** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

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#### ** **

#### **FORM10-Q**

#### ** **

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** **

| **x**                                                                                                                                                                                | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                           | ** ** | ** **                                                                                    |
| **For the quarterly period ended September 30, 2007**                                                                                                                                |
| ** **                                                                                                                                                                           | ** ** | ** **                                                                                    |
| 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.)**

 

**RIGHTNOW TECHNOLOGIES, INC.**

(Exact Name of Registrant as Specified in ItsCharter)

 

| **Delaware**                         | ** ** | **81-0503640**        |
|--------------------------------------|------------|-----------------------|
| **(State or  Other Jurisdiction of** | ** ** | **(I.R.S.  Employer** |
| Incorporation or Organization)       |       | Identification No.)   |

 

**136 Enterprise Boulevard**

###### **Bozeman, Montana 59718-9300**

 (Address of Principal Executive Offices) (ZipCode)

 

**(406) 522-4200**

 (Registrant’s Telephone Number, Including AreaCode)

 

**N/A**

(Former Name, Former Address and FormerFiscal Year, if Changed Since Last Report)

 

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

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Checkone):

| Large accelerated filer o |   | Accelerated filer x |   | Non-accelerated filer o |
|---------------------------|--------|---------------------|--------|-------------------------|

 

Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act). Yes o    Nox

 

The number of shares outstanding of the registrant’s common stock, $0.001par value, as of October 31, 2007 was 33,360,768.

 

 

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**RightNow Technologies, Inc.**

**Quarterly Report on Form 10-Q**

 

**For the Quarterly Period Ended September 30,2007**

 

**INDEX**

 
| **Part I.**                                                                                         | **FINANCIAL INFORMATION** |
|-----------------------------------------------------------------------------------------------------|---------------------------|
| Item 1. Financial Statements                                                                        |
|                                                                                                | a)                        | Condensed consolidated balance sheets (unaudited) |
|                                                                                                | b)                        | Condensed consolidated statements of operations (unaudited) |
|                                                                                                | c)                        | Condensed consolidated statements of cash flows (unaudited) |
|                                                                                                | d)                        | Notes to condensed consolidated financial  statements (unaudited) |
|                                                                                                |
| Item 2. Management’s Discussion and  Analysis of Financial Condition and Results of Operations |
|                                                                                                |
| Item 3. Quantitative and Qualitative  Disclosures About Market Risk                                 |
|                                                                                                |
| Item 4. Controls and Procedures                                                                     |
|                                                                                                |                      |
| **Part II.**                                                                                        | **OTHER INFORMATION**     |
|                                                                                                |                      |
| Item 1. Legal Proceedings                                                                           |
|                                                                                                |                      |
| Item 1A. Risk Factors                                                                               |
|                                                                                                |                      |
| 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**                                                                                      |

 

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**PartI. FINANCIAL INFORMATION**

 

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

##### ** **

**RightNow Technologies, Inc.**

**Condensed Consolidated Balance Sheets**

(In thousands) (Unaudited)

 
| ** **                                          | ** ** | **December  31, 2006** | ** ** | **September  30, 2007** | ** ** |
|-----------------------------------------------------|------------|-----------------------------|------------|------------------------------|------------|
| **Assets**                                          |       |                        |       |                         |       |
| Cash and cash equivalents                           |       | $                           | 39,208     |                         | $          | 33,109 |   |
| Short-term investments                              |       | 39,127                      |       | 56,823                       |       |
| Accounts receivable                                 |       | 32,021                      |       | 24,690                       |       |
| Term receivables, current                           |       | 23,806                      |       | 13,773                       |       |
| Allowance for doubtful accounts                     |       | (2,621                      | )          | (2,009                       | )          |
| Receivables, net                                    |       | 53,206                      |       | 36,454                       |       |
| Prepaid & other current assets                  |       | 2,498                       |       | 5,786                        |       |
| Total current assets                                |       | 134,039                     |       | 132,172                      |       |
|                                                |       |                        |       |                         |       |
| Property and equipment, net                         |       | 10,073                      |       | 10,451                       |       |
| Term receivables, non-current                       |       | 24,805                      |       | 11,170                       |       |
| Intangible assets, net                              |       | 8,836                       |       | 7,865                        |       |
| Other                                               |       | 489                         |       | 1,356                        |       |
| **Total Assets**                                    |       | $                           | 178,242    |                         | $          | 163,014 |   |
|                                                |       |                        |       |                         |       |
| **Liabilities and Stockholders’ Equity**       | ** ** | ** **                  | ** ** | ** **                   | ** ** |
| Accounts payable                                    |       | $                           | 4,417      |                         | $          | 4,249 |   |
| Commissions and bonuses payable                     |       | 4,069                       |       | 2,889                        |       |
| Other accrued liabilities                           |       | 7,588                       |       | 10,606                       |       |
| Current portion of long-term debt                   |       | 31                          |       | 42                           |       |
| Current portion of deferred revenue                 |       | 67,560                      |       | 69,665                       |       |
| Total current liabilities                           |       | 83,665                      |       | 87,451                       |       |
|                                                |       |                        |       |                         |       |
| Long-term debt, less current portion                |       | 85                          |       | 79                           |       |
| Deferred revenue, net of current portion            |       | 47,018                      |       | 37,139                       |       |
|                                                |       |                        |       |                         |       |
| Stockholders’ equity:                          |       |                        |       |                         |       |
| Common stock                                        |       | 33                          |       | 33                           |       |
| Additional paid-in capital                          |       | 86,069                      |       | 92,486                       |       |
| Accumulated other comprehensive loss                |       | (332                        | )          | (551                         | )          |
| Accumulated deficit                                 |       | (38,296                     | )          | (53,623                      | )          |
| Total stockholders’ equity                     |       | 47,474                      |       | 38,345                       |       |
| **Total Liabilities and Stockholders’ Equity** |       | $                           | 178,242    |                         | $          | 163,014 |   |

 

See accompanying notes to condensedconsolidated financial statements.

 

2

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**RightNow Technologies, Inc.**

**Condensed Consolidated Statements ofOperations**

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

 
| ** **                      | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                      | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
| Revenue:                        |       |                                                 |       |                                                |       |   |   |   |   |
| Software, hosting and support   |       | $                                                    | 23,754     |                                                | $          | 22,366 |   | $ | 63,700 |   | $ | 62,878 |   |
| Professional services           |       | 6,334                                                |       | 6,880                                               |       | 17,927 |   | 18,535 |   |
| Total revenue                   |       | 30,088                                               |       | 29,246                                              |       | 81,627 |   | 81,413 |   |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Cost of revenue:                |       |                                                 |       |                                                |       |   |   |   |   |
| Software, hosting and support   |       | 3,667                                                |       | 4,604                                               |       | 9,597 |   | 13,563 |   |
| Professional services           |       | 4,969                                                |       | 5,667                                               |       | 14,014 |   | 15,874 |   |
| Total cost of revenue           |       | 8,636                                                |       | 10,271                                              |       | 23,611 |   | 29,437 |   |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Gross profit                    |       | 21,452                                               |       | 18,975                                              |       | 58,016 |   | 51,976 |   |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Operating expenses:             |       |                                                 |       |                                                |       |   |   |   |   |
| Sales and marketing             |       | 16,535                                               |       | 16,516                                              |       | 45,113 |   | 48,031 |   |
| Research and development        |       | 3,740                                                |       | 4,308                                               |       | 10,346 |   | 12,947 |   |
| General and administrative      |       | 2,333                                                |       | 2,680                                               |       | 7,098 |   | 8,718 |   |
| Total operating expenses        |       | 22,608                                               |       | 23,504                                              |       | 62,557 |   | 69,696 |   |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Loss from operations            |       | (1,156                                               | )          | (4,529                                              | )          | (4,541 | ) | (17,720 | ) |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Interest and other income, net  |       | 740                                                  |       | 1,004                                               |       | 2,180 |   | 2,717 |   |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Loss before income taxes        |       | (416                                                 | )          | (3,525                                              | )          | (2,361 | ) | (15,003 | ) |
| Provision for income taxes      |       | (103                                                 | )          | (59                                                 | )          | (353 | ) | (324 | ) |
| Net loss                        |       | $                                                    | (519       | )                                                   | $          | (3,584 | ) | $ | (2,714 | ) | $ | (15,327 | ) |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Net loss per share:             |       |                                                 |       |                                                |       |   |   |   |   |
| Basic                           |       | $                                                    | (0.02      | )                                                   | $          | (0.11 | ) | $ | (0.08 | ) | $ | (0.46 | ) |
| Diluted                         |       | $                                                    | (0.02      | )                                                   | $          | (0.11 | ) | $ | (0.08 | ) | $ | (0.46 | ) |
|                            |       |                                                 |       |                                                |       |   |   |   |   |
| Shares used in the computation: |       |                                                 |       |                                                |       |   |   |   |   |
| Basic                           |       | 32,316                                               |       | 33,094                                              |       | 32,144 |   | 32,979 |   |
| Diluted                         |       | 32,316                                               |       | 33,094                                              |       | 32,144 |   | 32,979 |   |

 

See accompanying notes to condensed consolidated financial statements.

 

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**RightNow Technologies, Inc.**

**Condensed Consolidated Statements of CashFlows**

(In thousands) (Unaudited)

 
| ** **                                                           | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                           | ** ** | **2006**                                            | ** ** | **2007** | ** ** |
| **Operating activities:**                                            |       |                                                |       |   |   |
| Net loss                                                             |       | $                                                   | (2,714     | ) | $ | (15,327 | ) |
| Non-cash adjustments:                                                |       |                                                |       |   |   |
| Depreciation and amortization                                        |       | 3,998                                               |       | 5,424 |   |
| Provisions for losses on accounts  receivable                        |       | 51                                                  |       | 345 |   |
| Stock-based compensation                                             |       | 3,575                                               |       | 4,501 |   |
| Changes in operating accounts:                                       |       |                                                |       |   |   |
| Receivables                                                          |       | (16,529                                             | )          | 30,584 |   |
| Prepaid expenses                                                     |       | (384                                                | )          | (3,886 | ) |
| Accounts payable                                                     |       | (64                                                 | )          | (192 | ) |
| Commissions and bonuses payable                                      |       | 967                                                 |       | (1,219 | ) |
| Other accrued liabilities                                            |       | 244                                                 |       | 2,839 |   |
| Deferred revenue                                                     |       | 33,509                                              |       | (9,013 | ) |
| Other                                                                |       | 99                                                  |       | (140 | ) |
| Cash provided by operating activities                                |       | 22,752                                              |       | 13,916 |   |
|                                                                 |       |                                                |       |   |   |
| **Investing activities:**                                            |       |                                                |       |   |   |
| Net change in short-term investments                                 |       | (13,527                                             | )          | (17,696 | ) |
| Acquisition of property and equipment                                |       | (4,930                                              | )          | (4,764 | ) |
| Business acquisitions, net of cash acquired                          |       | (8,731                                              | )          | — |   |
| Other                                                                |       | (10                                                 | )          | (60 | ) |
| Cash used in investing activities                                    |       | (27,198                                             | )          | (22,520 | ) |
|                                                                 |       |                                                |       |   |   |
| **Financing activities:**                                            |       |                                                |       |   |   |
| Proceeds from issuance of common stock  under employee benefit plans |       | 1,362                                               |       | 1,688 |   |
| Excess tax benefits of stock options  exercised                      |       | —                                              |       | 228 |   |
| Payments on long-term debt                                           |       | (23                                                 | )          | (25 | ) |
| Cash provided by financing activities                                |       | 1,339                                               |       | 1,891 |   |
|                                                                 |       |                                                |       |   |   |
| Effect of foreign exchange rates on cash  and cash equivalents       |       | 347                                                 |       | 614 |   |
|                                                                 |       |                                                |       |   |   |
| Decrease in cash and cash equivalents                                |       | (2,760                                              | )          | (6,099 | ) |
|                                                                 |       |                                                |       |   |   |
| Cash and cash equivalents at beginning of  period                    |       | 40,874                                              |       | 39,208 |   |
| Cash and cash equivalents at end of period                           |       | $                                                   | 38,114     |   | $ | 33,109 |   |

 

See accompanying notes to condensed consolidated financial statements.

 

4

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** **

**RightNow Technologies, Inc.**

**Notes to Condensed Consolidated FinancialStatements**

(Unaudited)

 

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

** **

***Business Description***

*** ***

RightNowTechnologies, Inc. (the “Company” or “RightNow”) provides industry-leading softwaresolutions that help companies improve customer experiences while reducingoperating costs. The Company’s solutions are designed to go beyond traditionalcustomer relationship management (“CRM”) solutions to support a business’external customer-facing channels as well as sales, marketing and customerservice operations. Foundedin 1995, RightNow is headquartered in Bozeman, Montana, with additional officesin the United States, Europe, Australia and Japan. The Company operates in onesegment, which is the customer experience management market.

 

***Basis of Presentation***

*** ***

The accompanyingcondensed interim consolidated financial statements are unaudited. Thesefinancial statements and notes should be read in conjunction with the auditedconsolidated financial statements and related notes, together with management’sdiscussion and analysis of financial condition and results of operations,contained in the Company’s Annual Report on Form 10-K for the year endedDecember 31, 2006.

 

The accompanyingcondensed consolidated financial statements have been prepared in accordancewith United States generally accepted accounting principles. In the opinion ofmanagement, the interim condensed consolidated financial statements and noteshave been prepared on the same basis as the audited consolidated financialstatements in the Annual Report on Form 10-K and include all adjustmentsnecessary for the fair presentation of the Company’s financial position at September 30,2007, and results ofoperations for the three and nine month periods ended September 30,2006 and 2007, andcash flows for the nine month periods ended September 30, 2006 and 2007. The interim period results are notnecessarily indicative of the results to be expected for the full year.

 

The preparation of financialstatements in conformity with United States generally accepted accountingprinciples requires management to make estimates and assumptions that affectthe reported amounts of assets, liabilities, revenues and expenses, anddisclosures of contingent assets and liabilities. Management evaluates theseestimates and assumptions on an on-going basis. Significant estimates andassumptions made by management include the identification and fair value ofindividual elements in multiple-element sales arrangements, whether the feescharged for our products and services are fixed and determinable, valuationallowances for trade receivables and deferred income tax assets, andassumptions used in estimating the fair value of stock options granted forstock-based compensation.

 

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

*** ***

The Company’s revenue isderived from the subscription, license, hosting and support of its softwareproducts and provision of related professional services. The markets in whichthe Company competes are highly competitive and rapidly changing. Significanttechnological changes, changes in customer requirements, or the emergence ofcompetitive products with new capabilities or technologies could adverselyaffect the Company’s operating results. The Company has historically derived amajority of its revenue from customer service software solutions. Theseproducts are expected to continue to account for a significant portion ofrevenue 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’s customersare located around the world with approximately 70% to 75% of sales in theUnited States. No individual customer accounted for more than 10% of theCompany’s revenue in the first nine months of 2006 or 2007. No individualcustomer balances were 10% or more of accounts or term receivables at September 30,2006 or 2007. Onecustomer represented 13% of accounts receivable at December 31, 2006 and oneother customer represented 11% of term receivables at September 30, 2007.

 

As of December 31, 2006and September 30, 2007, assets located outside the United States were 12% and13% of total assets, respectively. The loss from operations outside of theUnited States totaled $6.7 million and $8.6 million for the nine months ended September 30,2006 and 2007,respectively. Revenue by geographical region follows (in thousands):

 
| ** **    | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **    | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
|          |       |                                                 |       |                                                |       |   |   |   |   |
| United States |       | $                                                    | 23,847     |                                                | $          | 20,687 |   | $ | 61,287 |   | $ | 58,067 |   |
| Europe        |       | 4,732                                                |       | 5,958                                               |       | 15,081 |   | 16,638 |   |
| Asia Pacific  |       | 1,509                                                |       | 2,601                                               |       | 5,259 |   | 6,708 |   |
|          |       | $                                                    | 30,088     |                                                | $          | 29,246 |   | $ | 81,627 |   | $ | 81,413 |   |

 

***(3) RevenueRecognition***

*** ***

The Company earns its revenues from the delivery ofsoftware, hosting and support services, and from the delivery of professionalservices. Beginning in 2007, the majority of software, hosting and supportrevenues are earned under subscription service arrangements (“subscriptions”). Priorto and continuing into 2007, software, hosting and support revenues are alsoearned under software license arrangements (“licenses”).

 

The Company recognizes revenue in accordance withthe provisions of SEC Staff Accounting Bulletin No. 104, *RevenueRecognition* and Emerging Issues Task Force Issue No. 00-21, *Revenue Arrangements with Multiple Deliverables* (“EITF 00-21”)*.*Revenue is recognized when all of the following criteriaare met: a) the Company has entered into a legally binding agreement withthe customer; b) the software has been made available or delivered to the 

 

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customer;c) the Company’s fee for providing the software and services is fixed anddeterminable; and d) collection of the Company’s fee is probable.

 

Subscriptions include access to the Company’ssoftware via its hosting services, technical support, and product upgrades whenand if available, all for a bundled fee. Subscription revenue is recognizedratably over the contractual term. Under EITF 00-21, value is assigned to eachdeliverable of an arrangement using prices established when the elements aresold stand-alone. The arrangement fee is then allocated to the individualelements based on their relative fair values. Revenue for each element isrecognized based on the criteria above.

 

The Company applies EITF 00-21 to its subscriptionsas opposed to Statement of Position 97-2, *Software RevenueRecognition* (“SOP 97-2”) because under the Company’s subscriptioncontracts, the customer does not have the right to take possession of thesoftware. In accordance with Emerging Issues Task Force Issue No. 00-03, *Application of AICPA Statement of Position 97-2, Software RevenueRecognition, to Arrangements That Include the Right to Use Software Stored onAnother Entity’s Hardware* (“EITF 00-03”), such arrangements areconsidered service contracts and are not within the scope of SOP 97-2.

 

Professional services, when sold with a subscriptionoffering, are accounted for separately when these services have value to thecustomer on a standalone basis and there is objective and reliable evidence offair value of each deliverable. When accounted for separately, professionalservices revenues are recognized as performed based on hours incurred. Ifprofessional services do not qualify for separate accounting, the Companyrecognizes the professional services revenue ratably over the term of theagreement.

 

Prior to its change to selling subscriptions, themajority of the Company’s revenues were earned under license arrangements. Licensesales have continued into 2007 for a limited number of new and existingcustomers. Revenue under license arrangements is recognized pursuant to therequirements of SOP 97-2 and SOP 98-9, Modification of SOP 97-2, *Software Revenue Recognition With Respect to Certain Transactions*.Licenses include the same elements as subscriptions, plus the right to takepossession of the software for no additional fee. Licenses are sold for a periodof time (a “term” license) or perpetually. Term license revenue is recognizedratably over the contractual period. Revenue for perpetual licenses isdetermined using the residual method and is recognized upon delivery. Revenuefor the hosting and support elements under a perpetual license is determinedbased on the price when sold separately, and recognized ratably over thecontractual timeframe.

 

The Company records revenue net of any applicablesales, use or excise taxes.

 

If an arrangement includes a right of acceptance ora right to cancel, revenue is recognized when acceptance is received or theright to cancel has expired. If the fee for the license has any payment termthat is due in excess of the Company’s normal payment terms (over90 days), the fee is considered not to be fixed or determinable, and theamount of revenue recognized (a) for perpetual license arrangements islimited to the amount currently due from the customer, or (b) for termlicense or subscription arrangements is limited to the lesser of the amountcurrently due from the customer or a ratable portion of the arrangement fee.

 

Certain customers have entered into agreements withus that require them to pay a minimum charge for fixed usage and excess usagecharges if they exceed fixed minimums. Usage above fixed minimums requirespayment of additional fees if the Company’s software is used by more than aspecified number of users or for more than a specified number of interactions.Fixed 

 

7

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minimumsare recognized as revenue ratably over the term of the arrangement. Usage feesabove fixed minimums are recognized as revenue when such amounts are known andbilled.

 

Separate contracts with the same customer that areentered into at or near the same time are generally presumed to have beennegotiated together and may be combined and accounted for as a singlearrangement, depending on facts and circumstances.

 

Deferred revenue represents amounts received or duefrom customers for which the revenue recognition criteria have not been met.The majority of deferred revenue results from the up front billing of term andsubscription contracts while revenue is recognized ratably over the contractualperiod. Deferred revenue is recognized into revenue when the Company providesits products and services, assuming all other revenue recognition criterianoted above are met. Under subscriptions, the amount currently due and payablefrom the customer is reflected in accounts receivable and deferred revenue. Underlicenses, the full customer commitment is reflected in accounts receivable foramounts currently due, or term receivables for amounts due over the contractualterm, and deferred revenue.

 

**(4)****          ****SalesIncentives**

 

In conjunction with the Company’s business modelchange, beginning in 2007 sales incentives paid for subscriptions are deferredand charged to expense in proportion to the revenue recognized. Salesincentives paid for licenses are expensed when earned, which is typically atthe time the related sale is invoiced. Sales incentive expense was $11.4million and $7.0 million for the nine months ended September 30, 2006 and2007, respectively. Deferred commissions were zero and $3.1 million atSeptember 30, 2006 and 2007, respectively.

 

** (5) Net Loss Per Share**

 

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

 
| ** **                                                               | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                               | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
|                                                                     |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average common shares outstanding  for basic net loss per share |       | 32,316                                               |       | 33,094                                              |       | 32,144 |   | 32,979 |   |
| Effect of dilutive securities:                                           |       |                                                 |       |                                                |       |   |   |   |   |
| Employee stock options                                                   |       | —                                               |       | —                                              |       | — |   | — |   |
| Weighted average shares outstanding for  dilutive net loss per share     |       | 32,316                                               |       | 33,094                                              |       | 32,144 |   | 32,979 |   |

 

The following commonstock equivalents were excluded from the computation of diluted earnings pershare because their impact was anti-dilutive (in thousands):

 
| ** **             | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **             | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
|                   |       |                                                 |       |                                                |       |   |   |   |   |
| Employee stock options |       | 4,156                                                |       | 4,002                                               |       | 4,156 |   | 4,002 |   |

 

8

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**(6) Comprehensive Income (Loss)**

 

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

 
| ** **                                        | ** ** | **Three Months Ended   September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                        | ** ** | **2006**                                              | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
|                                              |       |                                                  |       |                                                |       |   |   |   |   |
| Net loss                                          |       | $                                                     | (519       | )                                                   | $          | (3,584 | ) | $ | (2,714 | ) | $ | (15,327 | ) |
| Other comprehensive income (loss):                |       |                                                  |       |                                                |       |   |   |   |   |
| Unrealized gain (loss) on short-term  investments |       | 49                                                    |       | 57                                                  |       | 64 |   | 60 |   |
| Foreign currency translation adjustments          |       | 13                                                    |       | (101                                                | )          | 87 |   | (279 | ) |
| Comprehensive loss                                |       | $                                                     | (457       | )                                                   | $          | (3,628 | ) | $ | (2,563 | ) | $ | (15,546 | ) |

 

**(7)****          ****Stock-Based Compensation**

 

On January 1, 2006, theCompany adopted the provisions of Statement of Financial Accounting StandardsNo. 123(R), *Share Based Payment*, (“SFAS 123R”), forits stock-based compensation plans. Under SFAS 123R, stock-based compensationcosts are recognized based on the estimated fair value at the grant date forall stock-based awards. The Company estimates grant date fair values using theBlack-Scholes-Merton option pricing model, which requires assumptions of thelife of the award and the stock price volatility over the term of the award. TheCompany records compensation cost of stock-based awards using the straight linemethod, which is recorded into earnings over the vesting period of the award.

 

The following tableillustrates the stock-based compensation expense resulting from stock-basedawards included in the condensed consolidated statement of operations (amountsin thousands):

 
| ** **                                      | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                      | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
| **Stock-based compensation expense:** |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Cost of software, hosting and support           |       | $                                                    | 52         |                                                | $          | 84 |   | $ | 145 |   | $ | 221 |   |
| Cost of professional services                   |       | 124                                                  |       | 217                                                 |       | 358 |   | 491 |   |
| Sales and marketing expenses                    |       | 529                                                  |       | 542                                                 |       | 1,430 |   | 1,931 |   |
| Research and development expenses               |       | 230                                                  |       | 166                                                 |       | 622 |   | 681 |   |
| General and administrative expenses             |       | 179                                                  |       | 199                                                 |       | 1,020 |   | 1,177 |   |
| Stock-based compensation expense                |       | $                                                    | 1,114      |                                                | $          | 1,208 |   | $ | 3,575 |   | $ | 4,501 |   |
|                                                 |            |                                                      |            |                                                     |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

No stock-basedcompensation expense was capitalized during the three or nine months endedSeptember 30, 2006 or 2007.

 

Unrecognized compensationexpense of outstanding stock options at September 30, 2007 was approximately$13 million, which is expected to be recognized over a weighted average periodof 2.6 years.

 

Information regarding thefair value of stock options granted, and the weighted-average assumptions usedto obtain the fair values, for the respective periods follows:

 

9

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| ** **           | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **           | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
| Fair value per share |       | $                                                    |  7.86 |                                                | $          |  6.22 |   | $ |  8.43 |   | $ |  7.33 |   |
| Risk free rate       |       | 4.9                                                  | %          | 4.3                                                 | %          | 4.8 | % | 4.7 | % |
| Expected term        |       | 4.4                                                  | yrs   | 4.5                                                 | yrs   | 4.4 | yrs | 4.1 | yrs  |
| Volatility           |       | 55                                                   | %          | 51                                                  | %          | 57 | % | 53 | % |
| Dividend yield       |       | 0                                                    | %          | 0                                                   | %          | 0 | % | 0 | % |
|                      |            |                                                      |            |                                                     |            |  |  |  |  |  |  |  |  |  |

 

Key assumptions used toestimate the fair value of stock awards are as follows:

 

*Risk Free Rate:* The risk-free rate is determined byreference to the U.S. Treasury yield curve in effect at or near the time ofgrant for the expected term of the award.

 

*Expected Term*: The expected term represents the periodthat the Company’s stock-based awards are expected to be outstanding and isdetermined based on historical experience of similar awards, givingconsideration to the contractual term of the awards, vesting schedules andexpectations of employee exercise behavior.

 

*Volatility*: The Company’s estimate of expectedvolatility is based on a combination of the Company’s historical volatility andpeer-company volatilities for the expected term of the award. The Company has alimited history of volatility, as well as limited traded options from which toderive implied volatility. The Company believes the combination of itshistorical and peer-company volatilities is more representative of future stockprice trends than its historical volatility alone.

 

*Dividend Yield:* The dividend yield assumption is basedon the Company’s history and expectation of dividend payouts.

 

Activity under theCompany’s stock option plans for nine months ended September 30, 2007 was asfollows (option shares in thousands):

 
| ** **                                        | ** ** | **Shares  available  for grant** | ** ** | **Outstanding  options** | ** ** | **Weighted  average  exercise  price per  share** | ** ** | **Aggregate  intrinsic  value (in  thousands)** | ** ** | **Weighted  average  remaining  contractual  life (in years)** | ** ** |
|---------------------------------------------------|------------|---------------------------------------|------------|--------------------------|------------|--------------------------------------------------------|------------|------------------------------------------------------|------------|--------------------------------------------------------------------------|------------|
| Balance at December 31, 2006                      |       | 3,029                                 |       | 3,913                    |       | $                                                      | 9.96       |                                                 |       |                                                                     |       |   |
| Annual reserve addition (1)                       |       | 1,000                                 |       | —                   |       | —                                                 |       |                                                 |       |                                                                     |       |
| Granted                                           |       | (979                                  | )          | 979                      |       | 15.82                                                  |       |                                                 |       |                                                                     |       |
| Exercised                                         |       | —                                |       | (417                     | )          | 3.76                                                   |       |                                                 |       |                                                                     |       |
| Forfeited, expired or canceled (2)                |       | 461                                   |       | (473                     | )          | 15.12                                                  |       |                                                 |       |                                                                     |       |
| Balance at September 30, 2007                     |       | 3,511                                 |       | 4,002                    |       | $                                                      | 11.43      |                                                 | $          | 20,020                                                                   |       | 7.2 |   |
|                                              |       |                                  |       |                     |       |                                                   |       |                                                 |       |                                                                     |       |
| Vested or expected to vest at September 30,  2007 |       |                                  |       | 3,681                    |       | $                                                      | 11.11      |                                                 | $          | 19,575                                                                   |       | 7.0 |   |
|                                              |       |                                  |       |                     |       |                                                   |       |                                                 |       |                                                                     |       |
| Exercisable at September 30, 2007                 |       |                                  |       | 2,157                    |       | $                                                      | 8.63       |                                                 | $          | 16,549                                                                   |       | 6.0 |   |

 

----

(1)        The 2004 Equity IncentivePlan provides for an automatic, annual increase on the first of each year in anamount equal to the lesser of: a) 1,000,000 shares; b) 4% of the number ofoutstanding common shares on the last day of the previous fiscal year; or c)such lesser amount as determined by the board of directors. The annualautomatic increase has been approved by shareholders through December 31, 2014.

 

(2)        Shares forfeited, expired,exchanged or canceled under the 1998 Long-Term Equity Incentive and StockOption Plan are not available for re-grant under the 2004 Equity IncentivePlan.

 

The total intrinsic valueof options exercised during the nine months ended September 30, 2006 and 2007was $6.9 million and $5.0 million, respectively.

 

10

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**(8)**                     Commitments and Contingencies

** **

***Warranties andIndemnification***

*** ***

The Company’s on demandapplication service is typically warranted to perform in accordance with itsuser documentation.

 

The Company’sarrangements generally include certain provisions for indemnifying customers againstliabilities if its products or services infringe a third-party’s intellectualproperty rights. To date, the Company has not incurred any material costs as aresult of such indemnifications and has not accrued any liabilities related tosuch obligations in the accompanying consolidated financial statements.

 

The Company has enteredinto service level agreements with a small number of its customers warrantingcertain levels of uptime reliability and permitting those customers to receivecredits or terminate their license agreements in the event that the Companyfails to meet those levels. To date, the Company has not provided any materialcredits related to these service level agreements.

 

The Company has alsoagreed to indemnify its directors and executive officers for costs associatedwith any fees, expenses, judgments, fines and settlement amounts incurred byany of these persons in any action or proceeding to which any of those personsis, or is threatened to be, made a party by reason of the person’s service as adirector or officer, including any action by the Company, arising out of thatperson’s services as the Company’s director or officer or that person’sservices provided to any other company or enterprise at the Company’s request.

 

***Litigation***

*** ***

From time to time, theCompany is involved in legal proceedings arising in the normal course ofbusiness. The Company believes that the resolution of these matters will nothave a material effect on the Company’s consolidated financial position,results of operations or liquidity.

 

**(9)**                     Income Taxes

** **

Weadopted the Financial Accounting Standard Board’s Interpretation No. 48, *Accounting for Income Tax Uncertainties* (“FIN 48”), onJanuary 1, 2007. FIN 48 clarifies the accounting for uncertain income tax positionsrecognized in financial statements and requires the impact of a tax position tobe recognized in the financial statements if that position is more likely thannot of being sustained by the taxing authority. As of December 31, 2006 andSeptember 30, 2007, we had an insignificant amount of unrecognized taxbenefits, none of which would materially affect our effective tax rate ifrecognized. We do not expect that the amount of unrecognized tax benefits willsignificantly increase or decrease within the next twelve months. Our policy isto recognize interest and penalties on unrecognized tax benefits in provisionfor income taxes in the consolidated statements of operations. The amount ofinterest and penalties for the three and nine months ended September 30, 2007was insignificant. Tax years beginning in 2003 are subject to examination bytaxing authorities, although net operating loss and credit carryforwards fromall years are subject to examinations and adjustments for at least three yearsfollowing the year in which the attributes are used.

 

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 financial statements and related notesin this report. This discussion contains forward-looking statements thatinvolve risks and uncertainties. These forward-looking statements are based onour current expectations, estimates and projections about our industry,management’s beliefs, and certain assumptions made by us, all of which aresubject to change. Forward-looking statements can often be identified by wordssuch as “anticipates,” “expects,” “intends,” “plans,” “predicts,” “believes,” “seeks,”“ estimates,” “may,” “will,” “should,” “would,” “could,” “potential,” “continue,”“ongoing,” similar expressions, and variations or negatives of these words andinclude, but are not limited to, statements regarding projected results ofoperations and management’s future strategic plans. Our actual results coulddiffer significantly from those projected in the forward-looking statements asa result of factors, including those discussed under “Risk Factors” andelsewhere in this report. We assume no obligation to update the forward-lookingstatements or such risk factors.*

 

***Overview***

*** ***

Weare a leading provider of customer experience management software solutions forcompanies of all sizes. Our on demand software is designed to go beyondtraditional customer relationship management (“CRM”) solutions to helpcompanies improve their customer experiences, while reducing operating costs. Oursoftware solutions support a business’s external customer-facing channels aswell as sales, marketing and customer service operations.

 

Wereleased our initial version of RightNow Service in 1997. This productaddressed the new customer service needs resulting from the increasing use ofthe Internet as a customer service channel. Since then, we have significantlyenhanced product features and functionality to address customer service needsacross multiple communication channels, including web, interactive voice,email, chat, telephone and proactive outbound email communications. We havealso added several products that are complementary to our RightNow Servicesolution, including RightNow Marketing, RightNow Sales, and RightNow Feedbackwhich automate aspects of marketing campaigns, sales operations, and customermonitoring. In May 2005, we purchased the assets of Convergent Voice, and addedvoice enabled-CRM capabilities to our product portfolio. In May 2006, wepurchased Salesnet, Inc., a provider of sales automation solutions. In February2007, we released RightNow 8, our newest enterprise-class solution for service,sales and marketing. To date, approximately 80% to 90% of our revenue has beengenerated by the RightNow Service suite.

 

Wehave approximately 1,800 customers worldwide as of September 30, 2007, and ourproducts served more than 347 million customer interactions, or unique sessionshosted by our solutions, during the quarter ended September 30, 2007. Wedistribute our solutions primarily through direct sales efforts and to a lesserextent through indirect channels.

 

***2007 Business Model Changes***

*** ***

Tobetter align with industry practice, beginning in 2007 we changed our productofferings from software license arrangements to subscription servicearrangements (e.g. “subscriptions”). As the industry and business models for “softwareas a service” or “on demand” have evolved, the standard form of salesarrangements are service agreements rather than licenses of software 

 

12

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thatcan be hosted. We believe providing offerings in this manner will ultimatelyincrease our market penetration.

 

Accordingly,our terms of sale have been revised to provide a hosting service where thecustomer accesses the software and data via the Internet. Our previous terms ofsale provided the customer a software license, and for no additional fee thecustomer could choose to have the software hosted by us, by themselves or bysomeone else. We believe that revenue recognition for service arrangements willnot be materially different from our previous term license arrangements, asrevenue under either type of contract is generally recognized ratably over theperiod of the agreement. We also believe that additions to deferred revenue forour subscriptions will be less than that deferred for our licenses because,under subscriptions, only the amount currently due from the customer isrecorded to accounts receivable and deferred revenue. Under licenses, the fullcustomer commitment is recorded to receivables and deferred revenue whether ornot currently due because we have the contractual right to collect the entirearrangement fee.

 

Aspart of this business model change, we essentially discontinued sales of newperpetual software licenses which represented 21% of our revenue in 2006. Althoughwe expect to ultimately increase the lifetime value of our customerarrangements through sales of subscriptions, the substantive elimination ofperpetual license sales will materially and adversely impact our operatingresults for 2007 when compared to 2006 as perpetual revenue has generally beenrecognized in full upon delivery of the license.

 

Last,our policy for subscription contract acquisition costs, such as salescommissions, is to recognize them in proportion to the revenue recognized underthe subscription arrangement. Since we expect the majority of new business tobe subscriptions in 2007, we believe this policy will have a material andbeneficial impact on our 2007 and 2008 operating results. Commissions paid onlicense sales in 2007 will continue to be expensed when earned.

 

***Sources of Revenue***

*** ***

Ourrevenue is comprised of fees for software, hosting and support, and fees forprofessional services.

 

Software,hosting and support revenue includes fees earned under subscriptions andsoftware license arrangements. Subscription arrangements include a bundled feeto access the software and data via our hosting services, and support services.Subscription revenue is recorded ratably over the length of the agreement. Ourhosting services provide remote management and maintenance of our software andcustomers’ data which is physically located in third party facilities. Customers’access “hosted” software and data via secure Internet connection. Supportservices include technical assistance for our software products and unspecifiedproduct upgrades on a when and if available basis.

 

Licensearrangements can be over time or perpetual. For term licenses, software,hosting and support revenue is recognized ratably over the length of theagreement. Perpetual license revenue is recorded in full upon delivery of thelicense, and the hosting and support elements are recognized ratably over thecontractual period. Perpetual license revenue ranged from 21% to 25% of ourtotal revenue from 2004 through 2006. Due to the change in our business modelnoted above, perpetual license revenue decreased from $17.9 million, or 22% ofrevenue in the nine months ended September 30, 2006 to $1.5 million, or 2% ofrevenue in the nine months ended September 30, 2007.

 

13

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Oursales arrangements generally provide customers with the right to use oursoftware up to a maximum number of users or transactions. A number of ourarrangements provide for additional fees for usage above the maximum, which arebilled and recognized into revenue when earned.

 

Professionalservices revenue is comprised of revenue from consulting, education anddevelopment services, and reimbursement of related travel costs. Consulting andeducation services include implementation and best practices consulting. Developmentservices include customizations and integrations for a client’s specificbusiness application. Professional services revenue ranged from 19% to 22% oftotal revenue in the past three years.

 

Professionalservices are typically sold with initial sales arrangements and thenperiodically over the client engagement. Our typical education courses arebilled on a per person, per class basis.

 

Dependingon the size and complexity of the client project, our consulting or developmentservices contracts are either fixed price/fixed scope or, less frequently,billed on a time and materials basis. We have determined that the professionalservices element of our software arrangements is not essential to the functionalityof the software.

 

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

*** ***

*Cost of Revenue.  *Cost of revenue consists primarily of salaries and related expenses(such as employee benefits and payroll taxes) for our hosting, support andprofessional services organizations, third-party costs and equipmentdepreciation relating to our hosting services, third-party costs for voiceenabled CRM applications, travel expenses related to providing professionalservices to our clients, amortization of acquired intangible assets andallocated overhead. We allocate most overhead expenses, such as officesupplies, computer supplies, utilities, rent, depreciation for furniture andequipment, payroll taxes and employee benefits, based on headcount. As aresult, overhead expenses are reflected in each cost of revenue and operatingexpense category.

 

*Sales and Marketing Expenses.  *Sales and marketing expenses consistprimarily of salaries and related expenses for employees in sales andmarketing, including commissions and bonuses, advertising, marketing events,corporate communications, product management expenses, travel costs andallocated overhead. For subscription arrangements, we expense the related salescommission in proportion to the revenue recognized. We expense our sales commissionson license arrangements when earned, which is typically at the time the relatedsale is invoiced to the client. Since the majority of our historical revenuehas been from license arrangements recognized over time, we have experienced adelay between increasing sales and marketing expenses and the recognition ofcorresponding revenue. We expect significant additional increases in sales andmarketing expenses in absolute dollars as we continue to hire additional salesand marketing personnel and increase 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 internal softwaredevelopment costs because the timing of the commercial releases of our productshas 

 

14

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substantiallycoincided with the attainment of technological feasibility. We intend tocontinue to expand and enhance our product offerings. To accomplish this, weplan to hire additional personnel and, from time to time, contract with thirdparties. We expect that research and development expenses will increase inabsolute dollars as we seek to expand our technology and product offerings.

 

*General andAdministrative Expenses*.  Generaland administrative expenses consist primarily of salary and related expensesfor management, finance and accounting, legal, information systems and humanresources personnel, professional fees, other corporate expenses and allocatedoverhead. We anticipate that we will incur additional employee salaries andrelated expenses, professional service fees and insurance costs related to thegrowth of our business and operations.

 

***Critical Accounting Policiesand Estimates***

*** ***

Ourfinancial statements and accompanying notes are prepared in accordance withU.S. generally accepted accounting principles. Preparing financial statementsrequires management to make estimates and assumptions that affect the reportedamounts of assets, liabilities, revenues and expenses. These assumptions areaffected by management’s application of accounting policies. Our criticalaccounting policies include revenue recognition, valuation of receivables anddeferred tax assets, and accounting for share-based compensation.

 

***Revenue Recognition***

*** ***

Beginningin 2007, we changed the nature of our sales arrangements from licensearrangements to subscription arrangements (“subscriptions”). For a bundled fee,subscriptions provide the customer with access to the software and data overthe Internet, or on demand, and provide technical support services and softwareupgrades when and if available. Under subscriptions, customers do not have theright to take possession of the software and, in accordance with EITF 00-03such arrangements are considered service contracts which are outside the scopeof SOP 97-2. Accordingly, we account for sales of subscriptions under EITF00-21 and recognize subscription revenue ratably over the length of theagreement in accordance with SAB 104.

 

Priorto 2007, we sold the majority of products under software license arrangements (“licenses”)and accounted for them in accordance with SOP 97-2 and SOP 98-9. Licensesgenerally include multiple elements that are delivered up front or over time. Forexample, under a term license, we deliver the software up front and providehosting and support services over time. Fair value for each element in alicense does not exist since none are sold separately, and consequently, thebundled revenue is recognized ratably over the length of the agreement. Under aperpetual license, vendor specific objective evidence of fair value of thehosting and support elements is based on the price charged at renewal when soldseparately, and therefore the license element is recognized immediately intorevenue upon delivery using the residual method, and the hosting and supportelements are recognized ratably over the contractual term.

 

Theapplication of these rules requires judgment, including the identification ofindividual elements in multiple element arrangements, whether there isobjective and reliable evidence of fair value, including vendor specificobjective evidence (“VSOE”) of fair value, for some or all elements. Changes tothe elements in our sales arrangements, or our ability to 

 

15

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establishVSOE or fair value for those elements may result in a material change to theamount of revenue recorded in a given period.

 

Feescharged for professional services are recognized when delivered. We believe thefees for professional services qualify for separate accounting because: a) theservices have value to the customer on a stand-alone basis; b) objective andreliable evidence of fair value exists for these services; and c) performanceof the services is considered probable and does not involve unique customeracceptance criteria.

 

 Our standard payment terms are net 30,although payment within 90 days is considered normal. We periodically provideextended payment terms and we consider any fees due beyond 90 days to not befixed and determinable  In such cases,judgment is required in determining the appropriate timing of revenuerecognition. Changes to our practice of providing extended payment terms orproviding concessions following a sale, may result in a material change to theamount of revenue recorded in a given period.

 

***Allowance for doubtful accounts***

*** ***

Weregularly assess the collectibility of outstanding customer invoices and, in sodoing we maintain an allowance for estimated losses resulting from thenon-collection of customer receivables. In estimating this allowance weconsider factors such as: historical collection experience; a customer’scurrent creditworthiness; customer concentration; age of the receivablebalance; and general economic conditions that may affect a customer’s abilityto pay. Actual customer collections could differ from our estimates and exceedour related loss allowance.

 

***Income Taxes***

*** ***

Werecord income taxes under the asset and liability 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 andliabilities are measured using enacted tax rates expected to apply to taxableincome in the years in which those temporary differences are expected to berecovered or settled. The effect of a change in tax rates on deferred taxassets and liabilities is recognized in income in the period that includes theenactment date. When applicable, a valuation allowance is established to reduceany deferred tax asset when it is determined that it is more likely than notthat some portion of the deferred tax asset will not be realized.

 

Wehave established a valuation allowance equal to our net deferred tax assets dueto uncertainties regarding the realization of our net operating losscarryforwards, tax credits, and deductible timing differences. The uncertaintyof realizing these benefits is based primarily on our lack of taxable earnings.

 

***Share-Based Compensation***

*** ***

Wehave adopted the provisions of Statement of Financial Accounting Standards No.123(R), *Share Based Payment*, (“SFAS 123R”)beginning January 1, 2006 utilizing the modified prospective method. Thisstatement requires the cost of share-based payment arrangements to be recordedin the statement of operations. Prior to 2006, the estimated cost ofshare-based payment arrangements was disclosed in a footnote to the financialstatements. Share-based compensation 

 

16

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amountsare affected by our stock price as well as our assumptions regarding theexpected volatility of our stock, anticipated employee stock option exercisebehaviors, expected forfeitures, and the related income tax effects. Ourassumptions are based primarily on our historical information, some of whichwas developed when we were a private company.

 

***AccountingStandards Issued But Not Yet Adopted***

*** ***

SFAS157, *Fair Value Measurements*, defines fairvalue, establishes a framework for measuring fair value in GAAP, and enhancesdisclosures about fair value measurements. This statement applies when otheraccounting pronouncements require fair value measurements; it does not requirenew fair value measurements. SFAS 157 is effective for financial statementsissued for fiscal years beginning after November 15, 2007, and interim periodswithin those years. We do not believe adoption of SFAS 157 will have a materialeffect on our financial statements.

 

Theguidance in FASB Statement No. 159, *The Fair Value Option forFinancial Assets and Financial Liabilities*, is effective as of thebeginning of an entity’s first fiscal year that begins after November 15, 2007.This statement provides companies with an option to report selected assets andliabilities (principally financial assets and financial liabilities) at fairvalue. The objective of SFAS 159 is to reduce both the complexity in accountingfor financial instruments and the volatility in earnings caused by measuringrelated assets and liabilities differently. SFAS 159 also establishespresentation and disclosure requirements designed to facilitate comparisonsbetween companies that choose different measurement attributes for similartypes of assets and liabilities, and does not eliminate disclosure requirementsincluded in other accounting standards. We do not believe adoption of SFAS 159will have a material effect on our financial statements.

 

**Results of Operations**

 

The following table sets forth certain consolidatedstatements of operations data for each of the periods indicated, expressed as apercentage of total revenue:

 
| ** **                               | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                               | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
| ** **                               | ** ** | ** **                                           | ** ** | ** **                                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue:                                 |       |                                                 |       |                                                |       |   |   |   |   |
| Software, hosting and support            |       | 79                                                   | %          | 77                                                  | %          | 78 | % | 77 | % |
| Professional services                    |       | 21                                                   |       | 23                                                  |       | 22 |   | 23 |   |
| Total revenue                            |       | 100                                                  |       | 100                                                 |       | 100 |   | 100 |   |
| Cost of revenue:                         |       |                                                 |       |                                                |       |   |   |   |   |
| Software, hosting and support            |       | 12                                                   |       | 16                                                  |       | 12 |   | 17 |   |
| Professional services                    |       | 17                                                   |       | 19                                                  |       | 17 |   | 19 |   |
| Total cost of revenue                    |       | 29                                                   |       | 35                                                  |       | 29 |   | 36 |   |
| Gross profit                             |       | 71                                                   |       | 65                                                  |       | 71 |   | 64 |   |
| Operating expenses:                      |       |                                                 |       |                                                |       |   |   |   |   |
| Sales and marketing                      |       | 55                                                   |       | 56                                                  |       | 55 |   | 59 |   |
| Research and development                 |       | 12                                                   |       | 15                                                  |       | 13 |   | 16 |   |
| General and administrative               |       | 8                                                    |       | 9                                                   |       | 9 |   | 11 |   |
| Total operating expenses                 |       | 75                                                   |       | 80                                                  |       | 77 |   | 86 |   |
| Loss from operations                     |       | (4                                                   | )          | (15                                                 | )          | (6 | ) | (22 | ) |
| Interest and other income (expense), net |       | 2                                                    |       | 3                                                   |       | 3 |   | 3 |   |
| Loss before income taxes                 |       | (2                                                   | )          | (12                                                 | )          | (3 | ) | (19 | ) |
| Provision for income taxes               |       | —                                               |       | —                                              |       | — |   | — |   |
| Net loss                                 |       | (2                                                   | )%         | (12                                                 | )%         | (3 | )% | (19 | )% |

 

17

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The following table sets forth our on demandcustomer interactions and our revenue by type and geography expressed as apercentage of total revenue for each of the periods indicated.

 
| ** **                                                     | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                     | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **2006** | ** ** | **2007** | ** ** |
| ** **                                                     | ** ** | ** **                                           | ** ** | ** **                                          | ** ** | ** ** | ** ** | ** ** | ** ** |
| Customer interactions (in millions)                            |       | 261                                                  |       | 347                                                 |       | 765 |   | 1,031 |   |
| Revenue by type:                                               |       |                                                 |       |                                                |       |   |   |   |   |
| Recurring (subscriptions, term licenses,  hosting and support) |       | 56                                                   | %          | 75                                                  | %          | 56 | % | 75 | % |
| Perpetual licenses                                             |       | 23                                                   |       | 2                                                   |       | 22 |   | 2 |   |
| Professional services                                          |       | 21                                                   |       | 23                                                  |       | 22 |   | 23 |   |
| Revenue by geography in:                                       |       |                                                 |       |                                                |       |   |   |   |   |
| United States                                                  |       | 79                                                   | %          | 71                                                  | %          | 76 | % | 72 | % |
| Europe                                                         |       | 16                                                   |       | 20                                                  |       | 18 |   | 20 |   |
| Asia Pacific                                                   |       | 5                                                    |       | 9                                                   |       | 6 |   | 8 |   |

 

***Quarter Overview***

*** ***

Total revenue in the third quarter of 2007decreased 3% from the third quarter of 2006 mostly due to our change fromselling software licenses to selling subscription services which we announcedin early 2007. Under this business model change, perpetual license revenuedecreased 92% to $0.6 million in the quarter ended September 30, 2007 from $7.0million in the similar quarter in 2006. Offsetting much of the decreasedperpetual revenue was 31% growth in recurring revenue in the third quarter of2007 over the third quarter of 2006. Recurring revenue increased in theSeptember 2007 quarter due to growth in the number of customers and higheraverage revenue per customer.

 

We continued to invest in our operations during2007 by adding capacity to our hosting, technical support, and professionalservices organizations, by increasing the number of sales and marketingpersonnel to focus on new customer acquisition, and by increasing the number ofsoftware developers to broaden and enhance our solution offerings. Theseinvestments increased total expenses which, when combined with the much loweramount of perpetual license revenue, caused us to incur an operating loss of15% of revenue in the quarter ended September 30, 2007 as compared to a 4%operating loss in the quarter ended September 30, 2006.

 

For the quarter ended September 30, 2007, wegenerated $3.8 million of cash from operations compared to $9.8 million of cashfrom operations in the comparative 2006 quarter, and increased our cash andshort-term investment balances to $89.9 million at September 30, 2007 from$75.0 million one year earlier.

 

As of September 30, 2007, we had an accumulateddeficit of $53.6 million. This deficit and our historical operating losses wereprimarily the result of costs incurred in the development, sales and marketingof our products and for general and administrative purposes.

 

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*** ***

***Three Months and Nine Months EndedSeptember 30, 2006 and 2007***

 

***Revenue***

 
| ** **                           | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| **(Amounts in thousands)** | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **Percent  Change** | ** ** | **2006** | ** ** | **2007** | ** ** | **Percent  Change** | ** ** |
|                                 |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Software, hosting and support:       |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Recurring                            |       | $                                                    | 16,710     |                                                | $          | 21,813 |   | 31 | % | $ | 45,770 |   | $ | 61,379 |   | 34 | % |
| Perpetual                            |       | 7,044                                                |       | 553                                                 |       | (92 | ) | 17,930 |   | 1,499 |   | (92 | ) |
| Professional services                |       | 6,334                                                |       | 6,880                                               |       | 9 |   | 17,927 |   | 18,535 |   | 3 |   |
| Total revenue                        |       | $                                                    | 30,088     |                                                | $          | 29,246 |   | (3 | )% | $ | 81,627 |   | $ | 81,413 |   | — | % |

 

Total revenue for the three months ended September30, 2007 was $29.2 million, a decrease of $0.8 million, or 3%, from totalrevenue of $30.1 million for the three months ended September 30, 2006. Totalrevenue of $81.4 million for the nine months ended September 30, 2007 wasslightly less than total revenue of $81.6 million for the nine months endedSeptember 30, 2006.

 

Software, hosting andsupport revenue, consisting of recurring revenue and perpetual license revenue, for the three months endedSeptember 30, 2007 decreased $1.4 million, to $22.4 million, from $23.7 millionfor the three months ended September 30, 2006. Recurring revenue, comprised ofsubscriptions, term licenses, hosting and support, for the three and nine monthperiods ended September 30, 2007 increased 31% and 34% over the comparable 2006three and nine month periods, respectively. Recurring revenue has grownprimarily due to a 21% increase in average revenue per customer and a 4%increase in average number of customers. Average revenue per customer increasedas a result of sales of new products, capacity additions, and contract renewals.Customer interactions, a measure of unique customer sessions hosted in our datacenters and customer usage volume, increased approximately 33% to 347 millionin the quarter ended September 30, 2007 from the quarter ended September 30,2006.

 

Perpetual license revenue decreased $6.5 million and$16.4 million, or 92%, in the three and nine month periods ended September 30,2007, respectively, as compared to the similar periods of 2006. The mix ofperpetual license revenue affects our profitability in any given period becauseit is recorded in full into revenue upon delivery instead of being recordedratably into revenue over time, as is the case with subscriptions and termlicenses. Beginning in 2007, we essentially discontinued sales of new perpetuallicenses which caused the significant decrease in perpetual revenue from theprior year.

 

Professional services revenue increased $546,000, or9%, in the quarter ended September 30, 2007 compared to the year-earlierquarter, and  increased $608,000, or 3%,in the nine months ended September 30, 2007 over the comparable period endingSeptember 30, 2006. The growth in professional services revenue is primarilydue to higher utilization and a higher volume of large customer projects in thecurrent year. Customers generally purchase professional services with initiallicense or subscription arrangements, and periodically over the life of thecontract.

 

The mix of professional services revenue affects ourprofitability from period-to-period due to the lower gross profit earned onprofessional services as compared to the gross profit earned on software,hosting and support revenue. Professional services revenue represented 23% and21% of total revenue in the three months ended September 30, 2007 and 2006,respectively.

 

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Weexpect professional services revenue to range between 20% and 25% of totalrevenue in the future.

 

Revenue from international customers grew torepresent 29% of total revenue in the quarter ended September 30, 2007 from 21%of total revenue in the quarter ended September 30, 2006. For the nine monthsended September 30, 2007, revenue from international customers represented 28%of total revenue as compared to representing 25% of total revenue in theyear-earlier period. The higher percentage of revenue from internationalcustomers is primarily the result of lower perpetual revenue in 2007, which wasderived mostly from North American customers in previous years.

 

***Costof Revenue***

 
| ** **                           | ** ** | **Three Months Ended**

**September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|--------------------------------------|------------|----------------------------------------------------------|------------|-----------------------------------------------------|------------|
| **(Amounts in thousands)** | ** ** | **2006**                                                 | ** ** | **2007**                                            | ** ** | **Percent  Change** | ** ** | **2006** | ** ** | **2007** | ** ** | **Percent  Change** | ** ** |
|                                 |       |                                                     |       |                                                |       |   |   |   |   |   |   |   |   |
| Software, hosting and support        |       | $                                                        | 3,667      |                                                | $          | 4,604 |   | 26 | % | $ | 9,597 |   | $ | 13,563 |   | 41 | % |
| Professional services                |       | 4,969                                                    |       | 5,667                                               |       | 14 |   | 14,014 |   | 15,874 |   | 13 |   |
| Total cost of revenue                |       | $                                                        | 8,636      |                                                | $          | 10,271 |   | 19 | % | $ | 23,611 |   | $ | 29,437 |   | 25 | % |

 

Total cost of revenue forthe quarter ended September 30, 2007 was $10.3 million, an increase of $1.7million, or 19% over total cost of revenue of $8.6 million for the quarterended September 30, 2006. Total cost of revenue for the nine months endedSeptember 30, 2007 was $29.4 million, or 25% more than total cost of revenue of$23.6 million for the nine months ended September 30, 2006.

 

Cost of software, hostingand support increased $937,000, or 26% in the third quarter ended September 30,2007 over the third quarter of 2006 due primarily to capacity additions to ourhosting data centers, including new data centers in London, England, andChicago, Illinois, and increased voice and non-voice hosting volume. Staffadditions to our hosting and technical support organizations increased salariesand related expenses (i.e. payroll taxes, benefits, bonuses, stock-basedcompensation, allocated overhead) by $352,000 in the quarter ended September30, 2007 when compared to the quarter ended September 30, 2006. Averageemployee count in our hosting and technical support operations was 82 in thethird quarter of 2007 as compared to 74 in the third quarter of 2006. New datacenters added in 2006 and 2007 and growth in customer interactions increasedthird party hosting provider costs by $441,000 in the quarter ended September30, 2007 as compared to the quarter ended September 30, 2006. Equipmentadditions to our data centers increased depreciation expense in the thirdquarter of 2007 by $149,000 over the third quarter of 2006. As a percent of theassociated revenue, software, hosting and support costs were 21% and 22% ofrevenue in the three months and nine months ended September 30, 2007 ascompared to 15% in both the three months and nine months ended September 30,2006 mostly due to the lower revenue contribution from perpetual licensescombined with the capacity increases noted above.

 

Cost of professionalservices increased $698,000, or 14%, in the quarter ended September 30, 2007over the quarter ended September 30, 2006 due to employee staff additionspartly offset by lower travel & entertainment expenses. Average employeecount in our professional services organization grew to 143 in the thirdquarter of 2007 from 131 in the third quarter of 2006, which increased salariesand related expenses by $839,000. This increase was partially offset by lower

 

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travel and entertainment expenses of $128,000. As apercent of the associated revenue, professional services costs increased to 82%and 86% in the three and nine months ended September 30, 2007, respectively,from 78% in the three and nine months ended September 30, 2006. Employeetraining and customer scheduling requirements can cause the cost of professionalservices to fluctuate as a percentage of revenue from period to period. Weexpect professional services costs to range between 80% and 85% of theassociated revenue in 2007.

 

***OperatingExpenses***

 
| ** **                           | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended**

**September 30,** | ** ** |
|--------------------------------------|------------|------------------------------------------------------|------------|---------------------------------------------------------|------------|
| **(Amounts in thousands)** | ** ** | **2006**                                             | ** ** | **2007**                                                | ** ** | **Percent**

**Change** | ** ** | **2006** | ** ** | **2007** | ** ** | **Percent**

**Change** | ** ** |
|                                 |       |                                                 |       |                                                    |       |   |   |   |   |   |   |   |   |
| Sales and marketing                  |       | $                                                    | 16,535     |                                                    | $          | 16,516 |   | — | % | $ | 45,113 |   | $ | 48,031 |   | 7 | % |
| Research and development             |       | 3,740                                                |       | 4,308                                                   |       | 15 |   | 10,346 |   | 12,947 |   | 25 |   |
| General and administrative           |       | 2,333                                                |       | 2,680                                                   |       | 15 |   | 7,098 |   | 8,718 |   | 23 |   |
| Total operating expenses             |       | $                                                    | 22,608     |                                                    | $          | 23,504 |   | 4 | % | $ | 62,557 |   | $ | 69,696 |   | 11 | % |

 

## ***Sales and Marketing Expenses***

## ** **

Sales and marketing expenses of $16.5 million in thethird quarter of 2007 were approximately even with the third quarter of 2006. Salariesand related expenses increased $1.7 million in the third quarter of 2007compared to the third quarter of 2006 primarily due to staff additions andstaff promotions. Average employee count in our sales and marketingorganizations increased to 268 in the quarter ended September 30, 2007 from 261in the quarter ended September 30, 2006. Offsetting the increased salaries andrelated expenses were lower sales incentive expenses caused by the deferral ofsales incentives earned on subscription agreements. As noted above under “2007Business Model Changes,” we changed the nature of our sales arrangements fromlicenses to subscriptions beginning in 2007. Under license arrangements, weexpense sales incentives when earned, which is typically upon contract signing.Under subscription arrangements, we defer the related sales incentive costs andexpense them in proportion to the revenue recognized. We deferred $1.4 millionof sales incentives earned on subscription sales in the third quarter of 2007,as compared to zero deferred sales incentives in the third quarter of 2006. Netsales incentive expense in the quarter ending September 30, 2007 was $2.8million as compared to $4.5 million in the quarter ended September 30, 2006.

 

Sales and marketing expenses for the nine monthsended September 30, 2007 increased $2.9 million, or 7%, over the comparable2006 period due to staff additions and promotions which increased salaries andrelated expenses by $6.4 million and was offset in part by lower salesincentive expenses of $3.9 million.

 

*Research and Development Expenses*

 

#### **Research and development expensesof $4.3 million in the three months ended September 30, 2007 were $568,000, or15%, more than research and development expenses of $3.7 million in the threemonths ended September 30, 2006, primarily due to increased salaries andrelated expenses and third party services. Salary and related expense increased$331,000 primarily due to annual merit increases and promotions within thegroup, as well as certain increased overhead expenses that are allocated basedon headcount. Average employee count in our research and development remainedapproximately level at 133 in the comparative third quarters ended**

#### ** **

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#### **September 30, 2006 and 2007. Higher outside servicecosts of $180,000 were incurred in the quarter ended September 30, 2007principally related to language translations of installation and operationmanuals for our newest product, RightNow 8, and subsequent quarterly releases.**

#### ** **

Researchand development expenses for the nine months ended September 30, 2007 increased25% over the comparable 2006 period due to staff additions which increasedsalaries and related expenses by $1.9 million and higher third-party consultingservices which increased by $539,000.

 

*General and Administrative Expenses*

 

General andadministrative expenses increased $347,000, or 15%, in the third quarter of2007 over the third quarter of 2006 mostly due to staff additions. Averageemployees in our general and administrative organization were 69 in the thirdquarter of 2007 as compared to 62 in the third quarter of 2006, which increasedsalaries and related expenses by $288,000.

 

General and administrativeexpenses for the nine months ended September 30, 2007 increased 23% over thecomparable 2006 period due to staff additions which increased salaries andrelated expenses by $1.5 million.

 

*Stock-Based Compensation Expense*

 

Total stock-based compensation expense for the threeand nine months ended September 30, 2007 was $1.2 million and $4.5 million,respectively, as compared to $1.1 million and $3.6 million in the three andnine months ended September 30, 2006, respectively. The year-over-year increasein stock-based compensation expense results primarily from growth in the fairmarket value of our stock since our initial public offering in 2004, which inturn drives growth in the estimated fair value of our stock options and thecorresponding expense. Stock-based compensation expense fluctuates fromperiod-to-period due to changes in the underlying market value of our stock andchanges in our valuation assumptions, such as the expected volatility of ourstock, the expected time an option will be outstanding, and expected optionforfeiture rates.

 

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

 
| ** **                                      | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| **(Amounts in thousands)**            | ** ** | **2006**                                             | ** ** | **2007**                                            | ** ** | **Percent  Change** | ** ** | **2006** | ** ** | **2007** | ** ** | **Percent  Change** | ** ** |
|                                            |       |                                                 |       |                                                |       |   |   |   |   |   |   |   |   |
| Interest income                                 |       | $                                                    | 776        |                                                | $          | 1,055 |   | 36 | % | $ | 2,170 |   | $ | 2,859 |   | 32 | % |
| Interest expense                                |       | (3                                                   | )          | (2                                                  | )          | n/m |   | (8 | ) | (5 | ) | n/m |   |
| Other income (expense)                          |       | (33                                                  | )          | (49                                                 | )          | n/m |   | 18 |   | (137 | ) | n/m |   |
| Total interest and other income (expense),  net |       | $                                                    | 740        |                                                | $          | 1,004 |   | 36 | % | $ | 2,180 |   | $ | 2,717 |   | 25 | % |

 

Interestincome increased 36% in the third quarter of 2007 over the third quarter of2006 primarily due to growth in our cash and short-term investment balances,and to a lesser extent increased average yields on invested funds. Cash andinvestment balances have increased primarily from cash generated by thebusiness. Our investment portfolio consists primarily of short-term,investment-grade government and corporate debt instruments. Other income(expense) consists primarily of gains or losses on miscellaneous asset salesand foreign currency transaction gains or losses.

 

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***Provision for Income Taxes***

 

The provision for incometaxes was $59,000 and $324,000 for the three and nine months ended September30, 2007, respectively, as compared to $103,000 and $353,000 for the similarperiods in 2006. Our provision for income taxes consists primarily of foreigntax withholdings and state provisions. Our effective tax rate differs from thefederal statutory rate primarily due to unrealized operating losses, taxcredits, federal alternative minimum taxes, foreign rate differentials, statetaxes and non-deductible expenses. Our effective tax rate in 2007 will dependon a number of factors, such as the amount and mix of stock-based compensationexpense to be recorded under SFAS 123R, the level of business in state andforeign tax jurisdictions, management’s expectation of the realization ofdeferred tax assets and the associated valuation allowance, and other factors.

 

**Liquidity and Capital Resources**

 
| ** **                                         | ** ** | **Three Months Ended**

**September 30,** | ** ** | **Nine Months Ended**

**September 30,** | ** ** |
|----------------------------------------------------|------------|----------------------------------------------------------|------------|---------------------------------------------------------|------------|
| **(Amounts in thousands)**               | ** ** | **2006**                                                 | ** ** | **2007**                                                | ** ** | **Percent  Change** | ** ** | **2006** | ** ** | **2007** | ** ** | **Percent  Change** | ** ** |
|                                               |       |                                                     |       |                                                    |       |   |   |   |   |   |   |   |   |
| Cash, cash equivalents and short-term  investments |       | $                                                        | 75,020     |                                                    | $          | 89,932 |   | 20 | % | $ | 75,020 |   | $ | 89,932 |   | 20 | % |
| Cash provided by operating activities              |       | 9,836                                                    |       | 3,793                                                   |       | (61 | ) | 22,752 |   | 13,916 |   | (39 | ) |
|                                                    |            |                                                          |            |                                                         |            |  |  |  |  |  |  |  |  |  |  |  |  |

 

At September 30, 2007, cash, cash equivalents,and short-term investments, totaled $89.9 million. In addition to our cash andshort-term investments, other sources of liquidity at September 30, 2007included a $3.0 million bank line of credit facility, under which there havebeen no borrowings.

 

Operating activities provided $3.8 million and $13.9million of cash during the quarter and nine months ended September 30, 2007,respectively, as compared to $9.8 million and $22.8 million in the quarter andnine months ended September 30, 2006. We expect full year 2007 cash flow fromoperations to range between $15 and $20 million as compared to $27 million incash flow from operations in 2006. However, cash flow from operations can varysignificantly from quarter-to-quarter for many reasons, including the timing ofbusiness in a given period and customer payment preferences and patterns. Theexpected decrease in full year cash from operations is primarily the result ofour business model change announced earlier this year where we discontinuedselling perpetual software licenses, which are typically larger dollarcontracts paid net 30.

 

Historically, we have generated cash fromoperations from increasing sales and the upfront billing of our salesarrangements, which is typically reflected in accounts receivable and deferredrevenue. When customers chose to pay over time, we recorded a term receivableto reflect the customer commitment. Beginning in 2007, our change tosubscriptions from license arrangements requires that we no longer recordadditions to term receivables, and consequently, we expect term receivables togradually decline over time. This change in the recording of term receivablesis not expected to negatively affect cash flow from operations.

 

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The allowance for uncollectible accounts receivablerepresented approximately 5% of current accounts and term receivables atSeptember 30, 2007 and December 31, 2006, respectively. We regularly assess theadequacy of the allowance for doubtful accounts. Actual write-offs could exceedour estimates and adversely affect operating cash flows in the future.

 

Investing activities used $5.3 million and $22.5million in the quarter and nine months ended September 30, 2007, respectively. Year-to-date2007 investing activities consisted of net purchases of short-term investmentsof $17.7 million and $4.8 million of capital expenditures. Capital assetadditions consisted primarily of equipment acquisitions for our hostingoperations and employee growth, and are expected to be approximately $7 millionto $8 million for the full year 2007.

 

Financing activities provided $518,000 and $1.9million in the three and nine months ended September 30, 2007, respectively,mostly from the employee purchases of our common stock under our equityincentive plans and the related excess tax benefits.

 

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 capitalrequirements will depend on many factors, including our rate of revenue growthand expansion of our sales and marketing activities, the possible acquisitionof complementary products or businesses, the timing and extent of spendingrequired for research and development efforts, and the continuing marketacceptance of our products. To the extent that available funds are insufficientto fund our future activities, we may need to raise additional funds throughpublic or private equity or debt financings. Additional equity or debtfinancing may not be available on terms favorable to us or at all.

 

**Off-Balance Sheet Arrangements**

 

Asof September 30, 2007, we did not have any significant off-balance-sheetarrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K promulgatedby the SEC.

 

# **Contractual Obligations and Commitments**

# ** **

Therehave been no material changes to our contractual obligations or commitmentssince December 31, 2006.

 

**Item 3. Quantitative and Qualitative Disclosures About Market Risk**

 

*Foreign Currency Exchange Risk*

 

Ourresults of operations and cash flows are subject to fluctuation due to changesin foreign currency exchange rates, particularly changes in the Euro, Britishpound, Australian dollar and Japanese yen, because our contracts are frequentlydenominated in local currency. In the future, we may utilize foreign currencyforward and option contracts to manage currency exposures. We do not currentlyhave any such contracts in place, nor did we enter into any such contractsduring the quarters ended September 30, 2006 or 2007.

 

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*Interest Rate Sensitivity*

* *

Net proceeds from our initial public offering ofcommon stock are invested in short-term, interest-bearing securities, which aresubject to credit and interest rate risk. Our portfolio is investment-grade anddiversified among issuers and security types to reduce credit risk. We manageour interest rate risk by maintaining a large portion of our investmentportfolio in instruments with short maturities or frequent interest rate resets.We also manage interest rate risk by maintaining sufficient cash and cashequivalents such that we are able to hold investments until maturity. If marketinterest rates were to increase by 100 basis points from the level at September30, 2007, the fair value of our portfolio would decline by approximately$115,000.

 

**Item 4. Controls andProcedures**

 

***(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 ensuring that information required to be disclosed by us in thereports that we file or submit under the Securities Exchange Act of 1934 is (i)recorded, processed, summarized and reported, within the time periods specifiedin the rules and forms of the Securities and Exchange Commission and (ii)accumulated and communicated to our management, including our principalexecutive and principal financial officers, or persons performing similarfunctions, as appropriate to allow timely decisions regarding requireddisclosure.

 

***(b)******          ******Changes toInternal Control over Financial Reporting***

 

During the most recently 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. OtherInformation**

 

***Item 1. Legal Proceedings***

*** ***

From time to time, we are involved in legalproceedings in the ordinary course of business. We believe that the resolutionof these matters will not have a material effect on the Company’s consolidatedfinancial position, results of operations or liquidity.

 

**Item1A. Risk Factors**

** **

A restated description ofthe risk factors associated with our business is set forth below. Thisdescription includes any and all changes (whether or not material) to, andsupersedes, the description of the risk factors associated with our businesspreviously disclosed in Part 1, Item 1A of our Annual Report on Form 10-K forthe year ended December 31, 2006.

 

*Before deciding to purchase, holdor sell our common stock, you should carefully consider the risks describedbelow, in addition to the other cautionary statements and risks describedelsewhere and the other information contained in this Report and in our otherfilings with the SEC, including our reports on Forms 10-Q and 8-K. The risksand uncertainties described below are not the only ones we face. Additionalrisks and uncertainties not presently known to us or that we currently deemimmaterial may also affect our business. If any of these known or unknown risksor uncertainties actually occurs with material adverse effects on RightNow, ourbusiness, financial condition and results of operations could be seriouslyharmed. In that event, the market price for our common stock could decline andyou may lose all or part of your investment.*

 

***We may not be able to achieve,sustain or increase profitability in the future.***

 

We incurred a net loss of more than $15 million in the first ninemonths of 2007, and as of September 30, 2007, we had an accumulated deficit of$53.6 million. We expect to continue to incur significant sales and marketing,research and development and general and administrative expenses as we expandour operations and, as a result, we will need to generate significant revenueto achieve profitability. Additionally, with our business model changebeginning in 2007 we expect to sell substantially less perpetual licenses thanin prior years, which will unfavorably impact revenue and earnings. Even if weachieve profitability, we may not be able to increase profitability on aquarterly or annual basis in the future, which may cause the price of our stockto decline.

 

***Our recently announced businessmodel changes carry a number of risks which may be harmful to our business.***

 

In January 2007 we announced that we are changing the nature of ourproduct offerings from substantially all software license arrangements tosubstantially all subscription service arrangements. We expect the impact ofthis change will be to largely eliminate perpetual license revenue in 2007which will negatively and materially affect our operating results when comparedto 2006. Increased operating losses in 2007 could result in a significantdecline in the price of our common stock. Additionally, customers may choose topay for their subscription agreements over time instead of upfront, or couldchoose to pay upfront for a shorter period of service, which could reduce ourcash flow from operations as compared to prior years. A decline in cash flowfrom operations could cause investors and market analysts to react negativelytowards investing in our stock which could materially and adversely affect theprice of our stock. In addition, our subscription strategy caries a number ofadditional risks, including:

 

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• we may incurdeclining demand for our products because certain customers may prefer licensearrangements and select competitors’ products instead of ours;

• our average price per transaction could decline substantially;

• we may seedeclining demand for our implementation services;

• we may notachieve the expected level of market penetration under our subscriptionstrategy; and

• we may have ashort-term and/or long-term decrease in total revenue as a result of thistransition.

 

***Our quarterly results of operationsmay fluctuate in the future.***

 

Our quarterly revenue and results of operations may fluctuate as aresult of a variety of factors, many of which are outside of our control. Ifour quarterly revenue or results of operations fall below the expectations ofinvestors or securities analysts, the price of our common stock could declinesubstantially. Fluctuations in our results of operations may be due to a numberof factors, including, but not limited to, those listed below and identifiedthroughout this “Risk Factors” section:

 

• our ability toretain and increase sales to existing clients, attract new clients and satisfyour clients’ requirements;

• changes in the volume and mix ofsubscriptions and perpetual licenses sold in a particular quarter, becauseperpetual license revenue is recorded into revenue upon delivery whereassubscriptions are recorded into revenue ratably over the contractual period;

• our success inshifting our business model away from software license arrangements and towardsubscription services arrangements;

• our policy of expensing sales commissions whenearned under license arrangements, which is typically at the time of invoice,while the majority of our revenue is recognized ratably over future periods;

• changes in themix of revenue between professional services and software, hosting and support,because the gross margin on professional services is typically lower than thegross margin on software, hosting and support;

• changes in the mix of voice self serviceapplications sold and/or usage volume, because the gross margin on voice selfservice applications is typically lower than the gross margin on our sales,marketing, feedback and service applications;

• the timing and success of new product introductions or upgrades by usor our competitors;

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

• the amount and timing of expenditures related to expanding ouroperations;

• changes in our assumptions of stock price volatility, employee exercisebehaviors, and option forfeiture rates, or changes in the number of stockoptions granted and vesting requirements in any particular period, whicheffects the amount of stock-based compensation expense;

• changes in the payment terms for our products and services, includingchanges in the mix of payment options chosen by our customers;

• the purchasing and budgeting cycles of our clients; and

• general economic, industry and market conditions.

 

Becausethe sales cycle for the evaluation and implementation of our solutionstypically ranges from 60 to 180 days, we may also experience a delaybetween increasing operating expenses and the generation of correspondingrevenue, if any. Moreover, because most of the revenue from new salesagreements is recognized over time, downturns or upturns in sales may not beimmediately reflected in our operating results. Most of our expenses, such assalaries and

 

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third-party hostingco-location costs, are relatively fixed in the short-term, and our expenselevels are based in part on our expectations regarding future revenue levels.As a result, if revenue for a particular quarter is below our expectations, wemay not be able to proportionally reduce operating expenses for that quarter,causing a disproportionate effect on our expected results of operations for thatquarter.

 

Dueto the foregoing factors, and the other risks discussed in this report, youshould not rely on quarter-to-quarter comparisons of our results of operationsas an indication of our future performance.

 

***If our efforts to enhance existingsolutions, introduce new solutions or expand the applications for our productsand solutions to broader CRM markets do not succeed, our ability to grow ourbusiness will be adversely affected.***

 

Approximately80% to 90% of our revenue is derived from RightNow Service, a suite ofsolutions used to optimize customer service operations. If we are unable tosuccessfully develop and sell new and enhanced versions of RightNow Service, orintroduce new products and solutions for the customer service market, ourfinancial performance will suffer. Although to date the majority of businesshas been focused on providing solutions for customer service operations, wehave introduced sales, marketing, feedback and voice-enabled applications toexpand our solution offerings. Our efforts to expand beyond the customerservice market may not be successful because certain of our competitors havefar greater experience and brand recognition in the broader segments of the CRMmarket. In addition, our efforts to expand our on demand software solutionsbeyond the customer service market may divert management resources from ourexisting operations and require us to commit significant financial resources toa market where we are less proven, which may harm our business, financialcondition and results of operations.

 

***We face intensecompetition, and our failure to compete successfully could make it difficultfor us to add and retain clients and could reduce or impede the growth of ourbusiness.***

 

Themarket for CRM solutions is highly competitive and fragmented, and is subjectto rapidly changing technology, shifting client requirements, frequentintroductions of new products and services, and increased marketing activitiesof other industry participants. Competition has intensified with our mostrecent product releases. Increased competition could result in pricingpressure, reduced sales, lower margins or the failure of our solutions toachieve or maintain broad market acceptance. If we are unable to competeeffectively, it will be difficult for us to add and retain clients, and ourbusiness, financial condition and results of operations will be seriouslyharmed.

 

Weface competition from:

 

• companies currently providing customerservice solutions, some of whom offer hosted services, including BMC SoftwareCorporation, Inc., eGain Communications Corporation, FrontRangeSolutions, Inc., IBM Corporation, Kana Software, Inc., MicrosoftCorporation, Netsuite, Oracle Corporation/Siebel Systems, SAP AG, andsalesforce.com;

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

 

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• CRM products or services that are developed,or bundled with other products or services, and installed on a client’spremises by software vendors;

• outsourcedcontact center providers who bundle solutions and agent labor in their serviceofferings;

• new companies entering the CRM softwaremarket, the on demand applications market and the on demand CRM market, orexpanding from any one of these markets to the others; and

• voice system integrators and voice-enabledIVR technology providers, such as Apptera, IBM, Intervoice, Microsoft, TuVox,Voxify, and Unveil Technologies.

 

Manyof our current and potential competitors have longer operating histories and largerpresence in the general CRM market, greater name recognition, access to largercustomer bases and substantially greater financial, technical, sales andmarketing, management, service, support and other resources than we have. As aresult, such competitors may be able to respond more quickly than we can to newor changing opportunities, technologies, standards or client requirements ordevote greater resources to the promotion and sale of their products andservices than we can. To the extent our competitors have an existingrelationship with a potential client, that client may be unwilling to switchvendors due to the time and financial commitments already made with ourcompetitors.

 

Inaddition, many of our current and potential competitors have established or mayestablish business, financial or strategic relationships among themselves orwith existing or potential clients, alliance partners or other third parties,or may combine and consolidate to become more formidable competitors withbetter resources. For example, in January 2006, Oracle Corporation completedits acquisition of Siebel Systems, Inc. We also expect that new competitors,such as enterprise software vendors and online service providers that havetraditionally 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.

 

***The market for our ondemand application services is at an early stage of development, and if it doesnot develop or develops more slowly than we expect, our business will beharmed.***

 

Themarket for on demand application services is at an early stage of development,and it is uncertain whether these application services will achieve and sustainhigh levels of demand and market acceptance. Our success will depend to asubstantial extent on the willingness of companies to increase their use of ondemand application services in general and for on demand customer relationshipmanagement applications in particular. The willingness of companies to increasetheir use of any on demand application services is in part dependent on theactual and perceived reliability of hosted solutions. In addition, 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 traditional on site deployment of our software applications,widespread market acceptance of our on demand software solutions is critical tothe success of our business. Other factors that may affect the marketacceptance of our solutions include:

 

• on demand security capabilities and reliability;

• concerns with entrusting a third party to store and manage criticalcustomer data;

• our ability tomeet the needs of broader segments of the CRM market or other on demandmarkets;

• the level of customization we offer;

• our ability to continue to achieve and maintain high levels of clientsatisfaction;

 

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• concerns withpurchasing critical CRM solutions from a company with a history of operatinglosses;

• customeracceptance of our subscription sales arrangements beginning in 2007; and

• the price, performance and availability of competing products andservices.

 

Ifbusinesses do not perceive the benefits of on demand solutions in general, orour on demand solutions in particular, then the market for these solutions maynot develop further, or it may develop more slowly than we expect, either ofwhich would adversely affect our business, financial condition and results ofoperations.

 

***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.***

 

Increasingour client base and achieving broader market acceptance of our solutions willdepend to a significant extent on our ability to expand our sales and marketingoperations. We plan to continue to expand our sales and marketing resources andengage additional third-party channel partners, both domestically andinternationally. This expansion will require us to invest significant financialand other resources. Our business will be seriously harmed if our efforts donot generate a corresponding significant increase in revenue. We may notachieve anticipated revenue growth from expanding our sales and marketingresources if we are unable to hire and develop talented sales and marketingpersonnel, if our new sales personnel are unable to achieve desiredproductivity levels in a reasonable period of time, or if we are unable toretain our existing sales and marketing personnel. We also may not achieve anticipatedrevenue growth from our third-party channel partners if we are unable toattract and retain additional motivated channel partners, if any existing orfuture channel partners fail to successfully market, resell, implement orsupport our solutions for their customers, or if they represent multipleproviders and devote greater resources to market, resell, implement and supportcompeting products and services.

 

***The majority of oursolutions are sold pursuant to time-based agreements, and if our existingclients elect not to renew or to renew on terms less favorable to us, ourbusiness, financial condition and results of operations will be adverselyaffected.***

 

Oursolutions are generally sold pursuant to time-based agreements that aretypically subject to renewal every two years or less and our clients have noobligation to renew. Because our clients may elect not to renew, we may not beable to consistently and accurately predict future renewal rates. Our clients’renewal rates may decline or fluctuate as a result of a number of factors,including their level of satisfaction with our solutions, their ability tocontinue their operations or invest in customer service, their acceptance ofour intended change from a term license agreement to a subscription serviceagreement beginning in 2007, or the availability and pricing of competingproducts. If large numbers of existing clients do not renew, or renew on termsless favorable to us, and if we cannot replace or supplement those non-renewalswith new agreements generating the same or greater level of revenue, ourbusiness, financial condition and results of operations will be adverselyaffected.

 

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***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.***

 

Wehave substantially expanded our overall business, headcount and operations inrecent periods. We have increased our total number of full-time employees to691 at September 30, 2007 from 654 at September 30, 2006. To achieve ourbusiness objectives, we will need to continue to expand our business at a rapidpace. This expansion has placed, and is expected to continue to place, asignificant strain on our managerial, administrative, operational, financialand other resources. We anticipate that this expansion will require substantialmanagement effort and significant additional investment in our infrastructure.If we are unable to successfully manage our growth, our business, financialcondition and results of operations will be adversely affected.

 

Partof the challenge that we expect to face in the course of our expansion is tomaintain the high level of customer service to which our clients have becomeaccustomed. To date, we have focused on providing personalized accountmanagement and customer service on a frequent basis to ensure our clients areeffectively leveraging the capabilities of our solution. We believe that muchof our success to date has been the result of high client satisfaction,attributable in part to this focus on client service. To the extent our clientbase grows, we will need to expand our account management, client service andother personnel, and third-party channel partners, in order to enable us tocontinue to maintain high levels of client service and satisfaction. If we arenot able to continue to provide high levels of client service, our reputation,as well as our business, financial condition and results of operations, couldbe harmed.

 

***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.***

 

Approximately85% to 90% of our clients use our hosting services for deployment of oursoftware applications. We generally provide our hosting services for ournon-voice applications through computer hardware that we own and that iscurrently located in third-party web hosting co-location facilities maintainedand operated in California, Illinois, Massachusetts, New Jersey and London,England. Our voice applications for several International customers are hostedby third parties who also own and operate the hardware on which ourapplications reside. We do not maintain long-term supply contracts with any ofour hosting providers, and providers do not guarantee that our clients’ accessto hosted solutions will be uninterrupted, error-free or secure. Our operationsdepend on our 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 have not been tested under actual disasterconditions and may not have sufficient capacity to recover all data andservices in the event of an outage occurring simultaneously at all hostingfacilities. In the event that our hosting facility arrangements wereterminated, or there was a lapse of service or accidental or willful damage tosuch facilities, we could experience lengthy interruptions in our hostingservice as well as delays and/or additional expense in arranging new facilitiesand services. Any or all of these events could cause our clients to lose accessto their important data. In addition, the failure by our third-party hostingfacilities to meet our capacity requirements could result in interruptions inour service or impede our ability to scale our operations.

 

Designand mechanical 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-

 

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party error, our ownerror, natural disasters or security breaches, whether accidental or willful,could harm our relationships with clients and our reputation. This in turncould reduce our revenue, subject us to liability, cause us to issue credits orpay penalties or cause clients to fail to renew their licenses, any of whichcould adversely affect our business, financial condition and results ofoperations. In the event of damage or interruption, our insurance policies maynot 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.***

 

Ourhosting systems and our software store and transmit proprietary information andcritical data belonging to our clients and their customers. Any accidental orwillful security breaches or other unauthorized access could expose us to arisk of information loss, litigation and other possible liabilities. Ifsecurity measures are breached because of third-party action, employee error,malfeasance or otherwise, or if design flaws in our software are exposed andexploited, and, as a result, a third party obtains unauthorized access to anyof our clients’ data, our relationships with clients and our reputation will bedamaged, our business may suffer and we could incur significant liability.Because techniques used to obtain unauthorized access or to sabotage systemschange frequently and generally are not recognized until launched against atarget, we and our third-party hosting co-location facilities may be unable toanticipate these techniques or to implement adequate preventative measures.

 

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

 

Internationalsales comprised 21% and 29% of our revenue for the quarters ended September 30,2006 and 2007, respectively. 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 and elsewhere abroad, terrorist attacksand security concerns in general;

• adverse changesin tariffs and other protectionist laws and business practices that favor localcompetitors;

•fluctuations in currency exchange rates;

•longer collection periods and difficulties in collecting receivables fromforeign entities;

• exposure to different legal standards andburdens of complying with a variety of foreign laws, including employment, tax,privacy and data protection laws and regulations;

•reduced protection for our intellectual property in some countries;

• expenses associatedwith localizing products for foreign countries, including translation intoforeign languages; and

• import andexport license requirements and restrictions of the United States and eachother country in which we operate.

 

Webelieve that international sales will continue to represent a significantportion of our revenue for the foreseeable future, and that continued growthwill require further expansion of our international operations. A substantialpercentage of our international sales are denominated in the local currency. Asa result, an increase in the relative value of the dollar could make ourproducts more expensive and potentially less price competitive in internationalmarkets. We have

 

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not entered into anytransactions designed to hedge against risks of loss due to foreign currencyfluctuations. Any of these factors may adversely affect our futureinternational sales and, consequently, affect our business, financial conditionand results of 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.***

 

TheCRM industry is characterized by rapid technological advances, changes inclient requirements, frequent new product and service introductions andenhancements, changes in protocols and evolving industry standards. Our hostedbusiness model and the on demand CRM market are relatively new and may evolveeven more rapidly than the rest of the CRM market. Competing products andservices based on new technologies or new industry standards may perform betteror cost less than our solutions and could render our solutions less competitiveor obsolete. In addition, because our solutions are designed to operate on avariety of network hardware and software platforms using a standard Internetweb browser, we will need to continuously modify and enhance our solutions tokeep pace with changes in Internet-related hardware, software, communication,browser and database technologies and to integrate with our clients’ systems asthey change and evolve. Furthermore, uncertainties about the timing and natureof new network platforms or technologies, or modifications to existingplatforms or technologies, could increase our research and developmentexpenses.

 

Oursoftware incorporates use of Microsoft’s .NET Framework, and its Smart Clientmethodology. The .NET Framework is core functionality that Microsoft incorporatesinto operating systems, while the Smart Client methodology enables developmentand deployment of software applications using the .NET Framework. We believethat the .NET Framework and Smart Client enable us to provide users with aricher experience and better functionality than would be possible using a pureWeb-based application. However, the .NET Framework has not been universallyadopted. If software users do not adopt the .NET Framework or if the .NETFramework is superseded, the potential market for our solutions will be reducedand we may need to develop an alternative architecture.

 

Ifwe are unable to successfully develop and market new and enhanced solutionsthat respond in a timely manner to changing technology and evolving industrystandards, and if we are unable to satisfy the diverse and evolving technologyneeds of our clients, our business, financial condition and results ofoperations will suffer.

 

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

 

Oursuccess and future growth depends to a significant degree upon the skills,experience, performance and continued service of our senior management,engineering, sales, marketing, service, support and other key personnel.Specifically, we believe that our future success is highly dependent on GregGianforte, our founder, Chairman and Chief Executive Officer. In addition, wedo not have employment agreements with any of our senior management or keypersonnel that require them to remain our employees and, therefore, they couldterminate their employment with us at any time without penalty. If we lose theservices of Mr. Gianforte or any of our other key personnel, our businesswill be severely disrupted and we may be unable to operate effectively. We donot maintain “key person” life insurance policies on any of our key employeesexcept Mr. Gianforte. This life insurance policy would not be sufficientto compensate us for the loss of his services. Our future success also dependsin large part upon our ability to attract, train, 

 

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integrate, motivate andretain highly skilled employees, particularly sales, marketing and professionalservices personnel, software engineers, product trainers, and senior personnel.Competition for these personnel is intense, especially for engineers with highlevels of expertise in designing and developing software and for senior salesexecutives.

 

***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 productliability claims.***

 

Oursoftware products may contain undetected errors or defects that may result inproduct failures, slow response times, or otherwise cause our products to failto perform in accordance with client expectations. Because our clients use ourproducts for important aspects of their business, any errors or defects in, orother performance problems with, our products could hurt our reputation and maydamage our clients’ businesses. If that occurs, we could lose future sales, orour existing clients could elect to not renew or to delay or withhold paymentto us, which could result in an increase in our provision for doubtful accountsand an increase in collection cycles for accounts receivable. Clients also maymake warranty claims against us, which could result in the expense and risk oflitigation. Product performance problems could result in loss of market share,failure to achieve market acceptance and the diversion of developmentresources. If one or more of our products fails to perform or contains atechnical defect, a client may assert a claim against us for substantial damages,whether or not we are responsible for the product failure or defect. We do notcurrently maintain any warranty reserves.

 

Productliability claims could require us to spend significant time and money inlitigation or to pay significant settlements or damages. Although we maintaingeneral liability insurance, including coverage for errors and omissions, thiscoverage may not be sufficient to cover liabilities resulting from such productliability claims. Also, our insurer may disclaim coverage. Our liabilityinsurance also may not continue to be available to us on reasonable terms, insufficient amounts, or at all. Any product liability claims successfullybrought against us would cause our business 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.***

 

Oursuccess depends to a significant degree upon the protection of our software andother proprietary technology rights. We rely on trade secret, copyright andtrademark laws, patents and confidentiality agreements with employees and thirdparties, all of which offer only limited protection. The steps we have taken toprotect our intellectual property may not prevent misappropriation of ourproprietary rights or the reverse engineering of our solutions. We may not beable to obtain any further patents or trademarks, and our pending applicationsmay not result in the issuance of patents or trademarks. Any of our issued patentsmay not be broad enough to protect our proprietary rights or could besuccessfully challenged by one or more third parties, which could result in ourloss of the right to prevent others from exploiting the inventions claimed inthose patents. Furthermore, legal standards relating to the validity,enforceability and scope of protection of intellectual property rights in othercountries are uncertain and may afford little or no effective protection of ourproprietary technology. Consequently, we may be unable to prevent ourproprietary technology from being exploited abroad, which could diminishinternational sales or require costly efforts to protect our technology.Policing the unauthorized use of our products, trademarks and other proprietaryrights is expensive, difficult and, in some cases, impossible. Litigation maybe necessary in the future to enforce or defend our intellectual propertyrights, to protect our trade secrets or to determine the validity and scope ofthe

 

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proprietary rights ofothers. Such litigation could result in substantial costs and diversion ofmanagement resources, either of which could harm our business. Accordingly,despite our efforts, we may not be able to prevent third parties frominfringing 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 be costlyand time-consuming.***

 

Thesoftware and Internet industries are characterized by the existence of a largenumber of patents, trademarks and copyrights, and by frequent litigation basedupon allegations of infringement or other violations of intellectual propertyrights. As we seek to extend our CRM product and service offerings, we may beconstrained by the intellectual property rights of others. We have in the pastbeen named as a defendant in a lawsuit alleging intellectual propertyinfringement, and we may again in the future have to defend againstintellectual property lawsuits. We may not prevail in any future intellectualproperty infringement litigation given the complex technical issues andinherent uncertainties in litigation. Any claims, regardless of their merit,could be time-consuming and distracting to management, result in costlylitigation or settlement, cause product development delays, or require us toenter into royalty or licensing agreements. If any of our products violatethird-party proprietary rights, we may be required to re-engineer our productsor seek to obtain licenses from third parties, which may not be available onreasonable terms or at all. Because our sales agreements typically require usto indemnify our clients from any claim or finding of intellectual propertyinfringement, any such litigation or successful infringement claims couldadversely affect our business, financial condition and results of operations.Any efforts to re-engineer our products, obtain licenses from third parties onfavorable terms or license a substitute technology may not be successful and,in any case, may substantially increase our costs and harm our business,financial condition and results of operations. Further, our software productscontain open source software components that are licensed to us under variouspublic domain licenses. While we believe we have complied with our obligationsunder the various applicable licenses for open source software that we use,there is little or no legal precedent governing the interpretation of many ofthe terms of certain of these licenses and therefore the potential impact ofsuch terms on our business is somewhat unknown. Use of open source standardsalso may make us more vulnerable to competition because the public availabilityof open source software could make it easier for new market entrants andexisting competitors to introduce similar competing products quickly andcheaply.

 

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

 

Inorder to expand our addressable market, we may decide to acquire additionalbusinesses, products and technologies. In May 2005, we acquired the assets ofConvergent Voice and in May 2006, we acquired Salesnet, Inc. Acquisitions couldrequire significant capital infusions and could involve many risks, including,but not limited to, the following:

 

• an acquisition may negatively impact ourresults of operations because it may require incurring large one-time charges,substantial debt or liabilities; it may require the amortization or write downof amounts related to deferred compensation, goodwill and other intangibleassets; or it may cause adverse tax consequences, substantial depreciation ordeferred compensation charges;

• we may encounter difficulties inassimilating and integrating the business, technologies, products, personnel oroperations of companies that we acquire, particularly if key personnel of theacquired company decide not to work for us;

 

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• our existing and potential clients and thecustomers of the acquired company may delay purchases due to uncertaintyrelated to an acquisition;

• an acquisitionmay disrupt our ongoing business, divert resources, increase our expenses anddistract our management;

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

• we may have to issue equity securities tocomplete an acquisition, which would dilute our stockholders and couldadversely affect the market price of our common stock; and

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

 

Wecannot assure you that we will be able to identify or consummate any futureacquisitions on favorable terms, or at all. If we do pursue any futureacquisitions, it is possible that we may not realize the anticipated benefitsfrom the acquisitions or that the financial markets or investors will negativelyview the acquisitions. Even if we successfully complete an acquisition, itcould adversely affect our business, financial condition and results ofoperations.

 

***Changes to financialaccounting standards may affect our results of operations and financial condition.***

 

Generallyaccepted accounting principles and accompanying accounting pronouncements,implementation guidelines and interpretations for many aspects of our business,such as software revenue recognition, accounting for stock-based compensation,and income tax uncertainties, are complex and involve subjective judgments bymanagement. Changes to generally accepted accounting principles, theirinterpretation, or changes in our products or business could significantlychange our reported earnings and financial condition and could add significantvolatility to those measures. For example, since our inception in 1997, we haveused stock options as a fundamental component of our employee compensationprograms. New accounting requirements that began January 1, 2006 make the useof stock-based compensation much more expensive and introduce additionalvolatility in our results of operations.

 

***The required adoption of SFAS 123R makes stock options a lessattractive form of employee compensation, and our use of alternative forms ofemployee compensation in response to SFAS 123R could adversely affect ourability to attract and retain personnel.***

 

Wehave historically used stock options as a key component of our employeecompensation because we believe it aligns employees’ interests with ourstockholders’ interest, encourages employee retention, and provides acompetitive component of our overall compensation program. Due to the requiredadoption of SFAS 123R, and the recording of stock option expense on ouroperating statements, we may determine that it is in our best interest toreduce the number or size of our stock-based awards, or change the type ofawards granted. In doing so, we may not be able to attract, retain and motivateour employees.

 

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

 

Wemay require additional capital to respond to business challenges, including theneed to develop new solutions or enhance our existing solutions, enhance ouroperating infrastructure, fund expansion, respond to competitive pressures andacquire complementary businesses, products and technologies. Absent sufficientcash flow from operations, we may need to engage in equity or debt financingsto secure additional funds to meet our operating and capital needs. In

 

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addition, even though wemay not need additional funds, we may still elect to sell additional equity ordebt securities or obtain credit facilities for other reasons. We may not beable to secure additional debt or equity financing on favorable terms, or atall, at the time when we need such funding. If we raise additional fundsthrough further 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.

 

***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.***

 

Thefuture success of our products and our hosted business depends upon thecontinued and widespread adoption of the Internet as a primary medium forcommerce, communication and business applications. Our business growth would beimpeded if the performance or perception of the Internet, or companiesproviding hosted solutions, was harmed by security problems such as “viruses,” “worms”and other malicious programs, reliability issues arising from outages anddamage to Internet infrastructure, delays in development or adoption of newstandards and protocols to handle increased demands of Internet activity, increasedcosts, decreased accessibility and quality of service, or increased governmentregulation and taxation of Internet activity.

 

Federal,state or foreign government bodies or agencies have in the past adopted, andmay in the future adopt, laws or regulations affecting data privacy, thesolicitation, collection, processing or use of personal or consumerinformation, the use of the Internet as a commercial medium and the use ofemail for marketing or other consumer communications. In addition, governmentagencies or private organizations may begin to impose taxes, fees or othercharges for accessing the Internet or for sending commercial email. These lawsor 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 demand forour products, particularly our RightNow Marketing solution.

 

TheInternet has experienced, and is expected to continue to experience,significant user and traffic growth, which has, at times, caused userfrustration with slow access and download times. If Internet activity growsfaster 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.***

 

Businessesusing our solutions collect personal information regarding their customers whenthose customers contact them with customer service inquiries. A valuablecomponent of our solutions is their ability to allow our clients to use andanalyze their customers’ information to increase sales, marketing and up-sellor cross-sell opportunities. Federal, state and foreign government bodies andagencies, however, have adopted and are considering adopting laws and

 

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regulations regardingthe collection, use and disclosure of personal information obtained fromconsumers. The costs of compliance with, and other burdens imposed by, suchlaws and regulations that are applicable to the businesses of our clients maylimit the use and adoption of this component of our solutions and reduceoverall demand for our solutions. Furthermore, even where a client desires tomake full use of these features in our solutions, privacy concerns may causeour clients’ customers to resist providing the personal data necessary to allowour clients to use our solutions most effectively. Even the perception ofprivacy concerns, whether or not valid, may inhibit market acceptance of ourproducts.

 

EuropeanUnion members have imposed restrictions on the collection and use of personaldata that are far more stringent, and impose more significant burdens onsubject businesses, than current privacy standards in the United States. All ofthese domestic and international legislative and regulatory initiatives mayadversely affect our clients’ ability to collect and/or use demographic andpersonal information from their customers, which could reduce demand for oursolutions.

 

Inaddition to government activity, privacy advocacy groups and the technology anddirect marketing industries are considering various new, additional ordifferent self-regulatory standards that may place additional burdens on us. Ifthe gathering of profiling information were to be curtailed in this manner,customer service CRM solutions would be less effective, which would reducedemand for our solutions and harm our business.

 

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

 

InJanuary 2004, the federal Controlling the Assault of Non-SolicitedPornography and Marketing Act of 2003, or CAN-SPAM Act, became effective. TheCAN-SPAM Act regulates the transmission and content of commercial emails and, amongother things, obligates the sender of such emails to provide recipients withthe ability to opt-out of receiving future emails from the sender, andestablishes penalties for the transmission of email messages which are intendedto deceive the recipient as to source or content. Many state legislatures alsohave adopted laws that impact the delivery of commercial email, and laws thatregulate commercial email practices have been enacted in many of theinternational jurisdictions in which we do business, including Europe,Australia, and Canada. In addition, Internet service providers and licensors ofsoftware products have introduced a variety of systems and products to filterout certain types of commercial email, without any common protocol to determinewhether the recipient desired to receive the email being blocked. As a result,it is difficult for us to determine in advance whether or not emails generatedby our clients using our solutions will be permitted by spam filters to reachthe intended recipients.

 

OurRightNow Marketing solution specifically serves the market for massdistribution marketing and other email communications. The increasingregulation of email delivery, both domestically and internationally, and thespam filtering practices of Internet service providers and email usersgenerally, will place significant additional burdens on our clients who haveoutbound communication programs, and may cause those clients to substantiallychange their outbound communications programs or abandon them altogether. Thesefactors may lead to a reduction in sales of our RightNow Marketing solution,may make it necessary to redesign our RightNow Marketing solution to make iteasier for our clients to conform to the requirements of such laws andstandards, which would increase our expenses, or may make it necessary for usto redefine the market for and use of our RightNow Marketing solution, whichcould reduce our revenue.

 

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

 

Ourclients consist of large and small companies in nearly all industry sectors andgeographies. Potential new clients or existing clients could defer purchases ofour products because of unfavorable macroeconomic conditions, such as risinginterest rates, fluctuations in currency exchange rates, industry or nationaleconomic downturns, industry purchasing patterns, and other factors. Ourability to grow revenues may be adversely affected by unfavorable economicconditions.

 

***The significant control overstockholder voting matters and our office leases that may be exercised by ourfounder and Chief Executive Officer will limit your ability to influencecorporate actions and may require us to find alternative office space to leaseor buy in the future.***

 

AtSeptember 30, 2007, Greg Gianforte, our founder and Chief Executive Officer,and his spouse, Susan Gianforte, together beneficially owned approximately 25%of our currently outstanding common stock and, together with our other officersand directors, beneficially owned approximately 41% of our currentlyoutstanding common stock. In addition, none of the shares of common stock heldby Mr. Gianforte and Mrs. Gianforte are subject to vesting restrictions. As aresult, Mr. Gianforte and Mrs. Gianforte, acting together with some of ourother officers and directors, may be able to control matters requiringstockholder approval, including the election of directors, management changesand approval of significant corporate transactions. This concentration ofownership may have the effect of delaying, preventing or deterring a change incontrol of RightNow, could deprive our stockholders of an opportunity toreceive a premium for their common stock as part of a sale of RightNow andmight reduce the market price of our common stock.

 

Inaddition, Mr. Gianforte beneficially owns, directly or indirectly, a 50%membership interest in Genesis Partners, LLC, our landlord from whom we leaseour principal offices in Bozeman, Montana. Consequently, Mr. Gianforte hassignificant control over any decisions by Genesis Partners regarding renewal,modification or termination of our Bozeman, Montana leases. In the event thatour current leases with Genesis Partners were terminated or otherwise could notbe renewed, or came up for renewal on commercially unreasonable terms, we wouldbe required to find alternative office space to lease or buy.

 

***Anti-takeover provisions in ourcharter documents and Delaware law could discourage, delay or prevent a changein control of our company and may affect the trading price of our common stock.***

 

Provisionsof our certificate of incorporation and bylaws and Delaware law may discourage,delay or prevent a merger or acquisition that a stockholder may considerfavorable and may limit the market price of our common stock. These provisionsinclude the following:

 

•      establishing a classified board in which onlya portion of the total board members will be elected at each annual meeting;

•      authorizing the board to issue preferredstock;

•      providing the board with sole authority toset the number of authorized directors and to fill vacancies on the board;

•      limiting the persons who may call specialmeetings of stockholders;

 

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•      prohibiting certain transactions undercertain circumstances with interested stockholders;

•      requiring supermajority approval to amendcertain provisions of the certificate of incorporation; and

•      prohibiting stockholder action by writtenconsent.

 

Itis possible that the provisions contained in our certificate of incorporationand bylaws, the existence of super voting rights held by insiders and theability of our board of directors to issue preferred stock without stockholderaction may have the effect of delaying, deferring or preventing a change incontrol of our company without further action by the stockholders, maydiscourage bids for our common stock at a premium over the market price of ourcommon stock and may adversely affect the market price of our common stock andthe voting and other rights of the holders of our common stock.

 

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

*** ***

**(a)****          ****Sales of Unregistered Securities**

 

None.

 

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

 

OnAugust 5, 2004, the Securities and Exchange Commission declared effective ourRegistration Statement on From S-1 (Reg. File No. 333-115331) under theSecurities Act of 1933, as amended, in connection with the initial publicoffering of our common stock, par value $.0001 per share. We sold 6.4 millionshares, including shares sold upon exercise of the underwriters’ over-allotmentoption, for an aggregate offering price of $44.9 million, and 321,945 shares,including shares sold upon exercise of the underwriters’ over-allotment option,were sold by a selling stockholder for an aggregate offering price of $2.3million. 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. None of the expenses and none of our netproceeds from the offering were paid directly or indirectly to any director,officer, general partner of RightNow or their associates, persons owning 10% ormore of any class of equity securities of RightNow, or an affiliate ofRightNow.

 

InMay 2005, we spent $1 million of the offering proceeds for the acquisition ofthe assets of Convergent Voice. In May 2006, we spent $8.7 million of theoffering proceeds to acquire Salesnet, Inc. We currently intend to use theremaining proceeds for general corporate purposes as described in theprospectus for the offering. Pending these uses, the net proceeds from theoffering are invested in investment-grade, interest-bearing securities.

 

**(c)****          ****Not applicable.**

 

***Item 3. Defaults Upon SeniorSecurities.***

*** ***

None.

 

***Item 4. Submission ofMatters to a Vote of Security Holders.***

*** ***

None.

 

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

*** ***

None.

 

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**Item 6. Exhibits**

 

***Exhibits***

*** ***

The exhibits listed below are part of this Form 10-Q, unless otherwiseindicated.

 
| Exhibit 3.1  |   | Amended and Restated Certificate of  Incorporation of the Registrant. Incorporated by 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. |
|--------------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|         |   |                                                                                                                                                                                                                                                                  |
| Exhibit 3.2  |   | Amended and Restated Bylaws of the  Registrant. Incorporated by reference to Exhibit 3.1 of the Company’s Current  Report on Form 8-K (File No. 000-31321) filed with the Securities and  Exchange Commission on January 25, 2006.                               |
|         |   |                                                                                                                                                                                                                                                                  |
| 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.                                                                                     |

 

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**SIGNATURE**

 

Pursuantto the requirements of the Securities Exchange Act of 1934, as amended, theRegistrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 

Dated:  November 8, 2007

 

**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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