UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

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

Commission File Number: 001-34575

Cambium Learning Group, Inc.

(Exact name of registrant as specified in its charter)

Delaware (State or Other Jurisdiction of Incorporation or Organization)		27-0587428 (I.R.S. Employer Identification No.)
1800 Valley View Lane, Suite 400, Dallas, Texas		75234-8923
(Address of Principal Executive Offices)		(Zip Code)

Registrant’s telephone number, including area code: (214) 932-9500

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 þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

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

Large accelerated filer o		Accelerated filer o		Non-accelerated filer þ		Smaller reporting company o
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

The number of shares of the registrant’s common stock, $0.001 par value per share, outstanding as of October 31, 2010 was 43,868,676.

 

 

TABLE OF CONTENTS

		Page
PART I FINANCIAL INFORMATION
Item 1. Financial Statements			3
Condensed Consolidated Statements of Operations (Unaudited) for the Three Months and Nine Months Ended September 30, 2010 and September 30, 2009			3
Condensed Consolidated Balance Sheets as of September 30, 2010 (Unaudited) and December 31, 2009			4
Condensed Consolidated Statements of Cash Flows (Unaudited) for the Nine Months Ended September 30, 2010 and September 30, 2009			6
Notes to the Condensed Consolidated Financial Statements (Unaudited)			7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			22
Item 3. Quantitative and Qualitative Disclosures About Market Risk			41
Item 4. Controls and Procedures			41
PART II OTHER INFORMATION			41
Item 1. Legal Proceedings			41
Item 1A. Risk Factors			42
Item 6. Exhibits			43
SIGNATURE PAGE			44
EXHIBITS			45
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

Part I. Financial Information

Item 1. Financial Statements.

Cambium Learning Group, Inc. and Subsidiaries

Condensed Consolidated Statements of Operations

(In thousands, except per share data)

(Unaudited)

		Three Months Ended								Nine Months Ended
		September 30,				September 30,				September 30,				September 30,
		2010				2009				2010				2009
Net sales		$	56,607			$	40,972			$	132,730			$	77,742
Cost of sales:
Cost of sales			18,021				10,682				44,550				20,969
Amortization expense			7,096				4,195				21,083				12,507
Total cost of sales			25,117				14,877				65,633				33,476
Research and development expense			2,543				1,558				8,116				4,117
Sales and marketing expense			11,966				5,396				34,199				15,883
General and administrative expense			5,608				5,176				19,151				13,399
Shipping costs			1,122				724				2,834				1,314
Depreciation and amortization expense			2,085				2,359				7,022				7,103
Goodwill impairment			—				—				—				9,105
Embezzlement and related expense (recoveries)			21				(74	)			51				(195	)
Total costs and expenses			48,462				30,016				137,006				84,202
Income (loss) before interest, other income (expense)and income taxes			8,145				10,956				(4,276	)			(6,460	)
Net interest expense			(4,478	)			(4,991	)			(13,460	)			(14,534	)
Other income (expense), net			271				(154	)			176				(359	)
Income (loss) before income taxes			3,938				5,811				(17,560	)			(21,353	)
Income tax benefit (expense)			8				(1,373	)			(111	)			5,043
Net income (loss)		$	3,946			$	4,438			$	(17,671	)		$	(16,310	)
Net income (loss) per common share:
Basic net income (loss) per common share		$	0.09			$	0.22			$	(0.40	)		$	(0.80	)
Diluted net income (loss) per common share		$	0.09			$	0.22			$	(0.40	)		$	(0.80	)
Average number of common shares and equivalents outstanding:
Basic			44,324				20,493				44,322				20,493
Diluted			44,395				20,493				44,322				20,493

The accompanying Notes to the Condensed Consolidated Financial Statements are an integral part of these statements.

Cambium Learning Group, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(In thousands, except per share data)

		September 30,				December 31,
		2010				2009
		(unaudited)
ASSETS
Current assets:
Cash and cash equivalents		$	5,838			$	13,345
Accounts receivable, net			34,073				19,127
Inventory			23,594				19,812
Deferred tax assets			6,267				6,267
Restricted assets, current			3,177				9,755
Other current assets			5,147				6,010
Total current assets			78,096				74,316
Property, equipment and software at cost			30,213				24,951
Accumulated depreciation and amortization			(7,111	)			(4,294	)
Net property, equipment and software			23,102				20,657
Goodwill			151,915				151,915
Acquired curriculum and technology intangibles, net			35,901				44,695
Acquired publishing rights, net			42,108				52,312
Other intangible assets, net			23,569				28,133
Pre-publication costs, net			7,281				5,464
Restricted assets, less current portion			12,935				14,930
Other assets			13,428				1,419
Total assets		$	388,335			$	393,841

The accompanying Notes to the Condensed Consolidated Financial Statements are an integral part of these statements.

Cambium Learning Group, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(In thousands, except per share data)

		September 30,				December 31,
		2010				2009
		(unaudited)
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Notes payable — line of credit		$	11,200			$	5,000
Current portion of long-term debt			1,280				1,280
Current portion of capital lease obligations			359				443
Accounts payable			5,354				2,308
Contingent value rights, current			2,847				3,950
Accrued expenses			19,951				23,920
Deferred revenue, current			30,156				21,465
Total current liabilities			71,147				58,366
Long-term liabilities:
Long-term debt, less current portion			151,112				150,487
Capital lease obligations, less current portion			12,424				12,695
Deferred revenue, less current portion			3,145				2,716
Contingent value rights, less current portion			5,746				5,649
Other liabilities			21,841				24,156
Total long-term liabilities			194,268				195,703
Commitments and contingencies (See Note 14)
Stockholders’ equity:
Preferred stock ($.001 par value, 15,000 shares authorized, zero shares issued and outstanding at September 30, 2010 and December 31, 2009)			—				—
Common stock ($.001 par value, 150,000 shares authorized, 43,869 and 43,859 shares issued and outstanding at September 30, 2010 and December 31, 2009, respectively)			44				44
Capital surplus			259,608				258,789
Accumulated deficit			(136,939	)			(119,268	)
Other comprehensive income (loss):
Pension and postretirement plans			206				206
Net unrealized gain on securities			1				1
Accumulated other comprehensive income			207				207
Total stockholders’ equity			122,920				139,772
Total liabilities and stockholders’ equity		$	388,335			$	393,841

The accompanying Notes to the Condensed Consolidated Financial Statements are an integral part of these statements.

Cambium Learning Group, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

		Nine Months Ended
		September 30,				September 30,
		2010				2009
Operating activities:
Net loss		$	(17,671	)		$	(16,310	)
Adjustments to reconcile net loss to net cash (used in) provided by operating activities:
Depreciation and amortization expense			28,105				19,610
Goodwill impairment			—				9,105
Non-cash interest expense			1,585				1,711
Gain on derivative instruments			(992	)			(921	)
Change in fair value of contingent value rights obligation			100				—
Loss on disposal of assets			38				—
Stock-based compensation			778				—
Deferred income taxes			(606	)			(5,231	)
Changes in operating assets and liabilities:
Accounts receivable, net			(14,946	)			(11,090	)
Inventory			(3,782	)			3,050
Other current assets			863				(435	)
Other assets			(12,009	)			1,421
Restricted assets			8,573				—
Accounts payable			3,046				(1,328	)
Accrued expenses			(2,977	)			2,749
Deferred revenue			9,120				(266	)
Other long-term liabilities			(1,638	)			(374	)
Other, net			—				(3	)
Net cash (used in) provided by operating activities			(2,413	)			1,688
Investing activities:
Cash paid for acquisitions (See Note 5)			(1,106	)			—
Expenditures for property, equipment, and pre-publication costs			(8,843	)			(2,269	)
Net cash used in investing activities			(9,949	)			(2,269	)
Financing activities:
Repayment of debt			(960	)			(5,060	)
Principal payments under capital lease obligations			(355	)			(202	)
Borrowings under revolving credit agreement			19,000				10,000
Payment of revolving credit facility			(12,800	)			—
Proceeds from capital contributions			—				2,959
Return of pre-merger member contributions			(30	)			—
Net cash provided by financing activities			4,855				7,697
Increase (decrease) in cash and cash equivalents			(7,507	)			7,116
Cash and cash equivalents, beginning of period			13,345				2,418
Cash and cash equivalents, end of period		$	5,838			$	9,534

The accompanying Notes to the Condensed Consolidated Financial Statements are an integral part of these statements.

Cambium Learning Group, Inc. and Subsidiaries

Note 1 — Basis of Presentation

Cambium Learning Group, Inc. Cambium Learning Group, Inc. (the “Company” or “we”) was incorporated under the laws of the State of Delaware in June 2009. On December 8, 2009, the Company completed the mergers of Voyager Learning Company (“VLCY”) and VSS-Cambium Holdings II Corp. (“Cambium”) into two of the Company’s wholly-owned subsidiaries, resulting in VLCY and Cambium becoming its wholly-owned subsidiaries. Following the completion of the mergers, all of the outstanding capital stock of VLCY’s operating subsidiaries, Voyager Expanded Learning, Inc. and LAZEL, Inc., were transferred to Cambium Learning, Inc., Cambium’s operating subsidiary (“Cambium Learning”).

The transaction was accounted for as an “acquisition” of VLCY by Cambium, as that term is used under generally accepted accounting principles in the United States of America (“GAAP”), for accounting and financial reporting purposes under the applicable accounting guidance for business combinations. In making this determination, management considered that (a) the newly developed entity did not have any significant pre-combination activity and, therefore, did not qualify to be the accounting acquirer and (b) the former sole stockholder of Cambium is the majority holder of the combined entity, while the prior owners of VLCY became minority holders in the combined entity. As a result, the historical financial statements of Cambium have become the historical financial statements of the Company.

Presentation. The Condensed Consolidated Financial Statements include the accounts of the Company and are unaudited. The condensed balance sheet as of December 31, 2009 has been derived from audited financial statements. All intercompany transactions are eliminated.

As permitted under the Securities and Exchange Commission (“SEC”) requirements for interim reporting, certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been omitted. The Company believes that these financial statements include all necessary and recurring adjustments for the fair presentation of the interim period results. These financial statements should be read in conjunction with the Consolidated Financial Statements and related notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2009. Due to seasonality, the results of operations for the three months and nine months ended September 30, 2010 are not necessarily indicative of the results to be expected for the year ending December 31, 2010.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Subsequent actual results may differ from those estimates.

Nature of Operations. The Company currently operates in three business segments: Voyager, a comprehensive intervention business; Sopris, a supplemental solutions business; and Cambium Learning Technologies, a technology-based education product business. Prior to the merger transaction completed on December 8, 2009, the Company had two reportable segments: Published Products and Learning Technologies.

Note 2 — Accounts Receivable

Accounts receivable are stated net of allowances for doubtful accounts and estimated sales returns. The allowance for doubtful accounts and estimated sales returns totaled $0.8 million at September 30, 2010, compared to $0.3 million at December 31, 2009. The allowance for doubtful accounts is based on a review of the outstanding accounts receivable balances and historical collection experience. The reserve for sales returns is based on historical rates of return as well as other factors that in the Company’s judgment could reasonably be expected to cause sales returns to differ from historical experience.

Note 3 — Stock-Based Compensation

The total amount of pre-tax expense for stock-based compensation recognized in the three and nine month periods ended September 30, 2010 was $0.2 million and $0.8 million, respectively. No stock based compensation expense was recorded in the comparable periods in 2009. The stock based compensation expense recorded was allocated as follows:

		Three Months Ended				Nine Months Ended
(in thousands)		September 30, 2010				September 30, 2010
Cost of sales		$	14			$	44
Research and development expense			30				93
Sales and marketing expense			34				102
General and administrative expense			167				539
Total		$	245			$	778

On January 27, 2010, the Company granted 1,644,762 options under the Cambium Learning Group, Inc. 2009 Equity Incentive Plan (the “Plan”) with a total grant date fair value, net of forecasted forfeitures, of $1.8 million. Seventy-five percent of these options have a per-share exercise price equal to $4.50 and twenty-five percent of these options have an exercise price equal to $6.50. These options vest equally over a four year service period and the term of the options is ten years from the date of grant. The following assumptions were used in the Black-Scholes option-pricing model to estimate the fair value of these awards:

		Quarter Ended
		March 31, 2010
Expected stock volatility			35.00	%
Risk-free interest rate			2.87	%
Expected years until exercise			6.25
Dividend yield			0.00	%

On May 25, 2010, the Company granted 110,000 options under the Plan with a total grant date fair value, net of forecasted forfeitures, of $0.2 million. Seventy-five percent of these options have a per-share exercise price equal to $4.81 and twenty-five percent of these options have an exercise price equal to $6.50. These options vest annually over a four-year service period and the term of the options is ten years from the date of grant. The following assumptions were used in the Black-Scholes option-pricing model to estimate the fair value of these awards:

		Quarter Ended
		June 30, 2010
Expected stock volatility			35.00	%
Risk-free interest rate			2.40	%
Expected years until exercise			6.25
Dividend yield			0.00	%

There was no stock option activity in the third quarter of 2010.

Due to a lack of exercise history or other means to reasonably estimate future exercise behavior, the Company used the simplified method as described in applicable accounting guidance for stock based compensation to estimate the expected years until exercise on new awards.

Restricted common stock awards of 6,000 and 4,000 shares were issued during the first and second quarters of 2010, respectively. The restrictions on the common stock awards will lapse one year from the anniversary of the grant date or upon a change in control of the Company for the 6,000 share grant and equally over a four-year period on the anniversary of the grant date or upon a change in control of the Company for the 4,000 share grant. These awards were valued based on the Company’s closing stock price on the date of grant.

During the quarter ended March 31, 2010, 105,910 conversion stock options, which had been issued in replacement of share-based awards held by employees of VLCY, were cancelled. Additionally, during the nine months ended September 30, 2010, 135,000 of the options granted on January 27, 2010 were forfeited. There was no impact to expense during the period as a result of these forfeitures.

Note 4 — Net Income (Loss) per Common Share

Basic net income (loss) per common share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during the period. Diluted net income (loss) per common share is computed by dividing net income (loss) by the weighted-average number of common shares outstanding during the period, including the potential dilution that could occur if all of the Company’s outstanding stock awards that are in-the-money were exercised, using the treasury stock method. A reconciliation of the weighted-average number of common shares and equivalents outstanding used in the calculation of basic and diluted net income (loss) per common share is shown in the table below for the periods indicated:

		Three Months Ended								Nine Months Ended
		September 30,				September 30,				September 30,				September 30,
(Shares in thousands)		2010				2009				2010				2009
Basic			44,324				20,493				44,322				20,493
Dilutive effect of awards			71				—				—				—
Diluted			44,395				20,493				44,322				20,493
Antidilutive securities:
Options			3,770				—				3,770				—
Warrants			—				—				72				—

Note 5 — Acquisitions

Acquisition of Voyager Learning Company

On December 8, 2009, the Company acquired VLCY and its subsidiaries. The Company determined that the merger could capitalize upon potential strategic, operational and financial synergies to generate significant cash flow and strengthen the leadership position of Cambium and VLCY in education solutions for the pre-K-12 market. In reaching its decision to acquire VLCY, which resulted in the recognition of $44.6 million of goodwill, there were a number of reasons why the Company believed the acquisition would be beneficial. These potential benefits include:

	•		Capitalizing on the complementary nature of the companies’ products to enhance certain products with minimal development costs, achieve critical mass in certain markets, facilitate the cross-selling of each other’s products to established customers, and expand sales and marketing reach.
	•		Leveraging the companies’ combined implementation services and robust technological capabilities.
	•		Combining two experienced management teams to spread “best practices,” attract leading authors and programs, and acquire additional product lines and business as opportunities arise.
	•		Increasing sales into existing and new markets of certain products through complementary sales channels.

The acquisition was accounted for as a purchase transaction. The historical financial statements of the Company include the results of VLCY from December 8, 2009, the date of acquisition. The purchase price was allocated among tangible and intangible assets acquired and liabilities assumed based on fair values at the transaction date. The excess of the purchase price over the acquired tangible and intangible assets and liabilities was recorded as goodwill. The Company acquired the stock of VLCY and, therefore, the additional goodwill resulting from this transaction is not expected to be tax deductible. Acquisition costs of zero and $2.1 million for the three month periods ended September 30, 2010 and 2009, respectively, and zero and $8.0 million for the nine month periods ended September 30, 2010 and 2009, respectively, are included in general and administrative expenses in the Condensed Consolidated Statements of Operations.

Consideration to the VLCY shareholders consisted of:

•

at the election of the stockholder, either,

	•		one share of Company common stock, or
	•		$6.50 in cash, limited to a maximum of $67.5 million in the aggregate and prorated in accordance with the merger agreement;

•

plus, regardless of the election made,

	•		an amount in cash equal to the amount of certain tax refunds specified in the merger agreement and received by VLCY prior to the closing of the mergers (reduced by the amount of the VLCY tax refunds contractually required to be placed in escrow at closing), divided by the total number of shares of VLCY common stock outstanding immediately prior to the effective time of the mergers; plus
	•		a Contingent Value Right (“CVR”) to receive cash in an amount equal to the aggregate amount of specified tax refunds received after the closing of the mergers and various other amounts deposited in escrow on or after the closing date, reduced by any payments to be made under the escrow agreement entered into in connection with the mergers, with respect to agreed contingencies, a potential working capital adjustment and allowed expenses, divided by the total number of shares of VLCY common stock outstanding immediately prior to the effective time of the mergers.

As of September 30, 2010, a fair value of $8.6 million has been recorded as a liability for the remaining CVR payments and $1.1 million has been distributed to the escrow agent for distribution to holders of the CVRs. During the third quarter of 2010, a loss of $0.1 million was recorded in general and administrative expense to reflect an increase in the estimated fair value of the CVR liability. The ultimate value of the CVRs is not known at this time; however, it is not expected to be more than $11 million and could be as low as the $1.1 million already distributed. The determination of fair value of the CVRs involves significant assumptions and estimates regarding the likelihood, amount and timing of cash flows related to the elements of the CVRs. Future changes in the estimate of the fair value of the CVRs will impact results of operations and could be material. As of September 30, 2010, restricted assets in an escrow account for the benefit of the CVRs were $4.0 million.

Additionally, pursuant to the merger, a share-based award held by the Chief Executive Officer of VLCY was required to be converted into rights or options for shares of the Company with the same terms and conditions that were applicable to the rights or options for VLCY shares. Therefore, in accordance with applicable accounting guidance for business combinations, the fair value, prior to conversion, of replacement equity awards issued for pre-combination services at the date of acquisition is included in the calculation of the purchase price.

The following represents the components of the purchase price:

(in thousands)
Cash paid to shareholders making the cash election		$	67,499
Cash paid to shareholders for specified tax refunds			15,523
Fair value of shares of Company issued to shareholders			76,907
Fair value of equity awards converted at acquisition			22
Fair value of the Contingent Value Rights			9,617
Total consideration		$	169,568

The following represents the allocation of the purchase price:

(in thousands)
Cash and cash equivalents		$	73,325
Accounts receivable			10,883
Income tax receivable			4,713
Inventory			11,687
Other current assets			11,919
Property, plant and equipment			3,216
Intangible assets			50,249
Curriculum in development			909
Other assets			11,891
Accounts payable and accrued expenses			(14,835	)
Deferred revenue			(21,774	)
Capital lease obligations			(187	)
Other liabilities			(17,075	)
Goodwill			44,647
Total net assets acquired		$	169,568

Other identified intangibles acquired consist of the following:

						Cambium
						Learning
		Voyager				Technologies				Useful Life
		(in thousands)
Curriculum and technology		$	23,700			$	19,000			7 years
Customer relationships			3,880				1,500			7 years
Tradenames and trademarks			1,610				559			15 years

Goodwill of $24.9 million and $19.7 million purchased in the acquisition was allocated to the Company’s Voyager and Cambium Learning Technologies reporting units, respectively. Valuations were established giving consideration to the three basic approaches to value, with the method or methods applied for each asset depending on the nature of the asset and the type and reliability of information available for the analysis, and were based upon the Company’s projected revenue growth assumptions through each asset’s estimated useful life. Discounted cash flows were based upon the Company’s weighted-average cost of capital of 25% and an estimated effective tax rate of 38%. Curriculum and technology and customer relationships were valued using a form of the income approach known as the excess earnings method. Tradenames and trademarks were valued using a form of the income approach known as the relief-from-royalty method.

Supplemental Pro Forma Information

The following unaudited supplemental pro forma information presents the results of operations as if the VLCY acquisition had occurred on January 1, 2009:

		Three Months Ended				Nine Months Ended
(in thousands) (unaudited)		September 30, 2009				September 30, 2009
Net sales		$	71,294			$	145,195
Income (loss) before income taxes			2,817				(52,477	)
Net income (loss)			2,817				(52,477	)
Net income (loss) per share — basic and diluted		$	0.06			$	(1.18	)

The 2009 supplemental pro forma information has been adjusted to include:

	•		the pro forma impact of the amortization of intangible assets and the reduction in deferred revenue and related deferred costs based on the purchase price allocation;
	•		the pro forma impact of reduced interest income lost as a result of the $58.0 million of cash used in the purchase price consideration (net of $25.0 million contributed by the sole stockholder of the Company at the time of the merger);
	•		the pro forma impact of certain employment agreements and stock option grants entered into on the effective date of the merger;
	•		the elimination of merger transaction costs incurred by the Company and VLCY; and
	•		the pro forma tax effect of the merger, which was estimated using a combined company effective tax rate of 0%.

Basic and diluted earnings (loss) per share is calculated using share equivalents outstanding at the merger date of 44.3 million. The supplemental pro forma information does not include an adjustment for certain contractual obligations, severance, retention, and other payments that became payable as a result of the merger. The majority of such payments are recorded in the historical financial statements of the Company or VLCY. Approximately $0.1 million of such payments subject to subsequent service requirements will be recorded as expense in the fourth quarter of 2010.

The pro forma results are presented for illustrative purposes only and do not reflect the realization of potential cost savings, or any integration costs. Certain cost savings may result from the acquisition; however, there can be no assurance that these cost savings will be achieved. These pro forma results do not purport to be indicative of the results that would have actually been obtained if the acquisition occurred on January 1, 2009, nor is the pro forma data intended to be a projection of future results.

Note 6 — Fair Value Measurements

As of September 30, 2010, financial instruments include $5.8 million of cash and cash equivalents, restricted assets of $16.1 million, collateral investments of $2.0 million, the Company’s $11.2 million revolving credit facility, the $96.2 million senior secured credit facility, $56.2 million in senior unsecured notes, $0.2 million of warrants, and $8.6 million in CVRs. As of December 31, 2009, financial instruments included $13.3 million of cash and cash equivalents, restricted assets of $24.7 million, collateral investments of $1.1 million, the $5.0 million revolving credit facility, the $97.2 million senior secured credit facility, $54.6 million in senior unsecured notes, $0.3 million of warrants, $9.6 million in CVRs, and a $1.0 million interest rate swap contract. The fair market values of cash equivalents and restricted assets are equal to their carrying value, as these investments are recorded based on quoted market prices and/or other market data for the same or comparable instruments and transactions as of the end of the reporting period. The fair value of the revolving credit facility is equal to its carrying value due to the short-term nature of the instrument and the interest rate being variable. The fair market value of the senior credit facility and senior unsecured notes are subject to market conditions; however, limited trading activity restricts the ability to freely trade the debt. The senior credit facility bears interest at a variable rate and management believes that the carrying value of the senior credit facility approximates its fair value.

Under the guidance for fair value measurements, valuation techniques are based on observable or unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs have created the following fair value hierarchy:

	•		Level 1 — Quoted prices for identical instruments in active markets.
	•		Level 2 — Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which significant value drivers are observable.
	•		Level 3 — Valuations derived from valuation techniques in which significant value drivers are unobservable.

Assets and liabilities measured at fair value on a recurring basis are as follows:

						Fair Value at Reporting Date Using
						Quoted Prices
						in Active				Significant
						Markets for				Other				Significant
						Identical				Observable				Unobservable				Year-to-Date
(in thousands)		As of September 30,				Assets				Inputs				Inputs				Gains
Description		2010				(Level 1)				(Level 2)				(Level 3)				(Losses)
Restricted Assets:
Money Market		$	16,112			$	16,112			$	—			$	—			$	—
Collateral Investments:
Money Market			900				900				—				—				—
Certificate of Deposit			1,063				1,063				—				—				—
Warrant			228				—				228				—				52
Interest rate swap			—				—				—				—				992
CVRs			8,593				—				—				8,593				(100	)

The warrant was valued using the Black-Scholes pricing model. Due to the low exercise price of the warrants, the model assumptions do not significantly impact the valuation. As of September 30, 2010, a fair value of $8.6 million has been recorded as a liability for the remaining CVR payments and $1.1 million has been distributed to the escrow agent for distribution to holders of the CVRs. The ultimate value of the CVRs is not known at this time; however, it is not expected to be more than $11 million and could be as low as $1.1 million. The determination of fair value of the CVRs involves significant assumptions and estimates regarding the likelihood, amount and timing of cash flows related to the elements of the CVRs. Future changes in the estimate of the fair value of the CVRs will impact results of operations and could be material. As of September 30, 2010, restricted assets in an escrow account for the benefit of the CVRs were $4.0 million.

Assets and liabilities measured at fair value on a non-recurring basis are as follows:

Fair Value at Reporting Date Using

Quoted Prices

in Active

Significant

Markets for

Other

Significant

Identical

Observable

Unobservable

Year-to-Date

(in thousands)

As of September 30,

Assets

Inputs

Inputs

Gains

Description

2010

(Level 1)

(Level 2)

(Level 3)

(Losses)

Goodwill

$

151,915

$

—

$

—

$

151,915

$

—

The table below sets forth a summary of changes in the estimated fair value of the Company’s Level 3 financial assets and liabilities measured on a recurring basis as of September 30, 2010:

		Fair Value
		Measurements Using
		Significant
		Unobservable
		Inputs (Level 3)
(in thousands)		CVRs
Balance at December 31, 2009		$	9,599
Payment issued to escrow agent for distribution to holders of CVRs			(1,106	)
Losses for the period included in earnings attributable to the change in fair value related to liabilities as of September 30, 2010			100
Balance at September 30, 2010		$	8,593

Note 7 — Comprehensive Income (Loss)

The Company recorded other comprehensive income or loss of zero for each of the three and nine month periods ended September 30, 2010 and 2009. Therefore, comprehensive income (loss) is equal to the net income (loss) for these periods.

Note 8 — Other Current Assets

Other current assets at September 30, 2010 and December 31, 2009 consisted of the following:

		As of
		September 30,				December 31,
(in thousands)		2010				2009
Deferred costs		$	2,379			$	269
Prepaid expenses			1,789				2,019
Income taxes receivable			979				1,322
Settlement receivable			—				2,400
Total		$	5,147			$	6,010

Note 9 — Accrued Expenses

Accrued expenses at September 30, 2010 and December 31, 2009 consisted of the following:

		As of
		September 30,				December 31,
(in thousands)		2010				2009
Salaries, bonuses and benefits		$	9,918			$	12,428
Accrued royalties			1,374				1,770
Pension and post-retirement medical benefits			1,227				1,293
Deferred compensation			522				633
Interest rate swap			—				992
Other			6,910				6,804
Total		$	19,951			$	23,920

Note 10 — Other Liabilities

Other liabilities at September 30, 2010 and December 31, 2009 consisted of the following:

		As of
		September 30,				December 31,
(in thousands)		2010				2009
Pension and post-retirement medical benefits, long-term portion		$	10,081			$	10,509
Long-term deferred tax liability			7,550				8,156
Long-term income tax payable			1,116				1,255
Long-term deferred compensation			665				1,179
Other			2,429				3,057
Total		$	21,841			$	24,156

Note 11 — Pension and Other Postretirement Benefit Plans

Components of net periodic benefit costs are:

		U.S. Defined Benefit
		Pension Plan
		Three Months Ended				Nine Months Ended
(in thousands)		September 30, 2010				September 30, 2010
Service cost		$	—			$	—
Interest cost			146				438
Recognized net actuarial loss/(gain)			—				—
Net pension and other postretirement benefit cost		$	146			$	438

The Company’s pension plan was acquired in the merger with VLCY and therefore the Company had no net periodic benefit costs associated with the three and nine months ended September 30, 2009.

Note 12 — Restructuring

As a result of the merger with VLCY on December 8, 2009, the Company has acted upon plans to reduce its combined work force and has recently closed its Dallas, Texas distribution facility and transferred all inventory to its distribution facility in Frederick, Colorado. The following table summarizes the restructuring plan:

						Total Incurred				Nine Months				Incurred in
		Total Amount				as of				Ended				Year Ended
		Expected to				September 30,				September 30,				December 31,
(in thousands)		be Incurred				2010				2010				2009
One-time termination benefits		$	1,069			$	1,069			$	526			$	543
Warehouse move costs			570				570				570				—
		$	1,639			$	1,639			$	1,096			$	543

The change in the accruals for restructuring-related costs, which does not impact a segment and so is included in unallocated shared services, for the nine months ended September 30, 2010 are as follows:

		One-Time
		Termination				Warehouse
(in thousands)		Benefits				Move Costs
Balance as of December 31, 2009		$	505			$	—
Accrual changes			526				570
Payments made			(814	)			(570	)
Balance as of September 30, 2010		$	217			$	—

Note 13 — Uncertain Tax Positions

The Company recognizes the financial statement impacts of a tax return position when it is more likely than not, based on technical merits, that the position will ultimately be sustained. For tax positions that meet this recognition threshold, we apply our judgment, taking into account applicable tax laws, our experience managing tax audits and relevant GAAP, to determine the amount of tax benefits to recognize in our financial statements. For each position, the difference between the benefit realized on our tax return and the benefit reflected in our financial statements is recorded on our balance sheet as an unrecognized tax benefit (“UTB”). We update our UTBs at each financial statement date to reflect the impacts of audit settlements and other resolution of audit issues, expiration of statutes of limitation, developments in tax law and ongoing discussions with tax authorities. The balance of UTBs was $10.6 million and $15.4 million at September 30, 2010 and December 31, 2009, respectively. The decrease this quarter was due primarily to the expiration of statutes of limitation.

The Company files income tax returns in the U.S. federal jurisdiction and various state jurisdictions. All U.S. tax years prior to 2008 related to the VLCY-acquired entities have been audited by the Internal Revenue Service. Cambium and its subsidiaries have been examined by the Internal Revenue Service through the end of 2006. Various state tax authorities are in the process of examining income tax returns for various tax years through 2007.

VLCY was formerly known as ProQuest Company. Under sale agreements with Snap-On Incorporated and Cambridge Scientific Abstracts, LP (“CSA”), the Company is liable to indemnify Snap-On Incorporated or CSA for any income taxes assessed against ProQuest Business Solutions (“PQBS”) or ProQuest Information and Learning (“PQIL”) for periods prior to VLCY’s sale of PQBS or PQIL in 2006 and 2007, respectively. The Company has established a contingent liability for those matters where it is not probable that the position will be sustained and a tax receivable for those matters where it is deemed more likely than not that the position will be sustained. The amounts of the liability and receivable are based on management’s best estimate given the Company’s history with similar matters and interpretations of current laws and regulations in accordance with applicable accounting guidance for income tax positions.

Note 14 — Commitments and Contingencies

The Company is involved in various legal proceedings incidental to its business. Management believes that the outcome of these proceedings will not have a material adverse effect upon the Company’s consolidated operations or financial condition and the Company has recognized appropriate liabilities as necessary based on facts and circumstances known to management. The Company expenses legal costs related to legal contingencies as incurred.

The Company had a potential indemnification liability related to state income taxes and related interest that had been assessed against PQIL. On August 27, 2010, PQIL received a decision and order of determination from a state taxing authority. According to the determination of the Michigan taxing authority, PQIL was liable to the state of Michigan for unpaid taxes and interest in the amount of approximately $10.4 million. In order to expedite resolution of this matter and access the Michigan Court of Claims, the Company paid this indemnification liability to the state of Michigan on behalf of PQIL on September 7, 2010. The Company has filed an action in the Michigan Court of Claims to pursue a refund of the assessment. Management believes it is more likely than not that the Company’s position will be upheld in the court of claims and a $10.4 million tax receivable for the expected refund is recorded in other assets on the condensed consolidated balance sheet as of September 30, 2010.

This indemnification liability was identified as an agreed contingency for purposes of the CVRs issued as part of the VLCY merger consideration. In accordance with the terms of the Agreement and Plan of Mergers, dated June 20, 2009, fifty percent (50%) of any amount that is paid or due and payable with respect to each agreed contingency would offset payments due under the CVRs from an amount held for such payments by Wells Fargo Bank, N.A., as escrow agent, in an escrow account. Upon payment of the approximately $10.4 million, the Company requested a disbursement to the Company from the escrow account in an amount equal to fifty percent (50%) of the payment, or approximately $5.2 million. This cash disbursement was received by the Company during the quarter ended September 30, 2010. On September 20, 2010, the Company amended the Agreement and Plan of Mergers and the escrow agreement that extends the term of the escrow agreement until the later of the full distribution of the escrow funds or the final resolution of the agreed contingency. The final resolution of the tax litigation or potential settlement could result in a refund ranging from zero to approximately $10.4 million. As of September 30, 2010, the fair value of the CVR includes a reduction of approximately $1.0 million related to this state income tax issue. This calculated reduction amount uses management assumptions related to the likelihood of any ultimate cash outflows for this agreed-upon contingency. However, the actual impact on the CVR could be up to one-half of the $10.4 million if PQIL’s position is not ultimately upheld. Additionally, if the PQIL’s position is not ultimately upheld, the Company could incur up to $10.4 million of indemnification expense in future periods on its Statements of Operations, partially offset by any reduction to the CVRs liability.

From time to time, we may enter into firm purchase commitments for printed materials included in our inventory which we expect to use in the ordinary course of business. These commitments are typically for terms less than one year and require us to buy minimum quantities of materials with specific delivery dates at a fixed price over the term. As of September 30, 2010, these open purchase commitments totaled $1.1 million.

The Company has letters of credit outstanding as of September 30, 2010 in the amount of $2.3 million to support workers’ compensation insurance coverage, certain of its credit card programs, a build-to-suit lease for warehouse space in Frederick, Colorado, and performance bonds for certain contracts. The Company maintains a $1.1 million certificate of deposit as collateral for the workers’ compensation insurance and credit card program letters of credit and for the Automated Clearinghouse (ACH) programs. The Company also maintains a $0.9 million money market fund investment as collateral for its travel card program. The certificate of deposit and money market fund investment are recorded in other assets.

Note 15 — Revenue Recognition for Arrangements with Multiple Deliverables

In October 2009, new guidance was issued regarding multiple-deliverable revenue arrangements and certain arrangements that include software elements. This guidance requires entities to allocate revenue in an arrangement using estimated selling prices of the delivered goods and services based on a selling price hierarchy. The guidance eliminates the residual method of revenue allocation and requires revenue to be allocated using the relative selling price method. In addition to requiring that arrangement consideration be allocated at the inception of an arrangement to all deliverables using the relative selling price method, the guidance establishes a selling price hierarchy for determining the selling price of a deliverable, which includes (1) vendor-specific objective evidence (“VSOE”), if available, (2) third-party evidence (“TPE”), if vendor-specific objective evidence is not available, and (3) best estimate of selling price (“BESP”), if neither VSOE nor TPE is available. The objective of BESP is to determine the price at which the Company would transact a sale if the product or service were sold on a stand-alone basis. It also removes tangible products from the scope of software revenue guidance and provides guidance on determining whether software deliverables in an arrangement that includes a tangible product are covered by the scope of the software revenue guidance. This guidance must be applied on a prospective basis for revenue arrangements entered into or materially modified in fiscal years beginning on or after June 15, 2010, with early adoption permitted. Effective January 1, 2010, the Company adopted this guidance on a prospective basis for all new or materially modified arrangements entered into after the adoption date.

The Company’s revenues are derived from sales of reading, math and science, and professional development solutions to school districts primarily in the United States. Sales include printed materials and often online access to educational materials for individual students, teachers, and classrooms. Revenue from the sale of printed materials for reading and math products is recognized when the product is shipped to or received by the customer based on shipping terms. Revenue for product support, training and implementation services, and online subscriptions is recognized over the period services are delivered. Revenue for the online content sold separately or included with certain curriculum materials is recognized ratably over the subscription period, typically a school year. Revenue for the Company’s professional development courses, which include an Internet delivery component, is recognized over the contractual delivery period, typically nine to twelve months. ExploreLearning and Learning A-Z derive revenue exclusively from sales of online subscriptions to their reading, math and science teaching websites and related training and professional development. Typically, the subscriptions are for a twelve to twenty four-month period and the revenue is recognized ratably over the period the online access is available to the customer.

The division of revenue between shipped materials, online materials, and ongoing support and services was determined in accordance with the new accounting guidance for revenue arrangements with multiple deliverables. The Company is not able to establish VSOE for each of its deliverables. Whenever VSOE cannot be established, the Company reviews the offerings of its competitors to determine whether TPE can be established. TPE is determined based on the prices charged by the Company’s competitors for a similar deliverable when sold separately. It may be difficult for the Company to obtain sufficient information on competitor pricing to substantiate TPE and therefore the Company may not always be able to use TPE.

The Company also uses BESP to determine the selling price of certain of its deliverables. BESP was primarily used for the printed materials for product lines acquired in the VLCY acquisition, which have historically been priced on a bundled basis with the related online materials. The Company’s determination of BESP considers the anticipated margin on that deliverable, the selling price and profit margin for similar parts or services, and the Company’s ongoing pricing strategy and policies.

The Company plans to analyze the selling prices used in its allocation of arrangement consideration at least annually. Selling prices will be analyzed on a more frequent basis if a significant change in the Company’s business necessitates a more timely analysis or if the Company experiences significant variances in its selling prices. The adoption of the new guidance for arrangements with multiple deliverables did not result in the change of any units of accounting or timing of revenue recognition for these units of accounting, and primarily impacted product lines acquired in the VLCY acquisition. All of the Company’s significant deliverables qualify as separate units of accounting. Under the previous guidance, the Company had used the residual method to value the printed material for certain of the product lines acquired in the VLCY acquisition. Under the new guidance, the selling price of the printed materials is established using BESP and the relative fair value method of allocation is used. Because VLCY was only included in the Company’s results for the 23-day period between the December 8, 2009 acquisition date and December 31, 2009, and the Company historically did not have significant sales where it could not establish VSOE on all deliverables, this change in methodology would not have had a material impact on the 2009 financial results. Revenues for the three and nine months ended September 30, 2010 were approximately $0.4 million and $0.7 million, respectively, higher under the new methodology than they would have been under the prior guidance.

The Company’s software products often include maintenance, support or on-line services. Maintenance and support services include telephone support, bug fixes, and, for certain products, rights to upgrades and enhancements on a when-and-if available basis. On-line services include storage, assignment, scoring and reporting. These services are recognized on a straight-line basis over the period they are provided. Revenues under multiple-element software license arrangements, which may include several different software products and services sold together, are allocated to each element based on the residual method in accordance with accounting guidance for software revenue recognition. In certain instances, telephone support and software repairs are provided for free within the first year of licensing the software. The cost of providing this service is insignificant, and is accrued at the time of revenue recognition.

The adoption of the new guidance on determining whether software deliverables in an arrangement that includes a tangible product are covered by the scope of the software revenue guidance did not result in a material change to the Company’s reported revenues.

Note 16 — Segment Reporting

The Company has three reportable segments with separate management teams and infrastructures that offer various products and services, as follows:

Voyager:

Voyager intervention programs serve as the anchor of the Company’s product portfolio, generally providing a full year’s worth of literacy or math instruction to at-risk students.

Sopris:

Sopris programs are offered in the areas of literacy, mathematics, and behavior to supplement core programs, and include assessments and instructional resources for students and professional development materials for educators.

Cambium Learning Technologies:

This operating segment includes assistive and instructional technology and related services. The principal markets for these products are elementary and secondary schools.

Other:

This consists of unallocated shared services, such as accounting, legal and human resources and corporate-related items. Depreciation and amortization expense, interest income and expense, other income and expense, and taxes are included in other.

The Company and its chief operating decision maker evaluate the performance of its operating segments based on income (loss) from operations before depreciation and amortization, interest income and expense, income taxes, and nonrecurring and extraordinary items. The following table represents the net sales, cost of sales and income (loss) from operations of each segment. The Company does not track assets directly by segment and the chief operating decision maker does not use assets or capital expenditures to measure a segment’s operating performance, therefore this information is not presented.

Prior to the merger transaction completed on December 8, 2009, the Company had two reportable segments: Published Products and Learning Technologies. The historical 2009 segment reporting results have been adjusted for comparative purposes to reflect the current organizational structure. These reclassifications required certain assumptions and estimates.

										Cambium
										Learning
(in thousands)		Voyager				Sopris				Technologies				Other				Consolidated
Quarter ended September 30, 2010
Net sales		$	37,376			$	9,587			$	9,644			$	—			$	56,607
Cost of sales			13,526				3,171				1,157				167				18,021
Amortization			—				—				—				7,096				7,096
Total cost of sales			13,526				3,171				1,157				7,263				25,117
Other expenses			9,040				2,420				5,138				10,946				27,544
Segment net income (loss)		$	14,810			$	3,996			$	3,349			$	(18,209	)		$	3,946
Quarter ended September 30, 2009
Net sales		$	25,596			$	8,799			$	6,577			$	—			$	40,972
Cost of sales			7,278				2,874				530				—				10,682
Amortization			—				—				—				4,195				4,195
Total cost of sales			7,278				2,874				530				4,195				14,877
Other expenses			5,035				2,944				2,080				11,598				21,657
Segment net income (loss)		$	13,283			$	2,981			$	3,967			$	(15,793	)		$	4,438

										Cambium
										Learning
(in thousands)		Voyager				Sopris				Technologies				Other				Consolidated
Nine months ended September 30, 2010
Net sales		$	85,848			$	19,898			$	26,984			$	—			$	132,730
Cost of sales			32,498				6,919				3,775				1,358				44,550
Amortization			—				—				—				21,083				21,083
Total cost of sales			32,498				6,919				3,775				22,441				65,633
Other expenses			27,749				6,329				13,643				37,047				84,768
Segment net income (loss)		$	25,601			$	6,650			$	9,566			$	(59,488	)		$	(17,671	)
Nine months ended September 30, 2009
Net sales		$	40,774			$	21,465			$	15,503			$	—			$	77,742
Cost of sales			12,907				6,388				1,674				—				20,969
Amortization			—				—				—				12,507				12,507
Total cost of sales			12,907				6,388				1,674				12,507				33,476
Other expenses			13,978				7,855				6,188				32,555				60,576
Segment net income (loss)		$	13,889			$	7,222			$	7,641			$	(45,062	)		$	(16,310	)

Note 17 — Subsequent Event

In April 2008, the Company discovered certain irregularities relating to the control and use of cash and certain other general ledger items which resulted from a substantial misappropriation of assets over a period of more than three years. These irregularities were perpetrated by a former employee, resulting in embezzlement losses, net of recoveries. On October 26, 2010, the Company received a recovery from the courts in the amount of $0.5 million. The amended senior secured debt agreement calls for any recoveries related to the embezzlement, net of expenses incurred, to be used to pay down the outstanding principle balance of the senior secured debt. Therefore, the Company made prepayments of principle to the holders of the senior secured debt in the amount of $0.5 million on October 27, 2010.

In connection with the completion of the merger on December 8, 2009, the Company issued to VSS-Cambium Holdings III, LLC a warrant to purchase shares of our common stock (the “Holdings Warrant”). This includes the Cambium Specified Asset Recoupment Amount, which is based upon the net amount of recoveries that the Company receives or received on and after June 1, 2009, including periods after the effective time of the mergers, with respect to the embezzlement matter that was discovered in April 2008. Therefore, the Company issued 33,303 additional warrants valued at $0.1 million to VSS-Cambium Holdings III, LLC in connection with this embezzlement recovery.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This section should be read in conjunction with the audited Consolidated Financial Statements of Cambium Learning Group, Inc. and its subsidiaries (the “Company,” “we,” “us,” or “our”) and the notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2009, as well as the accompanying interim financial statements and the notes thereto for the quarter ended September 30, 2010.

Cautionary Note Regarding Forward-looking Statements.

This report contains forward-looking statements within the meaning of the federal securities laws that involve risks and uncertainties, and which are based on beliefs, expectations, estimates, projections, forecasts, plans, anticipations, targets, outlooks, initiatives, visions, objectives, strategies, opportunities, drivers and intents of our management. Such statements are made in reliance upon the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. All statements other than statements of historical fact included in this report, including statements regarding our future financial position, economic performance and results of operations, as well as our business strategy, objectives of management for future operations, and the information set forth under “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” are forward-looking statements.

Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements. Forward-looking statements can be identified by, among other things, the use of forward-looking language, such as “believes,” “expects,” “estimates,” “projects,” “forecasts,” “plans,” “anticipates,” “targets,” “outlooks,” “initiatives,” “visions,” “objectives,” “strategies,” “opportunities,” “drivers,” “intends,” “scheduled to,” “seeks,” “may,” “will,” or “should,” or the negative of those terms, or other variations of those terms or comparable language, or by discussions of strategy, plans, targets, models or intentions. Forward-looking statements speak only as of the date they are made, and except for our ongoing obligations under the federal securities laws, we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events, or otherwise, or to update the reasons actual results could differ materially from those anticipated in these forward-looking statements. Accordingly, you are cautioned that any such forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Although we believe that the expectations reflected in such forward-looking statements are reasonable as of the date made, expectations may prove to have been materially different from the results expressed or implied by such forward-looking statements, as it is impossible for us to anticipate all factors that could affect our actual results. These risks and uncertainties include, but are not limited to, those described in “Risk Factors” in Part II, Item 1A and elsewhere in this report and in our Annual Report on Form 10-K for the year ended December 31, 2009, and those described from time to time in our future reports filed with the SEC. Unless otherwise required by law, we also disclaim any obligation to update our view of any such risks or uncertainties or to announce publicly the results of any revisions to the forward-looking statements made in this report.

Merger Transaction

On December 8, 2009, we completed the business combination of VSS-Cambium Holdings II Corp. (“Cambium”) and Voyager Learning Company (“VLCY”) as contemplated by the Agreement and Plan of Mergers, dated as of June 20, 2009, among us, VLCY, Vowel Acquisition Corp., our wholly-owned subsidiary, Cambium, a wholly-owned subsidiary of VSS-Cambium Holdings III, LLC, Consonant Acquisition Corp., our wholly owned subsidiary, and Vowel Representative, LLC, solely in its capacity as stockholders’ representative. We refer to this agreement and plan of mergers in this report as the merger agreement. Pursuant to the merger agreement, we acquired all of the common stock of each of Cambium and VLCY through the merger of Consonant Acquisition Corp. with and into Cambium, with Cambium continuing as the surviving corporation, and the concurrent merger of Vowel Acquisition Corp. with and into VLCY, with VLCY continuing as the surviving corporation. As a result of the effectiveness of the mergers, Cambium and VLCY became our wholly owned subsidiaries.

The merger transaction was accounted for as an “acquisition” of VLCY by Cambium, as that term is used under U.S. GAAP, for accounting and financial reporting purposes under the applicable accounting guidance for business combinations. In making this determination, management considered that (a) the newly developed entity did not have any significant pre-combination activity and, therefore, did not qualify to be the accounting acquirer, and (b) the former sole stockholder of Cambium is the majority holder of the combined entity, while the prior owners of VLCY became minority holders in the combined entity. As a result, the historical financial statements of Cambium have become the historical financial statements of the Company. The results of VLCY are included in the Company’s operations beginning with the December 8, 2009 merger date. VLCY is included for the last 23 days of 2009; therefore, third quarter 2010 results include the results of VLCY for the entire period, but third quarter 2009 results do not include the results of VLCY for any period of time.

Subsequent to the merger transaction, we operate as three reportable segments with separate management teams and infrastructures that offer various products and services, as follows:

	•		Voyager, our comprehensive intervention solutions;
	•		Sopris, our supplemental solutions; and
	•		Cambium Learning Technologies, our technology-based solutions.

Unallocated shared services, such as accounting, legal, human resources and corporate related items are recorded in a “Shared Services” category. Depreciation and amortization expense, interest income and expense, other income and expense, and taxes are included in this category.

Prior to the merger transaction completed on December 8, 2009, we had two reportable segments: Published Products and Learning Technologies. Our historical segment reporting results have been adjusted for comparative purposes to reflect the current organizational structure. These reclassifications required certain assumptions and estimates. See Note 16 to the financial statements for further information on our reportable segments. Also, as a result of the merger transaction and change in segments, we made a number of changes to personnel and processes as part of an overall departmental restructuring. As certain functions were consolidated, some resources were shifted to other areas of the business. In particular, some general and administrative functions were merged and, where appropriate, certain resources were shifted to customer facing functions, which are classified as costs of sales. These changes may affect comparability of pre-merger and post-merger periods.

Certain year-over-year comparisons are difficult as a result of the merger; therefore, to assist the Company with year-over-year net sales comparisons, we provide adjusted net sales in the section below entitled “Non-GAAP Measures.” The adjusted net sales measure and the internal order volume metric we discuss herein should not be considered a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP, however, management does believe they are useful tools for purposes of comparing pre-merger and post-merger periods.

Overview

Throughout the first nine months of 2010, we continued to experience adverse conditions in the education funding environment, including the elimination of Reading First funding and the continued depressed circumstance of certain state and local budgets. Numerous states enacted midyear (with their fiscal years running July 1, 2009 to June 30, 2010) budget cuts with spending reductions often impacting education funding. As school districts rely upon state and local budgets, some of our customers have found it difficult to secure alternative funding sources in the midst of these market conditions. Additionally, potential customers are more frequently utilizing a request for proposal process to complete purchases, which elongates the time required to complete a sale.

We have experienced some positive impact, both directly and indirectly, from the American Reinvestment and Recovery Act (ARRA) passed in February 2009. The ARRA provides significant new federal funding for various education initiatives through September 2011. While the education funding is for a broad set of education initiatives, we believe that schools and districts have directed, and may continue to direct, some of the new funding for programs which use our products. In some instances, if ARRA funding is not used directly for programs using our products, we may still be receiving an indirect benefit. When the ARRA funding is used to assist schools to meet their overall financial needs, other funds may be freed up to use for our programs. To date we have had some success in securing orders which are funded by ARRA funds, but not to a level that has been needed to offset net declines. As a result of these various market forces, we have experienced a decline in order volume in the first nine months of 2010 when compared with the first nine months of 2009 (combined VLCY and the Company). Order volume is an internal metric of shipments of our products and orders for online subscriptions and it serves as a leading indicator of sales.

The following trends have had or may have an impact on our sales, profitability and EBITDA:

	•		Declines have been realized in our internal order volume metric due to the economic crisis faced by many states and local entities. To some extent we expect the crisis will continue throughout the following quarters and have a continued depressive effect on general spending and therefore make order volume growth challenging.
	•		The stimulus funds initially drove several large multi-year deals in 2009 that we have not seen replicated in 2010 to the same extent.
	•		The Company has a few transactions remaining in its pipeline that are targeted for closure in 2010. These opportunities are mainly related to customer available ARRA stimulus funding and will play a significant role in determining the Company's end of year Adjusted Sales and Adjusted EBITDA.
	•		The acquisition of VLCY in late 2009 added several online subscription-based products to our portfolio, which we expect to grow in the coming years.
	•		We have experienced success in 2009 growing our portfolio to address the math needs of the market, including products such as Vmath, Transitional Math and Gizmos (ExploreLearning). While the Gizmos products have continued strong growth in 2010, other math-based products have declined, offsetting the Gizmos growth. We expect that the market for these products will continue to be strong and will return to growth in the future.
	•		We believe our product diversification will strengthen our ability to sustain market share in a troubled market and capture market share when the market recovers.
	•		We believe our focus on student outcomes through product usage and an overall partnership approach with the customer to implement our solutions, in the manner that the program was designed, results in higher student success rates, and such success, if achieved, will lead to customer retention and growth through reference sales.
	•		We believe there is a trend of student accountability resulting in greater funding being directed to at-risk children in the United States with new funding sources, such as Race to the Top, which could provide additional funds for our products.
	•		Efforts were taken in 2009 by both VLCY and Cambium to reduce their cost structures, including a reduction in force, to better align our cost structure to current market conditions. We expect to achieve further significant cost savings relative to 2009, partially offset by one-time integration costs.
	•		We have identified and acted upon several key areas to invest in 2010. These are improved student data management systems, a separate dedicated sales force and development of an ecommerce engine for Sopris and continued investment in Cambium Learning Technologies, primarily in product development, sales and marketing.

Third Quarter of Fiscal 2010 Compared to the Third Quarter of Fiscal 2009

		Three Months Ended
		September 30, 2010								September 30, 2009								Year Over Year Change
						% of								% of				Favorable/(Unfavorable)
(in thousands)		Amount				Sales				Amount				Sales				$				%
Net sales:
Voyager		$	37,376				66.0	%		$	25,596				62.5	%		$	11,780				46.0	%
Sopris			9,587				16.9	%			8,799				21.5	%			788				9.0	%
Cambium Learning Technologies			9,644				17.0	%			6,577				16.1	%			3,067				46.6	%
Total sales			56,607				100.0	%			40,972				100.0	%			15,635				38.2	%
Cost of sales:
Voyager			13,526				23.9	%			7,278				17.8	%			(6,248	)			(85.8	)%
Sopris			3,171				5.6	%			2,874				7.0	%			(297	)			(10.3	)%
Cambium Learning Technologies			1,157				2.0	%			530				1.3	%			(627	)			(118.3	)%
Shared Services			167				0.3	%			—				0.0	%			(167	)			(100.0	)%
Amortization expense			7,096				12.5	%			4,195				10.2	%			(2,901	)			(69.2	)%
Total cost of sales			25,117				44.4	%			14,877				36.3	%			(10,240	)			(68.8	)%
Research and development expense			2,543				4.5	%			1,558				3.8	%			(985	)			(63.2	)%
Sales and marketing expense			11,966				21.1	%			5,396				13.2	%			(6,570	)			(121.8	)%
General and administrative expense			5,608				9.9	%			5,176				12.6	%			(432	)			(8.3	)%
Shipping costs			1,122				2.0	%			724				1.8	%			(398	)			(55.0	)%
Depreciation and amortization expense			2,085				3.7	%			2,359				5.8	%			274				11.6	%
Goodwill impairment			—				0.0	%			—				0.0	%			—				0.0	%
Embezzlement and related expense (recoveries)			21				0.0	%			(74	)			(0.2	)%			(95	)			128.4	%
Income (loss) before interest, other income (expense) and income taxes			8,145				14.4	%			10,956				26.7	%			(2,811	)			25.7	%
Net interest income (expense)			(4,478	)			(7.9	)%			(4,991	)			(12.2	)%			513				10.3	%
Other income (expense), net			271				0.5	%			(154	)			(0.4	)%			425				276.0	%
Income tax (expense) benefit			8				0.0	%			(1,373	)			(3.4	)%			1,381				(100.6	)%
Net loss		$	3,946				7.0	%		$	4,438				10.8	%		$	(492	)			11.1	%