Callidus Software 10Q 2008 Q3 Quarterly report

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)


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

For the quarterly period ended September 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: 000-50463

Callidus Software Inc.

(Exact name of registrant as specified in its charter)


Delaware (State or Other Jurisdiction of Incorporation or Organization)		77-0438629 (I.R.S. Employer Identification Number)

Callidus Software Inc.
160 West Santa Clara Street, Suite 1500
San Jose, CA 95113
(Address of principal executive offices, including zip code)

(408) 808-6400
(Registrant’s Telephone Number, including area code)

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 reports) and (2) has been subject to such filing requirements for the past 90 days. Yesþ Noo

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 filero	Accelerated filerþ	Non-accelerated filero	Smaller reporting companyo
		(Do not check if a smaller reporting company)

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

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

There were 30,131,912 shares of the registrant’s common stock, par value $0.001, outstanding on October 31, 2008, the latest practicable date prior to the filing of this report.

TABLE OF CONTENTS


PART I. FINANCIAL INFORMATION
Item 1. Financial Statements			3
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			23
Item 3. Quantitative and Qualitative Disclosures About Market Risk			41
Item 4. Controls and Procedures			43

PART II. OTHER INFORMATION
Item 1. Legal Proceedings			43
Item 1A. Risk Factors			43
Item 6. Exhibits			59
Signatures			60
Exhibit Index			61
EX-31.1
EX-32.1

Callidus Software^®, the Callidus logo^®, Callidus TRUEANALYTICS™, TRUECOMP^®, TRUEINFORMATION^®, TRUEPERFORMANCE^®, TRUEPRODUCER™, TRUEQUOTA™ and TRUERESOLUTION^® are our trademarks, among others not referenced in this quarterly report of Form 10-Q. All other trademarks, service marks, or trade names referred to in this report are the property of their respective owners.

PART I. FINANCIAL INFORMATION

Item 1.Financial Statements

CALLIDUS SOFTWARE INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share amount)


	September 30,			December 31,
	2008			2007
	(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	38,923		$	21,813
Short-term investments		2,454			28,824
Accounts receivable, net		17,951			23,575
Deferred income taxes		423			423
Prepaid and other current assets		5,200			4,038

Total current assets		64,951			78,673
Long-term investments		4,314			—
Property and equipment, net		5,332			4,438
Goodwill		3,716			—
Intangible assets, net		3,956			2,333
Deferred income taxes, noncurrent		90			90
Deposits and other assets		1,292			1,913

Total assets	$	83,651		$	87,447


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	2,471		$	2,901
Accrued payroll and related expenses		5,112			7,326
Accrued expenses		4,471			4,225
Deferred revenue		18,673			15,831

Total current liabilities		30,727			30,283
Long-term deferred revenue		1,571			2,326
Other liabilities		1,660			1,089

Total liabilities		33,958			33,698


Stockholders’ equity:
Common stock, $0.001 par value; 100,000 shares authorized; 30,121 and 29,704 shares issued and outstanding at September 30, 2008 and December 31, 2007, respectively		30			30
Additional paid-in capital		208,645			203,110
Accumulated other comprehensive income		12			456
Accumulated deficit		(158,994	)		(149,847	)

Total stockholders’ equity		49,693			53,749

Total liabilities and stockholders’ equity	$	83,651		$	87,447

See accompanying notes to unaudited condensed consolidated financial statements.

CALLIDUS SOFTWARE INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)


	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2008			2007			2008			2007
	(Unaudited)
Revenues:
License	$	6,782		$	5,600		$	12,638		$	21,269
Subscription and support		10,874			5,944			29,208			17,406
Services and other		10,597			13,226			37,992			37,477

Total revenues		28,253			24,770			79,838			76,152
Cost of revenues:
License		355			191			705			646
Subscription and support		4,147			2,696			11,095			8,193
Services and other		10,217			11,542			34,093			33,281

Total cost of revenues		14,719			14,429			45,893			42,120

Gross profit		13,534			10,341			33,945			34,032


Operating expenses:
Sales and marketing		7,623			7,293			21,983			23,156
Research and development		3,808			3,688			10,958			11,781
General and administrative		3,529			3,951			10,261			11,372
Restructuring		—			—			397			—

Total operating expenses		14,960			14,932			43,599			46,309


Operating loss		(1,426	)		(4,591	)		(9,654	)		(12,277	)
Interest and other income, net		103			657			914			2,239


Loss before provision for income taxes		(1,323	)		(3,934	)		(8,740	)		(10,038	)
Provision for income taxes		64			36			407			144


Net loss	$	(1,387	)	$	(3,970	)	$	(9,147	)	$	(10,182	)


Net loss per share — basic and diluted
Net loss per share	$	(0.05	)	$	(0.14	)	$	(0.31	)	$	(0.35	)

				��
Shares used in basic per share computation		30,063			29,175			29,937			28,901

Shares used in diluted per share computation		30,063			29,175			29,937			28,901

See accompanying notes to unaudited condensed consolidated financial statements.

CALLIDUS SOFTWARE INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)


	Nine Months Ended September 30,
	2008			2007
	(Unaudited)
Cash flows from operating activities:
Net loss	$	(9,147	)	$	(10,182	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation expense		1,782			1,417
Amortization of intangible assets		2,138			247
Provision for doubtful accounts and sales returns		1,250			82
Stock-based compensation		5,890			3,949
Loss on disposal of property		24			2
Net accretion on investments		(159	)		(489	)
Changes in operating assets and liabilities:
Accounts receivable		8,377			(2,940	)
Prepaid and other current assets		(910	)		1,175
Other assets		633			(1,799	)
Accounts payable		(1,031	)		1,801
Accrued payroll and related expenses		(2,172	)		(735	)
Accrued expenses		(3,240	)		3,435
Deferred revenue		1,906			(302	)

Net cash provided by (used in) operating activities		5,341			(4,339	)


Cash flows from investing activities:
Purchases of investments		(13,919	)		(33,572	)
Proceeds from maturities and sale of investments		35,720			38,005
Purchases of property and equipment		(1,927	)		(2,385	)
Purchases of intangible assets		(280	)		(100	)
Acquisition, net of cash acquired		(7,500	)		—
Change in restricted cash		—			130

Net cash provided by investing activities		12,094			2,078


Cash flows from financing activities:
Proceeds from issuance of common stock		4,785			3,558
Purchases of treasury stock		(5,140	)		—

Net cash (used in) provided by financing activities		(355	)		3,558

Effect of exchange rates on cash and cash equivalents		30			(93	)

Net increase in cash and cash equivalents		17,110			1,204
Cash and cash equivalents at beginning of period		21,813			12,082

Cash and cash equivalents at end of period	$	38,923		$	13,286


Supplemental disclosures of cash flow information:
Cash paid for income taxes	$	8		$	—

Non-cash investing and financing activities:
Purchases of property and equipment not paid as of quarter-end	$	533		$	—

Purchases of intangible assets not paid as of quarter-end	$	81		$	—

See accompanying notes to unaudited condensed consolidated financial statements.

CALLIDUS SOFTWARE INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Summary of Significant Accounting Policies

Basis of Presentation

The accompanying condensed consolidated financial statements have been prepared on substantially the same basis as the audited consolidated financial statements included in the Callidus Software Inc. Annual Report on Form 10-K for the year ended December 31, 2007. Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to the Securities and Exchange Commission (SEC) rules and regulations regarding interim financial statements. All amounts included herein related to the condensed consolidated financial statements as of September 30, 2008 and the three and nine months ended September 30, 2008 and 2007 are unaudited and should be read in conjunction with the audited consolidated financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007.

In the opinion of management, the accompanying condensed consolidated financial statements include all necessary adjustments for the fair presentation of the Company’s financial position, results of operations and cash flows. The results of operations for the interim periods presented are not necessarily indicative of the operating results to be expected for any subsequent interim period or for the full fiscal year ending December 31, 2008.

Corrections of Errors

During the quarter ended September 30, 2008, the Company determined that license revenue was overstated by $600,000 in the third quarter of fiscal 2007 as a result of revenue recognition criteria not being met for one transaction during that quarter. The delivery criterion was met in the third quarter of fiscal 2008.

The Company also determined that certain accrued expenses were understated by $88,000 as a result of a foreign currency transaction loss that should have been recorded during the three and twelve months ended December 31, 2007. The Company will reflect this adjustment in its consolidated statement of operations for the year ended December 31, 2007 in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008.

The Company has modified the unaudited condensed consolidated financial statements for the three and nine months ended September 30, 2007 to reflect a decrease in revenue and an increase in deferred revenue. These transactions have now been corrected in the unaudited condensed consolidated financial statements for 2007 as set forth herein (in thousands, except per share amounts).


	December 31,
	2007
	As previously
	reported			Adjustments			As revised
Balance Sheet:
Accrued expenses	$	4,137		$	88		$	4,225
Deferred revenue		15,231			600			15,831
Total current liabilities		29,595			688			30,283
Total liabilities		33,010			688			33,698
Accumulated deficit		(149,159	)		(688	)		(149,847	)
Total stockholders’ equity		54,437			(688	)		53,749


	Three Months Ended									Nine Months Ended
	September 30, 2007									September 30, 2007
	As previously									As previously
	reported			Adjustments			As revised			reported			Adjustments			As revised
Statements of Operations:
License revenues	$	6,200		$	(600	)	$	5,600		$	21,869		$	(600	)	$	21,269
Total revenues		25,370			(600	)		24,770			76,752			(600	)		76,152
Gross profit		10,941			(600	)		10,341			34,632			(600	)		34,032
Operating loss		(3,991	)		(600	)		(4,591	)		(11,677	)		(600	)		(12,277	)
Loss before provision for income taxes		(3,334	)		(600	)		(3,934	)		(9,438	)		(600	)		(10,038	)
Net loss		(3,370	)		(600	)		(3,970	)		(9,582	)		(600	)		(10,182	)
Net loss per share - basic and diluted		(0.12	)		(0.02	)		(0.14	)		(0.33	)		(0.02	)		(0.35	)

The Company does not believe these amounts are material to the reporting periods in which they should have been recorded, nor does it expect these amounts will be material to its consolidated operating results for the year ending December 31, 2008.

Principles of Consolidation

The condensed consolidated financial statements include the accounts of Callidus Software Inc. and its wholly owned subsidiaries (collectively, the Company), which include wholly owned subsidiaries in Australia, Canada, Germany and the United Kingdom. All intercompany transactions and balances have been eliminated in consolidation.

Use of Estimates

Preparation of the condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States and the rules and regulations of the Securities and Exchange Commission (SEC) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Management periodically evaluates such estimates and assumptions for continued reasonableness. Appropriate adjustments, if any, to the estimates used are made prospectively based upon such periodic evaluation. Actual results could differ from those estimates.

Reserve Accounts

Trade accounts receivable are recorded at the invoiced amount and do not bear interest. The Company offsets gross trade accounts receivable with its allowance for doubtful accounts and sales return reserve. The allowance for doubtful accounts is the Company’s best estimate of the amount of probable credit losses in the Company’s existing accounts receivable. The Company reviews its allowance for doubtful accounts monthly. Past due balances over 90 days are reviewed individually for collectibility. Account balances are charged against the allowance after reasonable means of collection have been exhausted and the potential for recovery is considered remote.

The sales return reserve is the Company’s best estimate of the probable amount of remediation services it will have to provide for ongoing professional service arrangements. To determine the adequacy of the sales return reserve, the Company analyzes historical experience of actual remediation service claims as well as current information on remediation service requests. Provisions for allowance for doubtful accounts are recorded in general and administrative expenses, while provisions for sales returns are offset against services and other revenues.

Below is a summary of the changes in the Company’s reserve accounts for the three and nine months ended September 30, 2008 and 2007 (in thousands):


	Balance at		Provision,					Balance at
	Beginning		Net of					End of
	of Period		Recoveries		Write-Offs			Period
Allowance for doubtful accounts
Three months ended September 30, 2008	$	113	$	102	$	(34	)	$	181
Three months ended September 30, 2007		483		37		—			520
Nine months ended September 30, 2008		154		61		(34	)		181
Nine months ended September 30, 2007		463		57		—			520


	Balance at				Remediation			Balance at
	Beginning				Service			End of
	of Period		Provision		Claims			Period
Sales return reserve
Three months ended September 30, 2008	$	721	$	1,173	$	(480	)	$	1,414
Three months ended September 30, 2007		259		240		(233	)		266
Nine months ended September 30, 2008		225		2,182		(993	)		1,414
Nine months ended September 30, 2007		241		953		(928	)		266

Restricted Cash

Included in deposits and other assets in the consolidated balance sheets at September 30, 2008 and December 31, 2007 is restricted cash of $434,000 related to security deposits on leased facilities for our New York, New York and San Jose, California offices. The restricted cash represents investments in certificates of deposit and secured letters of credit required by landlords to meet security deposit requirements for the leased facilities. Restricted cash is included in other assets based on the remaining contractual term for the release of the restriction.

Revenue Recognition

The Company generates revenues by licensing software; providing related software support and providing its software application as a service through its on-demand subscription offering; and providing related professional services to its customers. The Company presents revenue net of sales taxes and any similar assessments.

The Company recognizes revenues in accordance with accounting standards for software and service companies. The Company will not recognize revenue until persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable and collection is deemed probable. The Company evaluates each of these criteria as follows:

Evidence of an Arrangement.The Company considers a non-cancelable agreement signed by it and the customer to be evidence of an arrangement.

Delivery.In perpetual licensing arrangements, the Company considers delivery to have occurred when media containing the licensed programs is provided to a common carrier, or in the case of electronic delivery, the customer is given access to the licensed programs. The Company’s typical end-user license agreement does not include customer acceptance provisions. In on-demand arrangements, the Company considers delivery to have occurred as the service is provided to the customer.

Fixed or Determinable Fee.The Company considers the fee to be fixed or determinable unless the fee is subject to refund or adjustment or is not payable within its standard payment terms. The Company considers payment terms greater than 90 days to be beyond its customary payment terms. If the fee is not fixed or determinable, the Company recognizes the revenue as amounts become due and payable.

In arrangements where the customer is obligated to pay at least 90% of the license amount within normal payment terms and the remaining 10% is to be paid within a year from the contract effective date, the Company will recognize the license revenue for the entire arrangement upon delivery assuming all other revenue recognition criteria have been met. This policy is effective as long as the Company continues to maintain a history of providing similar terms to customers and collecting from those customers without providing any contractual concessions.

Collection is Deemed Probable.The Company conducts a credit review for all significant transactions at the time of the arrangement to determine the creditworthiness of the customer. Collection is deemed probable if the Company expects that the customer will be able to pay amounts under the arrangement as payments become due. If the Company determines that collection is not probable, the Company defers the recognition of revenue until cash collection.

Perpetual Licensing.The Company’s perpetual software license arrangements typically include: (i) an end-user license fee paid in exchange for the use of its products, generally based on a specified number of payees, and (ii) a maintenance arrangement that provides for technical support and product updates, generally over renewable twelve month periods. If the Company is selected to provide integration and configuration services, then the software arrangement will also include professional services, generally priced on a time-and-materials basis. Depending upon the elements in the arrangement and the terms of the related agreement, the Company recognizes license revenues under either the residual or the contract accounting method.

Certain arrangements result in the payment of customer referral fees to third parties that resell the Company’s software products. In these arrangements, license revenues are recorded, net of such referral fees, at the time the software license has been delivered to a third-party reseller and an end-user customer has been identified.

Residual Method.Perpetual license fees are recognized upon delivery whether licenses are sold separately from or together with integration and configuration services, provided that (i) the criteria described above have been met, (ii) payment of the license fees is not dependent upon performance of the integration and configuration services, and (iii) the services are not otherwise essential to the functionality of the software. The Company recognizes these license revenues using the residual method pursuant to the requirements of Statement of Position (SOP) 97-2,“Software Revenue Recognition,”as amended by SOP 98-9,“Software Revenue Recognition with Respect to Certain Transactions.”Under the residual method, revenues are recognized when vendor-specific objective evidence of fair value exists for all of the undelivered elements in the arrangement (i.e., professional services and maintenance), but does not exist for one or more of the delivered elements in the arrangement (i.e., the software product). Each license arrangement requires careful analysis to ensure that all of the individual elements in the license transaction have been identified, along with the fair value of each undelivered element.

The Company allocates revenue to each undelivered element based on its estimated fair value, with the fair value determined by the price charged when that element is sold separately. For a certain class of transactions, the fair value of the maintenance portion of the Company’s arrangements is based on stated renewal rates rather than stand-alone sales. The fair value of the professional services portion of the arrangement is based on the hourly rates that the Company charges for these services when sold independently from a software license. If evidence of fair value cannot be established for the undelivered elements of a license agreement, the entire amount of revenue from the arrangement is deferred until evidence of fair value can be established, or until the items for which evidence of fair value cannot be established are delivered. If the only undelivered element is maintenance, then the entire amount of revenue is recognized over the maintenance delivery period.

Contract Accounting Method.For arrangements where services are considered essential to the functionality of the software, such as where the payment of the license fees is dependent upon performance of the services, both the license and services revenues are recognized in accordance with the provisions of SOP 81-1,“Accounting for Performance of Construction-Type and Certain Production-Type Contracts”(SOP 81-1). The Company generally uses the percentage-of-completion method because the Company is able to make reasonably dependable estimates relative to contract costs and the extent of progress toward completion. However, if the Company cannot make reasonably dependable estimates, the Company uses the completed-contract method. If total cost estimates exceed revenues, the Company accrues for the estimated loss on the arrangement at the time such determination is made.

In certain arrangements, the Company has provided for unique acceptance criteria associated with the delivery of consulting services. In these instances, the Company has recognized revenue in accordance with the provisions of SOP 81-1. To the extent there is contingent revenue in these arrangements, the Company measures the level of profit that is expected based on the non-contingent revenue and the total expected project costs. If the Company is assured of a certain level of profit excluding the contingent revenue, the Company recognizes the non-contingent revenue on a percentage-of-completion basis and recognizes the contingent revenue upon final acceptance.

On-Demand Revenue.In hosted arrangements where the Company provides its software applications as a service, the Company has considered Emerging Issues Task Force Issue No. 00-3 (EITF 00-3), "Application of AICPA Statement of Position 97-2 to Arrangements That Include the Right to Use Software Stored on Another Entity’s Hardware,”and has concluded that these transactions are considered service arrangements and fall outside of the scope of SOP 97-2. Accordingly, the Company follows the provisions of SEC Staff Accounting Bulletin No. 104,“Revenue Recognition”and Emerging Issues Task Force Issue No. 00-21 (EITF 00-21),“Revenue Arrangements with Multiple Deliverables.”Customers will typically prepay for the Company’s hosted services, amounts which the Company will defer and recognize ratably over the non-cancelable term of the customer contract. In addition to the hosting services, these arrangements may also include implementation and configuration services, which are billed on a time-and-materials basis and recognized as revenues as the services are performed. The Company evaluates whether each of the elements in these arrangements represents a separate unit of accounting, as defined by EITF 00-21, using all applicable facts and circumstances, including whether (i) the Company sells or could readily sell the element unaccompanied by the other elements, (ii) the element has stand-alone value to the customer, (iii) there is objective reliable evidence of the fair value of the undelivered item and (iv) there is a general right of return.

For those arrangements where the elements qualify for separate units of accounting, the hosting revenues are recognized ratably over the non-cancelable contract term, which is typically 12 to 24 months, beginning on the service commencement date. Implementation and configuration services, when sold with the hosted offering, are recognized as the services are rendered for time-and-materials contracts, and are recognized utilizing the proportional performance method of accounting for fixed-price contracts. For arrangements with multiple deliverables, the Company allocates the total contractual arrangement to the separate units of accounting based on their relative fair values, as determined by the fair value of the undelivered and delivered items when sold separately.

If consulting services for implementation and configuration associated with a hosted on-demand arrangement do not qualify as a separate unit of accounting, the Company will recognize the revenue from implementation and configuration services ratably over the remaining non-cancelable term of the subscription contract once the implementation is complete. In addition, the Company will defer the direct costs of the implementation and configuration services and amortize those costs over the same time period as the related revenue is recognized. The deferred costs on the Company’s condensed consolidated balance sheets for these arrangements totaled $4.1 million and $3.4 million at September 30, 2008 and December 31, 2007, respectively. As of September 30, 2008 and December 31, 2007, $3.4 million and $2.1 million, respectively, of the total deferred costs were included in prepaid and other current assets, with the remaining amount included in deposits and other assets in the condensed consolidated balance sheets.

Included in the deferred costs for hosting arrangements is the deferral of commission payments to the Company’s direct sales force, which the Company amortizes over the non-cancelable term of the contract as the related revenue is recognized. The commission payments are a direct and incremental cost of the revenue arrangements. The deferral of commission expenditures related to the Company’s on-demand product offering was $0.9 million and $1.3 million at September 30, 2008 and December 31, 2007, respectively.

Maintenance Revenue.Under perpetual software license arrangements, a customer typically pre-pays maintenance for the first twelve months, and the related revenues are deferred and recognized ratably over the term of the initial maintenance contract. Maintenance is renewable by the customer on an annual basis thereafter. Rates for maintenance, including subsequent renewal rates, are typically established based upon a specified percentage of net license fees as set forth in the arrangement.

Professional Service Revenue.Professional service revenues primarily consist of integration services related to the installation and configuration of the Company’s products as well as training. The Company’s installation and configuration services do not involve customization to, or development of, the underlying software code. Substantially all of the Company’s professional services arrangements are on a time-and-materials basis. Reimbursements, including those related to travel and out-of-pocket expenses, are included in services and other revenues, and an equivalent amount of reimbursable expenses is included in cost of services and other revenues. For professional service arrangements with a fixed fee, the Company recognizes revenue utilizing the proportional performance method of accounting. The Company estimates the proportional performance on fixed-fee contracts on a monthly basis utilizing hours incurred to date as a percentage of total estimated hours to complete the project. If the Company does not have a sufficient basis to measure progress toward completion, revenue is recognized upon completion of performance. To the extent the Company enters into a fixed-fee services contract, a loss will be recognized any time the total estimated project cost exceeds project revenues.

Net Loss Per Share

Basic net loss per share is calculated by dividing net loss for the period by the weighted average common shares outstanding during the period, less shares subject to repurchase. Diluted net loss per share is calculated by dividing the net loss for the period by the weighted average common shares outstanding, adjusted for all dilutive potential common shares, which includes shares issuable upon the exercise of outstanding common stock options and warrants, the release of restricted stock, and purchases of employee stock purchase plan (ESPP) shares to the extent these shares are dilutive. For the three and nine months ended September 30, 2008 and 2007, the diluted net loss per share calculation was the same as the basic net loss per share calculation, as all potential common shares were anti-dilutive.

Diluted net loss per share does not include the effect of the following potential weighted average common shares because to do so would be anti-dilutive for the periods presented (in thousands):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2008		2007		2008		2007
Restricted stock		1,291		118		1,095		46
Stock options		6,434		8,277		6,789		8,215
Warrants		—		*		—		1
ESPP		93		48		218		204

Totals		7,818		8,443		8,102		8,466


*		Less than 1.000 shares

The weighted-average exercise price of stock options excluded from weighted average common shares during the three and nine months ended September 30, 2008 was $5.07 and $5.19 per share, respectively, as compared to the weighted average exercise price of stock options excluded from weighted average common shares during the three and nine months ended September 30, 2007 of $4.99 and $4.91 per share, respectively. The weighted average exercise price of warrants excluded from weighted average common shares during the nine months ended September 30, 2007 was $13.34 per share.

Recent Accounting Pronouncements

In September 2006, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 157,“Fair Value Measurements”(SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements, as the FASB had previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, SFAS 157 does not require any new fair value measurements. SFAS 157 was effective for fiscal years beginning after November 15, 2007. However, in February 2008, the FASB issued FSP FAS 157-2, which delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). This FSP partially defers the effective date of SFAS 157 to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years for items within the scope of this FSP. These nonfinancial items include assets and liabilities such as reporting units measured at fair value in a goodwill impairment test and nonfinancial assets acquired and liabilities assumed in a business combination. The Company has adopted the new accounting provision, except as it applies to those nonfinancial assets and nonfinancial liabilities as noted in FSP FAS 157-2, as of January 1, 2008. The partial adoption of SFAS 157 for financial assets and liabilities did not have a material impact on the condensed consolidated financial statements. See Note 5 for information and related disclosures regarding the Company’s fair value measurements.

In February 2007, the FASB issued FASB Statement No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities — Including an Amendment of FASB Statement No. 115”(SFAS 159). SFAS 159 permits the Company to choose to measure many financial instruments and certain other items at fair value. The Company adopted SFAS 159 as of January 1, 2008. As the Company already measures its financial instruments at fair value, the Company did not make any fair value elections during the current period. Therefore, the adoption of SFAS 159 did not impact the Company’s condensed consolidated financial statements.

In December 2007, the FASB issued FASB Statement No. 141 (revised 2007),“Business Combinations”(SFAS 141R). SFAS 141R requires the use of “full fair value” to record all the identifiable assets, liabilities, noncontrolling interests and goodwill acquired in a business combination. SFAS 141R is effective for fiscal years beginning after December 15, 2008. The adoption of SFAS 141R will impact all business acquisitions entered into after January 1, 2009.

In December 2007, the FASB issued FASB Statement No. 160“Noncontrolling Interests in Consolidated Financial Statements”(SFAS 160). SFAS 160 requires the noncontrolling interests (minority interests) to be recorded at fair value and reported as a component of equity. SFAS 160 is effective for fiscal years beginning after December 15, 2008. The Company does not have any noncontrolling interests (minority interests). As such, the adoption of SFAS 160 will have no impact on the Company’s condensed consolidated financial statements.

In April 2008, the FASB issued FASB Staff Position No. 142-3,“Determination of the Useful Life of Intangible Assets”(FSP 142-3). FSP 142-3 amends the factors an entity should consider in developing renewal or extension assumptions used in determining the useful life of recognized intangible assets under FASB Statement No. 142,Goodwill and Other Intangible Assets”(SFAS 142). This new guidance applies prospectively to intangible assets that are acquired individually or with a group of other assets in business combinations and asset acquisitions. FSP 142-3 is effective for financial statements issued for fiscal years and interim periods thereof beginning after December 15, 2008. Early adoption is prohibited. The Company is currently evaluating the impact that FSP 142-3 will have on its condensed consolidated financial statements.

2. Acquisition

On January 14, 2008, the Company entered into an Agreement and Plan of Merger with Compensation Technologies LLC (“CT”) and owners of CT, pursuant to which a wholly owned subsidiary of the Company was merged with and into CT, with CT surviving as a wholly owned subsidiary of the Company. The Company also entered into an Agreement and Plan of Merger with Compensation Management Services LLC (“CMS”) and owners of CMS, pursuant to which a wholly owned subsidiary of the Company was merged with and into CMS, with CMS surviving as a wholly owned subsidiary of the Company. CT provides business process redesign support, business analytics solutions, business case development and compensation administration management while CMS provides software-as-a-service to a number of customers. The acquisition of CT and CMS provides the Company with experienced management and employee resources and augments the Company’s portfolio of service offerings.

The acquisition has been accounted for under the purchase method of accounting in accordance with FASB Statement No. 141, “Business Combinations”(SFAS 141). Assets acquired and liabilities assumed were recorded at their fair values as of January 14, 2008. The results of operations of CT and CMS since January 14, 2008 are included in the Company’s condensed consolidated statement of operations. The acquisition was not material to the Company’s consolidated balance sheet and results of operations.

The total purchase price for CT and CMS, which was an all cash transaction, was approximately $8.5 million and is comprised of the following (in thousands):


Net assets acquired	$	1,084
Goodwill		3,716
Intangible assets (see Note 4)		3,500
Acquisition related transaction costs		171


Total Purchase Price	$	8,471

The total purchase price was allocated to the assets and liabilities acquired, including identifiable intangible assets, based on their respective fair values at the acquisition date and resulted in excess purchase consideration over the net tangible liabilities and identifiable intangible assets acquired of $3.7 million. The acquisition included contingent payments of $4.8 million that are not accounted for in the initial purchase price as of the acquisition date. The contingent consideration could lead to an increase in goodwill if and when the contingencies are resolved. The contingent payments are as follows: $1.9 million will be paid to the former CT and CMS owners on December 31, 2008, if, by that date, Robert Conti, Senior Vice President Worldwide Client Services, has not terminated his employment with the Company except for good reason or his employment has been terminated by the Company without cause; and up to $2.9 million will be paid to the former CT and CMS owners in February 2009 if the Company’s services business meets certain financial performance criteria during 2008. These contingent payments will only be recorded as part of the purchase price if and when the related contingencies are resolved and the related consideration is paid or becomes payable.

Goodwill of $3.7 million, representing the excess of the purchase price over the fair value of tangible and identifiable intangible assets acquired in the acquisition, will not be amortized, but is instead tested for impairment at least annually, consistent with the guidance in FASB Statement No. 142, “Goodwill and Other Intangible Assets.”The $3.7 million of goodwill is expected to be deductible for tax purposes. In addition, a portion of the purchase price was allocated to the following identifiable intangible assets (in thousands, except years):


			Estimated
			Weighted Average
			Useful Lives
	Purchase Price		in Years
Customer Backlog	$	1,500		1.00
Customer Relationships		2,000		4.00


Total	$	3,500		2.71

Customer backlog and relationships represent the underlying customer support contracts and related relationships with CT and CMS’s existing customers.

3. Restructuring

On November 27, 2007, the Company’s Board of Directors approved a cost savings program to reduce the Company’s workforce by approximately 8%. The Company recorded restructuring charges of approximately $1.5 million in the fourth quarter of 2007 and $0.4 million in the first quarter of 2008, which were the total amounts incurred in connection with severance and termination-related costs, most of which were severance-related cash expenditures. The cost savings program was completed in the first quarter of 2008. As of September 30, 2008, there were no accrued restructuring charges.

During the first quarter of 2008, management approved and initiated plans to restructure certain operations by reducing the Company’s workforce to eliminate redundant costs resulting from the acquisition of CT and improve efficiencies in operations. The cash restructuring charges recorded are based on restructuring plans that have been committed to by management and the Board of Directors.

The total estimated restructuring costs associated with exiting activities of CT are approximately $58,000. These restructuring costs have all been paid as of September 30, 2008. In accordance with Emerging Issues Task Force No. 95-3 (EITF 95-3)“Recognition of Liabilities in Connection with a Purchase Business Combination,”these costs were recognized as a liability assumed in the purchase business combination and included in the allocation of the cost to acquire CT and, accordingly, have resulted in an increase to goodwill.

4. Intangible Assets

Intangible assets consisted of the following as of September 30, 2008 and December 31, 2007 (in thousands):


	December 31,		December 31,							September 30,
	2007		2007				Amortization			2008
	Cost		Net		Additions		Expense			Net
Purchased technology	$	3,318	$	2,333	$	261	$	(722	)	$	1,872
Customer backlog		—		—		1,500		(1,062	)		438
Customer relationships		—		—		2,000		(354	)		1,646


Total intangible assets, net	$	3,318	$	2,333	$	3,761	$	(2,138	)	$	3,956

Intangible assets include third-party software licenses used in our products and acquired assets related to the CT acquisition. Amortization expense related to intangible assets was $0.8 million and $2.2 million for the three and nine months ended September 30, 2008, respectively, as compared to amortization expense of $0.1 million and $0.2 million for the three and nine months ended September 30, 2007, respectively, and was charged to cost of revenues. The Company’s intangible assets are amortized over their estimated useful lives of one to five years. Total future expected amortization for the remainder of 2008 and each of the next five years and thereafter is as follows (in thousands):


	Purchased		Customer		Customer
	Technology		Backlog		Relationships
Year Ending December 31:
Remainder of 2008	$	249	$	375	$	125
2009		751		63		500
2010		305		—		500
2011		389		—		500
2012		178		—		21
2013 and beyond		—		—		—


Total expected future amortization	$	1,872	$	438	$	1,646

5. Investments

The Company classifies debt and marketable equity securities based on the liquidity of the investment and management’s intention on the date of purchase and re-evaluates such designation as of each balance sheet date. Debt and marketable equity securities are classified as available for sale and carried at fair value, which is determined based on the inputs discussed below, with net unrealized gains and losses, net of tax effects, included in accumulated other comprehensive income (loss) in the accompanying condensed consolidated financial statements. The Company considers all highly liquid instruments with an original maturity on the date of purchase of three months or less to be cash equivalents. The Company considers all investments that are available for sale that have a maturity date of longer than three months to be short-term investments, including those investments with a maturity date of longer than one year that are highly liquid and for which the Company does not have a positive intent to hold to maturity. Due to the failed repricing and unrealized losses on the Company’s investments in auction rate securities, these investments were recorded as long-term investments on the condensed consolidated balance sheet as of September 30, 2008 to reflect the current lack of liquidity of these investments. As of September 30, 2008, the Company had the ability and the intent to hold these auction rate securities until the full par value could be recovered.

Interest is included in interest and other income, net, in the accompanying condensed consolidated financial statements. Realized gains and losses are calculated using the specific identification method. The components of the Company’s debt and marketable equity securities were as follows at September 30, 2008 and December 31, 2007 (in thousands):


	Carrying		Unrealized		Unrealized			Estimated
September 30, 2008	Value		Gains		Losses			Fair Value
Money market funds	$	30,997	$	—	$	—		$	30,997
Auction-rate securities		4,700		—		(386	)		4,314
Corporate notes and obligations		2,442		14		(2	)		2,454

Investments in debt and equity securities	$	38,139	$	14	$	(388	)	$	37,765


	Carrying		Unrealized		Unrealized			Estimated
December 31, 2007	Value		Gains		Losses			Fair Value
Money market funds	$	5,823	$	—	$	—		$	5,823
Auction-rate securities		11,750		—		—			11,750
Corporate notes and obligations		20,572		49		(9	)		20,612
U.S. government and agency obligations		1,500		—		—			1,500


Investments in debt and equity securities	$	39,645	$	49	$	(9	)	$	39,685


	September 30,		December 31,
	2008		2007
Recorded as:
Cash equivalents	$	30,997	$	10,861
Short-term investments		2,454		28,824
Long-term investments		4,314		—


	$	37,765	$	39,685

The Company invests in investment grade securities. The unrealized gains and losses on these investments were caused by interest rate fluctuations and the failed repricing of the auction rate securities and not credit quality. All of the auction rate securities carry AAA credit ratings from one or more of the major credit rating agencies. These investments are education municipal securities substantially collateralized by the U.S. Department of Education Federal Family Education Loan program guarantee. None of the auction rate securities held by the Company are mortgage-backed debt obligations. Liquidity for these securities is typically provided by an auction process that resets the applicable interest rate at pre-determined intervals, usually every 28 days. Recent failed auctions resulted in a lack of liquidity in the securities, but are not an indication of an increased credit risk or a reduction in the underlying collateral. As a result of the failed auctions, the reset interest rates were increased to above market. The Company will not be able to liquidate any of the remaining auction rate securities until a future auction is successful, a buyer is found outside of the auction process or the notes are redeemed. As of September 30, 2008, the Company believes that, due to the nature of the investments, the financial condition of the issuers, and its ability and intent to hold the investments through these short-term loss fluctuations, factors would not indicate that these unrealized gains and losses should be viewed as “other-than-temporary.”

The Company had realized losses on the sales of investments of $22,000 for the three and nine months ended September 30, 2008. There were no realized gains or losses on the sales of investments for the three and nine months ended September 30, 2007.

The Company measures financial assets at fair value on a recurring basis. The estimated fair value of the Company’s financial assets was determined using the following inputs at September 30, 2008 (in thousands):


	Fair Value Measurements at Reporting Date Using
			Quoted Prices in		Significant		Significant
			Active Markets for		Other Observable		Unobservable
			Identical Assets		Inputs		Inputs
	Total		(Level 1)		(Level 2)		(Level 3)
Money market funds (1)	$	30,997	$	30,997	$	—	$	—
Auction-rate securities (2)		4,314		—		—		4,314
Corporate notes and obligations (3)		2,454		—		2,454		—


Total	$	37,765	$	30,997	$	2,454	$	4,314


(1)		Included in cash and cash equivalents on the condensed consolidated balance sheet

(2)		Included in long-term investments on the condensed consolidated balance sheet

(3)		Included in short-term investments on the condensed consolidated balance sheet

The table below presents the changes during the period related to balances measured using significant unobservable inputs (Level 3) (in thousands):


	Balance at								Balance at
	December 31,					Unrealized			September 30,
	2007		Sales			Gains/Losses, net			2008
Auction-rate securities	$	11,750	$	(7,050	)	$	(386	)	$	4,314


Total	$	11,750	$	(7,050	)	$	(386	)	$	4,314

Commitments and Contingencies

The Company is from time to time a party to various litigation matters incidental to the conduct of its business. At the present time, the Company believes that none of these matters is likely to have a material adverse effect on the Company’s future financial results.

Other Contingencies

The Company generally warrants that its products shall perform to its standard documentation. Under the Company’s standard warranty, should a product not perform as specified in the documentation within the warranty period, the Company will repair or replace the product or refund the license fee paid. Such warranties are accounted for in accordance with SFAS 5. To date, the Company has not incurred any costs related to warranty obligations for its software product.

The Company’s product license agreements typically include a limited indemnification provision for claims by third parties relating to the Company’s intellectual property. Such indemnification provisions are accounted for in accordance with FASB Interpretation No. 45,“Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others.”To date, the Company has not incurred any costs related to such indemnification provisions.

7. Segment, Geographic and Customer Information

SFAS No. 131,“Disclosures about Segments of an Enterprise and Related Information” establishes standards for the reporting by business enterprises of information about operating segments, products and services, geographic areas, and major customers. The method of determining which information is reported is based on the way that management organizes the operating segments within the Company for making operational decisions and assessments of financial performance. The Company’s chief operating decision maker is considered to be the Company’s chief executive officer (CEO). The CEO reviews financial information presented on a consolidated basis for purposes of making operating decisions and assessing financial performance. By this definition, the Company operates in one business segment, which is the development, marketing and sale of enterprise software. The Company’s TrueComp Suite is its only product line, which includes all of its software application products.

The following table summarizes revenues for the three and nine months ended September 30, 2008 and 2007 by geographic areas (in thousands):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2008		2007		2008		2007
United States	$	25,378	$	20,982	$	68,069	$	63,257
Europe		2,590		3,564		10,776		11,603
Asia Pacific		285		224		993		1,292


	$	28,253	$	24,770	$	79,838	$	76,152

Substantially all of the Company’s long-lived assets are located in the United States. Long-lived assets located outside the United States are not significant.

The following table summarizes revenues to significant customers (including resellers when product is sold through them to an end user) as a percentage of total revenues:


	Three Months Ended September 30,						Nine Months Ended September 30,
	2008			2007			2008			2007
Customer 1		10	%		—	%		4	%		—	%

8. Comprehensive Loss

Comprehensive loss is the total of net loss, unrealized gains and losses on investments and foreign currency translation adjustments. Unrealized gains and losses on investments and foreign currency translation adjustment amounts are excluded from net loss and are reported in accumulated other comprehensive loss in the accompanying condensed consolidated financial statements.

The following table sets forth the components of comprehensive loss for the three and nine months ended September 30, 2008 and 2007 (in thousands):


	Three Months Ended September 30,						Nine Months Ended September 30,
	2008			2007			2008			2007
Net loss	$	(1,387	)	$	(3,970	)	$	(9,147	)	$	(10,182	)
Other comprehensive loss:
Change in unrealized loss on investments, net		(130	)		17			(413	)		24
Change in cumulative translation adjustments		(3	)		3			(31	)		(10	)


Comprehensive loss	$	(1,520	)	$	(3,950	)	$	(9,591	)	$	(10,168	)

9. Stock-based Compensation

Expense Summary

Under the provisions of FASB Statement No. 123 (revised 2004), “Share-Based Payment”(SFAS 123R), $2.0 million and $5.9 million of stock-based compensation expense was recorded for the three and nine months ended September 30, 2008, respectively, in the condensed consolidated statements of operations. Of the total stock-based compensation expense, approximately $0.5 million and $1.9 million was related to stock options for the three and nine months ended September 30, 2008, respectively, $0.3 million and $0.8 million was related to purchases of common stock under the ESPP for the three and nine months ended September 30, 2008, respectively, and $1.2 million and $3.2 million was related to restricted stock units for the three and nine months ended September 30, 2008, respectively. For the three and nine months ended September 30, 2007, $1.2 million and $3.9 million of stock-based compensation expense was recorded, respectively. Of the total stock-based compensation expense, approximately $0.9 million and $3.2 million was related to stock options for the three and nine months ended September 30, 2007, respectively, $0.2 million and $0.6 million was related to purchases of common stock under the ESPP for the three and nine months ended September 30, 2007, respectively, and $0.1 million was related to restricted stock units for the three and nine months ended September 30, 2007.

As of September 30, 2008, there was $6.6 million, $5.3 million and $0.3 million of total unrecognized compensation expense related to stock options, restricted stock and the ESPP, respectively. This expense related to stock options, restricted stock and the ESPP is expected to be recognized over a weighted average period of 2.42 years, 1.54 years and 0.46 years, respectively.

The table below sets forth the changes in the functional classification of stock-based compensation expense for the three and nine months ended September 30, 2008 compared to the three and nine months ended September 30, 2007 (in thousands, except percentage data):


	Three		Three
	Months		Months				Percentage
	Ended		Ended		Year to Year		Change
	September 30,		September 30,		Increase		Year over
	2008		2007		(Decrease)		Year
Stock-based compensation:
Subscription and support	$	184	$	61	$	123		202	%
Services and other		320		227		93		41	%
Sales and marketing		401		333		68		20	%
Research and development		294		205		89		43	%
General and administrative		795		379		416		110	%


Total stock-based compensation	$	1,994	$	1,205	$	789		65	%


	Nine		Nine
	Months		Months				Percentage
	Ended		Ended		Year to Year		Change
	September 30,		September 30,		Increase		Year over
	2008		2007		(Decrease)		Year
Stock-based compensation:
Subscription and support	$	497	$	177	$	320		181	%
Services and other		970		632		338		53	%
Sales and marketing		1,487		874		613		70	%
Research and development		915		737		178		24	%
General and administrative		2,021		1,529		492		32	%


Total stock-based compensation	$	5,890	$	3,949	$	1,941		49	%

Determination of Fair Value

The fair value of each option award is estimated on the date of grant and the fair value of the ESPP is estimated on the beginning date of the offering period using the Black-Scholes valuation model and the assumptions noted in the following table.

Three Months Ended September 30,

Nine Months Ended September 30,

2008

2007

2008

2007

Stock Option Plans

Expected life (in years)

3.50

2.50 to 3.50

Risk-free interest rate

4.83

2.48 to 2.58

4.50% to 5.00 %

Volatility

42% to 44%%

39% to 54 %

Dividend Yield

—

Employee Stock Purchase Plan

Expected life (in years)

0.50 to 1.00

0.49 to 1.00

Risk-free interest rate

1.97% to 2.18%

4.47% to 4.55%

1.97% to 2.18%

4.47% to 5.16 %

Volatility

58% to 59%

30% to 32%

48% to 61%%

30% to 37% %

Dividend Yield

—


*		No stock options were issued during the three months ended September 30, 2008

10. Stockholders’ Equity

Stock Repurchase Program 2007

11. Related-Party Transactions

In 2005, the Company entered into a service agreement with Saama Technologies, Inc. for software consulting services. William Binch, who was appointed to the Company’s Board of Directors in April 2005, is also currently a member of Saama’s board of directors. The Company incurred expenses of approximately $32,000 and $227,000 for services rendered by Saama for the three and nine months ended September 30, 2008, respectively, and expenses of approximately $201,000 and $567,000 for services rendered by Saama for the three and nine months ended September 30, 2007, respectively.

In 2007, CT entered into an operating lease agreement with CCT Properties LLC for its office space. Robert Conti, who was appointed as Senior Vice President, Client Services, in January 2008 in connection with the acquisition of CT, is also a part owner of CCT Properties LLC. The Company incurred rent expense for the office space owned by CCT Properties of approximately $49,000 and $139,000 for the three and nine months ended September 30, 2008.

As a result of the acquisition of CT, the Company continued its service agreement with The Alexander Group, Inc. for software consulting services. Robert Conti, who was appointed as Senior Vice President, Client Services, in January 2008 in connection with the acquisition of CT, is also a part owner of The Alexander Group. The Company incurred expenses of approximately $163,000 and $453,000 for services rendered by The Alexander Group for the three and nine months ended September 30, 2008, respectively.

As a result of the acquisition of CT, the Company continued to purchase hosting services from Level 3 Communications, Inc. during the three and nine months ended September 30, 2008. Michele Vion, who was appointed to the Company’s Board of Directors in September 2005, is also currently the Senior Vice President, Human Resources, at Level 3 Communications. The Company incurred expenses of approximately $24,000 and $66,000 for hosting services rendered by Level 3 Communications for the three and nine months ended September 30, 2008, respectively. The Company believes all of these agreements represent arms length transactions.

12. Subsequent Events

Auction Rate Securities

In August 2008, the financial institution where the Company holds $3.4 million estimated fair value of auction rate securities agreed to a settlement with the SEC to restore liquidity to all remaining clients who hold auction rate securities. As part of this settlement, in October 2008 the financial institution offered the Company rights to sell its auction rate securities back to the financial institution at par value at any time during the period from June 30, 2010, through July 2, 2012. In October 2008, the Company accepted this offer, and intends to exercise this right to sell its auction rate securities back to the financial institution at par value. Due to the settlement with the financial institution, the Company will record an other-than-temporary impairment at December 31, 2008 along with a corresponding gain contingency for the future fair value to be received. At this time, the Company does not believe the net effect to its consolidated statement of operations will be material.

Stock Repurchase Program 2008

On October 21, 2008, the Company’s Board of Directors authorized a program for the repurchase of up to $5 million of its outstanding common stock. The Company has adopted a Rule 10b5-1 plan that allows it to repurchase shares of its common stock under the Repurchase Program at times when it would not ordinarily be in the market because of Company trading policies. This program supersedes and replaces in its entirety the 2007 stock repurchase program. As part of this Stock Repurchase Program, the Company entered into stock repurchase agreements with a financial institution whereupon subsequent to September 30, 2008, the Company provided the financial institution with payments of approximately $0.5 million. This amount will be classified as treasury stock on the Company’s balance sheet.

Restructuring

In October 2008, management approved a cost savings program to reduce the Company’s workforce. The Company has incurred restructuring charges of approximately $0.7 million in the fourth quarter of 2008 to date in connection with severance and termination-related costs, most of which are severance-related cash expenditures. The cost savings program is expected to be completed in the fourth quarter of 2008.

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

The following discussion of financial condition and results of operations should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and the notes thereto included in our Annual Report onForm 10-K for the year ended December 31, 2007 and with the unaudited condensed consolidated financial statements and the related notes thereto contained elsewhere in this Quarterly Report onForm 10-Q . This section of the Quarterly Report onForm 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements relate to our future plans, objectives, expectations, prospects, intentions and financial performance and the assumptions that underlie these statements. Generally, the words “believe,” “expect,” “intend,” “estimate,” “anticipate,” “project,” “will,” and similar expressions and the negatives thereof identify forward-looking statements, which generally are not historical in nature. These forward-looking statements include, but are not limited to, statements concerning the following: changes in and expectations with respect to license revenues and gross margins, future operating expense levels, the impact of quarterly fluctuations of revenue and operating results, levels of recurring revenues, staffing and expense levels, the impact of foreign exchange rate fluctuations and the adequacy of our capital resources to fund operations and growth. As and when made, management believes that these forward-looking statements are reasonable. However, caution should be taken not to place undue reliance on any such forward-looking statements because such statements speak only as of the date when made and may be based on assumptions that do not prove to be accurate. Our Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. In addition, forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our Company’s historical experience and our present expectations or projections. Many of these trends and uncertainties are described in “Risk Factors” set forth elsewhere in this Quarterly Report onForm 10-Q. We undertake no obligation to update forward-looking statements to reflect events or circumstances occurring after the date of this Quarterly Report onForm 10-Q.

Overview of the Results for the Three and Nine Months Ended September 30, 2008

We are a leading provider of Sales Performance Management (SPM) software solutions designed to align internal sales resources and distribution channels with corporate strategy. Our software enhances core processes in sales management, such as the structuring of sales territories, the management of sales force talent, the establishment of sales targets and the creation and execution of sales incentive plans. Using our SPM software solutions, companies can tailor these core processes to further their strategic objectives, including coordinating sales efforts with long-range strategies regarding sales and margin targets, growth initiatives, sales force talent development, territory expansion and market penetration. Our customers can also use our SPM solutions to address more tactical objectives, such as successful new product launches and effective cross-selling strategies. Leading companies worldwide in the financial services, insurance, communications, high-technology, life sciences and retail industries rely on our solutions for their sales performance management and incentive compensation needs. Our SPM solutions can be purchased and delivered as either an on-demand service or an on-premise software solution. However, we have announced that we intend for our on-demand service to be our lead offering. Our hosted on-demand service allows customers to use our software products through a web interface rather than purchase computer equipment and install our software at their locations.

We sell our products as an on-demand service or pursuant to perpetual software licenses both directly through our sales force and in conjunction with our strategic partners. We also offer professional services, including configuration, integration and training, generally on a time-and-materials basis. We generate recurring subscription and support revenues from our on-demand service and from support and maintenance agreements associated with our product licenses, both of which are recognized ratably over the term of the agreement. Both subscription and support services provide for recurring revenue streams, but remain subject to periodic adjustment or cancellation.

Revenue Growth and Lower Net Loss

Our total revenues increased in the third quarter of 2008 by 14% to $28.3 million compared to $24.8 million in the third quarter of 2007. The increase was primarily the result of an 83% increase in subscription and support revenues in the three months ended September 30, 2008 compared to same period in 2007. This increase reflects the shift in business focus and strategy to our on-demand offering and the increase in the number of on-demand customers for which we recognized revenue during the third quarter of 2008 as compared to the third quarter of 2007.

License revenues increased 21% to $6.8 million in the third quarter of 2008 compared to the third quarter of 2007. Services and other revenues decreased 20% to $10.6 million in the third quarter of 2008 compared to the third quarter of 2007. Timing issues related to our license transactions negatively impacted services and other revenues through increased deferrals and delayed implementations. Professional services revenues were also adversely affected by our shift to providing our on-demand offering, as described below.

Net loss decreased 65% to $1.4 million for the third quarter of 2008 compared to the third quarter of 2007. Included in net loss for the three months ended September 30, 2008 are stock-based compensation of $2.0 million and amortization of acquired intangibles of $0.5 million. The decrease in net loss is due to a combination of our continuing growth in recurring subscription and support revenues, consistent license revenues and continued cost controls.

Shift in Business Strategy to On-Demand

In an effort to capitalize on the market opportunity created by the growing demand for Software-as-a-Service (SaaS), we have shifted our business focus and strategy to emphasize our on-demand offering. This shift is evidenced by the fact that our subscription and support recurring revenues comprised 38% of our total revenues for the third quarter of 2008, up from 24% for the third quarter of 2007. At the same time, license revenues remained consistent at 24% of our total revenues for the third quarter of 2008, as compared to 23% for the third quarter of 2007. For the nine months ended September 30, 2008, the net new annual contract value (ACV) of our on-demand bookings was $10.0 million, bringing our total ACV from on-demand services to $24.8 million as of September 30, 2008. Despite the shift to more recurring revenues generated from our on-demand offering, we continue to see a mix of how companies want to deploy our solutions. As such, we will continue to offer and support the traditional software license model that some of our customers still prefer. It should also be noted that this shift has contributed to the decline in our professional services revenues as discussed above, as the average implementation time for an on-demand arrangement is less than half of the average implementation time for an on-premise arrangement. Revenues from our on-demand offering are more predictable and allow us to better align our cost structure. However, we only introduced our on-demand offering in 2006 and continue to evaluate optimal pricing and other terms of the offering. We achieved positive gross margins in our on-demand business for the first time in the first quarter of 2008 and increased on-demand gross margins in the second and third quarters of 2008. While we expect the results of our on-demand offering to improve as we achieve operational scale, if we are unable to continue offering our on-demand service on a profitable basis, our business will be materially and adversely affected.

Other Business Highlights

Operating expenses remained flat for the three months ended September 30, 2008 and decreased by $2.7 million, or 6%, for the nine months ended September 30, 2008, as compared to the same periods in 2007. The consistent level of operating expenses for the three months ended September 30, 2008 was net of an increase of $0.6 million in stock-based compensation, while the $2.7 million decrease for the nine months ended September 30, 2008 was net of increases of $0.4 million in restructuring costs and $1.3 million in stock-based compensation. The overall decrease was the result of cost saving actions taken in the fourth quarter of 2007 and the first quarter of 2008. We completed reductions in workforce and recorded charges of approximately $1.5 million in the fourth quarter of 2007 and $0.4 million in the first quarter of 2008 in connection with severance and termination-related costs, most of which were severance-related cash expenditures. The cost savings program was completed in the first quarter of 2008. As of September

30, 2008, we had no accrued restructuring charges. We have taken and intend to take additional steps to reduce our cost structure in the fourth quarter of 2008. Such steps have resulted in charges of approximately $0.7 million in that period to date. We do not expect to realize the full benefits of these cost reductions until the first quarter of 2009.

On November 27, 2007, our Board of Directors authorized a program for the repurchase of up to $10 million of our outstanding common stock. During the three and nine months ended September 30, 2008, we executed the repurchase of 293,000 shares and 994,000 shares, respectively, for a total cost of approximately $1.4 million and $5.2 million, respectively. On October 21, 2008, the Company’s Board of Directors authorized a program for the repurchase of up to $5 million of its outstanding common stock. The Company has adopted a Rule 10b5-1 plan that allows it to repurchase shares of its common stock under the Repurchase Program at times when it would not ordinarily be in the market because of Company trading policies. This program supersedes and replaces in its entirety the 2007 stock repurchase program.

On January 14, 2008, we completed the acquisition of Compensation Technologies (CT), a leading provider of services for planning, implementing, and supporting incentive compensation processes and tools. Under the terms of the agreement, we paid the former owners of CT $8.3 million in cash up front and may pay up to an additional $4.8 million upon the completion of key milestones and achievement of target financial metrics. The combination of CT’s Compensation Management Services (CMS) and Callidus On-Demand offerings provides our customers with a fully managed sales incentive compensation program that includes plan analysis, modeling and design support, plan deployment, reporting, analytics and ongoing administration. The acquisition augments our portfolio of services offerings while at the same time expanding our on-demand business. In connection with the acquisition, we recorded intangible assets of $3.5 million, which will be amortized to cost of services and other revenues over their useful lives of one to four years, and $3.7 million of goodwill, which will not be amortized but instead will be tested for impairment at least annually. If and when contingent consideration is paid, the amount of such payment will be added to goodwill.

Challenges and Risks

In response to market demand, we shifted our primary business focus from the sale of perpetual licenses for our products to the provision of our software as a service. The SaaS model provides more predictable quarterly revenues. However, we have yet to achieve a scale of operations that enables us to provide our SaaS on a consistently profitable basis. If we are unable to provide our SaaS on a consistently profitable basis in the future, our business and operating results may be materially and adversely affected.

From a business perspective, we have a number of sales opportunities in process and additional opportunities coming from our sales pipeline; however, we continue to experience wide variances in the timing and size of our on-demand and license transactions and the timing of revenue recognition resulting from greater flexibility in contract terms. We believe one of our major remaining challenges is increasing prospective customers’ prioritization of purchasing our products and services over competing IT projects. To address this challenge, we have set goals that include expanding our sales efforts, promoting our on-demand services, and continuing to develop new products and enhancements to our TrueComp suite of products.

Historically, a substantial portion of our revenues have been derived from sales of our products and services to customers in the financial and insurance industries. The recent substantial disruptions in these industries may result in these customers deferring or cancelling future planned expenditures on our products and services. Further, consolidations and business failures in these industries could result in substantially reduced demand for our products and services. In addition, the disruptions in these industries and the concurrent international financial crisis may cause other potential customers to defer or cancel future purchases of our products and services as they seek to conserve resources in the face of economic turmoil and the drastically reduced availability of capital in the equity and debt markets. Any of these developments, or the combination of these developments, may materially and adversely affect our revenues, operating results and financial condition in future periods.

If we are unable to grow our revenues, we may be unable to achieve and sustain profitability. In addition to these risks, our future operating performance is subject to the risks and uncertainties described in Item 1A — “Risk Factors” of Part II of this quarterly report on Form 10-Q.

Application of Critical Accounting Policies and Use of Estimates

The discussion and analysis of our financial condition and results of operations that follows is based upon our consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The application of GAAP requires our management to make estimates that affect our reported amounts of assets, liabilities, revenues and expenses, and the related disclosures regarding these items. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. In many instances, we could have reasonably used different accounting estimates and, in other instances, changes in the accounting estimates are reasonably likely to occur from period to period. Accordingly, actual results could differ significantly from the estimates made by our management. To the extent that there are material differences between these estimates and actual results, our future financial condition or results of operations will be affected.

In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in its application. In other cases, management’s judgment is required in selecting among available alternative accounting standards that allow different accounting treatments for similar transactions. We believe that the accounting policies discussed below are critical to understanding our historical and future performance, as these policies relate to the more significant areas involving management’s judgments and estimates. Our management has reviewed these critical accounting policies, our use of estimates and the related disclosures with our audit committee.

Revenue Recognition

We generate revenues by licensing software; providing related software support and providing our software application as a service through our on-demand subscription offering; and providing related professional services to our customers. We present revenue net of sales taxes and any similar assessments.

We recognize revenues in accordance with accounting standards for software and service companies. We will not recognize revenue until persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable and collection is deemed probable. We evaluate each of these criteria as follows:

Evidence of an Arrangement.We consider a non-cancelable agreement signed by us and the customer to be evidence of an arrangement.

Delivery.In perpetual licensing arrangements, we consider delivery to have occurred when media containing the licensed programs is provided to a common carrier, or in the case of electronic delivery, the customer is given access to the licensed programs. Our typical end-user license agreement does not include customer acceptance provisions. In on-demand arrangements, we consider delivery to have occurred as the service is provided to the customer.

Fixed or Determinable Fee.We consider the fee to be fixed or determinable unless the fee is subject to refund or adjustment or is not payable within our standard payment terms. We consider payment terms greater than 90 days to be beyond our customary payment terms. If the fee is not fixed or determinable, we recognize the revenue as amounts become due and payable. In arrangements where the customer is obligated to pay at least 90% of the license amount within normal payment terms and the remaining 10% is to be paid within a year from the contract effective date, we will recognize the license revenue for the entire arrangement upon delivery assuming all other revenue recognition criteria have been met. This policy is effective as long as we continue to maintain a history of providing similar terms to customers and collecting from those customers without providing any contractual concessions.

Collection is Deemed Probable.We conduct a credit review for all significant transactions at the time of the arrangement to determine the creditworthiness of the customer. Collection is deemed probable if we expect that the customer will be able to pay amounts under the arrangement as payments become due. If we determine that collection is not probable, we defer the recognition of revenue until cash collection.

Perpetual Licensing.Our perpetual software license arrangements typically include: (i) an end-user license fee paid in exchange for the use of our products, generally based on a specified number of payees, and (ii) a maintenance arrangement that provides for technical support and product updates, generally over renewable twelve month periods. If we are selected to provide integration and configuration services, then the software arrangement will also include professional services, generally priced on a time-and-materials basis. Depending upon the elements in the arrangement and the terms of the related agreement, we recognize license revenues under either the residual or the contract accounting method.

Certain arrangements result in the payment of customer referral fees to third parties that resell our software products. In these arrangements, license revenues are recorded, net of such referral fees, at the time the software license has been delivered to a third-party reseller and an end-user customer has been identified.

Residual Method.Perpetual license fees are recognized upon delivery whether licenses are sold separately from or together with integration and configuration services, provided that (i) the criteria described above have been met, (ii) payment of the license fees is not dependent upon performance of the integration and configuration services, and (iii) the services are not otherwise essential to the functionality of the software. We recognize these license revenues using the residual method pursuant to the requirements of Statement of Position (SOP) 97-2,“Software Revenue Recognition,”as amended by SOP 98-9,“Software Revenue Recognition with Respect to Certain Transactions.”Under the residual method, revenues are recognized when vendor-specific objective evidence of fair value exists for all of the undelivered elements in the arrangement (i.e., professional services and maintenance), but does not exist for one or more of the delivered elements in the arrangement (i.e., the software product). Each license arrangement requires careful analysis to ensure that all of the individual elements in the license transaction have been identified, along with the fair value of each undelivered element.

We allocate revenue to each undelivered element based on its estimated fair value, with the fair value determined by the price charged when that element is sold separately. For a certain class of transactions, the fair value of the maintenance portion of our arrangements is based on stated renewal rates rather than stand-alone sales. The fair value of the professional services portion of the arrangement is based on the hourly rates that we charge for these services when sold independently from a software license. If evidence of fair value cannot be established for the undelivered elements of a license agreement, the entire amount of revenue from the arrangement is deferred until evidence of fair value can be established, or until the items for which evidence of fair value cannot be established are delivered. If the only undelivered element is maintenance, then the entire amount of revenue is recognized over the maintenance delivery period.

Contract Accounting Method.For arrangements where services are considered essential to the functionality of the software, such as where the payment of the license fees is dependent upon performance of the services, both the license and services revenues are recognized in accordance with the provisions of SOP 81-1,“Accounting for Performance of Construction-Type and Certain Production-Type Contracts”(SOP 81-1). We generally use the percentage-of-completion method because we are able to make reasonably dependable estimates relative to contract costs and the extent of progress toward completion. However, if we cannot make reasonably dependable estimates, we use the completed-contract method. If total cost estimates exceed revenues, we accrue for the estimated loss on the arrangement at the time such determination is made.

In certain arrangements, we have provided for unique acceptance criteria associated with the delivery of consulting services. In these instances, we have recognized revenue in accordance with the provisions of SOP 81-1. To the extent there is contingent revenue in these arrangements, we measure the level of profit that is expected based on the non-contingent revenue and the total expected project costs. If we are assured of a certain level of profit excluding the contingent revenue, we recognize the non-contingent revenue on a percentage-of-completion basis and we recognize the contingent revenue upon final acceptance.

On-Demand Revenue.In hosted arrangements where we provide our software application as a service, we considered Emerging Issues Task Force Issue No. 00-3 (EITF 00-3), “Application of AICPA Statement of Position 97-2 to Arrangements That Include the Right to Use Software Stored on Another Entity’s Hardware,”and concluded that these transactions are considered service arrangements and fall outside of the scope of SOP 97-2. Accordingly, we follow the provisions of SEC Staff Accounting Bulletin No. 104,“Revenue Recognition”and Emerging Issues Task Force Issue No. 00-21 (EITF 00-21),“Revenue Arrangements with Multiple Deliverables.”Customers will typically prepay for our hosted services, amounts which we will defer and recognize ratably over the non-cancelable term of the customer contract. In addition to the hosting services, these arrangements may also include implementation and configuration services, which are billed on a time-and-materials basis and recognized as revenues as the services are performed. We evaluate whether each of the elements in these arrangements represents a separate unit of accounting, as defined by EITF 00-21, using all applicable facts and circumstances, including whether (i) we sell or could readily sell the element unaccompanied by the other elements, (ii) the element has stand-alone value to the customer, (iii) there is objective reliable evidence of the fair value of the undelivered item and (iv) there is a general right of return.

For those arrangements where the elements qualify for separate units of accounting, the hosting revenues are recognized ratably over the non-cancelable contract term, which is typically 12 to 24 months, beginning on the service commencement date. Implementation and configuration services, when sold with the hosted offering, are recognized as the services are rendered for time-and-material contracts, and are recognized utilizing the proportional performance method of accounting for fixed-price contracts. For arrangements with multiple deliverables, we allocate the total contractual arrangement to the separate units of accounting based on their relative fair values, as determined by the fair value of the undelivered and delivered items when sold separately.

If consulting services for implementation and configuration associated with a hosted on-demand arrangement do not qualify as a separate unit of accounting, we will recognize the revenue from implementation and configuration services ratably over the remaining non-cancelable term of the subscription contract once the implementation is complete. In addition, we will defer the direct costs of the implementation and configuration services and amortize those costs over the same time period as the related revenue is recognized. The deferred costs on our condensed consolidated balance sheets for these arrangements totaled $4.1 million and $3.4 million at September 30, 2008 and December 31, 2007, respectively. As of September 30, 2008 and December 31, 2007, $3.4 million and $2.1 million, respectively, of the deferred costs were included in prepaid and other current assets, with the remaining amount included in deposits and other assets in the condensed consolidated balance sheets.

Included in the deferred costs for hosting arrangements is the deferral of commission payments to our direct sales force, which we amortize over the non-cancelable term of the contract as the related revenue is recognized. The commission payments are a direct and incremental cost of the revenue arrangements. The deferral of commission expenditures related to our hosted on-demand product offering was $0.9 million and $1.3 million at September 30, 2008 and December 31, 2007, respectively.

Maintenance Revenue.Under perpetual software license arrangements, a customer typically pre-pays maintenance for the first 12 months, and the related revenues are deferred and recognized ratably over the term of the initial maintenance contract. Maintenance is renewable by the customer on an annual basis thereafter. Rates for maintenance, including subsequent renewal rates, are typically established based upon a specified percentage of net license fees as set forth in the arrangement.

Professional Service Revenue.Professional service revenues primarily consist of integration services related to the installation and configuration of our products as well as training. Our installation and configuration services do not involve customization to, or development of, the underlying software code. Substantially all of our professional services arrangements are on a time-and-materials basis. Reimbursements, including those related to travel and out-of-pocket expenses, are included in services and other revenues, and an equivalent amount of reimbursable expenses is included in cost of services and other revenues. For professional service arrangements with a fixed fee, we recognize revenue utilizing the proportional performance method of accounting. We estimate the proportional performance on fixed-fee contracts on a monthly basis utilizing hours incurred to date as a percentage of total estimated hours to complete the project. If we do not have a sufficient basis to measure progress toward completion, revenue is recognized upon completion of performance. To the extent we enter into a fixed-fee services contract, a loss will be recognized any time the total estimated project cost exceeds project revenues.

Allowance for Doubtful Accounts and Sales Return Reserve

We must make estimates of the uncollectibility of accounts receivable. The allowance for doubtful accounts, which is netted against accounts receivable on our condensed consolidated balance sheets, totaled approximately $181,000 and $154,000 at September 30, 2008 and December 31, 2007, respectively. We record an increase in the allowance for doubtful accounts when the prospect of collecting a specific account receivable becomes doubtful. Management specifically analyzes accounts receivable and historical bad debt experience, customer creditworthiness, current economic trends, international situations (such as currency devaluation) and changes in our customer payment history when evaluating the adequacy of the allowance for doubtful accounts. Should any of these factors change, the estimates made by management will also change, which could affect the level of our future provision for doubtful accounts. Specifically, if the financial condition of our customers were to deteriorate, affecting their ability to make payments, an additional provision for doubtful accounts may be required and such provision may be material.

We generally provide that our services will be performed in accordance with the criteria agreed upon in a statement of work, which we generally execute with each applicable customer prior to commencing work. Should these services not be performed in accordance with the agreed upon criteria, we typically provide remediation services until such time as the criteria are met. Management must use judgments and make estimates of sales return reserves related to potential future requirements to provide remediation services in connection with current period service revenues. When providing for sales return reserves, we analyze historical experience of actual remediation service claims as well as current information on remediation service requests, as they are the primary indicators for estimating future service claims. Material differences may result in the amount and timing of our revenues if, for any period, actual returns differ from management’s previous judgments or estimates. The sales return reserve balance, which is netted against our accounts receivable on our condensed consolidated balance sheets, was approximately $1.4 million and $225,000 at September 30, 2008 and December 31, 2007, respectively.

Stock-Based Compensation

FASB Statement No. 123 (revised 2004), “Share-Based Payment”(SFAS 123R), as interpreted by SEC Staff Accounting Bulletin No. 107 (SAB 107), as amended by SEC Staff Accounting Bulletin No. 110 (SAB 110), requires the recognition of the fair value of stock-based compensation in determining net income. Stock-based compensation expense associated with stock options consists of the amortization related to the remaining unvested portion of all stock option awards granted prior to the adoption of SFAS 123R on January 1, 2006, and the amortization related to all stock options, restricted stock and restricted stock units granted subsequent to the adoption of SFAS 123R. In addition, we record expense over the offering period and the vesting term in connection with the right to acquire shares pursuant to our Employee Stock Purchase Plan (ESPP) and restricted stock. The compensation expense for stock-based compensation awards includes an estimate for forfeitures and is recognized over the expected term of the options using the straight-line method.

Income Taxes

We are subject to income taxes in both the United States and foreign jurisdictions and we use estimates in determining our provision for income taxes. This process involves estimating actual current tax liabilities together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are recorded on our condensed consolidated balance sheet. Our deferred tax assets consist primarily of net operating loss carry forwards. We assess the likelihood that deferred tax assets will be recovered from future taxable income, and a valuation allowance is recognized if it is more likely than not that some portion of the deferred tax assets will not be recognized. With the exception of the net deferred tax assets of one of our foreign subsidiaries, we maintained a full valuation allowance against our net deferred tax assets at September 30, 2008. While we have considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for a valuation allowance, in the event we were to determine that we would be able to realize our deferred tax assets in the future, an adjustment to the deferred tax assets would increase net income in the period such determination was made. We also use estimates in determining income tax positions under Financial Interpretation (FIN) No. 48,“Accounting for Uncertainty in Income Taxes.”Although we believe that our tax estimates are reasonable, these estimates involve significant judgment and are subject to audit by tax authorities in the ordinary course of business.

Goodwill and Intangible Assets

In accordance with Statement of Financial Accounting Standards (SFAS) No. 142,“Goodwill and Other Intangible Assets,”we review our goodwill for impairment annually, or more frequently, if facts and circumstances warrant a review. In order to estimate the fair value of goodwill, we estimate future revenue, consider market factors and estimate our future cash flows. We evaluate goodwill for impairment by comparing the carrying amount of the asset group, including the associated goodwill, to its estimated undiscounted future cash flows. Intangible assets with finite lives are amortized over their estimated useful lives in accordance with SFAS 142. Our intangible assets are amortized over their estimated useful lives of one to five years. Generally, amortization is based on the pattern in which the economic benefits of the intangible asset will be consumed. Based on our assumptions, judgments and estimates, we determine whether we need to record an impairment charge to reduce the value of the asset carried on our consolidated balance sheet to its estimated fair value. Assumptions, judgments and estimates about future values are complex and often subjective. They can be affected by a variety of factors, including external factors such as industry and economic trends, and internal factors such as changes in our business strategy or internal forecasts. Although we believe the assumptions, judgments and estimates we have made in the past have been reasonable and appropriate, different assumptions, judgments and estimates could materially affect our reported financial results.

Impairment of Long-Lived Assets

We assess impairment of our long-lived assets in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets.”SFAS No. 144 requires long-lived assets, such as property and equipment and purchased intangibles subject to amortization, to be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset group may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset group to estimated undiscounted future cash flows expected to be generated by the asset group. If the carrying amount of an asset group exceeds its estimated future cash flows, an impairment charge is recognized equal to the amount by which the carrying amount of the asset group exceeds the fair value of the asset group. Upon classification of long lived assets as “held for sale,” such assets are measured at the lower of their carrying amount or fair value less cost to sell and we cease further depreciation or amortization.

Investments

We consider all highly liquid instruments with an original maturity on the date of purchase of three months or less to be cash equivalents. Cash equivalents as of September 30, 2008 and December 31, 2007 consisted of money market funds and corporate notes and obligations. We determine the appropriate classification of investment securities at the time of purchase and re-evaluate such designation as of each balance sheet date. As of September 30, 2008 and December 31, 2007, all investment securities were designated as “available for sale.” We consider all investments that are available for sale that have a

maturity date longer than three months to be short-term investments, including those investments with a maturity date of longer than one year that are highly liquid and for which we do not have a positive intent to hold to maturity. However, due to the failed repricing and unrealized loss on the Company’s investments in auction rate securities, these investments were recorded as long-term investments on the condensed consolidated balance sheet as of September 30, 2008, to reflect the current lack of liquidity of these investments. These available for sale securities are carried at estimated fair value based on quoted market prices or observable and unobservable inputs, with the unrealized gains (losses) reported as a separate component of stockholders’ equity. We value our auction rate securities using model-based valuation techniques, including discounted cash flow models, which use unobservable inputs. See Note 5 — Investments for discussion of fair value inputs used. We periodically review the realizable value of our investments in marketable securities. When assessing marketable securities for other than temporary declines in value, we consider such factors as the length of time and extent to which fair value has been less than the cost basis, the market outlook in general and our intent and ability to hold the investment for a period of time sufficient to allow for any anticipated recovery in market value. If an other than temporary impairment of the investments is deemed to exist, the carrying value of the investment is written down to its estimated fair value.

Recent Accounting Pronouncements

In September 2006, the FASB issued FASB Statement No. 157,“Fair Value Measurements”(SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles (GAAP), and expands disclosures about fair value measurements. SFAS 157 applies under other accounting pronouncements that require or permit fair value measurements, as the FASB had previously concluded in those accounting pronouncements that fair value is the relevant measurement attribute. Accordingly, SFAS 157 does not require any new fair value measurements. SFAS 157 was effective for fiscal years beginning after November 15, 2007. However, in February 2008, the FASB issued FSP FAS 157-2, which delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). This FSP partially defers the effective date of SFAS 157 to fiscal years beginning after November 15, 2008, and interim periods within those fiscal years for items within the scope of this FSP. These nonfinancial items include assets and liabilities such as reporting units measured at fair value in a goodwill impairment test and nonfinancial assets acquired and liabilities assumed in a business combination. We have adopted the new accounting provision, except as it applies to those nonfinancial assets and nonfinancial liabilities as noted in FSP FAS 157-2, as of January 1, 2008. The partial adoption of SFAS 157 for financial assets and liabilities did not have a material impact on our condensed consolidated financial statements. See Note 5 for information and related disclosures regarding our fair value measurements.

In February 2007, the FASB issued FASB Statement No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115”(SFAS 159). SFAS 159 permits us to choose to measure many financial instruments and certain other items at fair value. We adopted SFAS 159 as of January 1, 2008. As we already measure our financial instruments at fair value, we did not make any fair value elections during the current period. Therefore, the adoption of SFAS 159 did not impact our condensed consolidated financial statements.

In December 2007, the FASB issued FASB Statement No. 160“Noncontrolling Interests in Consolidated Financial Statements”(SFAS 160). SFAS 160 requires the noncontrolling interests (minority interests) to be recorded at fair value and reported as a component of equity. SFAS 160 is effective for fiscal years beginning after December 15, 2008. We do not have any noncontrolling interests (minority interests). As such, the adoption of SFAS 160 will have no impact on our condensed consolidated financial statements.

In April 2008, the FASB issued FASB Staff Position No. 142-3,“Determination of the Useful Life of Intangible Assets”(FSP 142-3). FSP 142-3 amends the factors an entity should consider in developing renewal or extension assumptions used in determining the useful life of recognized intangible assets under FASB Statement No. 142,Goodwill and Other Intangible Assets”(SFAS 142). This new guidance applies prospectively to intangible assets that are acquired individually or with a group of other assets in business combinations and asset acquisitions. FSP 142-3 is effective for financial statements issued for fiscal years and interim periods thereof beginning after December 15, 2008. Early adoption is prohibited. We are currently evaluating the impact that FSP 142-3 will have on our condensed consolidated financial statements.

Results of Operations

Comparison of the Three and Nine Months Ended September 30, 2008 and 2007

As discussed in Note 1, during the current quarter, we identified a transaction from the third quarter of 2007 for which delivery was not fully executed until the current quarter. As a result, we have adjusted our license revenues in our statements of operations accordingly.

Revenues, cost of revenues and gross profit

The table below sets forth the changes in revenues, cost of revenues and gross profit for the three and nine months ended September 30, 2008 compared to the three and nine months ended September 30, 2007 (in thousands, except percentage data):


	Three					Three
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Total			September 30,		of Total			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Revenues:
License	$	6,782		24	%	$	5,600		23	%	$	1,182			21	%
Subscription and support		10,874		38	%		5,944		24	%		4,930			83	%
Services and other		10,597		38	%		13,226		53	%		(2,629	)		(20)	%


Total revenues	$	28,253		100	%	$	24,770		100	%	$	3,483			14	%


	Three					Three
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Related			September 30,		of Related			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Cost of revenues:
License	$	355		5	%	$	191		3	%	$	164			86	%
Subscription and support		4,147		38	%		2,696		45	%		1,451			54	%
Services and other		10,217		96	%		11,542		87	%		(1,325	)		(11)	%


Total cost of revenues	$	14,719				$	14,429				$	290


Gross profit:

License	$	6,427		95	%	$	5,409		97	%	$	1,018			19	%
Subscription and support		6,727		62	%		3,248		55	%		3,479			107	%
Services and other		380		4	%		1,684		13	%		(1,304	)		(77)	%


Total gross profit	$	13,534		48	%	$	10,341		42	%	$	3,193			31	%


	Nine					Nine
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Total			September 30,		of Total			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Revenues:
License	$	12,638		16	%	$	21,269		28	%	$	(8,631	)		(41)	%
Subscription and support		29,208		37	%		17,406		23	%		11,802			68	%
Services and other		37,992		48	%		37,477		49	%		515			1	%


Total revenues	$	79,838		100	%	$	76,152		100	%	$	3,686			5	%


	Nine					Nine
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Related			September 30,		of Related			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Cost of revenues:
License	$	705		6	%	$	646		3	%	$	59			9	%
Subscription and support		11,095		38	%		8,193		47	%		2,902			35	%
Services and other		34,093		90	%		33,281		89	%		812			2	%


Total cost of revenues	$	45,893				$	42,120				$	3,773


Gross profit:

License	$	11,933		94	%	$	20,623		97	%	$	(8,690	)		(42)	%
Subscription and support		18,113		62	%		9,213		53	%		8,900			97	%
Services and other		3,899		10	%		4,196		11	%		(297	)		(7)	%


Total gross profit	$	33,945		43	%	$	34,032		45	%	$	(87	)		*	%


*		Less than 1%

Revenues

License Revenues.License revenues increased $1.2 million, or 21%, for the three months ended September 30, 2008 compared to the three months ended September 30, 2007. For the nine months ended September 30, 2008, license revenues decreased $8.6 million, or 41%, compared to the nine months ended September 30, 2007. We had a higher average license revenue per transaction in the third quarter of 2008 as compared to the third quarter of 2007. License revenues in the three and nine months ended September 30, 2008 include two transactions signed in the second quarter of 2008 but recognized in the third quarter of 2008 because third-party elements necessary for revenue recognition were satisfied during the current quarter. We expect our license revenues to continue to fluctuate from quarter to quarter in the near term since we generally complete a relatively small number of transactions in a quarter and the revenue from those software license sales can vary widely. Over time we expect license revenues to comprise a smaller percentage of total revenues as we continue to shift our strategic focus to providing SaaS.

Subscription and Support Revenues.Subscription and support revenues increased by $4.9 million, or 83%, for the three months ended September 30, 2008 compared to the three months ended September 30, 2007. For the nine months ended September 30, 2008, subscription and support revenues increased $11.8 million, or 68%, compared to the nine months ended September 30, 2007. The increases were primarily the result of increases of $4.6 million and $10.3 million in on-demand subscription revenues for the three and nine months ended September 30, 2008, respectively. This change reflects the increase in our aggregate ACV for on-demand offerings and in the number of on-demand customers for which we recognized revenue during the three and nine months ended September 30, 2008 as compared to the same periods in 2007. Support revenues for maintenance services increased by $0.3 million and $1.5 million for the three and nine months ended September 30, 2008, respectively, which was a result of license sales to new customers and renewal of maintenance support by our existing customers.

Services and Other Revenues.Services and other revenues decreased by $2.6 million, or 20%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. For the nine months ended September 30, 2008, services and other revenues increased $0.5 million, or 1%, compared to the nine months ended September 30, 2007. The decrease from the third quarter of 2007 to the third quarter of 2008 was due to a number of factors, including shorter on-demand implementations as compared to on premise implementations, deferrals of services and other revenues as a result of project delays, an increase in partner-led implementations for on premise arrangements and the completion of a number of projects during the first and second quarters of 2008 that were not immediately replaced in the third quarter of 2008. The increase for the nine months ended September 30, 2008, as compared to the nine months ended September 30, 2007, was due to the increase in the number of engagements for configuration and implementation services associated with new on-demand subscriptions and new customer licenses and follow on service engagements for existing customers. The increase was also attributed to services provided to new customers acquired as part of the Compensation Technologies acquisition. Included in services and other revenues for the nine months ended September 30, 2008 were one-time fees of approximately $1.2 million paid to us by two of our customers. These customers were recently acquired by another company, and as a result stated their intents to terminate our services. Service revenues may be negatively affected to the extent our customers select a third party to implement our software rather than us.

Cost of Revenues and Gross Margin

Cost of License Revenues.Cost of license revenues increased $164,000, or 86%, and $59,000, or 9%, for the three and nine months ended September 30, 2008, respectively, compared to the three and nine months ended September 30, 2007, respectively. The increase was primarily the result of royalty payments on our products. In addition, we purchased additional intangible assets comprised of third-party software licenses used in our products, which resulted in increased amortization expense.

Cost of Subscription and Support Revenues.Cost of subscription and support revenues increased by $1.5 million, or 54%, and $2.9 million, or 35%, for the three and nine months ended September 30, 2008, respectively, compared to the three and nine months ended September 30, 2007, respectively. The increases were due to the investment we made to grow our on-demand business as well as the increase in related subscription and support revenues discussed above. As a percentage of related revenues, cost of subscription and support revenues improved to 38% in each of the three and nine months ended September 30, 2008, respectively, compared to 45% and 47% in the three and nine months ended September 30, 2007, respectively. This improvement is primarily attributable to economies of scale achieved as a result of the increase in the number of on-demand customers for which we recognized revenue during the three and nine months ended September 30, 2008 as discussed above.

Cost of Services and Other Revenues.Cost of services and other revenues decreased by $1.3 million, or 11%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. For the nine months ended September 30, 2008, cost of services and other revenues increased $0.8 million, or 2%, compared to the nine months ended September 30, 2007. The decrease from the third quarter of 2007 to the third quarter of 2008 was primarily due to the decrease in related services and other revenues as a result of deferrals and delayed implementations discussed above. The increase for the nine months ended September 30, 2008, as compared to the nine months ended September 30, 2007, was primarily due to the increase in related services and other revenues as discussed above and increases in personnel related costs. The increase for the nine months ended September 30, 2008, as compared to the nine months ended September 30, 2007, was also attributable to services related to newly acquired Compensation Technologies’ customers, as discussed above, and acquisition-related amortization costs of $1.4 million.

Gross Margin.Our overall gross margin increased from 42% for the three months ended September 30, 2007, to 48% for the three months ended September 30, 2008. Our overall gross margin decreased from 45% for the nine months ended September 30, 2007, to 43% for the nine months ended September 30, 2008. The increase in our gross margin for the three months ended September 30, 2008, compared to the three months ended September 30, 2007, is primarily attributable to the improvement in our gross margin for subscription and support revenues, which increased from 55% for the third quarter of 2007 to 62% for the third quarter of 2008. The decrease in our gross margin for the nine months ended September 30, 2008, compared to the nine months ended September 30, 2007, is primarily attributable to the shift in revenue mix away from higher margin license revenues, which represented 16% of our total revenues for the nine months ended September 30, 2008, compared to 28% of our total revenues for the nine months ended September 30, 2007. The effect of the revenue mix shift was partially offset by improvements in our gross margins for subscription and support revenues. In the future, we expect our gross margins to fluctuate depending primarily on the mix of subscription and support and services and other revenues versus license revenues.

Operating Expenses

The table below sets forth the changes in operating expenses for the three and nine months ended September 30, 2008 compared to the three and nine months ended September 30, 2007 (in thousands, except percentage data):


	Three					Three
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Total			September 30,		of Total			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Operating expenses:
Sales and marketing	$	7,623		27	%	$	7,293		29	%	$	330			5	%
Research and development		3,808		13	%		3,688		15	%		120			3	%
General and administrative		3,529		12	%		3,951		16	%		(422	)		(11)	%
Restructuring		—		—	%		—		—	%		—			—	%


Total operating expenses	$	14,960		53	%	$	14,932		60	%	$	28			*	%


	Nine					Nine
	Months					Months								Percentage
	Ended		Percentage			Ended		Percentage			Year to Year			Change
	September 30,		of Total			September 30,		of Total			Increase			Year over
	2008		Revenues			2007		Revenues			(Decrease)			Year
Operating expenses:
Sales and marketing	$	21,983		28	%	$	23,156		30	%	$	(1,173	)		(5)	%
Research and development		10,958		14	%		11,781		15	%		(823	)		(7)	%
General and administrative		10,261		13	%		11,372		15	%		(1,111	)		(10)	%
Restructuring		397		*	%		—		—	%		397			100	%


Total operating expenses	$	43,599		55	%	$	46,309		61	%	$	(2,710	)		(6)	%


*		Less than 1%

Sales and Marketing.Sales and marketing expenses increased $0.3 million, or 5%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. The increase was primarily attributable to an increase in partner selling fees of $0.4 million, partially offset by a $0.1 million decrease in personnel related costs. We have shifted our business focus to our on-demand offering, and commission expenses associated with hosted on-demand arrangements are deferred and then amortized over the non-cancelable term of the contract as the related revenue is recognized. Commission expenses related to license sales are incurred in the period the transaction occurs.

Sales and marketing expenses decreased $1.2 million, or 5%, for the nine months ended September 30, 2008, compared to the nine months ended September 30, 2007. The decrease was primarily attributable to a decrease in commission costs of $0.4 million resulting from a decrease in license sales and the deferral of commission expenses as discussed above. The decrease was also driven by decreases in marketing and advertising expenses of $0.4 million and bonuses of $0.4 million.

Research and Development.Research and development expenses increased $0.1 million, or 3%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. The increase was primarily attributable to an increase in professional fees of $0.3 million for costs related to our new offshore resource center, partially offset by a decrease in personnel costs of $0.2 million as a result of lower headcount.

Research and development expenses decreased $0.8 million, or 7%, for the nine months ended September 30, 2008, compared to the nine months ended September 30, 2007. The decrease was primarily attributable to a decrease in personnel costs of $1.3 million as a result of lower headcount and bonuses, partially offset by an increase in professional fees of $0.5 million for costs related to our new offshore resource center.

General and Administrative.General and administrative expenses decreased $0.4 million, or 11%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. The decrease was primarily a result of a decrease in legal fees.

General and administrative expenses decreased $1.1 million, or 10%, for the nine months ended September 30, 2008, compared to the nine months ended September 30, 2007. The decrease was primarily the result of a decrease in legal fees.

Stock-Based Compensation

Expenses for the three and nine months ended September 30, 2008 and 2007 include stock-based compensation expenses as follows (in thousands, except percentage data):


	Three		Three
	Months		Months				Percentage
	Ended		Ended		Year to Year		Change
	September 30,		September 30,		Increase		Year over
	2008		2007		(Decrease)		Year
Stock-based compensation:
Subscription and support	$	184	$	61	$	123		202	%
Services and other		320		227		93		41	%
Sales and marketing		401		333		68		20	%
Research and development		294		205		89		43	%
General and administrative		795		379		416		110	%


Total stock-based compensation	$	1,994	$	1,205	$	789		65	%


	Nine		Nine
	Months		Months				Percentage
	Ended		Ended		Year to Year		Change
	September 30,		September 30,		Increase		Year over
	2008		2007		(Decrease)		Year
Stock-based compensation:
Subscription and support	$	497	$	177	$	320		181	%
Services and other		970		632		338		53	%
Sales and marketing		1,487		874		613		70	%
Research and development		915		737		178		24	%
General and administrative		2,021		1,529		492		32	%


Total stock-based compensation	$	5,890	$	3,949	$	1,941		49	%

Total stock-based compensation expenses increased $0.8 million, or 65%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. For the nine months ended September 30, 2008, total stock-based compensation expenses increased $1.9 million, or 49%, compared to the nine months ended September 30, 2007. The overall increases were primarily attributable to newly granted stock options and restricted stock units for current employees and employees acquired as part of the Compensation Technologies acquisition.

Other Items

The table below sets forth the changes in other items for the three and nine months ended September 30, 2008 compared to the three and nine months ended September 30, 2007 (in thousands, except percentage data):


	Three		Three
	Months		Months					Percentage
	Ended		Ended		Year to Year			Change
	September 30,		September 30,		Increase			Year over
	2008		2007		(Decrease)			Year
Interest and other income	$	103	$	657	$	(554	)		(84)	%


Provision for income taxes	$	64	$	36	$	28			78	%


	Nine		Nine
	Months		Months					Percentage
	Ended		Ended		Year to Year			Change
	September 30,		September 30,		Increase			Year over
	2008		2007		(Decrease)			Year
Interest and other income	$	914	$	2,239	$	(1,325	)		(59)	%


Provision for income taxes	$	407	$	144	$	263			183	%

Interest and Other Income

Interest and other income decreased $0.6 million, or 84%, for the three months ended September 30, 2008, compared to the three months ended September 30, 2007. The decrease was primarily attributable to a decrease in interest income generated on our investments as a result of a lower average cash, cash equivalents and investments balance and lower interest rates during the three months ended September 30, 2008, compared to the three months ended September 30, 2007.

For the nine months ended September 30, 2008, interest and other income decreased $1.3 million, or 59%, compared to the nine months ended September 30, 2007. The decrease was primarily attributable to a decrease in interest income generated on our investments as a result of a lower average cash, cash equivalents and investments balance and lower interest rates during the nine months ended September 30, 2008, compared to the nine months ended September 30, 2007.

Provision for Income Taxes

Provision for income taxes was $64,000 and $0.4 million for the three and nine months ended September 30, 2008, respectively, compared to $36,000 and $0.1 million for the three and nine months ended September 30, 2007, respectively. The provisions for the three and nine months ended September 30, 2008 and 2007 were primarily due to foreign withholding taxes and income taxes related to our foreign operations. With the exception of the net deferred tax assets of one of our foreign subsidiaries, we maintained a full valuation allowance against our deferred tax assets based on our determination that it was more likely than not that the deferred tax assets would not be realized.

Liquidity and Capital Resources

As of September 30, 2008, we had $41.4 million of cash, cash equivalents and short-term investments compared to $50.6 million as of December 31, 2007.

Net Cash Provided by/Used in Operating Activities.Net cash provided by operating activities was $5.3 million for the nine months ended September 30, 2008, while net cash used in operating activities was $4.3 million for the nine months ended September 30, 2007. The significant cash receipts and outlays for the two periods are as follows (in thousands):


	Nine Months Ended September 30,
	2008			2007
Cash collections	$	84,358		$	74,327
Payroll-related costs		(52,192	)		(49,591	)
Professional services costs		(14,925	)		(15,955	)
Employee reimbursable expenses		(6,011	)		(6,846	)
Facilities-related costs		(4,098	)		(3,346	)
Third-party royalty payments		(675	)		(848	)
Restructuring payments		(971	)		—
Other		(145	)		(2,080	)

Net cash (used in) provided by operating activities	$	5,341		$	(4,339	)

Net cash provided by operating activities increased $9.7 million for the nine months ended September 30, 2008 compared to the nine months ended September 30, 2007. The increase was primarily attributable to a $10.0 million increase in cash collections resulting from faster accounts receivable collections, a $2.2 million decrease in employee reimbursable expenses and other costs and a $1.0 million decrease in professional services costs related to the decreased use of subcontractors, partially offset by a $2.5 million increase in payroll-related costs due to an increase in headcount and a $1.0 million increase in restructuring payments.

Net Cash Provided by/ Used in Investing Activities.Net cash provided by investing activities was $12.1 million for the nine months ended September 30, 2008, compared to $2.1 million for the nine months ended September 30, 2007. Net cash provided by investing activities during the nine months ended September 30, 2008 was due to proceeds from maturities and sales of investments of $35.7 million, partially offset by purchases of new investments of $13.9 million, cash paid for the Compensation Technologies acquisition of $7.5 million, purchases of property and equipment of $1.9 million and purchases of intangible assets of $0.3 million. Net cash provided by investing activities during the nine months ended September 30, 2007, was primarily due to proceeds from maturities and sales of investments of $38.0 million, partially offset by purchases of investments of $33.5 million and purchases of property and equipment of $2.4 million.

Net Cash Used in/Provided by Financing Activities.Net cash used in financing activities was $0.4 million for the nine months ended September 30, 2008, compared to net cash provided by financing activities of $3.6 million for the nine months ended September 30, 2007. Net cash used in financing activities during the nine months ended September 30, 2008 was due to cash paid for purchases of treasury stock of $5.2 million, partially offset by cash received from the exercise of stock options and shares purchased under our employee stock purchase plan of $4.8 million. The net cash provided by financing activities for the nine months ended September 30, 2007 reflected proceeds from the exercise of stock options and shares purchased under our employee stock purchase plan.

Auction Rate Securities

our auction rate securities back to the financial institution at par value at any time during the period from June 30, 2010, through July 2, 2012. In October 2008, we accepted this offer, and intend to exercise this right to sell our auction rate securities back to the financial institution at par value. Due to the settlement with the financial institution, we will record an other-than-temporary impairment at December 31, 2008 along with a corresponding gain contingency for the future fair value to be received. At this time, we do not believe the net effect to our consolidated statement of operations will be material.

Contractual Obligations and Commitments

The following table summarizes our contractual cash obligations (in thousands) at September 30, 2008. Contractual cash obligations that are cancelable upon notice and without significant penalties are not included in the table. In addition, to the extent that payments for unconditional purchase commitments for goods and services are based, in part, on volume or type of services required by us, we included only the minimum volume or purchase commitment in the table below.


	Payments due by Period
			Remaining										2013
Contractual Obligations	Total		2008		2009		2010		2011		2012		and beyond
Operating lease commitments	$	7,018	$	712	$	2,679	$	2,005	$	857	$	180	$	585


Unconditional purchase commitments	$	3,188	$	909	$	1,434	$	632	$	113	$	100	$	—

Unconditional purchase commitments include uncertain tax positions, reduced by the associated federal deduction for state taxes and non-U.S. tax credits. With the exception of the above contractual cash obligations, we have no material off-balance sheet arrangements that have not been recorded in our condensed consolidated financial statements.

For our New York, New York and San Jose, California offices, we had two certificates of deposit totaling approximately $434,000 as of September 30, 2008 and December 31, 2007, pledged as collateral to secure letters of credit required by our landlords for security deposits.

We believe our existing cash and investment balances will be sufficient to meet our anticipated short-term and long-term cash requirements as well as the contractual obligations listed above. Our future capital requirements will depend on many factors, including revenues we generate, the timing and extent of spending to support product development efforts, the expansion of sales and marketing activities, the timing of introductions of new products and enhancements to existing products, market acceptance of our on-demand service offering, our ability to offer on-demand service on a consistently profitable basis, the continuing market acceptance of our other products and any acquisitions we may undertake. If the current disruptions in the equity and credit markets continue, we may be unable to raise additional capital in the future.

Item 3.Quantitative and Qualitative Disclosures About Market Risk

Market Risk.Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. Our market risk exposure is also a result of fluctuations in interest rates and foreign exchange rates. We had auction rate securities that failed to reprice during the nine months ended September 30, 2008, which resulted in a liquidity risk. This was a result of illiquidity and imbalance in order flow for auction rate securities. A failed auction is not an indication of an increased credit risk or a reduction in the underlying collateral; however, parties wishing to sell securities could not do so.

In August 2008, the financial institution where we hold $3.4 million estimated fair value of auction rate securities agreed to a settlement with the SEC to restore liquidity to all remaining clients who hold auction rate securities. As part of this settlement, in October 2008 the financial institution offered us rights to sell our auction rate securities back to the financial institution at par value at any time during the period from June 30, 2010, through July 2, 2012. In October 2008, we accepted this offer, and intend to exercise this right to sell our auction rate securities back to the financial institution at par value. Due to the settlement with the financial institution, we will record an other-than-temporary impairment at December 31, 2008 along with a corresponding gain contingency for the future fair value to be received. At this time, we do not believe the net effect to our consolidated statement of operations will be material.

We currently believe these securities are not other-than-temporarily impaired, primarily due to the Company’s anticipated cash flows in the near term related to these securities. Based on our expected operating cash flows, and our other sources and uses of cash, we do not anticipate that the potential lack of liquidity on these investments will affect our ability to execute our current business plan. As such, we have recorded these auction rate securities as long-term investments at September 30, 2008. We do not hold or issue financial instruments for trading purposes, and we invest in investment grade securities. We limit our exposure to interest rate and credit risk by establishing and monitoring clear policies and guidelines for our investment portfolios, which are approved by our Board of Directors. The guidelines also establish credit quality standards, limits on exposure to any one security issue, limits on exposure to any one issuer and limits on exposure to the type of instrument. As of September 30, 2008, we believe that, due to the nature of our investments, the financial condition of the issuers, and our ability and intent to hold the investments through short-term loss fluctuations, factors would not indicate that any unrealized gains and losses should be viewed as “other-than-temporary.”

Interest Rate Risk.We invest our cash in a variety of financial instruments, consisting primarily of investments in money market accounts, high quality corporate debt obligations and United States government obligations. Our investments are made in accordance with an investment policy approved by our Board of Directors. All of our investments are classified as available for sale and carried at estimated fair value, which is determined based on quoted market prices or other readily available market information, with net unrealized gains and losses included in accumulated other comprehensive income in the accompanying condensed consolidated balance sheets.

Investments in both fixed-rate and floating-rate interest earning instruments carry a degree of interest rate risk. The fair market value of fixed-rate securities may be adversely affected by a rise in interest rates, while floating rate securities, which typically have a shorter duration, may produce less income than expected if interest rates fall. Due in part to these factors, our investment income may decrease in the future due to changes in interest rates. At September 30, 2008, except for auction rate securities, the average maturity of our investments was approximately two months, and all investment securities other than auction rate securities had effective maturities of less than 12 months. The following table presents certain information about our financial instruments at September 30, 2008 that are sensitive to changes in interest rates (in thousands, except for interest rates):


	Expected Maturity						Total		Total
	1 Year			More Than			Principal		Fair
	or Less			1 Year			Amount		Value
Available-for-sale securities	$	33,439		$	4,700		$	38,139	$	37,765
Weighted average interest rate		1.06	%		2.88	%

Our exposure to market risk also relates to the increase or decrease in the amount of interest expense we must pay on our outstanding debt instruments. As of September 30, 2008, we had no outstanding indebtedness for borrowed money. Therefore, we currently have no exposure to market risk related to debt instruments. To the extent we enter into or issue debt instruments in the future, we will have interest expense market risk.

Foreign Currency Exchange Risk.Our revenues and our expenses, except those related to our United Kingdom, Germany, Canada and Australia operations, are generally denominated in United States dollars. For the three and nine months ended September 30, 2008, approximately 9% and 13%, respectively, of our total revenues were denominated in foreign currency. Our exchange risks and foreign exchange losses have been minimal to date. We expect to continue to transact a majority of our business in United States dollars.

Occasionally, we may enter into forward exchange contracts to reduce our exposure to currency fluctuations on our foreign currency exposures. The objective of these contracts is to minimize the impact of foreign currency exchange rate movements on our operating results. We do not use these contracts for speculative or trading purposes.

As of September 30, 2008, we had no outstanding foreign currency forward exchange contracts.

We do not anticipate any material adverse effect on our consolidated financial position, results of operations or cash flows resulting from the use of these instruments in the immediate future. However, we cannot provide any assurance that our foreign investment strategies will be effective or that transaction losses can be minimized or forecasted accurately. In particular, generally, we hedge only a portion of our foreign currency exchange exposure. We cannot assure you that our hedging activities will eliminate foreign exchange rate exposure. Failure to do so could have an adverse effect on our business, financial condition, results of operations and cash flow.

Item 4.Controls and Procedures

Our Chief Executive Officer and our Chief Financial Officer, after evaluating the effectiveness of our “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934 (Exchange Act) Rules 13a-15(e) or 15d-15(e)) as of the end of the period covered by this quarterly report, have concluded that our disclosure controls and procedures are effective based on their evaluation of these controls and procedures required by paragraph (b) of Exchange Act Rules 13a-15 or 15d-15.

In connection with their evaluation of our disclosure controls and procedures as of the end of the period covered by this report, our Chief Executive Officer and Chief Financial Officer did not identify any changes in our internal control over financial reporting during the three or nine months ended September 30, 2008 that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1.Legal Proceedings

We are from time to time a party to various litigation matters incidental to the conduct of our business, none of which, at the present time is likely to have a material adverse effect on our future financial results.

Item 1A.Risk Factors

Factors That Could Affect Future Results

We operate in a dynamic and rapidly changing environment that involves numerous risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements contained in this Quarterly Report onForm 10-Q. Because of the following factors, as well as other variables affecting our operating results, past financial performance should not be considered a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods.

RISKS RELATED TO OUR BUSINESS

We have a history of losses, and we cannot assure you that we will achieve and sustain profitability.

We incurred net losses of $1.4 million and $9.1 million for the three and nine months ended September 30, 2008, respectively, as well as $13.1 million and $8.7 million in 2007 and 2006, respectively. We expect to continue to incur substantial expenses for the foreseeable future as we increase our business focus on our hosted on-demand service, expand our operations domestically and internationally and increase the number of our product offerings. In addition, as we increasingly focus on our on-demand business, we expect our perpetual license revenues will continue to decline, and this trend will have an adverse effect on our overall gross margins. To achieve profitability, we must increase our total revenues, improve our gross margin on subscription and support revenues and service and other revenues and effectively manage our expenses. In the fourth quarter of 2007 we undertook a restructuring to reduce our workforce by 8% in order to better align expenses with expected revenues. In connection with this restructuring, we incurred expenses of $1.9 million. We have taken and intend to take additional steps to reduce our cost structure in the fourth quarter of 2008. We have recorded charges of approximately $0.7 million as a result of such steps in that period to date. We do not expect to realize the full benefits of these measures until the first quarter of 2009. There is no assurance that these steps to manage our expenses will be adequate, and we may be required to incur additional restructuring expenses in the future. We cannot be sure that we will achieve or sustain profitability on a quarterly or annual basis in the future. If we cannot increase our total revenues and improve our gross margins our future results of operations and financial condition will be negatively affected.

If our hosted on-demand offering fails to achieve broad market acceptance, or if we are unable to consistently offer this service on a profitable basis, our operating results could be adversely affected.

We have invested, and expect to continue to invest, substantial resources to expand, market, and implement our hosted on-demand offering. We have only achieved positive gross margins on our hosted on-demand offering since the first quarter of 2008. Previously, we had realized a negative gross margin on sales of this service and there can be no assurance that we will be able to offer our on-demand service profitably in the future. As we continue to promote our hosted on-demand service, there is a risk of confusion in the market over the alternative ways to purchase our software, which could result in delayed sales. In addition, with our decision to increase our focus on our on-demand service, customers that might otherwise purchase a perpetual license may instead opt for our hosted on-demand service, possibly late in the sales cycle. To the extent our hosted on-demand offering results in a shift away from perpetual licenses, our revenue and operating results will be adversely affected in the short-term as revenues for on-demand services are recognized over the life of the agreement with each of our customers and the professional services associated with on-demand implementations are less than those associated with perpetual licenses. Any such shift will also have a longer term adverse effect on operating results, as our on-demand offering is expected to continue to generate much lower margins than our perpetual license sales.

Historically, our on-demand contracts generally provided for payment by the customer only after the customer went into production with the on-demand service. Although we have changed that model so that our on-demand contracts now generally provide for payment and terms commencing as of the effective date of the contract, these terms remain subject to customer-specific requirements. For those contracts under which we will not recognize revenue until the customer has commenced production use of the on-demand service, which can be months after the contract is signed, our revenue recognition will be delayed and our operating results will be adversely affected. If our hosted on-demand service does not achieve broad market acceptance, or if we are unable to offer this service profitably, our operating results will be materially and adversely affected.

Disruptions in the financial and insurance industries or the global economic crisis may materially and adversely affect our revenues, operating results and financial condition.

products and services. Further, consolidations and business failures in these industries could result in substantially reduced demand for our products and services. In addition, the disruptions in these industries and the concurrent international financial crisis may cause other potential customers to defer or cancel future purchases of our products and services as they seek to conserve resources in the face of economic turmoil and the drastically reduced availability of capital in the equity and debt markets. Any of these developments, or the combination of these developments, may materially and adversely affect our revenues, operating results and financial condition in future periods.

Our quarterly license revenues remain largely dependent on a relatively small number of license transactions involving sales of our products to new customers, and any delay or failure in closing one or more of these transactions could adversely affect our results of operations.

Our quarterly license revenues are typically dependent upon the closing of a relatively small number of transactions involving perpetual licensing of our products to new customers. As such, variations in the rate and timing of conversion of sales prospects into license revenues could result in our failure to meet revenue objectives or achieve or maintain profitability in future periods. In addition, failure to meet all revenue recognition criteria for perpetual licenses can result in deferral of license revenue into future periods, as was the case in the second quarter of 2008. We generally recognize the bulk of our license revenues for a given sale either at the time we enter into the agreement and deliver the product, or over the period in which we perform any services that are essential to the functionality of the product. Unexpected changes in the number and size of transactions or other contractual terms late in the negotiation process or changes in the mix of contracts we enter into, including customers’ selection of our on-demand solution (for which revenues are included in our subscription and support revenues and recognized ratably over future periods) in lieu of perpetual licenses, could therefore materially and adversely affect our revenues in a quarter. Typically, customers tend to gravitate toward perpetual or on-demand solutions with some crossover. We expect the level of crossover towards on-demand to increase, and thus our license revenues would be adversely affected. Reductions in the amount of customers’ purchases or delays in recognition of revenues would adversely affect our revenues, results of operations and financial condition.

We cannot accurately predict customer subscription and maintenance renewal rates and the impact these renewal rates will have on our future revenues or operating results.

Our customers have no obligation to renew their subscriptions for our on-demand service or maintenance support for perpetual license transactions after the expiration of their initial subscription or maintenance period, which is typically 12 to 24 months, and in fact, some customers have elected not to renew. In addition, our customers may renew for fewer payees or renew for shorter contract lengths. We cannot accurately predict customer renewal rates. Our customers’ renewal rates may decline or fluctuate as a result of a number of factors, including their dissatisfaction with our service and their ability to continue their operations and spending levels. If our customers do not renew their subscriptions for our on-demand service or maintenance support, our revenue will decline and our business will suffer.

Because we recognize revenue from subscriptions for our on-demand service and maintenance support over the terms of the subscription and maintenance support agreements, downturns or upturns in sales may not be immediately reflected in our operating results.

We generally recognize on-demand and maintenance revenues from customers ratably over the terms of their subscription and maintenance support agreements, which are typically 12 to 24 months, although terms can range from one to 60 months. As a result, most of the subscription and maintenance revenues we report in each quarter result from the recognition of deferred revenue relating to subscription and maintenance agreements entered into during previous quarters. Consequently, a decline in new or renewed subscriptions and maintenance in any one quarter will not necessarily be fully reflected in the revenue in that quarter but will negatively affect our revenue in future quarters. In addition, we may be unable to adjust our cost structure to reflect the changes in revenues. Accordingly, the effect of significant downturns in sales and market acceptance of our on-demand service may not be fully reflected in our results of operations until future periods. Our subscription model also makes it difficult for us to rapidly increase our revenue through additional sales in any period, as revenue from new customers must be recognized over the applicable subscription term.

Our success depends upon our ability to develop new products and enhance our existing products. Failure to successfully introduce new or enhanced products may adversely affect our operating results.

The sales performance management software market is characterized by:

	•		Rapid technological advances in hardware and software development;

	•		evolving standards in computer hardware, software technology and communications infrastructure;

	•		changing customer needs; and

	•		frequent new product introductions and enhancements.

To keep pace with technological developments, satisfy increasingly sophisticated customer requirements, achieve market acceptance and effectively respond to competitive product introductions, we must quickly identify emerging trends and requirements, accurately define and design enhancements and improvements for existing products and timely introduce new products and services. Accelerated product introductions and short product life cycles require high levels of expenditures for research and development that could adversely affect our operating results. Further, any new products we develop may not be introduced in a timely manner and may not achieve the broad market acceptance necessary to generate significant revenues. If we are unable to successfully and timely develop new products or enhance existing products or if we fail to position and price our products to meet market demand, our business and operating results will be adversely affected.

The market for sales performance management software is still new and rapidly evolving and may not develop as we expect.

All of our business is in the market for sales performance management software, which is a relatively new and rapidly evolving market. We believe one of our key challenges is to convince prospective customers of their need for our products and services and to persuade them that they should make purchases of our products and services a higher priority relative to other projects. Our future financial performance will depend in large part on continued growth in the number of organizations adopting sales performance management software as a solution to address the problems related to sales performance management. We have only recently begun to focus our business on this market opportunity. The market for sales performance management software may not develop as we expect, or at all. Even if a market does develop, our competitors may be more successful than we are in capturing the market. In either case, our business and operating results will be adversely affected.

Our quarterly revenues and operating results are unpredictable and are likely to continue to fluctuate substantially, which may harm our results of operations.

Our revenues, particularly our license revenues, are extremely difficult to forecast and are likely to fluctuate significantly from quarter to quarter due to a number of factors, many of which are wholly or partially beyond our control. For example, in the first six months of 2005 and throughout 2004, our license revenues were substantially lower than expected due to purchasing delays by our customers and our failure to close transactions, resulting in significant net losses. Conversely, our license revenues from mid-2005 through the third quarter of 2007 were greater than in the corresponding prior year periods, primarily as a result of closing more and larger transactions. Beginning in the third quarter of 2007, we believe our sales of products to the financial services sector may have been adversely affected by the deterioration of the mortgage markets and corresponding adverse effects on the operating results of our potential customers. In addition, our license revenues have historically been seasonal, with highest revenues in the fourth quarter and lower revenues during the second and third quarters of the year. However, because of the current global financial crisis, we currently expect that our total revenues in the fourth quarter of 2008 will be

slightly lower than our total revenues in the third quarter of 2008. In the future, we expect that our increased focus on our on-demand business may result in lower revenues from perpetual licenses and decreased customer expenditures on professional services.

Accordingly, we believe that period-to-period comparisons of our results of operations are not meaningful and should not be relied upon as indicators of future performance.

Factors that may cause our quarterly revenue and operating results to fluctuate include:

	•		The discretionary nature of our customers’ purchase and budget cycles and changes in their budgets for software and related purchases;

	•		disruption in the financial and insurance industries and the global financial crisis, which may result in the deferral or cancellation of future purchases of our products and services;

	•		the priority our customers place on the purchase of our products as compared to other information technology and capital acquisitions;

	•		competitive conditions in our industry, including new product introductions, product announcements and discounted pricing or special payment terms offered by our competitors;

	•		customers’ selection of our on-demand solution, under which we recognize revenue as part of subscription and support revenues over the term of the agreement, in lieu of traditional perpetual license revenue, which is typically recognized in the quarter in which the transaction closes or as the products are implemented;

	•		our ability to hire, train and retain appropriate sales and professional services staff;

	•		varying size, timing and contractual terms of orders for our products, which may delay the recognition of revenues;

	•		indeterminate and often lengthy sales cycles;

	•		changes in the mix of revenues attributable to higher-margin product license revenues as opposed to substantially lower-margin subscription, service and other revenues;

	•		strategic decisions by us or our competitors, such as acquisitions, divestitures, spin-offs, joint ventures, strategic investments or changes in business strategy;

	•		merger and acquisition activities among our customers, which may alter their buying patterns, or failure of potential customers, which may reduce demand for our products and services;

	•		our ability to satisfy revenue recognition criteria or timely complete our service obligations related to product sales;

	•		the extent to which our customer’s needs for professional services are reduced as a result of product improvements as well as implementation efficiencies in our on-demand offering over traditional on-premise implementations;

	•		the utilization rate of our professional services personnel and the degree to which we use third-party consulting services;

	•		changes in the average selling prices of our products;

	•		the rates the market will bear for our professional services and our ability to efficiently and profitably perform such services based on those market rates;

	•		timing of product development and new product initiatives;

	•		increased operating expenses associated with channel sales, increased product development efforts and Sarbanes-Oxley compliance; and

	•		customer concerns regarding the impact of implementing large, enterprise-wide deployments of products, including our products, and compliance with the internal control requirements of Sarbanes-Oxley.

We might not be able to manage our future growth efficiently or profitably.

We experienced significant growth in 2007 in our overall operations and in the nine months ended September 30, 2008, in our on-demand operations, and we are planning for continued growth. If growth continues, we will likely need to expand the size of our sales and marketing, research and development and general and administrative staffs, grow our related operations and strengthen our financial and accounting controls. This expansion may increase our expenses, and there is no assurance that our infrastructure would be sufficiently scalable to efficiently manage any growth that we may experience. For example, if we increased sales of licenses, we could experience a significant increase in demand for our professional services personnel to implement our solutions. If we are unable to address these additional demands on our resources, our operating results and growth might suffer. Even if we are able to hire additional personnel, they will require a substantial period of training, and there is no guarantee that any new personnel will be as highly qualified as our existing personnel. As a result, certain implementations of our solution may not meet our customers’ expectations, our reputation could be harmed and our business and operating results could be adversely affected. Also, if we continue to expand our operations, our systems, procedures or controls might not be adequate to support expansion. Further, to the extent we invest in additional resources to support further growth and growth in our revenues does not ensue, our operating results would be adversely affected. If we are unable to further leverage our operating cost investments as a percentage of revenues our ability to generate profits will be adversely impacted. Thus, our inability to manage our growth could harm our business.

Our service revenues produce substantially lower gross margins than our license and subscription and support revenues, and periodic variations in the proportional relationship between services revenues and higher margin license and subscription and support revenues have harmed, and may continue to harm, our overall gross margins.

Our services and other revenues, which include fees for consulting, implementation and training, were 38% and 48% of our revenues for the three and nine months ended September 30, 2008, respectively, and 48% and 40% of our revenues for the years 2007 and 2006, respectively. Our service and other revenues have substantially lower gross margins than our license and subscription and support revenues.

Historically, service and other revenues as a percentage of total revenues have varied significantly from period to period due to a number of circumstances including fluctuations in licensing and subscription and support revenues, changes in the average selling prices for our products and services and the effectiveness and appeal of competitive service providers. In addition, the volume and profitability of services can depend in large part upon:

	•		Competitive pricing pressure on the rates that we can charge for our professional services;

	•		increases or decreases in the number of services projects being performed on a fixed bid or acceptance basis that may defer recognition of revenue;

	•		the complexity of the customers’ information technology environments;

	•		the priority and resources customers place on their implementation projects; and

•

the extent to which outside consulting organizations provide services directly to customers.

As an example of competitive pressure on our services offerings, many of our potential customers are outsourcing technology projects offshore to take advantage of lower labor costs. Additionally, market rates for the types of professional services we offer may be greater or less than the rates we charge domestically depending on the geographic regions where the services are performed. Moreover, as we expand our international services operations, revenues will be impacted by fluctuations in currency exchange rates. Consequently, as we extend our customer base internationally, we expect greater variation in the proportion of services revenues compared to our other higher margin license and subscription and support revenues, which may increase or erode margins for our service revenues and our overall gross margins.

We recently experienced changes in our senior management team. The loss of key personnel or the inability of replacements to quickly and successfully perform in their new roles could adversely affect our business.

We promoted Leslie Stretch to president and chief executive officer in December 2007 after Robert Youngjohns, our president and chief executive officer since May 2005, resigned to take a position with Microsoft. Mr. Stretch was formerly our senior vice president of global sales, marketing and on-demand business. Thereafter, also in December 2007, we announced the promotion of our vice president of North American sales, Bryan Burkhart, to the position of senior vice president, global sales, and the departures of Richard Furino, our senior vice president of worldwide client services, and Shanker Trivedi, our senior vice president of corporate development. In connection with our merger with Compensation Technologies, LLC in January 2008, we announced the appointment of Robert Conti as senior vice president, client services. Also, in April 2008, we promoted two of our vice presidents to the executive management team. Jeffrey Saling was promoted to senior vice president, on-demand, and Stephen T. Apfelberg was promoted to senior vice president, marketing. In October 2008, we added a member to our executive team, Jimmy Duan, who was named our senior vice president, mid-market business.

Our success depends to a significant extent on the effective transition of our new president and chief executive officer, the timely and successful integration of our new senior vice president of client services and the ability of our new senior vice presidents to adapt to their new or expanded roles. Moreover, all of our existing personnel, including our executive officers, are employed on an “at-will” basis. If we lose or terminate the services of one or more of our current executives or key employees or if one or more of our current or former executives or key employees joins a competitor or otherwise competes with us, it could impair our business and our ability to successfully implement our business plan. Additionally, if we are unable to timely hire qualified replacements for our executive and other key positions, our ability to execute our business plan would be harmed. Even if we can timely hire qualified replacements, we would expect to experience operational disruptions and inefficiencies during any transition.

Our products have long sales cycles, which makes it difficult to plan our expenses and forecast our results.

The sales cycles for perpetual licenses of our products have historically been between six and twelve months, and longer in some cases, to complete. The sales cycles for our on-demand solution are still evolving, and it is difficult to determine with any certainty how long our sales cycles for our on-demand solutions will be in the future. Consequently, it remains difficult to predict the quarter in which a particular sale will close and to plan expenditures accordingly. Moreover, because license sales are often completed in the final two weeks of a quarter, this difficulty may be compounded. The period between our initial contact with a potential customer and its purchase of our products and services is relatively long due to several factors, including:

	•		The complex nature of our products and services;

	•		the need to educate potential customers about the uses and benefits of our products and services;

	•		the requirement that some potential customers may need to invest significant financial and other

			resources in connection with the purchase and implementation of our products and services;

	•		budget cycles of our potential customers that affect the timing of purchases;

	•		customer requirements for competitive evaluation and internal approval before purchasing our products and services;

	•		potential delays of purchases due to announcements or planned introductions of new products and services by us or our competitors; and

	•		the lengthy approval processes of our potential customers, many of which are large organizations.

The failure to complete sales of perpetual licenses in a particular quarter would reduce our revenues in that quarter, as well as any subsequent quarters over which revenues for the sale would likely be recognized. Given that our license revenues are dependent on a relatively small number of transactions, any unexpected lengthening of the sales cycle in general or for one or more large orders would adversely affect the timing and amount of our revenues. The failure to complete sales of our on-demand solution in a particular quarter will defer revenues into subsequent quarters as revenue from our on-demand services are recognized ratably over the term of the agreement.

In addition, our management makes assumptions and estimates as to the timing and amount of future revenues in budgeting future operating costs and capital expenditures based on estimated closing dates and potential dollar amounts of transactions. Management aggregates these estimates periodically to generate our sales forecasts and then evaluates the forecasts to identify trends. Because our operating expenses are based upon anticipated revenue trends and because a high percentage of our operating expenses are relatively fixed in the short term, a delay in the recognition of revenue from one or more license transactions could cause significant variations in our operating results and could result in losses substantially in excess of anticipated amounts.

Professional services comprise a substantial portion of our revenues and, to the extent our customers choose to use other services providers, our revenues and operating results may decline.

A substantial portion of our revenues are derived from the performance of professional services, primarily implementation, configuration, training and other consulting services in connection with new product licenses and other ongoing projects. However, there are a number of third-party service providers available that offer these professional services, and we do not require that our customers use our professional services. To the extent our customers choose to use third-party service providers instead of us or perform these professional services themselves, our revenues and operating income may decline, possibly significantly.

Acquisitions and investments present many risks, and we may not realize the anticipated financial and strategic goals for any such transactions.

We may in the future acquire or make investments in other complementary companies, products, services and technologies. For example, in January 2008 we acquired Compensation Technologies LLC and hired its president and chief executive officer, Robert Conti, to fill our vacant senior vice president, client services position in an effort to expand our services offerings and improve our services related operations. Acquisitions and investments involve a number of risks, including the following:

	•		We may have difficulty integrating the operations and personnel of the acquired business, and may have difficulty retaining the key personnel of the acquired business;

	•		as was the case with our acquisition of an assembled workforce and source code license from Cezanne Software in 2004, we may find that the acquired business or assets do not further our business strategy, or that we overpaid for the business or assets, or that economic conditions change, all of which may generate a future impairment charge;

	•		we may have difficulty integrating the acquired technologies or products with our existing product lines;

	•		there may be customer confusion where our products overlap with those of the acquired business;

	•		we may have product liability associated with the sale of the acquired business’ products;

	•		our ongoing business and management’s attention may be disrupted or diverted by transition or integration issues or the complexity of managing geographically and culturally diverse locations;

	•		we may have difficulty maintaining uniform standards, controls, procedures and policies across locations;

	•		the acquisition may result in litigation from terminated employees or third-parties; and

	•		we may experience significant problems or liabilities associated with product quality, technology and legal contingencies.

These factors could have a material adverse effect on our business, results of operations and financial condition or cash flows, particularly in the case of a larger acquisition or multiple acquisitions in a short period of time. From time to time, we may enter into negotiations for acquisitions or investments that are not ultimately consummated. Such negotiations could result in significant diversion of management time, as well as out-of-pocket expenses.

The consideration paid in connection with an investment or acquisition also affects our financial condition and operating results. If we were to proceed with one or more significant acquisitions in which the consideration included cash, we could be required to use a substantial portion of our available cash or incur substantial debt to consummate such acquisitions. If we incur substantial debt, it could result in material limitations on the conduct of our business. To the extent we issue shares of stock or other rights to purchase stock, including options, existing stockholders may be diluted. In addition, acquisitions may result in the incurrence of debt, large one-time write-offs (such as acquired in-process research and development) and restructuring charges. They may also result in the acquisition of goodwill and other intangible assets that are subject to impairment tests, which could result in future impairment charges.

If we are unable to hire and retain qualified employees, including sales, professional services, and engineering personnel, our growth may be impaired.

To expand our business successfully and maintain a high level of quality, we need to continually recruit, retain and motivate highly skilled employees in all areas of our business, including sales, professional services and engineering personnel. In particular, if we are unable to hire and retain talented professional services employees with the skills, and in the locations, we require, we might need to redeploy existing personnel or increase our reliance on subcontractors to fill certain of our labor needs. As our customer base increases, we are likely to experience staffing constraints in connection with the deployment of trained and experienced professional services resources capable of implementing, configuring and maintaining our software for existing customers looking to migrate to more current versions of our products as well as new customers requiring installation support. Moreover, as a company focused on the development of complex products, we are often in need of additional software developers and engineers.

Our latest product features and functionality may require existing customers to migrate to more recent versions of our software. Moreover, we may choose to or be compelled to discontinue maintenance support for older versions of our software products, forcing customers to upgrade their software in order to continue receiving maintenance support. If existing customers fail to migrate or delay migration to newer versions of our software, our revenues may be harmed.

We plan to pursue sales of new product modules to existing perpetual license customers of our TrueComp software. To take advantage of new features and functionality in our latest modules, many of our perpetual license customers will need to migrate to a more current version of our products. We also expect to periodically terminate maintenance support on older versions of our products for various reasons including, without limitation, termination of support by third-party software vendors whose products complement ours or upon which we are dependent. Termination of maintenance may force our perpetual license customers to migrate to more current versions of our software. Regardless of the reason, upgrading to more current versions of our products is likely to involve additional cost, which our customers may delay or decline to incur. If a sufficient number of our customers do not migrate to newer versions of our software, our continued maintenance support opportunities and our ability to sell additional products to these customers, and as a result, our revenues and operating income, may be harmed, possibly significantly.

If we do not compete effectively, our revenues may not grow and could decline.

We have experienced, and expect to continue to experience, intense competition from a number of software companies. We compete principally with vendors of Sales Performance Management (SPM) software, Enterprise Incentive Management (EIM) software, enterprise resource planning software, and customer relationship management software. Our competitors may announce new products, services or enhancements that better meet the needs of customers or changing industry standards. Increased competition may cause price reductions, reduced gross margins and loss of market share, any of which could have a material adverse effect on our business, results of operations and financial condition.

Many of our enterprise resource planning competitors and other potential competitors have significantly greater financial, technical, marketing, service and other resources. Many also have a larger installed base of users, longer operating histories or greater name recognition. Some of our competitors’ products may also be more effective at performing particular SPM or EIM system functions or may be more customized for particular customer needs in a given market. Even if our competitors provide products with less SPM or EIM system functionality than our products, these products may incorporate other capabilities, such as recording and accounting for transactions, customer orders or inventory management data. A product that performs these functions, as well as some of the functions of our software solutions, may be appealing to some customers because it would reduce the number of software applications used to run their business.

Our products must be integrated with software provided by a number of our existing or potential competitors. These competitors could alter their products in ways that inhibit integration with our products, or they could deny or delay our access to advance software releases, which would restrict our ability to adapt our products for integration with their new releases and could result in the loss of both sales opportunities and renewals of on-demand services and maintenance.

Deployment of our products frequently requires substantial technical implementation and support by us or third-party service providers. Failure to meet these requirements could cause a decline or delay in recognition of our revenues and an increase in our expenses.

Deployments of our products frequently require a substantial degree of technical and logistical expertise for both on premise and on-demand implementations. Moreover, whether for our on-demand or on premise implementations, our customers can require large, enterprise-wide deployments of our products. It may be difficult for us to manage these deployments, including the timely allocation of personnel and resources by us and our customers. Failure to successfully manage the process could harm our reputation both generally and with specific customers and may cause us to lose existing customers, face potential customer disputes or limit the number of new customers that purchase our products, each of which could adversely affect our revenues and increase our technical support and litigation costs. For example, in the fourth quarter of 2005, we deferred recognition of approximately $0.8 million of service revenue due to a single customer dispute for an implementation project.

Our software license customers have the option to receive implementation, maintenance, training and consulting services from our internal professional services organization or from outside consulting organizations. In the future, we may be required to increase our use of third-party service providers to help meet our implementation and service obligations. If we require a greater number of third-party service providers than are currently available, we will be required to negotiate additional arrangements, which may result in lower gross margins for maintenance or service revenues. Moreover, third-party service providers may not be as skilled in implementing or maintaining our products as our internal professional staff.

If implementation services are not provided successfully and in a timely manner, our customers may experience increased costs and errors, which may result in customer dissatisfaction and costly remediation and litigation, any of which could adversely impact our reputation, operating results and financial condition. We make estimates of sales return reserves related to potential future requirements to provide remediation services in connection with current period service revenues, which are accounted for in the condensed consolidated financial statements.

A substantial majority of our revenues are derived from our TrueComp software application and related products and services, and a decline in sales of these products and services could adversely affect our operating results and financial condition.

We derive, and expect to continue to derive, a substantial majority of our revenues from our TrueComp product and related products and services. Because we have historically sold our product licenses on a perpetual basis and delivered new versions and enhancements to customers who purchase maintenance contracts, our future license revenues are substantially dependent on new customer sales. The introduction of our products through our hosted on-demand solution still consists substantially of our TrueComp product. In addition, substantially all of our TrueInformation product sales have historically been made in connection with TrueComp sales. As a result of these factors, we are particularly vulnerable to fluctuations in demand for TrueComp. Accordingly, if demand for TrueComp and related products and services decline significantly, our business and operating results will be adversely affected.

If we reduce prices, alter our payment terms or modify our products or services in order to compete successfully, our margins and operating results may be adversely affected.

The intensely competitive market in which we do business may require us to reduce our prices and/or modify our traditional licensing revenue generation strategies in ways that may delay revenue recognition on all or a portion of our licensing transactions. For example, the introduction of our hosted on-demand offering was our response to changing market conditions. Revenues from the hosted on-demand offering, which is sold on a subscription basis, are recognized ratably over time, as opposed to perpetual license revenues, which we generally recognize in the quarter in which the transaction closes or as the product is implemented. If our competitors offer deep discounts on competitive products or services, we may be required to lower prices or offer other terms more favorable to our customers in order to compete successfully. Some of our competitors may bundle their software products that compete with ours with their other products and services for promotional purposes or as a long-term pricing strategy or provide guarantees of prices and product implementations. These practices could, over time, limit the prices that we can charge for our products or cause us to modify our existing market strategies for our products and services. If we cannot offset price reductions and other terms more favorable to our customers with a corresponding increase in the number of sales or decreased spending, then the reduced revenues resulting from lower prices or revenue recognition delays would adversely affect our margins and operating results.

Our products depend on the technology of third parties licensed to us that are necessary for our applications to operate and the loss or inability to maintain these licenses, errors in such software, or discontinuation or updates to such software could result in increased costs or delayed sales of our products.

We license technology from several software providers for our rules engine, analytics, web viewer and quota management application, and we anticipate that we will continue to do so. We also rely on generally available third-party software such as WebSphere and WebLogic to run our applications. Any of these software applications may not continue to be available on commercially reasonable terms, if at all, or new versions may be released that are incompatible with our prior or existing software releases. Some of the products could be difficult to replace, and developing or integrating new software with our products could require months or years of design and engineering work. The loss or modification of any of these

technologies could result in delays in the license of our products until equivalent technology is developed or, if available, is identified, licensed and integrated. For example, we entered into an agreement to license our quota management software application from Hyperion Solutions in the third quarter of 2006. Hyperion Solutions was acquired in April 2007 by one of our competitors, Oracle. In April 2008, we received notification from Oracle that it was terminating our arrangement. We do not expect the termination of our agreement with Hyperion to have a material adverse impact on our revenues or obligations to our customers.

In addition, our products depend upon the successful operation of third-party products in conjunction with our products and, therefore, any undetected errors in these products could prevent the implementation or impair the functionality of our products, delay new product introductions and/or injure our reputation. Our use of additional or alternative third-party software that requires us to enter into license agreements with third parties could result in new or higher royalty payments.

Errors in our products could be costly to correct, adversely affect our reputation and impair our ability to sell our products.

Our products are complex and, accordingly, they may contain errors, or “bugs,” that could be detected at any point in their product life cycle. While we continually test our products for errors and work with customers to timely identify and correct bugs, errors in our products are likely to be found in the future. Any errors could be extremely costly to correct, materially and adversely affect our reputation and impair our ability to sell our products. Moreover, customers relying on our products to calculate and pay incentive compensation may have a greater sensitivity to product errors and security vulnerabilities than customers for software products in general. If we incur substantial costs to correct any product errors, our operating margins would be adversely affected.

Because our customers depend on our software for their critical business functions, any interruptions could result in:

	•		lost or delayed market acceptance and sales of our products;

	•		product liability suits against us;

	•		diversion of development resources; and

	•		substantially greater service and warranty costs.

Our revenues might be harmed by resistance to adoption of our software by information technology departments.

Some potential customers have already made a substantial investment in third-party or internally developed software designed to model, administer, analyze and report on pay-for-performance programs. These companies may be reluctant to abandon these investments in favor of our software. In addition, information technology departments of potential customers may resist purchasing our software solutions for a variety of other reasons, particularly the potential displacement of their historical role in creating and running software and concerns that packaged software products are not sufficiently customizable for their enterprises.

We may lose sales opportunities and our business may be harmed if we do not successfully develop and maintain strategic relationships to implement and sell our products.

We have relationships with third-party consulting firms, systems integrators and software vendors. These third parties may provide us with customer referrals, cooperate with us in the design, sales and/or marketing of our products, provide valuable insights into market demands and provide our customers with systems implementation services or overall program management. However, we do not have formal agreements governing our ongoing relationship with certain of these third-party providers and the

agreements we do have generally do not include obligations with respect to generating sales opportunities or cooperating on future business. In addition, certain of our strategic relationships require that we pay substantial commissions on sales of our products, which could adversely affect our operating margins.

We also have and are considering strategic relationships that are new or unusual for us and which can pose additional risks. For example, in January 2008 we announced an exclusive reseller relationship with IMS Health in connection with our on-demand services in certain pharmaceutical and healthcare markets. While exclusive reseller arrangements offer the advantage of leveraging larger sales organizations than our own to sell our products, they also require considerable time and effort on our part to train and support our strategic partner’s personnel, and require our strategic partners to properly motivate and incentivize their sales force so that the exclusivity does not prevent us from succeeding in the applicable markets, which may adversely affect our results of operations.

Should any of these third parties go out of business or choose not to work with us, we may be forced to develop new capabilities internally, incurring significant expense and adversely affecting our operating results. Any of our third-party providers may offer products of other companies, including products that compete with our products. If we do not successfully and efficiently establish, maintain, and expand our industry relationships with influential market participants, we could lose sales and service opportunities, which would adversely affect our results of operations.

Breaches of security or failure to safeguard customer data could create the perception that our services are not secure, causing customers to discontinue or reject the use of our services and potentially subject us to significant liability. Implementing, monitoring and maintaining adequate security safeguards may be costly.

We provide an on-demand service whereby our customers access our software and transmit confidential data, including personally identifiable individual data of their employees, agents, and customers over the Internet. We also store data provided to us by our customers on servers in a third-party data warehouse. In addition, we may have access to confidential and private individual data as part of our professional services organization activities, including implementation, maintenance and support of our software for perpetual license customers. If we do not adequately safeguard the confidential information imported into our software or otherwise provided to us by our customers, or if third parties penetrate our systems or security and misappropriate our customers’ confidential information, our reputation may be damaged and we may be sued and incur substantial damages in connection with such disclosures or misappropriations. Even if it is determined that our security measures were adequate, the damage to our reputation may cause customers and potential customers to reconsider the use of our software and services, which may have a material adverse effect on our results of operations.

Moreover, many of our customers are subject to heightened security obligations regarding the personally identifiable information of their customers. In the United States, these heightened obligations particularly affect the financial services and insurance sectors, which are subject to stringent controls over personal information under the Gramm-Leach-Bliley Act, Health Insurance Portability and Accountability Act and other similar state and federal laws and regulations. In addition, the European Union Directive on Data Protection creates international obligations on the protection of personal data that typically exceed security requirements mandated in the United States. The security measures we have implemented and may need to implement, monitor and maintain in the future to satisfy the requirements of our customers, many of which are in the financial services and insurance sectors, may be substantial and involve significant time and effort, which are typically not chargeable to our customers.

If we fail to adequately protect our proprietary rights and intellectual property, we may lose valuable assets, experience reduced revenues and incur costly litigation to protect our rights.

Our success and ability to compete is significantly dependent on the proprietary technology embedded in our products. We rely on a combination of copyrights, patents, trademarks, service marks, trade secret laws and contractual restrictions to establish and protect our proprietary rights. We cannot protect our intellectual property if we are unable to enforce our rights or if we do not detect its unauthorized use.

Despite our precautions, it may be possible for unauthorized third parties to copy and/or reverse engineer our products and use information that we regard as proprietary to create products and services that compete with ours. Some license provisions protecting against unauthorized use, copying, transfer and disclosure of our licensed programs may be unenforceable under the laws of certain jurisdictions and foreign countries. Further, the laws of some countries do not protect proprietary rights to the same extent as the laws of the United States. To the extent that we engage in international activities, our exposure to unauthorized copying and use of our products and proprietary information increases.

We enter into confidentiality or license agreements with our employees and consultants and with the customers and corporations with whom we have strategic relationships. No assurance can be given that these agreements will be effective in controlling access to and distribution of our products and proprietary information. Further, these agreements do not prevent our competitors from independently developing technologies that are substantially equivalent or superior to our products. Litigation may be necessary in the future to enforce our intellectual property rights and to protect our trade secrets. Litigation, whether successful or unsuccessful, could result in substantial costs and diversion of management resources, either of which could seriously harm our business.

Our results of operations may be adversely affected if we are subject to a protracted infringement claim or one that results in a significant damage award.

From time to time, we receive claims that our products or business infringe or misappropriate the intellectual property rights of third parties and our competitors or other third parties may challenge the validity or scope of our intellectual property rights. We believe that claims of infringement are likely to increase as the functionality of our products expands and as new products are introduced. A claim may also be made relating to technology that we acquire or license from third parties. If we were subject to a claim of infringement, regardless of the merit of the claim or our defenses, the claim could:

	•		require costly litigation to resolve;

	•		absorb significant management time;

	•		cause us to enter into unfavorable royalty or license agreements;

	•		require us to discontinue the sale of all or a portion of our products;

	•		require us to indemnify our customers or third-party systems integrators; or

	•		require us to expend additional development resources to redesign our products.

Our inclusion of open source software in our products may expose us to liability or require release of our source code.

We use a limited amount of open source software in our products and may use more in the future. From time to time there have been claims challenging the ownership of open source software against companies that incorporate open source software into their products. As a result, we could be subject to suits by parties claiming ownership of what we believe to be open source software. In addition, some open source software is provided under licenses that require that proprietary software, when combined in specific ways with open source software, become subject to the open source license and thus freely available. While we take steps to minimize the risk that our software, when combined with open source software, would become subject to open source licenses, few courts have interpreted open source licenses. As a result, the manner in which these licenses will be enforced is unclear. If our software were to become subject to open source licenses, our ability to commercialize our products and our operating results would be materially and adversely affected.

If we do not adequately manage and evolve our financial reporting and managerial systems and processes, our ability to manage and grow our business may be harmed.

Our ability to successfully implement our business plan and comply with regulations, including the Sarbanes-Oxley Act of 2002, requires an effective planning and management process. We expect that we will need to continue to improve existing, and implement new, operational and financial systems, procedures and controls to manage our business effectively in the future. Any delay in the implementation of, or disruption in the transition to, new or enhanced systems, procedures or controls, could impair our ability to accurately forecast sales demand, manage our system integrators and other third-party service vendors and record and report financial and management information on a timely and accurate basis. Additionally, we became obligated to comply with Section 404 of the Sarbanes-Oxley Act for the year ended December 31, 2006, including the obligation to test for and disclose any material weaknesses in our internal controls. This is an ongoing obligation for us and we may identify one or more material weaknesses in our internal controls. The existence of any material weaknesses could inhibit our ability to accurately and timely report our operating results, and the disclosure of material weaknesses could adversely affect our stock price.

We expect to continue expanding our international operations but we do not have substantial experience in international markets, and may not achieve the expected results.

We expanded our international operations in 2006 and 2007 and expect to continue expanding these operations in 2008. International expansion may require substantial financial resources and a significant amount of attention from our management. International operations involve a variety of risks, particularly:

	•		unexpected changes in regulatory requirements, taxes, trade laws and tariffs;

	•		differing abilities to protect our intellectual property rights;

	•		differing labor regulations;

	•		greater difficulty in supporting and localizing our products;

	•		greater difficulty in establishing, staffing and managing foreign operations;

	•		possible political and economic instability; and

	•		fluctuating exchange rates.

We have limited experience in marketing, selling and supporting our products and services abroad. If we invest substantial time and resources to grow our international operations and fail to do so successfully and on a timely basis, our business and operating results could be seriously harmed.

Our use of third party international product development and support services may prove difficult to manage or of inadequate quality to allow us to realize our cost reduction goals and produce new products to drive growth.

We have begun using an India-based firm to provide certain software engineering services and support. We believe that the use of offshore engineering and support services will allow us to cost effectively increase our product development while concurrently maintaining and supporting our existing products. We have limited experience in managing development and support of our products by offshore contractors, and may not be able to maintain quality support or increase our product development. If we are unable to successfully maintain product and support quality through our efforts with international third party service providers, our attempts to reduce costs and drive growth through new products may be negatively impacted which would adversely affect our results of operations.

Our investment portfolio may be impaired by further deterioration of the capital markets.

Our cash equivalent and investment portfolio as of September 30, 2008 consists of investment grade auction rate securities and corporate notes and obligations. We follow an established investment policy and set of guidelines to monitor, manage and limit our exposure to interest rate and credit risk. The policy sets forth credit quality standards and limits our exposure to any one issuer.

As a result of current adverse financial market conditions, our auction rate securities with a total estimated fair value of approximately $4.3 million may pose risks arising from liquidity concerns. Liquidity for these securities is typically provided by an auction process that resets the applicable interest rate at pre-determined intervals, usually every 28 days. Therefore, because of the short interest rate reset period, the Company has historically recorded them as current available-for-sale securities. However, beginning in late February 2008, these remaining auction rate securities failed to reprice, resulting in us continuing to hold these securities. Each of these securities had been subject to auction processes for which there had been insufficient bidders on the scheduled rollover dates. These failed auctions result in a lack of liquidity in the securities, but do not affect the underlying collateral of the securities. Due to the liquidity risk, as of September 30, 2008, we recorded unrealized losses of $0.4 million related to these auction rate securities and classified them as long-term investments on our condensed consolidated balance sheet. These investments are all education municipal securities substantially collateralized by the U.S. Department of Education Federal Family Education Loan program guarantee. None of the auction rate securities held by the Company are mortgage-backed debt obligations. All of these investments carry AAA credit ratings from one or more of the major credit rating agencies.

In August 2008, the financial institution where we hold $3.4 million estimated fair value of auction rate securities agreed to a settlement with the SEC to restore liquidity to all remaining clients who hold auction rate securities. As part of this settlement, the financial institution offered us rights to sell our auction rate securities back to the financial institution at par value at any time during the period from June 30, 2010, through July 2, 2012. In October 2008, we accepted this offer, and intend to exercise this right to sell our auction rate securities back to the financial institution at par value. Due to the settlement with the financial institution, we will record an other-than-temporary impairment at December 31, 2008 along with a corresponding gain contingency for the future value to be received. At this time, we do not believe the net effect to our consolidated statement of operations will be material.

RISKS RELATED TO OUR STOCK

Our stock price is likely to remain volatile.

The trading price of our common stock has in the past and may in the future be subject to wide fluctuations in response to a number of factors, including those described in this section. We receive only limited attention by securities analysts, and there frequently occurs an imbalance between supply and demand in the public trading market for our common stock due to limited trading volumes. Our stock repurchase program may increase this imbalance. Investors should consider an investment in our common stock as risky and should purchase our common stock only if they can withstand significant losses. Other factors that affect the volatility of our stock include:

	•		Our operating performance and the performance of other similar companies;

	•		significant sales or distributions by existing investors coupled with a lack of trading volume for our stock;

	•		announcements by us or our competitors of significant contracts, results of operations, projections, new technologies, acquisitions, commercial relationships, joint ventures or capital commitments;

	•		changes in our management team;

	•		publication of research reports about us or our industry by securities analysts; and

	•		developments with respect to intellectual property rights.

Additionally, some companies with volatile market prices for their securities have been subject to securities class action lawsuits filed against them. For example, in 2004 we were sued in connection with the decline in our stock price following the announcements of disappointing operating results and changes in senior management. Any future suits such as these could have a material adverse effect on our business, results of operations, financial condition and the price of our common stock.

Future sales of substantial amounts of our common stock by us or our existing stockholders could cause our stock price to fall.

Additional equity financings or other share issuances by us could adversely affect the market price of our common stock. Sales by existing stockholders of a large number of shares of our common stock in the public trading market (or in private transactions) including sales by our executive officers, directors or venture capital funds, or the perception that such additional sales could occur, could cause the market price of our common stock to drop.

Provisions in our charter documents, our stockholder rights plan and Delaware law may delay or prevent an acquisition of our company.

Our certificate of incorporation and bylaws contain provisions that could make it harder for a third party to acquire us without the consent of our board of directors. For example, if a potential acquirer were to make a hostile bid for us, the acquirer would not be able to call a special meeting of stockholders to remove our board of directors or act by written consent without a meeting. In addition, our board of directors has staggered terms, which means that replacing a majority of our directors would require at least two annual meetings. The acquirer would also be required to provide advance notice of its proposal to replace directors at any annual meeting, and would not be able to cumulate votes at a meeting, which would require the acquirer to hold more shares to gain representation on the board of directors than if cumulative voting were permitted. In addition, we are a party to a stockholder rights agreement, which effectively prohibits a person from acquiring more than 15% (subject to certain exceptions) of our common stock without the approval of our board of directors. Furthermore, Section 203 of the Delaware General Corporation Law limits business combination transactions with 15% stockholders that have not been approved by the board of directors. All of these factors make it more difficult for a third party to acquire us without negotiation. These provisions may apply even if the offer may be considered beneficial by some stockholders. Our board of directors could choose not to negotiate with an acquirer that it does not believe is in our strategic interests. If an acquirer is discouraged from offering to acquire us or prevented from successfully completing a hostile acquisition by these or other measures, you could lose the opportunity to sell your shares at a favorable price.

Item 6.Exhibits

(a) Exhibits


Exhibit
Number		Description

31.1		302 Certifications
32.1		906 Certification

Availability of this Report

We intend to make this quarterly report on Form 10-Q publicly available on our website (www.callidussoftware.com) without charge immediately following our filing with the Securities and Exchange Commission. We assume no obligation to update or revise any forward-looking statements in this quarterly report on Form 10-Q, whether as a result of new information, future events or otherwise, unless we are required to do so by law.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized on November 7, 2008.


	CALLIDUS SOFTWARE INC.
	By:	/s/ RONALD J. FIOR
		Ronald J. Fior
		Chief Financial Officer, Senior Vice President, Finance and Operations

EXHIBIT INDEX
TO
CALLIDUS SOFTWARE INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2008


Exhibit
Number		Description

31.1		302 Certifications
32.1		906 Certification

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. sophomore Avg

Callidus Software (CALD) Inactive 10-Q2008 Q3 Quarterly report

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