10-K

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-K

(Mark One)
þ	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the fiscal year ended June 30, 2008
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the transition period from          to

Commission File Number: 001-33883

K12 Inc.

(Exact name of registrant as specified in its charter)

Delaware (State or other jurisdiction of incorporation or organization)	95-4774688 (I.R.S. Employer Identification No.)
2300 Corporate Park Drive Herndon, VA 20171 (Address of principal executive offices)	(703) 483-7000 (Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

Common Stock, $0.0001 par value

Securities registered pursuant to Section 12(g) of the Act:

None

(Title of Class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.  Yes o     No þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o     No þ

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the 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 Act).  Yes o     No þ

The aggregate market value of the Registrant’s voting stock held by non-affiliates of the Registrant as of December 31, 2007 was approximately $552,575,465.

Number of shares outstanding of each class of common equity as of September 22, 2008: 28,687,321 shares of Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE:

The registrant has incorporated by reference into Part III of this Form 10-K specific portions of its proxy statement for the registrant’s 2008 Annual Meeting of Stockholders to be held November 21, 2008.

TABLE OF CONTENTS

PART I			2
	ITEM 1.	Business	2
	ITEM 1A.	Risk Factors	23
	ITEM 1B.	Unresolved Staff Comments	34
	ITEM 2.	Properties	34
	ITEM 3.	Legal Proceedings	34
	ITEM 4.	Submission of Matters to a Vote of Security Holders	35
		Executive Officers of the Registrant	36
PART II			37
	ITEM 5.	Market for Common Equity and Related Stockholder Matters	37
	ITEM 6.	Selected Financial Data	40
	ITEM 7.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	42
	ITEM 7A.	Quantitative and Qualitative Disclosures about Market Risk	63
	ITEM 8.	Consolidated Financial Statements and Supplementary Data	64
	ITEM 9.	Changes in and Disagreements with Accountants and Financial Disclosure	92
	ITEM 9A.	Controls and Procedures	92
	ITEM 9B.	Other Information	92
PART III			92
	ITEM 10.	Directors and Executive Officers of the Registrant	92
	ITEM 11.	Executive Compensation	92
	ITEM 12.	Security Ownership of Certain Beneficial Owners and Management	92
	ITEM 13.	Certain Relationships and Related Transactions	93
	ITEM 14.	Principal Accountant Fees and Services	93
PART IV			93
	ITEM 15.	Exhibits, Financial Statement Schedules	93
INDEX TO EXHIBITS			96

CERTAIN DEFINITIONS

Unless the context requires otherwise, all references in this Report to “K12”, “K¹²”, “Company”, “we”, “our”, “us” refer to K12 Inc. and its consolidated subsidiaries.

SPECIAL NOTE ON FORWARD-LOOKING STATEMENTS

This Report on Form 10-K contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. We have tried, whenever possible, to identify these forward-looking statements using words such as “anticipates,” “believes,” “estimates,” “continues,” “likely,” “may,” “opportunity,” “potential,” “projects,” “will,” “expects,” “plans,” “intends” and similar expressions to identify forward looking statements, whether in the negative or the affirmative. These statements reflect our current beliefs and are based upon information currently available to us. Accordingly, such forward-looking statements involve known and unknown risks, uncertainties and other factors which could cause our actual results, performance or achievements to differ materially from those expressed in, or implied by, such statements. These risks, uncertainties, factors and contingencies include, but are not limited to: the reduction of per pupil funding amounts at the schools we serve; reputation harm resulting from poor performance or misconduct of other virtual school operators; challenges from virtual public school opponents; failure of the schools we serve to comply with regulations resulting in a loss of funding; discrepancies in interpretation of legislation by regulatory agencies that may lead to payment or funding disputes; termination of our contracts with schools due to a loss of authorizing charter, failure to renew existing contracts with schools; and increased competition.

Forward-looking statements reflect our management’s expectations or predictions of future conditions, events or results based on various assumptions and management’s estimates of trends and economic factors in the markets in which we are active, as well as our business plans. They are not guarantees of future performance. By their nature, forward-looking statements are subject to risks and uncertainties. Our actual results and financial condition may differ, possibly materially, from the anticipated results and financial condition indicated in these forward-looking statements. There are a number of factors that could cause actual conditions, events or results to differ materially from those described in the forward-looking statements contained in this Report. A discussion of factors that could cause actual conditions, events or results to differ materially from those expressed in any forward-looking statements appears in “Part 1 — Item 1A — Risk Factors.”

Readers are cautioned not to place undue reliance on forward-looking statements in this Report or that we make from time to time, and to consider carefully the factors discussed in “Part 1 — Item 1A — Risk Factors” of this Report in evaluating these forward-looking statements. These forward-looking statements are representative only as of the date they are made, and we undertake no obligation to update any forward-looking statement as a result of new information, future events or otherwise.

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PART I

ITEM 1.   BUSINESS

Our Company

We are a technology-based education company. We offer proprietary curriculum and educational services created for online delivery to students in kindergarten through 12th grade, or K-12. Our mission is to maximize a child’s potential by providing access to an engaging and effective education, regardless of geographic location or socio-economic background. Since our inception, we have invested more than $130 million to develop curriculum and an online learning platform that promotes mastery of core concepts and skills for students of all abilities. This learning system combines a cognitive research-based curriculum with an individualized learning approach well-suited for virtual schools and other educational applications. From fiscal year 2005 to fiscal year 2008, we increased average enrollments in the virtual public schools we serve from approximately 15,100 students to 40,800 students, representing a compound annual growth rate of approximately 39%. Over the same period, we increased revenues from $85.3 million to $226.2 million, representing a compound annual growth rate of approximately 38%, and increased EBITDA from $2.2 million to $25.6 million. Also, over that period, we went from a net loss of $3.5 million to net income of $33.8 million (inclusive of a one-time tax benefit of $27.0 million) and from an operating loss of $3.3 million to operating income of $13.0 million.

We believe we are unique in the education industry because of our direct involvement in every component of the educational development and delivery process. Most educational content, software and service providers typically concentrate on only a portion of that process, such as publishing textbooks, managing schools or providing testing and assessment services. This traditional segmented approach has resulted in an uncoordinated and unsatisfactory education for many students. Unburdened by legacy, we have taken a holistic approach to the design of our learning system. We have developed an engaging curriculum which includes online lessons delivered over our proprietary school platform. We combine this with a rigorous system to test and assess students and processes to manage school performance and compliance. In addition, our professional development programs enable teachers to better utilize technology for instruction. Our end-to-end learning system is designed to maximize the performance of the schools we serve and enhance student academic achievement.

As evidence of the benefit of our holistic approach, the virtual public schools we serve generally test near, and in some cases above, state averages on standardized achievement tests. These results have been achieved despite the enrollment of a significant number of new students each school year who have had limited exposure to our learning system prior to taking these required state tests. Students using our learning system for at least three years usually perform better on standardized tests relative to state averages than students using it for one year or less. The efficacy of our learning system has also helped us achieve high levels of customer satisfaction. According to a 2008 independent survey we commissioned of parents of K-8 students enrolled in virtual public schools we serve, approximately 96% of respondents stated that they were either satisfied or very satisfied with our curriculum and 95% of respondents stated that they would recommend our curriculum to other families. The survey was conducted by TRC, an independent research firm, in January 2008.

We deliver our learning system to students primarily through virtual public schools. As with any public school, these schools must meet state educational standards, administer proctored exams and are subject to fiscal oversight. The fundamental difference is that students attend virtual public schools primarily over the Internet instead of traveling to a physical classroom. In their online learning environment, students receive assignments, complete lessons, and obtain instruction from certified teachers with whom they interact online, telephonically, and face-to-face. Many states have embraced virtual public schools as a means to provide families with a publicly funded alternative to a traditional classroom-based education. For parents who believe their child is not thriving and for whom relocating or private school is not an option, virtual public schools can provide a compelling choice. This widespread availability makes them the “most public” of schools. From an education policy standpoint, virtual public schools often represent a savings to the taxpayers when compared with traditional public schools because they are generally funded at a lower per pupil level than the per pupil state average reported by the U.S. Department of Education. Finally, because parents are not required to pay tuition, virtual public schools make our learning system available to the broadest range of students.

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We offer virtual schools our proprietary curriculum, online learning platform and varying levels of academic and management services, which can range from targeted programs to complete turnkey solutions, under long-term contracts. These contracts provide the basis for a recurring revenue stream as students progress through successive grades. Additionally, without the requirement of a physical classroom, virtual schools can be scaled quickly to accommodate a large dispersed student population, and allow more capital resources to be allocated towards teaching, curriculum and technology rather than towards a physical infrastructure.

Substantially all of our enrollments are served through 32 virtual public schools to which we provide full turnkey solutions and seven virtual public schools to which we provide limited management services. For the most part, these schools are able to enroll students on a statewide basis in 21 states and the District of Columbia. In addition, a small number of enrollments are served by an additional 29 schools that only enroll students in a single school district. The services we provide to these districts are designed to assist them in launching their own distance learning programs and vary according to the needs of the individual school districts. These services generally consist of our student account management systems, administrator and teacher training programs, and student placement support. Parents can also purchase our curriculum and online learning platform directly to facilitate or supplement their children’s education. Additionally, we have piloted portions of our curriculum in brick and mortar classrooms with promising academic results. Finally, in January 2008 we launched the K¹² International Academy, a private school fully operated by K¹² and using the K¹² curriculum. This school enables K¹² to deliver our learning system to students worldwide.

Families that choose our learning system for their children come from a broad range of social, economic and academic backgrounds. They share, however, the desire for an individualized learning program to maximize their children’s potential. Examples include, but are not limited to, families with: (i) students seeking to learn faster or slower than they could in a “one size fits all” traditional classroom; (ii) safety concerns about their local school; (iii) students with disabilities for which traditional classrooms are problematic; (iv) students with geographic or travel constraints; and (v) student athletes and performers who are not able to attend regularly scheduled classes. Our individualized learning approach allows students to optimize their individual academic performance and, therefore, their chances of achieving their goals.

Our History

We were founded in 2000 to utilize the advances in technology to provide children access to a high-quality public school education regardless of their geographic location or socio-economic background. Given the geographic flexibility of technology-based education, we believed that the pursuit of this mission could help address the growing concerns regarding the regionalized disparity in the quality of public school education, both in the United States and abroad. These concerns were reflected in the passage of the No Child Left Behind (NCLB) Act of 2001, which implemented new standards and accountability requirements for public K-12 education. The convergence of these concerns and rapid advances in Internet technology created the opportunity to make a significant impact by deploying a high quality learning system on a flexible, online platform.

In September 2001, after 18 months of research and development on our curriculum, we launched our kindergarten through 2nd grade offering. We initially launched our learning system in virtual public schools in Pennsylvania and Colorado, serving approximately 900 students in the two states combined. During the 2002-03 school year, we added our 3rd through 5th grade offering and entered into contracts to operate virtual public schools in California, Idaho, Ohio, Minnesota and Arkansas, increasing our average enrollment to approximately 5,900 students during the 2002-03 school year. For the 2003-04 school year, we added our 6th and 7th grade offerings and began serving students in Arizona, Florida, Utah and Wisconsin. During the 2004-05 school year, we added our 8th grade offering, began serving students in Kansas, and increased total enrollment to approximately 15,100 students. In the 2005-06 school year, we initiated service to a virtual public school in Texas. During the 2006-07 school year, we began serving students in the state of Washington and implemented a hybrid school offering in Chicago that combines face-to-face time in the classroom with online instruction. We recently entered the virtual high school market, enrolling 9th and 10th grade students at the start of the 2005-06 and 2006-07 school years, respectively, and enrolling 11th and 12th grade students at the start of the 2007-08 school year. We added contracts to operate virtual public schools in Georgia and Nevada for the 2007-08 school year and increased average

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enrollment to approximately 40,800 for the year. Finally, for the 2008-09 school year, we began managing state-wide virtual public schools in South Carolina, Hawaii and Oregon, as well as a hybrid program in Indiana.

In October 2007, the Company acquired Power-Glide Knowledge Courses Inc. (Power-Glide), a provider of online world language courseware for $4.1 million consisting of shares of common stock and the assumption of liabilities. We use these courses in our virtual public schools and believe they have wide applicability in online learning.

In January 2008, we launched the K¹² International Academy, an online private school which serves students in the U.S. and throughout the world. The school utilizes the same K¹² curriculum, systems, and teaching practices as the virtual public schools we serve. The school is accredited by the Commission on International and Trans-Regional Accreditation (CITA), the Southern Association of Colleges and Schools (SACS), and is recognized by the State of Virginia as a degree granting institution of secondary learning. In addition, the K¹² International Academy has a branch facility in Dubai which we operate under a joint venture with a local partner to reach students in the Gulf Cooperating Countries.

We believe we have significant growth potential. Therefore over the last three years, we have put a great deal of effort into developing the infrastructure necessary to scale our business. We further developed our logistics and technological infrastructure and implemented sophisticated financial systems to allow us to more effectively operate a large and growing company.

Our Market

The U.S. market for K-12 education is large and growing. For example:

•  According to the National Center for Education Statistics (NCES), a division of the U.S. Department of Education, 49.8 million students will attend K-12 public schools during the 2008-09 school year. In addition, according to National Home Education Research, approximately two million students are home schooled and, according to a March 2006 NCES report, approximately five million students are enrolled in private schools.

•  According to the NCES, the public school system alone will encompass more than 97,000 schools and 14,000 districts during the 2008-09 school year.

•  The NCES estimates that total spending in the public K-12 market will be $519 billion for the 2008-09 school year.

Parents and lawmakers are demanding increased standards and accountability in an effort to improve academic performance in U.S. public schools. As a result, each state is now required to establish performance standards and to regularly assess student progress relative to these standards. We expect continued focus on academic standards, assessments and accountability in the near future.

Many parents and educators are also seeking alternatives to traditional classroom-based education that can help improve academic achievement. Demand for these alternatives is evident in the growing number of choices available to parents and students. For example, charter schools emerged in 1988 to provide an alternative to traditional public schools. Currently, 40 states and the District of Columbia have passed charter school legislation and there are approximately 4,100 charter schools in the U.S. with an estimated enrollment of over 1.2 million students according to the Center for Education Reform. Similarly, acceptance of online learning initiatives, including not only virtual schools but also online testing and Internet-based professional development, has become widespread. As of June 2008, 42 states had established some form of online learning initiative, and Michigan recently became the first state to pass legislation mandating that high school students take part in an “online learning experience” in order to graduate.

Virtual public schools represent one approach to online learning that is gaining acceptance. According to the Center for Education Reform, as of January 2007 there were 173 virtual schools with total enrollment exceeding 92,000 students, operating in 18 states compared to just 86 virtual schools in 13 states with total enrollment of 31,000 students in the 2004-05 school year. Virtual schools can offer a comprehensive curriculum and flexible delivery model; therefore, we believe that a growing number of families will pursue virtual public schools as an

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attractive public school alternative. Given these statistics and the nascence of this market, we believe there is a significant opportunity for a high-quality, trusted, national education provider to serve virtual public schools.

Educational Philosophy

The design, development and delivery of our learning system is based on the following set of guiding principles:

•  Apply “Tried and True” Educational Approaches for Instruction.  Our learning system is designed to utilize both “tried” and “true” methods to drive academic success. “True” methodologies are based on cognitive research regarding the way in which individuals learn. We also supplement our learning system with teaching tools and methodologies that have been tested, or “tried,” and proven to be effective. This “tried and true” philosophy allows us to benefit from both decades of research about learning, and effective methods of teaching.

•  Employ Technology Appropriately for Learning.  While all of our courses are delivered primarily through an online platform and generally include a significant amount of online content, we employ technology only where we feel it is appropriate and can enhance the learning process. In addition to online content, our curriculum includes a rich mix of offline course materials, including engaging textbooks and hands-on materials such as phonics kits and musical instruments. We believe our balanced use of technology and offline materials helps to maximize the effectiveness of our learning system.

•  Base Learning Objectives on Rich Content and “Big Ideas.”  We refer to “big ideas” as the key, subconscious frameworks that serve as the foundation to a student’s future understanding of a subject matter. For example, an understanding of waves is fundamental to a physicist’s understanding of quantum mechanics; therefore, we teach 1st graders the fundamentals of waves. We use these “big ideas” to organize and provide the master objectives of every course we develop. We then utilize rich, engaging content to best communicate these concepts to students to promote mastery of the topics.

•  Assess Every Objective to Ensure Mastery.  Ongoing assessments are the most effective way to evaluate a student’s mastery of a lesson or concept. To facilitate effective assessment, our curriculum establishes clear objectives for each lesson. Throughout a course, each student’s progress is assessed and evaluated by a teacher at a point when each objective is expected to be mastered, providing direction for appropriate pacing. These periodic and well-timed assessments reinforce learning and promote mastery of a topic before a student moves to the next lesson or course.

•  Facilitate Flexibility as the Level, Pace and Hours Spent on Each Objective Vary by Child.  We believe that each student should be challenged appropriately. Generally, adequate progress for most students is to complete one academic year’s curriculum within a nine-month school year. Each individual student may take greater or fewer instructional hours and more or less effort than the average student to achieve this progress. Our learning system is designed to facilitate this flexibility in order to ensure that the appropriate amount of time and effort is allocated to each lesson.

•  Prioritize Important, Complex Objectives.  We have developed a clear understanding of those subjects and concepts that are difficult for students. Greater instructional effort is focused on the most important and difficult concepts and skills. We use existing research, feedback from parents and students and experienced teacher judgments to determine these priorities, and to modify our learning system to guide the allocation of each student’s time and effort.

Products and Services

Our Products

K¹² Curriculum

Our curriculum consists of the K¹² online lessons, offline learning kits and teachers’ guides. We have developed an extensive catalogue of proprietary courses, consisting of more than 14,000 lessons, designed to teach concepts to students from kindergarten through 12th grade. Each lesson is designed to last approximately 45 to 60

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minutes, although students are able to work at their own pace. A single course generally consists of 120 to 180 individual lessons.

Online Lessons.  Our online lessons are accessed through our Online School (OLS) platform. Each online lesson provides the roadmap for the entire lesson including direction to specific online and offline materials, online lesson content and a summary of the major objectives for the lesson. Lessons utilize a combination of innovative technologies including flash animations and online interactivity, coordinated textbooks and hands-on materials and individualized feedback to create an engaging, responsive and highly effective curriculum. Each lesson also contains an online assessment to ensure that students have mastered the material and are ready to proceed to the next lesson, allowing them to work at their own pace. Pronunciation guides for key words and references to suggested additional resources, specific to each lesson and each student’s assessment, are also included.

Offline Learning Kits.  Most of our courses utilize a series of offline learning kits in conjunction with the online lessons to help maximize the effectiveness of our learning system. In addition to receiving access to our online lessons through the Internet, each student receives a shipment of offline materials, including textbooks, art supplies, laboratory supplies (e.g. microscopes and scales) and other reference materials which are incorporated throughout our curriculum. This approach is consistent with our guiding principle to utilize technology where appropriate in our learning system. Most of the textbooks we use are proprietary textbooks that are written in a way that is designed to be engaging to students and to compliment the online experience. We believe that our ability to combine online lessons and offline materials so effectively is a competitive advantage.

Teachers’ Guides.  All of our courses are paired with a teacher’s guide. Each guide outlines the course objectives, refers back to all of the course content that is contained in the online and offline course materials, includes answers and explanations to the exercises that the students complete and contains suggestions for explaining difficult concepts to students.

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Courses Offered

The following table provide a list of our K-8 and high school course offerings:

	English and Language Arts	Mathematics	Science	History	World Languages	Music/Art/Other
Elementary School	Kindergarten Language Arts Kindergarten Phonics 1st Grade Language Arts 1st Grade Phonics 2nd Grade Language Arts 3rd Grade Language Skills 3rd Grade Spelling 3rd Grade Literature 4th Grade Language Skills 4th Grade Spelling 4th Grade Literature 5th Grade Language Skills 5th Grade Spelling 5th Grade Literature	Kindergarten Math 1st Grade Math 2nd Grade Math 3rd Grade Math 4th Grade Math 5th Grade Math	Kindergarten Science 1st Grade Science 2nd Grade Science 3rd Grade Science	Kindergarten History 1st Grade History 2nd Grade History 3rd Grade History 4th Grade History American History Before 1865	Spanish Elementary Year 1 Spanish Elementary Year 2 French Elementary Year 1 French Elementary Year 2 German Elementary Year 1 German Elementary Year 2 Latin Elementary Year 1	Kindergarten Art 1st Grade Art 2nd Grade Art 3rd Grade Art 4th Grade Art Intermediate Art: American A Preparatory Music Beginning 1 Music Beginning 2 Music Introduction to Music Intermediate 1 Music Intermediate 2 Music Intermediate 3 Music Exploring Music
Middle School	Intermediate Language Skills A Intermediate Language Skills B Intermediate Literature A Intermediate Literature B Literary Analysis and Composition	Pre-Algebra A Pre-Algebra B Algebra I	Earth Science Life Science Physical Science	American History Since 1865 Intermediate World History A Intermediate World History B		Intermediate Art: American B Intermediate Art: World A Intermediate Art: World B Music Concepts A Music Concepts B
High School	ENG102: Literary Analysis and Composition I ENG103: Literary Analysis and Composition I ENG104: Honors Literary Analysis and Composition I ENG202: Literary Analysis and Composition II ENG203: Literary Analysis and Composition II ENG204: Honors Literary Analysis and Composition II ENG302: American Literature ENG303: American Literature ENG304: Honors American Literature ENG402: British and World Literature ENG403: British and World Literature ENG500: AP® English Language and Composition ENG510: AP® English Literature and Composition ENG010: Journalism	MTH102: Math Foundations MTH112: Pre-Algebra MTH113: Pre-Algebra MTH122: Algebra I MTH123: Algebra I MTH124: Honors Algebra I MTH203: Geometry MTH302: Algebra II MTH303: Algebra II MTH312: Business & Consumer Math MTH403: Pre-Calculus/ Trigonometry MTH500: AP® Calculus AB MTH510: AP® Statistics	SCI102: Physical Science SCI112: Earth Science SCI113: Earth Science SCI202: Biology SCI203: Biology SCI302: Chemistry SCI303: Chemistry SCI304: Honors Chemistry SCI403: Physics SCI500: AP® Biology SCI510: AP® Chemistry SCI520: AP® Physics B SCI010: Environmental Science SCI020: Life Science: Oceanography	HST102: World History HST103: World History HST203: Modern World Studies HST212: Geography and World Cultures HST213: Geography and World Cultures HST302: U.S. History HST303: U.S. History HST304: Honors U.S. History HST402: U.S. Government and Politics HST403: U.S. Government and Politics HST412: U.S. and Global Economics HST413: U.S. and Global Economics HST500: AP® U.S. History HST510: AP® U.S. Government and Politics HST520: AP® Macroeconomics HST530: AP® Microeconomics HST540: AP® Psychology HST010: Anthropology HST020: Psychology HST030: Macroeconomics	WLG100: Spanish I WLG200: Spanish II WLG300: Spanish III WLG500: AP® Spanish Language WLG110: French I WLG210: French II WLG310: French III WLG510: AP® French Language WLG120: German I WLG220: German II WLG130: Latin I WLG230: Latin II WLG140: Chinese I WLG240: Chinese II	ART010: Fine Art ART020: Music Appreciation ORN010: Online Learning 08-09 ORN020: Finding Your Path — Planning for Career and College OTH010: Skills for Health OTH020: Physical Education OTH030: Career Planning OTH040: Study Skills and Learning Strategies BUS010: Business Communication and Career Exploration BUS020: Business and Personal Relationships BUS030: Personal Finance TCH010: Computer Literacy I TCH020: Computer Literacy II TCH030: Digital Photography and Graphics TCH040: Web Design TCH050: Digital Video Production TCH060: C++ Programming TCH070: Game Design I TCH080: Game Design II TCH090: 3D Game Creation TCH016: Flash Animation

Notes: Italicized courses are licensed on a per enrollment basis from third parties for the 2008-09 school year.

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K-8 Courses.  From kindergarten through 8th grade, our courses are categorized into six major subject areas: English and Language Arts, Mathematics, Science, History, Art and Music. Our proprietary curriculum includes all of the courses that students need to complete their core kindergarten through 8th grade education. These courses focus on developing fundamental skills and teaching the key knowledge building blocks or schemas that each student will need to master the major subject areas, meet state standards and complete more advanced coursework. Unlike a traditional classroom education, our learning system offers the flexibility for each student to take courses at different grade levels in a single academic year, providing flexibility for students to progress at their own level and pace within each subject area. In addition, the flexibility of our learning system allows us to tailor our curriculum to state specific requirements. For example, we have developed 26 courses specifically for use in Texas public schools. Also, beginning in 2008, we have expanded the K-8 offering to include elementary and middle school world language courses in Spanish, French, German, Chinese, and Latin.

High School Courses.  The curriculum sought by students in each of the high school grades is much broader and varies from student to student, largely as a result of the increased flexibility in course selection required for high school students. In order to offer a full suite of courses, including the many elective courses required to meet the needs of high school students, we offer a combination of courses owned by K¹² and selected courses licensed from third-parties. In the 2008-09 school year, K¹² courses will account for over 90% of total high school course enrollments.

Online School Platform

Our Online School platform is an intuitive, web-based software platform that provides access to our online lessons as well as our lesson planning and scheduling tools and our progress tracking tool, both of which serve a key role in assisting parents and teachers in managing each student’s progress. Because the OLS is a web-based platform, students, parents and teachers can access our online tools and lessons through the OLS from anywhere with an Internet connection at any time of the day or night.

•  Lesson Planning and Scheduling Tools.  In a school year, a typical student will complete between 800 and 1,200 lessons across six or more subject areas. Our lesson planning and scheduling tools enable teachers and parents to establish a master plan for completing these lessons. These tools are designed to dynamically update the lesson plan as a student progresses through each lesson and course, allowing flexibility to increase or decrease the pace at which the student moves through the curriculum while ensuring that the student progresses towards completion in the desired time frame. For example, the schedule can easily be adapted to accommodate a student who desires to attend school six days a week, a student who is interested in studying during the winter holidays to take time off during the spring, or a student who chooses to take two math classes a day for the first month of the school year and delay art classes until the second month of the school year. Moreover, changes can be made to the schedule at any point during the school year and the remainder of the student’s schedule will automatically be adjusted in the OLS.

•  Progress Tracking Tools.  Once a master schedule has been established, the OLS delivers lessons based upon the specified parameters. Each day, a student is initially directed to a screen listing the syllabus for that particular day and begins the school day by selecting one of the listed lessons. As each lesson is completed, the student returns to the day’s syllabus to proceed to the next subject. If a student does not complete a lesson during the session, the lesson will be rescheduled to the next day and will resume at the point where the student left off. Our progress tracking tool allows students, parents and teachers to monitor student progress. In addition, information collected by our progress tracking tool regarding student performance, attendance and other data is transferred to our proprietary management system for use in providing administrative support services.

•  Assessment Tracking Tools:  Independent third-party assessments will be used in most K12-managed schools to pinpoint specific individual student strengths and weaknesses relative to state content standards at the beginning of the school year. These results enable the teacher to develop a highly personalized individual learning plan for students. End of year testing will provide a measure of individual student growth demonstrating the value-added gains of the school program.

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School Management Systems

Our Student Administration Management System (SAMS) organizes, updates and reports information that is automatically collected through interfaces with our OLS and related management systems. SAMS collects and provides us with all of the information required to manage student enrollment and monitor student performance. SAMS is also central to collecting and managing all administrative data required to operate a virtual public school. In addition, the information provided by SAMS feeds our proprietary Order Management System (OMS) that generates orders for offline learning kits and computers to be delivered to students. In addition, in 2008 we launched TotalView, which provides administrators, teachers, parents and students a unified view of student progress, attendance, document interaction and learning kit shipment tracking. TotalView also provides a more sophisticated means of tracking of student engagement in required classroom activities, identification of those students struggling with grade level state content standards, and previous year’s performance on state tests.

Student Community Tools

We place a strong emphasis on the importance of building a sense of community in the schools we manage. We offer tools that foster communication and interaction among virtual public school students and parents. We have just launched thebigthinK¹², our secure, online community for K¹² high school students (age 13 and over), parents, teachers, school administrative staff and K¹² staff. It is built using a third party platform and includes the following capabilities: discussion boards, blogs, document repository, calendars, RSS feeds, polls, profiles and private messaging. The community is also professionally monitored by an independent third party. Additionally, our K¹² Family Directory web-based tool enables parents of virtual public school students to organize online and offline social activities for their children. Parents can run searches based on criteria such as their child’s location, age or interests (such as hobbies or sports) to locate and contact other parents of children with similar interests to facilitate student interaction.

Our Services

We provide a wide array of services to students and their families as well as directly to virtual public schools. Our services can be categorized broadly into academic support services and management and technology services.

Academic Support Services

Teachers and Related Services.  Teachers are critical to the educational success of students in virtual public schools. Teachers in the virtual public schools that we serve are generally employed by the school, with the ultimate authority over these teachers residing with the school’s governing body. Under our service agreements, we recruit, train and provide management support for these teachers. Historically, we have seen significant demand for teaching positions in the virtual public schools that we serve. For example, for the virtual public school we serve in Pennsylvania, between September 1, 2007 and June 30, 2008 we received approximately twenty applications for each teaching position filled.

We use a rigorous evaluation program for making hiring recommendations to the virtual public schools we serve. We hire teachers who, at a minimum, are state certified and meet the federal requirements for designation as a “Highly Qualified Teacher,” and generally have at least three years of teaching experience. We also seek to recruit teachers who have the skill set necessary to be successful in a virtual public school environment. Teaching in a virtual public school is characterized by heightened one-on-one student-teacher and parent-teacher interaction, so virtual public school teachers must have strong interpersonal communications skills. Additionally, a virtual public school teacher must be creative in finding ways to effectively connect with their students and integrate themselves into the daily lives of the students’ families.

New virtual public school teachers attend our comprehensive training program during which, among other things, they are introduced to our educational philosophy, our curriculum and our OLS and other technology applications, and are provided strategies for communicating and connecting with students and their families in a virtual public school environment. We also provide ongoing training opportunities for teachers so that they may stay abreast of changing educational standards and key learning trends, which we believe enhances their teaching abilities and effectiveness.

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Gifted and Special Education Services.  We believe that our individualized learning system is able to effectively address the educational needs of gifted and special education students because it is self-paced and employs flexible teaching methods. For students requiring special attention, we employ a national director who is an expert on the delivery of special education services in a virtual public school environment and who oversees and directs the special education programs at the virtual public schools we serve. We direct and facilitate the development and implementation of “individualized education plans” for students with special needs. Our special education program is compliant with the federal Individuals with Disabilities Education Act and all state special education requirements. Each special needs student is assigned a certified special education teacher who arranges for any required ancillary services, including speech and occupational therapy, and any required assistive technologies, such as special computer displays or speech recognition software.

Student Support Services.  We provide students attending virtual public schools that we serve and their families with a variety of support services to ensure that we effectively meet their educational needs and goals. We offer our “K¹² Care” program to address any questions or concerns that students and their parents have during the course of their matriculation. We plan and coordinate social events to offer students opportunities to meet and socialize with their virtual public school peers. Finally, in connection with our high school offering, each student is assigned an advisor and/or a guidance counselor who assists them with academic issues, college and career planning and other support as needed.

Management Services

Under many of our contracts, we provide virtual public schools with turnkey management services. In these circumstances, we take responsibility for all aspects of the management of the schools, including monitoring academic achievement, teacher hiring and training, compensation of school personnel, financial management, enrollment processing and procurement of curriculum, equipment and required services. In 2007, the Commission on International and Trans-regional Accreditation (CITA), a leading worldwide education accreditation agency, thoroughly evaluated our school management services and we ultimately received the prestigious CITA accreditation.

Compliance and Tracking Services.  Operating a virtual public school entails most of the compliance and regulatory requirements of a traditional public school. We have developed management systems and processes designed to ensure that schools we serve are in compliance with all applicable requirements, including tracking appropriate student information and meeting various state reporting requirements. For example, we collect enrollment related information, monitor attendance and administer proctored state tests. As we have expanded into new states, our processes have grown increasingly robust, and we believe our compliance and tracking processes provide us with a distinct competitive advantage.

Financial Support Services.  For the schools we manage, we oversee the preparation of the annual budget and coordinate with the school’s directors to determine their annual objectives. In addition, we implement an internal control framework, develop policies and procedures, provide accounting services and payroll administration, oversee all federal entitlement programs and arrange for external audits.

Facility, Operations and Technology Support Services.  We operate administrative offices and all other facilities on behalf of the virtual public schools we serve. We provide these schools with a complete technology infrastructure. In addition, we provide a comprehensive student help desk solution.

Human Resources Support Services.  We are actively involved in hiring virtual public school administrators, teachers and staff, through a thorough interview and orientation process. To better facilitate the hiring process, we review and analyze the profiles of teachers that have been highly effective in our learning system to identify the attributes desired in future new hires. We also negotiate and secure employment benefits for teachers on behalf of virtual public schools and administer employee benefit plans for virtual public school employees. Additionally, we assist the virtual schools we serve in drafting and implementing administrative policies and procedures.

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Product Development

We develop our products and related service offerings through a highly collaborative process that blends cognitive research with an innovative development approach by utilizing best practices from the education industry and other industries. Our approach provides for effective content and rapid time to market. Unlike many traditional content companies that may take several years to develop a new course, our course development process usually takes between six and 12 months, depending upon grade and subject. Our development team includes professionals from the following disciplines:

•  Cognitive Scientists, Evaluation and Research Specialists — conduct and review cognitive research to determine how students master the key ideas in a subject area, the common misconceptions that present obstacles to mastery and available techniques that can effectively address common misconceptions.

•  Curriculum and Teaching Specialists — bring deep subject matter knowledge and experience with a variety of pedagogical approaches to our course design process.

•  Writers and Editors — script out the text of the lessons, ensuring that the information is accurate, meaningful and suitable for the age group we are trying to reach.

•  Instructional Designers — weave together all elements of a lesson and determine the extent to which online, multi-media components, textbooks and other offline materials, and activities can be integrated to achieve the desired learning outcomes.

•  Graphic Artists/Media Specialists/Flash Designers — ensure overall visual integrity of each lesson and build creative and interactive content.

•  Print Designers — design and publish our proprietary textbooks and printed learning materials.

•  User Experience Specialists — work closely with our design teams to ensure that lessons are easy for students to navigate and understand.

•  Training Specialists — concurrent with the development of the courses, develop training materials and programs to support the effective delivery of our curriculum by teachers.

•  Project Managers — coordinate all of the activities, including the work of the above-listed resources to develop the product as designed, on time, and on budget.

Using these highly skilled resources, we follow a six-stage product development process beginning with idea-generation and carrying through to post-production evaluation. Our ability to continually modify our products based upon student, parent and teacher feedback and assessment data is one of the significant advantages of our online curriculum. All of our lessons contain a user feedback button that allows us to identify learning issues on a real-time basis. In a given week, we receive hundreds of feedback items from students, parents and teachers. The related descriptions below illustrate each stage in our product development process.

Blueprint Stage.  During this stage of development, we gather the key requirements for a new product, which may be a new course or a group of related courses. We conduct a thorough review to identify all of the cognitive research related to learning of the subject and gain an understanding of the stages a student will go through in mastering the subject material. We also look at how experts perform in the subject. Expert-novice research has shown that an experts’ knowledge of a domain is contained in a subconscious framework, the components of which can help guide the development of a course. During this stage, we also analyze state standards to confirm that we are encompassing the elements of the nation’s highest state standards and that we are building courses which meet or surpass all state standards.

Design Stage.  We begin the design stage by developing the learning environment in which the product will be used. This includes understanding the types of students that will be using the product, how the course will be taught, the learning objectives within the course and what online and offline materials can be utilized. We then produce a design document and our creative teams develop a work plan for every aspect of the product, including the look and feel of the product, level of functionality and length of the course. We produce, test and refine prototypes with focus groups of students, teachers and parents.

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Pre-production Stage.  With the work plan complete, a pre-production team is assembled to develop the scope and sequence of the course. The scope and sequence is an ordered collection of learning objectives based on cognitive research and state standards. These learning objectives, once organized, guide the production team in the creation of the individual course lessons. The pre-production team also creates the list of materials that will be required and provides this list to our logistics group for sourcing.

Production Stage.  During this stage, the product is built in accordance with the work plan. First, manuscripts, storyboards and lesson design specifications are created. Online screens, offline materials such as textbooks, simulations, photographs, and other reference materials are then created, reviewed and refined. Rights for licensed materials are cleared at this point, if needed. Each lesson then goes through a rigorous quality review before being released.

Support Stage.  The goal during this stage is to support the initial launch and ongoing utilization of our lessons and to enhance the products during the course of their useful life. We break this stage down into three components: (i) content development, where we design and develop teacher and student training packages; (ii) alignment and standards analysis, where we examine performance on state tests to determine the extent to which we should refine or adjust the standard alignments initially developed during the blueprint stage; and (iii) long-term maintenance, where we maintain and update the online and offline materials on an ongoing basis based upon feedback from teachers, parents and students.

Evaluation Stage.  The final stage of the product development cycle is the evaluation stage. During this phase, we evaluate the overall performance of our product against the original design specifications. We obtain measurement feedback from a number of sources, including:

•  User Feedback — we receive a substantial amount of feedback from teachers, parents and students. Some feedback is directly incorporated into course modifications. In addition, we observe students in our usability labs and visit students and parents to better understand how our products are being used;

•  Progress Reports — through our OLS, we are able to monitor each student’s progress through a course. This data helps us identify portions of a course that may be especially difficult for students, and may require revision or enhancements; and

•  State Test Scores — students in the virtual public schools we serve participate in proctored state exams. These tests provide an impartial assessment of how these students are performing against established benchmarks and within their state.

Using these sources of feedback, we can revise our courses as necessary to achieve the desired learning objectives. We believe that this ability to proactively respond to feedback and other data in an efficient manner is a key competitive advantage within the educational industry.

Education Advisory Committee.  To ensure the effectiveness of our learning systems, we have established an external Education Advisory Committee comprised of experienced leaders in the education industry. The members of this Committee have the responsibility to review our curriculum and instructional model, identify the needs of the growing online education market and propose solutions for consideration by our management, and discuss ways that we can better implement our guiding principles. The current members of the Committee include:

•  Thomas C. Boysen, Ed.D., Senior Vice President, Global Scholar Inc., and formerly Senior Vice President of K12 Inc., Kentucky Commissioner of Education, Chief Operating Officer of the Los Angeles Unified School District, Senior Vice President of the Milken Family Foundation and a school district superintendent in California, Washington and New York. Mr. Boysen is also the Chair of the Education Advisory Committee.

•  Barbara Byrd-Bennett, Ed.D., Executive-In-Residence, College of Education and Human Services, Cleveland State University and formerly Chief Executive Officer of the Cleveland Municipal School District and a school district superintendent for two school districts in New York City.

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•  Benjamin Canada, Ph.D., Associate Executive Director, District Services, Texas Association of School Boards and formerly President of the American Association of School Administrators and a school district superintendent in Georgia, Mississippi and Oregon.

•  JoLynne DeMary, Ed.D., Educational Leadership Director, Center for School Improvement, Virginia Commonwealth University and formerly Virginia Superintendent of Public Instruction.

•  David Driscoll, Ed.D., Education Consultant and formerly President, Council of Chief State School Officers, Commissioner of Education, Commonwealth of Massachusetts and a school district superintendent in Massachusetts. Dr. Driscoll currently serves on the board of the National Assessment Governing Board.

•  Chester Finn, Ed.D., President, Thomas B. Fordham Foundation and formerly Assistant Secretary for Research and Improvement & Counselor to the Secretary, U.S. Department of Education.

•  Charles Fowler Ed.D., President of School Leadership, LLC, Executive Secretary of the Suburban School Superintendents, an Adjunct Professor of School Organization and Leadership, Teachers College, Columbia University and formerly Chairperson of State and National Relations for the American Association of School Administrators and a school district superintendent in Connecticut, Florida, Illinois and New York.

•  Mary Futrell, Ed.D., Dean, Graduate School of Education and Human Development, George Washington University; Director, K12 Inc.; Co-director, George Washington Institute for Curriculum, Standards and Technology; founding President of Education International; and formerly President, World Confederation of the Organizations of the Teaching Profession; President, National Education Association, President, Virginia Education Association, and President, ERAmerica.

•  Michael Kirst, Ph.D., Professor Emeritus of Education and Business, Stanford University and formerly President of the California State Board of Education.

•  William Librera, Ph.D, Presidential Research Professor of Education for the Rutgers University Graduate School of Education, formerly Commissioner of Education for the State of New Jersey.

•  Dale Mann, Ph.D., Managing Director, Interactive Inc. and Professor Emeritus of Educational Administration, Teachers College, Columbia University and formerly Senior Research Associate, Institute on Education and the Economy, Teachers College, Columbia University.

•  Thomas Payzant, Ed.D., Professor of Practice, Harvard Graduate School of Education and formerly Assistant Secretary for Elementary and Secondary Education, U.S. Department of Education and a school district superintendent in California, Pennsylvania, Massachusetts, Oklahoma and Oregon.

•  Betty Rosa, Ed.D., Education Consultant and formerly a school district superintendent in New York City. Ms. Rosa also serves on the board of the Alumni Council of the Harvard Graduate School of Education.

•  Bernice Stafford, M.A., Principal Consultant, Center for Interactive Learning and Collaboration and formerly Vice President of School Strategies and Evaluation, PLATO Learning, Inc. and a co-founder of Lightspan, Inc.

Channel Development

K¹² receives numerous inquiries from school districts, legislators, community leaders, educators and parents who express the desire to offer a virtual public school alternative. Our school development and public affairs groups work together with these interested parties to identify and pursue opportunities to expand the use of our products and services through new channels and in new jurisdictions. Where interested parties seek to offer a virtual public school alternative in their state, our public affairs group works with them to establish the legal framework, advocate for appropriate legislation and explain the educational and fiscal benefits of our learning system. Our public affairs group also seeks to increase public awareness and ensure transparency in virtual schooling by supporting accountability standards for virtual public schools.

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Once there is legal and regulatory authorization for, as well as sufficient interest in, a virtual public school, our school development group engages state and school district officials, legislators, community leaders, educators and parent groups seeking to open a virtual public school, and initiates a dialog with these interested parties to explain the steps necessary to pursue this public school alternative in their jurisdiction. Our school development group works with these officials and parent groups in planning, developing and launching the virtual school. We also offer assistance to independent school boards with charter application and authorization processes.

After virtual public schools are approved and established, our school development group engages school administrators and maintains relationships with school officials in order to ensure that they are aware of our product and services offerings and that we understand their specific needs and goals.

Distribution Channels

We distribute our products and services primarily to virtual public schools and directly to consumers. We derive revenues from virtual public schools by providing access to our OLS, offline learning kits, student computers and a variety of management and academic support services, ranging from turnkey end-to-end management solutions to a single service to meet a school’s specific needs.

In fiscal year 2008, we derived more than 10% of our revenues from each of the Ohio Virtual Academy and the Agora Cyber Charter School in Pennsylvania. In aggregate, these schools accounted for 26% of our total revenues. We provide our full turnkey management solutions pursuant to our contracts with the Ohio Virtual Academy, which terminates June 30, 2017, and with the Agora Cyber Charter School, pursuant to a contract with the Cynwyd Group which expires June 30, 2016. Each of the contracts with these schools provides for termination of the agreement if the school ceases to hold a valid and effective charter from the charter-issuing authority in their respective states or if there is a material reduction in the per enrollment funding level.

Our direct-to-consumer product is purchased through our customer call center or online, by parents who desire to educate their children outside of the public school system or to supplement their child’s existing public school curriculum. The flexibility of our curriculum combined with the assessment capabilities of our online delivery platform enables us to modularize and repackage lesson modules that can be sold as individual products. For example, if a child has particular difficulties with fractions, the parent may purchase our fractions module. The ability to reconfigure individual lessons is highly scalable and we believe this opportunity is significant.

In addition to these primary distribution channels, we are pursuing additional channels through which to offer our learning system, including direct classroom instruction and hybrid models. For example, we have piloted select grades and subjects of our curriculum in classrooms in 11 states. Although our in-class offering business is at a nascent stage, we believe that this distribution channel offers significant potential. Additionally, we have implemented a hybrid offering in Chicago, and more recently in Indianapolis and Muncie, that combines some face-to-face time for students and teachers in a traditional classroom setting along with online instruction. In addition to expanding our offering to new jurisdictions within the United States, we are pursuing international opportunities where we believe there is significant demand for a quality online education.

In January 2008, we launched the K¹² International Academy, an online private school which serves students in the U.S. and throughout the world. Through K¹² International Academy, students may study in an academic program which is virtually identical to a U.S.- based private school and leads ultimately to a recognized high school diploma. The school utilizes the same K¹² curriculum, systems, and teaching practices as the virtual public schools we serve in the U.S. In addition, K¹² International Academy provides a unique international community including clubs and events that enrich the student experience by allowing students to interact with peers from other countries and cultures. The school is accredited by the Commission on International and Trans-Regional Accreditation (CITA), the Southern Association of Colleges and Schools (SACS), and is recognized by the State of Virginia as a degree granting institution of secondary learning. K¹² International Academy also has a branch facility in Dubai to reach and support students in the Gulf Cooperating Countries. We operate this through a joint venture with a local partner.

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Student Recruitment and Marketing

Our student recruitment and marketing team consisted of 66 employees as of June 30, 2008, and is responsible for promoting our corporate brand, generating new student enrollments, generating direct-to-consumer sales, and enhancing the experience of students and families enrolled in the virtual public schools we serve. This team employs a variety of strategies designed to better understand and address the requirements of our target markets.

First, this team is responsible for defining our brand image and associating our brand with the many positive attributes of our learning system. We believe that a strong brand provides the basis for our expansion into new states and other markets.

Second, our student recruitment and marketing team generates new enrollments in the virtual public schools we serve through targeted recruiting programs, which utilize coordinated direct mailings, email marketing, print and radio advertising and search engine marketing. In addition, our marketing team conducts information sessions and workshops that provide teachers and parents with the opportunity to learn about K¹² and the products and services that we offer. We conducted over 3,600 such events during fiscal year 2008. We have found that effectively communicating the details and benefits of our learning system is an important first step towards building a core group of interested parties. Additionally, we believe that our consistently high customer satisfaction rates serve as the foundation for word-of-mouth referrals which supplement our other recruiting efforts.

Finally, this team is responsible for enhancing our relationship with students enrolled in the virtual public schools that we serve to complement the relationship that these students have with their teachers and school. In order to maintain a sense of community, we host “thebigthinK¹²”, an online private global community limited to those parents, teachers and high school students (age 13 and over), with a valid K¹² password and who are subject to a code of conduct. The community is also professionally monitored by an independent third party. We also send welcome packages, conduct art contests, conduct research (qualitative and quantitative), and provide support to students through online web-based sessions.

Technology

As of June 30, 2008, we employed 89 employees in our technology department. Our learning system, along with our back office systems supporting order management, logistics and e-commerce, are built on our proprietary Service Oriented Architecture, or SOA, to ensure high availability and redundancy and allow flexibility and security to be core principles of our systems’ foundation.

Service Oriented Architecture.  All of our systems leverage our SOA built on top of Enterprise Java that separates an implemented capability from a request flow that utilizes those capabilities. This leverage provides us with the ability to deliver different presentations against a single request workflow. Additionally, this flexibility allows iterative solutions to be developed expeditiously to meet both present and future market needs. Our high availability and scalability are also facilitated by this architecture. The SOA also enables seamless integration with third-party solutions in our platform with ease and efficiency.

Availability and Redundancy.  Our SOA allows for a hardware topology where primary and secondary equipment can be utilized at all network and application tiers. Each application layer is load balanced across multiple servers, which, along with our sophisticated state management capabilities, allows for additional hardware to be inserted into our network providing us with impressive scalability and availability as evidenced by our greater than 99% uptime with our ever growing user base. We regularly backup critical data and store this backup data at an offsite location.

Security.  Our security measures and policies include dividing application layers into multiple zones controlled by firewall technology. Sensitive communications are encrypted between client and server and our server-to-server accessibility is strictly controlled and monitored.

Physical Infrastructure.  We utilize the best of breed hardware from industry leading vendors including Cisco, F5, Oracle, Sun, Microsoft, Dell, Intel, and NetApp to provide a foundation for our SOA. Our systems are housed offsite in a state of the art data center that provides robust, redundant network backbone and power. We vigilantly monitor our physical infrastructure for security, availability, and performance.

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Competition

We face varying degrees of competition from a variety of education companies because our learning system encompasses many components of the educational development and delivery process. We compete primarily with companies that provide online curriculum and school support services to K-12 virtual public schools. These companies include Connections Academy, LLC; KC Distance Learning Inc.; Insight Schools, Inc.; Plato Learning, Inc.; White Hat Management, LLC and National Network of Digital Schools among others. We also face competition from curriculum developers, including traditional textbook publishers such as the McGraw-Hill Companies, Harcourt, Inc.; Pearson plc and Houghton Mifflin Riverdeep Group plc. Additionally, we expect increased competition from post-secondary and supplementary education providers that have begun to establish a presence in the K-12 virtual school sector, including Apollo Group, Pearson plc and Kaplan, Inc.

We believe that the primary factors on which we compete are:

•  track record of academic results and customer satisfaction;

•  quality of curriculum and online delivery platform;

•  qualifications and experience of teachers;

•  comprehensiveness of school management and student support services; and

•  cost of the solution.

We are unable to provide meaningful data with respect to our market share. At a minimum, we believe that we serve the market for public education, and in any jurisdiction in which we operate, we generally serve far less than 1% of the public school students in the geographic area in which virtual school enrollments are drawn. Defining a more precise relevant market upon which to base a share estimate would not be meaningful due to significant limitations on the comparability of data among jurisdictions. For example, some providers to K-12 virtual schools serve only the high school segment, others serve the elementary and middle school segment, and a few serve both. Furthermore, some school districts offer their own virtual programs. Parents in search of an alternative to their local public school also have a number of substitutable choices beyond virtual schools including private schools, charter schools, home schooling, and blended public schools. In addition, our integrated learning system consists of components that face competition from many different education industry segments, such as traditional textbook publishers, test and assessment firms and private education management companies. Finally, our learning system is designed to operate domestically and internationally over the Internet, and thus the geographic addressable market is global and indeterminate in size.

Intellectual Property

Since our inception, we have invested more than $130 million to develop our proprietary curriculum and OLS. We continue to invest in our intellectual property as we develop more courses for new grades and expand into adjacent education markets, both in the U.S. and overseas. These intellectual property assets are critical to our success and we avail ourselves of the full protections provided under the patent, copyright, trademark and trade secrets laws. We also routinely utilize confidentiality and licensing agreements with our employees, students, the virtual public schools that we serve, direct-to-consumer customers, independent contractors and other businesses and persons with which we have commercial relationships.

On May 1, 2007, the United States Patent and Trademark Office (USPTO) granted us the patent for our “System and Method of Virtual Schooling” (Patent No. 7,210,938), which provides us with a period of exclusive use until January 26, 2024. We were granted a patent with the same name and substantially the same claims (Patent No. 2007226807) by the Australian Patent Office on November 8, 2007. In general terms, these patents cover the hardware and network infrastructure of our online school, including the system components for creating and administering assessment tests, the planner, lesson progress tracker and instructional sequencer. We also have six U.S. and five international patent applications pending in regards to other aspects of the patented inventions. Finally, we have two U.S. and two international patent applications with 10 foreign counterparts pending in selected countries relating to the inventive aspects of our basal math and science and hybrid learning environments.

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We own the copyright to over 14,000 lessons contained in the courses that make up our proprietary curriculum, including our online lessons and offline learning kits, and we register this growing lesson portfolio with the U.S. Copyright Office as each new course is completed or updated. We own and use the domain names K12 (.com, .org) and K-12 (.com, .net, .org) as well as the trademark and service mark, K¹². In addition, we have applied to the USPTO to register the trademark “Unleash the xPotential.”

Students who enroll in the virtual public schools we serve are granted a license to use our software in order to access our learning system. Similarly, virtual public schools are granted a license to use our learning system in order to access SAMS and our other systems. These licenses are intended to protect our ownership and the confidentiality of the embedded information and technology contained in our software and systems. We also own the trademarks and service marks that we use as part of the student recruitment and branding services we provide to virtual public schools. Those marks are licensed to the schools for use during the term of the products and services agreements.

Our employees, contractors and other parties with access to our confidential information sign agreements that prohibit the unauthorized use or disclosure of our proprietary rights, information and technology.

Operations

The offline learning kits that accompany our online lessons are an essential component of our courses. A student enrolling in one of our courses receives multiple textbooks, art supplies, laboratory supplies (e.g. microscopes and scales) and other reference materials designed to enhance the learning experience. We package these books and materials into course-specific learning kits. Because each student’s curriculum is customized, the combination of kits for each student must also be customized. In fiscal year 2008, we assembled approximately 3.0 million items into more than 350,000 kits.

Over our seven years of operation, we believe that we have gained significant experience in the fulfillment of offline materials and that this experience provides us with an advantage over many of our current and potential future competitors. We have developed strong relationships with partners allowing us to source goods at favorable price, quality and service levels. Through our fulfillment partner, we store our inventory, build our learning kits and ship the kits to students. We have invested in systems including our Order Management System (OMS), to automatically translate the curriculum selected by each enrolled student into an order to build the corresponding learning kit. In the future, we plan to establish a second logistics and fulfillment center in the western portion of the United States to support our growth and to mitigate single-location fulfillment risk.

For many of our virtual public school customers, we attempt to reclaim any materials that are not consumed during the course of the school year. These items, once returned to our fulfillment center, are refurbished and included in future learning kits. This reclamation process allows us to maintain lower materials costs.

In order to ensure that students in virtual public schools have access to our OLS, we often provide students with a computer and all necessary support. We source computers and ship them to students when they enroll and reclaim the computers at the end of a school year or upon termination of their enrollment or withdrawal from the virtual public school in which they are enrolled. As of June 30, 2008, we had approximately 26,500 personal computers deployed or available for use by students.

Our fulfillment activities are highly seasonal, and are centered around the start of school in August or September. Accordingly, approximately 63% of our annual materials receiving occurs between April and June and approximately 65% of customer item fulfillment and shipping occurs between July and October.

Employees

As of June 30, 2008, we had 763 employees including 186 teachers. In addition, there are approximately 950 teachers who are employed by virtual schools we serve, but who we manage under turnkey solution contracts with those schools. No K¹² employees are union employees; however, certain virtual public schools we serve employ unionized teachers. We believe that our employee relations are good.

We have an agreement with a professional employer organization (PEO), to manage all payroll processing, workers’ compensation, health insurance, and other employment-related benefits for our employees. The PEO is a

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co-employer of our employees along with us. Although the PEO processes our payroll and pays our workers’ compensation, health insurance and other employment-related benefits, we are ultimately responsible for such payments and are responsible for complying with state and federal employment regulations. We pay the PEO a fee based on the number of employees we have.

Available Information

Our Company’s Internet address is www.k12.com. We make available, free of charge through our website, our annual reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports filed pursuant to Section 13(a) or 15(d) of the Exchange Act, soon after they are electronically filed with the SEC. In addition, our earnings conference calls are web cast live via our website. In addition to visiting our website, you may read and copy public reports we file with the SEC at the SEC’s Public Reference Room at 100 F. Street, NE, Washington DC 20549, or at www.sec.gov. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. Information contained on our website is expressly not incorporated by reference into this Form 10-K.

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REGULATION

We and the virtual public schools that purchase our curriculum and management services are subject to regulation by each of the states in which we operate, including Colorado, Arizona, Idaho, Florida, Wisconsin, Arkansas, Texas, Illinois, Minnesota, Kansas, Utah, Nevada, California, Georgia, Ohio, Pennsylvania, Washington, Oregon, South Carolina, Indiana, Hawaii and the District of Columbia. The state laws and regulations that directly impact our business are those that authorize or restrict our ability to operate virtual public schools, and those that restrict virtual public school growth and funding. In addition, there are state laws and regulations that are applicable to virtual public schools that indirectly affect our business insofar as they affect these virtual public schools’ ability to operate and receive funding. Finally, to the extent a virtual school obtains federal funds, such as through a grant program or financial support dedicated for the education of low-income families, these schools then become subject to additional federal regulation. These federal regulations have not had a material impact on our business.

State Laws Authorizing or Restricting Virtual Public Schools.  The authority to operate a virtual public school is dependent on the laws and regulations of each state. Laws and regulations vary significantly from one state to the next and are constantly evolving. In states that have implemented specific legislation to support virtual public schools, the schools are able to operate under these statutes. Other states provide for virtual public schools under existing charter school legislation or provide that school districts and/or state education agencies may authorize them. Some states do not currently have legislation that provides for virtual public schools or have requirements that effectively prohibit virtual public schools and, as a result, may require new legislation before virtual public schools can open in the state. According to a June 2008 update of state online learning policies by the North American Council for Online Learning (“NACOL”), there are 42 states that have either adopted legislation or formal rules or have created programs for the purpose of providing statewide supplemental and/or full-time online learning opportunities. We currently serve virtual schools or school district-led programs in 25 states plus the District of Columbia. NACOL also identified 8 states that do not currently have either a state-led program or significant state-level policies for online education; however, the absence of such conditions has not precluded us from applying to serve, and in certain cases serving, schools in some of those states.

Obtaining new legislation in these remaining states can be a protracted and uncertain process despite their limited number. When determining whether to pursue expansion into new states in which the laws are ambiguous, we research the relevant legislation and political climate and then make an assessment of the perceived likelihood of success before deciding to commit resources. Specifically, we take into account numerous factors including, but not limited to, the regulations of the state educational authorities, whether the overall political environment is amenable to school choice, whether current funding levels for virtual school enrollments are adequate and accessible, and the presence of non-profit and for-profit competitors in the state.

State Laws and Regulations Applicable to Virtual Public Schools.  Virtual public schools that purchase our curriculum and management services are often governed and overseen by a non-profit or local or state education agency, such as an independent charter school board, local school district or state education authority. We generally receive funds for products and services rendered to operate virtual schools under detailed service agreements with that governing authority. Virtual public schools are typically funded by state or local governments on a per student basis. A virtual school that fails to comply with the state laws and regulations applicable to it may be required to repay these funds and could become ineligible for receipt of future state funds. Subject to the outcome of the legal proceedings described in the section entitled “Part I, Item 3 — Legal Proceedings,” we are not aware of any material non-compliance with these state regulations by the virtual public schools we serve.

To be eligible for state funding, some states require that virtual schools be organized under not-for-profit charters exempt from taxation under Section 501(c)(3) of the Internal Revenue Code. The schools must then be operated exclusively for charitable educational purposes, and not for the benefit of private, for-profit management companies. The board or governing authority of the not-for-profit virtual school must retain ultimate accountability for the school’s operations to retain its tax-exempt status. It may not delegate its responsibility and accountability for the school’s operations. Our service agreements with these virtual schools are therefore structured to ensure the full independence of the not-for-profit board and preserve its ability to exercise its fiduciary obligations to operate a virtual public school.

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Laws and regulations affect many aspects of operating a virtual public school. They can dictate the content and sequence of the curriculum, the requirements to earn a diploma, use of approved textbooks, the length of the school year and the school day, the assessment of student performance, and any accountability requirements. In addition, a virtual public school may be obligated to comply with state requirements to offer programs for specific populations, such as students at risk of dropping out of school, gifted and talented students, non-English speaking students, pre-kindergarten students, and students with disabilities. Tutoring services and the use of technology may also be regulated. Other state laws and regulations may affect the school’s compulsory attendance requirements, treatment of absences and make-up work, and access by parents to student records and teaching and testing materials. Additionally, states have various requirements concerning the reporting of extensive student data that may apply to the school. A virtual public school may have to comply with state requirements that school campuses report various types of data as performance indicators of the success of the program.

States have laws and regulations concerning certification, training, experience and continued professional development of teachers and staff with which a virtual public school may be required to comply. There are also numerous laws pertaining to employee salaries and benefits, statewide teacher retirement systems, workers’ compensation, unemployment benefits, and matters related to employment agreements and procedures for termination of school employees. A virtual public school must also comply with requirements for performing criminal background checks on school staff, reporting criminal activity by school staff and reporting suspected child abuse.

As with any public school, virtual public schools must comply with state laws and regulations applicable to governmental entities, such as open meetings laws, which may require the board of trustees of a virtual public school to hold its meetings open to the public unless an exception in the law allows an executive session. Failure to comply with these requirements may lead to personal civil and/or criminal penalties for board members or officers. Virtual public schools must also comply with public information or open records laws, which require them to make school records available for public inspection, review and copying unless a specific exemption in the law applies. Additionally laws pertaining to records privacy and retention and to standards for maintenance of records apply to virtual public schools.

Other types of regulation applicable to virtual public schools include restrictions on the use of public funds, the types of investments made with public funds, the collection of and use of student fees, and controlling accounting and financial management practices.

There remains uncertainty about the extent to which we may be required to comply with state laws and regulations applicable to traditional public schools because the concept of virtual public schools is relatively new. Although we receive state funds indirectly, according to the terms of each service agreement with the local public school entity, our receipt of state funds subjects us to extensive state regulation and scrutiny. Several states have commenced audits, some of which are still pending, to verify enrollment, attendance, fiscal accountability, special education services, and other regulatory issues. While we may believe that a virtual public school we serve is compliant with state law, an agency’s different interpretation of law in a particular state could result in non-compliance, potentially affecting funding.

Regulations Restricting Virtual Public School Growth and Funding.  As a new public schooling alternative, some state and regulatory authorities have elected to proceed cautiously with virtual public schools while providing opportunities for taxpayer families seeking this alternative. Regulations that control the growth of virtual public schools range from prescribing the number of schools in a state to limiting the percentage of time students may receive instruction online. Funding regulations can also have this effect.

Regulations that hinder our ability to serve certain jurisdictions include: restrictions on student eligibility, such as mandating attendance at a traditional public school prior to enrolling in a virtual public school; caps on the total number of students in a virtual school; restrictions on grade levels served; geographic limitations on enrollments; fixing the percentage of per pupil funding that must be paid to teachers; state-specific curriculum requirements; and limits on the number of charters that can be granted in a state.

Funding regulations for virtual schools can take a variety of forms. These regulations include: (i) attendance — some state daily attendance rules were designed for traditional classroom procedures and applying them to

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track daily attendance and truancy in an online setting can cause disputes to arise over interpretation and funding; (ii) enrollment eligibility— some states place restrictions on the students seeking to enroll in virtual schools, resulting in lower aggregate funding levels; and (iii) teacher contact time — some states have regulations that specify minimum levels of teacher-student face-to-face time, which can create logistical challenges for statewide virtual schools, reduce funding and eliminate some of the economic, academic and technological advantages of virtual learning.

Federal and State Grants.  We have worked with certain entities to secure public and grant funding that flows to virtual public schools that we serve. These grants are awarded to the not-for-profit entity that holds the charter of the virtual public school on a competitive basis in some instances and on an entitlement basis in other instances. Grants awarded to public schools and programs — whether by a federal or state agency or nongovernmental organization — often include reporting requirements, procedures, and obligations.

Five primary federal laws are directly applicable to the day-to-day provision of educational services we provide to virtual public schools:

•  No Child Left Behind (NCLB) Act.  Through the funding of the Title I programs for disadvantaged students under NCLB, the federal government requires public schools to develop a state accountability system based on academic standards and assessments developed by the state, which are applicable to all public school students. Each state must determine a proficiency level of academic achievement based on the state assessments, and must determine what constitutes adequate yearly progress (AYP) toward that goal. NCLB has a timeline to ensure that no later than the 2013-14 school year, all students, including those in all identified subgroups (such as economically disadvantaged, limited English proficient and minority students), will meet or exceed the state proficient level of academic achievement on state assessments. The progress of each school is reviewed annually to determine whether the school is making adequate yearly progress. If a Title I school does not make adequate yearly progress as defined in the state’s plan, the local education agency (LEA) is required to identify the school as needing school improvement, and to provide all students enrolled in the school with the option to transfer to another public school served by the LEA, which may include a virtual public school. The LEA must develop a school improvement plan for each school identified as needing improvement in consultation with parents, staff and outside experts and this plan must be implemented not later than the beginning of the next full school year. If the school does not make adequate yearly progress in subsequent years, the school transfer option remains open to students and other corrective action must be taken ranging from providing supplemental education services to the students who remain in the school to taking corrective action including, but not limited to, replacing school staff, implementing a new curriculum, appointing outside experts to advise the school, extending the school year or the school day, reopening the school as a public charter school with a private management company or turning over the operation of the school to the state educational agency.

Another provision of NCLB requires public school programs to ensure that all teachers are highly qualified. A highly qualified teacher means one who has: (1) obtained full state certification or licensure as a teacher and who has not had certification or licensure requirements waived on an emergency, temporary or provisional basis; (2) obtained a bachelor’s degree; and (3) demonstrated competence in the academic subject the teacher teaches. All teacher aides working in a school supported with Title I funds must be highly qualified which means the person must have a high school diploma or its equivalent and one of the following: completed at least two years of study in an institution of higher education, obtained an associate’s or higher degree, or met a rigorous standard of quality demonstrated through a formal state or local assessment. Virtual public schools using our products and services may be required to meet these requirements for any persons who perform instructional services.

Virtual schools that receive Title I funding and use our products and services may be required to provide parents of Title I students with a variety of notices regarding the teachers and teachers aides that teach their children. In addition, if these schools serve limited English proficient (LEP) children, they may be required to provide a variety of notices to the parents regarding the identification of the student as LEP and certain information about the instruction to be provided to the student, as well as the right to remove or refuse to enroll the student in the LEP program. Finally, these schools may also be required annually to develop, with

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input from parents of Title I students, and implement a written policy on parental involvement in the education of their children, to hold annual meetings with these parents and to provide these parents with assistance in various areas to help the parents to work with their children to improve student achievement.

Under NCLB, even schools that do not receive Title I funding must provide certain notices to parents. For example, schools may be required to provide a school report card and identify whether any school has been identified as needing improvement and for how long. Parents also must be provided data that will be used to determine adequate yearly progress. Virtual public schools may be contacted by military recruiters who have the right to access the names, addresses and telephone numbers of secondary school students for military recruiting purposes. Additionally, virtual public schools may be required to notify parents that they have the option to request that this information not be released to military recruiters or to institutions of higher education.

•  Individuals with Disabilities Education Act (IDEA).  The IDEA is implemented through regulations governing every aspect of the special education of a child with one or more of the specific disabilities listed in the act. The IDEA created a responsibility on the part of a school to identify students who may qualify under the IDEA and to perform periodic assessments to determine the students’ needs for services. A student who qualifies for services under the IDEA must have in place an individual education plan, which must be updated at least annually, created by a team consisting of school personnel, the student, and the parent. This plan must be implemented in a setting where the child with a disability is educated with non-disabled peers to the maximum extent appropriate. The act provides the student and parents with numerous procedural rights relating to the student’s program and education, including the right to seek mediation of disputes and make complaints to the state education agency. The schools we manage are responsible for ensuring the requirements of this act are met. The virtual schools could be required to comply with requirements in the act concerning teacher certification and training. We or the virtual public school could be required to provide additional staff, related services and supplemental aids and services at our own cost to comply with the requirement to provide a free appropriate public education to each child covered under the IDEA. If we fail to meet this requirement, we or the virtual public school could lose federal funding and could be liable for compensatory educational services, reimbursement to the parent for educational service the parent provided, and payment of the parent’s attorney’s fees.

•  Section 504 of the Rehabilitation Act of 1973.  A virtual public school receiving federal funds is subject to Section 504 of the Rehabilitation Act of 1973 (Section 504) insofar as the regulations implementing the act govern the education of students with disabilities as well as personnel and parents. Section 504 prohibits discrimination against a person on the basis of disability in any program receiving federal financial assistance if the person is otherwise qualified to participate in or receive benefit from the program. Students with disabilities not specifically listed in the IDEA may be entitled to specialized instruction or related services pursuant to Section 504 if their disability substantially limits a major life activity. There are many similarities between the regulatory requirements of Section 504 and the IDEA; however this is a separate law which may require a virtual public school to provide a qualified student with a plan to accommodate his or her disability in the educational setting. If a school fails to comply with the requirements and the procedural safeguards of Section 504, it may lose federal funds even though these funds flow indirectly to the school through a local board. In the case of bad faith or intentional wrongdoing, some courts have awarded monetary damages to prevailing parties in Section 504 lawsuits.

•  Family Educational Rights and Privacy Act.  Virtual public schools are subject to the Family Educational Rights and Privacy Act which protects the privacy of a student’s educational records and generally prohibits a school from disclosing a student’s records to a third-party without the parent’s prior consent. The law also gives parents certain procedural rights with respect to their minor children’s education records. A school’s failure to comply with this law may result in termination of its eligibility to receive federal education funds.

•  Communications Decency Act.  The Communications Decency Act of 1996 (“CDA”) provides protection for online service providers against legal action being taken against them because of certain actions of others. For example, the CDA states that no provider or user of an interactive computer service shall be treated as the publisher or speaker of any data given by another provider of information content. Further,

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Section 230 of the CDA grants interactive online services of all types, broad immunity from tort liability so long as the information at issue is provided or posted by a third party. As part of our technology services offering, we provide an On-line School platform on which teachers and students may communicate. We also conduct live classroom sessions using Internet-based collaboration software and we offer certain online community platforms for students and parents. While the CDA affords us with some protection from liability associated with the interactive online services we offer, there are exceptions to the CDA that could result in successful actions against us that give rise to financial liability.

If we fail to comply with other federal laws, including federal civil rights laws not specific to education programs, we could be determined ineligible to receive funds from federal programs or face criminal or civil penalties.

ITEM 1A.   RISK FACTORS

Statements made by us in this report and in other reports and statements released by us that are not historical facts constitute “forward-looking statements.” These forward-looking statements are necessarily estimates reflecting the best judgment of our senior management based on our current estimates, expectations, forecasts and projections and include comments that express our current opinions about trends and factors that may impact future operating results. Disclosures that use words such as we “believe,” “anticipate,” “estimate,” “intend,” “could,” “plan,” “expect,” “project” or the negative of these, as well as similar expressions, are intended to identify forward-looking statements. Such statements rely on a number of assumptions concerning future events, many of which are outside of our control, and involve known and unknown risks and uncertainties that could cause our actual results, performance or achievements, or industry results, to differ materially from any future results, performance or achievements, expressed or implied by such forward-looking statements. Any such forward-looking statements, whether made in this report or elsewhere, should be considered in the context of the various disclosures made by us about our businesses including, without limitation, the risk factors discussed below. We do not plan to update any such forward-looking statements and expressly disclaim any duty to update the information contained in this filing, except as required by law.

Risks Related to Government Funding and Regulation of Public Education

Most of our revenues depend on per pupil funding amounts remaining near the levels existing at the time we execute service agreements with the virtual public schools we serve. If those funding levels are materially reduced, new restrictions adopted or payments delayed, our business, financial condition, results of operations and cash flows could be adversely affected.

The public schools we contract with are financed with government funding from federal, state and local taxpayers. Our business is primarily dependent upon those funds. Budget appropriations for education at all levels of government are determined through the political process, which may also be affected by conditions in the economy at large. As a result, funding for the virtual public schools we serve may decline. The political process and general economic conditions create a number of risks that could have an adverse affect on our business including the following:

•  legislative proposals could result in budget cuts for the virtual public schools we serve, and therefore reduce or eliminate the products and services those schools purchase from us, causing our revenues to decline. From time to time, proposals are introduced in state legislatures that single out virtual public schools for disparate treatment. For example, in its biannual education budget for fiscal years 2008 and 2009, the Indiana legislature decided not to fund any virtual public school that provided for the online delivery of more than 50 percent of its instruction to students. As a result, we decided not to open a virtual public school in Indiana that had already been approved by a chartering authority for the 2007-08 school year, and therefore, the anticipated associated revenues for 2007-08 were not realized. We ultimately were successful in opening two hybrid schools in Indiana in 2008-09 that provide for over 50 percent of classroom instruction and which thereby qualified for funding under Indiana law. Other examples include laws that decrease per pupil funding for virtual public schools or alter eligibility and attendance criteria or other funding conditions that could decrease our revenues and limit our ability to grow;

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•  as a public company, we are required to file periodic financial and other disclosure reports with the Securities and Exchange Commission, or the SEC. This information may be referenced in the legislative process, including budgetary considerations, related to the funding of alternative public school options, including virtual public schools. The disclosure of this information by a for-profit education company, regardless of parent satisfaction and student academic achievement, may nonetheless be used by opponents of virtual public schools to propose funding reductions; and

•  from time to time, government funding to schools is not provided when due, which sometimes causes the affected schools to delay or cease payments to us for our products and services. These payment delays have occurred in the past and can deprive us of significant working capital until the matter is resolved, which could hinder our ability to implement our growth strategies and conduct our business. For example, in 2003 the Pennsylvania state legislature withheld monthly payments for every school because it was unable to approve an education budget for six months, which necessitated our borrowing of funds to continue operations.

The poor performance or misconduct of other virtual public school operators could tarnish the reputation of all virtual public school operators, which could have a negative impact on our business.

As a relatively new form of public education, virtual school operators will be subject to scrutiny, perhaps even greater than that applied to traditional public schools or charter schools. Not all virtual public school operators will have successful academic programs or operate efficiently, and new entrants may not perform well either. Such underperforming operators could create the impression that virtual schooling is not an effective way to educate students, whether or not our learning system achieves solid performance. Moreover, some virtual school operators have been subject to governmental investigations alleging the misuse of public funds or financial irregularities. These allegations have attracted significant adverse media coverage and have prompted legislative hearings and regulatory responses. Although these investigations have focused on specific companies and individuals, they may negatively impact public perceptions of virtual public school providers generally, including us. The precise impact of these negative public perceptions on our business is difficult to discern, in part because of the number of states in which we operate and the range of particular malfeasance or performance issues involved. We have incurred significant lobbying costs in several states advocating against harmful legislation which, in our opinion, was aggravated by negative media coverage of particular virtual school operators. If these few situations, or any additional misconduct, cause all virtual public school providers to be viewed by the public and/or policymakers unfavorably, we may find it difficult to enter into or renew contracts to operate virtual schools. In addition, this perception could serve as the impetus for more restrictive legislation, which could limit our future business opportunities.

Opponents of virtual public schools have sought to challenge the establishment and expansion of such schools through the judicial process. If these interests prevail, it could damage our ability to sustain or grow our current business or expand in certain jurisdictions.

We have been, and will likely continue to be, subject to lawsuits filed against virtual public schools by those who do not share our belief in the value of this form of public education. Legal claims have involved challenges to the constitutionality of authorizing statutes, methods of instructional delivery, funding provisions and the respective roles of parents and teachers. We currently face one such lawsuit pertaining to the Chicago Virtual Charter School. See “Part I, Item 3 — Legal Proceedings”. An adverse judgment in this case could serve as a negative precedent in other jurisdictions where we do business, and new lawsuits could result in unexpected liabilities and limit our ability to sustain or grow our current business or expand in certain jurisdictions.

The failure of the virtual public schools we serve to comply with applicable government regulations could result in a loss of funding and an obligation to repay funds previously received, which could adversely affect our business, financial condition and results of operations.

Once authorized by law, virtual public schools are generally subject to extensive regulation. These regulations cover specific program standards and financial requirements including, but not limited to: (i) student eligibility standards; (ii) numeric and geographic limitations on enrollments; (iii) prescribed teacher funding allocations from

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per pupil revenue; (iv) state-specific curriculum requirements; and (v) restrictions on open-enrollment policies by and among districts. State and federal funding authorities conduct regular program and financial audits of virtual public schools, including the virtual public schools we serve, to ensure compliance with applicable regulations. If a virtual public school we serve is found to be noncompliant, it can be barred from receiving additional funds and could be required to repay funds received during the period of non-compliance, which could impair that school’s ability to pay us for services in a timely manner, if at all. Additionally, the indemnity provisions in our standard service agreements with virtual public schools may require us to return any contested funds on behalf of the school.

Virtual public schools are relatively new, and enabling legislation therefore is often ambiguous and subject to discrepancies in interpretation by regulatory authorities, which may lead to disputes over our ability to invoice and receive payments for services rendered.

Statutory language providing for virtual public schools is sometimes interpreted by regulatory authorities in ways that may vary from year to year, making compliance subject to uncertainty. For example, in Colorado, the regulators’ approach to determining the eligibility of virtual school students for funding purposes, which is based on a student’s substantial completion of a semester in a public school, has undergone varying interpretations. These regulatory uncertainties may lead to disputes over our ability to invoice and receive payments for services rendered, which could adversely affect our business, financial condition and results of operations.

The operation of virtual public schools depends on the maintenance of the authorizing charter and compliance with applicable laws. If these charters are not renewed, our contracts with these schools would be terminated.

In many cases, virtual public schools operate under a charter that is granted by a state or local authority to the charter holder, such as a community group or an established not-for-profit corporation, which typically is required by state law to qualify for student funding. In fiscal year 2008, approximately 90% of our revenues were derived from virtual public schools operating under a charter. The service agreement for these schools is with the charter holder or the charter board. Non-profit charter schools qualifying for exemption from federal taxation under Internal Revenue Code Section 501(c)(3) as charitable organizations must also operate in accordance with Internal Revenue Service rules and policies to maintain that status and their funding eligibility. In addition, all state charter school statutes require periodic reauthorization. While none of the virtual public schools we serve have failed to maintain their authorizing charter, if a virtual public school we serve fails to maintain its tax-exempt status and funding eligibility, or if its charter is revoked for non-performance or other reasons that may be due to actions of the independent charter board completely outside of our control, our contract with that school would be terminated.

Actual or alleged misconduct by our senior management and directors would make it more difficult for us to enter into new contracts or renew existing contracts.

If any of our directors, officers or key employees are accused or found to be guilty of serious crimes, including the mismanagement of public funds, the schools we serve could be barred from entering into or renewing service agreements with us or otherwise discouraged from contracting with us and, as a result, our business and revenues would be adversely affected.

Risks Related to Our Business and Our Industry

We have a limited operating history, and sustained cumulative net losses of approximately $90 million before only recently achieving profitability. If we fail to remain profitable or achieve further marketplace acceptance for our products and services, our business, financial condition and results of operations will be adversely affected.

The virtual public schools we serve began enrolling students in the 2001-02 school year. As a result, we have only a limited operating history upon which you can evaluate our business and prospects. Since our inception, we recorded cumulative net losses totaling approximately $90 million until we achieved profitability in the fiscal year ending June 30, 2006. There can be no assurance that we will remain profitable, or that our products and services will achieve further marketplace acceptance. Our marketing efforts may not generate a sufficient number of student

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enrollments to sustain our business plan; our capital and operating costs may exceed planned levels; and we may be unable to develop and enhance our service offerings to meet the demands of virtual public schools and students to the extent that such demands and preferences change. If we are not successful in managing our business and operations, our financial condition and results of operations will be adversely affected.

Highly qualified teachers are critical to the success of our learning system. If we are not able to continue to recruit, train and retain quality certified teachers, our curriculum might not be effectively delivered to students, compromising their academic performance and our reputation with the virtual public schools we serve. As a result, our brand, business and operating results may be adversely affected.

Effective teachers are critical to maintaining the quality of our learning system and assisting students with their daily lessons. Teachers in virtual public schools must be state certified and have strong interpersonal communications skills to be able to effectively instruct students in a virtual school setting. They must also possess the technical skills to use our technology-based learning system. There is a limited pool of teachers with these specialized attributes and the virtual public schools we serve must provide competitive compensation packages to attract and retain such qualified teachers.

The teachers in most virtual public schools we serve are not our employees and the ultimate authority relating to those teachers resides with the governing body overseeing the schools. However, under many of our service agreements with virtual public schools, we have responsibility to recruit, train and manage these teachers. We must also provide continuous training to virtual public school teachers so that they can stay abreast of changes in student demands, academic standards and other key trends necessary to teach online effectively. We may not be able to recruit, train and retain enough qualified teachers to keep pace with our growth while maintaining consistent teaching quality in the various virtual public schools we serve. Shortages of qualified teachers or decreases in the quality of our instruction, whether actual or perceived, would have an adverse effect on our business.

The schools we contract with and serve are governed by independent governing bodies who may shift their priorities or change objectives in ways adverse to us.

We contract with and provide a majority of our products and services to virtual public schools governed by independent boards or similar governing bodies. While we typically share a common objective at the outset of our business relationship, over time our interests could diverge. If these independent boards of the schools we serve subsequently shift their priorities or change objectives, and as a result reduce the scope or terminate their relationship with us, our ability to generate revenues would be adversely affected.

Our contracts with the virtual public schools we serve are subject to periodic renewal, and each year several of these agreements are set to expire. If we are unable to renew several such contracts or if a single significant contract expires during a given year, our business, financial condition, results of operations and cash flow could be adversely affected.

For the 2008-09 school year, we have contracts to provide our full range of products and services to virtual public schools in 21 states and the District of Columbia. Several of these contracts are scheduled to expire in any given year. For example, seven such contracts are scheduled to expire at the completion of the 2008-09 school year, and we usually begin to engage in renewal negotiations during the final year of these contracts. In order to renew these contracts, we have to enter into negotiations with the independent boards of these virtual public schools. Historically we have been successful in renewing these contracts, but such renewals typically contain revised terms, which may be more or less favorable then the terms of the original contract. For example, a school in Pennsylvania reduced the term of its contract from five years to three years when renewing its contract in 2006, whereas a school in Ohio increased the term of its contract from five years to 10 years upon renewal in 2007. While we have no reason to believe that schools will not continue to renew their contracts upon expiration, we recognize that each renegotiation is unique and, if we are unable to renew several such contracts or one significant contract expiring during a given year, or if such renewals have significantly less favorable terms than existing contracts, our business, financial condition, results of operations and cash flow could be adversely affected.

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We generate significant revenues from two virtual public schools, and the termination, revocation, expiration or modification of our contracts with these virtual public schools could adversely affect our business, financial condition and results of operation.

In fiscal year 2008, we derived more than 10% of our revenues from each of the Ohio Virtual Academy and the Agora Cyber Charter School in Pennsylvania. In aggregate, these schools accounted for 26% of our total revenues. If our contracts with any of these virtual public schools are terminated, the charters to operate any of these schools are not renewed or are revoked, enrollments decline substantially, funding is reduced, or more restrictive legislation is enacted, our business, financial condition and results of operations could be adversely affected.

If student performance falls, NCLB standards are not achieved, or parent and student satisfaction declines, a significant number of students may not remain enrolled in a virtual public school that we serve, and our business, financial condition and results of operations will be adversely affected.

The success of our business depends on a family’s decision to have their child continue his or her education in a virtual public school that we serve. This decision is based on many factors, including student achievement and parent and student satisfaction. Students may perform significantly below state averages or the virtual school may fail to meet the standards of the No Child Left Behind Act ( “NCLB”). Not all of the virtual public schools we serve meet the Adequate Yearly Progress requirements of NCLB, as the underperformance of any one subgroup can lead to that result for the entire school. We expect that, as our enrollments increase and the portion of students that have not used our learning system for multiple years increases, the average performance of all students using our learning system may decrease, even if the individual performance of other students improves over time. Moreover, Congress may amend the NCLB statute in ways that positively or negatively impact the schools we serve. Finally, parent and student satisfaction may decline as not all parents and students are able to devote the substantial time and energy necessary to complete our curriculum. A student’s satisfaction may also suffer if his or her relationship with the virtual school teacher does not meet expectations. If a student’s performance or satisfaction declines, students may decide not to remain enrolled in a virtual public school that we serve and our business, financial condition and results of operations will be adversely affected.

We may not be able to effectively address the execution risks associated with our expansion into the virtual high school market. Our failure to do so could substantially harm our growth strategy.

Our continued expansion into virtual high schools presents us with a number of challenges and an evolving array of risks that could affect our financial condition, results of operations and growth strategy. We are currently using third-party platforms and some third-party curriculum in our high school offering. If the quality of the third-party curriculum or platforms is unsatisfactory, student enrollments could decline. In addition, our inability to scale high school operations or achieve productivity improvements could reduce our operating margins.

Our growth strategy anticipates that we will create new products and distribution channels, expand existing distribution channels and pilot innovative educational programs to enhance academic performance. If we are unable to effectively manage these initiatives or they fail to gain acceptance, our business, financial condition, results of operations and cash flows would be adversely affected.

As we create new products and distribution channels, expand our existing distribution channels and pilot new educational programs, we expect to face challenges distinct from those we currently encounter, including:

•  our development of public hybrid schools, which will produce different operational challenges than those we currently encounter. In addition to the online component, hybrid schools require us to lease facilities for classrooms, staff classrooms with teachers, provide meals, adhere to local safety and fire codes, purchase additional insurance and fulfill many other responsibilities;

•  our expansion into international markets may require us to conduct our business differently than we do in the United States. For example, we may attempt to establish a traditional brick and mortar school. Additionally, we may have difficulty training and retaining qualified teachers or generating sufficient demand for our products and services in international markets. International opportunities will also produce different operational, tax and currency challenges than those we currently encounter;

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•  our use of our curriculum in classrooms will produce challenges with respect to adapting our curriculum for effective use in a traditional classroom setting; and

•  our continual efforts to innovate and pilot new programs to enhance student learning may not always succeed or may encounter unanticipated opposition, such as what we experienced in 2008 in connection with a limited pilot to outsource essay grading and which the Company thereafter discontinued.

Our failure to manage these new distribution channels, or any new distribution channels we pursue, may have an adverse effect on our business, financial condition, results of operations and cash flows.

Increasing competition in the market segments that we serve could lead to pricing pressures, reduced operating margins, loss of market share and increased capital expenditures.

We face varying degrees of competition from several discrete education providers because our learning system integrates all the elements of the education development and delivery process, including curriculum development, textbook publishing, teacher training and support, lesson planning, testing and assessment, and school performance and compliance management. We compete most directly with companies that provide online curriculum and support services to K-12 virtual public schools. Additionally, we expect increased competition from for-profit post-secondary and supplementary education providers that have begun to offer virtual high school curriculum and services. In certain jurisdictions and states where we currently serve virtual public schools, we expect intense competition from existing providers and new entrants. Our competitors may adopt similar curriculum delivery, school support and marketing approaches, with different pricing and service packages that may have greater appeal in the market. If we are unable to successfully compete for new business, win and renew contracts or maintain current levels of academic achievement, our revenue growth and operating margins may decline. Price competition from our current and future competitors could also result in reduced revenues, reduced margins or the failure of our product and service offerings to achieve or maintain more widespread market acceptance.

We may also face direct competition from publishers of traditional educational materials that are substantially larger than we are and have significantly greater financial, technical and marketing resources. As a result, they may be able to devote more resources to develop products and services that are superior to our platform and technologies. We may not have the resources necessary to acquire or compete with technologies being developed by our competitors, which may render our online delivery format less competitive or obsolete.

Our future success will depend in large part on our ability to maintain a competitive position with our curriculum and our technology, as well as our ability to increase capital expenditures to sustain the competitive position of our product. We cannot assure you that we will have the financial resources, technical expertise, marketing, distribution or support capabilities to compete effectively.

If demand for increased options in public schooling does not continue or if additional jurisdictions do not authorize or adequately fund virtual public schools, our business, financial condition and results of operations could be adversely affected.

According to the Center for Education Reform, as of January 2007 there were 173 virtual schools with total enrollments exceeding 92,000 students, operating in 18 states. The Company served schools in 17 states at that time. However, if the demand for virtual public schools does not increase, if additional jurisdictions do not authorize new virtual schools or if the funding of such schools is inadequate, our business, financial condition and results of operations could be adversely affected.

Our business is subject to seasonal fluctuations, which may cause our operating results to fluctuate from quarter-to-quarter and adversely impact the market price of our common stock.

Our revenues and operating results normally fluctuate as a result of seasonal variations in our business, principally due to the number of months in a fiscal quarter that our virtual public schools are fully operational and serving students. In the typical academic year, our first and fourth fiscal quarters may have fewer than three full months of operations, whereas our second and third fiscal quarters will have three complete months of operations. We ship offline learning kits to students in the beginning of the school year, our first fiscal quarter, generally resulting in

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higher offline learning kit revenues and margins in the first fiscal quarter relative to the other quarters. In aggregate, the seasonality of our revenues has generally produced higher revenues in the first quarter of our fiscal year.

Our operating expenses are also seasonal. Instructional costs and services increase in the first fiscal quarter primarily due to the costs incurred to ship offline learning kits at the beginning of the school year. These instructional costs may increase significantly quarter-to-quarter as school operating expenses increase. The majority of our selling and marketing expenses are incurred in the first and fourth fiscal quarters, as our primary enrollment season is July through September.

We expect quarterly fluctuations in our revenues and operating results to continue. These fluctuations could result in volatility and adversely affect our cash flow. As our business grows, these seasonal fluctuations may become more pronounced. As a result, we believe that quarterly comparisons of our financial results may not be reliable as an indication of future performance.

Our revenues for a fiscal year are based in part on our estimate of the total funds each school will receive in a particular school year and our estimate of the full year deficits to be incurred by each school. As a result, differences between our estimates and the actual funds received and deficits incurred could have an adverse impact on our results of operations and cash flows.

We recognize revenues from certain of our fees ratably over the course of our fiscal year. To determine the amount of revenues to recognize, we estimate the total funds each school will receive in a particular school year. Additionally, we take responsibility for any operating deficits at most of the virtual schools we serve. Because these operating deficits may impair our ability to collect the full amount invoiced in a period and collection cannot reasonably be assured, we reduce revenues by the estimated amount of these deficits. We review our estimates of total funds and operating deficits periodically, and we revise as necessary, amortizing any adjustments over the remaining portion of the fiscal year. Actual funding received and operating deficits incurred may vary from our estimates or revisions and could adversely impact our results of operation and cash flows.

The continued development of our brand identity is important to our business. If we are not able to maintain and enhance our brand, our business and operating results may suffer.

Expanding brand awareness is critical to attracting and retaining students, and for serving additional virtual public schools. In order to expand brand awareness, we intend to spend significant resources on a brand-enhancement strategy, which includes sales and marketing efforts directed to targeted locations as well as the national marketplace, the educational community at large, key political groups, image-makers and the media. We believe that the quality of our curriculum and management services has contributed significantly to the success of our brand. As we continue to increase enrollments and extend our geographic reach, maintaining quality and consistency across all of our services and products may become more difficult to achieve, and any significant and well-publicized failure to maintain this quality and consistency will have a detrimental effect on our brand. We cannot provide assurances that our new sales and marketing efforts will be successful in further promoting our brand in a competitive and cost effective manner. If we are unable to further enhance our brand recognition and increase awareness of our products and services, or if we incur excessive sales and marketing expenses, our business and results of operations could be adversely affected.

Our intellectual property rights are valuable, and any inability to protect them could reduce the value of our products, services and brand.

Our patent, trademarks, trade secrets, copyrights and other intellectual property rights are important assets for us. For example, we have been granted two patents relating to the hardware and network infrastructure of our online school, including the system components for creating and administering assessment tests and our lesson progress tracker. Additionally, we are the copyright owner of over 14,000 lessons in the courses comprising our proprietary curriculum and we have registered copyrights or filed copyright applications that cover nearly all of these lessons. Various events outside of our control pose a threat to our intellectual property rights. For example, effective intellectual property protection may not be available in every country in which our products and services are distributed or made available through the Internet. Also, the efforts we have taken to protect our proprietary rights

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may not be sufficient or effective. Any significant impairment of our intellectual property rights could harm our business or our ability to compete. Also, protecting our intellectual property rights is costly and time consuming. Any unauthorized use of our intellectual property could make it more expensive to do business and harm our operating results.

Although we seek to obtain patent protection for our innovations, it is possible that we may not be able to protect some of these innovations. In addition, given the costs of obtaining patent protection, we may choose not to protect certain innovations that later turn out to be important. Furthermore, there is always the possibility, despite our efforts, that the scope of the protection gained will be insufficient or that an issued patent may be deemed invalid or unenforceable.

We also seek to maintain certain intellectual property as trade secrets. This secrecy could be compromised by outside parties, or by our employees intentionally or accidentally, which would cause us to lose the competitive advantage resulting from these trade secrets.

We must monitor and protect our Internet domain names to preserve their value.

We own the domain names K12 (.com and .org) and K-12 (.com, .net, and .org) as well as the service mark K¹². Third parties may acquire substantially similar domain names that decrease the value of our domain names and trademarks and other proprietary rights which may hurt our business. The regulation of domain names in the United States and foreign countries is subject to change. Governing bodies could appoint additional domain name registrars or modify the requirements for holding domain names. Governing bodies could also establish additional “top-level” domains, which are the portion of the Web address that appears to the right of the “dot,” such as “com,” “gov,” or “org.” As a result, we may not maintain exclusive rights to all potentially relevant domain names in the United States or in other countries in which we conduct business.

We may be sued for infringing the intellectual property rights of others and such actions would be costly to defend, could require us to pay damages and could limit our ability or increase our costs to use certain technologies in the future.

Companies in the Internet, technology, education, curriculum and media industries own large numbers of patents, copyrights, trademarks and trade secrets and frequently enter into litigation based on allegations of infringement or other violations of intellectual property rights. As we grow, the likelihood that we may be subject to such claims also increases. Regardless of the merits, intellectual property claims are often time-consuming and expensive to litigate or settle. In addition, to the extent claims against us are successful, we may have to pay substantial monetary damages or discontinue any of our products, services or practices that are found to be in violation of another party’s rights. We also may have to seek a license and make royalty payments to continue offering our products and services or following such practices, which may significantly increase our operating expenses.

We may be subject to legal liability resulting from the actions of third parties, including independent contractors and teachers, which could cause us to incur substantial costs and damage our reputation.

We may be subject, directly or indirectly, to legal claims associated with the actions of our independent contractors and teachers. In the event of accidents or injuries or other harm to students, we could face claims alleging that we were negligent, provided inadequate supervision or were otherwise liable for their injuries. Additionally, we could face claims alleging that our independent curriculum contractors or teachers infringed the intellectual property rights of third parties. A liability claim against us or any of our independent contractors or teachers could adversely affect our reputation, enrollment and revenues. Even if unsuccessful, such a claim could create unfavorable publicity, cause us to incur substantial expenses and divert the time and attention of management.

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Unauthorized disclosure or manipulation of student, teacher and other sensitive data, whether through breach of our network security or otherwise, could expose us to costly litigation or could jeopardize our contracts with virtual public schools.

Maintaining our network security and internal controls over access rights is of critical importance because our Student Administration Management System (SAMS) stores proprietary and confidential student and teacher information, such as names, addresses, and other personal information. Individuals and groups may develop and deploy viruses, worms and other malicious software programs that attack or attempt to infiltrate SAMS.

If our security measures are breached as a result of third-party action, employee error, malfeasance or otherwise, third parties may receive or be able to access student records and we could be subject to liability or our business could be interrupted. Penetration of our network security could have a negative impact on our reputation and could lead virtual public schools and parents to choose competitive offerings. As a result, we may be required to expend significant resources to provide additional protection from the threat of these security breaches or to alleviate problems caused by these breaches.

We rely on the Internet to enroll students and to deliver our products and services to children, which exposes us to a growing number of legal risks and increasing regulation.

We collect information regarding students during the online enrollment process, and a significant amount of our curriculum content is delivered over the Internet. As a result, specific federal and state laws that could have an impact on our business include the following:

•  the Children’s Online Privacy Protection Act, which restricts the distribution of certain materials deemed harmful to children and imposes additional restrictions on the ability of online companies to collect personal information from children under the age of 13; and

•  the Family Educational Rights and Privacy Act, which imposes parental or student consent requirements for specified disclosures of student information, including online information.

In addition, the laws applicable to the Internet are still developing. These laws impact pricing, advertising, taxation, consumer protection, quality of products and services, and are in a state of change. New laws may also be enacted, which could increase the costs of regulatory compliance for us or force us to change our business practices. As a result, we may be exposed to substantial liability, including significant expenses necessary to comply with such laws and regulations.

System disruptions and vulnerability from security risks to our online computer networks could impact our ability to generate revenues and damage our reputation, limiting our ability to attract and retain students.

The performance and reliability of our technology infrastructure is critical to our reputation and ability to attract and retain virtual public schools, parents and students. Any sustained system error or failure, or a sudden and significant increase in bandwidth usage, could limit our users’ access to our learning system, and therefore, damage our ability to generate revenues or provide sufficient documentation to comply with state laws requiring proof that students completed the required number of hours of instruction. Our technology infrastructure could be vulnerable to interruption or malfunction due to events beyond our control, including natural disasters, terrorist activities and telecommunications failures.

Substantially all of the inventory for our offline learning kits and printed educational materials is managed by one logistics vendor and is located in one warehouse facility. Any material failure to perform on the part of our logistics vendor or any damage or disruption at this facility would have an adverse effect on our business, financial condition and results of operations.

Substantially all of the inventory for our offline learning kits and printed materials is located in one warehouse facility operated by a third-party logistics vendor which handles receipt, assembly, and shipping of all physical learning materials. If this logistics vendor were to fail to meet its obligations to deliver learning materials to students in a timely manner, or if such shipments are incomplete or contain assembly errors, our business and results

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of operations could be adversely affected. Furthermore, a natural disaster, fire, power interruption, work stoppage or other unanticipated catastrophic event, especially during the period from May through September when we have received most of the curriculum materials for the school year and have not yet shipped such materials to students, could significantly disrupt our ability to deliver our products and operate our business. If any of our material inventory were to experience any significant damage, we would be unable to meet our contractual obligations and our business would suffer.

Any significant interruption in the operations of our data center could cause a loss of data and disrupt our ability to manage our network hardware and software and technological infrastructure.

We host our products and serve all of our students from a third-party data center facility. While we are developing a risk mitigation plan, such a plan may not be able to prevent a significant interruption in the operation of this facility or the loss of school and operational data due to a natural disaster, fire, power interruption, act of terrorism or other unanticipated catastrophic event. Any significant interruption in the operation of this facility, including an interruption caused by our failure to successfully expand or upgrade our systems or manage our transition to utilizing the expansions or upgrades, could reduce our ability to manage our network and technological infrastructure, which could result in lost sales, enrollment terminations and impact our brand reputation.

Additionally, we do not control the operation of this facility and must rely on a third-party to provide the physical security, facilities management and communications infrastructure services related to our data center. Although we believe we would be able to enter into a similar relationship with another third-party should this relationship fail or terminate for any reason, our reliance on a third-party vendor exposes us to risks outside of our control. If this third-party vendor encounters financial difficulty such as bankruptcy or other events beyond our control that causes it to fail to secure adequately and maintain its hosting facilities or provide the required data communications capacity, students of the virtual public schools we serve may experience interruptions in our service or the loss or theft of important customer data.

Any significant interruption in the operations of our call center could disrupt our ability to respond to service requests and process orders and to deliver our products in a timely manner.

Our call center is housed in a single facility. We do not currently have a fully functional back-up system in place for this facility. While we are developing a risk mitigation plan, such a plan may not be able to prevent a significant interruption in the operation of this facility due to natural disasters, accidents, failures of the inventory locator or automated packing and shipping systems we use or other events. Any significant interruption in the operation of this facility, including an interruption caused by our failure to successfully expand or upgrade our systems or to manage these expansions or upgrades, could reduce our ability to respond to service requests, receive and process orders and provide products and services, which could result in lost and cancelled sales, and damage to our brand reputation.

Capacity limits on some of our technology, transaction processing systems and network hardware and software may be difficult to project and we may not be able to expand and upgrade our systems in a timely manner to meet significant unexpected increased demand.

As the number of virtual public schools we serve increases and our student base grows, the traffic on our transaction processing systems and network hardware and software will rise. We may be unable to accurately project the rate of increase in the use of our transaction processing systems and network hardware and software. In addition, we may not be able to expand and upgrade our systems and network hardware and software capabilities to accommodate significant unexpected increased use. If we are unable to appropriately upgrade our systems and network hardware and software in a timely manner, our operations and processes may be temporarily disrupted.

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We may be unable to manage and adapt to changes in technology.

We will need to respond to technological advances and emerging industry standards in a cost-effective and timely manner in order to remain competitive. The need to respond to technological changes may require us to make substantial, unanticipated expenditures. There can be no assurance that we will be able to respond successfully to technological change.

We may be unable to attract and retain skilled employees.

Our success depends in large part on continued employment of senior management and key personnel who can effectively operate our business. If any of these employees leave us and we fail to effectively manage a transition to new personnel, or if we fail to attract and retain qualified and experienced professionals on acceptable terms, our business, financial conditions and results of operations could be adversely affected.

Our success also depends on our having highly trained financial, technical, recruiting, sales and marketing personnel. We will need to continue to hire additional personnel as our business grows. A shortage in the number of people with these skills or our failure to attract them to our Company could impede our ability to increase revenues from our existing products and services and to launch new product offerings, and would have an adverse effect on our business and financial results.

We may not be able to effectively manage our growth, which could impair our ability to operate profitably.

We have experienced significant expansion since our inception, which has sometimes strained our managerial, operational, financial and other resources. A substantial increase in our enrollment or the addition of new schools in a short period of time could strain our current resources and increase capital expenditures, without an immediate increase in revenues. Our failure to successfully manage our growth in a cost efficient manner and add and retain personnel to adequately support our growth could disrupt our business and decrease profitability.

We may need additional capital in the future, but there is no assurance that funds will be available on acceptable terms.

We may need to raise additional funds in order to achieve growth or fund other business initiatives. This financing may not be available in sufficient amounts or on terms acceptable to us and may be dilutive to existing stockholders. Additionally, any securities issued to raise funds may have rights, preferences or privileges senior to those of existing stockholders. If adequate funds are not available or are not available on acceptable terms, our ability to expand, develop or enhance services or products, or respond to competitive pressures will be limited.

Our curriculum and approach to instruction may not achieve widespread acceptance, which would limit our growth and profitability.

Our curriculum and approach to instruction are based on the structured delivery, clarification, verification and practice of lesson subject matter. The goal of this approach is to make students proficient at the fundamentals and to instill confidence in a subject prior to confronting new and complex concepts. This approach, however, is not accepted by all academics and educators, who may favor less formalistic methods. Accordingly, some academics and educators are opposed to the principles and methodologies associated with our approach to learning, and have the ability to negatively influence the market for our products and services.

Although we do not currently transact a material amount of business in a foreign country, we intend to expand into international markets, which will subject us to additional economic, operational and political risks that could increase our costs and make it difficult for us to continue to operate profitably.

One of our growth strategies is to pursue international opportunities that leverage our current product and service offerings. The addition of international operations may require significant expenditure of financial and

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management resources and result in increased administrative and compliance costs. As a result of such expansion, we will be increasingly subject to the risks inherent in conducting business internationally, including:

•  foreign currency fluctuations, which could result in reduced revenues and increased operating expenses;

•  potentially longer payment and sales cycles;

•  difficulty in collecting accounts receivable;

•  the effect of applicable foreign tax structures or taxes that may be duplicative of those imposed in the United States, notwithstanding steps taken by the Company to address such matters;

•  tariffs and trade barriers;

•  general economic and political conditions in each country;

•  inadequate intellectual property protection in foreign countries;

•  uncertainty regarding liability for information retrieved and replicated in foreign countries;

•  the difficulties and increased expenses in complying with a variety of U.S. and foreign laws, regulations and trade standards, including the Foreign Corrupt Practices Act; and

•  unexpected changes in regulatory requirements.

ITEM 1B.   UNRESOLVED STAFF COMMENTS

None.

ITEM 2.   PROPERTIES

The Company’s headquarters are located in approximately 76,000 square feet of office space in Herndon, Virginia under a lease that expires in April 2018 and subleases that expire in September 2009 and July 2010. The Company leases approximately 46,000 square feet in multiple locations under individual leases that expire between October 2008 and July 2013.

ITEM 3.   LEGAL PROCEEDINGS

In the ordinary conduct of our business, we are subject to lawsuits, arbitrations and administrative proceedings from time to time. We are currently involved in a lawsuit brought by a teachers’ union seeking the closure of the virtual public school we serve in Illinois.

On October 4, 2006, the Chicago Teachers Union and individual taxpayers (“CTU” or plaintiffs) filed a citizen taxpayer’s lawsuit in the Circuit Court of Cook County challenging the decision of the Illinois State Board of Education to certify the Chicago Virtual Charter School (CVCS) and to enjoin the disbursement of state funds to the Chicago Board of Education under its contract with the CVCS. Specifically, the CTU alleges that the Illinois charter school law prohibits any “home-based” charter schools and that CVCS does not provide sufficient “direct instruction” by certified teachers of at least five clock hours per day to qualify for funding. K12 Inc. and K12 Illinois LLC were also named as defendants. On May 16, 2007, the Court dismissed K12 Inc. and K12 Illinois LLC from the case. After three dismissals of their complaint on procedural grounds, the Court granted the plaintiff’s Fourth Amended Citizen Complaint on May 20, 2008. CVCS and the Chicago Board of Education jointly filed a Motion to Reconsider, which was denied by Memorandum Opinion and Order dated August 8, 2008. The case is now in the discovery stage. The Company continues to participate in the defense of CVCS under an indemnity obligation in our service agreement with that school, which requires the Company to indemnify CVCS against certain liabilities arising out of the performance of the service agreement, and certain other claims and liabilities, including liabilities arising out of challenges to the validity of the virtual school charter. The Company is not able to estimate the range of potential loss if the plaintiffs were to prevail and a claim was made against the Company for indemnification. In fiscal year 2007 and for the year ended June 30, 2008, average enrollments in CVCS were 225 and 407 respectively, and we derived 1.1% and 1.3%, respectively of our revenues from CVCS.

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We do not believe that a loss in this case would have a material adverse impact on our future results of operations, financial position or cash flows. Depending on the legal theory advanced by the plaintiffs, however, there is a risk that a loss in this case could have a negative precedential effect if like claims were to be advanced and succeed under similar laws in other states where we operate. The cumulative effect under those circumstances could be material.

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

None.

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EXECUTIVE OFFICERS OF THE REGISTRANT

Set forth below is certain information concerning our executive officers as of June 30, 2008:

Name	Age		Position
Ronald J. Packard		45		Chief Executive Officer, Founder and Director
John F. Baule		44		Chief Operating Officer and Chief Financial Officer
Bruce J. Davis		45		Executive Vice President, Worldwide Business Development
George B. Hughes, Jr.		49		Executive Vice President, School Services
Howard D. Polsky		56		Senior Vice President, General Counsel and Secretary
Bror V. H. Saxberg		49		Chief Learning Officer
Celia M. Stokes		44		Executive Vice President and Chief Marketing Officer

Ronald J. Packard, Chief Executive Officer, Founder and Director

Ronald J. Packard founded K12 in 2000. Previously, Mr. Packard served as Vice President of Knowledge Universe and he served as Chief Executive Officer of Knowledge Schools, a provider of early childhood education and after school companies. Mr. Packard has also held positions at McKinsey & Company and Goldman Sachs in mergers and acquisitions. Additionally, Mr. Packard served on the Advisory Board of the Department of Defense Schools from 2002 to 2008, and is a member of the Fairfax Education Foundation Board of Directors. From 2004 to 2006, Mr. Packard served as a director of Academy 123 and he is currently a director of Zumbox. Mr. Packard holds B.A. degrees in Economics and Mechanical Engineering from the University of California at Berkeley, an M.B.A. from the University of Chicago, and he was a Chartered Financial Analyst.

John F. Baule, Chief Operating Officer and Chief Financial Officer

John F. Baule joined us in March 2005, and serves as Chief Operating Officer and Chief Financial Officer. Previously, Mr. Baule spent five years at Headstrong, a global consultancy services firm, first serving as Senior Vice President of Finance from 1999 until 2001 and later as Chief Financial Officer from 2001 to 2004. Prior to Headstrong, Mr. Baule worked for Bristol-Myers Squibb (BMS) from 1990 to 1999, initially joining their corporate internal audit division. He then spent six years with BMS based in the Asia Pacific region, first as the Director of Finance for BMS Philippines, and then as the Regional Finance Director for BMS Asia-Pacific, based in Hong Kong. He later served as Director of International Finance for the BMS Nutritional Division. Mr. Baule began his career working in the audit services practice at KPMG from 1986 to 1990. Mr. Baule holds a B.B.A. in Accounting from the College of William and Mary and he is a Certified Public Accountant.

Bruce J. Davis, Executive Vice President, Worldwide Business Development

Bruce J. Davis joined us January 2007, and serves as Executive Vice President, Worldwide Business Development. From 2002 until joining us, Mr. Davis ran his own strategy consultancy where his clients included Laureate Education, Discovery Communications, Pearson Publishing, Sylvan Learning Systems, Educate Inc., AICPA, and USAID. Mr. Davis previously held the position of Chief Executive Officer at Medasorb Technologies, a biotechnology company, from 2001 to 2002 and at Mindsurf Networks, a wireless educational system provider, from 1999 to 2000. He also served as Chief Operating Officer of Prometric, a computer test administration company, from 1994 to 1999. Prior to Prometric, he was a senior consultant with Deloitte and Touche from 1985 to 1991 in the Information Systems Strategy group where he managed their IT practice in Egypt. Mr. Davis holds a B.S. in Computer Science from Loyola College and an M.B.A. from Columbia University.

George B. (“Chip”) Hughes, Jr., Executive Vice President, School Services

George B. (“Chip”) Hughes, Jr. joined us in July 2007, and serves as Executive Vice President, School Services. From 1997 until joining us, Mr. Hughes was a co-founder and Managing Director of Blue Capital Management, L.L.C., a middle-market private equity firm. Mr. Hughes previously served as a Partner of McKinsey & Company, Inc., a global management consulting firm, in McKinsey’s Los Angeles and New Jersey

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offices, where he was a member of the firm’s Strategy and Health Care practices. Mr. Hughes serves on the National Board of Recording for the Blind & Dyslexic, and on the Board of Councilors of the College of Letters, Arts & Sciences at the University of Southern California. Previously he was a member of the Board of Trustees at Big Brothers of Greater Los Angeles and of Big Brothers Big Sisters of Morris, Bergen, and Passaic Counties (New Jersey). Mr. Hughes holds a B.A. in Economics from the University of Southern California and an M.B.A. from Harvard University.

Howard D. Polsky, Senior Vice President, General Counsel and Secretary

Howard D. Polsky joined us in June 2004, and serves as Senior Vice President, General Counsel and Secretary. Mr. Polsky previously held the position of Vice President and General Counsel of Lockheed Martin Global Telecommunications from 2000 to 2002. Prior to its acquisition by Lockheed Martin, Mr. Polsky worked at COMSAT Corporation from 1992 to 2000, initially serving as Vice President and General Counsel of COMSAT’s largest operating division, and subsequently serving on the executive management team as Vice President of Federal Policy and Regulation. From 1983 to 1992, Mr. Polsky was a partner at Wiley, Rein & Fielding after having worked at Kirkland & Ellis. Mr. Polsky began his legal career at the Federal Communications Commission. Mr. Polsky received a B.A. in Government from Lehigh University, and a J.D. from Indiana University.

Bror V. H. Saxberg, Chief Learning Officer

Bror V.H. Saxberg joined us in February 2000, and serves as Chief Learning Officer. From 1998 to 2000, Dr. Saxberg served as Vice President of Operations at Knowledge Testing Enterprises, a developer of web-based assessments for IT skills owned by Knowledge Universe; he was a Vice President at Knowledge Universe from 1997 through 2000 as well. Prior to Knowledge Universe, Dr. Saxberg held the position of Publisher and General Manager at DK Multimedia, the North American subsidiary of educational and reference publisher Dorling Kindersley, from 1995 to 1997. Previously, Dr. Saxberg also worked as a consultant at McKinsey & Company from 1990 to 1995. Dr. Saxberg holds B.S. degrees in Electrical Engineering and Mathematics from the University of Washington, an M.A. in Mathematics from Oxford University, an M.A. and Ph.D. in Electrical Engineering and Computer Science from Massachusetts Institute of Technology, and an M.D. from Harvard University.

Celia M. Stokes, Executive Vice President and Chief Marketing Officer

Celia M. Stokes joined us in March 2006, and serves as Executive Vice President and Chief Marketing Officer. Before joining K12, Ms. Stokes served as Vice President of Marketing at Independence Air from 2003 to 2006. Previously, Ms. Stokes ran her own marketing firm providing consulting services to organizations such as Fox TV, PBS, the National Gallery of Art, JWalter Thompson, and ADP. From 1993 to 1998, Ms. Stokes served in successive roles leading to Vice President of Marketing at Bell Atlantic and at a joint venture of Bell Atlantic and two other Regional Bell Operating Companies. From 1990 to 1993, Ms. Stokes was Manager of Marketing at Software AG, and from 1988 to 1990, was Client Group Manager at Targeted Communications, an Ogilvy & Mather Direct company. Ms. Stokes holds a B.A. in Economics from the University of Virginia.

PART II

ITEM 5.   MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The Company’s common stock, par value $0.0001 per share, is traded on NYSE Arca under the symbol “LRN.” Set forth below are the high and low sales prices for our common stock, as reported on NYSE Arca. As of September 22, 2008, there were approximately 95 registered holders of common stock.

	High		Low
Quarter ended:
December 31, 2007 (beginning December 13, 2007)	$	31.00	$	19.75
March 31, 2008		29.43		18.61
June 30, 2008		30.20		16.50

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Stock Performance Graph

The graph below matches the cumulative 7-month total return of holders of K12 Inc.’s common stock with the cumulative total returns of the S&P 500 index, the NASDAQ Composite index, the Russell 2000 index and a customized peer group of seventeen companies. The graph assumes that the value of the investment in the company’s common stock, in each index, and in the peer group (including reinvestment of dividends) was $100 on December 13, 2007 and tracks it through June 30, 2008.

COMPARISON OF 7 MONTH CUMULATIVE TOTAL RETURN
Among K12 Inc., S&P 500 Index, NASDAQ Composite Index, Russell 2000 Index and a Peer Group

	Dec-13 2007		Dec-07		Jan-08		Feb-08		Mar-08		Apr-08		May-08		Jun-08
K12 Inc.		100.00		105.38		93.69		110.47		80.04		103.79		111.45		87.62
Peer Group		100.00		95.43		88.31		77.64		74.64		84.40		86.09		81.88
S&P 500		100.00		98.65		92.62		89.40		88.87		93.09		94.09		86.00
NASDAQ Composite		100.00		99.39		89.56		85.12		85.41		90.42		94.54		85.93
Russell 2000		100.00		99.55		92.70		89.18		89.41		93.08		97.25		89.63

All prices reflect closing prices on last day of trading at the end of each calendar month except December 13, 2007.

Peer Group

Apollo Group Inc., Capella Education Company, Career Education Corp., Corinthian Colleges Inc., Devry Inc., Strayer Education Inc., ITT Educational Services, New Oriental Education, American Public Education Inc., Lincoln Educational Services, Universal Technical Institute, Renaissance Learning, Scientific Learning, SkillSoft, BlackBoard, McGraw-Hill, and Scholastic.

Dividend Policy

We have never declared or paid any cash dividends on our common stock and we currently do not anticipate paying any cash dividends for the foreseeable future. Instead, we anticipate that all of our earnings on our common stock will be used to provide working capital, to support our operations, and to finance the growth and development of our business, including potentially the acquisition of, or investment in, businesses, technologies or products that complement our existing business. Any future determination relating to dividend policy will be made at the

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discretion of our board of directors and will depend on a number of factors, including, but not limited to, our future earnings, capital requirements, financial condition, future prospects, applicable Delaware law, which provides that dividends are only payable out of surplus or current net profits and other factors our board of directors might deem relevant.

Stock-based Incentive Plan Information

The following table provides certain information as of June 30, 2008, with respect to our equity compensation plans under which Common Stock is authorized for issuance:

Equity Compensation Plan Information
as of June 30, 2008

					Number of
					Securities
	Number of				Remaining Available
	Securities to be				for Future Issuance
	Issued Upon		Weighted-Average		under Equity
	Exercise of		Exercise Price of		Compensation
	Outstanding		Outstanding		Plans (Excluding
	Options, Warrants		Options, Warrants		Securities Reflected
	and Rights		and Rights		in Column (a))
Plan Category	(a)		(b)		(c)
Equity compensation plans approved by security holders(1)		4,766,849	$	11.20		878,437
Equity compensation plans not approved by security holders		—		—		—
Total		4,766,849	$	11.20		878,437

(1) Includes shares under the 2007 Equity Incentive Award Plan

The 2007 Equity Incentive Award Plan (the 2007 Plan) adopted in November 2007 contains an “evergreen provision” that allows for an annual increase in the number of shares available for issuance under the 2007 Plan on July 1 of each year during the ten-year term of the 2007 Plan, beginning on July 1, 2008. The annual increase in the number of shares shall be equal to the least of:

•  4% of our outstanding common stock on the applicable July 1;

•  2,745,098 shares; or

•  a lesser number of shares as determined by our Board of Directors.

Sales of unregistered securities

None.

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ITEM 6.   SELECTED FINANCIAL DATA

The following table sets forth our selected consolidated statement of operations, balance sheet and other data as of the dates and for the periods indicated. You should read this data together with “Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and related notes, included elsewhere in this Annual Report of Form 10-K. The selected consolidated statement of operations data for each of the years in the three-year period ended June 30, 2008, and the selected consolidated balance sheet data as of June 30, 2008 and 2007, have been derived from our audited consolidated financial statements, which are included elsewhere in this Annual Report on Form 10-K. The selected consolidated statements of operations data for the years ended June 30, 2005 and 2004, and selected consolidated balance sheet data as of June 30, 2006, 2005 and 2004, have been derived from our audited consolidated financial statements not included in this Annual Report of Form 10-K. The pro forma net income per common share amounts for the years ended June 30, 2008 and June 30, 2007 were derived by eliminating the one-time tax benefit of $27.0 million from the reversal of the deferred tax valuation allowance in 2008 and by giving effect to the automatic conversion of all of our outstanding shares of our preferred stock into common stock immediately prior to the completion of our initial public offering. Our historical results are not necessarily indicative of future operating results.

	Year Ended June 30,
	2008			2007			2006			2005			2004
Consolidated Statement of Operations Data:
Revenues	$	226,235		$	140,556		$	116,902		$	85,310		$	71,434
Cost and expenses
Instructional costs and services		131,282			76,064			64,828			49,130			39,943
Selling, administrative, and other operating expenses		72,393			51,159			41,660			30,031			25,656
Product development expenses		9,550			8,611			8,568			9,410			12,750
Total costs and expenses		213,225			135,834			115,056			88,571			78,349
Income (loss) from operations		13,010			4,722			1,846			(3,261	)		(6,915	)
Interest expense, net		(295	)		(639	)		(488	)		(279	)		(516	)
Income (loss) before taxes		12,715			4,083			1,358			(3,540	)		(7,431	)
Income tax benefit (expense)		21,058			(218	)		—			—			—
Net income (loss)		33,773			3,865			1,358			(3,540	)		(7,431	)
Dividends on preferred stock		(3,066	)		(6,378	)		(5,851	)		(5,261	)		(2,667	)
Preferred stock accretion		(12,193	)		(22,353	)		(18,697	)		(15,947	)		(15,768	)
Net income (loss) attributable to common stockholders	$	18,514		$	(24,866	)	$	(23,190	)	$	(24,748	)	$	(25,866	)
Net income (loss) attributable to common stockholders per share:
Basic	$	1.18		$	(12.42	)	$	(11.73	)	$	(12.54	)	$	(13.17	)
Diluted	$	1.10		$	(12.42	)	$	(11.73	)	$	(12.54	)	$	(13.17	)
Basic (pro forma)(1)	$	0.27		$	0.18			n/a			n/a			n/a
Diluted (pro forma)(1)	$	0.26		$	0.18			n/a			n/a			n/a
Weighted average shares used in computing per share amounts:
Basic		15,701,278			2,001,661			1,977,195			1,973,053			1,964,147
Diluted		16,850,909			2,001,661			1,977,195			1,973,053			1,964,147
Basic (pro forma)(1)		24,989,323			21,881,316			n/a			n/a			n/a
Diluted (pro forma)(1)		26,138,954			21,888,941			n/a			n/a			n/a
Other Data:
Net cash provided by (used in) operating activities	$	15,535		$	5,563		$	3,625		$	9,697		$	(8,020	)
Depreciation and amortization	$	12,568		$	7,404		$	4,986		$	5,509		$	4,922
Stock-based compensation expense	$	1,464		$	218		$	—		$	—		$	—
Capitalized curriculum development costs	$	11,669		$	8,683		$	655		$	3,787		$	4,898
Capital expenditures(2)	$	17,211		$	13,418		$	10,842		$	5,133		$	4,643
EBITDA(3)	$	25,578		$	12,126		$	6,832		$	2,248		$	(1,993	)
Average enrollments(4)		40,859			27,005			20,220			15,097			11,158

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	As of June 30,
	2008		2007			2006			2005			2004
Consolidated Balance Sheet Data:
Cash and cash equivalents	$	71,682	$	1,660		$	9,475		$	19,953		$	15,881
Total assets		197,324		61,212			48,485			41,968			42,714
Total short-term debt		—		1,500			—			—			—
Total long-term obligations		13,161		7,135			4,025			4,466			3,432
Convertible redeemable preferred stock		—		229,556			200,825			176,277			155,069
Total stockholders’ equity (deficit)		150,288		(197,807	)		(173,451	)		(150,299	)		(125,621	)
Working capital		96,221		8,548			15,421			22,953			24,130

(1)	Pro forma net income per common share eliminates the one-time tax benefit of $27.0 million from the reversal of the deferred tax asset valuation allowance and gives effect to the automatic conversion of all of our outstanding shares of preferred stock into common stock immediately prior to the completion of our initial public offering. Assuming the completion of the offering on June 30, 2007, all of our outstanding shares of preferred stock would convert into 19,879,675 shares of common.
(2)	Capital expenditures consist of the purchase of property and equipment, capitalized software and new capital lease obligations.
(3)	EBITDA consists of net income (loss) minus interest income, plus interest expense, plus income tax expense and plus depreciation and amortization. Interest income consists primarily of interest earned on short-term investments or cash deposits. Interest expense primarily consists of interest expense for capital leases, long-term and short-term borrowings. We use EBITDA as a measure of operating performance. However, EBITDA is not a recognized measurement under U.S. generally accepted accounting principles, or GAAP, and when analyzing our operating performance, investors should use EBITDA in addition to, and not as an alternative for, net income (loss) as determined in accordance with GAAP. Because not all companies use identical calculations, our presentation of EBITDA may not be comparable to similarly titled measures of other companies. Furthermore, EBITDA is not intended to be a measure of free cash flow for our management’s discretionary use, as it does not consider certain cash requirements such as tax payments.
	We believe EBITDA is useful to an investor in evaluating our operating performance because it is widely used to measure a company’s operating performance without regard to items such as depreciation and amortization, which can vary depending upon accounting methods and the book value of assets, and to present a meaningful measure of corporate performance exclusive of our capital structure and the method by which assets were acquired. Our management uses EBITDA:

•  as a measurement of operating performance because it assists us in comparing our performance on a consistent basis; and

•  in presentations to the members of our board of directors to enable our board to have the same measurement basis of operating performance as is used by management to compare our current operating results with corresponding prior periods and with the results of other companies in our industry.

The following table provides a reconciliation of net income (loss) to EBITDA:

	Year Ended June 30,
	2008			2007		2006		2005			2004
Net income (loss)	$	33,773		$	3,865	$	1,358	$	(3,540	)	$	(7,431	)
Interest expense, net		295			639		488		279			516
Income tax (benefit) expense		(21,058	)		218		—		—			—
Depreciation and amortization		12,568			7,404		4,986		5,509			4,922
EBITDA	$	25,578		$	12,126	$	6,832	$	2,248		$	(1,993	)

(4) To ensure that all schools are reflected in our measure of enrollments, we consider our enrollments as of the end of September to be our opening enrollment level, and the number of students enrolled at the end of May to be our ending enrollment level. To provide comparability, we do not consider enrollment levels for June, July and August as all schools are not open during these months. For each period, average enrollments represent the average of the month end enrollment levels for each month that has transpired between September and the end of the period, up to and including the month of May.

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ITEM 7.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion together with our consolidated financial statements and the related notes included elsewhere in this annual report on Form 10-K. This discussion contains forward-looking statements about our business and operations. Our actual results may differ materially from those we currently anticipate as a result of the factors we describe under “Risk Factors” and elsewhere in this annual report on Form 10-K.

Our Company

We are a technology-based education company. We offer proprietary curriculum and educational services created for online delivery to students in kindergarten through 12th grade, or K-12. Our mission is to maximize a child’s potential by providing access to an engaging and effective education, regardless of geographic location or socio-economic background. Since our inception, we have invested more than $130 million to develop curriculum and an online learning platform that promotes mastery of core concepts and skills for students of all abilities. This learning system combines a cognitive research-based curriculum with an individualized learning approach well-suited for virtual schools and other educational applications. From fiscal year 2005 to fiscal year 2008, we increased average enrollments in the virtual public schools we serve from approximately 15,100 students to 40,800 students, representing a compound annual growth rate of approximately 39%. Over the same period, we increased revenues from $85.3 million to $226.2 million, representing a compound annual growth rate of approximately 38%, and increased EBITDA from $2.2 million to $25.6 million. Over the same timeframe, we went from a net loss of $3.5 million to net income of $33.8 million (inclusive of a one-time tax benefit of $27.0 million) and from an operating loss of $3.3 million to operating income of $13.0 million.

We deliver our learning system to students primarily through virtual public schools. Many states have embraced virtual public schools as a means to provide families with a publicly funded alternative to a traditional classroom-based education. We offer virtual schools our proprietary curriculum, online learning platform and varying levels of academic and management services, which can range from targeted programs to complete turnkey solutions, under long-term contracts. These contracts provide the basis for a recurring revenue stream as students progress through successive grades. Additionally, without the requirement of a physical classroom, virtual schools can be scaled quickly to accommodate a large dispersed student population, and allow more capital resources to be allocated towards teaching, curriculum and technology rather than towards a physical infrastructure.

Our proprietary curriculum is currently used primarily by public school students in 21 states and the District of Columbia, including four new states approved for the Fall of 2008. Parents can also purchase our curriculum and online learning platform directly to facilitate or supplement their children’s education. Additionally, we have piloted our curriculum in brick and mortar classrooms with promising academic results. We also believe there is additional widespread applicability for our learning system internationally.

Our History

We were founded in 2000 to utilize the advances in technology to provide children access to a high-quality public school education regardless of their geographic location or socio-economic background. Given the geographic flexibility of technology-based education, we believed that the pursuit of this mission could help address the growing concerns regarding the regionalized disparity in the quality of public school education, both in the United States and abroad. These concerns were reflected in the passage of the No Child Left Behind (NCLB) Act of 2001, which implemented new standards and accountability requirements for public K-12 education. The convergence of these concerns and rapid advances in Internet technology created the opportunity to make a significant impact by deploying a high quality learning system on a flexible, online platform.

In September 2001, after 18 months of research and development on our curriculum, we launched our kindergarten through 2nd grade offering. We initially launched our learning system in virtual public schools in Pennsylvania and Colorado, serving approximately 900 students in the two states combined. During the 2002-03 school year, we added our 3rd through 5th grade offering and entered into contracts to operate virtual public schools in California, Idaho, Ohio, Minnesota and Arkansas, increasing our average enrollment to approximately 5,900 students during the 2002-03 school year. For the 2003-04 school year, we added our 6th and 7th grade offerings and began

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serving students in Arizona, Florida, Utah and Wisconsin. During the 2004-05 school year, we added our 8th grade offering, began serving students in Kansas, and increased total enrollment to approximately 15,100 students. In the 2005-06 school year, we added contracts to operate a virtual public school in Texas. During the 2006-07 school year, we began serving students in the state of Washington and implemented a hybrid school offering in Chicago that combines face-to-face time in the classroom with online instruction. We recently entered the virtual high school market, enrolling 9th and 10th grade students at the start of the 2005-06 and 2006-07 school years, respectively, and enrolling 11th and 12th grade students at the start of the 2007-08 school year. We added contracts to operate virtual public schools in Georgia and Nevada for the 2007-08 school year and increased average enrollment to approximately 40,800 for the year. Finally, for the 2008-09 school year, we have been approved to operate state-wide virtual public schools in South Carolina, Hawaii and Oregon, as well as a hybrid program in Indiana.

In October 2007, the Company acquired all of the stock of Power-Glide, a provider of on-line language courseware, for $4.1 million in shares of common stock and the assumption of liabilities. We use these courses in our virtual public schools and believe they have wide applicability in online learning.

In December 2007, the Company completed an initial public offering (IPO) of our common stock in which we sold and issued 4,450,000 shares of our common stock, at an issue price of $18.00 per share. We raised a total of $80.1 million in gross proceeds from the IPO, or approximately $71.0 million in net proceeds after deducting underwriting discounts and commissions of $5.6 million and other offering costs of $3.5 million. Upon the closing of the IPO, all shares of convertible preferred stock outstanding automatically converted into an aggregate of 19,879,675 shares of common stock. Concurrently with the closing of the IPO and at the initial public offering price, we sold 833,333 shares of common stock at the initial public offering price of $18.00 per share for an aggregate purchase price of $15.0 million to a non-U.S. person, in a private placement transaction outside the United States in reliance upon Regulation S under the Securities Act. Also concurrently with the closing of the IPO, the holders of Redeemable Convertible Series C Preferred stock were paid a cash dividend of approximately $6.4 million. The amount of the declared dividend was equal to the pro rata amount of the annual cumulative dividend that would have normally accrued on January 2, 2008 under the provisions of the Series C Preferred stock agreement.

In January 2008, we launched the K¹² International Academy, an online private school which serves students in the U.S. and throughout the world. The school utilizes the same K¹² curriculum, systems, and teaching practices as the virtual public schools we serve in the U.S. The school is accredited by the Commission on International and Trans-Regional Accreditation (CITA), the Southern Association of Colleges and Schools (SACS), and is recognized by the State of Virginia as a degree granting institution of secondary learning. In addition, the K¹² International Academy has a branch facility in Dubai which we operate under a joint venture with a local partner to reach students in the Gulf Cooperating Countries.

We believe we have significant growth potential. Therefore, over the last three years, we have put a great deal of effort into developing the infrastructure necessary to scale our business. We further developed our logistics and technological infrastructure and implemented sophisticated financial systems to allow us to more effectively operate a large and growing company.

Key Aspects and Trends of Our Operations

Revenues

We generate a significant portion of our revenues from enrollments in virtual public schools. In each of the past five years, more than 90% of our revenues have been derived through contracts with these schools. We anticipate that these revenues will continue to represent the bulk of our total revenues over the next 12-24 months, although the percentage may decline over the longer term as we identify new channels through which to market our curriculum and educational services. These contracts provide the channels through which we can enroll students into the school, and we execute marketing and recruiting programs designed to create awareness and generate enrollments for these schools. We generate our revenues by providing each student with access to our online lessons and offline learning kits, including use of a personal computer. In addition, we provide a variety of management and academic support services to virtual public schools, ranging from turnkey end-to-end management solutions to a single service to meet a school’s specific needs. We also generate revenues from sales of our curriculum and offline learning kits through other channels, including directly to consumers and pilots in a traditional classroom environment.

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Factors affecting our revenues include: (i) the number of enrollments; (ii) the nature and extent of the management services provided to the schools and school districts; (iii) state or district per student funding levels; and (iv) prices for our products and services.

We define an enrollment as a full-time student using our provided courses as their primary curriculum regardless of the nature and extent of the management services we provide to the virtual public school. Generally, students will take five or six courses, except for some kindergarten students who may participate in half-day programs. We count each half-day kindergarten student as an enrollment.

School sessions generally begin in August or September and end in May or June. We consider the duration of a school year to be 10 months. To ensure that all schools are reflected in our measure of enrollments, we consider the number of students on the last day of September to be our opening enrollment level, and the number of students enrolled on the last day of May to be our ending enrollment level. To provide comparability, we do not consider enrollment levels for June, July and August as most schools are not open during these months. For each period, average enrollments represent the average of the month-end enrollment levels for each month that has transpired between September and the end of the period, up to and including the month of May. We continually evaluate our enrollment levels by state, by school and by grade. We track new student enrollments and withdrawals throughout the year.

We believe that the number of enrollments depends upon the following:

•  the number of states and school districts in which we operate;

•  the appeal of our curriculum and instructional model to students and families;

•  the effectiveness of our program in delivering favorable academic outcomes;

•  the quality of the teachers working in the virtual public schools we serve; and

•  the effectiveness of our marketing and recruiting programs.

We continually evaluate our trends in revenues by monitoring the number of enrollments in total, by state, by school and by grade, assessing the impact of changes in funding levels and the pricing of our curriculum and educational services. We track enrollments throughout the year, as students enroll and withdraw. We also provide our courses for use in a traditional classroom setting and we sell our courses directly to consumers. Our classroom course revenues are generally for single courses. Consumers typically purchase from one to six courses in a year, however, we do not monitor the progress of these students. Our K¹² International Academy can enroll students on a full or part-time basis. While we believe this offering has significant long-term opportunity, we anticipate the level of revenues and enrollments will be immaterial for FY 2009. Therefore, we do not include classroom, consumer or international academy students in our enrollment totals.

We closely monitor the financial performance of the virtual public schools to which we provide turnkey management services. Under the contracts with these schools, we take responsibility for any operating deficits that they may incur in a given school year. These operating deficits represent the excess of costs over revenues incurred by the virtual public schools as reflected on their financial statements. The costs include our charges to the schools. These operating deficits may result from a combination of cost increases or funding reductions attributable to the following: 1) costs associated with new schools including the initial hiring of teachers, administrators and the establishment of school infrastructure; 2) school requirements to establish contingency reserves; 3) one-time costs such as a legal claim; 4) funding reductions due to the inability to qualify specific students for funding; and 5) regulatory or academic performance thresholds which may restrict the ability of a school to fund all expenses. In these cases, because a deficit may impair our ability to collect our invoices in full, we reduce revenues by the sum of these deficits. In three of the last four years, these deficits and the related reduction to revenues have grown substantially faster than overall revenue growth reflecting a significant number of new school start-ups, the time required to meet performance thresholds in certain states and funding adjustments in two states related to the disqualification of certain past enrollments. We expect these deficits to continue to grow faster than overall revenue

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growth as we expand into new states, continue investment in educational programs, and incur the higher costs associated with our high school offering.

Our annual growth in revenues may be materially affected by changes in the level of management services we provide to certain schools. Currently a significant portion of our enrollments are associated with virtual public schools to which we provide turnkey management services. We are responsible for the complete management of these schools and therefore, we recognize as revenues the funds received by the schools, up to the level of costs incurred. These costs are substantial, as they include the cost of teacher compensation and other ancillary school expenses. Accordingly, enrollments in these schools generate substantially more revenues than enrollments in other schools where we provide limited or no management services. In these situations, our revenues are limited to invoiced amounts and are independent of the total funds received by the school from a state or district. As a result, changes in the number of enrollments associated with schools operating under turnkey arrangements relative to total enrollments may have a disproportionate impact on average revenues per enrollment and growth in revenues relative to the growth in enrollments.

The percentage of enrollments associated with turnkey management service schools was 82% for the year ended June 30, 2008 as compared to 77% for the year ended June 30, 2007. This increase was primarily attributable to the enrollments at new schools in Georgia and Nevada. The percentage of enrollments associated with turnkey management service schools was 77% in fiscal year 2007 as compared to 92% in fiscal year 2006. This decline was attributable to a reduction in management services in one large school. Changes in the mix of enrollments associated with turnkey management services compared with limited management services may change the average revenues per enrollment and accordingly impact total revenues. As we renew our existing management contracts, the extent of the management services we provide may change. Where it is beneficial to do so, management intends to renew these contracts as they expire. Our turnkey management contracts have terms from three to ten years and none expire prior to the completion of the 2008-09 school year. We are providing turnkey management services to new schools in South Carolina, Hawaii, Oregon and Indiana in 2009. Consequently, we anticipate that the percentage of enrollments associated with turnkey management services will increase slightly for fiscal year 2009 versus the prior year. Considered in isolation, this would cause average revenues per enrollment to increase slightly in fiscal year 2009 as compared to fiscal year 2008.

In fiscal year 2008, we derived more than 10% of our revenues from each of the Ohio Virtual Academy and the Agora Cyber Charter School in Pennsylvania. In aggregate, these schools accounted for 26% of our total revenues. We provide our full turnkey management solution pursuant to our contract with the Ohio Virtual Academy, which terminates June 30, 2017. We provide our full turnkey solution to the Agora Cyber Charter School, pursuant to a contract with the Cynwyd Group which expires June 30, 2016. Each of the contracts with these schools provides for termination of the agreement if the school ceases to hold a valid and effective charter from the charter-issuing authority in their respective states or if there is a material reduction in the per enrollment funding level. The annual revenues generated under each of these contracts represent a material portion of our total revenues in fiscal year 2008 and we expect this to continue in fiscal year 2009.

Our annual growth in revenues will also be impacted by changes in state or district per enrollment funding levels. These funding levels are typically established on an annual basis, are usually consistent from grade to grade, and generally increase at modest levels from year to year. Over our operating history, per enrollment funding levels have increased annually in almost every school we operate. These increases are essential to enable schools to provide for an annual increase in teachers’ wages and to offset the impact of inflation on other school operating costs. For these reasons, we anticipate that per enrollment funding levels will continue to increase at modest levels over time.

Finally, we may generate modest growth in revenues from increases in the prices of our curriculum and educational services. We evaluate our pricing annually against market benchmarks and conditions and raise them as we deem appropriate. We do not expect our price increases to have a significant incremental impact as they are encompassed within increases in per enrollment funding levels.

Instructional Costs and Services Expenses

Instructional costs and services expenses include expenses directly attributable to the educational products and services we provide. The virtual public schools we manage are the primary drivers of these costs, including teacher

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and administrator salaries and benefits and expenses of related support services. Instructional costs also include fulfillment costs of student textbooks and materials, depreciation and reclamation costs of computers provided for student use, and the cost of any third-party online courses. In addition, we include in instructional costs the amortization of capitalized curriculum and related systems. We measure, track and manage instructional costs and services as a percentage of revenues and on a per enrollment basis as these are key indicators of performance and operating efficiency.

As a percentage of revenues, instructional costs and services expenses increased for the year ended June 30, 2008, as compared to the year ended June 30, 2007 primarily due to an increase in enrollments associated with managed schools compared with non-managed schools. Managed school enrollments have higher costs as a percentage of revenues due to the high level of support services provided to the school. Also contributing to the increase was the rapid growth in high school enrollments relative to total enrollments. The high school instructional model has not yet attained scale and the costs of teacher and administrative support on a per student basis are higher than those of K-8 students. Reflecting the impact of these items, instructional costs and services expenses increased to 58.0% of revenues for the year ended June 30, 2008 compared with 54.1% for the year ended June 30, 2007.

Over time, we expect high school enrollments to grow as a percentage of total enrollments. Our high school offering requires increased instructional costs as a percentage of revenues compared to our kindergarten to 8th grade offering. This is due to the following: (i) generally lower student-to-teacher ratios; (ii) higher compensation costs for some teaching positions requiring subject-matter expertise; (iii) ancillary costs for required student support services including college placement, SAT preparation and guidance counseling; and (vi) use of third-party courses to augment our proprietary curriculum. Over time, we anticipate offsetting these factors by obtaining productivity gains in our high school instructional model, replacing third-party high school courses with proprietary content, leveraging our school infrastructure and obtaining purchasing economies of scale.

We are developing new delivery models, including a hybrid model, where students receive both face-to-face and online instruction. These models necessitate additional costs including facilities related costs and additional administrative support, which are generally not required to operate typical virtual public schools. In addition, development costs may include instructional research and curriculum development. As a result, instructional costs as a percentage of revenues may be higher than our kindergarten through eighth grade offering. In addition, we are pursuing expansion into new states. If we are successful, we will incur start-up costs and other expenses associated with the initial launch of a virtual public school, which may result in increased instructional costs as a percentage of revenues.

Selling, Administrative and Other Operating Expenses

Selling, administrative and other operating expenses include the salaries, benefits and related costs of employees engaged in business development, sales and marketing, and administrative functions. In addition, we include rent expense for our corporate headquarters and stock compensation expense. We measure and track selling, administrative and other operating expenses as a percentage of revenues to track performance and efficiency of these areas. In addition, we track measures of sales and marketing efficiency including the number of new enrollment prospects for virtual public schools and our ability to convert these prospects into enrollments. We also track various operating, call center and information technology statistics as indicators of operating efficiency and customer service. From fiscal year 2005 through fiscal year 2007, our selling, administrative and other operating expenses as a percentage of revenues remained relatively stable as we significantly increased our marketing and selling expenses and expanded our management team and administrative staff over this period. For fiscal year 2008, our selling, administrative and other operating expenses as a percentage of revenues were 32.0%, a decrease of 4.4% versus the prior year. Over the past year, we continued to increase our marketing and student recruitment programs, pursue schools in new states and explore new business opportunities. However, we were able to support growth in revenues and enrollments without a corresponding increase in expenses for our management and administrative infrastructure, which includes executive management, and personnel in the areas of finance, legal, information technology, facilities, human resources and logistics management. Going forward, we believe we will gain greater leverage on our corporate overhead and selling resources and expect our selling, administrative and other operating expenses to decline over time as a percentage of revenues.

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Product Development Expenses

Product development expenses include research and development costs and overhead costs associated with the management of projects to develop curriculum and internal systems. In addition, product development expenses include the amortization of internal systems and any impairment charges. We measure and track our product development expenditures on a per course or project basis to measure and assess our development efficiency. In addition, we monitor employee utilization to evaluate our workforce efficiency. We plan to invest in additional curriculum development and related software in the future, primarily to produce additional high school courses, new releases of existing courses and to upgrade our content management system and our Online School (OLS). We capitalize most of the costs incurred to develop our curriculum and software, beginning with application development, through production and testing.

We account for impairment of capitalized curriculum development costs in accordance with Statement of Financial Accounting Standard No. 144 (SFAS No. 144), Accounting for the Impairment or Disposal of Long-Lived Assets. See “Critical Accounting Policies and Estimates”. There were no impairment charges for the years ended June 30, 2008 and 2007. In fiscal year 2006, we recognized an impairment charge of $0.4 million as the potential to earn revenues from the use of our curriculum in a traditional classroom was uncertain.

Other Factors That May Affect Comparability

Public Company Expenses.  Upon the completion of our initial public offering, we became a public company, and our shares of common stock are publicly traded on NYSE Arca under the symbol “LRN”. As a result, we comply with new laws, regulations and requirements that we did not need to comply with as a private company, including certain provisions of the Sarbanes-Oxley Act of 2002, other applicable SEC regulations and the requirements of NYSE Arca. Compliance with the requirements of being a public company require us to increase our general and administrative expenses in order to pay our employees, legal counsel and independent registered public accountants to assist us in, among other things, instituting and monitoring a more comprehensive compliance and board governance function, establishing and maintaining internal control over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act of 2002 and preparing and distributing periodic public reports in compliance with our obligations under the federal securities laws. In addition, as a public company, it is more expensive for us to obtain directors and officers liability insurance.

Stock Option Expense.  The adoption of Statement of Financial Accounting Standard No. 123R, “Share Based Payments” (SFAS No. 123R), requires that we recognize an expense for stock options granted beginning July 1, 2006. We incurred approximately $1.5 million and $0.2 million in stock compensation expense for the years ended June 30, 2008 and 2007, respectively. We expect stock option expense to increase in the future as we grant additional stock options.

Income Tax Benefits Resulting from Decrease of Valuation Allowance.  In the period from our inception through fiscal year 2005, we incurred significant operating losses that resulted in a net operating loss carryforward for tax purposes. However, in each of the past three years, the Company has generated increasing enrollments, revenue and operating profit. As a result, the Company determined it was more likely than not that substantially all of our net deferred tax asset will be utilized. For the year ended June 30, 2008, we recognized a net income tax benefit of $21.1 million. This reflects the net effect of a $27.0 million tax benefit from the reversal of the valuation allowance on net deferred tax assets and an income tax expense of $5.9 million, or 46.6% of pretax income.

Public Funding and Regulation.  Our public school customers are financed with federal, state and local government funding. Budget appropriations for education at all levels of government are determined through a political process and, as a result, our revenues may be affected by changes in appropriations. Decreases in funding could result in an adverse affect on our financial condition, results of operations and cash flows.

Competition.  The market for providing online education for grades K-12 is becoming increasingly competitive and attracting significant new entrants. If we are unable to successfully compete for new business and contract renewals, our growth in revenues and operating margins may decline. With the introduction of new technologies and market entrants, we expect this competition to intensify.

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Critical Accounting Policies and Estimates

The discussion of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. In the preparation of our consolidated financial statements, we are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, as well as the related disclosures of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. The results of our analysis form the basis for making assumptions about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions, and the impact of such differences may be material to our consolidated financial statements. Our critical accounting policies have been discussed with the audit committee of our board of directors.

We believe that the following critical accounting policies affect the more significant judgments and estimates used in the preparation of our consolidated financial statements:

Revenue Recognition

In accordance with SEC Staff Accounting Bulletin No. 104 (SAB No. 104), we recognize revenues when the following conditions are met: (1) persuasive evidence of an arrangement exists; (2) delivery of physical goods or rendering of services is complete; (3) the seller’s price to the buyer is fixed or determinable; and (4) collection is reasonably assured. Once these conditions are satisfied, the amount of revenues we record is determined in accordance with Emerging Issues Task Force (EITF 99-19), “Reporting Revenue Gross as a Principal versus Net as an Agent.”

We generate almost all of our revenues through long-term contracts with virtual public schools. These schools are generally funded by state or local governments on a per student basis. Under these contracts, we are responsible for providing each enrolled student with access to our OLS, our online lessons, offline learning kits and student support services required for their complete education. In most cases, we are also responsible for providing complete management and technology services required for the operation of the school. The revenues derived from these long-term agreements are primarily dependent upon the number of students enrolled, the extent of the management services contracted for by the school, and the level of funding provided to the school for each student.

We have determined that the elements of our contracts are valuable to schools in combination, but do not have standalone value. In addition, we have determined that we do not have objective and reliable evidence of fair value for each element of our contracts. As a result, the elements within our multiple-element contracts do not qualify for treatment as separate units of accounting. Accordingly, we account for revenues received under multiple element arrangements as a single unit of accounting and recognize the entire arrangement based upon the approximate rate at which we incur the costs associated with each element.

We invoice virtual public schools in accordance with the established contractual terms. Generally, this means that for each enrolled student, we invoice their school on a per student basis for the following items: (1) access to our online school and online lessons; (2) offline learning kits; and (3) student personal computers. We also invoice for management and technology services. We apply SAB No. 104 to each of these items as follows:

•  Access to the K(12) Online School and Online Lessons.  Our OLS revenues come primarily from contracts with charter schools and school districts. Students are provided access to the OLS and online lessons at the start of the school year for which they have enrolled. On a per student basis, we invoice schools an upfront fee at the beginning of the school year or at the time a student enrolls and a monthly fee for each month during the school year in which the student is enrolled. A school year generally consists of 10 months. The upfront fee is initially recorded as deferred revenue and is recognized as revenues ratably over the remaining months of the current school year. If a student withdraws prior to the end of a school year, any remaining deferred revenue related to the upfront fee is recognized ratably over the remaining months of the school year. The monthly fees are recognized in the month in which they are earned.

The majority of our enrollments occur at the beginning of the school year in August or September, depending upon the state. Because upfront fees are generally charged at the beginning of the school year, the balance in our deferred revenue account tends to be at its highest point at the end of the first quarter.

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Generally, the balance will decline over the course of the year and all deferred revenue related to virtual public schools will be fully recognized by the end of our fiscal year on June 30.

•  Offline Learning Kits.  Our offline learning kit revenues come primarily from contracts with virtual public schools and our curriculum blends which online and offline content. The lessons in our online school are meant to be used in conjunction with selected printed materials, workbooks, laboratory materials and other manipulative items which we provide to students. We generally ship all offline learning kits to a student when their enrollment is approved and invoice the schools in full for the materials at that time. Once materials have been shipped, our efforts are substantially complete. Therefore, we recognize revenues upon shipment. Because offline learning kits revenues are recognized near the time of enrollment in its entirety, we generate a majority of these revenues in our first fiscal quarter which coincides with the start of the school year.

•  Student Personal Computers.  In most of our contracts with virtual public schools, we are responsible for ensuring that each enrolled student has the ability to access our online school. To accomplish this, we generally provide each enrolled student with the use of a personal computer, complete technical support through our call center, and reclamation services when a student withdraws or a computer needs to be exchanged. Schools are invoiced on a per student basis for each enrolled student to whom we have provided a personal computer. This may include an upfront fee at the beginning of the school year or at the time a student enrolls and a monthly fee for each month during the school year in which the student is enrolled. A school year generally consists of 10 months. The upfront fee is initially recorded as deferred revenue and is recognized as revenues ratably over the remaining months of the current school year. If a student withdraws prior to the end of a school year, any remaining deferred revenue related to the upfront fee is recognized ratably over the remaining months of the school year. All deferred revenue will be recognized by the end of our fiscal year, June 30. The monthly fees are recognized in the month in which they are earned.

•  Management and Technology Services.  Under most of our school contracts, we provide the boards of the virtual public schools we serve with turnkey management and technology services. We take responsibility for all academic and fiscal outcomes. This includes responsibility for all aspects of the management of the schools, including monitoring academic achievement, teacher recruitment and training, compensation of school personnel, financial management, enrollment processing and procurement of curriculum, equipment and required services. Management and technology fees are generally determined based upon a percentage of the funding received by the virtual public school. We generally invoice schools for management and technology services in the month in which they receive such funding.

We recognize the revenues from turnkey management and technology fees ratably over the course of our fiscal year. We use 12 months as a basis for recognition because administrative offices of the school remain open for the entire year. To determine the amount of revenues to recognize in our fiscal year, we estimate the total funds that each school will receive in a particular school year, and our related fees associated with the estimated funding. Our management and technology service fees are generally a contracted percentage of yearly school revenues. We review our estimates of funding periodically, and revise as necessary, amortizing any adjustments over the remaining portion of the fiscal year. Actual school funding may vary from these estimates or revisions, and the impact of these differences could have a material impact on our results of operations. Since the end of the school year coincides with the end of our fiscal year, we are generally able to base our annual revenues on actual school revenues. As a result, on an annual basis, we have not had to make any material adjustments to our estimates of revenue over the last three years.

Under most contracts, we provide the virtual schools we manage with turnkey management services and agree to operate the school within per enrollment funding levels. This includes assuming responsibility for any operating deficits that the schools may incur in a given school year. These operating deficits represent the excess of costs over revenues incurred by the virtual public schools as reflected on their financial statements. The costs include our charges to the schools. Such deficits may arise from school start-up costs, from funding shortfalls, from temporary or long-term incremental cost requirements for a particular school, or due to specific one-time expenses that a school may incur. Up to the level of school revenues, our collections are reasonably assured. We consider the operating deficits to estimate any impairment of collection, and our recognized revenue reflects this impairment. The fact that a school has an operating

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deficit does not mean we anticipate losing money on the contract. We recognize the impact of these operating deficits by estimating the full year revenues and full year deficits of schools at the beginning of the fiscal year. We amortize the estimated deficits against recognized revenues based upon the percentage of actual revenues in the period to total estimated revenues for the fiscal year. We periodically review our estimates of full year school revenues and full year operating deficits and amortize the impact of any changes to these estimates over the remainder of our fiscal year. Actual school operating deficits may vary from these estimates or revisions, and the impact of these differences could have a material impact on our results of operations. Since the end of the school year coincides with the end of our fiscal year, we are generally able to base our annual revenues on actual school revenues and use actual costs incurred in our calculation of school operating deficits. As a result, on an annual basis, we have not had to make any material adjustments to our estimates of realizable revenue over the last three years.

The amount of revenues we record is determined in accordance with EITF 99-19. For the schools where we provide turnkey management services, we have determined that we are the primary obligor for substantially all expenses of the school. Accordingly, we report revenues on a gross basis by recording the associated per student revenues received by the school from its funding state or school district up to the expenses incurred by the school. Revenues are recognized when the underlying expenses are incurred by the school. For the small percentage of contracts where we provide individually selected services for the school, we invoice on a per student or per service basis and recognize revenues in accordance with SAB No. 104. Under these contracts, where we do not assume responsibility for operating deficits, we record revenues on a net basis.

We also generate a small percentage of our revenues through the sale of our online courses and offline learning kits directly to consumers. Online course sales are generally subscriptions for periods of 12 to 24 months and customers have the option of paying a discounted amount in full upfront or paying in monthly installments. Payments are generally made with charge cards. For those customers electing to pay these subscription fees in their entirety upfront, we record the payment as deferred revenue and amortize the revenues over the life of the subscription. For customers paying monthly, we recognize these payments as revenues in the month earned. Revenues for offline learning kits are recognized when shipped. Within 30 days of enrollment, customers can receive a full refund, however customers terminating after 30 days will receive a pro rata refund for the unused portion of their subscription less a termination fee. Historically, the impact of refunds has been immaterial. We currently generate revenues from K¹² International Academy, although the amounts are immaterial. These revenues are recognized ratably over the semester or school year as defined by the course or enrollment.

Capitalized Curriculum Development Costs

Our curriculum is primarily developed by our employees and to a lesser extent, by independent contractors. Generally, our courses cover traditional subjects and utilize examples and references designed to remain relevant for long periods of time. The online nature of our curriculum allows us to incorporate user feedback rapidly and make ongoing corrections and improvements. For these reasons, we believe that our courses, once developed, have an extended useful life, similar to computer software. We also create textbooks and other offline materials. Our curriculum is integral to our learning system. Our customers do not acquire our curriculum or future rights to it.

We capitalize curriculum development costs incurred during the application development stage in accordance with Statement of Position (SOP) 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. SOP 98-1 provides guidance for the treatment of costs associated with computer software development and defines those costs to be capitalized and those to be expensed. Costs that qualify for capitalization are external direct costs, payroll, and payroll-related costs. Costs related to general and administrative functions are not capitalizable and are expensed as incurred. We capitalize curriculum development costs when the projects under development reach technological feasibility. Many of our new courses leverage off of proven delivery platforms and are primarily content, which has no technological hurdles. As a result, a significant portion of our courseware development costs qualify for capitalization due to the concentration of our development efforts on the content of the courseware. Technological feasibility is established when we have completed all planning, designing, coding, and testing activities necessary to establish that a course can be produced to meet its design specifications. Capitalization ends when a course is available for general release to our customers, at which time amortization of the capitalized costs begins. The period of time over which these development costs will be amortized is generally

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five years. This is consistent with the capitalization period used by others in our industry and corresponds with our product development lifecycle. Included in capitalized curriculum development is the November 2007 purchase of a perpetual license of curriculum for $3 million. The purchase agreement includes a provision for future royalty payments. This curriculum will be included as part of our high school offering and will be amortized over five years.

Software Developed or Obtained for Internal Use

We develop our own proprietary computer software programs to provide specific functionality to support both our unique education offering and the student and school management services. These programs enable us to develop courses, process student enrollments, meet state documentation requirements, track student academic progress, deliver online courses to students, coordinate and track the delivery of course-specific materials to students and provide teacher support and training. These applications are integral to our learning system and we continue to enhance existing applications and create new applications. Our customers do not acquire our software or future rights to it.

We capitalize software development costs incurred during the development stage of these applications in accordance with SOP 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. These development costs are generally amortized over three years.

Impairment of Long-lived Assets

Long-lived assets include property, equipment, capitalized curriculum and software developed or obtained for internal use. In accordance with Statement of Financial Accounting Standards No. 144 (SFAS No. 144), Accounting for the Impairment or Disposal of Long-Lived Assets, we review our recorded long-lived assets for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. We determine the extent to which an asset may be impaired based upon our expectation of the asset’s future usability as well as on a reasonable assurance that the future cash flows associated with the asset will be in excess of its carrying amount. If the total of the expected undiscounted future cash flows is less than the carrying amount of the asset, a loss is recognized for the difference between fair value and the carrying value of the asset.

Accounting for Stock-based Compensation

Prior to July 1, 2006, we accounted for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, or APB No. 25 and related interpretations. Accordingly, compensation cost for stock options generally was measured as the excess, if any, of the estimated fair value of our common stock over the amount an employee must pay to acquire the common stock on the date that both the exercise price and the number of shares to be acquired pursuant to the option are fixed. We had adopted the disclosure-only provisions of SFAS No. 123 which was released in May 1995, and used the minimum value method of valuing stock options as allowed for non-public companies.

In December 2004, SFAS No. 123R revised SFAS No. 123 and superseded APB No. 25. SFAS No. 123R requires the measurement of the cost of employee services received in exchange for an award of equity instruments based on the fair value of the award on the measurement date of grant, with the cost being recognized over the applicable requisite service period. In addition, SFAS No. 123R requires an entity to provide certain disclosures in order to assist in understanding the nature of share-based payment transactions and the effects of those transactions on the financial statements. The provisions of SFAS No. 123R are required to be applied as of the beginning of the first interim or annual reporting period of the entity’s first fiscal year that begins after December 15, 2005.

Effective July 1, 2006, we adopted the fair value recognition provisions of SFAS No. 123R using the prospective transition method, which requires the Company to apply the provisions of SFAS No. 123R only to awards granted, modified, repurchased or cancelled after the effective date. Under this transition method, stock- based compensation expense recognized beginning July 1, 2006 is based on the fair value of stock awards as of the grant date. As the Company had used the minimum value method for valuing its stock options under the disclosure requirements of SFAS No. 123, all options granted prior to July 1, 2006 continue to be accounted for under APB No. 25.

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The Company uses the Black-Scholes option pricing model method to calculate the fair value of stock options. Depending on certain substantive characteristics of the stock option, the Company, where appropriate, utilizes a binomial model. The use of option valuation models requires the input of highly subjective assumptions, including the expected stock price volatility and the expected term of the option.

Option valuation models also require a determination of the fair value of our common stock at various dates. As a public company, fair value is readily observable in the market price of our common stock. Before the completion of our IPO, such determinations required complex and subjective judgments. During this pre-IPO period, we considered several methodologies to estimate our enterprise value, including guideline public company analysis, an analysis of comparable company transactions, and a discounted cash flow analysis. The results of the public company and comparable company transactions components of the analyses vary not only with factors such as our revenue, EBITDA, and income levels, but also with the performance and public market valuation of the companies and transactions used in the analyses. Although the market-based analyses did not include companies directly comparable to us, the analysis provided useful benchmarks.

We also considered several equity allocation methodologies to allocate the estimate of enterprise value to our redeemable convertible preferred stock and common stock including the current value method, the option pricing method, and the probability weighted expected return method (PWERM). The final valuation conclusion was based upon the PWERM equity allocation because it considers the value that would be attributable to each equity interest under different scenarios.

The PWERM assessed the value of common stock based upon possible scenarios including completion of an initial public offering, an advantageous strategic sale of the Company, and remaining a private company. The significant factors included preliminary estimates of the public offering price range from underwriters, the value of comparable company transactions, and discounted cash flow analysis. Key assumptions included the relative probability of the three scenarios. The relative probabilities were based upon where the Company was in the initial public offering registration process, empirical analysis of companies that go public after the registration process, and qualitative characteristics of the Company. The value of common stock was estimated by applying the relative probability to the value of common stock under each scenario. Based upon the foregoing, we believe the analysis provides a reasonable basis for valuing the common stock.

For the three months ended September 30, 2007, all option grants took place in the month of July. For the year ended June 30, 2007, we granted stock options in July 2006, February 2007 and May 2007. The significant factor contributing to the difference between the fair value as of the date of each grant and our public offering price is the probability of completing a public offering used in the PWERM. The probability of completing an initial public offering at each grant date was determined based on the progression of the Company in the initial public offering process. As the probability increased the relative fair value of the option increased. Specifically, for the options granted on February 1, February 27, May 17, July 3 and July 12, 2007, we discounted the value of our common stock by 70.8%, 62.6%, 47.1%, 39.1% and 39.1%, respectively, to account for the probability that a public offering would not occur. The amount of these discounts reflect, in February, a very low but increasing likelihood of completing such an offering as the Board had not yet affirmatively determined to pursue a public offering, in May, a higher likelihood of completing a public offering following the Board’s determination to pursue the offering and the Company’s progress in preparing its registration statement, and in July, a much higher likelihood of completing a public offering as a majority of the work in preparing for the initial filing of a registration statement had been completed.

The Company accounts for equity instruments issued to non-employees in accordance with the provisions of SFAS No. 123R and EITF 96-18, Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services.

Deferred Tax Asset Valuation Allowance

We account for income taxes as prescribed by Statement of Financial Accounting Standards No. 109 (SFAS No. 109), Accounting for Income Taxes. SFAS No. 109 prescribes the use of the asset and liability method to compute the differences between the tax bases of assets and liabilities and the related financial amounts, using currently enacted tax laws. If necessary, a valuation allowance is established, based on the weight of available

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evidence, to reduce deferred tax assets to the amount that is more likely than not to be realized. Realization of the deferred tax assets, net of deferred tax liabilities, is principally dependent upon achievement of sufficient future taxable income. We exercise significant judgment in determining our provisions for income taxes, our deferred tax assets and liabilities and our future taxable income for purposes of assessing our ability to utilize any future tax benefit from our deferred tax assets. However, our ability to forecast sufficient future taxable income is subject to certain market factors that we may not be able to control such as a material reduction in per pupil funding levels, legislative budget cuts reducing or eliminating the products and services we provide and government regulation.

Since inception, the Company has generated significant losses. However, in the past three years, the Company has generated increasing operating profit; 1.2% of revenue in fiscal year 2006, 2.9% of revenue in fiscal year 2007 and 5.8% of revenue in fiscal year 2008. In addition, the Company’s revenue is dependent upon the number of student enrollments, the majority of which are generated in the first quarter of the fiscal year in conjunction with the start of the school year. For the year ended June 30, 2008, the Company generated a significant increase in enrollments with average enrollments climbing to 40,859, an increase of 51.3% with a corresponding revenue increase of 61.0% from the year ended June 30, 2007. During the recruiting season for fall 2008, the Company has received enrollment applications from its existing and new schools that will provide for additional growth in the coming year. When considering this positive evidence of future profitability, the Company believes that our recent history of generating positive pre-tax income is sustainable and is expected to continue to grow as a result of the increasing revenues primarily from virtual public schools. Consequently, we believe that it is more likely than not that we will be able to utilize substantially all of our net deferred tax asset. Therefore, for the year ended June 30, 2008, we have reversed approximately $27.0 million of the valuation allowance on our net deferred tax asset.

Although we believe that our tax estimates are reasonable, the ultimate tax determination involves significant judgments that could become subject to examination by tax authorities in the ordinary course of business. We periodically assess the likelihood of adverse outcomes resulting from these examinations to determine the impact on our deferred taxes and income tax liabilities and the adequacy of our provision for income taxes. Changes in income tax legislation, statutory income tax rates, or future taxable income levels, among other things, could materially impact our valuation of income tax assets and liabilities and could cause our income tax provision to vary significantly among financial reporting periods.

As of June 30, 2008, we had federal net operating loss carryforwards of $70.8 million that expire between 2020 and 2028 if unused. The Company maintains a valuation allowance on net deferred tax assets of $0.6 million as of June 30, 2008 related to state income taxes as the Company believes it is more likely than not that we will not be able to utilize these deferred tax assets. During 2008, the Company changed its tax treatment of certain capitalized costs which resulted in an increase in its net operating loss carryforwards. Due to these net operating loss carryforwards, the Company does not expect to pay federal income taxes in the next twelve months.

Goodwill and Other Intangibles

We record as goodwill the excess of purchase price over the fair value of the identifiable net assets acquired. The determination of fair value of the identifiable net assets acquired was determined by management utilizing various valuation methodologies. Intangible assets subject to amortization include trade names, domain names, and non-compete agreements. Such intangible assets are amortized on a straight-line basis over their estimated useful lives, which are considered to be two years.

Statements of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets, prescribes a two-step process for impairment testing of goodwill and intangibles with indefinite lives, which is performed annually, as well as when an event triggering impairment may have occurred. The first step tests for impairment, while the second step, if necessary, measures the impairment. Goodwill and intangible assets deemed to have an indefinite life are tested for impairment on an annual basis, or earlier when events or changes in circumstances suggest the carrying amount may not be fully recoverable. The Company has elected to perform its annual assessment on May 31st. For the year ended June 30, 2008, no impairment to goodwill was recorded.

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Results of Operations

The following table sets forth average enrollment data for each of the periods indicated:

	Year Ended June 30,
	2008			2007			2006
Total enrollments		40,859			27,005			20,220
Enrollments associated with managed schools as a percentage of total enrollments		82.0	%		76.9	%		91.7	%
High School enrollments as a percentage of total enrollments		13.5	%		8.7	%		5.0	%

The following table sets forth statements of operations data for each of the periods indicated:

	Year Ended June 30,
	2008			2007			2006
Consolidated Statement of Operations Data:
Revenues	$	226,235		$	140,556		$	116,902
Cost and expenses
Instructional costs and services		131,282			76,064			64,828
Selling, administrative, and other operating expenses		72,393			51,159			41,660
Product development expenses		9,550			8,611			8,568
Total costs and expenses		213,225			135,834			115,056
Income from operations		13,010			4,722			1,846
Interest expense, net		(295	)		(639	)		(488	)
Income from operations before income taxes		12,715			4,083			1,358
Income tax benefit (expense)		21,058			(218	)		—
Net income	$	33,773		$	3,865		$	1,358

The following table presents our selected consolidated statement of operations data expressed as a percentage of our total revenues for the periods indicated:

	Year Ended June 30,
	2008			2007			2006
Consolidated Statement of Operations Data:
Revenues		100.0	%		100.0	%		100.0	%
Cost and expenses
Instructional costs and services		58.0			54.1			55.5
Selling, administrative, and other operating expenses		32.0			36.4			35.6
Product development expenses		4.2			6.1			7.3
Total costs and expenses		94.2			96.6			98.4
Income from operations		5.8			3.4			1.6
Interest expense, net		(0.1	)		(0.5	)		(0.4	)
Income from operations before income taxes		5.7			2.9			1.2
Income tax benefit (expense)		9.3			(0.2	)		—
Net income		15.0	%		2.7	%		1.2	%

Comparison of Years Ended June 30, 2008 and 2007

Revenues.  Our revenues for the year ended June 30, 2008 were $226.2 million, representing an increase of $85.7 million, or 61.0%, as compared to revenues of $140.6 million for the year ended June 30, 2007. Average

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enrollments increased 51.3% to 40,859 for the year ended June 30, 2008 from 27,005 for the year ended June 30, 2007. The increase in average enrollments was primarily attributable to 40.5% enrollment growth in existing states. New school openings in Georgia and Nevada contributed approximately 10.8% to enrollment growth. In new and existing states combined, high school enrollments contributed approximately 11.7% to enrollment growth. In addition, we launched 11th and 12th grade in August 2007 attracting new students as well as prior year 10th grade students. High school enrollments comprised approximately 13.5% of our total average enrollment for the year ended June 30, 2008 as compared to 8.7% in the prior period. Also contributing to the growth in revenues was a 6.4% increase in average revenues per enrollment. This increase was primarily attributable to an increase in the percentage of enrollments associated with managed schools, which generate higher revenue per enrollment than non-managed school enrollments. The percentage of enrollments associated with managed schools increased to 82.0% for the year ended June 30, 2008 from 76.9% for the year ended June 30, 2007.

Instructional Costs and Services Expenses.  Instructional costs and services expenses for the year ended June 30, 2008 were $131.3 million, representing an increase of $55.2 million, or 72.6% as compared to instructional costs and services of $76.1 million for the year ended June 30, 2007. This increase was primarily attributable to a $40.6 million increase in expenses to operate and manage the schools and a $13.6 million increase in costs to supply books, educational materials and computers to students, including depreciation and amortization. As a percentage of revenues, instructional costs increased to 58.0% for the year ended June 30, 2008, as compared to 54.1% for the year ended June 30, 2007. The increase in instructional cost and service expenses as a percentage of revenues is primarily due to an increase in enrollments associated with managed schools, which have higher costs as a percentage of revenues than non-managed school, higher per student costs for high school because our instructional model has not yet attained scale, and higher costs to procure and supply materials due to greater than anticipated enrollments.

Selling, Administrative, and Other Operating Expenses.  Selling, administrative, and other operating expenses for year ended June 30, 2008 were $72.4 million, representing an increase of $21.2 million, or 41.5%, as compared to selling, administrative and other operating expenses of $51.2 million for the year ended June 30, 2007. This increase is primarily attributable to an $8.9 million increase in personnel costs primarily due to increased headcount and a $4.7 million increase in professional services. As a percentage of revenues, selling, administrative, and other operating expenses decreased to 32.0% for the year ended June 30, 2008 as compared to 36.4% for the year ended June 30, 2007 as we gained greater leverage on our corporate overhead and selling resources.

Product Development Expenses.  Product development expenses for the year ended June 30, 2008 were $9.6 million, representing an increase of $1.0 million, or 10.9%, as compared to product development expenses of $8.6 million for the year ended June 30, 2007. Employee headcount and contract labor increased, but was offset by greater utilization of these resources for capitalized curriculum. As a percentage of revenues, product development expenses decreased to 4.2% for the year ended June 30, 2008 as compared to 6.1% for the year ended June 30, 2007.

Net Interest Expense.  Net interest expense for the year ended June 30, 2008 was $0.3 million, a decrease of $0.3 million, from $0.6 million for the year ended June 30, 2007. The decrease in net interest expense is primarily due to interest income generated on the net cash proceeds from our IPO, partially offset by an increase in interest charges on increased capital lease obligations.

Income Taxes.  Income tax benefit for the year ended June 30, 2008 was $21.1 million compared to income tax expense of $0.2 million for the year ended June 30, 2007. Our provision for income taxes for the year ended June 30, 2008 was $5.9 million, or 46.6% of income before income taxes. The tax provision was offset by a $27.0 million tax benefit we recognized as we were able to reverse the valuation allowance on net deferred tax assets generated by our net operating losses that were fully reserved for in prior periods. For the year ended June 30, 2007 income tax expense was $0.2 million, as we were able to utilize the deferred tax assets which were generated from our net operating losses and for which a full reserve was maintained in prior periods.

Net Income.  Net income for the year ended June 30, 2008 was $33.8 million, representing an increase of $29.9 million, as compared to net income of $3.9 million for the year ended June 30, 2007. Net income as a percentage of revenues increased to 15.0% for the year ended June 30, 2008, as compared to 2.7% for the year ended June 30, 2007, as a result of the factors discussed above. Excluding the $27.0 million income tax benefit in fiscal year 2008, net income for the year ended June 30, 2008 would have been $6.8 million, representing an increase of $2.9 million or 75.9% as compared to net income of $3.9 million for the year ended June 30, 2007. Excluding the

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income tax benefit, net income as a percentage of revenues would have increased to 3.0% for the year ended June 30, 2008 as compared to 2.7% for the year ended June 30, 2007.

Comparison of Years Ended June 30, 2007 and 2006

Revenues.  Our revenues for the year ended June 30, 2007 were $140.6 million, representing an increase of $23.7 million, or 20.3%, as compared to revenues of $116.9 million for the year ended June 30, 2006. Average enrollments increased 33.6% to 27,005 for the year ended June 30, 2007 from 20,220 for the year ended June 30, 2006. The increase in average enrollments was primarily attributable to 26.1% enrollment growth in existing states. New school openings in Washington and in Chicago, where we opened our first hybrid school, contributed approximately 7.5% to enrollment growth. In addition, we launched 10th grade in August 2006 attracting new students as well as prior year 9th grade students. High school enrollments contributed approximately 8% to overall enrollment growth. High school enrollments comprised approximately 8.7% of our total average enrollment for the year ended June 30, 2007 as compared to 5.0% in the prior period. Primarily offsetting the increased revenues related to enrollment growth, was a decline in average revenues per enrollment resulting from the impact of a substantial reduction in the percentage of enrollments associated with schools to which we provide turnkey management services, as a school to which we formerly provided turnkey management services switched to limited service contracts. For the year ended June 30, 2007, 76.9% of our enrollments were associated with turnkey management service schools, down from 91.7% for the corresponding period in 2006. The increase in average enrollments was primarily attributable to enrollment growth in existing states. Average price increases of approximately 2% for per student fees were implemented in July 2006. Finally, increased operating deficits at certain schools partially offset the growth in revenues. These deficits were attributable to greater school operating expenses required to support increased enrollment and high school services as well as school funding adjustments of approximately $1.0 million each in schools we operate in California and Colorado resulting from enrollment audits.

Instructional Costs and Services Expenses.  Instructional costs and services expenses for the year ended June 30, 2007 were $76.1 million, representing an increase of $11.3 million, or 17.4% as compared to instructional costs and services of $64.8 million for the year ended June 30, 2006. This increase was primarily attributable to a $6.6 million increase in expenses to operate and manage the schools and a $4.7 million increase in costs to supply books, educational materials and computers to students, including depreciation and amortization. As a percentage of revenues, instructional costs decreased to 54.1% for the year ended June 30, 2007, as compared to 55.5% for the year ended June 30, 2006. The decrease in instructional cost and service expenses as a percentage of revenues is primarily due to lower costs associated with a renegotiated management and services agreement, partially offset by a shift in the mix of enrollments to schools with higher operating costs and the start-up costs of new schools.

Selling, Administrative, and Other Operating Expenses.  Selling, administrative, and other operating expenses for year ended June 30, 2007 were $51.2 million, representing an increase of $9.5 million, or 22.8%, as compared to selling, administrative and other operating expenses of $41.7 million for the year ended June 30, 2006. This increase is primarily attributable to a $2.9 million increase in marketing, advertising and selling expenses and a $3.1 million increase in professional services. In addition, there was a $2.7 million increase in personnel costs primarily due to increased headcount and higher average salaries due to annual salary increases in fiscal year 2007. As a percentage of revenues, selling, administrative, and other operating expenses increased to 36.4% for the year ended June 30, 2007 as compared to 35.6% for the year ended June 30, 2006.

Product Development Expenses.  Product development expenses for the year ended June 30, 2007 were $8.6 million, relatively stable compared to product development expenses of $8.6 million for the year ended June 30, 2006. Employee headcount and contract labor increased, but was offset by greater utilization of these resources for capitalized curriculum. As a percentage of revenues, product development expenses declined to 6.1% for the year ended June 30, 2007 as compared to 7.3% for the year ended June 30, 2006. Capitalized curriculum development costs for the year ended June 30, 2007 were $8.7 million, representing an increase of $8.0 million, as compared to capitalized curriculum development costs of $0.7 million for the year ended June 30, 2006. This increase was primarily attributable to the development of courses for our high school offering.

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Net Interest Expense.  Net interest expense for the year ended June 30, 2007 was $0.6 million, an increase of $0.1 million, from $0.5 million for the year ended June 30, 2006. The increase in net interest expense is primarily due to interest charges on increased capital lease obligations.

Income Taxes.  Our provision for income taxes for the year ended June 30, 2007 was $0.2 million, compared with no provision for the year ended June 30, 2006. Our tax expense for the year ended June 30, 2007 is primarily attributable to state tax liabilities. No tax expense was recorded for the year ended June 30, 2006, as we were able to utilize the deferred tax assets which were generated from our net operating losses.

Net Income.  Net income for the year ended June 30, 2007 was $3.9 million, representing an increase of $2.5 million, as compared to net income of $1.4 million for the year ended June 30, 2006. Net income as a percentage of revenues increased to 2.7% for the year ended June 30, 2007, as compared to 1.2% for the year ended June 30, 2006, as a result of the factors discussed above.

Quarterly Results of Operations

The following tables set forth selected unaudited quarterly consolidated statement of operations data for the eight most recent quarters, as well as each line item expressed as a percentage of total revenues. The information for each of these quarters has been prepared on the same basis as the audited consolidated financial statements included in this Form 10-K and, in the opinion of management, includes all adjustments necessary for the fair presentation of the results of operations for such periods. This data should be read in conjunction with the audited consolidated financial statements and the related notes included in this annual report. These quarterly operating results are not necessarily indicative of our operating results for any future period

	Three Months Ended
	Jun 30,			Mar 31,			Dec 31,			Sep 30,			Jun 30,			Mar 31,			Dec 31,			Sep 30,
	2008			2008			2007			2007			2007			2007			2006			2006
Total Enrollments		40,033			42,048			40,675			39,493			26,558			27,908			26,898			26,405
Enrollments associated with managed schools as a percentage of total enrollments		82.3	%		82.6	%		81.5	%		80.8	%		79.2	%		76.9	%		75.8	%		75.6	%
High School enrollments as a percentage of total enrollments		12.8	%		13.8	%		13.5	%		14.5	%		7.8	%		8.5	%		9.1	%		9.9	%

	Three Months Ended
	Jun 30,			Mar 31,			Dec 31,			Sep 30,			Jun 30,			Mar 31,			Dec 31,			Sep 30,
	2008			2008			2007			2007			2007			2007			2006			2006
Revenues	$	56,475		$	56,016		$	54,391		$	59,353		$	35,626		$	34,831		$	32,356		$	37,743
Cost and expenses
Instructional costs and services		32,462			32,062			31,980			34,778			20,961			17,904			18,022			19,177
Selling, administrative, and other		22,712			17,032			16,610			16,039			16,100			12,644			11,030			11,385
Product development expenses		2,021			2,542			2,460			2,527			2,756			2,083			1,566			2,206
Total costs and expenses		57,195			51,636			51,050			53,344			39,817			32,631			30,618			32,768
Income (loss) from operations		(720	)		4,380			3,341			6,009			(4,191	)		2,200			1,738			4,975
Interest expense, net		88			309			(388	)		(304	)		(165	)		(117	)		(263	)		(94	)
Income (loss) before income taxes		(632	)		4,689			2,953			5,705			(4,356	)		2,083			1,475			4,881
Income tax benefit (expense)		17,735			(2,229	)		(1,565	)		7,117			9			(51	)		(30	)		(146	)
Net income (loss)	$	17,103		$	2,460		$	1,388		$	12,822		$	(4,347	)	$	2,032		$	1,445		$	4,735

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The following table sets forth statements of operations data as a percentage of revenues for each of the periods indicated:

	Three Months Ended
	Jun 30,			Mar 31,			Dec 31,			Sep 30,			Jun 30,			Mar 31,			Dec 31,			Sep 30,
	2008			2008			2007			2007			2007			2007			2006			2006
Revenues		100	%		100	%		100	%		100	%		100	%		100	%		100	%		100	%
Cost and expenses
Instructional costs and services		57.5			57.2			58.8			58.6			58.8			51.4			55.7			50.8
Selling, administrative, and other		40.2			30.4			30.5			27.0			45.2			36.3			34.1			30.2
Product development expenses		3.6			4.6			4.5			4.3			7.7			6.0			4.8			5.8
Total costs and expenses		101.3			92.2			93.8			89.9			111.7			93.7			94.6			86.8
Income (loss) from operations		(1.3	)		7.8			6.2			10.1			(11.7	)		6.3			5.4			13.2
Interest expense, net		0.2			0.6			(0.7	)		(0.5	)		(0.5	)		(0.3	)		(0.8	)		(0.2	)
Income (loss) before income taxes		(1.1	)		8.4			5.5			9.6			(12.2	)		6.0			4.6			13.0
Income tax benefit (expense), net		31.4			(4.0	)		(2.9	)		12.0			0.0			(0.1	)		(0.1	)		(0.4	)
Net income (loss)		30.3	%		4.4	%		2.6	%		21.6	%		(12.2	)%		5.9	%		4.5	%		12.6	%

Discussion of Quarterly Results of Operations

Our revenues and operating results normally fluctuate as a result of seasonal variations in our business, principally due to the number of months that our virtual public school are fully operational and serving students in a fiscal quarter. While school administrative offices are generally open year round, a school typically serves students during a 10 month academic year. A school’s academic year will typically start in August or September, our first fiscal quarter, and finish in May or June, our fourth fiscal quarter. Consequently, our first and fourth fiscal quarters may have fewer than three months of full operations when compared to the second and third fiscal quarters.

In the first fiscal quarter, we ship materials to students for the beginning of the school year. New students will enroll after the start of the school year, but in significantly smaller numbers. This generally results in higher materials revenues and margin in the first quarter versus other quarters. In the first and fourth fiscal quarters, online curriculum and computer revenues are generally lower as these revenues are primarily earned during the school academic year which may provide for only one or two months of these revenues in these quarters versus the second and third fiscal quarters. Management and technology service revenues are recognized ratably over the course of our fiscal year. The combined effect of these factors results in higher revenues in the first fiscal quarter than in the subsequent quarters.

Operating expenses are also seasonal. Instructional costs and services expenses increase in the first fiscal quarter primarily due to the costs incurred to ship student materials at the beginning of the school year. Instructional costs may increase significantly quarter-to-quarter as school operating expenses increase. For example, enrollment growth will require additional teaching staff, thereby increasing salary and benefits expense. School events may be seasonal, (e.g. professional development, proctored exam related expenses, and community events,) impacting the quarterly change in instructional costs. The majority of our recruiting and selling expenses are incurred in the first and fourth fiscal quarters, as our primary enrollment season is July through September. A significant portion of our overhead expenses does not vary with the school year or enrollment season.

Discussion of Seasonality of Financial Condition

Certain accounts in our balance sheet are subject to seasonal fluctuations. As our enrollments and revenues grow, we expect these seasonal trends to be amplified. The bulk of our materials are shipped to students prior to the beginning of the school year, usually in July or August. In order to prepare for the upcoming school year, we generally build up inventories during the fourth quarter of our fiscal year. Therefore, inventories tend to be at the highest levels at the end of our fiscal year. In the first quarter of our fiscal year, inventories tend to decline

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significantly as materials are shipped to students. We generally have payment terms with our inventory suppliers, therefore the fourth quarter purchases of inventory typically will increase accounts payable.

Accounts receivable balances tend to be at the highest levels in the first quarter of our fiscal year as we begin billing for all enrolled students and our billing arrangements include upfront fees for many of the elements of our offering. These upfront fees result in seasonal fluctuations to our deferred revenue balances. In a few cases, virtual public schools may have funds to pay these invoices in a timely manner and this provides the Company with liquidity. Generally, deferred revenue has not been a significant source of funds to the Company since most schools receive their funding over the course of the year and pay their invoices in a corresponding manner. Since the upfront fees are charged to the schools at the time of enrollment, deferred revenue balances related to the schools tend to be highest in the first quarter, when the majority of students enroll. Since the deferred revenue is amortized over the course of the school year, which ends in June, the balance would be at its lowest at the end of our fiscal year.

The deferred revenue related to our direct-to-consumer business results from advance payments for twelve and twenty-four month subscriptions to our on-line school. These advance payments are amortized over the life of the subscription and tend to be highest at the end of the fourth quarter and first quarter, when the majority of subscriptions are sold. Year end balances in deferred revenue are primarily related to the direct-to-consumer sales. Billings related to the direct-to-consumer sales are small relative to those of public virtual schools; however, they do represent a source of liquidity.

Liquidity and Capital Resources

As of June 30, 2008 and June 30, 2007, we had cash and cash equivalents of $71.7 million and $1.7 million, respectively. Net cash provided by operating activities during the year ended June 30, 2008, was $15.5 million. After the completion of our initial public offering, excess cash has been invested primarily in overnight bank deposits. In the future, we may also invest in money market accounts, government securities, corporate debt securities and similar investments.

We financed our operating activities and capital expenditures during the year ended June 30, 2008 through cash provided by operating activities, capital lease financing and the net proceeds from the completion of our initial public offering and private placement transaction. During the years ended June 30, 2007, 2006 and 2005, we financed our operating activities and capital expenditures through a combination of cash provided by operating activities, long-term debt and capital lease financing. Prior to 2005, we financed our operating activities and capital expenditures primarily with sales of equity to private investors. From the Company’s founding in 2000 through December 2003, we raised over $115 million from the sale of equity.

In December 2006, we entered into a $15 million revolving credit agreement with PNC Bank (the Credit Agreement). Pursuant to the terms of the Credit Agreement, we agreed that the proceeds of the term loan facility were to be used primarily for working capital requirements. Because of the seasonality of our business and timing of funds received, the school expenditures are higher in relation to funds received in certain periods during the year. The Credit Agreement provides the ability to fund these periods until cash is received from the schools; therefore, borrowings against the Credit Agreement are primarily going to be short-term.

Borrowings under the Credit Agreement bear interest based upon the term of the borrowings. Interest is charged, at our option, either at: (i) the higher of (a) the rate of interest announced by PNC Bank from time to time as its “prime rate” and (b) the federal funds rate plus 0.5%; or (ii) the applicable London interbank offered rate (LIBOR) divided by a number equal to 1.00 minus the maximum aggregate reserve requirement which is imposed on member banks of the Federal Reserve System against “eurocurrency liabilities” plus the applicable margin for such loans, which ranges between 1.25% and 1.75%, based on the leverage ratio (as defined in the Credit Agreement). We pay a quarterly commitment fee which varies between 0.15% and 0.25% on the unused portion of the credit agreement (depending on the leverage ratio). The working capital line includes a $5.0 million letter of credit facility. Issuances of letters of credit reduce the availability of permitted borrowings under the Credit Agreement.

Borrowings under the Credit Agreement are secured by substantially all of our assets. The Credit Agreement contains a number of financial and other covenants that, among other things, restrict our and our subsidiaries’

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abilities to incur additional indebtedness, grant liens or other security interests, make certain investments, become liable for contingent liabilities, make specified restricted payments including dividends, dispose of assets or stock, including the stock of its subsidiaries, or make capital expenditures above specified limits and engage in other matters customarily restricted in senior secured credit facilities. We must also maintain a minimum net worth (as defined in the credit agreement) and maximum debt leverage ratios. These covenants are subject to certain qualifications and exceptions. Through June 30, 2008, we were in compliance with these covenants.

As of June 30, 2008, no borrowings were outstanding on the working capital line of credit and approximately $2.3 million was outstanding for letters of credit. On October 5, 2007, we amended the Credit Agreement to increase the borrowing limit from $15 million to $20 million under substantially the same terms. This agreement expires on December 20, 2009.

One of our subsidiaries has an equipment lease line of credit for new purchases with Hewlett-Packard Financial Services Company that expires on April 30, 2009 for new purchases on the line of credit. The interest rate on new borrowings under the equipment lease line is set quarterly. The rate on new borrowings for the three months ending September 30, 2008 is approximately 6.4%. For the year ended June 30, 2008, we borrowed $10.6 million to finance the purchase of student computers and related equipment at an interest rate ranging from 7.0% to 8.3%. These leases include a 36-month payment term with a bargain purchase option at the end of the term. Accordingly, we include this equipment in property and equipment and the related liability in capital lease obligations. In addition, we have pledged the assets financed with the equipment lease line to secure the amounts outstanding.

Upon the closing of the IPO, the holders of Redeemable Convertible Series C Preferred stock were paid a cash dividend of approximately $6.4 million from the net proceeds of the offering. The amount of the declared dividend was equal to the pro rata amount of the annual cumulative dividend that would have normally accrued on January 2, 2008 under the provisions of the Series C Preferred stock agreement. Also concurrently with the closing of the IPO, all shares of convertible preferred stock outstanding automatically converted into an aggregate of 19,879,675 shares of common stock thereby also eliminating the associated future annual dividend accrual.

A substantial portion of our revenues are generated through our contractual arrangements with virtual public schools. The virtual public schools are generally funded on a per student basis by their state and local governments and the timing of funding varies by state. The amount of funding is dependent upon per enrollment funding levels for the state and school enrollment. Funding receipts by an individual school may vary over the year and may be in arrears. Because our receivables represent obligations indirectly due from governments, we have not historically had an issue with non-payment and believe the risk of non-payment is minimal although we cannot guarantee this will continue.

Our cash requirements consist primarily of day-to-day operating expenses, capital expenditures and contractual obligations with respect to facility leases, capital equipment leases and other operating leases. Capital expenditures are expected to increase in the next several years as we invest in additional courses, new releases of existing courses and purchase computers to support increases in virtual school enrollments. In the next twelve months, we expect our capital expenditures for student computers to correlate with the growth in enrollments and expenditures for capital curriculum, related systems and other fixed assets to increase relative to FY 2008. We expect to be able to fund these capital expenditures with cash on hand, cash generated from operations and capital lease financing. We lease all of our office facilities. We expect to make future payments on existing leases from cash generated from operations. Based on our current operating and capital expenditure forecasts, we believe that the combination of funds currently available and funds to be generated from operations will be adequate to finance our ongoing operations for the foreseeable future.

Operating Activities

Net cash provided by operating activities for the year ended June 30, 2008 was $15.5 million, compared to $5.6 million for the year ended June 30, 2007. This increase was primarily due to an $29.9 million increase in net income, a $5.2 million increase in depreciation and amortization, an $6.8 million increase in accounts payable, and a $2.7 million increase in accrued compensation and benefits. The increase in accounts payable was primarily attributable amounts due on fourth quarter purchases of inventory and marketing activities. This was partially offset by a $21.1 million increase in deferred income taxes, a $11.4 million increase in accounts receivable, due to the

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growth in revenues and the timing of customer receipts, and a $4.5 million increase in inventories acquired in anticipation of the fall enrollment season.

Net cash provided by operating activities for the year ended June 30, 2007 was $5.6 million, compared to $3.6 million for the year ended June 30, 2006. The increase was primarily due the $2.5 million increase in net income and a $2.4 million increase in depreciation and amortization. This was partially offset by a $0.6 million increase in 2007 of various working capital items and a $0.6 million change in the provision for doubtful accounts. This change in the accounts receivable allowance related to the write-off of accounts receivable that were fully reserved in prior years and attempts to collect were unsuccessful. Because these accounts were fully reserved in prior years, there was no impact on our results of operations for the year ended June 30, 2007.

Investing Activities

Net cash used in investing activities for the fiscal year 2008, 2007 and 2006 was $18.5 million, $14.0 million and $11.5 million, respectively.

Purchases of property and equipment for the fiscal year ended 2008, 2007 and 2006 were $6.5 million, $5.4 million and $10.8 million, respectively. In fiscal year 2008 and 2007, we also financed, with capital leases, purchases of property and equipment and student computers of $10.6 million and $8.1 million, respectively. Capitalized curriculum for the fiscal year ended 2008, 2007 and 2006 were $11.7 million, $8.7 million and $0.7 million, respectively. The fiscal year 2008 amount includes the purchase of a perpetual license of curriculum for $3.0 million.

Financing Activities

Net cash provided by financing activities for the year ended June 30, 2008 was $73.0 million. This was primarily due to the net proceeds from our IPO and private placement transaction.

In December, 2007, we completed the initial public offering of our common stock in which we sold and issued 4,450,000 shares of our common stock, at an issue price of $18.00 per share. We raised a total of $80.1 million in gross proceeds from the IPO, or approximately $70.5 million in net proceeds after deducting underwriting discounts and commissions of $5.6 million and other offering costs of $4.0 million.

Concurrently with the closing of the IPO and at the initial public offering price, we sold 833,333 shares of common stock at the initial public offering price of $18.00 per share for an aggregate purchase price of $15.0 million to a non-U.S. person, in a private placement transaction outside the United States in reliance upon Regulation S under the Securities Act of 1933.

Also concurrently with the closing of the IPO, the holders of Redeemable, Convertible Series C Preferred stock were paid a cash dividend of $6.4 million. The amount of the declared dividend was equal to the pro rata amount of the annual cumulative dividend that would have normally accrued on January 2, 2008

For the year ended June 30, 2008, net cash used for the repayment of short term debt was $1.5 million and cash used for the repayment of capital leases and bank overdraft was $4.8 million and $1.6 million, respectively. As of June 30, 2008, there were no borrowings outstanding on our $20 million line of credit.

Net cash provided by financing activities for the year ended June 30, 2007 was $0.7 million. This was primarily due to the release of cash from a restricted escrow account of $2.3 million, a bank overdraft of $1.6 million, and net borrowings from our revolving credit facility of $1.5 million. This was offset by a payment on a related party note payable of $4.0 million and repayments of capital lease obligations of $1.4 million. Net cash used in financing activities for fiscal year 2006 was $2.6 million primarily attributable to cash invested in a restricted escrow account of $2.2 million and repayments for capital lease obligations of $0.4 million.

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Contractual Obligations

Our contractual obligations consist primarily of leases for office space, capital leases for equipment and other operating leases. The following summarizes our long-term contractual obligations as of June 30, 2008:

	For Years Ended June 30,
	Total		2009		2010		2011		2012		2013		Thereafter
	(Dollars in thousands)
Contractual Obligations at June 30, 2008
Capital leases(1)	$	13,742	$	6,933	$	5,318	$	1,491	$	—	$	—	$	—
Operating leases		17,875		2,929		2,250		1,854		1,847		1,740		7,255
Long-term obligations(1)		614		418		196		—		—		—		—
Total	$	32,231	$	10,280	$	7,764	$	3,345	$	1,847	$	1,740	$	7,255

(1) Includes interest expense.

Under most contracts, we provide the virtual schools we manage with turnkey management services and take responsibility for any operating deficits that the school may incur. These deficits are recorded as a reduction in revenues, and therefore are not included as a commitment or obligation in the above table.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.

Impact of Inflation

We believe that inflation has not had a material impact on our results of operations for any of the years in the three year period ended June 30, 2008. We cannot assure you that future inflation will not have an adverse impact on our operating results and financial condition.

Recent Accounting Pronouncements

In September 2006, the FASB issued Statement of Financial Accounting Standard No. 157 (SFAS No. 157), Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. On February 12, 2008, the FASB issued Staff Position No. SFAS 157-2, Effective Date of FASB Statement No. 157, which delayed the effective date of SFAS 157 for non-financial assets and liabilities to fiscal years beginning after November 15, 2008. We have not yet assessed the impact of adopting SFAS 157.

In February 2007, the FASB issued Statement of Financial Accounting Standard No. 159 (SFAS No. 159), The Fair Value Option for Financial Assets and Financial Liabilities. This statement permits companies and not-for-profit organizations to make a one-time election to carry eligible types of financial assets and liabilities at fair value, even if fair value measurement is not required under GAAP. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. Early adoption is permitted if the decision to adopt the standard is made after the issuance of this statement but within 120 days after the first day of the fiscal year of adoption, provided no financial statements have yet been issued for any interim period and provided the requirements of SFAS No. 157, Fair Value Measurements, are adopted concurrently with SFAS No. 159. The Company does not believe that the provisions of this statement will have a material effect on its financial statements.

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141R (revised 2007), Business Combinations, which replaces SFAS No 141. The statement retains the purchase method of accounting for acquisitions, but requires a number of changes, including changes in the way assets and liabilities are recognized in the purchase accounting. It also changes the

62

recognition of assets acquired and liabilities assumed arising from contingencies, requires the capitalization of in-process research and development at fair value, and requires the expensing of acquisition-related costs as incurred. SFAS No. 141R is effective for the Company beginning July 1, 2009 and will apply prospectively to business combinations completed on or after that date.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB 51, which changes the accounting and reporting for minority interests. Minority interests will be recharacterized as noncontrolling interests and will be reported as a component of equity separate from the parent’s equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions. In addition, net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement and, upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. SFAS No. 160 is effective for the Company beginning July 1, 2009 and will apply prospectively, except for the presentation and disclosure requirements, which will apply retrospectively. We are currently assessing the potential impact that adoption of SFAS No. 160 would have on our financial statements.

In March 2008, FASB issued SFAS No. 161, Disclosures About Instruments and Hedging Activities — amendment of FASB Statement No. 133 (SFAS No. 161). SFAS No. 161 changes the disclosure requirements for derivative instruments and hedging activities. SFAS No. 161 is effective for financial statements issued for fiscal years beginning after November 15, 2008. As SFAS No. 161 relates only to disclosure, management anticipates that the adoption of SFAS No. 161 will not have a material effect on our consolidated financial statements.

In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and the framework for selecting the principles used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United States. SFAS shall be effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly in Conformity with General Accepted Accounting Principles. We have not yet assessed the impact of adopting SFAS 162.

ITEM 7A.   Quantitative and Qualitative Disclosures about Market Risk

Interest Rate Risk

At June 30, 2008 and June 30, 2007, we had cash and cash equivalents totaling $71.7 million and $1.7 million, respectively. Future interest and investment income is subject to the impact of interest rate changes and we may be subject to changes in the fair value of our investment portfolio as a result of changes in interest rates.

Our short-term debt obligations under our revolving credit facility are subject to interest rate exposure, however as we had no outstanding balance on this facility as of June 30, 2008, fluctuations in interest rates would not have a material impact on our interest expense.

Foreign Currency Exchange Risk

We currently operate in a foreign country, but we do not transact a material amount of business in a foreign currency and therefore fluctuations in exchange rates will not have a material impact on our financial statements. However, we are pursuing opportunities in international markets. If we enter into any material transactions in a foreign currency or establish or acquire any subsidiaries that measure and record their financial condition and results of operation in a foreign currency, we will be exposed to currency transaction risk and/or currency translation risk. Exchange rates between U.S. dollars and many foreign currencies have fluctuated significantly over the last few years and may continue to do so in the future. Accordingly, we may decide in the future to undertake hedging strategies to minimize the effect of currency fluctuations on our financial condition and results of operations.

63

PART II

ITEM 8.   CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

	Page
Report of Independent Registered Public Accounting Firm	65
Consolidated Balance Sheets as of June 30, 2008 and 2007	66
Consolidated Statements of Operations for the years ended June 30, 2008, 2007 and 2006	67
Consolidated Statements of Redeemable Preferred Stock and Stockholders’ Equity (Deficit) for the years ended June 30, 2008, 2007 and 2006	68
Consolidated Statements of Cash Flows for the years ended June 30, 2008, 2007 and 2006	69
Notes to Consolidated Financial Statements	70
Schedule II — Valuation and Qualifying Accounts	91

64

Report of Independent Registered Public Accounting Firm

Board of Directors and Stockholders

K12 Inc.

Herndon, Virginia

We have audited the accompanying consolidated balance sheets of K12 Inc. and subsidiaries (the Company) as of June 30, 2008 and 2007 and the related consolidated statements of operations, redeemable convertible preferred stock and stockholders’ equity (deficit), and cash flows for each of the three years in the period ended June 30, 2008. We have also audited the schedules listed in the accompanying index. These financial statements and schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and schedules are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and schedules, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements and schedules. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of K12 Inc. and subsidiaries at June 30, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended June 30, 2008, in conformity with accounting principles generally accepted in the United States of America.

As discussed in Note 3 to the consolidated financial statements, effective July 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment.”

Also, in our opinion, the schedules present fairly, in all material respects, the information set forth therein.

/s/  BDO Seidman, LLP

Bethesda, Maryland

September 26, 2008

65

K12 INC.

CONSOLIDATED BALANCE SHEETS

	June 30,
	2008			2007
	(In thousands, except per share data)
ASSETS
Current assets
Cash and cash equivalents	$	71,682		$	1,660
Accounts receivable, net of allowance of $1,458 and $589 at June 30, 2008 and June 30, 2007, respectively		30,630			15,455
Inventories, net		20,672			13,804
Current portion of deferred tax asset		8,344			—
Prepaid expenses and other current assets		3,648			1,245
Total current assets		134,976			32,164
Property and equipment, net		24,536			17,234
Capitalized curriculum development costs, net		21,366			9,671
Deferred tax asset, net of current portion		12,749			—
Goodwill		1,754			—
Other assets, net		1,943			2,143
Total assets	$	197,324		$	61,212
LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS’ EQUITY (DEFICIT)
Current liabilities
Bank overdraft	$	—		$	1,577
Line of credit		—			1,500
Accounts payable		14,388			6,928
Accrued liabilities		4,684			1,819
Accrued compensation and benefits		10,049			6,200
Deferred revenue		3,114			2,620
Current portion of capital lease obligations		6,107			2,780
Current portion of notes payable		413			192
Total current liabilities		38,755			23,616
Deferred rent, net of current portion		1,640			1,684
Capital lease obligations, net of current portion		6,445			3,974
Notes payable, net of current portion		196			189
Total liabilities		47,036			29,463
Commitments and contingencies
Redeemable convertible preferred stock
Redeemable Convertible Series C Preferred stock, par value $0.0001; no shares authorized, issued or outstanding at June 30, 2008; 10,784,313 shares authorized and 9,776,756 shares issued and outstanding at June 30, 2007; liquidation value of $133,629 at June 30, 2007		—			91,122
Redeemable Convertible Series B Preferred stock, par value $0.0001; no shares authorized, issued or outstanding at June 30, 2008; 14,901,960 shares authorized and 10,102,899 shares issued and outstanding at June 30, 2007; liquidation value of $138,087 at June 30, 2007		—			138,434
Stockholders’ equity (deficit)
Common stock, par value $0.0001; 100,000,000 shares authorized; 27,944,826 and 2,041,604 shares issued and outstanding at June 30, 2008 and June 30, 2007, respectively		3			1
Additional paid-in capital		323,621			—
Accumulated deficit		(173,336	)		(197,808	)
Total stockholders’ equity (deficit)		150,288			(197,807	)
Total liabilities, redeemable convertible preferred stock and stockholders’ equity (deficit)	$	197,324		$	61,212

See accompanying summary of accounting policies and notes to consolidated financial statements.

66

K12 INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

	Year Ended June 30,
	2008			2007			2006
	(In thousands, except per share data)
Revenues	$	226,235		$	140,556		$	116,902
Cost and expenses
Instructional costs and services		131,282			76,064			64,828
Selling, administrative, and other operating expenses		72,393			51,159			41,660
Product development expenses		9,550			8,611			8,568
Total costs and expenses		213,225			135,834			115,056
Income from operations		13,010			4,722			1,846
Interest expense, net		(295	)		(639	)		(488	)
Income before income taxes		12,715			4,083			1,358
Income tax benefit (expense)		21,058			(218	)		—
Net income		33,773			3,865			1,358
Dividends on preferred stock		(3,066	)		(6,378	)		(5,851	)
Preferred stock accretion		(12,193	)		(22,353	)		(18,697	)
Net income (loss) attributable to common stockholders	$	18,514		$	(24,866	)	$	(23,190	)
Net income (loss) attributable to common stockholders per share:
Basic	$	1.18		$	(12.42	)	$	(11.73	)
Diluted	$	1.10		$	(12.42	)	$	(11.73	)
Weighted average shares used in computing per share amounts (see note 3):
Basic		15,701,278			2,001,661			1,977,195
Diluted		16,850,909			2,001,661			1,977,195

See accompanying summary of accounting policies and notes to consolidated financial statements.

67

K12 INC.

CONSOLIDATED STATEMENTS OF REDEEMABLE CONVERTIBLE PREFERRED STOCK
AND STOCKHOLDERS’ EQUITY (DEFICIT)

	Redeemable						Redeemable						Stockholders’ Equity (Deficit)
	Convertible Series C						Convertible Series B										Additional
	Preferred Stock						Preferred Stock						Common Stock				Paid-in			Accumulated
	Shares			Amount			Shares			Amount			Shares		Amount		Capital			Deficit			Total
	(In thousands, except share data)
Balance, June 30, 2005		8,079,961		$	64,293			10,102,899		$	111,984			1,976,312	$	1	$	—		$	(150,300	)	$	(150,299	)
Exercise of stock options		—			—			—			—			22,584		—		38			—			38
Accretion of Preferred Stock		—			6,067			—			12,630			—		—		(38	)		(18,659	)		(18,697	)
Series C 10% Stock Dividend		807,998			5,851			—			—			—		—		—			(5,851	)		(5,851	)
Net income		—			—			—			—			—		—		—			1,358			1,358
Balance, June 30, 2006		8,887,959			76,211			10,102,899			124,614			1,998,896		1		—			(173,452	)		(173,451	)
Exercise of stock options		—			—			—			—			42,708		—		292			—			292
Stock compensation expense		—			—			—			—			—		—		218			—			218
Accretion of Preferred Stock		—			8,533			—			13,820			—		—		(510	)		(21,843	)		(22,353	)
Series C 10% Stock Dividend		888,797			6,378			—			—			—		—		—			(6,378	)		(6,378	)
Net Income		—			—			—			—			—		—		—			3,865			3,865
Balance, June 30, 2007		9,776,756			91,122			10,102,899			138,434			2,041,604		1		—			(197,808	)		(197,807	)
Exercise of stock options		—			—			—			—			221,914		—		1,510			—			1,510
Stock compensation expense		—			—			—			—			—		—		1,464			—			1,464
Accretion of Preferred Stock		—			5,164			—			7,029			—		—		(5,958	)		(6,235	)		(12,193	)
Series C 10% Stock Dividend		—			1,671			—			—			—		—		—			(1,671	)		(1,671	)
Issuance of stock related to acquisition of Power-Glide		—			—			—			—			186,266		—		2,660			—			2,660
Conversion of Preferred Stock		(9,776,756	)		(97,957	)		(10,102,899	)		(145,463	)		19,879,675		2		238,406			5,011			243,419
Purchase of common stock — Reg S transaction		—			—			—			—			833,333		—		15,000			—			15,000
Initial public offering, net of transaction costs and expense		—			—			—			—			4,450,000		—		70,539			—			70,539
Payment of Series C cash dividend		—			—			—			—			—		—		—			(6,406	)		(6,406	)
Exercise of stock warrants on cashless provision		—			—			—			—			332,034		—		—			—			—
Net income		—			—			—			—			—		—		—			33,773			33,773
Balance, June 30, 2008		—		$	—			—		$	—			27,944,826	$	3	$	323,621		$	(173,336	)	$	150,288

See accompanying summary of accounting policies and notes to consolidated financial statements.

68

K12 INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

	Year Ended June 30,
	2008			2007			2006
	(In thousands)
Cash flows from operating activities
Net income	$	33,773		$	3,865		$	1,358
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization expense		12,568			7,404			4,986
Stock based compensation expense		1,464			218			—
Deferred income taxes		(21,093	)		—			—
Provision for (reduction of) doubtful accounts		867			(852	)		(275	)
Provision for (reduction of) inventory obsolescence		407			95			(39	)
Provision for (reduction of) student computer shrinkage and obsolescence		162			(48	)		174
Impairment of capitalized curriculum development cost		—			—			362
Changes in assets and liabilities:
Accounts receivable		(15,322	)		(3,154	)		(2,718	)
Inventories		(7,275	)		(2,790	)		(5,359	)
Prepaid expenses and other current assets		(2,403	)		(763	)		100
Other assets		97			(255	)		(258	)
Deposits and other assets		(154	)		(322	)		(268	)
Accounts payable		7,375			579			1,559
Accrued liabilities		1,557			(824	)		122
Accrued compensation and benefits		3,828			1,100			1,782
Deferred revenue		(273	)		1,224			501
Deferred rent		(44	)		86			1,598
Net cash provided by operating activities		15,534			5,563			3,625
Cash flows from investing activities
Purchase of property and equipment		(6,476	)		(5,366	)		(10,842	)
Purchase of domain name		(250	)		—			—
Acquisition of Power-Glide		(119	)		—			—
Capitalized curriculum development costs		(11,669	)		(8,683	)		(655	)
Net cash used in investing activities		(18,514	)		(14,049	)		(11,497	)
Cash flows from financing activities
Cash received from issuance of common stock, net of underwriters commission		74,493			—			—
Cash received from issuance of common stock — Regulation S transaction		15,000			—			—
Deferred initial public offering costs		(3,954	)		—			—
Net borrowings from (repayments on) revolving credit facility		(1,500	)		1,500			—
Repayments on notes payable — related party		—			(4,025	)		—
Repayments on capital lease obligations		(4,767	)		(1,384	)		(441	)
Payments on notes payable		(180	)		(62	)		—
Proceeds from notes payable		408			441			—
Proceeds from exercise of stock options		1,485			292			38
Payment of cash dividend — Preferred Stock		(6,406	)		—			—
Bank overdraft		(1,577	)		1,577			—
Cash invested in restricted escrow account		—			2,332			(2,203	)
Net cash provided by (used in) financing activities		73,002			671			(2,606	)
Net change in cash and cash equivalents		70,022			(7,815	)		(10,478	)
Cash and cash equivalents, beginning of year		1,660			9,475			19,953
Cash and cash equivalents, end of year	$	71,682		$	1,660		$	9,475

See accompanying summary of accounting policies and notes to consolidated financial statements.

69

K12 Inc.

Notes to Consolidated Financial Statements

1.   Description of the Business

K12 Inc. and its subsidiaries (K12 or the Company) sell online curriculum and educational books and materials designed for students in grades K-12 and provide management and technology services to virtual public schools. The K12 proprietary curriculum is research-based and combines content with innovative technology to allow students to receive an outstanding education regardless of geographic location. In contracting with a virtual public school, the Company typically provides students with access to the K12 on-line curriculum, offline learning kits, and use of a personal computer. As of June 30, 2008, the Company served schools in 17 states and the District of Columbia, providing curriculum for grades kindergarten through twelfth. The Company expanded into four new states for fiscal year 2009: Hawaii, Indiana, Oregon, and South Carolina. In addition, the Company sells access to its on-line curriculum and offline learning kits directly to individual consumers.

2.   Basis of Presentation

The consolidated financial statements include the accounts of the Company and all of its wholly-owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.

3.   Summary of Significant Accounting Policies

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions affecting the amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, we evaluate our estimates and assumptions, including those related to allowance for doubtful accounts, inventory reserves, amortization periods, the allocation of purchase price to the fair value of net assets and liabilities acquired in connection with business combinations, fair values used in asset impairment evaluations, valuation of long-lived assets, contingencies, income taxes and stock-based compensation expense. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. The results of our analysis form the basis for making assumptions about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates.

Revenue Recognition and Concentration of Revenues

Revenues are principally earned from long-term contractual agreements to provide on-line curriculum, books, materials, computers and management services to public charter schools and school districts. In addition to providing the curriculum, books and materials, under most contracts, the Company is responsible to the virtual public schools for all aspects of the management of schools, including monitoring academic achievement, teacher hiring and training, compensation of school personnel, financial management, enrollment processing and procurement of curriculum, equipment and required services. The schools receive funding on a per student basis from the state in which the public school or school district is located. Where the Company has determined that they are the primary obligor for substantially all expenses under these contracts, the Company records the associated per student revenue received by the school from its state funding school district up to the expenses incurred in accordance with Emerging Issues Task Force (EITF) 99-19, Reporting Revenue Gross as a Principal Versus Net as an Agent. As a result, amounts recorded as revenues and instructional costs and services for the years ended June 30, 2008, 2007 and 2006 were $62.2 million, $38.3 million and $35.6 million, respectively. For contracts in which the Company is not the primary obligor, the Company records revenue based on its net fees earned per the contractual agreement.

The Company generates revenues under contracts with public virtual schools which include multiple elements. These elements include providing each of a school’s students with access to the Company’s on-line

70

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

school and the on-line component of lessons; offline learning kits which include books and materials designed to complement and supplement the on-line lessons; the use of a personal computer and associated reclamation services; internet access and technology support services; the services of a state-certified teacher and; all management and technology services required to operate a public virtual school.

We have determined that the elements of our contracts are valuable to schools in combination, but do not have standalone value. In addition, we have determined that we do not have objective and reliable evidence of fair value for each element of our contracts. As a result, the elements within our multiple-element contracts do not qualify for treatment as separate units of accounting. Accordingly, we account for revenues received under multiple element arrangements as a single unit of accounting and recognize the entire arrangement based upon the approximate rate at which we incur the costs associated with each element.

Under the contracts with the schools where the Company provides turnkey management services, the Company has generally agreed to absorb any operating deficits of the schools in a given school year. These operating deficits represent the excess of costs over revenues incurred by the virtual public schools as reflected on their financial statements. The costs include Company charges to the schools. These operating deficits may impair the Company’s ability to collect invoices in full. Accordingly, the Company’s amount of recognized revenue reflects this impairment. For the years ended June 30, 2008, 2007 and 2006, the Company’s revenue reflected impairment from these operating deficits of $9.1 million, $13.7 million and $7.0 million, respectively. Included in these deficits is a reserve for the potential impact of certain disallowed enrollments stemming from regulatory audits in Colorado totaling $0.9 million in 2006 and $1.0 million in 2007, and California totaling $1.0 million in 2007 and $1.0 million in 2008.

Other revenues are generated from individual customers who prepay and have access for 12 or 24 months to curriculum via the Company’s Web site. The Company recognizes these revenues pro rata over the maximum term of the customer contract, which is either 12 or 24 months. Revenues from associated offline learning kits are recognized upon shipment.

During the years ended June 30, 2008, 2007 and 2006, approximately 97%, 97% and 94%, respectively, of the Company’s revenues were recognized from virtual public schools. In fiscal year 2008, we had contracts with two schools that individually represented 14% and 12% of revenues. In fiscal year 2007, we had contracts with four schools that individually represented 16%, 11%, 11% and 11% of revenues. In fiscal year 2006, we had contracts with three schools that individually represented 28%, 16% and 10% of revenues.

Shipping and handling costs

Shipping and handling costs are expensed when incurred and are classified as cost of goods sold in the accompanying consolidated statements of operations. Shipping and handling charges are invoiced to the customer and are included in gross revenues.

Research and Development Costs

All research and development costs are expensed as incurred including patent application costs in accordance with Statement of Financial Accounting Standards (SFAS) No. 2, Accounting for Research and Development Costs.

Cash and Cash Equivalents

Cash and cash equivalents generally consist of cash on hand and cash held in money market and demand deposit accounts. For purposes of the statements of cash flows, the Company considers all highly liquid investments with maturities of three months or less when purchased to be cash equivalents. The Company maintains funds in accounts in excess of FDIC insurance limits; however, management believes it minimizes risk by maintaining deposits in well-capitalized financial institutions.

71

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

Fair Value of Financial Instruments

The carrying values reflected in our consolidated balance sheets for cash and cash equivalents, receivables, inventory and short and long term debt approximate their fair values.

Allowance for Doubtful Accounts

The Company maintains an allowance for uncollectible accounts primarily for estimated losses resulting from the inability, failure or refusal of individual customers to make required payments. These losses have been within management’s expectations. The Company analyzes accounts receivable, historical percentages of uncollectible accounts and changes in payment history when evaluating the adequacy of the allowance for uncollectible accounts. Management believes that an allowance for doubtful accounts of $1.5 million and $0.6 million as of June 30, 2008 and 2007, respectively, is adequate. However, actual write-offs might exceed the recorded allowance.

Inventory

Inventory consists primarily of schoolbooks and curriculum materials, a majority of which are leased to virtual schools and utilized directly by students. Inventory represents items that are purchased and held for sale and are recorded at the lower of cost (first-in, first-out method) or market value. Excess and obsolete inventory reserves are established based upon the evaluation of the quantity on hand relative to demand. The excess and obsolete inventory reserve at June 30, 2008 and 2007 was $0.7 million and $0.3 million, respectively.

Other Assets

Other assets consist primarily of schoolbooks and curriculum materials which have been returned to the Company upon the completion of the school year. These assets are amortized over a period of two years which is included in instructional costs and services on the accompanying consolidated statement operations. Materials not returned are expensed as part of instructional costs and services. Other assets also include intangible assets, net of amortization, of $0.1 million and $0 at June 30, 2008 and 2007, respectively and deposits and other assets of $0.7 million and $1.0 million at June 30, 2008 and 2007, respectively.

Property and Equipment

Property and equipment, which includes capitalized software and web site development, are stated at cost less accumulated depreciation and amortization. Depreciation expense is calculated using the straight-line method over the estimated useful life of the asset (or the lesser of the term of the lease and the estimated useful life of the asset for fixed assets under capital leases). Amortization of assets capitalized under capital lease arrangements is included in depreciation expense. Property and equipment are depreciated over the following lives:

	Useful Life
Computer hardware		3 years
Computer software		3 years
Capitalized software and web site development costs		3 years
Office equipment		5-6 years
Furniture and fixtures		5-6 years
Leasehold Improvements		3-12 years

Leasehold improvements are amortized over the lesser of the lease term or the estimated useful life of the asset. The Company determines the lease term in accordance with Statement of Financial Accounting Standards No. 13 (FAS 13), Accounting for Leases, as the fixed non-cancelable term of the lease plus all periods for which failure to renew the lease imposes a penalty on the lessee in an amount such that renewal appears, at the inception of the lease, to be reasonably assured.

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Capitalized Software and Web Site Development Costs

The Company develops software for internal use. Software development costs incurred during the application development stage are capitalized in accordance with Statement of Position (SOP) 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. The Company amortizes these costs over the estimated useful life of the software which is generally three years.

Software development costs incurred totaled $5.5 million, $3.1 million and $1.4 million for the years ended June 30, 2008 and 2007 and 2006, respectively. These amounts are recorded on the accompanying consolidated balance sheet as part of property and equipment, net of amortization and impairment charges. The estimated aggregate amortization expense for each of the three succeeding years ending June 30, 2009, 2010 and 2011 is $1.1 million, $0.6 million and $0.1 million, respectively.

The Company accounts for web site development costs in accordance with Emerging Issues Task Force Issue No. 00-2 (EITF 00-2) , Accounting for Web Site Development Costs. Total capitalized web site development costs incurred for the years ended June 30, 2008 and 2007 were $0.3 million and $0.4 million, respectively. For the year ended June 30, 2006 all web site development costs occurred in the operating stage and were expensed as incurred. These amounts are recorded on the accompanying consolidated balance sheet as part of property and equipment, net of amortization and impairment charges. The estimated aggregate amortization expense for each of the three succeeding years ending June 30, 2009, 2010 and 2011 is $0.2 million, $0.2 million and $0.1 million, respectively.

Capitalized Curriculum Development Costs

The Company internally develops curriculum, which is primarily provided as web content and accessed via the Internet. The Company also creates textbooks and other offline materials.

We capitalize curriculum development costs incurred during the application development stage in accordance with Statement of Position (SOP) 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. SOP 98-1 provides guidance for the treatment of costs associated with computer software development and defines those costs to be capitalized and those to be expensed. Costs that qualify for capitalization are external direct costs, payroll and payroll-related costs. Costs related to general and administrative functions are not capitalizable and are expensed as incurred. We capitalize curriculum development costs when the projects under development reach technological feasibility. Many of our new courses leverage off of proven delivery platforms and are primarily content, which has no technological hurdles. As a result, a significant portion of our courseware development costs qualify for capitalization due to the concentration of our development efforts on the content of the courseware. Technological feasibility is established when we have completed all planning, designing, coding, and testing activities necessary to establish that a course can be produced to meet its design specifications. Capitalization ends when a course is available for general release to our customers, at which time amortization of the capitalized costs begins. The period of time over which these development costs will be amortized is generally five years. This is consistent with the capitalization period used by others in our industry and corresponds with our product development lifecycle. Included in capitalized curriculum development is the November 2007 purchase of a perpetual license of curriculum for $3 million of which $2.8 million was paid in cash and $0.2 million is included in accrued liabilities on the accompanying consolidated balance sheet. The balance due under the agreement is expected to be paid within the next twelve months as certain milestones within the agreement are met. The agreement includes a provision for future royalty payments. The curriculum will be included as part of our high school offering and will be amortized over five years.

Total capitalized curriculum development costs incurred were $11.7 million, $8.7 million and $0.7 million for the years ended June 30, 2008, 2007 and 2006, respectively. These amounts are recorded on the accompanying consolidated balance sheet, net of amortization and impairment charges. Amortization and impairment charges are recorded in product development expenses on the accompanying consolidated statement of operations. The

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estimated aggregate amortization expense for each of the five succeeding years ending June 30, 2009, 2010, 2011, 2012 and 2013 is $2.8 million, $2.7 million, $2.3 million, $1.9 million and $0.4 million, respectively.

Goodwill and Other Intangibles

We record as goodwill the excess of purchase price over the fair value of the identifiable net assets acquired. The determination of fair value of the identifiable net assets acquired was determined by management utilizing various valuation methodologies.

Intangible assets subject to amortization include the trade name, domain name and non-compete agreements. Such intangible assets are amortized on a straight-line basis over their estimated useful lives, which are considered to be no more than two years.

Statements of Financial Accounting Standards (SFAS ) No. 142, Goodwill and Other Intangible Assets, prescribes a two-step process for impairment testing of goodwill and intangibles with indefinite lives, which is performed annually, as well as when an event triggering impairment may have occurred. The first step tests for impairment, while the second step, if necessary, measures the impairment. Goodwill and intangible assets deemed to have an indefinite life are tested for impairment on an annual basis, or earlier when events or changes in circumstances suggest the carrying amount may not be fully recoverable. The Company has elected to perform its annual assessment on May 31st. For the year ended June 30, 2008, no impairment to goodwill was recorded.

Impairment of Long-Lived Assets

Long-lived assets include property, equipment, capitalized curriculum and software developed or obtained for internal use. In accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, the Company reviews its recorded long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If the total of the expected undiscounted future cash flows is less than the carrying amount of the asset, a loss is recognized for the difference between fair value and the carrying value of the asset. Impairment charges recorded were $0.4 million for the year ended June 30, 2006. There was no impairment for the years ended June 30, 2008 and 2007.

Income Taxes

The Company accounts for income taxes in accordance with SFAS No. 109, Accounting for Income Taxes. Under SFAS No. 109, deferred tax assets and liabilities are computed based on the difference between the financial reporting and income tax bases of assets and liabilities using the enacted marginal tax rate. SFAS No. 109 requires that the net deferred tax asset be reduced by a valuation allowance if, based on the weight of available evidence, it is more likely than not that some portion or all of the net deferred tax asset will not be realized.

The Company adopted the provisions of FASB Interpretation No. 48 (FIN 48), “Accounting for Uncertainty in Income Taxes” effective July 1, 2007. FIN 48 provides a comprehensive model for how a company should recognize, measure, present and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. The Company recognizes interest and penalties, if any, related to unrecognized tax benefits in income tax expense. The Company did not have any unrecognized tax benefits and there was no effect on its financial condition or results of operations as a result of implementing FIN 48.

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The Company or one of its subsidiaries files income tax returns in the U.S. federal and various states jurisdictions. For income tax returns filed by the Company, the Company is no longer subject to U.S. federal, state and local income tax examinations by tax authorities for years before 2002, although carryforward tax attributes that were generated prior to 2002 may still be adjusted upon examination by tax authorities if they either have been or will be utilized. The Company does not believe there will be any material changes in its unrecognized tax positions over the next twelve months.

Sales Taxes

The Company reports sales taxes collected from clients and remitted to governmental authorities on a net basis. Sales tax collected from customers is excluded from revenues. Collected but unremitted sales tax is included as part of accrued expenses in the accompanying consolidated balance sheets. Revenues do not include sales tax as the Company considers itself a pass-through conduit for collecting and remitting sales tax.

Stock-Based Compensation

The Company adopted SFAS No. 123(R), Share-Based Payment (Revised 2004), as of July 1, 2006, which replaces SFAS No. 123, Accounting for Stock-Based Compensation, and supersedes Accounting Principles Board Opinion No. 25 (APB No. 25), Accounting for Stock Issued to Employees . The Company adopted SFAS 123(R) using the prospective application method. SFAS No. 123(R) eliminates the intrinsic value method that was previously used by the Company as an alternative method of accounting for stock-based compensation. SFAS No. 123(R) requires an entity to recognize the grant date fair value of stock options and other equity-based compensation issued to employees in the consolidated statement of operations. The Company applied SFAS 123(R) to all new awards granted after July 1, 2006.

Advertising and Marketing Expenses

Advertising and marketing costs consist primarily of print media and brochures and are expensed when incurred. The advertising and marketing expenses recorded were $8.4 million, $5.2 million and $2.9 million during the years ended June 30, 2008, 2007 and 2006, respectively.

Net Income (Loss) Per Common Share

The Company calculates net income (loss) per share in accordance with SFAS No. 128, Earnings Per Share. Under SFAS No. 128, basic net income (loss) per common share is calculated by dividing net income (loss) by the weighted-average number of common shares outstanding during the reporting period. Diluted net income (loss) per common share includes the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock. The potentially dilutive securities consist of convertible preferred stock, stock options and warrants.

Basic earnings per share is computed by dividing net income available to common stockholders by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share reflects the potential dilution that could occur assuming conversion or exercise of all dilutive unexercised stock options and warrants. The dilutive effect of stock options was determined using the treasury stock method. Under the treasury stock method, the proceeds received from the exercise of stock options, the amount of compensation cost for future service not yet recognized by the Company, and the amount of tax benefits that would be recorded in additional paid-in capital when the stock options become deductible for income tax purposes are all assumed to be used to repurchase shares of the Company’s common stock. Stock options are not included in the computation of diluted earnings per share when they are antidilutive.

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K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

The following schedule presents the calculation of basic and diluted net income (loss) per share:

	Year Ended June 30,
	2008		2007			2006
	(In thousands except per shares and
	per share data)
Net income (loss) available to common shareholders — basic and diluted	$	18,514	$	(24,866	)	$	(23,190	)
Weighted average common shares outstanding — basic		15,701,278		2,001,661			1,977,195
Weighted average common shares outstanding — diluted		16,850,909		2,001,661			1,977,195
Net income (loss) per common share:
Basic	$	1.18	$	(12.42	)	$	(11.73	)
Diluted	$	1.10	$	(12.42	)	$	(11.73	)

The basic and diluted weighted average common shares outstanding for the year ended June 30, 2008 reflect the weighted average effect of the conversion of preferred stock to common stock upon the closing of the initial public offering on December 18, 2007. The number of shares of common stock outstanding at June 30, 2008 is 27,944,826.

As of June 30, 2008, 2007 and 2006, the shares of common stock issuable in connection with convertible preferred stock, stock options, and warrants of 378,300, 23,260,070 and 21,105,437, respectively, were not included in the diluted loss per common share calculation since their effect was anti-dilutive.

Recent Accounting Pronouncements

In September 2006, the FASB issued Statement of Financial Accounting Standard No. 157 (SFAS No. 157), Fair Value Measurements, which defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. On February 12, 2008, the FASB issued Staff Position No. SFAS 157-2, Effective Date of FASB Statement No. 157, which delayed the effective date of SFAS 157 for non-financial assets and liabilities to fiscal years beginning after November 15, 2008. We have not yet assessed the impact of adopting SFAS 157.

In February 2007, the FASB issued Statement of Financial Accounting Standard No. 159 (SFAS No. 159), The Fair Value Option for Financial Assets and Financial Liabilities. This statement permits companies and not-for-profit organizations to make a one-time election to carry eligible types of financial assets and liabilities at fair value, even if fair value measurement is not required under GAAP. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. Early adoption is permitted if the decision to adopt the standard is made after the issuance of this statement but within 120 days after the first day of the fiscal year of adoption, provided no financial statements have yet been issued for any interim period and provided the requirements of SFAS No. 157, Fair Value Measurements, are adopted concurrently with SFAS No. 159. The Company does not believe that the provisions of this statement will have a material effect on its financial statements.

In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141R (revised 2007), Business Combinations, which replaces SFAS No 141. The statement retains the purchase method of accounting for acquisitions, but requires a number of changes, including changes in the way assets and liabilities are recognized in the purchase accounting. It also changes the recognition of assets acquired and liabilities assumed arising from contingencies, requires the capitalization of in-process research and development at fair value, and requires the expensing of acquisition-related costs as incurred. SFAS No. 141R is effective for the Company beginning July 1, 2009 and will apply prospectively to business combinations completed on or after that date.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB 51, which changes the accounting and reporting for minority interests. Minority

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interests will be recharacterized as noncontrolling interests and will be reported as a component of equity separate from the parent’s equity, and purchases or sales of equity interests that do not result in a change in control will be accounted for as equity transactions. In addition, net income attributable to the noncontrolling interest will be included in consolidated net income on the face of the income statement and, upon a loss of control, the interest sold, as well as any interest retained, will be recorded at fair value with any gain or loss recognized in earnings. SFAS No. 160 is effective for the Company beginning July 1, 2009 and will apply prospectively, except for the presentation and disclosure requirements, which will apply retrospectively. The Company is in the process of evaluating the potential impact that adoption of SFAS No. 160 would have on its consolidated financial statements.

In March 2008, FASB issued SFAS No. 161, Disclosures About Instruments and Hedging Activities — amendment of FASB Statement No. 133 (SFAS No. 161). SFAS No. 161 changes the disclosure requirements for derivative instruments and hedging activities. SFAS No. 161 is effective for financial statements issued for fiscal years beginning after November 15, 2008. As SFAS No. 161 relates only to disclosure, the Company anticipates that the adoption of SFAS No. 161 will not have a material effect on its consolidated financial statements.

In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS 162”). SFAS 162 identifies the sources of accounting principles and the framework for selecting the principles used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles in the United States. SFAS shall be effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, The Meaning of Present Fairly in Conformity with General Accepted Accounting Principles. The Company has not yet assessed the impact of adopting SFAS 162.

4.   Property and Equipment

Property and equipment consists of the following at:

	June 30,
	2008			2007
Student computers	$	30,126		$	20,208
Capitalized software and web site development costs		10,648			4,905
Computer hardware		6,738			5,811
Computer software		4,051			3,390
Leasehold improvements		2,467			2,270
Office equipment		899			784
Furniture and fixtures		896			809
		55,825			38,177
Less accumulated depreciation and amortization		(31,289	)		(20,943	)
	$	24,536		$	17,234

The Company recorded depreciation expense related to property and equipment reflected in selling, administrative and other operating expenses of $2.6 million, $1.9 million and $1.1 million during the years ended June 30, 2008, 2007 and 2006, respectively. Depreciation expense of $9.2 million, $5.1 million and $3.5 million related primarily to computers leased to students and amortization of capitalized curriculum development reflected in instructional costs and services was recorded during the years ended June 30, 2008, 2007 and 2006, respectively. Amortization expense of $0.8 million, $0.4 million and $0.1 million related to capitalized software development reflected in product development expenses was recorded during the years ended June 30, 2008, 2007 and 2006, respectively.

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In the course of its normal operations, the Company incurs maintenance and repair expenses. Those are expensed as incurred and amounted to $0.5 million, $0.4 million and $0.2 million for the years ended June 30, 2008, 2007 and 2006, respectively.

5.   Income Taxes

The provision for income taxes is based on earnings reported in the consolidated financial statements. A deferred income tax asset or liability is determined by applying currently enacted tax laws and rates to the expected reversal of the cumulative temporary differences between the carrying value of assets and liabilities for financial statement and income tax purposes. Deferred income tax expense or benefit is measured by the change in the deferred income tax asset or liability during the year.

Deferred tax assets and liabilities result primarily from temporary differences in book versus tax basis accounting. Deferred tax assets and liabilities consist of the following:

	Year Ended June 30,
	2008			2007
Deferred tax assets:
Net operating loss carryforward	$	25,481		$	25,376
Capitalized curriculum development		—			4,202
Reserves		1,977			613
Property and equipment		837			491
Stock compensation expense		656			87
Accrued expenses		609			486
Deferred rent		231			180
Deferred revenue		144			—
Charitable contributions carryforward		128			131
Total deferred tax assets		30,063			31,566
Deferred tax liabilities:
Capitalized curriculum development		(4,747	)		—
Capitalized software and website development costs		(3,160	)		(1,378	)
Other assets		(452	)		(262	)
Total deferred tax liabilities		(8,359	)		(1,640	)
Deferred tax asset		21,704			29,926
Valuation allowance		(611	)		(29,926	)
Net deferred tax asset	$	21,093		$	—

The Company analyzed the positive and negative evidence to determine if it is more likely than not that some portion or all of the deferred tax assets will not be realized. Based on the weight of the evidence which includes a recent history of positive pre-tax income, the Company concluded that all federal deferred tax assets will be realized. Accordingly, the Company determined that it is appropriate to reduce the deferred tax asset valuation allowance by approximately $29.3 million as of June 30, 2008. The net change in total valuation allowance for the year ended June 30, 2007 was a decrease of $2.6 million. The Company maintains a valuation allowance on net deferred tax assets of $0.6 million as of June 30, 2008 related to state income taxes as the Company believes it is more likely than not that we will not be able to utilize these deferred tax assets. At June 30, 2008, the Company has available federal net operating loss carryforwards of $70.8 million that expire between 2020 and 2028 if unused.

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Notes to Consolidated Financial Statements — (Continued)

During 2008, the Company changed its tax treatment of certain capitalized costs which resulted in an increase in its net operating loss carryforwards.

The Company has evaluated whether a change in the Company’s ownership of outstanding classes of stock as defined in Internal Revenue Code Section 382 could prohibit or limit the Company’s ability to utilize its net operating losses. As a result of this study, the Company has concluded it is more likely than not that the Company will be able to fully utilize its net operating losses subject to the Section 382 limitation.

The related components of the income tax (benefit) expense for the years ended June 30, 2008, 2007 and 2006 are as follows:

	Year Ended June 30,
	2008			2007		2006
Current:
State and other	$	35		$	218		—
Total current		35			218		—
Deferred:					—		—
Federal		(20,081	)		—		—
State and other		(1,012	)		—		—
Total deferred		(21,093	)		—		—
Total income tax (benefit) expense	$	(21,058	)	$	218	$	—

The provision for income taxes can be reconciled to the income tax that would result from applying the statutory rate to the net income (loss) before income taxes as follows:

	Year Ended June 30,
	2008			2007			2006
U.S. federal tax at statutory rates		35.00	%		35.00	%		35.00	%
Permanent items		7.78			20.22			55.77
State taxes, net of federal benefit		3.61			13.65			12.98
Change in valuation allowance		(212.18	)		(63.56	)		(103.75	)
Provision for income taxes		(165.79	)%		5.31	%		—	%

6.   Lease Commitments and Notes Payable

Capital leases

As of June 30, 2008, computer equipment and software under capital leases are recorded at a cost of $18.6 million and accumulated depreciation of $7.1 million. The Company has an equipment lease line of credit with Hewlett-Packard Financial Services Company that expires on April 30, 2009 for new purchases on the line of credit. The interest rate on new advances under the equipment lease line is set quarterly. Prior borrowings under the equipment lease line had interest rates ranging from 7.0% to 8.83%. The prior borrowings include a 36-month payment term with a $1 purchase option at the end of the term. The Company has pledged the assets financed with the equipment lease line to secure the amounts outstanding. The Company entered into a guaranty agreement with Hewlett-Packard Financial Services Company to guarantee the obligations under this equipment lease and financing agreement.

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Notes to Consolidated Financial Statements — (Continued)

Notes payable

The Company has purchased computer software licenses and maintenance services through notes payable arrangements with various vendors at interest rates ranging up to 11.4% and payment terms ranging from eighteen months to three years.

The following is a summary as of June 30, 2008 of the present value of the net minimum lease payments on capital leases and notes payable under the Company’s commitments:

	Year Ended June 30,
2009	$	7,351
2010		5,514
2011		1,491
Total minimum lease payments		14,356
Less amount representing interest (imputed interest rate of 8.6)%		(1,195	)
Net minimum lease payments		13,161
Less current portion		(6,520	)
Present value of net minimum payments, less current portion	$	6,641

Operating leases

The Company has fixed non-cancelable operating leases with terms expiring through 2018. Office leases generally contain renewal options and certain leases provide for scheduled rate increases over the lease terms.

In December 2005, the Company entered into an operating lease for non-owned facilities commencing in May 2006. The term of the lease is seven years with the option to extend the lease for two five year periods. In accordance with the lease terms, the Company delivered to the landlord an unconditional and irrevocable letter of credit in the amount of $2.1 million for a term ending 90 days after the expiration of the lease. The letter of credit can be reduced up to 25% on the first day of each of the fourth, fifth and sixth years if certain covenants are met. Additionally, in December 2005, the Company entered into an operating sublease for non-owned facilities commencing in January 2006. The term of the sublease is through September 2009. In accordance with the lease terms, the Company delivered to the sublandlord an unconditional and irrevocable letter of credit in the amount of $0.2 million for a term ending 60 days after the expiration of the lease. In November 2006, the Company entered into an operating lease for non-owned facilities commencing in January 2007. The term of the lease is through April 2018 with the option to extend for one additional five year term. In July 2008, the Company entered into an operating sublease for non-owned facilities commencing in August 2008. The term of the lease is through July 2010. Rent expense was $2.5 million, $2.1 million and $1.8 million for the years ended June 30, 2008, 2007 and 2006, respectively.

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Notes to Consolidated Financial Statements — (Continued)

Future minimum lease payments under noncancelable operating leases with initial terms of one year or more as follows:

	Year Ended
	June 30,
2009	$	2,929
2010		2,250
2011		1,854
2012		1,847
2013		1,740
Thereafter		7,255
Total future minimum lease payments	$	17,875

7.   Line of Credit

In December 2006, the Company entered into a $15 million revolving credit agreement with PNC Bank (the “Credit Agreement”). Pursuant to the terms of the Credit Agreement, the proceeds of the term loan facility were to be used primarily for working capital requirements and other general business or corporate purposes. Because of the seasonality of our business and timing of funds received from the state, expenditures are higher in relation to funds received in certain periods during the year. The Credit Agreement provides the ability to fund these periods until cash is received from the schools; therefore, borrowings against the Credit Agreement are primarily going to be short term.

Borrowings under the Credit Agreement bear interest based upon the term of the borrowings. Interest is charged, at either: (i) the higher of (a) the rate of interest announced by PNC Bank from time to time as its “prime rate” and (b) the federal funds rate plus 0.5% or (ii) the applicable London interbank offered rate divided by a number equal to 1.00 minus the maximum aggregate reserve requirement which is imposed on member banks of the Federal Reserve System against “eurocurrency liabilities” as defined in Regulation D as promulgated by the Board of Governors of the Federal Reserve System, plus the applicable margin for such loans, which ranges between 1.250% and 1.750%, based on the leverage ratio (as defined in the Credit Agreement).

The Company pays a commitment fee on the unused portion of the Credit Agreement, quarterly in arrears, during the term of the credit agreement which varies between 0.150% and 0.250% depending on the leverage ratio. The commitment fees incurred for the year ended June 30, 2008 were minimal.

The working capital line includes a $5.0 million letter of credit facility. Issuances of letters of credit reduce the availability of permitted borrowings under the Credit Agreement.

Borrowings under the Credit Agreement are secured by substantially all of our assets of the Company. The Credit Agreement contains a number of financial and other covenants that, among other things, restrict our and our subsidiaries’ abilities to incur additional indebtedness, grant liens or other security interests, make certain investments, become liable for contingent liabilities, make specified restricted payments including dividends, dispose of assets or stock, including the stock of its subsidiaries, or make capital expenditures above specified limits and engage in other matters customarily restricted in senior secured credit facilities. We must also maintain a minimum net worth (as defined in the Credit Agreement) and maximum debt leverage ratios. These covenants are subject to certain qualifications and exceptions. As of June 30, 2008, the Company was in compliance with all covenants.

In October 2007, the Company increased the Credit Agreement from $15 million to $20 million under substantially the same terms. As of June 30, 2008, there was no outstanding balance on the working capital line of credit and approximately $2.3 million was outstanding under the letter of credit facility with an interest rate of 1.25%.

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Notes to Consolidated Financial Statements — (Continued)

8.   Warrants

Warrants for common stock are outstanding at June 30, 2008 consist of 21,299 warrants to purchase an equivalent number of common stock at a price of $8.16 per share that expire in March 2010. These warrants were issued in March 2003 in conjunction with promissory notes issued by the Company for funds borrowed from existing shareholders. In March 2008, certain shareholders exercised stock purchase warrants with a strike price of $6.83 per share for an aggregate net issuance of 332,034 shares of common stock. These previously disclosed warrants were exercised on a cashless basis, as provided for under the terms of the warrant agreement. The warrants were set to expire in April 2008. For the years ended June 30, 2007 and 2006 there were no warrants issued or exercised.

9.   Equity Transactions

Reverse Stock Split

On October 30, 2007, the Board approved a 1-for-5.1 reverse split of the Company’s common stock. On October 31, 2007, the reverse split was further approved by a majority of the shareholders. The stock split was effective on November 2, 2007. In conjunction with these actions, the number of authorized shares of common stock was adjusted to 33,362,500. All share and per share amounts related to common stock, options and common stock warrants included in the consolidated financial statements have been retroactively adjusted for all periods presented to give effect to the stock split.

Amended and Restated Certificate of Incorporation

On October 30, 2007, the Board approved an amendment and restatement of the Company’s Second Amended and Restated Certificate of Incorporation, which was adopted by the majority of the shareholders of the Company on October 31, 2007 (the “Third Amended and Restated Certificate of Incorporation” or “Certificate”). The Certificate authorizes the Company to issue 100,000,000 shares of Common Stock and 10,000,000 shares of Preferred Stock. The Certificate became effective on December 18, 2007, upon its filing with the Secretary of State of the State of Delaware. This Certificate superseded the Company’s previous Certificate of Incorporation. The Redeemable Convertible Series B and Series C Preferred Stock are no longer authorized effective December 18, 2007.

Series C Dividend

On November 5, 2007, the Company’s Board unanimously declared a cash dividend to the holders of Redeemable Convertible Series C Preferred stock effective immediately prior to and contingent upon the closing of an Initial Public Offering (the “IPO”) and payable from the proceeds of the offering.

Concurrently with the closing of the IPO, the holders of Redeemable Convertible Series C Preferred stock were paid a cash dividend of $6.4 million. The amount of the declared dividend was equal to the pro rata amount of the annual ten percent cumulative dividend that would have normally accrued on January 2, 2008 under the provisions of the preferred stock agreement.

Prior to declaration of the cash dividend, the Company accrued $5.0 million toward the annual cumulative dividend which was reversed in the recording of the cash dividend.

On November 16, 2007, PNC Bank consented to waive the restriction of dividends in its credit agreement with the Company for the purposes of this dividend. The PNC agreement amended certain other covenants.

Private Placement of Shares

On November 6, 2007, the Company entered into an agreement to sell to a non-U.S. person in a transaction outside the United States in reliance upon Regulation S under the Securities Act of 1933, as amended (Securities Act), concurrently with and contingent upon the closing of the IPO and at the IPO price, $15,000,000 worth of

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K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

shares of the Company’s common stock. On December 18, 2007, the Company closed on its initial public offering and issued 833,333 shares to this investor at the offering price of $18.00 per share.

Initial Public Offering

In December 2007, the Company completed the IPO of its common stock in which it sold and issued 4,450,000 shares of its common stock, at an issue price of $18.00 per share. The Company raised a total of $80.1 million in gross proceeds from the IPO, or approximately $71.0 million in net proceeds after deducting underwriting discounts and commissions of $5.6 million and other offering costs of $3.5 million. Upon the closing of the IPO, all shares of convertible preferred stock outstanding automatically converted into an aggregate of 19,879,675 shares of common stock.

10.   Stock Option Plan

The Company adopted a Stock Option Plan (the Plan) in May 2000. Under the Plan, employees, outside directors and independent contractors are able to participate in the Company’s future performance through the awards of nonqualified stock options to purchase common stock. In December 2003, the Board increased the total number of common stock shares reserved and available for grant and issuance pursuant to the Plan to 2,549,019 shares. In November 2007, the Board adopted the 2007 Plan increasing the number of common stock shares reserved to 4,213,921 shares plus the increases in the shares pursuant to the “evergreen provision” that may be issued under the 2007 Plan over the course of its ten-year term. Each stock option is exercisable pursuant to the vesting schedule set forth in the stock option agreement granting such stock option, generally over four years. No stock option shall be exercisable after the expiration of its option term. The Company has granted stock options under the 2007 Plan. The Company also grants stock options to executive officers under stand-alone agreements outside the Plan. These options totaled 1,441,168 as of June 30, 2008.

Effective July 1, 2006, the Company adopted the fair value recognition provisions of SFAS No. 123 (revised 2004), “Share-Based Payment” (SFAS 123R), using the prospective transition method which requires the Company to apply the provisions of SFAS No. 123R only to awards granted, modified, repurchased or cancelled after July 1, 2006. Equity-based compensation expense for all equity-based compensation awards granted after July 1, 2006 is based on the grant-date fair value estimated in accordance with the provisions of SFAS 123R. The Company recognizes these compensation costs on a straight-line basis over the requisite service period, which is generally the vesting period of the award.

The Company uses the Black-Scholes option pricing model method to calculate the fair value of stock options. Depending on certain substantive characteristics of the stock option, the Company, where appropriate, utilizes a binomial model. The use of option valuation models requires the input of highly subjective assumptions, including the expected stock price volatility and the expected term of the option. In March 2005, the Securities and Exchange Commission (SEC) issued SAB No. 107 (SAB 107) regarding the SEC’s interpretation of SFAS 123R and the valuation of share-based payments for public companies. For options issued subsequent to July 1, 2006, the Company has applied the provisions of SAB 107 in its adoption of SFAS 123R. Under SAB 107, the Company has estimated the expected term of granted options to be the weighted average mid-point between the vesting date and the end of the contractual term. The Company estimates the volatility rate based on historical closing stock prices of a pool of comparable companies. The dividend yield is zero as the Company has no present intention to pay cash dividends.

SFAS 123R requires management to make assumptions regarding the expected life of the options, the expected liability of the options and other items in determining estimated fair value. Changes to the underlying assumptions may have significant impact on the underlying value of the stock options, which could have a material impact on its consolidated financial statements.

83

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

The fair value of our service-based stock options was estimated as of the date of grant using the Black-Scholes option pricing model with the following assumptions:

	Year Ended June 30,
	2008	2007
Dividend yield	0.0%	0.0%
Expected volatility	46%	51%
Risk-free interest rate	2.69% to 4.95%	4.53% to 5.01%
Expected life of the option term (in years)	4.64 - 5.76	3.25 - 6.40
Forfeiture rate	20% to 30%	20% to 30%

The fair value of the options granted for the years ended June 30, 2008 and 2007 was $5.3 million and $1.0 million, respectively. This amount will be expensed over the expected vesting.

Dividend yield — The Company has never declared or paid dividends on its common stock and has no plans to do so in the foreseeable future.

Expected volatility — Volatility is a measure of the amount by which a financial variable such as a share price has fluctuated (historical volatility) or is expected to fluctuate (expected volatility) during a period. Since the Company ’s common shares have recently been publicly traded and therefore does not have sufficient historical data, the basis for the standard option volatility calculation is derived from known publicly traded comparable companies. The annual volatility for these companies is derived from their historical stock price data.

Risk-free interest rate — The assumed risk free rate used is a zero coupon U.S. Treasury security with a maturity that approximates the expected term of the option.

Expected life of the option term — This is the period of time that the options granted are expected to remain unexercised. Options granted during the year have a maximum term of eight years. The Company estimates the expected life of the option term based on an average life between the dates that options become fully vested and the maximum life of options granted.

Forfeiture rate — This is the estimated percentage of options granted that are expected to be forfeited or canceled before becoming fully vested. The Company uses a forfeiture rate that is based on historical forfeitures at various classification levels with the Company.

Stock option activity including stand-alone agreements during the year ended June 30, 2008 was as follows:

						Weighted
				Weighted-		Average
				Average		Remaining		Aggregate
				Exercise		Contractual		Intrinsic
	Shares			Price		Life (Years)		Value
Outstanding, June 30, 2006		2,512,806		$	7.03		5.76	$	36,385
Granted		1,249,409			13.35
Exercised		(42,708	)		6.84
Canceled		(96,657	)		7.06
Outstanding, June 30, 2007		3,622,850			9.21		5.28	$	44,551
Granted		1,477,747			15.38
Exercised		(221,914	)		6.81
Canceled		(111,834	)		11.00
Outstanding, June 30, 2008		4,766,849		$	11.20		5.19	$	49,167
Stock options exercisable at June 30, 2008		2,437,503		$	7.59		4.04	$	33,937

84

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value (the difference between the Company’s closing stock price on the last day of the year and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on June 30, 2008. The amount of aggregate intrinsic value will change based on the fair market value of the Company’s stock.

The total intrinsic value of options exercised for the years ended June 30, 2008 and 2007 was $3.7 million and $0.1 million, respectively.

The following table summarizes the option grant activity for the year ended June 30, 2008.

					Weighted Average
	Options		Weighted-Average		Grant-Date		Intrinsic
Grant Date	Granted		Exercise Price		Fair Value		Value
July 2007		1,209,811	$	13.66	$	9.28	$	—
August 2007		1,838	$	13.66	$	11.78	$	—
February 2008		210,847	$	22.82	$	22.82	$	—
May 2008		55,250	$	24.78	$	24.78	$	—

As of June 30, 2008, there was $4.4 million of total unrecognized compensation expense related to unvested stock options granted under the Stock Option Plans adopted in May 2000 and November 2007. The cost is expected to be recognized over a weighted average period of 2.1 years. The total fair value of shares vested during the years ended June 30, 2008 and 2007 was $3.6 million and $4.2 million, respectively. During the years ended June 30, 2008, the Company recognized $1.5 million of stock based compensation. The total income tax benefit recognized in the statement of operations related to stock options exercised during the years ended June 30, 2008 and 2007 was $1.4 million and $0 respectively.

11.   Business Combinations

On October 1, 2007, the Company acquired all of the stock of Power-Glide Knowledge Courses, Inc. (“Power-Glide”), a Utah corporation, for $4.1 million, which included approximately $0.1 million in acquisition costs. In addition, the former shareholders of Power-Glide have the right to receive an additional 19,602 of the Company’s common shares subject to obtaining certain milestones as defined in the acquisition agreement. As of June 30, 2008, 9,801 shares were considered earned and recognized as additional acquisition cost. The Company believes the addition of Power-Glide will provide cost saving benefits associated with K12’s foreign language curriculum and assist the Company in expanding the content of their academic offerings. The results of Power-Glide’s operations have been included in the consolidated financial statements since October 1, 2007.

The purchase price consists of the following (in thousands):

Issuance of the Company’s common shares	$	2,660
Assumption of operating liabilities		1,271
Transaction costs		119
	$	4,050

This transaction was accounted for as a business combination in accordance with the provisions of SFAS No. 141, Business Combinations.

The estimated determination of the purchase price allocation was based on the fair values of the acquired assets and liabilities assumed including acquired intangible assets. The estimated determination was made by management utilizing various valuation methodologies including an income-based approach and relief of royalty.

85

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Net working capital	$	(190	)
Property and equipment		33
Capitalized curriculum development costs — existing and in-process developed technology assets (estimated useful life of 5 years)		2,263
Intangible assets:
Marketing related for trade name (estimated useful life of 2 years)		50
Contract related for non-compete agreements (estimated useful life of 2 years)		139
Total intangible assets		189
Deferred tax liabilities		(936	)
Goodwill		2,691
Net assets acquired	$	4,050

Pro Forma Information

The unaudited pro forma information below sets forth summary results of operations as if the acquisition of Power-Glide (acquired October 1, 2007) had taken place at the beginning of our fiscal year 2007, after giving effect to certain adjustments directly attributable to the transaction. The pro forma information for the years 2008 and 2007 has been prepared for comparative purposes only and does not purport to be indicative of what would have occurred had the acquisitions occurred at the beginning of 2007 or of results which may occur in the future (in thousands, except per share amounts):

	Year Ended June 30,
	2008		2007
Revenue	$	226,376	$	143,952
Net income	$	32,777	$	4,886
Earnings per share:
Basic	$	1.12	$	(11.92	)
Diluted	$	1.04	$	(11.92	)

12.   Commitments and Contingencies

Litigation

In the ordinary conduct of our business, we are subject to lawsuits, arbitrations and administrative proceedings from time to time. We are currently involved in a lawsuit brought by a teachers’ union seeking the closure of the virtual public school we serve in Illinois.

On October 4, 2006, the Chicago Teachers Union and individual taxpayers (“CTU” or plaintiffs) filed a citizen taxpayer’s lawsuit in the Circuit Court of Cook County challenging the decision of the Illinois State Board of Education to certify the Chicago Virtual Charter School (CVCS) and to enjoin the disbursement of state funds to the Chicago Board of Education under its contract with the CVCS. Specifically, the CTU alleges that the Illinois charter school law prohibits any “home-based” charter schools and that CVCS does not provide sufficient “direct instruction” by certified teachers of at least five clock hours per day to qualify for funding. K12 Inc. and K12 Illinois LLC were also named as defendants. On May 16, 2007, the Court dismissed K12 Inc. and K12 Illinois LLC from the case. After three dismissals of their complaint on procedural grounds, the Court granted the plaintiff’s Fourth Amended Citizen Complaint on May 20, 2008. CVCS and the Chicago Board of Education jointly filed a

86

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

Motion to Reconsider, which was denied by Memorandum Opinion and Order dated August 8, 2008. The case is now in the discovery stage. The Company continues to participate in the defense of CVCS under an indemnity obligation in our service agreement with that school, which requires the Company to indemnify CVCS against certain liabilities arising out of the performance of the service agreement, and certain other claims and liabilities, including liabilities arising out of challenges to the validity of the virtual school charter. The Company is not able to estimate the range of potential loss if the plaintiffs were to prevail and a claim was made against the Company for indemnification. In fiscal year 2007 and for the year ended June 30, 2008, average enrollments in CVCS were 225 and 407 respectively, and we derived 1.1% and 1.3%, respectively of our revenues from CVCS. We do not believe that a loss in this case would have a material adverse impact on our future results of operations, financial position or cash flows.

The Company expenses legal costs as incurred in connection with a loss contingency.

Employment Agreements

The Company has entered into employment agreements with certain executive officers that provide for severance payments and, in some cases other benefits, upon certain terminations of employment. Except for one agreement that has a three year term, all other agreements provide for employment on an “at-will” basis. If the employee is terminated for “good reason” or without cause, the employee is entitled to salary continuation, and in some cases benefit continuation, for varying periods depending on the agreement.

On July 12, 2007, the Company’s board of directors approved an amended and restated employment agreement for an executive officer. The amended and restated agreement extends the term of employment until January 1, 2011 and amended certain elements of compensation including salary, stock options and severance. Additionally, on July 12, 2007, the Company’s board of directors also approved the terms of a new option agreement for an executive officer which provides that all outstanding options will become fully vested upon a change in control of Company.

The Company maintains an annual cash performance bonus program that is intended to reward executive officers based on our performance and the individual named executive officer’s contribution to that performance. In determining the performance-based compensation awarded to each named executive officer, the Company may generally evaluate the Company’s and the executive’s performance in a number of areas, which could include revenues, operating earnings, student retention, efficiency in product and systems development, marketing investment efficacy, new enrollment and developing company leaders.

Vendor Payment Commitments

In April 2007, the Company entered into a master services and license agreement with a third party that provides for the Company to license their proprietary computer system. The agreement is effective through July 2010. In exchange for the license of the computer system, the Company agrees to pay a service fee per enrollment. In the event the fees paid over the term of the contract do not exceed $1 million (the minimum commitment fee), the Company agrees to pay the difference between the actual fees paid and the minimum commitment fee. As of June 30, 2008, the Company believes actual fees paid will exceed the minimum commitment fee.

13.   Related Party Transactions

Affiliates of the Company, rendered $0.4 million, $0.3 million and $0.1 million of professional services to the Company during the years ended June 30, 2008, 2007 and 2006, respectively. These costs include administrative operations, consulting and curriculum development services, other operating charges and the purchase of our domain name.

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K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

14.   Employee Benefits

The Company is party to a Section 401(k) Salary Deferral Plan (the 401(k) Plan). Under the 401(k) Plan, employees at least 18 years of age having been employed for at least 30 days may voluntarily contribute up to 15% of their compensation. The 401(k) Plan provides for a matching Company contribution of 25% of the first 4% of each participant’s compensation, which begins following six months of service and vests after three years of service. Under the 401(k) Plan, the Company expensed $0.2 million, $0.1 million and $0.1 million during each of the years ended June 30, 2008, 2007 and 2006, respectively.

15.   Supplemental Disclosure of Cash Flow Information

	Year Ended June 30,
	2008			2007		2006
Cash paid for interest	$	1,256		$	1,317	$	33
Cash paid for taxes	$	161		$	244	$	—
Supplemental disclosure of non-cash investing and financing activities:
New capital lease obligations	$	10,564		$	8,052	$	—
Cash receipts in transit from exercise of stock options	$	25			—	$	—
Business Combination:
— Net working capital	$	(190	)	$	—	$	—
— Property and equipment	$	33		$	—	$	—
— Capitalized curriculum development costs	$	2,263		$	—	$	—
— Intangible assets	$	189		$	—	$	—
— Deferred tax liabilities	$	(936	)	$	—	$	—
— Goodwill	$	2,691		$	—	$	—
— Assumed liabilities	$	1,271		$	—	$	—
— Issuance of common stock	$	2,660		$	—	$	—
Conversion of preferred stock to common stock upon initial public offering	$	238,408		$	—	$	—
Purchase of perpetual license agreement/accrued liabilities	$	150		$	—	$	—

88

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

16.   Quarterly Results of Operations (Unaudited)

The unaudited consolidated interim financial information presented should be read in conjunction with other information included in our consolidated financial statements. The following unaudited consolidated financial information reflects all adjustments necessary for the fair presentation of the results of interim periods. The following tables set forth selected unaudited quarterly financial information for each of our last eight quarters.

	2008
	Jun 30,			Mar 31,			Dec 31,			Sep 30,
	2008			2008			2007			2007
Consolidated Quarterly Statements of Income
Revenues	$	56,475		$	56,016		$	54,391		$	59,353
Cost and expenses
Instructional costs and services		32,462			32,062			31,980			34,778
Selling, administrative, and other		22,712			17,032			16,610			16,039
Product development expenses		2,021			2,542			2,460			2,527
Total costs and expenses		57,195			51,636			51,050			53,344
Income (loss) from operations		(720	)		4,380			3,341			6,009
Interest expense, net		88			309			(388	)		(304	)
Income (loss) before income taxes		(632	)		4,689			2,953			5,705
Income tax benefit (expense)		17,735			(2,229	)		(1,565	)		7,117
Net income (loss)		17,103			2,460			1,388			12,822
Dividends on preferred stock		—			—			(1,395	)		(1,671	)
Preferred stock accretion		—			—			(5,633	)		(6,560	)
Net income (loss) attributable to common stockholders	$	17,103		$	2,460		$	(5,640	)	$	4,591
Net income (loss) attributable to common stockholders per share:
Basic	$	0.62		$	0.09		$	(0.98	)	$	2.25
Diluted	$	0.59		$	0.09		$	(0.98	)	$	0.20
Weighted average shares used in computing per share amounts:
Basic		27,793,003			27,449,893			5,777,767			2,043,589
Diluted		29,125,372			28,780,389			5,777,767			22,744,525

89

K12 Inc.

Notes to Consolidated Financial Statements — (Continued)

	2007
	Jun 30,			Mar 31,			Dec 31,			Sep 30,
	2007			2007			2006			2006
Consolidated Quarterly Statements of Income
Revenues	$	35,626		$	34,831		$	32,356		$	37,743
Cost and expenses
Instructional costs and services		20,961			17,904			18,022			19,177
Selling, administrative, and other		16,100			12,644			11,030			11,385
Product development expenses		2,756			2,083			1,566			2,206
Total costs and expenses		39,817			32,631			30,618			32,768
Income (loss) from operations		(4,191	)		2,200			1,738			4,975
Interest expense, net		(165	)		(117	)		(263	)		(94	)
Income (loss) before income taxes		(4,356	)		2,083			1,475			4,881
Income tax benefit (expense)		9			(51	)		(30	)		(146	)
Net income (loss)		(4,347	)		2,032			1,445			4,735
Dividends on preferred stock		(1,670	)		(1,670	)		(1,519	)		(1,519	)
Preferred stock accretion		(5,810	)		(5,810	)		(5,366	)		(5,367	)
Net income (loss) attributable to common stockholders	$	(11,827	)	$	(5,448	)	$	(5,440	)	$	(2,151	)
Net income (loss) attributable to common stockholders per share:
Basic	$	(5.89	)	$	(2.72	)	$	(2.72	)	$	(1.08	)
Diluted	$	(5.89	)	$	(2.72	)	$	(2.72	)	$	(1.08	)
Weighted average shares used in computing per share amounts:
Basic		2,009,374			1,999,343			1,999,106			1,998,853
Diluted		2,009,374			1,999,343			1,999,106			1,998,853

17.   Subsequent Events

On August 15, 2008 a subsidiary of the Company entered into an agreement to establish a joint venture with a Middle East partner. Our initial cash investment into this joint venture was approximately $1 million. The purpose of the joint venture is to develop and manage the distribution of our learning system in the Gulf Cooperating Countries.

90

SCHEDULE II

K12 INC
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED JUNE 30, 2008, 2007 AND 2006

1.   ALLOWANCE FOR DOUBTFUL ACCOUNTS

			Additions
	Balance at		Charged to		Deductions
	Beginning of		Cost and		from		Balance at End
	Period		Expenses		Allowance		of Period
June 30, 2008	$	588,971	$	915,730	$	48,329	$	1,456,372
June 30, 2007	$	1,440,499		106,038		957,566	$	588,971
June 30, 2006	$	1,715,781		174,895		450,177	$	1,440,499

2.   INVENTORY RESERVE

			Additions
	Balance at		Charged to		Deductions
	Beginning of		Cost and		Shrinkage and		Balance at End
	Period		Expenses		Obsolescence		of Period
June 30, 2008	$	327,608		781,104		373,885	$	734,827
June 30, 2007	$	232,055		320,960		225,407	$	327,608
June 30, 2006	$	270,611		—		38,556	$	232,055

3.   COMPUTER RESERVE (1)

			Additions
			(Deductions)
	Balance at		Charged to			Deductions
	Beginning of		Cost and			Shrinkage and		Balance at End
	Period		Expenses			Obsolescence		of Period
June 30, 2008	$	616,361		162,428			—	$	778,789
June 30, 2007	$	664,186		(47,825	)		—	$	616,361
June 30, 2006	$	490,533		173,653			—	$	664,186

(1) A reserve account is maintained against potential shrinkage and obsolescence for those computers provided to our students. The reserve is calculated based upon several factors including historical percentages, the net book value and remaining useful life.

4.   INCOME TAX VALUATION ALLOWANCE

			Additions to
	Balance at		Net Deferred		Deductions in Net
	Beginning of		Tax Assets		Deferred Tax Asset		Balance at End
	Period		Allowance		Allowance		of Period
June 30, 2008	$	29,925,898		—		29,314,944	$	610,954
June 30, 2007	$	32,527,019		—		2,601,121	$	29,925,898
June 30, 2006	$	33,866,482		—		1,339,463	$	32,527,019

91

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

None.

ITEM 9A.   CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(f)) that are designed to ensure that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost benefit relationship of possible controls and procedures.

We carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures as required by Rules 13a-15(e) and 15d-15(e) of the Exchange Act. Based on this review, our Chief Executive Officer and Chief Financial Officer concluded that these disclosure controls and procedures were effective as of June 30, 2008 at the reasonable assurance level.

Changes in Internal Control Over Financial Reporting

This annual report does not include a report of management’s assessment regarding internal control over financial reporting or an attestation report of the company’s registered public accounting firm due to a transition period established by rules of the Securities and Exchange Commission for newly public companies.

During the quarter ended June 30, 2008, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

ITEM 9B.   OTHER INFORMATION

None

PART III

ITEM 10.   DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

Information relating to directors and officers of K12 is incorporated by reference to our proxy statement for our annual stockholders meeting. Certain information regarding our executive officers required by this item is set forth in Part I of this Annual Report on Form 10-K.

ITEM 11.   EXECUTIVE COMPENSATION

Information regarding compensation of officers and directors of K12 is incorporated by reference to our proxy statement for our annual stockholders meeting.

ITEM 12.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

Information regarding ownership of K12 common stock is incorporated by reference to our proxy statement for our annual stockholders meeting.

92

ITEM 13.   CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

Information regarding certain relationships, related transactions with K12, and director independence is incorporated by reference to our proxy statement for our annual stockholders meeting.

ITEM 14.   PRINCIPAL ACCOUNTANT FEES AND SERVICES

Information regarding principal accountant fees and services is incorporated by reference to our proxy statement for our annual stockholders meeting.

PART IV

ITEM 15.   EXHIBITS, FINANCIAL STATEMENT SCHEDULES

(a)(1) All financial statements.  The information required by this item is incorporated herein by reference to the financial statements and notes thereto listed in Item 8 of Part II and included in this Form 10-K.

(a)(2) Financial statement schedules.  All financial statement schedules are omitted because the required information is included in the financial statements and notes thereto listed in Item 8 of Part II and included in this Form 10-K.

(b) Exhibits.

An index to exhibits has been filed as part of this Report and is incorporated herein by reference.

93

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

K12 INC.

By:  /s/  Ronald J. Packard

Name:     Ronald J. Packard

Title:  Chief Executive Officer

Date: September 26, 2008

POWER OF ATTORNEY

Know all persons by these presents, that each person whose signature appears below constitutes and appoints Ronald J. Packard, John F. Baule and Howard D. Polsky, and each of them severally, his or her true and lawful attorney-in-fact with power of substitution and resubstitution to sign in his or her name, place and stead, in any and all capacities, to do any and all things and execute any and all instruments that such attorney may deem necessary or advisable under the Securities Exchange Act of 1934 and any rules, regulations and requirements of the U.S. Securities and Exchange Commission in connection with the Annual Report on Form 10-K and any and all amendments hereto, as fully for all intents and purposes as he or she might or could do in person, and hereby ratifies and confirms all said attorneys-in-fact and agents, each acting alone, and his or her substitute or substitutes, may lawfully do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.

Signature	Title	Date
/s/  Ronald J. Packard Ronald J. Packard	Chief Executive Officer (Principal Executive Officer)	September 26, 2008
/s/  John F. Baule John F. Baule	Chief Operating Officer and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)	September 26, 2008
/s/  Andrew H. Tisch Andrew H. Tisch	Chairman of the Board and Director	September 26, 2008
/s/  Guillermo Bron Guillermo Bron	Director	September 26, 2008
/s/  Steven B. Fink Steven B. Fink	Director	September 26, 2008
/s/  Dr. Mary H. Futrell Dr. Mary H. Futrell	Director	September 26, 2008

94

Signature	Title	Date
/s/  Jane M. Swift Jane M. Swift	Director	September 26, 2008
/s/  Thomas J. Wilford Thomas J. Wilford	Director	September 26, 2008

95

INDEX TO EXHIBITS

Exhibit
No.			Description of Exhibit
	3	.1	Third Amended and Restated Certificate of Incorporation of K12 Inc. (Incorporated by reference to Exhibit 3.1 to K12’s Quarterly Report on Form 10-Q (Commission file number 001-33883) for the quarter ended December 31, 2007).
	3	.2	Amended and Restated Bylaws of K12 Inc. (Incorporated by reference to Exhibit 3.2 to K12’s Quarterly Report on Form 10-Q (Commission file number 001-33883) for the quarter ended December 31, 2007).
	4	.1	Form of stock certificate of common stock (Incorporated by reference to Exhibit 4.1 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	4	.2	Amended and Restated Stock Option Plan and Amendment thereto (Incorporated by reference to Exhibit 4.2 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	4	.3	Form of Stock Option Contract — Employee (Incorporated by reference to Exhibit 4.3 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	4	.4	Form of Stock Option Contract — Director (Incorporated by reference to Exhibit 4.4 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	4	.5	Form of Second Amended and Restated Stockholders Agreement (Incorporated by reference to Exhibit 4.5 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	4	.6	Form of Common Stock Warrant Agreement (Incorporated by reference to Exhibit 4.6 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	4	.7	K12 Inc. 2007 Equity Incentive Award Plan (Incorporated by reference to Exhibit 4.8 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	4	.8	K12 Inc. 2007 Employee Stock Purchase Plan (Incorporated by reference to Exhibit 4.9 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	10	.1	Revolving Credit Agreement and Certain Other Loan Documents by and among K12 Inc., School Leasing Corporation, American School Supply Corporation and PNC Bank, N.A. (Incorporated by reference to Exhibit 10.1 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	10	.2*	Amended and Restated Stock Option Agreement of Ronald J. Packard dated as of July 12, 2007 (Incorporated by reference to Exhibit 10.5 to K12’s Amendment No. 6 to Registration Statement on Form S-1, File No. 333-144894).
	10	.3	Stock Option Agreement of Bruce J. Davis (Incorporated by reference to Exhibit 10.6 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	10	.4	Stock Option Agreement of John Baule (Incorporated by reference to Exhibit 10.7 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	10	.5	Stock Option Agreement of Bror Saxberg (Incorporated by reference to Exhibit 10.8 to K12’s Registration Statement on Form S-1, File No. 333-144894).
	10	.6*	Employment Agreement of Ronald J. Packard (Incorporated by reference to Exhibit 10.9 to K12’s Amendment No. 6 to Registration Statement on Form S-1, File No. 333-144894).
	10	.7	Employment Agreement of John F. Baule (Incorporated by reference to Exhibit 10.10 to K12’s Amendment No. 2 to Registration Statement on Form S-1, File No. 333-144894).
	10	.8	Employment Agreement of Bruce J. Davis (Incorporated by reference to Exhibit 10.11 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
	10	.9	Employment Agreement of Bror V. H. Saxberg (Incorporated by reference to Exhibit 10.12 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
	10	.10	Deed of Lease by and between ACP/2300 Corporate Park Owner, LLC and K12 Inc., dated December 7, 2005 (Incorporated by reference to Exhibit 10.13 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
	10	.11	Sublease by and between France Telecom Long Distance USA, LLC, and K12 Inc., dated December 9, 2005 (Incorporated by reference to Exhibit 10.14 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
	10	.12	Employment Agreement of Celia Stokes (Incorporated by reference to Exhibit 10.15 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).

96

Exhibit
No.			Description of Exhibit
	10	.13	Employment Agreement of Howard D. Polsky (Incorporated by reference to Exhibit 10.16 to K12’s Amendment No. 1 to Registration Statement on Form S-1, File No. 333-144894).
	10	.14*	Stock Option Agreement between K12 Inc. and Ronald J. Packard dated as of July 12, 2007 (Incorporated by reference to Exhibit 10.17 to K12’s Amendment No. 6 to Registration Statement on Form S-1, File No. 333-144894).
	10	.15	First Amendment to Employment Agreement of Howard D. Polsky (Incorporated by reference to Exhibit 10.18 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	10	.16	Amendment No. 1 to Revolving Credit Agreement (Incorporated by reference to Exhibit 10.19 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	10	.17	Stock Subscription Agreement between K12 Inc. and KB Education Investments Limited, dated November 6, 2007 (Incorporated by reference to Exhibit 10.20 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	10	.18	Second Amended and Restated Educational Products and, Administrative, and Technology Services Agreement between the Ohio Virtual Academy and K12 Ohio LLC (Incorporated by reference to Exhibit 10.21 to K12’s Amendment No. 4 to Registration Statement on Form S-1, File No. 333-144894).
	10	.19	Stock Option Agreement of John Baule (Incorporated by reference to Exhibit 10.22 to K12’s Amendment No. 7 to Registration Statement on Form S-1, File No. 333-144894).
	10	.20	Stock Option Agreement of Richard Rasmus (Incorporated by reference to Exhibit 10.23 to K12’s Amendment No. 7 to Registration Statement on Form S-1, File No. 333-144894).
	10	.21	First Amendment to Deed of Lease by and between ACP/2300 Corporate Park Owner, LLC and K12 Inc., dated as of November 30, 2006.
	10	.22	Second Amendment to Deed of Lease by and between ACP/2300 Corporate Park Owner, LLC and K12 Inc., dated as of March 26, 2007.
	10	.23	Sublease by and between DIECA Communications Inc. and K12 Inc., dated June 25, 2008.
	21	.1	Subsidiaries of K12 Inc.
	23	.1	Consent of BDO Seidman, LLP.
	24	.1	Power of Attorney (included in signature pages).
	31	.1	Certification of Principal Executive Officer Required Under Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.
	31	.2	Certification of Principal Financial Officer Required Under Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.
	32	.1	Certification of Principal Executive Officer and Principal Financial Officer Required Under Rule 13a-14(b) of the Securities Exchange Act of 1934, as amended, and 18 U.S.C. Section 1350.

*  Portions omitted pursuant to a request for confidential treatment. The omitted information has been filed separately with the Securities and Exchange Commission.

97

EX-10.21

Exhibit 10.21

FIRST AMENDMENT TO DEED OF LEASE

     THIS FIRST AMENDMENT TO DEED OF LEASE (this “First Amendment”) is made this 30^th day of November, 2006 (the “Effective Date”), by and between ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company (“Landlord”), and K12 INC., a Delaware corporation (“Tenant”).

W I T N E S S E T H:

     WHEREAS, pursuant to that certain Deed of Lease dated December 7, 2005 (the “Original Lease”), ACP/2300 Corporate Park Drive, LLC (“Original Landlord”) leased to Tenant, and Tenant leased from Original Landlord, approximately 35,740 rentable square feet of office space (the “Original Premises”) comprising a portion of the first (1^st) floor and the entire second (2^nd) floor of the building located at 2300 Corporate Park Drive, Herndon, Virginia (the “Building”);

     WHEREAS, Landlord has purchased the Building from Original Landlord and has succeeded to the interest of Original Landlord under the Original Lease; and

     WHEREAS, Landlord and Tenant desire to amend the Original Lease to provide for the demise to Tenant of the Expansion Space (hereinafter defined), upon the terms and conditions set forth in this First Amendment.

     NOW, THEREFORE, in consideration of the foregoing and for other good and valuable consideration and of the mutual agreements hereinafter set forth, it is hereby mutually agreed as follows:

     1. Incorporation of Recitals. The foregoing recitals are hereby incorporated in this First Amendment and made a part hereof by this reference.

     2. Definitions. All capitalized terms used in this First Amendment shall have the meanings ascribed thereto in the Original Lease, unless otherwise defined herein. As used herein and in the Original Lease: (a) the term “Lease” shall mean the Original Lease, as amended by this First Amendment; and (b) from and after the Expansion Space Commencement Date (hereinafter defined), the term “Premises” shall mean the Original Premises together with the Expansion Space.

     3. Expansion Space. Subject to the terms and conditions set forth herein, Landlord hereby leases to Tenant, and Tenant hereby leases from Landlord, for a term beginning on the Expansion Space Commencement Date and ending on April 30, 2013 (i.e. the “Lease Expiration Date” under the Original Lease), 6,930 rentable square feet of office space located on the fourth (4^th) floor of the Building, as shown on the attached Exhibit A (the “Expansion Space”). As of the Expansion Space Commencement Date, the aggregate number of rentable square feet demised to Tenant under the Lease (consisting of the Original Premises and the Expansion Space) shall be 42,670.

     4. Improvements to the Expansion Space.

          A. Landlord shall deliver the Expansion Space to Tenant in its “as-is” condition (broom clean and free of all furniture and work stations) and Landlord shall have no obligation to perform, or, except as expressly set forth in this Paragraph 4, pay for, any work, improvements or alterations in or to the Expansion Space in connection with this First Amendment or otherwise. Notwithstanding the foregoing, and provided that Tenant is not then in default under the Lease, Landlord shall provide Tenant with a refurbishment allowance of Fifty-One Thousand Nine Hundred Seventy-Five Dollars ($51,975.00) (or Seven and 50/100 Dollars ($7.50) per rentable square foot of the Expansion Space) (the “Refurbishment Allowance”) to pay for costs and expenses incurred by Tenant in connection with the design and construction of improvements which Tenant desires to undertake in and to the Expansion Space (the “Expansion Space Improvements”), which costs and expenses shall include the

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costs of all space planning, architectural and engineering work related thereto, all governmental and quasi-governmental approvals and permits required therefor, any costs incurred by Landlord because of changes to the base Building or the base Building systems, all construction costs, contractors’ overhead and profit, Tenant’s construction management fees, insurance and other requirements, the cost of Tenant’s telecommunications cabling and wiring installed in the Expansion Space, the cost of Tenant’s initial furniture, fixtures and equipment installed in the Expansion Space, and all other costs and expenses incurred in connection with the Expansion Space Improvements. Disbursements of the Refurbishment Allowance by Landlord (“Partial Payments”) shall be made on a monthly basis, if requested in writing by Tenant, or, if not so requested, paid out by Landlord upon completion of the Expansion Space Improvements, and the satisfaction of the conditions set forth below, including the receipt by Landlord of final lien waivers from all general contractors, subcontractors and material suppliers who perform work or provide materials in connection therewith. Each of Tenant’s requests for a Partial Payment (the “Draw Requests”) shall be accompanied by (a) the general contractor’s application for payment (including, if applicable, an architect’s certification thereof) setting forth a detailed description of the work completed (including the percentage of the total job which the work with respect to which the contractor seeks payment represents) and the total cost of such work; (b) invoices for design, architectural or permit costs incurred by Tenant; (c) a written approval by Tenant and its architect of the contractor’s application of payment and the work performed by the contractor(s); and (d) partial lien waivers (or, with respect to the final Draw Request, final lien waivers) and releases of mechanic’s and materialmen’s liens from the general contractor, subcontractors and material suppliers providing work or services in or to the Expansion Space. The Landlord shall make Partial Payments of the Refurbishment Allowance within thirty (30) days after receipt of a Draw Request from Tenant, provided that such Draw Request is accompanied by all applicable information and documentation set forth in (a)-(d), above. The Tenant’s final Draw Request shall include a certificate of substantial completion prepared by Tenant’s architect and shall also include all applicable final lien waivers. Prior to undertaking any Expansion Space Improvements in the Expansion Space, Tenant shall submit to Landlord for its approval full working drawings (the “Working Drawings”) depicting all Expansion Space Improvements which Tenant desires to install in the Expansion Space, which Working Drawings shall satisfy the requirements set forth for the “Tenant’s Plans” pursuant to Exhibit B attached to the Original Lease (captioned, “Work Agreement”). All Working Drawings depicting the Expansion Space Improvements to be constructed in or to the Expansion Space shall be subject to approval by Landlord, which approval shall not be unreasonably withheld, conditioned or delayed, except if Landlord determines that any proposed Expansion Space Improvement depicted therein will alter or affect the structural elements of the Building or any of the systems therein, in which event Landlord’s approval may be withheld in its sole discretion with respect to such improvements. The Expansion Space Improvements shall be constructed (1) in a good and workmanlike manner, (2) in strict accordance with the terms and conditions of the Original Lease, including but not limited to the terms and conditions of Section 8 thereof and (3) by licensed contractor(s) approved in writing by Landlord, which approval shall not be unreasonably withheld, conditioned or delayed. Any portion of the Refurbishment Allowance with respect to which Tenant fails to submit to Landlord a Draw Request within six (6) months after the Expansion Space Rent Commencement Date (hereinafter defined) shall be retained by Landlord.

          B. In the event that Tenant notifies Landlord in writing, on or before the date which is thirty (30) days prior to the Expansion Space Rent Commencement Date, that Tenant wishes to increase the Refurbishment Allowance, and Tenant specifies in such notice the amount of such proposed increase, which increase shall not exceed the Maximum Increase Amount (hereinafter defined), and evidences to Landlord’s reasonable satisfaction that the cost of undertaking the Expansion Space Improvements exceeds the Refurbishment Allowance by the approximate amount of the Excess Cost Allowance (hereinafter defined) requested by Tenant, then Landlord shall make available to Tenant an additional tenant improvement allowance (the “Excess Cost Allowance”) in the amount requested by Tenant, provided that the Excess Cost Allowance shall not exceed the Maximum Increase Amount. As used herein, the term “Maximum Increase Amount” means the sum of Fifty-One Thousand Nine Hundred Seventy-Five Dollars ($51,975.00) (or Seven and 50/100 Dollars ($7.50) per rentable square foot of the Expansion Space). The Excess Cost Allowance shall be paid out by the Landlord in accordance with the

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provisions of Paragraph 4(A), above. Tenant shall repay to Landlord the amount of the Excess Cost Allowance over the Expansion Space Term (hereinafter defined), beginning on the Expansion Space Rent Commencement Date, in equal monthly installments in the amount necessary to fully repay to Landlord the Excess Cost Allowance, with interest at the rate of nine percent (9%) per annum, compounded monthly on a constant collection basis, on the outstanding amount thereof, as though the Excess Cost Allowance were a loan made by Landlord to Tenant on the Expansion Space Rent Commencement Date. Such equal monthly installments shall be considered Additional Rent under the Lease and shall be paid together with, and in the same manner as, Expansion Space Annual Base Rent (hereinafter defined) payable by Tenant pursuant to Paragraph 6, below, provided that such installments shall not be subject to the annual escalations applicable to Expansion Space Annual Base Rent. Upon any termination of the Lease, Tenant shall be immediately obligated to repay to Landlord the entire amount of the Excess Cost Allowance that has not previously been repaid, plus any accrued and unpaid interest thereon, and such obligation shall survive any such termination. As an example of the foregoing, assuming that the Excess Cost Allowance were $10,000.00, the monthly amortized amount of Additional Rent payable by Tenant with respect thereto would be approximately $176.58.

     5. Expansion Space Term.

          A. The Term with respect to the demise of the Expansion Space to Tenant (the “Expansion Space Term”) shall commence on the Expansion Space Commencement Date and shall expire on April 30, 2013, unless earlier terminated in accordance with the terms and provisions of the Lease. As used herein, the term “Expansion Space Commencement Date” shall mean the date on which Landlord delivers the Expansion Space to Tenant, which date is currently anticipated to occur on or about January 1, 2007. From and after the Expansion Space Commencement Date, and provided that Tenant is in compliance with all of Tenant’s insurance requirements with respect to the Expansion Space as set forth in the Lease, Tenant shall have access to the Expansion Space and Tenant may use the Expansion Space for the use set forth in Section 6.a of the Original Lease. Notwithstanding anything to the contrary contained herein, in the event that the Expansion Space Commencement Date has not occurred on or before July 1, 2007, subject to a day-for-day extension for matters of Force Majeure, Tenant shall have the right, but not the obligation, to terminate this First Amendment upon ten (10) business days prior written notice to Landlord, in which event this First Amendment shall be null and void and of no further force or effect; provided that if Landlord delivers the Expansion Space to Tenant during such ten (10) business day period, this First Amendment shall not terminate and shall continue in full force and effect in accordance with its terms.

          B. Reference is made to the form of Declaration of Expansion Space Commencement Date (the “Declaration”) attached hereto as
Exhibit B. After the Expansion Space Commencement Date, Landlord shall complete the Declaration and deliver the completed Declaration to Tenant. Within ten (10) days after Tenant receives the completed Declaration from Landlord, Tenant shall execute and return the Declaration to Landlord to confirm the Expansion Space Commencement Date, the Expansion Space Rent Commencement Date (hereinafter defined) and the actual number of rentable square feet in the Expansion Space. Failure to execute the Declaration shall not affect the commencement or expiration of the Expansion Space Term. As used herein, the term “Expansion Space Rent Commencement Date” shall mean the date that is ninety (90) days after the Expansion Space Commencement Date (i.e. if the Expansion Space Commencement Date occurs on January 1, 2007, the Expansion Space Rent Commencement Date shall occur on April 1, 2007).

     6. Expansion Space Annual Base Rent. Commencing on the Expansion Space Rent Commencement Date, and thereafter on the first day of each and every calendar month during the Expansion Space Term, Tenant shall pay Landlord Annual Base Rent for the Expansion Space only (“Expansion Space Annual Base Rent”) in the following amounts, in equal monthly installments (“Expansion Space Monthly Base Rent”), in advance, as follows:

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	Expansion Space					Expansion Space
	Annual Base Rent Per		Expansion Space			Monthly Base
Period	Square Foot		Annual Base Rent			Rent
Expansion Space Rent Commencement Date - -4/30/08	$	31.50	$	218,295.00	*	$	18,191.25
5/1/08-4/30/09	$	32.29	$	223,769.76		$	18,647.48
5/1/09-4/30/10	$	33.09	$	229,313.76		$	19,109.48
5/1/10-4/30/11	$	33.92	$	235,065.60		$	19,588.80
5/1/11-4/30/12	$	34.77	$	240,956.16		$	20,079.68
5/1/12-4/30/13	$	35.64	$	246,985.20		$	20,582.10

*  [on an annualized basis]

Tenant shall pay Landlord Expansion Space Annual Base Rent in accordance with the terms and conditions of Section 4 of the Original Lease (captioned, “Rent”). Tenant hereby expressly acknowledges and agrees that any delay by Tenant in completing the Expansion Space Improvements shall not delay or otherwise affect the Expansion Space Rent Commencement Date or Tenant’s obligation to pay Landlord Expansion Space Annual Base Rent from and after such date.

     7. Additional Rent Attributable to Expansion Space.

          A. Commencing on January 1, 2008, for each calendar year during the Expansion Space Term in which the amount of Operating Expenses exceeds the amount of Operating Expenses for the E.S. Base Year (hereinafter defined), Tenant shall pay Landlord Tenant’s E.S. Pro Rata Share (Operating Expenses) (hereinafter defined) of the amount by which the amount of Operating Expenses for such calendar year exceeds the amount of Operating Expenses incurred by Landlord in the E.S. Base Year, in accordance with the terms and conditions of Section 4 of the Original Lease.

          B. Commencing on January 1, 2008, for each calendar year during the Expansion Space Term in which the amount of Real Estate Taxes exceeds the amount of Real Estate Taxes for the E.S. Base Year, Tenant shall pay Landlord Tenant’s E.S. Pro Rata Share (Real Estate Taxes) (hereinafter defined) of the amount by which the amount of Real Estate Taxes for such calendar year exceeds the amount of Real Estate Taxes incurred by Landlord in the E.S. Base Year, in accordance with the terms and conditions of Section 4 of the Original Lease.

          C. Landlord and Tenant hereby acknowledge and agree that: (i) “Tenant’s E.S. Pro Rata Share (Operating Expenses)” shall be 4.36%; (2) “Tenant’s E.S. Pro Rata Share (Real Estate Taxes)” shall be 4.36%; and (3) the “E.S. Base Year” shall be calendar year 2007.

     8. Tenant’s Continuing Obligations with Respect to the Original Premises. Between the Effective Date and the Lease Expiration Date, Tenant shall continue to pay Landlord: (i) all Annual Base Rent for the Original Premises in accordance with the terms and conditions of Section 4 of the Original Lease; (ii) Tenant’s Pro Rata Share (Operating Expenses) of increases in Operating Expenses which are attributable to the Original Premises in accordance with the term and conditions of Section 4 of the Original Lease; and (iii) Tenant’s Pro Rata Share (Real Estate Taxes) of increases in Real Estate Taxes which are attributable to the Original Premises in accordance with the terms and conditions of Section 4 of the Original Lease.

     9. Parking. From and after the Expansion Space Rent Commencement Date, Tenant shall be provided, without charge during the Expansion Space Term, an additional twenty-eight (28) unreserved parking spaces located on Surface Lot and/or the Parking Structure, as determined by Landlord in its sole discretion (the “E.S. Additional Parking Spaces”). Tenant hereby expressly

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acknowledges and agrees that the terms of Section 26 of the Original Lease (captioned, “Parking”) shall govern Tenant’s use of the E.S. Additional Parking Spaces.

     10. Brokers. Landlord and Tenant recognize ACP Mid-Atlantic LLC, as Landlord’s agent, and The Staubach Company — Northeast, Inc., as Tenant’s agent, as the sole brokers (the “Brokers”) with respect to this First Amendment. Landlord agrees to be responsible for the payment of any leasing commissions owed to the Brokers in accordance with the terms of separate commission agreements entered into between Landlord and each of the Brokers. Landlord and Tenant each represent and warrant to the other that no other broker has been employed in carrying on any negotiations relating to this First Amendment and shall each indemnify and hold harmless the other from any claim for brokerage or other commission arising from or out of any breach of the foregoing representation and warranty.

     11. Additional Modification. As of the Expansion Space Commencement Date, Section 34(d) of the Original Lease shall be deleted in its entirety and the following language shall be inserted in lieu thereof as new Section 34(d) of the Original Lease:

“d. From and after the Must-Take Space Commencement Date: (i) the aggregate number of rentable square feet demised under the Lease shall be 70,422; (ii) wherever the term “Premises” appears in the Lease, it is hereby deemed to mean the entire 70,422 rentable square feet demised to Tenant; and (iii) Tenant’s Pro Rata Share (Operating Expenses) and Tenant’s Pro Rata Share (Real Estate Taxes) as set forth in Section 1.g, above, shall each be increased to thirty-nine and ninety-six hundredths percent (39.96%). Tenant hereby acknowledges and agrees that the Base Year with respect to the Must-Take Space shall be calendar year 2006.”

     12. Counterpart Copies. This First Amendment may be executed in two (2) or more counterpart copies, all of which counterparts shall have the same force and effect as if all parties hereto had executed a single copy of this First Amendment.

     13. Miscellaneous. This First Amendment (a) shall be binding upon and inure to the benefit of the parties hereto and their respective representatives, transferees, successors and assigns and (b) shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

     14. Ratification. Except as expressly amended by this First Amendment, all other terms, conditions and provisions of the Lease are hereby ratified and confirmed and shall continue in full force and effect.

[signatures appear on the following page]

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     IN WITNESS WHEREOF, the parties hereto have executed this First Amendment to Deed of Lease under seal as of the day and year first hereinabove written.

LANDLORD:
ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company
By:	ACP/AEW Woodland Park JV, LLC, a Delaware limited liability company, its sole member
By:	ACP-BP Woodland Park Investor, LLC, a Delaware limited liability company, its operating member
By:	ACP/Woodland Park Investor, LLC, a Delaware limited liability company, its manager
By:	/s/ Douglas Fleit
	Name: Douglas Fleit
	Title: Manager
TENANT:
K12 INC., a Delaware corporation
By:	/s/ John Baule
	Name: John Baule
	Title: CFO

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EXHIBIT A

FLOOR PLAN OF EXPANSION SPACE

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EXHIBIT B

DECLARATION OF EXPANSION SPACE COMMENCEMENT DATE

     This Declaration of Expansion Space Commencement Date is made as of                     , 200_, by ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company (“Landlord”), and K12 INC., a Delaware corporation (“Tenant”), who agree as follows:

     1. Landlord and Tenant entered into that certain First Amendment to Deed of Lease dated                     , 2006, (the “First Amendment”) in which Landlord leased to Tenant, and Tenant leased from Landlord, certain premises described therein and located at 2300 Corporate Park Drive, Herndon, Virginia. All capitalized terms herein are as defined in the First Amendment.

     2. Pursuant to the First Amendment, Landlord and Tenant agreed to and do hereby confirm the following matters as of the Expansion Space Commencement Date:

a.	the Expansion Space Commencement Date is                    , 200_;
b.	the Expansion Space Rent Commencement Date is                     , 200_;
c.	the Lease Expiration Date is April 30, 2013;
d.	the number of rentable square feet comprising the Expansion Space is 6,930;
e.	the number of rentable square feet of office space in the Building is 158,897;
f.	“Tenant’s E.S. Pro Rata Share (Operating Expenses)” shall be 4.36%; and
g.	“Tenant’s E.S. Pro Rata Share (Real Estate Taxes)” shall be 4.36%.

     3. Tenant confirms that:

          a. it has accepted possession of the Expansion Space as provided in the First Amendment;

          b. Landlord has fulfilled all its obligations to be provided to Tenant as of the date hereof;

          c. the Lease is in full force and effect and has not been modified, altered, or amended, except, as follows:                                        ; and

          d. there are no set-offs or credits against Rent, and no security deposit or prepaid rent has been paid, except as follows:                           .

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     The provisions of this Declaration of Expansion Space Commencement Date shall inure to the benefit of, or bind, as the case may require, the parties and their respective successors and assigns, subject to the restrictions on assignment and subleasing contained in the Lease, and are hereby attached to and made a part of the Lease.

LANDLORD:
ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company
By:	ACP/AEW Woodland Park JV, LLC, a Delaware limited liability company, its sole member
By:	ACP-BP Woodland Park Investor, LLC, a Delaware limited liability company, its operating member
By:	ACP/Woodland Park Investor, LLC, a
	Delaware limited liability company, its manager
By:
	Name:
	Title:
TENANT:
K12 INC., a Delaware corporation
By:
	Name:
	Title:

HOLLAND & KNIGHT LLP

EX-10.22

Exhibit 10.22

SECOND AMENDMENT TO DEED OF LEASE

     THIS SECOND AMENDMENT TO DEED OF LEASE (this “Second Amendment”) is made this 26th day of March, 2007 (the “Effective Date”), by and between ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company (“Landlord”), and K12 INC., a Delaware corporation (“Tenant”).

W I T N E S S E T H:

     WHEREAS, pursuant to that certain Deed of Lease dated December 7, 2005 (the “Original Lease”), ACP/2300 Corporate Park Drive, LLC (“Original Landlord”) leased to Tenant, and Tenant leased from Original Landlord, approximately 35,740 rentable square feet of office space (the “Original Premises”) comprising a portion of the first (1^st) floor and the entire second (2^nd) floor of the building located at 2300 Corporate Park Drive, Herndon, Virginia (the “Building”);

     WHEREAS, Landlord has purchased the Building from Original Landlord and has succeeded to the interest of Original Landlord under the Original Lease;

     WHEREAS, pursuant to that certain First Amendment to Deed of Lease dated November 30, 2006 (the “First Amendment”), Landlord and Tenant amended the Original Lease to provide for the demise to Tenant of the Expansion Space (as more particularly described in the First Amendment), upon the terms and conditions set forth in the First Amendment; and

     WHEREAS, Landlord and Tenant desire to amend the Original Lease, as amended, to provide for the demise to Tenant of the Second Expansion Space (hereinafter defined), upon the terms and conditions set forth in this Second Amendment.

     NOW, THEREFORE, in consideration of the foregoing and for other good and valuable consideration and of the mutual agreements hereinafter set forth, it is hereby mutually agreed as follows:

     1. Incorporation of Recitals. The foregoing recitals are hereby incorporated in this Second Amendment and made a part hereof by this reference.

     2. Definitions. All capitalized terms used in this Second Amendment shall have the meanings ascribed thereto in the Original Lease, unless otherwise defined herein. As used herein and in the Original Lease: (a) the term “Lease” shall mean the Original Lease, as amended by the First Amendment and this Second Amendment; and (b) from and after the Second Expansion Space Commencement Date (hereinafter defined), the term “Premises” shall mean the Original Premises together with the Expansion Space and the Second Expansion Space. Notwithstanding the foregoing, in the event the Must-Take Space Commencement Date occurs prior to the Second Expansion Space Commencement Date, then, as of the Second Expansion Space Commencement Date, the term “Premises” shall mean the Original Premises together with the Expansion Space, the Second Expansion Space and the Must-Take Space.

     3. Second Expansion Space. Subject to the terms and conditions set forth herein, Landlord hereby leases to Tenant, and Tenant hereby leases from Landlord, for a term beginning on the Second Expansion Space Commencement Date and ending on April 30, 2013 (i.e. the “Lease Expiration Date” under the Original Lease), 27,752 rentable square feet of office space consisting of the entire sixth (6^th) floor of the Building, as shown on the attached Exhibit A (the “Second Expansion Space”). As of the Second Expansion Space Commencement Date, the aggregate number of rentable square feet demised to Tenant under the Lease (consisting of the Original Premises, the Expansion Space and the Second Expansion Space) shall be 70,422. Notwithstanding the foregoing, in the event the Must-Take Space Commencement Date occurs prior to the Second Expansion Space Commencement Date, then, as of the Second Expansion Space Commencement Date, the aggregate number of rentable square feet demised to

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Tenant under the Lease (consisting of the Original Premises, the Expansion Space, the Second Expansion Space and the Must-Take Space) shall be 98,174.

     4. Improvements to the Second Expansion Space. Landlord shall deliver the Second Expansion Space to Tenant in its “as-is” condition (broom clean and free of all furniture and work stations, except for the Second Expansion Space Existing Furniture (hereinafter defined)) and Landlord shall have no obligation to perform, or, except as expressly set forth in this Paragraph 4, pay for, any work, improvements or alterations in or to the Second Expansion Space in connection with this Second Amendment or otherwise. Notwithstanding the foregoing, and provided that Tenant is not then in default under the Lease, Landlord shall provide Tenant with a refurbishment allowance (the “Refurbishment Allowance”) of Two Hundred Twenty-Two Thousand Sixteen Dollars ($222,016.00) (or Eight Dollars ($8.00) per rentable square foot of the Second Expansion Space) to pay for costs and expenses incurred by Tenant in connection with the design and construction of improvements which Tenant desires to undertake in and to the Second Expansion Space (the “Second Expansion Space Improvements”), which costs and expenses shall include the costs of all space planning, architectural and engineering work related thereto, all governmental and quasi-governmental approvals and permits required therefor, any costs incurred by Landlord because of changes to the base Building or the base Building systems, all construction costs, contractors’ overhead and profit, Tenant’s construction management fees, insurance and other requirements, the cost of Tenant’s telecommunications cabling and wiring installed in the Second Expansion Space, the cost of Tenant’s initial furniture, fixtures and equipment installed in the Second Expansion Space, and all other costs and expenses incurred in connection with the Second Expansion Space Improvements. Disbursements of the Refurbishment Allowance by Landlord (“Partial Payments”) shall be made on a monthly basis, if requested in writing by Tenant, or, if not so requested, paid out by Landlord upon completion of the Second Expansion Space Improvements, and the satisfaction of the conditions set forth below, including the receipt by Landlord of final lien waivers from all general contractors, subcontractors and material suppliers who perform work or provide materials in connection therewith. Each of Tenant’s requests for a Partial Payment (the “Draw Requests”) shall be accompanied by (a) the general contractor’s application for payment (including, if applicable, an architect’s certification thereof) setting forth a detailed description of the work completed (including the percentage of the total job which the work with respect to which the contractor seeks payment represents) and the total cost of such work; (b) invoices for design, architectural or permit costs incurred by Tenant; (c) a written approval by Tenant and its architect of the contractor’s application of payment and the work performed by the contractor(s); and (d) partial lien waivers (or, with respect to the final Draw Request, final lien waivers) and releases of mechanic’s and materialmen’s liens from the general contractor, subcontractors and material suppliers providing work or services in or to the Second Expansion Space. The Landlord shall make Partial Payments of the Refurbishment Allowance within thirty (30) days after receipt of a Draw Request from Tenant, provided that such Draw Request is accompanied by all applicable information and documentation set forth in (a)-(d), above. The Tenant’s final Draw Request shall include a certificate of substantial completion prepared by Tenant’s architect and shall also include all applicable final lien waivers. Prior to undertaking any Second Expansion Space Improvements in the Second Expansion Space, Tenant shall submit to Landlord for its approval full working drawings (the “Working Drawings”) depicting all Second Expansion Space Improvements which Tenant desires to install in the Second Expansion Space, which Working Drawings shall satisfy the requirements set forth for the “Tenant’s Plans” pursuant to Exhibit B attached to the Original Lease (captioned, “Work Agreement”). All Working Drawings depicting the Second Expansion Space Improvements to be constructed in or to the Second Expansion Space shall be subject to approval by Landlord, which approval shall not be unreasonably withheld, conditioned or delayed, except if Landlord determines that any proposed Second Expansion Space Improvement depicted therein will alter or affect the structural elements of the Building or any of the systems therein, in which event Landlord’s approval may be withheld in its sole discretion with respect to such improvements. The Second Expansion Space Improvements shall be constructed (1) in a good and workmanlike manner, (2) in strict accordance with the terms and conditions of the Original Lease, including but not limited to the terms and conditions of Section 8 thereof (captioned, “Improvements and Fixtures”) and (3) by licensed contractor(s) approved in writing by Landlord, which approval shall not be unreasonably withheld, conditioned or delayed. Any portion of the Refurbishment

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Allowance with respect to which Tenant fails to submit to Landlord a Draw Request within six (6) months after the Second Expansion Space Rent Commencement Date (hereinafter defined) shall be retained by Landlord.

     5. Second Expansion Space Term.

          A. The Term with respect to the demise of the Second Expansion Space to Tenant (the “Second Expansion Space Term”) shall commence on the Second Expansion Space Commencement Date and shall expire on April 30, 2013, unless earlier terminated in accordance with the terms and provisions of the Lease. As used herein, the term “Second Expansion Space Commencement Date” shall mean the date on which Landlord delivers the Expansion Space to Tenant, which date is currently anticipated to occur on or about October 1, 2009. As used herein, the term “S.E.S. Lease Year” shall mean each consecutive twelve-month period during the Second Expansion Space Term, beginning with the Second Expansion Space Rent Commencement Date, except that if the Second Expansion Space Rent Commencement Date does not occur on the first day of a calendar month, the first S.E.S. Lease Year shall commence on the Second Expansion Space Rent Commencement Date and terminate on the last day of the twelfth (12^th) full calendar month after the Second Expansion Space Rent Commencement Date, and (b) each successive period of twelve (12) calendar months thereafter during the Second Expansion Space Term. From and after the Second Expansion Space Commencement Date, and provided that Tenant is in compliance with all of Tenant’s insurance requirements with respect to the Second Expansion Space as set forth in the Lease, Tenant shall have access to the Second Expansion Space and Tenant may use the Second Expansion Space for the use set forth in Section 6.a of the Original Lease. Notwithstanding anything to the contrary contained herein, in the event that the Second Expansion Space Commencement Date has not occurred on or before April 1, 2010, subject to a day-for-day extension for matters of Force Majeure, Tenant shall have the right, but not the obligation, to terminate this Second Amendment upon ten (10) business days prior written notice to Landlord, in which event this Second Amendment shall be null and void and of no further force or effect; provided that if Landlord delivers the Second Expansion Space to Tenant during such ten (10) business day period, this Second Amendment shall not terminate and shall continue in full force and effect in accordance with its terms.

          B. Reference is made to the form of Declaration of Second Expansion Space Commencement Date (the “Declaration”) attached hereto as Exhibit B. After the Second Expansion Space Commencement Date, Landlord shall complete the Declaration and deliver the completed Declaration to Tenant. Within ten (10) days after Tenant receives the completed Declaration from Landlord, Tenant shall execute and return the Declaration to Landlord to confirm the Second Expansion Space Commencement Date, the Second Expansion Space Rent Commencement Date and the actual number of rentable square feet in the Second Expansion Space. Failure to execute the Declaration shall not affect the commencement or expiration of the Second Expansion Space Term. As used herein, the term “Second Expansion Space Rent Commencement Date” shall mean the date that is sixty (60) days after the Second Expansion Space Commencement Date (i.e. if the Second Expansion Space Commencement Date occurs on October 1, 2009, the Second Expansion Space Rent Commencement Date shall occur on December 1, 2009).

     6. Second Expansion Space Annual Base Rent. Commencing on the Second Expansion Space Rent Commencement Date, and thereafter on the first day of each and every calendar month during the Second Expansion Space Term, Tenant shall pay Landlord Annual Base Rent for the Second Expansion Space only (“Second Expansion Space Annual Base Rent”) in the following amounts, in equal monthly installments (“Second Expansion Space Monthly Base Rent”), in advance, as follows:

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	Second Expansion		Second Expansion			Second Expansion
	Space Annual Base		Space Annual Base			Space Monthly
S.E.S. Lease Year	Rent Per Square Foot		Rent			Base Rent
1	$	34.50	$	957,444.00		$	79,787.00
2	$	35.36	$	981,310.68		$	81,775.89
3	$	36.25	$	1,006,010.04		$	83,834.17
4	$	37.15	$	1,030,986.84	*	$	85,915.57

*  [on an annualized basis]

Tenant shall pay Landlord Second Expansion Space Annual Base Rent in accordance with the terms and conditions of Section 4 of the Original Lease (captioned, “Rent”). Tenant hereby expressly acknowledges and agrees that any delay by Tenant in completing the Second Expansion Space Improvements shall not delay or otherwise affect the Second Expansion Space Rent Commencement Date or Tenant’s obligation to pay Landlord Second Expansion Space Annual Base Rent from and after such date.

     7. Additional Rent Attributable to Second Expansion Space.

          A. Commencing on January 1, 2011, for each calendar year during the Second Expansion Space Term in which the amount of Operating Expenses exceeds the amount of Operating Expenses for the S.E.S. Base Year (hereinafter defined), Tenant shall pay Landlord Tenant’s S.E.S. Pro Rata Share (Operating Expenses) (hereinafter defined) of the amount by which the amount of Operating Expenses for such calendar year exceeds the amount of Operating Expenses incurred by Landlord in the S.E.S. Base Year, in accordance with the terms and conditions of Section 4 of the Original Lease.

          B. Commencing on January 1, 2011, for each calendar year during the Second Expansion Space Term in which the amount of Real Estate Taxes exceeds the amount of Real Estate Taxes for the S.E.S. Base Year, Tenant shall pay Landlord Tenant’s S.E.S. Pro Rata Share (Real Estate Taxes) (hereinafter defined) of the amount by which the amount of Real Estate Taxes for such calendar year exceeds the amount of Real Estate Taxes incurred by Landlord in the S.E.S. Base Year, in accordance with the terms and conditions of Section 4 of the Original Lease.

          C. Landlord and Tenant hereby acknowledge and agree that: (i) “Tenant’s S.E.S. Pro Rata Share (Operating Expenses)” shall be 17.47%; (2) “Tenant’s S.E.S. Pro Rata Share (Real Estate Taxes)” shall be 17.47%; and (3) the “S.E.S. Base Year” shall be calendar year 2009.

     8. Tenant’s Continuing Obligations with Respect to the Original Premises and the Expansion Space.

          A. Between the Effective Date and the Lease Expiration Date, Tenant shall continue to pay Landlord: (i) all Annual Base Rent for the Original Premises in accordance with the terms and conditions of Section 4 of the Original Lease; (ii) Tenant’s Pro Rata Share (Operating Expenses) of increases in Operating Expenses which are attributable to the Original Premises in accordance with the term and conditions of Section 4 of the Original Lease; and (iii) Tenant’s Pro Rata Share (Real Estate Taxes) of increases in Real Estate Taxes which are attributable to the Original Premises in accordance with the terms and conditions of Section 4 of the Original Lease.

          B. Between the Effective Date and the Lease Expiration Date, Tenant shall continue to pay Landlord: (i) all Expansion Space Annual Base Rent for the Expansion Space in accordance with the terms and conditions of Paragraph 6 of the First Amendment (captioned, “Expansion Space Annual Base Rent”); (ii) Tenant’s E.S. Pro Rata Share (Operating Expenses) of increases in Operating Expenses which are attributable to the Expansion Space in accordance with the term and conditions of Paragraph 7 of the First Amendment (captioned, “Additional Rent Attributable to the Expansion Space”); and (iii) Tenant’s E.S. Pro Rata Share (Real Estate Taxes) of increases in Real Estate Taxes which are attributable

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to the Expansion Space in accordance with the terms and conditions of Paragraph 7 of the First Amendment.

     9. Parking. From and after the Second Expansion Space Rent Commencement Date, Tenant shall be provided, without charge during the Second Expansion Space Term, an additional one hundred ten (110) unreserved parking spaces located on Surface Lot and/or the Parking Structure, as determined by Landlord in its sole discretion (the “S.E.S. Additional Parking Spaces”). Tenant hereby expressly acknowledges and agrees that the terms of Section 26 of the Original Lease (captioned, “Parking”) shall govern Tenant’s use of the S.E.S. Additional Parking Spaces.

     10. Brokers. Landlord and Tenant recognize ACP Mid-Atlantic LLC, as Landlord’s agent, and The Staubach Company — Northeast, Inc., as Tenant’s agent, as the sole brokers (the “Brokers”) with respect to this Second Amendment. Landlord agrees to be responsible for the payment of any leasing commissions owed to the Brokers in accordance with the terms of separate commission agreements entered into between Landlord and each of the Brokers. Landlord and Tenant each represent and warrant to the other that no other broker has been employed in carrying on any negotiations relating to this Second Amendment and shall each indemnify and hold harmless the other from any claim for brokerage or other commission arising from or out of any breach of the foregoing representation and warranty.

     11. Second Expansion Space Existing Furniture. In connection with the leasing of the Second Expansion Space by Tenant and pursuant to the Bill of Sale attached hereto and made a part hereof as Exhibit C, effective as of the Second Expansion Space Commencement Date, Landlord hereby conveys to Tenant, free of charge, all of its right, title and interest in and to any and all furniture, equipment and furnishings in the Second Expansion Space as of the Second Expansion Space Commencement Date (collectively, the “Second Expansion Space Existing Furniture”). Landlord makes no representations or warranties with respect to the condition of the Second Expansion Space Existing Furniture and Tenant shall accept the Second Expansion Space Existing Furniture in its as-is, where-is condition as of the Second Expansion Space Commencement Date.

     12. Additional Modification. If the Second Expansion Space Commencement Date occurs prior to the Must-Take Space Commencement Date, then, as of the Second Expansion Space Commencement Date, Section 34(d) of the Original Lease, as amended pursuant to the terms of Paragraph 11 of the First Amendment (captioned, “Additional Modification”), shall be deleted in its entirety and the following language shall be inserted in lieu thereof as new Section 34(d) of the Original Lease:

“d. From and after the Must-Take Space Commencement Date: (i) the aggregate number of rentable square feet demised under the Lease shall be 98,174; (ii) wherever the term “Premises” appears in the Lease, it is hereby deemed to mean the entire 98,174 rentable square feet demised to Tenant; and (iii) Tenant’s Pro Rata Share (Operating Expenses) and Tenant’s Pro Rata Share (Real Estate Taxes) as set forth in Section 1.g, above, shall each be increased to thirty-nine and ninety-six hundredths percent (39.96%). Tenant hereby acknowledges and agrees that the Base Year with respect to the Must-Take Space shall be calendar year 2006.”

     13. Counterpart Copies. This Second Amendment may be executed in two (2) or more counterpart copies, all of which counterparts shall have the same force and effect as if all parties hereto had executed a single copy of this Second Amendment.

     14. Miscellaneous. This Second Amendment (a) shall be binding upon and inure to the benefit of the parties hereto and their respective representatives, transferees, successors and assigns and (b) shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

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     15. Ratification. Except as expressly amended by this Second Amendment, all other terms, conditions and provisions of the Lease are hereby ratified and confirmed and shall continue in full force and effect.

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     IN WITNESS WHEREOF, the parties hereto have executed this Second Amendment to Deed of Lease under seal as of the day and year first hereinabove written.

LANDLORD:
ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company
By:	ACP/AEW Woodland Park JV, LLC, a
	Delaware limited liability company, its sole member
By:	ACP-BP Woodland Park Investor, LLC, a Delaware limited liability company, its operating member
By:	ACP/Woodland Park Investor, LLC, a Delaware limited liability company, its manager
By:	/s/ Douglas Fleit
	Name: Douglas Fleit
	Title: Manager
TENANT:
K12 INC., a Delaware corporation
By:	/s/ John Baule
	Name: John Baule
	Title: Exec VP of Operations and CFO

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EXHIBIT A

FLOOR PLAN OF SECOND EXPANSION SPACE

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EXHIBIT B

DECLARATION OF SECOND EXPANSION SPACE COMMENCEMENT DATE

     This Declaration of Second Expansion Space Commencement Date is made as of                                         , 200_, by ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company (“Landlord”), and K12 INC., a Delaware corporation (“Tenant”), who agree as follows:

     1. Landlord and Tenant entered into that certain Second Amendment to Deed of Lease dated                     , 2007, (the “Second Amendment”) in which Landlord leased to Tenant, and Tenant leased from Landlord, certain premises described therein and located at 2300 Corporate Park Drive, Herndon, Virginia. All capitalized terms herein are as defined in the Second Amendment.

     2. Pursuant to the Second Amendment, Landlord and Tenant agreed to and do hereby confirm the following matters as of the Second Expansion Space Commencement Date:

a.	the Second Expansion Space Commencement Date is                     , 200_;
b.	the Second Expansion Space Rent Commencement Date is                     , 200_;
c.	the Lease Expiration Date is April 30, 2013;
d.	the number of rentable square feet comprising the Second Expansion Space is 27,752;
e.	the number of rentable square feet of office space in the Building is 158,897;
f.	“Tenant’s S.E.S. Pro Rata Share (Operating Expenses)” shall be 17.47%; and
g.	“Tenant’s S.E.S. Pro Rata Share (Real Estate Taxes)” shall be 17.47%.

     3. Tenant confirms that:

          a. it has accepted possession of the Second Expansion Space as provided in the Second Amendment;

          b. Landlord has fulfilled all its obligations to be provided to Tenant as of the date hereof;

          c. the Lease is in full force and effect and has not been further modified, altered, or amended, except, as follows:                     ; and

          d. there are no set-offs or credits against Rent, and no security deposit or prepaid rent has been paid, except as follows:                     .

[signatures appear on the following page]

HOLLAND & KNIGHT LLP

     The provisions of this Declaration of Second Expansion Space Commencement Date shall inure to the benefit of, or bind, as the case may require, the parties and their respective successors and assigns, subject to the restrictions on assignment and subleasing contained in the Lease, and are hereby attached to and made a part of the Lease.

LANDLORD:
ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company
By:	ACP/AEW Woodland Park JV, LLC, a Delaware limited liability company, its sole member
By:	ACP-BP Woodland Park Investor, LLC, a Delaware limited liability company, its operating member
By:	ACP/Woodland Park Investor, LLC, a Delaware limited liability company, its manager
By:
	Name:
	Title:
TENANT:
K12 INC., a Delaware corporation
By:
	Name:
	Title:

HOLLAND & KNIGHT LLP

EXHIBIT C

BILL OF SALE

     ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company (“Grantor”), for good and valuable consideration received by K12 INC., a Delaware corporation (“Grantee”), by these presents does QUITCLAIM, BARGAIN, SELL and DELIVER unto Grantee its entire right, title and interest in the Second Expansion Space Existing Furniture (as such term is defined in that certain Second Amendment to Deed of Lease dated of even date herewith (the “Second Amendment”) by and between Grantor, as landlord, and Grantee, as tenant).

     GRANTOR HEREBY WARRANTS TO GRANTEE THAT GRANTOR IS THE LAWFUL OWNER OF THE SECOND EXPANSION SPACE EXISTING FURNITURE AND THAT THE SECOND EXPANSION SPACE EXISTING FURNITURE IS FREE FROM THE RIGHTS AND CLAIMS OF OTHERS, INCLUDING ANY LEASES AND FINANCING AGREEMENTS.

     TO HAVE AND TO HOLD the Second Expansion Space Existing Furniture unto Grantee, its successors and assigns forever.

     This instrument shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

     THIS BILL OF SALE SHALL BE EFFECTIVE as of the Second Expansion Space Commencement Date (as such term is defined in the Second Amendment).

GRANTOR:
ACP/2300 CORPORATE PARK OWNER, LLC, a Delaware limited liability company
By:	ACP/AEW Woodland Park JV, LLC, a Delaware limited liability company, its sole member
By:	ACP-BP Woodland Park Investor, LLC, a Delaware limited liability company, its operating member
By:	ACP/Woodland Park Investor, LLC, a Delaware limited liability company, its manager
By:	/s/ Douglas Fleit
	Name: Douglas Fleit
	Title: Manager

HOLLAND & KNIGHT LLP

EX-10.23

Exhibit 10.23

SUBLEASE AGREEMENT

     This Sublease Agreement (this “Sublease”) is made as of the 25^th day of June, 2008 (the “Effective Date”) between DIECA COMMUNICATIONS INC., a Virginia corporation (“Tenant”), and K12 INC., a Delaware corporation (“Subtenant”).

R E C I T A L S:

     A. By a certain Deed of Lease dated July 8, 2002, made between TST Woodland Funding I, L.L.C. (“Original Landlord”), and Tenant, as amended pursuant to the First Amendment To Deed of Lease (the “First Amendment”) dated March 31, 2005 by ACP/300 Corporate Park Drive, LLC, a Delaware limited liability company, successor in interest to Original Landlord (the “Master Landlord”) and Tenant (collectively, the “Master Lease”), a copy of which is attached hereto as Exhibit A, the Master Landlord leased to Tenant a portion of the property located at 2300 Corporate Park Drive in Herndon, Virginia (the “Master Premises”).

     B. Tenant desires to sublet to Subtenant and Subtenant desires to sublet from Tenant a portion of the Master Premises. Specifically, Subtenant desires to sublet from Tenant approximately 6,192 rentable square feet on the fourth (4^th) floor of the building (the “Subleased Premises”), a copy of the floor plan detailing the Subleased Premises is attached hereto as Exhibit B, per the terms and conditions contained herein. Such Premises shall not be remeasured by Tenant during the Term, and if remeasured by Master Landlord, in no event shall Subtenant’s costs associated with the rentable square footage increase or decrease.

          NOW, THEREFORE, in consideration of the mutual agreements herein contained, and for other valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree as follows:

A G R E E M E N T:

1. MASTER LEASE

     A. Tenant represents and warrants to Subtenant that attached hereto as Exhibit A is a true, correct and complete copy of the Master Lease and all amendments thereto.

     B. Unless otherwise defined herein, all capitalized terms shall have the defined meanings ascribed to them in the Master Lease.

     C. Except as set forth below and except as otherwise provided in this Sublease, the terms and conditions of this Sublease shall include all of the terms of the Master Lease and such terms are incorporated into this Sublease as if fully set forth herein, except to the extent they are inapplicable to, inconsistent with, or modified by the

terms of this Sublease and except that: (i) each reference in such incorporated sections to “Lease” shall be deemed a reference to this “Sublease”; (ii) each reference to “Landlord” and “Tenant” shall be deemed a reference to “Tenant” and “Subtenant”, respectively, except as otherwise expressly set forth herein; (iii) with respect to work, services, utilities, electricity, repairs (or damage caused by Master Landlord), restoration, insurance, indemnities, reimbursements, representations, warranties or the performance of any other obligation of Master Landlord under the Master Lease, whether or not incorporated herein, the sole obligation of Tenant shall be to request the same in writing from Master Landlord as and when requested to do so by Subtenant, and to use Tenant’s commercially reasonable efforts (which shall not include the institution of legal proceedings by Tenant, but which may include allowing Subtenant, at Subtenant’s sole cost and expense, to institute legal proceedings in Tenant’s name (if necessary), by attorneys approved by Tenant, which approval shall not be unreasonably withheld, conditioned or delayed) to obtain Master Landlord’s performance; (iv) with respect to any obligation of Tenant to be performed under this Sublease, wherever the Master Lease grants to “Tenant” a specified number of days to perform its obligations under the Master Lease, except as otherwise provided herein, Subtenant shall have three (3) fewer days to perform the obligation, including, without limitation, curing any defaults; (v) with respect to any approval required to be obtained from the “Landlord” under the Master Lease, such approval must be obtained from both Master Landlord and Tenant, and Tenant’s withholding of approval shall in all events be deemed reasonable if for any reason Master Landlord’s approval is not obtained; (vi) in any case where the “Landlord” reserves or is granted the right to manage, supervise, control, repair, alter, regulate the use of, enter or use the Subleased Premises or any areas beneath, above or adjacent thereto, such reservation or grant of right of entry shall be deemed to be for the benefit of both Master Landlord and Tenant; (vii) in any case where “Tenant” is to indemnify, release or waive claims against “Landlord”, such indemnity, release or waiver shall be deemed to run from Subtenant to both Master Landlord and Tenant; and (viii) in any case where “Tenant” is to execute and deliver certain documents or notices to “Landlord”, such obligation shall be deemed to run from Subtenant to both Master Landlord and Tenant.

     D. This Sublease is and at all times shall be subject and subordinate to the Master Lease and the rights of Master Landlord thereunder. Subtenant hereby expressly assumes and agrees for the benefit of the Master Landlord: (i) to comply with all provisions of the Master Lease which are assumed by Subtenant hereunder; and (ii) to perform all the obligations on the part of the “Tenant” to be performed under the terms of the Master Lease with respect to the Subleased Premises during the term of this Sublease. In the event the Master Lease is terminated or cancelled for any reason whatsoever, this Sublease shall terminate simultaneously with such termination or cancellation and, unless it is determined in a final, non-appealable judgment that such termination is a result of Tenant’s default under the Master Lease, or Tenant’s gross negligence or willful misconduct, without any liability of Tenant to Subtenant. In the event of a conflict between the provisions of this Sublease and the Master Lease, as between Tenant and Subtenant, the provisions of this Sublease shall control.

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     E. The parties acknowledge and agreement that notwithstanding anything to the contrary in this Sublease or the Master Lease, Section 18 of the First Amendment shall not apply and have no force nor effect with regard to the Subtenant.

2. WARRANTY BY LESSOR

Tenant warrants and represents to Subtenant that the Master Lease is in full force and effect, has not been amended or modified except as expressly set forth herein, that all obligations of Tenant have been satisfied, that Tenant is not now, and as of the commencement of the Term hereof will not be, in default or breach of any of the provisions of the Master Lease, nor to the best of Tenant’s knowledge is there any event with which the giving of notice or the passage of time or both would become a default or breach under the Master Lease and that Tenant has no knowledge of any claim by Master Landlord that Tenant is in default or breach of any of the provisions of the Master Lease. Tenant has not received written notice of any violation or alleged violation of law, including but not limited to the Americans with Disabilities Act of 1990, as may be amended (“ADA”) with respect to the Subleased Premises. Tenant, as of the Effective Date, has not received written notice of any mechanic’s liens charged against the Premises. During the Term of this Sublease, the Tenant agrees not to amend or modify the Master Lease in such a manner as to increase Subtenant’s obligations under this Sublease or adversely impact Subtenant’s rights under this Sublease without prior written notice to and reasonable approval by Subtenant. During the Term of this Sublease, Tenant shall not voluntarily terminate the Master Lease with respect to the Subleased Premises, nor will Tenant knowingly act or knowingly fail to act in such a manner as to cause the termination of the Master Lease. Should Tenant receive written notice from Master Landlord regarding any default or other material issue under the Master Lease or notices of any violations, mechanic’s liens or any other notices affecting the Subleased Premises, Tenant shall provide a copy such notice(s) to Subtenant within two (2) business days of Tenant’s receipt of said notice(s).

3. SUBLEASED PREMISES

Tenant hereby subleases to Subtenant on the terms and conditions set forth in this Sublease the Subleased Premises. Subtenant accepts the Subleased Premises in their present “As-Is” condition and shall be responsible, at its cost and expense, for all alterations, improvements, additions and other work desired for its use and occupancy of the Subleased Premises, except as specifically stated in this Sublease. For the avoidance of doubt, Tenant shall have no obligation whatsoever to make or pay the cost of any alterations, improvements or repairs to the Subleased Premises, including, without limitation, any improvement or repair required to comply with any law, regulation, building code or ordinance (including the ADA). In addition, Tenant shall have no obligation to perform any repairs or any other obligation of Master Landlord required to be performed by Master Landlord under the terms of the Master Lease and Subtenant shall look solely to Master Landlord for performance of said obligations. Tenant shall, however, request performance of the same in writing from Master Landlord promptly

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after being requested to do so by Subtenant, and shall use Tenant’s commercially reasonable efforts (which shall not include the institution of legal proceedings by Tenant, but which may include allowing Subtenant, at Subtenant’s sole cost and expense, to institute legal proceedings in Tenant’s name (if necessary), by attorneys approved by Tenant, which approval shall not be unreasonably withheld, conditioned or delayed) to obtain Master Landlord’s performance. Tenant hereby assigns to Subtenant, for so long as this Sublease shall be in force and effect, any and all rights of Tenant under the Master Lease with respect to the Subleased Premises and causes of action which Tenant may have against Master Landlord with respect to the Subleased Premises due to default by Master Landlord under the Master Lease.

4. TERM

The term of this Sublease shall commence on the later of: (a) July 1, 2008; and (b) the date that Master Landlord consents to this Sublease or possession of the Subleased Premises is delivered to Subtenant (“Commencement Date”), and end on July 31, 2010 (“Termination Date”), unless otherwise sooner terminated in accordance with the provisions of this Sublease. In the event the Term commences on a date other than the Commencement Date, Tenant and Subtenant shall execute a memorandum setting forth the actual date of commencement of the term. Possession of the Subleased Premises shall be delivered to Subtenant on the Commencement Date; provided, however, once the Master Landlord consents to this Sublease, Subtenant shall be permitted access to the Subleased Premises within five (5) business days of such consent in order for Subtenant to complete (through Subtenant’s contractor or vendor or by Subtenant’s employees or other agents) the cabling of telephone, computer, security systems, office equipment and the like; provided that Tenant shall not be required to provide Subtenant with such access unless Subtenant has demonstrated its compliance with the insurance requirements provided in Section 13 of this Sublease. Notwithstanding anything to the contrary in this Sublease, if Tenant fails, for any reason other than the acts or omissions of either Subtenant or the Master Landlord (including without limitation the Master Landlord’s failure to timely consent to this Sublease) or the agents or employees of Subtenant or Master Landlord, to provide possession of the Subleased Premises on the Commencement Date, the date the Rent (as defined below) commences will be extended for each day of delay beyond such date and provided further that if Tenant fails to provide possession of the Subleased Premises on or before August 1, 2008 (subject to the exceptions set forth above), then Subtenant shall have the right to terminate this Sublease by written notice delivered to Tenant on or before August 15, 2008, upon which the parties shall have no further obligations to each other under this Sublease.

5. RENT

Subtenant does hereby agree, without notice, deduction or offset, to pay to Tenant, as the monthly rent for the Subleased Premises (“Rent”), the following amounts for the term of the Sublease:

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July 1, 2008 – June 30, 2009:	$14,964.00 each month
July 1, 2009 – June 30, 2010:	$15,562.56 each month
July 1, 2010 – July 31, 2010:	$16,185.06 each month

Rent includes all Operating Expenses and Taxes contemplated under the Master Lease and Tenant hereby acknowledges and agrees that Subtenant shall not be responsible for any other costs not specifically and expressly provided for herein, including but not limited to costs or charges for Building or common area maintenance, utilities or taxes. However, except as otherwise expressly provided in this Sublease, Subtenant shall pay any other additional costs or expenses incurred under the Master Lease related to the Sublease Premises or Subtenant’s occupancy thereof (including, without limitation, the cost of all overtime HVAC, energy and other services costs provided to Subtenant and/or the Sublease Premises and not included in Operating Expenses or Taxes). Unless such costs and expenses can be paid directly to Master Landlord, Subtenant shall reimburse Tenant for such other amounts within ten (10) business days of receipt of an invoice (attaching the charges of the Master Landlord) from Tenant therefor. For the purposes of this Sublease and all of Subtenant’s obligations hereunder, Rent and any other sums due to Tenant from Subtenant under this Sublease shall together constitute “Rent.”

All payments of Rent due under this Sublease shall be paid in advance at least three (3) business days prior to when the corresponding payments are due and payable under the Master Lease. Said payment shall be made to Tenant, and shall be mailed to the address of Tenant or any other address which Tenant may in writing designate. The first month’s rent payment in the amount of $14,964.00 shall be due and payable by Subtenant to Tenant upon Subtenant’s execution of this Sublease.

6. USE OF PREMISES; ACCESS

Notwithstanding anything contrary to the Master Lease, the Subleased Premises shall be used and occupied only for general office purposes in accordance with the applicable zoning regulations and for no other use or purpose. Subtenant shall not use, store or dispose of, in or from the Subleased Premises, any substances, materials, chemicals or gases which are defined and regulated as being hazardous or toxic under applicable federal, state or local laws and regulations except for such substances, materials, chemicals or gases in small amounts as used in the ordinary course of the operation of Subtenant’s business which use shall at all times be in strict adherence to and compliance with all applicable environmental laws and the terms of the Master Lease. Subject to the terms and conditions of the Master Lease, Subtenant shall have access to the Subleased Premises twenty-four (24) hours per each day of the year. Tenant shall provide fifty (50) of its electronic access cards for the Subleased Premises and shall, at its sole cost and expense, cause the Master Landlord to reprogram the electric access system such that only the foregoing 50 cards shall provide access to the Subleased Premises (except with respect to the Master Landlord and Tenant as permitted and limited by this Sublease), and pay the costs associated with obtaining such cards if such cards provide access to the Master Premises in excess of the Subleased Premises.

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7. AGENCY DISCLOSURE

Subtenant and Tenant each warrant that they have dealt with no other real estate broker(s), finder(s), or other person(s) in connection with this transaction other than The Staubach Company – Northeast, Inc., as Subtenant’s broker, and CresaPartners, as Tenant’s agent, both of which shall be compensated by Tenant pursuant to a separate agreement. Tenant and Subtenant each shall indemnify and hold the other harmless from any breach by it of this representation.

8. ATTORNEYS’ FEES

If Tenant or Subtenant shall commence an action against the other arising out of or in connection with this Sublease, the prevailing party shall be entitled to recover its costs of suit and reasonable attorneys’ fees.

9. FURNITURE

Subtenant shall have the right to utilize certain of the existing workstations and furniture within the Subleased Premises through the term of the Sublease at no cost to the Subtenant (excluding certain personal property of the Tenant). The Master Landlord owns the furniture and workstations and therefore Tenant and Subtenant have no rights to the furniture after the expiration of the Sublease term. Attached as Exhibit C is a list of the items of furniture within the Subleased Premises that Subtenant will retain (the “Sublease Furniture”). Any items of furniture that had been in the Subleased Premises but are not listed on Exhibit C as Sublease Furniture shall have been removed by Tenant, at its sole cost and expense, from the Subleased Premises prior to the Commencement Date. Subtenant shall have no further obligation to Tenant or Master Landlord regarding such items of furniture.

10. NOTICES

All notices and demands which may or are to be required or permitted to be given by either party on the other hereunder shall be in writing. All notices and demands by the Tenant to Subtenant shall be sent by United States Mail, postage prepaid, or by nationally recognized overnight carrier addressed to the Subtenant at the Subleased Premises, and to the address hereinbelow, or to such other place as Subtenant may from time to time designate in a notice to the Tenant. All notices and demands by the Subtenant to Tenant shall be sent by United States Mail, postage prepaid, or by recognized overnight carrier addressed to the Tenant at the address set forth herein, and to such other person or place as the Tenant may from time to time designate in a notice to the Subtenant.

To Tenant:	Covad Communications Company
	110 Rio Robles
	San Jose, CA 95134

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	Attn: Contract Management/Legal
To Subtenant:	K12 Inc.
	2300 Corporate Park Drive
	Herndon, VA 20171
	Attn: Legal Department

11. REMOVAL OF ALTERATIONS

Notwithstanding anything in the Master Lease or this Sublease to the contrary, Subtenant shall not be required at the termination of the Sublease to remove alterations, fixtures, equipment and other property at the Subleased Premises unless such items or alterations are installed by or at the request of Subtenant. Unless the Master Landlord does not require such restoration or removal, Subtenant shall be solely responsible for the restoration of any items or alterations that are removed by or at the request of Subtenant and/or the removal of any items or alterations that are installed by or at the request of Subtenant.

12. CONSENTS

Each of the signatories set forth below represents and warrants that it is duly authorized to execute and deliver this Sublease, to bind the person for which such signatory signs and that such person has obtained all consents and approvals necessary to execute and deliver this Sublease. Additionally, except for the consent of the Master Landlord, each party represents and warrants to each of the other parties that it has obtained all consents and approvals necessary to execute and deliver this Sublease.

13. INSURANCE

     A. Subtenant agrees that Subtenant will, at all times during the Term of this Sublease, maintain and pay for such insurance as is required under the Master Lease, naming the Master Landlord and Tenant as “additional insureds” under the policy or policies carried by Subtenant. The Subtenant further covenants that in the event that the insurance policy evidenced in the certificate is canceled or materially amended it will advise the Tenant in writing to this effect forthwith. In the event that Subtenant fails to maintain the insurance required by this Section, then the Tenant shall have the right to obtain such insurance on behalf of Subtenant. In the event that Tenant obtains such insurance on behalf of Subtenant, then Subtenant shall reimburse Tenant for the cost thereof within five (5) business days of Tenant’s demand for reimbursement.

     B. Tenant and Subtenant each hereby releases all causes of action and rights of recovery against each other and their respective agents, officers and employees for any loss, regardless of cause or origin, to the extent of any recovery to either party from any policy(s) of insurance carried or required to be carried hereunder. Tenant and Subtenant agree that any policies presently existing or obtained on or after the date hereof (including

7

renewals of present policies) shall include a clause or endorsement to the effect that any such release shall not adversely affect or impair said policies or prejudice the right of the releasor to recover thereunder.

14. PARKING

Subtenant shall be entitled to use parking spaces in accordance with the terms of the Master Lease, including but not limited to Section 13 of the First Amendment concerning reserved parking spaces of which Subtenant shall be entitled to its proportionate share based on the ratio of Subleased Premises to Master Premises.

15. SIGNAGE

Subtenant shall have the rights to suite entry signage and building directory signage pursuant to the terms contained in the Master Lease.

16. CONDEMNATION

In the event of damage or destruction of the Subleased Premises or the taking of all or any part thereof under the power of eminent domain, this Sublease shall terminate only if the Master Lease is terminated as a result thereof.

17. EMERGENCY POWER SYSTEM

     Subject to the terms and conditions of the Master Lease, Subtenant shall have the right, with Master Landlord’s consent pursuant to the Master Lease, to connect certain equipment into the Master Landlord’s emergency power generator and uninterrupted power supply systems (“Emergency Power System”). Subtenant shall pay directly to the Master Landlord all costs and expenses related to the Subtenant’s actual usage of the Emergency Power System. In the event that Subtenant is not permitted to pay such costs directly, then Tenant shall pay the costs and expenses of the Emergency Power System and the Subtenant shall promptly reimburse the Tenant for Tenant’s actual costs incurred with respect to the Subleased Premises; provided that Tenant submits reasonable supporting documentation regarding such costs.

18. DEFAULT

Subtenant shall be in material default of its obligations under this Sublease if any of the following events occur:

          A. Subtenant fails to pay any Rent within five (5) business days after receipt of written notice from Tenant that such item of Rent is due and unpaid; or

          B. Subtenant fails to perform any term, covenant or condition of this Sublease (except those requiring payment of Rent) and fails to cure such breach within

8

thirty (30) days after delivery of a written notice to Subtenant specifying the nature of the breach; provided, however, that if more than thirty (30) days are reasonably required to remedy the failure, then Subtenant shall not be in default if Subtenant commences the cure within the thirty (30) day period and thereafter diligently completes the cure; or

          C. Subtenant makes a general assignment of its assets for the benefit of its creditors, including attachment of, execution on, or the appointment of a custodian or receiver with respect to a substantial part of Subtenant’s property or any property essential to the conduct of its business; or

          D. Subtenant abandons (without payment of Rent) the Subleased Premises in violation of the Master Lease; or

          E. Subtenant commits any other act or omission which constitutes a default under the Master Lease, which has not been cured after delivery of any written notice required and passage of three-quarters (³/4) of any applicable grace period provided in the Master Lease as modified, if at all, by the provisions of this Sublease.

19. SECURITY DEPOSIT

Subtenant shall provide Tenant prior to the execution of this Sublease a security deposit in the amount of $14,964.00. Tenant may use the security deposit, or any part of the deposit, to satisfy any default of Subtenant and any expenses arising from such default. If any portion of the security deposit is so used or applied, Subtenant shall, within five (5) business days after written demand therefore, deposit cash with Tenant in an amount sufficient to restore the security deposit to its original amount. Tenant may commingle the security deposit with its own funds and Subtenant shall not be entitled to interest on the security deposit. Any remaining balance of the Security Deposit shall be returned to Subtenant at such time after the Termination Date that all of Subtenant’s obligations under this Sublease have been fulfilled, but in no event later than thirty (30) days following the Termination Date.

20. ASSIGNMENT AND SUBLETTING

Subtenant’s rights to assign, transfer or hypothecate the leasehold estate under this Sublease, or any interest therein shall be governed by the Master Landlord pursuant to Article 13 of the Master Lease and by the Tenant pursuant to such Article 13 as incorporated into this Sublease.

21. ENTIRE AGREEMENT; AMENDMENTS

This Sublease contains all agreements between the parties with respect to any matter mentioned herein, and no other prior or contemporaneous agreement or understanding shall be effective. This Sublease may not be amended except by the written agreement of all parties hereto.

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22. WAIVER

If either Tenant or Subtenant waives the performance of any term, covenant or condition contained in this Sublease, such waiver shall not be deemed to be a waiver of any subsequent breach of the same or any other term, covenant or condition contained herein, or constitute a course of dealing contrary to the expressed terms of this Sublease. The acceptance of Rent by Tenant shall not constitute a waiver of any preceding breach by Subtenant of any term, covenant or condition of this Sublease regardless of Tenant’s knowledge of such preceding breach at the time Tenant accepted such Rent. Failure by Tenant to enforce any of the terms, covenants or conditions of the Sublease for any length of time shall not be deemed to waive or decrease the right of Tenant to insist thereafter upon strict performance by Subtenant. Waiver by Tenant of any term, covenant or condition contained in this Sublease may only be made by a written document signed by Tenant, based upon full knowledge of the circumstances.

23. RELATIONSHIP OF PARTIES

This Sublease does not and shall not create the relationship of principal and agent, or of partnership, or of joint venture, or of any other association between Tenant and Subtenant, except that of sublandlord and subtenant.

24. NO DRAFTING PRESUMPTION

The parties acknowledge that this Sublease has been agreed to by both the parties, that both Tenant and Subtenant have consulted with attorneys with respect to the terms of this Sublease and that no presumption shall be created against Tenant because Tenant drafted this Sublease.

25. COUNTERPARTS

This Sublease may be executed in one or more counterparts, each of which shall be deemed an original, and all of which together shall constitute one and the same instrument.

26. MASTER LANDLORD’S CONSENT

     After its execution by Tenant and Subtenant, this Sublease shall be effective only upon obtaining the written consent of Master Landlord, or its duly authorized agent. Promptly after the execution of this Sublease by the Tenant and Subtenant, Tenant shall use its commercially reasonable efforts to secure the Master Landlord’s consent to this Sublease and shall keep Subtenant reasonably apprised of the status of such efforts.

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[SIGNATURE PAGE FOLLOWS]

THIS SUBLEASE SHALL BE OF NO FORCE OR EFFECT UNLESS CONSENTED TO BY MASTER LANDLORD WITHIN 30 DAYS AFTER EXECUTION HEREOF, IF SUCH CONSENT IS REQUIRED UNDER THE TERMS OF THE MASTER LEASE.

Date:	6/25/08	Date:	6/26/08
Tenant: Dieca Communications, Inc.		Subtenant: K12, Inc.
By:	/s/ Jeff Bailey	By:	/s/ John Baule
Title:	CFO	Title:	Exec VP of Operations & CFO

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Exhibit A

Master Lease

12

Exhibit B

Subleased Premises

Note:

1) Subleased Premises totals 6,192 rentable square feet and is illustrated as the “Covad” space in this illustration.

13

Exhibit C

Sublease Furniture

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FINAL EXECUTED LEASE

DEED OF LEASE

TST WOODLAND FUNDING I, L.L.C.,
a Delaware limited liability company,

Landlord

and

DIECA COMMUNICATIONS, INC.,
a Virginia corporation,

Tenant

South Pointe II
2300 Corporate Park Drive
Woodland Park
Herndon, Virginia 20171

July 8, 2002

TABLE OF CONTENTS

	Page
ARTICLE 1. BASIC LEASE PROVISIONS		1
ARTICLE 2. PREMISES, TERM, RENT		5
2.1 Lease of Premises		5
2.2 Commencement Date		5
2.3 Payment of Rent		5
2.4 First Month’s Rent		6
ARTICLE 3. USE AND OCCUPANCY		6
3.1 Permitted Uses		6
3.2 Parking Facilities		6
ARTICLE 4. CONDITION OF THE PREMISES		7
4.1 Condition		7
4.2 Landlord’s Contribution		7
4.3 Existing Furnishings		7
ARTICLE 5. ALTERATIONS		8
5.1 Tenant’s Alterations		8
5.2 Manner and Quality of Alterations		9
5.3 Removal of Tenant’s Property		9
5.4 Mechanic’s Liens		10
5.5 Labor Relations		10
5.6 Tenant’s Costs		10
5.7 Tenant’s Equipment		10
5.8 Legal Compliance		10
5.9 Floor Load		11
ARTICLE 6. REPAIRS		11
6.1 Landlord’s Repair and Maintenance		11
6.2 Tenant’s Repair and Maintenance		11
6.3 Restorative Work		11
6.4 Supplemental HVAC Units		12
6.5 Emergency Power System		13
ARTICLE 7. INCREASES IN TAXES AND OPERATING EXPENSES		14
7.1 Definitions		14
7.2 Tenant’s Tax Payment		16
7.3 Tenant’s Operating Payment		17
7.4 Non-Waiver; Disputes		18
7.5 Final Year of Term		19
7.6 No Reduction in Rent		19
ARTICLE 8. REQUIREMENTS OF LAW		20
8.1 Compliance with Requirements		20
8.2 Fire and Life Safety		21
ARTICLE 9. SUBORDINATION		21
9.1 Subordination and Attornment		21

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	Page
9.2 Mortgage or Superior Lease Defaults		22
9.3 Tenant’s Termination Right		22
9.4 Provisions		23
ARTICLE 10. SERVICES		23
10.1 Electricity		23
10.2 Excess Electricity		24
10.3 Elevators		24
10.4 Heating, Ventilation and Air Conditioning		24
10.5 Overtime HVAC		25
10.6 Cleaning		25
10.7 Water		25
10.8 Refuse Removal		25
10.9 Directory		25
10.10 Tenant Access to Premises		26
10.11 Service Interruptions		26
ARTICLE 11. INSURANCE; PROPERTY LOSS OR DAMAGE		26
11.1 Tenant’s Insurance		26
11.2 Waiver of Subrogation		28
11.3 Restoration		28
11.4 Landlord’s Termination Right		29
11.5 Tenant’s Termination Right		29
11.6 Final 18 Months		29
11.7 Landlord’s Liability		30
ARTICLE 12. EMINENT DOMAIN		30
12.1 Taking		30
12.2 Awards		31
12.3 Temporary Taking		31
ARTICLE 13. ASSIGNMENT AND SUBLETTING		31
13.1 Consent Requirements		31
13.2 Tenant’s Notice
13.3 Conditions to Assignment/Subletting		33
13.4 Binding on Tenant; Indemnification of Landlord		34
13.5 Tenant’s Failure to Complete		34
13.6 Profits		35
13.7 Transfers		35
13.8 Assumption of Obligations		36
13.9 Tenant’s Liability		36
13.10 Listings in Building Directory		36
13.11 Lease Disaffirmance or Rejection		36
ARTICLE 14. ACCESS TO PREMISES		37
14.1 Landlord’s Access		37
14.2 Building Name		38
ARTICLE 15. DEFAULT		38
15.1 Tenant’s Defaults		38
15.2 Landlord’s Remedies		39

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	Page
15.3 Landlord’s Damages		40
15.4 Interest		41
15.5 Other Rights of Landlord		41
ARTICLE 16. LANDLORD’S RIGHT TO CURE; FEES AND EXPENSES		41
ARTICLE 17. NO REPRESENTATIONS BY LANDLORD; LANDLORD’S APPROVAL		42
17.1 No Representations		42
17.2 No Money Damages		42
17.3 Reasonable Efforts		42
ARTICLE 18. END OF TERM		42
18.1 Expiration		42
18.2 Holdover Rent		42
ARTICLE 19. QUIET ENJOYMENT		43
ARTICLE 20. NO SURRENDER; NO WAIVER		43
20.1 No Surrender or Release		43
20.2 No Waiver		43
ARTICLE 21. WAIVER OF TRIAL BY JURY; COUNTERCLAIM		44
21.1 Jury Trial Waiver		44
21.2 Waiver of Counterclaim		44
ARTICLE 22. NOTICES		44
ARTICLE 23. RULES AND REGULATIONS		44
ARTICLE 24. BROKER		45
ARTICLE 25. INDEMNITY		45
25.1 Tenant’s Indemnity		45
25.2 Landlord’s Indemnity		45
25.3 Defense and Settlement		46
ARTICLE 26. MISCELLANEOUS		46
26.1 Delivery		46
26.2 Transfer of Real Property		46
26.3 Limitation on Liability		46
26.4 Rent		47
26.5 Entire Document		47
26.6 Governing Law		47
26.7 Unenforceability		47
26.8 Lease Disputes		47
26.9 Landlord’s Agent		47
26.10 Estoppel		48
26.11 Certain Interpretational Rules		48
26.12 Parties Bound		48
26.13 Memorandum of Lease		48
26.14 Counterparts		49
26.15 Survival		49
26.16 Inability to Perform		49
26.17 Substitute Premises		49
26.18 Deed of Lease/Landlord’s Agent for Service of Process		49
26.19 Lien for Payment of Rent		49

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	Page
26.20 Financial Statements		49
ARTICLE 27. SECURITY DEPOSIT		49
27.1 Letter of Credit		49
27.2 Application of Security		50
27.3 Transfer		51

EXHIBITS
Exhibit A	Floor Plan
Exhibit B	Definitions
Exhibit C	Work Letter
Exhibit D	Cleaning Specifications
Exhibit E	Rules and Regulations
Exhibit F	Commencement Notice
Exhibit G	Existing Furnishings
RIDERS
Rider No. 1	Extension Option
Rider No. 2	Antenna
Rider No. 3	Exterior Signage

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DEED OF LEASE

     This Deed of Lease (the “Lease”) is made as of the 8^th day of July, 2002 (“Effective Date”), between TST WOODLAND FUNDING I, L.L.C (“Landlord”), a Delaware limited liability company, and DIECA COMMUNICATIONS, INC., (“Tenant”), a Virginia corporation.

     Landlord and Tenant hereby agree as follows:

ARTICLE 1

BASIC LEASE PROVISIONS

PREMISES	The rentable area of the portion of the first (1st) floor of the Building, the entire rentable area of the third (3rd) floor of the Building and the rentable area of the portion of the fourth (4th) floor of the Building, as more particularly shown on Exhibit A.
BUILDING	The building, fixtures, equipment and other improvements and appurtenances now located or hereafter erected, located or placed upon the land known as 2300 Corporate Park Drive, Woodland Park, Herndon, Virginia 20171 (commonly known as South Pointe II).
REAL PROPERTY	The Building, the Common Area, the parking facilities and the real property upon which the Building and the parking facilities stand.
COMMENCEMENT DATE	The date which is earlier to occur of (a) the date Tenant (or any person claiming by, through or under Tenant) occupies any part of the Premises for the conduct of its business, or (b) the later of (i) the date upon which the Tenant Improvements (as described in Exhibit C attached hereto) are Substantially Completed in accordance with the terms of this Lease, or (ii) July 15, 2002.
RENT COMMENCEMENT DATE	The day following the third (3rd) monthly anniversary of the Commencement Date.
EXPIRATION DATE	The last day of the month in which the third (3rd) yearly anniversary of the Commencement Date occurs, or the last day of any extension term, if the Term of this Lease is extended in accordance with any express provision hereof.
TERM	The period commencing on the Commencement Date and ending

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	on the Expiration Date.
PERMITTED USES	Executive and general offices.
BASE YEAR	Calendar year 2002.
TENANT’S PROPORTIONATE SHARE	23.51%
AGREED AREA OF BUILDING	159,633 rentable square feet, as measured in accordance with the BOMA standard of building measurement and mutually agreed to by Landlord and Tenant.
AGREED AREA OF PREMISES	37,517 rentable square feet, as measured in accordance with the BOMA standard of building measurement and mutually agreed to by Landlord and Tenant, consisting of 3,573 square feet of rentable area on the first (1st) floor, 27,752 square feet of rentable area on the third (3rd) floor and 6,192 square feet of rentable area on the fourth (4th) floor (the “Fourth Floor Space”), being comprised of 3,044 square foot area designated as “Suite 4A” on Exhibit A and 3,148 square foot area designated as “Suite 4B” on Exhibit A.
FIXED RENT

	Fixed Rent per annum
	per square foot of rentable area
Lease Year	of Premises
1	$	24.00
2	$	24.60
3 through original Expiration Date	$	25.22

LEASE YEAR Each period of twelve (12) successive months commencing on the Commencement Date or any anniversary thereof, except that the last Lease Year of the Term might contain fewer than twelve (12) months if the period between the expiration of the then preceding Lease Year and the Expiration Date contains fewer than twelve (12) months.

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ADDITIONAL RENT	All sums other than Fixed Rent payable by Tenant to Landlord under this Lease, including Tenant’s Tax Payment, Tenant’s Operating Payment, late charges, overtime or excess service charges, damages, and interest and other costs related to Tenant’s failure to perform any of its obligations under this Lease.
RENT	Fixed Rent and Additional Rent, collectively.
INTEREST RATE	The lesser of (i) 4% per annum above the then-current Base Rate, and (ii) the maximum rate permitted by applicable law.
SECURITY DEPOSIT	$375,170.00, in the form of the Letter of Credit.
TENANT’S ADDRESS FOR NOTICES	Until Tenant commences business operations from the Premises:
	Dieca Communications, Inc.
	3420 Central Expressway
	Santa Clara, CA 95051
	Attn: Director of Real Estate
	Copy to:
	Dieca Communications, Inc.
	3420 Central Expressway
	Santa Clara, CA 95051
	Attn: Legal Department
	Thereafter:
	Dieca Communications, Inc.
	3420 Central Expressway
	Santa Clara, CA 95051
	Attn: Director of Real Estate
	Copy to:
	Dieca Communications, Inc.
	3420 Central Expressway
	Santa Clara, CA 95051
	Attn: Legal Department

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	and
	Dieca Communications, Inc.
	2300 Corporate Park Drive
	Woodland Park
	Herndon, Virginia 20171
LANDLORD’S ADDRESS FOR NOTICES	TST Woodland Funding I, L.L.C.
	c/o Tishman Speyer Properties, L.P.
	520 Madison Avenue, Sixth Floor
	New York, New York 10022
	Attn: Chief Financial Officer
	Copies to:
	TST Woodland Funding I, L.L.C.
	c/o Tishman Speyer Properties, L.P.
	8270 Greensboro Drive, Suite 810
	McLean, Virginia 22102
	Attn: James A. Evans
	and:
	Tishman Speyer Properties, L.P.
	520 Madison Avenue, Sixth Floor
	New York, New York 10022
	Attn: General Counsel
TENANT’S BROKER	Scheer Partners and Liberty Greenfield.
LANDLORD’S AGENT	Tishman Speyer Properties, L.P. or any other person designated at any time and from time to time by Landlord as Landlord’s Agent and their successors and assigns.
LANDLORD’S CONTRIBUTION	$-0-.
GUARANTOR	None.

All capitalized terms used in this Lease without definition are defined in Exhibit B-Definitions or in Exhibit C-Work Letter to this Lease.

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ARTICLE 2

PREMISES, TERM, RENT

     Section 2.1 Lease of Premises. Subject to the terms of this Lease, Landlord leases to Tenant and Tenant leases from Landlord the Premises for the Term. In addition, Landlord grants to Tenant the right to use, on a non-exclusive basis and in common with other tenants, the Common Areas.

     Section 2.2 Commencement Date. Upon the Effective Date, the terms and provisions hereof shall be fully binding on Landlord and Tenant, including prior to the occurrence of the Commencement Date. The Term of this Lease shall commence on the Commencement Date and, unless sooner terminated or extended as hereinafter provided, shall end on the Expiration Date. If Landlord does not tender possession of the Premises to Tenant on or before any specified date, for any reason whatsoever, Landlord shall not be liable for any damage thereby, this Lease shall not be void or voidable thereby, and the Term shall not commence until Landlord tenders possession of the Premises to Tenant. No failure to tender possession of the Premises to Tenant on or before any specified date shall affect any other obligations of Tenant hereunder. Once the Commencement Date is determined, Landlord and Tenant shall execute an agreement in the form of Exhibit F hereto stating the Commencement Date and the Expiration Date, but the failure to do so will not affect the determination of such dates. For purposes of determining whether Tenant has accepted possession of the Premises, Tenant shall be deemed to have done so when Tenant first moves Tenant’s Property and/or any of its personnel into the Premises and/or commences construction, except to the extent that Tenant is authorized in this Lease or by Landlord’s agreement to do any of the foregoing without being deemed to have accepted possession of the Premises.

     Notwithstanding the foregoing, if the Commencement Date has not occurred by August 1, 2002 (as such date may be extended by any Tenant Delay and/or Unavoidable Delay), Tenant shall have the right, as Tenant’s sole remedy, to terminate this Lease by delivering written notice of such termination (the “Termination Notice”) to Landlord at any time on or after such date but prior to the Commencement Date with such termination being effective 30 days after Landlord’s receipt of the Termination Notice; provided however, if the Commencement Date occurs within such 30 day period, the Termination Notice shall be deemed null and void. If Landlord incurs an Unavoidable Delay in connection with Landlord’s Substantial Completion of the Tenant Improvements due to any delay in the issuance of any permits or in connection with any governmental inspections of the Tenant Improvements, Landlord will send Tenant written notice of such Unavoidable Delay within 2 business days after Landlord obtains actual knowledge of such Unavoidable Delay. If Landlord fails to send such notice to Tenant within such 2 business day period, then the delay will not be treated as an Unavoidable Delay until the day on which Landlord sends such notice to Tenant.

     Section 2.3 Payment of Rent. Tenant shall pay to Landlord, without notice or demand, and without any set-off, counterclaim, abatement or deduction whatsoever, except as may be expressly set forth in this Lease, in lawful money of the United States by wire transfer of funds or by check, (i) Fixed Rent in equal monthly installments, in advance, on the first day of

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each month during the Term, commencing on the Commencement Date, and (ii) Additional Rent, at the times and in the manner set forth in this Lease. The foregoing and any other provision of this Lease to the contrary notwithstanding, Landlord hereby waives Tenant’s obligation to pay (a) Fixed Rent for the entire Premises for the 3 month period that begins on the Commencement Date; and (b) Fixed Rent for Suite 4A for the 6 month period that begins on the Commencement Date. Nothing herein contained shall be deemed to diminish or relieve Tenant of its obligation to pay in accordance with the terms of this Lease all other sums owed by Tenant to Landlord under the Lease (other than Base Rent for the aforementioned periods).

     Section 2.4 First Month’s Rent. Tenant shall pay one month’s Fixed Rent upon the execution of this Lease.

ARTICLE 3

USE AND OCCUPANCY

     Section 3.1 Permitted Uses. Tenant shall use and occupy the Premises for the Permitted Uses and for no other purpose. Tenant shall not use or occupy or permit the use or occupancy of any part of the Premises in a manner constituting a Prohibited Use. If Tenant uses the Premises for a purpose constituting a Prohibited Use, violating any Requirement, or causing the Building to be in violation of any Requirement, then Tenant shall promptly discontinue such use upon notice of such violation. Tenant, at its expense, shall procure and at all times maintain and comply with the terms and conditions of all licenses and permits required for the lawful conduct of the Permitted Uses in the Premises, other than with respect to those licenses and permits that Landlord is responsible for obtaining and maintaining.

     Section 3.2 Parking Facilities. Tenant shall have the right to use 3.98 parking spaces per 1,000 rentable square feet in the Premises for no additional Rent (except for Additional Rent payable in accordance with Article 7 below) during the Term and any extension thereof (except as set forth in Section 4 of Rider No. 1–Extension Option to the contrary). Parking spaces shall be provided on an unreserved basis in common with other Building tenants. Notwithstanding the foregoing, Tenant acknowledges that Landlord may temporarily relocate, or specifically designate the location of, Tenant’s parking spaces from time to time as a result of emergencies or repair and maintenance work. Tenant agrees that it and its employees shall observe reasonable safety precautions in the use of the parking structure and surface lots, and shall at all times abide by all reasonable rules and regulations promulgated by Landlord, (or any parking operator selected by Landlord) governing the use of the parking structure and surface lots. It is understood and agreed that Landlord does not assume any responsibility for any damage or loss to any automobiles parked in the parking structure or surface lots or to any personal property located therein, or for any injury sustained by any person in or about the parking structure or surface lots. Any provision of this Lease to the contrary notwithstanding, Landlord and Tenant acknowledges that the Building parking facilities were designed to accommodate approximately 3.98 parking spaces per 1,000 rentable square feet in the Building and that Tenant might have a need for more than 3.98 parking spaces per 1,000 rentable square feet in the Premises. If Tenant notifies Landlord that Tenant desires more than 3.98 parking spaces per 1,000 rentable square feet in the Premises or if Landlord determines on its own that Tenant is consistently using more

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than 3.98 parking spaces per 1,000 rentable square feet in the Premises, Landlord have the right to attempt to accommodate Tenant’s parking needs, at Tenant’s expense, by implementing such parking policies and procedures as Landlord determines from time to time to be reasonably necessary to accommodate the parking needs of Tenant and of the other tenants at the Building including, for example, restriping all or some of the parking areas; specifically designating the location of Tenant’s parking spaces (provided, however, if Landlord specifically designates the location of Tenant’s parking spaces, the percentage of Tenant’s total parking spaces that are located in the parking garage shall equal or exceed the percentage of all parking spaces at the Building that are in the parking garage. Thus, if 70% of the Building’s parking spaces are located in the parking garage, then at least 70% of Tenant’s designated spaces must be in the parking garage).

ARTICLE 4

CONDITION OF THE PREMISES

     Section 4.1 Condition. Tenant agrees (a) to accept possession of the Premises upon Substantial Completion of the Premises in accordance with the terms of the Work Letter attached hereto as Exhibit C, and (b) except for the Tenant Improvements described in the Work Letter, that Landlord has no obligation to perform any work, supply any materials, incur any expense or make any alterations or improvements to prepare the Premises for Tenant’s occupancy. Tenant’s occupancy of any part of the Premises shall be conclusive evidence, as against Tenant, that (i) Landlord has Substantially Completed any work to be performed by Landlord under this Lease, (ii) Tenant has accepted possession of the Premises in its then current condition and (iii) at the time such possession was taken, the Premises and the Building were in a good and satisfactory condition as required by this Lease.

     Section 4.2 Landlord’s Contribution. [Intentionally omitted]

     Section 4.3 Existing Furnishings. Tenant acknowledges that as of the Commencement Date, the Premises contains or will contain certain furniture, fixtures and equipment, including, without limitation, the furniture described on Exhibit G-Existing Furnishings to this Lease (the “Existing Furnishings”). Tenant shall have the right to use the Existing Furnishings throughout the Term and any extension thereof, provided that (i) Tenant shall maintain he Existing Furnishings in good condition and repair at Tenant’s expense, (ii) the Existing Furnishing shall at all times remain Landlord’s property and shall be during the Term, (iii) at no time shall Tenant remove any of the Existing Furnishings from the Premises, and (iv) Tenant shall be surrender the Existing Furnishings to Landlord upon the expiration or sooner termination of this Lease in good order and repair, reasonable wear and tear excepted. Within thirty (30) days after written demand therefor, Tenant shall pay or reimburse Landlord for all personal property, use and other taxes payable in connection with the Existing Furnishings.

     Section 4.3 Tenant Access. Subject to the provisions of this paragraph, Tenant will be allowed to enter into the Premises prior to the Commencement Date so that Tenant can complete through Tenant’s contractor or vendor the cabling of telephone, computer, security systems and specialized office equipment, at the same time that Landlord’s contractors are working in the the

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Premises. Any person granted access on behalf of Tenant pursuant to this paragraph shall comply with all reasonable requirements that Landlord and Contractor may impose and shall strictly observe all rules and regulations promulgated by Contractor and/or Landlord relating to the job site, including without limitation those relating to safety. If required by Landlord, each person granted access shall sign a release and waiver of liability form as reasonably required by Landlord. Tenant shall have the insurance required pursuant to the Lease in full force and effect (and naming Landlord and any construction supervisor as additional insureds thereunder) prior to entering the Building and/or the Premises, and all relevant terms and conditions of this Lease (excluding the payment of Fixed Rent) shall be fully applicable to Tenant’s early access of the Building and/or the Premises. Tenant shall indemnify and hold Landlord and Contractor harmless from and against any cost, damage, claim, liability or expense (including reasonable attorneys’ fees) arising out of or in connection with the entry into, or activities at, the Building and/or the Premises by Tenant and all of Tenant’s employees, agents, contractors, subcontractors and invitees. Any delay in the construction of the Tenant Improvements which results from the entry into the Building and/or the Premises by Tenant or Tenant’s employees, agents, contractors, subcontractors or invitees or their activities in the Building and/or the Premises, shall constitute a Tenant Delay. The foregoing license to enter is conditioned upon Tenant’s workmen and mechanics working in harmony and not interfering with the Contractor or with any other tenants or their contractors. Contractor shall use commercially reasonable efforts to facilitate and coordinate with Tenant’s vendors and contractors. If, at any time, such entry shall cause disharmony or interference therewith, the license granted by the terms of this paragraph may be withdrawn by Landlord on twenty-four hours notice to Tenant’s Representative. Landlord shall not be liable in any way for any injury, loss or damage which may occur to any of the Tenant’s installation so made, the same being solely at Tenant’s risk.

ARTICLE 5

ALTERATIONS

     Section 5.1 Tenant’s Alterations.

          (a) Tenant shall not make any alterations, additions or other physical changes in or about the Premises (collectively, “Alterations”), other than (A) decorative Alterations such as painting, wall coverings and floor coverings and (B) Alterations that cost less than $25,000 in the aggregate for a single project and that do not require the issuance of any building or other permit (collectively, “Decorative Alterations”), without Landlord’s prior consent, which consent shall not be unreasonably withheld if such Alterations (i) are non-structural and do not affect any Building Systems, (ii) affect only the Premises and are not visible from outside of the Premises, (iii) do not affect the non-residential use permit issued for the Building or the Premises, and (iv) do not violate any Requirement.

          (b) Plans and Specifications. Prior to making any Alterations, Tenant, at its expense, shall (i) submit to Landlord for its approval, detailed plans and specifications (“Plans”) of each proposed Alteration (other than Decorative Alterations), and with respect to any Alteration affecting any Building System, evidence that the Alteration has been designed by, or

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reviewed and approved by, Landlord’s designated engineer for the affected Building System, (ii) obtain all permits, approvals and certificates required by any Governmental Authorities, (iii) furnish to Landlord duplicate original policies or certificates of worker’s compensation (covering all persons to be employed by Tenant, and Tenant’s contractors and subcontractors in connection with such Alteration) and commercial general liability (including property damage coverage) insurance and Builder’s Risk coverage (as described in Article 11) all in such form, with such companies, for such periods and in such amounts as Landlord may reasonably require, naming Landlord, Landlord’s Agent, any Lessor and any Mortgagee as additional insureds, and (iv) furnish to Landlord reasonably satisfactory evidence of Tenant’s ability to complete and to fully pay for such Alterations (other than Decorative Alterations). Tenant shall give Landlord a reasonably detailed description of any Decorative Alteration made at the Premises within seven (7) days after Landlord’s request therefor.

          (c) Governmental Approvals. Tenant, at its expense, shall, as and when required, promptly obtain certificates of partial and final approval of such Alterations required by any Governmental Authority and shall furnish Landlord with copies thereof, together with “as-built” Plans for such Alterations and, if Tenant engages the services of an architect (other than Tenant’s in-house architect(s)) in connection with the Alterations, prepared on an AutoCAD Computer Assisted Drafting and Design System (or such other system or medium as Landlord may accept), using naming conventions issued by the American Institute of Architects in June, 1990 (or such other naming conventions as Landlord may accept) and magnetic computer media of such record drawings and specifications translated in DFX format or another format acceptable to Landlord.

     Section 5.2 Manner and Quality of Alterations. All Alterations shall be performed (a) in a good and workmanlike manner and free from defects, (b) substantially in accordance with the Plans, and by contractors approved by Landlord, and (c) in compliance with all Requirements, the terms of this Lease and all construction procedures and regulations then prescribed by Landlord. All materials and equipment shall be of first quality and at least equal to the applicable standards for the Building then established by Landlord, and no such materials or equipment (other than Tenant’s Property) shall be subject to any lien or other encumbrance.

     Section 5.3 Removal of Tenant’s Property. Tenant’s Property shall remain the property of Tenant and Tenant may remove the same at any time on or before the Expiration Date. If, at the time that Landlord approves any Specialty Alterations, Landlord informs Tenant that Tenant must remove such Specialty Alterations on or prior to the Expiration Date, then Tenant shall, at Tenant’s expense, remove such Specialty Alterations and close up any slab penetrations in the Premises on or prior to the Expiration Date. Landlord will not require Tenant to remove any Specialty Alterations and slab penetrations constructed or installed by Landlord as part of the initial Tenant Improvements at the Premises. Tenant shall repair and restore, in a good and workmanlike manner, any damage to the Premises or the Building caused by Tenant’s removal of any Specialty Alterations or Tenant’s Property or by the closing of any slab penetrations, and upon default thereof, Tenant shall reimburse Landlord for Landlord’s cost of repairing and restoring such damage. Any Specialty Alterations or Tenant’s Property not so removed shall be deemed abandoned and Landlord may remove and dispose of same, and repair and restore any damage caused thereby, at Tenant’s cost and without accountability to Tenant.

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All other Alterations shall become Landlord’s property upon termination of this Lease. Landlord and Tenant agree that none of the initial Tenant Improvements (as defined in Exhibit C) are Specialty Alterations nor shall Tenant be required to remove any of the initial Tenant Improvements upon the expiration or earlier termination of this Lease.

     Section 5.4 Mechanic’s Liens. Tenant, at its expense, shall discharge any lien or charge recorded or filed against the Real Property in connection with any work done or claimed to have been done by or on behalf of, or materials furnished or claimed to have been furnished to, Tenant, within 10 days after Tenant’s receipt of notice thereof by payment, filing the bond required by law or otherwise in accordance with law.

     Section 5.5 Labor Relations. Tenant shall not employ, or permit the employment of, any contractor, mechanic or laborer, or permit any materials to be delivered to or used in the Building, if, in Landlord’s sole judgment, such employment, delivery or use will interfere or cause any conflict with other contractors, mechanics or laborers engaged in the construction, maintenance or operation of the Building by Landlord, Tenant or others. If such interference or conflict occurs, upon Landlord’s request, Tenant shall cause all contractors, mechanics or laborers causing such interference or conflict to leave the Building immediately.

     Section 5.6 Tenant’s Costs. Tenant shall pay promptly to Landlord, upon demand, all out-of-pocket costs actually incurred by Landlord in connection with Tenant’s Alterations, including costs incurred in connection with (a) Landlord’s review of the Alterations (including review of requests for approval thereof) and (b) the provision of Building personnel during the performance of any Alteration, to operate elevators or otherwise to facilitate Tenant’s Alterations. In addition, if Tenant’s Alterations cost more than $25,000 and (i) Landlord and Tenant agree that Landlord will supervise the construction of such Alterations, Tenant shall pay to Landlord, upon demand, an administrative fee in an amount equal to 5% of the total cost of such Alterations; and (ii) Landlord does not supervise the construction of such Alterations, Tenant shall pay to Landlord, upon demand, an administrative fee in an amount equal to 2 1/2% of the total cost of such Alterations.

     Section 5.7 Tenant’s Equipment. Tenant shall provide notice to Landlord prior to moving any heavy machinery, heavy equipment, freight, bulky matter or fixtures (collectively, “Equipment”) into or out of the Building and shall pay to Landlord any costs actually incurred by Landlord in connection therewith. If such Equipment requires special handling, Tenant agrees (a) to employ only persons holding all necessary licenses to perform such work, (b) all work performed in connection therewith shall comply with all applicable Requirements and (c) such work shall be done only during hours designated by Landlord.

     Section 5.8 Legal Compliance. The approval of Plans, or consent by Landlord to the making of any Alterations, does not constitute Landlord’s representation that such Plans or Alterations comply with any Requirements. Landlord shall not be liable to Tenant or any other party in connection with Landlord’s approval of any Plans, or Landlord’s consent to Tenant’s performing any Alterations. If any Alterations made by or on behalf of Tenant, require Landlord to make any alterations or improvements to any part of the Building in order to comply with any

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Requirements, Tenant shall pay all costs and expenses incurred by Landlord in connection with such alterations or improvements.

     Section 5.9 Floor Load. Tenant shall not place a load upon any floor of the Premises that exceeds 80 pounds per square foot “live load”. Landlord reserves the right to reasonably designate the position of all Equipment which Tenant wishes to place within the Premises, and to place limitations on the weight thereof.

ARTICLE 6

REPAIRS

     Section 6.1 Landlord’s Repair and Maintenance. Landlord shall operate, maintain and, except as provided in Section 6.2 hereof, make all necessary repairs (both structural and nonstructural) to (i) the Building Systems, and (ii) the Common Areas, in conformance with standards applicable to Comparable Buildings.

     Section 6.2 Tenant’s Repair and Maintenance. Tenant shall promptly, at its expense and in compliance with Article 5, make all nonstructural repairs to the Premises and the fixtures, equipment and appurtenances therein (including any supplemental HVAC (other than as set forth in Section 6.4(b) to the contrary with respect to the Supplemental HVAC Units), specialty lighting or Specialty Alteration) (collectively “Tenant Fixtures”) as and when needed to preserve the Premises in good working order and condition, except for reasonable wear and tear and damage for which Tenant is not responsible. All damage to the Building or to any portion thereof, or to any Tenant Fixtures requiring structural or nonstructural repair caused by or resulting from any act, omission, negligence or willful misconduct on the part of a Tenant Party or during the moving of Tenant’s Property or Equipment into, within or out of the Premises by a Tenant Party, shall be repaired at Tenant’s expense by (i) Tenant, if the required repairs are nonstructural in nature and do not affect any Building System, or (ii) Landlord, if the required repairs are structural in nature, involve replacement of exterior window glass or affect any Building System. All Tenant repairs shall be of good quality utilizing new construction materials.

     Section 6.3 Restorative Work. Landlord reserves the right to make all changes, alterations, additions, improvements, repairs or replacements to the Building and Building Systems, including changing the arrangement or location of entrances or passageways, doors and doorways, corridors, elevators, stairs, toilets or other Common Areas (collectively, “Restorative Work”), as Landlord deems necessary or desirable, and to take all material into the Premises required for the performance of such Restorative Work provided that (a) the level of any Building service shall not decrease in any material respect from the level required of Landlord in this Lease as a result thereof (other than temporary changes in the level of such services during the performance of any such Restorative Work) and (b) Tenant is not deprived of reasonable access to the Premises. Landlord shall use reasonable efforts to minimize interference with Tenant’s use and occupancy of the Premises during the performance of such Restorative Work. There shall be no Rent abatement or allowance to Tenant for a diminution of rental value, no actual or constructive eviction of Tenant, in whole or in part, no relief from any of Tenant’s other

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obligations under this Lease, and no liability on the part of Landlord by reason of inconvenience, annoyance or injury to business arising from Landlord, Tenant or others performing, or failing to perform, any Restorative Work, unless Landlord has not used reasonable efforts to minimize interference with Tenant’s use and occupancy of the Premises during the performance of such Restorative Work and such failure results in Tenant’s use and enjoyment of the Premises being substantially interfered with.

     Section 6.4 Supplemental HVAC System.

          (a) (i) At any time during the Term, Tenant shall have the right to elect to use the supplemental HVAC units and the equipment related thereto located at the Premises on the date of this Lease (collectively, the “Supplemental HVAC Units”). The foregoing notwithstanding, prior to using any Supplemental HVAC Units, Tenant shall provide Landlord with all equipment plans and specifications relating to the loads that would be imposed upon the Supplemental HVAC System (hereinafter defined), and Landlord shall have the right to deny Tenant use of the Supplemental HVAC Units if Landlord determines the Supplemental HVAC System will not or might not be adequate to meet Tenant’s demand. If Landlord approves of Tenant’s use of the Supplemental HVAC Units, Landlord’s engineer or contractor will activate Tenant’s use of the Supplemental HVAC Units. The minimum period for which Tenant can elect to use a Supplemental HVAC Unit is thirty (30) days and Tenant shall provide Landlord with at least thirty (30) days prior written notice if Tenant elects at any time to discontinue using any Supplemental HVAC Unit.

               (ii) If Tenant does not use the Supplemental HVAC System, Landlord shall have the right to lock-off the Supplemental HVAC Units and/or to remove the Supplemental HVAC Units from the Premises at Landlord’s expense.

          (b) (i) Except with respect to emergency repairs, Landlord will maintain, repair and make any capital repairs or replacements of the Supplemental HVAC Units.

               (ii) If any Supplemental HVAC Units require emergency repairs, Tenant shall send Landlord prompt written notice of such emergency and Tenant shall make arrangements for such repairs directly with Landlord’s Supplemental HVAC Unit contractor. Landlord will provide Tenant with written notice from time to time of the name and telephone number of Landlord’s Supplemental HVAC Unit contractor.

               (iii) Landlord will maintain, repair and make any capital repairs or replacements to any equipment relating to the operation of the Supplemental HVAC Units that is not located at the Premises, which shall include the cooling tower(s) located on the roof of the Building that generally serve(s) the supplemental HVAC units presently located in the Building (collectively, the “Supplemental Common Equipment”). The Supplemental HVAC Units and the Supplemental Common Equipment are together called the “Supplemental HVAC System.”

          (c) Beginning on the date on which Tenant commences to use the Supplemental HVAC System and continuing thereafter during the Term for so long as Tenant has elected to use any Supplemental HVAC Unit:

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               (i) Tenant shall pay all costs incurred by Landlord and/or Tenant during the Term in connection with the ordinary maintenance and emergency and non-emergency repairs and replacements to the Supplemental HVAC Units (whether for parts, labor, warranty coverage or otherwise) (the “Supplemental Maintenance Costs”). If Tenant directly incurs any Supplemental Maintenance Costs, Tenant shall pay such Supplemental Maintenance Costs as and when due and owing to the applicable Supplemental HVAC Unit service provider.

               (ii) Tenant shall pay Tenant’s Supplemental Share of all costs incurred by Landlord in connection with the ordinary maintenance and emergency and non-emergency repairs and replacements of the Supplemental Common Equipment (whether for parts, labor, warranty coverage or otherwise) (the “Supplemental Common Costs”). “Tenant’s Supplemental Share” means a fraction, the numerator of which shall be the tonnage rating of the Supplemental HVAC Units in the Premises and the denominator of which shall be the tonnage rating of all supplemental HVAC units in the Building (exclusive of any such units that are owned by a tenant of the Building) that any tenant of the Building from time to time elects to use.

               (iii) In addition to the Supplemental Maintenance Costs and Tenant’s Supplemental Share, Tenant shall pay to Landlord the monthly electricity charge for the Supplemental HVAC System as reasonably established from time to time by Landlord (the “Supplemental Charge”). The current Supplemental Charge is $70 per ton per month.

               (iv) All sums payable by Tenant to Landlord under this Section shall constitute Additional Rent and shall be due and payable to Landlord within thirty (30) days after Landlord sends Tenant an invoice therefor. Landlord will be entitled to an administrative charge of ten percent (10%) of all costs payable by Tenant under this Section, other than the Supplemental Charge (the “Supplemental Administrative Fee”).

          (d) Landlord shall have no liability arising from any failure of the Supplemental HVAC System or any component thereof to operate properly or at all at any time including, without limitation, no liability if any such failure results in the Premises not being reasonably comfortable or useable at all, any of Tenant’s equipment not functioning or not functioning fully or properly, Tenant missing or being delayed in meeting any business or other deadlines, or Tenant incurring any other costs or damages.

          (e) Tenant shall cooperate with Landlord and shall abide by the rules and regulations which Landlord may reasonably prescribe for the proper functioning and protection of the Supplemental HVAC System.

     Section 6.5 Emergency Power System.

          (a) The Building is equipped with an emergency power generator and an uninterrupted power supply system (collectively, the “Emergency Power System”). At any time during the Term, Tenant shall have the right to elect to connect certain equipment at the Premises to the Emergency Power System. The foregoing notwithstanding, prior to connecting any equipment to the Emergency Power System, Tenant shall provide Landlord with all equipment plans and specifications relating to the loads that would be imposed upon the Emergency Power

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System, and Landlord shall have the right to deny Tenant use of the Emergency Power System to the extent that Landlord determines that Tenant’s usage might or would exceed the usage allotment that Landlord has determined for the Premises. If Landlord approves of Tenant’s use of the Emergency Power System, at Landlord’s election, either Landlord’s contractor will connect Tenant’s approved equipment to the Emergency Power System or Tenant’s contractor will connect Tenant’s approved equipment to the Emergency Power System.

          (b) Landlord will operate, maintain, repair and make any capital repairs or replacements to the Emergency Power System.

          (c) (i) If Tenant elects to connect any equipment to the Emergency Power System, Tenant shall pay to Landlord Tenant’s EPS Share of all costs and expenses incurred by Landlord on or after the date on which such equipment is connected to the Emergency Power System in connection with the operation, maintenance, repair and replacement of the Emergency Power System (“EPS Costs”). “Tenant’s EPS Share” means a fraction, the numerator of which shall be the potential load (as reasonably determined by Landlord) of Tenant’s equipment that is connected to the Emergency Power System and the denominator of which shall be the potential load (as reasonably determined by Landlord) of all equipment that tenants of the Building from time to time elect to have connected to the Emergency Power System.

               (ii) All sums payable by Tenant to Landlord under this Section shall constitute Additional Rent and shall be due and payable to Landlord within thirty (30) days after Landlord sends Tenant an invoice therefor. Landlord will be entitled to an administrative charge of ten percent (10%) of all costs payable by Tenant under this Section (the “EPS Fee”).

          (d) Landlord shall have no liability arising from any failure of the Emergency Power System or any component thereof to operate properly or at all at any time including, without limitation, no liability if any such failure results in any of Tenant’s equipment not functioning or not functioning fully or properly, Tenant losing any data, Tenant missing or being delayed in meeting any business or other deadlines, or Tenant incurring any other costs or damages.

          (e) Tenant shall cooperate with Landlord and shall abide by the rules and regulations which Landlord may reasonably prescribe for the proper functioning and protection of the Emergency Power System.

ARTICLE 7

INCREASES IN TAXES AND OPERATING EXPENSES

          Section 7.1 Definitions. For the purposes of this Article 7, the following terms shall have the meanings set forth below:

          (a) “Assessed Valuation” shall mean the amount for which the Real Property is assessed by the County Assessor of Fairfax County for the purpose of imposition of Taxes.

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          (b) “Base Operating Expenses” shall mean the Operating Expenses for the Base Year.

          (c) “Base Taxes” shall mean the Taxes payable on account of the Base Year.

          (d) “Comparison Year” shall mean any calendar year commencing subsequent to the Base Year.

          (e) “Operating Expenses” shall mean the aggregate of all costs and expenses paid or incurred by or on behalf of Landlord in connection with the ownership, operation, repair and maintenance of the Real Property, including (i) capital improvements only if such capital improvement either (A) is reasonably intended to result in a reduction in Operating Expenses (as for example, a labor-saving improvement) provided, the amount included in Operating Expenses in any Comparison Year shall not exceed an amount equal to the savings reasonably anticipated to result from the installation and operation of such improvement, and/or (B) is made during any Comparison Year in compliance with Requirements, (ii) reasonable rent for the management office, if any, in the Building, and (iii) all costs relating to the ownership, operation, repair and maintenance of the Building and any parking facilities serving the Building. Such capital improvements shall be amortized (with interest at the Base Rate) on a straight-line basis over its useful life as Landlord shall reasonably determine, and the amount included in Operating Expenses in any Comparison Year shall be equal to the annual amortized amount. Operating Expenses shall not include any Excluded Expenses. If during all or part of the Base Year or any Comparison Year, Landlord shall not furnish any particular item(s) of work or service (which would otherwise constitute an Operating Expense) to any leasable portions of the Building for any reason, then, for purposes of computing Operating Expenses for such period, the amount included in Operating Expenses for such period shall be increased by an amount equal to the costs and expenses that would have been reasonably incurred by Landlord during such period if Landlord had furnished such item(s) of work or service to such portion of the Building. In determining the amount of Operating Expenses for the Base Year or any Comparison Year, if less than 95% of the Building rentable area is occupied by tenants at any time during any such Base Year or Comparison Year, Operating Expenses that vary with the Building occupancy level shall be determined for such Base Year or Comparison Year to be an amount equal to the like expenses which would normally be expected to be incurred had such occupancy been 95% throughout such Base Year or Comparison Year.

          (f) “Statement” shall mean a reasonably detailed statement containing a comparison of (i) the Taxes payable for the Base Year and for any Comparison Year, or (ii) the Base Operating Expenses and the Operating Expenses payable for any Comparison Year.

          (g) “Taxes” shall mean (i) all real estate taxes, assessments, sewer and water rents, rates and charges and other governmental levies, impositions or charges, whether general, special, ordinary, extraordinary, foreseen or unforeseen, which may be assessed, levied or imposed upon all or any part of the Real Property, and (ii) all expenses (including reasonable attorneys’ fees and disbursements and experts’ and other witnesses’ fees) incurred in contesting any of the foregoing or the Assessed Valuation of the Real Property. Taxes shall not include (x) interest or penalties incurred by Landlord as a result of Landlord’s late payment of Taxes, or (y)

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franchise, transfer, gift, inheritance, estate or net income taxes imposed upon Landlord. For purposes hereof, “Taxes” for any calendar year shall be deemed to be the Taxes which are assessed, levied or imposed for such calendar year regardless of when due or paid. If Landlord elects to pay any assessment in annual installments, then (i) such assessment shall be deemed to have been so divided and to be payable in the maximum number of installments permitted by law, and (ii) there shall be deemed included in Taxes for each Comparison Year the installments of such assessment becoming payable during such Comparison Year, together with interest payable during such Comparison Year on such installments and on all installments thereafter becoming due as provided by law, all as if such assessment had been so divided. If at any time the methods of taxation prevailing on the Effective Date shall be altered so that in lieu of or as an addition to the whole or any part of Taxes, there shall be assessed, levied or imposed (1) a tax, assessment, levy, imposition or charge based on the income or rents received from the Real Property whether or not wholly or partially as a capital levy or otherwise, (2) a tax, assessment, levy, imposition or charge measured by or based in whole or in part upon all or any part of the Real Property and imposed upon Landlord, (3) a license fee measured by the rents, or (4) any other tax, assessment, levy, imposition, charge or license fee however described or imposed, including business improvement district impositions then all such taxes, assessments, levies, impositions, charges or license fees or the part thereof so measured or based shall be deemed to be Taxes.

     Section 7.2 Tenant’s Tax Payment.

          (a) If the Taxes payable for any Comparison Year exceed the Base Taxes, Tenant shall pay to Landlord Tenant’s Proportionate Share of such excess (“Tenant’s Tax Payment”). For each Comparison Year, Landlord shall furnish to Tenant a statement setting forth Landlord’s reasonable estimate of Tenant’s Tax Payment for such Comparison Year (the “Tax Estimate”). Tenant shall pay to Landlord on the 1st day of each month during such Comparison Year an amount equal to 1/12 of the Tax Estimate for such Comparison Year. If Landlord furnishes a Tax Estimate for a Comparison Year subsequent to the commencement thereof, then (i) until the 1^st day of the month following the month in which the Tax Estimate is furnished to Tenant, Tenant shall pay to Landlord on the 1^st day of each month an amount equal to the monthly sum payable by Tenant to Landlord under this Section 7.2 during the last month of the preceding Comparison Year, (ii) promptly after the Tax Estimate is furnished to Tenant or together therewith, Landlord shall give notice to Tenant stating whether the installments of Tenant’s Tax Estimate previously made for such Comparison Year were greater or less than the installments of Tenant’s Tax Estimate to be made for such Comparison Year in accordance with the Tax Estimate, and (x) if there shall be a deficiency, Tenant shall pay the amount thereof within 30 days after demand therefor, or (y) if there shall have been an overpayment, Landlord shall credit the amount thereof against subsequent payments of Rent due hereunder, and (iii) on the 1^st day of the month following the month in which the Tax Estimate is furnished to Tenant, and on the 1^st day of each month thereafter throughout the remainder of such Comparison Year, Tenant shall pay to Landlord an amount equal to 1/12 of the Tax Estimate. Notwithstanding the foregoing, Tenant shall have no obligation to pay Tenant’s Tax Payment for the first 12 months after the Commencement Date.

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          (b) As soon as reasonably practicable after Landlord has determined the Taxes for a Comparison Year, Landlord shall furnish to Tenant a Statement for such Comparison Year. If the Statement shall show that the sums paid by Tenant under Section 7.2(a) exceeded the actual amount of Tenant’s Tax Payment for such Comparison Year, Landlord shall credit the amount of such excess against subsequent payments of Rent due hereunder, or if the Term has expired, Landlord shall refund the overpayment to Tenant within 30 days after the year-end Tax reconciliation.. If the Statement for such Comparison Year shall show that the sums so paid by Tenant were less than Tenant’s Tax Payment for such Comparison Year, Tenant shall pay the amount of such deficiency within 30 days after delivery of the Statement to Tenant.

          (c) Only Landlord may institute proceedings to reduce the Assessed Valuation of the Real Property and the filings of any such proceeding by Tenant without Landlord’s consent shall constitute an Event of Default. If the Taxes payable for the Base Year are reduced, the Base Taxes shall be correspondingly revised, the Additional Rent previously paid or payable on account of Tenant’s Tax Payment hereunder for all Comparison Years shall be recomputed on the basis of such reduction, and Tenant shall pay to Landlord within 30 days after being billed therefor, any deficiency between the amount of such Additional Rent previously computed and paid by Tenant to Landlord, and the amount due as a result of such recomputations. If Landlord receives a refund of Taxes for any Comparison Year, Landlord shall credit against subsequent payments of Rent due hereunder, an amount equal to Tenant’s Proportionate Share of the refund, net of any expenses incurred by Landlord in achieving such refund, which amount shall not exceed Tenant’s Tax Payment paid for such Comparison Year. Landlord shall not be obligated to file any application or institute any proceeding seeking a reduction in Taxes or the Assessed Valuation. The benefit of any exemption relating to all or any part of the Real Property shall accrue solely to the benefit of Landlord and Taxes shall be computed without taking into account any such exemption or abatement.

          (d) Tenant shall be responsible for any applicable occupancy or rent tax now in effect or hereafter enacted and, if payable by Landlord, Tenant shall promptly pay such amounts to Landlord, upon Landlord’s demand.

     Section 7.3 Tenant’s Operating Payment.

          (a) If the Operating Expenses payable for any Comparison Year exceed the Base Operating Expenses, Tenant shall pay to Landlord Tenant’s Proportionate Share of such excess (“Tenant’s Operating Payment”). For each Comparison Year, Landlord shall furnish to Tenant a written statement setting forth Landlord’s reasonable estimate of Tenant’s Operating Payment for such Comparison Year, based upon such year’s budget (the “Estimate”). Tenant shall pay to Landlord on the 1st day of each month during such Comparison Year an amount equal to 1/12 of Landlord’s estimate of Tenant’s Operating Payment for such Comparison Year. If Landlord furnishes an Estimate for a Comparison Year subsequent to the commencement thereof, then (a) until the 1st day of the month following the month in which the Estimate is furnished to Tenant, Tenant shall pay to Landlord on the 1st day of each month an amount equal to the monthly sum payable by Tenant to Landlord under this Section 7.3 during the last month of the preceding Comparison Year, (b) promptly after the Estimate is furnished to Tenant or together therewith, Landlord shall give notice to Tenant stating whether the installments of

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Tenant’s Operating Payment previously made for such Comparison Year were greater or less than the installments of Tenant’s Operating Payment to be made for such Comparison Year in accordance with the Estimate, and (i) if there shall be a deficiency, Tenant shall pay the amount thereof within 30 days after demand therefor, or (ii) if there shall have been an overpayment, Landlord shall credit the amount thereof against subsequent payments of Rent due hereunder, and (c) on the 1st day of the month following the month in which the Estimate is furnished to Tenant, and on the 1st day of each month thereafter throughout the remainder of such Comparison Year, Tenant shall pay to Landlord an amount equal to 1/12 of Tenant’s Operating Payment shown on the Estimate. Notwithstanding the foregoing, Tenant shall have no obligation to pay Tenant’s Operating Payment for the first 12 months after the Commencement Date.

          (b) On or before May 1st of each Comparison Year, Landlord shall furnish to Tenant a Statement for the immediately preceding Comparison Year. If the Statement shows that the sums paid by Tenant under Section 7.3(a) exceeded the actual amount of Tenant’s Operating Payment for such Comparison Year, Landlord shall credit the amount of such excess against subsequent payments of Rent due hereunder, or if the Term has expired, Landlord shall refund the overpayment to Tenant within 30 days after the year-end Operating Expense reconciliation. If the Statement shows that the sums so paid by Tenant were less than Tenant’s Operating Payment for such Comparison Year, Tenant shall pay the amount of such deficiency within 30 days after Tenant’s receipt of the Statement.

     Section 7.4 Non-Waiver; Disputes.

          (a) Landlord’s failure to render any Statement on a timely basis with respect to any Comparison Year shall not prejudice Landlord’s right to thereafter render a Statement with respect to such Comparison Year or any subsequent Comparison Year, nor shall the rendering of a Statement prejudice Landlord’s right to thereafter render a corrected Statement for that Comparison Year.

          (b) Each Statement sent to Tenant shall be conclusively binding upon Tenant unless Tenant (i) pays to Landlord when due the amount set forth in such Statement, without prejudice to Tenant’s right to dispute such Statement, and (ii) within 60 days after such Statement is sent, sends a notice to Landlord objecting to such Statement and specifying the reasons therefor. Tenant agrees that Tenant will not employ, in connection with any dispute under this Section, any person who is to be compensated in whole or in part, on a contingency fee basis. If the parties are unable to resolve any dispute as to the correctness of such Statement within 30 days following such notice of objection, either party may refer the issues raised to a national firm reasonably acceptable to the other with at least 200 certified public accountants, provided that the selected firm does not provide accounting or consulting services to either party and does not otherwise have an affiliation or business relationship with either party and the individual auditor’s area of expertise includes lease expense analysis. Notwithstanding the immediately preceding sentence, the parties hereby agree that any of the “Big Five” public accounting firms shall be acceptable, provided such firm has not served as an accountant for Landlord or Tenant within the preceding 12 month period. The decision of the agreed upon accountants shall be conclusively binding upon Landlord and Tenant. In connection therewith, Tenant and such accountants shall execute and deliver to Landlord a confidentiality agreement, in

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form and substance reasonably satisfactory to Landlord, whereby such parties agree not to disclose to any third party any of the information obtained in connection with such review. Tenant shall pay the fees and expenses relating to such procedure, unless such accountants determine that Landlord overstated Operating Expenses by more than 5% for such Comparison Year, in which case Landlord shall pay such fees and expenses.

     Section 7.5 Final Year of Term. If the Expiration Date occurs on a date other than December 31st, any Additional Rent under this Article 7 for the Comparison Year in which such Expiration Date occurs shall be apportioned on the basis of the number of days in the period from January 1st to the Expiration Date. Upon the expiration or earlier termination of this Lease, any Additional Rent under this Article 7 shall be paid or adjusted within 30 days after submission of the Statement.

     Section 7.6 No Reduction in Rent. In no event shall any decrease in Operating Expenses or Taxes in any Comparison Year below the Base Operating Expenses or Base Taxes, as the case may be, result in a reduction in the Fixed Rent or any other component of Additional Rent payable hereunder.

     Section 7.7 Cap on Controllables. Any provision of this Lease to the contrary notwithstanding, Landlord and Tenant agree as follows:

          (a) For purposes of calculating Tenant’s liability for payment of Tenant’s Share of Controllable Operating Expenses, Controllable Operating Expenses for any calendar year after the Base Year shall be deemed not to have exceeded the Cap. The “Cap” means the product of the Controllable Operating Expenses incurred during the Base Year multiplied by 105% (compounded annually for each calendar year (or partial calendar year) after the Base Year for which the Cap is being determined). For example, if the Controllable Operating Expenses incurred during the Base Year were $10,000, then the Cap would be $10,500 (i.e., $10,000 x 105%) for the first calendar year after the Base Year; $11,025 (i.e., $10,500 x 105%) for the second calendar year after the Base Year; $11,576.25 (i.e., $11,025 X 105%) for the third calendar year after the Base Year; and so on.

          (b) “Controllable Operating Expenses” means all Operating Expenses other than those incurred for: (i) property management fees; (ii) costs incurred to comply with laws; (iii) [Intentionally Omitted]; (iv) property owner association dues and charges, (v) insurance premiums, (vi) utility costs, (vii) [Intentionally Omitted], and (viii) costs incurred for ice and snow removal.

          (c) All payment calculations under this Article shall be prorated for any partial calendar years during the Term and all calculations shall be based upon Operating Expenses as grossed-up in accordance with the terms of this Lease.

          (d) Taxes are not included in Operating Expenses and, therefore, Tenant’s Tax Payments shall not be affected by the provisions of this Section.

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ARTICLE 8

REQUIREMENTS OF LAW

     Section 8.1 Compliance with Requirements.

          (a) Tenant’s Compliance. Tenant, at its expense, shall comply with all Requirements applicable to Tenant’s use and occupancy of the Premises; provided, however, that Tenant shall not be obligated to comply with any Requirements requiring any structural alterations to the Building unless the application of such Requirements arises from (i) the specific manner and nature of Tenant’s use or occupancy of the Premises, as distinct from general office use, (ii) Alterations made by Tenant, or (iii) a breach by Tenant of any provisions of this Lease. Any such repairs or alterations shall be made at Tenant’s expense by Tenant (1) in compliance with Article 5 if such repairs or alterations are nonstructural and do not affect any Building System, or (2) by Landlord if such repairs or alterations are structural or affect any Building System. If Tenant obtains knowledge of any failure to comply with any Requirements applicable to the Premises, Tenant shall give Landlord prompt notice thereof.

          (b) Hazardous Materials. Tenant shall not cause or permit (i) any Hazardous Materials to be brought into the Building, (ii) the storage or use of Hazardous Materials in any manner other than in full compliance with any Requirements, or (iii) the escape, disposal or release of any Hazardous Materials within or in the vicinity of the Building. Nothing herein shall be deemed to prevent Tenant’s use of any Hazardous Materials customarily used in the ordinary course of office work, provided such use is in accordance with all Requirements. Tenant shall be responsible, at its expense, for all matters directly or indirectly based on, or arising or resulting from the presence of Hazardous Materials in the Building which is caused or permitted by a Tenant Party. Tenant shall provide to Landlord copies of all communications received by Tenant with respect to any Requirements relating to Hazardous Materials, and/or any claims made in connection therewith. Landlord or its agents may perform environmental inspections of the Premises at any time.

          (c) Landlord’s Compliance. Landlord shall comply with (or cause to be complied with) all Requirements applicable to the Real Property which are not the obligation of Tenant, to the extent that non-compliance would materially impair Tenant’s use and occupancy of the Premises for the Permitted Uses.

          (d) Landlord’s Insurance. Tenant shall not cause or permit any action or condition that would (i) invalidate or conflict with Landlord’s insurance policies, (ii) violate applicable rules, regulations and guidelines of the Fire Department, Fire Insurance Rating Organization or any other authority having jurisdiction over the Building, (iii) cause an increase in the premiums of fire insurance for the Building over that payable with respect to Comparable Buildings, or (iv) result in Landlord’s insurance companies’ refusing to insure the Building or any property therein in amounts and against risks as reasonably determined by Landlord. If fire insurance premiums increase as a result of Tenant’s failure to comply with the provisions of this

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Section 8.1, Tenant shall promptly cure such failure and shall reimburse Landlord for the increased fire insurance premiums paid by Landlord as a result of such failure by Tenant.

     Section 8.2 Fire and Life Safety. Landlord has installed a fire alarm and life safety system in the Premises as part of its completion of the Building shell work. Any modifications to the fire alarm and life safety systems installed as part of the Building shell work required by Tenant or completed as part of the Tenant Improvements shall be at Tenant’s sole cost and expense, except with respect to any such modifications that are part of the Tenant Improvements. If the Fire Insurance Rating Organization or any Governmental Authority or any of Landlord’s insurers requires or recommends any modifications and/or alterations be made or any additional equipment be supplied in connection with the sprinkler system or fire alarm and life-safety system serving the Building by reason of Tenant’s business, any Alterations performed by Tenant or the location of the partitions, Tenant’s Property, or other contents of the Premises, Landlord (to the extent outside of the Premises) or Tenant (to the extent within the Premises) shall make such modifications and/or Alterations, and supply such additional equipment, in either case at Tenant’s expense.

ARTICLE 9

SUBORDINATION

     Section 9.1 Subordination and Attornment.

          (a) This Lease is subject and subordinate to all Mortgages and Superior Leases, and, at the request of any Mortgagee or Lessor, Tenant shall attorn to such Mortgagee or Lessor, its successors in interest or any purchaser in a foreclosure sale.

          (b) If a Lessor or Mortgagee or any other person or entity shall succeed to the rights of Landlord under this Lease, whether through possession or foreclosure action or the delivery of a new lease or deed, then at the request of the successor landlord and upon such successor landlord’s written agreement to accept Tenant’s attornment and to recognize Tenant’s interest under this Lease, Tenant shall be deemed to have attorned to and recognized such successor landlord as Landlord under this Lease. The provisions of this Section 9.1 are self-operative and require no further instruments to give effect hereto; provided, however, that Tenant shall promptly execute and deliver any instrument that such successor landlord may reasonably request (i) evidencing such attornment, (ii) setting forth the terms and conditions of Tenant’s tenancy, and (iii) containing such other terms and conditions as may be required by such Mortgagee or Lessor, provided such terms and conditions do not increase the Rent, materially increase Tenant’s obligations or materially and adversely affect Tenant’s rights under this Lease. Upon such attornment this Lease shall continue in full force and effect as a direct lease between such successor landlord and Tenant upon all of the terms, conditions and covenants set forth in this Lease except that such successor landlord shall not be

               (i) liable for any act or omission of Landlord (except to the extent such act or omission continues beyond the date when such successor landlord succeeds to Landlord’s interest and Tenant gives notice of such act or omission);

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               (ii) subject to any defense, claim, counterclaim, set-off or offsets which Tenant may have against Landlord;

               (iii) bound by any prepayment of more than one month’s Rent to any prior landlord;

               (iv) bound by any obligation to make any payment to Tenant which was required to be made prior to the time such successor landlord succeeded to Landlord’s interest;

               (v) bound by any obligation to perform any work or to make improvements to the Premises except for (x) repairs and maintenance required to be made by Landlord under this Lease, and (y) repairs to the Premises as a result of damage by fire or other casualty or a partial condemnation pursuant to the provisions of this Lease, but only to the extent that such repairs can reasonably be made from the net proceeds of any insurance or condemnation awards, respectively, actually made available to such successor landlord;

               (vi) bound by any modification, amendment, or renewal of this Lease made without successor landlord’s consent after Tenant has notice of the identity of the successor landlord;

               (vii) liable for the repayment of any security deposit or surrender of any letter of credit, unless and until such security deposit actually is paid or such letter of credit is actually delivered to such successor landlord;

               (viii) liable for the payment of any unfunded tenant improvement allowance, refurbishment allowance or similar obligation; or

               (ix) bound by any provisions of the Lease with respect to the Existing Furnishings.

          (c) Tenant shall from time to time within 10 days of request from Landlord execute and deliver any documents or instruments that may be reasonably required by any Mortgagee or Lessor to confirm any subordination.

     Section 9.2 Mortgage or Superior Lease Defaults. Any Mortgagee may elect that this Lease shall have priority over the Mortgage and, upon notification to Tenant by such Mortgagee, this Lease shall be deemed to have priority over such Mortgage, regardless of the date of this Lease. In connection with any financing of the Real Property, Tenant shall consent to any reasonable modifications of this Lease requested by any lending institution, provided such modifications do not increase the Rent, materially increase the obligations, or materially and adversely affect the rights, of Tenant under this Lease.

     Section 9.3 Tenant’s Termination Right. As long as any Superior Lease or Mortgage exists, Tenant shall not seek to terminate this Lease by reason of any act or omission of Landlord until (a) Tenant shall have given notice of such act or omission to all Lessors and/or Mortgagees, and (b) a reasonable period of time shall have elapsed following the giving of notice of such default and the expiration of any applicable notice or grace periods (unless such act or

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omission is not capable of being remedied within a reasonable period of time), during which period such Lessors and/or Mortgagees shall have the right, but not the obligation, to remedy such act or omission and thereafter diligently proceed to so remedy such act or omission. If any Lessor or Mortgagee elects to remedy such act or omission of Landlord, Tenant shall not seek to terminate this Lease so long as such Lessor or Mortgagee is proceeding with reasonable diligence to effect such remedy.

     Section 9.4 Provisions. The provisions of this Article 9 shall (a) inure to the benefit of Landlord, any future owner of the Building or the Real Property, Lessor or Mortgagee and any sublessor thereof and (b) apply notwithstanding that, as a matter of law, this Lease may terminate upon the termination of any such Superior Lease or Mortgage.

     Section 9.5 Nondisturbance Agreement. Any provision of this Section to the contrary notwithstanding, Landlord shall use reasonable efforts (but without being obligated to commence any legal or arbitration proceeding and without the expenditure of unreimbursed sums (other than reasonable expenses that a landlord normally incurs in attempting to obtain a subordination, non-disturbance and attornment agreement for its tenant, such as Landlord’s attorneys’ fees)) to obtain for Tenant a subordination, non-disturbance and attornment agreement from all existing and all future Mortgagees and Lessors, in the standard form customarily employed by such Mortgagee and/or Lessor, provided that Tenant shall have no claim against Landlord, and Landlord shall have no liability to Tenant and the subordination provided for in this Lease shall not be affected in the event that Landlord is unable to obtain any such agreements.

     Section 9.6 Right to Terminate. Any provision of this Lease to the contrary notwithstanding, if Landlord does not obtain for Tenant, within 30 days after the Effective Date (the “Delivery Period”), a subordination, non-disturbance and attornment agreement from Landlord’s existing Mortgagee, in the standard form customarily employed by such Mortgagee, Tenant shall have the right, as Tenant’s sole remedy, to terminate this Lease by delivering to Landlord written notice of such termination within the 7 day period following the Delivery Period. If Tenant so elects to terminate this Lease, the termination shall be effective upon Landlord’s receipt of the aforesaid notice. If Tenant fails to so terminate this Lease, Tenant shall be deemed to have waived its right to such subordination, non-disturbance and attornment agreement.

ARTICLE 10

SERVICES

     Section 10.1 Electricity. Subject to any Requirements or any public utility rules or regulations governing energy consumption, Landlord shall make or cause to be made, customary arrangements with utility companies and/or public service companies to furnish electric current to the Premises for Tenant’s use in accordance with Annex 1 to the Work Letter attached hereto. If Landlord reasonably determines by the use of an electrical consumption survey or by other reasonable means that Tenant is using electric current (including overhead fluorescent fixtures) in excess of .60 kilowatt hours per square foot of usable area in the Premises per month, as

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determined on an annualized basis (“Excess Electrical Usage”), then Landlord shall have the right to charge Tenant an amount equal to Landlord’s reasonable estimate of Tenant’s Excess Electrical Usage, and shall have the further right to install an electric current meter, sub-meter or check meter in the Premises (a “Meter”) to measure the amount of electric current consumed in the Premises. The cost of such Meter special conduits, wiring and panels needed in connection therewith and the installation, maintenance and repair thereof shall be paid by Tenant. Tenant shall pay to Landlord, from time to time, but no more frequently than monthly, for its Excess Electrical Usage at the Premises. The rate to be paid by Tenant for submetered electricity shall include any taxes or other charges in connection therewith.

     Section 10.2 Excess Electricity. Tenant shall at all times comply with the rules and regulations of the utility company supplying electricity to the Building. Tenant shall not use any electrical equipment which, in Landlord’s reasonable judgment, would exceed the capacity of the electrical equipment serving the Premises. If Landlord determines that Tenant’s electrical requirements necessitate installation of any additional risers, feeders or other electrical distribution equipment (collectively, “Electrical Equipment”), or if Tenant provides Landlord with evidence reasonably satisfactory to Landlord of Tenant’s need for excess electricity and requests that additional Electrical Equipment be installed, Landlord shall, at Tenant’s expense, install such additional Electrical Equipment, provided that Landlord, in its sole judgment, determines that (a) such installation is practicable and necessary, (b) such additional Electrical Equipment is permissible under applicable Requirements, and (c) the installation of such Electrical Equipment will not cause permanent damage to the Building or the Premises, cause or create a hazardous condition, entail excessive or unreasonable alterations, interfere with or limit electrical usage by other tenants or occupants of the Building or exceed the limits of the switchgear or other facilities serving the Building, or require power in excess of that available from the utility company serving the Building.

     Section 10.3 Elevators. Landlord shall provide elevator service to the Premises 24 hours per day, 7 days per week, subject to the Rules and Regulations attached hereto as Exhibit F.

     Section 10.4 Heating, Ventilation and Air Conditioning. Landlord shall furnish to the Premises heating, ventilation and air-conditioning (“HVAC”) in accordance with Annex 1 to the Work Letter during Ordinary Business Hours. Landlord shall have access to all air-cooling, fan, ventilating and machine rooms and electrical closets and all other mechanical installations of Landlord (collectively, “Mechanical Installations”), and Tenant shall not construct partitions or other obstructions which may interfere with Landlord’s access thereto or the moving of Landlord’s equipment to and from the Mechanical Installations. No Tenant Party shall at any time enter the Mechanical Installations or tamper with, adjust, or otherwise affect such Mechanical Installations. Landlord shall not be responsible if the HVAC System fails to provide cooled or heated air, as the case may be, to the Premises by reason of (i) any equipment installed by, for or on behalf of Tenant, which has an electrical load in excess of the average electrical load and human occupancy factors for the HVAC System as designed, or (ii) any rearrangement of partitioning or other Alterations made or performed by, for or on behalf of Tenant. Tenant shall cooperate with Landlord and shall abide by the rules and regulations which Landlord may reasonably prescribe for the proper functioning and protection of the HVAC System. Landlord

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shall not be responsible if the HVAC System fails to provide cooled or heated air, as the case may be, to the Premises by reason of (i) any equipment installed by, for or on behalf of Tenant, which has an electrical load in excess of the average electrical load and human occupancy factors for the HVAC System as designed, or (ii) any rearrangement of partitioning or other Alterations made or performed by, for or on behalf of Tenant. Tenant shall cooperate with Landlord and shall abide by the rules and regulations which Landlord may reasonably prescribe for the proper functioning and protection of the HVAC System.

     Section 10.5 Overtime HVAC. The Fixed Rent does not include any charge to Tenant for the furnishing of HVAC to the Premises during any periods other than Ordinary Business Hours (“Overtime Periods”). If Tenant desires HVAC services during Overtime Periods, Tenant shall deliver notice to the Building office requesting such services by 2:00 p.m. of the Business Day on which or preceding the date such services are requested; provided, however, that Landlord shall use reasonable efforts to arrange such service on such shorter notice as Tenant shall provide. If Landlord furnishes HVAC service during Overtime Periods, Tenant shall pay to Landlord the cost thereof at the then established rates for such services in the Building. The current rate charged for HVAC during Overtime Periods is $45.00 per hour per floor, which rate is subject to change during the Term.

     Section 10.6 Cleaning. Landlord shall cause the Premises (excluding any portions thereof used for the storage, preparation, service or consumption of food or beverages) to be cleaned, substantially in accordance with the standards set forth in Exhibit D. Any areas of the Premises requiring additional cleaning such as areas used for preparation or consumption of food, private bathrooms, computer rooms, mail rooms and trading floors shall be cleaned, at Tenant’s expense, by Landlord’s cleaning contractor, at rates which shall be competitive with rates of other cleaning contractors providing comparable services to Comparable Buildings. Landlord’s cleaning contractor and its employees shall have access to the Premises at all times except between 8:00 a.m. and 5:30 p.m. on weekdays which are not Observed Holidays.

     Section 10.7 Water. Landlord, at Landlord’s expense, shall provide water in the core lavatories, drinking fountains and janitor’s closets on each floor of the Building. If Tenant requires water in excess of that used by an average office building tenant of similar size using its premises for ordinary office use, Tenant shall pay for the cost of bringing water to the Premises and Landlord may install a meter to measure the water. Tenant shall pay the cost of such installation, and for all maintenance, repairs and replacements thereto, and for the reasonable charges of Landlord for the water consumed.

     Section 10.8 Refuse Removal. Landlord shall provide refuse removal services at the Building. Tenant shall pay to Landlord, Landlord’s reasonable charge for such removal to the extent that the refuse generated by Tenant exceeds the refuse customarily generated by general office tenants. Tenant shall not dispose of any refuse in the Common Areas, and if Tenant does so, Tenant shall be liable for Landlord’s reasonable charge for such removal.

     Section 10.9 Directory. Landlord shall list Tenant on the Building directory located in the first floor lobby. The Building directory will be shared with other Building tenants.

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     Section 10.10 Tenant Access to Premises. Tenant shall have access to the Premises 24 hours a day, 7 days a week. Outside of Ordinary Business Hours, Building and floor access will be monitored by an electronic key security and access system installed and maintained by Landlord. Landlord shall be responsible for access control to the Building, which access control shall be at least to the access control standard found at typical Comparable Buildings. Tenant shall be responsible for access control to the Premises at Tenant’s sole cost and expense. Landlord will deliver (or cause to be delivered) to Tenant, at Landlord’s expense, 250 Building access cards. Any additional or replacement cards will be issued at Tenant’s expense.

     Section 10.11 Service Interruptions. Landlord reserves the right to suspend any service when necessary, by reason of Unavoidable Delays, accidents or emergencies, or for Restorative Work which, in Landlord’s reasonable judgment, are necessary or appropriate until such Unavoidable Delay, accident or emergency shall cease or such Restorative Work is completed and Landlord shall not be liable for any interruption, curtailment or failure to supply services. Landlord shall use reasonable efforts to minimize interference with Tenant’s use and occupancy of the Premises as a result of any such failure, defect or interruption of any such service, or change in the supply, character and/or quantity of, electrical service, and to restore any such services, remedy such situation and minimize any interference with Tenant’s business. The exercise of any such right or the occurrence of any such failure by Landlord shall not constitute an actual or constructive eviction, in whole or in part, entitle Tenant to any compensation, abatement or diminution of Rent, relieve Tenant from any of its obligations under this Lease, or impose any liability upon Landlord or any Indemnified Party by reason of inconvenience to Tenant, or interruption of Tenant’s business, or otherwise. Landlord shall not be liable in any way to Tenant for any failure, defect or interruption of, or change in the supply, character and/or quantity of electrical service furnished to the Premises for any reason except if attributable to the gross negligence or willful misconduct of Landlord.

ARTICLE 11

INSURANCE; PROPERTY LOSS OR DAMAGE

     Section 11.1 Tenant’s Insurance.

          (a) Tenant, at its expense, shall obtain and keep in full force and effect during the Term:

               (i) a policy of commercial general liability insurance on an occurrence basis against claims for personal injury, bodily injury, death and/or property damage occurring in or about the Building, under which Tenant is named as the insured and Landlord, Landlord’s Agent and any Lessors and any Mortgagees whose names have been furnished to Tenant are named as additional insureds (the “Insured Parties”). Such insurance shall provide primary coverage without contribution from any other insurance carried by or for the benefit of the Insured Parties, and Tenant shall obtain blanket broad-form contractual liability coverage to insure its indemnity obligations set forth in Article 25. The minimum limits of liability shall be (a) a combined single limit with respect to each occurrence in an amount of not less than $1,000,000; and (b) Umbrella/Excess Liability with limits of not less than $10,000,000 combined

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single limit in excess of the above-referenced commercial general liability. The deductible or self insured retention for such policy shall not exceed $25,000;

               (ii) insurance against loss or damage by fire, and such other risks and hazards as are insurable under then available standard forms of “Special Form Causes of Loss” or “All Risk” property insurance policies, insuring Tenant’s Property and all Alterations and improvements to the Premises (including the initial installations) to the extent such Alterations and improvements exceed the cost of the improvements typically performed in connection with the initial occupancy of tenants in the Building (“Building Standard Installations”), for the full insurable value thereof or replacement cost thereof, having a deductible amount, if any, not in excess of $25,000; and insurance against loss or damage by fire, and such other risks and hazards as are insurable under then available standard forms of “Special Form Causes of Loss” or “All Risk” property insurance policies, insuring the Existing Furnishings for the full insurable value thereof or replacement cost thereof, having a deductible amount, if any, not in excess of $25,000;

               (iii) during the performance of any Alteration, until completion thereof, Builder’s Risk insurance on an “all risk” basis and on a completed value form including a Permission to Complete and Occupy endorsement, for full replacement value covering the interest of Landlord and Tenant (and their respective contractors and subcontractors) in all work incorporated in the Building and all materials and equipment in or about the Premises;

               (iv) Workers’ Compensation Insurance, as required by law;

               (v) [Intentionally Omitted]; and

               (vi) during the Extension Term, such other insurance in such amounts as the Insured Parties may reasonably require from time to time, but only if Landlord has informed Tenant of such other insurance requirements prior to the date on which Tenant gives Landlord notice that Tenant elects to lease the Premises for the Extension Term pursuant to Rider No. 1 — Extension Option.

          (b) All insurance required to be carried by Tenant (i) shall contain a provision that (x) no act or omission of Tenant shall affect or limit the obligation of the insurance company to pay the amount of any loss sustained, and (y) shall be noncancellable and/or no material change in coverage shall be made thereto unless the Insured Parties receive 30 days’ prior notice of the same, by certified mail, return receipt requested, and (ii) shall be effected under valid and enforceable policies issued by reputable insurers permitted to do business in the Commonwealth of Virginia and rated in Best’s Insurance Guide, or any successor thereto as having a “Best’s Rating” of “A-” or better and a “Financial Size Category” of at least “X” or better or, if such ratings are not then in effect, the equivalent thereof or such other financial rating as Landlord may at any time consider appropriate.

          (c) On or prior to the Commencement Date, Tenant shall deliver to Landlord appropriate policies of insurance, including evidence of waivers of subrogation required to be carried pursuant to this Article 11 and that the Insured Parties are named as additional insureds (the “Policies”). Tenant shall provide evidence of each renewal or replacement of the Policies and shall use commercially reasonable efforts to deliver such evidence to Landlord at least 10

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days prior to the expiration of the Policies. Tenant shall also advise all Insured Parties in writing by certified mail, return receipt requested, at least 30 days in advance of any termination or change to the Policies that would affect the interest of any of the Insured Parties. In lieu of the Policies, Tenant may deliver to Landlord a certification from Tenant’s insurance company (on the form currently designated “Acord 27” (Evidence of Property Insurance) and “Acord 25-S” (Certificate of Liability Insurance), or the equivalent, provided that attached thereto is an endorsement to Tenant’s commercial general liability policy naming the Insured Parties as additional insureds) which shall be binding on Tenant’s insurance company, and which shall expressly provide that such certification conveys to the Insured Parties all the rights and privileges afforded under the Policies as primary insurance.

     Section 11.2 Waiver of Subrogation. Landlord and Tenant shall each procure an appropriate clause in or endorsement to any property insurance covering the Real Property and personal property, fixtures and equipment located therein, wherein the insurer waives subrogation or consents to a waiver of right of recovery, and Landlord and Tenant agree not to make any claim against, or seek to recover from, the other for any loss or damage to its property or the property of others resulting from fire or other hazards to the extent covered by such property insurance; provided, however, that the release, discharge, exoneration and covenant not to sue contained herein shall be limited by and be coextensive with the terms and provisions of the waiver of subrogation or waiver of right of recovery. Tenant acknowledges that Landlord shall not carry insurance on, and shall not be responsible for, (i) damage to any Above Building Standard Installations, (ii) Tenant’s Property, and (iii) any loss suffered by Tenant due to interruption of Tenant’s business.

     Section 11.3 Restoration.

          (a) If the Premises are damaged by fire or other casualty, or if the Building is damaged such that Tenant is deprived of reasonable access to the Premises, the damage shall be repaired by Landlord, to substantially the condition of the Premises prior to the damage, subject to the provisions of any Mortgage or Superior Lease, but Landlord shall have no obligation to repair or restore (i) Tenant’s Property or (ii) except as provided in Section 11.3(b), any Alterations or improvements to the Premises, to the extent such Alterations or improvements exceed Building Standard Installations (“Above Building Standard Installations”). So long as Tenant is not in default beyond applicable grace or notice provisions in the payment or performance of its obligations under this Section 11.3, and provided Tenant timely delivers to Landlord either Tenant’s Restoration Payment (as hereinafter defined) or the Restoration Security (as hereinafter defined) or Tenant expressly waives any obligation of Landlord to repair or restore any of Tenant’s Above Building Standard Installations, then until the restoration of the Premises is Substantially Completed or would have been Substantially Completed but for Tenant delay, Fixed Rent, Tenant’s Tax Payment and Tenant’s Operating Payment shall be reduced in the proportion by which the area of the part of the Premises which is not usable (or accessible ) and is not used by Tenant bears to the total area of the Premises.

          (b) As a condition precedent to Landlord’s obligation to repair or restore any Above Building Standard Installations, Tenant shall pay to Landlord upon demand a sum (“Tenant’s Restoration Payment”) equal to the amount, if any, by which (A) the cost, as

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estimated by a reputable independent contractor designated by Landlord, of repairing and restoring all Alterations and Tenant Improvements in the Premises to their condition prior to the damage, exceeds (B) the cost of restoring the Premises with Building Standard Installations. If Tenant shall fail to deliver to Landlord either (1) Tenant’s Restoration Payment, or (2) a waiver by Tenant, in form satisfactory to Landlord, of all of Landlord’s obligations to repair or restore any of the Above Building Standard Installations, in either case within 15 days after Landlord’s demand therefor, Landlord shall have no obligation to restore any Above Building Standard Installations and Tenant’s abatement of Fixed Rent, Tenant’s Tax Payment and Tenant’s Operating Payment shall cease when the restoration of the Premises (other than any Above Building Standard Installations) is Substantially Complete.

     Section 11.4 Landlord’s Termination Right. Notwithstanding anything to the. contrary contained in Section 11.3, if the Premises are totally damaged or are rendered wholly untenantable, or if the Building shall be so damaged that, in Landlord’s reasonable opinion, substantial alteration, demolition, or reconstruction of the Building shall be required (whether or not the Premises are so damaged or rendered untenantable), then in either of such events, Landlord may, not later than 60 days following the date of the damage, terminate this Lease by notice to Tenant, provided that if the Premises are not damaged, Landlord may not terminate this Lease unless Landlord similarly terminates the leases of other tenants in the Building aggregating at least 50% of the portion of the Building occupied for office purposes immediately prior to such damage. If this Lease is so terminated, (a) the Term shall expire upon the 30th day after such notice is given, (b) Tenant shall vacate the Premises and surrender the same to Landlord, (c) Tenant’s liability for Rent shall cease as of the date of the damage, and (d) any prepaid Rent for any period after the date of the damage shall be refunded by Landlord to Tenant.

     Section 11.5 Tenant’s Termination Right. If the Premises are totally damaged and are thereby rendered wholly untenantable, or if the Building shall be so damaged that Tenant is deprived of reasonable access to the Premises, and if Landlord elects to restore the Premises, Landlord shall, within 60 days following the date of the damage, cause a contractor or architect selected by Landlord to give notice (the “Restoration Notice”) to Tenant of the date by which such contractor or architect estimates the restoration of the Premises (excluding any Above Building Standard Installations) shall be Substantially Completed. If such date, as set forth in the Restoration Notice, is more than 12 months from the date of such damage, then Tenant shall have the right to terminate this Lease by giving notice (the “Termination Notice”) to Landlord not later than 30 days following delivery of the Restoration Notice to Tenant. If Tenant delivers a Termination Notice, this Lease shall be deemed to have terminated as of the date of the giving of the Termination Notice, in the manner set forth in the second sentence of Section 11.4.

     Section 11.6 Final 18 Months. Notwithstanding anything to the contrary in this Article 11, if any damage during the final 18 months of the Term renders the Premises wholly untenantable, either Landlord or Tenant may terminate this Lease by notice to the other party within 30 days after the occurrence of such damage and this Lease shall expire on the 30th day after the date of such notice. For purposes of this Article, the Premises shall be deemed wholly untenantable if Tenant shall be precluded from using more than 50% of the Premises for the conduct of its business and Tenant’s inability to so use the Premises is reasonably expected to continue for more than 90 days.

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     Section 11.7 Landlord’s Liability. Any Building employee to whom any property shall be entrusted by or on behalf of Tenant shall be deemed to be acting as Tenant’s agent with respect to such property and neither Landlord nor its agents shall be liable for any damage to such property, or for the loss of or damage to any property of Tenant by theft or otherwise. For example, if a Tenant employee leaves an envelope with a Building lobby guard for pick-up by a messenger service, Landlord will not be responsible if such package is misplaced, stolen, damaged or picked up by the wrong messenger service. None of the Insured Parties shall be liable for any injury or damage to persons or property or interruption of Tenant’s business resulting from fire or other casualty, any damage caused by other tenants or persons in the Building or the parking facilities or by construction of any private, public or quasi-public work, or any latent defect in the Premises or in the Building or the parking facilities (except that Landlord shall be required to repair the same to the extent provided in Article 6). No penalty shall accrue for delays which may arise by reason of adjustment of fire insurance on the part of Landlord or Tenant, or for any Unavoidable Delays arising from any repair or restoration of any portion of the Building, provided that Landlord shall use reasonable efforts to minimize interference with Tenant’s use and occupancy of the Premises during the performance of any such repair or restoration.

     Section 11.8 Landlord’s Insurance. During the Term, Landlord shall maintain in effect such policies of insurance as are at least in such amounts (and are subject to no larger deductibles) as are customarily carried by landlords of Comparable Buildings, including, without limitation, insurance against loss or damage by fire, and such other risks and hazards as are insurable under then available forms of “all risk” property insurance policies with extended coverage, insuring the Building for the full insurable value thereof or replacement cost thereof (exclusive of footing and foundation costs).

ARTICLE 12

EMINENT DOMAIN

     Section 12.1 Taking.

          (a) Total Taking. If all or substantially all of the Real Property, the Building or the Premises shall be acquired or condemned for any public or quasi-public purpose (a “Taking”), this Lease shall terminate and the Term shall end as of the date of the vesting of title and Rent shall be prorated and adjusted as of such date.

          (b) Partial Taking. Upon a Taking of only a part of the Real Property, the Building or the Premises then, except as hereinafter provided in this Article 12, this Lease shall continue in full force and effect, provided that from and after the date of the vesting of title, Fixed Rent and Tenant’s Proportionate Share shall be modified to reflect the reduction of the Premises and/or the Building and/or Tenant’s loss of any parking rights as a result of such Taking.

          (c) Landlord’s Termination Right. Whether or not the Premises are affected, Landlord may, by notice to Tenant, within 60 days following the date upon which Landlord receives notice of the Taking of all or a portion of the Real Property, the Building or the

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Premises, terminate this Lease, provided that Landlord elects to terminate leases (including this Lease) affecting at least 50% of the rentable area of the Building.

          (d) Tenant’s Termination Right. If the part of the Real Property so Taken contains more than 20% of the total area of the Premises occupied by Tenant immediately prior to such Taking, or if, by reason of such Taking, Tenant no longer has reasonable means of access to the Premises or if Tenant’s parking rights are totally or substantially curtailed, Tenant may terminate this Lease by notice to Landlord given within 30 days following the date upon which Tenant is given notice of such Taking. If Tenant so notifies Landlord, this Lease shall end and expire upon the 30th day following the giving of such notice. If a part of the Premises shall be so Taken and this Lease is not terminated in accordance with this Section 12.1 Landlord, without being required to spend more than it collects as an award, shall, subject to the provisions of any Mortgage or Superior Lease, restore that part of the Premises not so Taken to a self-contained rental unit substantially equivalent (with respect to character, quality, appearance and services) to that which existed immediately prior to such Taking, excluding Tenant’s Property and Above Building Standard Installations.

          (e) Apportionment of Rent. Upon any termination of this Lease pursuant to the provisions of this Article 12, Rent shall be apportioned as of, and shall be paid or refunded up to and including, the date of such termination.

     Section 12.2 Awards. Upon any Taking, Landlord shall receive the entire award for any such Taking, and Tenant shall have no claim against Landlord or the condemning authority for the value of any unexpired portion of the Term or Tenant’s Alterations; and Tenant hereby assigns to Landlord all of its right in and to such award. Nothing contained in this Article 12 shall be deemed to prevent Tenant from making a separate claim in any condemnation proceedings for the then value of any Tenant’s Property or Above Building Standard Installations included in such Taking and for any moving expenses, provided any such award is in addition to, and does not result in a reduction of, the award made to Landlord.

     Section 12.3 Temporary Taking. If all or any part of the Premises is Taken temporarily during the Term for any public or quasi-public use or purpose, Tenant shall give prompt notice to Landlord and the Term shall not be reduced or affected in any way and Tenant shall continue to pay all Rent payable by Tenant without reduction or abatement and to perform all of its other obligations under this Lease, except to the extent prevented from doing so by the condemning authority, and Tenant shall be entitled to receive any award or payment from the condemning authority for such use.

ARTICLE 13

ASSIGNMENT AND SUBLETTING

     Section 13.1 Consent Requirements.

          (a) No Assignment or Subletting. Except as expressly set forth herein, Tenant shall not assign, mortgage, pledge, encumber, or otherwise transfer this Lease, whether by operation of law or otherwise, and shall not sublet, or permit, or suffer the Premises or any part

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thereof to be used or occupied by others (whether for desk space, mailing privileges or otherwise), without Landlord’s prior consent in each instance. Any assignment, sublease, mortgage, pledge, encumbrance or transfer in contravention of the provisions of this Article 13 shall be void and shall constitute an Event of Default.

          (b) Collection of Rent. If, without Landlord’s consent, this Lease is assigned, or any part of the Premises is sublet or occupied by anyone other than Tenant or this Lease is encumbered (by operation of law or otherwise), Landlord may collect rent from the assignee, subtenant or occupant, and apply the net amount collected to the Rent herein reserved. No such collection shall be deemed a waiver of the provisions of this Article 13, an acceptance of the assignee, subtenant or occupant as tenant, or a release of Tenant from the performance of Tenant’s covenants hereunder, and in all cases Tenant shall remain fully liable for its obligations under this Lease.

          (c) Further Assignment/Subletting. Landlord’s consent to any assignment or subletting shall not relieve Tenant from the obligation to obtain Landlord’s consent to any further assignment or subletting. In no event shall any permitted subtenant assign or encumber its sublease or further sublet any portion of its sublet space, or otherwise suffer or permit any portion of the sublet space to be used or occupied by others.

     Section 13.2 Tenant’s Notice. If Tenant desires to assign this Lease or sublet all or any portion of the Premises, Tenant shall give notice thereof to Landlord, which shall be accompanied by (a) with respect to an assignment of this Lease, the date Tenant desires the assignment to be effective; (b) with respect to a sublet of all or a part of the Premises, a description of the portion of the Premises to be sublet and the commencement and expiration dates (together with all extension options) of such sublet; and (c) a copy of a bona fide term sheet or letter of intent pertaining to such proposed assignment or sublease and executed by Tenant and the proposed assignee or subtenant. If Tenant desires to assign this Lease or if Tenant desires to sublet as aforesaid and the term (including, if exercised, any extension option(s)) of the sublease that will expire during the last 12 months of the then Term, such notice shall, except with respect to a Permitted Transfer, be deemed an irrevocable offer from Tenant to Landlord of the right, at Landlord’s option, (1) to terminate this Lease with respect to such space as Tenant proposes to sublease (the “Partial Space”), upon the terms and conditions hereinafter set forth, or (2) if the proposed transaction is an assignment of this Lease, to terminate this Lease with respect to the entire Premises. Such option may be exercised by notice from Landlord to Tenant within 30 days after delivery of Tenant’s notice. If Landlord exercises its option to terminate all or a portion of this Lease, (a) this Lease shall end and expire with respect to all or a portion of the Premises, as the case may be, on the date that such assignment or sublease was to commence, (b) Rent shall be apportioned, paid or refunded as of such date, (c) Tenant, upon Landlord’s request, shall enter into an amendment of this Lease ratifying and confirming such total or partial termination, and setting forth any appropriate modifications to the terms and provisions hereof, and (d) Landlord shall be free to lease the Premises (or any part thereof) to Tenant’s prospective assignee or subtenant. Tenant shall pay all costs to make the Partial Space a self-contained rental unit and to install any required Building corridors.

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     Section 13.3 Conditions to Assignment/Subletting.

          (a) If Landlord does not exercise its termination option provided under Section 13.2, and provided no Event of Default then exists, Landlord’s consent to the proposed assignment or subletting shall not be unreasonably withheld or delayed. Such consent shall be granted or denied within 15 days after delivery to Landlord of (i) a true and complete statement reasonably detailing the identity of the proposed assignee or subtenant (“Transferee”), the nature of its business and its proposed use of the Premises, (ii) current financial information with respect to the Transferee, including its most recent financial statements, and (iii) any other information Landlord may reasonably request, provided that:

               (i) in Landlord’s reasonable judgment, the Transferee is engaged in a business or activity, and the Premises will be used in a manner, which (1) is in keeping with the then standards of the Building, (2) is for the Permitted Uses, and (3) does not violate any restrictions set forth in this Lease, any Mortgage or Superior Lease or any negative covenant as to use of the Premises required by any other lease in the Building;

               (ii) the Transferee is reputable with sufficient financial means to perform all of its obligations under this Lease or the sublease, as the case may be;

               (iii) [Intentionally Omitted];

               (iv) [Intentionally Omitted];

               (v) [Intentionally Omitted];

               (vi) Tenant shall, upon demand, reimburse Landlord for all reasonable expenses incurred by Landlord in connection with such assignment or sublease, including any investigations as to the acceptability of the Transferee and all legal costs (not to exceed $1,500) reasonably incurred in connection with the granting of any requested consent; and

               (vii) the Transferee shall not be entitled, directly or indirectly, to diplomatic or sovereign immunity, regardless of whether the Transferee agrees to waive such diplomatic or sovereign immunity, and shall be subject to the service of process in, and the jurisdiction of the courts of, the District of Columbia.

          (b) with respect to each and every subletting and/or assignment approved by Landlord under the provisions of this Lease:

               (i) the form of the proposed assignment or sublease shall be reasonably satisfactory to Landlord;

               (ii) [Intentionally Omitted];

               (iii) no Transferee shall take possession of any part of the Premises, until an executed counterpart of such sublease or assignment has been delivered to Landlord and approved by Landlord as provided in Section 13.3;

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               (iv) if an Event of Default occurs prior to the effective date of such assignment or subletting, then Landlord’s consent thereto, if previously granted, shall be immediately deemed revoked without further notice to Tenant, and if such assignment or subletting would have been permitted without Landlord’s consent pursuant to Section 13.7, such permission shall be void and without force and effect, and in either such case, any such assignment or subletting shall constitute a further Event of Default hereunder; and

               (v) each sublease shall be subject and subordinate to this Lease and to the matters to which this Lease is or shall be subordinate; and Tenant and each Transferee shall be deemed to have agreed that upon the occurrence and during the continuation of an Event of Default hereunder, Tenant has hereby assigned to Landlord, and Landlord may, at its option, accept such assignment of, all right, title and interest of Tenant as sublandlord under such sublease, together with all modifications, extensions and renewals thereof then in effect and such Transferee shall, at Landlord’s option, attorn to Landlord pursuant to the then executory provisions of such sublease, except that Landlord shall not be (A) liable for any previous act or omission of Tenant under such sublease, (B) subject to any counterclaim, offset or defense not expressly provided in such sublease, which theretofore accrued to such Transferee against Tenant, (C) bound by any previous modification of such sublease not consented to by Landlord or by any prepayment of more than one month’s rent, (D) bound to return such Transferee’s security deposit, if any, except to the extent Landlord shall receive actual possession of such deposit and such Transferee shall be entitled to the return of all or any portion of such deposit under the terms of its sublease, or (E) obligated to make any payment to or on behalf of such Transferee, or to perform any work in the subleased space or the Building, or in any way to prepare the subleased space for occupancy, beyond Landlord’s obligations under this Lease. The provisions of this Section 13.3(b)(v) shall be self-operative, and no further instrument shall be required to give effect to this provision, provided that the Transferee shall execute and deliver to Landlord any instruments Landlord may reasonably request to evidence and confirm such subordination and attornment.

     Section 13.4 Binding on Tenant; Indemnification of Landlord. Notwithstanding any assignment or subletting or any acceptance of rent by Landlord from any Transferee, Tenant shall remain fully liable for the payment of all Rent due and for the performance of all the covenants, terms and conditions contained in this Lease on Tenant’s part to be observed and performed, and any default under any term, covenant or condition of this Lease by any Transferee or anyone claiming under or through any Transferee shall be deemed to be a default under this Lease by Tenant. Tenant shall indemnify, defend, protect and hold harmless Landlord from and against any and all Losses resulting from any claims that may be made against Landlord by the Transferee or anyone claiming under or through any Transferee or by any brokers or other persons claiming a commission or similar compensation in connection with the proposed assignment or sublease, irrespective of whether Landlord shall give or decline to give its consent to any proposed assignment or sublease, or if Landlord shall exercise any of its options under this Article 13.

     Section 13.5 Tenant’s Failure to Complete. If Landlord consents to a proposed assignment or sublease and Tenant fails to execute and deliver to Landlord such assignment or sublease within 90 days after the giving of such consent, then Tenant shall again comply with all

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of the provisions and conditions of Section 13.2 before assigning this Lease or subletting all or part of the Premises.

     Section 13.6 Profits. If Tenant enters into any assignment or sublease permitted hereunder or consented to by Landlord, Tenant shall, within 60 days of Landlord’s consent to such assignment or sublease, deliver to Landlord a list of Tenant’s reasonable third-party brokerage fees, legal fees, architectural fees and tenant improvement costs paid or to be paid in connection with such transaction and any actual costs incurred by Tenant in separately demising the subleased space (collectively, “Transaction Costs”), together with a list of all of Tenant’s Property to be transferred to such Transferee. The Transaction Costs shall be amortized, on a straight-line basis, over the term of any sublease. Tenant shall deliver to Landlord evidence of the payment of such Transaction Costs promptly after the same are paid. In consideration of such assignment or subletting, Tenant shall pay to Landlord:

          (a) In the case of an assignment, on the effective date of the assignment, 50% of all sums and other consideration paid to Tenant by the Transferee for or by reason of such assignment (including sums paid for the sale or rental of Tenant’s Property, less, the then fair market or rental value thereof) after first deducting the Transaction Costs; or

          (b) In the case of a sublease, 50% of any consideration payable under the sublease to Tenant by the Transferee which exceeds on a per square foot basis the Fixed Rent and Additional Rent accruing during the term of the sublease in respect of the subleased space (together with any sums paid for the sale or rental of Tenant’s Property, less, the then fair market or rental value thereof) after first deducting the monthly amortized amount of Transaction Costs. The sums payable under this clause shall be paid by Tenant to Landlord monthly as and when paid by the subtenant to Tenant.

     Section 13.7 Transfers.

          (a) Related Entities. If Tenant is a legal entity, the transfer (by one or more transfers) of a majority of the stock or other beneficial ownership interest in Tenant (collectively “Ownership Interests”) shall be deemed a voluntary assignment of this Lease; provided, however, that the provisions of this Article 13 shall not apply to the transfer of Ownership Interests in Tenant if and so long as Tenant is publicly traded on a nationally recognized stock exchange. For purposes of this Section 13.7 the term “transfers” shall be deemed to include the issuance of new Ownership Interests which results in a majority of the Ownership Interests in Tenant being held by a person or entity which does not hold a majority of the Ownership Interests in Tenant on the Effective Date.

          Any provision of this Article to the contrary notwithstanding, Tenant shall have the right to assign this Lease or to sublease the Premises or a portion thereof to a business entity into or with which Tenant is merged or consolidated or to which substantially all of Tenant’s assets are transferred so long as (i) such transfer was made for a legitimate independent business purpose and not for the purpose of transferring this Lease, (ii) the successor to Tenant has a net worth computed in accordance with generally accepted accounting principles at least equal to the net worth of Tenant immediately prior to such merger, consolidation or transfer, and (iii) proof satisfactory to Landlord of such net worth is delivered to Landlord at least 10 days prior to the

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effective date of any such transaction. Tenant may also, upon prior notice to Landlord, permit any business entity which controls, is controlled by, or is under common control with the original Tenant (a “Related Entity”) to sublet all or part of the Premises for any Permitted Use, provided the Related Entity is in Landlord’s reasonable judgment of a character and engaged in a business which is in keeping with the standards for the Building and for so long as such entity remains a Related Entity. Such sublease shall not be deemed to vest in any such Related Entity any right or interest in this Lease nor shall it relieve, release, impair or discharge any of Tenant’s obligations hereunder. For the purposes hereof, “control” shall be deemed to mean ownership of not less than 50% of all of the Ownership Interests of such corporation or other business entity. Notwithstanding the foregoing, Tenant shall have no right to assign this Lease or sublease all or any portion of the Premises without Landlord’s consent pursuant to this Section 13.7 if Tenant is not the initial Tenant herein named or a person or entity who acquired Tenant’s interest in this ‘ Lease in a transaction approved by Landlord.

          (b) Applicability. The limitations set forth in this Section 13.7 shall apply to Transferee(s) and guarantor(s) of this Lease, if any, and any transfer by any such entity in violation of this Section 13.7 shall be a transfer in violation of Section 13.1.

          (c) Modifications, Takeover Agreements. Any modification, amendment or extension of a sublease and/or any other agreement by which a landlord of a building other than the Building agrees to assume the obligations of Tenant under this Lease shall be deemed a sublease for the purposes of Section 13.1 hereof.

     Section 13.8 Assumption of Obligations. No assignment or transfer shall be effective unless and until the Transferee executes, acknowledges and delivers to Landlord an agreement in form and substance reasonably satisfactory to Landlord whereby the assignee (a) assumes Tenant’s obligations under this Lease and (b) agrees that, notwithstanding such assignment or transfer, the provisions of Section 13.1 hereof shall be binding upon it in respect of all future assignments and transfers.

     Section 13.9 Tenant’s Liability. The joint and several liability of Tenant and any successors-in-interest of Tenant and the due performance of Tenant’s obligations under this Lease shall not be discharged, released or impaired by any agreement or stipulation made by Landlord, or any grantee or assignee of Landlord, extending the time, or modifying any of the terms and provisions of this Lease, or by any waiver or failure of Landlord, or any grantee or assignee of Landlord, to enforce any of the terms and provisions of this Lease.

     Section 13.10 Listings in Building Directory. The listing of any name other than that of Tenant on the doors of the Premises, the Building directory or elsewhere shall not vest any right or interest in this Lease or in the Premises, nor be deemed to constitute Landlord’s consent to any assignment or transfer of this Lease or to any sublease of the Premises or to the use or occupancy thereof by others. Any such listing shall constitute a privilege revocable in Landlord’s discretion by notice to Tenant.

     Section 13.11 Lease Disaffirmance or Rejection. If at any time after an assignment by Tenant named herein, this Lease is not affirmed or is rejected in any bankruptcy proceeding or

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any similar proceeding, or upon a termination of this Lease due to any such proceeding, Tenant named herein, upon request of Landlord given after such disaffirmance, rejection or termination (and actual notice thereof to Landlord in the event of a disaffirmance or rejection or in the event of termination other than by act of Landlord), shall (a) pay to Landlord all Rent and other charges due and owing by the assignee to Landlord under this Lease to and including the date of such disaffirmance, rejection or termination, and (b) as “tenant,” enter into a new lease of the Premises with Landlord for a term commencing on the effective date of such disaffirmance, rejection or termination and ending on the Expiration Date, at the same Rent and upon the then executory terms, covenants and conditions contained in this Lease, except that (i) the rights of Tenant named herein under the new lease shall be subject to the possessory rights of the assignee under this Lease and the possessory rights of any persons claiming through or under such assignee or by virtue of any statute or of any order of any court, (ii) such new lease shall require all defaults’ existing under this Lease to be cured by Tenant named herein with due diligence, and (iii) such new lease shall require Tenant named herein to pay all Rent which, had this Lease not been so disaffirmed, rejected or terminated, would have become due under the provisions of this Lease after the date of such disaffirmance, rejection or termination with respect to any period prior thereto. If Tenant named herein defaults in its obligations to enter into such new lease for a period of 10 days after Landlord’s request, then, in addition to all other rights and remedies by reason of default, either at law or in equity, Landlord shall have the same rights and remedies against Tenant named herein as if it had entered into such new lease and such new lease had thereafter been terminated as of the commencement date thereof by reason of Tenant’s default thereunder.

ARTICLE 14

ACCESS TO PREMISES

     Section 14.1 Landlord’s Access.

          (a) Landlord, Landlord’s agents and utility service providers servicing the Building may erect, use and maintain concealed ducts, pipes and conduits in and through the Premises provided such use does not cause the usable area of the Premises to be reduced beyond a de minimis amount. Landlord shall promptly repair any damage to the Premises caused by any work performed pursuant to this Article 14.

          (b) Landlord, any Lessor or Mortgagee and any other party designated by Landlord and their respective agents shall have the right to enter the Premises at all reasonable times, upon 24-hours prior notice (which notice may be oral) except in the case of emergency (for which no notice shall be required), to examine the Premises, to show the Premises to prospective purchasers, Mortgagees, Lessors or tenants and their respective agents and representatives or others and to perform Restorative Work to the Premises or the Building.

          (c) All parts (except surfaces facing the interior of the Premises) of all walls, windows and doors bounding the Premises, all balconies, terraces and roofs adjacent to the Premises, all space in or adjacent to the Premises used for shafts, stacks, stairways, mail chutes, conduits and other mechanical facilities, Building Systems; Building facilities and Common

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Areas are not part of the Premises, and Landlord shall have the use thereof and access thereto through the Premises for the purposes of Building operation, maintenance, alteration and repair.

     Section 14.2 Building Name. Landlord has the right at any time to change the name, number or designation by which the Building is commonly known. If Landlord elects to change the name, number or designation by which the Building is commonly known, Landlord will endeavor to provide Tenant with at least 15 days prior written notice of such election.

ARTICLE 15

DEFAULT

     Section 15.1 Tenant’s Defaults. Each of the following events shall be an “Event of Default” hereunder:

          (a) Tenant fails to pay when due any installment of Rent and such default shall continue for five (5) days after notice of such default is given to Tenant except that if Landlord shall have given 3 such notices of default in the payment of any Rent in any 12-month period, Tenant shall not be entitled to any further notice of its delinquency in the payment of any Rent or an extended period in which to make payment until such time as 12 consecutive months shall have elapsed without Tenant having failed to make any such payment when due, and the occurrence of any default in the payment of any Rent within such 12-month period after the giving of 3 such notices shall constitute an Event of Default; or

          (b) Tenant fails to observe or perform any other term, covenant or condition of this Lease and such failure continues for more than 30 days (10 days with respect to a default under Article 3) after notice by Landlord to Tenant of such default, or if such default (other than a default under Article 3) is of a nature that it cannot be completely remedied within 30 days, failure by Tenant to commence to remedy such failure within said 30 days, and thereafter diligently prosecute to completion all steps necessary to remedy such default, provided in all events the same is completed within 90 days; or

          (c) if Landlord applies or retains any part of the Security Deposit, and Tenant fails to deposit with Landlord the amount so applied or retained by Landlord, or to provide Landlord with a replacement Letter of Credit (as hereinafter defined), if applicable, within 5 days after notice by Landlord to Tenant stating the amount applied or retained; or

          (d) there shall occur or exist any default under any guaranty of this Lease, which default is not cured within any applicable notice and/or cure period set forth in such guaranty.

     Upon the occurrence of any one or more of such Events of Default, Landlord may, at its sole option, give to Tenant notice of cancellation of this Lease (or of Tenant’s possession of the Premises), in which event this Lease and the Term (or Tenant’s possession of the Premises) shall terminate (whether or not the Term shall have commenced) with the same force and effect as if the date set forth in the notice was the Expiration Date stated herein; and Tenant shall then quit and surrender the Premises to Landlord, but Tenant shall remain liable for damages as provided

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in this Article 15. Any notice of cancellation of the Term (or Tenant’s possession of the Premises) may be given simultaneously with any notice of default given to Tenant.

     Section 15.2 Landlord’s Remedies.

          (a) Possession/Reletting. If this Lease and the Term, or Tenant’s right to possession of the Premises, terminate as provided in Section 15.1:

               (i) Surrender of Possession. Tenant shall quit and surrender the Premises to Landlord, and Landlord and its agents may immediately, or at any time after such termination, re-enter the Premises or any part thereof, without notice, either by summary proceedings, or by any other applicable action or proceeding, or by force (to the extent permitted by law) or otherwise in accordance with applicable legal proceedings (without being liable to indictment, prosecution or damages therefor), and may repossess the Premises and dispossess Tenant and any other persons from the Premises and remove any and all of their property and effects from the Premises.

               (ii) Landlord’s Reletting. Landlord, at Landlord’s option, may relet all or any part of the Premises from time to time, either in the name of Landlord or otherwise, to such tenant or tenants, for any term ending before, on or after the Expiration Date, at such rental and upon such other conditions (which may include concessions and free rent periods) as Landlord, in its sole discretion, may determine. Landlord shall have no obligation to accept any tenant offered by Tenant and shall not be liable for failure to relet or, in the event of any such reletting, for failure to collect any rent due upon any such reletting; and no such failure shall relieve Tenant of, or otherwise affect, any liability under this Lease. However, to the extent required by law, Landlord shall use reasonable efforts to mitigate its damages but shall not be required to divert prospective tenants from any other portions of the Building. Landlord, at Landlord’s option, may make such alterations, decorations and other physical changes in and to the Premises as Landlord, in its sole discretion, considers advisable or necessary in connection with such reletting or proposed reletting, without relieving Tenant of any liability under this Lease or otherwise affecting any such liability.

          (b) Tenant’s Waiver. Tenant, on its own behalf and on behalf of all persons claiming through or under Tenant, including all creditors, hereby waives all rights which Tenant and all such persons might otherwise have under any Requirement (i) to the service of any notice of intention to re-enter or to institute legal proceedings, (ii) to redeem, or to re-enter or repossess the Premises, or (iii) to restore the operation of this Lease, after (A) Tenant shall have been dispossessed by judgment or by warrant of any court or judge, (B) [Intentionally Omitted], or (C) any expiration or early termination of the term of this Lease, whether such dispossess, re-entry, expiration or termination shall be by operation of law or pursuant to the provisions of this Lease. The words “re-enter,” “re-entry” and “re-entered” as used in this Lease shall not be deemed to be restricted to their technical legal meanings.

          (c) Tenant’s Breach. Upon the breach or threatened breach by Tenant, or any persons claiming through or under Tenant, of any term, covenant or condition of this Lease, Landlord shall have the right to enjoin such breach and to invoke any other remedy allowed by law or in equity as if re-entry, summary proceedings and other special remedies were not

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provided in this Lease for such breach. The rights to invoke the remedies set forth above are cumulative and shall not preclude Landlord from invoking any other remedy allowed at law or in equity.

     Section 15.3 Landlord’s Damages.

          (a) Amount of Damages. If this Lease and the Term, or Tenant’s right to possession of the Premises, terminate as provided in Section 15.1, then:

               (i) Tenant shall pay to Landlord all items of Rent payable under this Lease by Tenant to Landlord prior to the date of termination;

               (ii) Landlord may retain all monies, if any, paid by Tenant to Landlord, whether as prepaid Rent, a Security Deposit or otherwise, which monies, to the extent not otherwise applied to amounts due and owing to Landlord, shall be credited by Landlord against any damages payable by Tenant to Landlord;

               (iii) Tenant shall pay to Landlord, in monthly installments, on the days specified in this Lease for payment of installments of Fixed Rent, any Deficiency; it being understood that Landlord shall be entitled to recover the Deficiency from Tenant each month as the same shall arise, and no suit to collect the amount of the Deficiency for any month, shall prejudice Landlord’s right to collect the Deficiency for any subsequent month by a similar proceeding; and

               (iv) whether or not Landlord shall have collected any monthly Deficiency, Tenant shall pay to Landlord, on demand, in lieu of any further Deficiency and as liquidated and agreed final damages, a sum equal to the amount by which the Rent for the period which otherwise would have constituted the unexpired portion of the Term (assuming the Additional Rent during such period to be the same as was payable for the year immediately preceding such termination or re-entry, increased in each succeeding year by 4% (on a compounded basis)) exceeds the then fair and reasonable rental value of the Premises, for the same period (with both amounts being discounted to present value at a rate of interest equal to 2% below the then Base Rate) less the aggregate amount of Deficiencies theretofore collected by Landlord pursuant to the provisions of Section 15.3(a)(iii) for the same period. If, before presentation of proof of such liquidated damages to any court, commission or tribunal, the Premises, or any part thereof, shall have been relet by Landlord for the period which otherwise would have constituted the unexpired portion of the Term, or any part thereof, the amount of rent reserved upon such reletting shall be deemed prima facie, to be the fair and reasonable rental value for the part or the whole of the Premises so relet during the term of the reletting.

          (b) Reletting. If the Premises, or any part thereof, shall be relet together with other space in the Building, the rents collected or reserved under any such reletting and the expenses of any such reletting shall be equitably apportioned for the purposes of this Section 15.3. Tenant shall not be entitled to any rents collected or payable under any reletting, whether or not such rents exceeds the Fixed Rent reserved in this Lease. Nothing contained in Article 15 shall be deemed to limit or preclude the recovery by Landlord from Tenant of the maximum

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amount allowed to be obtained as damages by any Requirement, or of any sums or damages to which Landlord may be entitled in addition to the damages set forth in this Section 15.3.

     Section 15.4 Interest. If any payment of Rent is not paid when due, interest shall accrue on such payment, from the date such payment became due until paid at the Interest Rate. Tenant acknowledges that late payment by Tenant of Rent will cause Landlord to incur costs not contemplated by this Lease, the exact amount of such costs being extremely difficult and impracticable to fix. Such costs include, without limitation, processing and accounting charges, and late charges that may be imposed on Landlord by the terms of any note secured by a Mortgage covering the Premises. Therefore, in addition to interest, if any amount is not paid when due, a late charge equal to 5% of such amount shall be assessed; provided, however, that on 2 occasions during any calendar year of the Term, Landlord shall give Tenant notice of such late payment and Tenant shall have a period of 5 days thereafter in which to make such payment before any late charge is assessed. Such interest and late charges are separate and cumulative and are in addition to and shall not diminish or represent a substitute for any of Landlord’s rights or remedies under any other provision of this Lease.

     Section 15.5 Other Rights of Landlord. If Tenant fails to pay any Additional Rent when due, Landlord, in addition to any other right or remedy, shall have the same rights and remedies as in the case of a default by Tenant in the payment of Fixed Rent. If Tenant is in arrears in the payment of Rent, Tenant waives Tenant’s right, if any, to designate the items against which any payments made by Tenant are to be credited, and Landlord may apply any payments made by Tenant to any items Landlord sees fit, regardless of any request by Tenant. Landlord reserves the right, without liability to Tenant and without constituting any claim of constructive eviction, to suspend furnishing or rendering to Tenant any property, material, labor, utility or other service, whenever Landlord is obligated to furnish or render the same at the expense of Tenant, in the event that (but only for so long as) Tenant is in arrears in paying Landlord for such items for more than 5 days after notice from Landlord to Tenant demanding the payment of such arrears.

ARTICLE 16

LANDLORD’S RIGHT TO CURE; FEES AND EXPENSES

     If Tenant defaults in the performance of its obligations under this Lease, Landlord, without waiving such default, may perform such obligations at Tenant’s expense: (a) immediately, and without notice, in the case of emergency or if the default (i) materially interferes with the use by any other tenant of the Building, (ii) materially interferes with the efficient operation of the Building, (iii) results in a violation of any Requirement, or (iv) results or will result in a cancellation of any insurance policy maintained by Landlord, and (b) in any other case if such default continues after 10 days from the date Landlord gives notice of Landlord’s intention to perform the defaulted obligation. All costs and expenses reasonably incurred by Landlord in connection with any such performance by it and all costs and expenses, including reasonable counsel fees and disbursements, incurred by Landlord in any action or proceeding (including any unlawful detainer proceeding) brought by Landlord to enforce any obligation of Tenant under this Lease and/or right of Landlord in or to the Premises, shall be paid

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by Tenant to Landlord on demand, with interest thereon at the Interest Rate from the date incurred by Landlord. Except as expressly provided to the contrary in this Lease, all costs and expenses which, pursuant to this Lease are incurred by Landlord and payable to Landlord by Tenant, and all charges, amounts and sums payable to Landlord by Tenant for any property, material, labor, utility or other services which, pursuant to this Lease or at the request and for the account of Tenant, are provided, furnished or rendered by Landlord, shall become due and payable by Tenant to Landlord within 10 Business Days after receipt of Landlord’s invoice for such amount.

ARTICLE 17

NO REPRESENTATIONS BY LANDLORD; LANDLORD’S APPROVAL

     Section 17.1 No Representations. Except as expressly set forth herein, Landlord and Landlord’s agents have made no warranties, representations, statements or promises with respect to the Building, the Real Property or the Premises and no rights, easements or licenses are acquired by Tenant by implication or otherwise. Tenant is entering into this Lease after full investigation and is not relying upon any statement or representation made by Landlord not embodied in this Lease.

     Section 17.2 No Money Damages. In no event shall Landlord be liable for, and Tenant, on behalf of itself and all other Tenant Parties, hereby waives any claim for, any indirect, consequential or punitive damages, including loss or profits or business opportunity, arising under or in connection with this Lease.

     Section 17.3 Reasonable Efforts. For purposes of this Lease, “reasonable efforts” by Landlord shall not include an obligation to employ contractors or labor at overtime or other premium pay rates or to incur any other overtime costs or additional expenses whatsoever.

ARTICLE 18

END OF TERM

     Section 18.1 Expiration. Upon the expiration or other termination of this Lease, Tenant shall quit and surrender the Premises to Landlord vacant, broom clean and in good order and condition, ordinary wear and tear and damage for which Tenant is not responsible under the terms of this Lease excepted, and Tenant shall remove all of Tenant’s Property and Tenant’s Specialty Alterations.

     Section 18.2 Holdover Rent. Landlord and Tenant recognize that Landlord’s damages resulting from Tenant’s failure to timely surrender possession of the Premises may be substantial, may exceed the amount of the Rent payable hereunder, and will be impossible to accurately measure. Accordingly, if possession of the Premises is not surrendered to Landlord on the Expiration Date or sooner termination of this Lease, in addition to any other rights or remedies Landlord may have hereunder or at law, Tenant shall (a) pay to Landlord for each month (or any portion thereof) during which Tenant holds over in the Premises after the Expiration Date or sooner termination of this Lease, a sum equal to 1.5 times the Rent payable under this Lease for

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the last full calendar month of the Term, (b) be liable to Landlord for (i) any payment or rent concession which Landlord may be required to make to any tenant obtained by Landlord for all or any part of the Premises (a “New Tenant”) in order to induce such New Tenant not to terminate its lease by reason of the holding-over by Tenant, and (ii) the loss of the benefit of the bargain if any New Tenant shall terminate its lease by reason of the holding-over by Tenant, and (c) indemnify Landlord against all claims for damages by any New Tenant. No holding-over by Tenant, nor the payment to Landlord of the amounts specified above, shall operate to extend the Term hereof. Nothing herein contained shall be deemed to permit Tenant to retain possession of the Premises after the Expiration Date or sooner termination of this Lease, and no acceptance by Landlord of payments from Tenant after the Expiration Date or sooner termination of this Lease shall be deemed to be other than on account of the amount to be paid by Tenant in accordance with the provisions of this Section 18.2.

ARTICLE 19

QUIET ENJOYMENT

     Provided this Lease is in full force and effect and no Event of Default then exists, Tenant may peaceably and quietly enjoy the Premises without hindrance by Landlord or any person lawfully claiming through or under Landlord, subject to the terms and conditions of this Lease and to all Superior Leases and Mortgages.

ARTICLE 20

NO SURRENDER; NO WAIVER

     Section 20.1 No Surrender or Release. No act or thing done by Landlord or Landlord’s agents or employees during the Term shall be deemed an acceptance of a surrender of the Premises, and no provision of this Lease shall be deemed to have been waived by Landlord, unless such waiver is in writing and is signed by Landlord.

     Section 20.2 No Waiver. The failure of either party to seek redress for violation of, or to insist upon the strict performance of, any covenant or condition of this Lease, or any of the Rules and Regulations, shall not be construed as a waiver or relinquishment for the future performance of such obligations of this Lease or the Rules and Regulations, or of the right to exercise such election but the same shall continue and remain in full force and effect with respect to any subsequent breach, act or omission. The receipt by Landlord of any Rent payable pursuant to this Lease or any other sums with knowledge of the breach of any covenant of this Lease shall not be deemed a waiver of such breach. No payment by Tenant or receipt by Landlord of a lesser amount than the monthly Rent herein stipulated shall be deemed to be other than a payment on account of the earliest stipulated Rent, or as Landlord may elect to apply such payment, nor shall any endorsement or statement on any check or any letter accompanying any check or payment as Rent be deemed an accord and satisfaction, and Landlord may accept such check or payment without prejudice to Landlord’s right to recover the balance of such Rent or pursue any other remedy provided in this Lease.

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ARTICLE 21

WAIVER OF TRIAL BY JURY; COUNTERCLAIM

     Section 21.1 Jury Trial Waiver. Landlord and Tenant hereby waive trial by jury in any action, proceeding or counterclaim brought by either party against the other on any matters in any way arising out of or connected with this Lease, the relationship of Landlord and Tenant, Tenant’s use or occupancy of the Premises, or the enforcement of any remedy under any statute, emergency or otherwise.

     Section 21.2 Waiver of Counterclaim. If Landlord commences any summary proceeding against Tenant, Tenant will not interpose any counterclaim of any nature or description in any such proceeding (unless failure to interpose such counterclaim would preclude Tenant from asserting in a separate action the claim which is the subject of such counterclaim), and will not seek to consolidate such proceeding with any other action which may have been or will be brought in any other court by Tenant.

ARTICLE 22

NOTICES

     Except as otherwise expressly provided in this Lease, all consents, notices, demands, requests, approvals or other communications given under this Lease shall be in writing and shall be deemed sufficiently given or rendered if delivered by hand (provided a signed receipt is obtained) or if sent by registered or certified mail (return receipt requested) or by a nationally recognized overnight delivery service making receipted deliveries, addressed to Landlord and Tenant as set forth in Article 1, and to any Mortgagee or Lessee who shall require copies of notices and whose address is provided to Tenant, or to such other address(es) as Landlord, Tenant or any Mortgagee or Lessor may designate as its new address(es) for such purpose by notice given to the other in accordance with the provisions of this Article 22. Any such approval, consent, notice, demand, request or other communication shall be deemed to have been given on the date of receipted delivery, refusal to accept delivery or when delivery is first attempted but cannot be made due to a change of address for which no notice is given of 3 Business Days after it shall have been mailed as provided in this Article 22, whichever is earlier.

ARTICLE 23

RULES AND REGULATIONS

     All Tenant Parties shall observe and comply with the Rules and Regulations, as supplemented or amended from time to time. Landlord reserves the right, from time to time, to adopt additional Rules and Regulations and to amend the Rules and Regulations then in effect. Nothing contained in this Lease shall impose upon Landlord any obligation to enforce the Rules and Regulations or terms, covenants or conditions in any other lease against any other Building tenant, and Landlord shall not be liable to Tenant for violation of the same by any other tenant, its employees, agents, visitors or licensees, provided that Landlord shall enforce the Rules or Regulations against Tenant in a non-discriminatory fashion.

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ARTICLE 24

BROKER

     Landlord has retained Landlord’s Agent as leasing agent in connection with this Lease and Landlord will be solely responsible for any fee that may be payable to Landlord’s Agent. Landlord agrees to pay a commission to Scheer Partners pursuant to a separate agreement. Each of Landlord and Tenant represents and warrants to the other that neither it nor its agents have dealt with any broker in connection with this Lease other than Landlord’s Agent and Tenant’s Broker and that no other broker, finder or like entity procured or negotiated this Lease or is entitled to any fee or commission in connection herewith. Each of Landlord and Tenant shall indemnify, defend, protect and hold the other party harmless from and against any and all Losses which the indemnified party may incur by reason of any claim of or liability to any broker, finder or like agent (other than Landlord’s Agent and Scheer Partners) arising out of any dealings claimed to have occurred between the indemnifying party and the claimant in connection with this Lease, and/or the above representation being false. Landlord will have no liability to Tenant arising from any commission, fee or other sum that is or might become due and payable to Liberty Greenfield in connection with this Lease. Landlord and Tenant acknowledge that any commission, fee or other sum that is or might become due and payable to Liberty Greenfield in connection with this Lease is to be paid by Scheer Partners pursuant to the terms of a separate agreement between Scheer Partners and Liberty Greenfield.

ARTICLE 25

INDEMNITY

     Section 25.1 Tenant’s Indemnity. Tenant shall not do or permit to be done any act or thing upon the Premises or the Building which may subject Landlord to any liability or responsibility for injury, damages to persons or property or to any liability by reason of any violation of any Requirement, and shall exercise such control over the Premises as to fully protect Landlord against any such liability. Tenant shall indemnify, defend, protect and hold harmless each of the Indemnitees from and against any and all Losses, resulting from any claims (i) against the Indemnitees arising from any negligence or willful misconduct of (A) all Tenant Parties or (B) both Landlord and Tenant, provided, however, that Tenant’s liability hereunder with respect to matters judicially determined to have arisen out of the negligence of Landlord, which determination shall not be subject to appeal, shall be limited to the amount of insurance coverage carried by Tenant pursuant to Article 11, (ii) against the Indemnitees arising from any accident, injury or damage whatsoever caused to any person or to the property of any person and occurring in or about the Premises, and (iii) against the Indemnitees resulting from any breach, violation or nonperformance of any covenant, condition or agreement of this Lease on the part of Tenant to be fulfilled, kept, observed or performed.

     Section 25.2 Landlord’s Indemnity. Landlord shall indemnify, defend and hold harmless Tenant from and against all Losses incurred by Tenant arising from (i) any accident, injury or damage whatsoever caused to any person or the property of any person in or about the Real Property (exclusive of the Premises) to the extent attributable to the negligence or willful misconduct of Landlord or its employees or agents, and/or (iii) any breach, violation or

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nonperformance of any covenant, condition or agreement of this Lease on the part of Landlord to be fulfilled, kept, observed or performed.

     Section 25.3 Defense and Settlement. If any claim, action or proceeding is made or brought against any Indemnitee for which Tenant is obligated to indemnify such Indemnitee under Section 25.1, then upon demand by an Indemnitee, Tenant, at its sole cost and expense, shall resist or defend such claim, action or proceeding in the Indemnitee’s name (if necessary), by attorneys approved by the Indemnitee, which approval shall not be unreasonably withheld (attorneys for Tenant’s insurer shall be deemed approved for purposes of this Section 25.3). Notwithstanding the foregoing, an Indemnitee may retain its own attorneys to participate or assist in defending any claim, action or proceeding involving potential liability in excess of the amount available under Tenant’s liability insurance carried under Section 11.1 for such claim and Tenant shall pay the reasonable fees and disbursements of such attorneys. If Tenant fails to diligently defend or if there is a legal conflict or other conflict of interest, then Landlord may retain separate counsel at Tenant’s expense. Notwithstanding anything herein contained to the contrary, Tenant may direct the Indemnitee to settle any claim, suit or other proceeding provided that (a) such settlement shall involve no obligation on the part of the Indemnitee other than the payment of money, (b) any payments to be made pursuant to such settlement shall be paid in full exclusively by Tenant at the time such settlement is reached, (c) such settlement shall not require the Indemnitee to admit any liability, and (d) the Indemnitee shall have received an unconditional release from the other parties to such claim, suit or other proceeding.

ARTICLE 26

MISCELLANEOUS

     Section 26.1 Delivery. This Lease shall not be binding upon Landlord or Tenant unless and until Landlord shall have executed and delivered a fully executed copy of this Lease to Tenant.

     Section 26.2 Transfer of Real Property. Landlord’s obligations under this Lease shall not be binding upon the Landlord named herein after the sale, conveyance, assignment or transfer (collectively, a “Transfer”) by such Landlord (or upon any subsequent landlord after the Transfer by such subsequent landlord) of its interest in the Building or the Real Property, as the case may be, and in the event of any such Transfer, Landlord (and any such subsequent Landlord) shall be entirely freed and relieved of all covenants and obligations of Landlord hereunder arising from and after the date of Transfer and the transferee of Landlord’s interest (or that of such subsequent Landlord) in the Building or the Real Property, as the case may be, shall be deemed to have assumed all obligations under this Lease arising from and after the date of Transfer.

     Section 26.3 Limitation on Liability. The liability of Landlord for Landlord’s obligations under this Lease shall be limited to Landlord’s interest in the Real Property and Tenant shall not look to any other property or assets of Landlord or the property or assets of any direct or indirect partner, member, manager, shareholder, director, officer, principal, employee or agent of Landlord (collectively, the “Parties”) in seeking either to enforce Landlord’s obligations under this Lease or to satisfy a judgment for Landlord’s failure to perform such obligations; and

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none of the Parties shall be personally liable for the performance of Landlord’s obligations under this Lease.

     Section 26.4 Rent. All amounts payable by Tenant to or on behalf of Landlord under this Lease, whether or not expressly denominated Fixed Rent, Tenant’s Tax Payment, Tenant’s Operating Payment, Additional Rent or Rent, shall constitute rent for the purposes of Section 502(b)(6) of the United States Bankruptcy Code.

     Section 26.5 Entire Document. This Lease (including any Schedules and Exhibits referred to herein and all supplementary agreements provided for herein) contains the entire agreement between the parties and all prior negotiations and agreements are merged into this Lease. All of the Schedules and Exhibits attached hereto are incorporated in and made a part of this Lease, provided that in the event of any inconsistency between the terms and provisions of this Lease and the terms and provisions of the Schedules and Exhibits hereto, the terms and provisions of this Lease shall control.

     Section 26.6 Governing Law. This Lease shall be governed in all respects by the laws of the Commonwealth of Virginia (but not including the choice of law rules thereof).

     Section 26.7 Unenforceability. If any provision of this Lease, or its application to any person or circumstance, shall ever be held to be invalid or unenforceable, then in each such event the remainder of this Lease or the application of such provision to any other person or any other circumstance (other than those as to which it shall be invalid or unenforceable) shall not be thereby affected, and each provision hereof shall remain valid and enforceable to the fullest extent permitted by law.

     Section 26.8 Lease Disputes.

          (a) Landlord and Tenant agree that (i) all disputes arising, directly or indirectly, out of or relating to this Lease, and all actions to enforce this Lease, shall be dealt with and adjudicated in the state courts of the Commonwealth of Virginia or the United States District Court for the Eastern District of Virginia and for that purpose hereby expressly and irrevocably submits itself to the jurisdiction of such courts; and (ii) to the extent permitted under applicable law, this consent to personal jurisdiction shall be self-operative and no further instrument or action, other than service of process in one of the manners specified in this Lease, or as otherwise permitted by law, shall be necessary in order to confer jurisdiction upon it in any such court.

          (b) To the extent that Tenant has or hereafter may acquire any immunity from jurisdiction of any court or from any legal process (whether through service or notice, attachment prior to judgment, attachment in aid of execution, execution or otherwise) with respect to itself or its property, Tenant irrevocably waives such immunity in respect of its obligations under this Lease.

     Section 26.9 Landlord’s Agent. Unless Landlord delivers written notice to Tenant to the contrary, Landlord’s Agent is authorized to act as Landlord’s agent in connection with the performance of this Lease, and Tenant shall be entitled to rely upon correspondence received from Landlord’s Agent. Tenant acknowledges that Landlord’s Agent is acting solely as agent for

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Landlord in connection with the foregoing; and neither Landlord’s Agent nor any of its direct or indirect partners, members, managers, officers, shareholders, directors, employees, principals, agents or representatives shall have any liability to Tenant in connection with the performance of this Lease, and Tenant waives any and all claims against any and all of such parties arising out of, or in any way connected with, this Lease, the Building or the Real Property.

     Section 26.10 Estoppel. Within 10 Business Days following request from Landlord, any Mortgagee or any Lessor, Tenant shall deliver to Landlord a statement executed and acknowledged by Tenant, in form reasonably satisfactory to Landlord, (a) stating the Commencement Date, the Rent Commencement Date and the Expiration Date, and that this Lease is then in full force and effect and has not been modified (or if modified, setting forth all modifications), (b) setting forth the date to which the Fixed Rent and any Additional Rent have been paid, together with the amount of monthly Fixed Rent and Additional, Rent then payable, (c) stating whether or not, to the best of Tenant’s knowledge, Landlord is in default under this Lease, and, if Landlord is in default, setting forth the specific nature of all such defaults, (d) stating the amount of the Security Deposit, if any, under this Lease, (e) stating whether there are any subleases or assignments affecting the Premises, (f) stating the address of Tenant to which all notices and communications under the Lease shall be sent, and (g) responding to any other matters reasonably requested by Landlord, such Mortgagee or such Lessor. Tenant acknowledges that any statement delivered pursuant to this Section 26.10 may be relied upon by any purchaser or owner of the Real Property or the Building or all or any portion of Landlord’s interest in the Real Property or the Building or any Superior Lease, or by any Mortgagee, or assignee thereof or by any Lessor, or assignee thereof.

     Section 26.11 Certain Interpretational Rules. For purposes of this Lease, whenever the words “include”, “includes”, or “including” are used, they shall be deemed to be followed by the words “without limitation” and, whenever the circumstances or the context requires, the singular shall be construed as the plural, the masculine shall be construed as the feminine and/or the neuter and vice versa. This Lease shall be interpreted and enforced without the aid of any canon, custom or rule of law requiring or suggesting construction against the party drafting or causing the drafting of the provision in question.

     The captions in this Lease are inserted only as a matter of convenience and for reference and in no way define, limit or describe the scope of this Lease or the intent of any provision hereof.

     Section 26.12 Parties Bound. The terms, covenants, conditions and agreements contained in this Lease shall bind and inure to the benefit of Landlord and Tenant and, except as otherwise provided in this Lease, to their respective legal representatives, successors, and assigns.

     Section 26.13 Memorandum of Lease. This Lease shall not be recorded; however, at Landlord’s request, Landlord and Tenant shall promptly execute, acknowledge and deliver a memorandum with respect to this Lease sufficient for recording and Landlord may record the memorandum. Within 10 days following the end of the Term. Tenant shall enter into such documentation as is reasonably required by Landlord to remove the memorandum of record.

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     Section 26.14 Counterparts. This Lease may be executed in 2 or more counterparts, each of which shall constitute an original, but all of which, when taken together, shall constitute but one instrument.

     Section 26.15 Survival. All obligations and liabilities of Landlord or Tenant to the other which accrued before the expiration or other termination of this Lease, and all such obligations and liabilities which by their nature or under the circumstances can only be, or by the provisions of this Lease may be, performed after such expiration or other termination, shall survive the expiration or other termination of this Lease. Without limiting the generality of the foregoing, the rights and obligations of the parties with respect to any indemnity under this Lease, and with respect to any Rent and any other amounts payable under this Lease, shall survive the expiration or other termination of this Lease.

     Section 26.16 Inability to Perform. This Lease and the obligation of Tenant to pay Rent and to perform all of the other covenants and agreements of Tenant hereunder shall not be affected, impaired or excused by any Unavoidable Delays. Landlord shall use reasonable efforts to promptly notify Tenant of any Unavoidable Delay which prevents Landlord from fulfilling any of its obligations under this Lease.

     Section 26.17 Substitute Premises. [Intentionally Omitted]

     Section 26.18 Deed of Lease/Landlord’s Agent for Service of Process. For purposes of Section 55-2, Code of Virginia (1950), as amended, this Lease is and shall be deemed to be a deed of lease. For purposes of Section 55-218.1, Code of Virginia (1950), as amended, Landlord’s resident agent for service of process is: James C. Brincefield, Jr., Attorney at Law, 526 King Street, Alexandria, Virginia 22314.

     Section 26.19 Lien for Payment of Rent. [Intentionally Omitted]

     Section 26.20 Financial Statements. Tenant agrees to deliver to Landlord by April 30 of each year a balance sheet of Tenant as of the end of the preceding calendar year and an income and loss statement of Tenant for the 12 month period ending on such date.

ARTICLE 27

SECURITY DEPOSIT

     Section 27.1 Letter of Credit. Tenant shall deliver to Landlord, upon Tenant’s execution of this Lease, a Letter of Credit (as hereinafter defined) in the amount specified in the Basic Lease Information, as security for the faithful performance and observance by Tenant of the terms, covenants and conditions of this Lease. The Letter of Credit shall be in the form of a clean, irrevocable, non-documentary and unconditional letter of credit (the “Letter of Credit”) issued by and drawable upon any commercial bank which is a member of the New York Clearing House Association or other bank satisfactory to Landlord, trust company, national banking association or savings and loan association with offices for banking purposes in the Washington, D.C. metropolitan area (or, if the issuing bank is Wells Fargo, an office in New York City, Washington, D.C. or San Francisco, California) (the “Issuing Bank”), which has outstanding

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unsecured, uninsured and unguaranteed indebtedness, or shall have issued a letter of credit or other credit facility that constitutes the primary security for any outstanding indebtedness (which is otherwise uninsured and unguaranteed), that is then rated, without regard to qualification of such rating by symbols such as “+” or “-” or numerical notation, “Aa” or better by Moody’s Investors Service and “AA” or better by Standard & Poor’s Rating Service, and has combined capital, surplus and undivided profits of not less than $2,000,000,000. The Letter of Credit shall (a) name Landlord as beneficiary, (b) have a term of not less than one year, (c) permit multiple drawings, (d) be fully transferable by Landlord without the payment of any fees or charges by Landlord, and (e) otherwise be in form and content satisfactory to Landlord. If upon any transfer of the Letter of Credit, any fees or charges shall be so imposed, then Landlord shall pay the first $250 of such fees and charges and Tenant shall pay any additional fees or charges imposed in connection with such transfer. The Letter of Credit shall provide that it shall be deemed ‘ automatically renewed, without amendment, for consecutive periods of one year each thereafter during the Term (and in no event shall the Letter of Credit expire prior to the 45th day following the Expiration Date) unless the Issuing Bank sends duplicate notices (the “Non-Renewal Notices ”) to Landlord by certified mail, return receipt requested (one of which shall be addressed “Attention, Chief Legal Officer” and the other of which shall be addressed “Attention, Chief Financial Officer”), not less than 45 days next preceding the then expiration date of the Letter of Credit stating that the Issuing Bank has elected not to renew the Letter of Credit. The Issuing Bank shall agree with all drawers, endorsers and bona fide holders that drafts drawn under and in compliance with the terms of the Letter of Credit will be duly honored upon presentation to the Issuing Bank at an office location in the Washington, D.C. metropolitan area. The Letter of Credit shall be subject in all respects to the International Standby Practices 1998, International Chamber of Commerce Publication No. 500.

     Section 27.2 Application of Security. If (a) an Event of Default by Tenant occurs in the payment or performance of any of the terms, covenants or conditions of this Lease, including the payment of Rent, or (b) Tenant fails to make any installment of Rent as and when due, or (c) Landlord receives a Non-Renewal Notice, Landlord shall have the right by sight draft to draw, at its election, all or a portion of the proceeds of the Letter of Credit and thereafter hold, use, apply, or retain the whole or any part of such proceeds, as the case may be, (x) to the extent required for the payment of any Fixed Rent or any other sum as to which Tenant is in default including (i) any sum which Landlord may expend or may be required to expend by reason of Tenant’s default, and/or (ii) any damages to which Landlord is entitled pursuant to this Lease, whether such damages accrue before or after summary proceedings or other reentry by Landlord, and/or (y) as a cash security deposit, unless and until, in the case of clause (c) above, Tenant delivers to Landlord a substitute Letter of Credit which meets the requirements of this Article 27. If Landlord applies or retains any part of the proceeds of the Letter of Credit, or cash security, Tenant, upon demand, shall deposit with Landlord the amount so applied or retained so that Landlord shall have the full amount thereof on hand at all times during the Term. If Tenant shall comply with all of the terms, covenants and conditions of this Lease, the Letter of Credit or cash security, as the case may be, shall be returned to Tenant after the Expiration Date and after delivery of possession of the Premises to Landlord in the manner required by this Lease.

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     Section 27.3 Transfer. Upon a sale or other transfer of the Real Property or the Building, or any financing of Landlord’s interest therein, Landlord shall have the right to transfer the Letter of Credit and any cash security to its transferee or lender. With respect to the Letter of Credit, within 5 days after notice of such transfer or financing, Tenant, at its sole cost, shall arrange for the transfer of the Letter of Credit to the new landlord or the lender, as designated by Landlord in the foregoing notice or have the Letter of Credit reissued in the name of the new landlord or the lender. Upon such transfer, Tenant shall look solely to the new landlord or lender for the return of the Letter of Credit or such cash security and the provisions hereof shall apply to every transfer or assignment made of the Letter of Credit or such cash security to a new landlord. Tenant shall not assign or encumber or attempt to assign or encumber the Letter of Credit or such cash security and neither Landlord nor its successors or assigns shall be bound by any such action or attempted assignment, or encumbrance.

[SIGNATURES FOLLOW]

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     IN WITNESS WHEREOF, Landlord and Tenant have executed this Lease as of the day and year first above written.

LANDLORD:

TST WOODLAND FUNDING I, L.L.C.,
a Delaware limited liability company

By:	/s/ Gary W. Roth
	Gary W. Roth
Its:	Vice President
TENANT:
DIECA COMMUNICATIONS, INC., a Virginia corporation
By:	/s/ Charles E. Hoffman
Its:	President & CEO

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Exhibit A

Floor Plan

The floor plan which follows is intended solely to identify the general location of the Premises, and should not be used for any other purpose. All areas, dimensions and locations are approximate, and any physical conditions indicated may not exist as shown.

A-1

FIRST AMENDMENT TO DEED OF LEASE

     THIS FIRST AMENDMENT TO DEED OF LEASE (this “First Amendment”) is made this 31^st day of March, 2005 (the “Effective Date”), by and between ACP/2300 CORPORATE PARK DRIVE, LLC, a Delaware limited liability company (“Landlord”), and DIECA COMMUNICATIONS, INC., a Virginia corporation (“Tenant”).

W I T N E S S E T H :

     WHEREAS, pursuant to that certain Deed of Lease dated July 8, 2002 (the “Original Lease”), TST Woodland Funding I, L.L.C. (“Original Landlord”) leased to Tenant, and Tenant leased from Original Landlord, approximately 37,517 rentable square feet of space (the “Premises”) on the first (1^st), third (3^rd) and fourth (4^th) floors of the building located at 2300 Corporate Park Drive, Herndon, Virginia (the “Building”);

     WHEREAS, Landlord purchased the Building from Original Landlord and succeeded to the interest of Original Landlord under the Original Lease; and

     WHEREAS, Tenant desires to extend the Term for a period of five (5) years, commencing on August 1, 2005 and expiring on July 31, 2010, and Landlord is willing to do so, subject to the terms and conditions set forth in this First Amendment.

     NOW, THEREFORE, in consideration of the foregoing and for other good and valuable consideration and of the mutual agreements hereinafter set forth, it is hereby mutually agreed as follows:

     1. Incorporation of Recitals. The foregoing recitals are hereby incorporated in this First Amendment and made a part hereof by this reference.

     2. Definitions. All capitalized terms used in this First Amendment shall have the meanings ascribed thereto in the Original Lease, unless otherwise defined herein. As used herein and in the Original Lease, the term “Lease” shall mean the Original Lease, as amended by this First Amendment.

     3. Extension Term. The Term is hereby extended for a period of five (5) years (the “Extension Term”), commencing on August 1, 2005 (the “Extension Term Commencement Date”) and ending on July 31, 2010 (the “Extension Term Expiration Date”).

     4. Improvements to the Premises.

          A. Tenant shall retain possession of the Premises on the Extension Term Commencement Date in its then “as-is” condition, and, except as expressly set forth in this Paragraph 4, Landlord shall have no obligation to perform or pay for any work, improvements or alterations in or to the Premises in connection with this First Amendment or otherwise. Notwithstanding the foregoing and provided that Tenant is not then in default of its obligations under the Lease, Landlord shall install in the Premises, at Tenant’s sole cost and expense, subject to application of the Refurbishment Allowance (hereinafter defined), the improvements and alterations (the “Tenant Improvements”) described in the plans and specifications prepared by Tenant’s architect and approved by Landlord (the “Tenant’s Plans”). Landlord shall provide Tenant with an allowance of up to Seven Hundred Thirty-One Thousand Five Hundred Eighty-One and 50/100 Dollars ($731,581.50) (or Nineteen and 50/100 Dollars ($19.50) per rentable square foot of the Premises) (the “Refurbishment Allowance”) to pay for costs and expenses incurred by Tenant in connection with the design and construction of the Tenant Improvements. Once Landlord has approved the Tenant’s Plans, Landlord shall bid the Tenant Improvements work to three (3) general contractors selected by Landlord who are licensed in Virginia (the “Approved Bidders”). Upon

HOLLAND & KNIGHT llp

Landlord’s receipt of fixed price bids from those of the Approved Bidders which intend to submit bids for the construction of the Tenant Improvements, Tenant shall select the contractor which shall undertake construction of the Tenant Improvements (the “Contractor”) from among the Approved Bidders which Landlord determines have submitted conforming bids. Subject to Landlord’s approval of the Tenant’s Plans, construction of the Tenant Improvements work may commence at any time after the Effective Date. Landlord shall disburse portions of the Refurbishment Allowance from time-to-time as Landlord incurs costs in connection with the construction of the Tenant Improvements. The Tenant’s Plans prepared by Tenant’s architect shall be subject to Landlord’s approval in accordance with the terms and conditions of the Original Lease, including without limitation those set forth in Article 5 thereof (captioned, “Alterations”); provided that Landlord shall approve or reject in its sole discretion all Tenant Improvements proposed by Tenant which affect the base Building or the mechanical, electrical, plumbing or other any base Building system therein. The Refurbishment Allowance shall be used by Tenant solely to pay for the cost of constructing the Tenant Improvements in the Premises, except as otherwise expressly permitted pursuant to the terms and conditions of Paragraph 4.C, below.

     B. All costs and expenses incurred in connection with the design and construction of the Tenant Improvements (the “Construction Costs”) in excess of the Improvement Allowance shall be paid solely by Tenant on or before the date such costs are due and payable (or if previously paid by Landlord, shall be reimbursed to Landlord by Tenant within ten (10) days of receipt by Tenant of invoices therefor from Landlord), and Tenant agrees to indemnify Landlord from and against any such costs. All amounts payable by Tenant pursuant to this Paragraph 4.B shall be deemed to be Additional Rent for purposes of the Lease.

     C. At any time after Tenant has completed the Tenant Improvements and obtained lien waivers from all contractors who performed construction-related services, Tenant may; upon ten (10) business days notice to Landlord, cause Landlord to apply any then-undisbursed portion of the Refurbishment Allowance toward the next installment of Extension Term Monthly Fixed Rent (hereinafter defined) and/or Additional Rent coming due under the Lease. In the event that Landlord has not disbursed all of the Refurbishment Allowance by January 1, 2007 (the “Outside Allowance Date”) in payment of, or reimbursement for, Tenant Improvements permitted hereunder and/or to defray Extension Term Monthly Fixed Rent and/or Additional Rent under the Lease, Landlord shall credit such undisbursed portion of the Refurbishment Allowance against Tenant’s obligation to pay Rent (including without limitation Extension Term Monthly Fixed Rent and/or Additional Rent) first owing under the Lease after the Outside Allowance Date.

     D. Landlord’s designated representative, ACP Mid-Atlantic LLC (the “Construction Supervisor”), shall supervise the construction of the Tenant Improvements, and Tenant shall pay the Construction Supervisor a construction supervisor fee (the “Construction Supervision Fee”) equal to five percent (5%) of the cost of the Tenant Improvements to cover the Landlord’s cost of supervision of construction of the Tenant Improvements. In supervising the construction of the Tenant Improvements, the Construction Supervisor shall perform the following tasks: (1) prepare the bid package for the construction of the Tenant Improvements; (2) discuss the bid package with Tenant; (3) submit a bid package to each of the Approved Bidders; (4) discuss the bid package with the Approved Bidders; (5) show the Premises to each Approved Bidder; (6) collect from the Approved Bidders fixed price bids for the construction of the Tenant Improvements; (7) discuss each bid with Tenant, Landlord and each Approved Bidder which submitted same; (8) approve the form of construction contract to be executed by Landlord and the Contractor; (9) oversee the Contractor’s obtaining of permits for, and the commencement of construction with respect to, the Tenant Improvements work; (10) supervise construction of the Tenant Improvements; (11) determine when the Tenant Improvements have been substantially completed by the Contractor; (12) hold a “walk through” inspection of the Premises with Tenant and the Contractor; and (13) oversee the completion by the Contractor of all “punch list” items noted by Tenant and confirmed by Landlord’s architect. The Construction Supervision Fee shall be

HOLLAND & KNIGHT llp

2

deducted by the Landlord from the Refurbishment Allowance. Notwithstanding the foregoing, Tenant shall be required to reimburse Landlord for any reasonable third-party costs incurred by Landlord in connection with Landlord’s review of any plans or specifications depicting the Tenant Improvements, within thirty (30) days after invoice by Landlord; provided however that, before incurring any such third-party costs, Landlord shall contact Tenant and inform it of the nature and scope of the third-party services that Landlord intends to retain. Landlord shall deduct such third-party costs from the Refurbishment Allowance.

          E. Tenant expressly acknowledges and agrees that (1) Landlord shall undertake the Tenant Improvements in the Premises while Tenant is in. occupancy thereof; (2) Landlord shall perform construction activities in the Premises during regular business hours (Monday-Friday, 9:00 a.m. to 5:00 p.m.), unless Landlord elects in its sole discretion to perform some or all of such work in the evening and on weekends; (3) Landlord shall not be liable to Tenant for constructive eviction or for any interference to Tenant’s business operations in the Premises arising out of Landlord’s construction of the Tenant Improvements; and (4) no delay by Landlord in substantially completing the Tenant Improvements shall delay or otherwise affect any of Tenant’s obligations hereunder, including without limitation its obligation to pay full Extension Term Monthly Fixed Rent and Additional Rent from and after the Extension Term Commencement Date. Notwithstanding the provisions of subsection (2), above, at Tenant’s written request, received by Landlord prior to the execution by Landlord and the Contractor of a construction contract for the construction of the Tenant Improvements, Landlord shall cause the Contractor to undertake the construction of the Tenant Improvements during days and hours other than regular business hours; provided however that Tenant shall bear all additional and/or increased costs which arise out of such election by Tenant, including without limitation an increase in the Contractor’s price to construct the Tenant Improvements and all engineering, security and other costs incurred by Landlord as a result thereof. All such additional and/or increased costs shall be paid by Landlord out of the Refurbishment Allowance. Landlord agrees that, if Tenant elects to have Landlord undertake the construction of the Tenant Improvements during regular business hours, Landlord shall use commercially reasonable efforts to coordinate the scheduling of the Tenant Improvements with Tenant in order to attempt to minimize the interference to Tenant’s business operations in the Premises caused by such construction work.

     5. Fixed Rent During Extension Term. Commencing on the Extension Term Commencement Date, and thereafter on the first day of each and every calendar month during the Extension Term, Tenant shall pay to Landlord Fixed Rent for the Premises (“Extension Term Annual Fixed Rent”) in the following amounts, in equal monthly installments (“Extension Term Monthly Fixed Rent”), in advance, as follows:

	Extension Term Annual
	Fixed Rent Per Square		Extension Term		Extension Term
Period	Foot		Annual Fixed Rent		Monthly Fixed Rent
8/1/05-7/31/06	$	25.50	$	956,683.56	$	79,723.63
8/1/06-7/31/07	$	26.14	$	980,600.64	$	81,716.72
8/1/07-7/31/08	$	26.79	$	1,005,115.68	$	83,759.64
8/1/08-7/31/09	$	27.46	$	1,030,243.56	$	85,853.63
8/1/09-7/31/10	$	28.15	$	1,055,999.64	$	87,999.97

Tenant shall pay Landlord Extension Term Annual Fixed Rent without deduction, diminution, setoff, counterclaims or prior notice or demand, in accordance with the terms and provisions of Article 2 of the Original Lease (captioned, “Premises, Term, Rent”).

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     6. Additional Rent During Extension Term.

          A. Commencing on January 1, 2007 and continuing thereafter throughout the Extension Term, Tenant shall pay to Landlord: (i) Tenant’s Proportionate Share (as such term is defined in Article 1 of the Original Lease) of the amount of Operating Expenses incurred by Landlord during any calendar year in the Extension Term which is in excess of the amount of Operating Expenses incurred by Landlord in the E.T. Base Year (hereinafter defined) in accordance with the terms and conditions of Section 7.3 of the Original Lease (captioned, “Tenant’s Operating Payment”); and (ii) Tenant’s Proportionate Share of the amount of Taxes incurred by Landlord during any calendar year in the Extension Term which is in excess of the amount of Taxes incurred by Landlord in the E.T. Base Year in accordance with the terms and conditions of Section 7.2 of the Original Lease (captioned, “Tenant’s Tax Payment”). As used herein, the term “E.T. Base Year” shall mean calendar year 2006.

          B. Effective as of January 1, 2007, Section 7.7(a) of the Original Lease is amended by (1) deleting “105%” in each instance in which such percentage is used therein and by inserting in lieu thereof “106%”; (2) deleting the example set forth therein; and (3) inserting the following language regarding the cumulative nature of the Cap immediately after the word “determined)” in line 6 thereof: “Notwithstanding the foregoing, for each calendar year in which Controllable Operating Expenses are less than 106% of Controllable Operating Expenses for the immediately-preceding calendar year, the percentage by which actual Controllable Operating Expenses for such year are below 106% of the prior year’s Controllable Operating Expenses shall be added to the “Cap” for the next calendar year (and each succeeding calendar year until actual Controllable Operating Expenses for such year exceed by more than 106% (plus any unused “carryover” percentage from prior calendar years) of the prior year’s Controllable Operating Expenses”.

     7. Tenant’s Continuing Obligations. Between the Effective Date and the Extension Term Commencement Date, Tenant shall continue to pay to Landlord: (a) all Fixed Rent for the Premises in accordance with the terms and conditions of Article 2 of the Original Lease; (b) Tenant’s Proportionate Share of increases in Operating Expenses in accordance with the terms and conditions of Section 7.3 of the Original Lease; (c) Tenant’s Proportionate Share of increases in Real Estate Taxes in accordance with the terms and conditions of Section 7.2 of the Original Lease; and (d) any and all other Additional Rent payable to Landlord under the Original Lease.

     8. Option To Extend Term.

          A. Tenant shall have and is hereby granted the option to further extend the Term hereof for one (1) additional period of five (5) years commencing on the date immediately following the Extension Term Expiration Date (the “Second Extension Term”), provided that: (i) Tenant delivers written notice (the “Second Extension Notice”) to Landlord, on the date which is twelve (12) months prior to the Extension Term Expiration Date, time being of the essence, of Tenant’s irrevocable election to exercise such extension option, time being of the essence; (ii) no Event of Default has occurred during the Extension Term and no event exists at the time of the exercise of such option or arises subsequent thereto, which event by notice and/or the passage of time would constitute an Event of Default if not cured within the applicable cure period; and (iii) Tenant has not assigned its interest in the Lease (except to a Related Entity) or sublet more than thirty percent (30%) of the Premises (except to a Related Entity).

          B. All terms and conditions of the Lease, including without limitation all provisions governing the payment of Additional Rent and annual increases in Annual Fixed Rent, shall remain in full force and effect during the Second Extension Term, except that (i) Annual Fixed Rent (on a per rentable square foot basis) payable during the Second Extension Period shall equal the then-current Fair Market Rental Rate (hereinafter defined) at the time of the commencement of the Second Extension Period; (ii) Landlord shall provide a “market” improvement allowance, rental abatement and other tenant concessions

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in connection with the Second Extension Term; and (iii) the “Base Year” for Tenant’s Proportionate Share of increases in Operating Expenses and Tenant’s Proportionate Share of increases in Real Estate Taxes shall be calendar year 2011. As used in this Lease, the term “Fair Market Rental Rate” shall mean the fair market rental rate that would be agreed upon between a landlord and a tenant entering into a lease renewal for comparable space as to location, configuration, size and use, in a comparable building as to quality, reputation and age which is located in the Dulles Toll Road Corridor submarket, with a comparable build-out and a comparable term assuming the following: (A) the landlord and tenant are informed and well-advised and each is acting in what it considers its own best interests; (B) the landlord shall provide a “market” tenant improvement allowance, free rent period and other tenant concessions (including, for example, an allowance for architectural and engineering fees) typically provided to tenants of comparable space in comparable buildings for leases having terms comparable to the Second Extension Period; and (C) the tenant will continue to pay its share of increases in Operating Expenses and Real Estate Taxes as described above.

           C. Landlord and Tenant shall negotiate in good faith to determine the Annual Fixed Rent for the first year of the Second Extension Term, for a period of thirty (30) days after the date on which Landlord receives Tenant’s written notice of Tenant’s irrevocable election to exercise the extension option provided for under this Paragraph 8. In the event Landlord and Tenant are unable to agree upon the Annual Fixed Rent for the first year of the Second Extension Term within said thirty (30)-day period, the Fair Market Rental Rate for the Premises shall be determined by a board of three (3) licensed real estate brokers, one of whom shall be named by the Landlord, one of whom shall be named by Tenant, and the two so appointed shall select a third. Each real estate broker so selected shall be licensed in the Commonwealth of Virginia as a real estate broker specializing in the field of office leasing in Fairfax County, having no fewer than ten (10) years experience in such field, and recognized as ethical and reputable within the field. Landlord and Tenant agree to make their appointments promptly within ten (10) days after the expiration of the thirty (30)-day period, or sooner if mutually agreed upon. The two (2) brokers selected by Landlord and Tenant shall promptly select a third broker (the “Third Broker”) within ten (10) days after they both have been appointed, and each broker, within fifteen (15) days after the third broker is selected, shall submit his or her determination of the Fair Market Rental Rate. The Third Broker shall determine which determination of Fair Market Rental Rate made by Landlord’s broker or Tenant’s broker is closest to the determination of Fair Market Rental Rate made by the Third Broker (the “Closest Determination”). The Fair Market Rental Rate hereunder shall be the mean of the Closest Determination and the determination of Fair Market Rental Value made by the Third Broker. Landlord and Tenant shall each pay the fee of the broker selected by it, and they shall equally share the payment of the fee of the Third Broker.

          D. Should the Term of the Lease be extended hereunder, Tenant shall, if required by Landlord, execute an amendment modifying the Lease within thirty (30) days after Landlord presents same to Tenant, which agreement shall set forth the Annual Fixed Rent for the first year of the Second Extension Term and the other economic terms and provisions in effect during the Second Extension Term. Should Tenant fail to execute the amendment (which amendment accurately sets forth the economic terms and provisions in effect during the Second Extension Term) within thirty (30) days after presentation of same by Landlord, time being of the essence, Tenant’s right to further extend the Term of the Lease shall, at Landlord’s sole option, terminate, and Landlord shall be permitted to lease such space to any other person or entity upon whatever terms and conditions are acceptable to Landlord in its sole discretion.

     9. Right of First Offer.

          A. Subject to (i) any renewal rights granted by Landlord, before or after the Effective Date, to any tenant of all or any portion of the Right of First Offer Space, and (ii) the right of any tenant of the Right of First Offer Space (or any portion thereof) to negotiate an extension of the term

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of its lease of such space or a new lease demising such space, Tenant shall be granted during the Extension Term only the following rights with respect to the Right of First Offer Space. As used herein, the term “Right of First Offer Space” shall mean the portion, if any, of the First Floor Space (hereinafter defined) and/or the Fourth Floor Space (hereinafter defined) which Landlord determines is available for lease by Tenant during the Extension Term and with respect to which Landlord receives an Offer (hereinafter defined) to lease all or any portion of such space. As used herein (1) the term “First Floor Space” means the space located on the first (1^st) floor of the Building which is designated as “First Floor Space” on Exhibit A attached hereto, and (2) the term “Fourth Floor Space” means the space located on the fourth (4^th) floor of the Building which is designated as “Fourth Floor Space” on Exhibit A-1 attached hereto. Notwithstanding any provision of the Lease to the contrary, Tenant shall have no rights with respect to the Right of First Offer Space or any other rights of first offer or refusal, or first right to negotiate, or any other expansion rights whatsoever, except as expressly provided in this Paragraph 9.

          B. If, during the Extension Term, Landlord determines that any portion of the Right of First Offer Space is, or will be, available for lease by Tenant and thereafter Landlord receives a bona fide offer from a prospective tenant which is not related to Landlord (a “Prospective Tenant”) to lease all or any portion of the Right of First Offer Space (an “Offer”), the financial terms of which Landlord is prepared to accept, Landlord shall notify Tenant in writing of such Offer (the “ROFO Notice”), and Landlord shall set forth in the ROFO Notice: (i) a description of the portion of the Right of First Offer Space that is subject to the Offer (the “Available Space”), (ii) the base rent, tenant concessions and other terms and conditions pursuant to which Landlord would agree to lease the Available Space to Tenant (which terms need not be those contained in the Offer), and (iii) the date on which Landlord anticipates that the Available Space would become available for lease by Tenant (the “ROFO Availability Date”). Provided that (A) no Event of Default then exists under the Lease; (B) Tenant has not assigned the Lease (except to a Related Entity), or sublet twenty-five percent (25%) or more of the Premises (except to a Related Entity); (C) not less than thirty-six (36) months remain in the Extension Term as of the ROFO Availability Date; and (D) Tenant notifies Landlord, in writing, within five (5) business days after Tenant receives the ROFO Notice, time being of the essence, of Tenant’s irrevocable election to lease all (but not less than all) of the Available Space described in the ROFO Notice on the terms and conditions set forth in the ROFO Notice (the “ROFO Tenant Election Notice”), Tenant shall have the right to lease all, but not less than all, of the Available Space described in the ROFO Notice on the terms and conditions set forth in the ROFO Notice.

          C. In the event that Tenant timely delivers a ROFO Tenant Election Notice to Landlord, Landlord shall prepare an amendment modifying the Lease to incorporate the Available Space (the “ROFO Amendment”), which amendment shall set forth, among other things: (i) the amount of Annual Fixed Rent payable by Tenant for the Available Space (based on the per rentable square foot rental rate set forth in the ROFO Notice) during each year of the Right of First Offer Space Term (hereinafter defined); and (ii) the adjustments to Tenant’s obligation to pay Additional Rent caused by the addition of the Available Space. The term of the demise of the Available Space (the “Right of First Offer Space Term”) shall commence on the date on which Landlord delivers such Available Space to Tenant (the “ROFO Space Commencement Date”), at which time all of Tenant’s obligations with respect to the Available Space shall commence, including the obligation to pay Annual Fixed Rent. The Right of First Offer Space Term shall be coterminous with the Extension Term, as such term may be further extended.

          D. In the event that Landlord and Tenant enter in a ROFO Amendment, and Landlord is unable to deliver to Tenant possession of the Available Space demised thereunder on the ROFO Availability Date for any reason whatsoever, including without limitation the failure of an existing tenant to vacate such space, Landlord shall not be liable or responsible for any claims, damages or liabilities in connection therewith or by reason thereof, provided that (i) Landlord shall use reasonable efforts to obtain possession of such space and deliver same to Tenant as soon as reasonably practicable thereafter; and (ii) rent shall abate until Landlord delivers the Available Space to Tenant.

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          E. In the event Tenant fails timely to deliver a ROFO Tenant Election Notice to Landlord or, having done so, Tenant fails to execute the ROFO Amendment tendered by Landlord within ten (10) days after Landlord tenders such amendment to Tenant: (i) Landlord may lease the Available Space (or any portion thereof) described in the ROFO Notice to any person or entity of Landlord’s choice, on whatever terms and conditions are selected by Landlord in its sole discretion; and (ii) this Paragraph 9 shall terminate automatically, and Tenant shall have no further right to lease any Right of First Offer Space.

     10. Monument Sign. In the event that, at any time during the Term, Landlord elects in its sole discretion to erect a monument sign (the “Monument”) adjacent to the main entrance of the Building, Tenant, at Tenant’s sole cost and expense, shall be permitted to install on a non-exclusive basis a plaque or other means of entity identification selected by Landlord in its sole discretion and bearing Tenant’s name (the “Monument Signage”) on such Monument, in a location selected by Landlord. All attributes of the Monument, if constructed by Landlord, shall be determined by Landlord in its sole discretion. All attributes of the Monument Signage, including without limitation size, materials, and color and position on Landlord’s Monument, shall be subject to Landlord’s approval in its sole discretion. The location of other tenants’ signage on the Monument (if built) shall be determined by Landlord in its sole discretion. In the event that the Monument is constructed by Landlord, Tenant’s right to install the Monument Signage shall be subject to Tenant’s receipt of all necessary permits and governmental approvals for such installation; provided that the failure to obtain such permits or approvals shall not affect the Lease (or Tenant’s obligations thereunder) in any way. Tenant shall be responsible for repairing and maintaining the Monument Signage in a first-class condition throughout the Term. The Monument Signage shall be installed by Landlord at Tenant’s sole cost and expense. The right to install the Monument Signage shall be personal to Dieca Communications, Inc. and shall not apply to any sublessee, assignee or other transferee of Tenant; provided that (a) if an affiliate of Tenant occupies the Premises pursuant to this Lease or a sublease, such affiliate’s name may be on the Monument Signage in lieu of Tenant’s name; and (b) Tenant may insert its “Covad” trade name on the Monument Signage in lieu of its corporate name. Tenant agrees to indemnify Landlord and hold it harmless from and against all claims, damage or liability (including reasonable attorneys’ fees) sustained or suffered by Landlord arising out of or related to the installation, maintenance or removal of the Monument Signage. Tenant shall remove the Monument Signage at the end of the Term, and shall restore the portion of Landlord’s Monument affected by such removal to its condition immediately prior to the installation of such Monument Signage, reasonable wear and tear excepted. If Tenant fails to remove the Monument Signage from the Monument at the expiration of the Term or fails to restore the portions of the Monument affected by such removal, Landlord may, but shall not be obligated to remove the Monument Signage and/or restore the portion of the Monument affected thereby, and Tenant shall reimburse Landlord for all costs and expenses incurred by Landlord with respect to such removal and/or restoration immediately upon demand therefor.

     11. Security Deposit. Within ten (10) days after the Effective Date, time being of the essence, Tenant shall cause the Issuing Bank to extend until October 31, 2010 the expiration date under the Letter of Credit, and to issue to Landlord an amendment to the Letter of Credit, in form and substance acceptable to Landlord in its sole discretion, by which the Issuing Bank has effected such extension. Notwithstanding any contrary provision contained in Article 27 of the Original Lease (captioned, “Security Deposit”), provided that (a) no Event of Default then exists; (b) no event has occurred which, but for the passage of time or the giving of notice, would constitute an Event of Default under the Lease; and (c) Tenant has not assigned the Lease or subleased all or any portion of the Premises (collectively, the “Reduction Conditions”), then, upon the earlier to occur of (i) the date which is ten (10) days after that on which Tenant evidences to Landlord’s reasonable satisfaction that, for four (4) successive three (3) calendar month periods during the Extension Term, Guarantor (hereinafter defined) has been Profitable (hereinafter defined); or (ii) August 31, 2008, the Letter of Credit shall be reduced by an amount (the “First Reduction Amount”) sufficient to cause the Letter of Credit to be in an amount equal to three (3) times the then-current Extension Term Monthly Fixed Rent. As used herein, the term “Profitable” means that, at the end of each three (3) calendar month period described above, Tenant demonstrates to

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Landlord’s reasonable satisfaction that (A) Guarantor has achieved an after-tax profit (i.e., net income after taxes) for such period, (B) Guarantor has an owner’s equity net of unamortized intangibles and. goodwill (i.e., total assets less total liabilities and less any unamortized intangible assets and any good will) equal to or greater than such owner’s equity as of the Effective Date, and (C) the ratio of Guarantor’s total debt (long-term and short term) to owner’s equity (net of unamortized intangibles and goodwill) is less than 1:2 (i.e. total debt ¸ owner’s equity and less any unamortized intangible assets and any good will is less than .50). The foregoing ratios and amounts for each three (3) calendar month period in question shall be determined based upon Guarantor’s quarterly financial statements delivered to Landlord which have been prepared in accordance with generally accepted accounting principles consistently applied and certified to as such by Guarantor’s chief financial officer. Notwithstanding the foregoing, the Issuing Bank (as such term is defined in Section 27.1 of the Original Lease) shall not reduce the Letter of Credit as aforesaid unless and until Landlord delivers to such bank a written notice confirming that all conditions precedent to such reduction have been satisfied. In addition, provided that the Letter of Credit is reduced by the First Reduction Amount prior to August 31, 2008 in accordance with the provisions of Subparagraph (i), above, and provided that Guarantor’s Net Worth (hereinafter defined) and Profitability have not declined between the date of such initial reduction in the Letter of Credit and August 31, 2008, then within thirty (30) days after August 31, 2008, provided that the Reduction Conditions are satisfied by Tenant as of this date, the Letter of Credit shall be further reduced by an amount (the “Second Reduction Amount”) sufficient to cause the Letter of Credit to be in an amount equal to two (2) times the then-current Extension Term Monthly Fixed Rent. In no event shall the Letter of Credit be further reduced by the Issuing Bank unless and until the Issuing Bank receives from Landlord written confirmation that Tenant has timely satisfied the conditions set forth above, and that Tenant is then entitled to a reduction in the Letter of Credit in me amount of the Second Reduction Amount. As used herein, the term “Net Worth” means total assets (exclusive of intangible assets, including goodwill) minus total liabilities.

     12. Second Floor Storage Systems Furniture. Subject to the terms and conditions set forth below, Tenant shall have and is hereby granted a one-time right of first offer to use, during the Extension Term,’at no additional cost to Tenant, the systems furniture currently being stored by Landlord on the second (2^nd) floor of the Building, which furniture consists of approximately twenty-four (24) work station cubicles (the “Second Floor Storage Systems Furniture”). In the event that Landlord notifies Tenant in writing that Landlord intends to utilize the Second Floor Storage Systems Furniture during the Extension Term, Tenant shall have five (5) business days within which to notify Landlord in writing (the “Furniture Election Notice”) of Tenant’s election to use the Second Floor Storage Systems Furniture during the Extension Term. In the event that Tenant timely delivers the Furniture Election Notice to Landlord, Landlord, at Tenant’s sole cost and expense, shall deliver the Second Floor Storage Systems Furniture to the Premises on the Furniture Delivery Date in its then “as-is” condition. As used herein, the term “Furniture Delivery Date” means the later to occur of: (i) the Extension Term Commencement Date; or (ii) thirty (30) days after Landlord’s receipt of the Furniture Election Notice. Tenant hereby expressly acknowledges and that Landlord shall have no obligation to provide or purchase any supplemental components that may be necessary to assemble or otherwise use the Second Floor Storage Systems Furniture. Throughout the Extension Term, Tenant shall be solely responsible for the installation, maintenance, repair and/or replacement of the Second Floor Storage Systems Furniture. At the expiration or other termination of the Extension Term, Tenant shall surrender and deliver the Second Floor Storage Systems Furniture, to Landlord in the same condition and repair as it existed on the Extension Term Commencement Date (except as repaired, rebuilt, or replaced), ordinary wear and tear excepted. If Tenant fails to properly maintain, repair or replace any of the Second Floor Storage Systems Furniture, Landlord may (but shall not be obligated to) undertake such maintenance, repair or replacement, and Tenant shall reimburse Landlord for all costs incurred by Landlord in connection therewith within five (5) days after demand by Landlord. Notwithstanding any contrary provisions contained in the last sentence of Section 4.3 of the Original Lease, provided (a) no Event of Default then exists, and (b) no event has occurred which, but for the passage of time or the giving of notice, would constitute an Event of Default

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under the Lease, Tenant shall have the right, upon delivery of written notice to Landlord on or before the date which is thirty (30) days prior to the Extension Term Expiration Date, time being of the essence, to purchase the Existing Furnishings (as such term is defined in Section 4.3 of the Original Lease) and the Second Floor Storage Systems Furniture from Landlord for One Dollar ($1.00), whereupon Landlord and Tenant shall enter into a bill of sale evidencing such purchase.

     13. Parking.

          A. Notwithstanding any contrary provision contained in Section 3.2 of the Original Lease (captioned, “Parking Facilities”) , throughout the Extension Term, Landlord shall provide Tenant with the right to use, without additional charge, an additional five (5) reserved parking spaces (the “Reserved Parking Spaces”) in a location selected by Landlord in its sole discretion on the surface lot adjacent to the Building and/or in the parking facility serving the Building. Landlord shall have no obligation to “police” the Reserved Parking Spaces in order to assure that automobiles parked in such Reserved Parking Spaces belong to Tenant’s employees or guests only.

          B. Tenant agrees that it and its employees shall observe reasonable safety precautions in the use of the parking garage, and shall at all times abide by all reasonable rules and regulations promulgated by Landlord or the parking garage operator governing the use of the parking garage. It is understood and agreed that Landlord does not assume any responsibility for any damage or loss to any automobiles parked in the parking garage or to any personal property located therein, or for any injury sustained by any person in or about the parking garage.

     14. Exterior Signage.

          A. Paragraph 1 of Rider No. 3 attached to the Original Lease is amended by deleting the third (3^rd) sentence thereof (which begins “The Exterior Sign shall not exceed...”) and inserting in lieu thereof the following: “The Exterior Sign shall not exceed its size as of March 1, 2005”.

          B. Exhibit R-3-A attached to the Original Lease is deleted in its entirety, and Exhibit R-3-A attached hereto is substituted therefor as though initially attached to the Original Lease.

     15. Landlord’s and Tenant’s Notice Addresses.

          A. Article 1 of the Original Lease is amended by deleting the names and addresses set forth opposite “Tenant’s Address for Notices”, and inserting in lieu thereof the following:

“TENANT’S ADDRESS
FOR NOTICES:	Covad Communications
	Attn: Legal Department
	110 Rio Robles
	San Jose, California 95134”

          B. Article 1 of the Original Lease is amended by deleting the names and addresses set forth opposite “Landlord’s Address for Notices”, and inserting in lieu thereof the following:

“LANDLORD’S ADDRESS
FOR NOTICES:	ACP/2350 Corporate Park Drive, LLC
	Attn: Chief Operating Officer
	444 Brickell Avenue
	Suite 900
	Miami, Florida 33131

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With copies to:

ACP/2350 Corporate Park Drive, LLC

c/o ACP Mid-Atlantic LLC, as Agent

Attn: Asset Manager

2350 Corporate Park Drive

Suite 110

Herndon, Virginia 20171

and to:

Holland & Knight LLP

2099 Pennsylvania Avenue, NW

Suite 100

Washington, DC 20006

Attn: David S. Kahn, Esq.”

     16. USA Patriot Act and Anti-Terrorism Laws. As of the Effective Date, the Original Lease is hereby amended by adding the following language as new Article 28 thereof:

“ARTICLE 28

USA PATRIOT ACT AND ANTI-TERRORISM LAWS

(a) Tenant represents and warrants to, and covenants with, Landlord that neither Tenant nor any of its respective constituent owners or affiliates currently are, or shall be at any time during the Term hereof, in violation of any laws relating to terrorism or money laundering (collectively, the “Anti-Terrorism Laws”), including without limitation Executive Order No. 13224 on Terrorist Financing, effective September 24, 2001 and relating to Blocking Property and Prohibiting Transactions With Persons Who Commit, Threaten to Commit, or Support Terrorism (the “Executive Order”) and/or the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (Public Law 107-56) (the “USA Patriot Act”).

(b) Tenant covenants with Landlord that neither Tenant nor any of its respective constituent owners or affiliates is or shall be during the Term hereof a “Prohibited Person,” which is defined as follows: (i) a person or entity that is listed in the Annex to, or is otherwise subject to, the provisions of the Executive Order; (ii) a person or entity owned or controlled by, or acting for or on behalf of, any person or entity that is listed in the Annex to, or is otherwise subject to the provisions of, the Executive Order; (iii) a person or entity with whom Landlord is prohibited from dealing with or otherwise engaging in any transaction by any Anti-Terrorism Law, including without limitation the Executive Order and the USA Patriot Act; (iv) a person or entity who commits, threatens or conspires to commit or support “terrorism” as defined in Section 3(d) of the Executive Order; (v) a person or entity that is named as a“specially designated national and blocked person” on the then-most current list published by the U.S. Treasury Department Office of Foreign Assets Control at its official website, http://www.treas.gov/offices/eotffc/ofac/sdn/tllsdn.pdf, or at any replacement website or other replacement official publication of such list; and (vi) a person or entity who is affiliated with a person or entity listed in items (i) through (v); above.

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(c) At any time and from time-to-time during the Term, Tenant shall deliver to Landlord, within ten (10) days after receipt of a written request therefor, a written certification reasonably acceptable to Landlord evidencing and confirming Tenant’s compliance with this Article 28.”

     17. Deletion of Tenant’s Termination Right. As of the Effective Date, Paragraph 9.6 of the Original Lease (captioned “Right to Terminate”) is deleted in its entirety, and it shall be of no further force or effect.

     18. Guaranty. Simultaneously with Tenant’s execution and delivery to Landlord of this First Amendment, Covad Communications Group, Inc. (“Guarantor”) shall execute and deliver to Landlord the Guaranty of Deed of Lease attached hereto as Exhibit C (the “Guaranty”).

     19. Low Voltage Cabling. All voice, data, video, audio, and other low-voltage control transport system cabling and/or cable bundles installed in the Building shall be (a) plenum rated and/or have a composition makeup suited for its environmental use in accordance with NFPA 70/National Electrical Code; (b) labeled every 3 meters with the Tenant’s name and origination and destination points; (c) installed in accordance with all EIA/TIA standards and the National Electric Code; (d) installed and routed in accordance with a routing plan showing “as built” or “as installed” configurations of cable pathways, outlet identification numbers, locations of all wall, ceiling and floor penetrations, riser cable routing and conduit routing if applicable, and such other information as Landlord may request. The routing plan shall be available to Landlord and its agents at the Building upon request.

     20. Brokers. Landlord and Tenant recognize ACP Mid-Atlantic LLC, as Landlord’s agent, and Liberty-Greenfield, LLP and Scheer Partners, as Tenant’s agent, as the sole brokers (the “Brokers”) with respect to this First Amendment. Landlord shall be responsible for the payment of any leasing commission owed to the Brokers in accordance with the terms of separate commission agreements entered into between Landlord and the Brokers. Landlord and Tenant each represent and warrant to the other that no other broker has been employed in carrying on any negotiations relating to this First Amendment and shall each indemnify and hold harmless the other from any claim for brokerage or other commission arising from or out of any breach of the foregoing representation and warranty.

     21. Counterpart Copies. This First Amendment may be executed in two (2) or more counterpart copies, all of which counterparts shall have the same force and effect as if all parties hereto had executed a single copy of this First Amendment.

     22. Miscellaneous. This First Amendment (a) shall be binding upon and inure to the benefit of the parties hereto and their respective representatives, transferees, successors and assigns and (b) shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia.

     23. Ratification. Except as expressly amended by this First Amendment, all other terms, conditions and provisions of the Lease are hereby ratified and confirmed and shall continue in full force and effect.

[signatures on next page]

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     IN WITNESS WHEREOF, the parties hereto have executed this First Amendment to Deed of Lease under seal as of the day and year first hereinabove written.

	LANDLORD:
	ACP/2300 CORPORATE PARK DRIVE, LLC, a
	Delaware limited liability company
	By:	ACP/Woodland Park, LLC, a Delaware limited liability company, its sole member
WITNESS:		By:	ACP/Woodland Park Manager, LLC, a Delaware limited liability company, its manager
/s/			By:	/s/ Doug Fleit
				Name :  Doug Fleit
				Title:     Managing Member
	TENANT:
ATTEST:
	DIECA COMMUNICATIONS, INC., a Virginia corporation
/s/	By:	/s/ Charles E. Hoffman
		Name :  CHARLES E. HOFFMAN
		Title:	PRESIDENT & CEO

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EXHIBIT A

FLOOR PLAN OF FIRST FLOOR SPACE

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EXHIBIT A-l

FLOOR PLAN OF FOURTH FLOOR SPACE

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EXHIBIT B

INTENTIONALLY OMITTED

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EXHIBIT R-3-A

LOCATION OF EXTERIOR SIGNAGE

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EXHIBIT R-3-A
LOCATION OF EXTERIOR SIGNAGE

EXHIBIT C

GUARANTY OF DEED OF LEASE

     THIS GUARANTY OF DEED OF LEASE (this “Guaranty”) is made and given as of the ___ day of March, 2005, by COVAD COMMUNICATIONS GROUP, INC., a Delaware corporation (“Guarantor”), to and for the benefit of ACP/2300 CORPORATE PARK DRIVE, LLC, a Delaware limited liability company, and its successors and assigns (“Landlord”).

W I T N E S S E T H:

     WHEREAS, concurrently with the execution of this Guaranty, Landlord and Dieca Communications, Inc. (“Tenant”) have entered into that certain First Amendment to Deed of Lease, of even date herewith (the “First Amendment”), pursuant to which Landlord and Tenant have amended the terms of that certain Deed of Lease, dated July 8, 2002 (the “Original Lease”) demising certain premises (the “Premises”) in the building known as South Pointe II located at 2300 Corporate Park Drive, Herndon, Virginia (the “Building”) (the Original Lease, as amended by the First Amendment, is hereinafter referred to as the “Lease”); and

     WHEREAS, the Guarantor has a direct and/or indirect financial interest in Tenant; and

     WHEREAS, the parties recognize that the terms and conditions contained in the First Amendment were agreed to by Landlord solely because the Guarantor has agreed to guarantee the performance of the obligations of Tenant and its respective successors and assigns under the Lease, and such guarantee was and is a material inducement to the execution and delivery of the First Amendment by Landlord; and

     WHEREAS, the Guarantor warrants and acknowledges that because of its financial interest, direct and/or indirect, in Tenant and in the benefits and advantages which will result from the First Amendment, the Guarantor will be significantly benefited by the First Amendment.

     NOW, THEREFORE, in consideration of the foregoing and as an inducement for the granting, execution and delivery of the Lease, the sum of Ten Dollars ($10.00), and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the Guarantor hereby unconditionally and irrevocably guarantees, promises and agrees as follows:

     1. The above recitals are by this reference incorporated herein as if fully restated herein.

     2. The Guarantor hereby guarantees to Landlord, absolutely, unconditionally and irrevocably: (a) the full and prompt payment of all sums which may at any time become due under the Lease, including, but not limited to, monthly rent, additional rent, and all other sums and charges (including without limitation Landlord’s attorneys’ fees and disbursements) (hereinafter sometimes collectively referred to as the “Monetary Obligations”) which Tenant is obligated to pay to or on behalf of Landlord or to pay to third parties under the provisions of the Lease, and (b) the full and timely performance and observance of all of the covenants, terms, conditions and agreements provided in the Lease to be performed and observed by Tenant (hereinafter sometimes collectively referred to as the “Non-Monetary Obligations”). The Guarantor hereby covenants and agrees to and with Landlord that if at any time Tenant shall fail to make payment when due of any of the Monetary Obligations, or if at any time Tenant shall fail to perform and observe when and as required any of the Non-Monetary Obligations, the Guarantor shall forthwith pay the Monetary Obligations to Landlord and any arrears thereof, and shall

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forthwith faithfully and punctually perform and fulfill all of the Non-Monetary Obligations and, in addition thereto, shall forthwith pay to Landlord all reasonable attorneys’ fees and disbursements incurred by Landlord or caused by any such default or the enforcement of this Guaranty.

     3. This Guaranty is an absolute and unconditional guaranty of payment (and not merely of collection) and of performance. The liabilities of the Guarantor are primary, irrevocable and co-extensive with that of Tenant and also joint and several, and this Guaranty shall be enforceable against the Guarantor without the necessity of any suit or proceeding on Landlord’s part of any kind or nature whatsoever against Tenant and without the necessity of any notice of non-payment, non-performance or non-observance or of any notice of acceptance of this Guaranty or of any other notice or demand to which the Guarantor might otherwise be entitled, all of which the Guarantor hereby expressly waives. The Guarantor hereby expressly agrees that the validity of this Guaranty and the obligations of the Guarantor hereunder shall in no way be terminated, affected, diminished or impaired by reason of (a) the assertion of, or the failure to assert by Landlord, against Tenant any of the rights or remedies reserved to Landlord pursuant to the terms, covenants and conditions of the Lease, or (b) any non-liability of Tenant under the Lease, whether by insolvency, discharge in bankruptcy, or any other defect or defense which may now or hereafter exist in favor of Tenant.

     4. This Guaranty guarantees the performance of all of the obligations of Tenant, its successors and assigns, under the Lease.

     5. This Guaranty shall be a continuing guaranty, and it is expressly agreed that the liability of the Guarantor hereunder shall in no way be affected, modified or diminished by reason of (a) any sublease of all or any portion of the Premises or assignment, renewal, modification, amendment, extension or waiver of the Lease or any of the terms, covenants and conditions thereof, even if the effect of such sublease, assignment, renewal, modification, amendment, extension or waiver shall be to increase the obligations of the Guarantor hereunder, or (b) any extension of time that may be granted by Landlord to Tenant, or (c) any consent, release, indulgence or other action, inaction or omission under or in respect of the Lease, or (d) any dealings or transactions or matter or thing occurring between Landlord and Tenant relating to the Building or the Lease, or (e) any bankruptcy, insolvency, reorganization, liquidation, arrangement, assignment for the benefit of creditors, receivership, trusteeship or similar proceeding affecting Tenant, or (f) any obligation of Tenant under the Lease having become unenforceable as against Tenant, whether or not notice of any of the aforesaid (a) through (f) is given to the Guarantor.

     6. Should Landlord be obligated by any bankruptcy or other law to repay to Tenant or to the Guarantor or to any trustee, receiver or other representative of any of them, any amounts previously paid, this Guaranty shall be reinstated in the amount of such repayments. Landlord shall not be required to litigate or otherwise dispute its obligations to make such repayments if it in good faith believes that such obligation exists.

     7. No delay on the part of Landlord in exercising any right, power or privilege under this Guaranty or failure to exercise the same shall operate as a waiver of or otherwise affect any such right, power or privilege, nor shall any single or partial exercise thereof preclude any other or further exercise thereof or the exercise of any other right, power or privilege.

     8. No waiver or modification of any provision of this Guaranty nor any termination of this Guaranty shall be effective unless in writing and signed by Landlord; nor shall any such waiver be applicable except in the specific instance for which it is given.

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Exhibit C, Page 2

     9. All of Landlord’s rights and remedies under the Lease and under this Guaranty, now or hereafter existing at law or in equity or by statute or otherwise, are intended to be distinct, separate and cumulative and no exercise or partial exercise of any such right or remedy therein or herein mentioned is intended to be in exclusion of or a waiver of any of the others.

     10. The Guarantor agrees that whenever at any time or from time to time the Guarantor shall make any payment to Landlord or perform or fulfill any term, covenant or condition hereunder on account of the liability of the Guarantor, hereunder, the Guarantor will notify Landlord in writing that such payment or performance, as the case may be, is for such purpose. No such payment or performance by the Guarantor pursuant to any provision hereof or otherwise shall entitle the Guarantor, by subrogation or otherwise, to the rights of Landlord to any payment by Tenant, or out of the property of Tenant, except after payment of all sums and fulfillment of all covenants, terms, conditions or agreements to be paid or performed by Tenant and its successors or assigns under the Lease.

     11. The Guarantor agrees that it will, at any time and from time to time, within ten (10) days following written request by Landlord, execute, acknowledge and deliver to Landlord a statement certifying that this Guaranty is unmodified and in full force and effect (or if there have been modifications, that the same is in full force and effect as modified and stating such modification). The Guarantor agrees that such certificate may be relied on by anyone holding or proposing to acquire any interest in the Premises or the Building of which the Premises is a part from or through Landlord or by the holder of any mortgage or prospective holder of any mortgage or of any interest therein.

     12. As a further inducement to Landlord to make and enter into the Lease and in consideration thereof, Landlord and the Guarantor covenant and agree that in any action or proceeding brought on, under or by virtue of this Guaranty., Landlord and the Guarantor shall and do hereby waive trial by jury.

     13. This Guaranty may be enforced by Landlord without the necessity of its signature appearing hereon.

     14. All notices and other communications permitted or required by the provisions of this Guaranty shall be in writing and shall be deemed given either (a) three (3) business days after being mailed through the United States Postal Service, designated as registered or certified mail, return receipt requested, bearing adequate postage and addressed as hereinafter provided, or (b) when delivered by hand or by means of a nationally-recognized commercial delivery service (such as FedEx) which obtains a signed receipt to confirm delivery. Rejection or refusal to accept or inability to deliver because of change of address of which no notice was given as provided herein shall be deemed to be receipt of the notice or other communication sent. By giving to the other party hereto at least ten (10) days’ notice thereof, any party hereto shall have the right from time to time to change its address for purposes of this Guaranty to any other address. Each notice or other communication to Guarantor or Landlord shall be addressed, until such notice of change of address, as follows:

If to Guarantor:	Covad Communications Group, Inc.
	110 Rio Robles
	San Jose, California 95134
	Attention: Legal Department
If to Landlord:	ACP/2350 Corporate Park Drive, LLC
	444 Brickell Avenue, Suite 900
	Miami, Florida 33131
	Attention: Chief Operating Officer

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Exhibit C, Page 3

and to:	ACP/2350 Corporate Park Drive, LLC
	c/o ACP Mid-Atlantic LLC, as Agent
	2350 Corporate Park Drive, Suite 110
	Herndon, Virginia 20171
	Attention: Asset Manager
with a copy to:	Holland & Knight LLP
	2099 Pennsylvania Avenue, NW
	Suite 100
	Washington, DC 20006
	Attention: David S. Kahn, Esquire

     16. If any provision of this Guaranty shall be declared to be unenforceable in whole or in part by a court of competent jurisdiction, that part of the Guaranty found to be unenforceable shall be deemed stricken and severed and the remaining provisions and portions shall continue in fall force and effect.

     17. The Guarantor agrees that this Guaranty shall inure to the benefit of, and may be enforced by, Landlord and its successors and assigns, and shall be binding upon and enforceable against the Guarantor, and its heirs, successors and assigns.

     18. This Guaranty, the rights and obligations of the parties hereto, and any claims or disputes relating thereto, shall be governed by and construed in accordance with the laws of Commonwealth of Virginia.

     IN WITNESS WHEREOF, Guarantor has executed this Guaranty of Deed of Lease under seal on the                      day of March, 2005.

	Guarantor:
WITNESS:	COVAD COMMUNICATIONS GROUP, INC., a Delaware corporation
/s/	By	/s/ Charles E. Hoffman
		Name: CHARLES E. HOFFMAN
		Title:   PRESIDENT & CEO

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Exhibit C, Page 4

EX-21.1

Exhibit 21.1

Subsidiaries of Registrant

Name	Jurisdiction
K12 Management Inc.	Delaware
K12 Services Inc.	Delaware
Power-Glide Language Courses, Inc.	Utah
K12 Middle East LLC	Delaware

Subsidiaries of K12 Management Inc.

Name	Jurisdiction
K12 Virtual Schools LLC	Delaware
K12 Classroom LLC	Delaware
K12 California LLC	Delaware
K12 Florida LLC	Delaware
K12 Washington LLC	Delaware

Subsidiaries of K12 Middle East LLC

Name	Jurisdiction
K12 Middle East FZ LLC	UAE
K12 International Holdings B.V.	Netherlands

Subsidiaries of K12 International Holdings B.V.

Name	Jurisdiction
K12 International Academy B.V.	Netherlands
K12 International Ltd.	Cayman Islands
K12 Middle East Ltd.	Cayman Islands
K12 International LLC	Delaware

Subidiary of K12 International LLC

Name	Jurisdiction
Connaissance Developmental Services Pvt. Ltd.	India

EX-23.1

Exhibit 23.1

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

K12 Inc.
Herndon, Virginia

We hereby consent to the incorporation by reference in the Registration Statement on Form S-8 (No. 333-148436) of K12 Inc. of our report dated September 26, 2008, relating to the consolidated financial statements and financial statement schedules which appear in this Form 10-K.

/s/ BDO Seidman, LLP

Bethesda, Maryland
September 26, 2008

EX-31.1

Exhibit 31.1

CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER

I, Ronald J. Packard, certify that:

(1)	I have reviewed this annual report on Form 10-K of K12 Inc.;
(2)	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
(3)	Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
(4)	The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.	Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.	Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c.	Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

(5) The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.	All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b.	Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: September 26, 2008

/s/ Ronald J. Packard

Ronald J. Packard

Chief Executive Officer

(Principal Executive Officer)

EX-31.2

Exhibit 31.2

CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER

I, John F. Baule, certify that:

(1)	I have reviewed this annual report on Form 10-K of K12 Inc.;
(2)	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
(3)	Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
(4)	The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a.	Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b.	Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c.	Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

(5) The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions):

a.	All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b.	Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: September 26, 2008

/s/ John F. Baule

John F. Baule

Chief Financial Officer and Chief Operating Officer

(Principal Financial Officer)

EX-32.1

Exhibit 32.1

     The following certifications are being furnished solely to accompany the Report pursuant to 18 U.S.C. § 1350 and in accordance with SEC Release No. 33-8238. These certifications shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, nor shall they be incorporated by reference in any filing of the Company under the Securities Act of 1933, as amended, whether made before or after the date hereof, regardless of any general incorporation language in such filing.

Certification of Principal Executive Officer

Pursuant to 18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned officer of K12 Inc., a Delaware corporation (the “Company”), hereby certifies, to his knowledge, that:

(1)	the accompanying Annual Report of the Company on Form 10-K for the period ended June 30, 2008 (the “Report”) fully complies with the requirements of Section 13(a) or Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and
(2)	the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Dated: September 26, 2008

/s/ Ronald J. Packard

Ronald J. Packard

Chief Executive Officer

(Principal Executive Officer)

Certification of Principal Financial Officer

Pursuant to 18 U.S.C. Section 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned officer of K12 Inc., a Delaware corporation (the “Company”), hereby certifies, to his knowledge, that:

(1)	the accompanying Annual Report of the Company on Form 10-K for the period ended June 30, 2008 (the “Report”) fully complies with the requirements of Section 13(a) or Section 15(d), as applicable, of the Securities Exchange Act of 1934, as amended; and
(2)	the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company.

Dated: September 26, 2008

/s/ John F. Baule

John F. Baule

Chief Financial Officer and Chief Operating Officer

(Principal Financial Officer)

A signed original of this written statement required by Section 906 has been provided to K12 Inc. and will be retained by K12 Inc. and furnished to the Securities and Exchange Commission or its staff upon request.