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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



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(Mark One)



|x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934
|- | -------------------------------------------------------------------------------------------



For The Quarter Ended June 30, 2005



OR



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934
|- | --------------------------------------------------------------------------------------------



Commission File Number: 000-51032



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HouseValues, Inc.

(Exact name of registrant as specified in its charter)



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|                                                               |  |                                  
|-------------------------------------------------------------- |  | ---------------------------------
|Washington                                                     |  | 91-1982679                       
|(State or other jurisdiction of incorporation or organization) |  | (IRS Employer Identification No.)



11332 NE 122ndWay, Kirkland, WA 98034

(Address of principal executive offices, including zip code)



(425) 952-5500

(Registrants telephone number, including area code)



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



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



As of July 18, 2005, there were outstanding 25,509,886 shares of the
registrants common stock, $0.001 par value, which is the only class of common stock of the registrant.



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1



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##### Table of Contents



HOUSEVALUES, INC.



FORM 10-Q

Index



|                              |  |                                                                                                                 |  |     
|----------------------------- |  | --------------------------------------------------------------------------------------------------------------- |  | ----
|                              |  |                                                                                                                 |  | Page
|PART I. FINANCIAL INFORMATION |  |                                                                                                                
|                              |  |                                                                                                                
|Item 1.                       |  | Condensed Consolidated Financial Statements (unaudited)                                                         |  |     
|                              |  | Condensed Consolidated Statements of Income for the quarters and six month periods ended June 30, 2005 and 2004 |  | 3   
|                              |  | Condensed Consolidated Balance Sheets as of June 30, 2005 and December 31, 2004                                 |  | 4   
|                              |  | Condensed Consolidated Statements of Cash Flows for the six month periods endedJune 30, 2005 and 2004           |  | 5   
|                              |  | Notes to Condensed Consolidated Financial Statements                                                            |  | 6   
|Item 2.                       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                           |  | 10  
|Item 3.                       |  | Quantitative and Qualitative Disclosures about Market Risk                                                      |  | 26  
|Item 4.                       |  | Controls and Procedures                                                                                         |  | 26  
|                              | 
|PART II. OTHER INFORMATION    |  |                                                                                                                
|                              |  |                                                                                                                
|Item 1.                       |  | Legal Proceedings                                                                                               |  | 27  
|Item 2.                       |  | Unregistered Sales of Equity Securities and Use of Proceeds                                                     |  | 27  
|Item 4.                       |  | Submission of Matters to a Vote of Security Holders                                                             |  | 27  
|Item 5.                       |  | Other Information                                                                                               |  | 27  
|Item 6.                       |  | Exhibits                                                                                                        |  | 28  
|                              |  |                                                                                                                
|SIGNATURE                     |  |                                                                                                                 |  | 28  



2



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|Item 1. | Consolidated Financial Statements
|------- | ---------------------------------



HouseValues, Inc.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share data)

(unaudited)



|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|--------------------------------------------------------------------------------------- |  | --------------------- | ------ | ------------------------ | - | ------ |  | ---- | ------ |  | - | ------
|                                                                                        |  | Quarter endedJune 30, |        | Six months endedJune 30,
|                                                                                        |  | 2005                  |        | 2004                     |   | 2005   |  | 2004
|Revenues                                                                                |  | $                     | 20,577 |                          | $ | 11,150 |  | $    | 38,196 |  | $ | 20,473
|Expenses:                                                                               |  |                       |        |                          |   |        |  |      |        |  |   |       
|Sales and marketing                                                                     |  |                       | 10,276 |                          |   | 5,037  |  |      | 18,898 |  |   | 9,352 
|Technology and product development                                                      |  |                       | 1,607  |                          |   | 783    |  |      | 2,841  |  |   | 1,506 
|General and administrative                                                              |  |                       | 3,043  |                          |   | 1,376  |  |      | 5,813  |  |   | 2,699 
|Depreciation and amortization of property and equipment (1)                             |  |                       | 402    |                          |   | 191    |  |      | 756    |  |   | 389   
|Amortization of intangible assets                                                       |  |                       | 151    |                          |   | 218    |  |      | 303    |  |   | 381   
|Stock-based compensation (2)                                                            |  |                       | 258    |                          |   | 55     |  |      | 555    |  |   | 76    
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Total expenses                                                                          |  |                       | 15,737 |                          |   | 7,660  |  |      | 29,166 |  |   | 14,403
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Income from operations                                                                  |  |                       | 4,840  |                          |   | 3,490  |  |      | 9,030  |  |   | 6,070 
|Interest income                                                                         |  |                       | 486    |                          |   | 24     |  |      | 804    |  |   | 41    
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Income before income tax expense                                                        |  |                       | 5,326  |                          |   | 3,514  |  |      | 9,834  |  |   | 6,111 
|Income tax expense                                                                      |  |                       | 1,618  |                          |   | 1,235  |  |      | 3,196  |  |   | 2,148 
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Net income                                                                              |  | $                     | 3,708  |                          | $ | 2,279  |  | $    | 6,638  |  | $ | 3,963 
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Net income per share:                                                                   |  |                       |        |                          |   |        |  |      |        |  |   |       
|Basic                                                                                   |  | $                     | 0.15   |                          | $ | 0.12   |  | $    | 0.26   |  | $ | 0.21  
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|Diluted                                                                                 |  | $                     | 0.14   |                          | $ | 0.11   |  | $    | 0.24   |  | $ | 0.19  
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|                                                                                       
|(1)    Depreciation and amortization of property and equipment is allocated as follows:
|                                                                                        |  |                       |        |                         
|                                                                                        |  | 2005                  |        | 2004                     |   | 2005   |  | 2004
|Technology and product development                                                      |  | $                     | 118    |                          | $ | 78     |  | $    | 231    |  | $ | 169   
|General and administrative                                                              |  |                       | 284    |                          |   | 113    |  |      | 525    |  |   | 220   
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|                                                                                        |  | $                     | 402    |                          | $ | 191    |  | $    | 756    |  | $ | 389   
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|                                                                                       
|(2)    Stock-based compensation is allocated as follows:                               
|                                                                                        |  | 2005                  |        | 2004                     |   | 2005   |  | 2004
|Sales and marketing                                                                     |  | $                     | 62     |                          | $ | 5      |  | $    | 128    |  | $ | 11    
|Technology and product development                                                      |  |                       | 22     |                          |   | 11     |  |      | 79     |  |   | 21    
|General and administrative                                                              |  |                       | 174    |                          |   | 39     |  |      | 348    |  |   | 44    
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       
|                                                                                        |  | $                     | 258    |                          | $ | 55     |  | $    | 555    |  | $ | 76    
|                                                                                        |  |                       |        |                          |   |        |  |      |        |  |   |       



See accompanying
notes to consolidated financial statements.



3



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HouseValues, Inc.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

(unaudited)



|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ------ | - | ---------------- | - | ------ | -
|                                                                                                                                                                                                   |  | June 30,2005 |        |   | December 31,2004 |  
|Assets                                                                                                                                                                                             |  |              |        |   |                  |   |        |  
|Current assets:                                                                                                                                                                                    |  |              |        |   |                  |   |        |  
|Cash and cash equivalents                                                                                                                                                                          |  | $            | 57,658 |   |                  | $ | 57,562 |  
|Short-term investments                                                                                                                                                                             |  |              | 23,815 |   |                  |   | 17,316 |  
|Accounts receivable, net of allowance of $274 and $95                                                                                                                                              |  |              | 393    |   |                  |   | 84     |  
|Prepaid expenses and other assets                                                                                                                                                                  |  |              | 1,232  |   |                  |   | 1,245  |  
|Deferred income taxes                                                                                                                                                                              |  |              | 796    |   |                  |   | 222    |  
|Prepaid income taxes                                                                                                                                                                               |  |              | 1,212  |   |                  |   |       |  
|Other current assets                                                                                                                                                                               |  |              | 538    |   |                  |   | 1,605  |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total current assets                                                                                                                                                                               |  |              | 85,644 |   |                  |   | 78,034 |  
|Property and equipment, net of accumulated depreciation of $2,800 and $2,051                                                                                                                       |  |              | 6,257  |   |                  |   | 3,702  |  
|Goodwill                                                                                                                                                                                           |  |              | 1,815  |   |                  |   | 948    |  
|Intangible assets, net of accumulated amortization of $1,528 and $1,226                                                                                                                            |  |              | 1,326  |   |                  |   | 1,430  |  
|Other noncurrent assets                                                                                                                                                                            |  |              | 389    |   |                  |   | 450    |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total assets                                                                                                                                                                                       |  | $            | 95,431 |   |                  | $ | 84,564 |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Liabilities and Shareholders Equity                                                                                                                                                               |  |              |        |   |                  |   |        |  
|Current liabilities:                                                                                                                                                                               |  |              |        |   |                  |   |        |  
|Accounts payable                                                                                                                                                                                   |  | $            | 1,151  |   |                  | $ | 1,167  |  
|Accrued compensation and benefits                                                                                                                                                                  |  |              | 2,781  |   |                  |   | 2,407  |  
|Accrued expenses and other current liabilities                                                                                                                                                     |  |              | 4,928  |   |                  |   | 3,706  |  
|Deferred rent, current portion                                                                                                                                                                     |  |              | 261    |   |                  |   | 261    |  
|Deferred revenue                                                                                                                                                                                   |  |              | 1,336  |   |                  |   | 1,014  |  
|Income taxes payable                                                                                                                                                                               |  |              |       |   |                  |   | 103    |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total current liabilities                                                                                                                                                                          |  |              | 10,457 |   |                  |   | 8,658  |  
|Deferred rent, less current portion                                                                                                                                                                |  |              | 1,416  |   |                  |   | 1,306  |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total liabilities                                                                                                                                                                                  |  |              | 11,873 |   |                  |   | 9,964  |  
|Shareholders equity:                                                                                                                                                                              |  |              |        |   |                  |   |        |  
|Common stock, par value $0.001 per share, stated at amounts paid in; authorized 120,000,000 shares; issued and outstanding 25,508,376 and
24,935,000 shares at June 30, 2005 and December 31, 2004 |  |              | 69,943 |   |                  |   | 68,631 |  
|Deferred stock-based compensation                                                                                                                                                                  |  |              | (3,616 | ) |                  |   | (4,624 | )
|Retained earnings                                                                                                                                                                                  |  |              | 17,231 |   |                  |   | 10,593 |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total shareholders equity                                                                                                                                                                         |  |              | 83,558 |   |                  |   | 74,600 |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  
|Total liabilities and shareholders equity                                                                                                                                                         |  | $            | 95,431 |   |                  | $ | 84,564 |  
|                                                                                                                                                                                                   |  |              |        |   |                  |   |        |  



See accompanying
notes to consolidated financial statements.



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HouseValues, Inc.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(unaudited)



|                                                                                  |  |                           |         |   |      |   |         |  
|--------------------------------------------------------------------------------- |  | ------------------------- | ------- | - | ---- | - | ------- | -
|                                                                                  |  | Six months ended June 30, |        
|                                                                                  |  | 2005                      |         |   | 2004 |  
|Cash flows from operating activities:                                             |  |                           |         |   |      |   |         |  
|Net income                                                                        |  | $                         | 6,638   |   |      | $ | 3,963   |  
|Adjustments to reconcile net income to net cash provided by operating activities: |  |                           |         |   |      |   |         |  
|Depreciation and amortization of property and equipment                           |  |                           | 756     |   |      |   | 389     |  
|Amortization of intangible assets                                                 |  |                           | 303     |   |      |   | 381     |  
|Stock-based compensation                                                          |  |                           | 555     |   |      |   | 76      |  
|Deferred income tax benefit                                                       |  |                           | (513    | ) |      |   | (117    | )
|Tax benefit from exercises of stock options                                       |  |                           | 1,107   |   |      |   |        |  
|Changes in certain assets and liabilities                                         |  |                           |         |   |      |   |         |  
|Accounts receivable                                                               |  |                           | (309    | ) |      |   | 2       |  
|Prepaid expenses and other assets                                                 |  |                           | 81      |   |      |   | 77      |  
|Prepaid income taxes                                                              |  |                           | (1,212  | ) |      |   |        |  
|Other current assets                                                              |  |                           | 1,067   |   |      |   |        |  
|Accounts payable                                                                  |  |                           | 180     |   |      |   | (395    | )
|Accrued compensation and benefits                                                 |  |                           | 374     |   |      |   | 252     |  
|Accrued expenses and other current liabilities                                    |  |                           | 1,181   |   |      |   | 607     |  
|Deferred rent                                                                     |  |                           | 110     |   |      |   |        |  
|Deferred revenue                                                                  |  |                           | 322     |   |      |   | 249     |  
|Income taxes payable                                                              |  |                           | (103    | ) |      |   | 140     |  
|                                                                                  |  |                           |         |   |      |   |         |  
|Net cash provided by operating activities                                         |  |                           | 10,537  |   |      |   | 5,624   |  
|                                                                                  |  |                           |         |   |      |   |         |  
|Cash flows from investing activities:                                             |  |                           |         |   |      |   |         |  
|Purchases of short-term investments                                               |  |                           | (10,799 | ) |      |   | (12,000 | )
|Sales of short-term investments                                                   |  |                           | 4,300   |   |      |   |        |  
|Change in restricted cash                                                         |  |                           |        |   |      |   | 125     |  
|Purchases of property and equipment                                               |  |                           | (3,402  | ) |      |   | (281    | )
|Purchases of goodwill and intangible assets                                       |  |                           | (580    | ) |      |   | (258    | )
|                                                                                  |  |                           |         |   |      |   |         |  
|Net cash used in investing activities                                             |  |                           | (10,481 | ) |      |   | (12,414 | )
|                                                                                  |  |                           |         |   |      |   |         |  
|Cash flows from financing activities:                                             |  |                           |         |   |      |   |         |  
|Issuance costs related to the sale of common stock                                |  |                           | (614    | ) |      |   |        |  
|Cash held for third party common stock transaction (see Note 6)                   |  |                           |        |   |      |   | 750     |  
|Proceeds from exercises of stock options                                          |  |                           | 654     |   |      |   | 19      |  
|Proceeds from repayment of shareholder note receivable                            |  |                           |        |   |      |   | 1       |  
|                                                                                  |  |                           |         |   |      |   |         |  
|Net cash provided by financing activities                                         |  |                           | 40      |   |      |   | 770     |  
|                                                                                  |  |                           |         |   |      |   |         |  
|Net increase (decrease) in cash and cash equivalents                              |  |                           | 96      |   |      |   | (6,020  | )
|Cash and cash equivalents at beginning of period                                  |  |                           | 57,562  |   |      |   | 7,181   |  
|                                                                                  |  |                           |         |   |      |   |         |  
|Cash and cash equivalents at end of period                                        |  | $                         | 57,658  |   |      | $ | 1,161   |  
|                                                                                  |  |                           |         |   |      |   |         |  



See accompanying
notes to consolidated financial statements.



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HouseValues, Inc.



NOTES TO
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)



Note 1 - Summary of Significant Accounting Policies



Nature of Operations



HouseValues, Inc. was incorporated in Washington in May 1999. We provide an innovative service offering that enables real estate and mortgage
professionals to capture, cultivate and convert leads into closed transactions. The integrated service offering combines leads generated from HouseValues.com and JustListed.com web sites with an online prospect management system and personalized
coaching and training to help customers increase lead conversion.



Initial Public Offering



On December 9,
2004, we completed our initial public offering and our stock commenced trading on December 10, 2004.



Basis of Presentation



The consolidated financial statements are unaudited and include the financial statements of HouseValues, Inc. and its subsidiaries. All significant
intercompany balances and transactions have been eliminated in consolidation.



The accompanying unaudited financial statements should be read in conjunction with the financial statements included in our 2004 Annual Report on Form 10-K. All adjustments necessary for the fair presentation of our
results of operations, financial position and cash flows have been included and are of a normal, recurring nature. Operating results for the period ended June 30, 2005 are not necessarily indicative of results to be expected for a full year.



Use of Estimates



The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the amounts reported and disclosed in the financial statements and the accompanying notes. Actual results could differ materially
from these estimates.



Stock-Based Compensation



We account for stock-based awards to employees using
the intrinsic-value based method of accounting prescribed by Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. Under this method, compensation expense related to employee stock options is recorded if, on the date
of grant, the fair value of the underlying stock exceeds the exercise price. Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, established accounting and disclosure requirements using a
fair-value based method of accounting for stock-based employee compensation plans. As allowed by SFAS No. 123 and SFAS No. 148, Accounting for Stock-Based Compensation, Transition and Disclosure, we have elected to continue to apply the
intrinsic-value based method of accounting  see Recent Accounting Pronouncements.



The following table illustrates the effect on net income if the fair value based method as prescribed by SFAS No. 123 had been applied to all outstanding awards in each period (in thousands, except per share data):



|                                                                                                                      |  |                         |       |   |                           |   |       |      |  |   |       |   |  |   |       |  
|--------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | ----- | - | ------------------------- | - | ----- | ---- |  | - | ----- | - |  | - | ----- | -
|                                                                                                                      |  | Quarters ended June 30, |       |   | Six months ended June 30, |  
|                                                                                                                      |  | 2005                    |       |   | 2004                      |   |       | 2005 |  |   | 2004  |  
|Net income, as reported                                                                                               |  | $                       | 3,708 |   |                           | $ | 2,279 |      |  | $ | 6,638 |   |  | $ | 3,963 |  
|Add: Stock-based employee compensation included in reported net earnings, net of tax                                  |  |                         | 189   |   |                           |   | 55    |      |  |   | 400   |   |  |   | 76    |  
|Deduct: Stock-based employee compensation expense determined under fair value based method for all awards, net of tax |  |                         | (372  | ) |                           |   | (95   | )    |  |   | (686  | ) |  |   | (137  | )
|                                                                                                                      |  |                         |       |   |                           |   |       |      |  |   |       |   |  |   |       |  
|Pro forma net income available to shareholders                                                                        |  | $                       | 3,525 |   |                           | $ | 2,239 |      |  | $ | 6,352 |   |  | $ | 3,902 |  
|Earnings per share                                                                                                    |  |                         |       |   |                           |   |       |      |  |   |       |   |  |   |       |  
|Basic  as reported                                                                                                   |  | $                       | 0.15  |   |                           | $ | 0.12  |      |  | $ | 0.26  |   |  | $ | 0.21  |  
|Diluted  as reported                                                                                                 |  | $                       | 0.14  |   |                           | $ | 0.11  |      |  | $ | 0.24  |   |  | $ | 0.19  |  
|Basic  pro forma                                                                                                     |  | $                       | 0.14  |   |                           | $ | 0.12  |      |  | $ | 0.25  |   |  | $ | 0.21  |  
|Diluted  pro forma                                                                                                   |  | $                       | 0.13  |   |                           | $ | 0.11  |      |  | $ | 0.24  |   |  | $ | 0.19  |  



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HouseValues, Inc.



NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)



Note 1 -
Summary of Significant Accounting Policies (Cont.)



The value of each employee option granted was estimated on the date of grant using the Black-Scholes
option-pricing model. The following weighted average assumptions were used for options granted during the periods presented.



|                                         |  |                         |      |   |                           |   |      |      |  |   |      |   |  |   |      |  
|---------------------------------------- |  | ----------------------- | ---- | - | ------------------------- | - | ---- | ---- |  | - | ---- | - |  | - | ---- | -
|                                         |  | Quarters ended June 30, |      |   | Six months ended June 30, |  
|                                         |  | 2005                    |      |   | 2004                      |   |      | 2005 |  |   | 2004 |  
|Weighted average risk free interest rate |  |                         | 3.71 | % |                           |   | 4.54 | %    |  |   | 4.01 | % |  |   | 4.54 | %
|Expected dividend yield                  |  |                         | 0    | % |                           |   | 0    | %    |  |   | 0    | % |  |   | 0    | %
|Expected volatility                      |  |                         | 90   | % |                           |   | 0    | %    |  |   | 95   | % |  |   | 0    | %
|Expected life (in years)                 |  |                         | 3.0  |   |                           |   | 4.0  |      |  |   | 3.5  |   |  |   | 4.0  |  
|Weighted average fair value              |  | $                       | 8.18 |   |                           | $ | 0.82 |      |  | $ | 8.72 |   |  | $ | 0.82 |  



Recent
Accounting Pronouncements



In December 2004, the
Financial Accounting Standards Board issued Statement Number 123 (revised 2004), Share-Based Payments (SFAS 123R). SFAS 123R requires all entities to recognize compensation expense in an amount equal to the fair value of share-based payments, such
as stock options granted to employees. We are required to apply SFAS 123R on a modified prospective method. Under this method, compensation expense is recorded (as previous awards continue to vest) for the unvested portion of previously granted
awards that remain outstanding at the date of adoption. In addition, we may elect to adopt SFAS 123R by restating previously issued financial statements. We have not yet quantified the effects of the adoption of SFAS No. 123R, but it is expected
that the new standard will have a material impact on our consolidated statements of income, earnings per share and consolidated statements of cash flows. SFAS No. 123R will be effective for our first quarter of 2006.



In March 2005, the SEC issued Staff Accounting Bulleting No. 107. SAB 107
expresses the views of the SEC staff regarding the interaction of FAS 123R and certain SEC rules and regulations and provides the SEC staffs view regarding the valuation of share-based payment arrangements for public companies. Management is
assessing the impact of SAB 107 in conjunction with their evaluation of the impact of SFAS 123R.



Note 2 - Acquisitions



In June 2003, we acquired the stock of Soar Solutions, Inc., a real-estate services company, in exchange for $985,000 in cash, 200,000 shares of unvested restricted common stock, an earn-out arrangement equal to 5% of specified customer
receipts through March 2006 and contingent cash consideration of $525,000. As of June 30, 2005, additional amounts of approximately $1,743,000 have been earned under the earn-out arrangement.



The contingent cash consideration of $525,000 was placed in escrow and paid
in installments when certain performance measures were met. As of December 31, 2004, the performance measures had been met and all escrow amounts had been released.



The restricted common stock vested quarterly as certain performance measures were met. As of June 30, 2004, the performance
measures had been met and all shares were vested. The vested shares were recorded at the estimated fair value of the stock at the time such vesting occurred based on the following schedule:



|                  |  |                 |  |                     |      |                                 |   |    
|----------------- |  | --------------- |  | ------------------- | ---- | ------------------------------- | - | ---
|Vesting date      |  | Numberof shares |  | Fair valueper share |      | Total fair value (in thousands)
|December 31, 2003 |  | 50,000          |  | $                   | 2.20 |                                 | $ | 110
|March 31, 2004    |  | 50,000          |  | $                   | 2.20 |                                 | $ | 110
|June 30, 2004     |  | 100,000         |  | $                   | 3.53 |                                 | $ | 353
|                  |  |                 |  |                     |      |                                 |   |    
|                  |  | 200,000         |  |                     |      |                                 | $ | 573
|                  |  |                 |  |                     |      |                                 |   |    



7



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##### Table of Contents

HouseValues, Inc.



NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)



Note 2 -
Acquisitions (Cont.)



The net assets acquired in the Soar acquisition were assigned values at the date of acquisition and
subsequently adjusted for additional contingent consideration as follows (in thousands):



|                                     |  |              |       |   |                  |   |       |                               |  |   |      |  
|------------------------------------ |  | ------------ | ----- | - | ---------------- | - | ----- | ----------------------------- |  | - | ---- | -
|                                     |  | June 30,2005 |       |   | December 31,2004 |   |       | June 2003(date ofacquisition) | 
|Cash                                 |  | $            | 100   |   |                  | $ | 100   |                               |  | $ | 100  |  
|Property and equipment               |  |              | 25    |   |                  |   | 25    |                               |  |   | 25   |  
|Intangible asset  customer lists    |  |              | 636   |   |                  |   | 636   |                               |  |   | 636  |  
|Intangible asset  vendor agreements |  |              | 1,390 |   |                  |   | 1,390 |                               |  |   | 365  |  
|Note payable (paid July 2003)        |  |              | (141  | ) |                  |   | (141  | )                             |  |   | (141 | )
|Goodwill                             |  |              | 1,815 |   |                  |   | 948   |                               |  |   |     |  
|                                     |  |              |       |   |                  |   |       |                               |  |   |      |  
|                                     |  | $            | 3,825 |   |                  | $ | 2,958 |                               |  | $ | 985  |  
|                                     |  |              |       |   |                  |   |       |                               |  |   |      |  



The value of the
vendor agreements acquired was determined to be $1,390,000. As the contingent consideration related to vendor agreement based milestones, we initially recorded the vendor agreements asset at less than fair value. As contingent consideration was
earned, the amounts were applied to increase the vendor agreements asset to fair value. Excess amounts were recorded as goodwill.



In December 2004, we acquired software from an individual who has become an employee of the company. The company paid $37,500 in cash and issued 50,000
stock options, valued at $410,000. The agreement also provided for additional payments of $112,500, contingent upon certain events. A recent modification to the purchase agreement increased contingent payments to a total of $162,500. As of June 30,
2005 contingent consideration of $37,500 was earned, and additional amounts will be recorded when earned. Including cash paid at acquisition, contingent consideration earned, options granted in connection with the acquisition and transaction
expenses, the acquired asset was valued at approximately $495,000 at June 30, 2005.



Note 3 - Earnings per share



During most of
2004, we had two classes of equity securities; common stock and redeemable convertible preferred shares. Effective with our initial public offering, all outstanding redeemable convertible preferred shares were converted to common shares.



Performance-based unvested restricted common shares related to the Soar
Solutions, Inc. acquisition were considered outstanding common shares and included in the computation of basic and diluted EPS as of the date that all necessary conditions of vesting were satisfied (see Note 2). Prior to satisfaction of all
conditions of vesting, unvested restricted common shares were considered contingently issuable and were excluded from weighted average common shares outstanding.



The share count used to compute basic and diluted earnings per share is calculated as follows (in thousands):



|                                                                                              |  |                       |  |        |                          |  |        |  |        |  
|--------------------------------------------------------------------------------------------- |  | --------------------- |  | ------ | ------------------------ |  | ------ |  | ------ | -
|                                                                                              |  | Quarter endedJune 30, |  |        | Six months endedJune 30, | 
|                                                                                              |  | 2005                  |  | 2004   |                          |  | 2005   |  | 2004   |  
|Weighted average common shares outstanding                                                    |  | 25,258                |  | 11,948 |                          |  | 25,142 |  | 11,805 |  
|Less: Unvested restricted shares issued in connection with acquisition of Soar Solutions, Inc |  |                      |  | (100   | )                        |  |       |  | (125   | )
|                                                                                              |  |                       |  |        |                          |  |        |  |        |  
|Weighted average shares outstanding used to compute basic earnings per share                  |  | 25,258                |  | 11,848 |                          |  | 25,142 |  | 11,680 |  
|Add: dilutive common equivalent shares                                                        |  |                       |  |        |                          |  |        |  |        |  
|Warrants                                                                                      |  |                      |  | 543    |                          |  |       |  | 528    |  
|Stock options                                                                                 |  | 2,144                 |  | 1,749  |                          |  | 2,183  |  | 1,691  |  
|Redeemable convertible preferred stock assuming conversion                                    |  |                      |  | 6,820  |                          |  |       |  | 6,872  |  
|                                                                                              |  |                       |  |        |                          |  |        |  |        |  
|Shares used to compute diluted earnings per share                                             |  | 27,402                |  | 20,960 |                          |  | 27,325 |  | 20,771 |  
|                                                                                              |  |                       |  |        |                          |  |        |  |        |  
|Antidilutive stock options                                                                    |  | 361                   |  |       |                          |  | 361    |  | 530    |  



8



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##### Table of Contents

HouseValues, Inc.



NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)



Note 3 -
Earnings per share (Cont.)



Earnings allocable to common shareholders are (in thousands):



|                                                                                       |  |                       |   |  |                          |   |  |        |   |  |        |  
|-------------------------------------------------------------------------------------- |  | --------------------- | - |  | ------------------------ | - |  | ------ | - |  | ------ | -
|                                                                                       |  | Quarter endedJune 30, |   |  | Six months endedJune 30, |  
|                                                                                       |  | 2005                  |   |  | 2004                     |   |  | 2005   |   |  | 2004   |  
|Weighted average common shares outstanding                                             |  | 25,258                |   |  | 11,848                   |   |  | 25,142 |   |  | 11,680 |  
|Weighted average redeemable convertible preferred shares outstanding                   |  |                      |   |  | 6,820                    |   |  |       |   |  | 6,872  |  
|                                                                                       |  |                       |   |  |                          |   |  |        |   |  |        |  
|Weighted average common shares and redeemable convertible preferred shares outstanding |  | 25,258                |   |  | 18,668                   |   |  | 25,142 |   |  | 18,552 |  
|Percent of undistributed earnings allocable to common shareholders:                    |  | 100                   | % |  | 63                       | % |  | 100    | % |  | 63     | %



The following table
sets forth the computation of basic and diluted EPS (in thousands, except per share data):



|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|------------------------------------------------------- |  | --------------------- | ------ | - | ------------------------ | - | ------ | ---- |  | - | ------ | - |  | - | ------ | -
|                                                        |  | Quarter endedJune 30, |        |   | Six months endedJune 30, |  
|                                                        |  | 2005                  |        |   | 2004                     |   |        | 2005 |  |   | 2004   |  
|Calculation of basic earnings per share:                |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Net income                                              |  | $                     | 3,708  |   |                          | $ | 2,279  |      |  | $ | 6,638  |   |  | $ | 3,963  |  
|Percent of earnings allocable to common shareholders    |  |                       | 100    | % |                          |   | 63     | %    |  |   | 100    | % |  |   | 63     | %
|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Undistributed earnings allocable to common shareholders |  | $                     | 3,708  |   |                          | $ | 1,446  |      |  | $ | 6,638  |   |  | $ | 2,497  |  
|Weighted average common shares outstanding              |  |                       | 25,258 |   |                          |   | 11,848 |      |  |   | 25,142 |   |  |   | 11,680 |  
|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Basic earnings per share                                |  | $                     | 0.15   |   |                          | $ | 0.12   |      |  | $ | 0.26   |   |  | $ | 0.21   |  
|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Calculation of diluted earnings per share:              |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Net income                                              |  | $                     | 3,708  |   |                          | $ | 2,279  |      |  | $ | 6,638  |   |  | $ | 3,963  |  
|Weighted average diluted shares outstanding             |  |                       | 27,402 |   |                          |   | 20,960 |      |  |   | 27,325 |   |  |   | 20,771 |  
|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  
|Diluted earnings per share                              |  | $                     | 0.14   |   |                          | $ | 0.11   |      |  | $ | 0.24   |   |  | $ | 0.19   |  
|                                                        |  |                       |        |   |                          |   |        |      |  |   |        |   |  |   |        |  



Note 4 - Income Taxes



Our effective tax rate was 30.4% and 32.5% for the
quarter and six month periods ended June 30, 2005, compared to 35.2% for the quarter and six month periods ended June 30, 2004. Our effective tax rate decreased due to an increase in our tax-exempt interest income.



Note 5 - Commitments and Contingencies - B&O Taxes



We are being audited by the Washington State Department of Revenue and have
received preliminary assessments asserting that substantially all of our revenues should be subject to the Washington state business and occupation tax. Although we intend to vigorously contest the assessments, we may be required to pay up to $2.4
million in B&O taxes related to revenues through June 30, 2005, including penalties and interest. As of June 30, 2005, we have accrued an aggregate of $2.2 million, representing our best estimate for this exposure. Furthermore, we may be
required to record additional charges to operations in future periods.



Note
6 - Related Party Transaction



In connection with a sale
of common shares between our chairman and William Blair Capital Partners in April 2004, we agreed to serve as a temporary escrow agent for funds that were to be placed in permanent escrow pursuant to a separate agreement between an existing
shareholder and the Chairman of the Board. These funds, which totaled $750,000 are included in other accrued liabilities in the consolidated balances sheet as of June 30, 2004. The funds were transferred to a permanent escrow account outside of our
control on July 15, 2004.



9



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##### Table of Contents

Note 7 - Supplemental Disclosure of Cash Flow Information



|                                                                                    |  |                          |       |      |   |      
|----------------------------------------------------------------------------------- |  | ------------------------ | ----- | ---- | - | -----
|                                                                                    |  | Six months endedJune 30,
|                                                                                    |  | 2005                     |       | 2004
|Cash paid during the period for income taxes, net of refunds received               |  | $                        | 3,917 |      | $ | 2,008
|Noncash investing and financing activities:                                         |  |                          |       |      |   |      
|Value of common stock vested in connection with acquisition of SOAR Solutions, Inc. |  |                          |      |      | $ | 455  
|Conversion of redeemable convertible preferred stock to common stock                |  |                          |      |      | $ | 106  
|Accrued earn-out payments related to SOAR Solutions, Inc. acquisition               |  | $                        | 486   |      | $ | 314  
|Note receivable from shareholder                                                    |  |                          |      |      | $ | 61   



|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations
|------- | -------------------------------------------------------------------------------------



You should read the following discussion and analysis by our management of our financial condition and results of
operations in conjunction with our unaudited condensed consolidated financial statements and the accompanying notes included elsewhere in this Quarterly Report on Form 10-Q. This discussion and other parts of this Quarterly Report on Form 10-Q
contain forward looking statements relating to the Companys anticipated plans, products, services, and financial performance. The words believe, expect, anticipate, intend and similar expressions
identify forward-looking statements, but their absence does not mean the statement is not forward looking. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that could cause
actual results to differ materially from those anticipated in the forward looking statements. Factors that could affect the Companys actual results include, but are not limited to, those discussed below in this Item 2 under the heading
Factors that May Affect Our Business, Financial Condition and Future Results, as well as those described in our Quarterly Report on Form 10-Q for first quarter of 2005 and in our other Securities and Exchange Commission filings. Given
these risks and uncertainties, you should not place undue reliance on these forward looking statements. The forward looking statements are made as of the date of this report and the Company assumes no obligation to update any such statements to
reflect events or circumstances after the date hereof.



Overview



Our service offering enables residential real estate
professionals to capture, cultivate and convert leads into closed transactions. Our integrated offering combines leads generated from our HouseValues.com and JustListed.com web sites with our online prospect management system and personalized
coaching and training to help agent customers increase lead conversion. We generate revenue from this service offering by charging agent customers a monthly fixed fee.



Since January of 2005, we have been testing a new marketing service specifically designed to help mortgage professionals
write more business by enabling them to build relationships with both prospective home buyers and local real estate agents. This service was officially announced during the second quarter of 2005 and currently has more than 500 customers. This
integrated service offering includes exclusive home buyer leads, a proprietary mortgage customer relationship management tool that enables communication with prospective customers, past clients and local real estate professionals, marketing
materials and dedicated training and account management support. We generate revenue from this new service offering by charging mortgage customers a monthly fixed fee.



We continued to see strong growth in our business during the second quarter of 2005. Revenue was a record $20.6 million, up
85% compared to the second quarter of 2004. Additionally, second quarter net income increased 63% to $3.7 million, when compared to the same period last year. The second quarter of 2005 represents our 17thconsecutive quarter of profitable operations.



On December 9, 2004, we completed our initial public offering and our stock began trading on December 10, 2004. We sold 4,166,667 shares of common stock
and selling shareholders sold 2,083,333 shares at $15.00 per share. We received net proceeds of approximately $56.1 million, after underwriters discounts of approximately $4.4 million and offering expenses of approximately $2.0 million.



10



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##### Table of Contents

|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Results of Operations



Revenues



|         |  |                       |        |                          |   |        |  |      |        |  |   |       
|-------- |  | --------------------- | ------ | ------------------------ | - | ------ |  | ---- | ------ |  | - | ------
|         |  | Quarter endedJune 30, |        | Six months endedJune 30,
|         |  | 2005                  |        | 2004                     |   | 2005   |  | 2004
|Revenues |  | $                     | 20,577 |                          | $ | 11,150 |  | $    | 38,196 |  | $ | 20,473



Revenues for the
second quarter of 2005 increased 85% over the same quarter in 2004 while year-to-date revenues increased 87%. Customer count increased 70% year over year while average revenue per customer increased about 3%. Our increase in revenues is primarily
attributable to the continued growth of our JustListed and HouseValues services, driven by a significantly expanded sales force and our new service offering to mortgage professionals.



Revenue in the second quarter of 2005 increased 17% over the first quarter of 2005 for the same reasons noted in the year
over year comparison. We experienced a 7% increase in customer count quarter over quarter, as well as a 5% increase in our average monthly revenue per customer. More information about the sequential change in revenue and customers is included in the
Key Operational Metrics section of Managements Discussion and Analysis.



We anticipate that revenues will continue to increase in the future as we continue to expand our customer base and broaden our service offerings. However, our future growth rate may decline as a result of our larger
customer base.



Sales and Marketing



|                            |  |                       |        |   |                          |   |       |      |  |   |        |   |  |   |       |  
|--------------------------- |  | --------------------- | ------ | - | ------------------------ | - | ----- | ---- |  | - | ------ | - |  | - | ----- | -
|                            |  | Quarter endedJune 30, |        |   | Six months endedJune 30, |  
|                            |  | 2005                  |        |   | 2004                     |   |       | 2005 |  |   | 2004   |  
|Sales and marketing expense |  | $                     | 10,276 |   |                          | $ | 5,037 |      |  | $ | 18,898 |   |  | $ | 9,352 |  
|Percentage of revenues      |  |                       | 49.9   | % |                          |   | 45.2  | %    |  |   | 49.5   | % |  |   | 45.7  | %



We continued to build
our sales and marketing team resulting in significant increases in sales and marketing expense during the quarter and year-to-date periods ended June 30, 2005. Sales and marketing employees totaled 332 at June 30, 2005, an increase of 116% compared
to June 30, 2004. Commissions expense increased as a result of our substantial growth in revenues. Advertising expense incurred to generate leads increased in total dollars, but declined as a percent of revenues due to overall lower costs per lead
coupled with more effective lead allocation across our larger customer base. Marketing expenditures for the quarter increased related to branding, market research and new consumer advertising, efforts designed to improve our ability to attract new
customers and consumer leads.



Second quarter 2005 sales and
marketing expense increased $1.7 million over the first quarter of 2005 and increased as a percentage of revenue from 48.9% to 49.9%. This growth in expense primarily resulted from a 17% increase in headcount quarter to quarter as we continue to
increase our sales force, as well as increased product marketing and branding. Lead generation expenses also increased in absolute dollars but declined as a percentage of revenue quarter to quarter due to lower costs per lead and increased
distribution efficiencies in meeting our lead commitments.



We
expect sales and marketing expenses to increase both on a total dollar basis and as a percentage of revenues during the remainder of 2005 as we continue to invest in our sales force, expand our business and generate more leads for our growing
customer base. While we expect continued lead distribution efficiencies, seasonality in consumer lead generation will likely lead to higher per lead costs for the balance of the year.



Technology and Product Development



|                                           |  |                       |       |   |                          |   |     |      |  |   |       |   |  |   |       |  
|------------------------------------------ |  | --------------------- | ----- | - | ------------------------ | - | --- | ---- |  | - | ----- | - |  | - | ----- | -
|                                           |  | Quarter endedJune 30, |       |   | Six months endedJune 30, |  
|                                           |  | 2005                  |       |   | 2004                     |   |     | 2005 |  |   | 2004  |  
|Technology and product development expense |  | $                     | 1,607 |   |                          | $ | 783 |      |  | $ | 2,841 |   |  | $ | 1,506 |  
|Percentage of revenues                     |  |                       | 7.8   | % |                          |   | 7.0 | %    |  |   | 7.4   | % |  |   | 7.4   | %



We saw increases in
technology and product development expense for the quarter and year-to-date periods ended June 30, 2005 as compared to the same periods in 2004. Headcount increased as we continue to maintain and improve our existing services, features and
infrastructure for our increasing customer base.



When
comparing the second quarter of 2005 with the first quarter of 2005, technology and product development expense increased about $0.4 million and increased as a percentage of revenue from 7.0% to 7.8% quarter over quarter for the same reasons noted
in the year over year comparison.



11



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##### Table of Contents

|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



We expect product development expenses to increase slightly as a percentage of our growing revenue
base as well as in absolute terms as we hire more personnel to scale and improve our service offerings and to explore opportunities for new services. As we increase headcount to implement significant service upgrades and to develop new service
offerings, costs associated with these activities may be capitalized as internally developed software and website development costs in accordance with the accounting guidance in AICPA Statement of Position 98-1 and FASB Emerging Issues Task Force
Issue No. 00-2.



General and Administrative



|                                   |  |                       |       |   |                          |   |       |      |  |   |       |   |  |   |       |  
|---------------------------------- |  | --------------------- | ----- | - | ------------------------ | - | ----- | ---- |  | - | ----- | - |  | - | ----- | -
|                                   |  | Quarter endedJune 30, |       |   | Six months endedJune 30, |  
|                                   |  | 2005                  |       |   | 2004                     |   |       | 2005 |  |   | 2004  |  
|General and administrative expense |  | $                     | 3,043 |   |                          | $ | 1,376 |      |  | $ | 5,813 |   |  | $ | 2,699 |  
|Percentage of revenues             |  |                       | 14.8  | % |                          |   | 12.3  | %    |  |   | 15.2  | % |  |   | 13.2  | %



General and
administrative expenses increased in total dollars and as a percentage of revenues for both the quarter and year-to-date periods ended June 30, 2005 when compared to the same periods last year. These increases were due to several components:



| |  |  | increased salaries and related expenses for additional staffing to support the growth in the business, as well as our operations as a public company;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | increased costs of professional services and business insurance as a public company;
| | - |  | ------------------------------------------------------------------------------------



| |  |  | increased State of Washington Business & Occupation tax accruals and credit card fees directly related to the increase in our revenues; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | increased occupancy expenses required to support the growth in our workforce.
| | - |  | -----------------------------------------------------------------------------



Second quarter 2005 general and administrative expenses increased $0.3 million from the first quarter of 2005, but decreased
as a percentage of revenue from 15.7% to 14.8%. The additional expense primarily reflected the costs of additional personnel, credit card fees, state taxes and professional fees.



We expect general and administrative expenses to increase in absolute dollar amounts, but to be consistent with our current
level of performance or to decline slightly as a percentage of revenue in future quarters. Operating as a public company presents additional management and reporting requirements that have significantly increased our director and officers insurance
premiums as well as general liability insurance premiums and professional fees. We also continue to hire additional personnel, including investor relations and financial management personnel, to help manage future growth and our operations as a
public company.



Depreciation and Amortization of Property
and Equipment



Depreciation and amortization of property
and equipment increased year-over-year primarily due to additional depreciation expense on workstations and equipment purchased to accommodate our increased headcount, the relocation of office space, additional investment in our technological
infrastructure and the development of new products and features.



Because of the additions already made to our capital assets during 2004 and the first half of 2005 and our future planned additions, we expect depreciation expense to increase in absolute dollar amounts and as a percentage of revenue.



Amortization of Intangible Assets



Amortization of intangible assets decreased a small amount for the quarter
and year-to-date periods ended June 30, 2005, when compared to the same periods in 2004. The decreases in amortization expense resulted from intangible assets becoming fully amortized.



Stock-Based Compensation



In 2004, our deferred stock-based compensation balance increased as a result of stock option grants at a price less than the reassessed value per share.
As a result, stock-based compensation increased in 2005 due to the amortization of the higher deferred stock-based compensation balance.



See Recent Accounting Pronouncements for discussion of the required change to the fair value method of accounting for stock options.



12



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##### Table of Contents

|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Interest Income



Interest income increased significantly quarter-over-quarter and year-over-year due to larger cash and investment balances
in 2005. At June 30, 2005, we held $81.5 million in cash, cash equivalents and short-term investments, compared to $13.2 million at June 30, 2004. Cash, cash equivalents and short-term investments increased primarily due to the receipt of proceeds
from our initial public offering completed in December 2004, as well as cash generated from operations.



Income Taxes



Second quarter and year-to-date 2005 income tax expense increased over the same periods last year as a result of higher pre-tax income partially offset by
a lower effective tax rate. During the second quarter of 2005, our estimated annual tax rate was revised to 32.5%, from a first quarter estimate of 35%, due to an increase in our tax-exempt income. As a result, our second quarter effective tax rate
was adjusted to 30.4%, bringing our June 30, 2005 year-to-date effective tax rate to 32.5%.



We anticipate our effective tax rate will continue at 32.5% for the balance of the year.



Critical Accounting Policies and Estimates



Our financial statements are prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of
these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures. On an ongoing basis, we evaluate our estimates and assumptions.
Accordingly, our actual results may differ from these estimates under different assumptions or conditions. The critical accounting policies that involve significant judgments and estimates used in the preparation of our consolidated financial
statements are disclosed in our Annual Report on Form 10-K for the year ended December 31, 2004.



13



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##### Table of Contents

|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Quarterly Consolidated Statements of Income and Operational Data



The following tables present the unaudited consolidated statements of income
data for the six quarters ended June 30, 2005 in dollars and as a percentage of revenues. This quarterly information has been prepared on the same basis as our audited consolidated financial statements and, in the opinion of our management, reflects
all adjustments necessary for a fair representation of the information for the periods presented. This data should be read in conjunction with our audited consolidated financial statements and the related notes included in our 2004 Annual Report on
For 10-K. Operating results for any quarter apply to that quarter only and are not necessarily indicative of results for any future period.



|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|------------------------------------------------------------------ |  | ------------ | ----- | - | ------------ | - | ------ | ------------- |  | - | ------------ | - |  | ------------ | ------ | - | ------------ | - | ------ | - |  | - | ------ | -
|                                                                   |  | Mar. 31,2004 |       |   | June 30,2004 |   |        | Sept. 30,2004 |  |   | Dec. 31,2004 |   |  | Mar. 31,2005 |        |   | June 30,2005 |  
|Consolidated Statements of Income Data, in thousands:              |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Revenues                                                           |  | $            | 9,323 |   |              | $ | 11,150 |               |  | $ | 12,805       |   |  | $            | 14,413 |   |              | $ | 17,619 |   |  | $ | 20,577 |  
|Expenses:                                                          |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Sales and marketing                                                |  |              | 4,315 |   |              |   | 5,037  |               |  |   | 6,103        |   |  |              | 7,148  |   |              |   | 8,622  |   |  |   | 10,276 |  
|Technology and product development                                 |  |              | 723   |   |              |   | 783    |               |  |   | 940          |   |  |              | 1304   |   |              |   | 1,234  |   |  |   | 1,607  |  
|General and administrative                                         |  |              | 1,323 |   |              |   | 1,376  |               |  |   | 2,663        |   |  |              | 2,317  |   |              |   | 2,770  |   |  |   | 3,043  |  
|Depreciation and amortization of property and equipment            |  |              | 198   |   |              |   | 191    |               |  |   | 211          |   |  |              | 350    |   |              |   | 354    |   |  |   | 402    |  
|Amortization of intangible assets                                  |  |              | 163   |   |              |   | 218    |               |  |   | 257          |   |  |              | 257    |   |              |   | 152    |   |  |   | 151    |  
|Stock-based compensation                                           |  |              | 21    |   |              |   | 55     |               |  |   | 145          |   |  |              | 284    |   |              |   | 297    |   |  |   | 258    |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Total expenses                                                     |  |              | 6,743 |   |              |   | 7,660  |               |  |   | 10,319       |   |  |              | 11,660 |   |              |   | 13,429 |   |  |   | 15,737 |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Income from operations                                             |  |              | 2,580 |   |              |   | 3,490  |               |  |   | 2,486        |   |  |              | 2,573  |   |              |   | 4,190  |   |  |   | 4,840  |  
|Interest income                                                    |  |              | 17    |   |              |   | 24     |               |  |   | 43           |   |  |              | 115    |   |              |   | 318    |   |  |   | 486    |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Income before income tax expense                                   |  |              | 2,597 |   |              |   | 3,514  |               |  |   | 2,529        |   |  |              | 2,868  |   |              |   | 4,508  |   |  |   | 5,326  |  
|Income tax expense                                                 |  |              | 913   |   |              |   | 1,235  |               |  |   | 885          |   |  |              | 1017   |   |              |   | 1,578  |   |  |   | 1,618  |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Net income                                                         |  | $            | 1,684 |   |              | $ | 2,279  |               |  | $ | 1,644        |   |  | $            | 1,851  |   |              | $ | 2,930  |   |  | $ | 3,708  |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Reconciliation of GAAP Measurement to EBITDA (1):                  |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Net income                                                         |  | $            | 1,684 |   |              | $ | 2,279  |               |  | $ | 1,644        |   |  | $            | 1,851  |   |              | $ | 2,930  |   |  | $ | 3,708  |  
|Less: Interest income                                              |  |              | (17   | ) |              |   | (24    | )             |  |   | (43          | ) |  |              | (115   | ) |              |   | (318   | ) |  |   | (486   | )
|Add:                                                               |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Depreciation and amortization of property and equipment            |  |              | 198   |   |              |   | 191    |               |  |   | 211          |   |  |              | 350    |   |              |   | 354    |   |  |   | 402    |  
|Amortization of intangible assets                                  |  |              | 163   |   |              |   | 218    |               |  |   | 257          |   |  |              | 257    |   |              |   | 152    |   |  |   | 151    |  
|Amortization of stock-based compensation                           |  |              | 21    |   |              |   | 55     |               |  |   | 145          |   |  |              | 284    |   |              |   | 297    |   |  |   | 258    |  
|Income tax expense                                                 |  |              | 913   |   |              |   | 1,235  |               |  |   | 885          |   |  |              | 1017   |   |              |   | 1,578  |   |  |   | 1,618  |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|EBITDA (1)                                                         |  | $            | 2,962 |   |              | $ | 3,954  |               |  | $ | 3,099        |   |  | $            | 3,644  |   |              | $ | 4,993  |   |  | $ | 5,651  |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Consolidated Statements of Income Data as a Percentage of Revenue: |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Revenues                                                           |  |              | 100   | % |              |   | 100    | %             |  |   | 100          | % |  |              | 100    | % |              |   | 100    | % |  |   | 100    | %
|Expenses:                                                          |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Sales and marketing                                                |  |              | 46    |   |              |   | 45     |               |  |   | 48           |   |  |              | 50     |   |              |   | 49     |   |  |   | 50     |  
|Technology and product development                                 |  |              | 8     |   |              |   | 7      |               |  |   | 7            |   |  |              | 9      |   |              |   | 7      |   |  |   | 8      |  
|General and administrative                                         |  |              | 14    |   |              |   | 12     |               |  |   | 21           |   |  |              | 16     |   |              |   | 16     |   |  |   | 15     |  
|Depreciation and amortization of property and equipment            |  |              | 2     |   |              |   | 2      |               |  |   | 1            |   |  |              | 2      |   |              |   | 2      |   |  |   | 2      |  
|Amortization of intangible assets                                  |  |              | 2     |   |              |   | 2      |               |  |   | 2            |   |  |              | 2      |   |              |   | 1      |   |  |   | 1      |  
|Stock-based compensation                                           |  |              |      |   |              |   | 1      |               |  |   | 1            |   |  |              | 2      |   |              |   | 1      |   |  |   | 1      |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Total expenses                                                     |  |              | 72    |   |              |   | 69     |               |  |   | 80           |   |  |              | 81     |   |              |   | 76     |   |  |   | 77     |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Income from operations                                             |  |              | 28    |   |              |   | 31     |               |  |   | 20           |   |  |              | 19     |   |              |   | 24     |   |  |   | 24     |  
|Interest income                                                    |  |              |      |   |              |   |       |               |  |   |             |   |  |              | 1      |   |              |   | 2      |   |  |   | 2      |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Income before income tax expense                                   |  |              | 28    |   |              |   | 31     |               |  |   | 20           |   |  |              | 20     |   |              |   | 26     |   |  |   | 26     |  
|Income tax expense                                                 |  |              | 10    |   |              |   | 11     |               |  |   | 7            |   |  |              | 7      |   |              |   | 9      |   |  |   | 8      |  
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|Net income                                                         |  |              | 18    | % |              |   | 20     | %             |  |   | 13           | % |  |              | 13     | % |              |   | 17     | % |  |   | 18     | %
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  
|EBITDA (1)                                                         |  |              | 32    | % |              |   | 35     | %             |  |   | 24           | % |  |              | 25     | % |              |   | 28     | % |  |   | 27     | %
|                                                                   |  |              |       |   |              |   |        |               |  |   |              |   |  |              |        |   |              |   |        |   |  |   |        |  



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



EBITDA is a non GAAP financial measure provided as a complement to results provided in accordance
with accounting principles generally accepted in the United States of America (GAAP). The term EBITDA refers to a financial measure that is defined as earnings before net interest, income taxes, depreciation and amortization.
EBITDA is not a substitute for measures determined in accordance with GAAP, and may not be comparable to EBITDA as reported by other companies. We believe EBITDA to be relevant and useful information to our investors as this measure is an integral
part of our internal management reporting and planning process and is the primary measure used by our management to evaluate the operating performance of our operations. The components of EBITDA include the key revenue and expense items for which
our operating managers are responsible and upon which we evaluate their performance, and we also use EBITDA for planning purposes and in presentations to our board of directors.



Key Operational Metrics



The following table presents operational data for the six quarters ended June 30, 2005:



|                                              |  |              |       |   |               |   |        |                |  |   |               |   |  |              |        |   |               |   |        |   |  |   |        |  
|--------------------------------------------- |  | ------------ | ----- | - | ------------- | - | ------ | -------------- |  | - | ------------- | - |  | ------------ | ------ | - | ------------- | - | ------ | - |  | - | ------ | -
|                                              |  | Mar. 31,2004 |       |   | June 30, 2004 |   |        | Sept. 30, 2004 |  |   | Dec. 31, 2004 |   |  | Mar. 31,2005 |        |   | June 30, 2005 |  
|Operational Data:                             |  |              |       |   |               |   |        |                |  |   |               |   |  |              |        |   |               |   |        |   |  |   |        |  
|Components of revenue (in thousands):         |  |              |       |   |               |   |        |                |  |   |               |   |  |              |        |   |               |   |        |   |  |   |        |  
|Core revenue (1)                              |  | $            | 8,910 |   |               | $ | 10,755 |                |  | $ | 12,382        |   |  | $            | 13,819 |   |               | $ | 16,858 |   |  | $ | 19,807 |  
|Other revenue (2)                             |  |              | 413   |   |               |   | 395    |                |  |   | 423           |   |  |              | 594    |   |               |   | 761    |   |  |   | 770    |  
|                                              |  |              |       |   |               |   |        |                |  |   |               |   |  |              |        |   |               |   |        |   |  |   |        |  
|Net revenue                                   |  | $            | 9,323 |   |               | $ | 11,150 |                |  | $ | 12,805        |   |  | $            | 14,413 |   |               | $ | 17,619 |   |  | $ | 20,577 |  
|Core customers, end of period                 |  |              | 6,862 |   |               |   | 8,212  |                |  |   | 9,975         |   |  |              | 11,027 |   |               |   | 13,052 |   |  |   | 13,981 |  
|Average monthly churn rate (3)                |  |              | 6.0   | % |               |   | 6.2    | %              |  |   | 6.7           | % |  |              | 5.9    | % |               |   | 6.1    | % |  |   | 6.6    | %
|Average core customers in the quarter (4)     |  |              | 5,896 |   |               |   | 7,537  |                |  |   | 9,094         |   |  |              | 10,501 |   |               |   | 12,040 |   |  |   | 13,517 |  
|Average monthly revenue per core customer (5) |  | $            | 504   |   |               | $ | 476    |                |  | $ | 454           |   |  | $            | 439    |   |               | $ | 467    |   |  | $ | 488    |  



Customer count
increased by more than 900 customers for the second quarter of 2005, compared to a net increase of approximately 2,000 customers in the first quarter primarily because we added fewer new customers, consistent with the seasonal pattern of our
business. This pattern was more pronounced this year as we used substantially fewer price-related promotions for new customers early in the second quarter. We decreased our use of these promotions because we found that customers brought on with
discounted pricing tend to churn at a faster rate than our overall customer base. This change also contributed to the increase in our churn rate from 6.1% to 6.6%. While we expect to experience fluctuations in our churn rate from quarter to quarter,
we continue to believe that our churn rate will remain within the range we have experienced over the past two years.



Average monthly revenue per customer increased in second quarter of 2005 by 5%. Contributing to this quarters average revenue increase was the
addition of the mortgage product purchases that tend to have higher lead commitments and our reduced use of promotional pricing for new customers. Average revenue per customer will fluctuate from quarter to quarter, however it may decline as our
business matures or if we are forced to discount our prices in response to competition or in an effort to accelerate our growth.

---

|(1) | Core revenue consists of revenue for our primary service offerings, (a) HouseValues and JustListed, our offerings for real estate professionals, that consist of a specified
guaranteed number of exclusive leads on prospective home buyers or sellers, our Market Leader system and our coaching and training programs and (b) JustListed Connect, our offering for mortgage professionals, that consists of a specified number of
exclusive leads on prospective home sellers, our Market Leader system and our coaching and training programs.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(2) | Other revenue consists of revenue related to SOAR services, sales of surplus leads to brokers with no minimum commitment, monthly fees for use of our tools, the sales of branded
marketing collateral, seminar attendance fees, and advertising.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(3) | Average monthly churn is calculated by dividing the number of core customers who cancel during the quarter by the average core customers in the quarter, divided by the number of
months in the quarter. Core customers are customers from whom we collect fees for our core revenues.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|(4) | Average core customers in the quarter are calculated as the average of customers at the beginning and at the end of the quarter.
|--- | --------------------------------------------------------------------------------------------------------------------------------



|(5) | Average revenue per core customer is calculated as core revenue for the quarter divided by the average core customers in the quarter, divided by the number of months in the quarter.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
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Liquidity and Capital Resources



The following table presents summary cash flow data:



|                                      |  |                          |         |   |      |   |         |  
|------------------------------------- |  | ------------------------ | ------- | - | ---- | - | ------- | -
|                                      |  | Six months endedJune 30, |        
|                                      |  | 2005                     |         |   | 2004 |  
|                                      |  | (dollars in thousands)   |        
|Cash provided by operating activities |  | $                        | 10,537  |   |      | $ | 5,624   |  
|Cash used in investing activities     |  |                          | (10,481 | ) |      |   | (12,414 | )
|Cash provided by financing activities |  |                          | 40      |   |      |   | 770     |  



Cash equivalents and
short-term investments consist of money market funds and highly liquid, short-term, adjustable-rate insured municipal notes. These municipal notes are classified as short-term investments available for sale and are reported at fair value, which
approximates cost.



Our principal sources of liquidity are our
cash, cash equivalents and short-term investments, as well as the cash flow that we generate from our operations. We do not currently have any commercial debt or posted letters of credit.



Operating Activities



Net cash provided by operating activities primarily consists of net income adjusted for certain non-cash items, including depreciation, amortization,
stock-based compensation, and the effect of changes in working capital. Net cash provided by operating activities increased $4.9 million for the first half of 2005 compared to the same period in 2004. This increase resulted primarily from an
increase in net income after non-cash items, increases in our current liabilities, tax benefits received on the exercise of stock options and a decrease in our other current assets partially offset by an increase to our income tax receivable.



Investing Activities



Cash used in investing activities for the six months ended June 30, 2005
decreased by $1.9 million compared to the same period last year. During the first six months of 2005, our net investments in short-term, high-grade, tax-exempt municipal bonds were $5.5 million less than for the same period in 2004, while capital
expenditures of increased $3.1 million. Our capital expenditures were generally for the purchase of office equipment and leasehold improvements to facilitate our increased headcount as well as investments in our customer-facing infrastructure and
the development costs related to new products and features. Our investments and capital expenditures were funded by cash generated from operations during the first half of 2005 and cash on hand as of December 31, 2004.



Financing Activities



Cash provided by financing activities for the six months ended June 30, 2005
decreased by $0.7 million compared to the same period last year. In 2005, we paid expenses related to our initial public offering of common stock that were offset by proceeds from the exercise of stock options. Cash provided by financing activities
in 2004 consisted primarily of $0.8 million of cash held by the Company for a third party common stock transaction.



Recent Accounting Pronouncements



In December 2004, the Financial Accounting Standards Board issued Statement Number 123 (revised 2004), Share-Based Payments (SFAS 123R). SFAS 123R
requires all entities to recognize compensation expense in an amount equal to the fair value of share-based payments, such as stock options granted to employees. We are required to apply SFAS 123R on a modified prospective method. Under this method,
compensation expense is recorded (as previous awards continue to vest) for the unvested portion of previously granted awards that remain outstanding at the date of adoption. In addition, we may elect to adopt SFAS 123R by restating previously issued
financial statements. We have not yet quantified the effects of the adoption of SFAS No. 123R, but it is expected that the new standard will have a material impact on the consolidated statements of income, earnings per share and consolidated
statements of cash flow. SFAS No. 123R will be effective for our first quarter of 2006.



In March 2005, the SEC issued Staff Accounting Bulleting No. 107. SAB 107 expresses the views of the SEC staff regarding the interaction of FAS 123R and certain SEC rules and regulations and provides the SEC
staffs view regarding the valuation of share-based payment arrangements for public companies. Management is assessing the impact of SAB 107 in conjunction with their evaluation of the impact of SFAS 123R.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
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Factors That May Affect Our Business, Financial Condition and Future Results



You should carefully consider the following factors that may affect our business, future
operating results and financial condition, as well as other information included in this Quarterly Report. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or
that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business, financial condition and operating results could be materially adversely affected.



We have a limited operating history, our business model is new and evolving and our
future operating results are unpredictable.



We were
formed in May 1999 and therefore have a limited operating history upon which to evaluate our operations and future prospects. There is little significant historical basis to assess how we will respond to competitive, economic or technological
challenges. Our business and prospects must be considered in light of the risks and uncertainties frequently encountered by companies in the early stages of development.



The success of our business model depends on our ability to attract new and retain existing customers and to efficiently
generate leads from consumers visiting our web sites. Any failure to execute this strategy could harm our business. Our business model is relatively new and unproven and is still evolving.



We expect that we will continue to increase our expenses, in particular
within sales and marketing, as we seek to expand our business. We cannot assure you that our strategies for growth will be successful or that our revenues will increase sufficiently to maintain our current margins or profitability on a quarterly or
annual basis.



Our operating results are subject to fluctuations that may
cause our stock price to decline.



Our operating
results have fluctuated in the past and are likely to continue to do so in the future. Our revenues are unpredictable and may fluctuate from quarter to quarter due to changes in rates of customer adoption and retention, the cyclical nature of the
real estate industry, variability in interest rates and other factors outside of our control. In addition, our expenses may fluctuate from quarter to quarter due to, among other factors, the timing of sales and marketing campaigns. We believe that
period-to-period comparisons of our past operating results may not be good indicators of our future performance and should not be relied on to predict the future performance of our stock price. For example, we launched our JustListed.com business in
January 2004 and experienced rapid revenue growth during 2004 and the first two quarters of 2005 as a result. We do not expect that we will be able to sustain this revenue growth rate in future quarters as our business matures and the rate of
customer growth declines.



It is possible that in the future
our operating results will not meet the expectations of investors, causing the market price of our common stock to decline. In the past, companies that have experienced decreases in the market price of their stock have been subject to securities
class action litigation. A securities class action lawsuit against us could result in substantial costs and divert our managements attention from other business concerns.



We may be unable to compete successfully with our current or future competitors.



We operate in a highly competitive environment and expect that competition
will continue to be intense. The barriers to entry in our industry are low, making it possible for current or new competitors to adopt certain aspects of our business model without great financial expense, thereby reducing our ability to
differentiate our services. All of our services, including online lead generation, online prospect management, and customer coaching and training are provided separately by other companies, and it is possible that one or more of these companies, or
a new market entrant, could adopt a business model that competes directly with us.



Our current and potential competitors include:



Traditional sellers of advertising to real estate professionals. We compete with traditional sellers of advertising, including local and regional newspapers, local magazines, and rack publications
advertising homes for sale, for a share of the marketing dollars that residential real estate professionals spend to attract prospective home buyers and sellers. Real estate professionals may continue to view traditional advertising sources as the
most effective means to reach prospective home buyers and sellers, leading to a lack of demand for our services. If we fail to persuade these customers to spend marketing dollars on our services, our business and operating results will suffer.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Internet media companies. We compete with large Internet media companies, such as AOL, Google,
MSN and Yahoo! for real estate professionals marketing dollars. Some of the large Internet media companies are currently developing enhanced search products, including search products that would allow a user to find real estate related search
results in a specific city or geographic area. If their existing or new products become a cost-effective way for real estate professionals to generate leads, these products may become an attractive alternative to our services, which could decrease
demand for our services or increase our online lead generation costs. Additionally, these companies, on which we rely in part for our own advertising and lead generation needs, may develop or acquire products and services that compete directly with
our services. HomeStore, one of the largest Internet real estate sites, has recently entered into the lead generation business.



Online companies focused on real estate. We compete with a variety of online marketing and lead generation companies that focus exclusively on the
real estate industry. Such companies include Homes.com, Homestore, ServiceMagic and IAC/InterActiveCorp and its LendingTree business, which includes Domania.com and RealEstate.com, all of which have established web sites and compete or may compete
for real estate professionals advertising expenditures. In addition, Richard Barton, the founder of Expedia.com and a previous director of IAC has recently announced the formation of a startup company named Zillow, that will focus on the
residential real estate market.



In addition, consolidation
driven by online service providers involved in the real estate industry and Internet media companies could create more potent competitors. For instance, Classified Ventures recently acquired HomeGain, an online real estate lead generation company.
Increased consolidation among online service providers in the residential real estate industry could result in additional competitors that have significantly greater resources or greater brand recognition than we do, and that are able to provide a
broader and more attractive suite of services to real estate professionals than we can.



Real estate and mortgage brokerage firms. Some real estate and mortgage brokerage firms currently offer services similar to ours, and in the future these firms and other brokerage firms may become direct
competitors. A significant percentage of residential real estate professionals are affiliated with large national or regional brokerage firms. If these brokerage firms, or smaller independent brokerage firms, decide to provide their agents with a
service offering or suite of service offerings similar to ours at a lower cost or free of charge, or if they attempt to restrict the ability of their agents to use our services, demand for our services by real estate professionals could decrease.



Many of our existing and potential competitors have longer
operating histories, greater name recognition, greater technological capabilities and greater financial, sales, marketing and human resources than we do. These competitors could:



| |  |  | develop services that are as effective as or superior to our services or that achieve greater market acceptance than do our services;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------



| |  |  | devote greater resources to marketing or selling their services;
| | - |  | ----------------------------------------------------------------



| |  |  | make more attractive offers to potential customers or otherwise more effectively attract real estate professionals;
| | - |  | -------------------------------------------------------------------------------------------------------------------



| |  |  | withstand price competition more successfully than we can;
| | - |  | ----------------------------------------------------------



| |  |  | provide services similar to ours at no additional cost by bundling them with their other product and service offerings;
| | - |  | -----------------------------------------------------------------------------------------------------------------------



| |  |  | make more attractive offers to existing and potential employees than we do;
| | - |  | ---------------------------------------------------------------------------



| |  |  | more effectively negotiate third-party arrangements; and
| | - |  | --------------------------------------------------------



| |  |  | take advantage of investments, acquisitions or other opportunities more readily than we can.
| | - |  | --------------------------------------------------------------------------------------------



Any efforts to expand into new lines of business may not be successful, or may take longer than expected to complete.



Recently, we expanded our business into an area
related to the residential real estate industry, the residential mortgage services industry, in which we have only limited experience. This initiative, and other initiatives we may pursue outside of the residential real estate industry may not be
successful or the anticipated benefits may take longer to realize than expected. In addition, we have little or no experience outside of the residential real estate industry, which may result in errors in the conception, structure or implementation
of a strategy to take advantage of available opportunities. We cannot assure you that any expansion efforts will be successful.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Any failure to increase the number of our customers would harm our business.



Our growth depends in large part on increasing the number of our customers. However,
prospective customers may not be familiar with our services and may be accustomed to using traditional methods of advertising and marketing. To attract more customers, we must convince real estate professionals to spend a portion of their
advertising and marketing budgets on our services. We cannot assure you that we will be successful in continuing to acquire more customers or that our future sales efforts will be effective. If we reach the point at which we have attempted to sell
our services to the majority of residential real estate customers and/or mortgage customers, our ability to further increase the number of customers could be limited. We may not know or be able to estimate when we have reached this point because we
currently cannot reliably estimate the total number of residential real estate agents and/or mortgage customers that are actively engaged in the industry during any particular period.



Any failure to retain customers could harm our business.



Our ability to retain customers will depend, in part, on our ability to generate leads from prospective home buyers and
sellers in quantities demanded by our customers. In addition, our success will depend on our ability to enhance our existing services, develop new technologies that address the increasingly sophisticated and varied needs of customers, respond to
technological advances and emerging industry standards and practices in a timely manner and on a cost-effective basis. Our customer contracts require us to deliver a guaranteed minimum number of leads per month to each customer. We occasionally fail
to deliver the number of leads we are required to deliver to a customer in a given month. For example, during the quarter ended June 30, 2005, we were unable to deliver approximately 2.2% of our total lead obligations to customers. Our estimated
obligation for underdelivered leads at June 30, 2005 was approximately $76,000. If we regularly fail to deliver the number of leads we are required to deliver to a customer, that customer will likely become dissatisfied with our services. In
addition, if we do not maintain adequate technical support levels, or continue to improve the ease of use, functionality and features of our Market Leader prospect management system, customer coaching and training offerings, or if customers are
dissatisfied with the quality of the leads that we provide, our customers may choose not to extend their contracts for our services.



Agents remain customers typically only for a limited period of time, and we have limited ability to predict how long agents will remain customers.



Our customer contracts typically have an initial term
of twelve months, with automatic one-month extensions unless terminated by either party. Some customers have decided not to extend their contracts due to their inability to convert the leads we have provided into closed transactions or
dissatisfaction with our services. Our average monthly churn rate for the quarter ended June 30, 2005 was 6.6%, compared to 6.2% for the quarter ended June 30, 2004. We calculate average monthly churn by dividing the number of core
customers who cancel during the quarter by the average core customers in the quarter, divided by the number of months in the quarter.



We cannot accurately predict how long agents or mortgage professionals will remain customers. If our churn rate increases, our revenue will decline and
our business could suffer.



We have experienced rapid growth which we may
not be able to successfully manage.



We have
experienced rapid growth in our revenues, expenses and employee headcount. In addition to adding a number of senior individuals to our management team, our overall employee base has grown from 155 employees as of December 31, 2003 to 422 employees
as of June 30, 2005. This expansion has placed, and is expected to continue to place, a significant strain on our managerial, operational and financial resources.



To manage the anticipated continued growth of our operations and personnel, we will need to further expand our finance,
accounting, administrative, sales and operations staff. We cannot assure you that management will be able to hire, train, retain, motivate and manage required personnel. If we are unable to manage growth effectively, our business could be harmed.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
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We are evaluating our system of internal controls over financial reporting and making enhancements where
appropriate, which may require significant resources.



Effective internal controls are necessary for us to provide reliable financial reports and effectively prevent fraud. We are in the process of instituting changes to our internal procedures to satisfy the requirements of the Sarbanes-Oxley
Act of 2002, which require management and our auditors to evaluate and assess the effectiveness of our internal controls. Implementing these changes may take a significant amount of time, money, and management resources and may require specific
compliance training of our directors, officers and other personnel. We are continuing to evaluate and, where appropriate, enhance our policies, procedures and internal controls. If we fail to maintain the adequacy of our internal controls, as such
standards are modified, supplemented or amended from time to time, we could be subject to regulatory scrutiny and investors could lose confidence in the accuracy and completeness of our financial reports. Given the potential significance of
resources required for compliance, we cannot assure you that we will be able to complete the work necessary to fully comply with the requirements of the Sarbanes-Oxley Act or that management or our auditors will conclude that our internal controls
are effective.



We rely almost entirely on advertising to generate leads
for customers.



We rely on advertising to attract
prospective home buyers and sellers to our web sites and to generate leads. We advertise primarily through online media and television commercials.



Risks associated with online advertising. We rely on online media to attract a significant percentage of the prospective home buyers and sellers
visiting our web sites. Prices for online advertising could increase as a result of increased demand for advertising inventory, which would cause our expenses to increase and could result in lower margins. Our advertising contracts with online
search engines are typically short-term. If one or more search engines on which we rely for advertising modifies or terminates its relationship with us, our expenses could increase, the number of leads we generate could decrease and our revenues or
margins could decline.



Risks associated with television
advertising. Television advertising rates depend on a number of factors, including the strength of the national economy and regional economies and the strength of certain industries that advertise frequently. Advertising rates are also subject
to cyclical and seasonal fluctuations. If television advertising prices increase significantly, in the absence of more efficient ways to generate leads, our marketing expenses will also increase, which would harm our results of operations.



As the number of leads that we are required to deliver has
increased, we have increased the levels of advertising to meet those requirements. We cannot assure you that increases in advertising will result in increases in leads. If the effectiveness of our advertising declines, our business will suffer.



Our business depends on the real estate industry, which is cyclical.



The success of our business depends on the health of
the residential real estate market, which historically has been subject to economic cycles. An economic slowdown or recession, adverse tax policies, lower availability of credit, increased unemployment, lower consumer confidence, lower wage and
salary levels, war or terrorist attacks or the public perception that any of these conditions may occur could decrease demand for residential real estate. Trends in the real estate industry are unpredictable; therefore, our operating results, to the
extent they reflect changes in the broader real estate industry, may be subject to significant fluctuations.



A sustained increase in interest rates could result in decreased use of our services by prospective home buyers and sellers and real estate professionals.



The amount of a homeowners monthly mortgage payment is significantly
dependent on interest rate levels. Interest rates have begun to rise from their recent historical lows and many economists predict that interest rates will continue to rise in the near future. Increases in interest rates could make housing less
affordable and negatively affect the housing market, which could decrease consumer interest in the services offered through our web sites. A decrease in demand for residential real estate or a decrease in housing affordability could result in a
decrease in the number of active real estate professionals and a decrease in the amount these individuals are willing to spend on services such as ours.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



We may in the future be subject to intellectual property rights claims.



Other companies, including our current or potential competitors, could make
claims against us alleging infringement of their intellectual property rights. We have been subject to and expect to continue to be subject to, claims regarding alleged infringement by us of the patents, trademarks and other intellectual property
rights of third parties. Any intellectual property claims, regardless of merit, could be time-consuming and expensive to litigate or settle, and could significantly divert managements attention from other business concerns. We may need to
obtain licenses from third parties who allege that we have infringed their rights, but such licenses may not be available on terms acceptable to us or at all.



Our technologies and content may not be able to withstand third-party claims or rights against their use. If we were unable to successfully defend
against such claims, we may have to pay damages, stop using the technology or content found to be in violation of a third partys rights, seek a license for the infringing technology or content, or develop alternative noninfringing technology
or content. If we are required to obtain a license for the infringing technology or content, it may not be available on reasonable terms, if at all. In addition, developing alternative noninfringing technology or content could require significant
effort and expense. If we cannot license or develop technology or content for any infringing aspects of our business, we may be forced to limit our service offerings. Any of these results could reduce our ability to compete effectively and harm our
business.



Our trademarks are important to our business. Other
companies may own, obtain or claim trademarks that could prevent, limit or interfere with our use of trademarks. If we were unable to use these trademarks, our business would be harmed and we would need to devote substantial resources toward
developing different brand identities.



Our business depends on the
continued adoption and use of the Internet and email by real estate professionals.



Our business model relies on the adoption and ongoing use of the Internet and email by real estate professionals. We believe many real estate professionals still rely primarily on other forms of communication, such as
telephones, mobile phones, fax machines and mail service, to communicate with clients. A broader population of real estate professionals must adopt the Internet and email in their businesses for us to significantly expand our business and increase
our revenues.



Prospective home buyers and sellers may be reluctant to
sign up for our services due to general privacy concerns.



Concern among prospective home buyers and sellers regarding our use of personal information collected on our web sites, such as email addresses, home addresses and geographic preferences, could keep them from using our web sites and thereby
reduce the number of leads we generate. Industry-wide events or events with respect to our web sites, including misappropriation of third-party information, security breaches, or changes in industry standards, regulations or laws could deter people
from using the Internet or our web sites to conduct transactions that involve the transmission of confidential information, which could harm our business.



We collect personally identifiable information from prospective home buyers and sellers and evaluate the use of our Market Leader prospect management system by
customers, which could result in additional costs or claims.



We rely on the collection, use and disclosure of personally identifiable information from prospective home buyers and sellers and from customers to conduct our business. We disclose our information collection and dissemination practices in
a published privacy statement on our web sites, which we may modify from time to time to meet operational needs or changes in the law or industry best practices. We may be subject to legal claims, government action and damage to our reputation if we
act or are perceived to be acting inconsistently with the terms of our privacy statement, customer expectations or the law. In addition, concern among real estate professionals or potential home buyers or sellers about our privacy practices could
keep them from using our services and require us to alter our business practices or incur significant expenses to educate them about how we use this information. In accordance with our privacy policy, in certain instances we have provided personally
identifiable information about potential home buyers and sellers to third parties for purposes of analyzing our audience demographics, audience size and other audience characteristics, such as the pages web users spend the most time viewing on our
site, the times of day or night that users visit our site, and the order in which users navigate through our site.



The value of our services could be diminished if anti-spam software filters out emails we send.



Our Market Leader prospect management system includes a feature that
automatically sends out personalized email messages to prospective home buyers and sellers on behalf of customers. In addition, we send a large amount of email to real estate professionals as part of our customer acquisition strategy, some of which
is unsolicited. In the past, anti-spam software used by Internet service providers and personal computer users has filtered out these email messages as unsolicited email, or spam. If this problem persists or becomes more pervasive, the
value of our Market Leader system to customers, and our ability to attract new customers, could be reduced, both of which would harm our business. In addition, it is possible that we may not currently or in the future fully comply with anti-spam
legislation, and any failure to comply with such laws could result in penalties or damage our reputation.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Our JustListed service is enhanced by our access to real estate multiple listing services provided by third
parties that we do not control.



In selected markets,
including most of the major metropolitan markets in the United States, we provide JustListed agent customers with a feature that allows them to automatically email their prospective clients information about newly available homes that meet the
prospective clients criteria. This automated feature works only in markets in which our subsidiary, Soar Solutions, has a relationship with the local multiple listing service, or MLS. Listings must be sent manually by an agent customer in
markets in which Soar Solutions does not have MLS relationships. Soar Solutions agreements with MLSs to display property listings have short terms, or can be terminated by the MLSs with little notice. The success of our JustListed service
depends in part on our continued ability to provide agent customers with an automated listing email tool and our ability to expand access to the tool in markets in which it is not currently available.



Decreases in customer acquisition or retention may not be immediately reflected in our
operating results.



The effect of significant
decreases in the number of active customers may not be fully reflected in our results of operations until future periods. Much of the revenue we report in each quarter is from agreements entered into during previous quarters. Consequently, a decline
in new customer contracts or an increase in cancellations in any one quarter will not necessarily be fully reflected in the revenue reported until the following quarter and may negatively affect our revenue in future quarters. In addition, we may be
unable to adjust our cost structure in a timely manner to reflect these reduced revenues.



If we fail to comply with the various laws and regulations that govern the real estate industry, our business may be harmed.



Our business is governed by various federal, state and local laws and regulations governing the real estate industry,
including the Real Estate Settlement Procedures Act (RESPA), the Fair Housing Act, state and local real estate and mortgage broker licensing laws, federal and state laws prohibiting unfair and deceptive acts and practices, and federal and state
advertising laws. We may not have always been and may not always be in compliance with each of these requirements. Failure to comply with these requirements may result in, among other things, revocation of required licenses, indemnification
liability to contract counterparties, class action lawsuits, administrative enforcement actions and civil and criminal liability.



Due to the geographic scope of our operations and the nature of the services we provide, we may be required to obtain and maintain real estate or mortgage
brokerage licenses in certain states in which we operate. In connection with such licenses, we are required to designate individual licensed brokers of record. We cannot assure you that we are, and will remain at all times, in full compliance with
state real estate or mortgage licensing laws and regulations and we may be subject to fines or penalties in the event of any non-compliance. If in the future a state agency were to determine that we are required to obtain a real estate or mortgage
brokerage license in that state in order to receive payments or commissions from real estate professionals, or if we lose the services of a designated broker, we may be subject to fines or legal penalties or our business operations in that state may
be suspended until we obtain the license or replace the designated broker. Any failure to comply with applicable laws and regulations may limit our ability to expand into new markets, offer new products or continue to operate in one or more of our
current markets.



Changes in real estate laws and regulations and the
rules of industry organizations could restrict our activities, significantly increase our compliance costs and result in increased competition.



States, regulatory organizations and industry participants could enact legislation, regulatory or other policies in the future that could restrict our
activities or significantly increase our compliance costs. Moreover, the provision of real estate-related services over the Internet is a new and evolving business, and legislators, regulators and industry participants may advocate additional
legislative or regulatory initiatives governing the conduct of our business. If new laws or regulations are adopted, or regulatory interpretations are changed, we may be subject to additional legal requirements and incur significant compliance
costs, and we could be precluded from certain activities. In addition, federal banking regulators have proposed to include real estate brokerage as an activity that is financial in nature, a definitional change that would permit major
financial institutions to enter the real estate brokerage business. Because national banks are already explicitly permitted to engage in web-linking activities, if this proposal is finalized, we could face competition from significant,
well-capitalized competitors.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



We may be limited in the way in which we market our business or generate revenue by federal law prohibiting
referral fees in real estate transactions.



RESPA
generally prohibits the payment or receipt of fees or any other thing of value for the referral of business related to a residential real estate settlement service, including real estate and mortgage brokerage services. RESPA also prohibits fee
shares or splits or unearned fees in connection with the provision of residential real estate settlement services. Notwithstanding these prohibitions, RESPA expressly permits payments pursuant to cooperative brokerage and referral arrangements or
agreements between real estate agents and brokers. In addition, RESPA permits payments for goods or facilities furnished or for services actually performed, so long as those payments bear a reasonable relationship to the market value of the goods or
facilities furnished or the services performed, excluding the value of any referrals that may be provided in connection with such goods, facilities or services. Failure to comply with RESPA may result in, among other things, administrative
enforcement actions, class action lawsuits, and civil and criminal liability.



There has been limited guidance by the appropriate federal regulator or the courts regarding the applicability of RESPA to online marketing relationships or real estate services, such as those we provide. Nonetheless,
RESPA may restrict our ability to enter into marketing and distribution arrangements with third parties, particularly to the extent that such arrangements may be characterized as involving payments for the referral of residential real estate
settlement service business.



Acquisitions we may undertake may be
unsuccessful and may divert our managements attention and consume significant resources.



We may selectively acquire other businesses, product lines or technologies. The successful execution of an acquisition strategy will depend on our ability
to identify, negotiate, complete and integrate suitable acquisitions and, if necessary, to obtain satisfactory debt or equity financing. Acquisitions involve numerous risks, including the following: difficulties in integrating the operations,
technologies, and products of the acquired companies; diversion of managements attention from normal daily operations of the business; inability to maintain the key business relationships and the reputations of acquired businesses; entry into
markets in which we have limited or no prior experience and in which competitors have stronger market positions; dependence on unfamiliar affiliates and partners; insufficient revenues to offset increased expenses associated with acquisitions;
reduction or replacement of the sales of existing services by sales of products or services from acquired lines of business; responsibility for the liabilities of acquired businesses; inability to maintain our internal standards, controls,
procedures and policies; and potential loss of key employees of the acquired companies.



In addition, if we finance or otherwise complete acquisitions by issuing equity or convertible debt securities, our existing shareholders may be diluted. Mergers and acquisitions are inherently risky, and we cannot
assure you that our acquisitions will be successful. Failure to manage and successfully integrate acquired businesses could harm our business.



We depend on key personnel and cannot assure you that these employees will continue to stay with us.



We depend on our executive officers as well as key sales, technology and
other personnel. We employ our executives and key employees on an at-will basis, even if they have employment contracts with us. Furthermore, although we have purchased a key-person life insurance policy for our Chief Executive Officer, we have not
purchased key-person life insurance policies for any of our other executive officers or key personnel. Competition for qualified employees is intense in our industry, and the loss of substantial number of qualified employees, or an inability to
attract, retain and motivate additional highly skilled employees required for the expansion of our activities, could harm our business.



We rely on our sales force to sell our services and increase revenue. Failure to attract, motivate and retain qualified sales personnel may harm our business.



Our sales force has grown rapidly since inception and
we expect our sales force to continue to expand as our business grows. We have high productivity standards for our sales personnel, which in the past has resulted in relatively high turnover. This turnover has required us to expend a substantial
amount of time and money to replace sales persons as we expand our business. Competition for qualified sales personnel is intense. Any failure to attract, retain and motivate a sufficient number of qualified sales personnel could impair our ability
to generate new customers, which would harm our business.



Our business
could be harmed by the actions of third parties over whom we have little or no control.



Prospective home buyers and sellers could make a claim against us for the actions of a customer over whom we have little or no control. We do not conduct
any due diligence or background checks on new customers or seek information regarding their credentials. We may be liable for content provided by customers that is posted on or disseminated through our web sites. Our insurance may not be adequate to
cover us for these liabilities, and, to the extent not covered by insurance, these liabilities could reduce our margins and harm our business.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Our brand could be harmed if customers do not provide quality service to prospective home buyers and sellers.



We rely on customers to promote our brand by
providing high-quality service to prospective home buyers and sellers. We have little control over the activities of customers. If customers do not provide prospective home buyers and sellers with high-quality service, or if they use the
functionality of our Market Leader System to send unwanted email to prospective home buyers or sellers, our brand value and our ability to generate leads may diminish.



Our operating results may be subject to seasonality and may vary significantly among quarters during a calendar year.



We are subject to seasonal fluctuations in
advertising rates and lead generation. Changing consumer behavior at various times throughout the year affects our advertising expenses. Television advertising is generally more expensive in the fourth calendar quarter in connection with the holiday
season.



While individual markets vary, real estate transaction
activity tends to progressively increase from January through the summer months, and then gradually slows over the last quarter of the calendar year. The real estate industry generally experiences decreased activity toward the end of the year, which
may result in slower lead generation and lower growth rates. To date, our quarterly revenue growth has masked any seasonality effects; however, seasonality may have a more pronounced effect on our operating results in the future. If seasonality
occurs, investors may be unable to predict our annual operating results based on a quarter-to-quarter comparison of our operating results as our business matures.



Third parties may copy or otherwise obtain and use our proprietary information without authorization or develop similar technology
independently.



We currently rely on a combination of
copyright, trademark and trade secret laws and confidentiality procedures to establish and protect our proprietary rights. If we fail to successfully enforce our intellectual property rights, the value of our services could be diminished and our
business may suffer. Our success depends in large part on our proprietary technology and on our continuing use of our trademarks. We hold one registered trademark and have sought registration for a number of additional trademarks. We have not sought
registration for any copyrights. We have not been issued any patents but we have several pending patent applications. Accordingly, our intellectual property position is more vulnerable than it otherwise would be if it were protected by issued
patents, copyrights or additional registered trademarks. We may not receive approval of our various trademark or patent applications, and any trademarks or patents we may be granted may be successfully challenged by others or invalidated. If our
trademark or patent applications are not approved or if our trademarks or patents are invalidated, our use of them could be restricted unless we enter into arrangements with these third parties, which might not be possible on commercially reasonable
terms, if at all.



We regard substantial elements of our web
sites, software tools and applications and underlying technology as proprietary. Despite our precautionary measures, third parties may copy or otherwise obtain and use our proprietary information without authorization or may develop similar
technology independently. We may not be able to detect such infringements or may lose any competitive advantage in the market before we do so. In addition, competitors may design around our technology or develop competing technologies substantially
similar to ours. Unauthorized parties may attempt to disclose, obtain or use our technology. Our precautions may not prevent misappropriation of our intellectual property, particularly in foreign countries where laws or law enforcement practices may
not protect our proprietary rights as fully as in the United States. Any legal action that we may bring to protect our proprietary information could be unsuccessful and expensive and could divert managements attention from other business
concerns. Legal standards relating to the validity, enforceability and scope of protection of proprietary rights in Internet-related businesses are uncertain and evolving, and we cannot assure you of the future viability or value of any of our
proprietary rights.



We may not be able to protect the web site addresses
that are important to our business.



Our web site
addresses, or domain names, are important to our business. However, the regulation of domain names is subject to change. We may not be able to obtain or maintain relevant domain names for all the areas of our business. It also may be difficult for
us to prevent third parties from acquiring domain names that are similar to ours, that infringe our trademarks or that otherwise decrease the value of our brands.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Increased government regulation of the Internet could force us to change the manner in which we conduct our
business.



The adoption or modification of laws or
regulations relating to the Internet could adversely affect the manner in which we currently conduct our business. In addition, the growth and development of the market for online commerce may lead to more stringent consumer protection laws that may
impose additional burdens on us. Laws and regulations directly applicable to communications or commerce over the Internet are becoming more prevalent. In addition, laws applicable to the Internet remain largely unsettled, even in areas where there
has been some legislative action. It may take years to determine whether and how existing laws, such as those governing intellectual property, privacy, libel and taxation, apply to the Internet. Changes in Internet laws and regulations could lead to
situations in which we are considered to operate or do business in states where customers conduct their business, resulting in potential claims or regulatory action. If we are required to comply with new regulations or new
interpretations of existing regulations, or if we are unable to comply with these regulations, our business could be harmed.



Changes in government regulation of advertising and customer solicitation could affect our business.



We rely on various marketing channels, such as email and other
telecommunications means, to reach real estate professionals and prospective home buyers and sellers. The laws governing marketing and advertising continue to evolve and we may be subject to restrictions that limit our ability to continue to operate
or expand our business and result in legal claims or government action. For example, several jurisdictions have recently proposed or adopted privacy-related laws that restrict or prohibit unsolicited email, commonly known as spam, and
that impose significant monetary penalties for violations. One of these laws, the CAN-SPAM Act of 2003, or CAN-SPAM, became effective in the United States on January 1, 2004. CAN-SPAM imposes complex and often burdensome requirements in connection
with sending commercial email. The language of CAN-SPAM contains ambiguities. In addition, certain implementing rules have not yet been promulgated, and key provisions of CAN-SPAM have yet to be interpreted by the courts. Depending on how it is
interpreted, CAN-SPAM may impose burdens on our email marketing practices and affect features of our Market Leader system and other services we offer or may offer. In addition, states continue to pass legislation regulating email communications and
Internet advertising. Some provisions of these laws are ambiguous and have not been interpreted by the courts. These laws may adversely affect our ability to market our services to real estate industry participants in a cost-effective manner and the
violation of these laws may result in penalties or damage our reputation.



Our sales activities are or may in the future be subject to laws regulating telemarketing, which could subject us to penalties or limit our ability to market our services.



Both federal and state laws regulate the practice of telemarketing. All 50
states have enacted some form of telemarketing law. In particular, the federal government and a significant number of states have implemented do not call lists. In addition, a number of states require telemarketers to register with the
state and post a bond, prohibit automated systems and recorded messages, impose disclosure requirements upon sales calls and require written sales contracts for certain telemarketing transactions. We are subject to certain of these laws, and our
failure to register in a jurisdiction where we are required to do so could subject us to penalties, limit our ability to market our services and hamper our ability to enforce contracts in these jurisdictions.



We may have to pay additional state taxes on our revenues for past years and for future
periods.



We are currently the subject of an audit by
the Washington State Department of Revenue and have received preliminary assessments asserting that substantially all of our revenues should be subject to the Washington state business and occupation tax. If the assessment methodology asserted by
the state were to apply to our revenues through June 30, 2005, we may be required to pay up to $2.4 million. As of June 30, 2005, we have accrued $2.2 million for the potential exposure related to issues raised by this audit. In addition, we may be
required to record additional charges to operations in future periods. Depending on the outcome of the audit and our challenges to it, we may be required to pay past taxes, as well as possible additional penalties and interest.



Any failure of our technology to perform satisfactorily could result in
lost revenue, damage to our reputation and expenditure of significant resources.



Our technology is relatively new and complex and may in the future be subject to errors, defects or performance problems. In addition, we may encounter problems when we update our technology to expand and enhance its
capabilities. Our technology may malfunction or suffer from defects that become apparent only after further use. Furthermore, our services could be rendered unreliable or be perceived as unreliable by customers or prospective home buyers and
sellers. In such instances, we would need to expend significant resources to address these problems, and may nonetheless be unable to adequately remedy these problems. These problems could result in lost revenue and damage to our reputation.



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|Item 2. | Managements Discussion and Analysis of Financial Condition and Results of Operations (Cont.)
|------- | ---------------------------------------------------------------------------------------------



Sustained or repeated system failures could significantly impair our operations and lead to customer
dissatisfaction.



The continuous and uninterrupted
performance of our systems is critical to our success. Our operations depend on our ability to protect these systems against damage from fire, power loss, water, earthquakes, telecommunications failures, viruses, vandalism and other malicious acts
and similar unexpected adverse events. Customers and prospective home buyers and sellers may become dissatisfied by any system failure that interrupts our ability to provide our services to them.



Our services substantially depend on systems provided by third parties, over
whom we have little control. Interruptions in our services could result from the failure of telecommunications providers and other third parties to provide the necessary data communications capacity in the time frame required. Our operations depend
on our ability to maintain and protect our computer systems, located at our headquarters in Kirkland, Washington and at a co-location facility operated by a third party in Kent, Washington. We depend on these third-party providers of Internet
communication services to provide continuous and uninterrupted service. We also depend on Internet service providers that provide access to our services. Any disruption in the Internet access provided by third-party providers or any failure of
third-party providers to handle higher volumes of user traffic could harm our business.



Our reputation and customer service offerings may be harmed by security breaches.



Unauthorized computer programmers, or hackers, may attempt to penetrate our network security from time to time. A hacker who penetrates our network
security could misappropriate proprietary information or cause interruptions in our services. We might be required to expend significant capital and resources to protect against, or to alleviate, problems caused by hackers. We also may not have a
timely remedy against a hacker who is able to penetrate our network security. In addition to purposeful security breaches, the inadvertent transmission of computer viruses could adversely affect our systems and harm our business.



The state of California requires that customers who are residents of
California be notified if a security breach results in the disclosure of their personal financial account or other information. Other states are considering such notice laws. In addition, other public disclosure laws may require that
material security breaches be reported. If such notice is required in the future, our business and reputation could be harmed.



If we do not have access to additional funds on acceptable terms, we may be unable to continue to expand our business or service offerings.



To pursue our current and future business plans, we may choose to seek
additional funding through public or private financings, including equity financings, and through other arrangements. Poor financial results, unanticipated expenses or unanticipated opportunities that require financial commitments could give rise to
additional financing requirements sooner than we expect. However, financing may be unavailable when we need it or may not be available on acceptable terms. If we raise additional funds by issuing equity or convertible debt securities, the percentage
ownership of our existing shareholders would be reduced and these securities might have rights superior to those of our common stock. If we are unable to raise additional funds when we need them, we may be required to delay, scale back or eliminate
expenditures for some of our operations.



|Item 3. | Quantitative and Qualitative Disclosures About Market Risk
|------- | ----------------------------------------------------------



The primary objective of our investment activities is to preserve principal and liquidity without incurring significant risk. To achieve this objective,
we invest in short-term, high-quality, interest-bearing securities. Our investments in debt securities are subject to interest rate risk. To minimize our exposure to an adverse shift in interest rates, we invest in short-term securities and maintain
an average maturity of one year or less.



|Item 4. | Controls and Procedures
|------- | -----------------------



(a) Evaluation of disclosure controls and procedures. Under the supervision and with the participation of our Companys management, including
the Chief Executive Officer and Chief Financial Officer, the Company has evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e)) under the
Securities Exchange Act of 1934, as amended. Based on that evaluation, the Companys management, including the Chief Executive Officer and Chief Financial Officer, concluded that the Companys disclosure controls and procedures were
effective as of June 30, 2005.



(b) Changes in internal
controls. We have made no changes in internal control over financial reporting during the second fiscal quarter of 2005 that materially affected or are reasonably likely to materially affect our internal control over financial reporting. We
intend to continue to refine our internal control on an ongoing basis as we deem appropriate with a view towards continuous improvement.



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##### Table of Contents

PART II. OTHER INFORMATION



|Item 1. | Legal Proceedings
|------- | -----------------



From time to time, we may become involved in litigation relating to claims arising from the ordinary course of our business, including actions relating to
employment issues. We believe that there are no claims or actions pending or threatened against us, the ultimate disposition of which would have a material adverse effect on us.



|Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds
|------- | -----------------------------------------------------------



On December 9, 2004, the Securities and Exchange Commission declared effective our registration statement on Form S-1 (SEC File No. 333-118740) in
connection with our initial public offering of common stock. We sold 4,166,667 shares of common stock at $15.00 per share, for aggregate gross proceeds of $62.5 million, and selling shareholders sold 2,083,333 shares of common stock at $15.00 per
share, for aggregate gross proceeds of $31.2 million. We received net proceeds of approximately $56.1 million after underwriters discounts and commissions of approximately $4.4 million and other expenses related to the offering of
approximately $2.0 million. None of the proceeds of the offering that we received were used as payments to our directors or officers (or their associates), or to our affiliates or 10% shareholders. All of the expenses of the offering were direct or
indirect payments to others and not payments to our directors or officers (or their associates) or to our affiliates or 10% shareholders. Credit Suisse First Boston LLC and J.P. Morgan Securities Inc. acted as joint book-running managers of the
offering, with Piper Jaffray & Co., Thomas Weisel Partners LLC and Pacific Crest Securities Inc. acting as co-managers of the offering.



Through June 30, 2005, we have used approximately $4.0 million of the proceeds to purchase property and equipment, goodwill and intangible assets. The
remaining proceeds have been invested in money market funds and highly liquid, short-term, adjustable-rate insured municipal notes. Our current and planned use of the proceeds does not represent a material change from the use of proceeds described
in the prospectus relating to the Registration Statement.



|Item 4. | Submission of Matters to a Vote of Security Holders
|------- | ---------------------------------------------------



Our annual meeting of stockholders was held on June 9, 2005. The following nominees were elected as directors for three year terms expiring in 2008, by
the vote set forth below. There were no broker non-votes with respect to any of the nominees.



|                      |  |            |  |          
|--------------------- |  | ---------- |  | ---------
|Nominee               |  | For        |  | Withheld 
|Jon W. Gacek          |  | 19,468,351 |  | 1,246,028
|Richard A. Mendenhall |  | 20,693,729 |  | 20,650   
|Ian Morris            |  | 20,708,913 |  | 5,466    



Continuing directors are Robert D.
Blank and Nicolas J. Hanauer, whose terms expire in 2006, and Frank M. (Pete) Higgins and Mark S. Powell, whose terms expire in 2007.



|Item 5. | Other Information
|------- | -----------------



On June 17, 2005, Michael Nelson, our Chief Technology Officer, began a paid six month sabbatical. Mr. Nelsons duties are being assumed by Mark
Jancola, our Vice President of Technology.



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##### Table of Contents

|Item 6. | Exhibits
|------- | --------



|               |  |                                                                                                                                                                                                                                  
|-------------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit Number |  | Description of Document                                                                                                                                                                                                          
|               | 
|*10.1          |  | Description of 2005 Executive Officer Bonus Program and new compensation plan for non-employee directors (incorporated by reference to the description contained in the Companys Current
Report on Form 8-K dated May 13, 2005).
|               | 
|*10.2          |  | Description of executive officers paid sabbatical (described in Item 5 to this report).                                                                                                                                         
|               | 
|31.1           |  | Certification of Ian Morris, Chief Executive Officer of HouseValues, Inc., Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 of Item 601 of Regulation S-K.                                                   
|               | 
|31.2           |  | Certification of John Zdanowski, Chief Financial Officer of HouseValues, Inc., Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 of Item 601 of Regulation S-K.                                               
|               | 
|32.1           |  | Certification of Ian Morris, Chief Executive Officer of HouseValues, Inc. and John Zdanowski, Chief Financial Officer of HouseValues, Inc., Pursuant to 18 U.S.C. Section 1350 of Item 601 of
Regulation S-K.                    



|* | Management contract or compensatory plan
|- | ----------------------------------------



SIGNATURE



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



HOUSEVALUES, INC.By:

/s/ IAN MORRISIan MorrisAuthorized Officer and Chief Executive OfficerAugust 8, 2005




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