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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



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FORM 10-Q



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QUARTERLY REPORT PURSUANT TO SECTION
13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934



FOR THE QUARTER ENDED SEPTEMBER 30, 2003



COMMISSION FILE NUMBER: 000-26273



PRIMUS KNOWLEDGE SOLUTIONS, INC.

(Exact name of Registrant as specified in its charter)



|WASHINGTON                                                     |  | 91-1350484                          
|-------------------------------------------------------------- |  | ------------------------------------
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



1601 Fifth Avenue,
Suite 1900

Seattle, Washington 98101

(Address of principal executive offices)



(206) 834-8100

(Registrants telephone number, including area code)



Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days:    Yes  x    No ̈



Indicate by check mark whether the registrant is
an accelerated filer (as defined in Rule 12b-2 of the Act).    Yes ̈No  x



As of November 6, 2003 there were 21,456,722 shares of the Registrants Common Stock outstanding.



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Primus Knowledge Solutions, Inc.

Form 10-Q

September 30, 2003



INDEX



|                           |  |                                                                                                                                                  |  | PAGE
|-------------------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------ |  | ----
|PART I.                    |  | FINANCIAL INFORMATION                                                                                                                            |  |     
|                           |  |                                                                                                                                                 
|ITEM 1.                    |  | Condensed Consolidated Financial Statements (Unaudited)                                                                                          |  |     
|                           |  |                                                                                                                                                 
|                           |  | Condensed Consolidated Balance Sheets as of September 30, 2003 and December 31, 2002                                                             |  | 3   
|                           |  |                                                                                                                                                 
|                           |  | Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2003 and 2002                                  |  | 4   
|                           |  |                                                                                                                                                 
|                           |  | Condensed Consolidated Statements of Shareholders Equity and Comprehensive Income (Loss) for the three and nine months ended September 30, 2003 |  | 5   
|                           |  |                                                                                                                                                 
|                           |  | Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2003 and 2002                                            |  | 6   
|                           |  |                                                                                                                                                 
|                           |  | Notes to Condensed Consolidated Financial Statements                                                                                             |  | 7   
|                           |  |                                                                                                                                                 
|ITEM 2.                    |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                                                            |  | 18  
|                           |  |                                                                                                                                                 
|ITEM 3.                    |  | Quantitative and Qualitative Disclosures About Market Risk                                                                                       |  | 42  
|                           |  |                                                                                                                                                 
|ITEM 4.                    |  | Controls and Procedures                                                                                                                          |  | 43  
|                           | 
|PART II. OTHER INFORMATION |  |                                                                                                                                                 
|                           |  |                                                                                                                                                 
|ITEM 1.                    |  | Legal Proceedings                                                                                                                                |  | 43  
|                           |  |                                                                                                                                                 
|ITEM 2.                    |  | Change in Securities                                                                                                                             |  | 44  
|                           |  |                                                                                                                                                 
|ITEM 5.                    |  | Other Information                                                                                                                                |  | 44  
|                           |  |                                                                                                                                                 
|ITEM 6.                    |  | Exhibits and Reports on Form 8-K                                                                                                                 |  | 45  



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PART I. FINANCIAL INFORMATION



ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS



CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

(Unaudited)



|                                                                                                                                                                               |  | September 30, 2003 |          |   | December 31, 2002 |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ------------------ | -------- | - | ----------------- | -
|ASSETS                                                                                                                                                                         |  |                    |          |   |                   |  
|Current assets:                                                                                                                                                                |  |                    |          |   |                   |  
|Cash, cash equivalents and short-term investments                                                                                                                              |  | $                  | 11,441   |   |                   | $
|Accounts receivable, net of allowance for doubtful accounts of $219 and $412 at September 30, 2003 and December 31, 2002,
respectively                                         |  |                    | 3,114    |   |                   |  
|Prepaid expenses and other current assets                                                                                                                                      |  |                    | 1,133    |   |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Total current assets                                                                                                                                                           |  |                    | 15,688   |   |                   |  
|Property and equipment, net of accumulated depreciation of $7,366 and $6,127 at September 30, 2003 and December 31, 2002,
respectively                                         |  |                    | 1,261    |   |                   |  
|Goodwill                                                                                                                                                                       |  |                    | 3,346    |   |                   |  
|Other intangible assets, net of accumulated amortization of $13 and $0 at September 30, 2003 and December 31, 2002,
respectively                                               |  |                    | 563      |   |                   |  
|Note receivable from related party                                                                                                                                             |  |                    | 750      |   |                   |  
|Other assets                                                                                                                                                                   |  |                    | 189      |   |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Total assets                                                                                                                                                                   |  | $                  | 21,797   |   |                   | $
|                                                                                                                                                                               |  |                    |          |   |                   |  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                                           |  |                    |          |   |                   |  
|                                                                                                                                                                               |  |                   
|Current liabilities:                                                                                                                                                           |  |                    |          |   |                   |  
|Accounts payable                                                                                                                                                               |  | $                  | 1,829    |   |                   | $
|Accrued and other liabilities                                                                                                                                                  |  |                    | 2,479    |   |                   |  
|Compensation-related accruals                                                                                                                                                  |  |                    | 1,498    |   |                   |  
|Deferred revenue, including related party amounts of $71 and $248 at September 30, 2003 and December 31, 2002,
respectively                                                    |  |                    | 5,976    |   |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Total current liabilities                                                                                                                                                      |  |                    | 11,782   |   |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Commitments and subsequent events                                                                                                                                              |  |                    |          |   |                   |  
|                                                                                                                                                                               |  |                   
|Shareholders equity:                                                                                                                                                          |  |                    |          |   |                   |  
|Common stock, $.025 par value, 50,000,000 shares authorized; issued and outstanding 21,249,818 and 19,053,821 shares at September
30, 2003 and December 31, 2002, respectively |  |                    | 531      |   |                   |  
|Additional paid-in-capital                                                                                                                                                     |  |                    | 112,698  |   |                   |  
|Accumulated other comprehensive loss                                                                                                                                           |  |                    | 121      |   |                   |  
|Accumulated deficit                                                                                                                                                            |  |                    | (103,335 | ) |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Total shareholders equity                                                                                                                                                     |  |                    | 10,015   |   |                   |  
|                                                                                                                                                                               |  |                    |          |   |                   |  
|Total liabilities and shareholders equity                                                                                                                                     |  | $                  | 21,797   |   |                   | $
|                                                                                                                                                                               |  |                    |          |   |                   |  



The accompanying notes are an integral
part of these condensed consolidated financial statements.



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CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

(Unaudited)



|                                                                                          |  | Three Months Ended September 30, |        |   | Nine Months Ended September 30, |  
|----------------------------------------------------------------------------------------- |  | -------------------------------- | ------ | - | ------------------------------- | -
|                                                                                          |  | 2003                             |        |   | 2002                            |  
|Revenue:                                                                                  |  |                                  |        |   |                                 |  
|License:                                                                                  |  |                                  |        |   |                                 |  
|Third party                                                                               |  | $                                | 3,090  |   |                                 | $
|Related partyPrimus KK                                                                   |  |                                  | 125    |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|                                                                                          |  |                                  | 3,215  |   |                                 |  
|Service:                                                                                  |  |                                  |        |   |                                 |  
|Third party                                                                               |  |                                  | 3,775  |   |                                 |  
|Related partyPrimus KK                                                                   |  |                                  | 69     |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|                                                                                          |  |                                  | 3,844  |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Total revenue                                                                             |  |                                  | 7,059  |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Cost of revenue:                                                                          |  |                                  |        |   |                                 |  
|License                                                                                   |  |                                  | 143    |   |                                 |  
|Service                                                                                   |  |                                  | 1,161  |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Total cost of revenue                                                                     |  |                                  | 1,304  |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Gross profit                                                                              |  |                                  | 5,755  |   |                                 |  
|Operating expenses:                                                                       |  |                                  |        |   |                                 |  
|Sales and marketing                                                                       |  |                                  | 2,650  |   |                                 |  
|Research and development                                                                  |  |                                  | 1,934  |   |                                 |  
|General and administrative                                                                |  |                                  | 896    |   |                                 |  
|Restructuring charges                                                                     |  |                                  |       |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Total operating expenses                                                                  |  |                                  | 5,480  |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Income (loss) from operations                                                             |  |                                  | 275    |   |                                 |  
|Other income (expense), net                                                               |  |                                  | 131    |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Income (loss) before income taxes and cumulative effect of change in accounting principle |  |                                  | 406    |   |                                 |  
|Income tax expense                                                                        |  |                                  | (27    | ) |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Income (loss) before cumulative effect of change in accounting principle                  |  |                                  | 379    |   |                                 |  
|Cumulative effect of change in accounting principle                                       |  |                                  |       |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Net income (loss)                                                                         |  | $                                | 379    |   |                                 | $
|                                                                                          |  |                                  |        |   |                                 |  
|Basic and diluted net income (loss) per common share:                                     |  |                                  |        |   |                                 |  
|Income (loss) before cumulative effect of change in accounting principle                  |  | $                                | 0.02   |   |                                 | $
|Cumulative effect of change in accounting principle                                       |  |                                  |       |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|                                                                                          |  | $                                | 0.02   |   |                                 | $
|                                                                                          |  |                                  |        |   |                                 |  
|Weighted average shares used in computing basic net income (loss) per common share        |  |                                  | 19,717 |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  
|Weighted average shares used in computing diluted net income (loss) per common share      |  |                                  | 20,881 |   |                                 |  
|                                                                                          |  |                                  |        |   |                                 |  



The accompanying notes are an integral
part of these condensed consolidated financial statements.



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CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY AND

COMPREHENSIVE INCOME (LOSS)

(In thousands, except share data)

(Unaudited)



|                                                 |  | Common stock |  | Additionalpaid-in capital |     | Accumulated other comprehensive income (loss) |   |         | Accumulated deficit |   |     | Total shareholders equity | 
|------------------------------------------------ |  | ------------ |  | ------------------------- | --- | --------------------------------------------- | - | ------- | ------------------- | - | --- | -------------------------- | 
|                                                 |  | Shares       |  | Par value                 |     |                                               |   |        
|Balance at December 31, 2002                     |  | 19,053,821   |  | $                         | 476 |                                               | $ | 110,187 |                     | $ | 75  |                            | 
|Comprehensive loss:                              |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Foreign currency translation loss                |  |             |  |                           |    |                                               |   |        |                     |   | (17 | )                          | 
|Unrealized loss on securities available-for-sale |  |             |  |                           |    |                                               |   |        |                     |   | (5  | )                          | 
|Net loss                                         |  |             |  |                           |    |                                               |   |        |                     |   |    |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Total comprehensive loss                         |  |             |  |                           |    |                                               |   |        |                     |   | (22 | )                          | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Balance at March 31, 2003                        |  | 19,053,821   |  |                           | 476 |                                               |   | 110,187 |                     |   | 53  |                            | 
|Exercise of stock options                        |  | 1,416        |  |                           | 0   |                                               |   | 1       |                     |   |    |                            | 
|Stock issued from employee stock purchase plan   |  | 54,346       |  |                           | 1   |                                               |   | 20      |                     |   |    |                            | 
|Comprehensive loss:                              |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Foreign currency translation gain                |  |             |  |                           |    |                                               |   |        |                     |   | 58  |                            | 
|Unrealized gain on securities available-for-sale |  |             |  |                           |    |                                               |   |        |                     |   | 1   |                            | 
|Net loss                                         |  |             |  |                           |    |                                               |   |        |                     |   |    |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Total comprehensive loss                         |  |             |  |                           |    |                                               |   |        |                     |   | 59  |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Balance at June 30, 2003                         |  | 19,109,583   |  |                           | 477 |                                               |   | 110,208 |                     |   | 112 |                            | 
|Exercise of stock options                        |  | 9,226        |  |                           | 0   |                                               |   | 7       |                     |   |    |                            | 
|Stock issued for purchase of Broad Daylight      |  | 2,131,009    |  |                           | 54  |                                               |   | 2,483   |                     |   |    |                            | 
|Comprehensive income:                            |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Foreign currency translation gain                |  |             |  |                           |    |                                               |   |        |                     |   | 9   |                            | 
|Net income                                       |  |             |  |                           |    |                                               |   |        |                     |   |    |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Total comprehensive income                       |  |             |  |                           |    |                                               |   |        |                     |   | 9   |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 
|Balance at September 30, 2003                    |  | 21,249,818   |  | $                         | 531 |                                               | $ | 112,698 |                     | $ | 121 |                            | 
|                                                 |  |              |  |                           |     |                                               |   |         |                     |   |     |                            | 



The accompanying notes are an integral
part of these condensed consolidated financial statements.



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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)



|                                                                                                                 |  | Nine Months Ended September 30, |       
|---------------------------------------------------------------------------------------------------------------- |  | ------------------------------- | ------
|                                                                                                                 |  | 2003                            |       
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                                            |  |                                 |       
|Net loss                                                                                                         |  | $                               | (3,455
|Adjustments to reconcile net loss to net cash used in operating activities:                                      |  |                                 |       
|Loss on disposal of assets                                                                                       |  |                                 |      
|Cumulative effect of change in accounting principle                                                              |  |                                 |      
|Depreciation and amortization                                                                                    |  |                                 | 1,309 
|Changes in assets and liabilities, net of acquisition:                                                           |  |                                 |       
|Accounts receivable                                                                                              |  |                                 | 1,145 
|Prepaid expenses and other current assets                                                                        |  |                                 | (37   
|Other assets                                                                                                     |  |                                 | 64    
|Accounts payable and accrued liabilities                                                                         |  |                                 | 252   
|Compensation-related accruals                                                                                    |  |                                 | 190   
|Deferred revenue                                                                                                 |  |                                 | (756  
|                                                                                                                 |  |                                 |       
|Net cash used in operating activities                                                                            |  |                                 | (1,288
|                                                                                                                 |  |                                 |       
|CASH FLOWS FROM INVESTING ACTIVITIES:                                                                            |  |                                 |       
|Purchases of short-term investments                                                                              |  |                                 | (394  
|Proceeds from maturities of short-term investments                                                               |  |                                 | 1,395 
|Purchases of property and equipment                                                                              |  |                                 | (174  
|Purchase of Broad Daylight, Inc., net of cash acquired                                                           |  |                                 | (54   
|                                                                                                                 |  |                                 |       
|Net cash provided by investing activities                                                                        |  |                                 | 773   
|                                                                                                                 |  |                                 |       
|CASH FLOWS FROM FINANCING ACTIVITIES:                                                                            |  |                                 |       
|                                                                                                                 |  |                                
|Proceeds from the exercise of stock options and purchases of common stock under the employee stock purchase plan |  |                                 | 29    
|                                                                                                                 |  |                                 |       
|Net cash provided by financing activities                                                                        |  |                                 | 29    
|                                                                                                                 |  |                                 |       
|Effect of exchange rate changes on cash                                                                          |  |                                 | (21   
|                                                                                                                 |  |                                
|Net decrease in cash and cash equivalents                                                                        |  |                                 | (507  
|                                                                                                                 |  |                                
|Cash and cash equivalents at beginning of period                                                                 |  |                                 | 11,948
|                                                                                                                 |  |                                 |       
|Cash and cash equivalents at end of period                                                                       |  | $                               | 11,441
|                                                                                                                 |  |                                 |       
|Non-cash investing and financing activities:                                                                     |  |                                 |       
|                                                                                                                 |  |                                
|Shares issued for the acquisition of Broad Daylight, Inc.                                                        |  | $                               | 2,537 
|Assets and liabilities assumed in acquisition:                                                                   |  |                                 |       
|Current assets                                                                                                   |  |                                 | 315   
|Property and equipment                                                                                           |  |                                 | 113   
|Goodwill                                                                                                         |  |                                 | 3,346 
|Other intangible assets                                                                                          |  |                                 | 576   
|Other assets                                                                                                     |  |                                 | 14    
|Accounts payable, accrued liabilities and deferred revenue                                                       |  |                                 | 1,380 
|Compensation-related accruals                                                                                    |  |                                 | 393   
|Cancellation of escrowed shares issued for acquisition of AnswerLogic, Inc.                                      |  |                                 |      



The accompanying notes are an integral
part of these condensed consolidated financial statements.



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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2003

(Unaudited)



Note 1. Description of the Business and Basis of Presentation



Description of the Business and Basis of Presentation



We provide application software that enables companies to improve customer service by accessing, analyzing and improving information. Primus® software
provides an application that captures and shares knowledge, increasing the efficiency and effectiveness of customer service. Our software, available licensed or hosted, is easily implemented, and can be deployed as a suite, as individual products or
as an integrated solution with other leading eService applications, depending on the customers preference and/or the immediacy of their need. Our solutions can be used in combination with leading eService and IT Helpdesk applications,
including those from Amdocs/Clarify, Kana, Onyx, Oracle, PeopleSoft, Remedy, Siebel, Talisma and others. Our products are also used in Portal environments in combination with products from BEA and IBM. In addition to software applications, we offer
professional services to assist customers with software implementation, integration, hosting, training and support.



In September 2003, we acquired Broad Daylight, Inc. (Broad Daylight) an e-service software developer specializing in solutions for customer
and employee self-service. The acquisition, which includes a talented and experienced workforce, will further strengthen our position as a market leader in providing software solutions for assisted service and Web-based self-service. Our combined
offerings will leverage natural language search and rules-based problem-solving technologies, and will provide a complete range of options for companies looking for assisted service and self-service solutions. We have included Broad Daylights
operating results in our consolidated operating results beginning on September 4, 2003 (see Note 3).



To compete in todays business environment, companies must maximize their relationships with their existing customers. The need to develop and sell
more deeply into their existing customer base has led many companies to implement eService initiatives and software. eService software is designed to enable companies to interact with their customers using both traditional and eBusiness
communication channelsincluding the phone, web, email, chat and voice over IP (VOIP)and to manage customer information in a way that helps companies maximize the value of each customer interaction. Facilitating more efficient
communications with customers can help to improve the level and quality of customer service that companies deliver and, in turn, increase customer satisfaction and retention and cross-sell and up-sell opportunities.



The Primus software suite consists of Primus® Answer Engine, Primus®
eServer, Primus® eSupport, Primus® iView and Primus® Quick Resolve. Product license revenue and related services from Primus eServer and Primus eSupport related products accounted for 90% or more of total revenue for the three and nine
month periods ended September 30, 2003 and 2002. License fees for our software vary with each application, but our products are typically licensed on a per-processor basis, per-user basis or based on the number of users authorized to access our
software at any given time. Our typical license agreement provides the licensee a perpetual, nontransferable license to use its software. We deploy our solutions either in-house at the customers facility as licensed software or in a hosted
environment operated and maintained by us. Customers using our hosted offering can take advantage of our hosting expertise, thereby reducing the demands on their own information technology resources while receiving the full benefit of secure and
reliable access to our applications.



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We target mid- to large-sized organizations, and our products are used by call centers, IT helpdesks,
field service organizations, human resources organizations, marketing organizations and eService businesses. In addition to our traditional markets of technology and telecommunications, we touch vertical markets that include aerospace, financial
services, manufacturing, outsourced services, eCommerce and retail. We develop our products and market and sell our software and services primarily through a direct sales force and a minority owned Japanese entity. We have offices throughout the
United States, and in the United Kingdom and France. Our principal executive offices are located at 1601 Fifth Avenue, Suite 1900, Seattle, WA 98101.



We market our software and services on a worldwide basis primarily through our direct sales organization in the United States and Europe and our
international revenue constituted 20% and 24% of our total revenue for the quarters ended September 30, 2003 and 2002, respectively. Primus KK, a Japanese joint venture in which we hold a minority interest, has exclusive distribution rights to
distribute our Primus eServer and Primus eSupport products in Japan. We have not guaranteed any obligations of the joint venture nor, do we have any commitment or intent to provide any funding.



We are subject to certain business risks that could affect future operations
and financial performance. These risks include, but are not limited to, changing computing environments, rapid technological change, development of new products, limited protection of proprietary technology, claims of intellectual property
infringement and competitive products and pricing.



The
condensed consolidated financial statements include the accounts of Primus and its wholly owned subsidiaries, including its foreign subsidiaries, Primus Knowledge Solutions (UK) Limited and Primus Knowledge Solutions France. All significant
intercompany balances and transactions have been eliminated.



We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating
off-balance sheet arrangements or other contractually narrow or limited purposes. Further, we have not guaranteed any obligations of unconsolidated entities nor do we have any commitment or intent to provide any funding to any such entity. As such
we are not exposed to any market, credit, liquidity or financing risk that could arise if we had engaged in such relationships.



We incorporated in Washington State in 1986 and our common shares were originally listed on the NASDAQ National Market® on June 30, 1999, and were
transferred to the NASDAQ SmallCap Market on or about November 1, 2002, and publicly trade under the symbol PKSI.



Available Information



We file annual, quarterly and special reports, proxy statements and other information with the Securities and Exchange Commission (SEC) under the
Securities Exchange Act of 1934 as amended (Exchange Act). You can inspect and copy our reports, proxy statements and other information filed with the SEC at the offices of the SECs Public Reference Rooms in Washington, D.C., New York, New
York and Chicago, Illinois. Please call the SEC at 1-800-SEC-0330 for further information on the Public Reference Rooms. The SEC maintains an Internet Website at <http://www.sec.gov/> where you can obtain most of our SEC filings. In addition,
you can inspect our reports, proxy materials and other information at the offices of the NASDAQ Stock Market at 1735 K Street NW, Washington D.C. 20006. We also make available free of charge on our website at www.primus.com our annual report on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after they are filed electronically with
the SEC. You can also obtain copies of these reports by contacting Investor Relations at investor.relations@primus.com or by phone at 206-834-8100.



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Unaudited Interim Financial Information



The accompanying unaudited condensed consolidated financial statements have
been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information
and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed, or omitted, pursuant to the rules and regulations of the
Securities and Exchange Commission (SEC). In our opinion, the unaudited condensed consolidated financial statements include all adjustments necessary (which are of a normal and recurring nature) for the fair presentation of the results of the
interim periods presented. These unaudited condensed consolidated financial statements should be read in conjunction with our audited consolidated financial statements for the year ended December 31, 2002 included in our Form 10-K filed with the SEC
in March 2003. The results of operations for any interim period are not necessarily indicative of the results of operations for any other interim period or for a full fiscal year.



Reclassifications



Certain balances have been reclassified to conform to the current period presentation.



Cash, Cash Equivalents and Short-Term Investments



Cash, cash equivalents and short-term investments are comprised of the following (in thousands):



|                                                        |  | September 30, 2003 |        | December 31, 2002
|------------------------------------------------------- |  | ------------------ | ------ | -----------------
|Cash and cash equivalents                               |  | $                  | 11,441 |                  
|Short-term investments                                  |  |                    |       |                  
|                                                        |  |                    |        |                  
|Total cash, cash equivalents and short-term investments |  | $                  | 11,441 |                  
|                                                        |  |                    |        |                  



Stock-Based
Compensation



We apply the intrinsic value based method of
accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations including Financial Accounting Standards Board (FASB) Interpretation No. 44,
Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB Opinion No. 25, issued in March 2000, to account for its fixed plan stock options. Under this method, compensation expense is recorded on the date
of grant only if the current market price of the underlying stock exceeded the exercise price. Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, established accounting and disclosure
requirements using a fair value based method of accounting for stock based employee compensation plans. As allowed by SFAS No. 123, we have elected to continue to apply the intrinsic value based method of accounting described above, and have adopted
only the disclosure requirements of SFAS No. 123. The following table illustrates the effect on net income (loss) if the fair value based method had been applied to all outstanding and unvested awards in each period (in thousands, except per share
data).



|                                                                                                             |  | Three Months Ended September 30, |        |   | Nine Months Ended September 30, |  
|------------------------------------------------------------------------------------------------------------ |  | -------------------------------- | ------ | - | ------------------------------- | -
|                                                                                                             |  | 2003                             |        |   | 2002                            |  
|Net income (loss), as reported                                                                               |  | $                                | 379    |   |                                 | $
|Add total stock-based employee compensation expense determined under fair value-based method for all rewards |  |                                  | (2,634 | ) |                                 |  
|                                                                                                             |  |                                  |        |   |                                 |  
|Pro forma net loss                                                                                           |  | $                                | (2,255 | ) |                                 | $
|                                                                                                             |  |                                  |        |   |                                 |  
|Net income (loss) per share:                                                                                 |  |                                  |        |   |                                 |  
|As reported - basic and diluted                                                                              |  | $                                | 0.02   |   |                                 | $
|SFAS No. 123 pro forma - basic and diluted                                                                   |  | $                                | (0.11  | ) |                                 | $



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Investment in Primus Knowledge Solutions, K.K.



In December 1995, Primus invested $50,000 for a 50% interest in Primus
Knowledge Solutions, K.K. (Primus KK), a Japanese distributor, with Trans Cosmos, Inc., a Japanese company (TCI), a significant shareholder of Primus. We accounted for our investment using the equity method and wrote down our investment to zero in
March 1997 as a result of recognizing our portion of the investees losses to date. In September 1997, we renegotiated our agreement with TCI, reducing our ownership to 14.3%. In August 2000, the arrangement was further amended and our
ownership percentage in Primus KK was increased to 19.6%. Primus KK is accounted for using the cost method, as we do not have significant influence over the operations of Primus KK, have not guaranteed any of its obligations and do not have any
commitment or intent to provide any funding. The carrying value of our investment in Primus KK was zero at September 30, 2003 and December 31, 2002.



Recently Issued Accounting Pronouncements



In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00-21 (EITF 00-21), Revenue Arrangements With Multiple
Deliverables. EITF 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which the vendor will perform multiple revenue generating activities. EITF 00-21 became effective in our third quarter beginning July 1,
2003. The adoption of EITF 00-21 did not have a material effect on our financial statements.



In January 2003, the FASB issued Interpretation No. 46, Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin (ARB) No. 51 (FIN 46). FIN 46 addresses the
consolidation by business enterprises of variable interest entities as defined in FIN 46. FIN 46 applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interests in variable interest
entities obtained after January 31, 2003. As amended by FASB Staff Position No. FIN 46, FIN 46-6 is effective for variable interests in a variable interest entity created before February 1, 2003 at the end of the first interim or annual period
ending after December 15, 2003. We do not expect the adoption of FIN 46 to have a material impact on our financial position or results of operations.



In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. SFAS No. 150
establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. This statement is effective for financial instruments entered into or modified after May 31, 2003, and
otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. SFAS No. 150 is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before
the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS No. 150 in our third quarter beginning July 1, 2003 did not have a significant impact on our financial position or results
of operations.



In July 2003, the EITF reached a consensus on
Issue 03-5, Applicability of AICPA Statement of Position 97-2 Software Revenue Recognition (SOP 97-2) to Non-Software Deliverables (EITF 03-5). The consensus was reached that non-software deliverables are included within the
scope of SOP 97-2 if they are included in an arrangement that contains software that is essential to the non-software deliverables functionality. This consensus is effective at the beginning of the first interim period beginning after August
13, 2003. We do not expect the adoption of EITF 03-5 to have a material impact on our financial position or results of operations.



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Note 2. Cumulative Effect of Change in Accounting Principle



In July 2001, the FASB issued SFAS No. 142, Goodwill and Other
Intangible Assets, which required that goodwill no longer be amortized to earnings, but instead be tested at least annually for impairment. The amortization of goodwill ceased upon the required adoption date of the Statement, which for us was
January 1, 2002. At the date of adoption, we had unamortized goodwill of $2,281,000, and the implied fair value of the goodwill as of the date of adoption was zero. The implied fair value of goodwill was calculated based upon a comparison of the
book value of the Company to its fair value. Fair value was determined based upon the market capitalization of the Company as of January 1, 2002. Accordingly, we recognized a $2,281,000 transitional impairment loss as the cumulative effect of a
change in accounting principle as a result of the adoption of SFAS No. 142.



Note 3. Acquisition, Other Intangible Assets and Goodwill



Acquisition of Broad Daylight, Inc.



On August 12, 2003, we signed a definitive merger agreement and announced our intent to acquire 100% of the voting interest in Broad Daylight, Inc. (Broad Daylight) an e-service software developer
specializing in solutions for customer and employee self-service. The merger of Broad Daylight with a subsidiary of Primus closed on September 3, 2003. The acquisition will further strengthen our position as a market leader in providing software
solutions for assisted service and Web-based self-service. The combined offerings will leverage natural language search and rules-based problem-solving technologies, and will provide a complete range of options for companies looking for assisted
service and self-service solutions. Under the terms of the agreement, we purchased all of the outstanding shares of Broad Daylight for 2,131,009 shares of Primus common stock valued at approximately $2.5 million, plus cash of approximately $140,000
and direct acquisition costs of approximately $200,000. The fair value of the common stock issued on the acquisition was $1.19 per share, based on the average market price for a period before and after August 12, 2003.



The purchase price of approximately $2.9 million was allocated to the assets
acquired and liabilities assumed based on their fair values at the acquisition date. The excess of the purchase price over the fair value of the net identifiable assets acquired of approximately $3.3 million has been recorded as goodwill.



The following unaudited pro forma financial information
presents the results of operations of Primus and Broad Daylight as if the acquisition had occurred on January 1, 2003 and 2002 after giving effect to certain adjustments, primarily amortization of identifiable intangibles. The pro forma information
does not purport to be indicative of what would have occurred had the acquisition been made as of those dates or of results that may occur in the future. The unaudited pro forma financial information is as follows (in thousands, except per share
data):



|                                                                                    |  | Three Months Ended September 30, |        |   | Nine Months Ended September 30, |  
|----------------------------------------------------------------------------------- |  | -------------------------------- | ------ | - | ------------------------------- | -
|                                                                                    |  | 2003                             |        |   | 2002                            |  
|Total revenues                                                                      |  | $                                | 7,227  |   |                                 | $
|Loss before cumulative effect of change in accounting principle                     |  | $                                | (739   | ) |                                 | $
|Net loss                                                                            |  | $                                | (739   | ) |                                 | $
|Pro forma loss per share:                                                           |  |                                  |        |   |                                 |  
|Loss before cumulative effect of change in accounting principle  basic and diluted |  | $                                | (0.03  | ) |                                 | $
|Net loss - basic and diluted                                                        |  | $                                | (0.03  | ) |                                 | $
|Weighted average shares outstanding                                                 |  |                                  | 21,245 |   |                                 |  



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Other Intangible Assets



Other intangible assets consist of the following (in thousands):



|                        |  | June 30, 2003
|----------------------- |  | -------------
|Acquired technology     |  | $            
|Customer relationships  |  |              
|Trade names             |  |              
|                        |  |              
|Other intangible assets |  | $            
|                        |  |              



Other intangible
assets are currently amortized over a period of 16 months to three years using the straight-line method. Amortization expense for both the three and nine months ended September 30, 2003 was approximately 13,000. Based on identified intangible assets
recorded as of September 30, 2003, and assuming no subsequent impairment of the underlying assets, the annual amortization expense is expected to be as follows (in thousands):



|2003  |  | $ | 53 
|----- |  | - | ---
|2004  |  |   | 160
|2005  |  |   | 118
|2006  |  |   | 95 
|2007  |  |   | 90 
|2008  |  |   | 60 
|      |  |   |    
|Total |  | $ | 576
|      |  |   |    



Goodwill



Goodwill increased by $3,346,000 during both the three
and nine months ended September 30, 2003 due to the acquisition of Broad Daylight. There were no other changes in goodwill during 2003. As required by SFAS No. 142, we do not amortize our goodwill balance, but instead test our goodwill for
impairment in accordance with the provisions of SFAS No. 142 at least annual and more frequently upon the occurrence of certain events.



Note 4. Earnings Per Common Share



In accordance with SFAS No. 128, Earnings Per Share, we have reported both basic and diluted net income (loss) per common share for each
period presented. Basic net income (loss) per common share is computed on the basis of the weighted-average number of common shares outstanding for the period. Diluted net income (loss) per common share is computed on the basis of the
weighted-average number of common shares plus dilutive potential common shares outstanding. Dilutive potential common shares are calculated under the treasury stock method. Securities that could potentially dilute basic income per share consist of
outstanding stock options and warrants. The following sets forth the computation of basic and diluted shares outstanding (in thousands):



|                                                    |  | Three Months Ended September 30, |  | Nine Months Ended September 30,
|--------------------------------------------------- |  | -------------------------------- |  | -------------------------------
|                                                    |  | 2003                             |  | 2002                           
|Denominator                                         |  |                                  |  |                                
|Weighted average shares  basic                     |  | 19,717                           |  | 19,037                         
|Dilutive effect of common shares from stock options |  | 1,164                            |  |                               
|                                                    |  |                                  |  |                                
|                                                    |  | 20,881                           |  | 19,037                         
|                                                    |  |                                  |  |                                



For the three months
ended September 30, 2003, approximately 4,036,789 shares attributable to stock options and warrants were excluded from the calculation of diluted earnings per share because the effect was antidilutive.



For the periods presented in which we had a net loss applicable to common
shareholders, basic and diluted net loss per common share are the same. Dilutive potential securities outstanding were not included in the computation of diluted net loss per common share, because to do so would have been anti-dilutive. Total
dilutive potential securities as of September 30, 2003 and 2002 included options and warrants to purchase approximately 7,251,571 and 7,330,136, common shares, respectively.



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Note 5. Other Comprehensive Income (Loss)



SFAS No. 130, Reporting Comprehensive Income establishes standards for the reporting and presentation of
comprehensive income (loss) and its components in a full set of financial statements. Comprehensive income (loss) consists of net income (loss), foreign currency translation adjustments and net unrealized gains and losses from securities
available-for-sale and is presented in the accompanying statements of stockholders equity and comprehensive income (loss). SFAS No. 130 requires only additional disclosures in the financial statements; it does not affect our financial position
or operations. The following table reconciles net income (loss) as reported to total comprehensive income (loss) for the three and nine months ended September 30, 2003 and 2002 (in thousands):



|                                                        |  | Three Months Ended September 30, |     |      | Nine Months Ended September 30, |       
|------------------------------------------------------- |  | -------------------------------- | --- | ---- | ------------------------------- | ------
|                                                        |  | 2003                             |     | 2002 |                                 |       
|Net income (loss)                                       |  | $                                | 379 |      | $                               | (1,576
|Other comprehensive income (loss):                      |  |                                  |     |      |                                 |       
|Foreign currency translation gain                       |  |                                  | 9   |      |                                 | 29    
|Unrealized gain (loss) on securities available-for-sale |  |                                  | 0   |      |                                 | 29    
|                                                        |  |                                  |     |      |                                 |       
|Total comprehensive income (loss)                       |  | $                                | 388 |      | $                               | (1,518
|                                                        |  |                                  |     |      |                                 |       



Note 6. Related Party Transactions



In 1997, Primus Knowledge Solutions, K.K. (Primus KK), a
distributor whose majority shareholder is also a significant shareholder of ours, became a reseller of certain of our products and a provider of support services in Japan. In July 2002 and again in January 2003, we amended our distribution agreement
with Primus KK, and they have assumed a more significant role in product localization and support for the Japanese market. The amended distribution agreement provides for sublicense fees based on a percentage of net fees collected by Primus KK from
its customers (subject to certain minimums). In September of 2003, we amended our agreement with Primus KK to provide for guaranteed minimum royalty payments for each of the next three calendar quarters of $125,000, commencing with the third quarter
of 2003. The fourth quarter of 2003 and first quarter of 2004 quarterly minimum payments from Primus KK will become due provided certain professional services milestones are met. The guaranteed minimum payments from Primus KK could result in an
adjustment to the sublicense fee due each quarter, but such payments do not constitute an advance inventory purchase nor can such payments be credited or carried over from one year to another. Guaranteed minimum royalty payments, to the extent they
exceed sublicense fees due, are recognized in the period earned. Our agreement with Primus KK does not contain product return rights. We recognized revenue from sublicense fees and guaranteed minimum payments of approximately $125,000 and $400,000
for the three months ended September 30, 2003 and 2002, respectively, and $425,000 and $621,000 for the nine months ended September 30, 2003 and 2002, respectively. Revenue deferred at September 30, 2003 and December 31, 2002 was approximately
$71,000 and $248,000, respectively, and accounts receivable at September 30, 2003 and December 31, 2002 were approximately $0 and $471,000, respectively.



Note 7. Note Receivable From Related Party



In April 2001, the Companys Board of Directors approved an unsecured loan to Michael A. Brochu, the Companys President and Chief Executive
Officer, for $750,000 bearing interest at 4.9%. The maturity date of the loan is April 16, 2007 with principal and accrued interest payments due annually starting on April 16, 2005. Accrued interest receivable at September 30, 2003 and December 31,
2002 of $95,000 and $65,000, respectively, is included in other assets. This note is subject to full forgiveness in the event of Mr. Brochus termination of employment without cause or for good reason following a change of control. See Note 14
Subsequent Events for a description of the transactions with Mr. Brochu which will result in the payoff of this note receivable by December 31, 2003.



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Note 8. Business Segment Information



We operate in one business segment and are principally engaged in the design, development, marketing, sale and support of
Primus® eServer, Primus® eSupport, Primus® Answer Engine, Primus® iView and Primus® Quick Resolve software products. Substantially all revenue results from the licensing of our software products and related consulting, hosting
and customer support (maintenance) services. Our chief operating decision-maker reviews financial information presented on a consolidated basis, accompanied by disaggregated revenue information.



The majority of our revenue is derived from customers in the United States of
America. Our international sales are principally in Europe and Japan. The following geographic information is presented for the three and nine months ended September 30, 2003 and 2002 (in thousands):



|                         |  | Three Months Ended September 30, |       | Nine Months Ended September 30,
|------------------------ |  | -------------------------------- | ----- | -------------------------------
|                         |  | 2003                             |       | 2002                           
|United States of America |  | $                                | 5,615 |                                
|Japan                    |  |                                  | 194   |                                
|Other                    |  |                                  | 1,250 |                                
|                         |  |                                  |       |                                
|Total revenue            |  | $                                | 7,059 |                                
|                         |  |                                  |       |                                



Revenue from Japan was
principally derived from sales through our Japanese joint venture, Primus KK, in which we hold a 19.6% minority interest. We recognize software license revenue for sales to this distributor in accordance with our revenue recognition policy as
described in Item 2.



During the three months ended September
30, 2003, revenue from an enterprise sale to one customer represented approximately 29% of total revenue. During the nine months ended September 30, 2003, revenue from two customers represented 24% of total revenue. No single other customer
accounted for 10% or more of total revenue in the three or nine months ended September 30, 2003 or 2002.



At September 30, 2003, gross accounts receivable included a balance from one customer that represented approximately 21% of the total. At December 31,
2002, there were no balances outstanding that represented 10% or more of gross accounts receivable.



Note 9. Restructuring Charges



During the first and third quarters of 2002, we executed restructuring plans to reduce headcount and infrastructure, and to eliminate excess leased facilities. During the year ended December 31, 2002, we recorded $1,227,000 in restructuring
and other related charges. Restructuring charges for the three months ended September 30, 2003 and 2002, were $0 and $827,000, respectively, and charges for the nine months ended September 30, 2003 and 2002 were $0 and $1,262,000, respectively.



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Restructuring Rollforward



The components of the charge for restructuring and a quarterly rollforward of the related liability included within accrued
and other liabilities follows (in thousands):



|                                        |  | Balance at December 31, 2002 |     | Charge for the three months ended March 31, 2003     |   | Net Cash Payments & Impairments |  |   | Balance at March 31, 2003   
|--------------------------------------- |  | ---------------------------- | --- | ---------------------------------------------------- | - | ------------------------------- |  | - | ----------------------------
|Excess facilities and asset impairments |  | $                            | 526 |                                                      | $ |                                |  | $ | (243                        
|                                        |  |                              |     |                                                      |   |                                 |  |   |                             
|                                        |  |                              |     |                                                     
|                                        |  | Balance at March 31, 2003    |     | Charge for the three months ended June 30, 2003      |   | Net Cash Payments & Impairments |  |   | Balance at June 30, 2003    
|Excess facilities and asset impairments |  | $                            | 283 |                                                      | $ |                                |  | $ | (98                         
|                                        |  |                              |     |                                                      |   |                                 |  |   |                             
|                                        |  |                              |     |                                                     
|                                        |  | Balance at June 30, 2003     |     | Charge for the three months ended September 30, 2003 |   | Net Cash Payments & Impairments |  |   | Balance atSeptember 30, 2003
|Excess facilities and asset impairments |  | $                            | 185 |                                                      | $ |                                |  | $ | (121                        
|                                        |  |                              |     |                                                      |   |                                 |  |   |                             



The excess facilities
and asset impairment charges recorded in 2002 were the result of our decision to exit certain domestic and international facilities and were estimated based on our evaluation of then current market conditions relative to our existing excess
facilities accrual. The estimated facilities costs are based on current comparable rates for leases and subleases of a comparable term or termination fees. The asset impairment charges were primarily for leasehold improvements, computer equipment
and related software, office equipment and furniture and fixtures disposed of or removed from operations as a direct result of the restructuring plans. If estimates and/or assumptions change, the actual loss may differ from this estimate. The
September 30, 2003 liability has been reduced by estimated future sublease receipts of $5,000. Future cash outlays are anticipated through June 2004, unless we are able to negotiate to exit the leases at an earlier date.



Note 10. Liquidity



Our operations have historically been financed through issuances of common and preferred stock. For the nine-month period
ended September 30, 2003, we incurred a net loss of approximately $3,455,000 and we utilized cash in operating activities of approximately $1,288,000. At September 30, 2003, we have working capital of approximately $3,906,000. We believe we have
sufficient resources to continue as a going concern through at least September 30, 2004. To reduce our cash used in operations, we put in place cost containment efforts during 2001 and restructured our operations during 2001 and 2002 by reducing
headcount, exclusive of attrition, by 106 employees and eliminating excess facilities. Our plan to address our liquidity issues is to generate sufficient revenue from customer contracts or further reduce costs to provide positive cash flows from
operations. There can be no assurance that we will be able to generate sufficient revenue from customer contracts, or further reduce costs sufficiently, to provide positive cash flows from operations. If we are not able to generate positive cash
flows from operations, we will need to consider alternative financing sources. Alternative financing sources may not be available when and if needed by us or on favorable terms.



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Note 11. Legal Proceedings



The Company, an officer, former officer and FleetBoston Robertson Stephens, Inc., J.P. Morgan Securities Inc., U.S. Bancorp
Piper Jaffray Inc., CIBC World Markets, Dain Rauscher, Inc. and Salomon Smith Barney Holdings Inc., the underwriters of our initial public offering, have been named as defendants in an action filed during December 2001 in the United States District
Court for the Southern District of New York on behalf of persons who purchased Primus common stock during the period from June 30, 1999 through December 6, 2000, which was issued pursuant to the June 30, 1999 registration statement and prospectus
for our initial public offering. The complaint alleges that we and the individual defendants violated the Securities Act of 1933 by failing to disclose excessive commissions allegedly obtained by our underwriters pursuant to a secret arrangement
whereby the underwriters allocated IPO shares to certain investors in exchange for the excessive commissions, referred to as laddering. The complaint also asserts claims against the underwriters under the 1933 Act and the Securities Exchange Act of
1934 in connection with the allegedly undisclosed commissions. In October 2002, the officer and former officer of Primus who were named as defendants in the action were dismissed without prejudice. In June 2003, the plaintiffs in this action
announced a proposed settlement with the issuer defendants and their insurance carriers. Independent members of our Board of Directors have approved of the proposed settlement. Whether or not the settlement is concluded, we do not expect any
material adverse impact to our business from this matter. If the settlement is not concluded, we intend to vigorously defend ourselves against this action. The results of any litigation matter are inherently uncertain and litigation frequently
involves substantial expenditures and can require significant management attention, even if we ultimately prevail. Accordingly, while we do not believe it is probable that the outcome of this litigation matter will be unfavorable to us, we cannot
provide assurances that this action will not materially and adversely affect our business, our results of operations or our stock price.



In October 2003, we received notice that ServiceWare, Inc. had filed a complaint in September 2003 against Primus in the United States District
Court for the Western District of Pennsylvania, which alleges that aspects of our technology infringe one or more patents issued in 1998 alleged to be held by the plaintiff. The complaint has not been served and, as a result, the purported lawsuit
is not active. If the complaint is served, we intend to vigorously defend against the allegations asserted in this complaint and we believe the claims are without merit. If the complaint is served, we also expect to bring a number of counterclaims
against ServiceWare in this matter. The results of any litigation matter are inherently uncertain. In the event of an adverse result in this action, or in any other litigation with third parties that could arise in the future with respect to
intellectual property rights relevant to our products or services, we could be required to pay substantial damages, including treble damages if we are held to have willfully infringed, to cease the use of infringing products or services, to expend
significant resources to develop non-infringing technology or to attempt to obtain licenses to the infringing technology on commercially reasonable terms, if at all. In addition, litigation frequently involves substantial expenditures and can
require significant management attention, even if the Company ultimately prevails. Accordingly, we cannot provide assurances that this action will not materially and adversely affect our business, our results of operation or our stock price.



Note 12. Commitments



We lease office space under operating leases with various expiration dates
through 2006. In January 2003, we engaged an offshore development team to accelerate our development efforts. Our commitment under this agreement is to incur up to approximately $125,000 per month for development work through January 2005. During
the nine-month period ended September 30, 2003, we incurred development expenses of approximately $834,000 related to this agreement. We have no material long-term commitments or obligations other than those under these agreements.



Note 13. Guarantees



In November 2002, the FASB issued FIN 45, Guarantors Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others. FIN 45 provides expanded accounting guidance surrounding liability recognition and disclosure requirements related to guarantees, as defined by this Interpretation. We adopted FIN 45
during the quarter ended December 31, 2002. In the ordinary course of business, we are not subject to potential obligations under guarantees that fall within the scope of FIN 45 except for standard indemnification and warranty provisions that are
contained within many of our customer license and service agreements, and give rise only to the disclosure requirements prescribed by FIN 45. Indemnification and warranty provisions contained within our customer license and service agreements are
generally consistent with those prevalent in our industry. The duration of our product warranties generally does not exceed 90 days following delivery of our products. We have not incurred significant obligations under customer indemnification or
warranty provisions historically and do not expect to incur significant obligations in the future. Accordingly, we do not maintain accruals for potential customer indemnification or warranty-related obligations.



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Note 14. Subsequent Events



Related Party Transaction



On October 31, 2003, we entered into an agreement with Michael Brochu, our President and Chief Executive Officer, to purchase all of his outstanding
stock options with an exercise price at and above $3.00, or 1,239,165 stock options, which reduces the net dilution from stock options to the Companys shareholders. Mr. Brochu has elected to apply the proceeds, after required tax withholdings
of approximately $264,000, from this option disposition to his outstanding $750,000 loan from the Company (see Note 7, Note Receivable From Related Party). As a result of this transaction, the outstanding principal balance on this loan
has been reduced to approximately $114,000. Mr. Brochu will not retain any net proceeds from the transaction.



Our Board of Directors, with Mr. Brochu abstaining from discussions and voting, approved of the transaction and, using the Black-Scholes option pricing
model, established the total purchase price of $997,968. We purchased 547,999 stock options (granted on November 4, 1997) with an exercise price of $3.00, 78,666 stock options (granted on February 4, 1999) with an exercise price of $8.25, 150,000
stock options (granted on August 13, 1999) with an exercise price of approximately $20.41, 150,000 stock options (granted on February 2, 2000) with an exercise price of approximately $74.03, 37,500 stock options (granted on May 17, 2000) with an
exercise price of approximately $38.66, 75,000 stock options (granted on October 12, 2000) with an exercise price of approximately $5.31, and 200,000 stock options (granted on May 16, 2001) with an exercise price of approximately $3.49.



The total purchase price under the transaction will be reflected as
compensation expense and included in general and administrative expenses in our consolidated financial statements for the period ending December 31, 2003. The net proceeds will be first applied against accrued interest due the Company of
approximately $98,000 and the remainder will reduce Mr. Brochus outstanding loan principal balance by approximately $636,000.



Board of Director Resignation



Effective November 3, 2003, Janice Peters, whose term as a director was to expire as of the Companys 2004 Annual Shareholders Meeting, resigned from
the Companys board of directors.



Legal Proceedings



In October 2003, we received notice that
ServiceWare, Inc. had filed a complaint against Primus in September 2003 in the United States District Court for the Western District of Pennsylvania, which alleges that aspects of our technology infringe one or more patents issued in 1998 alleged
to be held by the plaintiff. The complaint has not been served and, as a result, the purported lawsuit is not active. If the complaint is served, we intend to vigorously defend against the allegations asserted in this complaint and we believe the
claims are without merit. If the complaint is served, we also expect to bring a number of counterclaims against ServiceWare in this matter. The results of any litigation matter are inherently uncertain. In the event of an adverse result in this
action, or in any other litigation with third parties that could arise in the future with respect to intellectual property rights relevant to our products or services, we could be required to pay substantial damages, including treble damages if we
are held to have willfully infringed, to cease the use of infringing products or services, to expend significant resources to develop non-infringing technology or to attempt to obtain licenses to the infringing technology on commercially reasonable
terms, if at all. In addition, litigation frequently involves substantial expenditures and can require significant management attention, even if the Company ultimately prevails. Accordingly, we cannot provide assurances that this action will not
materially and adversely affect our business, our results of operation or our stock price.



Non Compete and Non Solicit Agreement



On November 13, 2003, we entered into a noncompetition and nonsolicitation agreement with Michael Brochu, our President and Chief Executive Officer. Our Board of Directors, consistent with their desire to ensure that
Mr. Brochus incentives support the long term growth of the company in the best interests of all shareholders and with Mr. Brochu abstaining from discussions and voting, approved of the transaction and established consideration to Mr. Brochu in
exchange for this agreement of one times his annual base salary, or $310,000. The noncompetition and nonsolicitation agreement is effective from November 13, 2003 through three years from the end date of Mr. Brochus employment for any reason.
Mr. Brochu has elected to apply approximately $114,000 of the proceeds, after required tax withholdings of approximately $82,000, to his outstanding loan from the Company (See the section entitled Related Party Transaction in this Note
14). As a result of this prepayment, the loan will be fully paid by December 31, 2003. We anticipate that the $310,000 of consideration under this agreement will be reflected as compensation expense and included in general and administrative expense
in our consolidated financial statements for the period ending December 31, 2003.



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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



Forward-Looking Statements



This report contains certain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 and Section 27A of the
Securities Act of 1933. These forward-looking statements involve risks and uncertainties, including, but not limited to, those identified in the section of this Form 10-Q entitled Factors That May Affect Results Of Operations and Financial
Condition, which may cause actual results to differ materially from those discussed in such forward-looking statements. When used in this document, the words believes, expects, anticipates,
intends, plans and similar expressions, are intended to identify certain of these forward-looking statements. However, these words are not the exclusive means of identifying such statements. In addition, any statements that
refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. The cautionary statements made in this report should be read as being applicable to all related forward-looking
statements wherever they appear in this report. Factors that could cause or contribute to such differences include those discussed below, as well as those discussed in our Annual Report on Form 10-K, a copy of which is on file at the Securities and
Exchange Commission. We undertake no obligation to release publicly the results of any revision to these forward-looking statements that may be made to reflect events or circumstances occurring subsequent to the filing of this Form 10-Q with the
SEC. Readers are urged to review and carefully consider the various disclosures made by us in this report and in our other reports filed with the SEC that attempt to advise interested parties of the risk and factors that may affect our business.



Overview



We provide application software that enables companies to improve customer service by accessing, analyzing and improving
information. Primus® software provides an application that captures and shares knowledge, increasing the efficiency and effectiveness of customer service. Our software, available licensed or hosted, can be deployed as a suite, as individual
products or as an integrated solution with other leading eService applications, depending on the customers preference and/or the immediacy of their need. Our software is flexible and easily implemented. Our solutions can be used in combination
with leading eService and IT Helpdesk applications, including those from Amdocs/Clarify, Kana, Onyx, Oracle, PeopleSoft, Remedy, Siebel, Talisma and others. Our products are also used in Portal environments in combination with products from BEA and
IBM. In addition to software applications, we offer professional services to assist customers with software implementation, integration, hosting, training and support.



To compete in todays business environment, companies must maximize their relationships with their existing customers.
The need to develop and sell more deeply into their existing customer base has led many companies to implement eService initiatives and software. eService software is designed to enable companies to interact with their customers using both
traditional and eBusiness communication channelsincluding the phone, web, email, chat and voice over IP (VOIP)and to manage customer information in a way that helps companies maximize the value of each customer interaction. Facilitating
more efficient communications with customers can help to improve the level and quality of customer service companies deliver and, in turn, increase customer satisfaction and retention and cross-sell and up-sell opportunities.



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Our software suite consists of Primus Answer Engine, Primus eServer, Primus eSupport, Primus iView and
Primus Quick Resolve. Product license revenue and related services from Primus eServer and Primus eSupport related products accounted for 90% or more of total revenue for the three and nine month periods ended September 30, 2003 and 2002, and we
expect these products to continue to account for a substantial portion of our revenue for the remainder of 2003. License fees for our software vary with each application, but our products are typically licensed on a per-processor basis, per-user
basis or based on the number of users authorized to access our software at any given time. Our typical license agreement provides the licensee a perpetual, nontransferable license to use our software. We deploy our solutions either in-house at the
customers facility as installed software or in a hosted environment operated and maintained by us. Customers using our hosted offerings can take advantage of our hosting expertise, thereby reducing the demands on their own information
technology resources while receiving the full benefit of secure and reliable access to our applications.



As a result, factors adversely affecting the demand for these products and our products in general, such as competition, pricing or technological change,
could materially and adversely affect our business, financial condition, operating results and stock price. Our future financial performance will substantially depend on our ability to sell current versions of our entire suite of products and our
ability to develop and sell enhanced versions of our products.



We target mid- to large-sized organizations, and our products are used by call centers, IT helpdesks, field service organizations, human resources organizations, marketing organizations and eService businesses. In addition to our
traditional markets of technology and telecommunications, we touch vertical markets that include aerospace, financial services, manufacturing, outsourced services, eCommerce and retail. We develop our products and market and sell our software and
services primarily through a direct sales force and a minority owned Japanese entity. We have offices throughout the United States, and in the United Kingdom and France. Our principal executive offices are located at 1601 Fifth Avenue, Suite 1900,
Seattle, WA 98101.



We market our software and services on a
worldwide basis primarily through our direct sales organization in the United States and Europe. Primus KK, a Japanese joint venture in which we hold a minority interest, has exclusive distribution rights to distribute our Primus eServer and Primus
eSupport products in Japan. Our international revenue constituted 20% and 24% of our total revenue for the quarters ended September 30, 2003 and 2002, respectively. We believe that international revenue, as a percentage of our total revenue, will
continue to fluctuate in the future. We have not guaranteed any obligations of the joint venture nor do we have any commitment or intent to provide any funding.



To help us execute our long-term growth strategy, we have invested heavily in product development and in building our sales, marketing, finance,
administrative and professional services organizations. We have incurred cumulative net losses since inception, and as of September 30, 2003, had an accumulated deficit of approximately $103 million. We anticipate that our operating expenses will
continue to be substantial for the foreseeable future as we continue to invest in product development and sales and marketing.



We are subject to certain business risks that could affect future operations and financial performance. These risks include, but are not limited to,
changing computing environments, rapid technological change, development of new products, limited protection of proprietary technology, claims of intellectual property infringement and competitive products and pricing.



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Significant Accounting Policies and Estimates



Our discussion and analysis of our financial condition and results of operations are based upon our unaudited condensed
consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these unaudited condensed consolidated financial statements requires us to
make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates. We base our estimates on
historical experience and on other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results may differ from these estimates under different assumptions or conditions.



Management believes the following critical accounting policies, among others, affect its more significant judgments and estimates used in the preparation
of our unaudited condensed consolidated financial statements.



Restructuring



During 2001 and 2002, we
recorded significant write-offs and accruals in connection with our restructuring program under EITF No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs
Incurred in a Restructuring). These write-offs and accruals include estimates pertaining to employee separation costs and the settlements of contractual obligations related to excess leased facilities and other contracts. Although we believe
that we have made reasonable estimates of our restructuring costs in calculating these write-offs and accruals, the actual costs could differ from these estimates.



In June 2002, the FASB issued SFAS, No. 146, Accounting for Costs Associated with Exit or Disposal Activities.
This Statement addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF No. 94-3. SFAS No. 146 requires that a liability for a cost associated with an exit or disposal activity be
recognized at fair value when the liability is incurred. The provisions of SFAS No. 146 are effective for exit or disposal activities that are initiated after December 31, 2002. The adoption of SFAS No. 146 in 2003 did not have a material effect on
our financial statements.



Revenue Recognition



We recognize revenue in accordance with accounting
standards established for software companies. These include Statement of Position No. 97-2, Software Revenue Recognition, as amended by Statement of Position No. 98-9, Software Revenue Recognition with Respect to Certain
Arrangements and Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements. Revenue is recognized when persuasive evidence of an arrangement exists, collection is probable, the fee is fixed or determinable and
there is vendorspecific objective evidence (VSOE) to allocate the total fee to the elements of the arrangement.



VSOE is typically based on the price charged when an element is sold separately, or, in the case of an element not yet sold separately, the price
established by authorized management, if it is probable that the price, once established, will not change before market introduction. In multiple element arrangements in which VSOE exists only for undelivered elements, the fair value of the
undelivered elements are deferred and the residual arrangement fee is assigned to the delivered elements. If evidence of fair value for any of the undelivered elements does not exist, all revenue from the arrangement is deferred until such time that
evidence of fair value does exist or until all elements of the arrangement are delivered.



Revenue from software license arrangements is recognized upon the delivery of the software, provided all of the other revenue recognition requirements of Statement of Position No. 97-2 have been met.



If a customer requires an acceptance period, revenue is recognized upon the
earlier of customer acceptance or the expiration of the acceptance period. Revenue for license arrangements with payment terms extending beyond 120 days is recognized periodically as payments become due, provided all other conditions for revenue
recognition are met.



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Service revenue consists of maintenance and support fees and consulting, training and hosting fees.
Maintenance and support and ongoing hosting fees are recognized ratably over the term of the contract, typically one year. Consulting revenue is primarily related to implementation and integration services performed on a time-and-materials basis
under separate service arrangements related to the use of our software products. Revenue from consulting and training services is recognized as services are performed. If a transaction includes both license and service elements, license fees are
recognized separately upon delivery of the software, provided services do not include significant customization or modification of the base product, and the licenses are not subject to acceptance criteria.



From time to time we enter into distribution agreements with resellers that
typically provide for sublicense fees based on a percentage of list prices. Our distribution agreement with Primus KK, a related party, provided for sublicense fees based on a percentage of net fees collected by Primus KK from its customers, subject
to certain guaranteed minimum royalty payments. Sublicense fees are recognized upon delivery of software to Primus KK if pervasive evidence of an arrangement between the distributor and their customer exists, collection is probable, the fee is fixed
or determinable, and vendor-specific objective evidence exists for the undelivered elements. Guaranteed minimum royalty payments, to the extent they exceed sublicense fees due, are recognized in the period earned. Our agreements with our customers
and resellers, including Primus KK, do not contain product return rights.



Accounts Receivable



We
perform a quarterly analysis to determine the appropriate allowance for doubtful accounts. This analysis includes various analytical procedures and a review of factors, including specific individual balances selected from a cross-section of the
accounts that comprise total accounts receivable, our history of collections, as well as the overall economic environment. At September 30, 2003 and December 31, 2002, the allowance for doubtful accounts was $219,000 and $412,000, respectively.



Goodwill



SFAS No. 142, Goodwill and Other Intangible Assets, requires
that goodwill no longer be amortized to earnings, but instead be tested at least annually for impairment. The amortization of goodwill ceases upon the required adoption date of the Statement, which for us was January 1, 2002. At the date of
adoption, we had unamortized goodwill of approximately $2.3 million, and the implied fair value of the goodwill as of the date of adoption was zero. The implied fair value of goodwill was calculated based upon a comparison of the book value of the
Company to its fair value. Fair value was determined based upon the market capitalization of the Company as of January 1, 2002. Accordingly, we recognized a $2.3 million transitional impairment loss as the cumulative effect of a change in accounting
principle as a result of the adoption of SFAS No. 142.



We
assess the impairment of goodwill on an annual basis or whenever events or changes in circumstances indicate that the fair value of the reporting unit to which goodwill relates is less than the carrying value. Factors we consider important which
could trigger an impairment review include the following:



| |  | poor economic performance relative to historical or projected future operating results
| | - | --------------------------------------------------------------------------------------



| |  | significant negative industry, economic or company specific trends
| | - | ------------------------------------------------------------------



| |  | changes in the manner of our use of the assets or the plans for our business
| | - | ----------------------------------------------------------------------------



| |  | loss of key personnel
| | - | ---------------------



If we were to determine that the fair value of a reporting unit was less than its carrying value, including goodwill, based upon the annual test or the
existence of one or more of the above indicators of impairment, we measure impairment based on a comparison of the implied fair value of reporting unit goodwill with the carrying amount of goodwill. The implied fair value of goodwill is determined
by allocating the fair value of a reporting unit to its assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation. The residual fair value after this allocation is the implied fair value of reporting
unit goodwill. To the extent the carrying amount of reporting unit goodwill is greater than the implied fair value of reporting unit goodwill, we would record an impairment charge for the difference.



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Results of Operations for the Three and Nine Months Ended September 30, 2003 and 2002



The following table sets forth certain financial data, derived from our
unaudited condensed consolidated statements of operations, as a percentage of total revenues for the periods indicated. The operating results for the three and nine months ended September 30, 2003 and 2002 are not necessarily indicative of the
results that may be expected for any future period.



|                                                                                          |  | Three Months Ended September 30, |   |  | Nine Months Ended September 30, |   
|----------------------------------------------------------------------------------------- |  | -------------------------------- | - |  | ------------------------------- | --
|                                                                                          |  | 2003                             |   |  | 2002                            |   
|Revenue:                                                                                  |  |                                  |   |  |                                 |   
|License:                                                                                  |  |                                  |   |  |                                 |   
|Third party                                                                               |  | 43.8                             | % |  | 41.6                            | % 
|Related partyPrimus KK                                                                   |  | 1.8                              |   |  | 6.6                             |   
|                                                                                          |  |                                  |   |  |                                 |   
|                                                                                          |  | 45.5                             |   |  | 48.2                            |   
|Service:                                                                                  |  |                                  |   |  |                                 |   
|Third party                                                                               |  | 53.5                             |   |  | 49.4                            |   
|Related partyPrimus KK                                                                   |  | 1.0                              |   |  | 2.4                             |   
|                                                                                          |  |                                  |   |  |                                 |   
|                                                                                          |  | 54.5                             |   |  | 51.8                            |   
|                                                                                          |  |                                  |   |  |                                 |   
|Total revenue                                                                             |  | 100.0                            |   |  | 100.0                           |   
|                                                                                          |  |                                  |   |  |                                 |   
|Cost of revenue:                                                                          |  |                                  |   |  |                                 |   
|License                                                                                   |  | 2.0                              |   |  | 2.4                             |   
|Service                                                                                   |  | 16.5                             |   |  | 18.7                            |   
|                                                                                          |  |                                  |   |  |                                 |   
|Total cost of revenue                                                                     |  | 18.5                             |   |  | 21.1                            |   
|                                                                                          |  |                                  |   |  |                                 |   
|Gross profit                                                                              |  | 81.5                             |   |  | 78.9                            |   
|                                                                                          |  |                                  |   |  |                                 |   
|Operating expenses                                                                        |  |                                  |   |  |                                 |   
|Sales and marketing                                                                       |  | 37.5                             |   |  | 47.4                            |   
|Research and development                                                                  |  | 27.4                             |   |  | 29.3                            |   
|General and administrative                                                                |  | 12.7                             |   |  | 13.8                            |   
|Restructuring charges                                                                     |  |                                 |   |  | 13.5                            |   
|                                                                                          |  |                                  |   |  |                                 |   
|Total operating expenses                                                                  |  | 77.6                             |   |  | 104.0                           |   
|                                                                                          |  |                                  |   |  |                                 |   
|Income (loss) from operations                                                             |  | 3.9                              |   |  | (25.1                           | ) 
|Other income (expense), net                                                               |  | 1.9                              |   |  | (0.3                            | ) 
|                                                                                          |  |                                  |   |  |                                 |   
|Income (loss) before income taxes and cumulative effect of change in accounting principle |  | 5.8                              |   |  | (25.4                           | ) 
|Income tax expense                                                                        |  | (0.4                             | ) |  | (0.4                            | ) 
|                                                                                          |  |                                  |   |  |                                 |   
|Income (loss) before cumulative effect of change in accounting principle                  |  | 5.4                              |   |  | (25.8                           | ) 
|Cumulative effect of change in accounting principle                                       |  |                                 |   |  |                                |   
|                                                                                          |  |                                  |   |  |                                 |   
|Net income (loss)                                                                         |  | 5.4                              | % |  | (25.8                           | )%
|                                                                                          |  |                                  |   |  |                                 |   



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Revenue



Total revenue was $7.1 million and $6.1 million for the three months ended September 30, 2003 and 2002, respectively, representing an increase of
$947,000, or 15%. During the three months ended September 30, 2003, revenue from an enterprise sale to one customer represented approximately 29% of total revenue. During the nine months ended September 30, 2003, revenue from two customers
represented 24% of total revenue. No single other customer accounted for 10% or more of total revenue in the three or nine months ended September 30, 2003 or 2002. International revenue was $1,444,000 and $1,473,000 for the three months ended
September 30, 2003 and 2002, respectively, representing a decrease of $29,000 or approximately 2%. International revenue was $4.0 million and $3.4 million for the nine months ended September 30, 2003 and 2002, respectively, representing an increase
of $600,000 or 15%. Total revenue was $16.3 million and $16.4 million for the nine months ended September 30, 2003 and 2002, respectively, representing a decrease of $115,000, or less than 1%. We believe that international revenue as a percentage of
our total revenue will continue to fluctuate in the future. We believe that the depth and duration of the current economic downturn may continue to have an impact on our revenue.



License Revenue.Total license revenue was $3.2 million and $2.9 million for the three months ended
September 30, 2003 and 2002, respectively, representing an increase of approximately $270,000, or 9%. Total license revenue was $6.1 million and $6.5 million for the nine months ended September 30, 2003 and 2002, respectively, representing a
decrease of $454,000, or 7%. License revenue as a percentage of total revenue was 45.5% and 48.2% for the three months ended September 30, 2003 and 2002, respectively and 37.2% and 39.7% for the nine months ended September 30, 2003 and 2002,
respectively.Macroeconomic conditions have been extremely challenging during 2002 and 2003, and we expect them to continue to affect capital-spending initiatives of our targeted new and existing customer base. As a result, we continue to
experience unpredictable selling cycles. Our license revenues depend on the overall demand for customer relationship management products and IT Helpdesk applications, and depends in large part on the general economic and business conditions.



Service Revenue. Total service revenue was $3.8 million
and $3.2 million for the three months ended September 30, 2003 and 2002, respectively, representing an increase of $680,000, or 21%, and was the result of increases in hosting and consulting fees of $1.1 million, partially offset by a decrease in
maintenance and support contract revenue of $420,000 over the same period. Service revenue as a percentage of total revenue was 54.5% and 51.8% for the three months ended September 30, 2003 and 2002, respectively. Total service revenue was $10.2
million and $9.9 million for the nine months ended September 30, 2003 and 2002, respectively, representing an increase of approximately $340,000, or 3%, and was the result of increases in consulting and hosting fees of $880,000, partially offset by
a decrease in maintenance and support contract revenue of $540,000 over the same period. The increase in consulting and hosting fees is directly attributable to an increase in the number of customers we are providing hosting services for, as well as
consulting services for two customers who entered into enterprise license agreements with us during 2003. Service revenue as a percentage of total revenue was 62.8% and 60.3% for the nine months ended September 30, 2003 and 2002, respectively. The
decline in maintenance and support contract revenue is primarily due to a decline in the number of licenses on which maintenance was renewed, which is the result of continued pricing pressures, customer downsizing, the termination of certain low
margin maintenance and support contracts and decreases in software license revenue over the last few years. We expect the amount of and proportion of total service revenue to total revenue to fluctuate in the future, depending primarily on the
dollar amounts of software license revenue, maintenance and support contract revenue, hosting consulting fees and our customers use of third-party consulting and implementation services providers and the ongoing renewals of customer
maintenance and support contracts.



Cost of Revenue



Total cost of revenue was approximately $1.3 million for both the three
months ended September 30, 2003 and 2002. Total cost of revenue was approximately $3.8 million for both the nine months ended September 30, 2003 and 2002.



Cost of License Revenue. Cost of license revenue consists primarily of media, product packaging and shipping, third party software purchased and
resold, documentation and other production costs, third party royalties and the amortization of certain other intangible assets. Cost of license revenue was $143,000 and $147,000 for the three months ended September 30, 2003 and 2002, respectively.
Cost of license revenue as a percentage of license revenue was approximately 2% for both the three months ended September 30, 2003 and 2002. Cost of license revenue was $297,000 and $264,000 for the nine months ended September 30, 2003 and 2002,
respectively. This increase in the cost of license revenue is primarily due to fees related to certain OEM contracts not in place during 2002, and to a slight increase in the cost of third party software purchased and resold. We anticipate that our
cost of license revenue will vary in absolute dollars and as a percent of license revenue due to increases or decreases in the volume of software product sales, the sales mix and the costs of third party technology resold or integrated with our
solutions.



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Cost of Service Revenue. Cost of service revenue consists primarily of salaries, benefits and
allocated overhead costs related to customer support, consulting, training and global services personnel, including the cost of service provided by third-party consultants engaged by Primus, hosting related costs and the amortization of certain
other intangible assets. Cost of service revenue was approximately $1,161,000 and approximately $1,144,000 for the three months ended September 30, 2003 and 2002, respectively, representing an increase of approximately $18,000, or 2%. Cost of
service revenue as a percentage of service revenue was 30% and 36%, or a gross margin of 70% and 64%, for the three months ended September 30, 2003 and 2002, respectively. Cost of service revenue was $3,542,000 and $3,587,000 for the nine months
ended September 30, 2003 and 2002, respectively, representing a decrease of approximately $45,000, or 1%. Cost of service revenue as a percentage of service revenue was 35% and 36%, or a gross margin of 65% and 64%, for the nine months ended
September 30, 2003 and 2002, respectively. For the nine month period ended September 30, 2003, the slight decrease in cost of service revenue as an absolute dollar amount was primarily due to reductions in overhead expenses, higher utilization rates
for our professional services staff, continued cost containment efforts and the cost savings realized from workforce reductions during 2002 within the professional services and customer support organizations. The slight increase in the three-month
period ended September 30, 2003 is primarily due to slight increases in hosting related fees and amortization. Cost of service revenue will vary depending on the mix of services that we provide between support and maintenance, training,
implementation, hosting and other consulting services, as well as staffing levels, utilization rates, overhead costs, customer needs and hosting related costs. Gross profit margins are generally higher for support and maintenance services, which
include the delivery of software enhancements and upgrades, than for training, implementation, hosting and other consulting services. We anticipate that cost of service, both as an absolute dollar amount and as a percentage of service revenue, will
fluctuate in the future.



Operating Expenses



Sales and Marketing. Sales and marketing expenses consist primarily
of salaries, bonuses, commissions and benefits earned by sales and marketing personnel, allocated overhead costs, direct expenditures such as travel, communication and occupancy for direct sales offices and marketing expenditures related to direct
mail, online marketing, advertising, trade shows, public relations and new product launches. Sales and marketing expenses were approximately $2.6 million and $2.9 million for the three months ended September 30, 2003 and 2002, respectively,
representing a decrease of approximately $250,000 or 9%. Sales and marketing expenses were approximately $7.8 million and $8.9 million for the nine months ended September 30, 2003 and 2002, respectively, representing a decrease of approximately $1.1
million or 13%. This decrease is primarily the result of reductions in sales and marketing headcount, travel and entertainment costs, recruiting expenses and consulting and marketing expenditures (e.g. advertising, public relations, tradeshows and
collateral materials) as part of our overall cost containment efforts. Sales and marketing expenses as a percentage of total revenue were 38% and 47% for the three months ended September 30, 2003 and 2002, respectively, and 48% and 54% for the nine
months ended September 30, 2003 and 2002, respectively. This decrease as a percentage of total revenue is primarily due to the 13% decrease in total sales and marketing expenses for the nine-month period ended September 30, 2003 compared to the same
period in 2002, partially offset by a slight decline in total revenue over the same period. We believe that a significant sales and marketing effort is essential for us to maintain market position and further increase market acceptance of our
products, and we anticipate that we will continue to invest significantly in sales and marketing for the foreseeable future. We anticipate in future periods that sales and marketing expense, as an absolute dollar amount, will continue to fluctuate,
depending primarily on the volume of future revenues, staffing levels, overhead costs and our assessment of market opportunities and sales channels.



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Research and Development. Research and development expenses include development costs associated
with new products, enhancements and upgrades of existing products and quality assurance activities, and consist primarily of salaries, benefits and contractors fees for software engineers, program and product managers, technical writers,
linguistic specialists, quality assurance personnel, allocated overhead costs, as well as costs related to the use of third party development firms. Research and development expenses were approximately $1.9 million and $1.8 million for the three
months ended September 30, 2003 and 2002, respectively, representing an increase of approximately $144,000 or 8%. Research and development expenses were approximately $5.6 million and $6.3 million for the nine months ended September 30, 2003 and
2002, respectively, representing a decrease of approximately $650,000 or 10%. For the nine months ended September 30, 2003, the decrease was primarily due to reductions in overhead expenses, research and development headcount since July of 2001 and
our continued cost containment efforts, partially offset by increases in research and development related to the engagement in January of 2003 of an offshore development team to accelerate our development efforts. The increase for the three months
ended September 30, 2003 is primarily attributable to the increase in offshore development as well as additional personnel and related costs associated with the acquisition of Broad Daylight for the month of September 2003. Our commitment under this
offshore development agreement is to incur up to approximately $125,000 per month for development work through January 2005. During the nine months ended September 30, 2003, we incurred development expenses of approximately $834,000 related to this
agreement. When required, we use third-party development firms to expand the capacity and technological expertise of our internal research and development teams. Research and development expenses as a percentage of total revenue was 27% and 29% for
the three months ended September 30, 2003 and 2002, respectively, and 35% and 38% for the nine months ended September 30, 2003 and 2002, respectively. This decrease as a percentage of total revenue is primarily due to the decrease in total research
and development spending in the first nine months of 2003 compared to the first nine months of 2002, partially offset by a slight decline in total revenue over the same period. We believe that a significant research and development investment is
essential for us to maintain our market position, to continue to expand our knowledge application software and to develop additional applications. Accordingly, we anticipate that we will continue to invest in product research and development for the
foreseeable future and we anticipate that research and development costs, as an absolute dollar amount will increase in the near term by approximately 15% as research and development costs will include the operating results of Broad Daylight. Long
term we anticipate they will fluctuate, depending primarily on the volume of future revenues, customer needs, staffing levels, outsourced development commitments, overhead costs and our assessment of market demand.



General and Administrative. General and administrative expenses
consist primarily of salaries, benefits and related costs for executive, finance, human resource, legal, administrative and information services personnel, allocated overhead costs, bad debt expense and costs associated with being a public company,
including, but not limited to, annual and other public-reporting costs, directors and officers liability insurance, investor-relations programs and professional-services fees. General and administrative expenses were approximately
$896,000 and $843,000 for the three months ended September 30, 2003 and 2002, respectively, representing an increase of approximately $53,000 or 6%. This increase is primarily the result changes in the allocation of overhead expenses. General and
administrative expenses were approximately $2.6 million and $3.5 million for the nine months ended September 30, 2003 and 2002, respectively, representing a decrease of approximately $907,000 or 26%. This decrease is primarily due to the favorable
settlement of a legal matter during the second quarter of 2003, which resulted in the reversal of an accrual in the amount of $250,000, which had been recorded during the nine months ended September 30, 2002, as well as reductions in overhead
expenses, general and administrative headcount since July of 2001 and current quarter reductions in occupancy costs, legal expenses, and bad debt expenses partially offset by increases in consulting fees. The decrease in total general and
administrative expenses reflects the continued impact of the overall cost containment measures taken by us during the last two years. General and administrative expenses as a percentage of total revenue were 13% and 14% for the three months ended
September 30, 2003 and 2002, respectively, and 16% and 21% for the nine months ended September 30, 2003 and 2002, respectively. The decrease in general and administrative expense as a percentage of total revenue is attributable to the decrease in
general and administrative expenses in the current period, as well as changes in total revenue over the same period. We believe that our general and administrative expenses will increase substantially during the fourth quarter of 2003, due primarily
to the compensation expense of approximately $1.0 million that will be recognized as a result of the purchase of certain outstanding options from Michael Brochu, president and chief executive officer, on October 31, 2003 as well as approximately
$310,000 of expense related to his non-compete agreement. We believe that our general and administrative expenses will fluctuate as an absolute dollar amount in future periods, depending primarily on the volume of future revenues, staffing levels,
overhead costs and corporate infrastructure requirements including insurance, professional services, bad debt expense, legal expense and other administrative costs.



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Restructuring Charges. There were no restructurings during the nine months ended September 30,
2003. During the three and nine months ended September 30, 2002, we had restructuring charges of $827,000 and $1,262,000, respectively, related to our decision to exit certain domestic and international facilities and reduce our workforce.



As we continue to evaluate our underlying cost structure to
improve our operating results and better position ourselves for growth, we may incur further restructuring charges, including severance, benefits and related costs due to a reduction in workforce and/or charges for assets disposed of or removed from
operations as a direct result of a reduction in workforce.



Other Income (Expense), Net. Net other income (expense), was $131,000 and $(15,000) for the three months ended September 30, 2003 and 2002, respectively and $198,000 and $188,000 for the nine months ended September 30, 2003 and 2002,
respectively. The increase from period to period is primarily due to increases in interest earned in 2003 related to financing terms provided to certain customers, offset by decreases in investment yields. We expect to continue to yield investment
income on our cash and cash equivalents and short-term investments at an average rate that is less than that experienced in 2002, however we also expect to earn interest income on this financing arrangement for the remainder of 2003 and 2004.



Income Taxes. We have not recorded income tax benefits
related to the net operating losses for the nine months ended September 30, 2003 or 2002 as a result of the uncertainties regarding the realization of the net operating losses. Income tax expense recorded in the three and nine months ended September
30, 2003 and 2002 primarily relates to our foreign operations.



Cumulative Effect of Change in Accounting Principle. We recognized a $2.3 million transitional impairment loss as the cumulative effect of a change in accounting principle as a result of the adoption of SFAS No. 142 on January 1,
2002. In July 2001, the FASB issued SFAS No. 142, Goodwill and Other Intangible Assets, which requires that goodwill no longer be amortized to earnings, but instead be tested at least annually for impairment. The amortization of goodwill
ceases upon the required adoption date of the Statement, which for us was January 1, 2002. At the date of adoption, we had unamortized goodwill of approximately $2.3 million, and the implied fair value of the goodwill as of the date of adoption was
zero. The implied fair value of goodwill was calculated based upon a comparison of the book value of the Company to its fair value. Fair value was determined based upon the market capitalization of the Company as of January 1, 2002.



Liquidity and Capital Resources



Prior to our initial public offering, we had primarily financed our
operations through the private sale of our equity securities. To a lesser extent, we have financed our operations through equipment financing and traditional lending arrangements. In July 1999, we completed our initial public offering in which we
received approximately $46.2 million in cash, net of underwriting discounts, commissions, and other offering costs.



As of September 30, 2003, we had cash and cash equivalents of $11.4 million, representing a decrease of approximately $507,000 from our December 31, 2002
balance of $11.9 million. As of September 30, 2003, our working capital was approximately $3.9 million compared to $7.6 million at December 31, 2002.



Our operating activities resulted in net cash outflows of approximately $1.3 million and $5.2 million for the nine months ended September 30, 2003 and
2002, respectively. For the nine months ended September 30, 2003, adjustments to the $3.5 million net loss to reconcile to cash used in operating activities includes cash provided by operations of approximately $1.7 million for the decrease in
accounts receivable and other assets and increases in compensation related accruals and accounts payable and accrued liabilities, and $1,309,000 in depreciation and amortization. This is offset by cash used in operations of approximately $793,000
for the increase in prepaid expenses and the decrease in deferred revenue.



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Investing activities provided cash of approximately $773,000 and $3.8 million during the nine months
ended September 30, 2003 and 2002, respectively. Investing activities for the nine months ended September 30, 2003 consisted of approximately $1.4 million in proceeds from the maturity of short-term investments offset by the purchases of short-term
investments of $395,000, property and equipment of $174,000 and $54,000 for the purchase of Broad Daylight, net of cash paid.



Financing activities provided cash of $29,000 and $66,000 during the nine-month periods ended September 30, 2003 and 2002, respectively, from the issuance
of common stock.



Our principal source of liquidity at
September 30, 2003 was our cash and cash equivalents. We also have a line of credit totaling $3.0 million, which is secured by substantially all of our assets, bears interest at the banks prime rate plus 1% (5% as of June 30, 2003) and expires
in December 2003. There were no borrowings outstanding as of September 30, 2003. If we are unable to maintain compliance in the future, this $3.0 million line of credit may not be available in its entirety. As of the filing date of this report, we
were in compliance with our financial covenants in connection with the line of credit.



We currently anticipate that we will continue to experience fluctuations in our operating expenses for the foreseeable future as we:



| |  | enter new markets for our products and services, including through potential acquisitions of complementary businesses, technology or other assets
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------



| |  | increase or decrease research and development spending
| | - | ------------------------------------------------------



| |  | increase or decrease sales and marketing activities
| | - | ---------------------------------------------------



| |  | develop new distribution channels
| | - | ---------------------------------



| |  | improve our operational and financial systems
| | - | ---------------------------------------------



| |  | broaden our professional services capabilities
| | - | ----------------------------------------------



We continue to focus on maximizing the performance of our core business and controlling costs to respond to the economic environment, and we will continue
to evaluate our underlying cost structure to improve our operating results and better position ourselves for growth. As such, we may incur further restructuring charges, including severance, benefits and related costs due to a reduction in workforce
and/or charges for assets disposed of or removed from operations as a direct result of a reduction in workforce.



In the near-term, we believe our costs and operating expenses, excluding restructuring-related charges, will track to a level that is closer to our
expected revenues while allowing us to continue to invest in accordance with our strategic priorities. However, we may be unable to achieve these expense reductions without adversely affecting our business and results of operations. We may continue
to experience losses and negative cash flows in the near term, even if sales of our products and services grow.



While we will continue to implement cost containment efforts across our business, our operating expenses, including costs to defend and/or settle legal
actions that have been or may be brought against us, will consume a material amount of our cash resources. We believe that the total amount of our cash and cash equivalents, along with our commercial credit facilities, will be sufficient to meet our
anticipated cash needs for working capital or other purposes for at least the next twelve months. Thereafter, depending on the development of our business, we will likely require additional funds to support our working capital requirements,
unanticipated problems or expenses, opportunities for acquisitions or other business initiatives we encounter and may seek to raise such additional funds through public or private equity or debt (including debt convertible into equity) financing or
from other sources. We may not be able to obtain adequate or favorable financing at that time. Our history of declining market valuation and volatility in our stock price could make it difficult for us to raise capital on favorable terms. Any
financing we obtain may dilute or otherwise impair our current shareholders ownership interest in the Company.



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We lease office space under operating leases with various expiration dates through 2006. In January 2003,
we engaged an offshore development team to accelerate our development efforts. Our commitment under this agreement is to incur up to approximately $125,000 per month for development work through January 2005. During the nine months ended September
30, 2003, we incurred development expenses of approximately $834,000 related to this agreement. We have no material long-term commitments or obligations other than those under these agreements.



We do not have any relationships with unconsolidated entities or financial
partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
Further, we have not guaranteed any obligations of unconsolidated entities nor have we any commitment or intent to provide any funding to any such entity. As such, we are not materially exposed to any market, credit, liquidity or financing risk that
could arise if we had engaged in such relationships.



Risks Associated with
Our Business and Future Operating Results



Our future
operating results may vary substantially from period to period. The price of our common stock will fluctuate in the future, and an investment in our common stock is subject to a variety of risks, including but not limited to the specific risks
identified below. The risks described below are not the only risks facing our company. Additional risks and uncertainties not presently known to us, or that we currently deem immaterial, may impair our business operations. Prospective and existing
investors are strongly urged to carefully consider the various cautionary statements and risks set forth in this report and our other public filings. If any of the following risks actually occur, our business, financial condition and operating
results could be materially adversely affected and the trading price of our common stock could decline.



We have a history of losses and may not be profitable in the future and may not be able to generate sufficient revenue or funding to continue as a
going concern.



Since we began operations, our revenue has
not been sufficient to support our operations, and we have incurred operating losses in every quarter, except for the quarter ended September 30, 2003. As of September 30, 2003, our accumulated deficit was approximately $103 million. Our history of
losses may cause some of our potential customers to question our viability and hamper our ability to sell some of our products. Our revenue has been affected by the continuing uncertain economic conditions both generally and in our market. Although
we have restructured our operations to reduce operating expenses due to the increase in operating expenses related to the acquisition of Broad Daylight, we still may need to increase our revenue from the calendar quarter ended September 30, 2003
and/or further reduce our operating expenses to achieve and/or maintain profitability and positive cash flows from operations, and our revenue may decline, or fail to grow, in future periods. Our expectations as to whether we can achieve and/or
maintain positive cash flows from operations, and as to our future cash balances, are subject to a number of assumptions, including assumptions regarding improvements in general economic conditions and customer purchasing and payment patterns, many
of which are beyond our control. In addition we may require additional financing, which might not be available on acceptable terms, if at all.



As a result of uncertainties in our business and the general economic slowdown, we have experienced and may continue to experience difficulties in
collecting outstanding receivables from our customers and attracting new customers. As a result, we may continue to experience losses, even if sales of our products and services grow.



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Quarterly fluctuations in our operating results may adversely affect our stock price.



Fluctuations in our operating results, particularly compared to the
expectations of investors could cause severe volatility in the price of our common stock. Our revenue and operating results have fluctuated substantially from quarter to quarter and are likely to continue to do so in the future. Our quarterly
revenue and operating results are difficult to predict and may fluctuate significantly from quarter to quarter particularly because of the length of our sales cycle, delays in customer buying decisions and variation in the size of individual license
transactions from quarter to quarter. We believe that period-to-period comparisons of our operating results may not be meaningful and you should not rely on these comparisons as an indication of our future performance. We will continue to base our
decisions regarding operating expenses on anticipated revenue trends. Therefore, to the extent our actual revenue falls short of our expectations, our operating results will suffer and our stock price will likely decline. If quarterly revenue or
operating results fall below the expectations of investors, the price of our common stock could decline substantially. Factors that might cause quarterly fluctuations in our operating results include the factors described under the other subheadings
of this Risks Associated with Primus Business and Future Operating Results section as well as:



| |  | general economic conditions that adversely affect our customers capital investment levels in eService (that is, Internet browser based self-service solutions) and knowledge
management systems
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | the evolving and varying demand for our software products and services
| | - | ----------------------------------------------------------------------



| |  | budget and spending decisions by information technology and customer support departments of our customers
| | - | ---------------------------------------------------------------------------------------------------------



| |  | order deferrals in anticipation of new products or product enhancements introduced by our competitors or us
| | - | -----------------------------------------------------------------------------------------------------------



| |  | our ability to manage our expenses
| | - | ----------------------------------



| |  | the timing of new releases of our products
| | - | ------------------------------------------



| |  | changes in our pricing policies or those of our competitors
| | - | -----------------------------------------------------------



| |  | the timing of execution of large contracts that materially affect our operating results
| | - | ---------------------------------------------------------------------------------------



| |  | uncertainty regarding the timing of delivery of our products
| | - | ------------------------------------------------------------



| |  | changes in the level of sales of professional services as compared to product licenses
| | - | --------------------------------------------------------------------------------------



| |  | the mix of sales channels through which our products and services are sold
| | - | --------------------------------------------------------------------------



| |  | the mix of our domestic and international sales
| | - | -----------------------------------------------



| |  | costs related to the customization of our products
| | - | --------------------------------------------------



| |  | our ability to expand our operations, and the amount and timing of expenditures related to this expansion
| | - | ---------------------------------------------------------------------------------------------------------



| |  | decisions by customers and potential customers to delay purchasing of our products
| | - | ----------------------------------------------------------------------------------



| |  | a trend of continuing consolidation in our industry
| | - | ---------------------------------------------------



| |  | global economic and political conditions, as well as those specific to our customers or our industry
| | - | ----------------------------------------------------------------------------------------------------



Due to the protracted slowdown in the national and global economy, geopolitical uncertainties and uncertainties concerning
the extent or timing of any meaningful economic recovery, we believe that many existing and potential customers are carefully evaluating and reprioritizing their planned technology and Web-related investments and deferring purchasing decisions. As a
result, there is increased uncertainty with respect to our expected revenue, and further delays or reductions in business spending for information technology could have a material adverse effect on our revenue, operating results and stock price.



Our expenses are generally fixed and we will not be able to
reduce these expenses quickly if we fail to meet our revenue forecasts.



Most of our expenses, such as employee compensation and rent, are relatively fixed in the short term. Moreover, our budget is based, in part, on our expectations regarding future revenue levels. As a result, if total
revenue for a particular quarter is below expectations, we could not proportionately reduce operating expenses for that quarter. Accordingly, such a revenue shortfall would have a disproportionate effect on our expected operating results for that
quarter.



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Our continued NASDAQ SmallCap Market listing is not assured, which would make the trading market for
our stock more illiquid and could make it more difficult to raise capital.



The NASDAQ SmallCap Market has a number of continued listing requirements. We are presently in compliance with all the continued listing requirements. If we were to fail to meet the minimum maintenance requirements in
the future, then we would be subject to a delisting process, which presently involves grace periods to regain compliance, from the NASDAQ SmallCap Market. If our common stock would be delisted by NASDAQ after expiration of any grace periods, our
securities could still be eligible to trade on the OTC Bulletin Board maintained by NASDAQ, another over-the-counter quotation system, or on the pink sheets where an investor may find it more difficult to dispose of or obtain accurate quotations as
to the market value of the securities. In addition, we would be subject to a Rule promulgated by the Securities and Exchange Commission that, if we fail to meet criteria set forth in such Rule, imposes various practice requirements on broker-dealers
who sell securities governed by the Rule to persons other than established customers and accredited investors. For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the
purchasers written consent to the transactions prior to sale. Consequently, the Rule may deter broker-dealers from recommending or selling our common stock, which may further affect the liquidity of our common stock. Delisting from the NASDAQ
SmallCap Market would make trading our shares more difficult for investors and would likely result in a significant decline in the liquidity of the trading market, potentially leading to further volatility and declines in our share price. Further,
if we were delisted it would also make it more difficult for us to raise additional capital and we would likely also incur additional costs under state blue-sky laws in connection with any sales of our securities.



We may incur non-cash charges resulting from acquisitions, which could
harm our operating results.



A new standard for accounting
for goodwill acquired in a business combination has recently been adopted. This new standard requires recognition of goodwill as an asset but does not permit amortization of goodwill. Instead goodwill must be separately tested for impairment. As a
result, our goodwill amortization charges ceased in 2002 and we recognized a $2.3 million transitional impairment loss as the cumulative effect of a change in accounting principle as a result of the adoption of this standard.



In the future, we may incur impairment charges related to goodwill arising
out of the Broad Daylight acquisition or future acquisitions, if any. We may also incur large write-offs and difficulties in assessment of the relative percentages of in-process research and development expense that can be immediately written off as
compared to the amount which must be amortized over the appropriate life of the asset. We may also incur amortization expenses related to other intangible assets. Current and future accounting charges like these could harm our operating results.



Our quarterly operating results may depend on a small
number of large orders.



We may derive a significant
portion of our product license revenue in each quarter from a small number of relatively large orders. Our operating results for a particular fiscal quarter could be materially adversely affected if we are unable to complete one or more substantial
license sales forecasted for that quarter. Additionally, we also often offer volume-based pricing, which may affect operating margins.



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Factors outside our control may cause the timing of our license revenue to vary from
quarter-to-quarter, possibly adversely affecting our operating results.



Applicable accounting policies may cause us to report new license agreements as deferred revenue. We recognize revenue from a customer sale when persuasive evidence of an agreement exists, the product has been
delivered, the arrangement does not involve customization of the software, the license fee is fixed or determinable and collection of the fee is probable. If an arrangement requires acceptance testing or software customization services from Primus,
recognition of the associated license and service revenue would be delayed. The timing of the commencement and completion of the these services is subject to factors that may be beyond our control, as this process may require access to the
customers facilities and coordination with the customers personnel after delivery of the software. In addition, customers could delay product implementations and integrations. Implementation and integration typically involves working
with sophisticated software, computing and communications systems. If we experience difficulties with implementation or integrations or do not meet project milestones in a timely manner, we could be obligated to devote more customer support,
engineering and other resources to a particular project. Some customers may also require us to develop customized features or capabilities. If new or existing customers have difficulty deploying our products or require significant amounts of our
professional services support for customized features, our revenue recognition could be further delayed and our costs could increase, causing increased variability in our operating results.



The high level of competition in our market may result in pricing
pressures, reduced margins or the failure of our products to achieve market acceptance.



The market for our products is rapidly evolving, and becoming increasingly competitive as current competitors expand their product offerings and new companies enter the market. Our suite of products competes against
various vendor software tools designed to address a specific element or elements of the complete set of eService processes, including e-mail management, support, knowledge management, and web-based customer self-service and assisted service. We also
face competition from in-house designed products and third-party custom development efforts.



In addition, competition may increase as a result of software industry consolidations and formations of alliances among industry participants or with third parties. Some current and potential competitors have longer
operating histories and significantly greater financial, technical, marketing, service, support and other resources, and thus may be able to respond more quickly to new or changing opportunities, technologies and customer requirements. Also, many
current and potential competitors have wider name recognition and more extensive customer bases that they could leverage. They might be able to undertake more extensive promotional activities, adopt more aggressive pricing strategies, and offer
purchasers more attractive products and/or more attractive terms. Some of the companies providing e-commerce, advanced natural language self service and traditional customer relationship management solutions that may compete with us include
Amdocs/Clarify, Answerfriend, Autonomy, eGain, Inquira, iPhrase Technologies, Kana, Kanisa, Oracle, Peoplesoft, Right Now Technologies, ServiceWare and Siebel.



The principal competitive factors in our industry include:



|   |  | vendor and product reputation                                                   |  |  |  | product ease-of-use                                                     
|--- |  | ------------------------------------------------------------------------------- |  | - |  | ------------------------------------------------------------------------
|   |  | the availability of products on the Web and multiple operating platforms        |  |  |  | the quality of customer support services, documentation and training    
|  |  | measurable economic return on investment ability to use customers as references |  |  |  | the quality, speed and effectiveness of application development services
|   |  | product quality, performance and price                                          |  |  |  | the effectiveness of sales and marketing efforts                        
|   |  | breadth of product functionality and features                                   |  |  |  | product integration with other enterprise applications                  
|   |  | product scalability                                                             |  |  |  | breadth of product application suite                                    
|   |  | vendor financial viability                                                      |  |   |  |                                                                         



As the market for
eService and knowledge management software matures, it is possible that additional and possibly larger companies will enter the market, existing competitors will form alliances or current and potential competitors could acquire, be acquired by or
establish cooperative relationships with third parties. The resulting organizations could have greater technical, marketing and other resources and improve their products to address the needs of our existing and potential users, thereby increasing
their market share. Increased competition could result in pricing pressures, reduced margins or the failure of our products to achieve or maintain market acceptance.



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Seasonality may adversely affect our quarterly operating results.



We expect to experience seasonality in our revenue. To date, we believe that
other factors, such as large orders and the timing of personnel changes in our sales staff, have masked seasonality. Our customers purchase decisions are often affected by fiscal budgetary factors and by efforts of our direct sales force to
meet or exceed sales quotas.



We rely primarily on sales of
only one product family.



Product license revenue and
related service revenue from our Primus eServer and Primus eSupport related products accounted for 90% or more of our total revenue in the 2002 fiscal year and in the nine months ended September 30, 2003, and we expect these products to continue to
account for a substantial portion of our revenue for the remainder of 2003. For our business to succeed, the market for this software will have to grow substantially, and we will have to achieve broad market acceptance of our products. As a result,
factors adversely affecting the demand for these products and our products in general, such as competition, pricing or technological change, could materially adversely affect our business, financial condition, operating results and value of our
stock price. Our future financial performance will substantially depend on our ability to sell current versions of our entire suite of products and our ability to develop and sell enhanced versions of our products.



We may not be able to forecast revenue accurately because our products
have a long and variable sales cycle.



To date, the
typical sales cycles for our products have taken 3 to 12 months. The length of our sales cycles may cause license revenue and operating results to vary significantly from period to period. Our sales cycles have required pre-purchase evaluation by a
significant number of individuals in our customers organizations. Along with third parties that jointly market our software, we invest significant amounts of time and resources educating and providing information to prospective customers
regarding the use and benefits of our products. Many of our customers evaluate our software deliberately, depending on their specific technical capabilities, the size of the deployment, the complexity of their network environment, and the quantity
of hardware and the degree of hardware configuration necessary to deploy our products. In the event that the current national and global economic downturn were to continue, or prospective customers were to extend their purchasing cycles, the sales
cycle for our products may become longer and we may require more time and resources to complete sales.



We depend on increased business from new customers, and if we fail to grow our customer base or generate repeat business, our operating results could
be harmed.



Our business model generally depends on the
sale of our products to new customers as well as on expanded use of our products within our existing customers organizations. If we fail to grow our customer base or generate repeat and expanded business from our current and future customers,
our business and operating results will be seriously harmed. In some cases, our customers initially make a limited purchase of our products and services for pilot programs. These customers may not purchase additional licenses to expand their use of
our products. If these customers do not successfully develop and deploy initial applications based on our products, they may choose not to purchase deployment licenses or additional development licenses.



In addition, as we introduce new versions of our products or new products,
our current customers might not require the functionality of our new products and might not ultimately license these products. Because the total amount of maintenance and support fees we receive in any period depends in large part on the size and
number of licenses that we have previously sold, any downturn in our software license revenue would negatively affect our future services revenue. In addition, if customers elect not to renew their maintenance agreements, our services revenue could
decline significantly. Further, some of our customers are telecom or information technology companies, which have been forced to significantly reduce their operations in light of limited access to sources of financing and the current national and
global economic slowdown. If customers are unable to pay for their current products or are unwilling to purchase additional products, our revenue will decline and this will likely materially impact adversely our revenue, operating results and stock
price.



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Factors outside our control may make our products less useful.



The effectiveness of our software depends in part on widespread adoption and
effective use of our software by an enterprises personnel, partners, and customers and the value derived by each such usage. In addition, the effectiveness of our knowledge-enabled approach is somewhat dependent upon a current database. If
customer-support personnel do not adopt and effectively use our Primus eServer and Primus eSupport products, necessary solutions will not be added to the database, and the database will be inadequate. If an enterprise deploying our software fails to
maintain a current database, the value of our Primus eServer and Primus eSupport software to our users will be impaired. Successful deployment and broad acceptance of our Primus eServer and Primus eSupport products will depend in part on the quality
of the users existing database of solutions, which is outside our control.



The loss of access to, or a problem with, third party databases could adversely affect our business.



Historically, we incorporated a database licensed from Versant into certain of our products. Presently, our products support IBM DB-2, Microsoft SQL
Server and Oracle databases. Because many of the products we have shipped historically rely on these databases, we continue to depend on these companies to support the databases in a timely and effective manner.



Our inability to sufficiently expand our consulting capabilities would
limit our ability to grow.



If sales of new licenses
increased rapidly or if we were to sign an agreement for a particularly large or complex integration, our customer support and professional services personnel may be unable to meet the demand for services. In that case, if we were unable to retain
or hire highly trained consulting personnel or establish relationships with third-party systems-integrators and consultants to implement our products, we would be unable to meet customer demands for integration and support services related to our
products.



We may have potential contingent liabilities
under service level agreements.



In connection with
certain hosting services agreements and consulting services arrangements, Primus has agreed to service level performance criteria. Any failure of Primus to meet the service level performance criteria could result in certain negotiated fee credits or
liquidated damage payments to any affected customers. As Primus expands its hosting services and consulting services business, the potential could exist for material, contingent liabilities related to negotiated fee credits or liquidated damages for
failure to meet agreed performance criteria.



Unplanned
system interruptions and capacity constraints and failure to effect efficient transmission of data of customer communications and data over the Internet could harm our business and reputation.



We could experience interruptions to Primus-hosted operations due to natural
disasters, Internet traffic disruptions (by, for example, malicious service attacks and hacking into operating systems, viruses and worms), hardware and operating system failures. As a result, our business may suffer if we experience frequent or
long system interruptions that result in the unavailability or reduced performance of our hosted operations. We may experience occasional termorary capacity constraints due to sharply increased traffic or other Internet wide disruptions, which may
cause unanticipated system disruptions, slower response times and degradation in levels of customer service.



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The regulatory environment surrounding accounting and corporate governance subjects us to certain
legal uncertainties in the operation of our business and may continue to increase our cost of doing business.



We face increased regulatory scrutiny and potential criminal liability for our executives associated with various accounting and corporate governance
rules promulgated under the Sarbanes-Oxley Act of 2002. We have reviewed and will continue to monitor all of our accounting policies and practices, legal disclosure and corporate governance policies under the new legislation, including those related
to relationships with our independent accountants, enhanced financial disclosures, internet controls, board and board committee practices, corporate responsibility and loan practices, and intend to fully comply with such laws. Nevertheless, such
increased scrutiny and penalties involve risks to both Primus and our executive officers and directors in monitoring and insuring compliance. A failure to properly navigate the legal disclosure environment and implement and enforce appropriate
policies and procedures, if needed, could harm our business and prospects.



Our workforce reduction and financial performance may adversely affect the morale and performance of our personnel and our ability to hire new personnel.



In connection with our effort to streamline operations, and reduce costs, we
have engaged in several restructurings of our organization with substantial reductions in our workforce. There have been and may continue to be substantial costs associated with this or other workforce reductions related to severance and other
employee-related costs, and our restructuring plans may yield unanticipated consequences, such as attrition beyond our planned reductions in workforce. As a result of these reductions, our ability to respond to unexpected challenges may be impaired
and we may be unable to take advantage of new opportunities.



In addition, many of the employees who were terminated possessed specific knowledge or expertise that may prove to be important to our operations. In that case, their absence may create significant difficulties. Personnel reductions may
also subject us to the risk of litigation, which may adversely impact our ability to conduct our operations and may cause us to incur significant expense.



Our failure to attract and retain skilled technical personnel may adversely affect our product development, sales and customer satisfaction.



Our reductions in work force since July of 2001 may
affect employee morale and may create concern among existing employees about job security, which may lead to increased turnover and reduce our ability to meet the needs of our current and future customers. As a result, we may need to hire to replace
personnel lost due to attrition, or to accommodate growth in specific customer needs and/or acquire new skill sets. We may be unable to hire and/or retain the skilled personnel necessary to develop and grow our business. Although a number of
technology companies have recently implemented staff reductions, there remains substantial competition for experienced personnel, particularly in the greater Seattle area, where we are headquartered, due to the limited number of people available
with the necessary technical skills.



Because our stock price
has suffered a significant decline since 2000, stock-based compensation, including options to purchase our common stock, may have diminished effectiveness as employee hiring and retention devices. If employee turnover increases, our ability to
provide client service and execute our strategy would be negatively affected. We may also face difficulties in hiring and retaining qualified sales personnel to sell our products and services, which could impair our revenue growth.



We may be adversely affected if we lose key personnel.



Our success depends largely on the skills, experience and performance of
some key members of our management and technical staff. If we lose one or more of these key employees, our business, operating results and financial condition could be materially adversely affected. Much of our success also depends on Michael A.
Brochu, our President and Chief Executive Officer. The loss of Mr. Brochus services could harm our business.



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We may face difficulties in hiring and retaining qualified sales personnel to sell our products and
services, which could impair our revenue growth.



Our
ability to increase revenue in the future depends considerably upon our success in recruiting, training, managing and retaining additional direct sales personnel and the success of the direct sales force. We might not be successful in these efforts.
Our products and services require sophisticated sales backgrounds. There is a shortage of sales personnel with the qualifications and experience, and competition for qualified personnel is intense in our industry. Our recent reductions in force may
also impair our ability to recruit skilled sales personnel. Also, it may take a new salesperson a number of months to become a productive member of our sales force. Our business will be harmed if we fail to hire or retain qualified sales personnel,
or if newly hired salespeople fail to develop the necessary sales skills or develop these skills more slowly than anticipated.



Acquisitions could disrupt our business and harm our financial condition.



In order to remain competitive, we may find it necessary to acquire additional businesses, products and technologies. In the
event that we do complete an acquisition, we could be required to do one or more of the following:



| |  | issue equity securities, which would dilute current shareholders percentage ownership
| | - | --------------------------------------------------------------------------------------



| |  | assume contingent, unrecorded and/or warranty liabilities
| | - | ---------------------------------------------------------



| |  | amortize other intangible assets
| | - | --------------------------------



| |  | incur future goodwill impairment charges
| | - | ----------------------------------------



| |  | restructure our business
| | - | ------------------------



| |  | incur additional obligations to fund payment of the accounts payable and other liabilities of the acquired entity
| | - | -----------------------------------------------------------------------------------------------------------------



These difficulties could disrupt our ongoing business, divert management
resources and/or increase our expenses.



Conversely, we may be
unable to complete acquisitions that we need to remain competitive due to constrained financial resources, volatility in our stock price or other factors described in this section Risks Associated with Our Business and Future Operating
Results.



If we do not integrate acquired technology
quickly and effectively, many of the potential benefits of any acquisition may not be realized.



From time to time, we evaluate various acquisition opportunities and if we successfully complete any such acquisition transaction, we cannot assure you
that we will be able to integrate the acquired technology quickly and effectively. In order to obtain the certain benefits of any such acquisition, the acquired technology, products and services need to operate together with our technology, products
and services. We may be required to spend additional time or money on integration, which would otherwise be spent on developing our business and services or other matters. If we do not integrate the technologies effectively or if management and
technical staff spend too much time on integration issues, it could harm our business, financial condition and results of operations, which may adversely affect our stock price. In addition, the success of any such acquisition may also depend on our
ability to successfully integrate and manage the acquired operations and retain or replace the key employees of the acquired business.



Our acquisition of Broad Daylight may not be successful.



On August 12, 2003, we announced that we entered into a definitive agreement to acquire Broad Daylight and on September 3, 2003 we closed the
transaction.



The acquisition may not be successful and will
not achieve its anticipated benefits unless we successfully integrate Broad Daylights operations with those of Primus in a timely manner. Prior to the acquisition, Primus and Broad Daylight operated independently, each with its own business,
business culture, markets, customers, employees and systems.



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Integrating the operations associated with Broad Daylight may be a challenging and expensive process that may result in
revenue disruption, loss of key employees, customer uncertainty, and other operational difficulties if not completed in a timely and efficient manner. The operations associated with Broad Daylight will remain in Santa Clara, California after the
closing. The geographic separation could also increase the operational risks associated with this acquisition. If we are not successful in addressing these risks or any other problems encountered in connection with the acquisition, our business
could be harmed.



Anticipated losses from our Broad Daylight
acquisition may harm our business.



Following the closing
of our acquisition of Broad Daylight, we expect the operations associated with Broad Daylight to incur operating losses during the fourth quarter of 2003, and to fluctuate thereafter. Our expectation regarding the initial operating losses, and their
fluctuation over time, is subject to risk and uncertainty. The operating losses could adversely affect our ability to achieve or maintain profitability on a consolidated basis in any given fiscal period, which could result in a decrease in our stock
price. If the operating losses continue longer than we expect, or are greater than we expect, such losses could harm our financial position, reported operating results or stock price. Our estimate of the operating losses we are likely to incur is
based on Broad Daylights past performance and anticipated future performance. Factors that might contribute to the operating losses continuing longer than we expect, or being greater than we expect, include Broad Daylights ability to
renew existing hosting and support and maintenance agreements with its major customers on commercially reasonable terms, or at all, and price pressure from competitors.



Our network is subject to security risks that could harm our business and reputation and expose us to litigation or
liability.



Online commerce and communications depend on
the ability to transmit confidential information and licensed intellectual property securely over private and public networks. Any compromise of our ability to transmit such information and data securely, and any costs associated with preventing or
eliminating such problems, could harm our business. Online transmissions are subject to a number of security risks, including:



| |  | our own or licensed encryption and authentication technology, and access and security procedures, may be compromised, breached or otherwise be insufficient to ensure the security of
customer information or intellectual property;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | we could experience unauthorized access, computer viruses, system interference or destruction, denial of service attacks and other disruptive problems, whether
intentional or accidental, that may inhibit or prevent access to our Web sites or use of our products and services; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  | someone could circumvent our security measures and misappropriate our, our partners or our customers proprietary information or content or interrupt operations.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------



The occurrence of any of these or similar events
could damage our business, hurt our ability to distribute and/or host products and services and collect revenue, threaten the proprietary or confidential nature of our technology, harm our reputation, and expose us to litigation or liability. We may
be required to expend significant capital or other resources to protect against the threat of security breaches or hacker attacks or to alleviate problems caused by such breaches or attacks.



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Our international operations are subject to additional risks.



Revenue from customers outside the United States represented approximately
$1,444,000, or 20% of our total revenue for the quarter ended September 30, 2003. We currently customize our products for select foreign markets. In the future, we plan to develop additional localized versions of our products and localization of our
products will create additional costs and would cause delays in new product introductions. In addition, our international operations will continue to be subject to a number of other risks, including:



| |  | costs and complexity of customizing products for foreign countries
| | - | ------------------------------------------------------------------



| |  | laws and business practices favoring local competitors
| | - | ------------------------------------------------------



| |  | compliance with multiple, conflicting and changing laws and regulations
| | - | -----------------------------------------------------------------------



| |  | longer sales cycles
| | - | -------------------



| |  | greater difficulty or delay in accounts receivable collection
| | - | -------------------------------------------------------------



| |  | import and export restrictions and tariffs
| | - | ------------------------------------------



| |  | difficulties in staffing and managing foreign operations
| | - | --------------------------------------------------------



| |  | investing at appropriate levels in foreign operations to compete effectively
| | - | ----------------------------------------------------------------------------



| |  | political and economic instability
| | - | ----------------------------------



Our international operations also face foreign-currency-related risks. To date, substantially all of our revenue has been denominated in U.S. dollars, but
we believe that in the future, an increasing portion of our revenue may be denominated in foreign currencies, including the Euro, British Pound and Yen. Fluctuations in the value of foreign currencies may cause further volatility in our operating
results, reduce the accuracy of our financial forecasts and could have a material adverse effect on our business, operating results and financial condition.



Our failure to adapt to technology trends and evolving industry standards would hinder our competitiveness.



Our market is susceptible to rapid changes due to technology innovation,
evolving industry standards, and frequent new service and product introductions. New services and products based on new technologies or new industry standards expose us to risks of technical or product obsolescence. We will need to use leading
technologies effectively, continue to develop our technical expertise and enhance our existing products on a timely basis to compete successfully in this industry. We cannot be certain that we will be successful in using new technologies
effectively, developing new products or enhancing existing products on a timely basis or that any new technologies or enhancements used by us or offered to our customers will achieve market acceptance.



Our inability to continue integration of our products with other
third-party software could adversely affect market acceptance of our products.



Our ability to compete successfully also depends on the continued compatibility and interoperability of our products with products and systems sold by various third parties, including traditional eService software
sold by Amdocs/Clarify, BEA, Oracle, Peoplesoft, Remedy, Siebel and others. Currently, these vendors have open applications program interfaces, which facilitate our ability to integrate with their systems. These vendors have also been open to
licensing us rights to use their development tools to build integrations to their products. If any one of them should close their programs interface, fail to grant us necessary licenses or if they should acquire one of our competitors, our
ability to provide a close integration of our products could become more difficult and could delay or prevent our products integration with future systems.



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Failure to successfully develop versions and updates of our products that run on the operating systems
used by our current and prospective customers could reduce our sales.



Many of our products run on the Microsoft Windows NT, Microsoft Windows 2000 or certain versions of the Sun Solaris Unix and J2EE operating systems, and some require the use of third party software. Any change to our
customers operating systems could require us to modify our products and could cause us to delay product releases. In addition, any decline in the market acceptance of these operating systems we support may force us to ensure that all of our
products and services are compatible with other operating systems to meet the demands of our customers. If potential customers do not want to use the Microsoft, Sun Solaris or J2EE operating systems we support, we will need to develop more products
that run on other operating systems adopted by our customers. If we cannot successfully develop these products in response to customer demands, our business could be adversely impacted. The development of new products in response to these risks
would require us to commit a substantial investment of resources, and we might not be able to develop or introduce new products on a timely or cost-effective basis, or at all, which could lead potential customers to choose alternative products.



We rely on software licensed to us by third parties for
features we include in our solutions.



We incorporate
software licensed from third parties into our software products. As we develop enhanced versions of our software, some of the additional functionality and capabilities of our products may be a result of additional third party applications. A
significant interruption in the availability of any of the licensed third-party software could adversely affect our sales, unless and until we can replace this software with other software that performs similar functions. Because our solutions
incorporate software developed and maintained by third parties, we depend on these third parties abilities to deliver and support reliable products, enhance their current products, develop new products on a timely and cost-effective basis, and
respond to emerging industry standards and other technological changes. If third-party software offered now or in the future in conjunction with our solutions becomes obsolete or incompatible with future versions of our solutions, we may not be able
to continue to offer some of the features we presently include in our solutions unless we can license alternative software or develop the features ourselves.



Our stock price has been volatile and could fluctuate in the future.



The market price of our common stock has been highly volatile and is subject to wide fluctuations. We expect our stock price
to continue to fluctuate:



| |  | in response to quarterly variations in operating results
| | - | --------------------------------------------------------



| |  | in response to announcements of technological innovations or new products by us or our competitors
| | - | --------------------------------------------------------------------------------------------------



| |  | because of market conditions in the enterprise software industry
| | - | ----------------------------------------------------------------



| |  | in reaction to changes in financial estimates by securities analysts, and our failure to meet or exceed the expectations of analysts or investors
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------



| |  | in response to our announcements of significant acquisitions, strategic relationships or joint ventures
| | - | -------------------------------------------------------------------------------------------------------



| |  | in response to sales of our common stock
| | - | ----------------------------------------



In the past, following periods of volatility in the market price of a particular companys securities, securities class action litigation has often
been brought against that company. We are currently subject to a securities related lawsuit and the volatility of our stock price could make us a target for additional suits. Securities class action litigation could result in substantial costs and a
diversion of our managements attention and resources. See the discussion of the Companys pending legal matters in Part II, Item 1 Legal Proceedings. Volatility in our stock price could make it more difficult for us to raise
capital or complete acquisitions on favorable terms.



Our
efforts to protect our proprietary rights may be inadequate.



Our success depends in part on our ability to protect our proprietary rights. To protect our proprietary rights, we rely primarily on a combination of copyright, trade secret and trademark laws, confidentiality agreements with employees and
third parties, and protective contractual provisions such as those contained in license agreements with customers, consultants and vendors. We have not signed such agreements in every case. Despite our efforts to protect our proprietary rights,
unauthorized parties may copy aspects of our products and obtain and use information that we regard as proprietary. Other parties may breach such confidentiality agreements and other protective contracts. We may not become aware of, or have adequate
remedies in the event of, such breaches.



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We pursue the registration of some of our trademarks and service marks in the United States and in
certain other countries, but we have not secured registration of all our marks. Significant portions of our marks include the word Primus. Other companies use Primus in their marks alone or in combination with other words,
and we cannot prevent all third-party uses of the word Primus. We license certain trademark rights to third parties. Such licensees may not abide by compliance and quality control guidelines with respect to such trademark rights and may
take actions that would adversely affect our trademarks.



Other companies may claim that we infringe their intellectual property or proprietary rights.



If any of our products are found to violate third party proprietary rights, we may be liable for damages and be required to reengineer our products or
seek to obtain licenses from third parties, and such efforts may not be successful. We do not conduct comprehensive patent searches to determine whether the technology used in our products infringes patents held by third parties. Product development
is inherently uncertain in a rapidly evolving technological environment in which there may be numerous patent applications pending, which are confidential when filed, with regard to potentially similar technologies. In addition, other companies have
filed trademark applications for marks similar to the names of our products. Although we believe that our products do not infringe the proprietary rights of any third parties, third parties could assert infringement claims against us in the future.
The defense of any such claims would require us to incur substantial costs and would divert managements attention and resources to defend against any claims relating to proprietary rights, which could materially and adversely affect our
financial condition and operations. If a party succeeded in making such a claim we could be liable for substantial damages, as well as injunctive or equitable relief that could effectively block our ability to sell our products and services. Any
such outcome could have a material adverse effect on our business, financial condition, operating results and stock price. We do not carry any insurance against intellectual property infringement claims.



Product liability claims by our customers could result in unexpected costs
and damage to Primus reputation.



Our license
agreements with customers generally contain provisions designed to limit our exposure to potential product liability claims, such as disclaimers of warranties and limitations on liability for special, consequential and incidental damages. In
addition, our license agreements generally cap the amounts recoverable for damages to the amounts paid by the licensee to Primus for the product or services giving rise to the damages. However, these contractual limitations on liability may not be
enforceable and we may be subject to claims based on errors in its software or mistakes in performing its services including claims relating to damages to our customers internal systems. A product liability claim, whether or not successful,
could harm our business by increasing our costs, damaging our reputation and diverting managements attention and resources to defend any such claim, which could materially and adversely affect our financial condition, our results of operations
and our stock price.



Control by inside shareholders of a
large percentage of our voting stock may permit them to influence us in a way that adversely affects our stock price.



Our officers, directors and affiliated entities together beneficially own approximately 22% of the outstanding shares of our common stock. As a result,
these shareholders are able to substantially influence all matters requiring shareholder approval and, thereby, our management and affairs. Some matters that typically require shareholder approval include:



| |  | election of directors
| | - | ---------------------



| |  | certain amendments to our articles of incorporation
| | - | ---------------------------------------------------



| |  | merger or consolidation
| | - | -----------------------



| |  | sale of all or substantially all our assets
| | - | -------------------------------------------



This concentration of ownership may delay, deter or prevent acts that would result in a change of control, which in turn could reduce the market price of
our common stock.



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Specific provisions of our articles of incorporation and bylaws and Washington law could make it more
difficult for a third party to acquire us, even if doing so would be beneficial to our shareholders.



Our articles of incorporation and bylaws establish a classified board of directors, eliminate the ability of shareholders to call special meetings,
eliminate cumulative voting for directors and establish procedures for advance notification of shareholder proposals. The presence of a classified board and the elimination of cumulative voting may make it more difficult for an acquirer to replace
our board of directors. Further, the elimination of cumulative voting substantially reduces the ability of minority shareholders to obtain representation on the board of directors.



Our board of directors has the authority to issue up to 5,000,000 shares of preferred stock and to determine the price,
rights, preferences, privileges and restrictions, including voting rights, of those shares without any further vote or action by our shareholders. The issuance of preferred stock could have the effect of delaying, deferring or preventing a change of
control of Primus and may adversely affect the market price of the common stock and the voting and other rights of the holders of common stock.



Washington law imposes restrictions on some transactions between a corporation and significant shareholders. Chapter 23B.19 of the Washington Business
Corporation Act prohibits a target corporation, with some exceptions, from engaging in particular significant business transactions with an acquiring person, which is defined as a person or group of persons that beneficially owns 10% or more of the
voting securities of the target corporation, for a period of five years after the acquisition, unless the transaction or acquisition of shares is approved by a majority of the members of the target corporations board of directors prior to the
acquisition. Prohibited transactions include, among other things:



| |  | a merger or consolidation with, disposition of assets to, or issuance or redemption of stock to or from, the acquiring person
| | - | -----------------------------------------------------------------------------------------------------------------------------



| |  | termination of 5% or more of the employees of the target corporation
| | - | --------------------------------------------------------------------



| |  | allowing the acquiring person to receive any disproportionate benefit as a shareholder
| | - | --------------------------------------------------------------------------------------



A corporation may not opt out of this statute. This provision may have the effect of delaying, deterring or preventing a
change in control of Primus. The foregoing provisions of our charter documents and Washington law could have the effect of making it more difficult or more expensive for a third party to acquire, or could discourage a third party from attempting to
acquire Primus. These provisions may therefore have the effect of limiting the price that investors might be willing to pay in the future for our common stock.



Security breaches or equipment failure could damage our reputation and deter customers from using our services.



We must protect our computer systems and networks from physical break-ins,
security breaches and other events such as electrical disruptions, equipment failure, and fire and water damage. Computer break-ins could jeopardize the security of information stored in and transmitted through our computer systems and network,
which could adversely affect our ability to retain or attract customers, damage our reputation and subject us to litigation. We could be subject to denial of service, vandalism and other attacks on our computer systems by individuals with malicious
intentions. Although we intend to continue to implement security technology and establish operational procedures to prevent break-ins, damage and failures, these security measures may fail. Our insurance coverage in certain circumstances may be
insufficient to cover losses that may result from such events.



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Future taxation or regulation of the Web may slow our growth, resulting in decreased demand for our
products and services and increased costs of doing business.



Local, state, federal and foreign regulators could adopt additional laws and regulations that impose additional costs or other burdens on those companies that conduct business online. These laws and regulations could discourage web-based
communications and customer self-service, which could reduce demand for our products and services.



The growth and development of the market for online services may prompt calls for more stringent consumer protection laws or laws that may inhibit the use
of Internet-based communications or the information contained in these communications. The adoption of any additional laws or regulations may decrease the expansion of the Internet. The imposition of taxes or other charges would likewise deter the
use of the Internet. A decline in the growth of the Internet, particularly as it relates to online communication and customer self-service, could decrease demand for our products and services and increase our costs of doing business, or otherwise
harm our business. Any new legislation or regulation, the application of laws and regulations from jurisdictions whose laws do not currently apply to our business, or the application of existing laws and regulations to the Internet and other online
services could harm our growth and increase our costs, which could materially and adversely affect our financial condition, results of operations and our stock price.



Terrorists attacks, other acts of war or military actions may adversely affect the markets on which our Common
Stock trades, our financial condition and our results of operations.



The September 11, 2001 terrorist attacks in the United States and more recent terrorist attacks in other parts of the world, as well as continued threats of global terrorism, current and future military response to
them and the current United States military presence in Iraq have created many economic and political uncertainties that make it extremely difficult for us, our customers and our suppliers to accurately forecast and plan future business activities.
This reduced predictability challenges our ability to operate profitably or to grow our business. In addition, the continued threats of terrorism and the heightened security measures in response to such threats have caused and may continue to cause
significant disruption to commerce throughout the world. Disruption in business in response to these threats or future attacks may cause customers to defer their purchasing decisions. Disruptions in commerce could also cause consumer confidence and
spending to decrease or result in increased volatility in the United States and worldwide financial markets and economy. They also could result in economic recession in the United States or abroad. Any of these occurrences could have a significant
impact on our operating results, revenue and costs and may result in the volatility of the market price for our common stock and on the future price of our common stock.



Certain of our facilities are located near known earthquake fault zones, and the occurrence of an earthquake or other
catastrophic disaster could cause damage to our facilities and equipment, which could require us to cease or curtail operations.



Our principal facilities are located in Seattle, Washington and are vulnerable to damage from earthquakes. We are also vulnerable to damage from other
types of disasters, including fire, floods, power loss, communications failures and similar events. If any disaster were to occur, our ability to operate our business at our principal facilities would be seriously, or potentially completely,
impaired. If we begin to generate meaningful services revenues from hosting our applications for use over the Internet, there are additional risks to our ability to maintain those hosting facilities in a disaster. In addition, the unique nature of
our research activities could cause significant delays in our programs and make it difficult for us to recover from a disaster. The insurance we maintain may not be adequate to cover our losses resulting from disasters or other business
interruptions. Accordingly, an earthquake or other disaster could materially and adversely harm our ability to conduct business.



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If requirements relating to accounting treatment for employee stock options are changed, we may be
forced to change our business practices.



We currently
account for the issuance of stock options under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. If proposals currently under consideration by administrative and governmental authorities are adopted,
we may be required to treat the value of the stock options granted to employees as compensation expense. Such a change could have a negative effect on our earnings. In response to a requirement to expense the value of stock options, we could decide
to decrease the number of employee stock options granted to our employees. Such a reduction could affect our ability to retain existing employees and attract qualified candidates, and increase the cash compensation we would have to pay to them.



If accounting interpretations relating to revenue
recognition change, our reported revenues could decline or we could be forced to make changes in our business practices.



Over the last several years, the accounting profession has issued several standards and interpretations relating to revenue recognition. For example, the
Emerging Issues Task Force reached a consensus on Issue No. 00-21, Revenue Arrangements with Multiple Deliverables, the American Institute of Certified Public Accountants issued Statement of Position or SOP 97-2, Software Revenue
Recognition, and SOP 98-9 Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions. These standards address software revenue recognition matters primarily from a conceptual level and do not
include specific implementation guidance. In addition, in December 1999, the Securities and Exchange Commission staff issued Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements, or SAB 101, which explains how
the SEC staff believes existing revenue recognition rules should be applied. We believe that our revenue recognition policies are currently in compliance with SOP 97-2, SOP 98-9 and SAB 101.



The accounting profession continues to discuss certain provisions of SOP 97-2
and SAB 101 as well as other revenue recognition standards with the objective of providing guidance on potential interpretations. These discussions and the issuance of interpretations, once finalized, could lead to unanticipated changes in our
current revenue accounting practices, which could cause us to recognize revenues differently from present practice and these changes may also increase administrative costs and otherwise harm our business.



You should not unduly rely on forward-looking statements because they are
inherently uncertain.



You should not rely on
forward-looking statements in this Report. This document contains forward-looking statements that involve risks and uncertainties. We use words such as anticipates, believes, plans, expects,
future and intends, and similar expressions to identify forward-looking statements. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Report. The forward-looking
statements contained in this Report are subject to the provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Our actual results could differ materially from those anticipated in these
forward-looking statements for many reasons, including the risks described above and elsewhere in this Report and in our other reports and documents on file with the U.S. Securities and Exchange Commission.



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



We are exposed to the impact of interest rate changes and related change in the market values of our investments and foreign currency exchange risk.



Interest Rate Risk. We typically invest our excess cash
in money market accounts and in high quality corporate and municipal debt instruments. As a result, our related investment portfolio is exposed to the impact of short-term changes in interest rates. Investments in both fixed rate and floating rate
interest earning instruments carries a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted by a rise in interest rates, while floating rate securities may produce less income than expected if
interest rates fall. As a result, changes in interest rates may cause us to suffer losses in principal if forced to sell securities that have declined in market value or may cause our future investment income to fall short of expectations. Our
investment portfolio is designated as available-for-sale, and accordingly is presented at fair value in the consolidated balance sheet.



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We protect and preserve our invested funds with investment policies and procedures that limit default,
market and reinvestment risk. We have not utilized derivative financial instruments in our investment portfolio.



During the period ended September 30, 2003, decreases in interest rates on the fair market value of our cash, cash equivalents and marketable securities
had an insignificant impact on our net loss. We believe that the impact on the fair market value of our securities and our earnings for 2003 from a hypothetical 10% increase or decrease in interest rates would be insignificant.



Foreign Currency Exchange Risk. We develop products in the United
States and sell them in North America, Europe, and, through Primus KK, Asia. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets. Since our
sales are predominantly priced in U.S. dollars and translated to local currency amounts, a strengthening of the dollar could make our products less competitive in foreign markets. We have two foreign subsidiariesPrimus Knowledge Solutions (UK)
Limited and Primus Knowledge Solutions Francewhose expenses are incurred in their local currency. As exchange rates vary, their expenses, when translated, may vary from expectations and adversely impact overall expected profitability. Our
operating results have not been significantly affected by exchange rate fluctuations during the three months and nine months ended September 30, 2003 and 2002. If, during 2003, the U.S. dollar uniformly increases or decreases in strength by 10%
relative to the currency of our foreign sales subsidiaries, our operating results for 2003 would likely not be significantly affected.



ITEM 4. CONTROLS AND PROCEDURES



Evaluation of disclosure controls and procedures.The Companys President and Chief Executive Officer and Executive Vice President and Chief Financial Officer, carried out an evaluation of the effectiveness of our
disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15(d)-15(e)) as of September 30, 2003. Based on our most recent evaluation, these officers have concluded that as of September 30,
2003, our disclosure controls and procedures were adequate and designed to ensure that material information relating to us and our consolidated subsidiaries would be made known to them by others within those entities.



Changes in internal controls.There were no significant changes in our
internal controls, or to our knowledge, in other factors that could significantly affect our disclosure controls and procedures subsequent to the evaluation date.



PART II  OTHER INFORMATION



ITEM 1. LEGAL PROCEEDINGS



The
Company, an officer, former officer and FleetBoston Robertson Stephens, Inc., J.P. Morgan Securities Inc., U.S. Bancorp Piper Jaffray Inc., CIBC World Markets, Dain Rauscher, Inc. and Salomon Smith Barney Holdings Inc., the underwriters of our
initial public offering, have been named as defendants in an action filed during December 2001 in the United States District Court for the Southern District of New York on behalf of persons who purchased Primus common stock during the period from
June 30, 1999 through December 6, 2000, which was issued pursuant to the June 30, 1999 registration statement and prospectus for the Companys initial public offering. The complaint alleges that the Company and the individual defendants
violated the Securities Act of 1933 by failing to disclose excessive commissions allegedly obtained by the Companys underwriters pursuant to a secret arrangement whereby the underwriters allocated IPO shares to certain investors in exchange
for the excessive commissions, referred to as laddering. The complaint also asserts claims against the underwriters under the 1933 Act and the Securities Exchange Act of 1934 in connection with the allegedly undisclosed commissions. In October of
2002, the officer and former officer of Primus who were named as defendants in the action were dismissed without prejudice. In June 2003 the plaintiffs in this action announced a proposed settlement with the issuer defendants and their insurance
carriers. Independent members of the Companys board of directors have approved of the proposed settlement. Whether or not the settlement is concluded, the Company does not expect any material adverse impact to its business from this matter. If
the settlement is not concluded, the Company intends to vigorously defend itself and its current and former officers against this action. The results of any litigation matter are inherently uncertain and litigation frequently involves substantial
expenditures and can require significant management attention, even if the Company ultimately prevails. Accordingly, we cannot provide assurances that this action will not materially and adversely affect our business, our results of operation or our
stock price.



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In October 2003, we received notice that ServiceWare, Inc. had filed a complaint against Primus in
September 2003 in the United States District Court for the Western District of Pennsylvania, which alleges that aspects of our technology infringe one or more patents issued in 1998 alleged to be held by the plaintiff. The complaint has not been
served and, as a result, the purported lawsuit is not active. If the complaint is served, we intend to vigorously defend against the allegations asserted in this complaint and we believe the claims are without merit. If the complaint is served, we
also expect to bring a number of counterclaims against ServiceWare in this matter. The results of any litigation matter are inherently uncertain. In the event of an adverse result in this action, or in any other litigation with third parties that
could arise in the future with respect to intellectual property rights relevant to our products or services, we could be required to pay substantial damages, including treble damages if we are held to have willfully infringed, to cease the use of
infringing products or services, to expend significant resources to develop non-infringing technology or to attempt to obtain licenses to the infringing technology on commercially reasonable terms, if at all. In addition, litigation frequently
involves substantial expenditures and can require significant management attention, even if the Company ultimately prevails. Accordingly, we cannot provide assurances that this action will not materially and adversely affect our business, our
results of operation or our stock price.



ITEM 2. CHANGE IN SECURITIES



(c) Since July
1, 2003, the Company has issued the following unregistered securities:



On September 3, 2003, Primus acquired Broad Daylight, Inc., for 2,131,009 shares of Primus common stock valued at approximately $2.5 million, plus cash of approximately $140,000 and direct acquisition costs of
approximately $200,000. The fair value of the common stock issued on the acquisition was $1.19 per share, based on the average market price for a period before and after August 12, 2003.



ITEM 5. OTHER INFORMATION



On
October 31, 2003, we entered into an agreement with Michael Brochu, our President and Chief Executive Officer, to purchase all of his outstanding stock options with an exercise price at and above $3.00, or 1,239,165 stock options, which reduces the
net dilution from stock options to the Companys shareholders. Mr. Brochu has elected to apply the proceeds, after required tax withholdings of approximately $264,000, from this option disposition to his outstanding $750,000 loan from the
Company (see Note 7 of Item 1, Note Receivable From Related Party). As a result of this transaction, the outstanding principal balance on this loan has been reduced to approximately $114,000. Mr. Brochu will not retain any net proceeds
from the transaction.



Our Board of Directors, with Mr. Brochu
abstaining from discussions and voting, approved of the transaction and established the total purchase price of $997,968. We purchased 547,999 stock options (granted on November 4, 1997) with an exercise price of $3.00, 78,666 stock options (granted
on February 4, 1999) with an exercise price of $8.25, 150,000 stock options (granted on August 13, 1999) with an exercise price of approximately $20.41, 150,000 stock options (granted on February 2, 2000) with an exercise price of approximately
$74.03, 37,500 stock options (granted on May 17, 2000) with an exercise price of approximately $38.66, 75,000 stock options (granted on October 12, 2000) with an exercise price of approximately $5.31, and 200,000 stock options (granted on May 16,
2001) with an exercise price of approximately $3.49.



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The total purchase price under the transaction will be reflected as compensation expense and included in
general and administrative expenses in our consolidated financial statements for the period ending December 31, 2003. The net proceeds will be first applied against accrued interest due the Company of approximately $98,000 and the remainder will
reduce Mr. Brochus outstanding loan principal balance by approximately $636,000.



Effective November 3, 2003, Janice Peters, whose term as a director was to expire as of the Companys 2004 Annual Shareholders Meeting, resigned from the Companys board of directors.



On November 13, 2003, we entered into a noncompetition and nonsolicitation
agreement with Michael Brochu, our President and Chief Executive Officer. Our Board of Directors, consistent with their desire to ensure that Mr. Brochus incentives support the long term growth of the company in the best interests of all
shareholders and with Mr. Brochu abstaining from discussions and voting, approved of the transaction and established consideration to Mr. Brochu in exchange for this agreement of one times his annual base salary, or $310,000. The noncompetition and
nonsolicitation agreement is effective from November 13, 2003 through three years from the end date of Mr. Brochus employment for any reason. Mr. Brochu has elected to apply approximately $114,000 of the proceeds, after required tax
withholdings of approximately $82,000, to his outstanding loan from the Company (See the section entitled Related Party Transaction in Note 14 of Item 1, Subsequent Events). As a result of this prepayment, the loan will be
fully paid by December 31, 2003. We anticipate that the $310,000 of consideration under this agreement will be reflected as compensation expense and included in general and administrative expense in our consolidated financial statements for the
period ending December 31, 2003.



ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



(a)Exhibits



Exhibit
10.28 Addendum Four to Amended and Restated Distribution Agreement, dated March 31, 2003, by and between registrant and Primus Knowledge Solutions, KK.



Exhibit 10.29 Addendum Five to Amended and Restated Distribution Agreement, dated September 30, 2003, by and between registrant and
Primus Knowledge Solutions, KK.



Exhibit 31.1
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002



Exhibit 31.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002



Exhibit 32.1 Certification Pursuant to 18
U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002



Exhibit 32.2 Certification Pursuant to 18 U.S.C. Section 906, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002



(b)Reports on Form 8-K.



On August 12, 2003, Primus filed a report on Form 8-K announcing that it had
entered into a definitive agreement to acquire Broad Daylight, Inc. and also announcing its financial results for the quarter ended June 30, 2003.



On September 26, 2003, Primus filed a report on Form 8-K announcing the acquisition of Broad Daylight, Inc.



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SIGNATURES



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



|                        |  |     |  | PRIMUS KNOWLEDGE SOLUTIONS, INC.                                                 
|----------------------- |  | --- |  | ---------------------------------------------------------------------------------
|                        |  |    
|Date: November 14, 2003 |  | By: |  | /s/ Ronald M. Stevens                                                            
|                        |  |     |  | Ronald M. Stevens Chief Operating
Officer, Chief Financial Officer, and Treasurer
|                        |  |    
|                        |  |     |  | (Principal financial and chief accounting officer)                               



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