On April 28, 2005, the Registrant issued 180,723 shares of Series A-1stock, convertible into 150,000 shares of Common Stock, and Warrants topurchase 75,000 shares of Common Stock, to Commerce Energy Group, Inc., anaffiliate of Commonwealth Energy Corporation, in consideration of CommerceEnergy Group’s cancellation of a license agreement with the Registrant.  The requisite percentage of current holdersconsented and waived the anti-dilution provisions.

**ITEM3. DEFAULTS UPON SENIOR SECURITIES**

None.

**ITEM4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

None

**ITEM 5. OTHER INFORMATION**

**Extension of Senior Secured Notes**

On March 28, 2005, the company received consent from all of the Senior Secured Note holders to extend the maturity date of the Senior Secured Notes for one year.  Under the original terms, $1,484,806 of the Notes would become due in October 2005, and $125,000 of the Senior Secured Notes would become due in February of 2006.  These notes will now mature in October 2006 and February 2007, respectively.  See Exhibit 10.1 from the March 31, 2005 10-QSB.

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**ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K**

(a) Exhibits
| **Number** | ** ** | **Description  of Document**                                                                                                                                                                                        | ** ** | **Location**   |
|------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------|
|       |       |                                                                                                                                                                                                                |       |           |
| 10.1       |       | Lease Agreement for  Registrant’s Las Vegas, Nevada facility dated June 23, 2005                                                                                                                               |       | Filed herewith |
| 10.2       |       | Sample Lock Up Agreement                                                                                                                                                                                            |       | Filed herewith |
| 31.1       |       | Certification by the Chief  Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                            |       | Filed herewith |
| 31.2       |       | Certification by the Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                            |       | Filed herewith |
| 32.1       |       | Certification by the Chief  Executive Officer pursuant to Section 1350 of Chapter 63 of Title 18 of the  United States Code (18 U.S.C. 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |       | Filed herewith |
| 32.2       |       | Certification by the Chief  Financial Officer pursuant to Section 1350 of Chapter 63 of Title 18 of the  United States Code (18 U.S.C. 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |       | Filed herewith |

 

(b) Reports on Form 8-K.

OnMay 4, 2005, the Company filed a current report on Form 8-K reporting an Item 1and an Item 3 event.  The Item 1 eventinvolved a termination of a material definitive agreement in connection with alicensing agreement with a shareholder. The Item 3 event involved an unregistered sale of equity securities.

OnJune 16, 2005, the Company filed a current report on Form 8-K reporting an Item2 event.  The Item 2 event involved thecreation of a direct financial obligation in the form of a $300,000 note.

OnJuly 13, 2005, the Company filed a current report on Form 8-K reporting an Item8 event.  The Item 8 event involved theCompany entering into employment contracts with its Chief Executive Officer,Chief Financial and Operating Officer, and Chief Technology Officer.

OnJuly 15, 2005, the Company filed a current report on Form 8-K reporting an Item1 and an Item 3 event.  The Item 1 eventinvolved the Company entering into a material definitive agreement inconnection with the issuance of 12,150,000 shares of Common Stock.  The Item 3 event involved an unregisteredsale of equity securities in connection with the issuance of 12,150,000 sharesof Common Stock and 6,075,000 warrants.

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**SIGNATURES**

In accordance with the requirements of theSecurities Exchange Act of 1934, the Registrant caused this report to be signedon its behalf by the undersigned, thereunto duly authorized.

 
| Date:  August  12, 2005 | POWER  EFFICIENCY CORPORATION  (Registrant) |
|-----------------------------------|---------------------------------------------|
|                              |                                        |   |
|                              |                                        |   |
|                              | By:                                         | /s/ Steven  Strasser |
|                              |                                        | Chief  Executive Officer |
|                              |                                        |   |
|                              |                                        |   |
| Date:  August  12, 2005 | By:                                         | /s/ John  Lackland |
|                              |                                        | Chief Financial Officer and Chief Operating Officer    (Principal Financial and Accounting Officer) |

 

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