DEVELOPMENT AND PRE-MANUFACTURING AGREEMENT

Exhibit 10.5

DEVELOPMENT AND PRE-MANUFACTURING AGREEMENT

THIS DEVELOPMENT AND PRE-MANUFACTURING AGREEMENT is dated September 27, 2006.

BETWEEN:

POWER AIR CORPORATION , a U.S. Corporation having an office at 4777 Bennett Drive, Suite E, Livermore, CA, 94551 ("PAC")

AND:

MID STATES TOOL AND MACHINE INC. , a U.S. Corporation having an office at 2220 Patterson Street, Decatur, IN, 46733 ("MID STATES")

WHEREAS:

A.         PAC wishes to re-design, cost-reduce, tool, and manufacture, PAC's patented Zinc Air Fuel Cell ("ZAFC") technology and design; and,

B.          MID STATES has the expertise necessary, on a best efforts basis, to cost-reduce the ZAFC design and tool and to manufacture prototypes for a cost effective 3 KW-DC Zinc Air Fuel Cell Power Source (the "ZAFC PS"), for use in PAC's first commercial generator product in North America; and,

C.         PAC and MID STATES wish to enter into this Development and Pre-Manufacturing Agreement ("Agreement") to set out the terms and conditions concerning the re-design, cost- reduction, tooling and manufacture of the ZAFC PS by PAC and MID STATES.

NOW THEREFORE, the parties agree as follows:

1.0                      DEFINITIONS

In this Agreement, including the recitals, except as expressly set forth herein or as the context otherwise requires,

1.1                     Agreement means this Development and Pre-Manufacturing Agreement,

1.2                     Business Day means a day that is not a Saturday or a Sunday, or a U.S. state or federal holiday,

1.3                     Effective Date means the date appearing at the top of page 1 of this Agreement,

1.4                     Intellectual Property means a patent, patent application, industrial design, invention, design, trade secret, idea, work, methodology, technology, innovation, creation, concept, moral right, development drawing, research, analysis, know-how, experiment, copyright, data, formula, method, procedure, process, manufacturing process, technique, trademarks and tradenames,

1.5                     Party or Parties means PAC or MID STATES individually or collectively,

1.6                     Schedules means the meaning ascribed in Section 2.1,

1.7                     Single Cell means a Cell frame, two (2) Endplates, stand-off, current collectors, metal plating, air cathode, and any other material for the cell to be able to produce power in the single cell configuration,

1.8                     Supply Agreement means an agreement that PAC and MID STATES intend to negotiate, during Phase 4 (in Schedule D), for the supply to PAC by MID STATES of the 30 cell ZAFC PS which will contain, among other things, warranties, covenants and other terms and conditions customary to an agreement of such kind, in addition to those terns and conditions specifically contemplated herein,

1.9                     Target Price means the unit price that MID STATES will target to supply to PAC,

1.10                   Territory means the North America,

1.11                   Zinc Air Fuel Cell ("ZAFC") means the zinc air fuel cell based stack that PAC intends to use as the power source for various commercial products,

1.12                   Zinc Air Fuel Cell Power Source ("ZAFC PS") means the power source capable of 3KW-DC output, initially composed of 30 single cells manufactured into a 30 cell stack, that will be supplied by MID STATES to PAC for PAC's first commercial generator product in North America.

2.0                      SCHEDULES

2.1                    The following schedules ("Schedules") are incorporated into this Agreement:

3.0                      OBLIGATIONS

3.1                    Each Party shall perform and meet its respective obligations set forth in the Schedules.

3.2                    Either Party will be able to terminate or renegotiate the agreement at the end of each Phase.

3.3                    Upon completion of Phase 3, or at such point as target pricing can be assured, the Parties shall negotiate a Manufacturing Agreement for the first 25,000 ZAFC PS's.

4.0                      PAYMENTS

4.1                     Payments . For the obligations performed by MID STATES as defined in this Agreement, PAC will grant MID STATES up to THREE HUNDRED AND FIFTY THOUSAND Stock Options priced at $0.755 US, assignable by MIDSTATES and vesting as follows:

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1)          50,000 Options on completion of Schedule A - Phase 1.

2)          100,000 Options on completion of Schedule B - Phase 2.

3)          100,000 Options on completion of Schedule C - Phase 3.

4)          100,000 Options on completion of Schedule D - Phase 4.

In addition, PAC will pay Mid-States a total of $77,000 as follows:

1)          $25,000 Upon execution of this agreement;

2)          $25,000 At the start of Phase 2;

3)          $27,000 Upon delivery of the 4 Demonstration Prototypes in Phase 2.

These payments do not include costs of materials, labor (at cost) or molds which are estimated in the Schedules themselves and are payable by PAC.

4.2                     Payment Terms. MID STATES shall issue a monthly invoice to PAC for work completed during the each phase as set out above. All payments are due thirty (30) days following the date of such invoice.

4.3                     Taxes. The price does not include any federal, state or local taxes, or sales, use, excise, ad valorem, value-add, withholding or other taxes or duties that may be applicable to the performance of the services. When MID STATES has the legal obligation to collect such taxes, the appropriate amount shall be added to PAC's invoice and paid by PAC unless PAC provides MID STATES with a valid tax exemption certificate prior to issuance of an invoice. Such certificate must be in a form authorized by the appropriate taxing authority.

5.0                      TRADEMARK LICENSE.

5.1                    Acknowledgment of Rights. Each Party acknowledges that the other Party holds all right, title and interest to the trademarks, service marks, or trade names owned, used or claimed now or in the future by such Party (respectively "Marks").

5.2                    License Grant. To the extent it is necessary for one Party to use the Marks of the other Party for the purposes of this Agreement, the Parties shall negotiate in good faith a non-exclusive trademark license agreement with each other.

6.0                      INTELLECTUAL PROPERTY

6.1                    Ownership of Intellectual Property. The Parties acknowledge that each has developed, and may continue to develop, at their own cost and expense, elements of technology that may be incorporated into the ZAFC PS. PAC shall own, and MID STATES shall disclaim any rights to, PAC's existing technology and any improvements thereto, as well as any elements and/or manufacturing processes that are developed for the ZAFC PS whether by or for PAC by MID STATES or any third party. PAC shall own all right, title and interest in all PAC intellectual property provided to MID STATES under this Agreement. This shall include any derivatives, improvements or modifications of PAC or MID STATES intellectual property developed, designed or discovered under this Agreement. MID STATES agrees to assign and does hereby assign to PAC all rights MID STATES may have or acquire in all such intellectual property. PAC shall have the exclusive right to apply for or register any patents, mask work rights, copyrights, and such other proprietary rights protections with respect thereto. MID STATES shall execute such documents, render such assistance, and take such other actions as PAC may reasonably request, at PAC's expense, to apply for, register, perfect, confirm and protect PAC's rights in any intellectual property hereunder. Without limiting the foregoing, PAC shall have the exclusive right to commercialize, prepare and sell products based upon, sublicense, prepare derivative works from, or otherwise use or exploit the intellectual property rights granted to PAC hereunder.

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6.2                    Residuals. Information gathered by either party in relation to the activities contemplated in Schedules A, B, C, and D including market information, customer requirements, product specifications, product design, manufacturing processes, product testing data, field trial data and customer feedback will be PAC's information and will be considered Confidential Information of PAC.

7.0                      CONFIDENTIAL INFORMATION

Mutual Non-Disclosure Agreement. All the provisions of the Mutual Non-Disclosure Agreement, dated November 3, 2005, by and between the parties shall continue in full force and effect, except those provisions that are contained in this Agreement which are intended to replace previous provisions in the Mutual Non-Disclosure Agreement.

8.0                      SUPPLY AGREEMENT

8.1                    Following successful completion of the prop