KID CASTLE EDUCATIONAL CORP - Quarter Report: 2006 September (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended: September 30, 2006

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

Commission File Number: 333-39629

KID CASTLE EDUCATIONAL CORPORATION

(Exact name of Registrant as specified in its charter)

Florida	59-2549529
(State or other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

8th Floor, No. 98 Min Chuan Road, Hsien Tien Taipei, Taiwan ROC
(Address of principal executive offices)

011-886-22218 5996
(Registrant’s telephone number, including area code)
NONE
(Former name, former address and former fiscal year, if changed since last report)

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

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

Large Accelerated Filer o Accelerated Filer o Non-accelerated filer x

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

Yes o No x

As of September 30, 2006, there were 18,999,703 shares of the Registrant’s common stock outstanding.

FORM 10-Q

KID CASTLE EDUCATIONAL CORPORATION

TABLE OF CONTENTS

		Page
PART I	FINANCIAL INFORMATION
Item 1.	Unaudited Condensed Consolidated Financial Statements	-2-
	a) Condensed Consolidated Balance Sheet as of September 30, 2006 and December 31, 2005	-2-
	b) Condensed Consolidated Statements of Operations for the three months ended September 30, 2006 and September 30, 2005	-4-
	c) Condensed Consolidated Statements of Operations for the nine months ended September 30, 2006 and September 30, 2005	-5-
	d) Condensed Consolidated Statements of Stockholders’ Equity	-6-
	e) Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2006 and September 30, 2005	-7-
	f) Notes to Condensed Consolidated Financial Statements	-9-
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	-23-
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	-28-
Item 4.	Controls and Procedures	-28-
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	-30-
Item 1A	Risk Factors	-30-
Item 2.	Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities	-30-
Item 3.	Defaults upon Senior Securities	-30-
Item 4.	Submission of Matters to a Vote of Security Holders	-30-
Item 5.	Other Information	-30-
Item 6	Exhibits and Reports on Form 8-K	-30-
SIGNATURES		-31-

-1-

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Kid Castle Educational Corporation

Condensed Consolidated Balance Sheets

(Expressed in US Dollars)

	September 30, 2006		December 31, 2005
	(Unaudited)
ASSETS

Current assets
Cash and bank balances	$	1,559,780	$	613,391
Bank fixed deposits - pledged (Note 12)		86,501		120,813
Notes and accounts receivable, net (Notes 5)		3,713,951		2,593,276
Inventories, net (Note 6)		1,355,727		2,069,492
Other receivables (Notes 7)		226,999		223,063
Prepayments and other current assets (Note 8)		295,350		411,526
Pledged notes receivable (Note 12)		460,048		849,704
Deferred income tax assets		130,578		72,992
Total current assets		7,828,934		6,954,257
Deferred income tax assets		48,364		46,382
Long-term investments (Note 9)		52,405		71,158
Property and equipment, net		1,700,329		1,808,411
Intangible assets, net of amortization (Note 11)		571,239		699,246
Long-term notes receivable		731,874		482,483
Pledged notes receivable (Note 12)		55,813		357,825
Other assets		215,742		563,175
Total assets	$	11,204,700	$	10,982,937
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities
Bank borrowings - short-term and maturing within one year (Note 12)	$	818,589	$	1,516,906
Notes and accounts payable		1,269,080		1,385,478
Accrued expenses		695,185		560,733
Amounts due to stockholders/officers (Note 10)		1,250,183		977,838
Other payables		562,790		1,057,161
Deposits received		1,192,331		462,007
Receipts in advance (Note 13)		2,583,578		2,353,680
Income tax payable		244,258		122,481
Other current liabilities		218,875		—
Total current liabilities		8,834,869		8,436,284
Bank borrowings maturing after one year (Note 12)		1,086,239		1,640,391
Receipts in advance (Note 13)		1,427,646		1,130,207
Deposits received		181,873		864,196
Deferred liability		36,157		35,416
Accrued pension liabilities (Note 14)		181,358		174,387
Total liabilities		11,748,142		12,280,881

-2-

Kid Castle Educational Corporation

Condensed Consolidated Balance Sheets - Continued

(Expressed in US Dollars)

	September 30, 2006			December 31, 2005
	(Unaudited)
Commitments and contingencies (Note 16)

Minority interest		85,216			28,627

Shareholders’ equity
Common stock, no par share:
25,000,000 shares authorized; 18,999,703 shares issued and outstanding at September 30, 2006 and December 31, 2005		7,669,308			7,669,308
Additional paid-in capital		194,021			194,021
Legal reserve		65,320			65,320
Accumulated deficit		(8,261,563	)		(9,010,356	)
Accumulated other comprehensive loss		(295,744	)		(244,864	)
Total shareholders’ equity		(628,658	)		(1,326,571	)
Total liabilities and shareholders’ equity	$	11,204,700		$	10,982,937

See accompanying notes to Condensed Consolidated Financial Statements.

-3-

Kid Castle Educational Corporation

Condensed Consolidated Statements of Operations

(Expressed in US Dollars)

	Three months ended September 30,
	2006			2005
	(Unaudited)
Operating Revenue
Sales of goods	$	2,573,101		$	2,822,830
Franchising income		831,805			606,879
Other operating revenue		307,698			142,459
Total net operating revenue		3,712,604			3,572,168
Operating costs
Cost of goods sold		(987,402	)		(1,194,054	)
Cost of franchising		(83,107	)		(370,880	)
Other operating costs		(527,095	)		(129,805	)
Total operating costs		(1,597,604	)		(1,694,739	)
Gross profit		2,115,000			1,877,429
Advertising costs		(2,296	)		28,050
Other operating expenses		(1,379,880	)		(2,330,509	)
Income (loss) from operations		732,824			(425,030	)
Interest expense, net		(31,632	)		(55,363	)
Share of loss of investments		(10,915	)		(34,116	)
Other non-operating income, net		77,719			138,777
Income (loss) before income taxes		767,996			(375,732	)
Benefit (provision) for taxes		(62,552	)		(90,611	)
Income (loss) after income taxes		705,444			(466,343	)
Minority interest income (loss)		(41,731	)		35,206
Net income (loss)	$	663,713		$	(431,137	)
Earnings (loss) per share - basic and diluted	$	0.03		$	( 0.02	)
Weighted-average shares used to compute earnings (loss) per share - basic and diluted		18,999,703			18,999,703

See accompanying notes to Condensed Consolidated Financial Statements.

-4-

Kid Castle Educational Corporation

Condensed Consolidated Statements of Operations

(Expressed in US Dollars)

	Nine months ended September 30,
	2006			2005
	(Unaudited)
Operating Revenue
Sales of goods	$	6,102,630		$	6,372,162
Franchising income		2,026,493			1,914,925
Other operating revenue		482,194			448,807
Total net operating revenue		8,611,317			8,735,894
Operating costs
Cost of goods sold		(2,357,627	)		(2,701,227	)
Cost of franchising		(254,474	)		(547,535	)
Other operating costs		(608,672	)		(307,076	)
Total operating costs		(3,220,773	)		(3,555,838	)
Gross profit		5,390,544			5,180,056
Advertising costs		(19,584	)		(28,804	)
Other operating expenses		(4,224,520	)		(5,581,054	)
Income (loss) from operations		1,146,440			(429,802	)
Interest expense, net		(151,757	)		(171,346	)
Share of loss of investments		(20,000	)		(21,633	)
Other non-operating income (loss), net		78,894			192,401
Income (loss) before income taxes		1,053,577			(430,380	)
Benefit (provision) for taxes		(249,461	)		(275,361	)
Income (loss) after income taxes		804,116			(705,741	)
Minority interest income (loss)		(55,323	)		16,147
Net income (loss)	$	748,793		$	(689,594	)
Earnings (loss) per share - basic and diluted	$	0.04		$	( 0.04	)
Weighted-average shares used to compute earnings (loss) per share - basic and diluted		18,999,703			18,999,703

See accompanying notes to Condensed Consolidated Financial Statements.

-5-

Kid Castle Educational Corporation

Condensed Consolidated Statements of Stockholders’ Equity

(Expressed in US Dollars)

	Common Stock
	Number of shares		Amount		Additional paid-in capital		Legal reserve		Accumulated deficit			Accumulated other comprehensive loss			Total

Balance, December 31, 2004		18,999,703	$	7,669,308	$	194,021	$	65,320	$	(7,312,074	)	$	(222,650	)	$	393,925
Net loss for 2005		-		-		-		-		(1,698,282	)		-			(1,698,282	)
Cumulative translation adjustment		-		-		-		-		-			(22,214	)		(22,214	)
Comprehensive loss																(1,720,496	)

Balance, December 31, 2005		18,999,703	$	7,669,308	$	194,021	$	65,320	$	(9,010,356	)	$	(244,864	)	$	(1,326,571	)
Net income for the nine months ended September 30, 2006 (Unaudited)		-		-		-		-		748,793			-			748,793
Cumulative translation adjustment (Unaudited)		-		-		-		-		-			(50,880	)		(50,880	)
Comprehensive loss (Unaudited)																697,913

Balance, September 30, 2006 (Unaudited)		18,999,703	$	7,669,308	$	194,021	$	65,320	$	(8,261,563	)	$	(295,744	)	$	(628,658	)

See accompanying notes to Condensed Consolidated Financial Statements.

-6-

Kid Castle Educational Corporation

Condensed Consolidated Statements of Cash Flows

(Expressed in US Dollars)

	Nine months ended September 30,
	2006			2005
	(Unaudited)

Cash flows from operating activities
Net income (loss)	$	748,793		$	(689,594	)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities
Depreciation and amortization		270,333			333,388
Allowance for doubtful debts and sales returns		801,323			1,231,289
Provision (reversal) of allowance for loss on inventory obsolescence and slow-moving items		57,204			58,325
Loss (gain) on disposal of property and equipment		—			(30,333	)
Minority interests		55,323			(16,017	)
Share of loss (gain) of investments		20,000			21,157
(Increase)/decrease in:
Notes and accounts receivable		(2,255,781	)		(2,124,415	)
Inventories		654,177			240,064
Other receivables		244,535			159,779
Prepayments and other current assets		115,420			(259,470	)
Deferred income tax assets		(61,755	)		11,313
Other assets		349,901			(63,276	)
Increase/(decrease) in:
Notes and accounts payable		(107,449	)		574,013
Accrued expenses		153,224			406,985
Other payables		(135,059	)		36,015
Receipts in advance		566,707			(178,961	)
Income taxes payable		125,255			111,039
Deposits received		528,489			63,187
Accrued pension liabilities		(3,793	)		85,088

Net cash provided by (used in) operating activities		2,126,847			(30,424	)

Cash flows from investing activities
Purchase of property and equipment		(49,928	)		(111,270	)
Proceeds from disposal of property and equipment		—			78,661
Amount due from stockholder/director		—			—
Prepayment of long-term investments		—			—
Acquisition of long-term investments		—			—
Collection of long term notes		—			(46,043	)
Increase in interest in associates		—			—
Bank fixed deposits - pledged		34,023			—
Pledged notes receivable		695,875			—
Advances to shareholder		—			(2,267,424	)
Repayments of advances to shareholder		—			2,267,424

Net cash provided by (used in) investing activities		679,970			(78,652	)

-7-

Kid Castle Educational Corporation

Condensed Consolidated Statements of Cash Flows - Continued

(Expressed in US Dollars)

	Nine months ended September 30,
	2006			2005
	(Unaudited)
Cash flows from financing activities
Proceeds from bank borrowings	$	213,903		$	791,450
Proceeds from loan from a stockholder		—			—
Repayment of bank borrowings		(1,466,062	)		(994,388	)
Proceeds from capital leases		—			—
Repayment of capital leases		—			(18,365	)
Repayment of loan from officers/stockholders		(562,806	)		—

Net cash used in financing activities		(1,814,965	)		(221,303	)

Net increase (decrease) in cash and cash equivalents		991,852			(330,379	)

Effect of exchange rate changes on cash and cash equivalents		(45,463	)		96,409

Cash and cash equivalents at beginning of period		613,391			507,895

Cash and cash equivalents at end of period	$	1,559,780		$	273,925

See accompanying notes to Condensed Consolidated Financial Statements.

-8-

Kid Castle Educational Corporation

Notes to Condensed Consolidated Financial Statements

(Expressed in US Dollars)

NOTE 1 - ORGANIZATION AND DESCRIPTION OF BUSINESS

Kid Castle Internet Technologies Limited (“KCIT”) was incorporated on December 17, 1999 under the provisions of the Company Law of the Republic of China (“ROC”) as a limited liability company. KCIT is engaged in the business of children’s education focusing on the English language. The business comprises publication, sales and distribution of related books, magazines, audio and videotapes and compact disc, franchising and sales of merchandises complementary to the business. KCIT commenced operations in April 2000 when it acquired the above business from a related company, Kid Castle Enterprises Limited (“KCE”), which was owned by two directors and stockholders of KCIT.

On March 9, 2001, KCIT formed a wholly-owned subsidiary, Premier Holding Investment Property Limited incorporated in the British Virgin Islands, which held the entire common stock of Higoal Developments Limited (“Higoal”) incorporated in the Cayman Islands on March 8, 2001. On September 10, 2001, Higoal established a wholly-owned subsidiary, Kid Castle Educational Software Development Company Limited (“KCES”) in the People’s Republic of China (the “PRC”). The existing operations of Higoal are principally located in Taiwan and are being expanded in the PRC. In June 2002, after KCIT undertook a series of group restructurings, KCIT became the direct owner of the outstanding shares of Higoal. Premier Holding Investment Property Limited was then liquidated in June 2003.

On September 18, 2002, Higoal issued 11,880,000 shares of common stock to the stockholders of KCIT in exchange for 100% of the outstanding common stock of KCIT. As a result of this reorganization, KCIT became a wholly-owned subsidiary of Higoal. On October 1, 2002, Kid Castle Educational Corporation (the “Company”), formerly King Ball International Technology Limited Corporation entered into an exchange agreement with Higoal whereby the Company issued to the stockholders of Higoal 11,880,000 shares of common stock of the Company in exchange for 100% of the issued and fully paid up capital of Higoal.

As a result of the share exchange, the former stockholders of Higoal hold a majority of the Company’s outstanding capital stock. Generally accepted accounting principles require in certain circumstances that a company whose stockholders retain the majority voting interest in the combined business to be treated as the acquirer for financial reporting purposes. Accordingly, the acquisition has been accounted for as a “reverse acquisition” whereby Higoal is deemed to have purchased the Company. However, the Company remains the legal entity and the Registrant for Securities and Exchange Commission reporting purposes.

In July 2003, KCES entered into an agreement with 21^st Century Publishing House to incorporate Jiangxi 21^st Century Kid Castle Culture Media Co., Ltd (“Culture Media”). It was agreed that KCES and 21^st Century Publishing House each owned 50% ownership and that each party contributed RMB$1 million for the incorporation. On July 2, 2004, KCES acquired additional 40% of ownership in Culture Media from 21^st Century Publishing House. KCES now owns 90% of Culture Media.

The Company, Higoal and its subsidiaries collectively are referred to as the “Group”. The operations of the Group are principally located in Taiwan and the PRC.

NOTE 2 - BASIS OF PRESENTATION

The accompanying financial data as of September 30, 2006, and for the nine months ended September 30, 2006 and 2005 have been prepared by the Group, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. However, the Group believes that the disclosures are adequate to make the information presented not misleading. These financial statements should be read in conjunction with the financial statements and the notes thereto included in the Group’s audited annual financial statements for the year ended December 31, 2005.

-9-

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results could differ from these estimates.

The Group has incurred operating losses since inception and hence, as of September 30, 2006, the balance of accumulated deficit was $8,261,563. The Group plans to fund its working capital needs by obtaining new credit lines from financial institutions and raising capital through the sale of equity securities. If the Group is unable to meet its current operating plan, it will be required to obtain additional funding. Management believes such funding will be available, but there can be no assurances that such funding will be available, or if it is available, on terms acceptable to the Group. Management believes that if funding is not available, other actions can and will be taken to reduce costs. These actions may entail the Group to reduce headcount, sales and marketing, other expansion activities, which may affect the future growth of the Group’s operations.

NOTE 3 - SUMMARY OF IMPORTANT ACCOUNTING POLICIES

REVENUE RECOGNITION

Sales of books, magazines, audio and video tapes, compact discs and other merchandises are recognized as revenue on the transfer of risks and rewards of ownership, which generally coincides with the time when the goods are delivered to customers and title has passed. Provision is made for expected future sales returns and allowances when revenue is recognized.

Franchise fees are the annual licensing fees for franchisees to use the Group’s brand name and consulting services. Franchising income is recognized on a straight-line basis over the terms of the relevant franchise agreements.

ALLOWANCE FOR DOUBTFUL ACCOUNTS

An allowance for doubtful accounts is provided based on the evaluation of collectibility and aging analysis of notes and accounts receivables.

INVENTORIES

Inventories are stated at the lower of cost or market. Cost includes all costs of purchase, cost of conversion and other costs incurred in bringing the inventories to their present location and condition, and is calculated using the weighted average method. Market value is determined by reference to the sales proceeds of items sold in the ordinary course of business after the balance sheet date or to management estimates based on prevailing market conditions.

-10-

PROPERTY AND EQUIPMENT AND DEPRECIATION

Property and equipment are stated at cost. Depreciation is computed using the straight-line method to allocate the cost of depreciable assets over the estimated useful lives of the assets as follows:

	Estimated useful life (in years)
Land	Indefinite
Buildings	50
Furniture and fixtures	3-10
Transportation equipment	2.5-5
Miscellaneous equipment	5-10

Maintenance, repairs and minor renewals are charged directly to the statement of operations as incurred. When assets are disposed of, the related cost and accumulated depreciation thereon are removed from the financial statements and any resulting gain or loss is included in the statement of operations.

LONG-LIVED ASSETS

Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets might not be recoverable. The Group does not perform a periodic assessment of assets for impairment in the absence of such information or indicators. Conditions that would necessitate an impairment assessment include a significant decline in the observable market value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable. For long-lived assets to be held and used, the Group measures fair value based on quoted market prices or based on discounted estimates of future cash flows.

INCOME TAXES

The Company and its subsidiaries accounts for income taxes in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 109 “Accounting for Income Taxes”. Under SFAS No. 109, deferred tax liabilities or assets at the end of each period are determined using the tax rate expected to be in effect when taxes are actually paid or recovered. Valuation allowances are established when it is considered more likely than not that the deferred tax assets will not be realized.

INTANGIBLE ASSETS

Franchises and copyrights are stated at cost and amortized on the straight-line method over their estimated useful lives of 10 years.

COMPREHENSIVE INCOME (LOSS)

Comprehensive income (loss) is defined as the change in equity of a company during a period from transactions and other events and circumstances excluding transactions resulting from investments from owners and distributions to owners. Comprehensive income (loss) is disclosed in the condensed consolidated statement of stockholders’ equity.

NET EARNINGS (LOSS) PER COMMON SHARE

The Group computes net earnings (loss) per share in accordance with SFAS No. 128, “Earnings per Share”. Under the provisions of SFAS No. 128, basic net earnings (loss) per share is computed by dividing the net earnings (loss) available to common shareholders for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net earnings (loss) per share gives effect to common stock equivalents. For the nine months ended September 30, 2006 and 2005, the Group did not have any potential common stock shares.

-11-

RECLASSIFICATION

The presentation of certain prior information has been reclassified to conform to current presentation.

NOTE 4 - RECENT ACCOUNTING PRONOUNCEMENTS

In November 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 151, “Inventory Costs (as amended) an amendment of ARB No. 43. This statement clarifies the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material. This statement requires that those items be recognized as current period charges regardless of whether they meet the criterion of “so abnormal.” It is effective for all fiscal years beginning after June 15, 2005. The Company does not expect the implementation of this statement to have a material impact on its consolidated financial statements.

NOTE 5 - NOTES AND ACCOUNTS RECEIVABLE

	September 30, 2006			December 31, 2005
	(Unaudited)

Notes and accounts receivable
- Third parties	$	4,878,707		$	2,944,574
- Related parties (NOTE 10)		367,048			401,184

Total		5,245,755			3,345,758
Allowance for doubtful accounts and sales returns		(1,531,804	)		(752,482	)

Notes and accounts receivable, net	$	3,713,951		$	2,593,276

NOTE 6 - INVENTORIES

	September 30, 2006			December 31, 2005
	(Unaudited)

Work in process	$	120,160		$	127,001
Finished goods and other merchandises		2,040,040			2,696,942

		2,160,200			2,823,943
Less: Allowance for obsolete inventories and decline of market value		(804,473	)		(754,451	)

	$	1,355,727		$	2,069,492

-12-

NOTE 7 - OTHER RECEIVABLES

	September 30, 2006			December 31, 2005
	(Unaudited)
Other receivables - third parties:
Tax paid on behalf of landlord	$	—		$	2,013
Advances to staff		—			125,590
Grants from Market Information Center		—			—
Receivables from Shanghai Wonderland Educational Resources Co., Ltd. (“Shanghai Wonderland”) (Note (i))		376,233			368,528
Other receivables		198,227			86,141
Less : Allow for doubtful accounts		(376,233	)		(368,528	)

Sub-total		198,227			213,744
Other receivables - related parties (NOTE 10)		28,772			9,319
	$	226,999		$	223,063

Note:

(i)

Shanghai Wonderland was a distributor of the Group. The Group loaned Shanghai Wonderland RMB$450,000 (approximately $54,000), RMB$500,000 (approximately $60,000) and RMB$2,500,000 (approximately $310,000) for operations in December 2003, July 2005 and August 2005, respectively. The identified loans were unsecured and bore no interest. Shanghai Wonderland has fully repaid the loan of RMB$450,000 in December 2004 and January 2005. As of September 30, 2006, Shanghai Wonderland still owes the Group a balance of RMB$3,000,000 (approximately $376,233). Such sum has now been itemized and recorded as "allowance for doubtful accounts" compared to its prior recognition as "Other receivables".

NOTE 8 - PREPAYMENTS AND OTHER CURRENT ASSETS

	September 30, 2006		December 31, 2005

Prepayments	$	268,576	$	399,659
Temporary payments		1,172		11,038
Tax recoverable		—		—
Prepaid interest		51		—
Others		25,551		829

	$	295,350	$	411,526

NOTE 9 - INTEREST IN ASSOCIATES

	September 30, 2006			December 31, 2005
	(Unaudited)

21^st Century Kid Castle Language and Education Center (“Education Center”) (Note (i))
Investment cost	$	94,885		$	92,942
Share of loss		(39,636	)		(40,803	)

	$	55,249		$	52,139

Tianjin Kid Castle Educational Investment Consulting Co., Ltd. (“Tianjin Consulting”) (Note (ii))
Investment cost	$	88,560		$	86,746
Share of loss		(96,923	)		(80,360	)

	$	(8,363	)	$	6,386

Lanbeisi Education & Culture Industrial Co., Ltd (“Lanbeisi”) (Note (iii))
Investment cost	$	45,545		$	44,612
Share of loss		(40,026	)		(31,979	)

	$	5,519		$	12,633

Total	$	52,405		$	71,158

-13-

Note:

(i)

In October 2003, the Group obtained the government’s approval to co-found Education Center with 21^st Century Publishing House in the PRC. In 2004, Education Center registered the total capital as RMB$1,500,000, and KCES and 21^st Century Publishing House each owns 50% of the investee. It has been determined that the Group has significant influence and should therefore account for its investee on the equity method.

For the nine months ended September 30, 2006 and 2005, the Group recognized investment income accounted for under the equity method in Education Center of $1,996 and $19,408, respectively.

(ii)

On April 1, 2004, the Group signed a joint venture agreement with Tianjin Foreign Enterprises & Experts Service Corp., in Tianjin City, PRC. Pursuant to this joint venture agreement, the Group and Tianjin Foreign Enterprises & Experts Service Corp. each owns a 50% interest in Tianjin Kid Castle Educational Investment Consulting Co., Ltd. It has been determined that the Group has significant influence and should therefore account for its investee on the equity method.

For the nine months ended September 30, 2006 and 2005, the Group recognized an investment loss of $14,708 and $31,730 respectively, accounted for under the equity method, in Tianjin Consulting.

(iii)

On April 28, 2004, the Group signed a joint venture agreement with Lanbeisi Education & Culture Industrial Co., Ltd in Sichuan Province, PRC and Sichuan Province Education Institutional Service Center in Sichuan Province, PRC. Pursuant to this joint venture agreement, the Group, Lanbeisi Education & Culture Industrial Co., Ltd and Sichuan Province Education Institutional Service Center own, respectively, 45%, 45% and 10% interests in Sichuan Lanbeisi Kid Castle Education Development Co., Ltd. It has been determined that the Group has significant influence and should therefore account for its investee using the equity method.

For the nine months ended September 30, 2006 and 2005, the Group recognized an investment loss of $7,291 and $9,302 respectively, accounted for under the equity method, in Lanbeisi.

-14-

NOTE 10 - RELATED PARTY TRANSACTIONS

Names of related parties		Relationship with the Company
Mr. Kuo-An Wang		In October 2005 resigned as chairman of the board of directors, president and chief executive officer of the Company. On October 18, 2006 resigned as director of the board of directors.

Mr. Yu-En Chiu		On June 1, 2006 resigned as chief financial officer and director of the board of directors. Mr. Chiu remained the Chairman of PRC operation until February 28, 2007.

Mr. Min-Tan Yang		Director and chief executive officer of the Company since November 2, 2005.

Mr. Suang-Yi Pai		Director and chairman of the board of directors since November 2, 2005.

Chevady Culture Enterprise Limited (“CCE”)		Its chairman of the board of directors is Mr. Kuo-An Wang.

Private Kid Castle Short Term Language Cram School (“PKC Language”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei Country Private Kid Castle Short Term Language Cram School (“TCP PKC”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei Country Private Chevady Preschool (“TCP Chevady”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei Country Private Chung-hua Preschool (“TCP Chung-hua”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei Country Private Wonderland Preschool (“TCP Wonderland”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei City Private Kid Castle Preschool (“TCP Kid Castle”)		Its chairman of the board of directors is Mr. Yu-En Chiu.

Taipei Country Private Kid’s Castle Yin Cyun Preschool(“TCP Yin Cyun”)		Its chairman of the board of directors is Mr. Min-Tan Yang.

Taipei Country Private Yin Tzu Preschool (“TCP Yin Tzu”)		Its chairman of the board of directors is Mr. Min-Tan Yang.

Private Kuan Lung Short Term Language Cram School (“Kuan Lung Language”)		Its chairman of the board of directors is Mr. Min-Tan Yang.

Taipei City Private Chu Sheng Preschool (“TCP Chu Sheng”)		Its chairman of the board of directors is Mr. Min-Tan Yang.

Taipei Country Private Chu Yao Preschool (“TCP Chu Yao”)		Its chairman of the board of directors is Mr. Min-Tan Yang.

Private Liang Yu Language & Computer School ("Liang Yu Language")		Its chairman of the board of directors is Mr. Min-Tan Yang.

21st Century Publishing House (“Publishing House”)		A joint venture partner (third-party after July 2004).

-15-

Jiangxi 21st Century Kid Castle Culture Media Co., Ltd (“Culture Media”)		An investment accounted for under the equity method before July 2, 2004. It has become a consolidated entity after July 2, 2004.

21st Century Kid Castle Language and Education Center (“Education Center”)		An investment accounted for under the equity method.

Tianjin Kid Castle Educational Investment Consulting Co., Ltd. (“Tianjin Consulting”)		An investment accounted for under the equity method.

Sichuan Lanbeisi Kid Castle Education Development Co., Ltd. (“Lanbeisi”)		An investment accounted for under the equity method.

B. Significant transactions and balances with related parties are as follows:

	Nine months ended September 30,
	2006		2005
	(Unaudited)
(i) Sales to:
- PKC Language	$	—	$	7,892
- TCP PKC		—		7,892
- TCP Chung-hua		3,443		16,139
- TCP Chevady		—		10,838
- TCP Wonderland		—		10,838
- TCP Kid Castle		—		11,570
- Kuan Lung Language		15,150		—
- TCP Chu Yao		23,292		—
- TCP Chu Sheng		8,077		—
- TCP Yin Cyun		55,395		—
- TCP Yin Tzu		25,114		—
- Liang Yu Language		38,479		—
- English School		24,013		17,475
- Tianjin Consulting		17,964		17,616
- Lanbeisi		27,148		42,111

	$	238,075	$	142,371


(ii) Rental income from:
- CCE	$	—	$	1,419
	$	—	$	1,419

(iii) Franchising income from:
- PKC Language	$	—	$	136
- TCP PKC		—		136
- TCP Kid Castle		—		5,541
- TCP Chung-Hua		—		—
- TCP Wonderland		—		5,542
- TCP Chu Sheng		9,228		—
- TCP Yin Cyun		4,441		—
- Yin Chyn Language		8,305
		1,849		—
	$	23,823	$	11,355

(iv)	The two directors and stockholders, Mr. Min-Tan Yang and Mr. Suang-Yi Pai, have given personal guarantees to certain bank loans and borrowings. Please see the details as described in Note 12 - Bank Borrowings.

-16-

The management of the Group is of the opinion that the above transactions were carried out in the normal course of business at agreed upon terms.

(v)	Accounts and notes receivable - related parties:

	September 30,		December 31,
Name of related parties	2006		2005
	(Unaudited)

- PKC Language		38,184		26,147
- TCP PKC		38,184		52,294
- TCP Chung-hua		50,021		53,665
- TCP Chevady		47,270		48,685
- TCP Wonderland		47,270		48,685
- TCP Kid Castle		55,337		58,172
- Kuan Lung Language		3,342		─
- TCP Chu Yao		10,100		─
- TCP Chu Sheng		9,160		─
- TCP Yin Cyun		14,976		33,585
- TCP Yin Tzu		493		29,062
- Liang Yu Language		5,508		12,071
- Education Center		─		─
- Tianjin Consulting		28,637		20,826
- Lanbeisi		18,566		17,992

	$	367,048	$	401,184

(vii) Other receivables - related parties:

	September 30,		December 31,
Name of related parties	2006		2005
	(Unaudited)

Amount due from Publishing House (Note 1)	$	─	$	─
Amount due from Education Center (Note 2)		19,258		─
Amount due from Tianjin Consulting (Note 3)		16		15
Amount due from Lanbeisi (Note 4)		9,498		9,304

	$	28,772	$	9,319

Note:

As of December 31, 2003, the amount due from Publishing House consists primarily of amounts due under a loan of RMB$1,000,000 (approximately $120,000 from the Group to Publishing House for the incorporation of Culture Media). The loan is unsecured and bears no interest. Pursuant to the terms of the loan, Publishing House was obligated to repay the loan on or before September 27, 2004 or it would be required to transfer its 40% ownership interest in Culture Media to the Group. On July 2, 2004, as Publishing House did not repay the loan, the Group decided to take over the 40% ownership from Publishing House, and therefore, the Group’s ownership in Culture Media has increased to 90% and Culture Media has become a consolidated entity.

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2.	Education Center was founded in October 2003. The amount due from the associate is mainly inventory purchases paid by the Group on behalf of Education Center. The amount due from this related party has no fixed repayment term and bears no interest.

3.	Tianjin Consulting was incorporated in April 2004. The Group paid certain pre-operating costs on behalf of Tianjin Consulting. The amount due from this related party has no fixed repayment term and bears no interest.

4.	Lanbeisi was incorporated in April 2004. The Group paid pre-operating costs of RMB$75,000 (approximately $9,000) on behalf of Lanbeisi. The amount due from this related party has no fixed repayment term and bears no interest.

(viii)

Significant transactions and balances with related parties are as follows:

1. Other payables - Amount due to directors/related parties:

Name of Related Parties	September 30, 2006		December 31, 2005

Mr. Kuo-An Wang	$	─	$	60,911

Mr. Min-Tan Yang (Note 1)	$	840,789	$	840,789

Mr. Suang-Yi Pai (Note 1)	$	407,725	$	76,138

Education Center	$	1,539	$	─

Lanbeisi	$	130	$	─

	$	1,250,183	$	977,838

Note 1.

In the fourth quarter of 2005, Mr. Yang loaned $1,050,000 to the Company, and third parties, Olympic Well International Ltd.(“Olympic”) and Chen-Chen Shih (“Shih”), procured by Mr. Pai loaned $690,000 and $60,089, respectively. The loans were treated as short-term loans, due in three months, with a per annum interest rate of 7%. A portion of the loan made by Olympic in the amount of US$342,364 was assigned to Mr. Pai on or about December 30, 2005. That amount, along with $209,211 which was owed Mr. Yang were forgiven in exchange for the Company’s forgiveness of Mr. Chiu’s debt to the Company of the amount of $551,575 (NT$18,500,000, the currency has been translated at the exchange rates at the time of the loans). As of July 31, 2006 the remaining debt owed by the Company to Olympic and Shih was assigned to Mr. Pai pursuant to Assignment Agreements dated as of August 1, 2006.

NOTE 11 - INTANGIBLE ASSETS

	September 30, 2006			December 31, 2005
	(Unaudited)
Gross carrying amount
Franchise	$	1,027,882		$	1,036,178
Copyrights		604,230			609,106

		1,632,112			1,645,284
Less: Accumulated amortization
Franchise		(668,123	)		(595,802	)
Copyrights		(392,750	)		(350,236	)

		(1,060,873	)		(946,038	)

Net	$	571,239		$	699,246

Amortization charged to operations was $124,885 and $137,772 for the nine months ended September 30, 2006 and 2005, respectively.

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The estimated aggregate amortization expenses for each of the five succeeding fiscal years are as follows:

2007	$	166,514
2008		166,514
2009		166,514
2010		33,190
	$	532,732

NOTE 12 - BANK BORROWINGS

	Notes		September 30, 2006		December 31, 2005
			(Unaudited)

Bank term loans		(i)	$	166,268	$	564,704
Short-term unsecured bank loans		(ii)		463,814		539,583
Mid-term loan		(iii)		─		586,436
Mid-term secured bank loan		(iv)		1,274,746		1,466,574

				1,904,828		3,157,297
Less: Balances maturing within one year included in current liabilities
Bank term loans				103,397		145,042
Short-term unsecured bank loans				463,814		539,583
Mid-term loan				─		586,436
Mid-term secured bank loan				251,378		245,845

				818,589		1,516,906

Bank borrowings maturing after one year			$	1,086,239	$	1,640,391

Note:

(i)

This line item represents bank loans that have been secured by a pledge of post-dated checks amounting to $453,200 and $873,215 that we have received from franchisees and the Group’s bank deposits of $16,563 and $46,456 as of September 30, 2006 and December 31, 2005, respectively, for the purpose of financing operations. The repayment dates of the loans coincided with the maturity dates of the corresponding pledged post-dated checks. The weighted average interest rates were 6.055% and 5.88% per annum as of September 30, 2006 and 2005, respectively. For the nine months ended September 30, 2006 and 2005, the interest expense charged to operations amounted to $16,092 and $31,626, respectively.

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(ii)

In August 2005, KCIT obtained an unsecured short-term loan in the amount of $304,553 and was extended on August 2006, which was collateralized by notes receivables in the amount approximately the loan balance, the KCIT’s refundable deposits of $60,911 and notes receivables approximating 30% of loan balance, and guaranteed by two directors and stockholders of the Group, to finance the Group’s operations. The loan bears interest at the lending bank’s basic borrowing rate plus 3.29% per annum and is due and payable in February 2007. The applicable interest rate is approximately 5% per annum as of September 30, 2006.

In April 2006, KCIT obtained an unsecured short-term loan in the amount of $214,173, which was guaranteed by two directors and stockholders of the Group, to finance the Group’s operations. The loan bears interest at the Taiwan basic borrowing rate plus 1.65% per annum and was fully settled in March 2007.

For the nine months ended September 30, 2006 and 2005, the interest expense charged to operations from the above nine unsecured short-term loans amounted to $19,985 and $38,239, respectively.

(iii)

In June 2005, KCIT obtained a loan of $609,106 from a financial institution, which bore interest at 5% per annum and was repayable in 18 equal monthly installments, to finance the Group’s operations. We have rescinded the contract and fully repaid on July 17, 2006.

For the nine months ended September 30, 2006 and 2005, the interest expense charged to operations from the aforementioned loans amounted to $8,219 and $54,892, respectively.

(iv)

In August 2005, KCIT obtained a bank loan in the principal amount of $944,115 to repay its mortgage loan that was originally granted by a bank on August 10, 2005 and to finance its operations. The loan is secured by the Group’s land and buildings and personal guarantees provide by two directors of the Group. The loan bears interest at the lending bank’s basic fixed deposit rate plus 0.69% between annum for the year 2005 to 2007, and plus 1.69% from the annum for the year 2008. On August 10, 2005, the bank extended the term of the loan and the Group repays the loan, which is now repayable in 84 equal monthly installments starting August 10, 2012. As of September 30, 2006, the applicable interest rate is approximately 2.4%, the Group repaid $43,092

In February 2005, KCIT obtained a new bank loan of $456,830, which bears interest at 6% per annum and is repayable in 36 equal monthly installments. The last installment will be due on February 2, 2008, was collateralized by notes receivables in 30% approximating the loan balance, and guaranteed by two directors of the Group. As of September 30, 2006, the Group repaid $191,417.

In August 2005, KCIT obtained a new bank loan of $213,187, which bears interest at 3.7% per annum, and is repayable in 60 equal monthly installments. The last installment will be due on August 10, 2010, and is guaranteed by two directors of the Group. As of September 30, 2006, the Group repaid $42,547.

For the nine months ended September 30, 2006 and 2005, the interest expense charged to operations amounted to $37,828 and $41,431, respectively.

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NOTE 13 - RECEIPTS IN ADVANCE

The balance comprises:

	Notes			September 30, 2006		December 31, 2005
				(Unaudited)

Current liabilities:
Sales deposits received		(i	)	$	709,482	$	682,553
Franchising income received		(ii	)		1,656,966		1,391,625
Subscription fees received		(iii	)		199,040		234,342
Others					18,090		45,160
					2,583,578		2,353,680

Long-term liabilities:
Franchising income received		(ii	)		1,427,646		1,130,207

				$	4,011,224	$	3,483,887

Note:

(i)	The balance represents receipts in advance from customers for goods sold to them.

(ii)	The balance mainly represents franchising income received in advance which is attributable to the periods after the respective period end dates.

(iii)

The balance represents subscription fees received in advance for subscription of magazines published by the Group.

NOTE 14 - RETIREMENT PLANS

The Group maintains tax-qualified defined contribution and benefit retirement plans for its employees in accordance with ROC Labor Standard Law. As a result, the Group currently maintains two different retirement plans with contribution and benefit calculation formulas. On July 1, 2005, the Bureau of National Health Insurance issued new Labor Retirement pension regulations in Taiwan. The Group has defined the new contribution retirement plan (the “New Plan”) covering all regular employees of KCIT, and KCIT contributes monthly an amount equal to 6% of the employees’ base salaries and wages to the Bureau of National Health Insurance. The Group still maintains the benefit retirement plan (the “Old Plan”), which commenced in September 2003 and only applies to the regular employees of KCIT who were employed before June 2005, and KCIT contributes monthly an amount equal to 2% of the employees’ total salaries and wages to an independent retirement trust fund deposited with the Central Trust of China in accordance with the ROC Labor Standards Law in Taiwan. The retirement fund is not included in the Group’s financial statements. Net periodic pension cost is based on annual actuarial valuations which use the projected unit credit cost method of calculation and is charged to the consolidated statement of operations on a systematic basis over the average remaining service lives of current employees. Under the old plan, the employees are entitled to receive retirement benefits upon retirement in the manner stipulated by the ROC Labor Standard Law in Taiwan. The benefits under the old plan are based on various factors such as years of service and the final base salary preceding retirement.

The net periodic pension cost is as follows:

	Nine months ended September 30,
	2006			2005
	(Unaudited)
Service cost	$	—		$	25,500
Interest cost		9,204			9,713
Expected return on assets		(1,827	)		(3,343	)
Amortization of unrecognized loss		2,227			883

Net periodic pension cost	$	9,604		$	32,753

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NOTE 15 - GEOGRAPHICAL SEGMENTS

The Group is principally engaged in the business of child educational teaching materials and related services focusing on English language in Taiwan and the PRC. Accordingly, the Group has two reportable geographic segments: Taiwan and the PRC. The Group evaluates the performance of each geographic segment based on its net income or loss. The Group also accounts for inter-segment sales as if the sales were made to third parties. Information concerning the operations in these geographical segments is as follows:

	Taiwan					The PRC					Total						Corporate						Eliminations						Consolidated
	Nine months ended September 30, 2006			Nine months ended September 30, 2005		Nine months ended September 30, 2006		Nine months ended September 30, 2005			Nine months ended September 30, 2006			Nine months ended September 30, 2005			Nine months ended September 30, 2006			Nine months ended September 30, 2005			Nine months ended September 30, 2006			Nine months ended September 30, 2005			Nine months ended September 30, 2006			Nine months ended September 30, 2005

Revenue
External revenue	$	5,716,524		$	6,160,236	$	2,895,355	$	2,571,495		$	8,611,879		$	8,731,731		$	—		$	4,163		$	—		$	—		$	8,611,879		$	8,735,894
Inter-segment revenue		(562	)		522		—		—			(562	)		522			—			—			—			(522	)		(562	)		—

	$	5,715,962		$	6,160,758	$	2,895,355	$	2,571,495		$	8,611,317		$	8,732,253		$	—		$	4163		$	—		$	(522	)	$	8,611,317		$	8,735,894

Profit (loss) from Operations	$	666,032		$	786,334	$	682,815	$	(1,033,972	)	$	1,348,847		$	(247,638	)	$	(202,407	)	$	(182,164	)	$	—		$	—		$	1,146,440		$	(429,802	)

Capital expenditures	$	32,863		$	8,460	$	16,077	$	14,073		$	48,940		$	22,533		$	—		$	—		$	—		$	—		$	48,940		$	22,533

	September 30, 2006			December 31, 2005		September 30, 2006		December 31, 2005			September 30, 2006			December 31, 2005			September 30, 2006			December 31, 2005			September 30, 2006			December 31, 2005			September 30, 2006			December 31, 2005

Total assets	$	8,580,973		$	8,503,513	$	2,686,520	$	2,311,798		$	11,267,493		$	10,815,311		$	29,465		$	299,141		$	(92,258	)	$	(131,515	)	$	11,204,700		$	10,982,937

NOTE 16 - COMMITMENT AND CONTINGENCIES

A. Lease Commitment

As of September 30, 2006, the Company’s future minimum lease payments under non-cancelable operating lease expiring in excess of one year are as follows:

Years ending December 31,
2007	$	238,385
2008		59,859
2009		19,953
2010		—
2011		—
	$	318,197

B. Going concern

The accompanying financial statements have been prepared assuming the Group will continue as a going concern. As the Group is aggressively expanding its business in the PRC and the Group’s PRC operation is still in an emerging stage and has not turned profitable, the Group has suffered recurring losses from operations and has a net capital deficiency. The above conditions raise substantial doubt about the Group’s ability to continue as a going concern, if the investment in the PRC will not gradually see returns. As discussed in Note 12, the majority of the Group’s existing loans were guaranteed by two directors of the Group who have expressed their continuous support to the Group until other sources of funds have been obtained. Moreover, the Group successfully obtained new bank facilities in the first quarter of 2005. Management believes that, with continuous growth in the sales in the PRC, the existing directors’ support and the new bank facilities, the Group will have sufficient funds for operations. The financial statements do no include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.

-22-

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF

OPERATION

FORWARD-LOOKING STATEMENTS

This report contains certain forward-looking statements and information relating to us that are based on the beliefs and assumptions made by our management as well as information currently available to the management. When used in this document, the words “anticipate,” “believe,” “estimate,” and “expect” and similar expressions, are intended to identify forward-looking statements. Such statements reflect our current views with respect to future events and are subject to certain risks, uncertainties and assumptions. If one or more of these risks or uncertainties materialize, or if underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated or expected. Certain of these risks and uncertainties are discussed under the caption “Factors That May Affect Our Future Results And Financial Condition” contained herein and other factors disclosed in our filings with the Securities and Exchange Commission including, but not limited to our Annual Report on Form 10-K for the year ended December 31, 2004. We do not intend to update these forward-looking statements.

GENERAL

We are engaged in the business of children’s education, focusing on the publication and sale of kindergarten language school and primary school teaching materials and magazines. We also provide management and consulting services to our franchised kindergarten and language schools. Our teaching materials include books, audio tapes, video tapes and compact discs. A major portion of our educational materials focuses on English language education. We also sell educational tools and equipment that are complementary to our business. Our major business originally started in Taiwan. In 2001, we started to expand our business in the People’s Republic of China (PRC). We officially launched our operations in Shanghai in April 2002. As in Taiwan, we offer advanced teaching materials and tools, and monthly and bi-weekly magazines to provide children ranging from 2 to 12 years of age a chance to learn exceptional English language and computer skills, and to provide a pre-school education program.

CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to product returns, bad debts, inventories, equity investments, income taxes, financing operations, pensions, commitments and contingencies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments 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. We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our financial statements.

-23-

Revenue Recognition. We recognize sales of teaching materials and educational tools and equipment as revenue when title of the product and risk of ownership are transferred to the customer, which occurs at the time of delivery, or when the goods arrive at the customer designated location, depending on the associated shipping terms. Additionally, we deliver products sold by our distributors directly to the distributors’ customers and as such the delivered goods are recognized as revenue in a similar way as sales to our direct customers. We estimate sales returns and discounts based on historical experience and record them as reductions to revenues. If market conditions were to decline, we may take actions to increase sales discounts, possibly resulting in an incremental reduction of revenue at the time when revenues are recognized.

Allowance for Doubtful Accounts. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.

Allowance for Obsolete Inventories and Lower of Cost or Market. We write down our inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about inventory aging, future demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required.

Investment Impairments. We hold equity interests in companies having operations in areas within our strategic focus. We record an investment impairment charge when we believe an investment has experienced a decline in value that is not temporary. Future adverse changes in market conditions or poor operating results of underlying investments could result in losses or an inability to recover the carrying value of the investments that may not be reflected in an investment’s current carrying value, thereby possibly requiring an impairment charge in the future.

Fixed Assets and Depreciation. Our fixed assets are stated at cost. Major improvements and betterments to existing facilities and equipment are capitalized. Expenditures for maintenance and repairs that do not extend the life of the applicable asset are charged to expense as incurred. Buildings are depreciated over a 50-year term. Fixtures and equipment are depreciated using the straight-line method over their estimated useful lives, which range from two-and-a-half years to ten years.

Impairment of Long-Lived Assets. We review our fixed assets and other long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to undiscounted future net cash flows expected to be generated by the asset over its remaining useful life. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. The estimate of fair value is generally based on quoted market prices or on the best available information, including prices for similar assets and the results of using other valuation techniques.

As of September 30, 2006, the balance of our amortizable intangible assets was $571,239, including franchise-related intangible assets of $359,759 and copyrights of $211,480. The amortizable intangible assets are amortized on a straight-line basis over estimated useful lives of 10 years. In determining the useful lives and recoverability of the intangibles, assumptions must be made regarding estimated future cash flows and other factors to determine the fair value of the assets, which may not represent the true fair value. If these estimates or their related assumptions change in the future, there may be significant impact on our results of operations in the period of the change incurred.

Income Taxes. We account for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and tax loss carry-forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred tax assets are subject to valuation allowances based upon management’s estimates of realizability. Actual results may differ significantly from management’s estimate.

-24-

RESULTS OF OPERATIONS

Comparison of the Three Months Ended September 30, 2006 and 2005

Total Net Operating Revenue. Total net operating revenue consists of sales of goods, franchising income and other operating revenue. Total net operating revenues increased by $140,436, or 4%, to $3,712,604 for the three months ended September 30, 2006 from $3,572,168 for the three months ended September 30, 2005, including the decrease in sales of goods of $249,729, the increase in franchising income of $224,926 and other operating revenues of $165,239.

Sales of goods. The decrease in sales of goods, from $2,822,830 for the three months ended September 30, 2005 to $2,573,101 for the three months ended September 30, 2006, or 4 %, was mainly due to the decrease in Taiwan operations.

Franchising income. The increase in franchising income, from $606,879 for the three months ended September 30, 2005 to $831,805 for the three months ended September 30, 2006, or 37%, was mainly due to the decrease in Shanghai operations.

Other operating revenue. Our other operating revenues represent revenues from other activities and services such as training of teachers, arranging for personal English language tutors, organizing field trips and educational fairs, fees for designing the school layout of our franchised schools, and the copyright revenue in PRC. Other operating revenue increased by $165,239, or 116%, to $307,698 for the three months ended September 30, 2006 from $142,459 for the three months ended September 30, 2005. The increase was mainly due to the increase in Taiwan operations.

Gross Profit. Gross profit increased by $237,571, or 13%, to $2,115,000 for the three months ended September 30, 2006 from $1,877,429 for the three months ended September 30, 2005. The increase in gross profit was attributable to the increase of the copyright revenue in other operating revenue.

Total Operating Costs. Total operating costs decreased by $97,135, or 6%, to $1,597,604 for the three months ended September 30, 2006 from $1,694,739 for the three months ended September 30, 2005. This decrease was mainly due to decrease in sales of goods.

Total Operating Expenses. Total operating expenses decreased by $920,283, or 40%, to $1,382,176 for the three months ended September 30, 2006 from $2,302,459 for the three months ended September 30, 2005, principally due to decreases in salary expenses resulting from a reduction in employee headcount in our Taiwan and Shanghai operations.

Other Operating Expenses. Other operating expenses decreased by $950,629, or 41%, to $1,379,880 for the three months ended September 30, 2006 from $2,330,509 for the three months ended September 30, 2005, principally due to decreases in salary expenses resulting from a reduction in employee headcount in our Taiwan and Shanghai operations.

Interest Expense, Net. Net interest expense decreased by $23,731, or 43%, to $31,632 for the three months ended September 30, 2006 from $55,363 for the three months ended September 30, 2005, primarily due to the decrease of the borrowings from banks.

Provision for Taxes. Provision for taxes for the three months ended September 30, 2006 and 2005 were $62,552and $90,611, respectively. These provisions for income taxes relate to income taxes resulting from our operations in Taiwan.

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Comparison of the Nine Months Ended September 30, 2006 and 2005

Total Net Operating Revenue. Total net operating revenue consists of sales of goods, franchising income and other operating revenue. Total net operating revenues decreased by $124,577, or 1%, to $8,611,317 for the Nine months ended September 30, 2006 from $8,735,894 for the Nine months ended September 30, 2005, including the decrease in sales of goods of $269,532, the increase in franchising income of $111,568 and the other operating revenues of $33,387.

Sales of goods. The decrease in sales of goods, from $6,372,162 for the Nine months ended September 30, 2005 to $6,102,630 for the Nine months ended September 30, 2006, or 4 %, was mainly due to the decrease in Taiwan operations.

Franchising income. The increase in franchising income, from $1,914,925 for the Nine months ended September 30, 2005 to $2,026,493 for the Nine months ended September 30, 2006, or 6%, was mainly due to the increase in PRC operations.

Other operating revenue. Our other operating revenues represent revenues from other activities and services such as training of teachers, arranging for personal English language tutors, organizing field trips and educational fairs, and fees for designing the school layout of our franchised schools. Other operating revenue increased by $33,387, or 7%, to $482,194 for the Nine months ended September 30, 2006 from $448,807 for the Nine months ended September 30, 2005. The increase was mainly due to the increase in Taiwan operations.

Gross Profit. Gross profit increased by $210,488, or 4%, to $5,390,544 for the Nine months ended September 30, 2006 from $5,180,056 for the Nine months ended September 30, 2005. The increase in gross profit was attributable to the decrease in the net operating costs exceeding the decrease in the net operating revenue.

Total Operating Costs. Total operating costs decreased by $335,065, or 9%, to $3,220,773 for the Nine months ended September 30, 2006 from $3,555,838 for the Nine months ended September 30, 2005. This decrease was mainly due to decrease in sales of goods.

Total Operating Expenses. Total operating expenses decreased by $1,365,754, or 24%, to $4,244,104 for the Nine months ended September 30, 2006 from $5,609,858 for the Nine months ended September 30, 2005, principally due to decreases in salary expenses resulting from a reduction in employee headcount in our Taiwan and Shanghai operations.

Other Operating Expenses. Other operating expenses decreased by $1,365,534, or 24%, to $4,224,520 for the Nine months ended September 30, 2006 from $5,581,054 for the Nine months ended September 30, 2005, principally due to decreases in salary expenses resulting from a reduction in employee headcount in our Taiwan and Shanghai operations.

Interest Expense, Net. Net interest expenses decreased by $19,589, or 11%, to $151,757 for the Nine months ended September 30, 2006 from $171,346 for the Nine months ended September 30, 2005, primarily due to the decrease of the borrowings from banks.

Provision for Taxes. Provision for taxes for the Nine months ended September 30, 2006 and 2005 were $249,461and $275,361, respectively. These provisions for income taxes relate to income taxes resulting from our operations in Taiwan.

LIQUIDITY AND CAPITAL RESOURCES

Comparison of Fiscal Years 2006 and 2005

As of September 30, 2006, our principal sources of liquidity included cash and bank balances of $1,559,780 which increased from $613,391 at December 31, 2005. The increase was mainly due to decreases in expenses of operations in Taiwan and Shanghai.

Net cash (used in) provided by operating activities were $2,126,847 and $(30,424) during the Nine months ended September 30, 2006 and 2005, respectively. Net cash used in operating activities during the Nine months ended September 30, 2006 was primarily attributed to the increase in net income.

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Net cash (used in) provided by investing activities were $679,970 and $(78,652) during the Nine months ended September 30, 2006 and 2005, respectively. The $758,622 difference was primarily attributable to cash provided by long-term notes receivable.

Net cash used in financing activities during the Nine months ended September 30, 2006 was $1,814,965 as compared to $221,303 during the Nine months ended September 30, 2006 and 2005, respectively. The $1,593,495 difference was primarily attributable to the decrease cash in the proceeds from bank borrowings and use in repayment of loan from officers/stockholders and banks during the Nine months ended September 30, 2006.

Off-Balance Sheet Arrangements

As of September 30, 2006, we did not engage in any off-balance sheet arrangements as defined in Item 303(a)(4) of Regulation S-K promulgated by the SEC under the Securities Exchange Act of 1934.

Bank Borrowing

One of our financing sources is from bank borrowings. As of September 30, 2006 and 2005, the balances of bank borrowings, including current and non-current portions, were $1,904,828 and $4,081,869, respectively.

Pension Benefit

On July 1, 2005, we maintains two different retirement plans, according to ROC Labor Standard Law, we have a non-contributory and funded defined contribution retirement plan (the “New Plan”) covering all regular employees of KCIT, our subsidiary in Taiwan, and we still maintains the benefit retirement plan (the “Old Plan”) which commenced in September 2003, only applies to the regular employees of KCIT whom were employed before June 2005, as described in Note14 to our Condensed Consolidated Financial Statements. The benefits expected to be paid in each of the next five fiscal years, and in the aggregate for the five fiscal years thereafter are $0 and $29,969, respectively. We also make defined contributions to a retirement benefits plan for our employees in the PRC in accordance with local regulations. The contributions made by us for the nine months ended June September 30, 2006 and 2005 amounted to $26,326, and $59,166, respectively.

Going Concern

The accompanying financial statements have been prepared assuming the Group will continue as a going concern. As the Group is aggressively expanding its business in the PRC and the Group’s PRC operation is still in an emerging stage and has not turned profitable, the Group has suffered recurring losses from operations and has a net capital deficiency. The above conditions raise substantial doubt about the Group’s ability to continue as a going concern, if the investment in the PRC does not gradually see returns. As discussed in Note 12 to our Condensed Consolidated Financial Statements, the majority of the Group’s existing loans were guaranteed by two directors of the Group who have expressed their continuous support to the Group until other sources of funds have been obtained. Moreover, the Group successfully obtained new bank facilities in the first quarter of 2006 (please refer to Note 12 to our Condensed Consolidated Financial Statements for more information). Management believes that, with continuous growth in the sales in the PRC, the existing directors’ support and the new bank facilities, the Group will have sufficient funds for operations. The financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty.

NEW ACCOUNTING PRONOUNCEMENTS

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Non-GAAP Financial Measures

None.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to market risk, including from changes in certain foreign currency exchange rates and interest rates. All of these market risks arise in the normal course of business, as we do not engage in speculative trading activities. We have not entered into derivative or hedging transactions to manage risk in connection with such fluctuations.

The following analysis provides quantitative information regarding our exposure to foreign currency exchange risk and interest rate risk.

Interest rate exposure

We are exposed to fluctuating interest rates related to variable rate bank borrowings. In analyzing the effect of interest rate fluctuations based on the average balances of our outstanding bank borrowings for the third quarter fiscal of 2006, we have projected that, if interest rates were to increase by 1%, the result would be an annual increase in our interest expense of $19,422. This analysis does not take into consideration the effect of changes in the level of overall economic activity on interest rate fluctuations.

Foreign currency exposure

We have operations in both Taiwan and the PRC. The functional currency of Higoal Development Ltd. and its subsidiary, Kid Castle Internet Technologies Ltd. is NT Dollars and the financial records are maintained and the financial statements are prepared for these entities in NT Dollars. The functional currency of Kid Castle Educational Software Development Company Ltd. and its consolidated investee, Jiangsi 21th Century Kid Castle Culture Media Co. Ltd. is RMB and the financial records are maintained and the financial statements are prepared for these entities in RMB. In the normal course of business, these operations are not exposed to fluctuations in currency values. We do not generally enter into derivative financial instruments in the normal course of business, nor do we use such instruments for speculative purposes. The translation from the applicable local currency assets and liabilities to the U.S. Dollar is performed using exchange rates in effect at the balance sheet date except for shareholders’ equity, which is translated at historical exchange rates. Revenue and expense accounts are translated using average exchange rates during the period. Gains and losses resulting from such translations are recorded as a cumulative translation adjustment, a separate component of shareholders’ equity.

ITEM 4. CONTROLS AND PROCEDURES

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

Pursuant to Exchange Act Rule 13a-15(b) our management has performed an evaluation of the effectiveness of our disclosure controls and procedures. The term disclosure controls and procedures as defined in Exchange Act Rule Rule 13a-15(e) means controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer's management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

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Based on deficiencies noted by our auditors, problems discovered relating to misuse of company funds by a company officer, and other issues noted in our management’s evaluation, our conclusion is that as of December 31, 2005 our disclosure controls and procedures were ineffective. We are taking steps to improve our disclosure controls and procedures, instituting a new ERP system and engaging an outside accounting firm to advise the Company with respect to setting up internal auditing and other controls and procedures. The ERP system is expected to complete its trial run period by end of June 2007 and become independently and fully operational. The old system used by the Company would be phased out in the first six months of 2007. The phase out period involves the amalgamation of old data into the new ERP system, providing staff education and training of how to utilize the new ERP system as well as parallel running various functions and operations of the new ERP system along side the old system.

Management’s Report on Internal Control Over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in the rules promulgated under the Securities Exchange Act of 1934. Under the supervision and with the participation of our management, including our principal executive, and financial accounting officer, we have conducted an evaluation of the effectiveness of our internal control over financial reporting.

We recognize that the internal controls and procedures adopted by the Company were inadequate and gave rise to misappropriation of funds as disclosed in our Current Report on Form 8-K filed on June 23, 2006. Among other improvements, we began implementing a comprehensive ERP system that would improve the Company’s internal controls. The ERP system is currently at trial and test-run stage. The required software and hardware input have been fully installed and the system is now running to detect bugs that may reside in the system. The system is expected to be fully operational in third fiscal quarter 2007. The Company believes that full implementation of its new ERP System will prevent misappropriation of funds by Company employees because the ERP system will perform the following functions:

·	Maintain detailed records and produce comprehensive financial statements on a periodic basis allowing management to review and detect irregular financial activities.

·	Place different check-points on the progression of ordinary monetary activities of the business.

·	Delineate individual unit/departmental responsibilities and effectively separate respective departmental transactions so as to avoid intentional misappropriation of funds from taking place.

In addition to implementing a new ERP system, the following additional procedures have been implemented:

·	All departments requesting funds must obtain written approval from the Chief Executive Officer or the Chairman of the Board before the accounting department may commence processing payments.

·	All fund transfer applications must be approved by the applicable department supervisor before the application may be processed. No one can authorize their own application. This is applicable to all staff including staff at the managerial level.

·	Fund transfer applications in the PRC must additionally be approved by the headquarters in Taiwan.

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·	All fund transfer applications must be accompanied by supporting documentation, such as a copy of the relevant contract copy of the relevant invoice or stock pre-payment statement.

·	Stock purchases require the approval of the supervisor or manager of the relevant department, the approval of the accounts department, and a stock receipt and suppliers’ certification. Finally the application must be approved by the Chairman of the Board before funds may be released.

·	All pre-payments must be tracked by the fund applicant and the payments must be cleared within the month of payment or in accordance with the date stipulated in the relevant contract.

The Company recognizes that the internal controls and procedures were inadequate; it is assertively attending to the inadequacy and believes that implementation of all of the foregoing procedures will significantly strengthen the Company’s internal financial controls and procedures.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

We have no material pending legal proceedings.

ITEM 1A. RISK FACTORS

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part 1, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2005, which could materially affect our business, financial condition or future results. We caution the reader that these risk factors may not be exhaustive. We operate in a continually changing business environment and new risk facts emerge from time to time. Management cannot predict such new risk factors, nor can we assess the impact, if any, of such new risk factors on our business or the extent to which any factor, or combination of factors, may impact our business. There have not been any material changes during the quarter ended September 30, 2006 from the risk factors disclosed in the above-mentioned Form 10-K for the year ended December 31, 2005.

ITEM 2. CHANGES IN SECURITIES

None.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

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

None.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS

A.		Exhibits
31.1		Rule 13a-14(a) Certification of Principal Executive Officer

31.2		Rule 13a-14(a) Certification of Principal Financial Officer

32.1		Section 1350 Certification of Principal Executive Officer and Principal Financial Officer

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SIGNATURES

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


Dated May 21, 2007	BY:	/s/ SUANG-YI PAI
		SUANG-YI PAI
		CHIEF FINANCIAL OFFICER

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