##### Table of Contents



SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
  þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
 For the quarterly period ended June 30, 2006
 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 000-30277
 Knova Software, Inc.
  Delaware
    
    25-1647861(State or Other Jurisdiction of Incorporation or Organization)
    
    (I.R.S. Employer Identification No.)10201 Torre Avenue, Suite 350Cupertino, CA
    
    95014(Address of Principal Executive Offices)
    
    (Zip Code)
 (408) 863-5800
  þ o
  o o þ
 o þ




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##### 



KNOVA Software, Inc.
Form 10-Q
June 30, 2006
INDEX
 Page No.PART I. FINANCIAL INFORMATIONITEM 1. Unaudited Consolidated Financial StatementsConsolidated Balance Sheets as of June 30, 2006 (unaudited) and December 31, 2005
    
    
    3Consolidated Statements of Operations for the six months ended June 30, 2006 and 2005 (unaudited)
    
    
    4Consolidated Statements of Stockholders Equity for the six months ended June 30, 2006 and 2005 (unaudited)
    
    
    5Consolidated Statements of Cash Flows for the six months ended June 30, 2006 and 2005 (unaudited)
    
    
    6Notes to Unaudited Consolidated Financial Statements
    
    
    7ITEM 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    14ITEM 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    20ITEM 4. Controls and Procedures
    
    
    20PART II. OTHER INFORMATIONITEM 1. Legal Proceedings
    
    
    21ITEM 1A. Risk Factors
    
    
    21ITEM 6. Exhibits
    
    
    21EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32
  2




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Consolidated Financial Statements
 KNOVA Software, Inc.
 
 CONSOLIDATED BALANCE SHEETS
 (Amounts in thousands, except per share amounts)
 June 30,
    
    
    December 31,2006
    
    
    2005(Unaudited)AssetsCurrent assetsCash and cash equivalents
    
    $
    8,280
    
    
    $
    6,731Marketable securities
    
    
    2,071
    
    
    
    5,461Accounts receivable, less allowance for doubtful accounts of
$118 at June 30, 2006 and $126 at December 31, 2005
    
    
    7,790
    
    
    
    6,442Prepaid expenses and other current assets
    
    
    804
    
    
    
    781Total current assets
    
    
    18,945
    
    
    
    19,415Non current assetsProperty and equipmentOffice furniture, equipment, and leasehold improvements
    
    
    1,518
    
    
    
    1,518Computer equipment
    
    
    5,611
    
    
    
    5,166Total property and equipment
    
    
    7,129
    
    
    
    6,684Less accumulated depreciation
    
    
    (6,495
    )
    
    
    (6,319
    )Property and equipment, net
    
    
    634
    
    
    
    365Intangible assets, net of amortization of $1,202 at June 30, 2006
and $778 at December 31, 2005
    
    
    4,179
    
    
    
    4,604Goodwill
    
    
    14,485
    
    
    
    14,485Other noncurrent assets
    
    
    92
    
    
    
    123Total noncurrent assets
    
    
    19,390
    
    
    
    19,577Total assets
    
    $
    38,335
    
    
    $
    38,992Liabilities and Stockholders EquityCurrent liabilitiesAccounts payable
    
    
    1,009
    
    
    
    1,636Accrued compensation and benefits
    
    
    924
    
    
    
    1,003Deferred revenue  licenses
    
    
    220
    
    
    
    1,571Deferred revenue  services
    
    
    5,115
    
    
    
    5,114Accrued restructuring charges
    
    
    
    
    
    
    261Line of credit  short term
    
    
    3,250
    
    
    
    3,600Current portion of capital lease obligations
    
    
    24
    
    
    
    40Current portion of equipment loan
    
    
    268
    
    
    
    Other current liabilities
    
    
    1,941
    
    
    
    795Total current liabilities
    
    
    12,751
    
    
    
    14,020Noncurrent deferred revenue
    
    
    316
    
    
    
    182Other non-current liabilities
    
    
    69
    
    
    
    89Long term portion of equipment loan
    
    
    343
    
    
    
    Capital lease obligations
    
    
    27
    
    
    
    35Total liabilities
    
    
    13,506
    
    
    
    14,326Commitments and ContingenciesStockholders equityCommon stock, $0.01 par; 50,000 shares authorized, 8,819 and 8,744
shares outstanding at June 30, 2006 and December 31, 2005, respectively
    
    
    88
    
    
    
    87Additional paid in capital
    
    
    102,558
    
    
    
    101,472Treasury stock, 26 shares at June 30, 2006 and December 31, 2005
    
    
    (151
    )
    
    
    (151
    )Deferred compensation
    
    
    
    
    
    
    (5
    )Warrants
    
    
    6,549
    
    
    
    6,549Accumulated other comprehensive loss
    
    
    (3
    )
    
    
    (12
    )Accumulated deficit
    
    
    (84,212
    )
    
    
    (83,274
    )Total stockholders equity
    
    
    24,829
    
    
    
    24,666Total liabilities and stockholders equity
    
    $
    38,335
    
    
    $
    38,992
 See accompanying condensed notes to unaudited interim consolidated financial statements
 3




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##### Table of Contents



KNOVA Software, Inc.
 
 CONSOLIDATED STATEMENTS OF OPERATIONS
 (Amounts in thousands, except per share amounts)
 (Unaudited)
 Three months ended June 30,
    
    
    Six months ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005RevenuesLicenses
    
    $
    3,210
    
    
    $
    2,824
    
    
    $
    5,967
    
    
    $
    4,201Services
    
    
    4,262
    
    
    
    4,518
    
    
    
    8,520
    
    
    
    6,840Total revenues
    
    
    7,472
    
    
    
    7,342
    
    
    
    14,487
    
    
    
    11,041Cost of revenuesCost of licenses
    
    
    221
    
    
    
    257
    
    
    
    413
    
    
    
    420Cost of services
    
    
    2,195
    
    
    
    2,220
    
    
    
    4,732
    
    
    
    3,848Total cost of revenues
    
    
    2,416
    
    
    
    2,477
    
    
    
    5,145
    
    
    
    4,268Gross margin
    
    
    5,056
    
    
    
    4,865
    
    
    
    9,342
    
    
    
    6,773Operating expensesSales and marketing
    
    
    2,600
    
    
    
    2,042
    
    
    
    4,938
    
    
    
    3,705Research and development
    
    
    1,896
    
    
    
    1,317
    
    
    
    3,481
    
    
    
    2,840General and administrative
    
    
    977
    
    
    
    1,420
    
    
    
    1,740
    
    
    
    2,399Intangible assets amortization
    
    
    70
    
    
    
    70
    
    
    
    140
    
    
    
    117Restructuring charges
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,355Total operating expenses
    
    
    5,543
    
    
    
    4,849
    
    
    
    10,299
    
    
    
    10,416(Loss) income from operations
    
    
    (487
    )
    
    
    16
    
    
    
    (957
    )
    
    
    (3,643
    )Other income (expense)Interest expense
    
    
    (19
    )
    
    
    (2
    )
    
    
    (37
    )
    
    
    (3
    )Other, net
    
    
    30
    
    
    
    50
    
    
    
    57
    
    
    
    202Other income (expense), net
    
    
    11
    
    
    
    48
    
    
    
    20
    
    
    
    199Net (loss) income
    
    ($
    476
    )
    
    $
    64
    
    
    ($
    937
    )
    
    ($
    3,444
    )Net (loss) income per common share, basic
    
    ($
    0.05
    )
    
    $
    0.01
    
    
    ($
    0.11
    )
    
    ($
    0.43
    )Net (loss) income per common share, diluted
    
    ($
    0.05
    )
    
    $
    0.01
    
    
    ($
    0.11
    )
    
    ($
    0.43
    )Shares used in computing per share
amounts, basic
    
    
    8,745
    
    
    
    8,723
    
    
    
    8,740
    
    
    
    7,953Shares used in computing per share
amounts, diluted
    
    
    8,745
    
    
    
    8,776
    
    
    
    8,740
    
    
    
    7,953
 See accompanying condensed notes to unaudited interim consolidated financial statements
 4




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KNOVA Software, Inc.
 
 CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
 (Amounts in thousands, except per share amounts)
 (Unaudited)
 Accumulatedother
    
    
    
    
    
    TotalCommon stock
    
    Additional
    
    Treasury stock
    
    Deferred
    
    
    
    
    
    comprehensive
    
    Accumulated
    
    StockholdersShares
    
    Amount
    
    paid in capital
    
    Shares
    
    Amount
    
    Compensation
    
    Warrants
    
    (loss) gain
    
    Deficit
    
    EquityBalance at December 31, 2005
    
    
    8,744
    
    
    $
    87
    
    
    $
    101,472
    
    
    
    26
    
    
    $
    (151
    )
    
    $
    (5
    )
    
    $
    6,549
    
    
    $
    (12
    )
    
    $
    (83,274
    )
    
    $
    24,666Exercise of stock options
    
    
    75
    
    
    
    1
    
    
    
    192
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    193Stock based compensation expense
    
    
    
    
    
    
    
    
    
    
    894
    
    
    
    
    
    
    
    
    
    
    
    5
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    899Comprehensive loss:Unrealized gain on short term investments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (24
    )
    
    
    
    
    
    
    (24
    )Reclassification adjustment for net
losses realized in net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    33
    
    
    
    
    
    
    
    33Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (938
    )
    
    
    (938
    )Total comprehensive loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (938
    )Balance at June 30, 2006
    
    
    8,819
    
    
    $
    88
    
    
    $
    102,558
    
    
    
    26
    
    
    $
    (151
    )
    
    $
    
    
    
    $
    6,549
    
    
    $
    (3
    )
    
    $
    (84,212
    )
    
    $
    24,829Balance at December 31, 2004
    
    
    5,269
    
    
    $
    53
    
    
    $
    83,835
    
    
    
    17
    
    
    $
    (62
    )
    
    $
    (162
    )
    
    $
    4,765
    
    
    $
    514
    
    
    $
    (78,179
    )
    
    $
    10,764Exercise of stock options
    
    
    1
    
    
    
    
    
    
    
    (2
    )
    
    
    (1
    )
    
    
    6
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4Issuance of common stock for merger
    
    
    3,501
    
    
    
    35
    
    
    
    17,262
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    17,297Issuance of warrants for Kanisa merger
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,759
    
    
    
    
    
    
    
    
    
    
    
    1,759Stock based compensation expense
    
    
    
    
    
    
    
    
    
    
    382
    
    
    
    
    
    
    
    
    
    
    
    74
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    456Issuance of stock under Employee StockPurchase Plan
    
    
    2
    
    
    
    
    
    
    
    (5
    )
    
    
    (2
    )
    
    
    11
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    6Forfeiture of restricted stock
    
    
    (14
    )
    
    
    
    
    
    
    
    
    
    
    14
    
    
    
    (110
    )
    
    
    35
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (75
    )Comprehensive loss:
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Unrealized loss on short term investments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (14
    )
    
    
    
    
    
    
    (14
    )Reclassification adjustment for gains
realized in net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (514
    )
    
    
    
    
    
    
    (514
    )Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3,444
    )
    
    
    (3,444
    )Total comprehensive loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    (3,958
    )Balance at June 30, 2005
    
    
    8,759
    
    
    $
    88
    
    
    $
    101,472
    
    
    
    28
    
    
    $
    (155
    )
    
    $
    (53
    )
    
    $
    6,524
    
    
    $
    (14
    )
    
    $
    (81,623
    )
    
    $
    26,239
 See accompanying condensed notes to unaudited interim consolidated financial statements
 5




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##### Table of Contents



KNOVA Software, Inc.
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
 (Amounts in thousands, except per share amounts)
 (Unaudited)
 Six months ended June 30,2006
    
    
    2005Cash flows from operating activitiesNet loss
    
    ($
    937
    )
    
    ($
    3,444
    )Adjustments to reconcile net loss to net cash used in operations:Non cash items:Depreciation
    
    
    180
    
    
    
    216Amortization of intangible assets
    
    
    425
    
    
    
    354Stock based compensation
    
    
    899
    
    
    
    456Forfeiture of restricted stock
    
    
    
    
    
    
    (75
    )Acquired in-process research and development
    
    
    
    
    
    
    421Loss on disposal of equipment
    
    
    
    
    
    
    4Net loss (gain) on sale of investments
    
    
    33
    
    
    
    (284
    )Changes in operating assets and liabilities, net of assets and liabilities acquired:Increase in accounts receivable
    
    
    (1,348
    )
    
    
    (3,117
    )Decrease in other assets
    
    
    33
    
    
    
    577Decrease in accounts payable
    
    
    (627
    )
    
    
    (709
    )(Decrease) increase in accrued compensation
    
    
    (79
    )
    
    
    170(Decrease) increase in accrued restructuring charges
    
    
    (261
    )
    
    
    505Decrease in deferred revenue
    
    
    (1,216
    )
    
    
    (208
    )Increase (decrease) in other liabilities
    
    
    1,126
    
    
    
    (368
    )Net cash used in operating activities
    
    
    (1,772
    )
    
    
    (5,502
    )Cash flows from investing activitiesPurchases of marketable securities
    
    
    
    
    
    
    (4,898
    )Proceeds from sale of marketable securities
    
    
    3,365
    
    
    
    7,570Proceeds from sale of assets
    
    
    
    
    
    
    1Acquisition costs
    
    
    (25
    )
    
    
    Acquisition costs for Kanisa merger
    
    
    
    
    
    
    (561
    )Cash acquired from Kanisa merger
    
    
    
    
    
    
    3,779Property and equipment acquisitions
    
    
    (449
    )
    
    
    (55
    )Net cash provided by investing activities
    
    
    2,891
    
    
    
    5,836Cash flows from financing activitiesRepayments of principal of capital lease obligations
    
    
    (24
    )
    
    
    (20
    )Repayments of revolving line of credit, net
    
    
    (350
    )
    
    
    Proceeds from borrowings
    
    
    611
    
    
    
    Proceeds from stock option exercises
    
    
    193
    
    
    
    10Net cash provided by (used in) financing activities
    
    
    430
    
    
    
    (10
    )Increase in cash and cash equivalents
    
    
    1,549
    
    
    
    324Cash and cash equivalents at beginning of period
    
    
    6,731
    
    
    
    1,672Cash and cash equivalents at end of period
    
    $
    8,280
    
    
    $
    1,996Supplemental disclosures of cash flow information:Cash paid for interest
    
    $
    34
    
    
    $
    3Supplemental disclosures of non-cash investing and financing activities:Issuance of warrants
    
    $
    
    
    
    $
    1,759Unrealized loss on investments
    
    
    (3
    )
    
    
    (14
    )Kanisa acquisition (Note 9)
 See accompanying condensed notes to unaudited interim consolidated financial statements
 6




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##### Table of Contents



KNOVA Software, Inc.
 
 CONDENSED NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
 June 30, 2006
 (Unaudited)
 Note 1. Organization of the Company
    Note 2. Unaudited Interim Financial Information
   Note 3. Significant Accounting Policies
 Principles of Consolidation
  7




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##### Table of Contents



Marketable Securities
   Stock Based Compensation
     8




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##### Table of Contents



For the three
    
    
    For the sixmonths ended
    
    
    months endedJune 30, 2005
    
    
    June 30, 2005(in thousands,
    
    
    (in thousands,except per share
    
    
    except per shareamounts)
    
    
    amounts)Net income (loss) as reported
    
    $
    64
    
    
    $
    (3,444
    )Add: Stock based compenation expense included in
reported net income (loss)
    
    $
    102
    
    
    $
    381Less: Total stock based comepnsation expense under SFAS No.
123
    
    $
    (825
    )
    
    $
    (1,885
    )Pro forma net loss
    
    $
    (659
    )
    
    $
    (4,948
    )Weighted
average shares used in computing per share amounts:Basic
    
    
    8,723
    
    
    
    7,953Diluted
    
    
    8,776
    
    
    
    7,953Earnings per share:Net income (loss) per share, basic  as reported
    
    $
    0.01
    
    
    ($
    0.43
    )Net income (loss) per share, diluted  as reported
    
    $
    0.01
    
    
    ($
    0.43
    )Pro forma net loss per share, basic and diluted
    
    ($
    0.08
    )
    
    ($
    0.62
    )
  2006
    
    2005Risk-free interest rate
    
    
    4.76
    %
    
    
    4.03
    %Expected dividend yield
    
    
    0.00
    %
    
    
    0.00
    %Expected lives in years
    
    
    6.0
    
    
    
    6.0Expected volatility
    
    
    105.2
    %
    
    
    107.2
    %
 Impact of Recently Issued Accounting Standards
   9




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##### Table of Contents



Note 4. Debt
 Credit Facilities
   Note 5. Net (Loss) Per Share
  2006
    
    
    2005
    
    
    2006
    
    
    2005(in thousands, except per
    
    
    (in thousands, except pershare amounts)
    
    
    share amounts)Numerator:Net (loss) income
    
    ($
    476
    )
    
    $
    64
    
    
    ($
    937
    )
    
    ($
    3,444
    )Denominator:Denominator for basic earnings per
share  weighted average shares
    
    
    8,745
    
    
    
    8,723
    
    
    
    8,740
    
    
    
    7,953Denominator for diluted earnings per
share  weighted average shares
    
    
    8,745
    
    
    
    8,776
    
    
    
    8,740
    
    
    
    7,953Net (loss) income per share, basic
    
    ($
    0.05
    )
    
    $
    0.01
    
    
    ($
    0.11
    )
    
    ($
    0.43
    )Net (loss) income per share, diluted
    
    ($
    0.05
    )
    
    $
    0.01
    
    
    ($
    0.11
    )
    
    ($
    0.43
    )
  10




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##### Table of Contents



Note 6. Segment Information
  For the three months ended
    
    
    For the six months endedJune 30,
    
    
    June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005(in thousands)
    
    
    
    
    
    
    (in thousands)Revenues (a)United States
    
    $
    7,205
    
    
    $
    7,140
    
    
    $
    13,592
    
    
    $
    10,520International
    
    
    267
    
    
    
    202
    
    
    
    895
    
    
    
    521Total
    
    $
    7,472
    
    
    $
    7,342
    
    
    $
    14,487
    
    
    $
    11,041
 
 (a)
    
    Revenues are attributed to the United States and International based on customer
location. Note 7. Capital Stock
   Note 8. Stock Option Plan
    11




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##### Table of Contents



Weighted AverageOptions
    
    
    Option Price
    
    
    Weighted Average
    
    RemainingOutstanding
    
    
    Range per Share
    
    
    Exercise Price
    
    Contractual LifeOptions outstanding December 31, 2005
    
    
    2,090,514
    
    
    $
    2.50-$70.00
    
    
    $
    4.37
    
    

7.70Options granted
    
    
    463,750
    
    
    $
    2.43-$3.55
    
    
    $
    2.98
    
    
    Options exercised
    
    
    (75,000
    )
    
    $
    2.50-$3.20
    
    
    $
    2.58
    
    
    Options forfeited
    
    
    (73,622
    )
    
    $
    2.60-$70.00
    
    
    $
    4.26
    
    
    Options outstanding June 30, 2006
    
    
    2,405,642
    
    
    
    
    
    
    
    
    
    
    7.56Options exercisable June 30, 2006
    
    
    1,143,546
    
    
    $
    2.43-$36.00
    
    
    $
    4.81
    
    
    6.02
  Note 9. Acquisition
    Volatility
    
    142.67
    %Risk-free interest rate
    
    3.4
    %Dividend yield
    
    Expected life
    
    4 years
   12




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##### Table of Contents



Cash and cash equivalents
    
    $
    3,779Accounts receivable
    
    
    2,032Prepaid expenses and other current assets
    
    
    364Equipment
    
    
    87Intangible assets:Core and developed technologies
    
    
    3,981Acquired in-process research and development
    
    
    421Customer contracts/customer relations
    
    
    1,401Goodwill
    
    
    12,161Accounts payable
    
    
    (1,144
    )Accrued compensation and benefits
    
    
    (614
    )Other current liabilities
    
    
    (913
    )Deferred revenues
    
    
    (1,876
    )Capital lease obligations and other long term liabilities
    
    
    (62
    )Net assets acquired
    
    $
    19,617
    Pro forma results
  For the sixmonths endedJune 30,2005Revenues
    
    $
    11,447Net loss
    
    ($
    4,368
    )Net loss per share
    
    ($
    0.55
    )Shares used in per share calculation
    
    
    7,953
  Note 10. Restructuring Charges
  13




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of
Operations
   Overview
     
    
    KNOVA Contact Centeris an assisted-service application for customer service and
help desk agents that enable them to resolve customer issues and questions more
effectively. KNOVA Contact Center integrates a sophisticated knowledge management
system with additional features such as search, collaboration, interview scripting,
email response, and knowledge authoring. KNOVA Contact Center features business
process support integrated with customer relationship management systems that can
tailor the resolution experience based on the customers or employees issue or
question.
    
    KNOVA Self-Serviceis a self-service application that enables customers and
employees to resolve their own issues and questions on an enterprise website. KNOVA
Self-Service features business process support that can provide a personalized and
guided resolution experience based on the issue or question the customer or employee
has.
    
    KNOVA Forumsis an application for online customer communities and forums that
enables customers to discuss and collaborate on topics of interest, including an
enterprises products and services. KNOVA Forums enables customers and employees to
assist each other, reducing service delivery costs and providing valuable insight to
the enterprise.
    
    KNOVA Field Serviceis a mobile support application that enables field technicians
and service professionals to search the knowledge base and resolve problems at the
customer site. KNOVA Field Service runs on a
disconnected laptop computer and synchronizes via a network connection with the Field
Service application server to update the knowledge base content.
    
    KNOVA Knowledge Deskis a packaged knowledge management solution for service and
help desks to resolve questions, author knowledge, and manage repositories of
intellectual capital. KNOVA Knowledge Desk is integrated with traditional service and
help desk applications from companies such as Remedy and Hewlett Packard (HP). It
is based on a patented self-learning search technology that is designed to improve
with usage. KNOVA Knowledge Desk features application modules for different user
types and functions.
 14




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##### Table of Contents



Factors Affecting Future Operations
  Critical Accounting Policies and Estimates
  Description of Statement of Operations
 Revenues
  Cost of Revenues
  Operating Costs
  15




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##### Table of Contents



Results of Operations
  Three months ended June 30,
    
    
    Six months ended June 30,2006
    
    
    2005
    
    
    2006
    
    
    2005RevenuesLicenses
    
    
    43.0
    %
    
    
    38.5
    %
    
    
    41.2
    %
    
    
    38.0
    %Services
    
    
    57.0
    %
    
    
    61.5
    %
    
    
    58.8
    %
    
    
    62.0
    %Total revenues
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Cost of revenuesCost of licenses
    
    
    3.0
    %
    
    
    3.5
    %
    
    
    2.9
    %
    
    
    3.8
    %Cost of services
    
    
    29.4
    %
    
    
    30.2
    %
    
    
    32.7
    %
    
    
    34.9
    %Total cost of revenues
    
    
    32.3
    %
    
    
    33.7
    %
    
    
    35.5
    %
    
    
    38.7
    %Gross margin
    
    
    67.7
    %
    
    
    66.3
    %
    
    
    64.5
    %
    
    
    61.3
    %Operating expensesSales and marketing
    
    
    34.8
    %
    
    
    27.8
    %
    
    
    34.1
    %
    
    
    33.6
    %Research and development
    
    
    25.4
    %
    
    
    17.9
    %
    
    
    24.0
    %
    
    
    25.7
    %General and administrative
    
    
    13.1
    %
    
    
    19.3
    %
    
    
    12.0
    %
    
    
    21.7
    %Intangible assets amortization
    
    
    0.9
    %
    
    
    1.0
    %
    
    
    1.0
    %
    
    
    1.1
    %Restructuring charges
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    0.0
    %
    
    
    12.3
    %Total operating expenses
    
    
    74.2
    %
    
    
    66.0
    %
    
    
    71.1
    %
    
    
    94.3
    %Loss from operations
    
    
    (6.5
    %)
    
    
    0.2
    %
    
    
    (6.6
    %)
    
    
    (33.0
    %)Other income (expense), net
    
    
    0.1
    %
    
    
    0.7
    %
    
    
    0.1
    %
    
    
    1.8
    %Net loss
    
    
    (6.4
    %)
    
    
    0.9
    %
    
    
    (6.5
    %)
    
    
    (31.2
    %)
 Three Months Ended June 30, 2006 and 2005
 Revenues
   Cost of Revenues
    16




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##### Table of Contents



Operating Expenses
 Sales and Marketing
 Research and Development
 General and Administrative SFAS 123(R).
 Intangible Assets Amortization
 Other income (expense), net
  Six Months Ended June 30, 2006 and 2005
  Revenues
   Cost of Revenues
    17




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##### Table of Contents



Operating Expenses
 Sales and Marketing
 Research and Development
 General and Administrative
 Intangible Assets Amortization
 Restructuring
 Other income (expense), net
  Liquidity and Capital Resources
       18




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##### Table of Contents



Contractual Obligations
  Payments due by period (in thousands)Total
    
    Less than 1 year
    
    1-3 years
    
    4-5 yearsRevolving credit line
    
    $
    3,250
    
    
    $
    3,250
    
    
    $
    
    
    
    $
    Equipment line
    
    
    611
    
    
    
    268
    
    
    
    343
    
    
    
    Capital lease obligations
    
    
    51
    
    
    
    24
    
    
    
    27
    
    
    
    Operating lease obligations
    
    
    981
    
    
    
    495
    
    
    
    486
    
    
    
    Total contractual obligations
    
    $
    4,893
    
    
    $
    4,037
    
    
    $
    856
    
    
    $
    
 Related Party Transactions
  Recent Accounting Pronouncements
     19




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##### Table of Contents



Item 3. Quantitative and Qualitative Disclosures About Market Risk
   
 Item 4. Controls and Procedures
 Evaluation of disclosure controls and procedures .
 Changes in internal controls .
 20




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##### Table of Contents



PART II  OTHER INFORMATION
 
 Item 1. Legal Proceedings
  
 Item 1A. Risk Factors
  
 Item 6. Exhibits
 3.1
    
    Third Amended and Restated Certificate of Incorporation (1)3.2
    
    Amended and Restated Bylaws of the Company(2)3.3
    
    Certificate of Amendment of Third Amended and Restated Certificate of Incorporation (reverse
split) (3)3.4
    
    Certificate of Amendment of Third Amended and Restated Certificate of Incorporation (name
change) (4)31.1
    
    Rule 13a  14(a) / 15d  14(a) Certification of Principal Executive Officer31.2
    
    Rule 13a  14(a) / 15d  14(a) Certification of Principal Financial Officer32
    
    Section 1350 Certifications
 
 (1)
    
    Incorporated by reference to our Annual Report on Form 10-K for the year ended December 31,
2005.(2)
    
    Incorporated by reference to our Current Report on Form 8-K dated February 8, 2005.(3)
    
    Incorporated by reference to our Annual Report on Form 10-K for the year ended December 31,
2004.(4)
    
    Incorporated by reference to our Quarterly Report on Form 10-Q for the quarter ended June 30,
2005. 21




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##### Table of Contents



SIGNATURES
  KNOVA SOFTWARE, INC.Date: August 14, 2006
    
    By:
    
    /s/ THOMAS MUISE

Thomas MuisePrincipal Financial Officer
 22




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##### Table of Contents



Exhibit Index
 3.1
    
    Third Amended and Restated Certificate of Incorporation (1)3.2
    
    Amended and Restated Bylaws of the Company(2)3.3
    
    Certificate of Amendment of Third Amended and Restated Certificate of Incorporation (reverse
split) (3)3.4
    
    Certificate of Amendment of Third Amended and Restated Certificate of Incorporation (name
change) (4)31.1
    
    Rule 13a  14(a) / 15d  14(a) Certification of Principal Executive Officer31.2
    
    Rule 13a  14(a) / 15d  14(a) Certification of Principal Financial Officer32
    
    Section 1350 Certifications
 
 (1)
    
    Incorporated by reference to our Annual Report on Form 10-K for the year ended December 31,
2005.(2)
    
    Incorporated by reference to our Current Report on Form 8-K dated February 8, 2005.(3)
    
    Incorporated by reference to our Annual Report on Form 10-K for the year ended December 31,
2004.(4)
    
    Incorporated by reference to our Quarterly Report on Form 10-Q for the quarter ended June 30,
2005.