UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





FORM 10-Q


(Mark One)


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





For the quarterly period ended March 31, 2011


OR




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


__________________





Commission file number 000-23195





TIER TECHNOLOGIES, INC.


(Exact name of registrant as specified in its charter)





Delaware
94-3145844(State or other jurisdiction

of incorporation or organization)
(I.R.S. Employer

Identification No.)





11130 Sunrise Valley Drive, Suite 300

Reston, Virginia
20191(Address of principal executive offices)
(Zip code)




(571) 382-1000


(Registrant's telephone number, including area code)




Not applicable


(Former name, former address, and former fiscal year, if changed since last report)





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 o




Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes o No o




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




Large accelerated filer o
Accelerated filer xNon-accelerated filer o
Smaller reporting company o(Do not check if a smaller reporting company)




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




At April 30, 2011 there were 16,596,621 shares of the Registrant's Common Stock outstanding.







TIER TECHNOLOGIES, INC.


TABLE OF CONTENTS


PART I.  FINANCIAL INFORMATION
1Item 1.  Consolidated Financial Statements
1Consolidated Balance Sheets
1Consolidated Statements of Operations
2Consolidated Statements of Comprehensive Loss
3Consolidated Statements of Cash Flows
4Consolidated Supplemental Cash Flow Information
5Notes to Consolidated Financial Statements
6Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations
21Item 3.  Quantitative and Qualitative Disclosures about Market Risk
33Item 4.  Controls and Procedures
33PART II. OTHER INFORMATION
35Item 1A.  Risk Factors
35Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds
41Item 6.  Exhibits
43SIGNATURE
44EXHIBIT INDEX
45







Private Securities Litigation Reform Act Safe Harbor Statement








Statements made in this report that are not historical facts are forward-looking statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.  These forward-looking statements relate to future events or Tier’s future financial and/or operating performance and generally can be identified as such because the context of the statement includes words such as “may,” “will,” “intends,” “plans,” “believes,” “anticipates,” “expects,” “estimates,” “shows,” “predicts,” “potential,” “continue,” or “opportunity,” the negative of these words or words of similar import.  Tier undertakes no obligation to update any such forward-looking statements.  Each of these statements is made as of the date hereof based only on current information and expectations that are inherently subject to change and involve a number of risks and uncertainties.  Actual events or results may differ materially from those projected in any of such statements due to various factors, including, but not limited to: general economic conditions, which affect Tier’s financial results in all our markets, which we refer to as “verticals,” particularly the federal vertical, the state and local vertical and property tax vertical;  effectiveness and performance of our systems, payment processing platforms and operational infrastructure; our ability to grow EPS revenue while controlling our costs; the potential loss of funding by clients, including due to government budget shortfalls or revisions to mandated statutes; the timing, initiation, completion, renewal, extension or early termination of client projects; our ability to realize revenues from our business development opportunities; the impact of governmental investigations or litigation; and unanticipated claims as a result of project performance, including due to the failure of software providers or subcontractors to satisfactorily complete engagements.  For a discussion of these and other factors which may cause our actual events or results to differ from those projected, please refer to Item 1A. Risk Factors beginning on page 35 of this report.







PART I.  FINANCIAL INFORMATION




ITEM 1.  CONSOLIDATED FINANCIAL STATEMENTS


TIER TECHNOLOGIES, INC.


CONSOLIDATED BALANCE SHEETS




(in thousands)

March 31, 2011


September 30, 2010(unaudited)ASSETS:Current assets:Cash and cash equivalents

$
43,043


$
45,757Investments in marketable securities


—



8,249Restricted investments


—



1,311Accounts receivable, net


3,556



4,883Settlements receivable, net


10,774



8,356Prepaid expenses and other current assets


1,265



1,407Total current assets


58,638



69,963Property, equipment and software, net


12,409



12,032Goodwill


17,416



17,381Other intangible assets, net


5,758



7,477Restricted investments


6,000



6,000Other assets


165



172Total assets

$
100,386


$
113,025LIABILITIES AND SHAREHOLDERS’ EQUITY:Current liabilities:Accounts payable

$
286


$
1,059Settlements payable


12,770



10,716Accrued compensation liabilities


3,115



4,261Accrued discount fees


4,940



4,624Other accrued liabilities


2,553



2,718Deferred income


489



558Total current liabilities


24,153



23,936Other liabilities:Deferred rent


1,490



1,257Other liabilities


708



596Total other liabilities


2,198



1,853Total liabilities


26,351



25,789Contingencies and commitments (Note 8)Shareholders’ equity:Preferred stock, no par value; authorized shares:  4,579;

no shares issued and outstanding


—



—Common stock, $0.01 par value, and paid-in capital; shares authorized: 44,260;

shares issued: 20,772 and 20,706; shares outstanding: 16,597 and 18,170


192,948



193,620Treasury stock—at cost, 4,175 and 2,536 shares


(31,383
)


(21,020
)Accumulated other comprehensive loss


—



(1
)Accumulated deficit


(87,530
)


(85,363
)Total shareholders’ equity


74,035



87,236Total liabilities and shareholders’ equity

$
100,386


$
113,025


See Notes to Consolidated Financial Statements


1




TIER TECHNOLOGIES, INC.


CONSOLIDATED STATEMENTS OF OPERATIONS


(unaudited)





Three months ended

March 31,


Six months ended

March 31,(in thousands, except per share data)

2011


2010


2011


2010Revenues

$
30,266


$
30,674


$
63,236


$
63,442Costs and expenses:Direct costs


23,332



22,536



48,202



46,628General and administrative


4,884



6,192



10,809



12,519Selling and marketing


1,822



1,438



3,372



3,039Depreciation and amortization


1,806



1,635



3,564



3,243Total costs and expenses


31,844



31,801



65,947



65,429Loss from continuing operations before other income and income taxes


(1,578
)


(1,127
)


(2,711
)


(1,987
)Other income:Interest income, net


20



171



57



298Gain on investments


—



2



—



14Total other income


20



173



57



312Loss from continuing operations before income taxes


(1,558
)


(954
)


(2,654
)


(1,675
)I Income tax benefit


(186
)


(145
)


(185
)


(145
)Loss from continuing operations


(1,372
)


(809
)


(2,469
)


(1,530
)Gain from discontinued operations, net


300



295



302



241Net loss

$
(1,072
)

$
(514
)

$
(2,167
)

$
(1,289
)(Loss) gain per share—Basic and diluted:From continuing operations

$
(0.08
)

$
(0.04
)

$
(0.14
)

$
(0.08
)From discontinued operations


0.02



0.01



0.02



0.01(Loss) gain per share—Basic and diluted

$
(0.06
)

$
(0.03
)

$
(0.12
)

$
(0.07
)Weighted average common shares used in computing:Basic and diluted loss per share


16,928



18,151



17,577



18,154





See Notes to Consolidated Financial Statements


2





TIER TECHNOLOGIES, INC.


CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS


(unaudited)




Three months ended March 31,


Six months ended March 31,(in thousands)

2011


2010


2011


2010Net loss

$
(1,072
)

$
(514
)

$
(2,167
)

$
(1,289
)Other comprehensive (loss) income, net of tax:Unrealized (loss) gain on investment in marketable securities


—



(1
)


1



(1
)Other comprehensive (loss) income


—



(1
)


1



(1
)Comprehensive loss

$
(1,072
)

$
(515
)

$
(2,166
)

$
(1,290
)





See Notes to Consolidated Financial Statements


3





TIER TECHNOLOGIES, INC.


CONSOLIDATED STATEMENTS OF CASH FLOWS


(unaudited)


Six months ended

March 31,(in thousands)

2011


2010CASH FLOWS FROM OPERATING ACTIVITIES:Net  loss

$
(2,167
)

$
(1,289
)Less: Gain from discontinued operations, net


302



241Loss from continuing operations, net


(2,469
)


(1,530
)Non-cash items included in net loss:Depreciation and amortization


3,564



3,243Provision for doubtful accounts


192



511Deferred rent


224



165Share-based compensation


(846
)


1,079Capitalized software impairment loss


246



—Gain on trading securities


—



(14
)Other


—



(6
)Net effect of changes in assets and liabilities:Accounts and settlements receivable, net


(1,283
)


(63
)Prepaid expenses and other assets


171



(272
)Accounts and settlements payable and accrued liabilities


290



6,175Income taxes receivable


(22
)


49Deferred income


(69
)


(283
)Cash (used in) provided by operating activities from continuing operations


(2
)


9,054Cash used in operating activities from discontinued operations


(7
)


(219
)Cash (used in) provided by operating activities


(9
)


8,835CASH FLOWS FROM INVESTING ACTIVITIES:Purchases of available-for-sale securities


(5,998
)


(6,897
)Maturities of available-for-sale securities


14,576



5,998Sales of trading securities


—



5,200Maturities of restricted investments


983



—Purchase of equipment and software


(2,450
)


(2,605
)Additions to goodwill—ChoicePay acquisition


(35
)


(19
)Collection on note receivable


—



261Cash provided by investing activities from continuing operations


7,076



1,938Cash provided by investing activities from discontinued operations


309



460Cash provided by investing activities


7,385



2,398CASH FLOWS FROM FINANCING ACTIVITIES:Net proceeds from issuance of common stock


289



—Purchase of company stock


(10,363
)


(749
)Capital lease obligations and other financing arrangements


(16
)


(18
)Cash used in financing activities


(10,090
)


(767
)Net (decrease) increase in cash and cash equivalents


(2,714
)


10,466Cash and cash equivalents at beginning of period


45,757



21,969Cash and cash equivalents at end of period

$
43,043


$
32,435





4


TIER TECHNOLOGIES, INC.


CONSOLIDATED SUPPLEMENTAL CASH FLOW INFORMATION


(unaudited)





Six months ended

March 31,(in thousands)

2011


2010SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:Cash paid during the period for:Interest

$
2


$
12Income taxes paid (refunded), net

$
42


$
(34
)SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:Equipment acquired under capital lease obligations

$
18


$
—Investments released from restriction

$
327


$
—Decrease in fair value of ARS Rights

$
—


$
598Increase in fair value of trading securities

$
—


$
584Tenant improvements acquired with deferred rent credit

$
—


$
959











See Notes to Consolidated Financial Statements


5
 Tier Technologies, Inc.




NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


(unaudited)


NOTE 1—NATURE OF OPERATIONS AND BASIS OF PRESENTATION




NATURE OF OPERATIONS




Tier Technologies, Inc., or Tier, primarily provides Electronic Payment Solutions, or EPS, services which are provided by our wholly owned subsidiary Official Payments Corporation, or OPC.  We operate in the following biller direct markets:




·
Federal—which includes federal income and business tax payments;




·
State and local—which includes state and local income tax payments and business tax payments;




·
Property tax—which covers state and local real property tax;




·
Utility—which includes private and public utilities;




·
Education—which consists of services to post-secondary educational institutions; and




·
Other—which includes local government fines and fees, motor vehicle registration and payments, rent, insurance, K-12 education meal payments and fee payments, and personal property tax payments.




We also operate in one other business area called our Voice and Systems Automation, or VSA, business, which we are winding down over the next two years because the services are neither compatible with our long-term strategic direction nor complementary with businesses we have divested.  VSA provides call center interactive voice response systems and support services, which include customization, installation and maintenance.




For additional information about our EPS and Wind-down operations, see Note 9—Segment Information.




BASIS OF PRESENTATION




Our Consolidated Financial Statements were prepared in accordance with accounting principles generally accepted in the United States of America, or US GAAP, for interim financial information and in accordance with Regulation S-X, Article 10, under the Securities Exchange Act of 1934, as amended.  They are unaudited and exclude some disclosures required for annual financial statements. We reclassified historical information in the Consolidated Statement of Cash Flows to conform with the current period presentations. Within discontinued operations, we reclassified from operating activities to investing activities, the gain on disposal of discontinued operations. We believe we have made all necessary adjustments so that our Consolidated Financial Statements are presented fairly and that all such adjustments are of a normal recurring nature.




Preparing financial statements requires us to make estimates and assumptions that affect the amounts reported on our Consolidated Financial Statements and accompanying notes.  We believe that near-term changes could impact the following estimates: collectability of receivables; share-based compensation; valuation of goodwill, intangibles and investments; contingent liabilities; and effective tax rates, deferred taxes and associated valuation allowances.  Although we believe the estimates and assumptions used in preparing our Consolidated Financial Statements and related notes are reasonable in light of known facts and circumstances, actual results could differ materially.




NOTE 2—RECENT ACCOUNTING PRONOUNCEMENTS




FASB ASC 860.  In June 2009, the Financial Accounting Standards Board, or FASB, issued FASB Accounting Standards Codification, or ASC, 860, which eliminates the concept of a qualifying special-purpose entity, creates more stringent conditions for reporting a transfer of a portion of a financial asset as a sale, clarifies other sale-accounting criteria, and changes the initial measurement of a transferor’s





6
 Tier Technologies, Inc.





interest in transferred financial assets. FASB ASC 860 will be effective for transfers of financial assets in fiscal years beginning after November 15, 2009 and in interim periods within those fiscal years with earlier adoption prohibited. We adopted FASB ASC 860 effective October 1, 2010.  The adoption of this ASC had no impact on our financial position and results of operations.




FASB ASU 2010-06.  In January 2010, the FASB issued FASB Accounting Standards Update, or ASU 2010-06, which amends the disclosure requirements relating to recurring and nonrecurring fair value measurements.  New disclosures are required about transfers into and out of the levels 1 and 2 fair value hierarchy and separate disclosures about purchases, sales, issuances and settlements relating to Level 3 measurements.  This ASU also requires an entity to present information about purchases, sales, issuances and settlements for significant unobservable inputs on a gross basis rather than as a net number.  This ASU was effective for us with the reporting period beginning January 1, 2010, except for the disclosures on the roll forward activities for Level 3 fair value measurements, which will become effective for us with the reporting period beginning October 1, 2011.  The adoption of this ASU had no impact on our financial position and results of operations, as it only requires additional disclosures.




FASB ASU 2010-28.  In December 2010, the FASB issued FASB ASU 2010-28, which affects entities evaluating goodwill for impairment under FASB ASC 350-20.  ASU 2010-28, among other things, requires entities with a zero or negative carrying value to assess, considering qualitative factors, whether it is more likely than not that goodwill impairment exists.  If an entity concludes that it is more likely than not that goodwill impairment exists, the entity must perform step 2 of the goodwill impairment test.  ASU 2010-28 is effective for impairment tests performed during an entity’s fiscal year beginning after December 15, 2010, with early adoption not permitted.  We will adopt this ASU effective October 1, 2011.  We do not believe the adoption of this ASU will have a material impact on our financial position or results of operations.




NOTE 3—INVESTMENTS




At March 31, 2011, all of our investments were classified as cash and cash equivalents. We had $8.2 million of discount notes classified as available-for sale as defined by GAAP at September 30, 2010. In addition, our bank requires us to maintain a $6.0 million money market investment as a compensating balance to guarantee availability of funds for processing outgoing Automated Clearing House payments to our clients.  This money market investment is reported as Restricted investments on the Consolidated Balance Sheets.




Unrestricted investments with original maturities of 90 days or less (as of the date that we purchased the securities) are classified as cash equivalents.




The following table shows the balance sheet classification, amortized cost and estimated fair value of investments included in current investments in marketable securities:




March 31, 2011


September 30, 2010(in thousands)

Amortized cost


Unrealized gain (loss)


Estimated fair value


Amortized cost


Unrealized gain (loss)


Estimated fair valueInvestments in marketable securities:Certificates of deposit

$
—


$
—


$
—


$
50


$
—


$
50Discount notes


—



—



—



8,199



—



8,199Total marketable securities


—



—



—



8,249



—



8,249Total investments

$
—


$
—


$
—


$
8,249


$
—


$
8,249




NOTE 4—FAIR VALUE MEASUREMENTS




Fair value is defined under US GAAP as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in





7
 Tier Technologies, Inc.





an orderly transaction between market participants on the measurement date.  Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The fair value hierarchy is based on three levels of inputs that may be used to measure fair value as follows:





Level 1—
Quoted prices in active markets for identical assets or liabilities.Level 2—
Inputs other than quoted prices in active markets, that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.Level 3—
Unobservable inputs, for which there is little or no market data for the assets or liabilities.


The following table represents the fair value hierarchy for our financial assets, comprised of cash equivalents and investments, measured at fair value on a recurring basis as of March 31, 2011 and September 30, 2010.




Fair value measurements as of March 31, 2011(in thousands)

Level 1


Level 2


Level 3


TotalCash equivalents:U. S. Treasury bills

$
21,749


$
—


$
—


$
21,749Money market


992



—



—



992Restricted investments:Money market


6,000



—



—



6,000Total

$
28,741


$
—


$
—


$
28,741





Fair value measurements as of September 30, 2010(in thousands)

Level 1


Level 2


Level 3


TotalCash equivalents:U.S. Treasury bills

$
23,514


$
—


$
—


$
23,514Money market


1,932



—



—



1,932Investments in marketable securities:Discount notes


—



8,199



—



8,199Certificates of deposit


—



50



—



50Restricted investments:Money market


6,000



—



—



6,000Certificates of deposit


—



1,311



—



1,311Total

$
31,446


$
9,560


$
—


$
41,006




NOTE 5—CUSTOMER CONCENTRATION AND RISK




We derive a significant portion of our revenue from a limited number of governmental customers.  Typically, the contracts allow these customers to terminate all or part of the contract for convenience or cause.  We have one client, the Internal Revenue Service, or IRS, which is the source of more than 10% of our revenues from EPS operations.




The following table shows the revenues specific to our contract with the IRS:




Six months ended March 31,(in thousands)

2011


2010Revenue

$
8,997


$
8,000Percentage of EPS revenue


14.4
%


12.9
%


8
 Tier Technologies, Inc





Accounts receivable, net. We reported $3.6 million and $4.9 million in Accounts receivable, net on our Consolidated Balance Sheets for March 31, 2011 and September 30, 2010, respectively.  This item represents theshort-term portion of receivables from our customers and other parties and retainers that we expect to receive.  Approximately 8.0% and 19.8% of the balances reported at March 31, 2011 and September 30, 2010, respectively, represent accounts receivable, net that is attributable to operations that we intend to wind down during the course of the next two years.  The remainder of the Accounts receivable, net balance is composed of receivables from certain of our EPS customers.  None of our customers have receivables that exceed 10% of our total receivable balance.  As of March 31, 2011 and September 30, 2010, Accounts receivable, net included an allowance for uncollectible accounts of $0.5 million and $1.1 million, respectively, which represents the balance of receivables that we believe are likely to become uncollectible.




Settlements receivable, net.Asof March 31, 2011 and September 30, 2010, we reported $10.8 million and $8.4 million, respectively, in Settlements receivable, net on our Consolidated Balance Sheets, which represents amounts due from credit or debit card companies or banks.  Individuals and businesses settle their obligations to our various clients, primarily utility and other public sector clients, using credit or debit cards or via ACH payments.  We create a receivable for the amount due from the credit or debit card company or bank and an offsetting payable to the client.  Once we receive confirmation the funds have been received, we settle the obligation to the client.  See Note 8-Contingencies and Commitments for information about the settlements payable to our clients.




NOTE 6—GOODWILL AND OTHER INTANGIBLE ASSETS




GOODWILL




As a result of our acquisition of substantially all of the assets of ChoicePay, Inc. in January 2009, we may be required to pay an earn out of up to $2.0 million through December 31, 2013, based upon a percentage of the gross profits generated by specific client contracts.  Any earn out is recorded as additional goodwill associated with the asset acquisition.  As of March 31, 2011, we have paid ChoicePay approximately $118,900 for this earn-out.  We expect the remaining potential earn out will not exceed $300,000 over the remaining life of the agreement.  The following table summarizes changes in the carrying amount of goodwill during the six months ended March 31, 2011.




(in thousands)

EPS


TotalBalance at September 30, 2010

$
17,381


$
17,381ChoicePay, Inc. earn out


35



35Balance at March 31, 2011

$
17,416


$
17,416




As a general practice, we test goodwill for impairment during the fourth quarter of each fiscal year at the reporting unit level using a fair value approach.  If an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value, we would evaluate goodwill for impairment between annual tests.  One such triggering event is when there is a more-likely-than-not expectation that a reporting unit or a significant portion of a reporting unit will be sold or otherwise disposed of.  No such events occurred during the six months ended March 31, 2011.




OTHER INTANGIBLE ASSETS, NET




Currently, all of our other intangible assets are included in our Continuing Operations.  We test our other intangible assets for impairment when an event occurs or circumstances change that would more likely than not reduce the fair value of the assets below the carrying value.  No such events occurred during the six months ended March 31, 2011.  During the three months ended March 31, 2011 we evaluated the life of our client relationships acquired with the ChoicePay acquisition.  This evaluation led to the decision to shorten the life of those client relationships to ten years from sixteen.  The amortization period has been adjusted





9
 Tier Technologies, Inc





prospectively to reflect the reduction in expected life.  The following table summarizes Other intangible assets, net, for our Continuing Operations:




March 31, 2011


September 30, 2010(in thousands)
Amortization period

Gross


Accumulated amortization


Net


Gross


Accumulated amortization


NetClient relationships
8-10 years

$
26,059


$
(21,727
)

$
4,332


$
30,037


$
(24,378
)

$
5,659Technology and research and development
5 years


1,842



(983
)


859



5,618



(4,556
)


1,062Trademarks
6-10 years


3,463



(2,896
)


567



3,463



(2,707
)


756Other intangible assets, net


$
31,364


$
(25,606
)

$
5,758


$
39,118


$
(31,641
)

$
7,477




During the six months ended March 31, 2011, we recognized $1.7 million of amortization expense on our other intangible assets.




NOTE 7—INCOME TAXES




Significant components of the provision for income taxes at the consolidated level, which includes Continuing Operations and Discontinued Operations, are as follows:




Three months ended March 31,


Six months ended March 31,(in thousands)

2011


2010


2011


2010Current income tax provision:State

$
20


$
15


$
22


$
15Federal


—



—



—



—Total provision for income taxes

$
20


$
15


$
22


$
$ 15




We did not record a federal tax provision due to availability of net operating loss carryforwards.  Our effective tax rates differ from the federal statutory rate due to state income taxes, and the charge for establishing a valuation allowance on our net deferred tax assets.  Our future tax rate may vary due to a variety of factors, including, but not limited to:  the relative income contribution by tax jurisdiction; changes in statutory tax rates; changes in our valuation allowance; our ability to utilize net operating losses and any non-deductible items related to acquisitions or other nonrecurring charges.  Deferred tax assets are reduced by a valuation allowance, when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.




Generally, the amount of tax expense or benefit allocated to continuing operations is determined without regard to the tax effects of other categories of income or loss, such as discontinued operations, extraordinary items, other comprehensive income and items charged or credited to shareholders’ equity.  However, an exception to the general rule is provided when there is a pre-tax loss from continuing operations and pre-tax income from other categories in the current year.  In such instances, income from other categories must be considered in allocating the aggregate tax provision for the period among the various categories.  The intra-period tax allocation rules in ASC 740-20 related to items charged directly to other categories of income or loss can result in deferred tax assets or liabilities that remain until certain events occur.  Income tax expense related to Continuing Operations for the three and six months ended March 31, 2011 includes a benefit of $0.2 million due to the required intra-period tax allocation.  Conversely, Discontinued Operations for the three and six months ended March 31, 2011 includes a charge of $0.2 million related to a gain on disposal of discontinued operations.




10
 Tier Technologies, Inc





LIABILITIES FOR UNRECOGNIZED TAX BENEFITS




We have examined our current and past tax positions taken, and have concluded that it is more likely than not these tax positions will be sustained in the event of an examination and that there would be no material impact to our effective tax rate.  In the event interest or penalties had been accrued, our policy is to include these amounts related to unrecognized tax benefits in income tax expense.  As of March 31, 2011 we had no accrued interest or penalties related to uncertain tax positions.  We file tax returns with the IRS and in various states in which the statute of limitations may go back to the tax year ended September 30, 2006.  As of March 31, 2011, we were not engaged in a federal audit. Currently, we are in the process of providing information for a Virginia state income tax audit.




As of March 31, 2011, we had no unrecognized tax benefits.




NOTE 8-CONTINGENCIES AND COMMITMENTS




LEGAL ISSUES




From time to time during the normal course of business, we are a party to litigation and/or other claims.  At March 31, 2011, none of these matters was expected to have a material impact on our financial position, results of operations or cash flows.  At March 31, 2011 and September 30, 2010, we had legal accruals of $1.0 million and $1.0 million, respectively, based upon estimates of key legal matters.




SETTLEMENTS PAYABLE




Settlements payable on our Consolidated Balance Sheets consists of payments due primarily to utility companies and other public sector clients.  As individuals and businesses settle their obligations to our various clients, we generate a receivable from the credit or debit card company and a payable to the client.  Once we receive confirmation the funds have been received by the card company, we settle the liabilities to the client.  This process may take several business days to complete and can result in unsettled funds at the end of a reporting period.  We had $12.8 million and $10.7 million, respectively, of settlements payable at March 31, 2011 and September 30, 2010.




CREDIT RISK




We maintain our cash in bank deposit accounts and money market accounts.  Typically, the balance in a number of these accounts significantly exceeds federally insured limits.  We have not experienced any losses in such accounts and believe that any associated credit risk is de minimis.  At March 31, 2011, our investment portfolio is solely comprised of U.S. Treasury bills. Our investment portfolio and cash and cash equivalents approximate fair value.




PERFORMANCE, BID AND GUARANTEE PAYMENT BONDS




Pursuant to the terms of money transmitter licenses we obtain with individual states, we are required to provide guarantee payment bonds from a licensed surety.  At March 31, 2011, we had $9.4 million of bonds posted with 43 jurisdictions.  There were no claims pending against any of these bonds.




Under certain contracts or bids, we are required to obtain performance or bid bonds from a licensed surety and to post the performance bonds with our customers.  Fees for obtaining the bonds are expensed over the life of each bond.  At March 31, 2011, we had $6.1 million of bonds posted with clients.  There were no claims pending against any of these bonds.




In February 2009, we completed the sale of our Unemployment Insurance, or UI, business to RKV Technologies, Inc., or RKV.  The sale was completed pursuant to an Asset Purchase Agreement dated February 6, 2009.  As part of the agreement, we are required to leave in place a $2.4 million performance bond on the continuing contract with the State of Indiana, or the State.  Subsequent to the sale of the UI business to RKV, the prime contractor, Haverstick Corporation, or Haverstick, the State, and RKV determined that the contract completion will be delayed and additional funding is needed to complete the contract.  In November 2009 Haverstick cancelled its contract with RKV and directly rehired various RKV


11
 Tier Technologies, Inc





resources and RKV contractors. We retain certain liabilities for completion of the project and continue as the indemnitor under the performance bond. The project is scheduled to be completed in September 2011 and mediation will take place after that to discuss the cost of project completion.




Since the sale of the UI business in February 2009, we have had limited access to information about the project status and scope and have not received an accounting of the additional project tasks and their related costs to complete the contract.  In 2009, we offered $420,000 as a contribution towards project completion.  The parties involved could not come to an agreement, so we remain a party to the contract.




EMPLOYMENT AGREEMENTS




As of March 31, 2011, we had employment and change of control agreements with five executives.  If certain termination or change of control events were to occur under the five contracts as of March 31, 2011, we would have been required to pay up to $3.2 million.  We are also obligated to reimburse two of our executives for expenses incurred in moving their immediate family from their respective homes to the Reston area.  Under these obligations, we could be required to pay up to $130,000.




In March 2011, we accrued $0.3 million of severance expense associated with the departure on March 3, 2011, of our former CFO, in accordance with the Employment Agreement signed on July 1, 2008, amendment signed on August 31, 2010 and the Severance Agreement and Release of Claims dated March 4, 2011.  Pursuant to the terms of the employment agreement, the severance will be paid in September 2011. This accrual is included in Accrued compensation liabilities on our Consolidated Balance Sheets.




During the three months ended December 31, 2010, we paid $1.2 million to a former executive pursuant to the terms of the Employment Agreement and the Separation Agreement and Release executed by the former executive.  The severance payment was accrued in June 2010.




In February 2011, we paid $0.3 million to our former COO in accordance with the Employment Agreement signed on October 1, 2008 and the Severance Agreement and Release of Claims dated August 17, 2010.  The severance payment was accrued in August 2010.




In December 2008, the Compensation Committee of our Board of Directors adopted the Tier Technologies, Inc. Executive Performance Stock Unit Plan, or the PSU Plan.  Executives selected by our chief executive officer are eligible to participate.  Under the PSU Plan, up to 800,000 Performance Stock Units, or PSUs, have been approved for issuance.  As of March 31, 2011, we may award up to 225,000 PSUs to key executives.  The PSUs will be awarded upon the achievement and maintenance for a period of 60 days of specific share performance targets of $8.00, $9.50, $11.00, and $13.00 per share.  We intend to pay the PSUs in cash in the pay period in which the PSUs become fully vested.  The PSUs are considered liability awards under US GAAP.  As such, their expense is calculated quarterly based on fair market value on the last day of the quarterly period.  Since we cannot estimate the fair market value of future dates, we are unable to estimate the expense that will be recognized over the remaining life of these PSUs.  See Note 10—Share-based Payment for additional information regarding the valuation of the PSUs.




OPERATING AND CAPITAL LEASE OBLIGATIONS




We lease our principal facilities and certain equipment under non-cancelable operating and capital leases, which expire at various dates through fiscal year 2018.  Future minimum lease payments for non-cancelable leases with terms of one year or more as of March 31, 2011 are as follows:





12
 Tier Technologies, Inc


(in thousands)

Operating leases


Capital

Leases (1)(2)


TotalTwelve months ending March 31,2012

$
767


$
36


$
8032013


801



35



8362014


823



8



8312015


844



3



8472016


738







738Thereafter


1,528



—



1,528Total minimum lease payments

$
5,501


$
82


$
5,583





(1)
On our Consolidated Balance Sheets, the amount due within twelve months is included in Other accrued liabilities.  The remainder is included in Other liabilities.(2)
Total amount includes interest payments of $4.




INDEMNIFICATION AGREEMENTS




Our Certificate of Incorporation obligates us to indemnify our directors and officers against all expenses, judgments, fines and amounts paid in settlement for which such persons become liable as a result of acting in any capacity on behalf of Tier, if the director or officer met the standard of conduct specified in the Certificate, and subject to the limitations specified in the Certificate.  In addition, we have indemnification agreements with certain of our directors and officers, which supplement the indemnification obligations in our Certificate.  These agreements generally obligate us to indemnify the indemnitees against expenses incurred because of their status as a director or officer, if the indemnitee met the standard of conduct specified in the agreement, and subject to the limitations specified in the agreement.




NOTE 9—SEGMENT INFORMATION




Our business consists of three reportable segments: Electronic Payment Solutions, or EPS, Wind-down and Discontinued Operations.  Our Discontinued Operations includes portions of our former GBPO and PSSI operations that have been sold.  Information regarding our Discontinued Operations can be found in Note 11—Discontinued Operations.




The following table presents the results of operations for our EPS operations and our Wind-down operations for the three and six months ended March 31, 2011 and 2010.




13
 Tier Technologies, Inc





(in thousands)

EPS


Wind-

down


TotalThree months ended March 31, 2011:Revenues

$
29,904


$
362


$
30,266Costs and expenses:Direct costs


23,266



66



23,332General and administrative


4,871



13



4,884Selling and marketing


1,822



—



1,822Depreciation and amortization


1,806



—



1,806Total costs and expenses


31,765



79



31,844(Loss) income from continuing operations before other income and income taxes


(1,861
)


283



(1,578
)Other income:Interest income, net


20



—



20Total other income


20



—



20(Loss) income from continuing operations before taxes


(1,841
)


283



(1,558
)Income tax benefit


(186
)


—



(186
)(Loss) income from continuing operations

$
(1,655
)

$
283


$
(1,372
)






(in thousands)

EPS


Wind-

down


TotalThree months ended March 31, 2010:Revenues

$
29,985


$
689


$
30,674Costs and expenses:Direct costs


22,223



313



22,536General and administrative


6,092



100



6,192Selling and marketing


1,438



—



1,438Depreciation and amortization


1,329



306



1,635Total costs and expenses


31,082



719



31,801Loss from continuing operations before other income and income taxes


(1,097
)


(30
)


(1,127
)Other income:Interest income, net


171



—



171Gain on investments


2



—



2Total other income


173



—



173Loss from continuing operations before taxes


(924
)


(30
)


(954
)Income tax benefit


(145
)


—



(145
)Loss from continuing operations

$
(779
)

$
(30
)

$
(809
)







14
 Tier Technologies, Inc





(in thousands)

EPS


Wind-

down


TotalSix months ended March 31, 2011:Revenues

$
62,381


$
855


$
63,236Costs and expenses:Direct costs


48,083



119



48,202General and administrative


10,809



—



10,809Selling and marketing


3,372



—



3,372Depreciation and amortization


3,564



—



3,564Total costs and expenses


65,828



119



65,947(Loss) income from continuing operations before other income and income taxes


(3,447
)


736



(2,711
)Other income:Interest income, net


57



—



57Total other income


57



—



57(Loss) income from continuing operations before taxes


(3,390
)


736



(2,654
)Income tax benefit


(185
)


—



(185
)(Loss) income from continuing operations

$
(3,205
)

$
736


$
(2,469
)









(in thousands)

EPS


Wind-

down


TotalSix months ended March 31, 2010:Revenues

$
61,905


$
1,537


$
63,442Costs and expenses:Direct costs


46,055



573



46,628General and administrative


12,313



206



12,519Selling and marketing


3,039



—



3,039Depreciation and amortization


2,664



579



3,243Total costs and expenses


64,071



1,358



65,429(Loss) income from continuing operations before other income and income taxes


(2,166
)


179



(1,987
)Other income:Interest income, net


298



—



298Gain on investments


14



—



14Total other income


312



—



312(Loss) income from continuing operations before taxes


(1,854
)


179



(1,675
)Income tax benefit


(145
)


—



(145
)(Loss) income from continuing operations

$
(1,709
)

$
179


$
(1,530
)






Our total assets for each of these businesses are shown in the following table:




(in thousands)

March 31, 2011


September 30, 2010Continuing operations:EPS

$
100,079


$
112,368Wind-down


307



657Total assets

$
100,386


$
113,025




15
 Tier Technologies, Inc





NOTE 10—SHARE-BASED PAYMENT




Stock options are issued under the Amended and Restated 2004 Stock Incentive Plan, or the Plan.  The Plan provides our Board of Directors discretion in creating employee equity incentives, including incentive and non-statutory stock options.  Generally, these options vest as to 20% of the underlying shares each year on the anniversary of the date granted and expire in ten years.  At March 31, 2011, there were 1,858,703 shares of common stock available for future issuance under the Plan.




STOCK OPTIONS—AMENDED AND RESTATED 2004 STOCK INCENTIVE PLAN




The following table shows the weighted-average assumptions we used to calculate fair value of share-based options using the Black-Scholes model, as well as the weighted-average fair value of options granted and the weighted-average intrinsic value of options exercised.  We granted 80,000 during the three months ended March 31, 2011 and over the six months ended we awarded 280,000 options from the Plan.




Three months ended

March 31,


Six months ended

March 31,2011


2010


2011


2010Weighted-average assumptions used in Black-Scholes model:Expected period that options will be outstanding (in years)


5.00



—



5.00



—Interest rate (based on U.S. Treasury yields at time of grant)


2.39
%


—
%


1.52
%


—
%Volatility


46.65
%


—
%


46.89
%


—
%Dividend yield


—



—



—



—Weighted-average fair value of options granted

$
2.48


$
—


$
2.41


$
—Weighted-average intrinsic value of options exercised (in thousands)

$
1


$
—


$
83


$
—




Expected volatilities are based on historical volatility of our stock.  In addition, we used historical data to estimate option exercise and employee termination within the valuation model.




STOCK OPTIONS—INDUCEMENT GRANT


On August 16, 2010, we granted 100,000 options to our current CEO as an inducement grant outside of the Plan.  These options vest as to 25% of the original number of shares on the first anniversary of the grant date and as to an additional 1/48th of the original number of shares on the same date in each succeeding month following the first anniversary of the grant date until the fourth anniversary of the grant date.




STOCK OPTIONS





Stock option activity for all option grants for the six months ended March 31, 2011 is as follows:




Weighted-average(in thousands, except per share data)

Shares under option


Exercise price

Remaining contractual term

Aggregate intrinsic valueOptions outstanding at October 1, 2010


2,453


$
7.43Granted


280



5.71Exercised


(66
)


4.38Forfeitures or expirations


(299
)


7.20Options outstanding at March 31, 2011


2,368


$
7.34

6.97 years

$
267Options vested and expected to vest at March 31, 2011


2,020


$
7.40

6.79 years

$
206Options exercisable at March 31, 2011


1,336


$
8.10

5.68 years

$
84




Stock-based compensation expense for all stock-based compensation awards granted was based on the grant-date fair value using the Black-Scholes model.  We recognize compensation expense for stock option awards on a ratable basis over the requisite service period of the award. Stock-based


16
 Tier Technologies, Inc





compensation expense was $0.2 million for the three months ended March 31, 2011 and 2010 and $0.4 million for the six months ended March 31, 2011 and 2010.




As of March 31, 2011 a total of $1.8 million of unrecognized compensation cost related to stock options, net of estimated forfeitures, was expected to be recognized over a 2.99 year weighted-average period.




RESTRICTED STOCK UNITS




The 700,000 restricted stock units awarded to our former CEO contained a price target and a service condition to vest. Due to the departure of the former CEO in June 2010, the service condition was not met. However, pursuant to his separation agreement, if the target was achieved by March 26, 2011, the RSUs would vest. The price target was not attained; therefore the RSUs did not vest. US GAAP allows us to reverse the expense recognized on an award in which the service condition was not met. In March 2011, we reversed $1.5 million in expense related to these RSUs.




BOARD OF DIRECTOR RESTRICTED STOCK UNITS




In accordance with our Board compensation package, our non-employee Board members are awarded 9,000 restricted stock units upon their election to our Board at our annual meeting.  The following awards have been made:




Total restricted stock units awarded

Vesting date2009 annual meeting


72,000

March 20, 20122010 annual meeting


54,000

May 11, 2011




The amount payable to each member at the vesting date will be the equivalent of 9,000 restricted stock units multiplied by the closing price of our stock on the vesting date.  During February 2010 we entered into an agreement in which two of our board members not standing for re-election at our 2010 annual meeting of stockholders were each entitled to the accelerated vesting on April 8, 2010 of the restricted stock units that they were awarded in March 2009.




The following table provides information on the expense related to the restricted stock unit awards to the Board of Directors:




(in thousands)

2010 annual meeting


2009 annual meetingExpense recognized for the quarter ended March 31, 2011

$
57


$
9Expense recognized through March 31, 2011

$
272


$
477
(a)Estimated expense to be recognized through vesting date

(b)


(b)





(a)
This amount includes the $0.1 million recognized related to the acceleration for the two board members not standing for re-election at our 2010 annual meeting.(b)
Liability awards are revalued at the end of every quarter based on the closing price of our stock on the last day of the quarter.  We are unable to estimate the expense expected to be recognized for these awards.




PERFORMANCE STOCK UNITS




In December 2008, upon recommendation of the Compensation Committee, our Board of Directors adopted the Tier Technologies, Inc. Executive Performance Stock Unit Plan, or the PSU Plan.  Executives selected by our Chief Executive Officer are eligible to participate.  Under the PSU Plan, up to 800,000 Performance Stock Units, or PSUs, have been approved for issuance.  The PSUs will be awarded upon the achievement and maintenance for a period of 60 days of specific share performance targets of $8.00, $9.50, $11.00, and $13.00 per share.  We intend to pay the PSUs in cash in the pay period in which the PSUs become fully vested.  The executives will receive a cash payment equal to (x)


17
 Tier Technologies, Inc





the price of a share of our common stock as of the close of market on the date of vesting, but not more than $15.00, multiplied by (y) the number of PSUs that have been awarded to the executive.




As of March 31, 2011, we may award up to 225,000 PSUs under the PSU Plan.  At March 31, 2011, these PSUs are recorded at their fair value of $0.1 million, as Other liabilities on our Consolidated Balance Sheets.  We used a Monte Carlo simulation option pricing model to estimate the fair value using the following assumptions:




Payable in cashWeighted-average assumptions used in Monte Carlo simulation:Original period over which units will vest (in years)


3.00Remaining period that units will be outstanding (in years)


0.68Interest rate (based on U.S. Treasury yield)


0.22
%Volatility


47.88
%Dividend yield


—Weighted-average fair value of PSUs granted

$
0.32




The following table provides information on the expense related to the performance stock unit awards:




(in thousands)

Liability AwardExpense recognized for the quarter ended March 31, 2011

$
(139
)Expense recognized through March 31, 2011

$
53Estimated expense to be recognized through December 2011

(a)





(a)
Liability awards are revalued at the end of every quarter based on the closing price of our stock on the last day of the quarter and other assumptions noted above as used in the Monte Carlo simulation.  We are unable to estimate the expense expected to be recognized for these awards.




NOTE 11—DISCONTINUED OPERATIONS




SUMMARY OF REVENUE AND (LOSS)/INCOME FROM DISCONTINUED OPERATIONS




Except for minor transitional activities, we do not have any ongoing involvement or cash flows from former GBPO and PSSI businesses that we divested during fiscal 2008 and fiscal 2009.  The following table summarizes our revenue and pre-tax income, prior to any gain/(loss) on sale, and net loss from discontinued operations generated by these operations for the three and six months ended March 31, 2011 and 2010.




Three months ended March 31,


Six months ended March 31,(in thousands)

2011


2010


2011


2010Revenues (Discontinued operations):GBPO

$
—


$
—


$
—


$
—PSSI


—



—



—



—Total revenues

$
—


$
—


$
—


$
—Income (loss) from discontinued operations:GBPO

$
—


$
—


$
—


$
—PSSI


2



(165
)


(7
)


(219
)Income (loss) before taxes


2



(165
)


(7
)


(219
)Gain on disposal (net of taxes):GBPO


298



450



298



450PSSI


—



10



11



10Net income from discontinued operations

$
300


$
295


$
302


$
241




18
 Tier Technologies, Inc





NOTE 12—LOSS PER SHARE




The following table sets forth the computation of basic and diluted loss per share:




Three months ended March 31,


Six months ended March 31,(in thousands, except per share data)

2011


2010


2011


2010Numerator:

(Loss) income from:Continuing operations, net of income taxes

$
(1,372
)

$
(809
)

$
(2,469
)

$
(1,530
)Discontinued operations, net of income taxes


300



295



302



241Net loss

$
(1,072
)

$
(514
)

$
(2,167
)

$
(1,289
)Denominator:Weighted-average common shares outstanding


16,928



18,151



17,577



18,154Effects of dilutive common stock options


—



—



—



—Adjusted weighted-average shares


16,928



18,151



17,577



18,154(Loss) earnings per basic and diluted shareFrom continuing operations

$
(0.08
)

$
(0.04
)

$
(0.14
)

$
(0.08
)From discontinued operations


0.02



0.01



0.02



0.01Loss per basic and diluted share

$
(0.06
)

$
(0.03
)

$
(0.12
)

$
(0.07
)




The following options were not included in the computation of diluted loss per share because the exercise price was greater than the average market price of our common stock for the periods stated and, therefore, the effect would be anti-dilutive:




Three months ended March 31,


Six months ended March 31,(in thousands)

2011


2010


2011


2010Weighted-average options excluded from computation of diluted loss per share


1,254



1,217



1,534



1,001




Due to net losses from Continuing Operations, the following common stock equivalents were excluded from the calculation of diluted loss per share since their effect would have been anti-dilutive:




Three months ended

March 31,


Six months ended

March 31,(in thousands)

2011


2010


2011


2010Common stock equivalents excluded from computation of diluted loss per share


39



540



31



565




NOTE 13—SHAREHOLDERS’ EQUITY




COMMON STOCK REPURCHASE PROGRAM




On November 11, 2010, our Board of Directors, or the Board, terminated the stock repurchase plan which allowed us to repurchase up to $20.0 million of our common stock in the open market.  Under this plan we purchased 1,651,898 shares of our common stock for $12.3 million.





19
 Tier Technologies, Inc




TENDER OFFER




On November 11, 2010, the Board authorized Tier to commence a cash tender offer to purchase up to an aggregate of $10.0 million in value of our common stock. On December 17, 2010, we commenced a tender offer to purchase up to $10.0 million in value of our common stock at a price within (and including) the range of $5.80 per share to $6.20 per share.




The tender offer expired on January 20, 2011. As a result of the tender offer, we accepted for payment on January 20, 2011, and have repurchased 1,639,344 shares of our common stock for a price of $6.10 per share, for a total cost of approximately $10.0 million, excluding fees and expenses related to the offer.




NOTE 14—SUBSEQUENT EVENTS




We have reviewed our business activities through May 9, 2011, the issue date of our financial statements, and have no subsequent events to report.


20
 Tier Technologies, Inc




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




This Management’s Discussion and Analysis of Financial Condition and Results of Operations includes forward-looking statements.  We have based these forward-looking statements on our current plans, expectations and beliefs about future events.  Our actual performance could differ materially from the expectations and beliefs reflected in the forward-looking statements in this section and throughout this report, as a result of the risks, uncertainties and assumptions discussed under Item 1A.  Risk Factors of this Quarterly Report on Form 10-Q and other factors discussed in this section.  For more information regarding what constitutes a forward-looking statement, refer to the Private Securities Litigation Reform Act Safe Harbor Statement on page i.




The following discussion and analysis is intended to help the reader understand the results of operations and financial condition of Tier Technologies, Inc. This discussion and analysis is provided as a supplement to, and should be read in conjunction with, our financial statements and the accompanying notes to the financial statements.




OVERVIEW




Tier Technologies, Inc., or Tier, is a leading provider of biller direct electronic payment solutions.  These solutions provide processing for Web, call center and point-of-sale environments.  We partner and connect with a host of payment processors and other payment service providers to offer our clients a single source solution that simplifies electronic payment management.  Our solutions include multiple payment options, including bill presentment, convenience payments, installment payments and flexible payment scheduling.  Our solutions offer our clients a range of online payment options, including credit and debit cards, electronic checks, cash and money orders, and alternative payment types.




SUMMARY OF OPERATING RESULTS




The following table provides a summary of our operating results by segment for the three and six months ended March 31, 2011, for our Continuing Operations, which consists of Electronic Payment Solutions, or EPS, operations, and Wind-down operations and our Discontinued Operations:




Three months ended

March 31, 2011


Six months ended

March 31, 2011(in thousands, except per share)

Net (loss) income


(Loss) earnings per share


Net (loss) income


(Loss) earnings per shareContinuing Operations:EPS

$
(1,655
)

$
(0.10
)

$
(3,205
)

$
(0.18
)Wind-down


283



0.02



736



0.04Total Continuing Operations

$
(1,372
)

$
(0.08
)

$
(2,469
)

$
(0.14
)Total Discontinued Operations

$
300


$
0.02


$
302


$
0.02Net loss

$
(1,072
)

$
(0.06
)

$
(2,167
)

$
(0.12
)




Our Continuing Operations consists of our Electronic Payment Solutions, or EPS, operations, and certain operations we intend to wind down over the next two years.  Revenues from EPS were $29.9 million and $62.4 million for the three and six months ended March 31, 2011, respectively, a decrease of 0.3% and an increase of 0.8% from the three and six months ended March 31, 2010.  For the three months ended March 31, 2011, transaction volume increased 7.9% and total dollars processed increased 5.9% over the same period last year.  For the six months ended March 31, 2011, transaction volume increased 9.4%


21
 Tier Technologies, Inc





and total dollars processed increased 5.0% when compared with the same period last year.  Our EPS operations reported a net loss of $1.7 million for the three months ended March 31, 2011 and $3.2 million for the six months ended March 31, 2011.  The increase in interchange fees, primarily due to shifts in payment type related to the loss of several large utility clients, an increase in discount fees charged by one of the payment networks, and the seasonality of our business, as discussed below, have been the significant contributors to the net loss for the three and six months ended March 31, 2011. We have successfully streamlined our costs to support our Wind-down operations, while still effectively managing our ongoing contracts, which have resulted in reported net income from Wind-down operations of $0.3 million and $0.7 million for the three and six months ended March 31, 2011.




SEASONALITY OF BUSINESS




In many of our verticals transaction and payment volume can vary resulting from due dates of obligations from consumers or constituents.  For example, our transaction and payment volume are typically higher in our fiscal third quarter, which includes the April U.S. federal tax season, and typically lower in our fiscal fourth quarter.  The fluctuation in our transaction and payment volume causes fluctuations in our revenues and direct costs.  However, our general and administrative and selling and marketing expenses are more fixed in nature.  This type of revenue and cost structure can lead to losses in a quarter with slower transaction and payment volume.




STRATEGY AND GOALS FOR 2011




After a strategic review of our business under the leadership of our new management team, the company expects to focus on four key areas during this fiscal year and for the foreseeable future:




·
Making reliability a reality




·
Going where the payments are




·
Funding the future




·
Working together




Making reliability a reality:  As a result of a number of acquisitions, including Official Payments Corporation (OPC), EPOS Corporation and most recently, ChoicePay, Inc., we operate our business on multiple technology platforms.  In 2009, we made the decision to consolidate our operations onto a single technology platform over time.  The goals of the consolidation were to facilitate our ability to develop, sell and implement new and enhanced product offerings, improve margins by spreading fixed platform costs over a growing number of transactions, simplify our operations and reporting structure and make it easier to integrate potential future acquisitions. As we stated in August, 2010, while we have made some progress in the consolidation efforts, we have found that completion of the development of a consolidated platform and the migration of our approximately 4,000 biller direct customers to that platform would take longer than originally anticipated.  Our original plan was to complete development during calendar year 2010 and complete customer migration in calendar year 2011.  We are continuing to evaluate the platform consolidation.  At this time, we have postponed all migration plans for current customers. Our immediate focus is to strengthen our present platforms and make the necessary investments to provide competitive products on each of our existing platforms. Where possible, we are developing these products as self-contained, reusable components, which could be used with multiple clients and platforms.  Previously, we had delayed product rollout so that products could be made available on the consolidated platform.  During the first half of fiscal year 2011, our technology efforts focused principally on (1) increasing platform stability by improving the platforms’ availability and reliability, (2) security and compliance, (3) retention of existing clients, by increasing the products and features to clients, and (4) ongoing progress in our infrastructure initiatives.  We anticipate reviewing our plans for our platforms in the second half of fiscal 2011.




Going where the payments are:   We have increased our focus on understanding the dynamics of our markets so that our market strategies and product offerings better meet the evolving needs of the market.





22
 Tier Technologies, Inc





We continue to broaden our product offerings in line with the evolving needs of our customers.  We have expanded our payment channels to include the Web; automated interactive voice response (IVR); agent based call centers and point-of-sale environments.  We offer our billers a technology platform designed expressly for the biller direct market with a single source solution that simplifies the management of electronic payments.  We offer bill-payers a range of payment choices including credit and debit cards, electronic checks (ACH), cash and money orders.  We are beginning to implement emerging payment methods such as Green Dot MoneyPak and Bill Me Later. By utilizing our solutions, clients can reduce the time and expense devoted to management of their payment technology and compliance with PCI-DSS and other industry standards.  We have started an ongoing upgrade of our strategic information systems to allow us to establish direct relationships with end-users of our services allowing us to grow transactions across multiple verticals and deepen the strength of our primary brand, Official Payments.  We expect to explore strategic partnerships and potential acquisitions that would allow us to penetrate new markets and increase our share in existing vertical markets.  During fiscal 2011, we expect to review our costs and seek more efficient means of delivering services to our clients while expanding our product offerings to increase our market share.  We will continue to focus increased resources and marketing programs on our core verticals to reinforce our market position.  As a result of our continued growth, we provide services to billers and their customers in all 50 states and the District of Columbia.




Funding the future:  Having completed the divestiture of business units that were not profitable or not in line with our strategic focus on the biller direct market, we have aggressively worked to reduce our sales, marketing, general and administrative, or SG&A, costs over the last several years.  This has involved substantial headcount reductions and facilities consolidations including the consolidation of our data centers, which is in progress.  We are working to achieve profitability by growing revenues while managing our SG&A expenses and our direct costs, which are primarily the interchange fees, payment processing fees, banking fees and dues and assessments we pay the payment networks.  In fiscal 2011, we will continue to work to improve our margins by seeking better rates from the payment networks and our payment processors, adding lower cost processors and incenting our billers and their customers to use payment options and channels which offer better margins.




Working together:  In the last quarter of fiscal 2010, the Board appointed Alex P. Hart to the position of President and Chief Executive Officer.  In November 2010, Atul Garg joined us as Senior Vice President, Product Management.  In March 2011, we announced the appointment of Sandip Mohapatra as Chief Technology Officer.  In March 2011, we also announced that our CFO had resigned and that we were seeking a CFO with payments industry experience.  In May we appointed a new SVP of sales.  We have promoted several individuals in the organization to new responsibilities in sales, operations, development, implementations, information technology and human resources.  On an ongoing basis, we expect to reevaluate our people and organizational structure, with the goal of ensuring that we have the right people to meet the needs of our clients and their customers in an efficient and effective manner.






RESULTS OF OPERATIONS




The following table provides an overview of our results of operations for the three months and six ended March 31, 2011 and 2010:




23
 Tier Technologies, Inc





Three months ended


VarianceMarch 31,


2011 vs. 2010(in thousands, except percentages)

2011


2010


$



%Revenues

$
30,266


$
30,674


$
(408
)


(1.3
)%Costs and expenses


31,844



31,801



43



0.1
%Loss from continuing operations before other income and income taxes


(1,578
)


(1,127
)


(451
)


(40.0
)%Other income


20



173



(153
)


(88.4
)%Loss from continuing operations before income taxes


(1,558
)


(954
)


(604
)


(63.3
)%Income tax benefit


186



145



41



28.3
%Loss from continuing operations


(1,372
)


(809
)


(563
)


(69.6
)%Income from discontinued operations, net


300



295



5



1.7
%Net loss

$
(1,072
)

$
(514
)

$
(558
)


(108.6
)%







Six months ended


VarianceMarch 31,


2011 vs. 2010(in thousands, except percentages)

2011


2010


$



%Revenues

$
63,236


$
63,442


$
(206
)


(0.3
)%Costs and expenses


65,947



65,429



518



0.8
%Loss from continuing operations before other income and income taxes


(2,711
)


(1,987
)


(724
)


(36.4
)%Other income


57



312



(255
)


(81.7
)%Loss from continuing operations before income taxes


(2,654
)


(1,675
)


(979
)


(58.4
)%Income tax benefit


185



145



40



27.6
%Loss from continuing operations


(2,469
)


(1,530
)


(939
)


(61.4
)%Income from discontinued operations, net


302



241



61



25.3
%Net loss

$
(2,167
)

$
(1,289
)

$
(878
)


(68.1
)%




The following sections describe the reasons for key variances in the results that we are reporting for Continuing Operations.




CONTINUING OPERATIONS




The Continuing Operations section of our Consolidated Statements of Operations includes the results of operations of our core EPS operations and our Wind-down operations.  The following is an analysis of the variances in these financial results.




Revenues (Continuing Operations)




The following table compares the revenues generated by our Continuing Operations during the three and six months ended March 31, 2011 and 2010:




24
 Tier Technologies, Inc




Three months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%RevenuesEPS

$
29,904


$
29,985


$
(81
)


(0.3
)%Wind-down


362



689



(327
)


(47.5
)%Total

$
30,266


$
30,674


$
(408
)


(1.3
)%







Six months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%RevenuesEPS

$
62,381


$
61,905


$
476



0.8
%Wind-down


855



1,537



(682
)


(44.4
)%Total

$
63,236


$
63,442


$
(206
)


(0.3
)%




The following sections discuss the key factors that caused these revenue changes from our Continuing Operations.




EPS Revenues:  EPS provides electronic processing solutions, including payment of taxes, fees and other obligations owed to government entities, educational institutions, utilities and other public sector clients.  EPS’s revenues reflect the number of contracts with clients, the volume of transactions processed under each contract and the rates that we charge for each transaction that we process.




EPS generated $29.9 million of revenues during the three months ended March 31, 2011, a $0.1 million, or 0.3%, decrease over the three months ended March 31, 2010.  During the three months ended March 31, 2011, we processed 7.9% more transactions than we did in the same period last year, representing 5.9% more dollars.  The lower growth in dollars processed, as compared with growth in transactions, is due primarily to the success of our stated strategic intent to develop new verticals to diversify the business.  A significant amount of the new transactions were from verticals with lower average dollar size per transaction.  For example, average utility payments per transaction are lower than average payments in our established property tax and income tax businesses and generate more transactions per year.  The economic environment has also caused average payment size to decline.  Our Federal, Property Tax and Utilities verticals experienced decreases in revenue during the three months ended March 31, 2011 when compared to the same period in the prior year, which contributed to the 0.3% revenue decrease.  The reduction in revenues for these verticals is primarily driven by the decrease in average payment size, and in the case of our Utilities vertical, by a decrease in the number of transactions processed.  During the three months ended March 31, 2011, our Utilities vertical incurred a 12.2% decrease in transactions processed, primarily due to the absence of transactions from the large utility clients we acquired from ChoicePay.  Most of our verticals experienced an increase in transactions processed during the three months ended March 31, 2011 compared to the same period last year, ranging from 7.0% to 48.8%.  In addition we are seeing improvements in revenue, transactions and dollars processed in the businesses on which we have focused, such as our municipal utilities, government agencies and higher education clients.  During the three months ended March 31, 2011, we added 353 new payment types.




EPS generated $62.4 million of revenues during the six months ended March 31, 2011, a $0.5 million, or 0.8%, increase over the six months ended March 31, 2010.  During the six months ended March 31, 2011, we processed 9.4% more transactions than we did in the same period last year, representing 5.0% more dollars.  See the prior paragraph for a discussion on growth in dollars processed compared to transactions, as well as average payment size.  Most of our verticals experienced an increase in transactions processed during the six months ended March 31, 2011 compared to the same period last year, ranging from 6.6% to 61.2%.  However, our Utilities vertical incurred a 12.4% decrease in transactions processed for the six





25
 Tier Technologies, Inc





months ended March 31, 2011 when compared to the same period in the prior year, again due to a decrease in transactions for large utilities.  During the six months ended March 31, 2011, we added 477 new payment types.  We currently offer over 9,400 payment types.




The Federal vertical is composed primarily of two components:  (1) a partnership with an online tax filing service and (2) our contract with the IRS, which we traditionally implement through our primary brand, Official Payments.  This year, we added our fighter brand, ChoicePay, in the Federal vertical. Both components faced new competitive pressures this tax season.  Our partnership with the online tax filing service, which had been exclusive to us is now in its second year of reduced volume as another payments services company has the primary position.  Our contract with the IRS continues in its second year in which there are three providers of electronic payment services instead of two and we are listed in position three this year on the IRS website.  Our transactions processed through the IRS contract for this tax season, which started January 1, 2011, have increased more than 20 percent through the end of the second quarter of fiscal 2011, as compared with the same period in 2010.  This increase in transactions was offset by a decrease in average payment size continuing the lower average payment trend from last year.




Our gross margin from Continuing Operations (which we calculate by subtracting (i) direct costs for Continuing Operations from (ii) revenue from Continuing Operations) and gross margin percentage (which we calculate by dividing (i) gross margin from Continuing Operations by (ii) revenue from Continuing Operations) depend on four principal factors: revenue, cost, the number of transactions processed, and the mix of transactions among verticals.




·
Our revenue from a transaction depends on whether we receive a flat fee for the transaction, or whether our revenue is equal to a percentage of the amount paid, and the amount of the fee or the percentage.  Whether we receive a flat fee or a percentage, and the amount of these, depends on many competitive considerations, including regulations of payment networks, the competition we face, and the level of service that we provide.  If our revenue is equal to a percentage of the amount paid, then revenue will also be affected by all the factors that cause payment amounts to differ.




·
Our direct cost for a transaction depends principally on how the payment is made.  It costs us more to process certain types of transactions and less to process other types of transactions.  We discuss our EPS direct costs in more detail below.




·
The number of transactions we process and the mix of transactions among verticals are influenced by many considerations, including bill-payers’ preferences for electronic forms of payment; the shift among federal, state, and local governments, educational institutions, and private entities to electronic payment options; the success of our sales and marketing effort; and the attractiveness of our products and services, among other things.




Each of these factors is subject to change, and some changes in the composition of our business affect more than one of these factors.  As a result of these changes, our gross margin from Continuing Operations and our gross margin percentage may change at different rates from each other.




We experienced an increase in transactions processed from the first half of fiscal year 2010 to the first half of fiscal year 2011 but remain concerned about the impact of declining average payment amounts.  Lower average payment amounts, continued attrition in the large utility segment, and the challenges associated with developing, selling, and implementing new products in the current economic environment are tempering our confidence in our ability to increase our revenue for the full fiscal year.  The addition of a new CFO and an SVP of Sales should improve our ability to plan, forecast, and deliver increased sales in the second half of the fiscal year.




Wind-down Revenues:  During the three months ended March 31, 2011, our Wind-down operations generated $0.4 million in revenues, a $0.3 million, or 47.5%, decrease from the three months ended March 31, 2010.  During the six months ended March 31, 2011, Wind-down generated $0.9 million in revenues, a $0.7 million, or 44.4%, decrease from the six months ended March 31, 2010.  Completion of





26
 Tier Technologies, Inc





several maintenance contracts within our Voice and Systems Automation, or VSA, business contributed to the decreases.  We expect to continue to see decreases in Wind-down revenues as we continue to complete and wind down existing maintenance projects over the next two years.




Direct Costs (Continuing Operations)




Direct costs, which represent costs directly attributable to providing services to clients, consist predominantly of discount fees.  Discount fees include payment card interchange fees and assessments payable to the banks as well as payment card processing fees.  Other, less significant costs include: payroll and payroll-related costs; travel-related expenditures; co-location and telephony costs; and the cost of hardware, software and equipment sold to clients.  The seasonality of our business, number of transactions processed and payment type selected can cause fluctuations in our direct costs.  The following table provides a year-over-year comparison of direct costs incurred by our Continuing Operations during the three and six months ended March 31, 2011 and 2010:




Three months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Direct costsEPS:Discount fees

$
21,842


$
20,580


$
1,262



6.1
%Other costs


1,424



1,643



(219
)


(13.3
)%Total EPS


23,266



22,223



1,043



4.7
%Wind-down


66



313



(247
)


(78.9
)%Total

$
23,332


$
22,536


$
796



3.5
%







Six months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Direct costsEPS:Discount fees

$
45,168


$
42,928


$
2,240



5.2
%Other costs


2,915



3,127



(212
)


(6.8
)%Total EPS


48,083



46,055



2,028



4.4
%Wind-down


119



573



(454
)


(79.2
)%Total

$
48,202


$
46,628


$
1,574



3.4
%




The following sections discuss the key factors that caused these changes in the direct costs for Continuing Operations.




EPS Direct Costs:  Despite the decrease in EPS revenues, EPS direct costs increased $1.0 million, or 4.7%, during the three months ended March 31, 2011 compared to the same period last year.  Discount fees increased $1.3 million, or 6.1%, over the same period last year.  During the three months ended March 31, 2011, we processed more transactions, which contributed to the increase in discount fees.  Further contributing to the increase in discount fees are the fluctuation of payment methods as well as an increase in discount fees charged by one of the payment networks.  We continue to explore and implement cost savings initiatives related to our discount and processing fees.




Other direct costs decreased $0.2 million, or 13.3%, during the three months ended March 31, 2011 when compared to the same period last year.  Decreases in labor and labor-related expenses as well as reduced telephony costs attributable to efforts to improve efficiencies in our telephony structure and reduce pricing contributed to the overall decrease.


27
 Tier Technologies, Inc





During the six months ended March 31, 2011, EPS direct costs increased $2.0 million, or 4.4%, when compared to the same period last year.  Discount fees increased $2.2 million, or 5.2%, over the same period last year.  As stated above, the increase in transactions and shift in payment type contributed to the increase in discount fees.  In addition, the three months ended December 31, 2009 benefited from a one-time cost benefit of $0.3 million in settlement funds received relating to our payment card processing fees.




Other direct costs decreased $0.2 million, or 6.8%, during the six months ended March 31, 2011.  We incurred $0.1 million associated with integration costs within our Education vertical.  This was offset by decreases in labor and labor-related expenses as well as reduced telephony costs attributable to efforts to improve efficiencies in our telephony structure and reduce pricing.




During fiscal 2011, as more clients move towards electronic payment solutions options and we strive to grow our business, we expect to see an increase in transactions processed.  This increase in transactions will result in additional discount fees.  In addition, we expect to see a continued shift in payment method, which we also believe will increase our discount fees in fiscal 2011 when compared to fiscal 2010.  We also may see some additional expenses as a result of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, which could impact our interchange fees and lead to additional compliance costs.




Wind-down Direct Costs:  During the three and six months ended March 31, 2011, direct costs from our Wind-down operations decreased $0.2 million or 78.9%, and $0.5 million or 79.2%, respectively, from the same period last year, consistent with the completion of projects.  As we wind down these operations, we expect that the direct costs of these operations will continue to decrease during the remainder of fiscal 2011.




General and Administrative (Continuing Operations)




General and administrative expenses consist primarily of payroll and payroll-related costs for technology, product management, strategic initiatives, information systems, general management, administrative, accounting, legal and fees paid for outside services, as well as reporting, compliance and other costs that we incur as a result of being a public company.  Our information systems expenses include costs to enhance our processing platforms as well as the costs associated with ongoing maintenance of these platforms.  The following table compares general and administrative costs incurred by our Continuing Operations during the three and six months ended March 31, 2011 and 2010:




Three months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%General and administrativeEPS

$
4,871


$
6,092


$
(1,221
)


(20.0
)%Wind-down


13



100



(87
)


(87.0
)%Total

$
4,884


$
6,192


$
(1,308
)


(21.1
)%






Six months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%General and administrativeEPS

$
10,809


$
12,313


$
(1,504
)


(12.2
)%Wind-down


—



206



(206
)


(100.0
)%Total

$
10,809


$
12,519


$
(1,710
)


(13.7
)%




EPS General and Administrative: During the three months ended March 31, 2011, EPS incurred $4.9 million of general and administrative expenses, a $1.2 million, or 20.0%, decrease over the same





28
 Tier Technologies, Inc





period last year.  The most significant factor contributing to the decrease in expense is reduced share-based payment expense of $1.9 million.  The decrease is primarily related to our former CEO’s restricted stock unit awards, or RSUs, which required the former CEO to be employed with us for a period of three years as well as requiring target stock prices to be achieved.  These conditions were not satisfied and pursuant to US GAAP we were permitted to reverse the expense recognized over the vesting period of the RSUs of $1.5 million.  In addition, we recognized a decrease of $0.4 million related to our performance stock units and option expense when compared to the same period last year as a result of decreased valuation of performance stock units and reduction in the number of unvested options.




During the three months ended March 31, 2011, we experienced a decrease of $0.4 million in legal fees.  This decrease is primarily attributable to the absence of fees related to corporate governance issues and proxy/annual meeting related costs.  Rent expense decreased $0.2 million during the three months ended March 31, 2011 when compared to the same period last year.  During the three months ended March 31, 2010 we were transitioning our corporate headquarters to a new building in Reston, Virginia, which resulted in rent for two office spaces in Reston during the build-out of the office space.  Further contributing to the overall decrease is a decrease in bad debt expense of $0.1 million as a result of stronger collection efforts and $0.1 million in reduced telephony costs as a result of pricing agreements placed into effect late in fiscal year 2010.




Offsetting the overall decrease is an increase of $0.8 million in additional labor and labor related costs during the three months ended March 31, 2011 when compared to the same period last year.  During the current period we had a shift in staff from capitalized projects to overhead expense projects and have hired additional staff to assist in non-capitalized software development projects.  We also incurred $0.3 million of severance expense as a result of the departure of our former CFO and $0.3 million of additional incentive compensation expense.  In addition, we incurred $0.1 million in equipment and software expense as a result of increased staff in development and increased data security initiatives.




During the six months ended March 31, 2011, EPS incurred $10.8 million of general and administrative expenses, a $1.5 million or 12.2%, decrease over the same period last year.  As discussed above, a decrease in share-based payment expense of $1.5 million, a decrease of $0.7 million in legal expenses, a decrease $0.3 million in rent expense, a decrease of $0.2 million in bad debt expense and $0.2 million decrease in telephony costs contributed to the overall decrease.  In addition, during the six months ended March 31, 2011 there was a decrease of $0.2 million in restructuring expense as a result of the completed consolidation efforts of the San Ramon, California and Auburn, Alabama facilities and the completion of the lease in our previous office space in Reston, Virginia.




Offsetting these decreases is an increase of $1.2 million in labor and labor related expenses and $0.2 million in equipment and software and $0.2 million of incentive based compensation as stated above.




With the reversal of the RSU expense, we expect general and administrative costs to decrease when comparing fiscal year 2011 to 2010.  In addition, during the current fiscal year we anticipate our legal expenses to decline when compared to fiscal year 2010 primarily due to the absence of costs related to corporate governance issues.  However, we are anticipating an increase in labor and labor related costs as we add additional staff to support operations and provide the necessary resources to develop and implement new products.




Wind-down General and Administrative:  During the three and six months ended March 31, 2011, general and administrative costs for Wind-down operations decreased $0.1 million, or 87.0%, and $0.2 million, or 100%, respectively, over the same periods last year.  This reduction is attributable to the final payment received on a Pension project, which resulted in the reversal of bad debt expense previously recognized.


29
 Tier Technologies, Inc




Selling and Marketing (Continuing Operations)




Selling and marketing expenses consist primarily of payroll and payroll-related costs, commissions, advertising and marketing expenditures and travel-related expenditures.  We expect selling and marketing expenses to fluctuate from quarter to quarter due to a variety of factors, such as increased advertising and marketing expenses incurred in anticipation of the April federal tax season.  The following table provides a year-over-year comparison of selling and marketing costs incurred by our Continuing Operations during the three and six months ended March 31, 2011 and 2010:




Three months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Selling and marketingEPS

$
1,822


$
1,438


$
384



26.7
%Wind-down


—



—



—



—Total

$
1,822


$
1,438


$
384



26.7
%






Six months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Selling and marketingEPS

$
3,372


$
3,039


$
333



11.0
%Wind-down


—



—



—



—Total

$
3,372


$
3,039


$
333



11.0
%




EPS Selling and Marketing:  During the three months ended March 31, 2011, EPS incurred $1.8 million of selling and marketing expenses, a $0.4 million, or 26.7%, increase over the same period last year.  The increase is primarily due to an increase of $0.5 million in advertising as a result of a strategic initiative to expand marketing campaigns to all verticals.  Offsetting this increase is a decrease in share-based payment expense of $0.1 million related to the decrease in value of the performance stock units and a decrease in stock options vesting.




During the six months ended March 31, 2011, EPS incurred $3.4 million of selling and marketing expenses, a $0.3 million or 11.0%, increase over the six months ended March 31, 2010.  The most significant factor in the year over year increase is the addition of $0.4 million in advertising expense as discussed above.  Further contributing to the increase is $0.1 million in severance expense incurred during the current fiscal year.  Offsetting these increases is $0.1 million in decreased share-based payment expenses as explained above and $0.1 million in labor and labor-related costs due to reduced selling and marketing staff as compared to prior fiscal year.




During fiscal year 2011, we anticipate an increase in selling and marketing expenses, primarily in labor and labor related expenses, as well as advertising expenses, as we focus on adding new clients and new payment types and services to existing clients.




Wind-down Selling and Marketing:  As a result of our decision to not pursue new contracts within Wind-down, we did not incur any selling and marketing expenses during the three and six months ended March 31, 2011.




Depreciation and Amortization (Continuing Operations)




Depreciation and amortization represents expenses associated with the depreciation of equipment, software and leasehold improvements, as well as the amortization of intangible assets from acquisitions and other





30
 Tier Technologies, Inc





intellectual property.  The following table compares depreciation and amortization costs incurred by our Continuing Operations during the three and six months ended March 31, 2011 and 2010:




Three months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Depreciation and amortizationEPS

$
1,806


$
1,329


$
477



35.9
%Wind-down


—



306



(306
)


(100.0
)%Total

$
1,806


$
1,635


$
171



10.5
%







Six months endedMarch 31,


Variance(in thousands, except percentages)

2011


2010


$



%Depreciation and amortizationEPS

$
3,564


$
2,664


$
900



33.8
%Wind-down


—



579



(579
)


(100.0
)%Total

$
3,564


$
3,243


$
321



9.9
%




Depreciation and amortization relating to EPS increased during the three and six months ended March 31, 2011 by $0.5 million, or 35.9%, and $0.9 million or 33.8%, respectively, primarily associated with internally developed software projects placed into production during fiscal year 2010.  We did not incur any amortization expense for our Wind-down operation for the three or six months ended March 31, 2011.




Other Income (Continuing Operations)




Interest income, net:Interest income during the three and six months ended March 31, 2011 decreased $0.2 million and $0.3 million, respectively, compared to the three and six months ended March 31, 2010, attributable to both a decrease in the amount within our investment portfolio and decreases in interest rates.  Due to current market conditions, we have elected to sell as many debt securities as possible and invest the funds in money market accounts, treasury bills, certificates of deposit and commercial paper – often at lower interest rates than our debt securities.  Our interest rates fluctuate with changes in the marketplace.




Gain oninvestment:During the six months ended March 31, 2010, we recognized a $14,000 gain related to the increase in fair value of our auction rate securities.  These securities were sold during fiscal year 2010.




Income Tax Provision (Continuing Operations)




During the three and six months ended March 31, 2011, we reported an income tax benefit of $186,000 and $185,000, respectively.  We reported an income tax benefit for the three and six months ended March 31, 2010 of $145,000.  Our Continuing Operations benefitted from a required intraperiod tax allocation of $206,000 during fiscal year 2011 and $160,000 during fiscal year 2010, as a result of a loss in Continuing Operations and income recorded in Discontinued Operations.  The remaining provision for income taxes represents state tax obligations incurred by our EPS operations for both fiscal years.  Our Consolidated Statements of Operations for the three and six months ended March 31, 2011 and 2010 do not reflect a federal tax provision because of offsetting adjustments to our valuation allowance.  Our effective tax rates differ from the federal statutory rate due to state income taxes, and the charge for establishing a valuation allowance on our net deferred tax assets.  Our future tax rate may vary due to a variety of factors, including, but not limited to:  the relative income contribution by tax jurisdiction; changes in statutory tax rates; changes in our valuation allowance; our ability to utilize net operating losses and any non-deductible items related to acquisitions or other nonrecurring charges.




31
 Tier Technologies, Inc





At March 31, 2011, we had $111.3 million of federal net operating loss carryforwards, which expire beginning in fiscal 2018 through 2030, and $94.7 million of state net operating loss carryforwards, most of which begin to expire after fiscal 2017 through 2025.  Our ability to realize the acquired federal net operating loss carryforward is limited to $3,350,000 per year pursuant to Internal Revenue Code Section 382.  The balance of our federal net operating loss carryforwards is currently limited to $5,993,000 per annum pursuant to Internal Revenue Code Section 382.




LIQUIDITY AND CAPITAL RESOURCES




At March 31, 2011 we had $43.0 million in cash, cash equivalents and marketable securities compared with $54.0 million at September 30, 2010.  The decline in cash is primarily associated with the tender offer we completed in January 2011, in which we purchased $10.0 million of Tier stock.  In addition, at March 31, 2011, we had restricted cash of $6.0 million, compared with $7.3 million at September 30, 2010.  Of that restricted cash amount $6.0 million is used as a compensating balance required by our bank to guarantee availability of funds for processing outgoing Automated Clearing House payments to our clients.




As discussed in Note 5—Customer Concentration and Risk and Note 8-Contingencies and Commitments our Consolidated Balance Sheets include settlements payable and receivable.  Our $43.0 million in cash, cash equivalents and marketable securities includes funds that have settled to us that we have not yet distributed to clients due to the timing of bank transactions of $12.8 million and $4.9 million of accrued discount fees.  These items reduce our cash available for company use.  Offsetting this reduction of cash available to Tier is $10.8 million of cash which we expect to receive within one to two days after the end of the quarter as settlements from credit card companies or banks.  Therefore, the cash and cash equivalents available to Tier is $36.1 million (cash and cash equivalents less settlements payable and accrued discount fees plus settlements receivable).




Our current investment strategy is to ensure our cash, cash equivalents and marketable securities remain as liquid as possible.  We intend to concentrate our investments in short term U.S. Treasury bills to ensure we can meet our liquidity needs over the next twelve months.  We believe we have sufficient liquidity to meet currently anticipated needs, including capital expenditures, working capital investments, and acquisitions for the next twelve months.  We expect to generate cash flows from operating activities over the long term; however, we may experience significant fluctuations from quarter to quarter resulting from the timing of billing and collections.  To the extent that our existing capital resources are insufficient to meet our capital requirements, we will have to raise additional funds.  There can be no assurance that additional funding, if necessary, will be available on favorable terms, if at all.  Currently, we do not have any short or long-term debt.




Net Cash from Continuing Operations—Operating Activities.  During the six months ended March 31, 2011, our operating activities from Continuing Operations used $2,000 of cash.  This reflects a net loss of $2.5 million from Continuing Operations and $3.4 million of non-cash items.  During the six months ended March 31, 2011, $0.3 million of cash was generated by an increase in accounts and settlements payable and accrued liabilities.  The timing of bank transactions causes fluctuations in these amounts from month to month.  A decrease in prepaid expenses and other assets generated $0.2 million of cash, primarily attributable to the reduction of non-revenue miscellaneous receivables.  A decrease in deferred income used $0.1 million of cash.  Accounts and settlements receivable, net used $1.3 million of cash.  Similar to accounts and settlements payable and accrued liabilities, accounts and settlements receivable will vary month to month based on timing of bank transactions.




Net Cash from Continuing Operations—Investing Activities.  Net cash provided by our investing activities from Continuing Operations for the six months ended March 31, 2011 was $7.1 million, including $14.6 million of cash provided by maturities of marketable securities and $1.0 million of cash provided by the maturities of restricted investments, offset by $6.0 million of cash used to purchase marketable securities.  During the six months ended March 31, 2011, $2.5 million of cash was used for the purchase of equipment and software to support our EPS operations and additional goodwill related to the ChoicePay earn-out.




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Net Cash from Continuing Operations—Financing Activities.  During the six months ended March 31, 2011, our financing activities used $10.1 million of cash.  The purchase of Tier stock in January 2011 used $10.3 million of cash, while the issuance of common stock generated $0.3 million.  Capital lease obligations used $16,000 of cash.




Net Cash from Discontinued Operations—Operating Activities.  During the six months ended March 31, 2011, our operating activities from Discontinued Operations used $7,000 of cash for miscellaneous legal costs.




Net Cash from Discontinued Operations—Investing Activities.  During the six months ended March 31, 2011, our investing activities from Discontinued Operations generated $0.3 million of cash as a result of an earn-out payment, net of taxes from the company that purchased our former GBPO business.




CONTRACTUAL OBLIGATIONS




During the three and six months ended March 31, 2011, there was no material change outside the ordinary course of business in the contractual obligations disclosed in our most recent annual report.




CRITICAL ACCOUNTING POLICIES




The preparation of our financial results of operations and financial position requires us to make judgments and estimates that may have a significant impact upon our financial results.  We believe that of our accounting policies, the following estimates and assumptions, which require complex subjective judgments by management, could have a material impact on reported results:  collectability of receivables; share-based compensation; valuation of goodwill, intangibles and investments; contingent liabilities; and effective tax rates, deferred taxes and associated valuation allowances.  Actual results could differ materially from management’s estimates.




For a full discussion of our critical accounting policies and estimates, see the Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the fiscal year ended September 30, 2010.




ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK




We maintain a portfolio of cash equivalents and investments in a variety of securities including certificates of deposit, and government and non-government debt securities.  These securities are subject to interest rate risk and may decline in value if market interest rates increase.  If market interest rates increase immediately and uniformly by ten percent from levels at March 31, 2011, the fair value of the portfolio would decline by about $13,000.




ITEM 4.  CONTROLS AND PROCEDURES




EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES




Our management, with the participation of our Chief Executive Officer and Interim Principal Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of March 31, 2011.  The term “disclosure controls and procedures” means controls and other procedures that are designed to ensure that information required to be disclosed by a company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms.  Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that such information is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure.  Management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.  Based on the evaluation of our disclosure controls and procedures as of March 31, 2011, our Chief Executive Officer and our Interim Principal Financial Officer concluded that as of that date, our disclosure controls and procedures were effective at the reasonable assurance level.


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There was no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the quarter ended March 31, 2011 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.


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PART II.  OTHER INFORMATION




ITEM 1A.  RISK FACTORS





Investing in our common stock involves a degree of risk.  You should carefully consider the risks and uncertainties described below in addition to the other information included or incorporated by reference in this quarterly report.  If any of the following risks actually occur, our business, financial condition or results of operations would likely suffer.  In that case, the trading price of our common stock could fall.





The following factors and other risk factors could cause our actual results to differ materially from those contained in forward-looking statements in this Form 10-Q.




We have incurred losses in the past and may not be profitable in the future.  While we reported net income of $1.1 million in fiscal year 2005, we have reported net losses of $6.2 million in fiscal 2010, $11.5 million in fiscal 2009, $27.4 million in fiscal 2008, $3.0 million in fiscal 2007, and $9.5 million in fiscal 2006.




Our revenues and operating margins may decline and may be difficult to forecast, which could result in a decline in our stock price.  Our revenues, operating margins and cash flows are subject to significant variation from quarter to quarter due to a number of factors, many of which are outside our control.  These factors include:




·
general economic conditions;




·
loss of significant clients;




·
demand for our services;




·
seasonality of business, resulting from timing of property tax payments and federal and state income tax payments;




·
timing of service and product implementations;




·
unplanned increases in costs;




·
delays in completion of projects;




·
intense competition;




·
costs of compliance with laws and government regulations;




·
costs of acquisitions, consolidation and integration of new business and technology; and




·
costs of operating in the payment processing industry, including discount fees.




The occurrence of any of these factors may cause the market price of our stock to decline or fluctuate significantly, which may result in substantial losses to investors.  We believe that period-to-period comparisons of our operating results are not necessarily meaningful and/or indicative of future performance.  From time to time, our operating results may fail to meet analysts’ and investors’ expectations, which could cause a significant decline in the market price of our stock.  Fluctuations in the price and trading volume of our stock may be rapid and severe and may leave investors little time to react.  Other factors that may affect the market price of our stock include announcements of technological innovations or new products or services by competitors and general economic or political conditions, such as recession, acts of war or terrorism.  Fluctuations in the price of our stock could cause investors to lose all or part of their investment.




Our income tax and property tax processing revenue has been negatively impacted by recent economic conditions and may continue to decline.As a result of the current global and U.S. economic conditions, including unemployment and real estate foreclosures, we have suffered a downturn in revenue in our property tax and federal verticals, due to decreased payments of federal income tax and property tax by taxpayers who pay taxes on our website and IVR payment processing systems.  If current conditions do not


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improve, additional declines in revenue may occur, especially in the property tax and federal verticals, negatively impacting use of our services and our overall revenues.




We could suffer material losses and liability if our operations, systems or platforms are disrupted or fail to perform properly or effectively.The continued efficiency and proper functioning of our technical systems, platforms, and operational infrastructure is integral to our performance. We operate on multiple platforms.  If any or all of the platforms or portions of the platforms, systems, or resources are disrupted or fail to perform properly or effectively, we could incur significant remediation costs and we might not be able to process transactions or provide services during the disruption or failure, which would result in a decrease in revenue.  Our operations, systems and platforms might be disrupted or fail to perform properly for many reasons including operational or technical failures of our systems and platforms, human error, failure of third-party support and services, system failure due to age and lack of integrity of hardware and software infrastructure, existence of single points of failure which has resulted in system interruption and outages, diminished availability and reliability of our services causing us to fail to meet contractual service level requirements, and loss of key individuals or failure of key individuals to perform who have unique knowledge of system architecture and platform customizations.  We process a high volume of time-sensitive payment transactions.  The majority of our tax-related transactions are processed in short periods of time, including between April 1 and April 15 of each tax year for federal tax payments.  If there is a defect or malfunction in our platforms or system software or hardware, an interruption or failure due to damage or destruction, a loss of system or platform functionality, a delay in our system processing speed, a lack of system capacity, or a loss of personnel on short notice, even for a short period of time, our ability to process transactions and provide services may be significantly limited, delayed or eliminated, resulting in lost business and revenue and harm to our reputation.  We might be required to incur significant costs to remediate or address any such defect, malfunction, interruption, failure, loss of functionality, delay, lack of capacity, or loss of personnel. Our insurance may not provide coverage or be adequate to compensate us for losses that may occur as a result of any such event, or any system, platform, security or operational failure or disruption.




In the event we proceed with consolidation of our technology platforms, the consolidation involves significant risk and may not be successful or may be delayed.We are in the process of evaluating the consolidation of our technology platforms.  We currently maintain three payment processing platforms: one in San Ramon, California; one in Auburn, Alabama; and a third in Tulsa, Oklahoma.  Consolidation of our technology platforms could result in significant risks, including restricted and limited transaction volume, operational inefficiencies, inability to achieve our goals for fiscal year 2011 and 2012, inability to expand existing products and services, significant development costs, higher labor costs, increased hardware and software costs, inability to provide certain functionality, or system and service disruption or failure.  Our business is highly dependent upon having safe and secure information technology platforms with sufficient capacity to meet both the high volume of transactions and the future growth of our business.  If our ability to develop and/or acquire upgrades or replacements for our existing platforms does not keep pace with the growth of our business, we may not be able to increase business.  Furthermore, if we are not able to acquire or develop these platforms and systems on a timely and economical basis, our profitability may be adversely affected.  Since we maintain three separate platforms, the cost to develop products is significantly greater than if we maintained one platform, and such costs may continue to increase as we enhance existing products and develop new products.




We could suffer material losses or significant disruption of our operations and business if we are not successful in integration and consolidation of our operations.We are consolidating and moving certain operations, facilities, departments, and positions as part of our strategic plan to save costs and eliminate duplicative operations and functions.  We completed consolidation of the customer service/call center, client services, implementation services, and some information technology services from San Ramon, California, and Tulsa, Oklahoma, to our existing facility in Auburn, Alabama, and we consolidated financial operations to Reston, Virginia.  If this restructuring and consolidation is not successful, we could suffer





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disruption of our operations, systems or services; incur a significant increase in costs; or suffer a loss of valuable staff and historical knowledge, which could have a material adverse impact on our business, significantly increase operating costs and result in operational weaknesses and compliance deficiencies.




Security breaches or unauthorized access to confidential data and personally identifiable information in our facilities, computer networks, or databases, or those of our suppliers, may cause harm to our business and result in liability and systems interruptions.  Our business requires us to obtain, process, use, and destroy confidential and personally identifiable data and information of clients and consumers.  We have programs, procedures and policies in place to protect against security breaches, unauthorized access and fraud.  Despite security measures we have taken, our systems may be vulnerable to physical break-ins, fraud, computer viruses, attacks by hackers and similar acts and events, causing interruption in service and loss or theft of confidential data and personally identifiable information that we process and/or store.  It is possible that our security controls over confidential information and personal data, our training on data security, and other practices we follow may not prevent the improper disclosure or unauthorized access to confidential data and personally identifiable information.  In addition, our service could be subject to employee fraud or other internal security breaches, and we may be required to reimburse customers for any funds stolen as a result of such actions or breaches.  Our third-party vendors or suppliers also may experience security breaches, fraud, computer viruses, attacks by hackers or other similar incidents involving the unauthorized access and theft of confidential data and personally identifiable information.  If client or consumer data and/or information was lost or stolen, such an incident could potentially result in compliance costs, loss of clients and revenues, liability and fines.  Any security breach within our systems, software or hardware or our vendors’ or suppliers’ systems, software or hardware could result in unauthorized access, theft, loss, disclosure, deletion or modification of such data and information, and could cause harm to our business and reputation, liability for fines and damages, costs of notification, and a loss of clients and revenue.




Financial loss could result from fraudulent payments, lack of integrity of systems, or fraudulent use of our systems or the systems of third parties.We receive funds and facilitate payment and settlement of funds on behalf of clients, consumers and businesses for a variety of transaction types including debit/credit cards, ACH payments and other electronic bill payments.  Our facilitation of these payments depends on the integrity of our systems and our technology infrastructure as well as the integrity of the systems and technology infrastructure of third parties in the payment transaction process such as financial institutions, processors, networks, and other businesses, and vendors and suppliers.  In addition, our service could be subject to employee fraud or other internal security breaches, and we may be required to reimburse customers for any funds stolen as a result of such actions or breaches. If the integrity of this payment process is impaired or the ability to detect fraud or fraudulent payments compromised, including in connection with verification, authentication, settlement, and other payment processes, it could result in financial loss.




We could suffer material losses and liabilities if the services of any of our third party suppliers, vendors or other providers are disrupted, eliminated or fail to perform properly or effectively.  Our payment solution services, systems, security, infrastructure and technology platforms are highly dependent on third party services, software, hardware, including data transmission and telecom service providers, subcontractors, co-location facilities, network access providers, card companies, processors, banks, merchants and other suppliers and providers.  We also provide services on complex multi-party projects where we depend on integration and implementation of third-party products and services.  The failure or loss of any of these third party systems, services, software or products, our inability to obtain replacement services, or damage to or destruction of such services could cause degraded functionality, loss of product and service offerings, restricted transaction capacity, limited processing speed and/or capacity, or system failure, which could result in significant cost, liability, diminished profitability and damage to our reputation and competitive position.  Our insurance may not provide coverage or be adequate to compensate us for losses that may occur as a result of any such event, or any system, security or operational failure or disruption.




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Our revenues and cash flows could decline significantly if we were unable to retain our largest client, or a number of significant clients.The majority of our client contracts, including our contract with the U.S. Internal Revenue Service, allow clients to terminate all or part of their contracts on short notice, or provide notice of non-renewal with little prior notification. Our contract with the IRS has generated 17.1%, 19.8%, and 27.8% of our annual revenues from Electronic Payment Solutions for fiscal years 2010, 2009, and 2008, respectively.  In April 2009 we were one of three companies awarded a multi-year contract by the IRS to provide electronic payment solutions for personal and business taxes. The contract contains a base period commencing April 2, 2009 and ending December 31, 2009 and four one-year option periods running until December 31, 2013.  To obtain this contract, we reduced our historical pricing.  We compete with the other contract award recipients to provide services to the IRS.  If the other recipients reduce their prices, or if additional companies are awarded contracts, we may have to reduce our prices further to remain competitive.  If we were unable to retain this client, or replace it in the event it is terminated, or if we were unable to renew this contract, or are unsuccessful in future re-bids of this contract, or if we are forced to reduce our prices in response to competitive pressures, our operating results and cash flows could decline significantly.  Termination or non-renewal of a number of client contracts, or certain significant client contracts, including the IRS contract, or a number of large state, local, utility or education-related contracts, could result in significant loss of revenues and reduction in profitability.




Violation of any existing or future laws or regulations, including laws governing money transmitters and anti-money laundering laws, could expose us to substantial liability and fines, force us to cease providing our services, or force us to change our business practices.  Our business is subject to numerous federal and state laws and regulations, including some states’ money transmitter regulations and related licensing requirements, and anti-money laundering laws.  Compliance with federal and state laws and government regulations regarding money transmitters, money laundering, privacy, data security, fraud, and other laws and regulations associated with payment transaction services is critical to our business.  New laws and regulations in these areas may be enacted, or existing ones changed, which could negatively impact our services, restrict or eliminate our ability to provide services, make our services unprofitable, or create significant liability for us.  Our anti-money laundering program requires us to monitor transactions, report suspicious activity, and prohibit certain transactions.  We are registered as a money services business, have a number of state money transmitter licenses and have additional applications for licensure as a money transmitter pending.  We entered into consent orders with three states which included payment of a fine for unlicensed activity prior to our submission of the money transmitter application, and two other states have imposed an assessment or fine.  In the future we may be subject to additional states’ money transmitter regulations, money laundering regulations, regulation of internet transactions, and related payment of fees and fines.  We are also subject to the applicable rules of the credit/debit card association, the National Automated Clearing House Association (NACHA), and other industry standards.  If we are found to be in violation of any laws, rules, regulations or standards, we could be exposed to significant financial liability, substantial fines and penalties, cease and desist orders, and other sanctions that could restrict or eliminate our ability to provide our services in one or more states or accept certain types of transactions in one or more states, or could force us to make costly changes to our business practices.  Even if we are not forced to change our business practices, the costs of compliance and obtaining necessary licenses and regulatory approvals, could be substantial.




We could suffer material revenue losses and liability in the event the divested business projects and contracts are not successfully concluded.  We have completed divestment of certain operations and portions of the business including our former Financial Institutions Data Match services, State Systems Integration, Financial Management Systems and Unemployment Insurance operations.  Certain divestitures include contractual earn-outs and revenue sharing arrangements based on the buyers’ successful operation of the businesses divested.  If the businesses are not profitable or there are revenue shortfalls, we may not receive the expected benefits from the divestitures, which could have an adverse impact on our revenues.  Additionally, we remain liable for certain obligations under some of the divested projects and their related contracts.  In February 2009, we completed the sale of our Unemployment





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Insurance, or UI, business to RKV Technologies, Inc, or RKV.  The sale was completed pursuant to an Asset Purchase Agreement dated February 6, 2009.  As a part of the agreement, Tier is required to leave in place a $2.4 million performance bond on the continuing contract for the State of Indiana, or the State.  Subsequent to the sale of the UI business to RKV, the prime contractor, Haverstick Corporation, or Haverstick, the State, and RKV determined that the contract completion would be delayed and additional funding would be needed to complete the contract.  In November 2009 Haverstick cancelled its contract with RKV and directly rehired various RKV resources and contractors. Tier retains certain liabilities for completion of the project, and continues as the indemnitor under the performance bond.  Mediation is expected to take place by September 2011 to discuss the costs of project completion.  If this contract or other divested contracts are not performed successfully, or if there is a claim of delay or breach in connection with services or products provided by either us or the acquiring company, liability to Tier could result, causing damages, unanticipated costs, bond forfeitures and loss of revenue.




As a result of our divestitures and the transition to a primary focus on electronic payment solutions, our business is less diverse and therefore more vulnerable to changes affecting the electronic payments business generally.Our focus on electronic payment solutions since fiscal year 2007 and the divestiture of the majority of our legacy business units unrelated to electronic payment solutions, including software licensing and government system integration businesses, has resulted in loss of historical revenue sources and a decrease in diversification of services and markets.  In the event of a business downturn in the electronic payment solutions business due to increased competition, loss of clients, economic conditions, technology changes, or in the event of increased costs, disruption in services, a change in laws, or other events related to the electronic payment solutions business, there could be a greater negative impact on our revenues than if we had retained our diverse businesses.




If we undertake acquisitions, they could be expensive, increase our costs or liabilities or disrupt our business.One of our strategies may be to pursue growth through acquisitions.  Negotiations of potential acquisitions and the integration of acquired business operations could disrupt our business by diverting management attention away from day-to-day operations.  Acquisitions of businesses or other material operations may require additional debt or equity financing, resulting in leverage or dilution of ownership.  We also may not realize cost efficiencies or synergies that we anticipated when selecting our acquisition candidates.  In addition, we may need to record write-downs from future impairments of identified intangible assets and goodwill, which could reduce our future reported earnings.  Acquisition candidates may have liabilities or adverse operating issues that we fail to discover through due diligence prior to the acquisition.  Any costs, liabilities or disruptions associated with any future acquisitions we may pursue could harm our operating results.




Changes in laws and government and regulatory compliance requirements may result in additional compliance costs and may adversely impact our reported earnings.  Our business is subject to numerous federal, state and local laws, government regulations, corporate governance standards, compliance controls, accounting standards, licensing and bonding requirements, industry/association rules, and public disclosure requirements including under the Sarbanes Oxley Act of 2002, SEC regulations, and Nasdaq Stock Market rules.  Compliance with and changes in these laws, regulations, standards and requirements may result in increased general and administrative expenses for outside services, increased risks associated with compliance, and a diversion of management time and attention from revenue-generating activities, which could curtail the growth of our business.




The “Financial Reform Act” provides for comprehensive financial regulatory reform, and may have a significant impact on our compliance requirements and increased regulatory and implementation costs, including restrictions on how we structure and sell our services. At this time, it is difficult to predict the extent to which the Financial Reform Act or the resulting rules and regulations will impact our business.  Compliance with these new laws and regulations will likely result in additional costs which could be significant and could adversely impact our results of operations, financial condition and liquidity.




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We operate in highly competitive markets.  If we do not compete effectively, we could face price reductions, reduced profitability and loss of market share.  Our business is focused on electronic payment transaction solutions and e-commerce services, which are highly competitive markets and are served by numerous international, national and local firms.  Many of our competitors have significantly greater financial, technical and marketing resources and name recognition than we do.  In addition, there are relatively low barriers to entry into these markets, and we expect to continue to face additional competition from new entrants into our markets.  Parts of our business are subject to increasing pricing pressures from competitors, as well as from clients facing pressure to control costs.  Some competitors are able to operate at significant losses for extended periods of time, which increases pricing pressure on our products and services.  If we do not compete effectively, the demand for our products and services and our revenue growth and operating margins could decline, resulting in reduced profitability and loss of market share.




Our revenues may fluctuate, and our ability to operate profitably is uncertain.  Our business primarily provides credit and debit card and electronic check payment options for the payment of federal and state personal income taxes, real estate and personal property taxes, business taxes, fines for traffic violations and parking citations, educational, utility and rent obligations, and other payment obligations. Our revenues depend on consumers’ continued willingness to pay a convenience fee and our relationships with clients, such as government taxing authorities, educational institutions, public utilities and their respective constituents.  Demand for our services could decline if consumers are not receptive to paying a convenience fee, card associations change their rules, laws are passed that do not allow us to charge the convenience fees, or if credit or debit card issuers, marketing partners, or alliance partners change terms, terminate services or products, or eliminate or reduce the value of rewards to consumers under their respective rewards programs.  The fees charged by credit/debit card associations, financial institutions, and our suppliers can be increased with little or no notice, which could affect our ability to attain profitability.




Demand for our services could also be adversely affected by a decline in the use of the Internet, economic factors such as a decline in availability of credit, increased unemployment, foreclosures, or consumer migration to a new or different technology or payment method.  The use of credit and debit cards and electronic checks (ACH) to make payments is subject to increasing competition and rapid technological change.  If we are not able to develop, market and deliver competitive technologies, our market share will decline and our operating results and financial condition could suffer.




The success of our business is based largely on our ability to attract and retain talented and qualified employees and contractors.  The market for skilled workers in our industry is extremely competitive.  In particular, qualified managers and senior technical and professional staff are in great demand.  If we are not successful in our recruiting efforts or are unable to retain key employees, our ability to staff projects and deliver products and services may be adversely affected.  We believe our success also depends upon the continued services of senior management and a number of key employees whose employment may terminate at any time.  If one or more key employees resigns to join a competitor, to form a competing company, or as a result of termination or a divestiture, the loss of such personnel and any resulting loss of existing or potential clients could harm our competitive position.




If we are not able to protect our intellectual property, our business could suffer serious harm.Our systems and operating platforms, scripts, software code and other intellectual property are generally proprietary, confidential, and may be trade secrets.  We protect our intellectual property rights through a variety of methods, such as use of nondisclosure and license agreements and use of trade secret, copyright and trademark laws.  Despite our efforts to safeguard and protect our intellectual property and proprietary rights, there is no assurance that these steps will be adequate to avoid the loss or misappropriation of our rights or that we will be able to detect unauthorized use of our intellectual property rights.  If we are unable to protect our intellectual property, competitors could market services or products similar to ours, and demand for our offerings could decline, resulting in an adverse impact on revenues.




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We may be subject to infringement claims by third parties, resulting in increased costs and loss of business.  Our business is dependent on intellectual property rights including software license rights and restrictions, and trademark rights.  From time to time we receive notices from others claiming we are infringing on their intellectual property rights.  Defending a claim of infringement against us could prevent or delay our providing products and services, cause us to pay substantial costs and damages or force us to redesign products or enter into royalty or licensing agreements on less favorable terms.  If we are required to enter into such agreements or take such actions, our operating margins could decline.




As a result of the recent conditions in the financial and credit markets we may not be able to obtain credit.   The recent worldwide and U.S. economic crisis has made it difficult to borrow money or obtain credit.  We currently have no credit line or credit facility and rely solely on cash on hand, investments and cash from operations to fund our business.  If current levels of economic and market disruption and volatility continue or worsen, there can be no assurance that credit, bank loans, contractual lending agreements or other funding sources will be available on reasonable terms, or at all.   If we were not able to fund operations our level of services, staffing, resources or equipment may need to be reduced or eliminated which could negatively impact our revenue and stock price.




If we are not able to obtain adequate or affordable insurance coverage or bonds, we could face significant liability claims and increased premium costs and our ability to compete for business could be compromised.  We maintain insurance to cover various risks in connection with our business.  Additionally, our business includes projects that require us to obtain performance, statutory and bid bonds from a licensed surety.  There is no guarantee that such insurance coverage or bonds will continue to be available on reasonable terms, or at all.  If we are unable to obtain or maintain adequate insurance and bonding coverage, potential liabilities associated with the risks discussed in this report could exceed our coverage, and we may not be able to obtain new contracts or continue to provide existing services, which could result in decreased business opportunities and declining revenues.




Our markets are changing rapidly.  If we are not able to adapt to changing conditions, we may lose market share and may not be able to compete effectively.  The markets for our products are characterized by rapid changes in technology, client expectations and evolving industry standards.  Our future success depends on our ability to innovate, develop, acquire and introduce successful new products and services for our target markets and to respond quickly to changes in the market.  If we are unable to address these requirements, or if our products or services do not achieve market acceptance, we may lose market share, and our revenues could decline.




Our business is subject to increasing performance requirements, which could result in reduced revenues and increased liability.  On certain projects we make performance guarantees, based upon defined operating specifications, service levels and delivery dates, which are sometimes backed by contractual guarantees and performance, statutory or bid bonds.  Unsatisfactory performance of services, disruption of services, or unanticipated difficulties or delays in processing payments or providing contracted services may result in termination of the contract, a reduction in revenues, liability for penalties and damages, or claims against a bond.  Additionally, the failure to meet client expectations could damage our reputation and compromise our ability to attract new business.






ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS




The following table sets forth information in connection with purchases made by, or on behalf of, Tier or any affiliated purchaser of Tier, of shares of our common stock during the three months ended March 31, 2011.


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 Tier Technologies, Inc











Period Covered

Total Number of Shares Purchased

(in thousands)


Average Price Paid per Share


Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs

(in thousands)


Maximum number of Shares That May Yet Be Purchased Under the Plans or Programs (1)

(in thousands)January 1 through

January 31, 2011


1,639.3


$
6.10



1,639.3



—February 1 through

February 28, 2011


—



—



—



—March 1 through

March 31, 2011


—



—



—



—Total


1,639.3


$
6.10



1,639.3



—





(1)
On November 22, 2010, we announced that our Board of Directors had authorized us to conduct a cash tender offer to purchase up to an aggregate of $10.0 million in value of our common stock in a modified “Dutch Auction”.  On December 17, 2010, we commenced a modified “Dutch Auction” tender offer to purchase up to $10.0 million in value of our common stock at a price within (and including) the range of $5.80 per share to $6.20 per share.  The tender offer expired on January 20, 2011.  As a result of the tender offer, we accepted for payment on January 20, 2011, and purchased 1,639,344 shares of our common stock for a price of $6.10 per share, for a total cost of approximately $10.0 million, excluding fees and expenses related to this offer.





42
 Tier Technologies, Inc







ITEM 6.  EXHIBITS




Exhibit Number
Description10.1
Agreement dated February 19, 2011 among Discovery Equity Partners, Discovery Group I, LLC, Daniel J. Donoghue, Michael R. Murphy and the Company (1)10.2
Severance Agreement and Release of Claims dated March 4, 2011 between Ronald W. Johnston and the  Company (2)10.3
Employment Agreement dated December 13, 2010 between Tier Technologies, Inc. and Sandip Mohapatra †10.4
Amendment of Solicitation/Modification of Contract No. 0008 dated March 9, 2011 between the Internal Revenue Service and Official Payments Corporation †10.5
Amendment of Solicitation/Modification of Contract No. 0009 dated April 6, 2011 between the Internal Revenue Service and Official Payments Corporation †31.1
Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended. †31.2
Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended. †32.1
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. †32.2
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. †





†      Filed herewith.




(1)
Filed as an exhibit to Form 8-K, filed February 22, 2011, and incorporated herein by reference.




(2)
Filed as an exhibit to Form 8-K, filed March 10, 2011, and incorporated herein by reference.




43
 Tier Technologies, Inc










SIGNATURE




Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report on Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized.







TIER TECHNOLOGIES, INC.Dated:  May 9, 2011By:
/s/ John GuszakJohn GuszakVice President and Controller(Interim Principal Financial and Accounting Officer)





44
 Tier Technologies, Inc










EXHIBIT INDEX








Exhibit Number
Description10.1
Agreement dated February 19, 2011 among Discovery Equity Partners, Discovery Group I, LLC, Daniel J. Donoghue, Michael R. Murphy and the Company (1)10.2
Severance Agreement and Release of Claims dated March 4, 2011 between Ronald W. Johnston and the   Company (2)10.3
Employment Agreement dated December 13, 2010 between Tier Technologies, Inc. and Sandip Mohapatra †10.4
Amendment of Solicitation/Modification of Contract No. 0008 dated March 9, 2011 between the Internal Revenue Service and Official Payments Corporation †10.5
Amendment of Solicitation/Modification of Contract No. 0009 dated April 6, 2011 between the Internal Revenue Service and Official Payments Corporation †31.1
Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended. †31.2
Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) promulgated under the Securities Exchange Act of 1934, as amended. †32.1
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. †32.2
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. †





†      Filed herewith.




(1)
Filed as an exhibit to Form 8-K, filed February 22, 2011, and incorporated herein by reference.




(2)
Filed as an exhibit to Form 8-K, filed March 10, 2011, and incorporated herein by reference.











45