e10vq
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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
OR
     
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 000-29637
SELECTICA, INC.
(Exact Name of Registrant as Specified in Its Charter)
     
DELAWARE
(State of Incorporation)
  77-0432030
(IRS Employer Identification No.)
1740 Technology Drive, Suite 450, San Jose, CA 95110-2111
(Address of Principal Executive Offices)
(408) 570-9700
(Registrant’s Telephone Number, Including Area Code)
     Indicate by a check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days. YES þ NO o
     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
             
Large accelerated filer o   Accelerated filer o   Non-accelerated filer o   Smaller reporting company þ
    (Do not check if a smaller reporting company)
     Indicate by check mark whether the registrant is a shell company as defined in Rule 12b-2 of the Exchange Act. YES o NO þ
     The number of shares outstanding of the registrant’s common stock, par value $0.0001 per share, as of October 31, 2008, was 28,722,577.
 
 

 


 

FORM 10-Q
SELECTICA, INC.
INDEX
         
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    4  
 
       
    5  
 
       
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    19  
 
       
    20  
 
       
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    22  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    30  
 
       
    31  
 EX-31.1
 EX-32.1

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Cautionary Statement Pursuant to Safe Harbor Provision of the Private Securities Litigation Reform Act of 1995
The words “Selectica”, “we”, “our”, “ours”, “us”, and the “Company” refer to Selectica, Inc. In addition to historical information, this quarterly report on Form 10-Q contains forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors.” You should carefully review the risks described in other documents the Company files from time to time with the Securities and Exchange Commission. Readers are cautioned not to place undue reliance on the forward-looking statements, including statements regarding the Company’s expectations, beliefs, intentions or strategies regarding the future, which speak only as of the date of this quarterly report on Form 10-Q. The Company undertakes no obligation to release publicly any updates to the forward-looking statements included herein after the date of this document.

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PART I: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
SELECTICA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
                 
    September 30,     March 31,  
    2008     2008  
    (unaudited)          
 
             
Assets
               
Current assets:
               
Cash and cash equivalents
  $ 24,093     $ 22,137  
Short-term investments
    6,462       13,076  
Accounts receivable, net of allowance for doubtful accounts of $25 and $0, respectively
    2,559       1,330  
Prepaid expenses and other current assets
    634       919  
 
           
Total current assets
    33,748       37,462  
 
Property and equipment, net
    1,851       2,185  
Other assets
    759       593  
 
           
Total assets
  $ 36,358     $ 40,240  
 
           
 
Liabilities and Stockholders’ Equity
               
Current liabilities:
               
Current portion of note payable to Versata
  $ 786     $ 786  
Accounts payable
    781       518  
Current portion of accrual for restructuring liability
    2,008       1,937  
Accrued payroll and related liabilities
    842       740  
Other accrued liabilities
    892       735  
Deferred revenues
    3,396       1,984  
 
           
Total current liabilities
    8,705       6,700  
 
Accrual for restructuring liability, net of current portion
    297       924  
Note payable to Versata, net of current portion
    4,853       5,113  
Other long-term liabilities
    267       245  
 
           
Total liabilities
    14,122       12,982  
 
Stockholders’ equity:
               
Common stock
    4       4  
Additional paid-in capital
    301,085       300,939  
Accumulated deficit
    (245,923 )     (240,783 )
Accumulated other comprehensive income (loss)
    (24 )     4  
Treasury stock
    (32,906 )     (32,906 )
 
           
Total stockholders’ equity
    22,236       27,258  
 
           
Total liabilities and stockholders’ equity
  $ 36,358     $ 40,240  
 
           
The accompanying notes are an integral part of these condensed consolidated financial statements.

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SELECTICA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) (UNAUDITED)
                                 
    Three Months Ended     Six Months Ended  
    September 30,     September 30,  
    2008     2007     2008     2007  
Revenues:
                               
License
  $ 156     $ 1,091     $ 912     $ 2,802  
Services
    2,979       2,891       5,990       5,521  
 
                       
Total revenues
    3,135       3,982       6,902       8,323  
Cost of revenues:
                               
License
    51       53       102       112  
Services
    1,159       885       2,345       1,903  
Total cost of revenues
    1,210       938       2,447       2,015  
 
                       
Gross profit
    1,925       3,044       4,455       6,308  
Operating expenses:
                               
Research and development
    970       1,139       2,117       2,317  
Sales and marketing
    1,353       1,136       3,114       3,061  
General and administrative
    1,842       1,360       2,974       2,738  
Legal settlement
          16,118       47       16,118  
Restructuring
    293       572       673       662  
Professional fees related to stock option investigation
    16       1,297       35       3,148  
 
                       
Total operating expenses
    4,474       21,622       8,960       28,044  
 
                       
Loss from operations
    (2,549 )     (18,578 )     (4,505 )     (21,736 )
Interest and other income (expense), net
    (382 )     800       (598 )     1,868  
 
                       
Loss before provision for income taxes
    (2,931 )     (17,778 )     (5,103 )     (19,868 )
Provision for income taxes
    19       38       37       244  
 
                       
Net loss
  $ (2,950 )   $ (17,816 )   $ (5,140 )   $ (20,112 )
 
                       
Basic and diluted net loss per share
  $ (0.10 )   $ (0.63 )   $ (0.18 )   $ (0.71 )
 
                       
Weighted-average shares of common stock used in computing basic and diluted net loss per share
    28,712       28,407       28,703       28,407  
The accompanying notes are an integral part of these condensed consolidated financial statements.

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SELECTICA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
                 
    Six Months Ended  
    September 30,  
    2008     2007  
Operating activities
               
Net loss
  $ (5,140 )   $ (20,112 )
Adjustments to reconcile net loss to net cash used in operating activities:
               
Depreciation
    198       228  
Amortization
    52       104  
(Gain)/loss on disposition of property and equipment
    81       (90 )
Stock-based compensation
    146       346  
Changes in assets and liabilities:
               
Accounts receivable, net
    (1,229 )     (222 )
Prepaid expenses and other current assets
    284       (256 )
Other assets
    (217 )     (112 )
Accounts payable
    263       (785 )
Accrual for restructuring liabilities
    (556 )      
Accrued payroll and related liabilities
    102       (4 )
Other accrued liabilities and long-term liabilities
    50       14,334  
Deferred revenues
    1,679       (7 )
 
           
Net cash used in operating activities
    (4,287 )     (6,576 )
 
           
 
Investing activities
               
Purchase of capital assets
    (115 )     (81 )
Purchase of short-term investments
    (6,582 )     (44,186 )
Proceeds from maturities of short-term investments
    12,937       35,612  
Proceeds from maturities of long-term investments
          1,009  
Proceeds from disposal of fixed assets
    11       6  
 
           
Net cash provided by (used in) investing activities
    6,251       (7,640 )
 
           
 
Financing activities
               
Principal payments on note payable to Versata
    (400 )      
 
             
Net cash used in financing activities
    (400 )      
 
           
Effect of exchange rate changes on cash
    392        
 
           
 
Net increase (decrease) in cash and cash equivalents
    1,956       (14,216 )
Cash and cash equivalents at beginning of the period
    22,137       30,165  
 
           
Cash and cash equivalents at end of the period
  $ 24,093     $ 15,949  
 
           
The accompanying notes are an integral part of these condensed consolidated financial statements.

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SELECTICA, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Presentation
     The condensed consolidated balance sheet as of September 30, 2008, the condensed consolidated statements of operations for the three and six months ended September 30, 2008 and 2007, and the condensed consolidated statements of cash flows for the six months ended September 30, 2008 and 2007 have been prepared by the Company and are unaudited. In the opinion of management, all necessary adjustments (including normal recurring adjustments) have been made to present fairly the financial position at September 30, 2008, and the results of operations and cash flows for the three and six months ended September 30, 2008 and 2007, respectively. Interim results are not necessarily indicative of the results for a full fiscal year. The condensed consolidated balance sheet as of March 31, 2008 has been derived from the audited consolidated financial statements at that date.
     Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted. These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes included in the Company’s Annual Report on Form 10-KSB for the year ended March 31, 2008.
2. Summary of Significant Accounting Policies
     There have been no material changes to any of our critical accounting policies and estimates as disclosed in our report on Form 10-KSB for the year ended March 31, 2008.
Customer Concentrations
     A limited number of customers have historically accounted for a substantial portion of the Company’s revenues.
     Customers who accounted for at least 10% of total revenues were as follows:
                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   2008   2007
Customer A
    26 %     45 %     23 %     28 %
Customer B
    10 %     *       *       10 %
Customer C
    13 %     11 %     11 %     10 %
 
*   Customer account was less than 10% of total revenues.
     Customers who accounted for at least 10% of net accounts receivable were as follows:
                 
    September 30,   March 31,
    2008   2008
Customer A
    33 %     15 %
Customer B
    *       15 %
Customer C
    10 %     15 %
Customer D
    *       12 %
Customer E
    *       10 %
 
*   Customer account was less than 10% of net accounts receivable.

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Fair Value Measurements
     The following table summarizes the Company’s financial assets measured at fair value on a recurring basis in accordance with SFAS No. 157 as of September 30, 2008 (in thousands):
                         
            Quoted Prices in        
            Active Markets for     Significant Other  
    Balance as of     Identical Assets     Observable Inputs  
Description   September 30, 2008     (Level 1)     (Level 2)  
Cash equivalents:
                       
Money market funds
  $ 18,529     $ 18,529     $  
Certificates of deposit
    687             687  
Commercial paper
    3,729             3,729  
Short-term investments:
                       
Corporate bonds
    1,375             1,375  
Certificates of deposit
    3,838             3,838  
Commercial paper
    1,248             1,248  
 
                 
 
  $ 29,406     $ 18,529     $ 10,877  
 
                 
     The Company’s financial assets and liabilities are valued using market prices on both active markets (Level 1) and less active markets (Level 2). Level 1 instrument valuations are obtained from real-time quotes for transactions in active exchange markets involving identical assets. Level 2 instrument valuations are obtained from readily-available pricing sources for comparable instruments. As of September 30, 2008, the Company did not have any assets or liabilities without observable market values that would require a high level of judgment to determine fair value (Level 3 assets).
Accumulated and Other Comprehensive Income
     Statement of Financial Accounting Standards No. 130 “Reporting Comprehensive Income” (“SFAS 130”) establishes standards for reporting and displaying comprehensive net income or loss and its components in stockholders’ equity. However, it has no impact on the net loss as presented in the Company’s condensed consolidated statements of operations. Accumulated other comprehensive income is comprised of net unrealized gains and (losses) on available for sale securities of $(24,000) and $4,000 at September 30, 2008 and March 31, 2008, respectively.
     The components of comprehensive loss, net of related income tax, for the three and six months ended September 30, 2008 and 2007 are as follows:
                                 
    Three Months Ended     Six Months Ended  
    September 30,     September 30,  
    2008     2007     2008     2007  
    (In thousands)  
Net loss
  $ (2,950 )   $ (17,816 )   $ (5,140 )   $ (20,112 )
Change in unrealized gain on securities
    (24 )     (79 )     (27 )     24  
 
                       
Comprehensive loss
  $ (2,974 )   $ (17,895 )   $ (5,167 )   $ (20,088 )
 
                       

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]

Segment Information
     The following is a summary of our net revenues, costs of sales, gross profit and income (loss) from operations by segment and consolidated total for the periods presented below (in thousands):
                                 
    Three Months Ended     Six Months Ended  
    September 30,     September 30,  
    2008     2007     2008     2007  
            (in thousands)          
Sales Configuration Solutions:
                               
Revenues
  $ 1,692     $ 3,054     $ 3,633     $ 6,016  
Cost of Sales
    368       567       868       1,246  
 
                       
Gross Profit
    1,324       2,487       2,765       4,770  
Income from Operations
    645       1,895       1,110       3,493  
 
                               
Contract Management Solutions:
                               
Revenues
    1,443       928       3,268       2,307  
Cost of Sales
    842       371       1,580       769  
 
                       
Gross Profit
    601       557       1,688       1,538  
Loss from Operations
    (1,043 )     (1,126 )     (1,888 )     (2,563 )
 
                               
Unallocated Corporate Expenses
    (2,151 )     (19,347 )     (3,729 )     (22,666 )
 
                               
Consolidated:
                               
Revenues
    3,135       3,982       6,902       8,323  
Cost of Sales
    1,210       938       2,447       2,015  
 
                       
Gross Profit
    1,925       3,044       4,455       6,308  
Loss from Operations
  $ (2,549 )   $ (18,578 )   $ (4,505 )   $ (21,736 )
3. Income Taxes
     On April 1, 2007, the Company adopted Financial Accounting Standards Board Interpretation No. 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes.” FIN 48 clarifies the accounting for uncertainty in income taxes and prescribes a recognition threshold, measurement attribute for the financial statement recognition and measurement of a tax position taken, or expected to be taken, in a tax return. Under FIN 48, the Company is required to recognize in the financial statements the impact of a tax position, if that position is more likely than not of being sustained on audit, based on the technical merits of the position. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods and disclosure. The Company policy is to record interest and penalties related to unrecognized tax benefits in income tax expense.
     As of March 31, 2008, the Company has accrued $130,000 of income tax expense and $20,000 of interest and penalties as a result of Selectica India Private Ltd.’s branch operations within the U.S. resulting in an increase on the Company’s effective tax rate. In addition, at March 31, 2008, the Company had $1.41 million of unrecognized tax benefits which was netted against deferred tax assets with a full valuation allowance or other fully reserved amounts, and if recognized there will be no effect on the Company’s effective tax rate.
     The Company’s Federal, state, and foreign tax returns are subject to examination by the tax authorities from 1997 to 2007 due to net operating losses and tax carryforwards unutilized from such years.

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4. Stock-Based Compensation
     Effective April 1, 2006, the Company adopted the provisions of Statement of Financial Accounting Standards No. 123R “No. 123 (Revised 2004): Share-Based Payment” (“SFAS 123R”). SFAS 123R establishes accounting for stock-based awards exchanged for employee services. Accordingly, stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over the requisite service period, which is the vesting period. All of the Company’s stock compensation is accounted for as an equity instrument. The Company previously applied APB No. 25 and related interpretations and provided the required pro forma disclosures of SFAS No. 123.
     Equity Incentive Program
     The Company’s equity incentive program is a broad-based, retention program comprised of stock option plans and an employee stock purchase plan designed to align stockholder and employee interests. For a description of the Company’s equity plans, see the notes to consolidated financial statements contained in the Company’s Annual Report on Form 10-KSB for the year ended March 31, 2008.
     There were 478,456 units of restricted stock issued during the three months ended September 30, 2008.
     Valuation Assumptions
          The Company estimates the fair value of each stock option on the date of grant using a Black-Scholes option-pricing model, consistent with the provisions of SFAS No. 123R and SAB No. 107. The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by the stock price as well as assumptions regarding a number of complex and subjective variables. These variables include expected stock price volatility over the term of the awards, actual and projected employee stock option exercise behaviors, risk-free interest rate and expected dividends.
          The Company estimates the expected term of options granted by calculating the average term from the Company’s historical stock option exercise experience. The Company estimates the volatility of its stock options by using historical volatility in accordance with SAB No. 107. The Company believes its historical volatility is representative of its estimate of expectations of the expected term of its equity instruments. The Company bases the risk-free interest rate that is used in the option-pricing model on U.S. Treasury zero-coupon issues with remaining terms similar to the expected term on the options. The Company does not anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option-pricing model. The Company is required to estimate forfeitures at the time of grant and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. The Company uses predicted data to estimate pre-vesting option forfeitures and record stock-based compensation expense only for those awards that are expected to vest. All share based payment awards are amortized on a straight-line basis over the requisite service periods of the awards, which are the vesting periods.
          If factors change and the Company employs different assumptions for estimating stock-based compensation expense in future periods or if it decides to use a different option-pricing model, the future periods may differ significantly from what has been recorded in the current period and could materially affect operating income (loss), net income (loss) and net income (loss) per share.
          The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable, characteristics not present in our option grants and employee stock purchase plan shares. Existing option-pricing models, including the Black-Scholes and lattice binomial models, may not provide reliable measures of the fair values of our stock-based compensation. Consequently, there is a risk that the Company’s estimates of the fair values of its stock-based compensation awards on the grant dates may bear little resemblance to the actual values realized upon the exercise, expiration, early termination or forfeiture of those stock-based payments in the future. Certain stock-based payments, such as employee stock options, may expire worthless or otherwise result in zero intrinsic value as compared to the fair values originally estimated on the grant date and reported in our financial statements. Alternatively, value may be realized from these instruments that are significantly higher than the fair values originally estimated on the grant date and reported in the Company’s financial statements. There currently is no market-based mechanism or other practical application to verify the reliability and accuracy of the estimates stemming from these option-pricing models, nor is there a means to compare and adjust the estimates to actual values.

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          The Company calculated the fair value of its employee stock options at the date of grant with the following weighted average assumptions:
                 
    Three Months Ended September 30,
    2008   2007
Risk-free interest rate
    2.34 %     N/A  
Dividend yield
    0.00 %     N/A  
Expected volatility
    39.95 %     N/A  
Expected option life in years
    3.07       N/A  
     The following table summarizes activity under the equity incentive plans for the indicated periods:
                         
            Options Outstanding
    Shares available           Weighted-average
    for grant   Number of shares   exercise price
    (in thousands)        
Outstanding at June 30, 2008
    14,201       1,789     $ 3.26  
Options granted
    (85 )     85       1.13  
Options cancelled
    460       (460 )     2.00  
 
                       
Outstanding at September 30, 2008
    14,576       1,414     $ 3.63  
 
                       
     The weighted average term for exercisable options is 5.67 years. The intrinsic value is calculated as the difference between the market value as of September 30, 2008 and the exercise price of the shares. The market value of the Company’s common stock as of September 30, 2008 was $1.01 as reported by the NASDAQ National Market. The aggregate intrinsic value of stock options outstanding at September 30, 2008 was $0. The aggregate intrinsic value of stock options outstanding at September 30, 2007 was $4,485, of which $0 was related to exercisable options.
     The options outstanding and exercisable at September 30, 2008 were in the following exercise price ranges:
                                                
    Options Outstanding   Options Vested
            Weighted-                
    Number of     Average             Weighted-  
    Outstanding     Remaining             Average  
          Range of   Shares as of     Contractual     Options Vested at     Exercise  
Exercise Prices per share   September 30, 2008     Life (in years)     September 30, 2008     Price per share  
    (in thousands except for per share amount)
$1.12 — $  1.81
    388,490       7.65       51,248     $ 1.73  
$1.89 — $  2.52
    317,353       8.86       64,171       2.01  
$2.75 — $  3.53
    317,375       6.30       269,918       3.21  
$3.54 — $52.70
    231,646       3.88       231,646       4.99  
 
                               
 
    1,254,864       6.92       616,983     $ 3.63  
     The following table summarizes the Company’s outstanding weighted average options for the indicated periods:
                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   2008   2007
Weighted average options with strike price below FMV
          25,000             83,500  
Weighted average options with strike price at FMV
                       
Weighted average options with strike price above FMV
    1,254,864       2,821,158       1,254,864       2,762,158  
     During the three months ended September 30, 2008, the Company granted 85,000 shares of stock options. The weighted average remaining contractual term of all options exercisable at September 30, 2008 is 6.9 years. SFAS No. 123R requires forfeitures to be estimated at the time of grant and revised if necessary in subsequent periods if actual forfeitures differ from those estimates. Based on the Company’s estimates of future forfeiture rates, the Company has assumed an annualized forfeiture rate of 22.87% for its options.

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1999 Employee Stock Purchase Plan (“ESPP”)
     The price paid for the Company’s common stock purchased under the ESPP is equal to 85% of the lower of the fair market value of the Company’s common stock at the beginning of each offering period or at the end of each offering period. The compensation cost in connection with the ESPP for the three and six months ended September 30, 2008 was $(1,550) and $31,326, respectively. The compensation expense in connection with the ESPP for the three and six months ended September 30, 2007 was $6,003 and $14,905. During the three months ended September 30, 2008 there were 28,035 shares issued under the ESPP with a weighted average purchase price of $0.94 per share. During the three and six months ended September 30, 2007, there were no shares issued under the ESPP due to the ongoing stock option investigation.
     The Company calculated the fair value of rights granted under its employee stock purchase plan at the date of grant using the following weighted average assumptions:
                 
    Six Months Ended
    September 30,
    2008   2007
Risk-free interest rate
    2.81 %     4.64 %
Dividend yield
    0.00 %     0.00 %
Expected volatility
    34.35 %     55.10 %
Expected life in years
    1.25       1.25  
5. Computation of Basic and Diluted Net Loss per Share
     Basic and diluted net loss per common share is presented in conformity with SFAS No. 128, "Earnings per Share” (“SFAS 128”), for all periods presented. In accordance with SFAS 128, basic and diluted net loss per share has been computed using the weighted-average number of shares of common stock outstanding during the period. The diluted net loss per share is equivalent to the basic net loss per share because the Company has experienced losses in all periods presented and thus no potential common shares from the exercise of stock options have been included in the net loss per share calculation.
6. Litigation and Contingencies
     The Company is subject to certain routine legal proceedings, as well as demands, claims and threatened litigation, that arise in the normal course of its business. The Company believes that the ultimate amount of liability, if any, for any pending claims of any type, except for the items described in the Company’s Annual Report on Form 10-KSB for the year ended March 31, 2008, (either alone or combined) will not materially affect its financial position, results of operations or liquidity.
7. Restructuring
     On June 30, 2008, the Company entered into a Separation Arrangement (“Separation Agreement”) with its former CEO, Robert Jurkowski. Pursuant to the terms of the Separation Agreement, Mr. Jurkowski’s employment with the Company terminated on June 30, 2008. Mr. Jurkowski also resigned as a member of the Company’s Board of Directors effective June 30, 2008. Under the Separation Agreement, Mr. Jurkowski received a payment of $45,000 representing his target bonus for the first quarter of fiscal 2009 and also a payment of $180,000 equal to six months of his base salary on July 10, 2008. The Company will also continue to pay Mr. Jurkowski payments equal to six months of his base salary and health insurance premiums for himself and his dependents until June 30, 2009. These amounts have been accrued for as of June 30, 2008. Mr. Jurkowski’s outstanding issuances of restricted stock were cancelled and a $400,823 non-cash stock-based compensation expense reduction was recorded in the Company’s statements of operations for the quarter ended June 30, 2008.
     During the six months ended September 30, 2008, the Company continued with cost reduction efforts. The restructuring accrual and the related utilization for the fiscal years ended March 31, 2008, 2007, and for the six months ended September 30, 2008 were as follows (in thousands):

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    Severance and   Excess  
    Benefits   Facilities   Total
Balance, March 31, 2006
                 
Additional accruals
    $488       $6,392       $6,880  
Amounts paid in cash
    (385 )     (652 )     (1,037 )
 
                       
Balance, March 31, 2007
    103       5,740       5,843  
Additional accruals
    300       436       736  
Amounts paid in cash
    (277 )     (2,974 )     (3,251 )
Loan to Sublessee
          (497 )     (497 )
 
                       
Balance, March 31, 2008
    126       2,705       2,831  
Additional accruals
    0       30       30  
Amounts paid in cash
    (109 )     (910 )     (1,019 )
Loan to Sublessee
          463       463  
 
                       
Balance, September 30, 2008
    $17       $2,288       $2,305  
 
                       
8. Recent Accounting Pronouncements
     In March 2008, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 161, Disclosures about Derivative Instruments and Hedging Activities. SFAS No. 161 requires companies with derivative instruments to disclose information that should enable financial-statement users to understand how and why a company uses derivative instruments, how derivative instruments and related hedged items are accounted for under SFAS No. 133 Accounting for Derivative Instruments and Hedging Activities and how derivative instruments and related hedged items affect a company’s financial position, financial performance and cash flows. SFAS No. 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. We are currently evaluating the effect, if any, the adoption of SFAS No. 161 would have on its consolidated results of operations, financial position and cash flows.
     In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations. SFAS No. 141R will establish new principles and requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, any non-controlling interest in the acquiree and the goodwill acquired. Among the more significant changes from existing principles and requirements, SFAS No. 141R expands the definition of a business and a business combination; requires that all assets, liabilities and non-controlling interests (including goodwill) acquired in a business combination, whether full or partial, be recorded at fair value; requires acquisition related expenses and restructuring costs to be expensed as incurred rather than included as part of the acquisition cost; requires contingent assets, liabilities and contingent consideration to be recognized at fair value at the date of acquisition with subsequent changes recognized in earnings; requires changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period to be recognized as adjustments to income tax expense; and requires in-process research and development to be capitalized at fair value as an indefinite-lived asset and then amortized over its useful life when development is complete. SFAS No. 141R also establishes disclosure requirements to enable the evaluation of the nature and financial effects of the business combination. SFAS No. 141R is effective for fiscal years beginning after December 15, 2008. We are currently evaluating the potential impact of SFAS No. 141R.

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ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
     In addition to historical information, this quarterly report contains forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. Factors that might cause or contribute to such differences include, but are not limited to, those discussed in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” as well as in Part II Item 1A “Risk Factors.” Actual results could differ materially. Important factors that could cause actual results to differ materially include, but are not limited to; the level of demand for Selectica’s products and services; the intensity of competition; Selectica’s ability to effectively manage product transitions and to continue to expand and improve internal infrastructure; risks associated with potential acquisitions; and adverse financial, customer and employee consequences that might result to us if litigation were to be resolved in an adverse manner to us. For a more detailed discussion of the risks relating to our business, readers should refer to Part II Item 1A found later in this report entitled “Risks Factors.” Readers are cautioned not to place undue reliance on the forward-looking statements, including statements regarding our expectations, beliefs, intentions or strategies regarding the future, which speak only as of the date of this quarterly report. We assume no obligation to update these forward-looking statements.
Overview
     We provide Sales Configuration (SC) and Contract Management (CM) software solutions that allow enterprises to efficiently manage sell-side business processes. Our solutions include software, on demand hosting, professional services and expertise. Our SC products enable customers to increase revenues and reduce costs through seamless, web-enabled automation of the “quote to contract” business processes, which reside between legacy Customer Relationship Management (CRM) and Enterprise Resource Planning (ERP) systems. These products are built using Java technology and utilize a unique business logic engine, repository, and a multi-threaded architecture. This design reduces the amount of memory used to support new user sessions and to deploy a cost-effective, robust and highly scalable, Internet-enhanced sales channel.
     Our CM products enable customers to create, manage and analyze contracts in a single, easy to use repository and are offered as an on-premise or hosted solution. Our software enables any and all corporate departments (e.g. Sales, Services, Procurement, Finance, IT and others) to model their specific contracting processes using our application and to manage the lifecycle of the department’s relationships with the counterparty from creation through closure.
Quarterly Financial Overview
     For the three months ended September 30, 2008, our revenues were approximately $3.1 million with license revenues representing 5% and services revenues representing 95% of total revenues. In addition, approximately 49% of our quarterly revenues came from three customers. License margins for the quarter were 67% and services margins were 61%. Net loss for the quarter was approximately $3.0 million or $(0.10) per share. For the three months ended September 30, 2007, our revenues were approximately $4.0 million with license revenues representing 27% and services revenues representing 73% of total revenues. In addition, approximately 54% of our quarterly revenues came from two customers. License margins for the quarter were 95% and services margins were 69%. Net loss for the quarter was approximately $17.8 million or $(0.63) per share, including $16.1 million relating to a legal settlement.
Critical Accounting Policies and Estimates
     There have been no material changes to any of our critical accounting policies and estimates as disclosed in our report on Form 10-KSB for the year ended March 31, 2008.
Factors Affecting Operating Results
          A small number of customers account for a significant portion of our total revenues. We expect that our revenue will continue to depend upon a limited number of customers. If we were to lose a large customer, it would have a significant impact upon future revenue. Customers who accounted for at least 10% of total revenues were as follows:

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    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   2008   2007
Customer A
    26 %     45 %     23 %     28 %
Customer B
    10 %     *       *       10 %
Customer C
    13 %     11 %     11 %     10 %
 
*   Customer account was less than 10% of total revenues.
     We have incurred significant losses since inception and, as of September 30, 2008, we had an accumulated deficit of approximately $246 million. We believe our success depends on the growth of our customer base and the development of the emerging configuration, pricing management, quoting solutions and the contract management and compliance market.
     In view of the rapidly changing nature of our business, we believe that period-to-period comparisons of revenues and operating results are not necessarily meaningful and should not be relied upon as indications of future performance. Our operating history has been volatile and makes it difficult to forecast future operating results. This was evidenced by the decline in revenue in fiscal 2008 and 2007.
     Because our services tend to be specific to each customer and how that customer will use our products, and because each customer sets different acceptance criteria, it is difficult for us to accurately forecast the amount of revenue that will be recognized on any particular customer contract during any quarter or fiscal year. As a result, we base our revenue estimates, and our determination of associated expense levels, on our analysis of the likely revenue recognition events under each contract during a particular period. Although the value of customer contracts signed during any particular quarter or fiscal year is not an accurate indicator of revenues that will be recognized during any particular quarter or fiscal year, in general, if the value of customer contracts signed in any particular quarter or fiscal year is lower than expected, revenue recognized in future quarters and fiscal years will likely be negatively effected.
Results of Operations:
Revenues
                                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   Change   2008   2007   Change
    (in thousands, except percentages)
License
  $ 156     $ 1,091     $ (935 )   $ 912     $ 2,802     $ (1,890 )
Percentage of total revenues
    5 %     27 %     (86 %)     13 %     34 %     (67 %)
Services
  $ 2,979     $ 2,891     $ 88     $ 5,990     $ 5,521     $ 469  
Percentage of total revenues
    95 %     73 %     3 %     87 %     66 %     8 %
Total revenues
  $ 3,135     $ 3,982     $ (847 )   $ 6,902     $ 8,323     $ (1,421 )
     License. For the three and six months ending September 30, 2008, license revenues decreased by approximately $0.9 million and $1.9 million, respectively, compared to the three and six months ending September 30, 2007. These declines were due primarily to declines in license revenues from our sales configuration business as we changed our focus to a more channel-driven model. We expect license revenues to continue to fluctuate in future periods as a percentage of total revenues and in absolute dollars depending on the number and size of new license contracts.
     Services. Services revenues are comprised of fees from consulting, maintenance, training, subscription revenue and out-of pocket reimbursement. During the three and six months ending September 30, 2008, services revenues increased $0.1 million and $0.5 million, respectively, compared to the period ending September 30, 2007. The increase primarily related to more subscription revenues

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provided by new subscription agreements in the CM business unit. Maintenance revenues represented 45% and 62% of total services revenues for the three months ended September 30, 2008, and 2007, respectively. Maintenance revenues represented 46% and 63% of total services revenues for the six months ended September 30, 2008 and 2007, respectively.
     We expect services revenues to continue to fluctuate in future periods as a percentage of total revenues and in absolute dollars. This will depend on the number and size of new software implementations and follow-on services to our existing customers. We expect maintenance revenue to fluctuate in absolute dollars and as a percentage of services revenues with respect to the number of maintenance renewals, and number and size of new contracts. In addition, maintenance renewals are dependent upon customer satisfaction and the level of need to make changes or upgrade versions of our software by our customers. Fluctuations in services revenue are also due to timing of revenue recognition, achievement of milestones, customer acceptance, changes in scope or renegotiated terms, and additional services.
Cost of revenues
                                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   Change   2008   2007   Change
    (in thousands, except percentages)
Cost of license revenues
  $ 51     $ 53     $ (2 )   $ 102     $ 112     $ (10 )
Percentage of license revenues
    33 %     5 %     (4 %)     11 %     4 %     (9 %)
Cost of services revenues
  $ 1,159     $ 885     $ 274     $ 2,345     $ 1,903     $ 442  
Percentage of services revenues
    39 %     31 %     31 %     39 %     34 %     23 %
     Cost of License Revenues. Cost of license revenues consists of a fixed allocation of our research and development costs, the costs of the product media, duplication, packaging and delivery of our software products to our customers, which may include documentation, shipping, and other data transmission costs. We expect cost of license revenues to maintain a relatively consistent level in absolute dollars in fiscal 2009.
     Cost of Services Revenues. Cost of services revenues is comprised mainly of salaries and related expenses of our services organization plus certain allocated expenses. During the three and six months ended September 30, 2008, these costs increased 31% and 23%, respectively, compared to the same periods in 2007 primarily due to an increase of approximately $0.3 million and $0.4 million, respectively, in the CM business unit due to the addition of headcount and increased use of third-party consultants.
     We expect cost of services revenues to fluctuate as a percentage of service revenues and we plan to manage our investment in cost of services revenues in absolute dollars over the next year as necessary to balance expense levels with projected revenues.
Gross Margins
     Gross margin percentages for services revenues and license revenues for the respective periods are as follows:
                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   2008   2007
License
    67 %     95 %     89 %     96 %
Services
    61 %     69 %     61 %     66 %
     Gross Margin — Licenses. Because we have certain license costs that are fixed, margins will vary based on gross license revenue and product mix. We experienced significantly lower license gross margins during the three and six months ended September 30, 2008 compared to the three and six months ending September 30, 2007 primarily due to lower license revenues and relatively flat fixed license costs.
     Gross Margin — Services. Gross margin decreased to 61% for both the three and six months ended September 30, 2008, compared to 69% and 66% for the three and six months ended September 30, 2007, respectively, primarily due to an increase of approximately

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$0.3 million and $0.4 million, respectively, in the CM business unit due to the addition of headcount and increased use of third-party consultants.
     We expect that our overall gross margins will continue to fluctuate due to the timing of services and license revenue recognition and will continue to be adversely affected by lower margins associated with services revenues. The impact on our gross margin will depend on the mix of services we provide, whether the services are performed by our in-house staff or third party consultants, and the overall utilization rates of our professional services organization.
Operating Expenses
Research and Development Expenses
                                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   Change   2008   2007   Change
    (in thousands, except percentages)
Research and development
  $ 970     $ 1,139     $ (169 )   $ 2,117     $ 2,317     $ (200 )
Percentage of total revenues
    31 %     28 %     (15 %)     31 %     28 %     (9 %)
     Research and development expenses consist primarily of salaries and related costs of our engineering, quality assurance, technical publications efforts and certain allocated expenses. Research and development expenses decreased slightly during the three and six months ended September 30, 2008 compared to the three and six months ended September 30, 2007 and were primarily attributable to reductions in headcount and decreases in costs for facilities, overhead and benefits.
Sales and Marketing
                                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   Change   2008   2007   Change
    (in thousands, except percentages)
Sales and marketing
  $ 1,353     $ 1,136     $ 217     $ 3,114     $ 3,061     $ 53  
Percentage of total revenues
    43 %     28 %     19 %     45 %     37 %     2 %
     Sales and marketing expenses consist primarily of salaries and related costs for our sales and marketing organization, sales commissions, expenses for travel and entertainment, trade shows, public relations, collateral sales materials, advertising and certain allocated expenses. For the three months ended September 30, 2008, sales and marketing expenses increased compared to the same period in 2007, largely due to increases in staff in our CM unit. For the six months ended September 30, 2008, sales and marketing expenses were relatively unchanged.
General and Administrative and Professional fees related to stock option investigation
                                                 
    Three Months Ended   Six Months Ended
    September 30,   September 30,
    2008   2007   Change   2008   2007   Change
    (in thousands, except percentages)
General and administrative
  $ 1,842     $ 1,360     $ 482     $ 2,974     $ 2,738     $ 236  
Percentage of total revenues
    59 %     34 %     35 %     43 %     33 %     9 %

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     General and administrative expenses consist mainly of personnel and related costs for general corporate functions, including finance, accounting, legal, human resources, bad debt expense and certain allocated expenses. General and administrative expenses increased significantly in the three and six months ended September 30, 2008 compared to the same periods in 2007 primarily due to higher utilization of outside services in the areas of accounting and legal.
Interest and Other Income (Expense), Net
     Interest and other income (expense), net consists primarily of interest earned on cash balances and short-term investments along with the impact of currency fluctuations due to valuation adjustments, primarily in our Indian subsidiary. During the three months ended September 30, 2008 and September 30, 2007, interest and other income (expense), net totaled approximately $(0.4) million and $0.8 million, respectively. During the six months ended September 30, 2008 and September 30, 2007, interest and other income (expense), net totaled approximately $(0.6) million and $1.9 million, respectively. The decreases were due primarily to lower cash balances, lower interest rates on our cash and short-term investments balances and unfavorable foreign exchange rate movements against the U.S. dollar.
Provision for Income Taxes
     During the three months ended September 30, 2008 and 2007, we recorded income tax provisions of approximately $19,000 and $38,000, respectively. During the six months ended September 30, 2008 and 2007, we recorded income tax provisions of approximately $37,000 and $244,000, respectively. These amounts related to taxes due in foreign jurisdictions and nominal tax amounts for federal and states taxes in the U.S.
Liquidity and Capital Resources
                         
    September 30,   March 31,    
    2008   2008   Change
    (in thousands)
Cash, cash equivalents and short-term investments
  $ 30,555     $ 35,213     $ (4,658 )
Working capital
  $ 25,043     $ 30,762     $ (5,719 )
                 
    Six Months Ended
    September 30,
    2008   2007
    (in thousands)
Net cash used in operating activities
  $ (4,287 )   $ (6,576 )
Net cash provided by (used in) investing activities
  $ 6,251     $ (7,640 )
Net cash used in financing activities
  $ (400 )      
     Net cash used in operating activities was $4.3 million for the six months ended September 30, 2008, resulting primarily from our net loss of $5.1 million and a $1.2 million increase in accounts receivable. These decreases in cash flows from operating activities were partially offset by a $1.7 million increase in deferred revenues.
     Net cash used in operating activities was $6.6 million for the six months ended September 30, 2007, resulting primarily from our net loss of $20.1 million and a $0.8 million decrease in accounts payable. These decreases in cash flows from operating activities were partially offset by a $14.3 million increase in other accrued liabilities and long-term liabilities.
     Net cash provided by investing activities was $6.3 million for the six months ended September 30, 2008, which largely consisted of $6.4 million of net proceeds of short-term investments. Net cash used in investing activities was $7.6 million for the six months ended September 30, 2007, which largely consisted of $8.6 million of net purchases of short-term investments, partially offset by $1.0 million of proceeds of long-term investments.
     As a result of current adverse financial market conditions, investments in some financial instruments may pose risks arising from liquidity and credit concerns. Although we believe our current investment portfolio has very little risk of impairment, we cannot predict future market conditions or market liquidity and can provide no assurance that our investment portfolio will remain unimpaired.
     Net cash used in financing activities was $0.4 million for the six months ended September 30, 2008, which were principal payments on our note payable to Versata. There were no financing activities for the six months ended September 30, 2007.
Contractual Obligations
     We had no significant commitments for capital expenditures as of September 30, 2008. We expect to fund our future capital expenditures, liquidity and strategic operating programs from a combination of available cash balances and internally generated funds.

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We have no outside debt and do not have any plans to enter into borrowing arrangements. Our cash, cash equivalents, and short-term investment balances as of September 30, 2008 are adequate to fund our operations through at least the next twelve months.
     We do not anticipate any significant capital expenditures, payments due on long-term obligations, or other contractual obligations. However, management is continuing to review our cost structure to minimize non-revenue generating expenses and use of cash as we implement our planned business model changes. This activity may result in additional restructuring charges or severance and other benefits.
     As of September 30, 2008, there were no other material changes to our contractual obligations outside the ordinary course of business from those disclosed in our Annual Report on Form 10-KSB for the year ended March 31, 2008.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
     For quantitative and qualitative disclosures about market risk affecting us, See Item 3, “Quantitative and Qualitative Disclosures About Market Risk,” in our Quarterly Report on Form 10-Q for the three months ended June 30, 2008, which is incorporated herein by reference. Our exposure to market risk has not changed materially since June 30, 2008.

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ITEM 4: CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
     We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit to the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized, and reported within the time periods specified by the Securities and Exchange Commission’s rules and forms, and that information is accumulated and communicated to our management, including our principal executive and principal financial officers (whom we refer to in this periodic report as our Certifying Officers), as appropriate to allow timely decisions regarding required disclosure.
     As discussed below, we identified a material weakness in our internal control over financial reporting as of September 30, 2008. Accordingly, management has concluded that our disclosure controls and procedures were not effective as of September 30, 2008.
     On September 9, 2008, Richard Heaps was elected to be our Chief Financial Officer, replacing our former interim Chief Financial Officer, who served in that capacity following the resignation of our former Chief Financial Officer in June, 2008. Following his appointment, we initiated a review of our internal control over financial reporting.
     In the course of that review and the preparation of our financial statements for the quarter ended September 30, 2008, management noted several significant control deficiencies in our internal control over financial reporting. Management concluded that these deficiencies collectively amounted to a material weakness in our financial controls over financial reporting, whereas each individual item may not have by itself constituted a material weakness in those controls. A control deficiency exists when the design or operation of a control does not allow our management or employees, in the normal course of performing their assigned functions, to prevent or detect misstatements on a timely basis. A material weakness is a control deficiency, or combination of control deficiencies, that adversely affects our ability to initiate, authorize, record, process, or report financial data reliably in accordance with generally accepted accounting principles such that there is a more than remote likelihood that a misstatement of our financial statements that is more than inconsequential will not be prevented or detected.
     Among the items identified by management during the review were several significant deficiencies that resulted in adjustments and reclassifications to certain financial statement accounts, including the failure to record an entry in the proper period reversing a previously recorded expense due to the issuance of restricted stock to our former CEO. The error indicated a deficiency in the prior preparation and review of financial statements and related data. As a result, our financial statements for the first fiscal quarter of 2009 were appropriately modified and refiled prior to the filing of this report. We are in the process of implementing processes and procedures designed to remediate the control deficiencies we identified, in order to allow us to detect such changes and record them in the proper accounting period.

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Changes in Internal Control over Financial Reporting
     Except as described above, there were no changes in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Exchange Act Rule 13a-15 that was conducted during the quarter ended September 30, 2008 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Inherent Limitations on Effectiveness of Controls
     A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any within our Company have been detected.

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PART II: OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
Patent Infringement
     On October 20, 2006, Versata Software, Inc., formerly known as Trilogy Software Inc., and a related party (collectively, “Versata”) filed a complaint against us in the United States District Court for the Eastern District of Texas, Marshall Division, alleging that we have been and are willfully infringing, directly and indirectly, U.S. Patent Nos. 5,515,524, 5,708,798 and 6,002,854 (collectively, the “Versata Patents”) by making, using, licensing, selling, offering for sale, or importing configuration software and related services (the “Versata Lawsuit”). On October 9, 2007, we reached a settlement on the Versata Lawsuit. Under the terms of the settlement, we paid Versata $10.0 million on October 9, 2007 and agreed to pay an additional amount of not more than $7.5 million in quarterly payments. The quarterly payments are based on 10% of revenues from our Sales Configuration Solution’s (“SC”) products and services and a 50% revenue share of SC revenue from new SC customers that are currently Versata customers and to whom Versata makes an introduction to us. We agreed that our quarterly payments will be the greater of the sum calculated by the percentages of SC revenues or $200,000. Both parties entered into mutual releases, releasing any and all claims that they may have against the other occurring before the settlement date.
Other
     In the future we may be subject to other lawsuits, including claims relating to intellectual property matters or securities laws. Any litigation, even if not successful against us, could result in substantial costs and divert management’s and other resources away from the operations of our business. If successful against us, we could be liable for large damage awards and, in the case of patent litigation, subject to injunctions that significantly harm our business.
ITEM 1A: RISK FACTORS
     In addition to other information in this Form 10-Q, the following risk factors should be carefully considered in evaluating our business because such factors currently may have a significant impact on our business, operating results and financial condition. As a result of the risk factors set forth below and elsewhere in this Form 10-Q, and the risks discussed in our other Securities and Exchange Commission filings including our Form 10-KSB for our fiscal year ended March 31, 2008, actual results could differ materially from those projected in any forward-looking statements.
We have a history of significant losses and may incur significant losses in the future.
     We incurred net losses of approximately $3.0 million and $5.1 million for the three and six months ended September 30, 2008. We had an accumulated deficit of approximately $246 million as of September 30, 2008. We may continue to incur significant losses in the future for a number of reasons including the uncertainties around our ability to and the timing of the impact of our efforts to increase revenues and the timing around the impact of our cost reduction efforts. We continue to pursue opportunities to align research and development, sales and marketing, and general and administrative expenses in absolute dollars over the next year in order to better balance expense levels with projected revenues. We will need to generate significant increases in our revenues to achieve and maintain profitability. If our revenue fails to grow or grows more slowly than we currently anticipate or our operating expenses exceed our expectations, our losses will significantly increase which would significantly harm our business and operating results.
We do not know the impact of current economic conditions on our customers and our business.
     The United States and world economies currently face a number of economic challenges, including the availability of credit for businesses and consumers. The financial markets have been dramatically and adversely affected and many companies are either cutting back expenditures or delaying plans to add additional personnel or systems. If these conditions continue or worsen, the ability of our customers to pay for or obtain funding to pay for our products and services may be adversely affected which would then have a significant adverse impact on our ability to generate revenues and cash flow and may cause us to sustain further losses.
Recent personnel changes may have a material adverse effect on our business.
     We have recently experienced a number of management changes, including the departures of our Chief Executive Officer and Chief Financial Officer in June 2008 and the departures of the General Managers of our CM and SC businesses in July 2008 as well as the recent appointment of our new CFO. We believe these management changes will help to better align expenses and revenues and position us for improved operating results in the future, however, over the short term and potentially longer, these changes may have a material adverse effect on our financial condition and results of operations and during the transition have adversely impacted our disclosure and financial controls and procedures.

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We have relied and expect to continue to rely on orders from a relatively small number of customers for a substantial portion of our revenues, and the loss of any of these customers would significantly harm our business and operating results.
     Our revenues are dependent on orders from a relatively small number of customers. Our three largest customers accounted for approximately 49% and 34% of our revenues for the three and six months ended September 30, 2008, respectively. We expect that we will continue to depend upon a relatively small number of customers for a substantial portion of our revenues for the foreseeable future. As a result, if we fail to successfully sell our products and services to one or more large customers in any particular period or a large customer purchases fewer of our products or services, defers or cancels orders, or terminates its relationship with us, our business and operating results would be harmed. In addition, many of our orders are realized at the end of the quarter. As a result of this concentration and timing, our quarterly operating results, including average selling prices, may fluctuate significantly if we are unable to complete one or more substantial sales in any given quarter.
Our annual and quarterly revenues and operating results are inherently unpredictable and subject to fluctuations, and as a result, we may fail to meet the expectations of security analysts and investors, which could cause volatility or adversely affect the trading price of our common stock.
     We enter into arrangements for the sale of: (1) licenses of software products and related maintenance contracts; (2) services; (3) subscription for on-demand services; and (4) bundled license, maintenance, and services. In instances where maintenance is bundled with a license of software products, such maintenance term is typically one year.
     For each arrangement, we determine whether evidence of an arrangement exists, delivery has occurred, the fees are fixed or determinable, and collection is probable. If any of these criteria are not met, revenue recognition is deferred until such time as all of the criteria are met.
     Our annual and quarterly revenues may also fluctuate due to our inability to perform services, achieve specific milestones and obtain formal customer acceptance of specific elements of the overall completion of a project. As we provide such services and products, the timing of delivery and acceptance, changed conditions with the customers and projects could result in changes to the timing of our revenue recognition, and thus, our operating results.
     Likewise, if our customers do not renew maintenance services or purchase additional products, our operating results could suffer. Historically, we have derived and expect to continue to derive a significant portion of our total revenue from existing customers who purchase additional products or renew maintenance agreements. Our customers may not renew such maintenance agreements or expand the use of our products. In addition, as we introduce new products, our current customers may not require or desire the features of our new products. If our customers do not renew their subscriptions or maintenance agreements with us or choose not to purchase additional products, our operating results could suffer.
     Because we rely on a limited number of customers, the timing of customer acceptance or milestone achievement, or the amount of services we provide to a single customer can significantly affect our operating results or the failure to replace a significant customer. Because expenses are relatively fixed in the near term, any shortfall from anticipated revenues could cause our quarterly operating results to fall below anticipated levels.
     We may also experience seasonality in revenues. For example, our annual and quarterly results may fluctuate based upon our customers’ calendar year budgeting cycles. These seasonal variations may lead to fluctuations in our annual and quarterly revenues and operating results.
     Based upon the foregoing, we believe that period-to-period comparisons of our results of operations are not necessarily meaningful and that such comparisons should not be relied upon as indications of future performance. In some future period, our operating results may be below the expectations of public market analysts and investors, which could cause volatility or a decline in the price of our common stock.

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Management identified a material weakness in our internal control over financial reporting in the quarters ending June 30, 2008 and September 30, 2008. Failure to maintain effective internal control over financial reporting could result in our failure to accurately report our financial results.
In the quarters ending June 30, 2008 and September 30, 2008, management identified several significant deficiencies in our internal control over financial reporting that collectively constitute a material weakness in internal control over financial reporting. Management has remediated or is in the process of implementing new controls and procedures designed to remediate these significant deficiencies. If we are unable to remediate these significant deficiencies or if we experience additional significant deficiencies or material weaknesses in the future, we may be required to record material audit adjustments. As a result, investors may lose confidence in our ability to operate our business, any of which could materially affect our stock price.
If our new product marketing strategy is unsuccessful, it could significantly harm our business and operating results.
     We have recently revised our product marketing focus. We had previously positioned our company primarily as a seller of Sales Configuration (SC) software. However, we are now investing a significant portion of our internal resources into a second offering, our contract management products. If the market for these products is smaller than we anticipated or if our products fail to gain widespread acceptance in this market, our results of operations would be adversely affected. In addition, if there is a delay in bringing our new products to market, it would delay our ability to derive revenues from such products and our business and operating results could be significantly harmed.
     On July 1, 2008, we eliminated the position of General Manager of our Contract Management Business Unit. The elimination could adversely affect our new product marketing strategy.
Our future success depends on our proprietary intellectual property, and if we are unable to protect our intellectual property from potential competitors, our business may be significantly harmed.
     We rely on a combination of patent, trademark, trade secret and copyright law and contractual restrictions to protect the proprietary aspects of our technology. These legal protections afford only limited protection for our technology. We currently hold six patents in the United States. In addition, we have two trademarks registered in the United States, one trademark registered and one pending in South Korea, two trademarks registered in Canada and one trademark registered in European Community, and we have also applied to register another two trademarks in the United States. Our trademark applications might not result in the issuance of any trademarks. Our patents or any future issued trademarks might be invalidated or circumvented or otherwise fail to provide us any meaningful protection. We seek to protect the source code for our software, documentation and other written materials under trade secret and copyright laws. We license our software pursuant to license agreements, which impose certain restrictions on the licensee’s ability to utilize the software. We also seek to avoid disclosure of our intellectual property by requiring employees and consultants with access to our proprietary information to execute confidentiality agreements. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary. In addition, the laws of many countries do not protect our proprietary rights to as great an extent as do the laws of the United States. Litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets and to determine the

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validity and scope of the proprietary rights of others. Regardless of the outcome, such litigation may require us to incur significant legal expenses and management time. Our failure to adequately protect our intellectual property could have a material adverse effect on our business and operating results.
Our lengthy sales cycle for our products makes it difficult for us to forecast revenue and exacerbates the variability of quarterly fluctuations, which could cause our stock price to decline.
     The sales cycle of our products has historically averaged between nine to twelve months, and may sometimes be significantly longer. We are generally required to provide a significant level of education regarding the use and benefits of our products, and potential customers tend to engage in extensive internal reviews before making purchase decisions. In addition, the purchase of our products typically involves a significant commitment by our customers of capital and other resources, and is therefore subject to delays that are beyond our control, such as customers’ internal budgetary procedures and the testing and acceptance of new technologies that affect key operations. In addition, because we target large companies, our sales cycle can be lengthier due to the decision process in large organizations. As a result of our products’ long sales cycles, we face difficulty predicting the quarter in which sales to expected customers may occur. If anticipated sales from a specific customer for a particular quarter are not realized in that quarter, our operating results for that quarter could fall below the expectations of financial analysts and investors, which could cause our stock price to decline.
Developments in the market for enterprise software including contract management and sales configuration solutions may harm our operating results, which could cause a decline in the price of our common stock.
     The market for enterprise software including contract management and sales configuration solutions is evolving rapidly. In view of changing market trends, including vendor consolidation, the competitive environment growth rate and potential size of the market are difficult to assess. The growth of the market is dependent upon the willingness of businesses and consumers to purchase complex goods and services over the Internet and the acceptance of the Internet as a platform for business applications. In addition, companies that have already invested substantial resources in other methods of Internet selling may be reluctant or slow to adopt a new approach or application that may replace, limit or compete with their existing systems.
     The rapid change in the marketplace poses a number of concerns. The decrease in technology infrastructure spending may reduce the size of the market for contract management and sales configuration solutions. Our potential customers may decide to purchase more complete solutions offered by larger competitors instead of individual applications. If the market for contract management and sales configuration solutions is slow to develop, or if our customers purchase more fully integrated products, our business and operating results would be significantly harmed.
We face intense competition, which could reduce our sales, prevent us from achieving or maintaining profitability and inhibit our future growth.
     The market for software and services that enable electronic commerce is intensely competitive and rapidly changing. We expect competition to persist and intensify, which could result in price reductions, reduced gross margins and loss of market share. Our principal competitors include publicly-traded companies such as Oracle Corporation, Ariba, Open Text, I-Many and AT&T (through its acquisition of Comergent Technologies) as well as privately held companies such as Firepond, Upside Software, Nextance, Model N, DiCarta/Emptoris and Trilogy/Versata, all of which offer integrated solutions for electronic commerce incorporating some of the functionality of our configuration, pricing, contract management and quoting software.
     Our competitors may intensify their efforts in our market. In addition, other enterprise software companies may offer competitive products in the future. Competitors vary in size, in the scope and breadth of the products and services offered. Although we believe we have advantages over our competitors including the comprehensiveness of our solution, our use of Java technology and our multi-threaded architecture, some of our competitors and potential competitors have significant advantages over us, including:
    a longer operating history;
 
    preferred vendor status with our customers;
 
    more extensive name recognition and marketing power; and

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    significantly greater financial, technical, marketing and other resources, giving them the ability to respond more quickly to new or changing opportunities, technologies, and customer requirements.
     Our competitors may also bundle their products in a manner that may discourage users from purchasing our products. Current and potential competitors may establish cooperative relationships with each other or with third parties, or adopt aggressive pricing policies to gain market share. Competitive pressures may require us to reduce the prices of our products and services. We may not be able to maintain or expand our sales if competition increases, and we are unable to respond effectively.
If we do not keep pace with technological change, including maintaining interoperability of our products with the software and hardware platforms predominantly used by our customers, our products may be rendered obsolete, and our business may fail.
     Our industry is characterized by rapid technological change, changes in customer requirements, frequent new product and service introductions and enhancements and emerging industry standards. In order to achieve broad customer acceptance, our products must be compatible with major software and hardware platforms used by our customers. Our products currently operate on the Microsoft Windows NT, Sun Solaris, IBM AIX, J2EE, Linux and Microsoft Windows 2000 Operating Systems. In addition, our products are required to interoperate with electronic commerce applications and databases. We must continually modify and enhance our products to keep pace with changes in these operating systems, applications and databases. Our configuration, pricing and quoting products are complex, and new products and product enhancements can require long development and testing periods. If our products were to be incompatible with a popular new operating system, electronic commerce application or database, our business would be significantly harmed. In addition, the development of entirely new technologies to replace existing software could lead to new competitive products that have better performance or lower prices than our products and could render our products obsolete and unmarketable.
Our failure to meet customer expectations on deployment of our products could result in negative publicity and reduced sales, both of which would significantly harm our business and operating results.
     In the past, a small number of our customers have experienced difficulties or delays in completing implementation of our products. We may experience similar difficulties or delays in the future. Deploying our products typically involves integration with our customers’ legacy systems, such as existing databases and enterprise resource planning software as well adding their data to the system. Failing to meet customer expectations on deployment of our products could result in a loss of customers and negative publicity regarding us and our products, which could adversely affect our ability to attract new customers. In addition, time-consuming deployments may also increase the amount of professional services we must allocate to each customer, thereby increasing our costs and adversely affecting our business and operating results.
If we are unable to maintain our direct sales force, sales of our products and services may not meet our expectations, and our business and operating results will be significantly harmed.
     We depend on our direct sales force for a significant portion of our current sales, and our future growth depends in part on the ability of our direct sales force to develop customer relationships and increase sales to a level that will allow us to reach and maintain profitability. If we are unable to retain qualified sales personnel or if newly hired personnel fail to develop the necessary skills or to reach productivity when anticipated, we may not be able to increase sales of our products and services, and our results of operation could be significantly harmed.
If we are unable to manage our professional services organization, we will be unable to provide our customers with technical support for our products, which could significantly harm our business and operating results.
     Services revenues, which generated 95% and 87% of our total revenues during the three and six months ended September 30, 2008, respectively, are comprised primarily of revenues from consulting fees, maintenance contracts and training and are important to our business. Services revenues have lower gross margins than license revenues. We generally charge for our professional services on a time and materials rather than a fixed-fee basis. However, in current market conditions, many customers insist on services provided on a fixed-fee basis. To the extent that customers are unwilling to utilize third-party consultants or require us to provide professional services on a fixed-fee basis, our cost of services revenues could increase and could cause us to recognize a loss on a specific contract,

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either of which would adversely affect our operating results. In addition, if we are unable to provide these professional services, we may lose sales or incur customer dissatisfaction, and our business and operating results could be significantly harmed.
If new versions and releases of our products contain errors or defects, we could suffer losses and negative publicity, which would adversely affect our business and operating results.
     Complex software products such as ours often contain errors or defects, including errors relating to security, particularly when first introduced or when new versions or enhancements are released. In the past, we have discovered defects in our products and provided product updates to our customers to address such defects. Our products and other future products may contain defects or errors that could result in lost revenues, a delay in market acceptance or negative publicity, each which would significantly harm our business and operating results.
A substantial portion of our operations are outsourced to India-based personnel, and any change in the political and economic conditions of India or in immigration policies that adversely affects our ability to conduct our operations in India could significantly harm our business.
     We conduct development, quality assurance and professional services operations in India. As of September 30, 2008, we employed 5 persons in India and outsourced an additional 29 people in India through IBM, our outsource partner. We are dependent on our India-based operations for these aspects of our business. As a result, we are directly influenced by the political and economic conditions affecting India. Operating expenses incurred by our operations in India are denominated in Indian currency, and accordingly, we are exposed to adverse movements in currency exchange rates. This, as well as any other political or economic problems or changes in India, could have a negative impact on our India-based operations, resulting in significant harm to our business and operating results. Furthermore, the intellectual property laws of India may not adequately protect our proprietary rights. We believe that it is particularly difficult to find quality management personnel in India, and we may not be able to timely replace our current India-based management team if any of them were to leave our Company.
     Our training program for some of our India-based employees includes an internship at our San Jose, California headquarters. Additionally, we provide services to some of our customers with India-based employees. We presently rely on a number of visa programs to enable these India-based employees to travel and work internationally. Any change in the immigration policies of India or the countries to which these employees travel and work could cause disruption or force the termination of these programs, which would harm our business.
Demand for our products and services will decline significantly if our software cannot support and manage a substantial number of users.
     Our strategy requires that our products be highly scalable. To date, only a limited number of our customers have deployed our products on a large scale. If our customers cannot successfully implement large-scale deployments, or if they determine that we cannot accommodate large-scale deployments, our business and operating results would be significantly harmed.
If we become subject to product liability litigation, it could be costly and time consuming to defend and could distract us from focusing on our business and operations.
     Since our products are company-wide, mission-critical computer applications with a potentially strong impact on our customers’ sales, errors, defects or other performance problems could result in financial or other damages to our customers. Although our license agreements generally contain provisions designed to limit our exposure to product liability claims, existing or future laws or unfavorable judicial decisions could negate such limitation of liability provisions. Product liability litigation, even if it were unsuccessful, would be time consuming and costly to defend.
Our planned reduction in expenses will place a significant strain on our management systems and resources, and if we fail to manage these changes, our business will be harmed.
     We plan to further reduce our operating expenses, and as a result, this would place increased demands on our managerial, administrative, operational, financial and other resources.

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     Our rapid growth required us to manage a large number of relationships with customers, suppliers and employees, as well as a large number of complex contracts. Additional cost cutting measures would force us to handle these demands with a smaller number of employees. If we are unable to initiate procedures and controls to support our future operations in an efficient and timely manner, or if we are unable to otherwise manage these changes effectively, our business would be harmed.
Our results of operations will be reduced by charges associated with stock-based compensation, accelerated vesting associated with stock options issued to employees, charges associated with other securities issued by us, and charges related to variable accounting.
     We have in the past and expect in the future to incur a significant amount of charges related to securities issuances, which will negatively affect our operating results. We adopted the provisions of SFAS 123R using a modified prospective application effective April 1, 2006. We use the Black-Scholes option pricing model to determine the fair value of our share-based payments and recognize compensation cost on a straight-line basis over the vesting periods. This pronouncement from the FASB provides for certain changes to the method for valuing stock-based compensation. Among other changes, SFAS 123R applies to new awards and to awards that are outstanding which are subsequently modified or cancelled. Compensation expense cost calculated under SFAS 123R will continue to negatively impact our operating results.
Failure to improve and maintain relationships with systems integrators and consulting firms, which assist us with the sale and installation of our products, would impede the acceptance of our products and the growth of our revenues.
     Our strategy has been to rely in part upon systems integrators and consulting firms to recommend our products to their customers and to install and deploy our products. To date, we have had limited success in utilizing these firms as a sales channel or as a provider of professional services. To increase our revenues and implementation capabilities, we must continue to develop and expand our relationships with these systems integrators and consulting firms. If these systems integrators and consulting firms are unwilling to install and deploy our products, we may not have the resources to provide adequate implementation services to our customers, and our business and operating results could be significantly harmed.
Our subscription-based products are hosted by a third-party provider.
     Some of our Contract Management solutions are hosted by a third party data-center provider. Failure of the data center provider to maintain service levels as contracted, could result in customer dissatisfaction, customer losses and potential product warranty or performance liabilities.
Anti-takeover defenses that we have in place could prevent or frustrate attempts by stockholders to change our board of directors or the direction of our company.
     Provisions of our amended and restated certificate of incorporation and amended and restated bylaws, Delaware law and the stockholder rights plan adopted by us on February 4, 2003 may make it more difficult for or prevent a third party from acquiring control of us without approval of our directors. These provisions include:
    providing for a classified board of directors with staggered three-year terms;
 
    restricting the ability of stockholders to call special meetings of stockholders;
 
    prohibiting stockholder action by written consent;
 
    establishing advance notice requirements for nominations for election to the board of directors or for proposing matters that can be acted on by stockholders at stockholder meetings;
 
    granting our board of directors the ability to designate the terms of and issue new series of preferred stock without stockholder approval; and
 
    issuing shareholders rights to purchase additional shares of stock in the event that (i) a shareholder accumulates 15% or more of our voting stock or (ii) a tender offer for our shares is commenced or announced.

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     These provisions may have the effect of entrenching our board of directors and may deprive or limit your strategic opportunities to sell your shares.
Compliance with new regulations dealing with corporate governance and public disclosure may result in additional expenses and require significant management attention.
     The Sarbanes-Oxley Act of 2002, as well as new rules implemented by the Securities Exchange Commission and the NASDAQ National Market, has required changes in corporate governance practices of public companies. These rules are increasing our legal and financial compliance costs and causing some management and accounting activities to become more time-consuming and costly. This includes increased levels of documentation, monitoring internal controls, and increased manpower and use of consultants to comply. We have and will continue to expend significant efforts and resources to comply with these rules and regulations and have implemented a comprehensive program of compliance with these requirements and high standards of corporate governance and public disclosure.
     These rules may also make it more difficult and more expensive us to obtain director and officer liability insurance, and may make us accept reduced coverage or incur substantially higher costs for such coverage. The rules and regulations may also make it more difficult for us to attract and retain qualified executive officers and members of our board of directors, particularly to serve on our audit committee.
Restrictions on export of encrypted technology could cause us to incur delays in international product sales, which would adversely impact the expansion and growth of our business.
     Our software utilizes encryption technology, the export of which is regulated by the United States government. If our export authority is revoked or modified, if our software is unlawfully exported or if the United States adopts new legislation restricting export of software and encryption technology, we may experience delay or reduction in shipment of our products internationally. Current or future export regulations could limit our ability to distribute our products outside of the United States. While we take precautions against unlawful exportation of our software, we cannot effectively control the unauthorized distribution of software across the Internet.
Unauthorized break-ins or other assaults on our computer systems could harm our business.
     Our servers are vulnerable to physical or electronic break-ins and similar disruptions, which could lead to loss of data or public release of proprietary information. In addition, unauthorized persons may improperly access our data. These and other types of attacks could harm us. Actions of this sort may be very expensive to remedy and could adversely affect results of operations.
Changes to accounting standards and financial reporting requirements or tax laws, may affect our financial results.
     We are required to follow accounting and financial reporting standards set by governing bodies in the U.S. and other countries where we do business. From time to time, these governing bodies implement new and revised laws and regulations. These new and revised accounting standards, financial reporting and tax laws may require changes to accounting principles used in preparing our financial statements. These changes may have a material impact on our business and financial results. For example, a change in accounting rules can have a significant effect on our reported results and may even affect our reporting of transactions completed before the change became effective. As a result, changes to existing rules or reconsideration of current practices caused by such changes may adversely affect our reported financial results or the way we conduct our business.
Increasing government regulation of the Internet could limit the market for our products and services, or impose greater tax burdens on us or liability for transmission of protected data.
     As electronic commerce and the Internet continue to evolve, federal, state and foreign governments may adopt laws and regulations covering issues such as user privacy, taxation of goods and services provided over the Internet, pricing, content and quality of products and services. If enacted, these laws and regulations could limit the market for electronic commerce, and therefore the market for our products and services. Although many of these regulations may not apply directly to our business, we expect that laws regulating the solicitation, collection or processing of personal or consumer information could indirectly affect our business.

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     Laws or regulations concerning telecommunications might also negatively impact us. Several telecommunications companies have petitioned the Federal Communications Commission to regulate Internet service providers and online service providers in a manner similar to long distance telephone carriers and to impose access fees on these companies. This type of legislation could increase the cost of conducting business over the Internet, which could limit the growth of electronic commerce generally and have a negative impact on our business and operating results.
ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Not applicable.
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We held our Annual Meeting of Stockholders on September 9, 2008. At the meeting our stockholders voted on the following two proposals and cast their votes as follows to approve such proposals:
          Proposal 1: The election of James Thanos as director with 14,667,276 affirmative votes and 681,971 votes abstaining.
          Proposal 2: Ratification of the appointment of Armanino McKenna LLP as our independent public accountants for the fiscal year ending March 31, 2009 with 15,337,227 affirmative votes, 10,220 negative votes and 1,800 votes abstaining.
ITEM 5: OTHER INFORMATION
Not applicable.
ITEM 6: EXHIBITS
Exhibit 31.1
Certification of Chief Financial Officer and General Counsel pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit 32.1
Certification of Chief Financial Officer and General Counsel pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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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.
Date: November 14, 2008
         
     
  /s/ RICHARD HEAPS    
  Richard Heaps   
  Chief Financial Officer and General Counsel   
 

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EXHIBIT INDEX
     
Exhibit No.   Description
 
   
Exhibit 31.1
  Certification of Chief Financial Officer and General Counsel pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
   
Exhibit 32.1
  Certification of Chief Financial Officer and General Counsel pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.