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                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              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|  |  [  ]**REGISTRATION      STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934**OR**
 [X]**ANNUAL REPORT PURSUANT    TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For      the fiscal year ended December 31, 2004**OR**
 [  ]****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 333-44404** **
**SOPHEON PLC**      (Exact name of Registrant as specified in its charter)

ENGLAND AND WALES      (Jurisdiction of incorporation or organization)

SURREY TECHNOLOGY      CENTRE, 40 OCCAM ROAD,      SURREY RESEARCH PARK, GUILDFORD, SURREY GU2 7YG, UNITED KINGDOM      (Address of principal executive offices)
** Securities      registered or to be registered pursuant to Section 12(b) of the Act.****
Title of each      Class

Name of each      exchange      On which registered

N/A
N/A
        Securities registered or to be registered pursuant to 12(g) of the Act.

N/A        (Title of Class)

        Securities for which there is a reporting obligation pursuant to 15(d)        of the Act.
        Ordinary Shares of 5p each        (Title of Class)        Indicate the number of outstanding shares of each of the issuer's        classes of capital or common stock as of the close of the period covered        by the annual report.        115,871,082 Ordinary shares        Indicate by check mark whether the registrant (1) has filed all reports        required to be filed by Section 13 or 15(d) of the Securities Exchange        Act of 1934 during the preceding 12 months (or for such shorter period        that the registrant was required to file such reports), and (2) has been        subject to such filing requirements for the past 90 days.
        Yes[X]          No[  ]
        Indicate by check mark which financial statement item the registrant has        elected to follow.

        Item 17[X]          Item        18[  ]

 
PART      I   
 1
ITEM      1.IDENTITY      OF DIRECTORS, SENIOR MANAGEMENT, AND ADVISERS   
1
 ITEM      2.OFFER      STATISTICS AND EXPECTED TIMETABLE   
 1
ITEM      3. KEY      INFORMATION   
 2
  A.
SELECTED FINANCIAL      DATA   

 2
B. 
CAPITALIZATION AND      INDEBTEDNESS   

 5
  C. 
REASONS FOR THE OFFER AND USE OF      PROCEEDS   

 5
D. 
RISK FACTORS  

 5
 ITEM      4. INFORMATION      ON THE COMPANY   
 7
A. 
HISTORY AND DEVELOPMENT OF THE      COMPANY   

 7
  B. 
BUSINESS      OVERVIEW   

 10
C. 
ORGANIZATIONAL      STRUCTURE   

 12
  D.
PROPERTY, PLANT AND      EQUIPMENT 

 13
ITEM      5. OPERATING      AND FINANCIAL REVIEW AND PROSPECTS 14  A. 
OPERATING      RESULTS   

 14
B. 
LIQUIDITY AND CAPITAL      RESOURCES   

 21
  C. 
RESEARCH AND DEVELOPMENT,      PATENTS, AND LICENSES, ETC   

 23
D. 
TREND      INFORMATION   

 23
  E.
OFF BALANCE SHEET      ARRANGEMENTS   

 23
F. 
TABULAR DISCLOSURE OF CONTRACTUAL      OBLIGATIONS   

 23
  G.
SAFE HARBOR   

 23
ITEM      6. DIRECTORS,      SENIOR MANAGEMENT AND EMPLOYEES   
 24
  A. 
DIRECTORS AND SENIOR      MANAGEMENT   

 24
B. 
COMPENSATION   

 25
  C. 
BOARD PRACTICES   

 27
D. 
EMPLOYEES   

 27
  E. 
SHARE OWNERSHIP   

 28
ITEM      7. MAJOR      SHAREHOLDERS AND RELATED PARTY TRANSACTIONS   
 31
  A. 
MAJOR      SHAREHOLDERS   

 31
B. 
RELATED PARTY      TRANSACTIONS   

 31
  C. 
INTERESTS OF EXPERTS AND      COUNSEL   

 31
ITEM      8. FINANCIAL      INFORMATION   
 31
  A. 
CONSOLIDATED STATEMENTS AND OTHER      FINANCIAL INFORMATION   

 31
B. 
SIGNIFICANT      CHANGES   

 32
 ITEM      9. THE      OFFER AND LISTING   
 32
A. 
OFFER AND LISTING      DETAILS   

 32
  B. 
PLAN OF      DISTRIBUTION   

 33
C. 
MARKETS   

 33
  D. 
SELLING      SHAREHOLDERS   

 33
E. 
DILUTION   

 33
  F. 
EXPENSES OF THE      ISSUE   

 33
ITEM      10. ADDITIONAL      INFORMATION   
 33
  A. 
SHARE CAPITAL   

 33
B. 
MEMORANDUM AND ARTICLES OF      ASSOCIATION   

 33
  C. 
MATERIAL      CONTRACTS   

 34
D. 
EXCHANGE      CONTROLS   

 34
  E. 
TAXATION   

 34
F. 
DIVIDENDS AND PAYING      AGENTS   

 37
  G. 
STATEMENT BY      EXPERTS   

 37
H. 
DOCUMENTS ON      DISPLAY   

 37
  I. 
SUBSIDIARY      INFORMATION   

 37
ITEM      11.QUANTITATIVE      AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK   
 38
 ITEM      12.DESCRIPTION      OF SECURITIES OTHER THAN EQUITY SECURITIES   
 38
PART      II   
 39
 ITEM      13.DEFAULTS,      DIVIDEND ARREARAGES AND DELINQUENCIES   
 39
ITEM      14.MATERIAL      MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF      PROCEEDS   
 39
 ITEM      15.CONTROLS      AND PROCEDURES   
 39
ITEM      16.[RESERVED]   
 39
 ITEM      16A.AUDIT      COMMITTEE FINANCIAL EXPERT   
 39
ITEM      16B.CODE      OF ETHICS   
 39
 ITEM      16C.PRINCIPAL      ACCOUNTANT FEES AND SERVICES   
 40
ITEM      16D.EXEMPTION      FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES   
 40
 ITEM      16E.PURCHASES      OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED      PURCHASERS   
 40
PART      III   
 41
 ITEM      17.FINANCIAL      STATEMENTS 
 41
ITEM      18.FINANCIAL      STATEMENTS  
 41
 ITEM      19.EXHIBITS  
 42
SIGNATURES   
 43

 

References in this document to "USdollars", "$" or "cents" are to the currency of theUnited States and references to "pounds sterling", "pounds","£", "pence" or "p" are to the currency of theUnited Kingdom. There are 100 pence to each pound. References to euro and"€" are to the currency of the European Economic and Monetary Union.Solely for your convenience, this document contains translations of certainpounds sterling amounts into US dollars at specified rates. You should nottake these translations as assurances that the pounds sterling amounts currentlyrepresent US dollar amounts or could be converted into US dollars at the rateindicated or at any other rate, at any time.

"SAFE HARBOR" STATEMENT UNDERTHE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995:

Matters discussed in this document mayconstitute forward-looking statements. The Private Securities Litigation ReformAct of 1995 provides safe harbor protections for forward-looking statements inorder to encourage companies to provide prospective information about theirbusinesses. Forward-looking statements include statements concerning plans,objectives, goals, strategies, future events or performance, underlyingassumptions and other statements, which are other than statements of historicalfacts and information set forth in Item 3 "Key Information—RiskFactors".

Sopheon plc desires to take advantageof the safe harbor provisions of the Private Securities Litigation Reform Act of1995 and is including this cautionary statement in connection with this safeharbor legislation. This document and any other written or oral statements madeby us or on our behalf may include forward-looking statements that reflect ourcurrent views with respect to future events and financial performance. The words"believe", "expect", "anticipate",""intend"," "estimate",""forecast"," "project" and similar expressions identifyforward-looking statements.

The forward-looking statements in thisdocument are based upon various assumptions, many of which are based, in turn,upon further assumptions, including without limitation, management's examinationof historical operating trends, data contained in our records and other dataavailable from third parties. Although we believe that these assumptions werereasonable when made, because these assumptions are inherently subject tosignificant uncertainties and contingencies, we cannot assure you that we willachieve or accomplish these expectations, beliefs or projections.

Except to the extent required by law,neither Sopheon plc, nor any of its respective agents, employees or advisorsintends or has any duty or obligation to supplement, amend, update or revise anyof the forward-looking statements contained in this document.
** 

PART I

ITEM1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS**
Not applicable.
****
 

**ITEM2. OFFER STATISTICS AND EXPECTED TIMETABLE**

Not applicable.

1
**ITEM3. KEY INFORMATION**
A.SELECTED FINANCIAL DATA

The following table sets forth selectedhistorical financial data of Sopheon for each of the last five fiscal years inthe period ended December 31, 2004. The selected historical data have in partbeen derived from and should be read in conjunction with Sopheon's auditedconsolidated financial statements, including the notes thereto, beginning atpage F-1 of this document.
**Consolidated Profit and Loss AccountData***Amounts in accordance with UK GAAP**Year      ended December 31** 2000** 2001** 2002** 2003** 2004** ** £'000** £'000** £'000** £'000** £'000*Turnover               Continuing operations 4,573 2,829       2,854 2,669 4,323         Discontinued operations 3,190 11,134       9,499 4,065 -7,763 13,963 12,353 6,734 4,323Cost      of sales (5,402) (10,186) (9,002) (4,117) (993) Gross      profit 2,361 3,777 3,351 2,617 3,330Sales      and marketing expenses (3,450) (7,281) (5,437) (3,442) (2,588)Administrative      expenses (6,080) (9,802) (8,058) (3,814) (2,001)Amortization      of goodwill  (5,561) (12,288) (5,922) (4,586) (440)Impairment      charge re goodwill - (9,143) - - - Operating      loss               Continuing operations  (10,664      ) (13,620      ) (7,568      ) (4,269      ) (1,699      )         Discontinued operations  (2,066      ) (21,117      ) (8,498      ) (4,956      ) -        (12,730      ) (34,737      ) (16,066      ) (9,225      ) (1,699      )Share      of loss of associated undertaking (76      ) (63      ) (46      ) -       -      Profit      on disposal of operations -       -       -       3,568       -      Net      interest income/(expense) 861       169       (67      ) (149      ) (265      ) Loss for      the year before tax  (11,945      ) (34,631      ) (16,179      ) (5,806      ) (1,964      ) Tax      on ordinary activities  -       -       126       305       143       Loss for      the year after tax  (11,945)       (34,631)       (16,053)       (5,501)       (1,821)       Loss per      share (basic and diluted)  (33.4)p       (76.2)p       (19.4)p       (6.3)p       (1.6)p            Weighted      average number of shares         issued and outstanding ('000)        35,732        45,471        82,669        87,275        114,883 *** ***
2
*Amounts in accordance with US GAAP**Year      ended December 31  ** 2000** 2001** 2002** 2003** 2004** **£'000** £'000** £'000** £'000** £'000*Turnover       4,912       2,829       2,854       2,669       4,323Cost      of sales  (3,506      ) (2,110      ) (1,719      ) (627      ) (993) Gross      profit  1,406       719       1,135       2,042       3,330Sales      and marketing expense  (3,379      ) (3,469      ) (3,577      ) (2,868      ) (2,588)Administrative      expenses  (4,612      ) (6,635      ) (5,500      ) (2,939      ) (2,001)Amortization      of goodwill         and other intangible assets        (4,024       )       (6,458       )       (633       )       (523       )       (480      )Impairment      charge re goodwill         and other intangible assets        -        (2,748       )       (4,867       )       -        (1,826      )  Operating      loss  (10,609      ) (18,591      ) (13,442      ) (4,288      ) (3,565)Net      interest income/(expense)  481       86       (140      ) (149      ) (265) Loss      before tax  (10,128      ) (18,505      ) (13,582      ) (4,437      ) (3,830)Tax      credit  -       -       126       305       143 Loss      after taxes  (10,128)       (18,505)       (13,456)       (4,132)       (3,687)Share      of loss of associated        undertaking        (76       )       (63       )       (46       )       -        - Loss from      continuing operations  (10,204      ) (18,568      ) (13,502      ) (4,132      ) (3,687)Income/(loss)      from         discontinued operations          Loss from operations  (5,171      ) (32,904      ) (6,117      ) (1,260      ) -         Extraordinary gain  -       495       -       -       -         Gain on sale  -       -       -       2,760       - Loss for      the year  (15,375      ) (50,977      ) (19,619      ) (2,632      ) (3,687) Loss per      share from         continuing operations       (28.5)p        (40.8)p        (16.4)p        (4.7)p        (3.2)p(Loss)/income      per share from        discontinued operations        (14.5)p       (71.4)p        (7.4)p        1.7p        - Net loss      per share  (43.0)p       (112.2)p       (23.8)p       (3.0)p       (3.2)p
 No dividends have been declaredor paid in respect of any of the above financial years.
** **
3
**Consolidated Balance Sheet Data***At      December 31  ** 2000** 2001** 2002** 2003** 2004** **£'000** £'000** £'000** £'000** £'000**Amounts      in accordance with UK GAAP ** ** ** ** *Working      capital  4,726       8,352       (317      ) 41       1,134Total      assets  46,127       29,988       11,840       2,672       3,222Creditors:      amounts falling due         after more than one year        (22       )       (2,578       )       (2,569       )       (2,561       )       -Shareholders'      equity/(deficit)  38,296       18,365       2,426       (1,885      ) 1,244Share      capital  56,706       68,337       68,376       69,185       74,196* **Amounts      in accordance with US GAAP ** ** ** ** *Working      capital  4,726       8,352       (317      ) 41       1,134Total      assets  61,649       33,281       10,779       4,675       3,222Long-term      obligations less current portion  (22      ) (2,505      ) (2,569      ) (2,561      ) -Shareholders'      equity  53,818       21,731       1,365       116       1,244
 
**Exchange Rates**
The tables below set forth, for theperiods and dates indicated, the exchange rate for the US dollar against poundssterling, based on the noon buying rate in The City of New York for cabletransfers in pounds sterling as certified for customs purposes by the FederalReserve Bank of New York. The period average is based on the average of the noonbuying rates on the last day of each month during the period. Such rates are notused by Sopheon in the preparation of its consolidated financial statements.
For      the Months of High       LowJanuary      2005    $1.91       $1.87February      2005    $1.92       $1.86March      2005    $1.92       $1.87April      2005    $1.92       $1.87May      2005    $1.90       $1.82June      2005    $1.84       $1.80
 
      For the Year ended December 31PeriodAverage2000$1.522001$1.452002$1.502003$1.632004$1.83
 

4

B.CAPITALIZATION AND INDEBTEDNESS

Not applicable.

 

C.REASONS FOR THE OFFER AND USE OF PROCEEDS

Not applicable.

 

D. RISKFACTORS

**Sopheon has a history of losses and itsprospects of achieving profitability are dependent on meeting sales targets forits Accolade® software.**Sopheonhas in past years experienced substantial net losses due, in part, to itsinvestment in product development and marketing. Sopheon's ability to continueto finance its activities through to the point that its operations become cashgenerative on a sustained basis is dependent on the group maintaining the salesgrowth achieved in 2004, or in the absence of such growth, its ability to securefunding through the company's facilities or other sources. Details of theresources available to Sopheon and the reasons why management consider that thecompany is able to continue as a going concern are set out in Note 1 to thefinancial statements.**Sopheon's lack of profitability may affect itsability to obtain funding from external investors. Recentyears have seen a significant deterioration in investor sentiment towardstechnology companies. Sopheon has in the past experienced large operating lossesand accordingly large cash outflows. Should Sopheon not succeed in achievingprofitability, there is no certainty that market conditions will permit it toobtain sufficient further funding from external sources so as to continue tooperate in its current form.
**Uncertain economic conditions in recent yearscontinue to affect the speed with which prospective clients decide on investmentin Sopheon's products. Although signsof recovery in Information Technology spending were seen in late 2003 and havecontinued into 2005, economic uncertainty continues to limit the speed withwhich customers conclude investments in best-of-breed solutions like Sopheon'sAccolade® software. This could have an adverse effect on the rate ofgrowth for sales of Sopheon's products and services, which could harm Sopheon'sbusiness, results of operations and financial condition.
**The expected benefits from Sopheon's recentrestructuring may not be realized over the longer term.During 2003 the Group's Information Management ("IM") businesses inthe United States and Germany were divested, and further cost reduction measureswere implemented in Group's Business Process Solutions ("BPS")activities. In order to improve Sopheon's balance sheet, share issues wereundertaken during 2003 to raise £1.54 million before expenses and a €10million equity line of credit was put in place. During 2004 Sopheon made thefirst call on the equity line of credit and two further share placements toraise an aggregate £2.4 million in working capital. At December 31, 2004Sopheon had gross cash resources of £1,211,000 before lines of credit drawntotaling £108,000.

As a consequence of the restructuring,Sopheon is now able to devote all its resources to its BPS Division. However,the divestment of the IM businesses has resulted in the loss of a revenue flowwhich included a substantial predictable element of renewals by establishedcustomers. Since the restructuring, Sopheon achieved significant growth inrevenues in its BPS Division during 2004. However, there will continue to be areduced level of predictability of Sopheon's future revenue streams, which willdepend on a relatively small volume of high value sales of proprietary software.
**The acquisitions in recent years of AppliedNet,Teltech, Orbital and AIT and the subsequent disposals of the Teltech's IMdivision and AIT significantly affect the comparability of Sopheon's results,making it difficult to analyze Sopheon's performance. Accordingly,period-to-period comparisons of Sopheon's operating performance may notnecessarily be meaningful and should not be relied on as an indication of futureperformance.
** **
5
**Sopheon will require relationships with partnerswho are able to market and implement its products.Historically,Sopheon has devoted substantial resources to the direct marketing of itsproducts, and its strategy to enter into strategic alliances and othercollaborative relationships to widen the customer base and create a broad salesand implementation channel for its products is still at an early stage.. Thesuccessful implementation of this strategy is crucial to Sopheon's prospectsand its ability to scale effectively. However, Sopheon cannot be sure thatpartners will devote adequate resources to promoting, selling becoming competentto implement Sopheon's products.
**Some of Sopheon's competitors and potentialcompetitors have greater financial resources than Sopheon, which may affectSopheon's ability to gain market share for its products. WhileSopheon has in the past invested substantial resources and effort in sales andmarketing activities, it remains a relatively small organization by globalstandards. Its resources are dwarfed by those of many larger companies that arecapable of developing and offering similar solutions or part solutions. IfSopheon were to compete directly with such companies, it may not succeed inreaching as deep and broad an audience or in developing and marketing programsand collateral which are as effective as its competitors may be able to achievewith their greater resources.
**The unpredictability of Sopheon's revenues andresults of operations makes it difficult to predict financial performance. Inthe short term, Sopheon expects its revenues to be significantly dependent on asmall number of relatively large orders for its products and services. Sopheon'sproducts require a substantial commitment of resources by customers or theirconsultants over an extended period of time. The time required to complete aproduct sale may vary from customer to customer and may be protracted due tounforeseen circumstances.
**Sopheon is dependent upon certain key managementpersonnel, the loss of whom could have a material impact on it.Whileservice agreements have been entered into with key executives, the retention oftheir services cannot be guaranteed. The loss of the services of these and otherkey employees could have a material adverse effect on Sopheon. In addition, asthe economic environment has improved, the competition for qualified employeescontinues to be difficult and retaining key employees has become accordinglymore challenging and expensive.
**Sopheon's markets continue to be at arelatively early stage of development and it is possible that Sopheon's productsmay not sell in the quantities or at the prices required to achieve sustainedprofitability.The market for Sopheon'ssoftware products continues to emerge and evolve, and it remains difficultprecisely to determine its potential size and growth rate, or the extent towhich Sopheon's market penetration will continue to accelerate. Historically,much of Sopheon's turnover has been derived from consultancy, systemsintegration and research services. Sopheon has divested the majority of thesebusinesses, to concentrate on its proprietary software solutions. AccordinglySopheon's dependency on the speed of development of the market for itssoftware products is more pronounced than in the past.
**Sopheon could be subject to claims for damagesfor errors in its products.Sopheon maybe exposed to claims for damages from customers in the event that there areerrors in its software products. Sopheon has sought to protect itself from suchrisks through its development methodologies, its contract terms and insurance,and is not aware of any such claims at this time.

 

6
**ITEM4. INFORMATION ON THE COMPANY**
A.HISTORY AND DEVELOPMENT OF THE COMPANY

Sopheon is a provider of softwaresolutions, focused on the research and development ("R&D")community, to support knowledge intensive business processes that enablecustomers to access internal and external information sources more efficientlyand effectively. Sopheon operates as a public limited company, under the laws ofEngland and Wales, and currently has operations in the United Kingdom, theUnited States and the Netherlands. Sopheon's registered address and principalplace of business is located at Surrey Technology Centre, 40 Occam Road,Guildford GU2 7YG, United Kingdom. Sopheon's telephone number is +44 (0) 1483685735. In the United States, Sopheon's principal place of business is locatedat 2850 Metro Drive, Minneapolis MN 55425-1566.

Sopheon was founded in 1993 as PolyDocNV. In August 1996, PolyDoc plc, a newly incorporated UK holding company,acquired 100% of PolyDoc NV in a group reorganization. In September 1996,PolyDoc plc obtained admission to the Alternative Investment Market (AIM) of theLondon Stock Exchange and raised £1.66 million by means of a placing ofordinary shares. A further £0.89 million was raised from a venture capitalistin the Netherlands in January 1997, followed by admission to the Euronext stockmarket in Amsterdam in March 1997.

In July 1998, PolyDoc plc issued £1.57million of 5% convertible loan stock, which was subscribed by three of itsshareholders. The loan was converted into ordinary shares, at a price of £1.46per ordinary share, on July 31, 2000. As part of the transaction, each of thethree shareholders was also granted 300,000 warrants to subscribe for ordinaryshares at the same price of £1.46 per ordinary share, exercisable on or beforeMarch 31, 2001. These warrants lapsed unexercised in 2001.

In December 1998, PolyDoc plc acquiredLessenger Associates BV, a Dutch company offering document management solutionswith a customer base of 50 healthcare institutions, for £168,000, satisfiedpartly in shares and partly in cash (with the cash element raised primarilythrough a £100,000 share placing). An additional £500,000 was raised in March1999 through a further share issue.

In November 1999, PolyDoc plc acquiredAppliedNet Limited, a company offering knowledge management solutions with anestablished market presence and commercial infrastructure in the United Kingdom,for £8.3 million in shares. Simultaneously, PolyDoc plc raised £7.7million (net of issue expenses) through an institutional placing of ordinaryshares and changed its name to Sopheon plc. Total costs associated with thetransaction were of the order of £0.6 million. Following the change of name ofthe holding company to Sopheon plc, PolyDoc NV was renamed Sopheon NV andAppliedNet was renamed Sopheon UK Limited.

During 1999, Sopheon began to expandits presence in the United States, initially with the recruitment of a ChiefTechnology Officer and, later, with the creation of a sales and development basein Denver, Colorado.

In February 2000, Sopheon paid£164,000 to Pro-GRAM BV, as part of a commitment to contribute a total of£410,000 for a 25% equity interest in a joint venture with three leading Dutchteaching hospitals to provide software solutions to the medical and healthcaresector.

In March 2000, Sopheon announced theraising of approximately £19.9 million (net of issue expenses of approximately£1.1 million) through an institutional placing of its shares, and alsoannounced the proposed acquisition of Teltech Resource Network Corporation("Teltech"), a company based in Minneapolis, Minnesota, engaged inresearch services and the provision of technical and business information to thedesktop. The acquisition of Teltech was completed on September 15, 2000 for atotal consideration of £26,211,000, financed by £10,775,000 in cash and thebalance in Sopheon shares and share options.

In October 2000, Sopheon announced thelaunch of its Accolade®**system, an integrated set of softwareapplications, tools and research capabilities designed to help major corporatecustomers to enhance their new product development process and success rates.The decision to move forward with Accolade® was partly in responseto the slow buying cycles within public sector healthcare institutions whichrepresented Sopheon's market focus in the late 1990s, leading to an emphasison developing a solution which was both specific to a business application, andpositioned to be attractive to customers which would have a rapid and commercialapproach to purchasing decisions. Accolade® was first released tothe market in the second quarter of 2001. Since the initial release, furtherimprovements in functionality have been made leading up to the current version,Accolade®5.0, released in October 2003. Sopheon developed thisproduct in partnership with the Ontario-based Product Development Institute.

 

7

On June 19, 2001, Sopheon raised anadditional £2,600,000 for working capital through the issue to management andother investors of 6% Convertible Loan Stock, originally due to mature in June2003. As described below, the instrument has since been reconstituted asnon-interest-bearing and mandatory convertible by December 31, 2005.

In June 2001, Sopheon completed theacquisition of the Technology and Information Services division of AventisResearch & Technologies ("AIT"), based in Frankfurt, Germany. Thebusiness, providing expert research, content delivery and portal andapplications development, was transferred into a newly established company,Sopheon GmbH.

In November 2001, Sopheon completed theacquisition of UK-based Orbital Software Holdings plc ("Orbital") aleading provider of knowledge sharing and collaboration solutions. Based inEdinburgh, Scotland, Orbital had approximately 80 staff and also had officefacilities in Boston, Massachusetts and Gatwick, England. The primary product ofOrbital was marketed under the product name "Organik" now marketed asQ&A Centre. Q&A Centre creates an environment in which knowledge workersand user communities can find answers, locate expertise and share knowledge. Itis designed to capture the questions and answers of people within anorganization and to build a searchable and re-usable knowledge base. Keyfeatures of Q&A Centre were incorporated into Sopheon's Accolade®software solution.

In the final quarter of 2001, theCompany was reorganized into two operating divisions: Information Management"IM", which comprised the research services side of Sopheon'sbusiness acquired with Teltech and AIT; and Business Process Solutions"BPS", which comprised the proprietary Accolade® andQ&A Centre software business. A healthcare applications unit was alsoretained in the Netherlands to focus on regional opportunities in that sector.The reorganization included a sharp reduction in the cost base throughelimination of duplicated costs and a significant contraction of the workforceby approximately 80 positions. The overall cost of the restructuring amounted toapproximately £1million.

Against a background of generaleconomic uncertainty prevailing during 2002 and into 2003, which createddifficult trading conditions for the Group, resulting in continued tradinglosses and cash outflows, the Sopheon Board concluded that a fundamentalrestructuring of the business was required to improve the Group's balance sheetand to further reduce operating costs, while focusing the business on the highgrowth potential of its software business. The restructuring measures taken areset out below:

On June 16, 2003, the Company issued4.5 million new ordinary shares by way of a placing for cash at 12p per share toraise additional working capital for the Company.

On June 30, 2003, the holders ofSopheon's 6% Convertible Loan Stock approved an extension of the maturity dateof the stock by a further year to June 19, 2005.

On July 1, 2003, the Company completedthe divestiture of its US-based IM business to FIND/SVP, Inc.("FIND"). The gross value of the transaction amounted to just over $5million, including $3 million in immediate cash consideration and a further $0.4million in potential earn-outs. FIND also assumed approximately $2.1 million ofnet current liabilities and approximately $0.4 million of tangible fixed assets.As part of the structure of the transaction, FIND issued $50,000 of its stock toSopheon on completion, and Sopheon issued $100,000 of Sopheon ordinary shares toFIND.

On August 18, 2003, Sopheon announcedthe sale of its German-based IM business to FIND for a nominal sum. At the sametime its German-based software and services divisions were sold to theirmanagement to form independent, locally-owned units, which are continuing tosupport Sopheon's Accolade® solution.

 

8

Further cost reduction measures wereimplemented in Sopheon's remaining business, in which headcount was reduced toless than 60 staff.

On October 22, 2003, Sopheon issued8,333,334 ordinary shares for cash at 12p per share by way of a share placing toraise £1 million (before expenses) in additional working capital for the Group.

On December 23, 2003, the Companyannounced that it had entered into a definitive agreement with GEM Global YieldFund Limited ("GEM") for a €10 million equity line of creditfacility. The agreement takes the form of a subscription and share lendingagreement (the "Agreement") such that the Company may, at its optionwithin the terms of the Agreement, require GEM to subscribe for Sopheon sharesat a 10% discount to the average market bid price for the 15 days preceding theissue, up to an aggregate of €10 million over the two-year life of theAgreement. GEM's obligation to subscribe for shares is subject to certainrestrictions including the prevailing trading volumes of Sopheon shares on theEuronext stock exchange. In all other respects the Company remains in control ofthe amount and timing of any subscription under the equity line and is under noobligation to use the facility at any point during the term.

On January 26, 2004, Sopheon issued3,600,000 ordinary shares for cash at 23p per share by way of a share placing toraise £828,000 (before expenses) and on March 3, 2004 Sopheon issued 2,000,000ordinary shares to GEM pursuant to the Agreement referred to above to raiseapproximately £620,000 (before expenses), both issues providing additionalworking capital for the Group.

On June 25, 2004, Sopheon issued4,651,163 ordinary shares for cash at 21.5p to raise approximately £1 millionbefore expenses.

On July 14, 2004 holders of Sopheon'sConvertible Loan Stock 2005 approved a resolution to reconstitute the Stock suchthat, subject to the Sopheon Group continuing to meet key solvency tests, theStock is no longer repayable at par at maturity but will automatically converton December 31, 2005 into Sopheon ordinary shares at the conversion rate of 12pnominal of the Stock per Sopheon share. The resolution also provided that theStock is no longer interest-bearing. As consideration for the forgoing ofinterest and repayment rights, holders of the Stock received a compensationpayment of 7% of the nominal value of the Stock on August 2, 2004. Onreconstitution, the Stock was renamed "Interest Free Mandatory ConvertibleLoan Stock". Following the modifications to the Stock, the instrument hasbeen reclassified as part of equity shareholders' funds in Sopheon's balancesheet. Accordingly, an amount of £1,509,000, representing the nominal value ofthe Stock outstanding at December 31, 2004 following conversion by certain ofthe holders of the Stock, has been transferred to shareholders funds.

Following the divestments in 2003, theresults for the year ended December 31, 2004 were the first for Sopheon'scontinuing software business on a stand-alone basis. Sopheon's consolidatedturnover from continuing activities grew to £4.3 million (2003: £2.7 million).Goodwill amortization charges amounted to £0.4 million (2003:£4.6 million) for the year, in addition to net interest of £0.3 million(2003: £0.2 million). After factoring in research and development tax creditsamounting to £0.1 million (2003: £0.3 million) the retained loss for the yearwas £1.8 million (2003: £5.5 million) reducing the loss per ordinaryshare to 1.6p (2003: 6.3p).

Since the year end, Sopheon announcedon May 24, 2005 the release of version 6.0 of Accolade®, includingnew features focused on eliminating the administrative, communication andknowledge-sharing impediments to the adoption of effective product developmentprocess methodology. Version 6.0 of Accolade® was developed withR&D and marketing support from Microsoft, and includes integrated links toenable its use in conjunction with widely-used Microsoft productivity tools,such as Microsoft® Office Enterprise Project Management platform andSharePoint® Portal Server.

On May 31, 2005 Sopheon issued4,347,826 ordinary shares for cash at 23p per share to raise £1.0m afterexpenses for working capital purposes.

On June 17, 2005, at Sopheon's AnnualGeneral Meeting, the Company announced that its client base now included 57licensed customers, and that it was continuing to make significant strategic andoperational advances in pursuit of its core business goals.

 

9

B.BUSINESS OVERVIEW
**Introduction**
The Sopheon Group is an internationalprovider of software and services that help organizations improve the businessimpact of product development. The Sopheon Accolade® productdevelopment system automates gate- or phase-based product development("PD") processes and provides strategic decision support that allowscompanies to improve innovation, cut product development spending waste andshorten time to market.

During 2003 Sopheon divested itsinformation management divisions in the United States and Germany.

Sopheon has operating bases in theUnited States, United Kingdom and the Netherlands.

 
**Analysis of Turnover By GeographicalDestination***Year      ended December 31  ** 2004** 2003** 2002**£'000** £'000** £'000*United      Kingdom  811       551       820Rest      of Europe  1,535       942       835North      America  1,977       1,069       1,095Rest      of World  -       107       104 Continuing      businesses  4,323       2,669       2,854 United      Kingdom  -       -       9Rest      of Europe  -       1,712       3,177North      America  -       2,349       6,296Rest      of World  -       4       17 Discontinued      businesses  -       4,065       9,499  4,323       6,734       12,353
 
**Analysis of Turnover By Category ofActivity***Year      ended December 31  ** 2004** 2003** 2002** **£'000** £'000** £'000*Continuing      businesses - software and consultancy  4,323       2,669       2,854Discontinued      businesses - software and consultancy  -       252       453Discontinued      businesses - information research and services  -       3,813       9,046  4,323       6,734       12,353
 10
**Reliance on licenses, contracts andother relationships**
Certain Sopheon products incorporatesoftware licensed from third parties in the ordinary course of business. Sopheonhas also entered into industrial and commercial contracts with customers,suppliers, lessors and other parties and has entered into financing arrangementswith banks and other financial institutions in the ordinary course of business,and its operations are dependent on these contracts and arrangements. Inaddition, Sopheon's range of software products is based on a number ofintellectual property assets, the most significant of which are:
•Sopheon's      "Integrated Document Production Architecture" ("IDP/A"),      which enables the creation of specific software applications for a wide      variety of industry sectors, and is the subject of a European patent      granted January 1988 and a US patent granted in February 2004. Today this      technology is primarily applied in Sopheon's healthcare compliance      solutions in the Netherlands.•Orbital's      "Information System using Human Resource Profiles", which is      used in the Q&A Centre (formerly Organik) product and is the subject      of US and UK patents. European patent applications have been filed.•A business partnership      agreement with the Product Development Institute ("PDI") of      Ontario, Canada, which grants Sopheon the rights to embed certain new      product development methodologies and content into its Accolade®      products.
In addition, Sopheon has filedtrademark applications in the European Union, the United States and Canada for anumber of its brands and products including "Sopheon", the Sopheonlogo, "Sopheon Accolade®", "IDP/A" and "Organik"Sopheon has no other dependence on patents, licenses, industrial, commercial orfinancial contracts, or new manufacturing processes, which are material to itsbusiness.

In 2004 Sopheon sought to positionitself for the longer term in two areas, first by securing distribution partnersin geographical areas outside the Company's existing sphere of operations, andsecond by entering strategic alliances in key markets. The first area is a keypriority for further expansion in 2005, to augment existing partner presence incontinental Europe and the Asia Pacific. The second bore fruit in the finalquarter of 2004, with the announcement of Sopheon's membership of Microsoft'sCollaborative Product Development (CPD) initiative, which is designed to helpcompanies leverage investments in Microsoft technology by using it to improveproduct development success rates. Other CPD participants include HewlettPackard, UGS, and Dassault Systems.

In conjunction with the launch of theMicrosoft CPD initiative, Sopheon announced that it would integrate MicrosoftProject Server 2003 and SharePoint Portal Server 2003 into Accolade, to furtherenhance collaborative, information-sharing and enterprise deploymentcapabilities. During the first quarter of 2005, with support from Microsoft,resources have been expanded to accelerate these developments. Accolade is builton Microsoft technology and since inception, has leveraged tools such as Office,NetMeeting and Project to facilitate information sharing, ease-of-use and fastimplementation. The expanded integration of Microsoft technologies will increaseAccolade's capacity to leverage work repositories and will strengthen itsability to scale to enterprise-wide implementation.

Sopheon's businesses in the UnitedKingdom, the Netherlands and the United States are impacted by governmentregulations relating to employment, health and safety and other areasnon-specific to Sopheon's business. Sopheon is not aware of any specificregulatory body applicable to the conduct of its business in any of thesecountries.
** **
11

C.ORGANIZATIONAL STRUCTURE

Details of the investments in which theGroup holds more than 20% of the nominal value of any class of share capital areset out below. Companies marked with an asterisk* are held via Sopheon UKLimited and those marked with an obelus† are held via Orbital SoftwareHoldings plc.

 

*Name of company and country of incorporation   *

*Holding   *

*Proportion of ownership interest   *

* Nature of business*

Sopheon Corporation Minnesota USA   

Common Stock   

   100%   

Software sales and services

Sopheon Corporation Delaware USA   

Common Stock   

   100%   

Software development

Sopheon NV The Netherlands   

Ordinary Shares   

   100%   

Software sales and services

Lessenger BV The Netherlands   

Ordinary Shares   

   100%   

Software sales and services

Sopheon UK Ltd United Kingdom   

Ordinary Shares   

   100%   

Software sales and services

Orbital Software Inc.† Delaware, USA   

Common Stock   

   100%   

Dormant

Orbital Software Holdings plc United Kingdom   

 Ordinary Shares   

   100%   

Dormant

Sopheon Edinburgh Ltd† United Kingdom   

Ordinary Shares   

   100%   

Dormant

Orbital Software Europe Ltd† United Kingdom   

Ordinary Shares   

   100%   

Dormant

Network Managers (UK) Ltd* United Kingdom   

Ordinary Shares   

   100%   

Dormant

AppliedNet Ltd* United Kingdom   

Ordinary Shares   

   100%   

Dormant

Future Tense Ltd* United Kingdom   

Ordinary Shares   

   100%   

Dormant

PolyDoc Ltd United Kingdom   

Ordinary Shares   

   100%   

Dormant

Applied Network Technology Ltd* United Kingdom Trust   

Ordinary Shares   

   100%   

Employee Share Ownership

 

12

D.PROPERTY, PLANTS AND EQUIPMENT

Sopheon does not own real property butleases premises in several locations. The basic terms of the leases and thelocations of properties leased by Sopheon are as follows:

*Location   *

* Expiry of lease   *

* Total squarefeet   *

* Use*

Guildford, England   

 At one month'snotice   

        3,300   

 Office

Minneapolis, Minnesota, United States   

 December 2009   

        7,500   

 Office

Arvada, Colorado, United States   

 May2005   

        8,414   

 Office

Amsterdam, the Netherlands   

 December2006   

        4,887   

 Office

Maastricht, the Netherlands   

 December2004   

        3,875   

 Office

Sopheon considers its properties andequipment to be adequate in the context of its current business plan. Fullprovision has been made in the financial statements at December 31, 2004 forfuture rentals in respect of vacant premises in Edinburgh, held under a leasewhich expired in April 2005.
** **
13
**ITEM5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS**
A.OPERATING RESULTS

The following discussion is based uponthe Company's financial statements for the three-year period toDecember 31, 2004, which have been prepared in accordance with accountingprinciples generally accepted in the United Kingdom. The results for thethree-year period ended December 31, 2004 are summarized in the table below.

 

*Year ended December 31   *

* 2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*

**TURNOVER **

** **

** **

** **

Continuing businesses 

 4,323

 2,669

 2,854

Discontinued businesses 

 -

 4,065

 9,499

 

 

4,323

 6,734

 12,353

Cost of sales 

 (993
)
 (4,117
)
 (9,002
)
 

**GROSS PROFIT** 

 3,330

 2,617

 3,351

Sales and marketing expenses 

 (2,588
)
 (3,442
)
 (5,437
)
Research and development expenses 

 (890
)
 (1,237
)
 (2,331
)
Amortisation and impairment chargesin   respect of goodwill 

 (440
      )
 (4,586
      )
       (5,922
      )
Other administrative expenses 

 (1,111
)
 (2,577
)
 (5,727
)
 

**OPERATING LOSS**

** **

** **

** **

Continuing businesses 

 (1,699
) 
 (4,269
)
 (7,568
)
Discontinued businesses 

 -

 (4,956
)
 (8,498
)
 

 

(1,699
) 
 (9,225
)
 (16,066
)
Share of operating loss of   associated undertaking 

 -

 -

 (46
)
Profit on disposal of operations 

 -

 3,568

 -

Interest expense, net 

 (265
)
 (149
)
 (67
)
 

**LOSS ON ORDINARY ACTIVITIES BEFORETAXATION** 

 (1,964
)
 (5,806
)
 (16,179
)
Tax credit 

 143

 305

 126

 

**RETAINED LOSS FOR THE YEAR** 

 (1,821
)
 (5,501
)
 (16,053
)
14

The results for the three years canalso be expressed in terms of percentages of turnover as follows:

*Year ended December 31   *

*2004*

*2003*

*2002*

* *

*%*

*  %*

*  %*

**TURNOVER **

** **

** **

** **

Continuing businesses 

 100

 40

 23

Discontinued businesses 

 -

 60

 77

 

 

100

 100

 100

Cost of sales 

 (23
)
 (61
)
 (73
)
 

**GROSS PROFIT** 

 77

  39

  27

Sales and marketing expenses 

 (60
)
 (51
)
 (44
)
Research and development expenditures 

 (21
)
 (19
)
 (19
)
Amortisation and impairment      charges in         respect ofgoodwill 

 (10
      )
 (68
      )
       (48
      )
Other administrative expenses 

 (26
)
 (38
)
 (46
)
 

**OPERATING LOSS**

** **

** **

** **

Continuing businesses 

 (39
)
 (63
)
 (61
)
Discontinued businesses 

 -

 (74
)
 (69
)
 

 

(39
)
 (137
)
 (130
)
Profit on disposal of operations 

  -

  53

  -

Interest expense, net 

 (6
)
 (2
)
 (1
)
 

**LOSS ON ORDINARY ACTIVITIES BEFORETAXATION** 

 (45
)
 (86
)
 (131
)
Tax credit 

 3

 5

 1

 

**RETAINED LOSS FOR THE YEAR** 

 (42
)
 (81
)
 (130
)**Management's Discussion and Analysis***Summary*
The Sopheon Group is an internationalprovider of software and services. The Sopheon Accolade® productdevelopment system automates gate- or phase-based product development processesand provides strategic decision support that allows companies to improveinnovation, cut product development spending waste and shorten time-to-market.

The majority of clients who purchaseSopheon's software and services are R&D intensive companies in thehigh-technology manufacturing, chemicals, food and beverage, and healthcareindustries. The market for Sopheon's software and services is highlycompetitive with demand sensitive to trends in the overall economy.

Until mid 2003, the Sopheon Groupcomprised two separate operating divisions, Information Management("IM") representing research analyst services and informationprovision, and Business Process Solutions ("BPS") representing theGroup's software and services activities.

During 2003, Sopheon embarked on arestructuring of the Group in order to concentrate resources on the Group'ssoftware and services business, and in particular on its proprietary Accolade®software solution. The restructuring involved the divestments of Sopheon's IMbusinesses in the United States and Germany, which were completed in July 2003and August 2003, respectively, together with the implementation of further costreductions in Sopheon's continuing software and services businesses. Inaddition, additional funds were raised through a number of share placements, andthe Group's debt was restructured into an equity instrument in June 2004.
*** 15

Critical Accounting Policies

Sopheon prepares its financialstatements in accordance with UK generally accepted accounting practice (UK GAAP)and reconciles profit after taxation, shareholders' equity and cash flows to USGAAP. The Group's significant accounting policies are summarized in Note 1 ofthe Notes to Financial Statements. A critical accounting policy is defined asone that is both material to the presentation of our financial statements andrequires management to make difficult, subjective or complex judgments thatcould have a material effect on our financial condition and results ofoperations. Specifically, critical accounting estimates generally require us tomake assumptions about matters that are highly uncertain at the time of theestimate; and if different estimates or judgments were used, the use of theseestimates or judgments would have a material effect on our financial conditionor results of operations.

The estimates and judgments we makethat affect the reported amount of assets, liabilities, revenues and expensesare based on our historical experience and on various other factors, which webelieve to be reasonable in the circumstances under which they are made. Actualresults may differ from these estimates under different assumptions orconditions. We consider our accounting policies related to revenue recognitionand accounting for research and development costs to be critical accountingpolicies.

Revenue Recognition. Sopheon has threebroad categories of revenue, arising from the sale of software products, supportand maintenance services, and consultancy services. Overall, software productsaccounted for approximately 60% of revenue in 2004, with the other twocategories accounting for approximately 20% each.

Software is generally sold on aperpetual license basis with the revenue recognized on delivery provided nosignificant obligations remain towards the customer. Revenues fromimplementation and consultancy services in respect of software sales arerecognized as the services are performed, based on day-rates or an overall fixedprice agreed with the customer for a particular assignment. Where suchassignments are long-term in nature, revenue is recognized on a percentage basisas the work is completed and any relevant milestones are met, using latestestimates to determine the expected duration and cost of the project. Revenuesrelating to maintenance and post contract support agreements are typicallyannual contracts that are deferred and recognized ratably over the period of theagreements. This ratable model also applies to a small number of softwarecontracts that are sold on an annual subscription basis.

Research and Development. Expenditureon research and development is not capitalized but is written off as incurred,as are the costs of registering patents and trademarks. A discussion of suchexpenditure is presented below. Subsidies received from state agencies arecredited to the profit and loss account over the period to which they relate.
*International Financial ReportingStandards ("IFRS")*
As an AIM quoted UK group Sopheon isnot required to adopt IFRS until the financial statements for the year 2007 andwould expect to continue to report under UK GAAP for 2005 and 2006. At thisstage the Company has performed a preliminary review of the key areas whereSopheon's financial statements are likely to be affected by adoption of IFRS.These are expected to be accounting for share based compensation, research anddevelopment costs, and financial instruments. The board has considered themerits of early adoption of IFRS and has concluded that for the time being, thecosts of early conversion outweigh the benefits.
*Impact of new accounting standards*
New accounting standards that areexpected to have a material effect on Sopheon's financial statements as preparedunder UK GAAP, and also to the reconciliation to US GAAP, are summarized below.

UK GAAP

FRS20 Share-based Payment: Thisstandard will apply to Sopheon's financial statements for 2006 and will requireSopheon to recognize as an expense in its financial statements the fair value ofshare-based payments, with a corresponding credit to equity. This is expected toresult in a significant additional charge to the profit and loss account, butwill have no effect on reported net assets. In the case of options granted toemployees, which is expected to be by far the largest category of such payments,the fair value is to be calculated using the most appropriate of a number ofindustry standard valuation techniques. Examples include the Black-Scholes andthe Binomial option pricing models. Broadly, the fair value computed is expensedover the period in which the underlying option vests. The impact of adoption ofFRS20 has not been predicted at this time in part because it will depend onlevels of options granted in the future.

 

16

The other new UK standards listed beloware expected to result in additional or modified disclosure, but are notexpected to have a material quantitative effect on financial statements.

FRS22 Earnings Per Share: This standardwill apply to Sopheon's financial statements for 2005 and relates to the methodof disclosure of earnings per share, including disclosure of earnings per sharefor total and for continuing operations, and including the dilutive effect ofpotential ordinary shares.

FRS23 The Effects of Changes in ForeignExchange Rates: This standard will apply to Sopheon's financial statements for2005 and provides that entities should measure their financial statements in thefunctional currency (i.e. the currency of the primary economic environment inwhich the entity operates) and may then translate the financial statements intothe currency in which the entity's financial statements are to be presented.

FRS25 Financial Instruments Disclosureand Presentation and FRS 26 Financial Instruments Measurement: These standardswill apply to Sopheon's financial statements for 2005 and contain requirementsas to qualitative and quantitative disclosures and presentation in respect offinancial instruments issued by it.

US GAAP

FASB Statement 123 (Revised): Thisstandard will apply to Sopheon's US GAAP reconciliation for 2005 and willrequire Sopheon to recognize as an expense in its financial statements the fairvalue of share-based payments. As permitted by Statement 123, the Companycurrently accounts for share-based payments to employees using Opinion 25'sintrinsic value method and, as such, generally recognizes no compensation costfor employee stock options. Accordingly, similar to under UK GAAP with FRS20 asdescribed above, the adoption of Statement 123(R)'s fair market value methodwill have a significant impact on result of operations, although it will have noimpact on the net asset position.
*Turnover*
Sopheon's 2002 turnover amounted to£12,353,000, comprising £2,854,000 from continuing businesses and £9,499,000from businesses divested during 2003.

Sopheon's 2003 turnover amounted to£6,734,000, a reduction of £5,619,000 compared with 2002. Turnover in 2003includes £4,065,000 in respect of Sopheon's predominantly IM businesses inthe United States and Germany, which were divested in July 2003 and August 2003,respectively. Turnover from Sopheon's continuing BPS businesses in the UnitedStates, the United Kingdom and the Netherlands was £2,669,000, a slightreduction of £185,000 compared with 2002. However, over 90% of Sopheon'scontinuing BPS turnover consisted of revenue from Sopheon's proprietarysoftware, compared with 76% in 2002, demonstrating growth in the proprietarybusiness as consultancy and bespoke services declined.

Sopheon's 2004 turnover amounted to£4,323,000, an increase of 62% compared to the continuing BPS business in 2003.Within this, due to sales growth, revenues for Sopheon's core softwareproducts almost doubled expressed in US dollar terms, and grew over 70% whenexpressed in sterling terms. The weakening dollar had a significant effect onreported turnover, but because a large portion of Sopheon's costs are dollardenominated, the overall effect on Sopheon's losses was marginally positive.Viewed broadly, Sopheon's revenue mix in 2004 was 60:20:20 among license,maintenance and consulting services, respectively. The management team is veryconscious of the importance of building the recurring revenue base ofmaintenance contracts, and Sopheon enters 2005 with an annualized run rate ofmore than £1 million in such revenue.

In 2004 there was continued end-useradoption for Accolade, with the largest single client implementation at 2200seats, one of four Sopheon clients that had contracted for 2000 or more Accoladeseat-licenses. Contracts were concluded to extend the use of Accolade, for thefirst time, to automate and improve business processes beyond the area ofproduct development such as the management of clinical trials.

 

17

No single customer accounted for 10% ormore of Sopheon's consolidated revenues in any of the years 2002, 2003 or2004.
*Gross Margin

Overall gross margin was 39% in 2003compared with 27% in both 2002 and 2001. This is a result of the divestment ofSopheon's lower margin IM business in the United States and Germany during2003 (which are included only up to the dates of disposal) and the increasingproportion of high margin revenue from proprietary software products included inSopheon's continuing BPS business. Gross margin from Sopheon's continuingbusiness in 2003 was 77%. Gross margin on the businesses that were divested in2003 was 14%, further depressed by the high and rigid cost structure inherent inthe German IM business.

The gross margin for the IM businesswas lower in 2003 at 14% compared with 24% in 2002, reflecting the continuedeffects of weak economic conditions noted above in both the United States andGermany.

The 2004 gross margin has improved from27% in 2002, the last full year including the divested information managementservices businesses, to 77% for the continuing software business in 2004. Thisreflects the relatively high proportion of license revenues in 2004, which beara low direct cost of sale comprising software royalties. The other major elementof direct costs of sale for the continuing software business is the payroll costof client services staff.
*Sales, Marketing and AdministrativeCosts

In 2002, sales and marketing costs were£5,437,000 representing 44% of turnover. In 2003, sales and marketing costsfell in absolute terms by 37% to £3,442,000 (reflecting the divestment of theIM businesses and the further cost rationalization measures) but were higher asa percentage of turnover at 51%, as marketing resources were concentrated onSopheon's proprietary Accolade® software. Of the total,£2,868,000 was attributable to the continuing business and the remaining£574,000 to the divested IM businesses.

In 2004, sales and marketing expensesagain fell in absolute terms to £2,588,000, as the full year effect of costreductions in the continuing business came through, and also due to the weakerdollar depressing the sterling value of such expenditure.

Sopheon's administrative expenses,excluding R&D costs and goodwill amortization, amounted to £1,111,000 in2004 compared with £2,577,000 in 2003 and £5,727,000 in 2002. This categoryincludes all facility and internal infrastructure costs in addition to thespecific finance, human resources and administration departmental expenses.

During 2002 Sopheon continued itsprogram of rationalization of its high fixed cost and overhead base, which hadbeen the result of the geographically disparate acquisitions made in 2000 and2001. Fixed costs were reduced by 35% during 2002, bringing the cumulativereduction since Sopheon's acquisition of Orbital in late 2001 to 55%, andheadcount was reduced to 184 at the end of 2002, compared with 264 in January2002.

During 2003, administration costs fellby a further 55%, as a result of the divestment of the Group's IM businessesand further rationalization of Sopheon's continuing activities, with headcountreducing to 60 at the end of 2003.

Although overall headcount remainedfairly stable during the year, in 2004, administration expenses fell by afurther 56% in absolute terms compared with 2003. As with sales and marketing,this primarily reflected the full year effect of the rationalization measuresundertaken in 2003, the divestment of the IM division, and some impact from theweaker dollar depressing the sterling value of such expenditure.
* *
18
*Research and Development Costs

The gross and net research costs can beanalyzed as follows:

*Year ended December 31   *

*  2004*

*  2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*

Research and development costs 

  890

 1,237

  2,331

Grants and subsidies 

  -

  -

 (69
)
 

Net expenditure charged 

 890

 1,237

 2,262

 

The acquisition of Orbital in December2001 brought with it a development team based in Edinburgh focused on itsOrganik solution. During 2002, the Organik solution (now marketed as"Q&A Centre") was incorporated into version 4.0 of Sopheon'sAccolade® product, providing important additional functionalitydesigned to enable organizations to capture and re-use information using a"question and answer" technique. Following the release of Accolade®version 4.0, Sopheon's R&D resources were scaled back with the focusreturning to Sopheon's Denver office as part of the cost base and headcountreductions implemented during the year.

Prior to 2002, R&D spending waspredominantly focused at Sopheon's Denver operation on the development of theAccolade® solution, with the first market release (version 2.0) inthe second quarter and a further, enhanced release (version 3.0) at the turn ofthe year.

In 2003, development work at Denvercontinued to focus on Accolade®, culminating in the release ofAccolade® version 5.0, incorporating improved capabilities specificto the control of new product development.

R&D costs in 2004 declined to£890,000. Following the release of Accolade® 5.0 in 2003, R&Dresources were kept relatively constant until the end of 2004. As with sales andmarketing, the reduction in costs primarily reflected the full year effect ofrationalization measures undertaken in 2003 and the divestment of the IMdivision, with some impact from the weaker dollar depressing the sterling valueof such expenditure.

Sopheon implemented a controlledexpansion in R&D resources in the final weeks of 2004, recruiting at ourDenver development center.
*Amortization of Goodwill*
The charge for goodwill amortization in2002 was £5,922,000, fell in 2003 to £4,586,000 and fell further in 2004 to£440,000. These amounts represent the amortization required in respect of theresidual net book values of goodwill arising from the acquisitions of Teltechand Orbital, (following impairment charges made in 2001) and negative goodwillin respect of the acquisition of AIT, based on estimated economic lives of threeyears in each case.

During 2003, the remaining amountattributable to goodwill arising from the acquisition of Teltech was fullyamortized. The residual amount of negative goodwill arising from the acquisitionof AIT was written off on the disposal of that business in August 2003. AtDecember 31, 2003, the Group carried unamortized goodwill of £440,000, all ofwhich arises from the acquisition of Orbital in November 2001.

During 2004, the remaining goodwill of£440,000 in respect of Orbital was fully amortized.
* *
19
*Net Interest Expense

This category includes bank interestreceivable and interest payable and similar charges. During each of the threeyears, the main components of interest expense were interest paid on the bankline of credit, which is secured against the receivables of Sopheon CorporationMinnesota, and interest on the Convertible Loan Stock.

In 2002, net interest expense was£67,000, comprising £260,000 of interest received in respect of Sopheon's cashand bank deposits, and £327,000 in interest expense, comprising £172,000 inrespect of the Convertible Loan Stock and £155,000 in respect of bank interest.

In 2003, net interest expense was£149,000 and consisted of interest receivable of £76,000, reflecting a furtherreduction in the Group's cash balances and interest payable of £225,000,comprising £171,000 in respect of the Convertible Loan Stock and £54,000 inrespect of bank interest, which was lower because of reduced use of the Group'sUS-based line of credit following the divestment of the US IM business.

In 2004, net interest expense was£265,000. Interest receivable was £83,000, and interest expense was £294,000in respect of the Convertible Loan Stock and £54,000 in respect of bankinterest. The charge in respect of the Convertible Loan Stock included a specialpayment of 7% gross to stockholders in August 2004 as compensation for foregoingfuture interest and rights to repayment, as part of the reconstitution of thestock referred to in Section B below and in Note 14 to Sopheon's financialstatements.
*Taxation*
At December 31, 2004, tax lossesestimated at £53 million were available to carry forward by Sopheon, arisingfrom historical losses incurred. Approximately £12.4 million of the tax lossesrelate to pre-acquisition tax losses of Teltech Resource Network Corporation andto Orbital Software Inc, the future utilization of which may be restricted underSection 382 of the US Internal Revenue Code, whereby the ability to utilize netoperating losses arising prior to a change of ownership is limited to apercentage of the entity value of the corporation at the date of change ofownership and is subject to a fifteen-year time limit from the year in which thelosses were incurred. Full allowance has been made against the deferred taxasset relating to the above tax losses, due to prior year reported losses andthe lack of certainty over future operating profits in the relevant companies.

In 2002, 2003 and 2004, Sopheonbenefited from UK tax credits in respect of its R&D expenditure amounting to£126,000, £305,000 and, £143,000, respectively.

 

20

B.LIQUIDITY AND CAPITAL RESOURCES
**Overview**
A summary of Sopheon's historical fundraising activities is provided in the Item 4 —"History of theCompany".

At December 31, 2004, the Group had£1,211,000 available in cash resources against which there were outstandingbank lines of credit and other borrowings totaling £129,000. Net current assetswere £1,134,000 at the year end, comprising current assets of £3,112,000 lesscurrent liabilities of £1,978,000. Since the year end, on May 31, 2005, Sopheonraised £980,000 after expenses by means of a placing of 4,347,826 new ordinaryshares for cash at 23p per share, and at the end of May 2005 the Group's cashresources stood at over £2 million.

Capital expenditures are expected to bebelow £100,000 in 2005.

While Sopheon does not own any freeholdor leasehold property, it occupies several office locations around the worldinvolving leases of varying duration, and is committed to annual property rentalcharges at December 31, 2004 of approximately £330,000 per annum.

Sopheon has continued to generateoperating losses and cash outflows during 2004, albeit at a much reduced levelcompared with previous years, and continued cash burn is likely during at leastpart of 2005. Overall, overheads remained stable during 2004 and plans for 2005only include limited expansion of sales and services resources. Incentivepayments for staff as a whole also remain tightly linked to achieving financialobjectives.

On June 19, 2001, Sopheon raised£2,600,000 for working capital through the issue of convertible loan stock tomanagement and other investors. The principal terms of the convertible loanstock, as adjusted by subsequent resolutions of stockholders on November 7, 2002and June 30, 2003 were as follows:
•
The Loan Stock carried an annual    coupon rate of 6%.
•
The conversion price for the Loan    Stock (the "Conversion Price") was 12p per share. Conversion of    the Loan Stock was at the option of the investor at any time prior to    redemption. Any portion of the Loan Stock which was not converted would be    redeemed at par on June 19, 2005.
•
The Conversion Price could have    been adjusted if, at any time between the date of issue of the Loan Stock    and the date of conversion, the Company undertook a placing or similar    equity issue at a lower price, in which event the Conversion Price would    have been reset to the higher of the placing price or the nominal value of    Sopheon shares, which is 5p.

On July 14, 2004, holders of the LoanStock approved a resolution to reconstitute the Stock such that, subject to theSopheon Group not being wound up or having a liquidator appointed, the Stock isno longer repayable at par at maturity but will automatically convert onDecember 31, 2005 into Sopheon ordinary shares at the conversion rate of 12pnominal of the Stock per Sopheon share. The resolution also provided that theStock is no longer interest-bearing. On reconstitution, the Stock was renamed"Interest Free Mandatory Convertible Loan Stock".. As considerationfor the forgoing of interest and repayment rights, holders of the Stock receiveda compensation payment of 7% of the nominal value of the Stock on August 2,2004. Following the modifications to the Stock, the instrument has beenreclassified as part of equity shareholders' funds in Sopheon's balance sheet.Accordingly, an amount of £1,509,000 representing the nominal value of theStock outstanding at December 31, 2004 has been transferred to shareholders'funds.

Sopheon has in place a secured line ofbank credit of $1,000,000 (£0.5 million). The facility is limited to 80% of theeligible accounts receivable of Sopheon Corporation (Minnesota). As of December31, 2004, total outstanding borrowings were $207,000. Borrowings under thefacility bear interest at the rate of 2% over the bank's prime rate (5.25% atDecember 31, 2004). The line of credit is due for renewal in October 2005. Inaddition to its security against the accounts receivable of Sopheon Corporation(Minnesota), the facility is also secured against other assets of that company.

 

21

Based on Sopheon's plans for 2005,the cash resources currently available to it, together with the facilitiesavailable to the Group as described above, will be sufficient to meet the Group'sworking capital requirements until the position is reached where the Group iscash generative on a sustained basis. These plans are in turn dependent on theGroup maintaining the substantial sales growth achieved in 2004.

Should this not be the case, or shouldthe group require additional funding for other operational or investmentpurposes, Sopheon continues to have access to its equity line of credit facilityfrom GEM Global Yield Fund Limited ("GEM") for an aggregate of €10million until 22 December 2005. GEM's obligation to subscribe for shares issubject to certain conditions linked to the prevailing trading volumes andprices of Sopheon shares on the Euronext stock exchange. In March 2004, Sopheonmade a first call on the equity line of credit facility, raising just under €1million before expenses and accordingly, leaving €9 million available underthe instrument. The directors are considering whether it is appropriate to seekan extension to the life in order to provide continued access to the facilityfor the foreseeable future.

The Group's cash-flow statements forthe three years to December 31, 2004 are set out on page F-5, and are summarizedbelow:

*Year ended December 31   *

* 2004*

* 2003*

* 2002*

* *

*£'000*

*£'000*

*£'000*

Net cash outflow from operatingactivities 

 (1,813
)
 (4,332
)
 (10,268
)
Return on investments and servicing offinance 

 (265
)
 (149
)
 (67
)
Taxation 

  62

  305

  126

Capital expenditure 

 (42
)
 (27
)
 (86
)
Acquisitions and disposals 

  -

  1,031

  -

Management of liquid resources 

 (271
)
 1,934

  8,186

 

Net cash outflow before financing 

 (2,329
)
 (1,238
)
 (2,109
)
Financing 

  2,426

  1,480

 (12
)
 

Increase/(decrease) in cash 

 97

 242

 (2,121
)
 

During the period, Sopheon has investedin marketing and product development, resulting in net cash outflows onoperating activities, which have been financed primarily by the issue of equitycapital and convertible loan stock.

At December 31, 2004, Sopheon hadshort-term borrowings of £129,000, consisting primarily of the line of creditin the United States.

The report of Sopheon's independentregistered public accounting firm for the year ended December 31, 2004 includesan explanatory paragraph which raises substantial doubt over the ability of theGroup to continue as a going concern due to its history of recurring losses andits limited funds. The going concern basis depends on continued growth in thebusiness or, in the absence of such growth, the ability to secure fundingthrough the company's facilities or other sources. Details of the resourcesavailable to the Sopheon Group and the reasons why management consider that thecompany is able to continue as a going concern are set out in Note 1 to thefinancial statements.

Further information, including certainqualitative and quantitative disclosures on market risk, is given in Item 11 andin Note 19 to the financial statements.

 

22

C.RESEARCH AND DEVELOPMENT, PATENTS, AND LICENSES, ETC.

Sopheon's expenditure on R&D inthe three-year period ended December 31, 2004 is summarized in Section A above.

The technology portfolio has also beenenhanced by Sopheon's patented profiling technology acquired with Orbital, inrespect of which a US Patent was granted on February 25, 2003. During 2002,these technologies were integrated into the Accolade® productfamily, applying them to the process of creating, publishing and re-usingcontent from knowledge bases and communities of interest built up by anorganization during the product development life cycle.

 

D. TRENDINFORMATION

Sopheon has seen some early signs ofimprovement in the investment climate in the fourth quarter of 2003 and during2004. Sopheon further reduced its cost base during 2003, and continued todevelop its flagship software product Accolade®, with the launch ofversion 5.0 in October 2003. Accolade® continues to generate a highlevel of interest and sales activity, with an expanding installed client base,and increased validation of the market. Accolade® has demonstratedconsistently that it is a valuable solution in which clients are prepared toinvest. The benefits expected from the divestiture of Sopheon's US-based andGerman IM businesses in 2003 in terms of reduced complexity and sharpened focus,have materialized in 2004, with revenue derived from Sopheon's continuing coresoftware business increasing in 2004 by almost 75% in sterling terms. Thisprogress supports Sopheon's belief that there is a positive outlook for Accolade®in the current year, and that Sopheon is well-positioned to continue to advancetoward its goal of becoming a leading international supplier of software andservices that improve the financial return on innovation and product developmentinvestments.

 

E.OFF-BALANCE SHEET ARRANGEMENTS

The Group had no off-balance sheetarrangements in place during 2004 as defined by the Commission.

 

F.TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS

The following table sets forth theaggregate maturities of the Group's debt and operating leases and other longterm obligations for the five years subsequent to December 31, 2004.
*2005**2006**2007**2008**2009      and      thereafter**Total* *£'000**£'000**£'000**£'000**£'000**£'000*Borrowings129----129Operating      lease obligations4282171149050899Total 557
217 114
90 50
1,028
G. SAFE HARBOR

Sopheon plc wishes to take advantage ofthe safe harbor provisions of Section 27A of the Securities Act 1934 andSchedule 21E of the Securities Exchange Act 1934 in respect of forward-lookinginformation provided pursuant to Item 5 D and E.
** **
23
**ITEM6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

A.DIRECTORS AND SENIOR MANAGEMENT
The directors and executive        officers of Sopheon are as follows:
*Directors  *
Name

 Age

 Title

Barry Mence   

 52   

 Executive Chairman

Andrew Michuda   

 50   

 Chief Executive Officer

Arif Karimjee   

 38   

 Chief Financial Officer and      Company Secretary

Stuart Silcock   

 57   

 Non-executive director

Bernard Al   

 60   

 Non-executive director

Andrew Davis   

 47   

 Non-executive director

Daniel Metzger   

 51   

 Non-executive director
 *Executive      Officers *
Name

 Age

 Title

Paul Heller   

 43   

 Chief technology officer

Huub Rutten   

 57   

 Vice President product      research and definition

All directors hold office until thenext annual meeting of shareholders or until their successors have been dulyelected and qualified. Executive officers of Sopheon are appointed by and serveat the direction of the Board of Directors.
*Barry Mence,Executive Chairman. Barry Mence served as Chairman, Chief Executive Officer andDirector of Sopheon from its inception in 1993 until September 2000, when herelinquished the role of Chief Executive Officer to Andrew Michuda. From 1976 to1990, Mr. Mence was the major shareholder and Group Managing Director of RendeckGroup of Companies based in the Netherlands.
*Andrew Michuda, ExecutiveDirector. Andrew Michuda was appointed Chief Executive Officer of Sopheon inSeptember 2000. He was elected as President and Chief Executive Officer ofTeltech in April, 1997 and served as a Director of Teltech from 1997 untilSeptember 2000, when Teltech was acquired by Sopheon. Mr. Michuda held theposition of Vice President of Teltech from 1994 until 1997. He earlier heldsenior leadership positions at Control Data, including general manager of thebusiness that evolved into Decision Data, the world's largest independentcomputer services provider.
*Arif Karimjee,Executive Director. Arif Karimjee has served as Chief Financial Officer ofSopheon since February 2000. Mr. Karimjee was previously an accountant andauditor with Ernst & Young from August 1988 until joining Sopheon.
*Stuart Silcock,Non-executive Director. Stuart Silcock has served as a Director of Sopheon fromits inception in 1993. Since 1982, Mr. Silcock has been a principal partner ofLawfords & Co. and a director of Lawfords Ltd., chartered accountants. MrSilcock has been a non-executive director of Brown & Jackson Plc since June2001, and also holds a number of other UK directorships.
*Bernard Al,Non-executive Director. Bernard Al was appointed as a non-executive director ofSopheon in January 2001 and**is a former Chief Executive Officer ofWolters Kluwer in the Netherlands and has a background in science andlinguistics.
*Andrew Davis, Non-executiveDirector. Andrew Davis was a founder of Spider Systems Ltd in 1983 and held thepost of Chief Technology Officer for 12 years. He left Spider Systems Limited in1995 when it was sold to Shiva Corporation. He has since been aninvestor/director in a number of companies, including Orbital Software Holdingsplc.
* *
24
*Daniel Metzger wasuntil 1998 an executive vice president of Lawson Software, a leading ERPprovider, where he was responsible for corporate strategy and marketing. Sincethen he has held similar roles at Parametric Technologies, where he led thebusiness strategy and marketing around collaborative product developmenttechnologies and at nQuire Software, which was subsequently sold to Siebel.
*Paul HellerisChief Technology Officer. He joined Sopheon in June 1999, having previously beenVice President of Product Management for Baan Company.
*Huub Ruttenisresponsible for Sopheon's healthcare business in the Netherlands and also hasresponsibility for product research. A founder of PolyDoc, he has been anemployee of Sopheon for over seven years, and was a director of Sopheon untilSeptember 2000 when he assumed a more operational role.

 

B.COMPENSATION
***Directors' Remuneration***
Set out below is a summary of the feesand emoluments received by those persons who were directors of Sopheon duringthe fiscal year 2004, or (where applicable) during their period of office.
 *Salary      and Fees* *Benefits* *Contributions      to Pension* *Total      2004**Executive      directors*(£)B.K.      Mence112,824 5,374 4,875 123,073A. L.      Michuda98,722 5,295 1,921 105,938A.      Karimjee79,246 842 3,655 83,743         *Non-executive      directors*       S.A.      Silcock18,000 - - 18,000B.P.F.      Al18,000 - - 18,000A.B.      Davis18,000 - - 18,000D.      Metzger18,000 - - 18,000   362,792 11,511 10,451 384,754
 

The emoluments of S.A. Silcock are paidto Lawfords Limited, of which Mr. Silcock is a director.

 

25

The following table shows emolumentspayable to all directors and executive officers of Sopheon as a group in theyear to December 31, 2004.

*   *

*Salariesand fees*

*Benefits *

* Pensioncontributions*

*Total*

*   *

* £'000 *

* £'000 *

* £'000 *

* £'000*

Total for all directors and executiveofficers   

 523 

 33 

 16 

 572

 

The following table provides summaryinformation for each of the directors who held office during the year and whoheld options to subscribe for Sopheon ordinary shares. All options were grantedwithout monetary consideration.

*   *

*Date of Grant *

*Exercise  price  *

*At December  31, 2003  *

*   Granted  during  year  *

*Exercised during  year  *

* AtDecember31,2004*

B.K. Mence (1)   

 May 2, 2001 

 77.5p 

 22,500 

 - 

 - 

 22,500

B.K. Mence (1) 

 April 30, 2002 

 14.75p 

 100,000 

 - 

 - 

 100,000

A. L. Michuda (2) 

 September 15, 2000 

 184p 

 187,600 

 - 

 - 

 187,600

A. L. Michuda (2) 

 September 15, 2000 

 230p 

 7,846 

 - 

 - 

 7,846

A. L. Michuda (2) 

 September 15, 2000 

 322p 

 12,501 

 - 

 - 

 12,501

A. L. Michuda (2) 

 September 15, 2000 

 368p 

 1,756 

 - 

 - 

 1,756

A. L. Michuda (3) 

 October 2, 2000 

 427.5p 

 16,280 

 - 

 - 

 16,280

A.L. Michuda (3) 

 January 1, 2001 

 160p 

 5,030 

 - 

 - 

 5,030

A.L. Michuda (3) 

 May 2, 2001 

 77.5p 

 54,662 

 - 

 - 

 54,662

A.L. Michuda (4) 

 April 30, 2002 

 14.75p 

 487,932 

 - 

 - 

 487,932

A.L Michuda (4)(6) 

 November 5, 2003 

 16.25p 

 2,225,000 

 - 

 - 

 2,225,000

A. Karimjee (1) 

 November 22, 1999 

 150p 

 100,000 

 - 

 - 

 100,000

A. Karimjee (1) 

 May 2, 2001 

 77.5p 

 12,500 

 - 

 - 

 12,500

A. Karimjee (5) 

 April 30, 2002 

 14.75p 

 150,000 

 - 

 - 

 150,000

A. Karimjee (6)(7) 

 November 5, 2003 

 16.25p 

 300,000 

 - 

 - 

 300,000

B.P.F. Al (1) 

 May 2, 2001 

 77.5p 

 25,000 

 -   

 -   

 25,000

______________
(1)
 Exercisable between the third and  tenth anniversaries of the date of grant.
(2)
 Fully vested options, which were  granted as part of the acquisition of Teltech Resource Network Corporation.
(3)
One fourth of these options becomes  exercisable on each of the first four anniversaries of the date of grant.
(4)
Exercisable as to one third  immediately on grant and one third on each of the first and second  anniversaries of grant.
(5)
 Exercisable as to 100,000 options  between the third and tenth anniversary of the date of grant and as to 50,000  options exercisable immediately.
(6)
Options issued at market price.  Vesting of a proportion of these options is subject to performance conditions  relating to the achievement of positive EBITDA in two successive quarters.
(7)
Exercisable as to 93,846 options  between the third and tenth anniversary of grant and as to 206,154 option as  to one third immediately and one third on each of the first and second  anniversaries of grant.

 

26

C. BOARDPRACTICES

The executive directors of Sopheon andtheir dates of appointment are as follows:

*Name   *

* Date of Appointment*

Barry Mence   

 August 1994

Arif Karimjee   

 February 2000

Andy Michuda   

 September 2000

 

The contracts of service of theexecutive directors are for an indefinite term and incorporate various benefitsincluding entitlements to option and bonus programs in addition to base salary,which can be increased at the discretion of the board. These contracts alsoprovide for benefits on termination. The service contracts of Mr. Mence and Mr.Karimjee provide for notice periods of six months. Mr. Michuda's servicecontract would entitle him to a severance payment equal to nine months' basicremuneration on termination. The non-executive directors of Sopheon and theirdates of appointment are set out below. None of the non-executive directors hasa service contract with the Company.

*Name   *

* Date of Appointment*

Stuart Silcock   

 August 1994

Bernard Al   

 January 2001

Andrew Davis   

 November 2001

Daniel Metzger   

 September 2002

 

The audit committee of Sopheoncomprises the four non-executive directors, under the chairmanship of Mr.Silcock. The committee reviews the annual and interim financial statements ofthe Group, together with its accounting policies and financial controls. Itmeets once in each quarter, also meeting with Sopheon's external independentregistered public accounting firm, Ernst & Young LLP, prior to the issue ofthe Annual Report and Accounts and the filing of the Annual Report on Form 20-Fwith the US Securities and Exchange Commission. The audit committee has giventhe CFO general authority, subject to certain fee limitations as set forthbelow, to purchase non-audit services from Ernst & Young LLP in relation totax and corporate finance services. The audit committee resolved that suchassignments should be subject to a fee limit of £10,000 per assignment, and£50,000 overall in any one year, unless specific prior approval is secured. TheAudit Committee will review compliance and set following year targets inDecember board meeting each year, including consideration of Ernst & Young'scontinued appointment as auditor.

The remuneration committee of Sopheonis responsible for overseeing the contract terms, remuneration and otherbenefits for executive directors, and comprises Mr. Al (Chairman) and Mr.Silcock, together with Mr. Barry Mence other than in respect of his owncompensation. The committee makes recommendations to the board, within agreedparameters, on overall remuneration packages for executive directors and othersenior executives.

 

D. EMPLOYEES

The average number of employees of theGroup in each of the three years to December 31, 2004 was as follows:

*Year ended December 31   *

*  2004 *

*  2003 *

* 2002  *

Development and operations 

  28 

  75 

 151  

Sales and management 

  30 

  48 

 81  

 

 

58 

 123 

 232  

27

 E. SHAREOWNERSHIP

The following table sets out certaininformation regarding the ownership of Sopheon ordinary shares as at June 30,2005 by (i) each of the executive and non-executive directors of Sopheon, (ii)each executive officer of Sopheon, and (iii) each person who has disclosed aninterest in more than 3% of the present issued share capital of Sopheon pursuantto Sections 198-208 of the Companies Act 1985.

Unless otherwise indicated each personhas sole voting and investment power as to the shares shown. Beneficialownership is determined in accordance with the rules of the Securities andExchange Commission and includes any shares which the person has the right toacquire within 60 days of June 30, 2005 through the exercise of any stock optionor other right (including the conversion of the Mandatory Convertible Loan Stock2005 at the adjusted conversion rate of 12p per share):

*Name of beneficial owner   *

* Number  of shares *

* Percentage owned (3)*

*(i) Directors*

Barry Mence (1)   

 14,546,347 

 11.0%

Andrew Michuda 

 2,078,794 

 1.6%

Arif Karimjee 

 506,321 

 0.4%

Stuart Silcock (2) 

 1,016,793 

 0.8%

Bernard Al 

 675,000 

 0.5%

Andrew Davis 

 494,520 

 0.4%
* *
*(ii) Executive officers*

Huub Rutten 

 1,228,333 

 0.9%

Paul Heller 

 509,166 

 0.4%
* *
*(iii) Other shareholders withnotifiable interests*

Norman Nominees Limited 

 9,891,261 

 7.4%

P. Korpershoek 

 5,500,000 

 4.1%

Aventis Research & TechnologiesGmbH & Co KG 

 3,471,191 

 2.6%

___________
(1)
 Includes 3,847,800 ordinary sharesheld in trust over which Mr Mence exercises investment control.
(2)
 Includes 5,362 ordinary shares  held in trust for Mr Silcock's wife and 107,010 ordinary shares registered  in Mr Silcock's name but held in trust for two adult children, a sister and a  corporation. Mr Silcock disclaims beneficial ownership of the 107,010 shares  held in trust.
(3)
 Percentages are based on the  number of shares currently in issue, plus those to be issued on the automatic  conversion of the Mandatory Convertible Loan Stock in December 2005.

 

On June 30, 2005, the total amount ofthe Company's voting securities owned Directors and Officers of the Companywas:* *
*Class of share   *

* Number  of  shares *

*Percentageofclass*
 
Ordinary shares   

 21,055,276 

 15.9%

 

At June 30, 2005 no other person ownedmore than 3% of any class of the Company's voting securities.

 

28

The holdings of the above persons atJune 30, 2005 of Mandatory Convertible Loan Stock of Sopheon plc are set outbelow. The Stock will automatically convert into ordinary shares of Sopheon atthe conversion rate of 12p per share on December 31, 2005.

*Name of beneficial owner   *

*Nominal amount*
* *
*(i) Directors   *

*   *

Barry Mence   

£390,000
* *
*(ii) Executive officers   *

*   *

Huub Rutten   

£28,000

 

On September 3, 2004, Bernard Alconverted his holding of £25,000 nominal value of the Stock into 208,333Sopheon ordinary shares. On April 5, 2005, Andrew Michuda, Arif Karimjee andStuart Silcock converted their holdings of the Stock, which were, respectively,£28,000 nominal value, £17,000 nominal value and £100,000 nominal value, intoSopheon ordinary shares. The conversion resulted in the issue of 233,333 Sopheonordinary shares to Andrew Michuda, 141,667 Sopheon ordinary shares to ArifKarimjee and 833,333 Sopheon ordinary shares to Stuart Silcock. In order torepay personal borrowings incurred when subscribing for the Stock, AndrewMichuda, Arif Karimjee and Stuart Silcock sold on that date at 26p per share120,000 Sopheon ordinary shares, 54,000 Sopheon ordinary shares and 96,000Sopheon ordinary shares, respectively, issued to them on conversion.

The Group operates employee shareoption schemes as a means of promoting employee share ownership. A summary ofthe share options which have been granted under such share ownership schemes,which also includes share options granted in September 2000 to vendors inconnection with the acquisition of Teltech Resource Network Corporation, andshare options granted in November 2001 by way of exchange to holders of vestedoptions to acquire shares in Orbital, is set out below:

*Number of shares under option at December 31, 2004   *

*Subscription price   *

*Normal expiry date*
 
7,462,302   

6.193p to 960p   

2005 to 2014

 

Movements in options outstanding forthe three years in the period ended December 31, 2004 are as follows:
*Number of Shares**Weighted average exercise price**£*
Outstanding at January 1, 2002   

 2,601,576

  1.42

Granted under share option schemes 

 3,439,328

  0.15

Exercised 

 (621,734
)
  0.06

Lapsed 

 (1,076,889
)
  0.85

Outstanding at December 31, 2002 

 4,342,281

 0.76

Granted under share option schemes 

 5,475,000

  0.16

Exercised 

 (38,360
)
  0.06

Lapsed 

 (1,284,046
)
  0.63 

Outstanding at December 31, 2003 

 8,494,875

 0.39

Granted under share option schemes 

 355,000

  0.22

Exercised 

 (332,227
)
  0.15

Lapsed 

 (990,346
)
 0.44

Outstanding at December 31, 2004 

 7,527,302

 0.38

 

29 

The following table summarizes shareoptions outstanding at December 31, 2004
*  **Outstanding options   *
*Exercisable options* 
Range of exercise prices   

 Number of shares(000s)

 Weighted average contractual life (years) 

Weightedaverage exercise price

 Number of shares (000s)

 Weighted average exercise price

£0.06 to £0.22   

 6,663

 7.9

 £0.16

 4,746

 £0.16

£0.75 to £1.85 

 654

 5.1

 £1.45

 631

 £1.48

£2.25 to £3.75 

 111

 4.6

 £3.06

 111

 £3.06

£4.25 to £9.60 

 99

 5.5

 £5.32

 99

 £5.32

 

Totals 

 7,527

 7.6

 £0.38

 5,587

 £0.46

 

On December 31, 2004 the total numberof options granted to Directors and Executive Officers of the Company were asfollows:

*Number of share options   *

*Subscriptionprice   *

*Normal expiry date*
 
4,563,607   

14.75p to 960p   

2005 to 2014

 

No director or executive officerexercised any options between December 31, 2004 and June 30, 2005.

The following table shows thepercentage holdings of persons who have notified the Company that they areinterested in 3% or more of the Company's issued share capital:

*At December 31   *

* 2002 *

* 2003 *

* 2004*
 
B.K. Mence 

 13.3% 

 11.4% 

 9.6%

3i Group plc 

 3.7% 

 - 

 -

Aventis Research & TechnologiesGmbH & Co KG 

 4.2% 

 3.6% 

 3.0%

P. Korpershoek 

 - 

 4.1% 

 3.5%

Norman Nominees Limited 

 - 

 - 

 3.9%

 

Holders of 3% or more of the issuedshare capital of the Company have the same voting rights, proportional to theirshareholdings, as other shareholders in the Company.

The Company has not been notified sinceDecember 31, 2004 of any change in the holdings of persons interested in 3% ormore of the Company's issued share capital.

 

30
**ITEM7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS**
A.MAJOR SHAREHOLDERS

For a listing of beneficial owners of3% or more of Sopheon's voting securities, please see Item 6.E"Directors, Senior Management, and Employees – Share Ownership." TheCompany's major shareholders do not have different voting rights from theother holders of its ordinary shares.

Sopheon currently has 403 holders ofrecord of Sopheon shares with registered addresses in the United States, whoheld a total of 704,570 shares, or 0.5% of the total shares outstanding.

There is no trading market at thepresent time for Sopheon shares in the United States. Details of Sopheon'ssponsored American Depositary Receipt ("ADR") program appear underItem 9 Section C.

So far as the Company is aware, it isneither directly nor indirectly owned or controlled by one or more corporations,by any government, or by any other natural or legal person, severally orjointly.

The Company does not know of anyarrangement the operation of which might result in a change in the control ofthe Company.

 

B.RELATED PARTY TRANSACTIONS

There have been no related partytransactions during the period from January 1, 2004 to June 30, 2005.

 

C.INTERESTS OF EXPERTS AND COUNSEL

Not applicable.
** 

ITEM8. FINANCIAL INFORMATION**
A.CONSOLIDATED STATEMENTS AND OTHER FINANCIAL INFORMATION

The Consolidated Statements and otherFinancial Information required by this Item are contained in the FinancialStatements, commencing on page F-1. See Item 17.
*Legal Proceedings*
As of June 30, 2005, neither Sopheonnor any of its subsidiaries are party to any significant litigation that wouldhave a material adverse effect on the consolidated financial statements. TheCompany is occasionally involved in litigation in the ordinary course ofbusiness.
*Dividend Policy*
Holders of Sopheon ordinary shares may,by ordinary resolution, declare dividends but may not declare dividends inexcess of the amount recommended by the directors. The directors may also payinterim dividends. No dividend may be paid other than out of profits availablefor distribution. Any dividends on Sopheon ordinary shares would be announcedand paid in pounds sterling. Sopheon has not in the past declared or paid anydividends to holders of its ordinary shares, and there is no present intentionto declare or pay any such dividend, nor does Sopheon have profits available fordistribution as dividends. Furthermore, Sopheon is precluded by Section 85 ofthe Companies Act 1985 from paying dividends until its deficit is eliminated.

 

31

B.SIGNIFICANT CHANGES

There have been no significant changessince December 31, 2004.
** 

ITEM9. THE OFFER AND LISTING**
A.OFFER AND LISTING DETAILS

At June 30 2005, the market price ofSopheon shares was 25p on the Alternative Investment Market of the London StockExchange and €0.39 on Euronext. The following table shows, for the periodsindicated, the high and low closing prices per Sopheon ordinary share asreported on the Alternative Investment Market of the London Stock Exchange andon Euronext.** **
**Alternative Investment Market**
**Euronext*** *
*   *

*High *

* Low *

* High *

* Low*

* *

*(pence) *

* (pence) *

* (euro) *

* (euro)*

**2005 **

** **

** **

** **

** **

June 

 29 

 24 

 0.42 

 0.38

May 

 29 

 25 

 0.45 

 0.35

April 

 28 

 23 

 0.42 

 0.34

March 

 33 

 28 

 0.47 

 0.42

February 

 32 

 25 

 0.48 

 0.37

January 

 26 

 23 

 0.39 

 0.35
** **
**2004 **

** **

** **

** **

** **

Fourth quarter 

 24 

 19 

 0.37 

 0.28

Third quarter 

 27 

 18 

 0.41 

 0.29

Second quarter 

 36 

 21 

 0.58 

 0.32

First quarter 

 38 

 16 

 0.63 

 0.23
** **
**2003 **

** **

** **

** **

** **

Fourth quarter 

 18 

 14 

 0.28 

 0.19

Third quarter 

 18 

 14 

 0.28 

 0.20

Second quarter 

 25 

 8 

 0.39 

 0.13

First quarter 

 14 

 9 

 0.22 

 0.13
** **
**2002 **

** **

** **

** **

** **

Calendar year 

 31 

 5 

 0.50 

 0.09
** **
**2001 **

** **

** **

** **

** **

Calendar year 

 160 

 27 

 2.80 

 0.39
** **
**2000 **

** **

** **

** **

** **

Calendar year 

 1,762 

 155 

 27.00 

 2.63

 

32

B. PLANOF DISTRIBUTION

Not applicable.

 

C. MARKETS

The ordinary shares of Sopheon havebeen traded on the Alternative Investment Market of the London Stock Exchangesince August 1996 and on the Euronext market of the Amsterdam Stock Exchangesince March 1997.

The shares are traded in London underthe symbol SPE.

On June 13, 2001, Sopheon filed withthe SEC a registration statement on Form F-6 for American Depositary Shares("ADSs") to be evidenced by American Depositary Receipts ("ADRs")under a level 1 ADR program, with the Bank of New York as depositary. EachSopheon ADS, which would trade on the OTC market, if the program is implemented,under the symbol SOPEY, would represent 10 Sopheon shares. The ADR program hasnot yet been implemented.

No listing is being sought orapplication for admission made on any other exchange.

 

D. SELLINGSHAREHOLDERS

Not applicable.

 

E. DILUTION

Not applicable.

 

F. EXPENSESOF THE ISSUE

Not applicable.
** 

ITEM10. ADDITIONAL INFORMATION**
A. SHARECAPITAL

Not applicable.

 

B.MEMORANDUM AND ARTICLES OF ASSOCIATION

There are no restrictions under theMemorandum and Articles of Association or under English law that limit therights of non-resident or foreign holders to hold or vote Sopheon shares, norany other restrictions on rights to own securities.

The registrar for Sopheon ordinaryshares is Capita Registrars of The Registry, 34 Beckenham Road, Beckenham, KentBR3 4TV, England.

The information under the headings"Description of Sopheon Ordinary Shares" and "Comparison ofRights of Teltech Shareholders and Sopheon Shareholders" contained in theCompany's Registration Statement on Form F-4 (File No 333-44404) is incorporatedherein by reference.

 

33

C.MATERIAL CONTRACTS

The following contracts to which theCompany is party have been entered into (other than in the normal course ofbusiness) since January 1, 2003 and are, or may be, material:
a)
Amended and restated Asset      Purchase Agreement between TTECH Acquisition Corp. as purchaser, FIND/SVP,      Inc. as the parent company of the purchaser dated June 25, 2003, Sopheon      Corporation as vendor and Sopheon plc as the parent company of the vendor,      pursuant to which Sopheon Corporation sold its Information Management      business. The total consideration received under the agreement was $3.0      million in cash together with a further cash amount of up to $0.4 million      contingent on the level of future earnings, as well as the assumption by      TTECH Acquisition Corp of net current liabilities amounting to      approximately $2.1 million. In addition, FIND/SVP issued to Sopheon      $50,000 in FIND/SVP stock, and Sopheon issued to FIND/SVP $100,000 of      Sopheon stock.
b)
Agreement dated August 2003 for      the divestiture of Sopheon GmbH.

 

D.EXCHANGE CONTROLS

There are currently no UK exchangecontrol restrictions on the import or export of capital, the conduct of theCompany's operations or affecting the remittance of dividends.

 

E. TAXATION.
***US Federal Income Tax Consequences ofOwnership of Sopheon Ordinary Shares****Taxation of Dividends*
Dividends paid to a US holder ofSopheon ordinary shares will be treated as foreign source dividend income to theUS holder for US federal income tax purposes to the extent that they are paidout of Sopheon's current or accumulated earnings and profits, as determined forUS federal income tax purposes. The income will equal the US dollar value of thedividend on the date the dividend is actually or constructively received by theUS holder, calculated by reference to the exchange rate on the relevant date.

A US holder may be entitled to aforeign tax credit for UK tax withheld with respect to cash dividends paid onSopheon ordinary shares. If a US holder is so entitled, the foreign tax creditwould be equal to the percentage of the payer's tax pool computed under IRC§902 plus any taxes withheld in the United Kingdom on any dividend received. Inaddition, a "gross-up" under IRC §78 would give rise to additionaldividend income. US holders that do not elect, or are not permitted, to claim aforeign tax credit may be entitled to claim a deduction for foreign taxwithheld.

The United States and the UnitedKingdom have entered into a new income tax treaty recently. Each US holder isurged to consult his or her tax adviser concerning whether the US holder iseligible for benefits under the United Kingdom-United States tax treaty andwhether, and to what extent, a foreign tax credit or deduction will be availablewith respect to dividends received from Sopheon. A US holder that relies on theUnited Kingdom-United States tax treaty should consider disclosing this relianceon the US holder's US federal income tax return. A US holder that fails todisclose reliance on a treaty where disclosure is required would be subject topenalties under US federal income tax law.

Distributions by Sopheon in excess ofcurrent and accumulated earnings and profits, as determined for US federalincome tax purposes, will be treated as a return of capital to the extent of theUS holder's basis in its Sopheon shares and thereafter as capital gain.Dividends paid by Sopheon will not be eligible for the dividends-receiveddeduction allowed to US corporations in respect of dividends received from otherUS corporations. US holders should consult their own tax advisers regarding thetreatment of any foreign currency gain or loss on any sterling amounts receivedon the Sopheon shares which are not converted into US dollars on the date thesterling amounts are actually or constructively received by the US holder. Forforeign tax credit limitation purposes, dividends paid by Sopheon will be incomefrom sources outside of the United States.
* *
34
*Taxation of Capital Gains*
Upon a sale or other disposition ofSopheon shares, a US holder will generally recognize a gain or loss for USfederal income tax purposes in an amount equal to the difference between the USdollar value of the amount realized on such sale or disposition and the USholder's adjusted tax basis, determined in US dollars, in the Sopheon shares.Such gain or loss recognized will be a long-term capital gain or loss withrespect to Sopheon shares held for more than 12 months at the time of the saleor other disposition and any gain recognized generally will be income fromsources within the United States for foreign tax credit limitation purposes.

A US holder that is liable for both UKand US tax on a gain on the disposal of Sopheon shares will generally beentitled, subject to certain limitations and under the terms of the Income TaxConvention, to credit the amount of UK capital gains or corporation tax, as thecase may be, paid in respect of such gain against such US holder's US federalincome tax liability in respect of such gain. US holders should seekprofessional tax advice to determine their entitlement to credit UK tax againsttheir US federal income tax liability.
*Withholding and Information Reporting*
The relevant paying agents for theSopheon shares must comply with information reporting requirements in connectionwith dividend payments or other taxable distributions made with respect toSopheon shares within the United States to a non-corporate US person. Inaddition, "backup withholding" may apply to these payments unless theholder or beneficial owner provides an accurate taxpayer identification numberin the manner required by US law and applicable regulations, certifies that theholder or beneficial owner is not subject to backup withholding, and the holderor beneficial owner otherwise complies with applicable requirements of thebackup withholding rules.

In general, payment of the proceedsfrom the sale of Sopheon shares to or through a US office of a broker is subjectto both US backup withholding and information reporting requirements, unless theholder or beneficial owner certifies its non-US status under penalties ofperjury or otherwise establishes an exemption as described in the precedingparagraph. In general, US backup withholding and information reporting will notapply to a payment made outside the United States of the proceeds of a sale ofSopheon shares through an office outside the United States of a non-US broker.Special rules may require information reporting in the case of payments madeoutside the United States of the proceeds of the sale of Sopheon shares througha US broker.

Amounts withheld under the backupwithholding rules may be credited against a US holder's US federal income taxliability, and a holder may obtain a refund of any excess amounts withheld underthe backup withholding rules by filing the appropriate claim for a refund withthe IRS.
***United Kingdom Tax Consequences of theOwnership of Sopheon Ordinary Shares****Taxation of Distributions*
A US holder who receives a dividendfrom Sopheon will not have any further UK tax to pay in respect of the dividendbut will not be able to claim any payment in respect of the dividend under theUnited Kingdom-United States tax treaty. See "United States Federal IncomeTax Consequences of the Ownership of Sopheon Ordinary Shares - Taxation ofDividends."
*Taxation of Capital Gains*
A US holder who is neither resident orordinarily resident for tax purposes in the United Kingdom will not normally beliable for UK tax on capital gains realized on the disposal of Sopheon ordinaryshares. However, this will not apply if at the time of the disposal, the USholder carries on a trade, which for this purpose includes a profession orvocation, in the United Kingdom through a branch or agency which constitutes apermanent establishment and the disposed Sopheon ordinary shares are or havebeen used in or for the purposes of that trade or are or have been used or heldby or for the purposes of the branch or agency. An individual US holder who isonly temporarily not resident in the United Kingdom may, under anti-avoidancelegislation, still be liable for UK tax on capital gains realized, subject toany available exemption or relief.
* *
35
*Inheritance and Gift Taxes*
An individual who is domiciled in theUnited States and who is not a national of the United Kingdom for the purposesof the United Kingdom-United States estate and gift tax convention willgenerally not be subject to United Kingdom inheritance tax in respect of theSopheon ordinary shares on the individual's death or on a gift of the Sopheonordinary shares during the individual's lifetime. That is unless the Sopheonordinary shares are part of the business property of a permanent establishmentof an enterprise of the individual in the United Kingdom or pertain to a fixedbase in the United Kingdom of the individual used for the performance ofindependent personal services.

Sopheon ordinary shares placed in trustwill generally not be subject to United Kingdom inheritance tax if the settlor,at the time of settlement, was a United States holder domiciled in the UnitedStates for the purposes of the United Kingdom-United States estate and gift taxconvention and was not a United Kingdom national. This is again provided thatthe Sopheon ordinary shares are not part of the business property of a permanentestablishment in the United Kingdom and do not pertain to a fixed base in theUnited Kingdom, as more fully summarized above.

In the exceptional case where theSopheon shares are subject to both United Kingdom inheritance tax and UnitedStates federal gift or estate tax, local law in conjunction with the estate andgift tax convention generally provides for the tax paid in the United Kingdom tobe available for credit against tax paid in the United States or for tax paid inthe United States to be available for credit against tax payable in the UnitedKingdom. The country in which a credit is taken will depend on individual factsand circumstances, together with the priority rules set out in the estate andgift tax convention. Credit in either jurisdiction is always limited to thelower of foreign tax paid or the equivalent local tax on the same item.
*Stamp Duty and Stamp Duty Reserve Tax*
A transfer for value of the Sopheonordinary shares will generally be subject to *ad valorem* stamp duty or tostamp duty reserve tax. Stamp duty will arise on the execution of an instrumentto transfer Sopheon ordinary shares. Stamp duty reserve tax will arise on theentry into an agreement to transfer Sopheon ordinary shares but the charge maybe cancelled if stamp duty has been paid. Stamp duty and stamp duty reserve taxare normally a liability of the purchaser. The rate of stamp duty and stamp dutyreserve tax is currently 0.5% of the consideration.
*Qualifications*
As noted above, the foregoingdiscussion does not address all aspects of United States federal income taxationor United Kingdom taxation that may be relevant to US resident Sopheonshareholders in light of their particular circumstances. For instance, thediscussion does not address all aspects of United States federal income taxationor United Kingdom taxation relevant to shareholders that are resident, or, inthe case of an individual shareholder, ordinarily resident, in the UnitedKingdom, shareholders who conduct a trade or business in the United Kingdomthrough a permanent establishment situated therein, or who perform independentpersonal services from a fixed base situated therein.

The foregoing discussion is based onexisting US federal income and UK tax law, including legislation, administrativerulings and court decisions, as well as on the United Kingdom-United States taxtreaty, all of which are subject to change, or changes in interpretation,possibly with retrospective effect.

Finally, Sopheon believes that it isnot and will not become a "passive foreign investment company" for USfederal income tax purposes within the meaning of Section 1297(a) of the US taxcode and the foregoing discussion so assumes.

 

36

F.DIVIDENDS AND PAYING AGENTS

Not applicable.

 

G.STATEMENT BY EXPERTS

Not applicable.

 

H.DOCUMENTS ON DISPLAY

It is possible to read and copydocuments referred to in this annual report on Form 20-F that have been filedwith the SEC at the SEC's public reference room located at 450 Fifth Street, NW,Washington DC, 20549. Please call the SEC at 1-800-SEC-0330 for furtherinformation on the public information rooms and their copy charges. The SEC alsomaintains an Internet site at http://www.sec.gov that contains reports,registration statements and other information filed electronically with the SEC.

 

I.SUBSIDIARY INFORMATION

Not applicable.
** **
37
**ITEM11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**
Sopheon's principal financialinstruments comprise cash, short-term deposits, and a bank line of credit. Inaddition, Sopheon had outstanding at December 31, 2004 £1.5 millionNon-interest-bearing Mandatory Convertible Loan Stock (as described in 4.Aabove, due to convert into Sopheon ordinary shares not later than December 31,2005). Sopheon also has the benefit of a €10 million Equity Line of Creditwith GEM (as described above in Item 4.A above). The main purpose of thesefinancial instruments is to fund the operations of the business. Sopheon hasvarious other financial instruments, such as trade debtors and trade creditorsthat arise directly from its operations. It is, and has been throughout theperiod under review, Sopheon's policy that no trading in financial instrumentsor derivatives thereof or in commodity markets will be undertaken. However,during 2002 the Group entered into forward contracts to hedge future knownforeign exchange liabilities.

The main risks arising from the Group'sfinancial instruments are interest rate risk, liquidity risk and foreigncurrency risk as summarized below. The board reviews and agrees upon policiesfor managing each of these risks. These policies have remained unchanged duringthe last three years.
*Interest Rate Risk-TheGroup has a sterling bank loan, of which a total of £17,000 remainedoutstanding at December 31, 2004. This loan bears interest at a floating rate.Sopheon also has a line of credit in US dollars at a floating rate of interest.Where Sopheon has significant cash resources available that are in excess of theshort-term needs of the business, such funds are maintained in sterling and areplaced on short- and medium-term bank deposit.

As explained in Item 5(B) above, theCompany's Mandatory Convertible Loan Stock, of which £1,509,000 nominal valuewas outstanding at December 31, 2004, and which formerly carried a fixedinterest coupon of 6%, is no longer interest-bearing, and will be automaticallyconverted into Sopheon shares in December 2005.
*Liquidity Risk–Sopheon's objective is to maintain a balance between continuity of funding andflexibility, through the use of its US$1million line of credit and theflexibility provided by its €10 million Equity Line with GEM. Details of theresources available to the Sopheon group and the reasons why management considerthat the company is able to continue as a going concern are set out in Note 1 tothe financial statements.
*Foreign Currency Risk-As a result of having significant operating units in the United States and theNetherlands, which give rise to short-term creditors, debtors and cash balancesin US dollars and Euro, the Group's balance sheet can be affected by movementsin exchange rates of these currencies. At December 31, 2004 the net amount ofsuch balances amounted to US$ 520,000 and € 81,000. In managing its structuralexposures, Sopheon's objectives are to maintain a low cost of borrowings and toretain some potential for currency related appreciation. Sopheon also hastransactional currency exposure, which can have two different effects. At theentity level, such exposure arises from sales or purchases by an operating unitin currencies other than that unit's functional currency. At the consolidatedlevel, rate changes from period to period between the Group's reportingcurrency, which is Sterling, and the functional currencies of its overseasentities, which are US dollars and Euro, can have a significant influence onreported Sterling profit and loss performance.
*Credit Risk - TheCompany's financial instruments that are exposed to concentrations of creditrisk are primarily trade accounts receivable. Historically, the company hasrelatively low levels of bad debt costs. It should not, however, be inferredthat this experience will continue into future periods. The company does notknow of any reasons at the date of this report why this position should change.

Further information is given in Note 18to the financial statements and in Item 5B above.
** 

ITEM12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES**
Not applicable.
** **
38
**PART II

ITEM13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES**
None
** 

ITEM14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS**
None.
** 

ITEM15. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls andProcedures**
Based on its review as of the end ofthe period covered by this report of the Group's disclosure controls andprocedures, the Chief Executive Officer and Chief Financial Officer haveconcluded that the Group's current disclosure controls and procedures areeffective to ensure that material information relating to the Group is recorded,processed, summarized and reported in a timely manner; and that the informationis accumulated and communicated to management to allow timely decisionsregarding required disclosure.
**Changes in Internal Control overFinancial Reporting**
There were no changes in the Group'sinternal control over financial reporting that occurred during the periodcovered by this report that have materially affected, or are likely tomaterially affect, the Group's internal control over financial reporting.
** 

ITEM 16[RESERVED]

 

ITEM16A. AUDIT COMMITTEE FINANCIAL EXPERT**
Sopheon has not appointed an auditcommittee financial expert, as defined by Item 401(h) of Regulation S-K. SECregulations do not require Sopheon to have an audit committee financial expert;however, SEC regulations require Sopheon to disclose whether it has an auditcommittee financial expert. Sopheon considers that the members of its auditcommittee have demonstrated the ability to (1) understand accounting principlesgenerally accepted in the United Kingdom ("UK GAAP") and financialstatements, (2) assess the general application of UK GAAP in connection withaccounting for estimates, accruals and reserves, (3) analyze and evaluatefinancial statements, (4) understand internal controls and procedures forfinancial reporting and (5) understand the functions of the audit committee, allof which are the attributes of an audit committee financial expert.
** 

ITEM16B. CODE OF ETHICS**
Sopheon has adopted a code of ethics asthat term is defined in the rules promulgated under the Sarbanes-Oxley Act. Acopy of the code has been filed as Exhibit 14.1 hereto.
** **
39
**ITEM16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES**
During 2003 and 2004 Sopheon paid thefollowing amounts to its independent registered public accounting firm, Ernst& Young LLP, for audit services and tax services:
 *2003      £'000* *2004      £'000*     Audit      fees75 85Audit-related      fees- -Tax      fees (relating to tax filings and compliance)41 36Other      fees (transaction support for corporate disposals)24 -  Total140 121*NoteThe audit committee has a policy ofapproving the engagement of the independent registered public accounting firm toperform all audit and non-audit services on behalf of the Company. The auditcommittee has determined that the provision of the services covered by theforegoing fees was compatible with maintaining the independent registered publicaccounting firm's independence.** 

ITEM16D. EXEMPTION FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES**
Not applicable.
** 

ITEM16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS**
Not applicable.

 

40
**PART III

ITEM17. FINANCIAL STATEMENTS

The following financial statementstogether with the report of Ernst & Young LLP thereon are filed as part ofthe annual report:

Report of Independent Registered      Public Accounting Firm
 F-1
Consolidated Profit and Loss      Account for the years ended December 31, 2004, 2003 and 2002 F-2
Consolidated Statement of Total      Recognized Gains and Losses for the years ended December 31, 2004,      2003 and 2002
F-3
Consolidated Balance Sheet as of      December 31, 2004 and 2003 F-4
Consolidated Statement of Cash      Flows for the years ended December 31, 2004, 2003 and 2002      F-5
Notes to the Financial Statements
      F-6 ** 

ITEM18. FINANCIAL STATEMENTS**
The Company has responded to Item 17 inlieu of responding to this Item.
** **
41
**ITEM 19.EXHIBITS**1.1Memorandum      of Association of Sopheon plc as amended by Special Resolutions passed on      August 18, 1996 and November 22, 1999 (incorporated by reference to      Exhibit 3.1 to Sopheon plc's Registration Statement on Form F-4 filed on      August 24, 2000 under file number 333-44404).1.2New      Articles of Association of Sopheon plc as adopted pursuant to a Special      Resolution passed on August 28, 1996 and amended by a Special Resolution      passed on November 22, 1999 (incorporated by reference to Exhibit 3.2 to      Sopheon plc's Registration Statement on Form F-4 filed on August 24, 2000      under file number 333-44404).2.1Instrument      dated June 19, 2001 constituting up to £4,000,000 6% Convertible      Unsecured Loan Stock 2005 of Sopheon plc of which £2,600,000 has been      issued (incorporated by reference to Exhibit 2.1 to Sopheon plc's Annual      Report for 2001 on Form 20-F filed on July 15, 2002 under file number      333-44404).4.1Amended      and restated Asset Purchase Agreement between TTECH Acquisition Corp. as      purchaser, FIND/SVP, Inc. as the parent company of the purchaser, Sopheon      Corporation as vendor and Sopheon plc as the parent company of the vendor,      dated as of June 25, 2003 being an agreement for the divestment of Sopheon      Corporation's Information Management business (incorporated by reference      to Exhibit 4.5 of Sopheon's 2002 Annual Report on Form 20-F filed on      November 25, 2003 under file number 333-44404).4.2Agreement      dated August 11, 2003 for divestiture of Sopheon GmbH filed (incorporated      by reference to Exhibit 4.2 of Sopheon's 2003 Annual Report on Form 20-F      filed on July 15, 2004 under file number 333-44404).4.3Employment      contract for Barry K Mence furnished herewith.4.4Employment      contract for Andrew L. Michuda furnished herewith.4.5Employment      contract for Arif Karimjee furnished herewith.11.1Code of      Ethics pursuant to the Sarbanes-Oxley Act of 2002 furnished herewith**.******12.1Certification      of Andrew L. Michuda, Chief Executive Officer, pursuant to Section 302 of      the Sarbanes-Oxley Act of 2002 furnished herewith.12.2Certification      of Arif Karimjee, Chief Financial Officer, pursuant to Section 302 of the      Sarbanes-Oxley Act of 2002 furnished herewith.13.1Certification      of Andrew L. Michuda, Chief Executive Officer, pursuant to Section 906 of      the Sarbanes-Oxley Act of 2002 furnished herewith.13.2Certification      of Arif Karimjee, Chief Financial Officer, pursuant to Section 906 of the      Sarbanes-Oxley Act of 2002 furnished herewith.** **
42
**SIGNATURES**
The registrant herebycertifies that it meets all of the requirements for filing on Form 20-F and thatit has duly caused and authorized the undersigned to sign this annual report onits behalf.

 
Date: July 8, 2005SOPHEON PLCBy:        Arif        Karimjee                                         Arif Karimjee,              Chief Financial        Officer                (Principal Financial and Accounting Officer)
 

43
**REPORT OF INDEPENDENTREGISTERED PUBLIC ACCOUNTING FIRM**
 

To the Board of DirectorsSopheon plc

We have audited the accompanyingconsolidated balance sheets of Sopheon plc as of December 31, 2004 and 2003, andthe related consolidated profit and loss accounts and consolidated statements oftotal recognized gains and losses and cash flows for each of three years in theperiod ended December 31, 2004. These financial statements are theresponsibility of the Company's management. Our responsibility is to expressan opinion on these financial statements based on our audits.

We conducted our audits in accordancewith United Kingdom auditing standards and the standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that we planand perform the audit to obtain reasonable assurance about whether the financialstatements are free from material misstatement. We were not engaged to performan audit of the Company's internal control over financial reporting. Ouraudits included consideration of internal control over financial reporting as abasis for designing audit procedures that are appropriate in the circumstances,but not for the purpose of expressing an opinion on the effectiveness of theCompany's internal control over financial reporting. Accordingly, we express nosuch opinion. An audit also includes examining, on a test basis, evidencesupporting the amounts and disclosures in the financial statements, assessingthe accounting principles used and significant estimates made by the management,and evaluating the overall financial statement presentation. We believe that ouraudits provide a reasonable basis for our opinion.

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all material respects,the consolidated financial position of Sopheon plc at December 31, 2004 and2003, and the consolidated results of its operations and its consolidated cashflows for each of the three years in the period ended December 31, 2004 inconformity with accounting principles generally accepted in the United Kingdomwhich differ in certain respects from those followed in the United States (seeNote 19 of Notes to the Financial Statements).

As discussed in Note 1 to the financialstatements, the Group's recurring losses from operations and limited funds raisesubstantial doubt about its ability to continue as a going concern. Management'splans as to these matters are also described in Note 1. The financial statementsdo not include any adjustments that might result from the outcome of thisuncertainty.

 

ERNST & YOUNG LLP

Reading, EnglandApril 4, 2005, except forNote 1 — Accounting Policies — Basis of preparation,as to which the date isJuly 8, 2005.
** **
F-1
**SOPHEON plcCONSOLIDATED PROFIT AND LOSS ACCOUNT*** *
*Year ended      December 31   *

* Notes *

*2004*

*       2003*

*  2002*

* *

* *

*£'000*

*  £'000*

*  £'000*
** **
**TURNOVER** 

** **2 

  4,323

  6,734

  12,353

Cost of sales 

 

 (993
)
 (4,117
)
 (9,002
)
 

 
 
**GROSS PROFIT** 

 

  3,330

  2,617

  3,351
 
Sales and marketing      expenses 

 

 (2,588
)
 (3,442
)
 (5,437
) 
Research and development      expenditure 

 

 (890
)
 (1,237
)
 (2,331
) 
Amortization and impairment      charges in         respect of goodwill 

 

       (440
      )
       (4,586
      )
       (5,922
      ) 
Other administrative      expenses 

 

 (1,111
)
 (2,577
)
 (5,727
) 
Total administrative      expenses 

 

 (2,441
)
 (8,400
)
 (13,980
)
 

 
 
**OPERATING LOSS** 

  3 

 (1,699
)
 (9,225
)
 (16,066
)
Share of operating loss of      associated undertaking 

 

 -

 -

 (46
)
 

 

**TOTAL OPERATING LOSS**

 

 (1,699
)
 (9,225
)
 (16,112
)
Profit on disposal of      operations 

 10 

 -

 3,568

 -

 

 

**LOSS ON ORDINARY ACTIVITIES      BEFORE INTEREST AND TAXATION** 

 

      (1,699
      )
       (5,657
      )
       (16,112
      )
Interest receivable 

 

 83

 76

 260

Interest payable and similar      charges 

 5 

 (348
)
 (225
)
 (327
)
 

 

**LOSS ON ORDINARY      ACTIVITIES       BEFORE TAXATION**

 

       (1,964
      )
       (5,806
      )
       (16,179
      ) 
Tax on ordinary activities 

 6 

 143

 305

 126

 

 

**LOSS FOR THE YEAR**(1) 

 

 (1,821
)
 (5,501
)
 (16,053
) 
Loss per share – basic and      diluted (pence) 

 7 

 (1.6
)p
 (6.3
)p
 (19.4
)p**_____________**(1)
A summary of the significant      adjustments to the loss for the year that would be required if United      States generally accepted accounting principles were to be applied instead      of those generally accepted in the United Kingdom is set out in Note 19 of      Notes to the Financial Statements.
*See accompanying Notes*
 

F-2
**SOPHEON plcCONSOLIDATED STATEMENT OF TOTAL RECOGNIZED GAINS AND LOSSES

 **
*Year ended 31      December   *

* 2004*

* 2003*

* 2002*

* *

* £'000*

* £'000*

* £'000*
 
Loss for the year 

 (1,821
)
 (5,501
)
 (16,053
)
Exchange difference on      retranslation of net assets         of subsidiary undertakings 

       (61
      )
       88

       75

 

Total recognized gains and losses      relating to the year 

 (1,882
)
 (5,413
)
 (15,978
)
 _________

The statement of comprehensive lossrequired under United States generally accepted accounting principles is set outin Note 19 of Notes to the Financial Statements
*See accompanying Notes*** **
F-3
**SOPHEON plcCONSOLIDATED BALANCE SHEET*** *
*At December      31   *

* Notes*

*       2004*

* 2003*

*   *

*   *

*£'000*

*  £'000*

**FIXED ASSETS **

** **

** **

** **

Intangible assets 

 

 

 

    Goodwill 

 8 

 -

 440

Tangible fixed assets 

 9 

 110

 195

 

 

 

 

110

 635

**CURRENT ASSETS **

** **

** **

** **

Debtors 

 11 

 1,901

 1,159

Cash at bank and in hand 

 18 

 1,211

 878

 

 

 

 

3,112

 2,037
  
**CREDITORS:**amounts      falling due within one year 

  13 

 (1,978
)
 (1,996
)
 

 

**NET CURRENT ASSETS** 

 

  1,134

  41

 

 

**TOTAL ASSETS LESS CURRENT      LIABILITIES** 

 

  1,244

  676
 
**CREDITORS:**amounts      falling due after more than one year 

 

 

 

6% Convertible Loan Stock      2005 

 14 

 -

 (2,561
)
 

 

 

 

1,244

 (1,885
)
**CAPITAL AND RESERVES **

** **

** **

** **

Called up share capital 

 16 

 5,794

 4,821

Shares to be issued 

 17 

 1,509

 -

Share premium account 

 17 

 48,949

 46,420

Merger reserve 

 17 

 17,944

 17,944

Other reserves 

 17 

 4,157

 4,164

Profit and loss account 

 17 

 (77,109
)
 (75,234
)
 

 

**SHAREHOLDERS'      FUNDS/(DEFICIT) (ALL EQUITY INTERESTS)** 

 

  1,244

  (1,885
)***__________***(1)
A summary of the significant      adjustments to shareholders' funds/(deficit) that would be required if      United States generally accepted accounting principles were to be applied      instead of those generally accepted in the United Kingdom is set out in      Note 19 of Notes to the Financial Statements
*See accompanying Notes*** **
F-4

**SOPHEON plcCONSOLIDATED STATEMENT OF CASH FLOWS*** *
*Year ended      December 31   *

* Notes*

*       2004*

*       2003*

*  2002*

* *

* *

*£'000*

*  £'000*

*  £'000*
 
**NET CASH OUTFLOW FROM      OPERATING ACTIVITIES** 

 3 

 (1,813
)
 (4,332
)
 (10,268
)
 

 

**RETURN ON INVESTMENTS      AND         SERVICING OF FINANCE **

** **

** **

** **

** **

Interest received 

 

 83

 76

 260

Interest paid 

 

 (348
)
 (225
)
 (327
)
 

 

 

 

(265
)
 (149
)
 (67
)
 

 

**TAXATION **

** **

** **

** **

** **

Research and development tax      credit 

 

 62

 305

 126

 

 

**CAPITAL EXPENDITURE &      FINANCIAL INVESTMENT **

** **

** **

** **

** **

Payments to acquire tangible      fixed assets 

 

 (42
)
 (27
)
 (104
)
Receipts from sales of fixed      assets 

 

 -

 -

 18

 

 

 

 

(42
)
 (27
)
 (86
)
 

 

**ACQUISITIONS AND      DISPOSALS **

** **

** **

** **

** **

Net proceeds from disposal of      operations 

 10 

 -

 1,680

 -

Net cash disposed of on disposal      of operations 

 10 

 -

 (649
)
 -

 

 

 

 

-

 1,031

 -

 

 

**MANAGEMENT OF LIQUID      RESOURCES **

** **

** **

** **

** **

(Increase)/decrease in short term      deposits 

 12(a) 

 (271
)
 1,934

 8,186

 

 

**NET CASH OUTFLOW BEFORE      FINANCING**

 

 (2,329
)
 (1,238
)
 (2,109
)** **
**FINANCING **

** **

** **

** **

** **

Issues of ordinary share      capital 

 

 2,437

 1,480

 39

Repayment of long-term      loans 

 

 (11
)
 -

 (51
)
 

 

 

 

2,426

 1,480

 (12
)
 

 
 
** INCREASE/(DECREASE) IN      CASH** 

  12(a) 

  97

  242

 (2,121
)**__________**
The significant differences between thecash flow statement presented above and that required under United Statesgenerally accepted accounting principles are described in Note 19 of Notes tothe Financial Statements.
*See accompanying Notes*
 

F-5
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS

1. ACCOUNTING POLICIES

Accounting convention**
The financial statements are preparedunder the historical cost convention and in accordance with applicable UKaccounting standards, and on the going concern basis.
**Basis of consolidation**
The consolidated financial statementsinclude the results of Sopheon plc (the "Company") and its subsidiaryundertakings (together, the "Group"). The results of Sopheon's formerIM division (comprising the information and research services businesses ofSopheon Corporation Minnesota and Sopheon GmbH, formerly the Technology andInformation Services Division of Aventis Research & Technologies), have beenincluded up to the dates of disposal, which were July 1, 2003 and August 15,2003, respectively.
**Basis of preparation**
At December 31, 2004, the Group's netcurrent assets were £1,134,000 and gross cash resources of £1,211,000. TheGroup has access to a $1,000,000 (£522,000) bank line of credit with SiliconValley Bank, which is secured against the trade debtors of Sopheon CorporationMinnesota and bears interest at a rate of 2% above the bank's US prime rate. AtDecember 31, 2004, $207,000 (£108,000) was drawn against this facility.Sopheon's facilities with Silicon Valley Bank have been in place since 1999, andare renewable annually in October. On May 31, 2005, Sopheon raised £1 million(after expenses) by means of a placing of 4,347,826 new ordinary shares for cashat 23p per share, and at the end of May 2005 the group's cash resources stood atover £2 million.

The directors of Sopheon plc believethat the Group's resources provide it with adequate funding to support itsactivities through to the point at which they anticipate that trading willbecome cash generative on a sustained basis. This is in turn dependent on theGroup maintaining the substantial sales growth achieved in 2004.

Should this not be the case, or shouldthe Group require additional funding for other operational or investmentpurposes, Sopheon continues to have access to its equity line of credit facilityfrom GEM Global Yield Fund Limited ("GEM") for an aggregate of €10million over the two year life of the instrument, which comes to an end onDecember 22, 2005. GEM's obligation to subscribe for shares is subject tocertain conditions linked to the prevailing trading volumes and prices ofSopheon shares on the Euronext stock exchange. In March 2004, Sopheon made afirst call on the equity line of credit facility, raising £1.0m after expensesand accordingly, leaving €9 million available under the instrument. Thedirectors are considering whether it is appropriate to seek an extension to thelife in order to provide continued access to the facility for the foreseeablefuture.

The directors are encouraged by thedirection, focus and momentum of the business and believe that together, thepoints above enable the Group to continue as a going concern. The financialstatements do not reflect any adjustments which would be required if the goingconcern assumption was not appropriate. The precise extent and quantification ofsuch adjustments has not been determined but these could include thereclassification of any unconverted element of the Group's convertibleunsecured loan stock to creditors falling due within one year, and provision foradditional liabilities.
* *
F-6
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

1. ACCOUNTING POLICIES (Continued)

Turnover**
Turnover comprises amounts derived fromthe sale of goods and services and is stated net of value added tax.

Sales of software products arerecognized on delivery, and when no significant vendor obligations remain.Revenues from implementation and consultancy services in respect of softwaresales are recognized as the services are performed. Revenues relating tomaintenance and post contract support agreements are deferred and recognizedover the period of the agreements. Revenues and associated costs under long-termcontracts are recognized on a percentage basis as the work is completed and anyrelevant milestones are met, using latest estimates to determine the expectedduration and cost of the project.
**Tangible fixed assets**
Tangible fixed assets are stated athistorical cost, less accumulated depreciation. Tangible fixed assets aredepreciated on a straight-line basis over their expected useful lives over thefollowing periods.

Computer      equipment   

 3 years

Fixtures and      fittings   

 4 to 5 years

Internet      portals   

 3 years
**Research and development**
Research and development expenditure iswritten off as incurred. The costs of registering patents and trademarks arewritten off as incurred. Subsidies received from the European Union and otherstate agencies are credited to the profit and loss account over the period towhich they relate.
**Goodwill**
Goodwill arising on consolidation iscapitalized and amortized on a straight-line basis over its estimated usefuleconomic life, which in all cases is three years. Goodwill is reviewed forimpairment at the end of the first full financial year after acquisition and inother periods if events or changes in circumstances indicate that carryingvalues may not be recoverable. If a subsidiary, associate or business issubsequently sold or closed, any goodwill arising on acquisition that has notbeen amortized is taken into account in determining the profit or loss on saleor closure.
**Deferred taxation**
Deferred tax is recognized in respectof all timing differences that have originated but not reversed at the balancesheet date where transactions or events that result in an obligation to paymore, or a right to pay less, tax in the future have occurred at the balancesheet date, with the following exception. Deferred tax assets are recognizedonly to the extent that the directors consider that it is more likely than notthat there will be suitable taxable profits from which the future reversal ofthe underlying timing differences can be deducted. Deferred tax is measured on anon-discounted basis at the tax rates that are expected to apply in the periodsin which timing differences reverse, based on tax rates and laws enacted orsubstantively enacted at the balance sheet date.
**Foreign currencies**
The assets and liabilities of thesubsidiary undertakings are translated at the rate of exchange ruling at thebalance sheet date. Their profit and loss accounts are translated at the averagerate of exchange. The exchange differences arising on the retranslation of thefinancial statements of subsidiary undertakings are, together with differencesarising on the translation of long-term intra-Group funding loans which are notintended to be repaid in the foreseeable future, taken directly to reserves. Allother differences are taken to the profit and loss account.
**Pensions**
Sopheon contributes to the personalpension arrangements of employees, the costs of which are charged in the profitand loss account as incurred.
**Leasing**
Rentals payable under operating leasesare charged in the profit and loss account on a straight-line basis over thelease term.
** **
F-7
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

2. TURNOVERAND SEGMENTAL INFORMATION**
Turnover (excluding valued added tax)represents the amounts derived from the Group's principal activity whichcomprises the design, development and marketing of software products withassociated implementation and consultancy services and, decreasingly, theprovision of bespoke software solutions. Discontinued activities comprise theprovision of research services, by the IM division of Sopheon CorporationMinnesota and by Sopheon GmbH, up to the relevant dates of disposal. The Groupresults are analyzed between three geographical markets, North America, theUnited Kingdom and the rest of Europe.
*Analysis of turnover by area ofactivity*
*   *

*2004*

*       2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*
 
Software and consultancy services      - continuing 

  4,323

  2,669

  2,854

Software and consultancy services      - discontinued 

  -

  252

  453

Information and research services      - discontinued 

  -

  3,813

  9,046

 

4,323

 6,734

 12,353

 
*Analysis of operating loss by area ofactivity*
*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Software and consultancy 

 3,330

 2,042

 1,135

Discontinued operations 

 -

 575

 2,216

 

Gross margin 

 3,330

 2,617

 3,351

Sales and marketing      expenses 

 (2,588
)
 (3,442
)
 (5,437
)
Administrative expenses      (including goodwill amortization) 

 (2,441
)
 (8,400
)
 (13,980
)
 

Operating loss

 (1,699
)
 (9,225
)
 (16,066
)** **
F-8
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

2. TURNOVER AND SEGMENTAL INFORMATION(Continued)***Analysis of turnover by geographicaldestination*
*   *

*2004*

*       2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*
 
United Kingdom 

  811

  551

  820

Rest of Europe 

  1,535

  942

  835

North America 

  1,977

  1,069

  1,095

Rest of World 

  -

  107

  104

* *

Continuing operations 

 4,323

 2,669

 2,854

* *

United Kingdom 

 -

 -

 9

Rest of Europe 

  -

  1,712

  3,177

North America 

  -

  2,349

  6,296

Rest of World 

  -

  4

  17

* *

Discontinued operations 

 -

 4,065

 9,499

* *

 

4,323

 6,734

 12,353

 
*Analysis of turnover and operating lossby geographical origin**Operating      loss** Turnover*
* *

*2004*

*       2003*

*       2002*

*       2004*

*       2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*

*  £'000*

*  £'000*

*  £'000*
 
United Kingdom 

 (845
)
 (1,755
)
 (4,687
)
  811

  550

  994

Rest of Europe 

 (16
)
 (270
)
 (273
)
  1,111

  789

  815

North America 

 (838
)
 (2,244
)
 (2,608
)
  2,401

  1,330

  1,045

 

Continuing operations 

 (1,699
)
 (4,269
)
 (7,568
)
 4,323

 2,669

 2,854

 

Rest of Europe 

 -

 (456
)
 (872
)
 -

 1,712

 3,217

North America 

  -

 (4,500
)
 (7,626
)
  -

  2,353

  6,282

 

Discontinued operations 

 -

 (4,956
)
 (8,498
)
 -

 4,065

 9,499

 

 

(1,699
)
 (9,225
)
 (16,066
)
 4,323

 6,734

 12,353

 

 F-9
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

2. TURNOVER AND SEGMENTAL INFORMATION(Continued)***Analysis of net assets/(liabilities) bygeographical origin*
 

*   *

*2004*

* 2003 *

* 2002*

* *

*£'000*

* £'000 *

* £'000*
 
United Kingdom 

 (67
)
 (87
)
 162

Rest of Europe 

 66

 6

 76

North America 

 265

 94

 (170
)
Unallocated cash and loans at      group level 

 980

 (1,898
)
 (721
)
* *

Continuing operations 

 1,244

 (1,885
)
 (653
)
* *

Rest of Europe 

 -

 -

 16

North America 

 -

 -

 3,063

* *

Discontinued operations 

 -

 -

 3,079

* *

 

1,244

 (1,885
)
 2,426

 

F-10
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

3. OPERATINGLOSS***   (a)    This is stated after charging/(crediting):*
*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Auditors' remuneration –      audit services 

 

 

             Audit services to UK group companies 

 75

 69

 66

             Audit services to non-UK group companies 

 10

 6

 29

Auditors' remuneration –      non-audit services 

 

             Taxation advisory services to UK group companies 

 25

 31

 46

             Taxation advisory services to non-UK group companies 

 11

 10

 6

             Transaction support relating to corporate disposals 

 -

 24

 -

Research and development      expenditure 

 890

 1,237

 2,331

Grants and subsidies 

 -

 -

 (69
)
Foreign exchange      (gains)/losses 

 (24
)
 23

 15

Amortization of goodwill 

 440

 4,586

 5,922

Depreciation of owned tangible      fixed assets 

 119

 573

 1,280

Operating lease rentals - land      and buildings 

 292

 537

 1,015

Operating lease rentals -      equipment and vehicles 

 96

 116

 135

 
*   (b)    Reconciliation of operating loss to net cash outflow fromoperating activities

 

*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Operating loss 

 (1,699
)
 (9,225
)
 (16,066
)
Depreciation 

 119

 573

 1,280

Amortization of goodwill 

 440

 4,586

 5,922

(Increase)/decrease in      debtors 

 (659
)
 36

 948

Decrease in creditors and      provisions 

 (14
)
 (302
)
 (2,352
)
* *

Net cash outflow from operating      activities 

 (1,813
)
 (4,332
)
 (10,268
)** **
F-11
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)****4. STAFFCOSTS**
*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Wages and salaries 

 2,717

 5,632

 10,580

Social security costs 

 221

 557

 960

Other pension costs 

 66

 96

 231

* *

 

3,004

 6,285

 11,771
 
The fees and emoluments of all      directors were as follows: 
* *
* *

*2004*

*       2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*
 
Fees and emoluments 

  374

  385

  388

Pension contributions 

  11

  11

  16

* *

 

385

 396

 404
 
Pension contributions are to      personal defined contribution schemes and have been made for three      directors who served during the year. The emoluments of the highest paid      director were as follows:  
* *
* *

*2004*

*       2003*

*  2002*

* *

*£'000*

*  £'000*

*  £'000*
 
Emoluments 

  113

  111

  118

Benefits 

  5

  5

  6

Pension contributions to defined      contribution scheme 

  5

  5

  2

* *

Total 

 123

 121

 126
 
The average monthly number of      employees during the year was made up as follows: 
* *
* *

*2004*

*       2003*

*  2002*

* *

*Number*

*       Number*

*  Number*
 
Development and operations 

  28

  75

  151

Sales and management 

  30

  48

  81

* *

 

58

 123

 232
 
The staff costs and numbers of      employees during the year include the executive      directors.   

 

F-12
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

5. INTEREST PAYABLE AND OTHER SIMILARCHARGES**
*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Bank loans and overdrafts 

 54

 54

 155

Interest Free Mandatory      Convertible Loan Stock 

 294

 171

 172

 

 

348

 225

 327

The interest payable in respect of theInterest Free Mandatory Convertible Loan Stock includes a compensation paymentof 7% of its nominalamount made pursuant to the reconstitution of thestock as referred to in Note 14.
** 

6. TAXATION**
(a) Tax on loss on ordinary activities

The tax credit is made up as follows:

*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Research and development tax      credits in respect of prior years 

 143

 305

 126

 

(b) Factors affecting current taxcredit

The differences between the Group'sexpected tax credit, using the Group's standard corporation tax rate of 38%(2003: 39% and 2002: 38%), comprising the weighted average rates of tax payableacross the Group, and the Group's current tax credit in each year are asfollows:
*   **2004** 2003** 2002*
* *

*£'000*

* £'000*

* £'000*
 
Loss on ordinary activities      before tax 

 (1,956
)
 (5,806
)
 (16,179
)
Expected tax credit on loss on      ordinary activities before tax   

  746

  2,264

  6,148

Amortization and impairment      charges in respect of goodwill 

 (167
)
 (1,789
)
 (2,250
)
Shortfall of tax      depreciation        compared to book      depreciation 

       (6
      )
       (52
      )
       (102
      )
Utilisation of tax losses against      profit on disposal of operations 

  -

  1,339

  -

Losses in year not relievable      against current tax 

 (573
)
 (1,762
)
 (3,796
)
Research & development tax      credits in respect of prior year 

  143

  305

  126

 

Actual current tax credit (see      Note 6(a)) 

 143

 305

 126
** **
F-13
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

6. TAXATION (Continued)**
(c) Deferred taxation

The Group has an unrecognized deferredtax asset arising from its unrelieved trading losses, which has not beenrecognized owing to uncertainty as to the level and timing of taxable profits inthe future.

The unrecognized deferred tax asset ismade up as follows:

*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Shortfall of tax depreciation         compared to book depreciation 

       162

       156

       104

Unrelieved trading losses 

 20,195

 20,311

 20,888

 

Unrecognized deferred tax      asset 

 20,357

 20,467

 20,992

At December 31, 2004, tax lossesestimated at £53 million were available to carry forward by the Group, arisingfrom historical losses incurred. These losses represent a potential deferred taxasset of £20.2 million. £12.4 million of the tax losses, and £5.4million of the potential deferred tax asset, relate to pre-acquisition losses ofSopheon Corporation Minnesota and to Orbital Software Inc. The futureutilization of these losses may be restricted under section 382 of the USInternal Revenue Code, whereby the ability to utilize net operating lossesarising prior to a change of ownership is limited to a percentage of the entityvalue of the corporation at the date of change of ownership.

Under Financial Reporting Standard 19,the unrecognized deferred tax asset in respect of trading losses can only berecognized to the extent that it is regarded as more likely than not that itwill be recovered.

 
**7. loss per ordinary share**
The calculation of basic loss perordinary share is based on a loss of £1,821,000 (2003 - £5,501,000 and 2002 -£16,053,000), and on 114,882,751 (2003 - 87,274,941 and 2002 - 82,669,430)ordinary shares, being the weighted average number of ordinary shares in issueduring the year, including 8,085,249 ordinary shares representing the weightedaverage effect of the reconstitution of the Group's convertible loan note (seeNote 14).

The loss attributable to ordinaryshareholders and the weighted average number of ordinary shares for the purposeof calculating the diluted loss per ordinary share are identical to those usedfor calculating the basic loss per ordinary share. This is because the exerciseof share options would have the effect of reducing the loss per ordinary shareand is therefore not dilutive under the terms of Financial Reporting Standard14.

 

F-14
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

8. INTANGIBLE FIXED ASSETS**
*   *

*Goodwill*

*   *

*£'000*

**Cost   **

**   **

At January 1,      2003   

  38,260

Disposal of      operations   

 (20,714
)
   

At December 31, 2003 and      2004   

 17,546

   

**Amortization   **

**   **

At January 1,      2003   

  33,169

Provided during the      year   

  4,651

Disposal of      operations   

 (20,714
)
   

At December 31,      2003   

 17,106

Provided during      year   

  440

   

At December 31,      2004   

 17,546

   
** **
**Net book      value   **

**   **

At December 31,      2004   

  Nil

At December 31,      2003   

  440

 

F-15
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

9. TANGIBLE FIXED ASSETS**
*   *

*Computer       Equipment*

*Furniture &       fittings*

*  Internet       Portals*

*Total*

* *

  *£'000*

*  £'000*

*  £'000*

*  £'000*

**Cost **

** **

** **

** **

** **

At January 1, 2003 

  2,644

  462

  761

  3,867

Additions 

  19

  8

  -

  27

Disposals 

 (78
)
 (12
)
  -

 (90
)
Disposal of operations 

 (1,027
)
 (123
)
 (737
)
 (1,887
)
Exchange adjustments 

 (1
)
 (2
)
 (24
)
 (27
)
 

At December 31, 2003 

 1,557

 333

 -

 1,890

Additions 

  39

  3

  -

  42

Exchange adjustments 

 (27
)
 (6
)
  -

 (33
)
 

At December 31, 2004 

 1,569

 330

 -

 1,899

 

**Depreciation **

** **

** **

** **

** **

At January 1, 2003 

 2,051

 366

 550

 2,967

Provided during the year 

 402

 51

 120

 573

Disposals 

 (78
)
 (12
)
 -

 (90
)
Disposal of operations 

 (968
)
 (110
)
 (649
)
 (1,727
)
Exchange adjustments 

 (6
)
 (1
)
 (21
)
 (28
)
 

At December 31, 2003 

 1,401

 294

 -

 1,695

Provided during the year 

  113

  6

  -

  119

Exchange adjustments 

 (19
)
 (6
)
  -

 (25
)
 

At December 31, 2004 

 1,495

 294

 -

 1,789

 
** **
**Net book      value **

** **

** **

** **

** **

At December 31, 2004 

  74

  36

  -

  110
 
At December 31, 2003 

 156

 39

 -

 195

 

F-16
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

10. BUSINESS COMBINATIONS

Disposals of operations**
a)    On July 1, 2003the Group completed the disposal of the IM division of Sopheon CorporationMinnesota. The disposal is analyzed as follows:

*Net liabilities      disposed of:   *

*  £'000*
 
Fixed assets   

  50

Debtors   

  857

Creditors and      accruals   

 (832
)
Deferred      revenue   

 (1,117
)
   

(1,042
)
Profit on      disposal   

  3,042

   

2,000 

*Satisfied      by:   *

*   *
 
Cash   

 1,750

Further amounts due from      purchaser   

 250

   

2,000

 

The further amounts due from purchaserare subject to final agreement of terms reached in principle regarding paymentof earn-outs and escrow balances that comprise securities subject tofluctuations in market value, including 388,350 Sopheon shares which were issuedto the purchaser, FIND/SVP Inc., on July 4, 2003 (as referred to in Note 16).

In the period to July 1, 2003, the IMdivision of Sopheon Corporation Minnesota contributed £265,000 to the Group'soperating loss and £145,000 to the Group's operating cash outflow. The taxeffect of disposals is set out in Note 6.
** **
F-17
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

10. BUSINESS COMBINATIONS (Continued)**
b)    On August 15,2003, the Group completed the disposal of Sopheon GmbH. The disposal is analyzedas follows:

*Net liabilities      disposed of:   *

*  £'000*
 
Fixed assets   

  110

Debtors   

  956

Cash   

  649

Creditors and      accruals   

 (859
)
Pension      provision   

 (497
)
Deferred      revenue   

 (389
)
   

(30
)
Profit on      disposal   

  526

   

496

*Satisfied      by:   *

*   *
 
Release of contingent deferred      consideration   

  465

Release of unamortized negative      goodwill   

  101

Cash contribution on      disposal   

 (76
)
   

496 
* *
In the period to August 15, 2003Sopheon GmbH contributed £521,000 to the Group's operating loss and £195,000to the Group's operating cash outflow. The tax effect of disposals is set outin Note 6.
* *
F-18
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

11. DEBTORS**
*   *

*2004*

* 2003*

* *

*£'000*

* £'000*
 
Trade debtors 

 1,594

 589

Other debtors 

 153

 320

Prepayments and accrued      income 

 154

 250

 

 

1,901

 1,159
** 

12. NOTES TO STATEMENT OF CASH FLOWS**
(a)    Reconciliation ofnet cash flow to movement in net funds/(debt)

*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Increase)/(decrease) in      cash 

 62

 (543
)
 (1,803
)
Decrease/(increase) in overdrafts      and lines of credit 

 35

 785

 (318
)
 

Net increase/(decrease) in cash      and cash equivalents 

 97

 242

 (2,121
)
Repayment of term loans 

 11

 -

 51

Cash inflow/(outflow) from change      in liquid resources 

 271

 (1,934
)
 (8,186
)
Change in net debt resulting from      cash flows 

 379

 (1,692
)
 (10,256
)
Conversion of convertible loan      stock 

 1,065

 26

 -

Reclassification of convertible      loan stock as equity 

 1,509

 -

 -

Exchange adjustments 

 10

 5

 80

Allocation of convertible loan      stock issue costs 

 (13
)
 (18
)
 (16
)
Movement in net      funds/(debt) 

 2,950

 (1,679
)
 (10,192
)
Net(debt)/funds at January      1 

 (1,868
)
 (189
)
 10,003

Net funds/(debt) at December      31 

 1,082

 (1,868
)
 (189
)** **
F-19

**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)
12. NOTES TO STATEMENT OF CASH FLOWS(Continued)**
(b)    Analysisof changes in net funds/(debt)

*   *

*Cash at      bank*

*Short-term       deposits      /liquid       resources*

*Overdrafts      and lines      of credit*

*Convertible      loan        stock*

*Term      loans*

*Total*

* *

*£'000*

* £'000*

* £'000*

* £'000*

* £'000*

* £'000*
 
At January 1, 2002 

 2,561

 10,783

 (709
)
 (2,553
)
 (79
)
 10,003

Cash flow 

 (1,803
)
 (8,186
)
 (318
)
 -

 51

 (10,256
)
Exchange adjustment 

 -

 -

 80

 -

 -

 80

Allocation of issue costs 

 -

 -

 -

 (16
)
 -

 (16
)
At December 31, 2002 

 758

 2,597

 (947
)
 (2,569
)
 (28
)
 (189
)
Cash flow 

 (543
)
 (1,934
)
 785

 -

 -

 (1,692
)Conversion      of loan stock  ---26-26
Exchange adjustment 

 -

 -

 5

 -

 -

 5

Allocation of issue costs 

 -

 -

 -

 (18
)
 -

 (18
)
At December 31, 2003 

 215

 663

 (157
)
 (2,561
)
 (28
)
 (1,868
)
Cash flow 

 62

 271

 35

 -

 11

 379

Conversion of loan stock 

 -

 -

 -

 1,065

 -

 1,065

Reclassification of loan stock as         shareholders' funds 

       -

      -

      -

      1,509

      -

       1,509

Exchange adjustment 

 -

 -

 10

 -

 -

 10

Allocation of issue costs 

 -

 -

 -

 (13
)
 -

 (13
)
At December 31, 2004 

 277

 934

 (112
)
 -

 (17
)
 1,082

 
**13. CREDITORS: amountsfalling due within one year

*   *

*2004*

* 2003*

* *

*£'000*

* £'000*
 
Overdrafts and bank lines of      credit 

 112

 157

Current installments due on bank      loan 

 17

 28

Trade creditors 

 234

 404

Other taxes and social security      costs 

 176

 94

Accruals and deferred      income 

 1,325

 1,147

Other creditors 

 114

 166

 

 

1,978

 1,996

 

The bank line of credit is securedagainst the trade debtors of Sopheon Corporation Minnesota and bears interest ata rate of 2% above US prime rate.

The bank loan is a sterling loan madeunder the Small Companies Loan Guarantee Scheme, bearing interest at 3% overbank base rate, in respect of which the lender holds a guarantee for 85% of theloan facility from the Department of Trade and Industry.
** **
F-20
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

14. CREDITORS:amounts falling due after more than one year

*   *

*2004*

* 2003*

* *

*£'000*

* £'000*
 
Convertible Unsecured Loan Stock      2005 

 -

 2,561

 

£2.6 million nominal of 6% ConvertibleUnsecured Loan Stock 2005 (the "Stock"), with 557,143 detachablewarrants to subscribe for Sopheon shares, was issued at par on June 20, 2001.The detachable warrants expired unexercised on June 19, 2003. The Stock isconvertible into ordinary Sopheon shares any time prior to maturity. During 2004holders of £1,065,000 nominal of the Stock exercised rights of conversion intoSopheon ordinary shares. The nominal amount outstanding at December 31, 2003 isshown net of issue costs of £13,000 allocated to future periods.

On July 14, 2004, the holders of theStock approved a resolution to reconstitute the stock such that, subject to thegroup continuing to meet key solvency tests, the Stock is no longer repayable atpar on maturity but will automatically convert on December 31, 2005 into Sopheonordinary shares at the conversion rate of 12p nominal of the Stock per Sopheonshare. The resolution also provided that the Stock is no longer interestbearing. On reconstitution, the Stock was renamed "Interest Free MandatoryConvertible Loan Stock". The solvency tests include the Company beingunable, for the purposes of Section 123 of the Insolvency Act 1986, to pay itsdebts as they fall due; the appointment of an administrator, receiver,liquidator, trustee or similar officer; or the Company ceasing to carry onbusiness as a going concern. As consideration for the forgoing of interest andrepayment rights, stockholders received a compensation payment of 7% of thenominal value of the Stock on August 2, 2004. Following the modifications to theStock, the instrument has been reclassified as part of equity shareholders'funds in Sopheon's balance sheet. Accordingly, an amount of £1,509,000,representing the nominal amount of the Stock outstanding at December 31, 2004,|has been transferred to equity shareholders' funds as shown in Note 17.

In the event that prior to the date ofconversion of the Stock the company makes an offer of shares by way of rightsissue, placing, open offer or similar issue at a price less than the conversionrate of 12p per share, the conversion rate shall be adjusted to the offer priceor to the par value of 5p per share, whichever is the greater.

 

F-21

S**OPHEONplcNOTES TO THE FINANCIAL STATEMENTS(Continued)
15. OBLIGATIONS UNDER LEASES**
The Group had no amounts due underfinance leases and hire purchase contracts.

At December 31, 2003 and 2004 the Grouphad annual commitments under operating leases as set out below:

   

*Land &       buildings*

*       Other*

*  Land      &      buildings*

* Other*

* *

*2004*

*       2004*

*       2003*

*  2003*

* *

*£'000*

*  £'000*

*  £'000*

*  £'000*

Operating leases which      expire: 

 

 

 

 

within one year 

  210

  17

  102

  45

in two to five years 

  120

  81

  261

  36

 

Totals 

 330

 98

 363

 81

 

F-22

**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)
16. SHARE CAPITAL**
*Authorized   *

*       2004*

*  2003*

*** **2002*
* *
*Number of      shares *

* *

* *

* *

Ordinary shares of 5p each 

  175,000,000

  125,000,000

  125,000,000
 
£ 

 

 

 

Ordinary shares of 5p each 

  8,750,000

  6,250,000

  6,250,000
* *
*Allotted, called up and fully      paid *

* 2004*

* 2003*

*** **2002*
* *
*Number of shares *

* *

* *

* *

Ordinary shares of 5p each 

 115,871,082

 96,410,019

 82,933,309
 
£ 

 

 

 

Ordinary shares of 5p each 

  5,793,554

  4,820,501

  4,146,665

 

On January 16, 2002, 39,242 ordinaryshares were issued for cash at 8.6p per share and 4,760 ordinary shares wereissued at 6.193p per share pursuant to the exercise of share options.

On March 15, 2002, 4,360 ordinaryshares were issued for cash at 8.6p per share pursuant to the exercise of ashare option.

On May 3, 2002, 450,623 ordinary shareswere issued for cash at 6.193p per share pursuant to the exercise of a shareoption.

On June 26, 2002, 7,672 ordinary shareswere issued for cash at 6.193p per share pursuant to the exercise of a shareoption.

On December 5, 2002, 115,077 ordinaryshares were issued for cash at 6.193p per share pursuant to the exercise of ashare option.

On March 5, 2003, 15,344 ordinaryshares were issued for cash at 6.193p per share pursuant to the exercise of ashare option.

On March 17, 2003, 7,672 ordinaryshares were issued for cash at 6.193p per share pursuant to the exercise of ashare option.

On June 16, 2003, 4,500,000 ordinaryshares were issued for cash at 12p per share by way of a share placing to raise£520,000 net of expenses.

On July 4, 2003, 388,350 ordinaryshares were issued to FIND/SVP Inc pursuant to the agreement for the sale ofSopheon's North American IM business, representing an amount of $100,000(£59,880) satisfied by the issue of Sopheon shares.

On August 11, 2003, 15,344 ordinaryshares were issued for cash at 6.193p per share pursuant to the exercise of ashare option.

On September 3, 2003, 116,666 ordinaryshares were issued on conversion of £14,000 nominal of 6% Convertible LoanStock 2005.

 

F-23
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

16. SHARE CAPITAL (Continued)**
On October 22, 2003, 8,333,334 ordinaryshares were issued for cash at 12p per share by way of a share placing to raise£960,000 net of expenses.

On November 20, 2003, 100,000 ordinaryshares were issued on conversion of £12,000 nominal of 6% Convertible LoanStock 2005.

On December 23, 2003, the Companyannounced that it had entered into a definitive agreement with GEM for a €10million equity line of credit facility. The agreement takes the form of asubscription and share lending agreement (the "Agreement") such thatthe Company may, at its option within the terms of the Agreement, require GEM tosubscribe for Sopheon shares at a 10% discount to the average market bid pricefor the 15 days preceding the issue, up to an aggregate of €10 million overthe two-year life of the Agreement. GEM's obligation to subscribe for sharesis subject to certain restrictions including the prevailing trading volumes ofSopheon shares on the Euronext stock exchange. In all other respects the Companywill remain in control of the amount and timing of any subscription under theequity line and is under no obligation to use the facility at any point duringthe term.

On January 23, 2004, 70,000 ordinaryshares were issued on conversion of £8,400 nominal of 6% Convertible Loan Stock2005.

On January 26, 2004, 3,600,000 ordinaryshares were issued for cash at 23p per share by way of a share placing to raise£810,000 (net of expenses).

On February 18, 2004, 17,440 ordinaryshares were issued for cash at 8.6p per share pursuant to the exercise of shareoptions and 130,000 ordinary shares were issued on conversion of £15,600nominal of 6% Convertible Loan Stock 2005.

On March 3, 2004, 2,000,000 ordinaryshares were issued for cash at 31p per share under the equity line of creditarrangement with GEM to raise £578,000 (net of expenses).

On March 10, 2004, 4,360 ordinaryshares were issued for cash at 8.6p per share pursuant to the exercise of ashare option.

On April 30, 2004, 125,820 ordinaryshares were issued for cash at 14.75p per share and 66,500 at 16.25p per sharepursuant to the exercise of share options and 136,006 ordinary shares wereissued on conversion of £16,321 nominal of 6% Convertible Loan Stock 2005.

On June 25, 2004, 4,651,163 ordinaryshares were issued for cash to Norman Nominees at 21.5p per share by way of ashare placing to raise £1,000,000 in working capital. On the same date, at theAnnual General Meeting of the Company, shareholders approved a resolution toincrease the authorized capital of the Company to £8,750,000 by the creation of50,000,000 new ordinary shares of 5p each.

On July 22, 2004, 4,166,667 ordinaryshares were issued on conversion of £500,000 nominal of 6% Convertible LoanStock 2005.

On September 3, 2004, 208,333 ordinaryshares were issued on conversion of £25,000 nominal of 6% Convertible LoanStock 2005 and 45,941 ordinary shares were issued for cash at 14.75p per shareand 33,000 at 16.25p per share pursuant to the exercise of share options.

On October 8, 2004, 17,500 ordinaryshares were issued for cash at 14.75p per share and 21,666 at 16.25p per sharepursuant to the exercise of share options.

On November 11, 2004, 4,166,667ordinary shares were issued on conversion of £500,000 nominal of 6% ConvertibleLoan Stock 2005.

 

F-24
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

16. SHARE CAPITAL (Continued)***Contingent rights to subscribe forSopheon shares*
On June 19, 2001, the Company issued£2.6 million of Convertible Unsecured Loan Stock (the "Stock") with557,143 detachable warrants to subscribe for Sopheon shares. In accordance withthe terms of the Stock, on June 16, 2003 the conversion rate was adjusted to 12pper share, following the cash placing of new shares in the market at 12p pershare on that date. The warrants expired unexercised on June 19, 2003. AtDecember 31, 2004, £1,509,000 nominal value of the Stock remained outstanding,which on full conversion would result in the issue of 12,572,326 Sopheonordinary shares.
*Employee share option schemes*
On August 28, 1996, the directorsadopted, and the Company in general meeting approved, the Sopheon ExecutiveShare Option Scheme in a form approved by the Inland Revenue. Subsequently, anunapproved executive share option scheme was established with terms similar tothe approved scheme.

On the same date, the directorsadopted, and the Company in general meeting approved, a share option scheme toprovide for the grant to certain directors and employees of PolyDoc NV (renamedSopheon NV) of options over Sopheon ordinary shares in exchange for thesurrender by such directors and employees of their existing options over sharesin PolyDoc NV, and to provide for further grants of share options to employeesof the Group subject to Dutch tax.

On September 29, 2000, following theacquisition of Teltech Resource Network Corporation, the directors adopted theSopheon plc (USA) Stock Option Plan, under which share options can be grantedeither as qualifying Incentive Stock Options (ISOs) or as Non-Qualifying Options(NQOs).

Pursuant to the acquisition of OrbitalSoftware Holdings plc in November 2001, share options granted under the OrbitalSoftware Group Limited Share Option Scheme were released in exchange for thegrant of 660,066 new options over Sopheon ordinary shares. These options remainsubject to the rules of the Orbital Software Group Limited Share Option Scheme.

At the Annual General Meeting held onJune 25, 2004, shareholders approved a maximum of 10,000,000 Sopheon ordinaryshares over which options could be granted under any employee share optionscheme.

 

F-25
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

16. SHARE CAPITAL (Continued)**
A summary of options granted under theshare option schemes at December 31, 2004 is set out below.* **Exercise      Period*
*Year of grant *

*       Number*

* Exercise      Price (£)*

*       From*

*       To*
 
1996 

 40,000

 0.2000

 08-28-96

 07-21-06

1999 

 10,000

 1.4150

 01-20-02

 01-20-09

1999 (1) 

 42,500

 1.5000

 04-28-00

 04-28-09

1999 (1) 

 52,500

 1.5000

 11-03-00

 11-03-09

1999 

 10,000

 1.5000

 11-03-02

 11-03-09

1999 (2) 

 100,000

 1.5000

 11-22-02

 11-22-09

2000 (1) 

 7,000

 5.7900

 01-24-01

 01-24-10

2000 

 3,000

 6.0725

 01-25-01

 01-25-10

2000 (1) 

 10,000

 9.6000

 02-08-01

 02-08-10

2000 (1) 

 8,500

 4.9500

 06-28-01

 06-28-10

2000 (1) 

 25,000

 5.0000

 06-26-01

 06-26-10

2000 

 14,000

 4.9500

 06-28-03

 06-28-10

2000 (1) 

 30,196

 4.2750

 10-02-01

 10-02-10

2000 (1) 

 5,000

 3.7250

 11-15-01

 11-15-10

2000 

 5,000

 1.6000

 12-31-03

 12-31-10

2000 (1) 

 8,996

 1.6000

 12-31-01

 12-31-10

2001 

 72,500

 0.7750

 05-02-04

 05-02-11

2001 (1) 

 92,604

 0.7750

 05-02-02

 05-02-11

2001 (4) 

 11,508

 0.0619

 09-14-01

 09-14-08

2002 

 320,000

 0.1475

 04-30-05

 04-30-12

2002 

 239,750

 0.1475

 04-30-02

 04-30-07

2002 (2) 

 1,032,110

 0.1475

 04-30-02

 04-30-12

2003 (2) 

 20,000

 0.1475

 07-07-03

 07-07-13

2003 (3) 

 585,000

 0.1625

 11-05-03

 11-05-08

2003 (2) (3) 

 3,630,000

 0.1625

 11-05-03

 11-05-13

2003 (3) 

 440,000

 0.1625

 11-05-06

 11-05-13

2004 (2) (3) 

 180,000

 0.2150

 09-16-04

 09-16-14

2004 

 100,000

 0.2150

 09-16-07

 09-16-14

__________
(1)
One fourth of these options      become exercisable each year starting on the date indicated. All other      options become exercisable in full from the date indicated.
(2)
One third of these options are      exercisable from the date of grant, one third from the first anniversary      of the date of grant and one third from the second anniversary of the date      of grant.
(3)
Includes options which are      contingent upon certain performance targets.
(4)
Arising from options held by      employees of Orbital Software Holdings plc and its subsidiaries and rolled      over into Sopheon options.

 
*Other share options*
Fully vested options to subscribe for718,292 Sopheon ordinary shares at prices between £1.84 and £5.15 were grantedon September 15, 2000 as part of the consideration payable in respect of theacquisition of Teltech Resource Network Corporation. These options, withexercise dates between June 7, 2001 and July 31, 2010, are held by the vendorsof Teltech. At December 31, 2004, 349,654 of such options had lapsed, 1,500 hadbeen exercised, and 367,138 remained outstanding, in respect of which theaggregate exercise price was £0.8 million.

 

F-26
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

17. SHAREHOLDERS' FUNDS*  *
* *

*Share       capital*

*Shares       to be       issued*

*Share       Premium       Account*

*Merger       reserve*

*Other       reserves*

*  Profit      &       Loss       Account*

* *

 *£'000*

*  £'000*

*  £'000*

*  £'000*

*  £'000*

*  £'000*
 
At January 1, 2002 

  4,116

  465

  45,372

  18,384

  5,455

 (55,427
)
Arising on share issues 

  31

  -

  8

  -

  -

  -

Lapsing of share options 

  -

  -

  -

  -

 (1,010
)
  1,010

Loss for the year 

  -

  -

  -

  -

  -

 (16,053
)
Exchange adjustment 

  -

  -

  -

  -

  -

  75

 

At December 31, 2002 

 4,147

 465

 45,380

 18,384

 4,445

 (70,395
)
Arising on share issues 

  661

  -

  878

  -

  -

  -

Exercise of share options      and         conversion of loan stock 

      13

       -

      162

       -

       (147
      )
       -

Lapsing of share options 

  -

  -

  -

  -

 (134
)
  134

Disposal of subsidiary 

  -

 (465
)
-

 (440
)
  -

  440

Loss for the year 

  -

  -

  -

  -

  -

 (5,501
)
Exchange differences 

  -

  -

  -

  -

  -

  88

 

At December 31, 2003 

 4,821

 -

 46,420

 17,944

 4,164

 (75,234
)
Arising on share issues 

  512

  -

  1,875

  -

  -

  -

Exercise of share options      and         conversion of loan stock 

      461

      -

      654

      -

      -

       -

Lapsing of share options 

  -

  -

  -

  -

 (7
)
  7

Reclassification of      convertible         loan stock as equity 

       -

      1,509

      -

       -

      -

       -

Loss for the year 

  -

  -

  -

  -

  -

 (1,821
)
Exchange adjustment 

  -

  -

  -

  -

  -

 (61
)
 

At December 31, 2004 

 5,794

 1,509

 48,949

 17,944

 4,157

 (77,109
)
 

The reserve arising from issue of shareoptions in connection with acquisitions was reduced during 2003 by £147,000 andreduced during 2002 by £1,010,000 as a result of the exercise of share options,and during 2003 by £134,000 and during 2004 by £7,000 as a result of thelapsing of share options due to option-holders ceasing to be employed by theGroup.

The amount of £465,000 in respect of"Shares to be issued", representing deferred consideration in respectof the acquisition of Sopheon GmbH, to be satisfied by the issue of Sopheonshares to the vendors, has been written back on the disposal of Sopheon GmbH,due to the conditions for the payment thereof not having been met

Other reserves comprise: *  *

 *2004*

 *2003*

 *2002*

* *

*£'000*

* £'000*

* £'000*
 
Capital redemption reserve 

 2,884

 2,884

 2,884

Reserve arising from issues of      share options in connection         with acquisitions 

      1,273

       1,280

       1,561

* *

 

4,157

 4,164

 4,445

 

F-27 
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

18. FINANCIAL INSTRUMENTS

Interest rate risk profile of financialliabilities**
The financial liabilities of the Groupat each year end are set out below.

*   *

*2004*

*  2003*

* *

*£ '000*

*  £ '000*
 
Floating rate line of credit –      US Dollar 

 108

 155

Floating rate overdraft –      Sterling 

 4

 2

Floating rate loans –      Sterling 

 17

 28

Fixed rate 6% Convertible Loan      Stock 2005 

  -

  2,561

 

 

129

 2,746

 

Other than the Convertible Loan Stock2005, which as explained in Note 14 is now non-interest bearing and has beenreclassified as shareholders' funds, these financial liabilities bear interestrates that are based on local bank rates.
**Interest rate risk profile of financialassets**
The financial assets of the Group ateach year-end comprise cash or cash deposits on money market deposit at call andmonthly rates. The amounts were as follows

*   *

*2004*

*  2003*

* *

*£ '000*

*  £ '000*

*Floating      rate *

* *

* *

Sterling 

  638

  663

Euro 

  342

  -

 

 

980

 663

*Non-interest      bearing *

* *

* *

Sterling 

  1

  38

US Dollar 

  186

  150

Euro 

  44

  27

 

 

231

 215

   
 
Total financial      assets   

 1,211

 878

 

F-28

**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)
18. FINANCIAL INSTRUMENTS (Continued)

Currency exposures**
The table below shows the Group'stransactional currency exposures that give rise to the net currency gains andlosses recognized in the profit and loss account. Such exposures comprise themonetary assets and monetary liabilities of the Group that are not denominatedin the operating currency of the operating unit involved, and have arisen onlyin operating units with a functional currency of Sterling.
* **Net      foreign currency monetary assets** *
*   *

*US Dollar*

* Euro*

* Total*

* *

*£'000*

* £'000*

* £'000*
 
2003 Sterling 

 9

 -

 9

2004 Sterling 

 -

 342

 342

 

**Maturity of financial liabilities**
The maturity profile and interest ratesof the Group's financial liabilities at each relevant period or year-end is asset out in Notes 13 and 14.
**Borrowing facilities**
The Group had no undrawn committedfacilities available at each relevant period or year end, apart from its US$line of credit (referred to in Note 13).
**Fair values of financial assets andliabilities**
The fair values of financial assets andliabilities are set out below. The directors consider that there were nomaterial differences between the book values and fair values of all the Group'sfinancial assets and liabilities at each year-end.
* **Book      value      and fair value** *
*   *

*2004*

* 2003*

* *

*£ '000*

* £ '000*
 
Cash and short-term      deposits 

 1,211

 878

Bank overdrafts and lines of      credit 

 (112
)
 (157
)
Current installments on bank      loans 

 (17
)
 (28
)
Convertible Loan Stock 2005 

 -

 (2,561
)
 

F-29

**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)****19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES**
The accompanying financial statementshave been prepared in accordance with accounting principles generally acceptedin the United Kingdom ("U.K. GAAP"), which differ from generallyaccepted accounting principles in the United States ("U.S. GAAP").

The following is a summary of theadjustments to the loss for the year and shareholders' funds/(deficit) whichwould have been required if U.S. GAAP had been applied instead of U.K. GAAP.
***a)    Convertible loanstocks with detachable warrants***
Under UK GAAP, the accounting for loanstock with a non-detachable conversion feature should not anticipate conversionand, accordingly, no fair value is attributed to the conversion feature. Whereloan stocks are issued with detachable warrants, US GAAP requires the proceedsof the issue to be allocated between the debt and the warrants. Under US GAAP afair value would be attributed to the warrants and the Black Scholes model hasbeen used for this purpose.

On June 19, 2001, the Company issued£2,600,000 of 6% Convertible Loan Stock with 557,143 detachable warrants. Theconversion price for the Convertible Loan Stock was set at 70p and the exerciseprice for the detachable warrants was 70p.

The terms of the Convertible Loan Stockprovided that the conversion price would be adjusted downwards, should theCompany, prior to the expiry of the conversion rights, undertake a placing orsimilar issue of new shares at a price of less than 70p per share in which casethe conversion price should be adjusted to equal such lower placing price. Themarket price for the underlying shares on June 19, 2001 was 61p. The conversionterms thus had no intrinsic value at the date of issue of the Loan Stock.

The fair value of the detachablewarrants at June 19, 2001 was computed as £156,000 and under US GAAP theresulting discount on issuance of the convertible loan would have been amortizedover the original two-year life of the underlying convertible loan. As a result,a charge of £73,000 would have arisen under US GAAP in the year ended December31, 2002. Other assumptions used in the Black Scholes model were an expectedlife of 1.5 years, a risk-free interest rate of 5.24% and a volatility of 104%.

The terms of the Convertible Loan Stockwere modified on July 14, 2004, as set out in Note 14 above, which under UK GAAPhave resulted in the nominal amount of £1,509,000 outstanding at December 31,2004 being reclassified as part of equity shareholders' funds. This treatmentis also consistent with the provisions of the US Financial Accounting Standard150 and, accordingly, no further adjustment or reclassification is required forUS GAAP purposes.
** **
F-30
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)
*b)    Acquisitionaccounting***
For UK GAAP, the purchase price inrespect of an acquisition where all or part of the consideration is in the formof equity instruments is based on the market price of the acquiror's shares onthe date the transaction becomes unconditional. For US GAAP, the purchase pricewould be based on the average market price over a reasonable period before andafter the announcement of the transaction.

For UK GAAP purposes, the entire excessof the purchase price over the net assets acquired is treated as goodwill. ForUS GAAP purposes, a proportion of the excess purchase price would be allocatedto identifiable intangible assets.
*i)    Acquisition ofTeltech Resource Network Corporation ("Teltech")*
The acquisition of Teltech becameunconditional on September 15, 2000 on which date the closing market value ofSopheon shares, which is used for UK GAAP purposes, was 565p. The acquisitionwas announced on March 3, 2000. For US GAAP purposes, Sopheon shares would havebeen valued at £13.25, based on the market prices during the period covering afew days around the announcement date, increasing the overall purchase price forTeltech by £19,959,000.

For UK GAAP purposes, the excess of thepurchase price over the net deficiency acquired of £28,823,000 was treated asgoodwill. For US GAAP purposes, part of the excess would have been allocated toidentifiable intangible assets. The analysis of this allocation, together withthe estimated useful lives to be applied for amortization purposes, based on anindependent third-party valuation, is as follows:

*Category   *

* Allocation*

* Estimated*

* *

*£'000*

* Life      (Years)*
 
Assembled workforce 

 2,469

 3

Customer list 

 8,025

 3

Patented technology 

 926

 5 

In process research and      development 

 494

 Immediate write off

Goodwill 

 36,868

 3

 

 

Total 

 48,782

   

 

The effect of the increase in thepurchase price and the allocation of purchase price to intangible assetsrequired for US GAAP purposes was to increase the amortization charged, ascompared with that charged for UK GAAP purposes, by £2,399,000 on goodwill and£3,599,000 on other intangible assets in the year ended December 31, 2001. As aresult of an impairment review as at December 31, 2001, the value of goodwillrelating to Teltech was reduced to £9,678,000 for the purposes of UK GAAP andthe value of goodwill and identifiable intangible assets would have been reducedto £7,840,000 and £1,838,000, respectively, under US GAAP. Furthermore, underUS GAAP, as described in paragraph (v) below, the residual value attributable tothe assembled workforce of £445,000 at January 1, 2002 would have beensubsumed within goodwill.

Following the impairment reviews in2001, under UK GAAP, goodwill amortization was £5,530,000 in 2002 and£4,148,000 in 2003, whereas under US GAAP no goodwill amortization would havebeen charged in either of 2002 or 2003 (in accordance with FAS 142 as referredto in paragraph (v) below). However, under US GAAP amortization charges inrespect of identified intangible assets would have amounted to £949,000 in 2002and £441,000 in 2003. In addition, under US GAAP a further impairment charge inrespect of goodwill of £4,914,000 would have arisen in 2002.
** **
F-31
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)**
At December 31, 2002, under US GAAP,identifiable intangible assets attributable to the customer list and thepatented technology would have been stated at cost of £1,664,000 (following theimpairment review in 2001) less amortization of £884,000.

In the year ended December 31, 2003, asa result of the disposal of Teltech's IM business to FIND/SVP Inc., whichtransaction was closed on July 4, 2003, the remaining unamortized amountsattributable to identifiable intangible assets under US GAAP, which wereeffectively acquired by the purchaser, would have been written off in arrivingat the profit on disposal of operations. Accordingly, at December 31, 2003 andDecember 31, 2004 the residual value attributable to the Teltech identifiableintangible assets under US GAAP would have been nil.

Under US GAAP, the residual Teltechgoodwill, following the impairment charges in 2001 and 2002, all of which wasconsidered to be attributable to the continuing BPS business, at December 31,2003 amounted to $3,499,000 (equivalent to £1,961,000 at the exchange rateprevailing on December 31, 2003). No impairment charge in respect of thisgoodwill would have been required under US GAAP at December 31, 2003.

Under UK GAAP, the goodwillamortization charge relating to Teltech goodwill in 2003 was £4,148,000, whichhad the effect of fully amortizing the remainder of the Teltech goodwill overits estimated three-year economic life. Thus, under UK GAAP throughout 2004 thenet value attributable to Teltech goodwill was nil.

Under US GAAP, the residual Teltechgoodwill, attributable to the continuing BPS business, at December 31, 2004 of$3,499,000 (equivalent £1,826,000 at the exchange rate prevailing on December31, 2004) would be subject to review for impairment at that date. On reviewingthe value of the residual goodwill deriving from the Teltech acquisition in2000, taking into account the subsequent disposal of the IM division to FINDS/SVPInc., under US GAAP a further impairment charge of $3,499,000 (£1,826,000)would have been made at December 31, 2004, recognizing that the residual elementof the goodwill acquired with the acquisition of Teltech no longer had anysignificant commercial value.
*ii)    Acquisition ofSopheon GmbH*
The acquisition of Sopheon GmbH (thetechnology and information services division of Aventis Research &Technologies) became unconditional on June 28, 2001 on which date the closingmarket value of Sopheon shares, which is used for UK GAAP purposes, was 58.5p.The acquisition was announced on June 26, 2001. For US GAAP purposes, Sopheonshares would have been valued at 58p, based on the market prices during theperiod covering a few days around the announcement date. Under UK GAAP, thepurchase price included an amount of £465,000 in respect of contingent deferredconsideration, comprising equity securities of Sopheon plc which would fall tobe issued to the vendor if certain profit targets were met. Under US GAAP, suchcontingent consideration would not have been recognized in computing thepurchase price until the contingency was resolved.

The acquisition of Sopheon GmbH gaverise to negative goodwill of £332,000 for the purposes of UK GAAP to beamortized over its estimated economic life of three years, giving rise toamortization credits of £55,000, £111,000 and £65,000 in the years endedDecember 31, 2001, 2002 and 2003, respectively. Under US GAAP, the excess of thecost of acquiring Sopheon GmbH over the sum assigned to the assets andliabilities acquired would have been allocated as a reduction to all theacquired assets except current assets. Any excess remaining after reducing theassigned assets would have been recognized as an extraordinary gain. In thisinstance, for the purposes of US GAAP, the value attributed to the tangiblefixed assets of Sopheon GmbH on acquisition would have been reduced to nil, andan excess of £495,000 would have been recognized as an extraordinary gain inthe year ended December 31, 2001. Depreciation charges under UK GAAP inrespect of tangible fixed assets acquired with Sopheon GmbH amounting to£55,000, £111,000 and £65,000 in the years ended December 31, 2001, 2002and 2003, respectively, would not have arisen under US GAAP.

The Group divested its interest inSopheon GmbH in August 2003 for a nominal consideration. Under UK GAAP, thecontingent deferred consideration of £465,000, which did not become payable,was written back and the unamortized amount of negative goodwill was written offin arriving at the surplus on disposal.
** **
F-32
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)***iii)    Acquisition ofOrbital Software Holdings plc ("Orbital")*
The acquisition of Orbital becameunconditional on November 15, 2001 on which date the closing market value ofSopheon shares, which is used for UK GAAP purposes, was 30p. The acquisition wasannounced on October 22, 2001. For US GAAP purposes, Sopheon shares would havebeen valued at 38p, based on the market prices during the period around theannouncement date, increasing the overall purchase price for Orbital by£3,251,000.

For UK GAAP purposes, the excess of thepurchase price of £13,096,000 over the net assets acquired of £11,587,000 wastreated as goodwill. For US GAAP purposes, part of the excess would have beenallocated to identifiable intangible assets. The analysis of this allocation isset out below. In accordance with US GAAP, the goodwill arising on theacquisition of Orbital Software Holdings plc would not be amortized (FAS 142 onacquisitions post June 30, 2001).

*Category   *

* Allocation      £'000*

*Estimated      Life (years)*
 
Customer list 

 385

 3

Current technology 

 1,515

 3

Goodwill 

 2,860

 

 

 

Total 

 4,760

   

 

As a result of the difference inaccounting for the cost of the acquisition under UK GAAP and US GAAP and theallocation under US GAAP of part of the purchase price to intangible assets, thefollowing differences arise:

Under UK GAAP, goodwill amortizationwas £503,000 in 2002, £503,000 in 2003 and £440,000 in 2004, whereas under USGAAP no goodwill amortization would have been charged in any of the years 2002,2003 and 2004 (in accordance with FAS 142 as referred to in paragraph (v)below).

However, under US GAAP, amortizationcharges in respect of identified intangible assets would have amounted to£633,000 in 2002, £523,000 in 2003 and £480,000 in 2004. In addition, underUS GAAP, an impairment charge in respect of goodwill of £2,839,000 and afurther impairment charge in respect of identified intangible assets of£211,000 would have arisen in 2002.

At December 31, 2004, under US GAAP,the identifiable intangible assets acquired with the Orbital acquisition wouldhave been fully amortized in accordance with their estimated useful lives with aresultant carrying value of nil. This would represent an adjusted cost of£1,003,000 (2003: £1,003,000), following the impairment review in 2002, lessaccumulated amortization of £1,003,000 (2003: £523,000). The valueattributable under US GAAP to the Orbital goodwill would be nil in 2003 and 2004due to the impairment charge that arose in 2002.
** **
F-33
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)***iv)    Goodwillimpairment charge*
Under both UK GAAP and US GAAP thevalue of goodwill should be reviewed if there has been a change ofcircumstances, which suggests that the carrying value of that asset may not berecoverable.

No impairment charge was required underUK GAAP following an impairment review as of December 31, 2002 and 2003.However, under US GAAP impairment charges would have been required to be made in2002 amounting to £4,914,000 in respect of Teltech goodwill, £2,839,000 inrespect of Orbital goodwill and £211,000 in respect of Orbital other intangibleassets.

No impairment charge was required underUK GAAP following impairment reviews as of December 31, 2003 nor would anyimpairment charge have been required under US GAAP in 2003. Under UK GAAPgoodwill was fully amortized as of December 31, 2004. Under US GAAP animpairment charge of £1,826,000 in respect of the residual Teltech goodwill, asreferred to in paragraph (i) above, would have been required in 2004.
*v)    Goodwillamortization*
Under UK GAAP goodwill amortization was£6,033,000 in 2002, £4,651,000 in 2003 and £440,000 in 2004, resulting in thefull amortization at December 31, 2004 of all goodwill, in accordance with itsestimated useful life.

In accordance with FAS 142, goodwillwould not be amortized under US GAAP, but the carrying value of goodwill wouldbe reviewed annually for impairment. As indicated in paragraph (iv) above,further impairment charges would have been required at December 31, 2002 underUS GAAP in respect of goodwill and intangible assets of £7,753,000 and£211,000, respectively. No impairment charges would have arisen in 2003. In2004 an impairment charge in respect of goodwill of £1,826,000 would have beenrequired under US GAAP.

Under US GAAP, the reduced carryingvalue of goodwill or an intangible asset following an impairment review would beaccounted for as its new cost, whereas under UK GAAP the impairment isclassified as additional amortization and, accordingly, the historical cost isnot reduced. Consequently, under UK GAAP, goodwill at December 31, 2004 would bepresented at its original historical cost of £17,546,000 (2003: £17,546,000)less accumulated amortization and impairment charges of £17,546,000 (2003:£17,106,000). Under US GAAP, cost of goodwill would be stated at December 31,2004 at nil value (2003: £1,961,000) following the impairment review at thatdate, as referred to in paragraph (i) above.

Also under US GAAP, on adoption of FAS142, any residual amount attributable to the value of an assembled workforcewould be subsumed into goodwill.
** **
F-34
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)***vi)    Profit ondisposal of operations*
There are differences between US GAAPand UK GAAP in the accounting for the disposals of Teltech's IM division andSopheon GmbH, both of which took place in the year ended December 31, 2003.Under UK GAAP, the profit on disposal of operations in 2003 was £3,568,000,representing the net proceeds receivable plus the amounts of net liabilitiesassumed by the purchasers, together with (in the case of Sopheon GmbH) thewrite-back of contingent deferred consideration of £465,000 and the write-offof unamortized negative goodwill of £101,000. Under US GAAP, the profit ondisposal of operations in 2003 would have been £2,760,000, representing the netproceeds receivable plus the amounts of net liabilities assumed by thepurchasers, less (in the case of the disposal of Teltech) the unamortized amountof £326,000 attributable to the intangible assets effectively acquired by thepurchaser. In the case of Sopheon GmbH, under US GAAP the net liabilitiesassumed by the purchaser would have been higher by £84,000 than under UK GAAPbecause under US GAAP the value of the fixed assets at the time of acquisitionwould have been reduced to nil as explained in paragraph (ii) above.

Under UK GAAP, as disclosed in Note 8,the goodwill attributable to Teltech's IM division, which amounted at cost to£20,714,000 and at the date of disposal had been fully amortized, waseliminated from both cost of goodwill and accumulated goodwill amortization.Under US GAAP the goodwill attributable to Teltech's IM division at the dateof disposal would have been stated at a cost of nil, following the impairmentcharge in 2002.
***c)    Foreign currencyassets***
The Group treats goodwill arising onacquisitions of overseas subsidiaries as a sterling asset. Under US GAAPgoodwill arising on overseas acquisitions is treated as a currency asset and issubject to the impact of foreign currency movements, For the purposes of US GAAPfor the year ended December 31, 2004 a foreign exchange loss of £135,000 (2003:loss £272,000 and 2002: loss £860,000) in respect of the goodwill and otherintangibles arising on the acquisition of Teltech, would be reflected in theconsolidated statement of comprehensive loss.
***d)    Stock basedcompensation***
For US GAAP purposes, the Companywould have elected to follow APB Opinion No. 25 "Accounting for StockIssued to Employees", in accounting for employee stock options.Under APB Opinion No. 25, because the exercise price of employee stock optionsequals the market price of the underlying stock on the date of grant, nocompensation expense would have been recognized in the financial statementsunder US GAAP.
** **
F-35
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)
*e)    Taxation***
Under U.K. GAAP, deferred tax isrecognized in respect of all timing differences that have originated but notreversed at the balance sheet date where transactions or events have occurred atthat date that will result in an obligation to pay more, or a right to pay lessor to receive more, tax. Under U.K. GAAP, deferred tax assets are recognizedonly to the extent that the directors consider that it is more likely than notthat there will be suitable taxable profits from which the future reversal ofthe underlying timing differences can be deducted.

U.S. GAAP requires deferred taxation tobe provided in full, using the liability method on all temporary differencesbetween the tax and book basis of assets and liabilities. Under U.S. GAAP,deferred tax assets and liabilities are recognized for all temporary timingdifferences and income tax losses, in accordance with FAS 109 ''Accounting forIncome Taxes.'' Valuation allowances with respect to deferred tax assets areprovided when it is considered more likely than not that all, or a portion, ofthe deferred tax assets will not be realized.

The Company has concluded thatrealization of its US and UK deferred tax assets does not meet the "morelikely than not" recognition criteria.
** **
F-36
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)*****f)    Income***
The effect of the adjustments to lossfor the year which would be required if US GAAP were to be applied instead of UKGAAP is summarized as follows:

*   *

*Note *

*       2004*

*       2003*

*  2002*

* *

* *

*£'000*

*       £'000*

*  £'000*
 
Loss for the year as reported in      the         consolidated profit and loss account in        accordance with UK GAAP 

 

       (1,821
      )
       (5,501
      )
       (16,053
      )* *
*Adjustments: *

* *

* *

* *

* *

Tangible fixed assets      depreciation adjustment 

 19(b)(ii) 

 -

 55

 131

Amortization of goodwill 

 19(b)(i),(iii)and (v) 

 440

 4,651

 6,033

Amortization of negative      goodwill 

 19(b)(ii) 

 -

 (65
)
 (111
)
Amortization of other intangible      assets 

 19(b)(i) & (iii) 

 (480
)
 (964
)
 (1,582
)
Impairment charge -      goodwill 

 19(b)(iv) 

 (1,826
)
 -

 (7,753
)
Impairment charge - other      intangible assets 

 19(b)(iv) 

 -

 -

 (211
)
Interest payable and similar      charges 

 19(a) 

 -

 -

 (73
)
Profit on disposal of      operations 

 19(b)(vi) 

 -

 (808
)
 -

 

 

Net loss as adjusted to accord      with US GAAP 

 

 (3,687
)
 (2,632
)
 (19,619
)
Comprising: 

 

 

 

 

Loss from continuing      operations 

 

 (3,687
)
 (4,132
)
 (13,502
)
Income/(loss) from discontinued      operations 

 

 

Loss from operations 

 

  -

 (1,260
)
 (6,117
)
Gain on sale 

 

  -

  2,760

  -

 

 

Net loss as adjusted to accord      with US GAAP 

 

 (3,687
)
 (2,632
)
 (19,619
) 
Loss per share (basic and      diluted) 

 

 

 

 
 
Loss from continuing      operations 

 

 (3.2
)p
 (4.7
)p
 (16.4
)p
Income/(loss) from discontinued      operations 

 

 

  1.7
p
 (7.4
)p
 

 

Net loss 

 

 (3.2
)p
 (3.0
)p
 (23.8
)p 
Shares used in computing amounts      per share 

 

  114,882,751

  87,274,941

  82,669,430

 

F-37
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)
*g)    ConsolidatedStatement of Comprehensive Loss***
Comprehensive loss under US GAAP is asfollows:
*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
 
Net loss in accordance with US      GAAP 

 (3,687
)
 (2,632
)
 (19,619
)
Exchange differences on      re-translation of net assets         and results of subsidiary undertakings 

       (196
      )
       (184
      )
       (785
      )
 

Comprehensive loss in accordance      with US GAAP 

 (3,883
)
 (2,816
)
 (20,404
)
 

 ***h)   Shareholders' funds***
The effect of the adjustment toshareholders' funds/(deficit) which would be required if US GAAP were to beapplied instead of UK GAAP is summarized as follows:

*   *

*Note *

* 2004*

* 2003*

* *

* *

*£'000*

* £'000*
 
Shareholders' funds/(deficit) as      reported in the         consolidated balance sheet under UK GAAP 

 

       1,244

       (1,885
      ) 
Adjustments: 

 

 

 

Fixed assets 

 

 

 

    Intangible      assets – goodwill 

 19(b)(v) 

 

 

             -Cost 

 

 (17,546
)
 (15,585
)
             -Amortization 

 

 17,546

 17,106
 
Intangible assets – other 

 19(b)(iii) 

 

 

             -Cost 

 

 1,003

 1,003

             -Amortization 

 

 (1,003
)
 (523
) 
 

 

Shareholders' equity as adjusted      to accord with US GAAP 

 

 1,244

 116

 

F-38
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)
*j)    Consolidatedstatements of cash flows***
The consolidated statements of cashflows prepared under UK GAAP present substantially the same information as thoserequired under US GAAP but they differ, however, with regard to classificationof items within them and as regards the definition of cash and cash equivalents.

Under UK GAAP, cash is defined as cashin hand and at bank and deposits repayable on demand less bank overdrafts. UnderUS GAAP, cash and cash equivalents would not include bank overdrafts but wouldinclude cash deposits repayable within three months at inception. Under UK GAAP,cash flows are presented separately for operating activities, returns oninvestment, acquisitions, equity dividends, management of liquid resources andfinancing. US GAAP requires only three categories of cash flow activity to bereported: operating, investing and financing. Cash flows from taxation andreturn on investments and servicing of finance shown under UK GAAP would beincluded in the determination of cash flows from operating activities under USGAAP. Under US GAAP, the payment of dividends would be included as a financingactivity and capital expenditure and financial investment and acquisitions wouldbe reported within investing activities.

The categories of cash flow under USGAAP can be summarized as follows:

*   *

*2004*

* 2003*

* 2002*

* *

*£'000*

* £'000*

* £'000*
  
Cash outflow from operating      activities 

 (2,006
)
 (4,171
)
 (10,129
)
Cash (outflow)/inflow from      investing activities 

 (42
)
 1,004

 (86
)
Cash inflow from financing      activities 

 2,381

 690

 226

 

Increase/(decrease) in cash and      cash equivalents 

 333

 (2,477
)
 (9,989
)
Cash and cash equivalents at      beginning of year 

 878

 3,355

 13,344

 

Cash and cash equivalents at end      of year 

 1,211

 878

 3,355

 

F-39
**SOPHEON plcNOTES TO THE FINANCIAL STATEMENTS (Continued)

19. DIFFERENCES BETWEEN UNITED KINGDOMAND UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (Continued)
*k)    Impact of newaccounting standards***
New accounting standards that areexpected to have a material effect on Sopheon's financial statements as preparedunder UK GAAP, and also to the reconciliation to US GAAP, are summarized below.
*UK GAAP*
FRS20 Share-based Payment: Thisstandard will apply to Sopheon's financial statements for 2006 and will requireSopheon to recognize as an expense in its financial statements the fair value ofshare-based payments, with a corresponding credit to equity. This is expected toresult in a significant additional charge to the profit and loss account, butwill have no effect on reported net assets. In the case of options granted toemployees, which is expected to be by far the largest category of such payments,the fair value is to be calculated using the most appropriate of a number ofindustry standard valuation techniques. Examples include the Black-Scholes andthe Binomial option pricing models. Broadly, the fair value computed is expensedover the period in which the underlying option vests. The impact of adoption ofFRS20 has not been predicted at this time in part because it will depend onlevels of options granted in the future.

The other new UK standards listed beloware expected to result in additional or modified disclosure, but are notexpected to have a material quantitative effect on financial statements.

FRS22 Earnings Per Share: This standardwill apply to Sopheon's financial statements for 2005 and relates to the methodof disclosure of earnings per share, including disclosure of earnings per sharefor total and for continuing operations, and including the dilutive effect ofpotential ordinary shares.

FRS23 The Effects of Changes in ForeignExchange Rates: This standard will apply to Sopheon's financial statements for2005 and provides that entities should measure their financial statements in thefunctional currency (i.e. the currency of the primary economic environment inwhich the entity operates) and may then translate the financial statements intothe currency in which the entity's financial statements are to be presented.

FRS25 Financial Instruments Disclosureand Presentation and FRS 26 Financial Instruments Measurement: These standardswill apply to Sopheon's financial statements for 2005 and contain requirementsas to qualitative and quantitative disclosures and presentation in respect offinancial instruments issued by it.
*US GAAP*
FASB Statement 123 (Revised): Thisstandard will apply to Sopheon's US GAAP reconciliation for 2005 and willrequire Sopheon to recognize as an expense in its financial statements the fairvalue of share-based payments. As permitted by Statement 123, the Companycurrently accounts for share-based payments to employees using Opinion 25'sintrinsic value method and, as such, generally recognizes no compensation costfor employee stock options. Accordingly, similar to under UK GAAP with FRS20 asdescribed above, the adoption of Statement 123(R)'s fair market value methodwill have a significant impact on result of operations, although it will have noimpact on the net asset position.

 

F-40************************************************************** |