**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**(Mark One)**

**x****        QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period endedJuly 31, 2007**

 

**OR**

 

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

 

**For the transition period from                 to                 **

 

**Commission File Number: 1-15529**

 

**OPTIO SOFTWARE, INC.**

(Exact name of registrantas specified in its charter)

 

| **Georgia**                                                     | ** ** | **58-1435435**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |       | (I.R.S. Employer  Identification No.) |
|                                                            |       |                                  |
| **3015  Windward Plaza, Fairways II, Alpharetta, GA**           | ** ** | **30005**                             |
| (Address of principal  executive offices)                       |       | (Zip Code)                            |

 

Registrant’s telephonenumber, including area code: **(770) 576-3500**

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 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 markwhether the registrant is a large accelerated filer, an accelerated filer, or anon-accelerated filer. See definition of “accelerated filer and largeaccelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

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

 

Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Securities Exchange Act).Yes o  No  x

 

There were 22,085,529 shares of the Registrant’s common stockoutstanding as of September 10, 2007.

 

 

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**OPTIO SOFTWARE, INC.**

 

**FORM 10-Q**

 

# **For the QuarterlyPeriod Ended July 31, 2007**

# ** **

**TABLE OF CONTENTS**

 
| ** **                               | ** **                                                                                  | ** ** |
|------------------------------------------|---------------------------------------------------------------------------------------------|------------|
|                                     |                                                                                        |       |
| **PART I –  FINANCIAL INFORMATION** |                                                                                        |       |
|                                     |                                                                                        |       |
| Item 1.                                  | Financial Statements                                                                        |       |   |
| 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                                                                                    |       |   |

 

2

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**FORWARD-LOOKING STATEMENTS**

# ** **

In addition to historical information, this QuarterlyReport on Form 10-Q for the quarter ended July 31, 2007 containsforward-looking statements that involve risks and uncertainties. Suchforward-looking statements are made pursuant to the “safe-harbor” provisions ofthe Private Securities Litigation Reform Act of 1995 and are made based onmanagement’s current expectations or beliefs as well as assumptions made by,and information currently available to, management. These forward-lookingstatements include, among other things, statements regarding Optio Software,Inc.’s (“we”, “us”, “our”, the “Company” or “Optio”) anticipated costs andexpenses, Optio’s capital needs and financing plans, product and service development,Optio’s growth strategies, integration of acquired entities, market demand forOptio’s products and services, relationships with Optio’s strategic marketingalliances, and competition. These forward-looking statements include, amongothers, those statements including the words “expects,” “anticipates,”“intends,” “believes,” “may,” “plan,” “could,” “should,” “will,” and similarlanguage. You are cautioned not to place undue reliance on the forward-lookingstatements in this document, which speak only as of the date of this QuarterlyReport on Form 10-Q. Optio undertakes no obligation to publicly release anyrevisions to the forward-looking statements or reflect events or circumstancesafter the date of this Form 10-Q. Optio’s actual results may differsignificantly from those projected in the forward-looking statements. Factorsthat might cause or contribute to such differences include, but are not limitedto, risks associated with Optio’s reliance on strategic marketing and resellerrelationships, collectibility of accounts receivable, fluctuations in operatingresults, failure to integrate new products and newly acquired companies,diversion of management resources relating to acquisitions or divestitures,reduction in cash reserves relating to acquisitions or the share repurchaseprogram, challenges relating to acquisitions or divestitures and thepossibility that this may cause Optio to no longer be profitable, the negativeeffect on Optio’s earnings relating to the amortization or potential write-downof acquired assets or goodwill, failure to retain the business relationships with existing customers fromacquisitions, changes in competition, changes in economic conditions in theU.S. and in other countries in which Optio currently does business (bothgeneral and relative to the technology industry), delays or inability todevelop new or unique software products, market acceptance of new products, thefailure of new products to operate as anticipated, expectation of achieving andsustaining operating profits and earnings, including timing of such cash flowsand company performance, disputes regarding Optio’s intellectual property,risks relating to the delisting of Optio’s stock, possible adverse results ofpending or future litigation, or risks associated with Optio’s internationaloperations. These and additional factors are set forth in Item 1A of Optio’sAnnual Report on Form 10-K for the fiscal year ended January 31, 2007 (the“2007 Annual Report”), filed with the Securities and Exchange Commission(“SEC”) on May 1, 2007. You should carefully review the risk factors in the2007 Annual Report and any additional risks described in other documents thatOptio files from time to time with the SEC.

 

3

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**PART I – FINANCIAL INFORMATION**

 

ITEM 1. FINANCIALSTATEMENTS

 

**Optio Software, Inc.**

**Consolidated Condensed BalanceSheets**

 
| ** **                                       | ** ** | **January 31,  2007** | ** ** | **July 31,  2007** | ** ** |
|--------------------------------------------------|------------|----------------------------|------------|-------------------------|------------|
| ** **                                       | ** ** | ** **                 | ** ** | **(Unaudited)**         | ** ** |
| **ASSETS**                                       | ** ** | ** **                 | ** ** | ** **              | ** ** |
| Current assets:                                  | ** ** | ** **                 | ** ** | ** **              | ** ** |
| Cash and cash  equivalents                       |       | $                          | 11,948,000 |                    | $          | 9,420,000 |   |
| Accounts  receivable, net                        |       | 3,903,000                  |       | 3,238,000               |       |
| Prepaid expenses  and other current assets       |       | 723,000                    |       | 878,000                 |       |
| Notes receivable  from related party             |       | 5,000                      |       | 5,000                   |       |
| Total current  assets                            |       | 16,579,000                 |       | 13,541,000              |       |
| Property and  equipment, net                     |       | 2,714,000                  |       | 2,652,000               |       |
| Other assets:                                    |       |                       |       |                    |       |
| Goodwill                                         |       | 2,302,000                  |       | 2,302,000               |       |
| Other intangible  assets, net                    |       | 1,250,000                  |       | 1,100,000               |       |
| Other                                            |       | 92,000                     |       | 96,000                  |       |
| Total assets                                     |       | $                          | 22,937,000 |                    | $          | 19,691,000 |   |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**   |       |                       |       |                    |       |
| Current  liabilities:                            |       |                       |       |                    |       |
| Accounts payable                                 |       | $                          | 1,088,000  |                    | $          | 868,000 |   |
| Accrued expenses                                 |       | 1,755,000                  |       | 1,261,000               |       |
| Current portion  of lease incentive liability    |       | 122,000                    |       | 122,000                 |       |
| Current portion  of capital lease obligations    |       | 78,000                     |       | 53,000                  |       |
| Deferred revenue                                 |       | 7,439,000                  |       | 7,215,000               |       |
| Total current  liabilities                       |       | 10,482,000                 |       | 9,519,000               |       |
|                                             |       |                       |       |                    |       |
| Long-term  portion of lease incentive liability  |       | 806,000                    |       | 744,000                 |       |
| Long-term  portion of capital lease obligations  |       | 300,000                    |       | 331,000                 |       |
| Long-term  accrued rent payable                  |       | 526,000                    |       | 748,000                 |       |
| Other long-term  liabilities                     |       | 103,000                    |       | 138,000                 |       |
| Total  liabilities                               |       | 12,217,000                 |       | 11,480,000              |       |
| Commitments and  contingencies                   |       |                       |       |                    |       |
| Shareholders’  equity:                      |       |                       |       |                    |       |
| Common stock                                     |       | 53,787,000                 |       | 53,514,000              |       |
| Accumulated  deficit                             |       | (43,251,000                | )          | (45,566,000             | )          |
| Accumulated  other comprehensive income          |       | 184,000                    |       | 263,000                 |       |
| Total  shareholders’ equity                 |       | 10,720,000                 |       | 8,211,000               |       |
| Total  liabilities and shareholders’ equity |       | $                          | 22,937,000 |                    | $          | 19,691,000 |   |

 

***See accompanying notes.***

 

4

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**Optio Software, Inc.**

**Consolidated Condensed Statementsof Operations and Comprehensive Loss**

**(Unaudited)**

 
| ** **                                                                             | ** ** | **Three Months Ended July 31,** | ** ** |
|----------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                             | ** ** | **2006**                                            | ** ** | **2007** | ** ** |
| Revenue:                                                                               | ** ** | ** **                                          | ** ** | ** ** | ** ** |
| License fees                                                                           |       | $                                                   | 1,643,000  |   | $ | 1,536,000 |   |
| Subscription  fees                                                                     |       | 560,000                                             |       | 633,000 |   |
| Services,  maintenance, and other                                                      |       | 4,565,000                                           |       | 4,445,000 |   |
|                                                                                   |       | 6,768,000                                           |       | 6,614,000 |   |
| Costs of revenue  (exclusive of depreciation and amortization shown separately below): |       |                                                |       |   |   |
| License fees                                                                           |       | 146,000                                             |       | 124,000 |   |
| Services,  maintenance, and other                                                      |       | 1,644,000                                           |       | 1,711,000 |   |
|                                                                                   |       | 1,790,000                                           |       | 1,835,000 |   |
|                                                                                   |       | 4,978,000                                           |       | 4,779,000 |   |
| Operating  expenses:                                                                   |       |                                                |       |   |   |
| Sales and  marketing                                                                   |       | 2,543,000                                           |       | 2,808,000 |   |
| Research and  development                                                              |       | 1,375,000                                           |       | 1,401,000 |   |
| General and  administrative                                                            |       | 1,380,000                                           |       | 1,533,000 |   |
| Depreciation and  amortization                                                         |       | 200,000                                             |       | 273,000 |   |
|                                                                                   |       | 5,498,000                                           |       | 6,015,000 |   |
| Loss from  operations                                                                  |       | (520,000                                            | )          | (1,236,000 | ) |
| Other income  (expense):                                                               |       |                                                |       |   |   |
| Interest income                                                                        |       | 113,000                                             |       | 111,000 |   |
| Interest expense                                                                       |       | (2,000                                              | )          | (8,000 | ) |
| Other                                                                                  |       | (5,000                                              | )          | 1,000 |   |
|                                                                                   |       | 106,000                                             |       | 104,000 |   |
|                                                                                   |       |                                                |       |   |   |
| Loss before  income taxes                                                              |       | (414,000                                            | )          | (1,132,000 | ) |
| Income tax  expense                                                                    |       | 36,000                                              |       | 13,000 |   |
| Net loss                                                                               |       | $                                                   | (450,000   | ) | $ | (1,145,000 | ) |
| Net loss per  share – basic and diluted                                           |       | $                                                   | (0.02      | ) | $ | (0.05 | ) |
| Weighted average  common shares outstanding – basic and diluted                   |       | 22,223,643                                          |       | 22,325,214 |   |
| Comprehensive  income (loss):                                                          |       |                                                |       |   |   |
| Net loss                                                                               |       | $                                                   | (450,000   | ) | $ | (1,145,000 | ) |
| Foreign currency  translation adjustment                                               |       | 18,000                                              |       | (5,000 | ) |
| Comprehensive  loss                                                                    |       | $                                                   | (432,000   | ) | $ | (1,150,000 | ) |

 

***See accompanying notes.***

 

5

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** **

**Optio Software, Inc.**

**Consolidated Condensed Statementsof Operations and Comprehensive Loss**

**(Unaudited)**

 
| ** **                                                                             | ** ** | **Six Months Ended July 31,** | ** ** |
|----------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                             | ** ** | **2006**                                          | ** ** | **2007** | ** ** |
| Revenue:                                                                               | ** ** | ** **                                        | ** ** | ** ** | ** ** |
| License fees                                                                           |       | $                                                 | 3,541,000  |   | $ | 2,819,000 |   |
| Subscription  fees                                                                     |       | 1,115,000                                         |       | 1,243,000 |   |
| Services,  maintenance, and other                                                      |       | 8,974,000                                         |       | 8,819,000 |   |
|                                                                                   |       | 13,630,000                                        |       | 12,881,000 |   |
| Costs of revenue  (exclusive of depreciation and amortization shown separately below): |       |                                              |       |   |   |
| License fees                                                                           |       | 278,000                                           |       | 226,000 |   |
| Services,  maintenance, and other                                                      |       | 3,321,000                                         |       | 3,382,000 |   |
|                                                                                   |       | 3,599,000                                         |       | 3,608,000 |   |
|                                                                                   |       | 10,031,000                                        |       | 9,273,000 |   |
| Operating  expenses:                                                                   |       |                                              |       |   |   |
| Sales and  marketing                                                                   |       | 5,082,000                                         |       | 5,639,000 |   |
| Research and  development                                                              |       | 2,697,000                                         |       | 2,830,000 |   |
| General and  administrative                                                            |       | 2,522,000                                         |       | 2,756,000 |   |
| Depreciation and  amortization                                                         |       | 384,000                                           |       | 536,000 |   |
|                                                                                   |       | 10,685,000                                        |       | 11,761,000 |   |
| Loss from  operations                                                                  |       | (654,000                                          | )          | (2,488,000 | ) |
| Other income  (expense):                                                               |       |                                              |       |   |   |
| Interest income                                                                        |       | 209,000                                           |       | 227,000 |   |
| Interest expense                                                                       |       | (3,000                                            | )          | (12,000 | ) |
| Other                                                                                  |       | (4,000                                            | )          | — |   |
|                                                                                   |       | 202,000                                           |       | 215,000 |   |
|                                                                                   |       |                                              |       |   |   |
| Loss before  income taxes                                                              |       | (452,000                                          | )          | (2,273,000 | ) |
| Income tax  expense                                                                    |       | 52,000                                            |       | 42,000 |   |
| Net loss                                                                               |       | $                                                 | (504,000   | ) | $ | (2,315,000 | ) |
| Net loss per  share – basic and diluted                                           |       | $                                                 | (0.02      | ) | $ | (0.10 | ) |
| Weighted average  common shares outstanding – basic and diluted                   |       | 22,036,310                                        |       | 22,404,793 |   |
| Comprehensive  income (loss):                                                          |       |                                              |       |   |   |
| Net loss                                                                               |       | $                                                 | (504,000   | ) | $ | (2,315,000 | ) |
| Foreign currency  translation adjustment                                               |       | 67,000                                            |       | 79,000 |   |
| Comprehensive  loss                                                                    |       | $                                                 | (437,000   | ) | $ | (2,236,000 | ) |

 

***See accompanying notes.***

 

6

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**Optio Software, Inc.**

**Consolidated Condensed Statementof Shareholders’ Equity**

**(Unaudited)**

 
| ** **                                     | ** ** | **Common Stock** | ** ** | ** **   | ** ** | **Accumulated  Other** | ** ** | **Total**       | ** ** |
|------------------------------------------------|------------|-----------------------|------------|--------------|------------|------------------------|------------|-----------------|------------|
| ** **                                     | ** ** | **Common**            | ** ** | **Treasury** | ** ** | ** **             | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | **Shareholder’s** | ** ** |
| ** **                                     | ** ** | **Shares**            | ** ** | **Shares**   | ** ** | **Amount**             | ** ** | **Deficit**     | ** ** | **Income** | ** ** | **Equity** | ** ** |
|                                           |       |                  |       |         |       |                   |       |            |       |   |   |   |   |
| Balance at  February 1, 2007                   |       | 22,461,514            |       | 40,000       |       | $                      | 53,787,000 |            | $          | (43,251,000 | ) | $ | 184,000 |   | $ | 10,720,000 |   |
| Comprehensive  loss, net of tax:               |       |                  |       |         |       |                   |       |            |       |   |   |   |   |
| Net loss                                       |       | —                |       | —       |       | —                 |       | (2,315,000      | )          | — |   | (2,315,000 | ) |
| Foreign currency  translation adjustment       |       | —                |       | —       |       | —                 |       | —          |       | 79,000 |   | 79,000 |   |
| Comprehensive  loss                            |       |                  |       |         |       |                   |       |            |       |   |   | (2,236,000 | ) |
| Treasury shares  acquired                      |       | (373,200              | )          | 373,200      |       | (530,000               | )          |            |       |   |   | (530,000 | ) |
| Exercise of  stock options                     |       | 73,865                |       |         |       | 17,000                 |       | —          |       | — |   | 17,000 |   |
| Compensation  expense related to stock options |       | —                |       | —       |       | 240,000                |       | —          |       | — |   | 240,000 |   |
| Balance at July  31, 2007                      |       | 22,162,179            |       | 413,200      |       | $                      | 53,514,000 |            | $          | (45,566,000 | ) | $ | 263,000 |   | $ | 8,211,000 |   |
|                                                |            |                       |            |              |            |                        |            |                 |            |  |  |  |  |  |  |  |  |  |

 

***See accompanying notes****.*

 

7

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**Optio Software, Inc.**

**Consolidated Condensed Statementsof Cash Flows**

**(Unaudited)**

 
| ** **                                                                                 | ** ** | **Six Months Ended July 31,** | ** ** |
|--------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                 | ** ** | **2006**                                          | ** ** | **2007** | ** ** |
| Cash flows from  operating activities:                                                     |       |                                              |       |   |   |
| Net loss                                                                                   |       | $                                                 | (504,000   | ) | $ | (2,315,000 | ) |
| Adjustments to  reconcile net loss to net cash provided by (used in) operating activities: |       |                                              |       |   |   |
| Depreciation                                                                               |       | 192,000                                           |       | 386,000 |   |
| Amortization of  intangibles                                                               |       | 192,000                                           |       | 150,000 |   |
| Non-cash stock  compensation                                                               |       | 198,000                                           |       | 239,000 |   |
| Loss on disposal  of assets                                                                |       | 2,000                                             |       | 10,000 |   |
| Provision for  doubtful accounts                                                           |       | 20,000                                            |       | — |   |
| Deferred income  taxes                                                                     |       | 50,000                                            |       | 36,000 |   |
| Changes in  operating assets and liabilities:                                              |       |                                              |       |   |   |
| Accounts  receivable                                                                       |       | 1,607,000                                         |       | 738,000 |   |
| Prepaid expenses  and other assets                                                         |       | (141,000                                          | )          | (150,000 | ) |
| Accounts payable                                                                           |       | (75,000                                           | )          | (244,000 | ) |
| Accrued expenses                                                                           |       | (704,000                                          | )          | (347,000 | ) |
| Income taxes  payable                                                                      |       | (53,000                                           | )          | (20,000 | ) |
| Deferred revenue                                                                           |       | (238,000                                          | )          | (298,000 | ) |
| Net cash  provided by (used in) operating activities                                       |       | 546,000                                           |       | (1,815,000 | ) |
|                                                                                       |       |                                              |       |   |   |
| Cash flows from  investing activities:                                                     |       |                                              |       |   |   |
| Purchases of  property and equipment                                                       |       | (482,000                                          | )          | (270,000 | ) |
| Payment in  connection with the purchase of VertiSoft                                      |       | (75,000                                           | )          | — |   |
| Repayment of  note receivable from M2 Systems                                              |       | 147,000                                           |       | — |   |
| Net cash used in  investing activities                                                     |       | (410,000                                          | )          | (270,000 | ) |
|                                                                                       |       |                                              |       |   |   |
| Cash flows from  financing activities:                                                     |       |                                              |       |   |   |
| Payments of  notes payable and capital lease obligations                                   |       | (3,000                                            | )          | (37,000 | ) |
| Proceeds from  exercise of stock options                                                   |       | 300,000                                           |       | 17,000 |   |
| Purchases of  treasury stock                                                               |       | —                                            |       | (529,000 | ) |
| Net cash  provided by (used in) financing activities                                       |       | 297,000                                           |       | (549,000 | ) |
|                                                                                       |       |                                              |       |   |   |
| Impact of  foreign currency rate fluctuations on cash                                      |       | 86,000                                            |       | 106,000 |   |
| Net increase  (decrease) in cash and cash equivalents                                      |       | 519,000                                           |       | (2,528,000 | ) |
|                                                                                       |       |                                              |       |   |   |
| Cash and cash  equivalents at beginning of period                                          |       | 7,954,000                                         |       | 11,948,000 |   |
| Cash and cash  equivalents at end of period                                                |       | $                                                 | 8,473,000  |   | $ | 9,420,000 |   |
| ** **                                                                                 | ** ** | ** **                                        | ** ** | ** ** | ** ** |
| Supplemental  disclosures of cash flow information:                                        | ** ** | ** **                                        | ** ** | ** ** | ** ** |
| Cash paid during  the period for:                                                          | ** ** | ** **                                        | ** ** | ** ** | ** ** |
| Interest paid                                                                              |       | $                                                 | 3,000      |   | $ | 11,000 |   |
| Income taxes  paid                                                                         |       | $                                                 | 6,000      |   | $ | 8,000 |   |

 

***See accompanying notes.***

 

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**Optio Software, Inc.**

**Notes to the ConsolidatedCondensed Financial Statements**

**(Unaudited)**

 

**1. Description of Business**

 

Optio Software, Inc. (“we,” “us,” “our,” the “Company”or “Optio”), provides document automation and electronic health recordsolutions that enable organizations to achieve speed, accuracy, functionalityand quality in their inbound and outbound documents. The Company’sinfrastructure software and services enhance the form, content, distributionand availability of business critical information. The Company marketsprimarily to companies located principally in the United States and Europe. Theindustry in which the Company operates is subject to rapid change due todevelopment of new technologies and products.

 

**2. Basisof Presentation**

 

***Interim Financial Information***

 

The accompanying interim consolidated condensedfinancial statements of the Company have been prepared in accordance with theinstructions for Quarterly Reports on Form 10-Q. Accordingly, certaininformation and footnote disclosures normally included in financial statementsprepared in accordance with accounting principles generally accepted in theUnited States of America have been condensed or omitted. In the opinion ofmanagement, all adjustments, consisting of normal recurring adjustments unlessotherwise disclosed in a separate note, considered necessary for a fairpresentation of the financial information for the interim period reported havebeen made.

 

The accompanying financial statements should be read inconjunction with the Company’s audited consolidated financial statements forthe year ended January 31, 2007, included in the Company’s Annual Report onForm 10-K for the year ended January 31, 2007 (the “2007 Annual Report”), filedwith the Securities and Exchange Commission on May 1, 2007. Results ofoperations for the three and six months ended July 31, 2007 are not necessarilyindicative of the results for the year ending January 31, 2008.

 

***Share-BasedCompensation Plans***

 

In December 2004, the Financial Accounting StandardsBoard (FASB) issued SFAS No. 123R, *Share-BasedPayment*, which requires measurement of the cost of share-basedpayments to employees, including grants of employee stock options, to berecognized in the financial statements based on their fair values beginningwith the first interim or annual period after June 15, 2005. Effective February1, 2006, the Company has adopted SFAS No. 123R using the modified prospectivemethod. Under this method, compensation cost recognized for periods subsequentto February 1, 2006 includes: (a) compensation cost for all share-basedpayments granted prior to, but not yet vested as of February 1, 2006, based onthe grant date fair value estimated in accordance with the original provisionsof SFAS No. 123 amortized over the employees’ service period (typically theoptions’ vesting period) and (b) compensation cost for all share-based paymentsgranted subsequent to February 1, 2006, based on the grant-date fair valueestimated in accordance with the provisions of SFAS No. 123R amortized ratablyover the options’ vesting period.

 

The fair value of the options used for the applicationof SFAS No. 123R disclosures is estimated at the date of grant using the Black- Scholes option pricing model. In determining the fair value of options usingthe Black-Scholes option pricing model, various assumptions such as expectedlife, volatility, risk-free interest rate, dividend yield and forfeiture ratesare used. The expected life of awards granted represents the period of

 

9

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time that they are expected to be outstanding. The Company determinesthe expected life using the “simplified method” in accordance with StaffAccounting Bulletin No. 107. Using the Black-Scholes option valuationmodel, the Company estimates the volatility of our common stock at the date ofgrant based on the historical volatility of our common stock. Optio bases therisk-free interest rate used in the Black-Scholes option valuation model on theimplied yield currently available on U.S. Treasury zero-coupon issues with anequivalent remaining term equal to the expected life of the award. Optio hasnot paid any cash dividends on our common stock in the last ten years and we donot anticipate paying any cash dividends in the foreseeable future.Consequently, the Company used an expected dividend yield of zero in theBlack-Scholes option valuation model. Finally, the Company uses historical datato estimate pre-vesting option forfeitures. Stock-based compensation isrecorded for only those awards that are expected to vest. The followingweighted-average assumptions were used for the three and six months ended July31, 2007: risk-free interest rate of 5.03% and 4.73%; no dividend yield;volatility of 113% and 118%; a forfeiture rate of 23.2% and 23.2%; and anexpected life of the options of 5.3 and 5.2 years.

 

A summary of stock option activity for the six monthsended July 31, 2007 is as follows:

 
| ** **                               | ** ** | **Number of  Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted  Average  Remaining  Contractual  Life (in  Years)** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------------|------------|----------------------------|------------|----------------------------------------|------------|----------------------------------------------------------------------|------------|-------------------------------------|------------|
| Outstanding  options at February 1, 2007 |       | 6,526,377                  |       | $                                      | 1.01       |                                                                 |       |                                |       |   |
| Options granted                          |       | 95,000                     |       | $                                      | 1.54       |                                                                 |       |                                |       |   |
| Options  exercised                       |       | (73,865                    | )          | $                                      | 0.26       |                                                                 |       |                                |       |   |
| Options  canceled/forfeited              |       | (80,317                    | )          | $                                      | 5.21       |                                                                 |       |                                |       |   |
| Outstanding  options at July 31, 2007    |       | 6,467,195                  |       | $                                      | 0.97       |                                                                 | 6.57       |                                | $          | 5,906,883 |   |
| Exercisable  options at July 31, 2007    |       | 5,314,685                  |       | $                                      | 0.91       |                                                                 | 6.22       |                                | $          | 5,359,488 |   |

 

Other information pertaining to option activity duringthe six months ended July 31, 2007 and 2006 was as follows:

 
| ** **                                                       | ** ** | **2007** | ** ** | **2006** | ** ** |
|------------------------------------------------------------------|------------|----------|------------|----------|------------|
|                                                             |       |     |       |     |       |
| Weighted average  grant date fair value of stock options granted |       | $        | 1.28       |     | $          | 1.20 |   |
| Total fair value  of stock options vested                        |       | $        | 128,500    |     | $          | 171,887 |   |
| Total intrinsic  value of stock options exercised                |       | $        | 101,736    |     | $          | 456,462 |   |

 

10

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The following table summarizes information concerningoptions outstanding and exercisable as of July 31, 2007:

 
| **Options Outstanding** | ** ** | **Options Exercisable** | ** ** |
|------------------------------|------------|------------------------------|------------|
| **Exercise  Prices**         | ** ** | **Number of  Shares**   | ** ** | **Weighted  Average  Remaining  Contractual  Life** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Number of  Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|                         |       |                         |       |   |   |   |   |   |   |   |   |
| $0.002 - $0.05               |       | 1,064,900                    |       | N/A |   | $ | 0.03 |   | 1,064,900 |   | $ | 0.03 |   |
| $0.10 - $0.78                |       | 547,195                      |       | 6.60 |   | $ | 0.55 |   | 509,695 |   | $ | 0.53 |   |
| $0.80 - $0.80                |       | 2,535,555                    |       | 0.53 |   | $ | 0.80 |   | 2,535,555 |   | $ | 0.80 |   |
| $0.91 - $1.09                |       | 45,330                       |       | 7.71 |   | $ | 1.00 |   | 35,296 |   | $ | 0.98 |   |
| $1.10 - $1.10                |       | 715,500                      |       | 7.11 |   | $ | 1.10 |   | 380,252 |   | $ | 1.10 |   |
| $1.12 - $1.32                |       | 676,282                      |       | 8.44 |   | $ | 1.29 |   | 307,101 |   | $ | 1.29 |   |
| $1.35 - $1.50                |       | 659,160                      |       | 7.42 |   | $ | 1.47 |   | 283,613 |   | $ | 1.48 |   |
| $1.55 - $10.00               |       | 196,247                      |       | 5.79 |   | $ | 4.24 |   | 171,247 |   | $ | 4.63 |   |
| $12.50 - $12.50              |       | 1,300                        |       | 2.67 |   | $ | 12.50 |   | 1,300 |   | $ | 12.50 |   |
| $16.00 - $16.00              |       | 25,726                       |       | 2.41 |   | $ | 16.00 |   | 25,726 |   | $ | 16.00 |   |
|                         |       | 6,467,195                    |       | 6.57 |   | $ | 0.97 |   | 5,314,685 |   | $ | 0.91 |   |

 

***Goodwill and Other IntangibleAssets***

 

The Company acquiredgoodwill and other intangible assets in connection with the acquisition ofVertiSoft Corporation (“VertiSoft”) in August 2004. Under the purchase methodof accounting pursuant to Statement of Financial Accounting Standards (“SFAS”)No. 141, *Business Combinations*,the total purchase price was allocated to the acquired entity’s net tangibleand intangible assets based on their estimated fair values as of the date ofthe acquisition. The excess of the purchase price over the fair value of thenet tangible assets/liabilities and identifiable intangible assets acquired wasrecorded as goodwill. In accordance with SFAS 142, *Goodwill and Other Intangibles,*goodwill and intangibleassets with indefinite lives resulting from business combinations have not beenamortized but instead will be tested for impairment at least annually (morefrequently if certain indicators are present) while identifiable intangibleassets with finite lives are being amortized over their estimated useful lives.In the event that the Company’s management determines that the value ofgoodwill or intangible assets has become impaired, the Company will incur anaccounting charge for the amount of impairment during the fiscal quarter inwhich the determination is made. The Company has selected August 1 as itsannual impairment testing date for its goodwill. The Company performed ananalysis comparing the fair value of the reporting units with the carryingvalue of such reporting units, including goodwill, and determined that noimpairment of its goodwill existed.

 

As of July 31, 2007,the gross carrying amount and the accumulated amortization by major intangible assetclass is as follows:

 
| **Intangible Asset** | ** ** | **Estimated  Useful Life** | ** ** | **Gross Carrying  Value** | ** ** | **Accumulated  Amortization** | ** ** | **Net Carrying  Value** | ** ** |
|---------------------------|------------|---------------------------------|------------|--------------------------------|------------|-------------------------------|------------|------------------------------|------------|
| Customer  relationships   |       | 11.5 years                      |       | $                              | 1,260,000  |                          | $          | 488,000                      |       | $ | 772,000 |   |
| Technology                |       | 3 months – 5 years         |       | 893,000                        |       | 599,000                       |       | 294,000                      |       |
| Non-compete  agreement    |       | 5 years                         |       | 85,000                         |       | 51,000                        |       | 34,000                       |       |
|                           |            |                                 |            |                                |            |                               |            |                              |            |  |  |  |

 

11

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***Non-CashTransactions***

 

Duringthe second quarter of the prior fiscal year, Optio entered into a capital leasefor telephone equipment in the amount of $422,000. In addition, Optiorenegotiated the lease for its headquarter facilities. As part of the new leaseagreement, the landlord contributed $1.0 million towards the improvements ofthe space. This $1.0 million in leasehold improvements was capitalized asproperty and equipment with an offsetting lease incentive liability of $1.0million, which will reduce future rent expense, and was recorded as a liabilityon Optio’s condensed consolidated balance sheet. The liability has beenamortized to a current balance of $866,000 as of July 31, 2007. During thesecond quarter of the current fiscal year, Optio entered into a capital leasefor additional telephone equipment in the amount of $43,000.

 

***New Accounting Pronouncements***

 

In June 2006, theFinancial Accounting Standards Board (“FASB”) issued FASB InterpretationNo. 48, “Accounting for Uncertainty in Income Taxes,” (“FIN 48”). FIN 48clarifies accounting for uncertainty in income taxes recognized in a company’sfinancial statements in accordance with FASB Statement No. 109,“Accounting for Income Taxes” by prescribing a recognition threshold andmeasurement attribute for the financial statement recognition and measurementof a tax position taken or expected to be taken in a tax return that results ina tax benefit. FIN 48 is effective for fiscal years beginning afterDecember 15, 2006 and must be applied to all open tax positions uponinitial adoption. Additionally, FIN 48 provides guidance onde-recognition, income statement classification of interest and penalties,accounting in interim periods, disclosure, and transition. This interpretationis effective for fiscal years beginning after December 15, 2006. Thecumulative effect of applying the provisions of FIN 48 is required to bereported as an adjustment to tax liabilities and to the opening balance ofretained earnings in the year adopted. The Companyadopted the provisions of FIN 48 on February 1, 2007. After application ofthe provisions of FIN 48, it was not necessary for the Company to recognize anyliability for unrecognized tax benefits or adjustment to the balance ofretained earnings as of February 1, 2007. The Company’s policy is toclassify interest and penalties related to unrecognized tax benefits in incometax expense. As of February 1, 2007, the Company had no accrued interestand penalties related to unrecognized tax benefits. As of February 1,2007, after the implementation of FIN 48, the Company’s unrecognized taxbenefits were $0. The amount, if recognized, that would affect the effectivetax rate is $0.

 

InFebruary 2007, the FASB issued FASB No. 159 “The Fair Value Option forFinancial Assets and Financial Liabilities — including an amendment of FASBStatement No. 115”. This Statement permits entities to choose to measure manyfinancial instruments and certain other items at fair value. The objective isto improve financial reporting by providing entities with the opportunity tomitigate volatility in reported earnings caused by measuring related assets andliabilities differently without having to apply complex hedge accountingprovisions. This Statement is expected to expand the use of fair valuemeasurement, which is consistent with the Board’s long-term measurementobjectives for accounting for financial instruments. This Statement iseffective as of the beginning of an entity’s first fiscal year that beginsafter November 15, 2007. Early adoption is permitted as of the beginning of afiscal year that begins on or before November 15, 2007, provided the entityalso elects to apply the provisions of FASB Statement No. 157, “Fair Value Measurements”*.*The Company did not elect earlyadoption. The Company does not expect FASB 159 to have a material impact on theCompany’s results of operations or financial position.

 

**3. Net Loss per Share**

 

Net loss per share has been computed in accordancewith SFAS 128, *Earnings per Share*,which

 

12

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requires disclosure of basic and diluted earnings per share. Basicearnings per share excludes any dilutive effects of stock options. Dilutedearnings per share includes the impact of potentially dilutive securities.

 

The following table sets forth the computation of netloss per share:

 
| ** **                                                                                      | ** ** | **Three months ended July 31,** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                                      | ** ** | **2006**                                            | ** ** | **2007** | ** ** |
|                                                                                            |       |                                                |       |   |   |
| Net loss                                                                                        |       | $                                                   | (450,000   | ) | $ | (1,145,000 | ) |
| Weighted average  shares outstanding – basic                                               |       | 22,223,643                                          |       | 22,325,214 |   |
| Dilutive  securities                                                                            |       | —                                              |       | — |   |
| Weighted average  shares outstanding – diluted                                             |       | 22,223,643                                          |       | 22,325,214 |   |
| Net loss per  share – basic and diluted                                                    |       | $                                                   | (0.02      | ) | $ | (0.05 | ) |
| Potentially  dilutive stock options, excluded from diluted weighted average shares  outstanding |       | 4,394,084                                           |       | 4,422,974 |   |

 
| ** **                                                                                      | ** ** | **Six months ended July 31,** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                      | ** ** | **2006**                                          | ** ** | **2007** | ** ** |
|                                                                                            |       |                                              |       |   |   |
| Net loss                                                                                        |       | $                                                 | (504,000   | ) | $ | (2,315,000 | ) |
| Weighted average  shares outstanding – basic                                               |       | 22,036,310                                        |       | 22,404,793 |   |
| Dilutive  securities                                                                            |       | —                                            |       | — |   |
| Weighted average  shares outstanding – diluted                                             |       | 22,036, 310                                       |       | 22,404,793 |   |
| Net loss per  share – basic and diluted                                                    |       | $                                                 | (0.02      | ) | $ | (0.10 | ) |
| Potentially  dilutive stock options, excluded from diluted weighted average shares  outstanding |       | 4,405,201                                         |       | 3,953,812 |   |

 

**4. Segment and Geographic Information**

 

The Company’sbusiness is organized around geographic areas. Optio’s U.S. operations andEuropean operations represent Optio’s two reportable segments. The foreignlocations principally function as distributors of products developed by theCompany in the United States. The accounting policies described in the summaryof significant accounting policies are applied consistently across thesegments. Intersegment sales are based on intercompany transfer prices toachieve a reasonable margin upon distribution. Revenues are attributable toeach segment based on the location of the subsidiary originating the sale,which is typically the geographic location where the software is installed.

 

Segment information for the three and six months ended July 31, 2007and 2006 is summarized below.

 

13

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| **Three Months ended  July 31, 2006** | ** ** | **United  States** | ** ** | **Europe** | ** ** | **Combined** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------------------|------------|--------------------|------------|------------|------------|--------------|------------|------------------|------------|------------------|------------|
| Revenue from  external customers:                         |       |               |       |       |       |         |       |             |       |             |       |
| License fees                                              |       | $                  | 1,305,000  |       | $          | 338,000      |       | $                | 1,643,000  |             | $          | — |   | $ | 1,643,000 |   |
| Subscription  revenue                                     |       | 550,000            |       | 10,000     |       | 560,000      |       | —           |       | 560,000          |       |
| Services,  maintenance and other                          |       | 3,753,000          |       | 812,000    |       | 4,565,000    |       | —           |       | 4,565,000        |       |
| Inter-segment  revenue                                    |       | 28,000             |       | 17,000     |       | 45,000       |       | (45,000          | )          | —           |       |
| Total revenue                                             |       | 5,636,000          |       | 1,177,000  |       | 6,813,000    |       | (45,000          | )          | 6,768,000        |       |
| Interest income                                           |       | 113,000            |       | —     |       | 113,000      |       | —           |       | 113,000          |       |
| Interest expense                                          |       | 2,000              |       | —     |       | 2,000        |       | —           |       | 2,000            |       |
| Depreciation and  amortization                            |       | 192,000            |       | 8,000      |       | 200,000      |       | —           |       | 200,000          |       |
| Income tax  expense (benefit)                             |       | 40,000             |       | (4,000     | )          | 36,000       |       | —           |       | 36,000           |       |
| Segment income  (loss) before income taxes                |       | (447,000           | )          | 33,000     |       | (414,000     | )          | —           |       | (414,000         | )          |
| Segment net  income (loss)                                |       | (487,000           | )          | 37,000     |       | (450,000     | )          | —           |       | (450,000         | )          |
| Total segment  assets                                     |       | 20,561,000         |       | 3,598,000  |       | 24,159,000   |       | (3,548,000       | )          | 20,611,000       |       |
| Expenditures for  long-lived assets                       |       | 301,000            |       | 8,000      |       | 309,000      |       | —           |       | 309,000          |       |
|                                                           |            |                    |            |            |            |              |            |                  |            |                  |            |  |  |  |  |  |

 
| **Three Months ended  July 31, 2007** | ** ** | **United  States** | ** ** | **Europe** | ** ** | **Combined** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------------------|------------|--------------------|------------|------------|------------|--------------|------------|------------------|------------|------------------|------------|
| Revenue from  external customers:                         |       |               |       |       |       |         |       |             |       |             |       |
| License fees                                              |       | $                  | 1,276,000  |       | $          | 260,000      |       | $                | 1,536,000  |             | $          | — |   | $ | 1,536,000 |   |
| Subscription revenue                                      |       | 621,000            |       | 12,000     |       | 633,000      |       | —           |       | 633,000          |       |
| Services,  maintenance and other                          |       | 3,464,000          |       | 981,000    |       | 4,445,000    |       | —           |       | 4,445,000        |       |
| Inter-segment  revenue                                    |       | 65,000             |       | 25,000     |       | 90,000       |       | (90,000          | )          | —           |       |
| Total revenue                                             |       | 5,426,000          |       | 1,278,000  |       | 6,704,000    |       | (90,000          | )          | 6,614,000        |       |
| Interest income                                           |       | 111,000            |       | —     |       | 111,000      |       | —           |       | 111,000          |       |
| Interest expense                                          |       | 8,000              |       | —     |       | 8,000        |       | —           |       | 8,000            |       |
| Depreciation and  amortization                            |       | 258,000            |       | 15,000     |       | 273,000      |       | —           |       | 273,000          |       |
| Income tax  expense                                       |       | 13,000             |       | —     |       | 13,000       |       | —           |       | 13,000           |       |
| Segment loss  before income taxes                         |       | (1,003,000         | )          | (129,000   | )          | (1,132,000   | )          | —           |       | (1,132,000       | )          |
| Segment net loss                                          |       | (1,016,000         | )          | (129,000   | )          | (1,145,000   | )          | —           |       | (1,145,000       | )          |
|                                                      |       |               |       |       |       |         |       |             |       |             |       |
| Total segment  assets                                     |       | 19,541,000         |       | 4,146,000  |       | 23,687,000   |       | (3,996,000       | )          | 19,691,000       |       |
| Expenditures for  long-lived assets                       |       | 110,000            |       | 21,000     |       | 131,000      |       | —           |       | 131,000          |       |
|                                                           |            |                    |            |            |            |              |            |                  |            |                  |            |  |  |  |  |  |

 

14

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| **Six Months ended  July 31, 2006** | ** ** | **United  States** | ** ** | **Europe** | ** ** | **Combined** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------|------------|--------------------|------------|------------|------------|--------------|------------|------------------|------------|------------------|------------|
| Revenue from  external customers:                       |       |               |       |       |       |         |       |             |       |             |       |
| License fees                                            |       | $                  | 2,782,000  |       | $          | 759,000      |       | $                | 3,541,000  |             | $          | — |   | $ | 3,541,000 |   |
| Subscription  revenue                                   |       | 1,095,000          |       | 20,000     |       | 1,115,000    |       | —           |       | 1,115,000        |       |
| Services,  maintenance and other                        |       | 7,491,000          |       | 1,483,000  |       | 8,974,000    |       | —           |       | 8,974,000        |       |
| Inter-segment  revenue                                  |       | 125,000            |       | 49,000     |       | 174,000      |       | (174,000         | )          | —           |       |
| Total revenue                                           |       | 11,493,000         |       | 2,311,000  |       | 13,804,000   |       | (174,000         | )          | 13,630,000       |       |
| Interest income                                         |       | 209,000            |       | —     |       | 209,000      |       | —           |       | 209,000          |       |
| Interest expense                                        |       | 2,000              |       | 1,000      |       | 3,000        |       | —           |       | 3,000            |       |
| Depreciation and  amortization                          |       | 369,000            |       | 15,000     |       | 384,000      |       | —           |       | 384,000          |       |
| Income tax  expense (benefit)                           |       | 56,000             |       | (4,000     | )          | 52,000       |       | —           |       | 52,000           |       |
| Segment loss  before income taxes                       |       | (370,000           | )          | (82,000    | )          | (452,000     | )          | —           |       | (452,000         | )          |
| Segment net loss                                        |       | (426,000           | )          | (78,000    | )          | (504,000     | )          | —           |       | (504,000         | )          |
| Total segment  assets                                   |       | 20,561,000         |       | 3,598,000  |       | 24,159,000   |       | (3,548,000       | )          | 20,611,000       |       |
| Expenditures for  long-lived assets                     |       | 472,000            |       | 10,000     |       | 482,000      |       | —           |       | 482,000          |       |
|                                                         |            |                    |            |            |            |              |            |                  |            |                  |            |  |  |  |  |  |

 
| **Six Months ended  July 31, 2007** | ** ** | **United  States** | ** ** | **Europe** | ** ** | **Combined** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------|------------|--------------------|------------|------------|------------|--------------|------------|------------------|------------|------------------|------------|
| Revenue from  external customers:                       |       |               |       |       |       |         |       |             |       |             |       |
| License fees                                            |       | $                  | 2,109,000  |       | $          | 710,000      |       | $                | 2,819,000  |             | $          | — |   | $ | 2,819,000 |   |
| Subscription  revenue                                   |       | 1,220,000          |       | 23,000     |       | 1,243,000    |       | —           |       | 1,243,000        |       |
| Services, maintenance  and other                        |       | 7,031,000          |       | 1,788,000  |       | 8,819,000    |       | —           |       | 8,819,000        |       |
| Inter-segment  revenue                                  |       | 178,000            |       | 114,000    |       | 292,000      |       | (292,000         | )          | —           |       |
| Total revenue                                           |       | 10,538,000         |       | 2,635,000  |       | 13,173,000   |       | (292,000         | )          | 12,881,000       |       |
| Interest income                                         |       | 227,000            |       | —     |       | 227,000      |       | —           |       | 227,000          |       |
| Interest expense                                        |       | 12,000             |       | —     |       | 12,000       |       | —           |       | 12,000           |       |
| Depreciation and  amortization                          |       | 506,000            |       | 30,000     |       | 536,000      |       | —           |       | 536,000          |       |
| Income tax  expense                                     |       | 42,000             |       | —     |       | 42,000       |       | —           |       | 42,000           |       |
| Segment loss  before income taxes                       |       | (2,087,000         | )          | (186,000   | )          | (2,273,000   | )          | —           |       | (2,273,000       | )          |
| Segment net loss                                        |       | (2,129,000         | )          | (186,000   | )          | (2,315,000   | )          | —           |       | (2,315,000       | )          |
| Total segment  assets                                   |       | 19,541,000         |       | 4,146,000  |       | 23,687,000   |       | (3,996,000       | )          | 19,691,000       |       |
| Expenditures for  long-lived assets                     |       | 246,000            |       | 24,000     |       | 270,000      |       | —           |       | 270,000          |       |
|                                                         |            |                    |            |            |            |              |            |                  |            |                  |            |  |  |  |  |  |

 

**5. Note Receivable**

 

As further explained in Note 3 of the Notes toConsolidated Financial Statements included in Optio’s 2007 Annual Report, Optioheld a note receivable from M2 Systems Corporation (“M2 Systems”) as partialconsideration for the sale by Optio of its Muscato Corporation (“Muscato”) andTranslink Solutions

 

15

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Corporationbusiness units.

 

On November 6, 2006, Optio received approximately$2,758,000 in cash, representing full repayment of the M2 Systems notereceivable, plus accrued interest. Such repayment represented an earlyretirement of the note, originally due December 1, 2007. In connection withsuch repayment, Optio released its lien on the assets of M2 systems, itssubsidiaries and related entities and the parties executed mutual releases.

 

**6. Share Repurchase Program**

 

On January 5, 2007, Optio announced a share repurchaseplan under which we could repurchase up to $2.0 million of our common stockover a twelve month period. During the quarter ended July 31, 2007, wepurchased a total of 280,700 shares at an average purchase price of $1.36 pershare, or approximately $390,000 in the aggregate including broker fees. Therepurchased shares were held and not cancelled. As of July 31, 2007, the dollarvalue of shares that remained available for repurchase under this program wasapproximately $1,423,000. The repurchases for the quarter ended July 31, 2007are reflected in the following table:

 
| **Period**                     | ** ** | **Total  Number of  Shares  Purchased** | ** ** | **Average Price  Paid per Share** | ** ** | **Total Shares  Purchased As  Part of Publicly  Announced Plan** | ** ** | **Approximate Dollar  Value of Shares That  May Yet Be  Repurchased Under The  Program** | ** ** |
|--------------------------------|------------|----------------------------------------------|------------|--------------------------------------------------|------------|-------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------|------------|
| 5/1/2007 –  7/31/2007 (1) |       | 280,700                                      |       | $                                                | 1.36       |                                                                                      | 413,200    |                                                                                                                             | $          | 1,423,000 |   |
|                                |            |                                              |            |                                                  |            |                                                                                           |            |                                                                                                                                  |            |  |  |

 

----

(1)  Last repurchase date wasJuly 31, 2007.

 

**7. Income Taxes**

 

The Company adopted the provisions of FIN 48 onFebruary 1, 2007. After application of the provisions of FIN 48, it wasnot necessary for the Company to recognize any liability for unrecognized taxbenefits or adjustment to the balance of retained earnings as ofFebruary 1, 2007. The Company’s policy is to classify interest andpenalties related to unrecognized tax benefits in income tax expense. As ofFebruary 1, 2007, the Company had no accrued interest and penaltiesrelated to unrecognized tax benefits. As of February 1, 2007, after theimplementation of FIN 48, the Company’s unrecognized tax benefits were $0. Theamount, if recognized, that would affect the effective tax rate is $0.

 

ITEM 2. MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

**OVERVIEW**

 

Optio is engagedprimarily in the development, sale and support of infrastructure software thatenhances the form, content, distribution and availability of businessinformation. Optio’s primary business consists of providing software andservices that address organizations’ needs for customized information deliveredvia print, fax and e-mail to users of enterprise and healthcare applications.

 

Optio markets and sells its software and servicesthroughout the United States, Europe and the Asia Pacific region, through itsdirect sales force and certified resellers. Optio has offices in the UnitedStates, France, the United Kingdom and Germany. Optio also offers consultingservices, which provide customers with implementation assistance and training.No single customer accounted for 10% or more of Optio’s revenue for the threeor six months ended July 31, 2007.

 

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**Critical Accounting Policies and Use of Estimates**

 

Optio hasidentified significant accounting policies and estimates that are critical tothe understanding of its financial statements.

 

*Revenue Recognition*

 

*Overview*

 

The Company’s revenue consists of perpetual feesderived from the Company’s software products, maintenance, consulting services,customer training and subscription fees received from the licensing of theCompany’s software products and maintenance. The Company generally charges feesfor licenses of its software products either based on the number of CentralProcessing Units (“CPUs”) on which the product is installed or, to a lesserextent, based on the number of persons or hospital beds registered to use theproduct. The Company’s revenue recognition policies are in accordance withStatement of Position (“SOP”) No. 97-2, *SoftwareRevenue Recognition*, as amended by SOP No. 98-9, *Software Revenue Recognition With Respect to CertainTransactions* and the Securities and Exchange Commission’s Staff AccountingBulletin (“SAB”) No. 101, *RevenueRecognition in Financial Statements,* as amended by SAB 104, *Revenue Recognition*.

 

*License Fees*

 

The Company licenses its products through its directsales force and indirectly through resellers. In general, software licenserevenues are recognized when a non-cancelable license agreement has been signedand the customer acknowledges an unconditional obligation to pay, the softwareproduct has been delivered, there are no significant uncertainties surroundingproduct acceptance, the fees are fixed or determinable, collection isconsidered probable, the remaining elements such as future services are notconsidered essential to the functionality of the software and the Company has alegally enforceable claim not subject to refund or forfeiture if futureservices are not rendered. Delivery is considered to have occurred when titleand risk of loss have been transferred to the customer, which generally occurswhen media containing the licensed programs is provided to a common carrier. Incase of electronic delivery, delivery occurs when the customer is given accessto the licensed programs. If collectibility is not considered probable, revenueis recognized when the fee is collected. The Company enters into reseller arrangementsthat typically provide for sublicense fees payable based upon a percentage oflist price. The Company does not grant its resellers the right of return.

 

The Company recognizes revenue using the residualmethod pursuant to the requirements of SOP No. 97-2, as amended bySOP No. 98-9. Revenues recognized from multiple-element softwarearrangements are allocated to each element of the arrangement based on the fairvalues of the elements, such as licenses for software products, maintenance,consulting services or customer training. The determination of fair value isbased on objective evidence, which is specific to the Company and can differfrom amounts contained in the customer arrangement. The Company limits itsassessment of objective evidence for each element to either the price chargedwhen the same element is sold separately or the price established by managementhaving the relevant authority to do so, for an element not yet sold separately.If evidence of fair value of all undelivered elements exists but evidence doesnot exist for one or more delivered elements, then revenue is recognized usingthe residual method. Under the residual method, the fair value of theundelivered elements is deferred and the remaining portion of the arrangementfee is allocated to the delivered elements and recognized as revenue when theaforementioned criteria is met.

 

The Company records deferred revenue for softwarelicense agreements when the invoice is rendered

 

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to the customer and the agreement does not qualify for revenuerecognition under the Company’s revenue recognition policy. The Company recordsaccounts receivable for software license agreements when the agreementqualifies for revenue recognition but cash or other consideration has not beenreceived from the customer.

 

*Subscription Revenue*

 

The Company**also licensescertain of its products in the form of a subscription service contract, withterms typically ranging from three to five years. Subscription revenue, whichincludes a license of the software product, technical support and futureunspecified enhancements to the software product, is recognized on a proratabasis over the term of the agreement. Unlike license fee revenue, subscriptionservice agreements include licenses that are not perpetual in duration.

 

*Services, Maintenance and OtherRevenue*

 

Consultingservices revenue and customer training revenue are recognized as such servicesare performed because they are incidental to the functionality of the Company’ssoftware. Maintenance revenues, which include revenues bundled with softwarelicense agreements that entitle the customers to technical support and futureunspecified enhancements to the Company’s products, are deferred and recognizedratably over the related term of the maintenance agreement, which is generallytwelve months. In accordance with Emerging Issues Task Force release 01-14, *Income Statement Characterization of ReimbursementsReceived for Out of Pocket Expenses Incurred*, the Company recognizesreimbursable expenses as revenue and as an expense in cost of revenue in allperiods presented.

 

*AccountsReceivable*

 

Optio maintains allowances for doubtful accounts forestimated losses resulting from customers’ inability to make payments requiredunder their contracts. The amount of Optio’s reserve is based on historical experience and Optio’s specific review and analysis of thereceivables outstanding. Management reviews its accounts receivable on aregular basis to determine if any such amounts may be potentiallyuncollectible. The Company includes any balances that are determined to beuncollectible, along with a general reserve at varying percentages based onhistorical trends of 2% for domestic and 3% for international balances lessthan 30 days old, respectively, to 50% for international accounts more than 90days old, in its overall allowance for doubtful accounts. Based on management’sbest estimate, it believes the Company’s allowance for doubtful accounts isadequate as presented; however, the amount of the reserve could be differentunder different conditions or using varying assumptions. If the percentage ofthe general reserve were to increase by 1%, an additional $32,000 reserve wouldbe required. If the financial condition of Optio’s customers were to deteriorate, resulting in their inability to makepayments, additional reserves would be required, increasing Optio’s bad debt expense included in general andadministrative expenses.

 

*ImpairmentAssessments*

 

Optio follows Statement of Financial AccountingStandards (“SFAS”) No. 142, *Goodwill andOther Intangible Assets*. This standard requires that goodwill nolonger be amortized and instead be tested for impairment on a periodic basis.

 

Pursuant to SFAS 142, Optio is required to test goodwillfor impairment upon adoption and annually or more often if events or changes incircumstances indicate that the asset might be impaired. SFAS 142 provides fora two-stage approach to determining whether and by how much goodwill has beenimpaired. The

 

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first stage requires acomparison of the fair value of the reporting unit, in our case, the formerVertiSoft business, to its net book value. If the fair value is greater thanbook value, no impairment is deemed to have occurred. If the fair value is lessthan book value, then the second stage must be completed to determine theamount, if any, of actual impairment. Optio has selected August 1 as its annualimpairment testing date for its goodwill. The Company performed an analysis as of August 1,2006, comparing the fair value of the reporting units with the carrying valueof such reporting units, including goodwill, and determined that no impairmentof its goodwill existed. While noimpairment charge was determined to be necessary in the current year, theCompany’s future assessments could lead management to determine that thegoodwill is completely or partially impaired, which would require the Companyto record an impairment charge of up to $2.3 million.

 

The process of evaluating the potential impairment ofgoodwill is highly subjective and requires significant judgment decisions. Inestimating our fair value, we will make estimates and judgments about futurerevenues and cash flows. Our forecasts will be based upon assumptions that areconsistent with the plans and estimates we are using to manage our business.Changes in these estimates could change our conclusion regarding impairment ofgoodwill and potentially result in a non-cash goodwill impairment charge forall or a portion of the goodwill balance. For long-lived assets other thangoodwill, accounting standards dictate that assets become impaired when theundiscounted future cash flows expected to be generated by them are less thantheir carrying amounts. In such cases, the affected assets are written down totheir estimated fair value.

 

*Foreign Currencies*

 

The financial position and results of operations ofthe Company’s foreign subsidiaries are generally measured using localcurrencies as the functional currencies, including the British pound and theEuro. Assets and liabilities of these subsidiaries are translated into U.S.dollars at the exchange rate in effect at each reporting period. Income andexpense items are translated at average exchange rates for the period. Theresulting translation adjustments are recorded in the foreign currencytranslation adjustment account. Optio and its subsidiaries conduct theirbusiness locally, thus the effects of changes in foreign currency exchangerates have had a minimal effect on the Company’s results of operations to date.

 

**RESULTS OF OPERATIONS**

 

***Three Months Ended July 31, 2007 Compared to Three Months Ended July31, 2006***

 

**Revenues**

 

The following table setsforth certain items from Optio’s condensed consolidated statements ofoperations as a percentage of total revenue for the periods indicated.

 

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| ** **                                                                   | ** ** | **Three Months  Ended July 31,** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                   | ** ** | **2006**                                   | ** ** | **2007** | ** ** |
| Revenue:                                                                     |       |                                       |       |   |   |
| License fees                                                                 |       | 24                                         | %          | 23 | % |
| Subscription  fees                                                           |       | 8                                          |       | 10 |   |
| Services,  maintenance and other                                             |       | 68                                         |       | 67 |   |
| Total revenue                                                                |       | 100                                        |       | 100 |   |
| Costs of revenue  (excluding depreciation and amortization, included below): |       |                                       |       |   |   |
| License fees                                                                 |       | 2                                          |       | 2 |   |
| Services,  maintenance and other                                             |       | 24                                         |       | 26 |   |
| Total cost of  revenue                                                       |       | 26                                         |       | 28 |   |
|                                                                         |       | 74                                         |       | 72 |   |
| Operating  expenses:                                                         |       |                                       |       |   |   |
| Sales and  marketing                                                         |       | 38                                         |       | 43 |   |
| Research and  development                                                    |       | 21                                         |       | 21 |   |
| General and  administrative                                                  |       | 20                                         |       | 23 |   |
| Depreciation and  amortization                                               |       | 3                                          |       | 4 |   |
| Total operating  expenses                                                    |       | 82                                         |       | 91 |   |
| Loss from  operations                                                        |       | (8                                         | )          | (19 | ) |
| Interest and  other income                                                   |       | 2                                          |       | 2 |   |
| Income tax  expense                                                          |       | (1                                         | )          | — |   |
| Net loss                                                                     |       | (7                                         | )%         | (17 | )% |

 

**Revenues**

 

Total revenues decreased from $6.8 million in thethree months ended July 31, 2006 to $6.6 million in the three months ended July31, 2007.

 

*License fees*

 

Revenues from software licenses decreased 7% to $1.5million in the three months ended July 31, 2007 from $1.6 million for the threemonths ended July 31, 2006. License revenue of $252,000 from Optio’s healthcaredivision remained relatively consistent for the three months ended July 31,2007 as compared to the three months ended July 31, 2006. For Optio’senterprise division, software license revenue of $1,022,000 in the U.S. alsoapproximated the level achieved in the same quarter of the prior fiscal year.In Europe, we experienced a shortfall of $96,000 as the closure of two certaincustomer sales were not achieved or were delayed.

 

Approximately $346,000 of Optio’s software licenserevenue during the three months ended July 31, 2007 was derived from partners,such as resellers, value-added distributors or OEM relationships, representing23% of license revenue for Optio. During the three months ended July 31, 2006,Optio generated $587,000 of its software license revenue through partners, representing36% of Optio’s license revenue. In the prior quarter of last year, we hadseveral significant deals through our channel partners, while this year, therewere many

 

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smaller transactions.

 

*Subscription fees*

 

Subscription revenue increased to $633,000 in thethree months ended July 31, 2007 from $560,000 in the three months ended July31, 2006. Optio has signed additional contracts and additional modules forexisting contracts, increasing the monthly amount recognized on a subscriptionbasis.

 

*Services, maintenance and other*

 

Revenues from services, maintenance and other declinedto $4.4 million for the three months ended July 31, 2007 from $4.6 million forthe three months ended July 31, 2006. Services revenue decreased to  $1.1 million for the three months ended July31, 2007 from $1.3 million for the three months ended July 31, 2006. Thedecline in license revenue, especially in the previous quarter, contributed tothe associated decline in services revenue. Maintenance revenue remainedconstant at $3.3 million for the three months ended July 31, 2007 and July 31,2006, respectively. Maintenance revenue increased as Optio added to itscustomer base, combined with moderately increased pricing for its annualmaintenance fees, offset by maintenance agreement expirations that were notrenewed.

 

*Revenue Mix*

 

Revenue from licenses represented 23% of total revenuein the three months ended July 31, 2007, a slight decrease from license revenueat 24% of total revenue in the three months ended July 31, 2006. Subscriptionrevenue represented 10% of total revenue in the three months ended July 31,2007, increasing from 8% of total revenue from the same quarter last year.Services, maintenance and other revenue constituted 67% of total revenue in thethree months ended July 31, 2007, a slight decrease from a percentagecontribution of 68% in the prior year comparative period. Accordingly, theoverall change in revenue mix reflected a slight decline in license fees andservices, maintenance, and other revenue offset by an increase in subscriptionrevenue for the three months ended July 31, 2007 as compared to the samequarter last year.

 

 **Costs ofRevenues**

 

Total costs of revenues remained constant at  $1.8 million in the three months ended July31, 2007 and 2006, respectively.

 

*Licenses*

 

Costs of revenues from licenses consist of costs relatedto the packaging and distribution of the products, fees paid for integration ofthird-party software products and fees paid to referral partners. Costs ofrevenues from licenses decreased to $124,000 in the three months ended July 31,2007 from $146,000 in the three months ended July 31, 2006. Fewer products thatinclude third-party software were sold during the three months ended July 31,2007, as compared to the three months ended July 31, 2006, reducing the costsof revenue from licenses. Partly offsetting this, fees paid to referralpartners were slightly higher for the three months ended July 31, 2007 to thethree months ended July 31, 2006 as we had more deals referred by independentparties.

 

*Services,Maintenance and Other*

 

Costs of revenues from services, maintenance and otherconsist of personnel, subcontracting and other

 

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expensesrelating to the cost of providing customer support, education and consultingand implementation services. Costs of revenues from services, maintenance andother increased slightly to  $1.7 millionin the three months ended July 31, 2007 as compared to $1.6 million for thethree months ended July 31, 2006. Optio’s internal implementation staffreflected the same staffing level as compared to the same quarter in the prioryear and Optio’s reliance on external outsourcers also approximated the prioryear. The increase in cost was mainly due to salary increases for internalstaff.

 

**OperatingExpenses**

 

*Sales andMarketing*

 

Sales and marketing expenses consist primarily ofsalaries, commissions, bonuses and benefits earned by sales and marketingpersonnel, direct expenditures such as travel, communication and occupancy andmarketing expenditures related to direct mail, trade shows and otheradvertising.

 

Sales and marketing expenses increased 10% to $2.8million from $2.5 million for the three months ended July 31, 2007 and 2006,respectively. Sales and marketing expenses were 43% and38% of total revenue for the three months ended July 31, 2007 and 2006,respectively. Salaries increased approximately $200,000 between the two quarters,due mainly to salary increases and increased staffing. Discretionary spending,in the aggregate, was also higher as compared to the same quarter in the priorfiscal year due largely to increased travel expenses. Partly offsetting thisincrease in expenses were reduced direct marketing expenditures, whichdecreased approximately $80,000 between the three months ended July 31, 2007and the three months ended July 31, 2006.

 

*Research and Development*

 

Researchand development expense consists primarily of salaries, benefits and equipmentfor software developers, quality assurance personnel, and product managers.

 

Researchand development expenses remained constant at $1.4 million for the three monthsended July 31, 2007 and July 31, 2006, respectively. Research and developmentsalaries and associated benefits increased $10,000 between the periods,primarily due to salary increases, as opposed to additional staff.

 

*General and Administrative*

 

Generaland administrative expenses consist primarily of salaries, benefits and relatedcosts for executive, finance, human resources and information servicespersonnel. General and administrative expenses also include legal, accounting,insurance and other professional services.

 

Generaland administrative expenses increased to $1.5 million from $1.4 million in thethree months ended July 31, 2007 and 2006, respectively. General andadministrative expenses increased due to $50,000 of increased salariesrepresenting additional accounting and administrative staff as well as salaryincreases. Legal fees also increased due to ongoing legal matters and theresolution of certain employment related claims in Europe.

 

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*Depreciation and Amortization*

 

Depreciationand amortization expense increased to $273,000 from $200,000 for the threemonths ended July 31, 2007 and 2006, respectively. The increase was primarilydue to Optio’s renegotiation of the lease for Optio’s headquarters in which thelandlord contributed $1.0 million towards the improvements of the space. Theseleasehold improvements, as well as an additional $700,000 purchased directly byOptio, are being depreciated over the term of the new lease or the expecteduseful life of the assets, as appropriate. This increase was partly offset by adecrease in amortization expense as intangibles are amortized over theestimated useful life of the asset using the cash flow method, which results ina greater expense in the earlier periods and reduced expense in the laterperiods. This resulted in a greater expense in periods prior to fiscal year2008.

 

*Interest Income*

 

Interestincome decreased slightly to $111,000 in the three months ended July 31, 2007from $113,000 in the three months ended July 31, 2006. Current interest incomeprimarily represents interest earned on funds invested in short-term financialinstruments, as compared to the same period in the prior year where mostinterest income was attributable to the then outstanding M2 Systems notereceivable.

 

*Interest Expense*

 

Interestexpense increased to $8,000 in the three months ended July 31, 2007, anincrease from $2,000 in the three months ended July 31, 2006. Interest expenseprimarily represents the interest paid on Optio’s capital leases.

 

***Six Months Ended July 31, 2007 Compared to Six Months Ended July 31,2006***

 

**Revenues**

 

The following table setsforth certain items from Optio’s condensed consolidated statements ofoperations as a percentage of total revenue for the periods indicated.

 

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| ** **                                                                   | ** ** | **Six Months Ended  July 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------|------------|
| ** **                                                                   | ** ** | **2006**                                      | ** ** | **2007** | ** ** |
| Revenue:                                                                     |       |                                          |       |   |   |
| License fees                                                                 |       | 26                                            | %          | 22 | % |
| Subscription  fees                                                           |       | 8                                             |       | 10 |   |
| Services,  maintenance and other                                             |       | 66                                            |       | 68 |   |
| Total revenue                                                                |       | 100                                           |       | 100 |   |
| Costs of revenue  (excluding depreciation and amortization, included below): |       |                                          |       |   |   |
| License fees                                                                 |       | 2                                             |       | 2 |   |
| Services,  maintenance and other                                             |       | 24                                            |       | 26 |   |
| Total cost of  revenue                                                       |       | 26                                            |       | 28 |   |
|                                                                         |       | 74                                            |       | 72 |   |
| Operating  expenses:                                                         |       |                                          |       |   |   |
| Sales and  marketing                                                         |       | 37                                            |       | 44 |   |
| Research and  development                                                    |       | 20                                            |       | 22 |   |
| General and administrative                                                   |       | 19                                            |       | 21 |   |
| Depreciation and  amortization                                               |       | 3                                             |       | 4 |   |
| Total operating  expenses                                                    |       | 79                                            |       | 91 |   |
| Loss from  operations                                                        |       | (5                                            | )          | (19 | ) |
| Interest and  other income                                                   |       | 1                                             |       | 1 |   |
| Net loss                                                                     |       | (4                                            | )%         | (18 | )% |

 

**Revenues**

 

Total revenues decreased from $13.6 million in the sixmonths ended July 31, 2006 to $12.9 million in the six months ended July 31,2007.

 

*License fees*

 

Revenues from software licenses decreased 20% to $2.8million in the six months ended July 31, 2007 from $3.5 million for the sixmonths ended July 31, 2006. We continue to face pressure in the documentmanagement output market as ERP vendors now offer similar functionality andcompetitors continue to offer lower cost solutions. In addition, our imagingsolutions have not generated revenue as quickly as we anticipated. We have justrecently begun to release our business process management solutions in modules,which we anticipated would generate replacement revenue for our decliningdocument output management market. Sales of Optio’s newer products, includingOptio imaging solutions and process management solutions, require a longersales cycle than our traditional output solutions products. Across the twoperiods, Optio’s average contract size remained relatively constant.

 

Approximately $591,000 of Optio’s software licenserevenue during the six months ended July 31, 2007 was derived from partners,such as resellers, value-added distributors or OEM relationships, representing21% of license revenue for Optio. During the six months ended July 31, 2006, Optiogenerated $947,000 of its software license revenue through partners,representing 27% of Optio’s license revenue. In the prior quarter

 

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of last year, we had several significant deals through our channelpartners, while this year, there were many smaller transactions.

 

*Subscription fees*

 

Subscription revenue increased to $1.2 million in the six months endedJuly 31, 2007 from $1.1 million in the six months ended July 31, 2006. Optiohas signed additional contracts and additional modules for existing contracts,increasing the monthly amount recognized on a subscription basis.

 

*Services, maintenance and other*

 

Revenues from services, maintenance and otherdecreased to $8.8 million from $9.0 million for the six months ended July 31,2007 and 2006, respectively. Services revenue decreased to  $2.2 million for the six months ended July31, 2007 from $2.5 million for the six months ended July 31, 2006. The declinein license revenue contributed to the associated decline in consulting servicesrevenue. Maintenance revenue increased $200,000 to $6.6 million for the sixmonths ended July 31, 2007 from $6.4 million for the six months ended July 31,2006. Maintenance revenue continues to increase with additions to Optio’scustomer base, as well as from moderate increases in the price of annualmaintenance fees.

 

*Revenue Mix*

 

Revenue from licenses represented 22% of total revenue in the sixmonths ended July 31, 2007 and 26% of total revenue in the six months endedJuly 31, 2006. Subscription revenue represented 10% and 8% of total revenue inthe six months ended July 31, 2007 and 2006, respectively. Services,maintenance and other revenue constituted 68% and 66% of total revenue in thesix months ended July 31, 2007 and 2006, respectively. Revenue from licensesdeclined between the six months ended July 31, 2007 and 2006, thus causing thepercentage of revenue to shift toward services, maintenance and other as wellas subscriptions, which increased during those same periods.

 

**Costs of Revenues**

 

Total costs ofrevenues remained constant at  $3.6million in the six months ended July 31, 2007 and 2006, respectively.

 

*Licenses*

 

Costs of revenues from licenses decreased to $226,000 inthe six months ended July 31, 2007 from $278,000 in the six months ended July31, 2006. Fewer products that include third-party software were sold during thesix months ended July 31, 2007, as compared to the six months ended July 31,2006, reducing the costs of revenue from licenses.

 

*Services,Maintenance and Other*

 

Costs of revenues from services, maintenance and otherincreased slightly to $3.4 million in the six months ended July 31, 2007 from$3.3 million for the same period in 2006. Optio slightly increased its internalimplementation staff as compared to the same period in the prior year and, as aresult, Optio relied less on external outsourcers. This resulted in a $144,000decrease in the cost of outsourcers in the six months ended July 31, 2007 ascompared to the six months ended July 31, 2006. Alternatively, the cost ofinternal staff and their associated costs increased by approximately $200,000between the six month periods ended July 31, 2007

 

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and2006 due to salary increases and minor staff augmentation.

 

**OperatingExpenses**

 

*Sales andMarketing*

 

Sales and marketing expenses increased 10% to $5.6million from $5.1 million for the six months ended July 31, 2007 and 2006,respectively. Sales and marketing expenses were 44% and37% of total revenue for the six months ended July 31, 2007 and 2006,respectively. Salaries increased approximately $300,000 for the six monthsended July 31, 2007 as compared to the same period in the prior year, duemainly to salary increases and increased staffing. Discretionary spending, inthe aggregate, was also higher as compared to the same period in the priorfiscal year due largely to increased travel expenses of approximately $250,000.Partly offsetting this increase in expenses were reduced direct marketingexpenditures, which decreased $94,000 between the six months ended July 31,2007 and the six months ended July 31, 2006.

 

*Research and Development*

 

Researchand development expenses increased 5% to $2.8 million for the six months endedJuly 31, 2007 from $2.7 million in the six months ended July 31, 2006. Researchand development salaries and associated benefits increased $171,000 between theperiods, primarily due to salary increases, as opposed to additional staff,partly offset by reduced consulting costs of $57,000.

 

*General and Administrative*

 

Generaland administrative expenses increased to $2.8 million from $2.5 million in thesix months ended July 31, 2007 and 2006, respectively. General andadministrative expenses increased due to the following: (i) $191,000 ofincreased consulting costs relating to several corporate strategic andcompliance initiatives, (ii)  $62,000 ofincreased salaries representing additional accounting and administrative staffas well as salary increases, (iii) an increase of $42,000 in compensationexpense relating to corporate stock options under SFAS No. 123R, and (iv)increased legal fees of $41,000 and recruiting fees of $34,000.

 

*Depreciation and Amortization*

 

Depreciationand amortization expense increased to $536,000 from $384,000 for the six monthsended July 31, 2007 and 2006, respectively. The increase was primarily due toOptio’s renegotiation of the lease for Optio’s headquarters in which thelandlord contributed $1.0 million towards the improvements of the space. Theseleasehold improvements, as well as an additional $700,000 purchased directly byOptio, are being depreciated over the term of the new lease or the expecteduseful life of the assets, as appropriate. This increase was partly offset by adecrease in amortization expense as intangibles are amortized over theestimated useful life of the asset using the cash flow method, which results ina greater expense in the earlier periods and reduced expense in the laterperiods. This resulted in a greater expense in periods prior to fiscal year2008.

 

*Interest Income*

 

Interestincome increased to $227,000 in the six months ended July 31, 2007 from$209,000 in the six months ended July 31, 2006. Current interest incomeprimarily represents interest earned on funds invested in short-term financialinstruments, as compared to the same period in the prior year where mostinterest income was attributable to the then outstanding M2 Systems notereceivable.

 

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*Interest Expense*

 

Interestexpense increased to $12,000 in the six months ended July 31, 2007, an increasefrom $3,000 in the six months ended July 31, 2006. Interest expense primarilyrepresents the interest paid on Optio’s capital leases.

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

Optio had $9.4 million and $11.9 million in cash andcash equivalents at July 31, 2007 and January 31, 2007, respectively.

 

The following table sets forth certain selectedstatements of cash flow information for the six months ended July 31, 2007:

 
| Net cash used in  operations               |   | $          | (1,815,000 | ) |
|--------------------------------------------|--------|------------|------------|---|
| Net cash used in  investing activities     |   | (270,000   | )          |
| Net cash used in  financing activities     |   | (549,000   | )          |
| Net decrease in  cash and cash equivalents |   | (2,528,000 | )          |

 

Cash used in operations was primarily the result of anet loss of $2,315,000, less the $535,000 add-back of non-cash depreciation andamortization expense, stock compensation expense of $239,000, loss on disposalof assets of $10,000, provision for deferred taxes of $36,000, and changes inworking capital resulting in a $572,000 inflow of cash. The major component ofsuch working capital changes was a decline in accounts receivable due partly tothe collection of several large receivables outstanding as of January 31, 2007,resulting in additional cash inflow of $739,000, partly offset by a decrease inpayments due to suppliers by $244,000. Partly offsetting this favorability wasa decrease in accrued expenses and income taxes payable of $367,000, a decreasein deferred revenue of $298,000, and an increase in spending for prepaids andother assets as Optio prepaid several of its insurance policies and othermarketing expenses resulting in a $150,000 outflow. In investing activities,Optio purchased $270,000 of property and equipment. Optio’s financing activitiesincluded purchases of treasury stock of $529,000, payments under capital leasestotaling $37,000 and receipts of $17,000 from the exercise of stock options.

 

On April 26, 2007, Optio extended its existing line ofcredit through April 19, 2008. The line of credit bears interest at prime rate,subject to increase based on Optio’s performance relative to certain financialratios. Optio may borrow up to $4.0 million, or such lesser amount as may bedetermined based on the level of eligible accounts receivable. Currently, Optiohas estimated that approximately $1.3 million would be available for borrowingsbased upon Optio’s historical accounts receivable balance. Accounts receivable,equipment, general intangibles and other assets, as defined in the loan agreement,collateralize the line of credit. The loan agreement contains variouscovenants, including liquidity and earnings before interest, taxes,depreciation and amortization (“EBITDA”) requirements and restrictions on thepayment of dividends. As of July 31, 2007, Optio was in compliance with therequired financial ratios. There were no borrowings under the line of credit asof July 31, 2007.

 

Managementbelieves that the existing cash and cash equivalents, together with the line ofcredit, will provide adequate cash to fund its anticipated cash needs at leastthrough the next twelve months. Optio intends to expand its product line, whichmay require acquisitions of companies or products that enhance the Company’sproduct line. As a result, Optio may attempt to raise additional funds throughequity or debt financing. There can be no assurance that Optio will be able toraise additional funds on favorable terms, or at all. Although not anticipated,a dramatic decrease in demand for Optio’s products or services, or a dramatic

 

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change in technologyrelated to Optio’s products or services offered, could have a negative impacton Optio’s liquidity. This risk may include the potential for Optio not meetingits debt covenant requirements, making any borrowings under the line of creditunavailable.

 

**NewAccounting Pronouncements**

 

InFebruary 2007, the FASB issued FASB No. 159 “The Fair Value Option forFinancial Assets and Financial Liabilities — including an amendment of FASBStatement No. 115. This Statement permits entities to choose to measure manyfinancial instruments and certain other items at fair value. The objective isto improve financial reporting by providing entities with the opportunity tomitigate volatility in reported earnings caused by measuring related assets andliabilities differently without having to apply complex hedge accountingprovisions. This Statement is expected to expand the use of fair valuemeasurement, which is consistent with the Board’s long-term measurementobjectives for accounting for financial instruments. This Statement iseffective as of the beginning of an entity’s first fiscal year that beginsafter November 15, 2007. Early adoption is permitted as of the beginning of afiscal year that begins on or before November 15, 2007, provided the entityalso elects to apply the provisions of FASB Statement No. 157, “Fair Value Measurements”.**The Company did not elect earlyadoption. The Company does not expect FASB 159 to have a material impact on theCompany’s results of operations or financial position.

 

ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

 

Optio provides its services to customers primarily inthe United States and, to a lesser extent, in Europe and elsewhere throughoutthe world. As a result, Optio’s financial results could be affected by variousfactors, such as changes in foreign currency exchange rates or weak economicconditions in foreign markets. All sales are currently made in both U.S.dollars and local currencies. A strengthening of the U.S. dollar or theweakening of these local currencies could make Optio’s products lesscompetitive in foreign markets. Based upon the relative size of Optio’s foreignoperations, Optio believes its exposure to foreign currency fluctuations is nota material risk. Optio’s interest income and expense are sensitive to changesin the general level of U.S. interest rates. Based on Optio’s cash equivalentsbalance and the nature of its outstanding debt, Optio believes its exposure tointerest rate risk is not material.

 

ITEM 4.CONTROLS AND PROCEDURES.

 

Our ChiefExecutive Officer and Chief Financial Officer have evaluated the effectivenessof our disclosure controls and procedures (as defined in Rule 13a-15(e) of theSecurities Exchange Act of 1934, as amended (the “Exchange Act”)) as of July31, 2007, and have concluded that, as of such date, our disclosure controls andprocedures are effective in ensuring that information required to be disclosedby us in the reports that we file or submit under the Exchange Act is recorded,processed, summarized and reported within the time periods specified in theSEC’s rules and forms.

 

Our management isresponsible for establishing and maintaining adequate internal audit controls overfinancial reporting, as such term is defined in the Exchange Act, Rule 13(a) –15(f). Our Chief Executive Officer and Chief Financial Officer also concludedthat, as of July 31, 2007, our disclosure controls and procedures are effectivein ensuring that information required to be disclosed by us in the reports thatwe file or submit under the Exchange Act is accumulated and communicated to ourmanagement, including our Chief Executive Officer and Chief Financial Officer,to allow timely decisions regarding required disclosure.

 

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*Changesin Internal Controls*

 

There were nochanges in our internal controls over financial reporting that occurred duringthe quarter ended July 31, 2007, that have materially affected, or arereasonably likely to materially affect, our internal controls over financialreporting.

 

**PART II –OTHER INFORMATION**

 

ITEM 1.LEGAL PROCEEDINGS

 

On November 13,2001, a lawsuit styled Kevin Dewey vs. Optio Software, Inc., et. al. was filed inthe United States District Court for the Southern District of New York. Thecomplaint was filed against the underwriters in the Company’s initial publicoffering as well as Optio and certain officers and directors of Optio, by asingle plaintiff purportedly on behalf of persons purchasing Optio’s commonstock between December 14, 1999 and December 6, 2000. The lawsuit also soughtclass action status. Optio is a co-defendant with approximately 300 otherissuers in this suit. The complaint includes allegations of violations of (i)Section 11 of the Securities Act of 1933, as amended (the “Securities Act”), byall named defendants, (ii) Section 12(a)(2) of the Securities Act by theunderwriter defendants, (iii) Section 15 of the Securities Act by the individualdefendants, and (iv) Section 10(b) of the Securities Exchange Act of 1934, asamended, and Rule 10b-5 promulgated thereunder by the underwriter defendants.The complaint alleges that Optio’s prospectus was materially false andmisleading because it failed to disclose, among other things, that: (i) theunderwriters had solicited and received excessive and undisclosed commissionsfrom certain investors in exchange for which the underwriters allocated tothose investors material portions of a limited number of Optio shares issued inconnection with the Optio initial public offering; and (ii) the underwritershad entered into agreements with customers whereby the underwriters agreed toallocate Optio shares to those customers in the Optio initial public offeringin exchange for which the customers agreed to purchase additional Optio sharesin the aftermarket at pre-determined prices. The complaint seeks unspecifiedamounts as compensatory damages as a result of Optio’s alleged actions, as wellas punitive damages and reimbursement for the plaintiffs’ attorneys’ fees andassociated costs and expenses of the lawsuit. A proposal to settle the claimsagainst Optio and other companies and individual defendants in the litigationwas conditionally accepted by Optio. On December 5, 2006, the United StatesCourt of Appeals for the Second Circuit overturned the District Court’scertification of the class of plaintiffs who are pursuing the claims that wouldbe settled in the settlement against the defendants. Plaintiffs filed apetition for rehearing and rehearing en banc with the Second Circuit Court ofAppeals in response to the Second Circuit’s decision. The petition forrehearing and rehearing en banc was denied on April 6, 2007, but clarified thatthe plantiffs may seek to certify a more limited class in District Court. OnJune 25, 2007, the District Court signed an order terminating the settlement.Plaintiffs are seeking a certification of a new class of plaintiffs, which isto be heard on September 27, 2007.

 

Management believes that it has meritorious defensesin the foregoing matter and intends to pursue its position vigorously. Whilelitigation is inherently subject to many uncertainties, management does notbelieve that the outcome of this case will have a material adverse effect onthe financial position of Optio. However, depending on the amount and timing ofan unfavorable resolution of the lawsuit, it is possible that Optio’s financialcondition, results of operation or liquidity could be materially affected.

 

In addition, Optio is party to routine litigation oradministrative proceedings incidental to its business, none of which isbelieved by the Company to be likely to have a material effect on the financialcondition, results of operations or liquidity of the Company.

 

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ITEM 1A. RISK FACTORS

 

In addition to theother information set forth in this report, the factors discussed under “Item1A. Risk Factors” in Part I of the 2007 Annual Report could materially affectour business, financial condition or future results. The risks described in our2007 Annual Report are not the only risks facing our Company. Additional risksand uncertainties not currently known to us or that we currently deem to beimmaterial also may materially adversely affect our business, financialcondition or operating results.

 

ITEM 2. UNREGISTEREDSALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

None.

 

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4. SUBMISSION OFMATTERS TO A VOTE OF SECURITY HOLDERS

 

Optio held its Annual Meeting of Shareholders on June28, 2007. There were present at the Annual Meeting in person or by proxy,holders of 22,405,217 shares of common stock entitled to vote. The followingdirectors were elected and qualified, with the votes for each director beingreflected below:

 
| **Name**             | ** ** | **Term**                                                                                                     | ** ** | **Votes For** | ** ** | **Votes Withheld** | ** ** |
|----------------------|------------|--------------------------------------------------------------------------------------------------------------|------------|--------------------|------------|-------------------------|------------|
| Jay Toole            |       | Class I Director with term to expire on the date of  the annual meeting of shareholders to be held in 2009   |       | 21,651,844         |       | 27,920                  |       |
| David T. Leach       |       | Class II Director with term to expire on the date of  the annual meeting of shareholders to be held in 2010  |       | 21,648,044         |       | 31,720                  |       |
| Ronald G. Diener     |       | Class II Director with term to expire on the date of  the annual meeting of shareholders to be held in 2010  |       | 21,583,774         |       | 95,990                  |       |
| Jeffrey J.  Anderson |       | Class III Director with term to expire on the date  of the annual meeting of shareholders to be held in 2008 |       | 21,653,094         |       | 26,670                  |       |

 

The directors holdingoffice on the date of the meeting whose term had not expired remained inoffice. Such directors were C. Wayne Cape, F. Barron Hughes and Jay A. Wolf.

 

The appointment of BDOSeidman, LLP as Optio Software, Inc.’s independent registered public accountingfirm for the fiscal year ending January 31, 2008, was ratified with 21,634,384affirmative votes cast, 12,787 negative votes cast and 32,592 abstentions.

 

ITEM 5. OTHER INFORMATION

 

None.

 

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ITEM 6. EXHIBITS

 

(a)   Exhibits

 
| 31.1   | Certification of CEO pursuant to Rule 13a-14(a) of  the Securities Exchange Act of 1934, as amended.                            |
|--------|---------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                            |
| 31.2   | Certification of CFO pursuant to Rule 13a-14(a) of  the Securities Exchange Act of 1934, as amended.                            |
|   |                                                                                                                            |
| 32.1   | Certification by CEO pursuant to 18 U.S.C. Section  1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
|   |                                                                                                                            |
| 32.2   | Certification by CFO 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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**SIGNATURES**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned, thereunto duly authorized on the 14th day of September,2007.

 
|   | OPTIO SOFTWARE, INC. |
|--------|----------------------|
|   |                 |
|   | By:                  |   /s/ C. Wayne Cape |   |
|   |                 | C. Wayne Cape |
|   |                 | President and Chief  Executive Officer |

 

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