**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,D.C. 20549**

 

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#### **FORM 10-Q**

 

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**ý****        ****QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIESEXCHANGE ACT OF 1934**

 

# **For the quarterly period ended June 30, 2005**

 

**or**

 

**o****        ****TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the transition period from               to               **

 

**000-31321**

(Commission File No.)

 

**RIGHTNOWTECHNOLOGIES, INC.**

(Exact Name of Registrant asSpecified in Its Charter)

 
| **Delaware**                                                                        | ** ** | **81-0503640**                         |
|-------------------------------------------------------------------------------------|------------|----------------------------------------|
| (State or  Other Jurisdiction of  Incorporation or Organization)                    |       | (I.R.S.  Employer  Identification No.) |
|                                                                                |       |                                   |
| **40 Enterprise Boulevard**                                                         |
| **Bozeman, Montana 59718-9300**                                                     |
| (Address of  Principal Executive Offices) (Zip Code)                                |
|                                                                                |       |                                   |
| **(406) 522-4200**                                                                  |
| (Registrant’s  Telephone Number, Including Area Code)                          |
|                                                                                |       |                                   |
| **N/A**                                                                             |
| (Former  Name, Former Address and Former Fiscal Year, if Changed Since Last Report) |

 

Indicate by check mark whether theregistrant: (1) has filed all reports required to be filed by Section 13or 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 suchreports), and (2) has been subject to such filing requirements for the past 90days.  Yes ý    No o

 

Indicate by check mark whether the registrantis an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).  Yes o    No ý

 

The number of shares outstanding of theregistrant’s common stock, $0.001 par value, as of July 31, 2005 was30,623,931.

 

 

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**RightNowTechnologies, Inc.**

**QuarterlyReport on Form 10-Q**

 

**Forthe Quarterly Period Ended June 30, 2005**

 

**INDEX**

 
| **Part I.**    | ** ** |                                                                                        | **FINANCIAL INFORMATION**                             |   |   |
|----------------|------------|---------------------------------------------------------------------------------------------|-------------------------------------------------------|--------|--------|
| Item 1.        |       | Financial Statements                                                                        |                                                  |   |
|           |       | a)                                                                                     | Condensed consolidated balance sheets                 |   |   |
|           |       | b)                                                                                     | Condensed consolidated statements of  operations      |   |   |
|           |       | c)                                                                                     | Condensed consolidated statements of cash  flows      |   |   |
|           |       | d)                                                                                     | Notes to condensed consolidated financial  statements |   |   |
|           |       |                                                                                        |                                                  |   |
| Item 2.        |       | Management’s Discussion and Analysis of Financial Condition and  Results of Operations |                                                  |   |
|           |       |                                                                                        |                                                  |   |
|           |       | Risk Factors                                                                                |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 3.        |       | Quantitative and Qualitative Disclosures  About Market Risk                                 |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 4.        |       | Controls and Procedures                                                                     |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| **Part II.**   | ** ** |                                                                                        | **OTHER INFORMATION**                                 |   |   |
| Item 1.        |       | Legal Proceedings                                                                           |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 2.        |       | Unregistered Sales of Equity Securities and  Use of Proceeds                                |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 3.        |       | Defaults Upon Senior Securities                                                             |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 4.        |       | Submission of Matters to a Vote of Security  Holders                                        |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 5.        |       | Other Information                                                                           |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| Item 6.        |       | Exhibits                                                                                    |                                                  |   |
|           |       |                                                                                        |                                                  |   |
| **SIGNATURES** |       |                                                                                        |
|                |            |                                                                                             |                                                       |        |        |  |

 

2

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**Part I. FINANCIAL INFORMATION**

 

##### **Item 1. Financial Statements**

#####  

**RightNow Technologies, Inc.**

**Condensed Consolidated Balance Sheets**

(In thousands) (Unaudited)

 
| ** **                                           | ** ** | **December  31, 2004** | ** ** | **June 30,  2005** | ** ** |
|------------------------------------------------------|------------|------------------------|------------|-------------------------|------------|
| **Assets**                                           |       |                   |       |                    |       |
| Cash and  cash equivalents                           |       | $                      | 18,944     |                    | $          | 30,292 |   |
| Short-term  investments                              |       | 31,188                 |       | 24,181                  |       |
| Accounts  receivable                                 |       | 16,939                 |       | 15,799                  |       |
| Term  receivables, current                           |       | 10,090                 |       | 14,733                  |       |
| Allowance  for doubtful accounts                     |       | (1,581                 | )          | (1,608                  | )          |
| Receivables,  net                                    |       | 25,448                 |       | 28,924                  |       |
| Prepaid  expenses                                    |       | 1,255                  |       | 1,196                   |       |
| Total  current assets                                |       | 76,835                 |       | 84,593                  |       |
|                                                 |       |                   |       |                    |       |
| Property and  equipment, net                         |       | 4,393                  |       | 5,375                   |       |
| Term  receivables, non-current                       |       | 5,756                  |       | 10,234                  |       |
| Intangible  assets, net                              |       | 1,113                  |       | 1,783                   |       |
| Other                                                |       | 212                    |       | 245                     |       |
| **Total  Assets**                                    |       | $                      | 88,309     |                    | $          | 102,230 |   |
|                                                 |       |                   |       |                    |       |
| **Liabilities  and Stockholders’ Equity**       | ** ** | ** **             | ** ** | ** **              | ** ** |
| Accounts  payable                                    |       | $                      | 1,720      |                    | $          | 2,409 |   |
| Commissions  and bonuses payable                     |       | 2,648                  |       | 2,550                   |       |
| Other  accrued liabilities                           |       | 3,715                  |       | 4,191                   |       |
| Current  portion of long-term debt                   |       | —                 |       | 31                      |       |
| Current  portion of deferred revenue                 |       | 36,020                 |       | 40,669                  |       |
| Total  current liabilities                           |       | 44,103                 |       | 49,850                  |       |
|                                                 |       |                   |       |                    |       |
| Deferred  revenue, net of current portion            |       | 13,105                 |       | 16,699                  |       |
| Long-term  debt, net of current portion              |       | —                 |       | 131                     |       |
|                                                 |       |                   |       |                    |       |
| Stockholders’  equity:                          |       |                   |       |                    |       |
| Common stock                                         |       | 29                     |       | 30                      |       |
| Warrants                                             |       | 291                    |       | 107                     |       |
| Additional  paid-in capital                          |       | 72,367                 |       | 74,479                  |       |
| Accumulated  other comprehensive loss                |       | (605                   | )          | (445                    | )          |
| Accumulated  deficit                                 |       | (40,981                | )          | (38,621                 | )          |
| Total  stockholders’ equity                     |       | 31,101                 |       | 35,550                  |       |
| **Total  Liabilities and Stockholders’ Equity** |       | $                      | 88,309     |                    | $          | 102,230 |   |

 

See accompanying notes tocondensed consolidated financial statements.

 

3

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**RightNow Technologies, Inc.**

**Condensed Consolidated Statements ofOperations**

(In thousands, except per share amounts) (Unaudited)

 
| ** **                                | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
| Revenue:                                  |       |                                  |       |                                |       |   |   |   |   |
| Software,  hosting and support            |       | $                                     | 11,709     |                                | $          | 16,864 |   | $ | 22,429 |   | $ | 30,738 |   |
| Professional  services                    |       | 3,053                                 |       | 4,214                               |       | 5,190 |   | 8,682 |   |
| Total  revenue                            |       | 14,762                                |       | 21,078                              |       | 27,619 |   | 39,420 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Cost of  revenue:                         |       |                                  |       |                                |       |   |   |   |   |
| Software,  hosting and support            |       | 1,636                                 |       | 2,276                               |       | 3,215 |   | 4,340 |   |
| Professional  services                    |       | 1,573                                 |       | 2,879                               |       | 2,883 |   | 5,575 |   |
| Total cost  of revenue                    |       | 3,209                                 |       | 5,155                               |       | 6,098 |   | 9,915 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Gross profit                              |       | 11,553                                |       | 15,923                              |       | 21,521 |   | 29,505 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Operating  expenses:                      |       |                                  |       |                                |       |   |   |   |   |
| Sales and  marketing                      |       | 8,037                                 |       | 10,557                              |       | 14,885 |   | 20,014 |   |
| Research and  development                 |       | 1,807                                 |       | 2,426                               |       | 3,612 |   | 4,587 |   |
| General and  administrative               |       | 1,016                                 |       | 1,586                               |       | 2,169 |   | 2,996 |   |
| Total  operating expenses                 |       | 10,860                                |       | 14,569                              |       | 20,666 |   | 27,597 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Income from  operations                   |       | 693                                   |       | 1,354                               |       | 855 |   | 1,908 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Interest and  other income (expense), net |       | (46                                   | )          | 331                                 |       | (110 | ) | 623 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Income  before income taxes               |       | 647                                   |       | 1,685                               |       | 745 |   | 2,531 |   |
| Provision  for income taxes               |       | (13                                   | )          | (126                                | )          | (31 | ) | (171 | ) |
| Net income                                |       | $                                     | 634        |                                | $          | 1,559 |   | $ | 714 |   | $ | 2,360 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Net income  per share:                    |       |                                  |       |                                |       |   |   |   |   |
| Basic                                     |       | $                                     | 0.04       |                                | $          | 0.05 |   | $ | 0.05 |   | $ | 0.08 |   |
| Diluted                                   |       | $                                     | 0.02       |                                | $          | 0.05 |   | $ | 0.03 |   | $ | 0.07 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Shares used  in the computation:          |       |                                  |       |                                |       |   |   |   |   |
| Basic                                     |       | 15,185                                |       | 30,232                              |       | 15,012 |   | 30,025 |   |
| Diluted                                   |       | 26,187                                |       | 33,367                              |       | 25,821 |   | 33,477 |   |

 

See accompanying notes to condensedconsolidated financial statements.

 

4

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**RightNow Technologies, Inc.**

**Condensed Consolidated Statements of CashFlows**

(In thousands) (Unaudited)

 
| ** **                                                     | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                                                     | ** ** | **2004**                            | ** ** | **2005** | ** ** |
| **Operating  activities:**                                     |       |                                |       |   |   |
| Net income                                                     |       | $                                   | 714        |   | $ | 2,360 |   |
| Non-cash  adjustments:                                         |       |                                |       |   |   |
| Depreciation  and amortization                                 |       | 1,335                               |       | 1,570 |   |
| Deferred  income taxes                                         |       | —                              |       | 124 |   |
| Provisions  for losses on accounts receivable                  |       | 202                                 |       | 44 |   |
| Changes in  operating accounts:                                |       |                                |       |   |   |
| Receivables                                                    |       | (5,728                              | )          | (8,268 | ) |
| Prepaid  expenses                                              |       | (797                                | )          | 23 |   |
| Accounts  payable                                              |       | 150                                 |       | 778 |   |
| Commissions  and bonuses payable                               |       | 496                                 |       | (75 | ) |
| Other  accrued liabilities                                     |       | 868                                 |       | 579 |   |
| Deferred  revenue                                              |       | 5,523                               |       | 8,760 |   |
| Other                                                          |       | (408                                | )          | (92 | ) |
| Cash  provided by operating activities                         |       | 2,355                               |       | 5,803 |   |
|                                                           |       |                                |       |   |   |
| **Investing  activities:**                                     |       |                                |       |   |   |
| Net change  in short-term investments                          |       | —                              |       | 7,005 |   |
| Acquisition  of property and equipment                         |       | (1,619                              | )          | (2,148 | ) |
| Acquisition  of intangible assets                              |       | (406                                | )          | (1,012 | ) |
| Proceeds  from sale of property and equipment                  |       | 1                                   |       | — |   |
| Cash  provided by (used for) investing activities              |       | (2,024                              | )          | 3,845 |   |
|                                                           |       |                                |       |   |   |
| **Financing  activities:**                                     |       |                                |       |   |   |
| Proceeds  from long-term debt                                  |       | 1,675                               |       | — |   |
| Proceeds  from issuance of common stock:                       |       |                                |       |   |   |
| Initial  public offering, less offering costs                  |       | (775                                | )          | — |   |
| Employee  benefit plans                                        |       | 201                                 |       | 1,805 |   |
| Repurchase  of common stock                                    |       | (2                                  | )          | — |   |
| Payments on  long-term debt                                    |       | (860                                | )          | — |   |
| Cash  provided by financing activities                         |       | 239                                 |       | 1,805 |   |
|                                                           |       |                                |       |   |   |
| Effect of  foreign exchange rates on cash and cash equivalents |       | (18                                 | )          | (105 | ) |
|                                                           |       |                                |       |   |   |
| Increase in  cash and cash equivalents                         |       | 552                                 |       | 11,348 |   |
|                                                           |       |                                |       |   |   |
| Cash and  cash equivalents at beginning of period              |       | 8,360                               |       | 18,944 |   |
| Cash and  cash equivalents at end of period                    |       | $                                   | 8,912      |   | $ | 30,292 |   |

 

See accompanying notes to condensedconsolidated financial statements.

 

5

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**RightNowTechnologies, Inc.**

**Notes to Condensed Consolidated FinancialStatements**

(Unaudited)

 

**(1)**         Business Description and Basis of Presentation

** **

***BusinessDescription***

*** ***

RightNowTechnologies, Inc. (the “Company” or “RightNow”) provides on-demand customerrelationship management software solutions for companies of all sizes.  The Company’s on-demand software supportsmultiple customer interaction points in a business’s customer service,marketing and sales operations.  Foundedin 1997, RightNow is headquartered in Bozeman, Montana, with additional officesin Chicago, Illinois; Dallas, Texas; San Mateo, California; Princeton, New Jersey;Rochester, New York; London, England; Sydney, Australia; Munich, Germany; and aliaison office in Tokyo, Japan.  TheCompany operates in one segment, which is the customer relationship managementmarket.

 

***Basis ofPresentation***

*** ***

The accompanyinginterim condensed consolidated financial statements are unaudited.  These financial statements and notes shouldbe read in conjunction with the audited consolidated financial statements andrelated notes, together with management’s discussion and analysis of financialcondition and results of operations, contained in the Company’s Annual Reporton Form 10-K for the year ended December 31, 2004.

 

The accompanyinginterim condensed consolidated financial statements have been prepared inaccordance with accounting principles generally accepted in the UnitedStates.  In the opinion of management,the interim consolidated financial statements and notes have been prepared onthe same basis as the audited consolidated financial statements in the AnnualReport on Form 10-K and include all adjustments necessary for the fairpresentation of the Company’s financial position at June 30, 2005, andresults of operations and cash flows for the three and six month periods ended June 30,2004 and 2005.  The interim periodresults are not necessarily indicative of the results to be expected for thefull year.

 

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets, liabilities, revenuesand expenses, and disclosures of contingent assets and liabilities.  Management evaluates these estimates andassumptions on an on-going basis. Significant estimates and assumptions made by management includeestimates and assumptions regarding revenue recognition, valuation allowancesfor trade receivables and deferred income tax assets, and accounting forequity-based compensation.

 

6

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***(2)***         Certain Risks and Concentrations

*** ***

The Company’srevenue is derived from the license, hosting and support of its softwareproducts and provision of related professional services.  The market in which the Company operates ishighly competitive and rapidly changing. Significant technological changes, changes in customer requirements, orthe emergence of competitive products with new capabilities or technologiescould adversely affect the Company’s operating results.  The Company has historically derived amajority of its revenue from customer service software solutions.  These products are expected to continue toaccount for a significant portion of revenue for the foreseeable future.  As a result of this revenue concentration,the Company’s business could be harmed by a decline in demand for, or in theprices of, these products or as a result of, among other factors, any change inpricing model, a maturation in the markets for these products, increased pricecompetition or a failure by the Company to keep up with technological change.

 

The Company’scustomers are worldwide with approximately 75% of sales in the UnitedStates.  One individual customeraccounted for more than 10% of the Company’s total receivables at June 30,2005.  No single customer has representedmore than 10% of revenue in 2004 or the first six months of 2005.

 

Assets locatedoutside the United States were 7% of total assets at December 31, 2004 and6% of total assets at June 30, 2005. Revenue for the six months ended June 30, 2004 and 2005 fromforeign customers was 27% and 23% of total revenue, respectively.  The loss from operations outside of theUnited States totaled $3.1 million for the year ended December 31, 2004and $3.5 million for the six months ended June 30, 2005.  Revenue by geographical region follows (inthousands):

 
| ** **     | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **     | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|           |       |                                  |       |                                |       |   |   |   |   |
| United  States |       | $                                     | 10,955     |                                | $          | 16,652 |   | $ | 20,143 |   | $ | 30,408 |   |
| Europe         |       | 3,553                                 |       | 3,372                               |       | 5,996 |   | 6,124 |   |
| Asia Pacific   |       | 254                                   |       | 1,054                               |       | 1,480 |   | 2,888 |   |
|           |       | $                                     | 14,762     |                                | $          | 21,078 |   | $ | 27,619 |   | $ | 39,420 |   |

 

7

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**(3)****        ****Net Income Per Share**

 

***Areconciliation of the denominator used in the calculation of basic and dilutednet income per share is as follows (in thousands):***

 
| ** **                                                                 | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                 | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                                                                       |       |                                  |       |                                |       |   |   |   |   |
| Weighted  average common shares outstanding for basic net income per share |       | 15,185                                |       | 30,232                              |       | 15,012 |   | 30,025 |   |
| Effect of  dilutive securities:                                            |       |                                  |       |                                |       |   |   |   |   |
| Convertible  preferred stock                                               |       | 7,265                                 |       | —                              |       | 7,265 |   | — |   |
| Employee  stock options                                                    |       | 3,674                                 |       | 3,103                               |       | 3,481 |   | 3,405 |   |
| Warrants                                                                   |       | 63                                    |       | 32                                  |       | 63 |   | 47 |   |
| Weighted  average shares outstanding for dilutive net income per share     |       | 26,187                                |       | 33,367                              |       | 25,821 |   | 33,477 |   |

 

The followingcommon stock equivalents were excluded from the computation of diluted earningsper share because their impact was anti-dilutive (in thousands):

 
| ** **              | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **              | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                    |       |                                  |       |                                |       |   |   |   |   |
| Employee  stock options |       | 698                                   |       | 909                                 |       | 580 |   | 608 |   |

 

**(4)****        ****Comprehensive Income**

 

***Comprehensiveincome for the comparative periods was as follows (in thousands):***

 
| ** **                                 | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|--------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                 | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                                       |       |                                  |       |                                |       |   |   |   |   |
| Net income                                 |       | $                                     | 634        |                                | $          | 1,559 |   | $ | 714 |   | $ | 2,360 |   |
| Other  comprehensive income (loss):        |       |                                  |       |                                |       |   |   |   |   |
| Foreign  currency translation adjustment   |       | (320                                  | )          | 157                                 |       | (433 | ) | 185 |   |
| Unrealized  loss on short-term investments |       | —                                |       | 15                                  |       | — |   | (27 | ) |
| Comprehensive  income                      |       | $                                     | 314        |                                | $          | 1,731 |   | $ | 281 |   | $ | 2,518 |   |

 

8

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**(5)****        ****Equity-Based Compensation**

 

***TheCompany has adopted the disclosure-only provisions of Statement of FinancialAccounting Standards No. 123 (“SFAS 123”),***Accounting for Stock-Based Compensation, and Statement of FinancialAccounting Standards No. 148, Accounting forStock-Based Compensation – Transition and Disclosure, but applies AccountingPrinciples Board Opinion No. 25 (“APB 25”) and related interpretations inaccounting for its stock plans. Under APB 25, when the exercise price of anemployee stock option equals the estimated market price of the underlying stockon the date of grant, no compensation expense is recognized.

*** ***

Pro forma informationregarding results of operations has been determined as if the Company hadaccounted for its stock options under the appropriate minimum value or fairvalue method.  The Company uses theBlack-Scholes valuation model to estimate the value of stock options grantedunder its equity incentive plans and stock purchased under the 2004 EmployeeStock Purchase Plan.  The estimatedweighted average value per share of stock options granted in the six monthsended June 30, 2004 and 2005 was $3.93 and $7.03, respectively.  The estimated value of shares purchased underthe 2004 Employee Stock Purchase Plan for the six months ended June 30,2005 was $5.79.  Assumptions used toobtain the estimated values were:  

 
| ** **                       | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                       | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
| Employee  stock options          |       |                                  |       |                                |       |   |   |   |   |
| Weighted  average risk free rate |       | 3.7                                   | %          | 3.8                                 | %          | 3.6 | % | 3.9 | % |
| Expected  term                   |       | 5 years                               |       | 5 years                             |       | 5 years |   | 5 years |   |
| Volatility                       |       | 82                                    | %          | 75                                  | %          | 67 | % | 75 | % |
| Dividend  yield                  |       | 0                                     | %          | 0                                   | %          | 0 | % | 0 | % |
|                             |       |                                  |       |                                |       |   |   |   |   |
| Employee  stock purchase plan    |       |                                  |       |                                |       |   |   |   |   |
| Risk free  rate                  |       | —                                |       | 2.9                                 | %          | — |   | 2.9 | % |
| Expected  term                   |       | —                                |       | 0.5 yrs                             |       | — |   | 0.5 yrs |   |
| Volatility                       |       | —                                |       | 74                                  | %          | — |   | 74 | % |
| Dividend  yield                  |       | —                                |       | 0                                   | %          | — |   | 0 | % |

 

Had the Companyrecorded compensation expense in accordance with SFAS No. 123, net income wouldhave been (in thousands, except per share data):

 
| ** **                      | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|---------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                      | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                            |       |                                  |       |                                |       |   |   |   |   |
| Net income  as reported         |       | $                                     | 634        |                                | $          | 1,559 |   | $ | 714 |   | $ | 2,360 |   |
| Less  equity-based compensation |       | (492                                  | )          | (1,393                              | )          | (583 | ) | (1,984 | ) |
| Pro forma  net income           |       | $                                     | 142        |                                | $          | 166 |   | $ | 131 |   | $ | 376 |   |
|                            |       |                                  |       |                                |       |   |   |   |   |
| Net income  per share:          |       |                                  |       |                                |       |   |   |   |   |
| Basic:                          |       |                                  |       |                                |       |   |   |   |   |
| As reported                     |       | $                                     | 0.04       |                                | $          | 0.05 |   | $ | 0.05 |   | $ | 0.08 |   |
| Pro forma                       |       | 0.01                                  |       | 0.01                                |       | 0.01 |   | 0.01 |   |
| Diluted:                        |       |                                  |       |                                |       |   |   |   |   |
| As reported                     |       | $                                     | 0.02       |                                | $          | 0.05 |   | $ | 0.03 |   | $ | 0.07 |   |
| Pro forma                       |       | 0.01                                  |       | 0.01                                |       | 0.01 |   | 0.01 |   |

 

9

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The Company’sequity incentive plans provide annual option grants to its non-employee membersof the board of directors, which vest immediately upon grant, at each annualmeeting of shareholders.  Pro formacompensation expense for these non-employee director grants was approximately$395,000 and $656,000 for the quarters ended June 30, 2004 and 2005,respectively.

 

From time to timethe Company grants to certain of its consultants options to purchasestock.  The Company accounts forconsultant stock options in accordance with SFAS 123 and Emerging Issues TaskForce Consensus Issue No. 96-18 (“EITF 96-18”), *Accounting for Equity Instruments that are Issued to Other ThanEmployees for Acquiring, or in Conjunction With Selling, Goods or Services*.  Compensation expense for the grant of stockoptions to consultants is determined based on the estimated fair value of thestock options at the measurement date as defined in EITF 96-18 and isrecognized over the vesting period.

 

In December 2004,the Financial Accounting Standards Board issued SFAS No. 123R (“123R”), *Share-Based Payment*, which replaces SFASNo. 123 and supercedes APB 25.  Statement123R covers a wide range of share-based compensation, including share options,restricted share plans, performance-based awards, share appreciation rights,and employee share purchase plans.  Thestatement requires the recognition of compensation cost related to share-basedpayment plans to be recognized in financial statements based on the fair valueof the equity or liability instruments issued. The Company expects that this accounting change will materially andadversely affect its reported results of operations because the stock-basedcompensation expense will be charged directly against earnings.  The Company expects to adopt the provisionsof 123R using the modified prospective method beginning January 1, 2006.

 

**(6)**         Commitments and Contingencies

** **

***Warranties andIndemnification***

*** ***

The Company’son-demand application service is typically warranted to perform in accordancewith its user documentation.

 

The Company’sarrangements generally include certain provisions for indemnifying customersagainst liabilities if its products or services infringe a third-party’sintellectual property rights.  To date,the Company has not incurred any material costs as a result of suchindemnifications and has not accrued any liabilities related to suchobligations in the accompanying condensed consolidated financial statements.

 

The Company hasentered into service level agreements with a small number of its customerswarranting certain levels of uptime reliability and permitting those customersto receive credits or terminate their license agreements in the event that theCompany fails to meet those levels.  Todate, the Company has not provided any material credits, and no licenseagreements have been terminated, related to these service level agreements.

 

The Company hasalso agreed to indemnify its directors and executive officers for costsassociated with any fees, expenses, judgments, fines and settlement amountsincurred by any of these persons in any action or proceeding to which any ofthose persons is, or is threatened to be, made a party by reason of the person’sservice as a director or officer, including any action by the Company, arisingout of that person’s services as the Company’s director or officer or thatperson’s services provided to any other company or enterprise at the Company’srequest.

 

10

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***Litigation***

*** ***

From time to time,the Company is involved in legal proceedings arising in the normal course ofbusiness.  The Company believes that theresolution of these matters will not have a material effect on the Company’sconsolidated financial position, results of operations or liquidity.

 

**(7)**         Acquisition of Convergent Voice Assets

** **

**In May2005, the Company purchased the intellectual property and other assets, andhired certain personnel, of Convergent Voice, Inc.  Convergent Voice has developed voice enabledautomation technologies that, when combined with the Company’s applications,enable: a) telephone queries of the Company’s knowledgebase; b) submission ofquestions over the phone that can be subsequently answered eitherelectronically or by a return phone call; and c) submission of queries thataccess back office systems, such as an order processing system, to obtainstatus of an order.  The Company hadpreviously licensed certain Convergent Voice technologies for more than twoyears.**

** **

**Thepurchase price consisted of $1 million paid in cash on May 5, 2005 to theConvergent Voice owners, and $15,000 of transaction costs.  Approximately $935,000 of the purchase pricewas allocated to identifiable intangible assets based on a discounted cash flowanalysis.  The identifiable intangibleassets consist primarily of developed software, and will be amortized toearnings over a period of five years. The remaining purchase price of approximately $80,000 was allocated toother tangible assets acquired based on their estimated net realizable value orreplacement cost.**

** **

Pro forma resultsof the business combination have not been provided because the effect is notmaterial on an individual or aggregate basis.

 

**(8)**         Leases

** **

In the firstquarter of 2005 the Company extended two office lease agreements, and enteredinto a new office lease agreement, with Genesis Partners, LLC.  Annual minimum payments under operatingleases are approximately $1.2 million in 2005 through 2009, approximately$750,000 in 2010, and approximately $150,000 thereafter.  One of the office agreements contains$162,000 of tenant improvements, which have been capitalized and will beamortized over their expected useful lives of seven years.  The Company’s chief executive officer is a50% member, and the Company’s Vice President of North American Sales is a 25%member, of Genesis Partners, LLC.   TheCompany expects to renew two of the office leases upon their term expirationsin five years.

 

**(9)**         Subsequent Events

** **

In July 2005the Company’s Vice President of Marketing and Business Development wasdischarged and, under the provisions of the employment agreement, the Companyexpects to incur approximately $300,000 in cash severance expenses in the thirdquarter of 2005.  Also under the terms ofthe employment agreement, an additional 25% of unvested stock options becomefully vested as of the date of termination.

 

11

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

 

***Cautionary Statement***

*** ***

*The followingdiscussion and analysis of our financial condition and results of operationsshould be read in conjunction with the condensed consolidated financialstatements and related notes in this report. This discussion contains forward-looking statements that involve risksand uncertainties.  Our actual resultscould differ significantly from those projected in the forward-lookingstatements as a result of factors, including those discussed under “RiskFactors” and elsewhere in this report. We assume no obligation to update the forward-looking statements or suchrisk factors.*

 

***Overview***

*** ***

We are a leading provider of on-demandsolutions for the customer relationship management (“CRM”) market.  We offer a broad suite of solutions toaddress the customer service, sales and marketing requirements of large, mediumand small enterprises.

 

We released our initial version of RightNowService in 1997.  This product addressedthe new customer service needs resulting from the increasing use of theInternet as a customer service channel. Since then, we have significantly enhanced product features andfunctionality to address customer service needs across multiple communicationchannels, including web, interactive voice, e-mail, chat, telephone andproactive outbound e-mail communications. We have also added several productsthat are complementary to our RightNow Service solution, including RightNowMetrics and RightNow Locator.  In 2003,we introduced an e-mail marketing automation solution, RightNow Outbound.  In October 2004, we introduced RightNowCRM, which is comprised of three applications built on a common base:  RightNow Service, RightNow Sales and RightNowMarketing.  In May 2005, we purchased theintellectual property and other assets, and hired certain employees, ofConvergent Voice, Inc., a developer of voice recognition software thatintegrates with RightNow solutions. To date, approximately 90% of our revenuehas been generated from sales of RightNow Service.

 

Our client base currently consists of morethan 1,300 active clients.  During thesix months ended June 30, 2005, our products served approximately 342million customer interactions, or unique sessions hosted by our solutions.  Our solutions, whether sold pursuant to termor perpetual licenses, are available either on a hosted basis, where they aredeployed in our co-location facilities and accessed on-demand by our clients,or on a non-hosted basis, where our clients deploy them in their ownfacilities.  Approximately 86% of ourclients have elected the hosted option as of June 30, 2005.  We distribute our solutions primarily throughdirect sales efforts and to a lesser extent through indirect channels.

 

***Sources of Revenue***

*** ***

Our revenue is comprised of fees for term andperpetual licenses of our software, fees for hosting and support related to ourlicenses, and fees for professional services. Our term license agreements,which are generally two years in length but can range from six months to fouryears, include our software and related upgrades, hosting and support for theterm of the agreement. The majority of our revenue in each of our last threeyears and the six months ended June 30, 2005 was derived from two-yearterm license agreements.  We also offermonthly term license agreements that contain a minimum commitment period of atleast 12 months and include our software and related upgrades, hosting andsupport.  Perpetual licenses aretypically sold with annual maintenance contracts that include upgrades, hostingand support.

 

Hosting and support agreements providemaintenance and management of our software at a third-party facility, technicalsupport for our software products, and unspecified product upgrades on a whenand if available basis.

 

12

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Professional services revenue is comprised ofrevenue from consulting, education and development services, and reimbursementof related travel costs.  Consulting andeducation services include implementation and best practices servicesconsulting.  Development services includecustomizations and integrations for a client’s specific business application.

 

Our software license agreements provide forthe purchase of a fixed amount of capacity, which is measured primarily by webpages served, user seats, outgoing email transactions, or minutes used, andcertain other fixed fees.  A number ofour agreements provide for additional fees for usage above established levels,which are billed and recognized into revenue when earned.

 

Professional services, consisting ofconsulting, education and development services, are sold with initial licenseagreements and periodically over the client engagement. The average deploymenttime for our clients is approximately 50 to 60 days, which is a slight increasefrom previous quarters due to the release of new products and largerimplementations. We typically invoice clients for the entire amount at thebeginning of the agreement with payment generally due within 30 days for ourterm and perpetual license agreements, or due monthly for our monthlyagreements.  Our typical educationcourses are billed on a per person, per class basis.

 

Depending on the size and complexity of theclient project, our consulting or development services contracts are eitherfixed price/fixed scope or, less frequently, billed on a time and materialsbasis. We have determined that the professional services element of oursoftware arrangements is not essential to the functionality of thesoftware.  We have also determined thatour professional services: a) are available from other vendors; b) do notinvolve a significant degree of risk or unique acceptance criteria; and c)qualify for separate accounting as we have sufficient experience in providingsuch services.

 

***Cost of Revenue and Operating Expenses***

*** ***

*Cost ofRevenue.   *Cost of revenueconsists primarily of salaries and related expenses for our hosting, supportand professional services organizations, third-party costs and equipmentdepreciation relating to our hosting services, third-party costs forinteractive voice self-service applications, travel expenses related to providingprofessional services to our clients, amortization of acquired intangibleassets and allocated overhead. We allocate most overhead expenses, such asoffice supplies, computer supplies, utilities, rent, depreciation for furnitureand equipment, payroll taxes and employee benefits, based on headcount. As aresult, overhead expenses are reflected in each cost of revenue and operatingexpense category.

 

Our hosting costs are affected by thepercentage of clients who license our products on a hosted basis and the numberof times our clients and their customers use our solutions, which we refer toas customer interactions. As a result of economies of scale in our hostinginfrastructure and declines in computer hardware and telecommunications costs,we have been able to reduce hosting costs as a percentage of total revenue in2003, 2004, and the first six months of 2005, despite significant increases inthe number of hosted clients and the level of customer interactions

 

As our client base and solutions usage grows,we intend to continue to invest additional resources in our hosting services,technical support and professional services. We expect our professionalservices costs to increase in absolute dollars as we increase our professionalservices as a percentage of total revenue. Because cost as a percentage ofrevenue is higher for professional services revenue than for software, hostingand support revenue, an increase in professional services as a percentage oftotal revenue reduces gross profit as a percentage of total revenue. During thefirst six months of 2005, gross profit as a percentage of total revenuedeclined to 75% from 78% in the comparable period in 2004 due to an increase inprofessional services as a percentage of total revenue, combined with higherprofessional services costs in 2005.

 

13

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*Sales and MarketingExpenses. *Sales andmarketing expenses consist primarily of salaries and related expenses foremployees in sales and marketing, including commissions and bonuses,advertising, marketing events, corporate communications, product managementexpenses, travel costs and allocated overhead. We expense our sales commissionsat the time the related sale is invoiced to the client and we recognize themajority of our revenue from our agreements ratably over the terms of thelicenses. Accordingly, we generally experience a delay between increasing salesand marketing expenses and the recognition of corresponding revenue. We expectsignificant additional increases in sales and marketing expenses in absolutedollars as we continue to hire additional sales and marketing personnel andincrease the level of marketing activities.

 

*Research andDevelopment Expenses. *Research anddevelopment expenses consist primarily of salary and related expenses fordevelopment personnel and costs related to the development of new products,enhancement of existing products, translation fees, quality assurance, testingand allocated overhead. To date, we have not capitalized any softwaredevelopment costs because the timing of the commercial releases of our productshas substantially coincided with the attainment of technological feasibility.As a result, research and development costs have been expensed as incurred. Weintend to continue to expand and enhance our product offerings. To accomplishthis, we plan to hire additional personnel and, from time to time, contractwith third parties. We expect that research and development expenses willincrease in absolute dollars as we seek to expand our technology and productofferings.

 

*General andAdministrative Expenses*. General and administrative expenses consist primarily of salary andrelated expenses for management, finance and accounting, legal, informationsystems and human resources personnel, professional fees, other corporateexpenses and allocated overhead. We anticipate that we will incur additionalemployee salaries and related expenses, professional service fees and insurancecosts related to the growth of our business and operations.

 

***Critical AccountingPolicies and Estimates***

*** ***

Our financial statements and accompanyingnotes are prepared in accordance with accounting principles generally acceptedin the United States.  Preparingfinancial statements requires management to make estimates and assumptions thataffect the reported amounts of assets, liabilities, revenues and expenses.  These assumptions are affected by management’sapplication of accounting policies.  Ourcritical accounting policies include: revenue recognition; valuation ofreceivables and deferred tax assets; and accounting for equity-based compensation.

 

We believe the following critical accountingpolicies require us to make significant judgments and estimates in thepreparation of our consolidated financial statements:

 

***Revenue Recognition***

*** ***

Software, hosting and support revenue iscomprised of fees from term and perpetual licenses of the Company’s software,hosting and support.  To date we have notentered into an arrangement solely for the license of products and, thereforewe have not demonstrated vendor specific objective evidence (VSOE) of fair valuefor the license element.  Consequently,we recognize revenue for the fees associated with the term license and therelated hosting and support ratably over the term of the agreement, which isgenerally two years, but can range between six months and four years.  We have established VSOE for the annualhosting and support elements sold with each perpetual license based on theprice paid when sold separately. Accordingly, we recognize revenue for each perpetual license using theresidual method in accordance with Statement of Position (SOP) 98-9, *Modification of SOP 97-2, Software RevenueRecognition With Respect to Certain Transactions*.  Amounts that have been invoiced to clientsare recorded to accounts or term receivables and deferred revenue.  Deferred revenue is then recognized intorevenue when earned.

 

We begin to recognize revenue from thelicensing, hosting and support of our products when all the following criteriaare met: a) we have entered into a legally binding agreement with the client;b) our products and services have been delivered or made available to theclient; c) our fee for providing the products and services is determinable; andd) we believe collection of our fee is reasonably probable.

 

14

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VSOE of fair value of services in multipleelement arrangements is based upon rates for consulting, education anddevelopment services, which we charge in stand-alone contracts forservices.  We recognize revenue fromprofessional services when they are delivered.

 

***Valuation of Receivables***

*** ***

We regularly assess the collectibility ofoutstanding customer invoices and, in so doing, we maintain an allowance forestimated losses resulting from the non-collection of customerreceivables.  In estimating thisallowance, we consider factors such as: historical collection experience; acustomer’s current creditworthiness; customer concentration; age of thereceivable balance; and general economic conditions that may affect a customer’sability to pay.  Actual customercollections could differ from our estimates and exceed our related lossallowance.

 

***Income Taxes***

*** ***

We record income taxes under the asset andliability method.  Deferred tax assetsand liabilities are recognized for the future tax consequences attributable todifferences between the financial statement carrying amounts of existing assetsand liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax ratesexpected to apply to taxable income in the years in which those temporarydifferences are expected to be recovered or settled.  The effect of a change in tax rates ondeferred tax assets and liabilities is recognized in income in the period thatincludes the enactment date.  Whenapplicable, a valuation allowance is established to reduce any deferred taxasset when it is determined that it is more likely than not that some portionof the deferred tax asset will not be realized.

 

We have established a valuation allowanceequal to our net deferred tax assets due to uncertainties regarding therealization of our net operating loss carryforwards, tax credits, anddeductible timing differences.  Theuncertainty of realizing these benefits is based primarily on our lack ofhistorical earnings.

 

***Equity-Based Compensation***

*** ***

We account for our employee stock-basedcompensation using the intrinsic value method in accordance with AccountingPrinciples Board Option (“APB”) No. 25, *Accountingfor Stock Issued to Employees*. We make disclosure regarding employee stock-based compensation using thefair value method in accordance with SFAS No. 123, *Accounting for Stock-Based Compensation*, and SFAS No. 148, *Accounting for Stock-Based Compensation – Transitionand Disclosure*.  We havecalculated the fair value of options granted and have determined the pro formaimpact on net income (loss).  We accountfor equity instruments issued to non-employees in accordance with theprovisions of SFAS No. 123 and Emerging Issues Task Force (“EITF”) No. 96-18, *Accounting for Instruments that are Issued to OtherThan Employees for Acquiring, or in Conjunction with Selling Goods or Services*.

 

In measuring the cost of equity-basedcompensation, we make assumptions regarding our stock price volatility and theaverage expected life of our outstanding stock options.  Our assumptions are based on our historicalinformation, some of which was developed when we were a private company, whichare then compared with other like companies for reasonableness.  Actual results could differ from ourestimates.

 

15

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***Recently IssuedAccounting Standards***

*** ***

In December 2004, the FinancialAccounting Standards Board issued Statement of Financial Accounting StandardsNo. 123R (“SFAS 123R”), *Share-Based Payment*,which replaces SFAS 123 and supercedes APB No. 25.  The statement’s effective date was amended inApril 2005 to apply to certain public companies beginning with their firstfiscal year beginning after June 15, 2005. SFAS 123R covers a wide range of share-based compensation, includingshare options, restricted share plans, performance-based awards, shareappreciation rights, and employee share purchase plans.  The statement requires the recognition ofcompensation cost related to share-based payment plans to be recognized infinancial statements based on the fair value of the equity or liabilityinstruments issued.  We expect thatadoption of the provisions of SFAS 123R beginning January 1, 2006 willmaterially and adversely affect our reported results of operations because thestock-based compensation expense will be charged directly against reportedearnings.  We do not expect theaccounting change to materially affect our liquidity because stock-basedcompensation is a non-cash expense.

 

***Results of Operations***

*** ***

The following table sets forth certainconsolidated statement of operations data expressed as a percentage of totalrevenue for the periods indicated:

 
| ** **                                | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
| Revenue:                                  |       |                                  |       |                                |       |   |   |   |   |
| Software,  hosting and support            |       | 79                                    | %          | 80                                  | %          | 81 | % | 78 | % |
| Professional  services                    |       | 21                                    |       | 20                                  |       | 19 |   | 22 |   |
| Total  revenue                            |       | 100                                   |       | 100                                 |       | 100 |   | 100 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Cost of  revenue:                         |       |                                  |       |                                |       |   |   |   |   |
| Software,  hosting and support            |       | 11                                    |       | 11                                  |       | 12 |   | 11 |   |
| Professional  services                    |       | 11                                    |       | 14                                  |       | 10 |   | 14 |   |
| Total cost  of revenue                    |       | 22                                    |       | 25                                  |       | 22 |   | 25 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Gross profit                              |       | 78                                    |       | 75                                  |       | 78 |   | 75 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Operating  expenses:                      |       |                                  |       |                                |       |   |   |   |   |
| Sales and  marketing                      |       | 55                                    |       | 50                                  |       | 54 |   | 51 |   |
| Research and  development                 |       | 12                                    |       | 12                                  |       | 13 |   | 12 |   |
| General and  administrative               |       | 7                                     |       | 7                                   |       | 8 |   | 7 |   |
| Total  operating expenses                 |       | 74                                    |       | 69                                  |       | 75 |   | 70 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Income from  operations                   |       | 4                                     |       | 6                                   |       | 3 |   | 5 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Interest and  other income (expense), net |       | —                                |       | 2                                   |       | — |   | 2 |   |
|                                      |       |                                  |       |                                |       |   |   |   |   |
| Income before  income taxes               |       | 4                                     |       | 8                                   |       | 3 |   | 7 |   |
| Provision  for income taxes               |       | —                                |       | (1                                  | )          | — |   | (1 | ) |
| Net income                                |       | 4                                     | %          | 7                                   | %          | 3 | % | 6 | % |

 

16

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The following table sets forth our on-demandcustomer interactions and percent of clients hosting and our revenue by typeand geography expressed as a percentage of total revenue for each of theperiods indicated:

 
| ** **                                      | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                      | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                                            |       |                                  |       |                                |       |   |   |   |   |
| Customer  interactions                          |       | 110                                   |       | 176                                 |       | 212 |   | 342 |   |
| Percentage  of clients hosting                  |       | 85                                    | %          | 86                                  | %          | 85 | % | 86 | % |
|                                            |       |                                  |       |                                |       |   |   |   |   |
| Revenue by  type:                               |       |                                  |       |                                |       |   |   |   |   |
| Recurring  (term licenses, hosting and support) |       | 56                                    | %          | 51                                  | %          | 61 | % | 54 | % |
| Perpetual  licenses                             |       | 23                                    |       | 29                                  |       | 20 |   | 24 |   |
| Professional  services                          |       | 21                                    |       | 20                                  |       | 19 |   | 22 |   |
|                                            |       |                                  |       |                                |       |   |   |   |   |
| Revenue by  geography:                          |       |                                  |       |                                |       |   |   |   |   |
| United  States                                  |       | 74                                    | %          | 79                                  | %          | 73 |   | 77 | % |
| Europe                                          |       | 24                                    |       | 16                                  |       | 22 |   | 16 |   |
| Asia Pacific                                    |       | 2                                     |       | 5                                   |       | 5 |   | 7 |   |

 

***Overview of Current Period***

*** ***

The quarter ended June 30, 2005represented our 30th consecutive quarter of revenue growth. Totalrevenue for the quarter ended June 30, 2005 increased 43% over thecomparable period in 2004 from growth in our average number of customers andgrowth in our average selling prices. Gross profit for the three months ended June 30, 2005 was 3percentage points lower than the comparable period in 2004 due to a decreasedmargin on professional services revenue. Operating expenses for the three months ended June 30, 2005, intotal, increased 34% over the three months ended June 30, 2004 due to ourinvestment in personnel to support our overall growth.  Operating income for the second quarter of2005 was 6% of revenue as compared to 5% of revenue in the second quarter of2004.

 

Our revenue growth in 2004 and the first halfof 2005 resulted from the release of broader product offerings, a correspondingincrease in service offerings, and the addition of sales personnel focused onnew client acquisition.   In the secondquarter of 2005, we signed 80 new customers, bringing our total active clientbase to more than 1,300.

 

For the three months ended June 30,2005, we generated $2.6 million of cash from operations compared to $2.0million of cash in the comparable 2004 quarter, and increased our deferredrevenue to $57.4 million at June 30, 2005 from $40.8 million one yearearlier.

 

As of June 30, 2005, we had anaccumulated deficit of $38.6 million. This deficit resulted primarily from costs incurred in the development,sales and marketing of our products and for general and administrativepurposes.  We intend to continue toinvest in our sales and marketing activities, product development and businessinfrastructure.  During periods ofinvestment and growth, because the majority of expenses are recorded asincurred and the majority of revenue is deferred, we anticipate that any growthin revenue will be largely offset by an increase in cost of revenue andoperating expenses.

 

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***Three and Six Months Ended June 30, 2004 and 2005***

*** ***

***Revenue***

 
| ** **                     | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| **(Amounts in thousands)**     | ** ** | **2004**                             | ** ** | **2005**                           | ** ** | **Percent  Change** | ** ** | **2004** | ** ** | **2005** | ** ** | **Percent  Change** | ** ** |
|                           |       |                                 |       |                               |       |   |   |   |   |   |   |   |   |
| Software,  hosting and support |       | $                                    | 11,709     |                               | $          | 16,864 |   | 44 | % | $ | 22,429 |   | $ | 30,738 |   | 37 | % |
| Professional  services         |       | 3,053                                |       | 4,214                              |       | 38 |   | 5,190 |   | 8,682 |   | 67 |   |
| Total  revenue                 |       | $                                    | 14,762     |                               | $          | 21,078 |   | 43 | % | $ | 27,619 |   | $ | 39,420 |   | 43 | % |

 

*Software, hostingand support*

 

For the quarter ended June 30, 2005,software, hosting and support revenue increased $5.2 million, or   44%, over the second quarter of 2004.  The increase resulted primarily from a 25%increase in average revenue per client and a 16% increase in the average numberof clients.  Average revenue per clienthas grown from additional usage and upgrades and enhancements purchased byclients.  The increase in the averagenumber of clients was primarily due to the addition of sales representativesfocused on new client acquisition. Recurring software, hosting and support revenue was $10.8 million in thequarter ended June 30, 2005, or 29% more than the comparable quarter in2004.

 

Perpetual license fee revenue represented 29%of total revenue in the quarter ended June 30, 2005 compared to 23% in thequarter ended June 30, 2004.  Themix of perpetual license revenue affects our overall profitability in any givenperiod since it is recorded into revenue upon delivery instead of being ratablyrecognized into revenue, as is the case with term licenses.  Over the previous eight quarters, perpetuallicense revenue has ranged between 15% and 29% of total revenue.  We believe there are many factors that causeour perpetual license revenue to fluctuate as a percentage of total revenue,including the strategic importance of our products in client organizations,client planning horizons, and client purchasing preferences and patterns.  We expect perpetual license revenue tocontinue to fluctuate in future periods.

 

For the six months ended June 30, 2005,software, hosting and support revenue increased $8.3 million, or 37%, from thecorresponding period in 2004.  Bothaverage number of clients served and average revenue per client increased 17%in the first half of 2005 as compared to the first half of 2004.  Recurring software, hosting and supportrevenue increased $4.5 million, or 27%, in the first six months of 2005compared to the first six months of 2004. Perpetual license revenue increased $3.8 million, or 68%, in the firstsix months of 2005 as compared to the similar period in 2004.

 

*Professionalservices*

 

For the quarter ended June 30, 2005,professional services revenue increased $1.2 million, or 38%, over the secondquarter of 2004.  Average professionalservices revenue per client increased 19% in the second quarter of 2005compared to the second quarter of 2004, and average number of clients increased16%.  Revenue per client increased fromhigher utilization in the second quarter of 2005, and from our focus onexpanding service offerings provided in conjunction with our broader productofferings.  We increased our capacity todeliver professional services by increasing our average employee count to 88employees during the quarter ended June 30, 2005 from 45 employees oneyear earlier.

 

Professional services revenue for the firstsix months of 2005 increased $3.5 million, or 67%, over the comparable periodin 2004 mostly due to growth in average number of clients and averageprofessional services revenue per client. In addition, we started 2005 with an unusually high backlog ofprofessional services caused, in part, by schedule deferrals around theholiday season.  Consequently, firstquarter 2005 professional services revenue was 6% more than the second quarterof 2005.

 

The mix of professional services revenue tototal revenue also affects our operating results from period-to-period, due tothe lower gross profit earned on professional services revenue as compared to

 

18

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software, hosting and support revenue.  The amount of professional services revenuein any quarter is primarily a function of the number and complexity ofconsultation and training engagements. During the past eight quarters, professional services revenue has rangedfrom 17% to 24% of total revenue.  Weexpect professional services revenue to range between 20% and 25% of totalrevenue in future periods.

 

Revenue from European and Asia Pacificcustomers increased $1.5 million, or 21%, in the first half of 2005 compared tothe first half of 2004.  Total revenueoutside the United States was 27% and 23% of consolidated revenue for the sixmonths ended June 30, 2004 and 2005, respectively.   We have invested in additional salesrepresentatives in continental Europe and the Asia Pacific region in 2005 andexpect further revenue growth, in absolute dollars, over the remainder of 2005.

 

***Cost of Revenue***

 
| ** **                     | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|--------------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| **(Amounts in thousands)**     | ** ** | **2004**                             | ** ** | **2005**                           | ** ** | **Percent  Change** | ** ** | **2004** | ** ** | **2005** | ** ** | **Percent  Change** | ** ** |
|                           |       |                                 |       |                               |       |   |   |   |   |   |   |   |   |
| Software,  hosting and support |       | $                                    | 1,636      |                               | $          | 2,276 |   | 39 | % | $ | 3,215 |   | $ | 4,340 |   | 35 | % |
| Professional  services         |       | 1,573                                |       | 2,879                              |       | 83 |   | 2,883 |   | 5,575 |   | 93 |   |
| Total cost  of revenue         |       | $                                    | 3,209      |                               | $          | 5,155 |   | 61 | % | $ | 6,098 |   | $ | 9,915 |   | 63 | % |

 

*Software, hostingand support*

 

For the quarter ended June 30, 2005,cost of software, hosting and support revenue increased $640,000, or 39%, overthe comparable 2004 quarter mostly due to the addition of staff to support newproduct offerings.  Staff additions inour software, hosting and support organizations increased salaries and relatedemployee costs by $425,000 in the second quarter of 2005 over the secondquarter of 2004, and equipment depreciation expenses and third-party hostingservice costs increased $138,000. Average employee count in our hosting and support organization was 58 inthe second quarter of 2005 compared to 43 in the second quarter of 2004.  As a percent of the associated revenue, costof software, hosting and support remained constant at 14% in the second quarterof 2005 and 2004.

 

For the six months ended June 30, 2005,cost of software, hosting and support increased $1.1 million, or 35%, over thesimilar period in 2004 due to the staff additions and increased depreciationand amortization expenses noted above.  We acquired the intellectual property of Convergent Voice, Inc. in May2005 at a cost of approximately $935,000, which will be amortized to cost ofsoftware, hosting and support over 5 years.

 

*Professionalservices*

 

For the quarter ended June 30, 2005,professional services costs increased $1.3 million, or 83%, over the comparable2004 quarter.  The growth in absolutedollars in the second quarter of 2005 resulted from staff additions andassociated travel and living expenses.  Averageemployee count in our professional services group was 88 in the second quarterof 2005 compared to 45 in the second quarter of 2004.  As a percent of the associated revenue,professional services costs were 68% in the 2005 quarter as compared to 52% inthe 2004 quarter.  The reduced marginresulted from lower capacity utilization in the 2005 quarter, which resultedfrom a lower volume of services provided and the training requirements of newstaff.

 

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***Operating Expenses***

 
| ** **                  | ** ** | **Three Months Ended June 30,** | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------|------------|--------------------------------------|------------|------------------------------------|------------|
| **(Amounts in thousands)**  | ** ** | **2004**                             | ** ** | **2005**                           | ** ** | **Percent  Change** | ** ** | **2004** | ** ** | **2005** | ** ** | **Percent  Change** | ** ** |
|                        |       |                                 |       |                               |       |   |   |   |   |   |   |   |   |
| Sales and  marketing        |       | $                                    | 8,037      |                               | $          | 10,557 |   | 31 | % | $ | 14,885 |   | $ | 20,014 |   | 34 | % |
| Research and  development   |       | 1,807                                |       | 2,426                              |       | 34 |   | 3,612 |   | 4,587 |   | 27 |   |
| General and  administrative |       | 1,016                                |       | 1,586                              |       | 56 |   | 2,169 |   | 2,996 |   | 38 |   |
|                        |       |                                 |       |                               |       |   |   |   |   |   |   |   |   |
| Total  operating expenses   |       | $                                    | 10,860     |                               | $          | 14,569 |   | 34 | % | $ | 20,666 |   | $ | 27,597 |   | 34 | % |

 

*Sales and MarketingExpenses*

 

For the quarter ended June 30, 2005,sales and marketing expense increased $2.5 million, or 31%, over the comparable2004 quarter primarily due to the addition of employees to our sales andmarketing group.  Average employee countin our sales and marketing group was 200 for the second quarter of 2005compared to 147 for the second quarter of 2004, which increased salaries andrelated employee costs by approximately $1.7 million.  In addition, we incurred incremental salesincentive costs of $402,000 in the 2005 quarter due to growth in new contractssigned.  As a percent of total revenue,sales and marketing expenses declined to 50% in the second quarter of 2005 from55% in the second quarter of 2004.

 

For the six months ended June 30, 2005,sales and marketing expenses increased $5.1 million, or 34%, over the first sixmonths of 2004 due to increased staff and higher sales incentive costs.  Staff additions in our sales and marketinggroup added approximately $3.4 million in payroll and related expenses in thefirst half of 2005 over the comparable 2004 period, and growth in new contractsincreased sales incentive costs by $1.1 million.

 

Our Vice President of Marketing and BusinessDevelopment left in July 2005 and, under the terms of his employmentcontract, we expect to incur cash severance expense of approximately $300,000in the third quarter ending September 30, 2005.

 

*Research andDevelopment Expenses*

 

For the quarter ended June 30, 2005,research and development expenses increased $619,000, or 34%, over thecomparable 2004 quarter due to staff additions, including employees acquired aspart of the Convergent Voice transaction in May 2005.  Average employee count in our research anddevelopment organization grew to 94 employees in the second quarter of 2005from 80 employees in the second quarter of 2004, and the corresponding payrolland related expenses increased by approximately $540,000.

 

For the six months ended June 30, 2005,research and development expenses increased $1.0 million, or 27%, over thecomparable 2004 period due to the staff additions described above.

 

*General andAdministrative Expenses*

 

For the quarter ended June 30, 2005,general and administrative expenses increased $570,000, or 56%, over the secondquarter of 2004 due to employee growth and incremental expenses of being apublic company.  Average employees in ourgeneral and administrative organization were 40 in the second quarter of 2005and 29 in the second quarter of 2004, which increased payroll and related costsby approximately $268,000.   Second quarter2005 general and administrative expenses also include incremental financialaudit and Sarbanes-Oxley compliance costs of $148,000, and state filing feeexpenses of $98,000, which result from the reporting and compliancerequirements for public companies.

 

For the six months ended June 30, 2005,general and administrative expenses increased $827,000, or 38%, over thecomparable period in 2004 due to the staff additions, and incremental financialaudit, Sarbanes-Oxley and state filing fees noted above.

 

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***Interestand Other Income (Expenses), Net***

 
| ** **                    | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|-------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| **(Amounts in thousands)**    | ** ** | **2004**                              | ** ** | **2005**                            | ** ** | **2004** | ** ** | **2005** | ** ** |
|                          |       |                                  |       |                                |       |   |   |   |   |
| Interest  income              |       | $                                     | 22         |                                | $          | 342 |   | $ | 45 |   | $ | 645 |   |
| Interest  expense             |       | (71                                   | )          | —                              |       | (157 | ) | — |   |
| Other income  (expense)       |       | 3                                     |       | (11                                 | )          | 2 |   | (22 | ) |
| Total other  income (expense) |       | $                                     | (46        | )                                   | $          | 331 |   | $ | (110 | ) | $ | 623 |   |

 

Interest income of $342,000 in the quarterended June 30, 2005 consisted of earnings on our cash equivalent andshort-term investment portfolio, and to a lesser extent, interest earned onlong-term customer receivables.  In August 2004,we completed our initial public offering of common stock and received netproceeds of approximately $40 million, most of which was invested inshort-term, investment-grade, interest-bearing securities.  Interest expense in the first half of 2004consisted primarily of amounts paid or accrued under our outstanding long-termdebt at that time.  Other income andexpense consists primarily of currency exchange gains or losses and gains orlosses on equipment disposals.

 

***Provisionfor Income Taxes***

 

Our provision for income taxes was 7% ofpre-tax income for the three months and six months ended June 30, 2005 ascompared to 2% and 4% for the second quarter and first half of 2004,respectively.   The 2005 provisionconsists of the expense associated with the U.S. alternative minimum tax, andto a lesser extent, foreign withholdings for which net operating losses are notavailable.  Our provision for incometaxes is less than the statutory rate mostly due to the utilization of U.S. netoperating loss carryforwards.

 

At June 30, 2005, we had $21.8 millionof net deferred income tax assets that have been reserved in full by avaluation allowance.  In the future, ifavailable evidence indicates that it is more likely than not that we will beable to utilize some or all of our deferred tax assets, we will record anincome tax benefit in the amount of the asset recognized, and our effective taxrate would likely increase at that time.

 

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***Liquidity and Capital Resources***

*** ***

Information regarding deferred revenue andcash provided by operating activities follows (in thousands):

 
| ** **                             | ** ** | **Quarter Ended** | ** ** |
|----------------------------------------|------------|-------------------|------------|
| **(Amounts in thousands)**             | ** ** | **Jun 30,  2004** | ** ** | **Sep 30,  2004** | ** ** | **Dec 31,  2004** | ** ** | **Mar 31,  2005** | ** ** | **Jun 30,  2005** | ** ** |
|                                   |       |              |       |   |   |   |   |   |   |   |   |
| Deferred  revenue                      |       | $                 | 40,777     |   | $ | 44,491 |   | $ | 49,125 |   | $ | 52,810 |   | $ | 57,368 |   |
| Cash  provided by operating activities |       | 2,022             |       | 1,063 |   | 3,320 |   | 3,239 |   | 2,564 |   |
|                                        |            |                   |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

We have historically funded our operationswith cash from operations, equity financings and debt borrowings.  In August 2004 we completed our initialpublic offering of 6.4 million shares of common stock and received net proceedsof approximately $40 million.  Theoffering proceeds were invested in short-term, interest-bearingsecurities.  During the second half of2004 we paid down all of our then outstanding long-term debt.

 

At June 30, 2005 cash and cashequivalents, and short-term investments, totaled $54.5 million.   In addition to our cash and short-terminvestments, other sources of liquidity at June 30, 2005 included a $3.0million bank line of credit facility under which there have been no borrowingsin 2004 or 2005.

 

Operating activities provided $5.8 million ofcash during the six months ended June 30, 2005, as compared to $2.4million of cash from operations in the corresponding period of the prioryear.  The majority of our cash fromoperations in the first half of 2005 was from growth in net income and deferredrevenue, offset in part by growth in receivables.  We typically bill customers on net 30-dayterms at the beginning of the license period, which is reflected in accountsreceivable and deferred revenue.  Customers may elect a monthly payment option, or in certaincircumstances, installment payments, which are reflected in current andnon-current term receivables.  During thefirst half of 2005, the percentage of customers choosing the monthly paymentoption has increased to approximately 25% of new business from approximately15% in 2004.  We expect that this trendwill reduce cash provided by operating activities in the near term.  Should this trend continue, we expect anoverall positive effect to earnings and cash provided by operations because themonthly payment option is a more expensive alternative to our net 30 paymentoption.

 

As noted above, we expect to incurapproximately $300,000 of cash severance expense in the third quarter ending September 30,2005.

 

Cash required for income taxes has not beenhistorically significant due to our cumulative operating losses to date, and isnot expected to be significant for the remainder of 2005.

 

Investing activities provided $3.8 million incash during the six months ended June 30, 2005 due to the liquidation ofshort-term investments and re-investment of proceeds in cash equivalents.  Other investing activities included $2.1million of equipment acquisitions for our hosting operations and employeegrowth, and $1.0 million for the acquisition of the intellectual property andcertain other assets of Convergent Voice, Inc. in May 2005.

 

Financing activities provided $1.8 million inthe six months ended June 30, 2005 from the exercise of employee stockoptions and employee stock purchase plan.

 

We believe our existing cash and short-terminvestments, together with funds generated from operations, should besufficient to fund operating and investment requirements for at least****the next twelve months.   Our future capital requirements will dependon many factors, including our rate of revenue growth and expansion of oursales and marketing activities, the possible acquisition of complementaryproducts or businesses, the timing and extent of spending required for researchand development efforts,

 

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and the continuing market acceptance of ourproducts.  To the extent that availablefunds are insufficient to fund our future activities, we may need to raiseadditional funds through public or private equity or debt financings.  Additional equity or debt financing may notbe available on terms favorable to us or at all.

 

***Contractual Obligations and Commitments***

*** ***

In the first quarter of 2005, we entered intoa new office lease agreement, and extended two existing office lease agreements,with Genesis Partners LLC.  The newoffice lease agreement includes leasehold improvements, which have beencapitalized and will be amortized over their expected lives of 7 years.  Contractual obligations under operating leaseagreements will increase by approximately $250,000 in 2005, and approximately$360,000 in 2006 through 2009.  TheCompany expects to renew the office lease agreements upon their initial termexpiration.

 

**Risk Factors**

 

*Beforedeciding to purchase, hold or sell our common stock, you should carefullyconsider the risks described below, in addition to the other cautionarystatements and risks described elsewhere and the other information contained inthis report and in our other filings with the SEC, including our reports onForms 10-Q, 10-K and 8-K. The risks and uncertainties described below are notthe only ones we face. Additional risks and uncertainties not presently knownto us or that we currently deem immaterial may also affect our business. If anyof these known or unknown risks or uncertainties actually occurs with materialadverse effects on RightNow, our business, financial condition and results ofoperations could be seriously harmed. In that event, the market price for ourcommon stock could decline and you may lose all or part of your investment.*

 

**Risks Related to Our Business**

 

***We may not be able to sustain or increase ourprofitability in the future.***

 

We may not be able tosustain or increase our profitability in the future.  Prior to 2004, we incurred significantoperating losses of approximately $4.1 million in 2003, $2.7 millionin 2002 and $15.3 million in 2001. As of June 30, 2005, we had anaccumulated deficit of approximately $38.6 million. We expect to continue toincur significant sales and marketing, research and development and general andadministrative expenses as we expand our operations and, as a result, we willneed to generate significant revenue to maintain profitability. Even if wecontinue to achieve profitability, we may not be able to increase profitabilityon a quarterly or annual basis in the future, which may cause the price of ourstock to decline.

 

***Our quarterly results of operations mayfluctuate in the future.***

 

Our quarterly revenue andresults of operations may fluctuate as a result of a variety of factors, manyof which are outside of our control. If our quarterly revenue or results ofoperations fall below the expectations of investors or securities analysts, theprice of our common stock could decline substantially. Fluctuations in ourresults of operations may be due to a number of factors, including, but notlimited to, those listed below and identified throughout this “Risk Factors”section:

 

• our abilityto retain and increase sales to existing clients, attract new clients andsatisfy our clients’ requirements;

• changes inthe volume and mix of term and perpetual licenses sold in a particular quarter,because perpetual license revenue is recorded into revenue upon deliverywhereas term licenses are recorded into revenue ratably over the period oflicense;

• our policy of expensing sales commissions at the timeof invoice, while the majority of our revenue is recognized ratably over futureperiods;

• changes inthe mix of revenue between professional services and software, hosting andsupport, because the gross margin on professional services is typically lowerthan the gross margin on software, hosting and support;

 

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• changes inthe mix of voice self service applications sold and/or usage volume, and thecorresponding third-party hosting fees;

• the timing and success of new productintroductions or upgrades by us or our competitors;

•changes in our pricing policies or those of our competitors;

• the amount and timing of expendituresrelated to expanding our operations;

• changes in the payment terms for ourproducts and services, including changes in the mix of payment options chosenby our customers;

•the purchasing and budgeting cycles of our clients; and

•general economic, industry and market conditions.

 

Because the sales cycle for the evaluationand implementation of our solutions typically ranges from 60 to 180 days,we may also experience a delay between increasing operating expenses and thegeneration of corresponding revenue, if any. Moreover, because the majority ofour clients purchase term licenses, and we recognize revenue from theselicenses over the term of the agreement, downturns or upturns in sales may notbe immediately reflected in our operating results. Most of our expenses, suchas salaries and third-party hosting co-location costs, are relatively fixed inthe short-term, and our expense levels are based in part on ourexpectations regarding future revenue levels. As a result, if revenue for aparticular quarter is below our expectations, we may not be able toproportionally reduce operating expenses for that quarter, causing adisproportionate effect on our expected results of operations for that quarter.

 

Due to the foregoing factors, and the other risks discussedin this report, you should not rely on quarter-to-quarter comparisons of ourresults of operations as an indication of our future performance.

 

***If our efforts to enhance existing solutions,introduce new solutions or expand the applications for our products and solutionsto broader CRM markets do not succeed, our ability to grow our business will beadversely affected.***

 

More than 85% of our revenue is derived from RightNowService, a suite of solutions used to optimize customer service operations. Ifwe are unable to successfully develop and sell new and enhanced versions ofRightNow Service, or introduce new products and solutions for the customerservice market, our financial performance will suffer. Although to date themajority of business has been focused on providing solutions for customerservice operations, we recently introduced RightNow Sales and RightNowMarketing to expand our solution offerings to the sales and marketing segmentsof the CRM market. Our efforts to expand beyond the customer service market maynot be successful because certain of our competitors have far greaterexperience and brand recognition in the broader segments of the CRM market. Inaddition, our efforts to expand our on-demand software solutions beyond thecustomer service market may divert management resources from our existingoperations and require us to commit significant financial resources to a marketwhere we are unproven, which may harm our business, financial condition andresults of operations.

 

***We face intense competition,and our failure to compete successfully could make it difficult for us to addand retain clients and could reduce or impede the growth of our business.***

 

The market for customer relationship management solutions ishighly competitive and fragmented, and is subject to rapidly changingtechnology, shifting client requirements, frequent introductions of newproducts and services, and increased marketing activities of other industryparticipants.  Competition has intensifiedwith our most recent product releases. Increased competition could result in pricing pressure, reduced sales,lower margins or the failure of our solutions to achieve or maintain broadmarket acceptance. If we are unable to compete effectively, it will bedifficult for us to add and retain clients, and our business, financialcondition and results of operations will be seriously harmed.

 

We face competition from:

 

• companiescurrently providing customer service solutions, some of whom offer hostedservices, including Amdocs Limited, BMC Software Corporation,E.piphany, Inc., eGain Communications Corporation, FrontRangeSolutions, Inc., IBM Corporation, Kana Software, Inc., MicrosoftCorporation, Oracle Corporation, SAP AG, salesforce.com, inc. and SiebelSystems, Inc.;

•CRM systems that are developed and maintained internally by businesses;

 

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• CRM products or services that are developed, or bundledwith other products or services, and installed on a client’s premises bysoftware vendors;

• outsourced contact center providers who bundlesolutions and agent labor in their service offerings;

• newcompanies entering the CRM software market, the on-demand applications marketand the on-demand CRM market, or expanding from any one of these markets to theothers; and

• voice systemintegrators and telecommunication vendors, such as Avaya, Nortel, andIntervoice, that customize voice applications for CRM applications.

 

Many of our current and potential competitors have longeroperating histories and larger presence in the general CRM market, greater namerecognition, access to larger customer bases and substantially greaterfinancial, technical, sales and marketing, management, service, support andother resources than we have. As a result, such competitors may be able torespond more quickly than we can to new or changing opportunities,technologies, standards or client requirements or devote greater resources tothe promotion and sale of their products and services than we can. To theextent our competitors have an existing relationship with a potential client,that client may be unwilling to switch vendors due to the time and financialcommitments already made with our competitors.

 

In addition, many of our current and potential competitorshave established or may establish business, financial or strategicrelationships among themselves or with existing or potential clients, alliancepartners or other third parties, or may combine and consolidate to become moreformidable competitors with better resources. We also expect that newcompetitors, such as enterprise software vendors and online service providersthat have traditionally focused on enterprise resource planning or back officeapplications, will continue to enter the on-demand CRM market with competingproducts as the on-demand CRM market develops and matures. It is possible thatthese new competitors could rapidly acquire significant market share.

 

***The market for ouron-demand application services is at an early stage of development, and if itdoes not develop or develops more slowly than we expect, our business will beharmed.***

 

The market for on-demand application services is at an earlystage of development, and it is uncertain whether these application serviceswill achieve and sustain high levels of demand and market acceptance. Oursuccess will depend to a substantial extent on the willingness of companies toincrease their use of on-demand application services in general and foron-demand customer relationship management applications in particular. Manycompanies have invested substantial personnel and financial resources tointegrate traditional enterprise software into their businesses, and thereforemay be reluctant or unwilling to migrate to on-demand application services.While we have supported and continue to support traditional on-site deploymentof our software applications, widespread market acceptance of our on-demandsoftware solutions is critical to the success of our business. Other factorsthat may affect the market acceptance of our solutions include:

 

• on-demand security capabilities andreliability;

• concerns with entrusting a third party tostore and manage critical customer data;

• our abilityto meet the needs of broader segments of the CRM market or other on-demand markets;

• the level of customization we offer;

• our ability to continue to achieve andmaintain high levels of client satisfaction;

• concernswith purchasing critical CRM solutions from a company with a history ofoperating losses that only recently turned profitable; and

• the price, performance and availability ofcompeting products and services.

 

If businesses do not perceive the benefits of our on-demandsolutions, then the market for these solutions may not develop further, or itmay develop more slowly than we expect, either of which would adversely affectour business, financial condition and results of operations.

 

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***Failure to effectivelydevelop and expand our sales and marketing capabilities could harm our abilityto increase our client base and achieve broader market acceptance of oursolutions.***

 

Increasing our client base and achievingbroader market acceptance of our solutions will depend to a significant extenton our ability to expand our sales and marketing operations. We plan tocontinue to expand our direct sales force and engage additional third-partychannel partners, both domestically and internationally. This expansion willrequire us to invest significant financial and other resources. Our businesswill be seriously harmed if our efforts do not generate a correspondingsignificant increase in revenue. We may not achieve anticipated revenue growthfrom expanding our direct sales force if we are unable to hire and developtalented direct sales personnel, if our new direct sales personnel are unableto achieve desired productivity levels in a reasonable period of time, or if weare unable to retain our existing direct sales personnel. We also may notachieve anticipated revenue growth from our third-party channel partners if weare unable to attract and retain additional motivated channel partners, if anyexisting or future channel partners fail to successfully market, resell,implement or support our solutions for their customers, or if they representmultiple providers and devote greater resources to market, resell, implementand support competing products and services.

 

***The majority of oursolutions are sold pursuant to term license agreements, and if our existingclients elect not to renew their licenses or to renew their licenses on termsless favorable to us, our business, financial condition and results ofoperations will be adversely affected.***

 

The majority of our solutions are sold pursuant to termlicense agreements that are subject to renewal every two years or less and ourclients have no obligation to renew their licenses. Because our clients mayelect not to renew, we may not be able to consistently and accurately predictfuture renewal rates. Our clients’ renewal rates may decline or fluctuate as aresult of a number of factors, including their level of satisfaction with oursolutions, their ability to continue their operations or invest in customerservice, or the availability and pricing of competing products. If largenumbers of existing clients do not renew their licenses, or renew theirlicenses on terms less favorable to us, and if we cannot replace or supplementthose non-renewals with new licenses generating the same or greater level ofrevenue, our business, financial condition and results of operations will beadversely affected.

 

***We have experienced rapidgrowth in recent periods. If we fail to manage our growth effectively, we maybe unable to execute our business plan, maintain high levels of service oradequately address competitive challenges.***

 

We have substantially expanded our overall business,headcount and operations in recent periods. We have increased our total numberof full-time employees to 490 at June 30, 2005 from 403 at December 31,2004. To achieve our business objectives, we will need to continue to expandour business at a rapid pace. This expansion has placed, and is expected tocontinue to place, a significant strain on our managerial, administrative,operational, financial and other resources. We anticipate that this expansionwill require substantial management effort and significant additionalinvestment in our infrastructure. If we are unable to successfully manage ourgrowth, our business, financial condition and results of operations will beadversely affected.

 

Part of the challenge that we expect to face in the course ofour expansion is to maintain the high level of customer service to which ourclients have become accustomed. To date, we have focused on providingpersonalized account management and customer service on a frequent basis toensure our clients are effectively leveraging the capabilities of our solution.We believe that much of our success to date has been the result of high clientsatisfaction, attributable in part to this focus on client service. To theextent our client base grows, we will need to expand our account management,client service and other personnel, and third party channel partners, in orderto enable us to continue to maintain high levels of client service and satisfaction.If we are not able to continue to provide high levels of client service, ourreputation, as well as our business, financial condition and results ofoperations, could be harmed.

 

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***If there are interruptionsor delays in our hosting services through third-party error, our own error orthe occurrence of unforeseeable events, delivery of our solutions could becomeimpaired, which could harm our relationships with clients and subject us toliability.***

 

As of June 30, 2005, over 85% of ourclients were using our hosting services for deployment of our softwareapplications. We provide our hosting services through computer hardware that weown and that is currently located in third-party web hosting co-locationfacilities maintained and operated in California and New Jersey. We do notmaintain long-term supply contracts with either of our co-location providers,and neither provider guarantees that our clients’ access to hosted solutionswill be uninterrupted, error-free or secure. Our operations depend on ourco-location providers’ ability to protect their and our systems in theirfacilities against damage or interruption from natural disasters, power ortelecommunications failures, criminal acts and similar events. Our back-upcomputer hardware and systems located in our Montana headquarters have not beentested under actual disaster conditions and may not have sufficient capacity torecover all data and services in the event of an outage occurring simultaneouslyat both the California and New Jersey co-location facilities. In the event thatour co-location facility arrangements were terminated, or there was alapse of service or accidental or willful damage to such facilities, we couldexperience lengthy interruptions in our hosting service as well as delaysand/or additional expense in arranging new facilities and services. Any or allof these events could cause our clients to lose access to their important data.In addition, the failure by our third-party co-location facilities to meet ourcapacity requirements could result in interruptions in our service or impedeour ability to scale our operations.

 

We architect the system infrastructure and procure and ownthe computer hardware used at our hosting co-location facilities. Design andmechanical errors, spikes in usage volume and failure to follow systemprotocols and procedures could cause our systems to fail, resulting ininterruptions in our clients’ service to their customers. Any interruptions ordelays in our hosting services, whether as a result of third-party error, ourown error, natural disasters or security breaches, whether accidental orwillful, could harm our relationships with clients and our reputation. This inturn could reduce our revenue, subject us to liability, cause us to issuecredits or pay penalties or cause clients to fail to renew their licenses, anyof which could adversely affect our business, financial condition and resultsof operations. In the event of damage or interruption, our insurance policiesmay not adequately compensate us for any losses that we may incur.

 

***If the security of ourclients’ confidential information contained in our systems or stored by use ofour software is breached or otherwise subjected to unauthorized access, ourhosting service or our software may be perceived as not being secure andclients may curtail or stop using our hosting service and our solutions.***

 

Our hosting systems and our software store and transmitproprietary information and critical data belonging to our clients and theircustomers. Any accidental or willful security breaches or other unauthorizedaccess could expose us to a risk of information loss, litigation and otherpossible liabilities. If security measures are breached because of third-partyaction, employee error, malfeasance or otherwise, or if design flaws in oursoftware are exposed and exploited, and, as a result, a third party obtainsunauthorized access to any of our clients’ data, our relationships with clientsand our reputation will be damaged, our business may suffer and we could incursignificant liability. Because techniques used to obtain unauthorized access orto sabotage systems change frequently and generally are not recognized untillaunched against a target, we and our third-party hosting co-locationfacilities may be unable to anticipate these techniques or to implementadequate preventative measures.

 

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***We have significantinternational sales and are subject to risks associated with operating ininternational markets.***

 

International sales comprised 23% of our revenue for the sixmonths ended June 30, 2005, and comprised 27% of our revenue in the yearended December 31, 2004. We intend to continue to pursue and expand ourinternational business activities. Adverse political and economic conditionscould make it difficult for us to increase our international sales or tooperate abroad. International operations are subject to many inherent risks,including:

 

• political,social and economic instability, including conflicts in the Middle East andelsewhere abroad, terrorist attacks and security concerns in general;

• adversechanges in tariffs and other protectionist laws and business practices thatfavor local competitors;

• fluctuations in currency exchange rates;

• longer collection periods and difficultiesin collecting receivables from foreign entities;

• exposure todifferent legal standards and burdens of complying with a variety of foreignlaws, including employment, tax, privacy and data protection laws andregulations;

• reduced protection for our intellectualproperty in some countries;

• expensesassociated with localizing products for foreign countries, includingtranslation into foreign languages; and

• import and exportlicense requirements and restrictions of the United States and each othercountry in which we operate.

 

We believe that international sales will continue torepresent a significant portion of our revenue for the foreseeable future, andthat continued growth will require further expansion of our internationaloperations. A substantial percentage of our international sales are denominatedin the local currency. As a result, an increase in the relative value of thedollar could make our products more expensive and potentially less pricecompetitive in international markets. We typically do not engage in anytransactions as a hedge against risks of loss due to foreign currencyfluctuations. Any of these factors may adversely affect our future internationalsales and, consequently, affect our business, financial condition and resultsof operations.

 

***If we fail to respondeffectively to rapidly changing technology and evolving industry standards,particularly in the on-demand CRM industry, our solutions may become lesscompetitive or obsolete.***

 

The CRM industry is characterized by rapid technologicaladvances, changes in client requirements, frequent new product and serviceintroductions and enhancements, changes in protocols and evolving industrystandards. Our hosted business model and the on-demand CRM market arerelatively new and may evolve even more rapidly than the rest of the CRMmarket. Competing products and services based on new technologies or newindustry standards may perform better or cost less than our solutions and couldrender our solutions less competitive or obsolete. In addition, because oursolutions are designed to operate on a variety of network hardware and softwareplatforms using a standard Internet web browser, we will need to continuouslymodify and enhance our solutions to keep pace with changes in Internet-relatedhardware, software, communication, browser and database technologies and tointegrate with our clients’ systems as they change and evolve. Furthermore,uncertainties about the timing and nature of new network platforms ortechnologies, or modifications to existing platforms or technologies, couldincrease our research and development expenses. If we are unable tosuccessfully develop and market new and enhanced solutions that respond in atimely manner to changing technology and evolving industry standards, and if weare unable to satisfy the diverse and evolving technology needs of our clients,our business, financial condition and results of operations will suffer.

 

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***Our failure to attract andretain qualified or key personnel may prevent us from effectively developing,marketing, selling, integrating and supporting our products.***

 

Our success and future growth depends to a significant degreeupon the skills, experience, performance and continued service of our seniormanagement, engineering, sales, marketing, service, support and other keypersonnel. Specifically, we believe that our future success is highly dependenton Greg Gianforte, our founder, Chairman and Chief Executive Officer. Inaddition, we do not have employment agreements with any of our seniormanagement or key personnel that require them to remain our employees and,therefore, they could terminate their employment with us at any time withoutpenalty. If we lose the services of Mr. Gianforte or any of our other keypersonnel, our business will be severely disrupted and we may be unable tooperate effectively. We do not maintain “key person” life insurance policies onany of our key employees except Mr. Gianforte. This life insurance policywould not be sufficient to compensate us for the loss of his services. Ourfuture success also depends in large part upon our ability to attract, train,integrate, motivate and retain highly skilled employees, particularly sales,marketing and professional services personnel, software engineers, producttrainers, and senior personnel. Competition for these personnel is intense,especially for engineers with high levels of expertise in designing anddeveloping software and for senior sales executives.

 

***If our solutions fail toperform properly or if they contain technical defects, our reputation will beharmed, our market share would decline and we could be subject to product liabilityclaims.***

 

Our software products may contain undetected errors ordefects that may result in product failures, slow response times, or otherwisecause our products to fail to perform in accordance with client expectations.Because our clients use our products for important aspects of their business,any errors or defects in, or other performance problems with, our productscould hurt our reputation and may damage our clients’ businesses. If thatoccurs, we could lose future sales, or our existing clients could elect to notrenew or to delay or withhold payment to us, which could result in an increasein our provision for doubtful accounts and an increase in collection cycles foraccounts receivable. Clients also may make warranty claims against us, whichcould result in the expense and risk of litigation. Product performanceproblems could result in loss of market share, failure to achieve marketacceptance and the diversion of development resources. If one or more of ourproducts fails to perform or contains a technical defect, a client may assert aclaim against us for substantial damages, whether or not we are responsible forthe product failure or defect. We do not currently maintain any warrantyreserves.

 

Product liability claims could require us to spendsignificant time and money in litigation or to pay significant settlements ordamages. Although we maintain general liability insurance, including coveragefor errors and omissions, this coverage may not be sufficient to coverliabilities resulting from such product liability claims. Also, our insurer maydisclaim coverage. Our liability insurance also may not continue to beavailable to us on reasonable terms, in sufficient amounts, or at all. Anyproduct liability claims successfully brought against us would cause ourbusiness to suffer.

 

***If we are unable toprotect our intellectual property rights, our competitive position could beharmed or we could be required to incur significant expenses to enforce ourrights.***

 

Our success depends to a significant degree upon theprotection of our software and other proprietary technology rights. We rely ontrade secret, copyright and trademark laws, patents and confidentialityagreements with employees and third parties, all of which offer only limitedprotection. The steps we have taken to protect our intellectual property maynot prevent misappropriation of our proprietary rights or the reverseengineering of our solutions. We may not be able to obtain any further patentsor trademarks, and our pending applications may not result in the issuance ofpatents or trademarks. Any of our issued patents may not be broad enough toprotect our proprietary rights or could be successfully challenged by one ormore third parties, which could result in our loss of the right to preventothers from exploiting the inventions claimed in those patents. Furthermore,legal standards relating to the validity, enforceability and scope ofprotection of intellectual property rights in other countries are uncertain andmay afford little or no effective protection of our proprietary technology.Consequently, we may be unable to prevent our proprietary technology from beingexploited abroad, which could diminish international sales or require costlyefforts to protect our technology. Policing the unauthorized use of ourproducts, trademarks and other proprietary rights is expensive, difficult and,in some cases, impossible. Litigation may be necessary

 

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inthe future to enforce or defend our intellectual property rights, to protectour trade secrets or to determine the validity and scope of the proprietaryrights of others. Such litigation could result in substantial costs anddiversion of management resources, either of which could harm our business.Accordingly, despite our efforts, we may not be able to prevent third partiesfrom infringing upon or misappropriating our intellectual property.

 

***Our product developmentefforts may be constrained by the intellectual property of others, and we maybecome subject to claims of intellectual property infringement, which could becostly and time-consuming.***

 

The software and Internet industries are characterized by theexistence of a large number of patents, trademarks and copyrights, and byfrequent litigation based upon allegations of infringement or other violationsof intellectual property rights. As we seek to extend our CRM product andservice offerings, we may be constrained by the intellectual property ofothers. We have in the past been named as a defendant in a lawsuit allegingintellectual property infringement, and we may again in the future have todefend

 

against intellectual property lawsuits. We may not prevail inany future intellectual property infringement litigation given the complextechnical issues and inherent uncertainties in litigation. Any claims,regardless of their merit, could be time-consuming and distracting tomanagement, result in costly litigation or settlement, cause productdevelopment delays, or require us to enter into royalty or licensingagreements. If any of our products violate third-party proprietary rights, wemay be required to re-engineer our products or seek to obtain licenses fromthird parties, which may not be available on reasonable terms or at all. Becausemany of our license agreements require us to indemnify our clients from anyclaim or finding of intellectual property infringement, any such litigation orsuccessful infringement claims could adversely affect our business, financialcondition and results of operations. Any efforts to re-engineer our products,obtain licenses from third parties on favorable terms or license a substitutetechnology may not be successful and, in any case, may substantially increaseour costs and harm our business, financial condition and results of operations.Further, our software products contain open source software components that arelicensed to us under various public domain licenses, such as the GNU GeneralPublic License. While we believe we have complied with our obligations underthe various applicable licenses for open source software that we use, there islittle or no legal precedent governing the interpretation of many of the termsof certain of these licenses and therefore the potential impact of such termson our business is somewhat unknown. Use of open source standards also may makeus more vulnerable to competition because the public availability of opensource software could make it easier for new market entrants and existingcompetitors to introduce similar competing products quickly and cheaply.

 

***Future acquisitions coulddisrupt our business and harm our financial condition and results ofoperations.***

 

In order to expand our addressable market, we may decide toacquire additional businesses, products and technologies. In May 2005, weacquired the intellectual property and other assets of Convergent Voice, Inc.,our first acquisition since becoming a public company.   Acquisitions could require significantcapital infusions and could involve many risks, including, but not limited to,the following:

 

• anacquisition may negatively impact our results of operations because it mayrequire incurring large one-time charges, substantial debt or liabilities; itmay require the amortization or write down of amounts related to deferredcompensation, goodwill and other intangible assets; or it may cause adverse taxconsequences, substantial depreciation or deferred compensation charges;

• we mayencounter difficulties in assimilating and integrating the business, technologies,products, personnel or operations of companies that we acquire, particularly ifkey personnel of the acquired company decide not to work for us;

• our existingand potential clients and the customers of the acquired company may delaypurchases due to uncertainty related to an acquisition;

• anacquisition may disrupt our ongoing business, divert resources, increase ourexpenses and distract our management;

• the acquiredbusinesses, products or technologies may not generate sufficient revenue tooffset acquisition costs;

• we may haveto issue equity securities to complete an acquisition, which would dilute ourstockholders and could adversely affect the market price of our common stock;and

 

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• acquisitionsmay involve the entry into a geographic or business market in which we havelittle or no prior experience.

 

We cannot assure you that we will be able to identify orconsummate any future acquisitions on favorable terms, or at all. If we dopursue any acquisitions, it is possible that we may not realize the anticipatedbenefits from the acquisitions or that the financial markets or investors willnegatively view the acquisitions. Even if we successfully complete anacquisition, it could adversely affect our business, financial condition andresults of operations.

 

***Changes in the accountingtreatment of stock options will adversely affect our results of operations.***

 

The Financial Accounting Standards Board recently issuedStatement of Financial Accounting Standards No. 123R, *Share-Based Payment* (“SFAS 123R”).  The statement requires that the compensationcost relating to share-based payment transactions be recognized in financialstatement based on the fair value of the equity or liability instruments issued,and is effective for annual periods beginning after June 15, 2005.  SFAS 123R replaces SFAS No. 123, Accountingfor *Stock-Based Compensation*, andsupercedes Accounting Principles Board Opinion No. 25, *Accounting for Stock Issued to Employees* (“APB25”).  SFAS 123R requires us to value ouremployee stock option grants, transactions under our Employee Stock PurchasePlan, and other possible equity-based transactions, pursuant to a fair valueformula, and then amortize that value against our reported earnings over thevesting period in effect for those transactions.  We currently account for stock-based awardsto employees in accordance with APB 25, and have adopted thedisclosure-only alternative of SFAS 123. This change in accounting treatment, beginning January 1, 2006,will materially and adversely affect our reported results of operations as thestock-based compensation expense would be charged directly against our reportedearnings.

 

***We may not be able tosecure additional financing on favorable terms, or at all, to meet our futurecapital needs.***

 

We may require additional capital to respond to businesschallenges, including the need to develop new solutions or enhance our existingsolutions, enhance our operating infrastructure, fund expansion, respond tocompetitive pressures and acquire complementary businesses, products andtechnologies. Absent sufficient cash flow from operations, we may need toengage in equity or debt financings to secure additional funds to meet ouroperating and capital needs. In addition, even though we may not needadditional funds, we may still elect to sell additional equity or debtsecurities or obtain credit facilities for other reasons. We may not be able tosecure additional debt or equity financing on favorable terms, or at all, atthe time when we need such funding. If we raise additional funds throughfurther issuances of equity or convertible debt securities, our existingstockholders could suffer significant dilution in their percentage ownership ofour company, and any new equity securities we issue could have rights,preferences and privileges senior to those of holders of our common stock. Anydebt financing secured by us in the future could involve restrictive covenantsrelating to our capital raising activities and other financial and operationalmatters, which may make it more difficult for us to obtain additional capital,to pay dividends and to pursue business opportunities, including potentialacquisitions. In addition, if we decide to raise funds through debt orconvertible debt financings, we may be unable to meet our interest or principalpayments.

 

**Risks Related to Our Industry**

 

***The success of ourproducts and our hosted business depends on the continued growth and acceptanceof the Internet as a business and communications tool, and the relatedexpansion of the Internet infrastructure.***

 

The future success of our products and our hosted businessdepends upon the continued and widespread adoption of the Internet as a primarymedium for commerce, communication and business applications. Our businessgrowth would be impeded if the performance or perception of the Internet, orcompanies providing hosted solutions, was harmed by security problems such as “viruses,”“worms” and other malicious programs, reliability issues arising from outagesand damage to Internet infrastructure, delays in development or adoption of newstandards and protocols to handle increased demands of Internet

 

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activity,increased costs, decreased accessibility and quality of service, or increasedgovernment regulation and taxation of Internet activity.

 

Federal, state or foreign government bodies or agencies havein the past adopted, and may in the future adopt, laws or regulations affectingdata privacy, the solicitation, collection, processing or use of personal orconsumer information, the use of the Internet as a commercial medium and theuse of e-mail for marketing or other consumer communications. In addition,government agencies or private organizations may begin to impose taxes, fees orother charges for accessing the Internet or for sending commercial e-mail.These laws or charges could limit the growth of Internet-related commerce orcommunications generally, result in a decline in the use of the Internet andthe viability of Internet- based services such as ours and reduce the demandfor our products, particularly our RightNow Marketing solution.

 

The Internet has experienced, and is expected to continue toexperience, significant user and traffic growth, which has, at times, causeduser frustration with slow access and download times. If Internet activitygrows faster than Internet infrastructure or if the Internet infrastructure isotherwise unable to support the demands placed on it, or if hosting capacitybecomes scarce, our business growth may be adversely affected.

 

***Privacy concerns and lawsor other domestic or foreign regulations may adversely affect our business orreduce sales of our solutions.***

 

Businesses using our solutions collect personal informationregarding their customers when those customers contact them with customerservice inquiries. A valuable component of our solutions is their ability toallow our clients to use and analyze their customers’ information to increasesales, marketing and up-sell or cross-sell opportunities. Federal, state andforeign government bodies and agencies, however, have adopted and areconsidering adopting laws and regulations regarding the collection, use anddisclosure of personal information obtained from consumers. The costs ofcompliance with, and other burdens imposed by, such laws and regulations thatare applicable to the businesses of our clients may limit the use and adoptionof this component of our solutions and reduce overall demand for our solutions.Furthermore, even where a client desires to make full use of these features inour solutions, privacy concerns may cause our clients’ customers to resistproviding the personal data necessary to allow our clients to use our solutionsmost effectively. Even the perception of privacy concerns, whether or notvalid, may inhibit market acceptance of our products. For example, regulationssuch as the Gramm-Leach-Bliley Act, which protects and restricts the use ofconsumer credit and financial information, and the Children’s Online PrivacyProtection Act of 1998, which restricts the ability of companies to collectpersonal information online from children under the age of 13 without theirparents’ consent, impose significant requirements and obligations on businessesthat may affect the use and adoption of our solutions by existing and potentialclients.

 

The European Union has also adopted a directive that requiresmember states to impose restrictions on the collection and use of personal datathat are far more stringent, and impose more significant burdens on subjectbusinesses, than current privacy standards in the United States. All of thesedomestic and international legislative and regulatory initiatives may adverselyaffect our clients’ ability to collect and/or use demographic and personalinformation from their customers, which could reduce demand for our solutions.

 

In addition to government activity, privacy advocacy groupsand the technology and direct marketing industries are considering various new,additional or different self-regulatory standards that may place additionalburdens on us. If the gathering of profiling information were to be curtailedin this manner, customer service CRM solutions would be less effective, which wouldreduce demand for our solutions and harm our business.

 

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***Non-solicitation concerns,laws or regulations may adversely affect our clients’ ability to performoutbound marketing and other e-mail communications, which could reduce sales ofour solutions.***

 

In January 2004, the federal Controlling the Assault ofNon-Solicited Pornography and Marketing Act of 2003, or CAN-SPAM Act, becameeffective. The CAN-SPAM Act regulates the transmission and content ofcommercial e-mails and, among other things, obligates the sender of suche-mails to provide recipients with the ability to opt-out of receiving futuree-mails from the sender, and establishes penalties for the transmission ofe-mail messages which are intended to deceive the recipient as to source orcontent. Many state legislatures also have adopted laws that impact thedelivery of commercial e-mail, and laws that regulate commercial e-mailpractices are being developed or adopted in many of the international jurisdictionsin which we do business, including Europe and Australia. In addition, Internetservice providers and licensors of software products have introduced a varietyof systems and products to filter out certain types of commercial e-mail, withoutany common protocol to determine whether the recipient desired to receive thee-mail being blocked. As a result, it is difficult for us to determine inadvance whether or not e-mails generated by our clients using our solutionswill be permitted by spam filters to reach the intended recipients.

 

Our RightNow Marketing solution specifically serves themarket for mass distribution marketing and other e-mail communications. Theincreasing regulation of e-mail delivery, both domestically andinternationally, and the spam filtering practices of Internet service providersand e-mail users generally, will place significant additional burdens on ourclients who have outbound communication programs, and may cause those clientsto substantially change their outbound communications programs or abandon themaltogether. The concerns and legal requirements surrounding non-solicitationand compliance with the CAN-SPAM Act and other laws may reduce sales of ourRightNow Marketing solution, may make it necessary to redesign our RightNowMarketing solution to make it easier for our clients to conform to therequirements of the CAN-SPAM Act and other laws and standards, which wouldincrease our expenses, or may make it necessary for us to redefine the marketfor and use of our RightNow Marketing solution, which could reduce our revenue.

 

***General economicconditions could adversely affect our clients’ ability or willingness topurchase our products, which could materially and adversely affect our resultsof operations.***

 

Our clients consist of large and small companies in nearlyall industry sectors and geographies. Potential new clients or existing clientscould defer purchases of our products because of unfavorable macroeconomicconditions, such as rising interest rates, fluctuations in currency exchangerates, industry or country economic downturns, industry purchasing patterns,and other factors.   Our ability to growrevenues may be adversely affected by unfavorable economic conditions.

 

**Risks Related to Ownership of Our CommonStock**

 

***Thesignificant control over stockholder voting matters and our office leases thatmay be exercised by our founder and Chief Executive Officer will limit yourability to influence corporate actions and may require us to find alternativeoffice space to lease or buy in the future.***

 

Greg Gianforte, our founder and ChiefExecutive Officer, and his spouse, Susan Gianforte, together beneficially ownapproximately 41% of our currently outstanding common stock and, together withour other officers and directors, beneficially own approximately 62% of ourcurrently outstanding common stock. In addition, none of the shares of commonstock held by Mr. Gianforte and Mrs. Gianforte are subject to vestingrestrictions. As a result, Mr. Gianforte and Mrs. Gianforte, acting alone ortogether with some of our other officers and directors, will be able to controlall matters requiring stockholder approval, including the election ofdirectors, management changes and approval of significant corporatetransactions. This concentration of ownership may have the effect of delaying,preventing or deterring a change in control of RightNow, could deprive ourstockholders of an opportunity to receive a premium for their common stock aspart of a sale of RightNow and might reduce the market price of our commonstock.

 

In addition, Mr. Gianforte beneficially owns,directly or indirectly, a 50% membership interest in Genesis Partners, LLC, ourlandlord from whom we lease our principal offices in Bozeman, Montana.

 

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Consequently, Mr. Gianforte has significantcontrol over any decisions by Genesis Partners regarding renewal, modificationor termination of our Bozeman, Montana leases. In the event that our currentleases with Genesis Partners were terminated or otherwise could not be renewed,or came up for renewal on commercially unreasonable terms, we would be requiredto find alternative office space to lease or buy.

 

***Anti-takeoverprovisions in our charter documents and Delaware law could discourage, delay orprevent a change in control of our company and may affect the trading price ofour common stock.***

 

Provisions of our certificate ofincorporation and bylaws and Delaware law may discourage, delay or prevent amerger or acquisition that a stockholder may consider favorable and may limitthe market price of our common stock. These provisions include the following:

 

•                                          establishinga classified board in which only a portion of the total board members will beelected at each annual meeting;

•                                          authorizingthe board to issue preferred stock;

•                                          providingthe board with sole authority to set the number of authorized directors and tofill vacancies on the board;

•                                          limitingthe persons who may call special meetings of stockholders;

•                                          prohibitingcertain transactions under certain circumstances with interested stockholders;

•                                          requiringsupermajority approval to amend certain provisions of the certificate ofincorporation; and

•                                          prohibitingstockholder action by written consent.

 

It is possible that the provisions containedin our certificate of incorporation and bylaws, the existence of super votingrights held by insiders and the ability of our board of directors to issuepreferred stock without stockholder action may have the effect of delaying,deferring or preventing a change in control of our company without furtheraction by the stockholders, may discourage bids for our common stock at apremium over the market price of our common stock and may adversely affect themarket price of our common stock and the voting and other rights of the holdersof our common stock.

 

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**Item 3.  Quantitative and Qualitative Disclosuresabout Market Risk**

 

***Foreign CurrencyExchange Risk***

*** ***

Our results of operations and cash flows aresubject to fluctuations due to changes in foreign currency exchange rates,particularly changes in the Euro, British pound, Australian dollar, andJapanese yen, because our contracts are frequently denominated in localcurrency.  To date, we have not enteredinto any hedge transactions since exchange rate fluctuations have not had asignificant impact on our operating results and cash flows. In the future, wemay utilize foreign currency forward and option contracts to manage currency exposures.

 

***Interest RateSensitivity***

*** ***

Interest income and expense are sensitive tochanges in the general level of U.S. interest rates.  The remaining proceeds of our initial publicoffering of common stock are invested in short-term, interest-bearing securities,which are subject to credit and interest rate risk.   Our investment portfolio is investment-gradeand diversified among issuers and types to reduce credit risk.  The average maturity of our investmentportfolio is less than 90 days.  Ifmarket interest rates were to increase by 100 basis points from the level at June 30,2005, the fair value of our investment portfolio would decline by approximately$95,000.

 

**Item 4.  Controls and Procedures**

 

***(a)******                                 Evaluationof Disclosure Controls and Procedures***

 

Our management, with the participation of ourChief Executive Officer and Chief Financial Officer, has evaluated theeffectiveness of our disclosure controls and procedures (as defined in Rules13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934) as of theend of the period covered by this report. Based upon that evaluation, our ChiefExecutive Officer and Chief Financial Officer concluded that, as of the end ofthe period covered by this report, our disclosure controls and procedures wereeffective in timely alerting them to the material information relating to us(or our consolidated subsidiaries) required to be included in the reports wefile or submit under the Securities Exchange Act of 1934.

 

***(b)******                                 Changesto Internal Control over Financial Reporting***

 

During the most recent completed fiscalquarter covered by this report, there has been no change in our internalcontrol over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f)under the Securities Exchange Act of 1934) that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

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**Part II.  Other Information**

 

***Item 1.  Legal Proceedings***

*** ***

From time to time, we are involved in legalproceedings in the ordinary course of business. We believe that the resolution of these matters will not have a materialeffect on the Company’s consolidated financial position, results of operationsor liquidity.

 

***Item 2.  Unregistered Sales of Equity Securities andUse of Proceeds***

*** ***

**(a)****                                  Salesof Unregistered Securities**

 

During the three months ended June 30,2005, we issued and sold 21,708 shares of our common stock to one of ourlenders upon its exercise of certain warrants, previously issued in connectionwith our equipment and commercial bank financing arrangements, pursuant to thenet exercise provision of such warrants. Also during the three months ended June 30, 2005, we issued andsold 1,333 shares of our common stock to a consultant upon its exercise of astock option, previously issued in consideration for services rendered.  The sale and issuance of these shares of ourcommon stock were determined to be exempt from registration under theSecurities Act of 1933, as amended, in reliance on Section 4(2) of theSecurities Act, as a transaction by an issuer not involving a public offering,where the purchaser was sophisticated and represented its intention to acquirethe securities for investment purposes only and not with a view to or for sale inconnection with any distribution thereof, and where the purchaser received orhad access to adequate information about us.

 

**(b)****                                  Useof Proceeds from Sales of Registered Securities**

 

On August 5, 2004, the Securities andExchange Commission declared effective our Registration Statement on From S-1(Reg. File No. 333-115331) under the Securities Act of 1933, as amended, inconnection with the initial public offering of our common stock, par value$.0001 per share.  Of the 7,245,000shares registered under the registration statement for an aggregate offeringprice of $50,715,000, we sold 6,416,961 shares, including shares sold uponexercise of the underwriters’ over-allotment option, for an aggregate offeringprice of $44,918,727, and 321,945 shares, including shares sold upon exerciseof the underwriters’ over-allotment option, were sold by a selling stockholderfor an aggregate offering price of $2,253,615. After deducting $3.3 million in underwriting discounts and commissionsand $1.8 million in other offering costs, we received net proceeds from theoffering of approximately $40 million. In May 2005, we used $1 million of the proceeds to purchase the assetsof Convergent Voice, Inc.

 

We currently intend to use the remainingoffering net proceeds for general corporate purposes as described in theprospectus for the offering.  We arecurrently assessing the specific uses and allocations for these netproceeds.  Pending these uses, the netproceeds from the offering are invested in short-term, interest-bearing,investment-grade securities.  None of theexpenses and none of our net proceeds from the offering were paid directly orindirectly to any director, officer, general partner of RightNow or theirassociates, persons owning 10% or more of any class of equity securities ofRightNow, or an affiliate of RightNow.

 

**(c)****                                  Notapplicable.**

 

***Item 3.  Defaults Upon Senior Securities.***

*** ***

None.

 

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***Item 4.  Submission of Matters to a Vote of SecurityHolders.***

 

The 2005 annual meeting of stockholders washeld June 28, 2005.  The followingproposals were adopted as follows:

 

1.               To elect twodirectors to serve for a three-year term ending at the 2008 annual meeting ofstockholders or until their successors are duly elected and qualified or untiltheir earlier resignation or removal:

 
| ** **          | ** ** | **For**    | ** ** | **Withheld** | ** ** |
|---------------------|------------|------------|------------|--------------|------------|
| Roger L.  Evans     |       | 27,747,051 |       | 828,527      |       |
| William J.  Lansing |       | 28,569,197 |       | 6,381        |       |

 

2.               To ratifythe appointment of KPMG LLP as our independent registered public accountingfirm for 2005:

 
| For     |   | 28,561,546 |
|---------|--------|------------|
| Against |   | 5,245      |
| Abstain |   | 8,787      |

 

Other directors whose terms continued afterthe 2005 annual meeting include Gregory M. Avis and Margaret L. Taylor (termsend upon the 2006 annual meeting), and Greg R. Gianforte and Richard E. Allen(terms end upon the 2007 annual meeting).

 

***Item 5.  Other Information.***

*** ***

None.

 

**Item 6. Exhibits**

 

***Exhibits***

*** ***

The exhibits listed below are part of thisForm 10-Q, unless otherwise indicated.

 
| Exhibit 3.1† |   | Amended and Restated Certificate of  Incorporation of the Registrant.                                                                                                                                             |
|-------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Exhibit 3.2*      |   | Amended and Restated Bylaws of the  Registrant.                                                                                                                                                                   |
| Exhibit 31.1      |   | Certification of Chief Executive Officer  pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                     |
| Exhibit 31.2      |   | Certification of Chief Financial Officer  pursuant to Exchange Act Rule 13a-14(a) or 15(d)-14(a), as adopted pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                     |
| Exhibit 32.1      |   | Certifications of Chief Executive Officer  and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002  (furnished herewith). |

 

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†                  Incorporatedby reference to Exhibit 4.2 to the Company’s registration statement of Form S-8(File No. 333-118515) filed with the Securities and Exchange Commission on August 24,2004.

*                 Incorporatedby reference to the exhibit of the same number from the Company’s registrationstatement of Form S-1 (File No. 333-115331) initially filed with the Securitiesand Exchange Commission on May 10, 2004, as amended.

 

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**SIGNATURE**

 

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

 

Dated:  August 8, 2005

 

**RightNow Technologies, Inc.**

(Registrant)

 
| By:    |   | /s/ Susan J. Carstensen                       |   |
|--------|--------|-----------------------------------------------|--------|
|   |   | Susan J. Carstensen                           |
|   |   | Chief Financial Officer, Vice President,      |
|   |   | Treasurer and Assistant Secretary             |
|   |   | (Principal Financial and Accounting  Officer) |

 

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