##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended July 31, 2003

Commission File Number 0-20842

PLATO LEARNING, INC.




(Exact name of Registrant as specified in its charter)


|                                                    |  |                       
|--------------------------------------------------- |  | ----------------------
|Delaware                                            |  | 36-3660532            
|                                                    |  |                       
|(State or other jurisdiction                        |  | (I.R.S. Employer      
|of incorporation or organization)                   |  | Identification Number)
|                                                    |  |                       
|10801 Nesbitt Avenue South, Bloomington, MN         |  | 55437                 
|                                                    |  |                       
|(Address of principal executive offices)            |  | (Zip Code)            
|                                                    |  |                       
|Registrants telephone number, including area code: |  | (952) 832-1000        
|                                                    |  |                       

Not Applicable




(Former name, former address and former fiscal year,
if changed since last report)


Indicate by 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

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

Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practicable date.

|                             |  |                                  
|---------------------------- |  | ---------------------------------
|Common stock, $.01 par value |  | 16,365,524 shares                
|                             |  |                                  
|Class                        |  | Outstanding as of August 31, 2003

(This document contains 31 pages)

1



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TABLE OF CONTENTS



|                                            |                                                                                       |                                            |  |  |  |  |  | 
|------------------------------------------- | ------------------------------------------------------------------------------------- | ------------------------------------------ |  |  |  |  |  | 
|                                            |                                                                                       | Consolidated Statements of Operations     
|                                            |                                                                                       | Consolidated Balance Sheets               
|                                            |                                                                                       | Consolidated Statements of Cash Flows     
|                                            |                                                                                       | Notes to Consolidated Financial Statements
|                                            | Managements Discussion and Analysis of Results of Operations and Financial Condition
|PART I                                     
|                                            | Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                   
|                                            | Item 4. 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                                 
|EX-31.1 Certification of CEO to Section 302
|EX-31.2 Certification of CFO to Section 302
|EX-32.1 Certification of CEO to Section 906
|EX-32.2 Certification of CFO to Section 906



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##### Table of Contents



PLATO Learning, Inc.
Form 10-Q

INDEX

|           |  |                                                                                       |  |                                                                                                  |    |        |   | 
|---------- |  | ------------------------------------------------------------------------------------- |  | ------------------------------------------------------------------------------------------------ | -- | ------ | - | 
|           |  |                                                                                       |  |                                                                                                  |    | Page  
|           |  |                                                                                       |  |                                                                                                  |    | Number
|           |  |                                                                                       |  |                                                                                                  |    |       
|PART I.    |  | FINANCIAL INFORMATION                                                                 |  |                                                                                                  |    |       
|Item 1.    |  | Consolidated Financial Statements (Unaudited):                                        |  |                                                                                                  |    |       
|           |  |                                                                                       |  | Consolidated Statements of Operations for the
Three and Nine Months Ended July 31, 2003 and 2002 |    |        | 3 | 
|           |  |                                                                                       |  | Consolidated Balance Sheets as of
July 31, 2003 and October 31, 2002                             |    |        | 4 | 
|           |  |                                                                                       |  | Consolidated Statements of Cash Flows for the
Nine Months Ended July 31, 2003 and 2002           |    |        | 5 | 
|           |  |                                                                                       |  | Notes to Consolidated Financial Statements                                                       |    |        | 6 | 
|Item 2.    |  | Managements Discussion and Analysis of
Results of Operations and Financial Condition |  |                                                                                                  | 16 |       
|Item 3.    |  | Quantitative and Qualitative Disclosures About Market Risk                            |  |                                                                                                  | 29 |       
|Item 4.    |  | Controls and Procedures                                                               |  |                                                                                                  | 29 |       
|PART II.   |  | OTHER INFORMATION                                                                     |  |                                                                                                  |    |       
|Item 1.    |  | Legal Proceedings                                                                     |  |                                                                                                  | 30 |       
|Item 2.    |  | Changes in Securities and Use of Proceeds                                             |  |                                                                                                  | 30 |       
|Item 3.    |  | Defaults Upon Senior Securities                                                       |  |                                                                                                  | 30 |       
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                   |  |                                                                                                  | 30 |       
|Item 5.    |  | Other Information                                                                     |  |                                                                                                  | 30 |       
|Item 6.    |  | Exhibits and Reports on Form 8-K                                                      |  |                                                                                                  | 30 |       
|SIGNATURES |  |                                                                                       |  |                                                                                                  | 31 |       

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##### Table of Contents



PLATO Learning, Inc. and Subsidiaries
Consolidated Statements of Operations
(Unaudited, in thousands, except per share amounts)




|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |        |        |  
|------------------------------------------- |  | --------------------------------------------- | ------------------------ | ------------------------- | ------ | ------------------ | ------ | ----------------- | ------ | ------ | ------ | ---- | ------ | ------ | ------ | - | ------ | ------ | ------ | -
|                                            |  |                                               |                          |                           |        | Three Months Ended |        | Nine Months Ended
|                                            |  |                                               |                          |                           |        | July 31,           |        | July 31,         
|                                            |  |                                               |                          |                           |        |                    |        |                  
|                                            |  |                                               |                          |                           |        | 2003               |        | 2002              |        | 2003   |        | 2002
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |     
|Revenues:                                   |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |  
|                                            |  | License fees                                  |                          | $                         | 18,106 |                    |        | $                 | 15,509 |        |        | $    | 38,694 |        |        | $ | 39,509 |       
|                                            |  | Services                                      |                          |                           | 3,918  |                    |        |                   | 2,880  |        |        |      | 11,597 |        |        |   | 8,067  |       
|                                            |  | Other                                         |                          |                           | 1,769  |                    |        |                   | 1,217  |        |        |      | 4,426  |        |        |   | 3,289  |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  |                                               | Total revenues           |                           |        | 23,793             |        |                   |        | 19,606 |        |      |        | 54,717 |        |   |        | 50,865 |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|Cost of revenues:                           |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |  
|                                            |  | License fees                                  |                          |                           | 1,196  |                    |        |                   | 854    |        |        |      | 2,603  |        |        |   | 2,637  |       
|                                            |  | Services                                      |                          |                           | 533    |                    |        |                   | 481    |        |        |      | 1,908  |        |        |   | 1,058  |       
|                                            |  | Other                                         |                          |                           | 1,649  |                    |        |                   | 954    |        |        |      | 3,951  |        |        |   | 2,717  |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  |                                               | Total cost of revenues   |                           |        | 3,378              |        |                   |        | 2,289  |        |      |        | 8,462  |        |   |        | 6,412  |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  |                                               |                          | Gross profit              |        |                    | 20,415 |                   |        |        | 17,317 |      |        |        | 46,255 |   |        |        | 44,453 |  
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|Operating expenses:                         |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |  
|                                            |  | Sales and marketing                           |                          |                           | 11,364 |                    |        |                   | 10,281 |        |        |      | 33,008 |        |        |   | 29,175 |       
|                                            |  | General and administrative                    |                          |                           | 2,950  |                    |        |                   | 3,091  |        |        |      | 8,754  |        |        |   | 7,673  |       
|                                            |  | Product development and customer support      |                          |                           | 3,379  |                    |        |                   | 3,899  |        |        |      | 9,713  |        |        |   | 9,257  |       
|                                            |  | Amortization of intangibles                   |                          |                           | 450    |                    |        |                   | 343    |        |        |      | 1,270  |        |        |   | 705    |       
|                                            |  | Restructuring charge                          |                          |                           | 422    |                    |        |                   |       |        |        |      | 802    |        |        |   |       |       
|                                            |  | Purchased in-process research and development |                          |                           |       |                    |        |                   | 360    |        |        |      |       |        |        |   | 360    |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  |                                               | Total operating expenses |                           |        | 18,565             |        |                   |        | 17,974 |        |      |        | 53,547 |        |   |        | 47,170 |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  |                                               |                          | Operating earnings (loss) |        |                    | 1,850  |                   |        |        | (657   | )    |        |        | (7,292 | ) |        |        | (2,717 | )
|Interest income                             |  |                                               | 83                       |                           |        |                    | 171    |                   |        |        | 295    |      |        |        | 728    |  
|Interest expense                            |  |                                               | (34                      | )                         |        |                    | (34    | )                 |        |        | (88    | )    |        |        | (107   | )
|Other expense, net                          |  |                                               | (14                      | )                         |        |                    | (30    | )                 |        |        | (43    | )    |        |        | (139   | )
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  | Earnings (loss) before income taxes           |                          |                           | 1,885  |                    |        |                   | (550   | )      |        |      | (7,128 | )      |        |   | (2,235 | )     
|Income tax expense (benefit)                |  |                                               | 1,600                    |                           |        |                    | (350   | )                 |        |        | (2,185 | )    |        |        | (975   | )
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  | Net earnings (loss)                           |                          | $                         | 285    |                    |        | $                 | (200   | )      |        | $    | (4,943 | )      |        | $ | (1,260 | )     
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|Earnings (loss) per share:                  |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |  
|                                            |  | Basic and diluted                             |                          | $                         | 0.02   |                    |        | $                 | (0.01  | )      |        | $    | (0.30  | )      |        | $ | (0.08  | )     
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|Weighted average common shares outstanding: |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |  
|                                            |  | Basic                                         |                          |                           | 16,363 |                    |        |                   | 16,676 |        |        |      | 16,558 |        |        |   | 16,512 |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       
|                                            |  | Diluted                                       |                          |                           | 16,420 |                    |        |                   | 16,676 |        |        |      | 16,558 |        |        |   | 16,512 |       
|                                            |  |                                               |                          |                           |        |                    |        |                   |        |        |        |      |        |        |        |   |        |       

See Notes to Consolidated Financial Statements

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PLATO Learning, Inc. and Subsidiaries
Consolidated Balance Sheets
(In thousands, except per share amounts)

|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |         |         |  | 
|------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------- | ------------------------------------------ | ------- | ------- | ----------- | ------ | ----------- | ------- | ------- |  | 
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         | July 31,    |        | October 31,
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         | 2003        |        | 2002       
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         | (Unaudited) |        | (See Note) 
|Assets                                                                                                                    |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|Current assets:                                                                                                           |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|                                                                                                                          | Cash and cash equivalents                                                                                                                                                                           |                            | $                                          | 26,916  |         |             | $      | 30,390      |        
|                                                                                                                          | Accounts receivable, net                                                                                                                                                                            |                            |                                            | 33,613  |         |             |        | 33,034      |        
|                                                                                                                          | Prepaid expenses and other current assets                                                                                                                                                           |                            |                                            | 4,392   |         |             |        | 4,870       |        
|                                                                                                                          | Deferred income taxes                                                                                                                                                                               |                            |                                            | 5,523   |         |             |        | 3,338       |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          |                                                                                                                                                                                                     | Total current assets       |                                            |         | 70,444  |             |        |             | 71,632  |        
|Equipment and leasehold improvements, net of accumulated
depreciation and amortization of $7,064 and $5,437, respectively |                                                                                                                                                                                                     |                            | 5,068                                      |         |         |             | 5,210  |            
|Product development costs, net of accumulated amortization
of $10,295 and $6,083, respectively                            |                                                                                                                                                                                                     |                            | 14,252                                     |         |         |             | 13,545 |            
|Deferred income taxes                                                                                                     |                                                                                                                                                                                                     |                            | 11                                         |         |         |             | 11     |            
|Goodwill                                                                                                                  |                                                                                                                                                                                                     |                            | 39,201                                     |         |         |             | 38,331 |            
|Identified intangible assets, net                                                                                         |                                                                                                                                                                                                     |                            | 13,879                                     |         |         |             | 15,374 |            
|Other assets                                                                                                              |                                                                                                                                                                                                     |                            | 1,669                                      |         |         |             | 1,552  |            
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          | Total assets                                                                                                                                                                                        |                            | $                                          | 144,524 |         |             | $      | 145,655     |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|Liabilities and Stockholders Equity                                                                                      |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|Current liabilities:                                                                                                      |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|                                                                                                                          | Accounts payable                                                                                                                                                                                    |                            | $                                          | 2,227   |         |             | $      | 888         |        
|                                                                                                                          | Accrued employee salaries and benefits                                                                                                                                                              |                            |                                            | 6,905   |         |             |        | 6,979       |        
|                                                                                                                          | Accrued liabilities                                                                                                                                                                                 |                            |                                            | 3,378   |         |             |        | 4,786       |        
|                                                                                                                          | Deferred revenue                                                                                                                                                                                    |                            |                                            | 20,263  |         |             |        | 14,891      |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          |                                                                                                                                                                                                     | Total current liabilities  |                                            |         | 32,773  |             |        |             | 27,544  |        
|                                                                                                                          | Deferred revenue                                                                                                                                                                                    |                            |                                            | 4,801   |         |             |        | 3,946       |        
|                                                                                                                          | Other liabilities                                                                                                                                                                                   |                            |                                            | 377     |         |             |        | 582         |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          |                                                                                                                                                                                                     | Total liabilities          |                                            |         | 37,951  |             |        |             | 32,072  |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|Stockholders equity:                                                                                                     |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |            
|                                                                                                                          | Common stock, $.01 par value, 50,000 shares authorized;
18,089 shares issued and 16,365 shares outstanding
at July 31, 2003; 18,078 shares issued and 16,812
shares outstanding at October 31, 2002 |                            |                                            | 164     |         |             |        | 168         |        
|                                                                                                                          | Paid in capital                                                                                                                                                                                     |                            |                                            | 129,853 |         |             |        | 129,802     |        
|                                                                                                                          | Treasury stock at cost, 1,724 and 1,266 shares, respectively                                                                                                                                        |                            |                                            | (18,401 | )       |             |        | (16,244     | )      
|                                                                                                                          | Retained earnings (accumulated deficit)                                                                                                                                                             |                            |                                            | (4,298  | )       |             |        | 645         |        
|                                                                                                                          | Accumulated other comprehensive loss                                                                                                                                                                |                            |                                            | (745    | )       |             |        | (788        | )      
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          |                                                                                                                                                                                                     | Total stockholders equity |                                            |         | 106,573 |             |        |             | 113,583 |        
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        
|                                                                                                                          |                                                                                                                                                                                                     |                            | Total liabilities and stockholders equity |         | $       | 144,524     |        |             | $       | 145,655 | 
|                                                                                                                          |                                                                                                                                                                                                     |                            |                                            |         |         |             |        |             |        

Note: The balance sheet at October 31, 2002 has been derived from our audited financial statements at that date. See Notes to Consolidated Financial Statements

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PLATO Learning, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited, in thousands)

|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |         |        |       |     | 
|------------------------------------------------------------------------------- | ------------------------------------------------------------------ | --------------------------------------------------------------------------------- | ----------------- | ----------------------------------------- | ------ | ----------------- | ------- | ------- | ------ | ----- | --- | 
|                                                                                |                                                                    |                                                                                   |                   |                                           |        | Nine Months Ended
|                                                                                |                                                                    |                                                                                   |                   |                                           |        | July 31,         
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                  
|                                                                                |                                                                    |                                                                                   |                   |                                           |        | 2003              |         | 2002   
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Operating activities:                                                           |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Net loss                                                                        |                                                                    | $                                                                                 | (4,943            | )                                         |        | $                 | (1,260  | )      
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Adjustments to reconcile net loss to net cash
provided by operating activities: |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|                                                                                | Deferred income taxes                                              |                                                                                   |                   | (2,185                                    | )      |                   |         | (975    | )     
|                                                                                | Amortization of capitalized product development costs              |                                                                                   |                   | 4,202                                     |        |                   |         | 3,006   |       
|                                                                                | Amortization of identified intangible assets                       |                                                                                   |                   | 1,495                                     |        |                   |         | 930     |       
|                                                                                | Depreciation of equipment and leasehold improvements               |                                                                                   |                   | 1,635                                     |        |                   |         | 1,183   |       
|                                                                                | Provision for doubtful accounts                                    |                                                                                   |                   | 1,607                                     |        |                   |         | 1,501   |       
|                                                                                | Purchased in-process research and development                      |                                                                                   |                   |                                          |        |                   |         | 360     |       
|                                                                                | Stock-based compensation                                           |                                                                                   |                   |                                          |        |                   |         | 45      |       
|                                                                                | Loss on disposal of equipment                                      |                                                                                   |                   | 59                                        |        |                   |         | 100     |       
|                                                                                | Changes in assets and liabilities, net of effects of acquisitions: |                                                                                   |                   |                                           |        |                   |         |         |       
|                                                                                |                                                                    | Accounts receivable                                                               |                   |                                           | (2,220 | )                 |         |         | (2,655 | )    
|                                                                                |                                                                    | Prepaid expenses and other current and noncurrent assets                          |                   |                                           | 395    |                   |         |         | 58     |      
|                                                                                |                                                                    | Accounts payable                                                                  |                   |                                           | 1,339  |                   |         |         | (2,578 | )    
|                                                                                |                                                                    | Accrued liabilities, accrued employee salaries and
benefits and other liabilities |                   |                                           | (1,484 | )                 |         |         | 109    |      
|                                                                                |                                                                    | Deferred revenue                                                                  |                   |                                           | 5,350  |                   |         |         | 624    |      
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|                                                                                |                                                                    |                                                                                   | Total adjustments |                                           |        | 10,193            |         |         |        | 1,708 |    
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|                                                                                |                                                                    |                                                                                   |                   | Net cash provided by operating activities |        |                   | 5,250   |         |        |       | 448 | 
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Investing activities:                                                           |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Capitalization of product development costs                                     |                                                                    |                                                                                   | (4,893            | )                                         |        |                   | (5,014  | )      
|Capital expenditures                                                            |                                                                    |                                                                                   | (1,542            | )                                         |        |                   | (2,592  | )      
|Acquisitions, net of cash acquired $153 in 2002                                 |                                                                    |                                                                                   |                  |                                           |        |                   | (9,310  | )      
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|                                                                                | Net cash used in investing activities                              |                                                                                   |                   | (6,435                                    | )      |                   |         | (16,916 | )     
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Financing activities:                                                           |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Repurchase of common stock                                                      |                                                                    |                                                                                   | (2,161            | )                                         |        |                   | (11,089 | )      
|Net proceeds from issuance of common stock                                      |                                                                    |                                                                                   | 51                |                                           |        |                   | 1,277   |        
|Repayments of capital lease obligations                                         |                                                                    |                                                                                   | (196              | )                                         |        |                   | (233    | )      
|Repayments of bank debt                                                         |                                                                    |                                                                                   |                  |                                           |        |                   | (2,366  | )      
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|                                                                                | Net cash used in financing activities                              |                                                                                   |                   | (2,306                                    | )      |                   |         | (12,411 | )     
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Effect of foreign currency on cash                                              |                                                                    |                                                                                   | 17                |                                           |        |                   | 138     |        
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Net decrease in cash and cash equivalents                                       |                                                                    |                                                                                   | (3,474            | )                                         |        |                   | (28,741 | )      
|Cash and cash equivalents at beginning of period                                |                                                                    |                                                                                   | 30,390            |                                           |        |                   | 61,568  |        
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        
|Cash and cash equivalents at end of period                                      |                                                                    | $                                                                                 | 26,916            |                                           |        | $                 | 32,827  |        
|                                                                                |                                                                    |                                                                                   |                   |                                           |        |                   |         |        

See Notes to Consolidated Financial Statements

5



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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)


1. Business

We enhance the learning process by providing computer-based and e-learning
instruction software and related services, offering basic to advanced level
courseware in reading, writing, math, science, social studies and life and job
skills. Our PLATO Learning System and PLATO Web Learning Network provide
more than 4,000 hours of objective-based, problem-solving courseware and
include assessment, alignment and management tools to create standards-based
curricula and facilitate the learning process. PLATO courseware is delivered
via networks, CD-ROM, private intranets and the Internet. In addition, single
topic PLATO courseware is available through our e-commerce web site and
distributors. We market our courseware products and services primarily to K-12
schools. We also sell to colleges, job training programs, correctional
institutions, military education programs, corporations and individuals.

We are subject to risks and uncertainties including, but not limited to,
dependence on information technology spending by our customers,
well-established competitors, customers dependent on government funding,
fluctuations of our quarterly results, a lengthy and variable sales cycle,
dependence on key personnel, dependence on our intellectual property
rights, rapid technological change and our ability to integrate
acquisitions.

2. Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United
States of America for interim financial information and with the instructions
to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by accounting principles
generally accepted in the United States of America for complete financial
statements. We have included all normal recurring adjustments considered
necessary to give a fair presentation of our operating results for the interim
periods shown. Operating results for these interim periods are not necessarily
indicative of the results to be expected for the full fiscal year. For further
information, refer to the consolidated financial statements and accompanying
notes included in our Annual Report on Form 10-K for the fiscal year ended
October 31, 2002.

The accompanying unaudited consolidated financial statements include the
accounts of PLATO Learning, Inc. and its wholly owned subsidiaries. All
significant intercompany accounts and transactions have been eliminated.

Certain reclassifications of previously reported amounts have been made to
conform to the current year presentation. On the consolidated statements of
operations, sales and marketing expenses are now presented separately from
general and administrative expenses. Previously, they were presented together
as selling, general and administrative expenses. On the consolidated statement
of cash flows, depreciation and amortization is now presented as depreciation
and amortization of equipment and leasehold improvements, amortization of
capitalized product development costs and amortization of identified intangible
assets. For fiscal year 2002, the reclassifications by quarter are summarized
as follows:

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|--------------------------------------------------------------------- |  | ------------------ | ------ | -------- |  | ------- | ------ | ---------- |  | ---- | ------ |  |  | - | ------ |  |  | - | ------ | 
|                                                                      |  | Fiscal 2002       
|                                                                      |  |                   
|                                                                      |  | Three Months Ended |        |          |  |        
|                                                                      |  |                    |        |          |  |        
|                                                                      |  | January 31         |        | April 30 |  | July 31 |        | October 31 |  | Year
|                                                                      |  |                    |        |          |  |         |        |            |  |     
|Selling, general and administrative expense,
as previously reported   |  | $                  | 11,516 |          |  | $       | 11,960 |            |  | $    | 13,372 |  |  | $ | 15,142 |  |  | $ | 51,990 | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|Sales and marketing expense                                           |  | $                  | 9,095  |          |  | $       | 9,799  |            |  | $    | 10,281 |  |  | $ | 11,180 |  |  | $ | 40,355 | 
|General and administrative expense                                    |  |                    | 2,421  |          |  |         | 2,161  |            |  |      | 3,091  |  |  |   | 3,962  |  |  |   | 11,635 | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|                                                                      |  | $                  | 11,516 |          |  | $       | 11,960 |            |  | $    | 13,372 |  |  | $ | 15,142 |  |  | $ | 51,990 | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|Depreciation and amortization,
as previously reported                 |  | $                  | 1,516  |          |  | $       | 1,586  |            |  | $    | 2,017  |  |  | $ | 2,076  |  |  | $ | 7,195  | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|Amortization of capitalized product development costs                 |  | $                  | 939    |          |  | $       | 1,001  |            |  | $    | 1,066  |  |  | $ | 1,171  |  |  | $ | 4,177  | 
|Amortization of identified intangible assets                          |  |                    | 269    |          |  |         | 243    |            |  |      | 418    |  |  |   | 423    |  |  |   | 1,353  | 
|Depreciation and amortization of equipment
and leasehold improvements |  |                    | 308    |          |  |         | 342    |            |  |      | 533    |  |  |   | 482    |  |  |   | 1,665  | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 
|                                                                      |  | $                  | 1,516  |          |  | $       | 1,586  |            |  | $    | 2,017  |  |  | $ | 2,076  |  |  | $ | 7,195  | 
|                                                                      |  |                    |        |          |  |         |        |            |  |      |        |  |  |   |        |  |  |   |        | 

3. Summary of Significant Accounting Policies

Revenue Recognition

We recognize revenue in accordance with the provisions of Statement of Position
No. 97-2, Software Revenue Recognition, as amended and modified, as well as
Technical Practice Aids issued from time to time by the American Institute of
Certified Public Accountants, and Staff Accounting Bulletin No. 101, Revenue
Recognition in Financial Statements.

Revenue from the sale of courseware licenses and computer hardware is
recognized upon meeting the following criteria: (i) a written customer order is
executed, (ii) courseware and hardware are delivered, (iii) the license fee is
fixed or determinable and (iv) collectibility of the fee is probable. For
software arrangements that include more than one element, we allocate the total
arrangement fee among each deliverable based on vendor-specific objective
evidence of the relative fair value of each deliverable. Vendor-specific
objective evidence of fair value is determined using the price charged when
that element is sold separately. For software arrangements in which we do not
have vendor-specific objective evidence of fair value for undelivered elements,
revenue is deferred until the earlier of when vendor-specific objective
evidence is determined for the undelivered elements or when all elements have
been delivered. Upon delivery, future service costs, if any, are accrued.
Future service costs represent our problem resolution and support hotline
services for a one-year period. Revenue from our subscription-based products,
primarily the PLATO Web Learning Network, is deferred and recognized ratably
over the contract period.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

Service revenue includes software support, which is deferred and recognized
ratably over the support period, and revenue from installation and training
services, which is recognized as services are performed. Installation and
training services are customarily billed at a fixed daily rate. Deferred
revenue represents services and products yet to be delivered.

Stock-Based Compensation

In December 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 148, Accounting for
Stock-Based Compensation  Transition and Disclosure, an amendment of FASB
Statement No. 123 (SFAS 148). This statement amends SFAS 123 to provide
alternative methods of transition for a voluntary change to the fair value
based method of accounting for stock-based employee compensation. In addition,
this statement amends the disclosure requirements of SFAS 123 to require
prominent disclosures in both annual and interim financial statements about the
method of accounting for stock-based employee compensation and the effect of
the method used on reported results.

As permitted by SFAS 123, we have elected to continue to account for our
stock-based compensation plans under the intrinsic value method of Accounting
Principles Board Opinion No. 25 Accounting for Stock Issued to Employees.
The intrinsic value method recognizes compensation expense equal to the excess,
if any, of the fair market value of our stock on the grant date over the
exercise price.

We have adopted the disclosure provisions of SFAS 148 and the following table
compares net earnings (loss) and the related per share amounts to the pro forma
amounts that would be reported had compensation expense been recognized in
accordance with the fair value method of SFAS 123, as amended by SFAS 148:

|                                                                                                                                 |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |       |  
|-------------------------------------------------------------------------------------------------------------------------------- | ----------- | - | ------------------ | ---- | ----------------- | - | ---- | ----- | ---- | - | ------ | ----- | - | - | ------ | ----- | -
|                                                                                                                                 |             |   | Three Months Ended |      | Nine Months Ended
|                                                                                                                                 |             |   | July 31,           |      | July 31,         
|                                                                                                                                 |             |   |                    |      |                  
|                                                                                                                                 |             |   | 2003               |      | 2002              |   | 2003 |       | 2002
|                                                                                                                                 |             |   |                    |      |                   |   |      |       |     
|Net earnings (loss), as reported                                                                                                 |             | $ | 285                |      |                   | $ | (200 | )     |      | $ | (4,943 | )     |   | $ | (1,260 | )    
|Deduct: stock-based compensation expense determined
using the fair value based method for all awards,
net of related tax effects |             |   | (68                | )    |                   |   | (160 | )     |      |   | (2,638 | )     |   |   | (2,448 | )    
|                                                                                                                                 |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |      
|Pro forma net earnings (loss)                                                                                                    |             | $ | 217                |      |                   | $ | (360 | )     |      | $ | (7,581 | )     |   | $ | (3,708 | )    
|                                                                                                                                 |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |      
|Basic and diluted earnings (loss) per share:                                                                                     |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |      
|                                                                                                                                 | As reported |   | $                  | 0.02 |                   |   | $    | (0.01 | )    |   | $      | (0.30 | ) |   | $      | (0.08 | )
|                                                                                                                                 |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |      
|                                                                                                                                 | Pro forma   |   | $                  | 0.01 |                   |   | $    | (0.02 | )    |   | $      | (0.46 | ) |   | $      | (0.22 | )
|                                                                                                                                 |             |   |                    |      |                   |   |      |       |      |   |        |       |   |   |        |      

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

4. Acquisitions

Unaudited Pro Forma Data

In May 2002, we acquired NetSchools Corporation (NetSchools). For further
information regarding this acquisition, refer to Note 4 of Notes to
Consolidated Financial Statements included in our Annual Report on Form 10-K
for the fiscal year ended October 31, 2002.

The operating results of NetSchools were included in our consolidated
statements of operations from the date of acquisition. Our unaudited pro forma
consolidated results of operations, as if the NetSchools acquisition had
occurred at the beginning of the period presented, were as follows:

|                                 |  |                   |        |  
|-------------------------------- |  | ----------------- | ------ | -
|                                 |  | Nine Months Ended
|                                 |  | July 31, 2002    
|                                 |  |                  
|                                 |  | (Unaudited)      
|Revenues                         |  | $                 | 56,302 |  
|Net loss                         |  |                   | (6,192 | )
|Basic and diluted loss per share |  |                   | (0.36  | )

The pro forma data gives effect to actual operating results prior to the
acquisition and adjustments to reflect increased identified intangible asset
amortization and income taxes. No effect has been given to cost reductions or
operating synergies in this presentation. The unaudited pro forma consolidated
results of operations are for comparative purposes only and do not necessarily
reflect the results that would have occurred had the acquisition occurred at
the beginning of the period presented or the results which may occur in the
future.

5. Accounts Receivable

The components of accounts receivable were as follows:

|                                |  |          |        |             |  |   |        |  
|------------------------------- |  | -------- | ------ | ----------- |  | - | ------ | -
|                                |  | July 31, |        | October 31,
|                                |  | 2003     |        | 2002       
|                                |  |          |        |            
|Trade accounts receivable       |  | $        | 17,821 |             |  | $ | 14,865 |  
|Installment accounts receivable |  |          | 19,491 |             |  |   | 20,936 |  
|Allowance for doubtful accounts |  |          | (3,699 | )           |  |   | (2,767 | )
|                                |  |          |        |             |  |   |        |  
|                                |  | $        | 33,613 |             |  | $ | 33,034 |  
|                                |  |          |        |             |  |   |        |  

Installment accounts receivable include amounts not yet billed that are due
within one year from the balance sheet date. Installment receivables to be
billed beyond one year from the balance sheet date are included in other assets
on the consolidated balance sheets and were $1,256 at July 31, 2003 and $1,144
at October 31, 2002.

The provision for doubtful accounts, included in general and administrative
expense on the consolidated statements of operations, was $555 and $600 for the
three months and $1,607 and $1,501 for the nine months ended July 31, 2003 and
2002, respectively.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

6. Goodwill and Identified Intangible Assets

We account for goodwill and identified intangible assets in accordance with the
provisions of Statement of Financial Accounting Standards No. 142, Goodwill
and Other Intangible Assets (SFAS 142). Under SFAS 142, goodwill and
intangible assets with indefinite lives are no longer amortized to expense and
must be periodically reviewed for impairment. If such review indicates that
the carrying amount of an intangible asset exceeds its fair value, an
impairment loss would be recognized equal to that excess amount.

Goodwill

SFAS 142 requires that goodwill of a reporting unit be tested for impairment on
an annual basis and between annual tests if an event occurs or circumstances
change that would more likely than not reduce the fair value of a reporting
unit below its carrying value. We operate one reporting unit and, therefore,
we test goodwill impairment on an enterprise wide basis. As of October 31,
2002, our annual impairment test indicated that goodwill was not impaired;
however, as of July 31, 2003, and for much of fiscal year 2003, the market
value of our common stock had declined to a point where our market
capitalization was below our net book value. Although our stock price has
recently increased to where our market capitalization exceeded our net book
value in early September 2003, this increase could reverse by year end. We
consider the market capitalization, prevailing control premiums and other
factors when we test goodwill impairment. Based on the weight of available
evidence, we believe that events and circumstances do not indicate the need to
test goodwill impairment as of July 31, 2003; however, should events and
circumstances change, an interim goodwill impairment test may be necessary
prior to the annual test on October 31, 2003. Such events and circumstances
include a prolonged decline in our stock price and may result in a future
impairment loss that could have a significant impact on our consolidated
financial statements including a large non-cash charge to the statement of
operations.

Goodwill was increased by $870 during the three months ended January 31, 2003
as a result of the finalization of the purchase price allocation relating to
the NetSchools acquisition in May 2002. As provided by the purchase agreement,
there may be additional consideration of up to approximately $6,000, contingent
on the NetSchools product and services revenues generated through October 2004.
Additional consideration will be recorded as additional goodwill as earned.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

Identified Intangible Assets

Identified intangible assets subject to amortization were as follows:

|                     |  |               |        |                  |  |          |        |          |  |         |        |          |  |   |        |        |  |   |        |   |  |   |        | 
|-------------------- |  | ------------- | ------ | ---------------- |  | -------- | ------ | -------- |  | ------- | ------ | -------- |  | - | ------ | ------ |  | - | ------ | - |  | - | ------ | 
|                     |  | July 31, 2003 |        | October 31, 2002
|                     |  |               |        |                 
|                     |  |               |        |                  |  | Accum-   |        |          |  |         |        |          |  |   |        | Accum- |  |   |        |  
|                     |  | Gross         |        | ulated           |  | Net      |        | Gross    |  | ulated  |        | Net     
|                     |  | Carrying      |        | Amort-           |  | Carrying |        | Carrying |  | Amort-  |        | Carrying
|                     |  | Value         |        | ization          |  | Value    |        | Value    |  | ization |        | Value   
|                     |  |               |        |                  |  |          |        |          |  |         |        |         
|Acquired technology  |  | $             | 14,145 |                  |  | $        | (1,991 | )        |  | $       | 12,154 |          |  | $ | 14,145 |        |  | $ | (936   | ) |  | $ | 13,209 | 
|Trademark            |  |               | 1,380  |                  |  |          | (591   | )        |  |         | 789    |          |  |   | 1,380  |        |  |   | (444   | ) |  |   | 936    | 
|Customer lists       |  |               | 1,300  |                  |  |          | (531   | )        |  |         | 769    |          |  |   | 1,300  |        |  |   | (339   | ) |  |   | 961    | 
|Employment agreement |  |               | 413    |                  |  |          | (246   | )        |  |         | 167    |          |  |   | 413    |        |  |   | (145   | ) |  |   | 268    | 
|                     |  |               |        |                  |  |          |        |          |  |         |        |          |  |   |        |        |  |   |        |   |  |   |        | 
|                     |  | $             | 17,238 |                  |  | $        | (3,359 | )        |  | $       | 13,879 |          |  | $ | 17,238 |        |  | $ | (1,864 | ) |  | $ | 15,374 | 
|                     |  |               |        |                  |  |          |        |          |  |         |        |          |  |   |        |        |  |   |        |   |  |   |        | 

Amortization expense for identified intangible assets was $525 and $418 for the
three months ended July 31, 2003 and 2002, respectively, of which $75 was
included in product development and customer support expense for each period.
Amortization expense for identified intangible assets was $1,495 and $930 for
the nine months ended July 31, 2003 and 2002, respectively, of which $225 was
included in product development and customer support expense for each period.

The estimated annual amortization expense for identified intangible assets is
as follows:

|           |      |   |        |       | 
|---------- | ---- | - | ------ | ----- | 
|           | 2003 |   | $      | 2,044 | 
|           | 2004 |   |        | 2,222 | 
|           | 2005 |   |        | 2,325 | 
|           | 2006 |   |        | 2,298 | 
|           | 2007 |   |        | 2,276 | 
|Thereafter |      |   | 4,209  |      
|           |      |   |        |       | 
|           |      | $ | 15,374 |      
|           |      |   |        |      

7. Debt

There were no borrowings outstanding under our revolving loan agreement at July
31, 2003. We did not comply with the Minimum Debt Service Coverage covenant
contained in our revolving loan agreement for the period ended July 31, 2003.
We have received a waiver from our lender covering this noncompliance for such
period. For further information regarding our revolving loan agreement, refer
to Note 9 of Notes to Consolidated Financial Statements included in our Annual
Report on Form 10-K for the fiscal year ended October 31, 2002.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

8. Stockholders Equity

Common Stock Repurchased

We repurchased approximately 458,000 shares of our common stock for an
aggregate cost of $2,161 during the nine months ended July 31, 2003. These
shares are presented as treasury stock in the consolidated balance sheet.

9. Restructuring Charge

In May 2003, we replaced our Managing Director of operations in the United
Kingdom, and severed relationships with two senior executives (our Chief
Operating Officer and a co-founder of NetSchools) and three other employees.
The consolidated statement of operations for the three months ended July 31,
2003 included a restructuring charge of $422 for severance costs related to
this action. As of July 31, 2003, approximately $210 of these severance costs
have been paid, with the remaining costs expected to be paid by August 2004.

In December 2002, we reduced the size of our workforce by approximately 30
positions and closed approximately 30 open job requisitions, all in the United
States, which together represented approximately 10% of our planned workforce.
The consolidated statement of operations for the three months ended January 31,
2003 included a restructuring charge of $380 for severance costs related to
this reduction. Substantially all of these severance costs were paid as of
January 31, 2003.

10. Per Share Data

Basic earnings (loss) per share is calculated by dividing net earnings (loss)
by the weighted average number of common shares outstanding during the period.
Diluted earnings (loss) per share is calculated by dividing net earnings (loss)
by the weighted average number of common and, where dilutive, potential common
shares outstanding during the period. Potential common shares include options
and warrants.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

The calculation of basic and diluted net income (loss) per share was as follows:

|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |   | 
|------------------------------------------------------------------------------------------ | -------------------------- | - | ------------------ | -- | ----------------- | - | ------ | - | ---- | - | ------ | - |  | - | ------ | - | 
|                                                                                           |                            |   | Three Months Ended |    | Nine Months Ended
|                                                                                           |                            |   | July 31,           |    | July 31,         
|                                                                                           |                            |   |                    |    |                  
|                                                                                           |                            |   | 2003               |    | 2002              |   | 2003   |   | 2002
|                                                                                           |                            |   |                    |    |                   |   |        |   |     
|Net earnings (loss)                                                                        |                            | $ | 285                |    |                   | $ | (200   | ) |      | $ | (4,943 | ) |  | $ | (1,260 | )
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Basic:                                                                                     |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Weighted average common shares outstanding                                                 |                            |   | 16,363             |    |                   |   | 16,676 |   |      |   | 16,558 |   |  |   | 16,512 |  
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Basic earnings (loss) per share                                                            |                            | $ | 0.02               |    |                   | $ | (0.01  | ) |      | $ | (0.30  | ) |  | $ | (0.08  | )
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Diluted:                                                                                   |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Weighted average common shares outstanding                                                 |                            |   | 16,363             |    |                   |   | 16,676 |   |      |   | 16,558 |   |  |   | 16,512 |  
|Potential common shares:                                                                   |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|                                                                                           | Stock options and warrants |   |                    | 57 |                   |   |        |  |      |   |        |  |  |   |        |  | 
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Weighted average common and potential common
shares outstanding for diluted loss per share |                            |   | 16,420             |    |                   |   | 16,676 |   |      |   | 16,558 |   |  |   | 16,512 |  
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  
|Diluted earnings (loss) per share                                                          |                            | $ | 0.02               |    |                   | $ | (0.01  | ) |      | $ | (0.30  | ) |  | $ | (0.08  | )
|                                                                                           |                            |   |                    |    |                   |   |        |   |      |   |        |   |  |   |        |  

The calculation of diluted loss per share for the nine months ended July 31,
2003 excluded the effect of approximately 3,050,000 potential common shares
from the conversion of outstanding options and warrants as they were
antidilutive.

The calculation of diluted loss per share for the three and nine months ended
July 31, 2002 excluded the effect of approximately 2,421,000 potential common
shares from the conversion of outstanding options and warrants as they were
antidilutive.

11. Comprehensive Income (Loss)

Total comprehensive income (loss) was as follows:

|                                         |                                   |   |                    |     |                   |   |      |    |      |   |        |        |   |   |        |        |  
|---------------------------------------- | --------------------------------- | - | ------------------ | --- | ----------------- | - | ---- | -- | ---- | - | ------ | ------ | - | - | ------ | ------ | -
|                                         |                                   |   | Three Months Ended |     | Nine Months Ended
|                                         |                                   |   | July 31,           |     | July 31,         
|                                         |                                   |   |                    |     |                  
|                                         |                                   |   | 2003               |     | 2002              |   | 2003 |    | 2002
|                                         |                                   |   |                    |     |                   |   |      |    |     
|Net income (loss)                        |                                   | $ | 285                |     |                   | $ | (200 | )  |      | $ | (4,943 | )      |   | $ | (1,260 | )     
|Foreign currency translation adjustments |                                   |   | 9                  |     |                   |   | 242  |    |      |   | 43     |        |   |   | 231    |       
|                                         |                                   |   |                    |     |                   |   |      |    |      |   |        |        |   |   |        |       
|                                         | Total comprehensive income (loss) |   | $                  | 294 |                   |   | $    | 42 |      |   | $      | (4,900 | ) |   | $      | (1,029 | )
|                                         |                                   |   |                    |     |                   |   |      |    |      |   |        |        |   |   |        |       

12. Segment and Geographic Information

We operate in the single business segment of educational software. Revenues
are attributed to geographic locations based upon the location of the customer.
Revenues from foreign customers, primarily in Canada and the United Kingdom,
were $658 and $1,654 for the three months and $1,489 and $4,161 for the nine
months ended July 31, 2003 and 2002, respectively.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

13. New Accounting Pronouncements

In January 2003, the FASB issued Interpretation No. 46, Consolidation of
Variable Interest Entities. This interpretation addresses the requirements
for business enterprises to consolidate related entities in which they are
determined to be the primary beneficiary as a result of their variable economic
interest. The interpretation is intended to provide guidance in judging
multiple economic interests in an entity and in determining the primary
beneficiary. The interpretation outlines disclosure requirements for variable
interest entities in existence prior to January 31, 2003, and outlines
consolidation requirements for variable interest entities created after January
31, 2003. We do not expect that the application of this interpretation will
have a material impact on our consolidated financial statements.

In May 2003, the FASB issued Statement of Financial Accounting Standards No.
150, Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity (SFAS 150). SFAS 150 establishes standards for how
an issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. Instruments that fall within
the scope of SFAS 150 must be classified as a liability. SFAS 150 is effective
for financial instruments entered into or modified after May 31, 2003, and
otherwise is effective at the beginning of the first interim period beginning
after June 15, 2003 (our fourth quarter of fiscal year 2003). We do not
believe that the adoption of SFAS 150 will have a material impact on our
consolidated financial statements.

14. Subsequent Event

On September 9, 2003, we signed an Agreement and Plan of Merger with Lightspan,
Inc. (Lightspan), a leading provider of curriculum-based educational software
and online products and services used in schools, at home and in community
colleges. The merger will allow us to offer two strong and complimentary
brands that will significantly enhance our K-12 district level and post
secondary selling efforts.

Pursuant to the merger, we will acquire all the shares of publicly-held
Lightspan in exchange for shares of our common stock. The definitive exchange
ratio is based on the volume-weighted average of the closing price of our
common stock for the 15 trading days prior to the closing date. Depending on
the definitive exchange ratio, Lightspans shareholders will own between 28%
and 33% of our fully-diluted outstanding shares following the transaction. For
example, assuming the value of a PLATO Learning common share is greater than
$7.89 per share, approximately 6.5 million shares of our common stock will be
issued based on an exchange ratio of 1.330 shares of our common stock for each
share of Lightspan common stock. If the weighted average value of a PLATO
Learning common share declines below $7.89 per share, the exchange ratio could
increase to a maximum of 1.685 shares of our common stock for each share of
Lightspan common stock. The transaction requires and is subject to the
approval by both PLATO Learning and Lightspan stockholders and certain
regulatory clearances, including the effectiveness of a registration statement
registering the common stock to be issued to Lightspan stockholders and other
customary closing conditions.

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PLATO Learning, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(Dollars in thousands, except per share amounts)

Lightspan generated revenues of approximately $50,000 in its fiscal year ended
January 31, 2003. The merger is expected to be modestly dilutive to our
earnings per share in fiscal year 2004, particularly in the earlier quarters of
the fiscal year. Earnings per share will be impacted by non-cash charges for
amortization of intangible assets created as a result of the transaction. The
transaction is expected to be accretive to earnings in 2004 excluding these
charges, and is expected to be accretive to reported earnings in fiscal year
2005.

As a result of this Agreement and Plan of Merger with Lightspan, we are in
violation of our revolving loan agreement and are currently unable to utilize
our line of credit. There are currently no borrowings outstanding under our
revolving loan agreement. We are working with our bank to resolve this
violation.

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PLATO Learning, Inc.




Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)


OVERVIEW

We enhance the learning process by providing computer-based and e-learning
instruction software and related services, offering basic to advanced level
courseware in reading, writing, math, science, social studies and life and job
skills. Our PLATO® Learning System and PLATO® Web Learning Network provide more
than 4,000 hours of objective-based, problem solving courseware and include
assessment, alignment and management tools to create standards-based curricula
and facilitate the learning process. PLATO courseware is delivered via
networks, CD-ROM, private intranets and the Internet. In addition, single
topic PLATO courseware is available through our e-commerce web site and
distributors. We market our courseware products and services primarily to K-12
schools. We also sell to colleges, job training programs, correctional
institutions, military education programs, corporations and individuals.

We are subject to risks and uncertainties including, but not limited to,
dependence on information technology spending by our customers,
well-established competitors, customers dependent on government funding,
fluctuations of our quarterly results, a lengthy and variable sales cycle,
dependence on key personnel, dependence on our intellectual property
rights, rapid technological change and our ability to integrate
acquisitions. As provided for in the Private Securities Litigation Reform
Act of 1995, we caution investors that these factors could cause our
future results of operations to vary from those anticipated in previously
made forward-looking statements and any other forward-looking statements
made in this document and elsewhere by or on behalf of us.

CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of results of operations and financial condition is
based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States
of America. The preparation of these financial statements requires us to make
estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses. We continually evaluate our critical
accounting policies and have identified revenue recognition, the valuation of
accounts receivable, the capitalization of product development costs, the
valuation of our deferred tax asset and goodwill and identified intangible
asset impairment testing as the critical accounting policies that are
significant to the financial statement presentation and require difficult,
subjective and complex judgments.

See Note 2 to Consolidated Financial Statements for additional discussion on
these and other accounting policies and disclosures required by accounting
principles generally accepted in the United States of America.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Revenue Recognition

Revenue recognition rules for software companies are very complex. We follow
specific and detailed guidelines in determining the proper amount of revenue to
be recorded; however, certain judgments affect the application of our revenue
recognition policy. Revenue results are difficult to predict, and any shortfall
in revenue or delay in recognizing revenue could cause our operating results to
vary significantly from quarter to quarter.

The most significant judgments for revenue recognition typically involve
whether there are any significant uncertainties regarding customer acceptance
and whether collectibility can be considered probable. In addition, our
transactions often consist of multiple element arrangements which must be
analyzed to determine the relative fair value of each element, the amount of
revenue to be recognized upon shipment, if any, and the period and conditions
under which deferred revenue should be recognized.

Allowance for Doubtful Accounts

We determine an allowance for doubtful accounts based upon an analysis of the
collectibility of specific accounts, historical experience and the aging of the
trade and installment accounts receivable. Bad debt expense is included in
general and administrative expense in our consolidated statement of operations.
The assumptions and estimates used to determine the allowance are subject to
constant revision and involve significant assumptions and judgment. The
primary factors that impact these assumptions include the efficiency and
effectiveness of our billing and collection functions, our historical
experience and our credit assessment process. We believe that the current
budget difficulties facing many states will not have a significant impact on
the collection of our accounts receivable. However, a change in the underlying
conditions contributing to our belief could impact our assessment of
collectibility and, therefore, require a change in the allowance for doubtful
accounts and the amount of bad debt expense. Actual collection results could
differ materially from those estimated and have a significant impact on our
consolidated financial statements.

Capitalization of Product Development Costs

Our product development expense includes costs related to the development,
enhancement and maintenance of our courseware products, and the effect of
product development cost capitalization and amortization. Research and
development costs, relating principally to the design and development of new
products, and the routine enhancement of existing products are expensed as
incurred. We capitalize product development costs when the projects under
development reach technological feasibility, as defined by the accounting
standards. Capitalization ends when a product is available for general release
to our customers, at which time amortization of the capitalized costs begins.
We amortize these costs using the greater of (a) the amount determined by the
ratio of the products current revenue to total expected future
revenue, or (b) the straight-line method over the estimated useful life of the
product, which is generally three years. During all periods presented, we used
the straight-line method to amortize the capitalized costs as this method
resulted in greater amortization.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

The most significant judgments regarding capitalization of product development
costs typically involve the determination of whether development efforts should
be expensed or have reached technological feasibility and should be
capitalized, and the recoverability of capitalized costs. We continually
evaluate our capitalized costs to determine if the unamortized balance related
to any given product exceeds the estimated net realizable value of that
product. Estimating net realizable value requires us to estimate future cash
flows to be generated by the product and to use judgment in quantifying the
amount, if any, to be written off. Actual cash flows and amounts realized from
the courseware products could differ materially from those estimated. In
addition, any future changes to our courseware product offerings could result
in write-offs of previously capitalized costs and have a significant impact on
our consolidated financial statements.

Deferred Income Tax Asset

We account for deferred income taxes based upon differences between the
financial reporting and income tax bases of our assets and liabilities. The
measurement of the deferred tax asset is adjusted by a valuation allowance, if
necessary, to recognize the extent to which the future tax benefits will be
recognized.

At July 31, 2003 we had a net deferred tax asset of $5,534 (current and
long-term). This deferred tax asset is net of a valuation allowance related to
a foreign net operating loss carryforward. Approximately $9,600 of the
deferred tax asset relates to our net operating loss carryforward in the United
States. At July 31, 2003, our total net operating loss carryforwards in the
United States were approximately $23,200. These loss carryforwards expire in
varying amounts between 2004 and 2022. Realization of our deferred tax asset
is dependent on generating sufficient taxable income in the United States prior
to expiration of these loss carryforwards. Although realization is not
assured, we believe it is more likely than not that all of the deferred tax
asset will be realized. We base this belief upon the levels of taxable income
generated historically as well as projections of future taxable income. If
future levels of taxable income in the United States are not consistent with
our expectations, we may be required to record a valuation allowance for the
entire deferred tax asset, which would have a significant impact on our
consolidated financial statements. We also have net operating loss
carryforwards related to our foreign subsidiaries. We have provided a full
valuation allowance related to these deferred income tax assets due to the
uncertainty in realization of future taxable income in these foreign
jurisdictions.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Goodwill and Identified Intangible Assets

We record our acquisitions in accordance with Statement of Financial Accounting
Standards No. 141, Business Combinations. We allocate the cost of acquired
companies to the tangible and identified intangible assets and liabilities
acquired, with the remaining amount being recorded as goodwill. Certain
intangible assets, such as acquired technology, are amortized to expense over
their estimated useful lives, while in-process research and development, if
any, is recorded as a one-time charge at the acquisition date.

Most of the companies we acquire do not have significant tangible assets and,
as a result, the majority of the purchase price is typically allocated to
identified intangible assets or goodwill, which increases future amortization
expense of identified intangible assets and the potential for impairment
charges that we may incur. Accordingly, the allocation of the purchase price
to intangible assets may have a significant impact on our future operating
results. In addition, the allocation of the purchase price requires that we
make significant assumptions and estimates, including estimates of future cash
flows expected to be generated by the acquired assets. Should different
conditions prevail, we may have to record impairment charges, which may have a
significant impact on our consolidated financial statements.

As of October 31, 2002, our annual impairment test indicated that goodwill was
not impaired; however, as of July 31, 2003, and for much of fiscal year 2003,
the market value of our common stock had declined to a point where our market
capitalization was below our net book value. Although our stock price has
recently increased to where our market capitalization exceeded our net book
value in early September 2003, this increase could reverse by year end. Based
on the weight of available evidence, we believe that events and circumstances
do not indicate the need to test goodwill impairment as of July 31, 2003;
however, should events and circumstances change, an interim goodwill impairment
test may be necessary prior to the annual test on October 31, 2003. Such
events and circumstances include a prolonged decline in our stock price and may
result in a future impairment loss that could have a significant impact on our
consolidated financial statements including a large non-cash charge to the
statement of operations.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

RESULTS OF OPERATIONS

Operating Results as a Percentage of Revenue

|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |       | 
|----------------------------------- | -------------------------------------------------- | ------------------------ | ---- | ------------------ | ----- | ----------------- | ---- | ---- | ----- | ---- | ----- | ---- | ----- |  | ---- | ---- | ----- | 
|                                    |                                                    |                          |      | Three Months Ended |       | Nine Months Ended
|                                    |                                                    |                          |      | July 31,           |       | July 31,         
|                                    |                                                    |                          |      |                    |       |                  
|                                    |                                                    |                          |      | 2003               |       | 2002              |      | 2003 |       | 2002
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |     
|Revenues:                           |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |     
|                                    | License fees                                       |                          |      | 76.1               | %     |                   |      | 79.1 | %     |      |       | 70.7 | %     |  |      | 77.7 | %    
|                                    | Services                                           |                          |      | 16.5               |       |                   |      | 14.7 |       |      |       | 21.2 |       |  |      | 15.8 |      
|                                    | Other                                              |                          |      | 7.4                |       |                   |      | 6.2  |       |      |       | 8.1  |       |  |      | 6.5  |      
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|                                    |                                                    | Total revenues           |      |                    | 100.0 |                   |      |      | 100.0 |      |       |      | 100.0 |  |      |      | 100.0 | 
|Cost of revenues                    |                                                    |                          | 14.2 |                    |       |                   | 11.7 |      |       |      | 15.5  |      |       |  | 12.6 |     
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|                                    | Gross profit                                       |                          |      | 85.8               |       |                   |      | 88.3 |       |      |       | 84.5 |       |  |      | 87.4 |      
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|Operating expenses:                 |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |     
|                                    | Sales and marketing                                |                          |      | 47.7               |       |                   |      | 52.4 |       |      |       | 60.3 |       |  |      | 57.3 |      
|                                    | General and administrative                         |                          |      | 12.4               |       |                   |      | 15.8 |       |      |       | 16.0 |       |  |      | 15.1 |      
|                                    | Product development and customer support           |                          |      | 14.2               |       |                   |      | 19.9 |       |      |       | 17.8 |       |  |      | 18.2 |      
|                                    | Amortization of intangibles                        |                          |      | 1.9                |       |                   |      | 1.8  |       |      |       | 2.3  |       |  |      | 1.4  |      
|                                    | Restructuring charge                               |                          |      | 1.8                |       |                   |      |     |       |      |       | 1.4  |       |  |      |     |      
|                                    | Purchased in-process research and development      |                          |      |                   |       |                   |      | 1.8  |       |      |       |     |       |  |      | 0.7  |      
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|                                    |                                                    | Total operating expenses |      |                    | 78.0  |                   |      |      | 91.7  |      |       |      | 97.8  |  |      |      | 92.7  | 
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|Operating income (loss)             |                                                    |                          | 7.8  |                    |       |                   | (3.4 | )    |       |      | (13.3 | )    |       |  | (5.3 | )   
|                                    | Interest income and expense and other expense, net |                          |      | 0.1                |       |                   |      | 0.6  |       |      |       | 0.3  |       |  |      | 0.9  |      
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|Earnings (loss) before income taxes |                                                    |                          | 7.9  |                    |       |                   | (2.8 | )    |       |      | (13.0 | )    |       |  | (4.4 | )   
|                                    | Income tax expense (benefit)                       |                          |      | 6.7                |       |                   |      | (1.8 | )     |      |       | (4.0 | )     |  |      | (1.9 | )    
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      
|Net earnings (loss)                 |                                                    |                          | 1.2  | %                  |       |                   | (1.0 | )%   |       |      | (9.0  | )    |       |  | (2.5 | )%  
|                                    |                                                    |                          |      |                    |       |                   |      |      |       |      |       |      |       |  |      |      |      

Revenues

Total Revenues.Total revenues increased 21.4% to $23,793 for the three months
ended July 31, 2003 from $19,606 for the same period in 2002. The increase was
due to the $2,597 increase in license fees revenues, the $1,038 increase in
services revenues and the $552 increase in other revenues.

Total revenues increased 7.6% to $54,717 for the nine months ended July 31,
2003 from $50,865 for the same period in 2002. The increase was due to the
$3,530 increase in services revenues and the $1,137 increase in other revenues,
offset by the $815 decrease in license fees revenues.

We closed 36 larger deals during the three months ended July 31, 2003, as
compared to 20 for the same period in 2002. For the 2003 period, we had 26
deals between $100 and $249 that aggregated approximately $4,400, and 10 deals
of $250 or more that totaled approximately $6,800. While these deals
contributed to this quarters revenue growth, they also significantly added to
our deferred revenue balances. For the 2002 period, we had 18 deals in $100 to
$249 range totaling approximately $2,800, and two deals of $250 or more that
equaled approximately
$900. The number and magnitude of these larger deals can have a significant
impact on our quarterly results.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

License Fees.Revenues from license fees increased 16.7% to $18,106 for the
three months ended July 31, 2003 from $15,509 for the same period in 2002. As
a percentage of total
revenues, license fees revenues were 76.1% for the three months ended July 31,
2003, down from 79.1% for the same period in 2002.

Revenues from license fees decreased 2.1% to $38,694 for the nine months ended
July 31, 2003 from $39,509 for the same period in 2002. As a percentage of
total revenues, license fees revenues were 70.7% for the nine months ended July
31, 2003, down from 77.7% for the same period in 2002.

License fees revenues decreased for the nine month period in 2003 compared to
the same period in 2002 due to funding delays and economic uncertainties,
particularly state budget difficulties, which significantly impacted the level
of purchasing done by our customers. While there has been improvement in the
flow of federal funds to education in the third quarter, which contributed to
the increase in license fees revenues for the three month period, these
conditions are expected to continue to impact our revenues for the remainder of
fiscal 2003 and into 2004.

In addition, we are experiencing an increasing shift away from perpetual
license sales and a growing customer desire to license our products on a
subscription basis. While this has a negative impact on revenues in the
short-term, it has positive implications for the longer term, including greater
predictability of future revenues. Sales of our subscription-based products
continue to grow. Our order intake for subscription products was $2,503 and
$5,376 for the three and nine months ended July 31, 2003, respectively, and we
recognized $1,806 and $5,197 of this ratable revenue during the same periods.
This compares to $1,800 and $3,943 of order intake and $1,124 and $2,563 of
recognized revenue for the same periods in 2002.

Our strategic acquisitions in the second half of 2002 contributed $565 and $165
of license fees revenues for the three months ended July 31, 2003 and 2002,
respectively. They accounted for $1,313 and $165 of license fees revenues for
the nine months ended July 31, 2003 and 2002, respectively.

Services.Revenues from services increased 36.0% to $3,918 for the three
months ended July 31, 2003 from $2,880 for the same period in 2002. As a
percentage of total revenues, services revenues were 16.5% for the three months
ended July 31, 2003 up from 14.7% for the same period in 2002.

Revenues from services increased 43.8% to $11,597 for the nine months ended
July 31, 2003 from $8,067 for the same period in 2002. As a percentage of total
revenues, services revenues were 21.2% for the nine months ended July 31, 2003
up from 15.8% for the same period in 2002.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

These revenue increases resulted from increased services to correlate
curriculum to standards and to aid in the professional development of teachers,
demonstrating the strategic value of our acquisitions in 2002, and from the
continued growth in customer acceptance of our training and technical support
services.

Our strategic acquisitions in the second half of 2002 contributed $117 and $404
of services revenues for the three months ended July 31, 2003 and 2002,
respectively. They accounted for $744 and $404 of services revenues for the
nine months ended July 31, 2003 and 2002, respectively.

Other.Other revenues, including hardware and third-party courseware products,
increased 45.4% to $1,769 for the three months ended July 31, 2003 from $1,217
for the same period in 2002. As a percentage of total revenues, other revenues
were 7.4% for the three months ended July 31, 2003 and 6.2% for the same period
in 2002.

Other revenues increased 34.6% to $4,426 for the nine months ended July 31,
2003 from $3,289 for the same period in 2002. As a percentage of total
revenues, other revenues were 8.1% for the nine months ended July 31, 2003 and
6.5% for the same period in 2002.

These revenue increases were primarily due to an increased level of hardware
sales, especially those necessary to satisfy a contract with a previous
NetSchools customer.

Cost of Revenues

Total cost of revenues increased 47.6% to $3,378 for the three months ended
July 31, 2003 from $2,289 for the same period in 2002. Total cost of revenues
increased 32.0% to $8,462 for the nine months ended July 31, 2003 from $6,412
for the same period in 2002. These increases were primarily due to the changes
in revenue discussed above, primarily the increased hardware sales and
secondarily the increase in services revenues.

Gross profit margin was 85.8% for the three months ended July 31, 2003, down
from 88.3% for the same period in 2002. Gross profit margin was 84.5% for the
nine months ended July 31, 2003, down from 87.4% for the same period in 2002.

The gross profit margin calculation excludes customer support costs and the
amortization of capitalized product development costs which are presented in
operating expenses. These decreases in gross profit margin resulted primarily
from the higher proportion of other revenues included in our product sales mix
in 2003. Future gross profit margin will be dependent primarily on our revenue
mix.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Operating Expenses

Sales and Marketing.Sales and marketing expenses increased 10.5% to $11,364
for the three months ended July 31, 2003 from $10,281 for the same period in
2002. As a percentage of total revenues, sales and marketing expenses were
47.7% for the three months ended July 31, 2003, down from 52.4% for the same
period in 2002.

Sales and marketing expenses increased 13.1% to $33,008 for the nine months
ended July 31, 2003 from $29,175 for the same period in 2002. As a percentage
of total revenues, sales and marketing expenses were 60.3% for the nine months
ended July 31, 2003, up from 57.3% for the same period in 2002.

For the three month period, sales and marketing expenses increased primarily
due to increased commissions resulting from the growth in revenue. For the
nine month period, the increased expenses resulted from a number of factors
including increased headcount from the NetSchools acquisition in the second
half of 2002, additional investment in sales and marketing on the East Coast of
the United States, increased marketing costs necessary to generate our future
revenue growth, and additions to our infrastructure necessary to grow our
business over the long-term. Sales and marketing expenses in 2003 are expected
to increase compared to 2002 given our expectations that these efforts will
generate revenue growth. Our ability to continue to leverage our cost
structure and improve profitability is primarily dependent on our ability to
generate higher revenues, integrate our acquisitions and realize sales force
productivity improvements.

General and Administrative. General and administrative expenses decreased 4.6%
to $2,950 for the three months ended July 31, 2003 from $3,091 for the same
period in 2002. As a percentage of total revenues, general and administrative
expenses were 12.4% for the three months ended July 31, 2003, down from 15.8%
for the same period in 2002.

General and administrative expenses increased 14.1% to $8,754 for the nine
months ended July 31, 2003 from $7,673 for the same period in 2002. As a
percentage of total revenues, general and administrative expenses were 16.0%
for the nine months ended July 31, 2003, up from 15.1% for the same period in
2002.

The increased general and administrative expenses for the nine month period
resulted from a number of factors including increased headcount from the
NetSchools acquisition in the second half of 2002, increased insurance and
professional services costs resulting from the changing regulatory environment,
and additions to our infrastructure, including the installation of a new
enterprise resource planning system, and, most recently, a customer
relationship management (CRM) system which will help grow our business over the
long-term. We continue to believe the benefits from this infrastructure
investment will increase controls and generate increased revenues in the
future. Our ability to continue to leverage our cost structure and improve
profitability is primarily dependent on our ability to generate higher
revenues, integrate our acquisitions and realize sales force productivity
improvements.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Product Development and Customer Support. Product development and customer
support expenses decreased 13.3% to $3,379 for the three months ended July 31,
2003 from $3,899 for the same period in 2002. As a percentage of total
revenues, product development and customer
support expenses were 14.2% for the three months ended July 31, 2003, down from
19.9% for the same period in 2002.

Product development and customer support expenses increased 4.9% to $9,713 for
the nine months ended July 31, 2003 from $9,257 for the same period in 2002.
As a percentage of total revenues, product development and customer support
expenses were 17.8% for the nine months ended July 31, 2003, down from 18.2%
for the same period in 2002.

The decrease for the three month period resulted from the completion of certain
projects and the consolidation of our product development groups. The increase
for the nine month period reflects our increased spending to enhance and
replace certain existing courseware products and to develop a new
standards-based reference network. As part of our growth strategy, we intend
to continually introduce new products and product improvements. The extent of
our future product development spending and the amount of our future
capitalized product development costs and related amortization are dependent on
our ability to develop and introduce new products and product improvements on a
cost-effective and timely basis.

Capitalized development costs were $1,725 and $4,893 for the three and nine
months ended July 31, 2003, respectively, compared to $1,752 and $5,014 for the
same periods in 2002. Amortization of previously capitalized development costs
was $1,578 and $4,202 for the three and nine months ended July 31, 2003,
respectively, up from $1,066 and $3,006 for the same periods in 2002, as
projects completed during prior periods are now being amortized to expense. We
expect amortization to increase throughout 2003 as additional products are
completed, and, as a result, product development expense is expected to
increase throughout the remainder of fiscal 2003.

Amortization of Intangibles. Amortization expense increased $107 and $565 for
the three and nine months ended July 31, 2003, respectively, as compared to
2002, as a result of the NetSchools and Learning Elements acquisitions in the
second half of 2002.

Restructuring Charge. In May 2003, we replaced our Managing Director of
operations in the United Kingdom, and severed relationships with two senior
executives (our Chief Operating Officer and a co-founder of NetSchools) and
three other employees. The consolidated statement of operations for the three
months ended July 31, 2003 included a restructuring charge of $422 for
severance costs related to this action. As of July 31, 2003, approximately
$210 of these severance costs have been paid, with the remaining costs expected
to be paid by August 2004. In December 2002, we reduced the size of our
workforce by approximately 30 positions and closed approximately 30 open job
requisitions, all in the United States, which together represented
approximately 10% of our planned workforce. The consolidated statement of
operations for the three months ended January 31, 2003 included a restructuring
charge of $380 for severance costs
related to this reduction. Substantially all of these severance costs were
paid as of January 31, 2003.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Interest Income

Interest income was $83 and $295 for the three and nine months ended July 31,
2003 and $171 and $728 for the same periods in 2002. The decreased interest
income is due to lower invested
balances at lower interest rates as compared to 2002. Invested balances
decreased due to cash being used for our acquisitions in 2002 and our stock
repurchases in 2003.

Income Taxes

Our consolidated effective income tax rate for the three months ended July 31,
2003 was 84.9%, compared to 63.6% for the same period in 2002. Our
consolidated effective income tax rate for the nine months ended July 31, 2003
was 30.7%, compared to 43.6% for the same period in 2002. Our consolidated
effective tax rate for the third quarter increased significantly due to our
actual operating results and changes in the outlook for each of our taxable
jurisdictions. Our United Kingdom subsidiary incurred a loss for the three and
nine months ended July 31, 2003, and we expect a loss there for the fiscal
year. As discussed in our Critical Accounting Policies under Deferred Income
Tax Asset, these losses in the United Kingdom are fully reserved and provide
no benefit to our consolidated effective tax rate. The effective tax rate in
the United States is expected to be in the low to mid 40% range. However,
since our consolidated results include the losses from the United Kingdom that
provide no recorded tax benefit, the consolidated effective rate will likely be
different. With this, and the expected profit in the United States, our 2003
consolidated annual effective tax rate will likely be in excess of 100% if we
have consolidated pretax income for our fiscal year. If we incur a
consolidated pretax loss for the fiscal year, we could still be required to
record tax expense, or perhaps a smaller than normal tax benefit. As was the
case for fiscal year 2002, our annual effective tax rate will be highly
dependent upon the taxable income in each of our taxable jurisdictions, which
has had and will continue to have an erratic effect on our interim results and
make estimating an annual effective tax rate difficult.

FINANCIAL CONDITION

Liquidity and Capital Resources

At July 31, 2003, our principal sources of liquidity included cash and cash
equivalents of $26,916, net accounts receivable of $33,613, and our unused line
of credit.

Working capital was $37,671 at July 31, 2003 and $44,088 at October 31, 2002.
Cash and cash equivalents decreased $3,474 during the nine month period as cash
was used for product development, capital expenditures and stock repurchases.
Our current deferred tax asset increased $2,185 due to the income tax benefit
recorded for the current year-to-date loss in the
United States. Current deferred revenue increased $5,372 from year-end as a
result of increased sales of our services and subscription-based products, as
explained previously. We expect deferred revenues to continue to increase as
sales of these products increase.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Cash flows from operations were used principally to fund our working capital
requirements. Net cash provided by operating activities was $5,250 and $448
for the nine months ended July 31, 2003 and 2002, respectively. Contributing
to this increase in cash flows from operations was the increase in deferred
revenues explained earlier.

Net cash used in our investing activities was $6,435 and $16,916 for the nine
months ended July 31, 2003 and 2002, respectively. In 2003, as compared to
2002, we decreased our capital expenditures by $1,050, primarily because we
purchased and installed a new enterprise resource planning system in 2002.
Additionally, in 2003 we purchased a new customer relationship management (CRM)
system. At July 31, 2003, we had no material commitments for capital
expenditures. In addition, in 2002, we used $9,310 of cash for the acquisition
of NetSchools.

Net cash used in our financing activities was $2,306 and $12,411 for the nine
months ended July 31, 2003 and 2002, respectively. In 2003, we repurchased
458,000 shares of our common stock for an aggregate cost of $2,161. In 2002,
we repurchased 953,000 shares for an aggregate cost of $11,089. A stock
repurchase plan was approved by our Board of Directors in December 2001 which
authorizes us to repurchase up to $15,000 of our common stock in the open
market and in privately negotiated transactions. The plan has no set
termination date and the timing of any repurchases will be dependent on
prevailing market conditions and alternative uses of capital. Cumulatively, we
have repurchased approximately 1,446,000 shares for an aggregate cost of
approximately $13,500 under the repurchase plan and approximately $1,500
remains available for future repurchases, if any. In addition, in 2002, we
received approximately $1,277 from the exercise of stock options and warrants
and paid $2,366 to retire bank debt assumed with the NetSchools acquisition.

We have resources available under our revolving loan agreement, which expires
on July 1, 2004, to provide borrowings up to $12,500, as determined by the
available borrowing base. At July 31, 2003, there were no borrowings
outstanding and our unused borrowing capacity was $12,500. The agreement
contains restrictive financial covenants (including Minimum Tangible Net Worth,
Minimum Debt Service Coverage, Maximum Leverage, Maximum Cash Flow Leverage,
Minimum Current Ratio, and Maximum Annual Capital Expenditures) and
restrictions on additional borrowings, asset sales and dividends, as defined.
We did not comply with the Minimum Debt Service Coverage covenant for the
period ended July 31, 2003 and we have received a waiver from our lender
covering this noncompliance for such period.

From time to time, we evaluate potential acquisitions of products or businesses
that complement our core business. We may consider and acquire other
complementary businesses, products, or technologies in the future.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

We maintain adequate cash balances and credit facilities to meet our
anticipated working capital, capital expenditure and business investment
requirements for the foreseeable future.

Disclosures about Contractual Obligations and Commercial Commitments

Our contractual obligations and commercial commitments consist of future
payments due under capital lease obligations and operating leases, and our line
of credit.

|                          |  |                             |       |      |  |      |       |      |  |         |       |         |  |       |       |  |  |   |       | 
|------------------------- |  | --------------------------- | ----- | ---- |  | ---- | ----- | ---- |  | ------- | ----- | ------- |  | ----- | ----- |  |  | - | ----- | 
|                          |  | Payments Due by Fiscal Year
|                          |  |                            
|                          |  |                             |       |      |  |      |       |      |  | 2004 to |       | 2007 to |  | After
|Contractual Obligations   |  | Total                       |       | 2003 |  | 2006 |       | 2008 |  | 2008   
|                          |  |                             |       |      |  |      |       |      |  |        
|Capital lease obligations |  | $                           | 892   |      |  | $    | 325   |      |  | $       | 502   |         |  | $     | 65    |  |  | $ |      | 
|Operating leases          |  |                             | 7,499 |      |  |      | 2,372 |      |  |         | 2,194 |         |  |       | 1,272 |  |  |   | 1,661 | 
|                          |  |                             |       |      |  |      |       |      |  |         |       |         |  |       |       |  |  |   |       | 
|Total                     |  | $                           | 8,391 |      |  | $    | 2,697 |      |  | $       | 2,696 |         |  | $     | 1,337 |  |  | $ | 1,661 | 
|                          |  |                             |       |      |  |      |       |      |  |         |       |         |  |       |       |  |  |   |       | 

Our revolving loan agreement provides for a maximum $12,500 line of credit. In
January 2003, we amended this agreement to extend the term through July 1,
2004. For further information regarding our revolving loan agreement, refer to
Note 9 of Notes to Consolidated Financial Statements included in our Annual
Report on Form 10-K for the fiscal year ended October 31, 2002.

Factors Affecting Quarterly Operating Results

Our quarterly operating results fluctuate as a result of a number of factors
including the business and sales cycle, the amount and timing of new product
introductions, client spending patterns, budget cycles and fiscal year ends and
promotional programs. The current budget difficulties facing many states may
have a significant impact on future revenues; however, we believe they will not
have a significant impact on the collection of our accounts receivable. A
change in the underlying conditions contributing to our belief could impact our
assessment of collectibility and, therefore, require a change in the allowance
for doubtful accounts and the amount of bad debt expense. We historically have
experienced our lowest revenues in the first quarter and increasingly higher
levels of revenues in each of the next three quarters. Because of these
factors, the results for the interim periods presented are not necessarily
indicative of the results to be expected for the full fiscal year.

Interest Rate Risk

Our borrowing capacity primarily consists of a revolving credit facility with
interest rates that fluctuate based upon market indexes. At July 31, 2003, we
did not have any outstanding borrowings under this revolving credit facility.
Our only debt consisted of capital lease obligations at fixed interest rates.
As a result, risk relating to interest fluctuation is considered minimal.

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PLATO Learning, Inc.
Managements Discussion and Analysis of Results of
Operations and Financial Condition
(Dollars in thousands, except per share amounts)

Foreign Currency Exchange Rate Risk

We market our products and services worldwide and have operations in Canada and
the United Kingdom. As a result, financial results and cash flows could be
affected by changes in foreign currency exchange rates or weak economic
conditions in foreign markets. Working funds necessary to facilitate the
short-term operations of our foreign subsidiaries are kept in local currencies
in which they do business. Approximately 2.8% and 8.4% of our total revenues
for the three months ended July 31, 2003 and 2002, respectively, and
approximately 2.7% and 8.2% of our total revenues for the nine months ended
July 31, 2003 and 2002, respectively, were denominated in currencies other than
the U.S. dollar.

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PART I






|Item 3. |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
|------- |  | ----------------------------------------------------------

See the information set forth under the captions, Interest Rate Risk and
Foreign Currency Exchange Rate Risk in Managements Discussion and Analysis
of Results of Operations and Financial Condition.






|Item 4. |  | CONTROLS AND PROCEDURES
|------- |  | -----------------------

Within 90 days of the filing of this quarterly report on Form 10-Q, our Chief
Executive Officer and Chief Financial Officer have conducted an evaluation of
the effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Exchange Act Rule 13a-14 and 15d-14. Based on that
evaluation, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures are effective to make known to them
in a timely fashion material information related to us required to be filed in
this report.

From the date of that evaluation to the date of this quarterly report, there
have been no significant changes in our disclosure controls or in other factors
that could significantly affect our disclosure controls after the date of that
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses.

Our management, including the Chief Executive Officer and Chief Financial
Officer, does not expect that our disclosure controls and procedures will
prevent all error and all fraud. A control system, no matter how well designed
and operated, can provide only reasonable, not absolute, assurance that the
control systems objectives will be met. Because of the inherent limitations in
all control systems, no evaluation of controls can provide absolute assurance
that all control issues and instances of fraud, if any, within the company have
been detected. These inherent limitations include the realities that judgments
in decision-making can be faulty, that breakdowns can occur because of simple
error or mistake, and that controls can be circumvented by the individual acts
of some persons or by collusion of two or more people. Because of the inherent
limitations in a control system, misstatements due to error or fraud may occur
and not be detected.

While we believe the present design of our disclosure controls and procedures
is effective to make known to our senior management in a timely fashion all
material information concerning our business, over time, controls may become
inadequate because of changes in conditions or deterioration in the degree of
compliance with its policies or procedures. We will continue to improve the
design and effectiveness of our disclosure controls and procedures to the
extent necessary in the future to provide our senior management with timely
access to such material information, and to correct any deficiencies that we
may discover in the future.

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##### Table of Contents






PART II. OTHER INFORMATION






|Item 1. |  | Legal Proceedings                                                                                                                                
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------
|       
|        |  | We are not a party to any litigation that is expected to have a
material adverse effect on our business or our consolidated
financial statements.






|Item 2. |  | Changes in Securities and Use of Proceeds
|------- |  | -----------------------------------------
|       
|        |  | Not Applicable.                          






|Item 3. |  | Defaults Upon Senior Securities
|------- |  | -------------------------------
|       
|        |  | Not Applicable.                






|Item 4. |  | Submission of Matters to a Vote of Security Holders
|------- |  | ---------------------------------------------------
|       
|        |  | Not Applicable.                                    






|Item 5. |  | Other Information
|------- |  | -----------------
|       
|        |  | Not Applicable.  






|Item 6. |  | Exhibits and Reports on Form 8-K
|------- |  | --------------------------------
|       
|        |  | (a) Exhibits                    

| |      |  |  |                                                                                                    
| | ---- |  |  | ---------------------------------------------------------------------------------------------------
| | 31.1 |  |  | Certification of Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
| |      |  |  |                                                                                                    
| | 31.2 |  |  | Certification of Chief Financial Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
| |      |  |  |                                                                                                    
| | 32.1 |  |  | Certification of Chief Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
| |      |  |  |                                                                                                    
| | 32.2 |  |  | Certification of Chief Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.



| | (b) Reports on Form 8-K:                                                                                     
| | -------------------------------------------------------------------------------------------------------------
|
| | On June 3, 2003, we filed a Current Report on Form 8-K to announce our
second quarter 2003 financial results.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized on September 15, 2003.

| |  |                      |  |                                         
| |  | -------------------- |  | ----------------------------------------
| |  | PLATO LEARNING, INC.
| |  |                      |  |                                         
| |  | By                   |  | /s/ John Murray                         
| |  |                      |  |                                         
| |  |                      |  | President and                           
| |  |                      |  | Chief Executive Officer                 
| |  |                      |  | (principal executive officer)           
| |  |                      |  |                                         
| |  |                      |  | /s/ Gregory J. Melsen                   
| |  |                      |  |                                         
| |  |                      |  | Vice President Finance and              
| |  |                      |  | Chief Financial Officer                 
| |  |                      |  | (principal financial officer)           
| |  |                      |  |                                         
| |  |                      |  | /s/ Mary Jo Murphy                      
| |  |                      |  |                                         
| |  |                      |  | Vice President, Corporate Controller and
| |  |                      |  | Chief Accounting Officer                
| |  |                      |  | (principal accounting officer)          

31