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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

---

FORM 10-K



x ANNUAL REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended June 30, 2005

OR

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



Commission file number 000-23043



PERVASIVE SOFTWARE INC.

(Exact name of registrant as specified in its charter)



|                                                               |  |                                        
|-------------------------------------------------------------- |  | ---------------------------------------
|Delaware                                                       |  | 74-2693793                             
|(State or other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification Number)



12365 Riata Trace
Parkway, Building B

Austin, Texas 78727

(Address of principal executive offices)

---

(512)
231-6000

(Registrants telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $.001 par value

(Title of each class)

---

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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.

(1)        Yes ü No

(2)        Yes ü No



Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrants knowledge, in definitive proxy
or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ̈



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



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



As of December 31, 2004 the aggregate market value of the voting stock
held by non-affiliates of the registrant was approximately $77,263,380. Shares of Common Stock held by each officer and director have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes.



As
of August 31, 2005 there were 22,452,181 shares of the Registrants common stock outstanding.



DOCUMENTS INCORPORATED BY REFERENCE



Part IIIPortions of the registrants definitive Proxy Statement to be issued in conjunction with the Registrants Annual Meeting of Stockholders to be held on November 1, 2005.



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PERVASIVE SOFTWARE INC.

FORM 10-K ANNUAL REPORT

FOR THE FISCAL YEAR ENDED

JUNE 30, 2005



TABLE OF CONTENTS



|                                                                                                                          |  |     
|------------------------------------------------------------------------------------------------------------------------- |  | ----
|                                                                                                                          |  | Page
|PART I                                                                                                                    |  | 1   
|Item 1.      Business                                                                                                     |  | 28  
|Item 2.      Properties                                                                                                   |  | 28  
|Item 3.      Legal Proceedings                                                                                            |  | 28  
|Item 4.      Submission of Matters to a Vote of the Security Holders                                                      |  | 28  
|                                                                                                                          | 
|PART II                                                                                                                   |  | 31  
|Item 5.      Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities |  | 31  
|Item 6.      Selected Consolidated Financial Data                                                                         |  | 32  
|Item 7.      Managements Discussion and Analysis of Financial Condition and Results of Operations                        |  | 33  
|Item 7A.  Quantitative and Qualitative Disclosures About Market Risk                                                      |  | 43  
|Item 8.      Consolidated Financial Statements and Supplementary Data                                                     |  | 44  
|Item 9.      Changes in and Disagreements with Accountants on Accounting and Financial Disclosure                         |  | 44  
|Item 9A.  Controls and Procedures                                                                                         |  | 44  
|                                                                                                                          | 
|PART III                                                                                                                  |  | 46  
|Item 10.   Directors and Executive Officers of the Registrant                                                             |  | 46  
|Item 11.   Executive Compensation                                                                                         |  | 46  
|Item 12.   Security Ownership of Certain Beneficial Owners and Management, and Related Stockholders                       |  | 46  
|Item 13.   Certain Relationships and Related Transactions                                                                 |  | 46  
|Item 14.   Principal Accountant Fees and Services                                                                         |  | 46  
|                                                                                                                          | 
|PART IV                                                                                                                   |  | 47  
|Item 15.   Exhibits, Financial Statement Schedules and Reports on Form 8-K                                                |  | 47  
|                                                                                                                          | 
|SIGNATURES                                                                                                                |  | 49  



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PART I



|ITEM 1. | BUSINESS
|------- | --------



The statements contained in this Report on Form 10-K and in the Annual Report that are not purely historical statements are forward-looking statements
within the meaning of Section 21E of the Securities and Exchange Act of 1934, including statements regarding the Companys expectations, beliefs, hopes, intentions or strategies regarding the future. These forward-looking statements
involve risks and uncertainties. Our actual results may differ materially from those indicated in the forward-looking statements. Please see Risk Factors that May Affect Future Results, Special Note Regarding Forward-Looking
Statements and the factors and risks discussed in other reports filed from time to time with the Securities and Exchange Commission.



Overview



Pervasive Software is a global value leader in data infrastructure software. Thousands of businesses worldwide rely on our solutions to help manage,
integrate, analyze and secure their critical data. Our data management and integration product lines are designed specifically for small to mid-sized businesses and departments of large enterprises where high performance, flexibility, rapid
deployment and low total cost of ownership (TCO) are paramount. In addition, significant portions of our product line are embeddable into commercial applications for sale predominantly to small to mid-size enterprises (SMEs) through a well-developed
channel of independent software vendors (ISVs), value-added resellers (VARs) and systems integrators.



Our flagship Pervasive.SQL database, offering unparalleled data management technology combined with very low TCO, has more than 6 million server
seats licensed since inception in 1994. The full data management product line also includes specific solutions for data movement and synchronization, and addresses security challenges related to data integrity, accountability, continuity and
availability throughout the data life cycle. The product line is designed for integration by ISVs into client/server, Web and mobile applications and is predominantly sold to SMEs, which typically have environments with little to no information
technology (IT) infrastructure, and require self-tuning, low-administration products.



Our data and application integration solutions feature a comprehensive set of visual design tools to rapidly build and test integration processes, regardless of size and complexity, across hundreds of data formats and
applications within and outside of the enterprise. The Pervasive Integration product line is designed to grow and scale for the diverse data and application integration needs of mid-sized businesses and departments of large enterprises. Our focus on
rapid implementation and ease of use helps reduce the complexity, costs and risks associated with traditional labor-intensive integration methods.



Our open source database management solution, Pervasive Postgres, is a commercial distribution of PostgreSQL, offering enterprise-ready core database
technology. Pervasive Postgres is targeted to mainstream businesses that require a high-quality relational database management solution at a low cost. Users can select Pervasive Postgres for brand new business and web applications, as well as for
database migrations from other proprietary databases. Most open source databases fail to meet required business needs, and most open source database providers lack the experience to successfully service and support the technology. While companies
increasingly consider open source databases as an alternative for managing their data, they require functionality and reliable support before making a commitment. We believe that a scalable, low TCO corporate database that is fully supported by an
experienced database provider is the best solution for budget-conscious, data-demanding businesses of all sizes. Pervasive Postgres is just such an open source database solution.



Our strength is evidenced by the size and diversity of our customer base, serving tens of thousands of customers in
virtually every industry and market around the world. We sell products in more than 150 countries through direct sales and channel distribution. Our customer base of more than 35,000 customers includes a



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distribution channel of more than 10,000 ISVs, developers, VARs, systems integrators and partners who have built or deployed applications on top of our data
management platform. We also have a customer base of more than 25,000 end users for our integration products and services. Founded in 1994, Pervasive is headquartered in Austin, Texas, with international offices in Brussels; Frankfurt; London; Paris
and Bangalore; and a joint venture in Japan.



Acquisition of Data Junction
Corporation



On December 4, 2003, we completed the
acquisition of privately held Data Junction Corporation, a data and application integration company based in Austin, Texas. Data Junction spent more than 15 years developing a versatile and configurable integration architecture to reduce the
complexity, costs and risks associated with traditional labor-intensive integration methods. Data Junction was a pioneer in the software category known as ETL (extract, transform and load) in 1986 with Data Junction v1.0, one of the worlds
first hub-and-spoke approaches to data conversion and translation.



We believe the acquisition of Data Junction brought important data integration and transformation technologies and products, which are highly complementary to Pervasives existing data management products, expertise and customer base.
The acquisition significantly advanced Pervasives strategy to be the global value leader in data infrastructure software, enabling more than 25,000 businesses, such as major corporations, systems integrators and software vendors, to capitalize
on their data investments. Winner of more than 20 major industry awards, Data Junction was a market leader in innovative integration technology, helping customers quickly and cost-effectively connect disparate data sources. Primary integration
products include a comprehensive set of visual design tools for rapidly building and testing data integration processes that work with hundreds of data formats and applications. This enables design with total control over all aspects of the
integration projectfrom creating integration maps to managing complex, event-driven flow of inter-application messages and EDI processes.



Introduction of Pervasive Postgres



On January 10, 2005, we introduced Pervasive Postgres, a commercial distribution of open source database, PostgreSQL. Pervasive Postgres is the first
integrated set of open source software and services from an established, public database company designed to remove significant barriers to adoption and help enterprises benefit from open source database technology. The Pervasive solution allows
corporate customers to confidently adopt a superior open source database from a reputable source, a public company with a 20-year history in delivering high-quality, low cost data management products to tens of thousands of customers around the
world.



PostgreSQL is a leading open source database, offering
enterprise-ready core technology like views, triggers, stored procedures and security, and is released under the business-friendly BSD license, allowing royalty-free use within commercial settings. Pervasive Postgres offers formal support, a clear
roadmap and technological enhancements designed to help reduce the costs and remove barriers facing open source adoption, ensuring that PostgreSQL is suitable for more users. Pervasive Postgres takes advantage of Pervasive Software-driven critical
development enhancements to the base PostgreSQL product, such as seamless automated installation and easy to use administration tools that accelerate time-to-value and provide corporate users with a cost-effective platform on which to build
applications.



With the commercial backing, superior services,
award-winning support and development enhancements from Pervasive Software, Pervasive Postgres is the most advanced and consumable open source alternative for mainstream business applications. The addition of Pervasive Postgres to our data
infrastructure software family now gives us a full spectrum of database offerings that meets the needs of customers both large and small. Corporate adopters of open source databases can now depend on Pervasive, one of the most trusted and
experienced database companies in the marketplace.



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Market Opportunity



Over the past 20 years, businesses of all sizes have invested billions of dollars in application software that enabled them to automate and simplify their
business processes. As the sales and implementation of these application packages proliferated since the early-1990s, organizations have faced increasing data and application infrastructure challenges and an entire software market segment has
emerged to address these challenges. The growth of the infrastructure software market in the United States, we believe, can primarily be traced to the demand for technologies that extend the use of established systems, enable the rapid deployment of
new applications, and improve the ability to collaborate and communicate with customers and suppliers.



At the same time, we believe that the software markets as a whole are going through a maturation and commoditization phase. The emergence of Linux and
other open source software solutions is testament to this trend. As markets mature and commoditize, having a value orientationdelivering the highest performance with the lowest TCObecomes increasingly critical, particularly
when serving SMEs and especially during difficult economic times. We believe infrastructure software will be a key ingredient for small to midsize businesses that seek to integrate and streamline their back-end systems and eliminate delays in the
management and execution of critical processes. Infrastructure software includes, among other things, application development tools, integration tools and solutions, business intelligence, database, and security solutions.



In addition, as the software industry continues to mature, open source
technology provides mainstream business users with a powerful and affordable alternative to restrictive and expensive traditional software infrastructure. Linux and Solaris are gaining traction for server-based applications, while Apache dominates
the Web. Browser provider Mozilla Firefox is also making significant headway, competing against Microsoft Internet Explorer. At the same time, open source database acceptance is also gaining momentum. InformationWeek reported in 2004 that 41%
of business/technology professionals surveyed at companies using open source software were doing so across their organizations, and 42% used databases written with open-source software. Another 33% were considering the adoption of open source for
their databases. As open source database use gains even greater acceptance, a steady stream of mature, lower-level infrastructure products will submit to the same type of pressure and move to open source. The SQL database is very likely to be one of
those products, since storing and retrieving data in Relational DBMS has become an undifferentiated commodity that results in high costs. This perception of SQL by business users will lead companies to seek out lower-cost alternatives.



As one of only six publicly traded database companies, Pervasive has a
unique opportunity to translate many of our database and data management core competencies into an emerging position in the open source database marketplace. We have historically operated in a very small segment of the overall database marketplace.
Estimates are that the total database market size is approximately $10 to $11 billion, with the embedded segment representing only about $400 million of this total available market. Because we have not had a competitive position outside this
embedded segment, we are uniquely positioned among database providers to compete in the largest segment of the market with a disruptive open source business model. It is a rare opportunity that an incumbent player finds itself also in the position
of being a market disrupter, which is part of our enthusiasm around the future of Pervasive Postgres. Now companies who have to write very large checks for traditional enterprise class database products, six figure checks in many cases, have a
credible alternative for an extremely cost effective, open source solution.



We believe that maturation and commoditization trends in the software market, trends in the SME market, trends in the data and application integration market, and trends in open source will favor Pervasive over the
competition. We believe that the market for data infrastructure software, in particular, is experiencing significant market disruption due to the high cost of many competing, more labor intensive solutions. We further believe that in maturing and
cost sensitive markets, value leaders tend to prevail. Pervasive, with its strengths of high-performance, low cost data management and integration solutions, is well positioned to benefit from the trends in these markets.



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The Pervasive Strategy



Our goal is to be the global value leader in data infrastructure software, enabling businesses to capitalize on their data investments, while
accelerating the inevitable transition from high cost to high value. Key elements of our strategy are:



Leverage our Core Competencies in Data Infrastructure.We have excelled in simplifying the complexity
associated with data management for thousands of client/server applications, representing nearly every industry in every major region of the world. It is extensive communication with a diverse set of customers that enables us to understand their
needs and prioritize the requirements for future product development. This includes identifying needs relevant to a particular horizontal or vertical market. Due to our strength in high-volume transaction markets including Accounting, Healthcare,
Banking and Financial Services, and Retail Point-of-Sale, we intend to leverage our understanding of, as well as our success in, these markets for new business development.



Our low TCO database is widely installed, with more than 6 million server seats licensed since our inception in 1994.
Many of these seats are deployed in SME organizations that have not yet adopted the latest generation of our database products. Therefore, we believe we have an opportunity in upgrading these seats to our current or next-generation data management
products. We plan to reach these customers through our loyal channel of ISVs, VARs, systems integrators and consultants and continue to seek their input to guide our product development activities. We intend to conduct joint marketing programs with
our channel partners and customers encouraging upgrades to recent versions of our database, upgrades of additional user counts, upgrades to new or additional platforms, as well as upgrades of the ISVs applications themselves.



Our ongoing and past investments in training and educating our customers
worldwide, our long-term relationships with ISVs and VARs and our success in encouraging them to embed our products into their applications have created a competitive advantage in the marketplace. We intend to continue to build customer loyalty by
providing significant revenue opportunities, meaningful certification programs and other offerings via our enhanced marketing, training, consulting and lead-sharing programs, as well as by ensuring customer satisfaction through the delivery of high
quality products and support programs.



Grow our
Integration Product and Services Revenues.    We continue to market our expanding integration product line to our customer base across Europe and we believe that our messages are being well received across the spectrum of
potential customers. During the latter part of fiscal year 2004 and during fiscal year 2005, we added integration sales and sales engineering resources in Europe, signed several new regional distribution partners, and introduced an enhanced
integration product line to our base of international distributors. The new direct sales territories are adding to pipeline opportunities and we continue to book orders through our distribution partners. Further, we expanded our master distribution
agreement with our long-time partner in Japan, AG-TECH, to cover the localization, marketing, sales and support of Japanese versions of our integration products, the first of which was released toward the end of fiscal year 2005. Historically,
international sales has typically represented less than 10% of integration product revenues, compared to 45% for our embedded database business, and we are focused on opportunities represented in our international markets this coming fiscal year.



We continue to deliver an enhanced suite of integration
products to our existing channel of ISV customers, and new ISV customers, to speed and simplify the movement of data in the field when they win competitive deals, and to enable them to pre-wire their products with embedded integration to
interoperate with adjacent business applications. ISVs, including software-as-a-service vendors, CRM vendors and packaged software vendors, have two critical problemsonce they sell a new customer on their solution, they need to help their
customers migrate and integrate data to the new application. Today, customers expect migration and integration to be included in the solution. Combining our deep knowledge and 20 years of migration and integration expertise, we provide easy-to-use,
cost effective migration and integration technology, services, training and



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partner programs. These programs help ISVs, ASPs and systems integrators transform their applications into integration-ready solutions that are
scalable from one-time data migrations to ongoing application integration within and beyond organizational boundaries.



We intend to continue investing in product development, marketing and sales activities focused on enhancing and leveraging our integration product line
through our well developed, existing channel of ISVs, as well as new ISVs, ASPs and systems integrators. Given the sales cycles for selling to an ISV with perhaps thousands of end user customers and given the development processes and schedules of
our ISV customers, we see this as our longest-term investment in revenue opportunities associated with integration products solutions.



Increase Awareness and Grow Revenues for Pervasive Postgres.    We continue to invest in the development of new
functionality and improved performance for Pervasive Postgres, in the areas of usability, reliability and scalability. We also continue to invest in awareness and demand creation campaigns for Pervasive Postgres. We have made significant strides in
the development of key strategic relationships that will help drive adoption of Pervasive Postgres. We announced that Pervasive Postgres has achieved Novell YES certification for reliable use with SUSE Linux Enterprise Server and we delivered
Pervasive Postgres for Sun Solaris Operating System on Sun SPARC and x86 AMD Opteron platforms. Together with our world-class support and services, Solaris 10 OS users now have a commercially backed, open source database option.



While we continue to believe the commercial market is still somewhat early
from an open source database adoption perspective, we are well timed and positioned to be a player in this emerging space. We intend to expand upon existing partnerships, and enter into new partnerships with Pervasive Postgres, and invest in product
improvements and accelerated participation in the PostgreSQL community as we continue to expand the capabilities of this product. We also expect to offer new complementary products and services, including packaged migration products,
training and certification programs as well as a wider array of support offerings for large scale enterprise class ISVs who want to lower the cost of deploying their own products.



Pursue growth by acquisition and complementary business partnerships.    We have a
dedicated team of corporate development and business development professionals who are focused on the growth opportunities for our business via acquisition of companies and technologies and by building upon the relationships we have formed with
current strategic partners. We also intend to invest in partnerships that provide us with meaningful benefits, including increased market recognition and visibility, access to new markets, customers, sales channels and consulting services, and
diversification of and valuable improvements to our product line.



Remain Focused on Profitability.    Since March 2001, we have reported eighteen consecutive quarters of profitability. Our past profitability is a result of: 1) our sharp focus on our core data
management business; 2) our solid execution of a significant acquisition; and 3) prudent expense management. Our performance was achieved in the midst of a very difficult economic environment and structural change in the software industry. We
remain focused on profitability through our prudent management of expenses, increasing marketing and sales productivity around the globe and as a result of our next-generation product releases and product line expansion anticipated in fiscal year
2006 and beyond.



To further demonstrate our focus on
profitability, in fiscal year 2005 we continued to develop our product engineering infrastructure in India, which will enable us to speed the time required for bringing new products to market at competitive prices. Our approach is to diversify our
global development capabilities and accomplish more with our current levels of actual and projected spending. We recently took our commitment to a new level by signing a lease in Bangalore for 11,000 square feet, doubling our previous space, and now
have almost 40 employees located in Bangalore. In addition, we continued to contract with our India-based third party development partner for more than 50 contract developers working specifically on Pervasives behalf. We now have almost 90
employees or contractors in our India-based development operations. We are beginning to realize some of the benefits of a more globalized production methodology, and these benefits are being reinvested back into the business to drive our growth
initiatives.



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Products



Our software products offer customers a proven, cost-effective way to manage, integrate, secure and analyze their data. Delivered both directly and
through ISVs, VARs, systems integrators and other vendors, our products are designed to provide solid business value while reducing the time, complexity and cost associated with data infrastructure projects. Our focus on high value solutions that
provide low TCO, reflects our belief in the strategic importance of this value proposition for our customers, where high performance, flexibility for growth, and time to market are paramount.



Data Management Product Line



We offer a wide range of products for secure data management that deliver
faster ROI, greater business flexibility, enhanced revenue opportunities and proven accountability for data infrastructure investments at a lower total cost of ownership.



Pervasive.SQL, our core database product offering, combines the high performance associated with
enterprise-class databases with numerous low-maintenance features and is ideally suited for client/server, Web and mobile mission-critical applications deployed on a variety of the most popular operating systems.



Our offerings allow a broad range of customers to:



| |  |  | Build low total cost of ownership applications for use in SME environments characterized by little to no IT infrastructure or in departments within large enterprises;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Develop, upgrade or migrate applications that support a broad range of operating systems, including Windows, Linux and NetWare; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------



| |  |  | Embed our database inside their commercial or internally developed application, permitting development of a tightly integrated application.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------



Our most-recent version, Pervasive.SQL V9, was released in March 2005, and
incorporates many of the most-requested customer features and benefits, as well as a boost in SQL performance, providing compelling reasons for upgrades and competitive wins in the marketplace. Development began in 2005 on the next major release of
Pervasive.SQL, which is slated for release in fiscal year 2007.



Pervasive DataExchange Real-Time Backup Edition, our core replication offering, offers targeted solutions to data movement and synchronization problems like maintaining an offsite warm backup, driving transactional data into a
data portal, and connecting remote databases. DataExchange solutions feature a combination of product and services customized for the business problem to be solved:



| |  |  | Data Continuityaugments end-of-day tape backups by maintaining an up-to-date warm standby at an offsite location;
| | - |  | ------------------------------------------------------------------------------------------------------------------



| |  |  | Data Synchronizationautomates the near real time sharing of data between locations, supporting the growth in the number of offices and locations and related increase in the
geographic distribution of data; and
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Data Portalbridges the gap between existing transactional systems and the Web portal or the data warehouse, allowing system access for non-transactional activities, such as
query and analysis, without disrupting, modifying or taxing the performance of the transactional system.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



While Pervasive DataExchange Real-Time Backup Edition is most appropriate for organizations that handle constantly changing data requiring
up-to-the-minute replication, Pervasive Backup Agent is best suited for customers needing weekly or nightly copies and protection of their data. The two products address different needs driven by the desired backup frequency, but, in
many situations, both products will be run side-by-side since they do have separate strengths. As a technology extension to our core database, Backup



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Agent can be completely embedded into applications. This simple to deploy, low-cost product is tailored for SMEs that require regular backup of their
business data. Pervasive Backup Agent helps provide the integrity and consistency of replicated data by keeping the Pervasive.SQLdatabase up and running in continuous operations mode while a duplicate copy is being made. When installed directly onto a server along with Pervasive.SQL, the product requires no configuration settings and no database
administrator maintenance. Pervasive Backup Agent can be integrated into existing backup processes and should be run in conjunction with complementary third-party backup products.



Pervasive AuditMaster, our core security product offering, monitors and reports all activity occurring in a
Pervasive.SQL database, leveraging deep-level capture, report and alert technology to enable monitoring of mission critical data without the high costs of application redevelopment and deployment, training, or on-going maintenance. This technology
is particularly relevant in the accounting and healthcare markets, both of which are presently dealing with increased regulatory requirements brought about by the Sarbanes Oxley Act and the Health Insurance Portability and Accountability Act
(HIPAA). AuditMaster provides data access accountability by means of three modules:



| |  |  | CaptureThe Capture module is an easily installed database plug-in. It serves somewhat like an all-seeing flight recorder, trapping every event in the database in a detailed
trail. It is installed at the database level, so when the database is running, AuditMaster Capture is running, maintaining a complete log record of events occurring in the database;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | ReportOnce the Capture module establishes the audit trail, the Report module allows queries on it, enabling a security administrator to perform audits on the activity within
the application by verifying past activities or analyzing patterns and trends; and
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | AlertWhile Reports are historical in nature, the Alert module offers proactive surveillance of future data activity. Once defined in AuditMaster, alert triggers wait for
specified events of interest based on the entire range of user actions, including creating, updating and deleting data, or even simply reading it. When a watched for event occurs, AuditMaster immediately triggers an Alert, which can take the form of
an email to one or more recipients, a call to another application, or the start-up of a new application.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



In response to the growing need for ad hoc search capabilities in Pervasive.SQL powered software applications, we acquired a license to search engine
technology in June 2003 for release to the global market of Pervasive.SQL ISVs. Slated for inclusion in a future version of Pervasive.SQL 9, our new search functionality will allow application developers to incorporate powerful text and numeric
search capabilities directly into their Pervasive.SQL-based applications with a minimum of development effort. With our search functionality, developers can build custom search User Interfaces directly into their applications allowing the
applications end user to quickly search for any data in the Pervasive.SQL database using simple text queries rather than complicated SQL syntax. Matching results are returned through XML allowing the application developer to determine the best
way to display those results to the end user.



Pervasive
Postgres, our validated and supported distribution of PostgreSQL, is one of the worlds most advanced open source databases. The database itself is available without fee, and we offer related fee-based support, updates, value-added
tools, and professional services. Pervasives backing provides the assurance enterprises need to confidently utilize and deploy open source database technology. Pervasive Postgres has all of the features of a commercial quality relational
database management system and more:



| |  |  | SQL Compliancy,
| | - |  | ---------------



| |  |  | Supports advanced features such as Views, Stored Procedures and Triggers,
| | - |  | -------------------------------------------------------------------------



| |  |  | Scalability to large numbers of users, tables and rows,
| | - |  | -------------------------------------------------------



| |  |  | Secure against unauthorized access through its sophisticated security system,
| | - |  | -----------------------------------------------------------------------------



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| |  |  | Resilient to system failures through its advanced logging capabilities, and
| | - |  | ---------------------------------------------------------------------------



| |  |  | Available under the business friendly BSD open source license, making it free for all uses, including use in commercial settings and embedding within closed source applications.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Data and Application Integration Product
Line



Based on technology acquired from Data Junction
Corporation, Pervasives integration product line now augments the companys industry-leading low-TCO data management software offerings. Our integration products for data infrastructure management have been developed on a single, open
integration platform designed to grow and scale for diverse integration projects, providing the industrys best combination of performance, flexibility and total cost of ownership.



Our integration products reduce the complexity, costs and risks associated with traditional labor-intensive integration
methods by providing a versatile and configurable integration architecture for rapid implementation and ease of use. This flexibility enables mid-sized businesses and departments of large enterprises to create and fine-tune their solutions for
frequently changing business needs and requirements. Our integration products, which feature a comprehensive set of easy-to-use visual design tools to rapidly build and test integration processes, regardless of size and complexity, across hundreds
of data formats and applications within and outside of the enterprise, include:



| |  |  | Pervasive Data Migration Toolkit, which provides a simple, flexible and cost-effective way to migrate data between legacy and new applications or data stores;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Pervasive Data Integrator, which aggregates and integrates data quickly and cost-effectively for high volume, continuous processing, targeting the needs in the traditional
Extract, Transform and Load, or ETL market as a feed for data warehouses and ultimately business intelligence tools;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Pervasive Business Integrator, which is ideal for integrating multiple business applications within or across organizations for real-time, event-drive integration closely
aligned with key business processes;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Pervasive Data Profiler,reduces the complexities, risk, and expense associated with manually checking data, improving IT productivity, eliminating costly rework, and
increasing ROI around applications and business processes;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Pervasive Integration Manager, a browser-based management console, provides single-point administration, performance monitoring and job scheduling of integration processes
running on remote integration engines;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Oracle Adaptors, enabling rapid access to heterogeneous data and offering unique capability to process non-relational and semi-structured content that is buried deep inside
many companies, reducing the complexity of low-level interface coding, and reducing cost, time and risk;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Pervasive Message Store, a data collection framework allowing companies to receive, integrate, store, audit and retrieve data sent in message formats such as XML or EDI, and
in industry standards such as HIPAA, HL7, or ACORD; providing companies in healthcare, insurance and other industries with a high value, low TCO solution to become compliant with these industry standards without expensive custom coding and the
significant time and effort of learning the complexities of these industry standards themselves, and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Embeddable versions of each, namely, Pervasive Data Migrator Embedded,Pervasive Data Integrator Embedded,and Pervasive
Business Integrator Embedded. These products are specifically targeted for use by ISVs worldwide to help them to pre-wire competitive advantage into their applications to better fit within customer infrastructure, vastly
improving data and application integration capabilities.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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Sales and Marketing



Indirect Channel Sales and Channel Marketing



Many SME organizations with limited IT resources, as well as departments of larger enterprises, rely on our channel to help them develop, deploy, maintain
and integrate business-critical data and packaged applications. Our products and marketing approach are specifically tailored to meet the needs of our channel partners and their customers. We believe our sharp focus on our customers and their
end-users provides us with multiple sales opportunities, a cost-effective, value-added source of service and technical support and a large, loyal and well-educated channel that develops and deploys applications using our offerings.



Our channel sales and marketing organizations focus on our worldwide channels
by targeting software developers who build client/server, Web and mobile applications and the Web and systems integrators, consultants and value-added resellers who sell and implement the applications to end users. Our marketing organization has
primary responsibility for product direction and has developed a number of programs utilized by the sales organization to support our channel partners, such as our Original Equipment Manufacturer (OEM) program for ISVs and partner programs for Web
and systems integrators, consultants and VARs. These programs are worldwide in scope and capture leads from a variety of activities including direct response marketing and advertising, joint marketing and public relations.



Our OEM program focuses on recruiting and retention of independent software
vendors worldwide who embed our products on an OEM basis. The OEM program is designed to build mutually beneficial strategic relationships between Pervasive and ISVs and generate ongoing royalties for us through licensing contracts, which are
typically for three-year terms. This program offers our OEM partners joint marketing services, volume discounts, specialized technical support, training and consulting, which enable delivery of tightly integrated solutions to end users.



Our other sales and marketing programs recruit and retain software
developers and channel partners who develop applications that are designed to be deployed with shrink-wrap versions of our data management products. These programs include trade shows, direct mail, telemarketing and telesales activities and hands-on
seminars that are designed to further recruit, develop, support and train software developers and channel partners to facilitate the deployment of client/server, Web and mobile applications based on our products. If the sales volumes of these
applications become sufficient, the sales group recruits these software developers into our OEM program.



Our international channel sales organization utilizes a channel of distribution partners and OEMs worldwide. The distribution partners implement sales and
marketing programs for a particular region, typically using our distributor or master distributor programs. In addition to managing these distributor relationships, the international sales group recruits and supports software developers and channel
partners with the same programs as the domestic sales groups. We currently have international offices located in Brussels, Frankfurt, London, Paris and Bangalore and a joint venture in Japan.



Direct Sales and Marketing



Unlike typical SME organizations, many mid size companies and larger
enterprises have access to greater IT resources, and therefore tend to rely less on third parties for packaged solutions. Our approach for reaching these prospective customers is based generally on a direct marketing and direct sales model.



Our direct marketing efforts are comprised largely of in-house
direct email/mail campaigns, specifically targeting IT departments and business managers as well as vertical marketing initiatives aimed at the Financial, Banking and Healthcare sectors. While our primary focus is on small to mid size enterprises
and departments within larger businesses, our products often scale to satisfy the needs of large enterprises resulting in direct sales to these organizations. The primary goal of these marketing campaigns is to direct potential customers back to



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our corporate Web site and have them download white papers, strategic reports, and other general strategic marketing materials as well as trial versions of
our software products, in particular, our integration products. Through our press and industry analyst relationships, the marketing team seeks industry endorsements that drive target customer buying within the integration segment.



We employ a sales model that sells directly into enterprises at both the
corporate and departmental level. Sales Executives are part of a well defined and comprehensive sales process based upon a sales methodology used by everyone in the sales organization that contains six stages from initial interest through evaluation
and negotiation. The sales force is supported by customer relationship management system software (CRM) that supports the sales methodology, combined with sales quoting and accounting software, as well as a staff of highly trained Sales Engineers
who provide high quality technical pre-sales support during the sales cycle.



Because of the small footprint of our software combined with the its ease of use, we enjoy the benefits of deploying a sales model that is primarily through a staff of Inside Sales Executives which maximizes the
effectiveness of a strategic staff of Field Sales Executives. This model facilitates conducting the majority of our sales efforts via a telephone/web-demonstration process composed of interviews with potential customers to determine their interest
level and needs, resulting in on-target product recommendations. As a result, a combination of customer-needs driven interactive demonstrations of our products using the Internet for presentation, often with a specific problem from the customer,
shown as a proof of concept is produced. By using the Internet for delivering these proofs of concept and the interactive demonstrations, Pervasive is able to maintain a lower sales cost which ultimately translates into our ability to offer greater
integration capabilities at an overall lower total cost of ownership. The process described above allows a relatively small team of highly capable Field Sales Executives to focus on strategic sales opportunities, which typically represent our larger
customers.



Customer Service and Technical Support



We offer multiple levels of worldwide customer services, including technical
support and product maintenance. First level, or front line, support responds to most customer inquiries that are routine in scope via telephone and email. Second level, or back line, support responds to escalated technical issues and supports our
large partners with dedicated technical expertise.



Our
Customer Service department is committed to understanding the wide variety of business applications involving data management and integration. In order to assist customers quickly and successfully, a great deal of domain knowledge must be acquired
by each member of the team. Each Technical Support specialist must have a working knowledge of a broad range of relational database management systems, including UNIX, SQL queries, VB, Java, among many others. In addition, developer level support
ensures that developers can obtain assistance from a team knowledgeable in the developers programming language and toolset of choice, resulting in a shortened time to market for the developers internal or commercial application.



Our Web site includes a comprehensive on-line support area
that is monitored and updated continually by the Customer Service department. With this extensive library of Web-based resources, customers have 24/7 access to the documentation, maintenance releases, FAQs, interactive tutorials and knowledge base
they need to answer their questions and resolve their problems quickly and easily. Customers may also submit an electronic support request form, via the Web site, to Customer Service inquiring about specific problems or requesting support for more
detailed, particular concerns.



Worldwide customer services are
provided through our corporate offices in Austin, Texas. International customer services are complemented by our call center in Brussels, Belgium, our support center in Bangalore, India, and via our multi-lingual support Website.



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Professional Services Department



The Professional Services Division (PSD) is focused primarily on maximizing integration ROI for customers. This division,
consisting of Implementation Services and Training Services, has steadily built a record of success and fast deployment for clients in its five years of existence.



In order to provide further evidence of the performance of our integration tools and applications, PSD can develop proofs of
concept and benchmarks on a sample of a customers integration project, or on other sample migration or integration processes. Through PSDs consultative experience, it can also suggest ways to improve and optimize throughput or system
performance.



PSD works closely with clients to architect and
build special applications and/or functionality around the integration tools as needed to optimize project performance. PSD also works with clients to ensure that the integration tools are properly embedded and have full connectivity to other
internal or external applications.



The Implementation Services
group in PSD is available to assist customers, partners and sales prospects with benchmarking/proof of concept, rapid, client-oriented deployment and implementation, or long-term consulting. Our team is composed of developers, product specialists,
and business analysts devoted to delivering customer and partner success.



The Training Services group in PSD provides multiple training options each month in Austin, Texas. These classes are open to all licensed users of the current version of our software. Users can take standard product
training and follow-up with focused workshop sessions. Additional consulting time can be scheduled after each session to augment course learning. The same courses and workshops are also available on-site at the customers location and via the
Web.



PSD will also fulfill demand for fee-based consulting
services from our software developer customers and channel partners. These consulting services may include development services to migrate applications on competing databases to Pervasive.SQL, migrate existing applications to the Web, upgrade
existing applications to the latest Pervasive.SQL release, and optimize database functionality through performance testing, database schema design and review, and the delivery of services related to our DataExchange, AuditMaster or Full Text Search
offerings. Consulting opportunities are often referred to our channel partners to strengthen channel loyalty, build the channels technical ability and increase the resource base available for future growth.



Research and Development



We have made substantial investments in research and development through
both internal development and technology acquisition. As of June 30, 2005, we had 93 employees in research and development, in addition to more than 50 contract developers with a third party Indian development partner, and our research and
development expenditures for fiscal years 2003, 2004 and 2005 were $8.0 million, $10.0 million and $11.1 million, respectively. We will continue to invest heavily in focused research and development resources to further our vision of the future of
data infrastructure software, enabling businesses to capitalize on their data investments, while accelerating the inevitable transition from high cost to high value.



Our development efforts consist primarily of driving significant levels of innovation into new and current product lines
with primary goals being continuous improvement of the performance of existing product features, the addition of new differentiating product features to simplify development with our products, deployment and use of our products, and the on-going
investment in emerging platform opportunities.



Our research
and development investments in fiscal 2006 are focused on the following:



| |  |  | Embedded database technologyWe continue to commit significant development resources to enhancing Pervasive.SQL with performance, features and functionality required by SME
customers today and the channel of ISVs, VARs and consultants who serve them.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | Data replication technologyWe continue to invest in data replication technology for deployment into customer environments where high availability and security of data is a
critical need. Pervasive DataExchange offers targeted solutions to data movement and synchronization requirements like maintaining an offsite warm backup, driving transactional data into a data portal and connecting remote databases.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | SecurityWe will continue to invest in Pervasive AuditMaster, our core security offering, which monitors and reports all activity occurring in a Pervasive.SQL database,
leveraging deep-level capture, report and alert technology to enable monitoring of mission critical data without the high costs of application redevelopment and deployment, training, or on-going maintenance. This technology is particularly relevant
in the accounting and healthcare markets, both of which are presently dealing with increased regulatory requirements brought about by the Sarbanes Oxley Act and the Health Insurance Portability and Accountability Act (HIPAA).
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Full text search technologyWe continue to invest in Pervasive Full Text Search technology which enables users to perform advanced searches to easily find information by
allowing partial match, wild card and fuzzy logic searches into application and Web portal data, consistently providing sub-second responses across large databases.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Platform expansionOur integration products are deployable on a wide variety of industry-standard platforms such as UNIX (Sun Solaris, IBM-AIX and HP-UX), Linux and the various
Microsoft Windows platforms. Our goal is to offer the widest deployable single integration solution available in the market and extend our appeal beyond our typical customer.
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Integration embeddabilityWe continue to invest development resources in the further enhancement of the three embeddable versions of our low-total cost of ownership integration
technology, namely, Pervasive Data Migrator Embedded, Pervasive Data Integrator Embedded,andPervasive Business Integrator Embedded. These products are specifically targeted for use by Independent Software Vendors
worldwide to help them to pre-wire competitive advantage into their applications to better fit within customer infrastructure, vastly improving data and application integration capabilities.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Open source database and related servicesWe continue to invest development resources in the enhancement of Pervasive Postgres and related solutions and services, including
data migration, data integration, database management and monitoring, and performance tuning. We continue to invest in targeted markets by delivering open source technology and related solutions and services for specific industry verticals such as
healthcare and specific platforms such as Sun Solaris.
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | India development operationsWe continue to develop our product engineering infrastructure in India, which will enable us to speed the time required for bringing new products
to market at competitive prices. Our approach here is to diversify our global development capabilities and accomplish more with our current levels of actual and projected spending. We recently took our commitment to a new level by signing a lease in
Bangalore for 11,000 square feet, doubling our previous space, and now have almost 40 employees located in Bangalore. In addition, we continued to contract with our India-based third party development partner for more than 50 contract developers
working specifically on Pervasives behalf. We now have almost 90 employees or contractors in our India-based development operations. We are beginning to realize some of the benefits of a more globalized production methodology, and these
benefits are being reinvested back into the business to drive our growth initiatives.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Competition



We
encounter competition for our embedded database products primarily from large, public companies, including Microsoft, Oracle, Sybase, IBM and Progress. In particular, Sybases small memory footprint database software product, Adaptive Server
Anywhere, and Microsofts product, SQL Server, directly compete with our products. Further, our recently announced Pervasive Postgres initiative competes directly with corporate database



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solutions sold by the companies listed above. And, because there are relatively low barriers to entry in the software market, we may encounter additional
competition from other established or emerging companies providing database products based on existing, new or open-source technologies.



Open-source software, which is an emerging trend in the software marketplace, may impact our business as interest, demand and use increases in the
database segment and poses a challenge to our business model, including recent efforts by proponents of open-source software to convince governments worldwide to mandate the use of open-source software in their purchase and deployments of software
products. Firms adopting the open-source software model typically provide customers software produced by loosely associated groups of unpaid programmers and made available for license to end users at nominal cost, and earn revenue on complementary
services and products, without having to bear the full costs of research and development for the open-source software. Because the present demand for open-source database software is largely concentrated in major corporations, our embedded database
business has not been adversely affected to date. However, it is likely that increased adoption of Linux will drive heightened interest in other more mature software categories such as database and certain business applications. Our recently
announced open-source software initiative, Pervasive Postgres, is our response to the emerging trend in open source software in the corporate database market. To the extent competing open-source software products gain increasing market acceptance,
sales of our products may decline, we may have to reduce prices we charge for our products, and our revenue and operating margins may decline. Mass adoption of open source databases in the SME market could have a material adverse impact on our
database business.



Application service providers (ASPs) may
enter our market and could cause a change in revenue models from licensing of client/server and Web-based applications to renting applications. Our competitors may be more successful than we are in adopting these revenue models and capturing related
market share.



The market for our integration products is
highly competitive and subject to rapidly changing technology. We principally compete against ETL (extract, transform and load) software vendors and data warehousing and application integration software providers. Such competitors include Ascential
(recently acquired by IBM), Business Objects, Embarcadero, Informatica, and Information Builders. In addition, we compete or may compete against database vendors that currently offer, or may develop, products with functionalities that compete with
our solutions. These products typically operate specifically with these competitors proprietary databases. Such competitors include IBM, Microsoft and Oracle. Competition also comes in the form of custom code, where potential customers have
sufficient internal technical resources to develop solutions in-house without the aid of our products or those of our competitors.



Proprietary Rights



Our success depends to a significant degree upon our ability to protect our software and other proprietary technology. We rely primarily on a combination
of copyright, trademark and trade secret laws, confidentiality procedures and contractual provisions to protect our proprietary rights. However, these measures afford us only limited protection. Furthermore, we use third-party service providers in
India for some of our development and the laws of India do not protect proprietary rights to the same extent as the laws of the United States. In addition, we rely in part on shrink wrap and click wrap licenses that are not
signed by the end user and, therefore, may be unenforceable under the laws of certain jurisdictions. Therefore, our efforts to protect our intellectual property may not be adequate. We cannot be certain that others will not develop technologies that
are similar or superior to our technology or design around the copyrights and trade secrets owned by us. Unauthorized parties may attempt to copy aspects of our products or to obtain and use information we regard as proprietary. Although we believe
software piracy may be a problem, we are unable to determine the extent to which piracy of our software products occurs. In addition, portions of our source code are developed in foreign countries with laws that do not protect our proprietary rights
to the same extent as the laws of the United States.



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Employees



As of June 30, 2005, Pervasive employed 251 full-time employees, including 89 in sales and marketing, 93 in research and development, 35 in
professional services, customer service and technical support, and 34 in general and administrative. We are not subject to any collective bargaining agreement, and we believe that our relationships with our employees are good.



Facilities



Our leased headquarters facility in Austin, Texas, consists of approximately 91,000 square feet. The facility provides
additional space and expansion options and is leased through October 2011. We currently lease international offices in Brussels, Frankfurt, London, Paris and Bangalore.



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RISK FACTORS THAT MAY AFFECT FUTURE RESULTS



You should carefully consider the risks described below before making an
investment decision. The risks and uncertainties described below are not the only ones we face. Any of the following risks could harm our business, financial condition or results of operations. In such case, the trading price of our common stock
could decline, and you may lose all or part of your investment. Please see the Special Note Regarding Forward-Looking Statements elsewhere in this Report on Form 10-K.



Our Financial Results May Vary Significantly from Quarter to Quarter



Our operating results have varied significantly from quarter to quarter at times in the past and may continue to vary
significantly from quarter to quarter in the future due to a variety of factors. Many of these factors are outside of our control. These factors include:



| |  |  | fluctuations in demand for our products, upgrades to our products, or our services;
| | - |  | -----------------------------------------------------------------------------------



| |  |  | fluctuations in the demand for and deployment of client/server applications in which our Pervasive.SQL products are designed to be embedded;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | fluctuations in demand for our products due to the potential deteriorating economic conditions on our customer base;
| | - |  | --------------------------------------------------------------------------------------------------------------------



| |  |  | seasonality of purchases and the timing of product sales and shipments;
| | - |  | -----------------------------------------------------------------------



| |  |  | unexpected delays in introducing new products and services or improvements to existing products and services;
| | - |  | -------------------------------------------------------------------------------------------------------------



| |  |  | new product releases, licensing models or pricing policies by our competitors;
| | - |  | ------------------------------------------------------------------------------



| |  |  | acquisitions or mergers involving us, our competitors or customers;
| | - |  | -------------------------------------------------------------------



| |  |  | our integration of Data Junction;
| | - |  | ---------------------------------



| |  |  | impact of changes to our product distribution strategy and pricing policies;
| | - |  | ----------------------------------------------------------------------------



| |  |  | lack of order backlog;
| | - |  | ----------------------



| |  |  | loss of a significant customer or distributor;
| | - |  | ----------------------------------------------



| |  |  | changes in purchasing and/or payment practices by our distributors or other customers;
| | - |  | --------------------------------------------------------------------------------------



| |  |  | a reduction in the number of independent software vendors, or ISVs, who embed our products or value-added resellers, or VARs, who sell and deploy our products;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | changes in the mix of domestic and international sales;
| | - |  | -------------------------------------------------------



| |  |  | impact of changes to our geographic investment levels and business models;
| | - |  | --------------------------------------------------------------------------



| |  |  | changes in the cost of routine business activities, e.g., the increasing cost of directors and officers liability insurance premiums;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------



| |  |  | gains or losses associated with discontinued operations;
| | - |  | --------------------------------------------------------



| |  |  | changes in our business plan or strategy;
| | - |  | -----------------------------------------



| |  |  | changes in generally accepted accounting principles in the United States; and
| | - |  | -----------------------------------------------------------------------------



| |  |  | costs associated with the initial compliance requirements of Section 404 of the Sarbanes-Oxley Act of 2002.
| | - |  | -----------------------------------------------------------------------------------------------------------



We derive a significant portion of our revenues from relatively large
transactions. The sales cycles for these transactions tend to be longer than the sales cycles on smaller orders. This longer sales cycle for large transactions makes it difficult to predict the quarter in which these sales will occur. Accordingly,
our operating



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results may fluctuate from quarter to quarter based on the existence and timing of larger transactions. A reduction in large transactions during any quarter
could materially impact our revenues.



Our revenue growth and
profitability depend on the overall demand for our products and services, which in turn depends on general economic and business conditions. The nature and extent of the effect of the current economic climate on our ability to sell our products and
services is uncertain. A softening of demand for our products and services caused by weakening of the economy may result in decreased revenues or lower growth rates. There can be no assurance that we will be able to effectively promote revenue
growth rates in all economic conditions.



Significant portions
of our expenses are not variable in the short term and cannot be quickly reduced to respond to decreases in revenues. Therefore, if our revenues are below our expectations, our operating results are likely to be adversely and disproportionately
affected. In addition, we may change our prices, modify our distribution strategy and policies, accelerate our investment in research and development, sales or marketing efforts in response to competitive pressures or pursue new market
opportunities. Any one of these activities may further limit our ability to adjust spending in response to revenue fluctuations.



Seasonality May Contribute to Fluctuations in Our Quarterly Operating Results



Our business has, on occasion, experienced seasonal customer buying patterns. In recent years, we have generally experienced
relatively weaker demand in the quarters ending March 31 and September 30. We believe that this pattern may continue. In addition, we anticipate that demand for our products in Europe and Japan will decline in the summer months because of
reduced corporate buying patterns during the vacation season.



We Currently
Operate Without a Backlog



We generally operate with
virtually no order backlog because our software products are shipped and revenue is recognized shortly after orders are received. This lack of backlog makes product revenues in any quarter substantially dependent on orders booked and shipped
throughout that quarter.



Our Performance Depends on Market Acceptance of
Pervasive.SQL



We derive a substantial portion of our
revenues from the license of our Pervasive.SQL products. Continued market acceptance of Pervasive.SQL may be influenced heavily by factors outside of our control such as new product offerings or promotions by competitors, mergers and acquisitions of
customers and competitors, the product development and deployment cycles of developers and resellers who embed or bundle our products into packaged software applications and demand for applications of the type built on our products. Market
acceptance of Pervasive.SQL V9 (released March 15, 2005) and future upgrades also may be influenced by factors in our control such as product quality, relative demand for feature and functionality upgrades and any future product announcements
or price changes.



Revenue from our embedded database product,
Pervasive.SQL, decreased in fiscal year 2005, relative to the fiscal year 2004. We believe this decrease was due to a variety of factors, including but not limited to, the length of time since the last major version release of our database product
(Version 8 in December 2002), increasing competition and what we believe to be the increasingly negative impact of general economic conditions on our ISV customers who build applications utilizing our database software and reduced demand for the
ISVs software applications themselves. Revenue from recently introduced add-on products for our database products, namely AuditMaster and Data Exchange, continued to generate database related revenue in the year ended June 30, 2005 as we
continue to market these add-on products to our large base of database customers. In addition, we believe the integration products we acquired in fiscal year 2004 represent an excellent growth opportunity as we invest in revenue synergies and
opportunities presented by the acquired business, combined with our historical database business and channels. A continued reduction in our embedded database business, or our inability to grow our integration products business, could have a material
adverse effect on our business, operating results and financial condition.



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Our Efforts to Develop and Maintain Brand Awareness of Our Products May Not be Successful



Brand awareness is important given competition in the market for data
infrastructure software products. We are aware of other companies that use the word Pervasive either in their marks alone or in combination with other words. We expect that it may be difficult or impossible to prevent third-party usage
of the Pervasive name and variations of this name for competing goods and services. Competitors or others who use marks similar to our brand name may cause confusion among actual and potential customers, which could prevent us from achieving
significant brand recognition. If we fail to promote and maintain our brand or incur significant related expenses, our business, operating results and financial condition could be materially adversely affected.



We May Face Problems with Our Acquisition of Data Junction Corporation



On December 8, 2003, we announced the completion of our acquisition of
privately held Data Junction Corporation, a pioneering data and application integration company based in Austin, Texas, for approximately $16.6 million in cash, net of $6.5 million of cash held by Data Junction at the time of the closing of the
transaction, and 5 million shares of our common stock. We cannot be certain that the acquisition of Data Junction will be successful or that we will realize the anticipated benefits of the acquisition. In particular, we may not realize the
strategic and operational benefits and objectives we had anticipated, including, greater revenue and market opportunities, maintaining industry leadership and consistent profitability. In addition, the demand for our combined product offerings may
fluctuate and we may face increased competition in the markets for our products. Any of these factors may have a material adverse effect on our business, operating results and financial condition.



We Must Succeed in the Data Management Infrastructure Software Market as well as the Data
Integration Software Market if we are to Realize the Expected Benefits of the Merger



Our long-term strategic plan depends upon the successful development and introduction of products and solutions that address the needs of the data management infrastructure software market as well as the data
integration software market. In order for us to succeed in these markets, we must align strategies and objectives and focus a significant portion of our resources towards serving these markets.



The challenges involved include the following:



| |  |  | coordinating software development operations in a rapid and efficient manner to ensure timely release of products to market;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------



| |  |  | combining product offerings and product lines quickly and effectively;
| | - |  | ----------------------------------------------------------------------



| |  |  | successfully managing difficulties associated with transitioning current customers to new product lines;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | demonstrating to our customers that the merger will not result in adverse changes in customer service standards or business focus; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------



| |  |  | retaining key alliances.
| | - |  | ------------------------



In addition, our success in these markets will depend on several factors, many of which are outside our control including:



| |  |  | growth of the data management infrastructure software market;
| | - |  | -------------------------------------------------------------



| |  |  | growth of the data integration software market;
| | - |  | -----------------------------------------------



| |  |  | growth of the open source database software market;
| | - |  | ---------------------------------------------------



| |  |  | deployment of the combined companys products by enterprises; and
| | - |  | -----------------------------------------------------------------



| |  |  | emergence of substitute technologies and products.
| | - |  | --------------------------------------------------



If we are unable to succeed in this market our business may be harmed and we may be prevented from realizing the anticipated benefits of the merger and
our investment in open source database technology.



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We Must Overcome Significant Challenges in Integrating Business Operations and Product Offerings in order to Realize
the Benefits of the Acquisition of Data Junction



The
merger will not achieve its anticipated benefits unless we successfully combine our operations with those of Data Junction and integrate the two companies business operations and products in a timely manner. Fully integrating Pervasive and
Data Junction is a complex, time-consuming and expensive process and may result in revenue disruption and operational difficulties if not completed in a timely and efficient manner. Prior to the merger, each company operated independently, each with
its own business, business culture, markets, clients, employees and systems. Following the merger, we must operate as a combined organization utilizing common (1) information communication systems, (2) operating procedures,
(3) financial controls and (4) human resource practices, including benefits, training and professional development programs. There may be substantial difficulties, costs and delays involved in the integration. These difficulties, costs and
delays may include:



| |  |  | the potential disruption of our ongoing business and diversion of management resources;
| | - |  | ---------------------------------------------------------------------------------------



| |  |  | the difficulty of incorporating acquired technology and rights into our products and services;
| | - |  | ----------------------------------------------------------------------------------------------



| |  |  | unanticipated expenses related to integration of operations;
| | - |  | ------------------------------------------------------------



| |  |  | the impairment of relationships with employees and customers as a result of any integration of new personnel;
| | - |  | -------------------------------------------------------------------------------------------------------------



| |  |  | potential unknown liabilities associated with the acquired business and technology of Data Junction;
| | - |  | ----------------------------------------------------------------------------------------------------



| |  |  | costs and delays in implementing common systems and procedures, including financial accounting systems and customer information systems; and
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | potential inability to retain, integrate and motivate key management, marketing, technical sales and customer support personnel.
| | - |  | --------------------------------------------------------------------------------------------------------------------------------



We may not succeed in addressing these risks or any other problems
encountered in connection with the merger. If the benefits of the merger do not exceed the costs associated with the merger, including any dilution to our stockholders resulting from the issuance of shares in connection with the merger, our
financial results could be harmed.



The Market Price of Our Common Stock May
Decline as a Result of the Merger



The market price of our
common stock could decline as a result of the merger, based on the occurrence of a number of events, including:



| |  |  | the failure to successfully integrate Data Junction;
| | - |  | ----------------------------------------------------



| |  |  | delays or failure in the integration of Data Junction technology;
| | - |  | -----------------------------------------------------------------



| |  |  | the belief that we have not realized the perceived benefits of the acquisition of Data Junction in a timely manner or at all; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------



| |  |  | the potential negative effect of the merger on our operating results, including the impact of amortization of intangible assets, other than goodwill, created by the merger.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------



There May be Sales of Substantial Amounts of Pervasive Common
Stock after the Merger, which could cause Our Stock Price to Fall



As a result of the merger, substantially large numbers of shares of our common stock may be sold into the public market. As a result, our stock price could fall. However, of the approximately 5,000,000 shares of our common stock issued in
connection with this merger, approximately 4,652,000 shares of our common stock may only be sold in compliance with the time, manner and volume limitations of Rule 144 for a period of two years from such holders last day of employment with
Pervasive or five years from the closing, whichever is later. A sale of a large number of shares of our common stock could therefore result in a sharp decline in our stock price. In addition, the sale of these shares could impair our ability to
raise capital through the sale of additional stock.



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##### Index to Financial Statements

We May Face Problems in Connection With Past Acquisitions, Joint Ventures or Licensing Arrangements Other than the
Recent Acquisition of Data Junction



In April 2005,
we licensed technology from Metaserver Inc., a software development company based in New Haven, Connecticut. The licensed technology is a design tool that facilitates the modeling of processes and the creation of connections between processes and
supporting applications and data. We licensed the technology for $487,000. Following a productization and integration effort, availability of this technology is planned for the first half of fiscal year 2006. We cannot be certain that the
productization and integration effort will be successful.



In
January 2005, we entered into an offshore development, support and services agreement with Aztec Software and Technologies Limited, an outsourcing company based in Bangalore, India. Pursuant to the agreement, Aztec will provide certain enhancements
to Pervasive Postgres and certain levels of support to our customers who have entered into support agreements with us related to Pervasive Postgres. We cannot be certain that we will be successful in the promotion of Pervasive Postgres or that end
users will purchase our annual subscriptions for support. It is possible that our efforts to promote and support Pervasive Postgres may divert the attention of management away from our other products and that we may not realize the strategic and
operational benefits and objectives we had anticipated, including, greater revenue and market opportunities. Any of these factors may have a material adverse effect on our business, operating results and financial condition.



In July 2003, we licensed technology from ABACUS Research A.G., a
software development company based in St. Gallen, Switzerland. The licensed technology enables users to perform advanced searches into application and Web portal data, providing sub-second responses across large databases. We licensed the technology
for $600,000. Following a productization and integration effort, availability of this technology is planned for calendar year 2005. We cannot be certain that the productization and integration effort will be successful.



In April 2003, we purchased a database transaction intelligence
technology from ThinkNet Inc., a software development company based in Toronto, Ontario. The acquired technology provides a continuous, comprehensive and auditable view of an applications database operations, such as who did what when, where
and how. It consists of a Pervasive.SQL logging plug-in, a query and analysis module, and a sophisticated business rules engine. It also alerts administrators to events according to predefined business rules and reports activity efficiently for
analysis. We acquired the technology for $550,000 in cash. Following a productization and integration effort, a new product, Pervasive Audit Master, was launched in the second quarter of fiscal 2004. We cannot be certain that the market acceptance
or demand for this new product will meet our expectations.



In
July 2001, we formed a new business venture with AG-TECH Corporation, a company developing, selling and importing packaged software, to sell and support our products in Japan. AG-TECH has been engaged in the sales and support of Btrieve
(predecessor to Pervasive.SQL) and Pervasive.SQL products since 1986. In conjunction with the joint venture, AG-TECH launched a new operating division staffed with specialists experienced in selling and supporting Pervasive.SQL to assume
responsibility for OEM sales, packaged software sales, technical support and localization and translation of our products into Japanese. In connection with the new business venture, we obtained a less than 20% ownership interest in AG-TECH and the
ability to elect one director to the AG-TECH Board of Directors. While this venture has been successful to date, we cannot be certain that this venture will continue to be successful, which could result in our inability to successfully operate in
Japan. In addition, as a part of our venture, we executed a three year master distributor agreement with AG-TECH, the initial term of which expired June 30, 2004. This agreement has been renewed for an additional three-year term which expires
June 30, 2007. We cannot be certain that we will continue to be able to renew our agreement with AG-TECH on terms and conditions at least as favorable to Pervasive as those contained in our present agreement. Further, we may be unable to
maintain or increase Japanese market demand for our products.



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##### Index to Financial Statements

We May Face Problems in Connection With Future Acquisitions, Joint Ventures or Licensing Arrangements



In the future, we may acquire additional businesses, products and
technologies, or enter into joint venture or licensing arrangements, that could complement, modify or expand our business. Our negotiations of potential acquisitions or joint ventures and our integration of acquired businesses, products or
technologies could divert management time and resources. Any future acquisitions could require us to issue dilutive equity securities, reduce our cash and marketable securities, incur debt or contingent liabilities, amortize intangibles, or
write-off purchased research and development and other acquisition-related expenses. If we are unable to fully integrate acquired businesses, products or technologies with our existing operations, we may not receive the intended benefits of
acquisitions. In addition, market reactions to acquisitions are difficult to predict and if we do announce any future acquisitions, such market reactions may cause our stock price to fluctuate.



Our Investment in Pervasive Postgres May Not Be Successful



While we believe that Pervasive Postgres offers a scalable, low TCO
corporate database solution, we can not be certain that we will be successful in the development or marketing of this new open source database solution. The commercial market for open source databases is still in an early stage and to date we have
not generated a substantial amount of revenue from Pervasive Postgres. We cannot be certain that this market will develop and mature or that Pervasive Postgres will adequately meet the needs of this market. In addition, the development and marketing
of Pervasive Postgres will require a significant amount of managements attention. Any of these factors may have a material adverse effect on our business.



We May Face Problems in Connection With Product Line Expansion



In the future, we may acquire, license or develop additional products. Future product line expansion may require us to modify or expand our business. If
we are unable to fully integrate new products with our existing operations, we may not receive the intended benefits of such product line expansion.



A Small Number of Distributors and Sales Related to Accounting Software Applications Account For a Significant Percentage of Our Revenues



The loss of a major distributor, changes in a distributors payment
practices, changes in the financial stability of a major distributor or any reduction in orders by such distributor, including reductions due to market or competitive conditions combined with the potential inability to replace the distributor on a
timely basis, or any modifications to our pricing or distribution channel strategy could materially adversely affect our business, operating results and financial condition. Many of our ISVs, VARs and end users place their orders through
distributors. A relatively small number of distributors have accounted for a significant percentage of our revenues. In the fiscal year ended June 30, 2005, one distributor (our joint venture partner in Japan, AG-TECH Corporation) accounted for
an aggregate of approximately 13% of our revenues, as compared to 12% in the fiscal year ended June 30, 2004. Additionally, we estimate that approximately 20% of our database revenues in the fiscal year ended June 30, 2005 were from sales
related to accounting software applications. Furthermore, there is currently consolidation taking place among our ISVs that could narrow the number of customers who sell our products. For example, one of our ISVs, The Sage Group plc, has acquired
Timberline Software Corporation, Softline Limited, and ACCPAC International Inc., three of our ISVs. These four ISVs together have, at various times in the past, represented as much as 10% of our revenues. Accordingly, our sales to The Sage Group
plc could constitute 10% or more of our revenues in the future. As a result, we expect we will continue to depend on a limited number of distributors, certain of our ISV customers and sales related to accounting software applications for a
significant portion of our revenues in future periods and the loss of a significant distributor or ISV customer could materially adversely affect our business, operating results and financial condition. Moreover, we expect that such distributors and
sales related to accounting software applications will vary from period to period. Our distributors have not agreed to any minimum order requirements. Although we forecast demand and plan accordingly, if a distributor purchases excess product, we
may be obligated to accept the return of some products.



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##### Index to Financial Statements

We Depend on Our Indirect Sales Channel



Our failure to grow our indirect sales channel or the loss of a significant number of members of our indirect channel
partners would have a material adverse effect on our business, financial condition and operating results. We derive a substantial portion of our revenues from indirect sales through a channel consisting of independent software vendors, value-added
resellers, systems integrators, consultants and distributors. Our sales channel could be adversely affected by a number of factors including:



| |  |  | the emergence of a new platform resulting in the failure of independent software vendors to develop and the failure of value-added resellers to sell our products based on our
supported platforms;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | pressures placed on the sales channel to sell competing products;
| | - |  | -----------------------------------------------------------------



| |  |  | our failure to adequately support the sales channel;
| | - |  | ----------------------------------------------------



| |  |  | consolidation of certain of our indirect channel partners;
| | - |  | ----------------------------------------------------------



| |  |  | competing product lines offered by certain of our indirect channel partners; and
| | - |  | --------------------------------------------------------------------------------



| |  |  | business model or licensing model changes of our channel partners or their competitors.
| | - |  | ---------------------------------------------------------------------------------------



We cannot be certain we will be able to continue to attract additional indirect channel partners or retain our current
partners. In addition, we cannot be certain our competitors will not attempt to recruit certain of our current or future partners. For example, in December 2000, Microsoft (a competitor) acquired Great Plains Software (an OEM that embeds our
product into certain of its products and also a channel partner). Any similar transactions may have an adverse effect on our ability to attract and retain partners.



We May Not Be Able to Develop Strategic Relationships



Our current collaborative relationships may not prove to be beneficial to us, and they may not be sustained. We may not be
able to enter into successful new strategic relationships in the future, which could have a material adverse effect on our business, operating results and financial condition. From time to time, we have collaborated with other companies in areas
such as product development, marketing, distribution and implementation. However, many of our current and potential strategic partners are either actual or potential competitors with us. In addition, many of our current relationships are informal
or, if written, terminable with little or no notice.



We Depend on
Third-Party Technology in Our Products



We rely upon
certain software that we license from third parties, including software integrated with our internally developed software and used in our products to perform key functions. These third-party software licenses may not continue to be available to us
on commercially reasonable terms. The loss of, or inability to maintain or obtain any of these software licenses, could result in shipment delays or reductions until we develop, identify, license and integrate equivalent software. Any delay in
product development or shipment could damage our business, operating results and financial condition.



We May be Unable to Protect Our Intellectual Property and Proprietary Rights



Our success depends to a significant degree upon our ability to protect our software and other proprietary technology. We rely primarily on a combination
of copyright, trademark and trade secret laws, confidentiality procedures and contractual provisions to protect our proprietary rights. However, these measures afford us only limited protection. Furthermore, we use third-party service providers in
India for some of our development and the laws of India do not protect proprietary rights to the same extent as the laws of the United States. In addition, we rely in part on shrink wrap and click wrap licenses that are not
signed by the end user and, therefore, may be unenforceable under the laws of certain jurisdictions. Therefore, our efforts to protect our intellectual property may not be adequate. We cannot be certain that others will not develop technologies that
are similar or superior to our technology or design around the copyrights and trade secrets owned by us. Unauthorized parties may



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##### Index to Financial Statements

attempt to copy aspects of our products or to obtain and use information we regard as proprietary. Although we believe software piracy may be a problem, we
are unable to determine the extent to which piracy of our software products occurs. In addition, portions of our source code are developed in foreign countries with laws that do not protect our proprietary rights to the same extent as the laws of
the United States.



We may be subjected to claims of
intellectual property infringement by third parties as the number of products and competitors in our industry segment continues to grow and the functionality of products in different industry segments increasingly overlaps. Any infringement claims,
with or without merit, could be time-consuming, result in costly litigation, divert management attention and resources, cause product shipment delays or the loss or deferral of sales or require us to enter into royalty or licensing agreements. Such
royalty or licensing agreements, if required, may not be available on terms acceptable to us, if at all. In the event of a successful claim of intellectual property infringement against us, should we fail or be unable to either license the
technology or similar technology or develop alternative technology on a timely basis, our business, operating results and financial condition could be materially adversely affected.



We Must Adapt to Rapid Technological Change



Our future success will depend upon our ability to continue to enhance our current products and to develop and introduce new products on a timely basis
that keep pace with technological developments and new industry standards and satisfy increasingly sophisticated customer requirements. Rapid technological change, frequent new product introductions and enhancements, uncertain product life cycles,
changes in customer demands and evolving industry standards characterize the market for our products. The introduction of products embodying new technologies and the emergence of new industry standards can render existing products obsolete and
unmarketable. As a result of the complexities inherent in client/server and Web computing environments and in data and application integration solutions, and the performance demanded by customers for data infrastructure software products, new
products and product enhancements can require long development and testing periods. As a result, significant delays in the general availability of such new releases or significant problems in the installation or implementation of such new releases
could have a material adverse effect on our business, operating results and financial condition. We have experienced delays in the past in the release of new products and new product enhancements. We may not be successful in:



| |  |  | developing and marketing, on a timely and cost-effective basis, new products or new product enhancements that respond to technological change, evolving industry standards or
customer requirements;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | avoiding difficulties that could delay or prevent the successful development, introduction or marketing of these products; or
| | - |  | -----------------------------------------------------------------------------------------------------------------------------



| |  |  | achieving market acceptance for our new products and product enhancements.
| | - |  | --------------------------------------------------------------------------



Our Software May Contain Errors or Defects



Errors or defects in our products may result in loss of revenues or delay in market acceptance, and could materially adversely affect our business,
operating results and financial condition. Software products such as ours may contain errors, sometimes called bugs, particularly when first introduced or when new versions or enhancements are released. From time to time, we discover
software errors in certain of our new products after their introduction. Despite our testing, current versions, new versions or enhancements of our products may still have errors after commencement of commercial shipments. Product errors can put us
at a competitive disadvantage and can be costly and time-consuming to correct.



We May Become Subject to Product or Professional Services Liability Claims



A product or professional services liability claim, whether or not successful, could damage our reputation and our business, operating results and financial condition. Our license and service agreements with our



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##### Index to Financial Statements

customers typically contain provisions designed to limit our exposure to potential product or service liability claims. However, these contract provisions
may not preclude all potential claims. Product or professional services liability claims could require us to spend significant time and money in litigation or to pay significant damages.



We Compete with Microsoft while Simultaneously Supporting Microsoft Technologies



We currently compete with Microsoft in the market for data management
products while simultaneously maintaining a working relationship with Microsoft. Microsoft has a longer operating history, a larger installed base of customers and substantially greater financial, distribution, marketing and technical resources than
Pervasive. As a result, we may not be able to compete effectively with Microsoft now or in the future, and our business, operating results and financial condition may be materially adversely affected.



We expect that Microsofts commitment to and presence in the data
management products market will substantially increase competitive pressures. We believe that Microsoft will continue to incorporate SQL Server database technology into its operating system software and certain of its server software offerings,
possibly at no additional cost to its users. We believe that Microsoft will also continue to enhance its SQL Server database technology and that Microsoft will continue to invest in various sales and marketing programs involving certain of our
channel partners.



In addition, Microsoft continues to grow its
presence in the software applications market. For example, they acquired Great Plains Software, a former channel partner of Pervasive, and Navision, both of which are accounting software vendors. Microsoft has also entered the customer relationship
management software market. We believe that Microsoft will continue to grow its presence in the software applications market and in doing so, may have a negative impact on the financial stability of other software application vendors who use our
products, or may influence other software application vendors to use Microsoft infrastructure software products instead of those available from Pervasive.



We believe we must maintain a working relationship with Microsoft to achieve success. Many of our customers use Microsoft-based operating platforms. Thus
it is critical to our success that our products be closely integrated with Microsoft technologies. Notwithstanding our historical and current support of Microsoft platforms, Microsoft may in the future promote technologies and standards more
directly competitive with or not compatible with our technology.



We Face
Significant Competition From Other Companies



We encounter
competition for our embedded database products primarily from large, public companies, including Microsoft, Oracle, Sybase, IBM and Progress. In particular, Sybases small memory footprint database software product, Adaptive Server Anywhere,
and Microsofts product, SQL Server, directly compete with our products. Further, our recently announced Pervasive Postgres initiative competes directly with corporate database solutions sold by the companies listed above. And, because there
are relatively low barriers to entry in the software market, we may encounter additional competition from other established or emerging companies providing database products based on existing, new or open-source technologies.



Open-source software, which is an emerging trend in the software marketplace,
may impact our business as interest, demand and use increases in the database segment and poses a challenge to our business model, including recent efforts by proponents of open-source software to convince governments worldwide to mandate the use of
open-source software in their purchase and deployments of software products. Firms adopting the open-source software model typically provide customers software produced by loosely associated groups of unpaid programmers and made available for
license to end users at nominal cost, and earn revenue on complementary services and products, without having to bear the full costs of research and development for the open-source software. Because the present demand for open-source database
software is largely concentrated in major corporations, our embedded database business has not been adversely affected to date. However, it is likely



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##### Index to Financial Statements

that increased adoption of Linux will drive heightened interest in other more mature software categories such as database and certain business applications.
Our recently announced open-source software initiative, Pervasive Postgres, is our response to the emerging trend in open source software in the corporate database market. To the extent competing open-source software products gain increasing market
acceptance, sales of our products may decline, we may have to reduce prices we charge for our products, and our revenue and operating margins may decline. Mass adoption of open source databases in the SME market could have a material adverse impact
on our database business.



Application service providers (ASPs)
may enter our market and could cause a change in revenue models from licensing of client/server and Web-based applications to renting applications. Our competitors may be more successful than we are in adopting these revenue models and capturing
related market share.



The market for our integration products
is highly competitive and subject to rapidly changing technology. We principally compete against ETL (extract, transform and load) software vendors and data warehousing and application integration software providers. Such competitors include
Ascential, Business Objects, Embarcadero, Informatica, and Information Builders. In addition, we compete or may compete against database vendors that currently offer, or may develop, products with functionalities that compete with our solutions.
These products typically operate specifically with these competitors proprietary databases. Such competitors include IBM, Microsoft and Oracle. Competition also comes in the form of custom code, where potential customers have sufficient
internal technical resources to develop solutions in-house without the aid of our products or those of our competitors.



Most of our competitors have longer operating histories, significantly greater financial, technical, marketing and other resources, significantly greater
name recognition and a larger installed base of customers. In addition, some competitors have demonstrated a willingness to, or may willingly in the future, incur substantial losses as a result of deeply discounted product offerings or aggressive
marketing campaigns. As a result, our competitors may be able to respond more quickly to new or emerging technologies and changes in customer requirements, or to devote greater resources to the development, promotion and sale of competitive
products, than we can. There is also a substantial risk that changes in licensing models or announcements of competing products by competitors such as Microsoft, Oracle, Sybase, IBM, Progress, Ascential, Business Objects, Embarcadero, Informatica,
Information Builders or others could result in the cancellation of customer orders in anticipation of the introduction of such new licensing models or products. In addition, current and potential competitors have established or may establish
cooperative relationships among themselves or with third parties to increase the ability of their products to address customer needs which may limit our ability to sell our products through particular partners. Accordingly, new competitors or
alliances among, or consolidations of, current and new competitors may emerge and rapidly gain significant market share in our current or anticipated markets. We also expect that competition will increase as a result of software industry
consolidation. Increased competition is likely to result in price reductions, fewer customer orders, reduced margins and loss of market share, any of which could materially adversely affect our business. We cannot be certain we will be able to
compete successfully against current and future competitors or that the competitive pressures we face will not materially adversely affect our business, operating results and financial condition.



We Are Susceptible to a Shift in the Market for Client/Server Applications Toward
Web-Based Applications



We have derived substantially all
of our historical embedded database product revenues from the use of our products in client/server applications. We expect to rely on continued market demand for client/server applications indefinitely. However, we believe market demand may shift
from client/server applications to Web-based applications. If so, this shift could occur before our product line has achieved market acceptance for use in Web-based applications. In addition, we cannot be certain that our existing client/server
developers will migrate to Web-based applications and continue to use our products or that other developers of Web-based applications would select our data management products. Further, this shift could result in a change in revenue models from
licensing of client/server and Web-based applications to renting of applications from application



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##### Index to Financial Statements

service providers. A decrease in client/server application sales coupled with an inability to derive revenues from the Web-based application market could
have a material adverse effect on our business, operating results and financial condition.



We Depend on International Sales and Operations



We anticipate that for the foreseeable future we will derive a significant portion of our revenues from sources outside North America. In the fiscal year ended June 30, 2005, we derived 38% of our revenues
outside North America. Our international operations are generally subject to a number of risks. These risks include:



| |  |  | foreign laws and business practices favoring local competition;
| | - |  | ---------------------------------------------------------------



| |  |  | dependence on local channel partners;
| | - |  | -------------------------------------



| |  |  | compliance with multiple, conflicting and changing government laws and regulations;
| | - |  | -----------------------------------------------------------------------------------



| |  |  | longer sales cycles;
| | - |  | --------------------



| |  |  | greater difficulty or delay in collecting payments from customers;
| | - |  | ------------------------------------------------------------------



| |  |  | difficulties in staffing and managing foreign operations;
| | - |  | ---------------------------------------------------------



| |  |  | foreign currency exchange rate fluctuations and the associated effects on product demand and timing of payment;
| | - |  | ---------------------------------------------------------------------------------------------------------------



| |  |  | increased tax rates in certain foreign countries;
| | - |  | -------------------------------------------------



| |  |  | difficulties with financial reporting in foreign countries;
| | - |  | -----------------------------------------------------------



| |  |  | quality control of certain development, translation or localization activities; and
| | - |  | -----------------------------------------------------------------------------------



| |  |  | political and economic instability.
| | - |  | -----------------------------------



We may expand or modify our operations internationally. Despite our efforts, we may not be able to expand or modify our operations internationally in a
timely and cost-effective manner. Such an outcome would limit or eliminate any sales growth internationally, which in turn would materially adversely affect our business, operating results and financial condition. Even if we successfully expand or
modify our international operations, we may be unable to maintain or increase international market demand for our products.



We expect our international operations will continue to place financial and administrative demands on us, including operational complexity associated with
international facilities, administrative burdens associated with managing relationships with foreign partners, and treasury functions to manage foreign currency risks and collections. In particular, we have begun to develop products in our new
Bangalore, India facility. In order to capitalize on the economic opportunity afforded by developing products in this facility, we must successfully execute new business processes and retain key technical personnel in Austin and India. It is also
likely that the company will run parallel processes in many areas of its technical operations in order to assure high quality development and a high standard of customer care. While the long term economic impact created by the India operation is
expected to be favorable, these parallel processes could increase our costs in the short term.



We Use Third-Party Service Providers in India and If We Are Unable to Use Such Providers Our Business Could Be Temporarily Adversely Affected



We are actively supplementing the capabilities of our organization by contracting with third-party service providers located
in India. As other software companies have done and are continuing to do, we may continue to allocate more development and IT resources to Indian third parties, and we may expand our own operational capabilities in India, with the expectation of
achieving significant efficiencies, including reducing operational costs and permitting an around-the-clock development cycle. To date, the dispute between India and Pakistan involving the Kashmir region and the incidents of terrorism in India have
not adversely affected our operations in India. Should we be unable to conduct operations in India in the future, we believe that our business could be temporarily adversely affected.



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##### Index to Financial Statements

Fluctuations in the Relative Value of Foreign Currencies Can Affect Our Business



To date, the majority of our transactions have been denominated in U.S.
dollars. The majority of our international operating expenses and substantially all of our sales in Japan have been denominated in currencies other than the U.S. dollar. Therefore, our operating results may be adversely affected by changes in the
value of the U.S. dollar. Certain of our international sales are denominated in U.S. dollars, especially in Europe. Any strengthening of the U.S. dollar against the currencies of countries where we sell products denominated in U.S. dollars will
increase the relative cost of our products and could negatively impact our sales in those countries. To the extent our international operations expand or are modified, our exposure to exchange rate fluctuations may increase. We have, on occasion,
entered into limited hedging transactions to mitigate our exposure to currency fluctuations. Despite these hedging transactions, exchange rate fluctuations have caused, and will continue to cause, currency transaction gains and losses. Although
these transactions have not resulted in material gains and losses to date, similar transactions could have a damaging effect on our business, results of operations or financial condition in future periods.



We Must Continue to Hire and Retain Skilled Personnel



Our success depends in large part on our ability to attract, motivate and
retain highly skilled employees on a timely basis, particularly executive management, sales and marketing personnel, software engineers and other senior personnel. Our efforts to attract and retain highly skilled employees could be harmed by our
past or any future workforce reductions. Our failure to attract and retain the highly trained technical personnel who are essential to our product development, marketing, service and support teams may limit the rate at which we can generate revenue
and develop new products or product enhancements. This could have a material adverse effect on our business, operating results and financial condition.



We issue stock options as a key component of our overall compensation. There is growing pressure on public companies from shareholders generally and
various organizations to reduce the rate at which companies issue stock options to employees, which may make it more difficult to obtain shareholder approval of equity compensation plans when required. In addition, Financial Accounting Standards
Board (FASB) has adopted changes to generally accepted accounting principles (GAAP) that require us to adopt a different method of determining the compensation expense for our employee stock options and employee stock
purchase plan beginning in the first quarter of fiscal 2006. As a result, we have terminated our employee stock purchase plan. In addition, we believe expensing stock options will increase shareholder pressure to limit future option grants and could
make it more difficult for us to grant stock options to employees in the future. As a result, we may lose top employees to non-public, start-up companies or may generally find it more difficult to attract, retain and motivate employees, either of
which could materially and adversely affect our business, results of operations and financial condition.



We Have Anti-Takeover Provisions



Our Restated Certificate of Incorporation and Bylaws contain certain provisions that may have the effect of discouraging, delaying or preventing a change in control or unsolicited acquisition proposals that a
stockholder might consider favorable. It includes provisions to authorize the issuance of blank check preferred stock; establish advance notice requirements for stockholder nominations for elections to the Board of Directors or for
proposing matters that can be acted upon at stockholders meetings; eliminate the ability of stockholders to act by written consent; require super-majority voting to approve certain amendments to the Restated Certificate of Incorporation; limit
the persons who may call special meetings of stockholders; and provide for a Board of Directors with staggered, three-year terms. In addition, certain provisions of Delaware law and our 1997 Stock Incentive Plan (the 1997 Plan) may also
have the effect of discouraging, delaying or preventing a change in control or unsolicited acquisition proposals.



Further, in October 2000, our Board of Directors approved the adoption of a shareholder rights plan whereby one preferred share purchase right was
distributed for each outstanding share of our common stock. The



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##### Index to Financial Statements

rights are designed to assure that all of our stockholders receive fair and equal treatment in the event of any proposed takeover and to guard against
partial tender offers, open market accumulations and other tactics designed to gain control without paying all stockholders a fair price. The rights were not being distributed in response to any specific effort to acquire us.



The rights become exercisable if a person or group hereafter acquires 15% or
more of our common stock or announces a tender offer for 15% or more of our common stock. Such events, or if we are acquired in a merger or other business combination transaction after a person acquires 15% or more of our common stock, would entitle
the right holder to purchase, at an exercise price of $18.00, a number of shares of common stock having a market value at that time of twice the rights exercise price. Rights held by the acquiring person would become void. The Board of
Directors can choose to redeem the rights at one cent per right at any time before an acquiring person hereafter acquires 15% or more of the outstanding common stock. The Rights Plan may have the effect of discouraging, delaying or preventing a
change in control or unsolicited acquisition proposals.



We May Elect to
Raise Additional Capital Which Might Not Be Available or Which, if Available, May Be on Terms That Are Not Favorable to Us



We may elect to raise additional funds, and we cannot be certain that we will be able to obtain additional financing on favorable terms, if at all. If we
issue equity securities, the ownership percentage of our stockholders would be reduced, and the new equity securities may have rights, preferences or privileges senior to those of existing holders of our common stock. If we borrow money, we may
incur significant interest charges, which could harm our profitability. Holders of debt would also have rights, preferences or privileges senior to those of existing holders of our common stock. If we cannot raise funds on acceptable terms, we may
not be able to develop or enhance our products, take advantage of future opportunities or respond to competitive pressures or unanticipated requirements, which could seriously harm our business, operating results and financial condition.



The Price of Our Stock Has Been Volatile and Could Continue to Fluctuate Substantially



Our common stock is traded in the NASDAQ National Market.
The market price of our common stock has been volatile and could fluctuate substantially based on a variety of factors outside of our control, in addition to our financial performance. Furthermore, stock prices for many companies, including our own,
fluctuate widely for reasons that may be unrelated to operating results.



We
May Be Exposed to Potential Risks if We Do Not Have an Effective System of Disclosure Controls or Internal Controls or Fail on an On-going Basis to Properly Address and Implement Section 404 of Sarbanes-Oxley



We must comply, on an on-going basis, with the requirements of
Section 404 of the Sarbanes-Oxley Act of 2002 (SOX), including those provisions that establish the requirements for both management and auditors of public companies with respect to reporting on internal control over financial
reporting. These requirements first became applicable to Pervasive on June 30, 2005. The requirements and processes associated with Section 404 are relatively new and untested, and we cannot be certain that the measures we have taken, and
will take, will be sufficient or timely completed to meet the Section 404 requirements on an on-going basis, or that we will be able to implement and maintain adequate disclosure controls and controls over our financial processes and reporting
in the future, particularly in light of our rapid growth and international expansion, which is expected to result in on-going changes to our control systems and areas of potential risk.



If we fail to maintain an effective system of disclosure controls or internal control over financial reporting, including
satisfaction of the requirements of Section 404 of SOX, we may not be able to accurately or timely report on our financial results or adequately identify and reduce fraud. As a result, the financial position of our business could be harmed;
current and potential future shareholders could lose confidence in us and/or our reported financial results, which may cause a negative effect on our trading price; and we could be exposed to litigation or regulatory proceedings, which may be costly
or divert management attention.



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##### Index to Financial Statements

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS



Some of the statements in the Letter to Stockholders in the
Annual Report and this Report on Form 10-K under Business, Risk Factors That May Affect Future Results, Managements Discussion and Analysis of Financial Condition and Results of Operations, and elsewhere in
this Report constitute forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934. Forward-looking statements include statements regarding the Companys expectations, beliefs, hopes, intentions
or strategies regarding the future. These statements involve known and unknown risks, uncertainties, and other factors that may cause our or our industrys actual results, levels of activity, performance, or achievements to be materially
different from any future results, levels of activity, performance, or achievements expressed or implied by such forward-looking statements. Such factors include, among other things, those listed under Risk Factors and elsewhere in this
Report on Form 10-K.



In some cases, you can identify
forward-looking statements by terminology such as may, will, should, expects, plans, anticipates, believes, estimates, predicts,
potential, or continue or the negative of such terms or other comparable terminology.



Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of such statements. We are under no duty to update any of the forward-looking statements after the date of this
Report to conform such statements to actual results.



ITEM 2.    PROPERTIES



Our leased headquarters facility in Austin, Texas, consists of approximately 91,000 square feet. The facility provides additional space and expansion options and is leased through October 2011. We currently lease international offices in
Brussels, Frankfurt, London, Paris and Bangalore.



ITEM 3.    LEGAL PROCEEDINGS



The company is not a party to any material legal proceeding.



ITEM 4.    SUBMISSION OF MATTERS TO A VOTE OF THE SECURITY HOLDERS



The Company did not submit any matters to a vote of security holders during the fourth quarter of fiscal year ended June 30, 2005.



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##### Index to Financial Statements

The executive officers of the Company, and their ages as of August 31, 2005, and biographical
summaries are as follows:



|                    |  |     |  |                                                        
|------------------- |  | --- |  | -------------------------------------------------------
|Name                |  | Age |  | Position                                               
|David Sikora        |  | 44  |  | President, Chief Executive Officer and Director        
|John E. Farr        |  | 45  |  | Chief Financial Officer and Corporate Secretary        
|Michael Hoskins     |  | 51  |  | Chief Technology Officer and Director                  
|Jeffrey S. Seiden   |  | 46  |  | Vice President, Corporate Development                  
|Chip G. Harmon      |  | 52  |  | Vice President, North American Sales                   
|Gilbert Van Cutsem  |  | 42  |  | Vice President, EMEAA Sales and Marketing              
|Curtis Hill         |  | 52  |  | Vice President, Engineering                            
|Michele B. Thompson |  | 46  |  | General Counsel and Vice President, Business Operations
|Koen de Witte       |  | 38  |  | Vice President Worldwide Marketing                     



David Sikora
has served as our President and Chief Executive Officer since July 2002 and as a director since February 2002. Prior to joining Pervasive, Mr. Sikora served as Chairman and CEO of Question Technologies, Inc., an enterprise software company that
was a spin-off of Ventix Systems, Inc., from January 2000 to September 2002, and as President, CEO and director of Ventix Systems, Inc., an enterprise software company, from July 1998 to January 2000. Prior to joining Ventix, Mr. Sikora served
as President and CEO of Houston-based ForeFront Group, Inc., an e-learning software company. Mr. Sikora currently serves as a director of Motive, Inc. Mr. Sikora received his B.S. in Electrical Engineering Technology from the University of
Houston and an M.B.A. from Harvard Graduate School of Business Administration.



John E. Farr has served as our Chief Financial Officer since July 2001. Previously, Mr. Farr served as our Vice President, Finance, from October 1998 to July 2001, as Director of Finance from April 1997 to
October 1998 and as Controller from November 1994 to April 1997. Prior to joining Pervasive, Mr. Farr served as an auditor and in audit management for KPMG LLP, an international accounting firm from 1982 to 1994. Mr. Farr received a B.B.A.
in Accounting from Southwestern University.



Michael
Hoskins has served as our Chief Technology Officer since June 2004 and as General Manager of the IPD Products Division from December 2003 to June 2004. Mr. Hoskins has also served as a director since December 2003. Prior to joining
Pervasive, Mr. Hoskins served as President and director of Data Junction Corporation for 15 years. Mr. Hoskins joined Data Junction in 1988 as Vice President of Sales. Mr. Hoskins graduated from the Bowling Green State University with
a bachelor of business administration and a major in finance.



Jeffrey S. Seidenhas served as our Vice President, Corporate Development, since April 2002. Before joining Pervasive, Mr. Seiden served as Vice President of Market Development for Question Technologies, Inc., an enterprise
software company. Mr. Seiden was the Founder, President and CEO of nuLogic Inc., an automation software company, for 10 years before its acquisition by National Instruments, Inc. in 1997, and has held executive and leadership positions at
Austin Ventures AVLabs, Cambridge Robotic Systems, Inspex, Inc., and LTX Corporation. Mr. Seiden has served as a director or technology board member for several private companies, and continues to advise and mentor early stage entrepreneurs.
Mr. Seiden earned his B.S. in Electrical Engineering from Syracuse University.



Chip G. Harmon has served as our Vice President, North American Sales, since July 2002. From 1999 to July 2002, Mr. Harmon served as Vice President of Sales for North America for Hyperion, a business
intelligence/business performance management company. Mr. Harmon has served in numerous sales management roles, including positions with Metaphor Computer Systems, Ingres Corporation, Cognos Corporation and Tymshare, Inc. Mr. Harmon
received his B.B.A. in Marketing from Stephen F. Austin University.



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##### Index to Financial Statements

Gilbert Van Cutsemhas served as our Vice President, EMEAA Sales and Marketing, since April 2000.
Mr. Van Cutsem has served Pervasive in various sales and marketing roles since September 1995. Prior to joining Pervasive, Mr. Van Cutsem was Channel and Product Marketing Manager at Novell Benelux and Director of Marketing at
AT&Ts EMEA headquarters. Mr. Van Cutsem holds degrees in Computer Science (Na.Ra.Fi. Brussels) and Business Administration (V.E.H. Brussels) and earned his masters degree in Applied Economics from FUCAM (Mons, Belgium).



Curtis Hillhas served as our Vice President,
Engineering since June 2004. Prior to joining Pervasive, Mr. Hill served as vice president of engineering at BMC Software for the Enterprise Data Management product group, where he led a 550 person engineering team spanning the United States,
the United Kingdom and India. Over the last 10 years he has managed large product development organizations for Boole & Babbage, Chain Bridge Systems and Landmark Systems. Mr. Hill earned a Bachelor of Science degree in Theoretical
Mathematics from Auburn University in Auburn Alabama.



Michele B. Thompsonhas served as our General Counsel and Vice President, Business Operations since May 2002. Previously, Ms. Thompson served as Director of Legal Affairs for Pervasive from May 1999 to May 2002. Prior to joining
Pervasive, Ms. Thompson practiced law in the Austin office of a large Dallas-based law firm. Prior to attending law school, Ms. Thompson was a Vice President at a financial institution holding company based in Dallas. Ms. Thompson
received her B.B.A. in Finance from the University of Texas at Austin and her J.D. degree from the University of Texas School of Law.



Koen de Wittehas served as our Vice President, Worldwide Marketing since November 2004. Previously, Mr. de Witte served as Director of EMEAA
Marketing, from August 2001 to November 2004. Prior to joining Pervasive, Mr. de Witte has served in numerous marketing and business unit management roles, including positions with Tech Data Belux and Keyware Technologies EMEA. Mr. de
Witte received his Masters in Managerial Engineering in business administration and information systems from the Catholic University Leuven, Belgium, and an executive education certificate from Insead, Fontainebleau France.



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##### Index to Financial Statements

PART II



|ITEM 5. |  | MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
|------- |  | ------------------------------------------------------------------------------------------------------------



The common stock of the Company is traded in the Nasdaq National Market
under the symbol PVSW. The Company completed its initial public offering and commenced trading on September 26, 1997. The following tables set forth the high and low closing sales prices of the Companys common stock for each quarterly
period during the three years ended June 30, 2005.



|               |  |      |      |     |   |     
|-------------- |  | ---- | ---- | --- | - | ----
|Fiscal 2003    |  | High |      | Low
|First Quarter  |  | $    | 4.10 |     | $ | 2.86
|Second Quarter |  | $    | 4.45 |     | $ | 2.30
|Third Quarter  |  | $    | 4.69 |     | $ | 3.97
|Fourth Quarter |  | $    | 5.77 |     | $ | 4.39



|               |  |      |      |     |   |     
|-------------- |  | ---- | ---- | --- | - | ----
|Fiscal 2004    |  | High |      | Low
|First Quarter  |  | $    | 8.25 |     | $ | 5.38
|Second Quarter |  | $    | 8.09 |     | $ | 7.04
|Third Quarter  |  | $    | 8.51 |     | $ | 6.30
|Fourth Quarter |  | $    | 7.25 |     | $ | 5.12



|               |  |      |      |     |   |     
|-------------- |  | ---- | ---- | --- | - | ----
|Fiscal 2005    |  | High |      | Low
|First Quarter  |  | $    | 6.33 |     | $ | 5.72
|Second Quarter |  | $    | 5.96 |     | $ | 3.90
|Third Quarter  |  | $    | 4.85 |     | $ | 3.95
|Fourth Quarter |  | $    | 4.73 |     | $ | 4.15



As of August 31,
2005, there were approximately 250 stockholders of record (which number does not include the number of stockholders whose shares are held by a brokerage house or clearing agency, but does include such brokerage house or clearing agency as one record
holder).



The Company has never paid a cash dividend on its
common stock and does not intend to pay cash dividends on its common stock in the foreseeable future.



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##### Index to Financial Statements

ITEM 6.    SELECTED CONSOLIDATED FINANCIAL DATA



The following selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements and Notes thereto and with
Managements Discussion and Analysis of Financial Condition and Results of Operations, which are included elsewhere in this Form 10-K. The consolidated statements of operations data for the fiscal years ended June 30, 2003,
2004 and 2005 and the consolidated balance sheet data at June 30, 2004 and 2005 are derived from audited consolidated financial statements included elsewhere in this Form 10-K. The consolidated statements of operations data for the periods
ended June 30, 2001 and 2002 and the consolidated balance sheet data at June 30, 2001, 2002 and 2003 are derived from audited consolidated financial statements not included herein.



|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|---------------------------------------------------------------------------------------------- |  | ------------------------------------- | ------ | - | ---- | - | ------ | ---- |  | - | ------ | - |  | ---- | ------ | - |  | - | ------ | -
|                                                                                               |  | Year Ended June 30,                   |       
|                                                                                               |  | 2001                                  |        |   | 2002 |   |        | 2003 |  |   | 2004   |   |  | 2005 |       
|                                                                                               |  | (in thousands, except per share data) |       
|Consolidated Statements of Operations Data:                                                    |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Revenues:                                                                                      |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Product licenses                                                                               |  | $                                     | 39,200 |   |      | $ | 34,008 |      |  | $ | 35,373 |   |  | $    | 40,967 |   |  | $ | 36,978 |  
|Services and other                                                                             |  |                                       | 2,958  |   |      |   | 3,189  |      |  |   | 3,832  |   |  |      | 8,641  |   |  |   | 11,374 |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Total revenue                                                                                  |  |                                       | 42,158 |   |      |   | 37,197 |      |  |   | 39,205 |   |  |      | 49,608 |   |  |   | 48,352 |  
|Costs and expenses:                                                                            |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Cost of product licenses                                                                       |  |                                       | 2,645  |   |      |   | 1,043  |      |  |   | 991    |   |  |      | 1,712  |   |  |   | 2,273  |  
|Cost of services and other                                                                     |  |                                       | 7,015  |   |      |   | 5,513  |      |  |   | 4,907  |   |  |      | 5,519  |   |  |   | 5,213  |  
|Sales and marketing                                                                            |  |                                       | 18,357 |   |      |   | 12,349 |      |  |   | 13,673 |   |  |      | 18,311 |   |  |   | 21,313 |  
|Research and development                                                                       |  |                                       | 10,545 |   |      |   | 7,055  |      |  |   | 8,033  |   |  |      | 9,983  |   |  |   | 11,084 |  
|General and administrative                                                                     |  |                                       | 6,025  |   |      |   | 5,371  |      |  |   | 4,866  |   |  |      | 5,228  |   |  |   | 4,753  |  
|Business restructuring charge                                                                  |  |                                       | 2,472  |   |      |   |       |      |  |   |       |   |  |      |       |   |  |   |       |  
|Write-off of acquired in-process research and development                                      |  |                                       |       |   |      |   |       |      |  |   |       |   |  |      | 1,084  |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Total costs and expenses                                                                       |  |                                       | 47,059 |   |      |   | 31,331 |      |  |   | 32,470 |   |  |      | 41,837 |   |  |   | 44,636 |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Operating income (loss) from continuing operations                                             |  |                                       | (4,901 | ) |      |   | 5,866  |      |  |   | 6,735  |   |  |      | 7,771  |   |  |   | 3,716  |  
|Interest and other income, net                                                                 |  |                                       | 1,253  |   |      |   | 742    |      |  |   | 534    |   |  |      | 293    |   |  |   | 561    |  
|Income tax provision                                                                           |  |                                       | (500   | ) |      |   | (570   | )    |  |   | (580   | ) |  |      | (750   | ) |  |   | (268   | )
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Income (loss) from continuing operations before effect of adoption of new accounting principle |  |                                       | (4,148 | ) |      |   | 6,038  |      |  |   | 6,689  |   |  |      | 7,314  |   |  |   | 4,009  |  
|Effect of adoption of new accounting principle                                                 |  |                                       |       |   |      |   | (676   | )    |  |   |       |   |  |      |       |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Income (loss) from continuing operations                                                       |  |                                       | (4,148 | ) |      |   | 5,362  |      |  |   | 6,689  |   |  |      | 7,314  |   |  |   | 4,009  |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Discontinued operations:                                                                       |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Gain on disposal                                                                               |  |                                       | 1,692  |   |      |   |       |      |  |   | 159    |   |  |      |       |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Gain from discontinued operations                                                              |  |                                       | 1,692  |   |      |   |       |      |  |   | 159    |   |  |      |       |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Net income (loss)                                                                              |  | $                                     | (2,456 | ) |      | $ | 5,362  |      |  | $ | 6,848  |   |  | $    | 7,314  |   |  | $ | 4,009  |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Basic earnings (loss) per share:                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Income (loss) from continuing operations before effect of adoption of new accounting principle |  | $                                     | (0.26  | ) |      | $ | 0.36   |      |  | $ | 0.40   |   |  | $    | 0.37   |   |  | $ | 0.18   |  
|Effect of adoption of new accounting principle                                                 |  |                                       |       |   |      |   | (0.04  | )    |  |   |       |   |  |      |       |   |  |   |       |  
|Gain from discontinued operations                                                              |  |                                       | 0.11   |   |      |   |       |      |  |   | 0.01   |   |  |      |       |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Net income (loss)                                                                              |  | $                                     | (0.16  | ) |      | $ | 0.32   |      |  | $ | 0.41   |   |  | $    | 0.37   |   |  | $ | 0.18   |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Diluted earnings (loss) per share:                                                             |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Income (loss) from continuing operations before effect of adoption of new accounting principle |  | $                                     | (0.26  | ) |      | $ | 0.34   |      |  | $ | 0.37   |   |  | $    | 0.33   |   |  | $ | 0.17   |  
|Effect of adoption of new accounting principle                                                 |  |                                       |       |   |      |   | (0.04  | )    |  |   |       |   |  |      |       |   |  |   |       |  
|Gain from discontinued operations                                                              |  |                                       | 0.11   |   |      |   |       |      |  |   | 0.01   |   |  |      |       |   |  |   |       |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Net income (loss)                                                                              |  | $                                     | (0.16  | ) |      | $ | 0.30   |      |  | $ | 0.38   |   |  | $    | 0.33   |   |  | $ | 0.17   |  
|                                                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Shares used in computing basic earnings (loss) per share                                       |  |                                       | 15,830 |   |      |   | 16,827 |      |  |   | 16,663 |   |  |      | 19,801 |   |  |   | 22,341 |  
|Shares used in computing diluted earnings (loss) per share                                     |  |                                       | 15,830 |   |      |   | 17,674 |      |  |   | 17,917 |   |  |      | 21,951 |   |  |   | 23,352 |  
|                                                                                               | 
|                                                                                               |  | June 30,                              |       
|                                                                                               |  | 2001                                  |        |   | 2002 |   |        | 2003 |  |   | 2004   |   |  | 2005 |       
|                                                                                               |  | (in thousands)                        |       
|Consolidated Balance Sheet Data:                                                               |  |                                       |        |   |      |   |        |      |  |   |        |   |  |      |        |   |  |   |        |  
|Working capital                                                                                |  | $                                     | 23,565 |   |      | $ | 30,195 |      |  | $ | 37,004 |   |  | $    | 30,729 |   |  | $ | 34,899 |  
|Total assets                                                                                   |  |                                       | 40,468 |   |      |   | 43,359 |      |  |   | 50,592 |   |  |      | 93,868 |   |  |   | 94,205 |  
|Long-term liabilities, net of current portion                                                  |  |                                       |       |   |      |   |       |      |  |   |       |   |  |      |       |   |  |   |       |  
|Total stockholders equity                                                                     |  |                                       | 29,679 |   |      |   | 33,792 |      |  |   | 40,202 |   |  |      | 79,085 |   |  |   | 82,743 |  



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|ITEM 7. |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|------- |  | -------------------------------------------------------------------------------------



This Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those
indicated in the forward-looking statements. Please see the Special Note Regarding Forward-Looking Statements elsewhere in this Report on Form 10-K.



Overview



Pervasive Software is a global value leader in data infrastructure software. Thousands of businesses worldwide rely on our solutions to help manage,
integrate, analyze and secure their critical data. Our data management and integration product lines are designed specifically for small to mid-sized businesses and departments of large enterprises where high performance, flexibility, rapid
deployment and low total cost of ownership (TCO) are paramount. In addition, significant portions of our product line are embeddable into commercial applications for sale predominantly to small to mid-size enterprises (SMEs) through a well-developed
channel of independent software vendors (ISVs), value-added resellers (VARs) and systems integrators.



Our flagship Pervasive.SQL database, offering unparalleled data management technology combined with very low TCO, has more than 6 million server
seats licensed since inception in 1994. The full data management product line also includes specific solutions for data movement and synchronization, and addresses security challenges related to data integrity, accountability, continuity and
availability throughout the data life cycle. The product line is designed for integration by ISVs into client/server, Web and mobile applications and is predominantly sold to SMEs, which typically have environments with little to no information
technology (IT) infrastructure, and require self-tuning, low-administration products.



Our data and application integration solutions feature a comprehensive set of visual design tools to rapidly build and test integration processes, regardless of size and complexity, across hundreds of data formats and
applications within and outside of the enterprise. The Pervasive Integration product line is designed to grow and scale for the diverse data and application integration needs of mid-sized businesses and departments of large enterprises. Our focus on
rapid implementation and ease of use helps reduce the complexity, costs and risks associated with traditional labor-intensive integration methods.



Our open source database management solution, Pervasive Postgres, is a commercial distribution of PostgreSQL, offering enterprise-ready core database
technology. Pervasive Postgres is targeted to mainstream businesses that require a high-quality relational database management solution at a low cost. Users can select Pervasive Postgres for brand new business and web applications, as well as for
database migrations from other proprietary databases. Most open source databases fail to meet required business needs, and most open source database providers lack the experience to successfully service and support the technology. While companies
increasingly consider open source databases as an alternative for managing their data, they require functionality and reliable support before making a commitment. We believe that a scalable, low TCO corporate database that is fully supported by an
experienced database provider is the best solution for budget-conscious, data-demanding businesses of all sizes. Pervasive Postgres is just such an open source database solution.



Our customer base is both large and diverse; we serve tens of thousands of customers in virtually every industry and market
around the world. We sell products in more than 150 countries through direct sales and channel distribution. Our customer base of more than 35,000 customers includes a distribution channel of more than 10,000 ISVs, developers, VARs, systems
integrators and partners who have built or deployed applications on top of our data management platform. We also have a customer base of more than 25,000 end users for our integration products and services. Founded in 1994, Pervasive is
headquartered in Austin, Texas, with international offices in Brussels; Frankfurt; London; Paris and Bangalore; and a joint venture in Japan.



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On January 10, 2005, we introduced Pervasive Postgres, a commercial distribution of open source
database, PostgreSQL. PostgreSQL is a leading open source database, offering enterprise-ready core technology like views, triggers, stored procedures and security, and is released under the business-friendly BSD license, allowing royalty-free use
within commercial settings. Pervasive Postgres offers formal support, a clear roadmap and technological enhancements designed to help reduce the costs and remove barriers facing open source adoption, ensuring that PostgreSQL is suitable for more
users. Pervasive Postgres takes advantage of Pervasive Software-driven critical development enhancements to the base PostgreSQL product, such as seamless automated installation and easy to use administration tools that accelerate time-to-value and
provide corporate users with a cost-effective platform on which to build applications. The addition of Pervasive Postgres to our data infrastructure software family now gives us a full spectrum of database offerings that meets the needs of customers
both large and small. Corporate adopters of open source databases can now depend on Pervasive, one of the most trusted and experienced database companies in the marketplace.



On December 4, 2003 we completed the acquisition of Data Junction Corporation (Data Junction). The
aggregate cash plus share purchase price for all of the common stock of Data Junction was approximately $46.6 million, net of cash acquired from Data Junction (See Note 8 of Notes to the Consolidated Financial Statements). The results of operations
of Data Junction from December 4, 2003 to June 30, 2004, or the Stub Period, are included in our fiscal 2004 consolidated results of operations.



The acquisition of Data Junction brought data integration and transformation technologies and products, which are complementary to our existing data
management products, expertise and customer base. Winner of more than 20 major industry awards, Data Junction was a market leader in innovative integration technology, helping customers quickly and cost-effectively connect disparate data sources.
Primary integration products include a comprehensive set of visual design tools for rapidly building and testing data integration processes that work with hundreds of data formats and applications. This enables design with total control over all
aspects of the integration project  from creating integration maps to managing complex, event-driven flow of inter-application messages and EDI processes. Data Junction virtually created the category known as ETL (extract, transform and load)
in 1986 with Data Junction v1.0, one of the worlds first hub-and-spoke approaches to data conversion and translation, and today is charting new ground in the development of business and application integration technologies.



In July 2001, we formed a new business venture with AG-TECH Corporation,
a company developing, selling and importing packaged software, to sell and support our products in Japan. AG-TECH has been engaged in the sales and support of Btrieve (predecessor to Pervasive.SQL) and Pervasive.SQL products since 1986. In
conjunction with the joint venture, AG-TECH launched a new operating division staffed with specialists experienced in selling and supporting Pervasive.SQL to assume responsibility for OEM sales, packaged software sales, technical support and
localization and translation of our products into Japanese. The new business venture has resulted in improved profitability on sales in Japan as the arrangement allowed us to significantly reduce our costs in Japan. In connection with the new
business venture, we obtained a less than 20% ownership interest in AG-TECH and the ability to elect one director to the AG-TECH Board of Directors. Pervasives revenues from Japan were $5.3 million, $6.1 million and $6.3 million for the
fiscal years ended June 30, 2003, 2004 and 2005, respectively. In June 2004, we renewed portions of our distribution agreement with AG-TECH for an additional three-year period ending June 30, 2007.



Critical Accounting Policies and Estimates



The discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates
and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and on various other assumptions that are
believed to be reasonable under the circumstances, the results of which form the basis for making



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##### Index to Financial Statements

judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Estimates and assumptions are reviewed
periodically. Actual results may differ from these estimates under different assumptions or conditions.



We believe the following represent our critical accounting policies:



| |  |  | Revenue Recognition
| | - |  | -------------------



| |  |  | Sales Returns and Bad Debt Reserves
| | - |  | -----------------------------------



| |  |  | Goodwill and Other Intangible Assets
| | - |  | ------------------------------------



| |  |  | Taxes
| | - |  | -----



Revenue RecognitionWe license our software through OEM license agreements with software developers, or ISVs, and through shrink-wrap software licenses, sold through ISVs, value-added resellers, or VARs,
systems integrators and distributors, or direct to end users. Revenues are generally recognized when persuasive evidence of an agreement exists, delivery of the product has occurred, no significant Company obligations with regard to implementation
remain, the fee is fixed or determinable and collectibility is probable. Revenues related to OEM license agreements involving nonrefundable fixed minimum license fees are generally recognized upon delivery of the product master or first copy if no
significant vendor obligations remain. Per copy royalties related to OEM license agreements in excess of a fixed minimum amount are recognized as revenue when such amounts are reported to us. Revenue from post contract support and the right to
receive unspecified upgrades is recognized ratably over the contract term. We generally provide telephone support to customers and end users in the 30 days immediately following the sale at no additional charge and at a minimal cost per call. We
accrue the cost of providing this support. Revenue from consulting services and training is recognized when the related services are performed. We enter into agreements with certain distributors that provide for certain stock rotation and price
protection rights. These rights allow the distributor to return products in a non-cash exchange for other products or for credits against future purchases. Revenue from shipping and handling is recognized at the shipping date. Shipping and handling
costs are included in costs of product license revenues in the Consolidated Statements of Operations.



Where software licenses are sold with maintenance or other services, we allocate the total fee to the various elements based on the fair values of the
elements. We determine the fair value of each element in the arrangement based on vendor-specific objective evidence (VSOE) of fair value. VSOE of fair value is based upon the normal pricing and discounting practices for those products
and services when sold separately and, for support services, is additionally measured by the renewal rate. If we do not have VSOE for one of the delivered elements of an arrangement, but do have VSOE for all undelivered elements, we use the residual
method to record revenue. Under the residual method, the arrangement fee is first allocated to the undelivered elements based upon their VSOE of fair value; the remaining arrangement fee, including any discount, is allocated to the delivered
element. If the residual method is not used, discounts, if any, are applied proportionately to each element included in the arrangement based on each elements fair value without regard to the discount.



Sales Returns and Bad Debt ReservesWe reserve for the cost of
estimated sales returns, stock rotation and price protection rights as well as uncollectible accounts based on experience.



Goodwill and Other Intangible AssetsWe assess whether goodwill and indefinite-lived intangibles are impaired on an annual basis. Upon
determining the existence of goodwill and/or indefinite-lived intangibles impairment, we measure that impairment based on the amount by which the book value of goodwill and/or indefinite-lived intangibles exceeds its fair value. The implied fair
value of goodwill is determined by deducting the fair value of a reporting units identifiable assets and liabilities from the fair value of the reporting unit as a whole, as if that reporting unit had just been acquired and the purchase price
were being initially allocated. Additional impairment assessments may be performed on an interim basis if we encounter events or changes in circumstance that would indicate that, more likely than not, the book value of goodwill and/or
indefinite-lived intangibles has been impaired.



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##### Index to Financial Statements

TaxesUnder the asset and liability method of Statement of Financial Accounting Standards
No. 109,Accounting for Income Taxes (Statement 109), deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases and net operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.



We estimate our income taxes in each of the jurisdictions in which we operate as part of the process of preparing our consolidated financial statements. This process involves us estimating our actual current tax exposure together with
assessing temporary differences resulting from differing treatment of items, such as net operating loss carryforwards and foreign tax credit carryforwards, for tax and accounting purposes. These differences result in deferred tax assets and
liabilities. We then assess the likelihood that our net deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not more likely than not, we establish a valuation allowance. We concluded that a
full valuation allowance was required for all periods presented. While we have considered future taxable income in assessing the need for the valuation allowance, in the event we were to determine that we would be able to realize our deferred tax
assets in the future in excess of its net recorded amount, an adjustment to the deferred tax asset would be made, increasing our income in the period in which such determination was made. Pursuant to the Internal Revenue Code, the amounts of and
benefits from net operating loss and tax credit carryforwards may be impaired or limited in certain circumstances. Events which cause limitations in the amount of net operating losses and tax credits that we may utilize include, but are not limited
to, a cumulative change of more than 50% ownership of the company, as defined, over a three year period, and changes in the relative mix of our foreign source taxable income versus our domestic taxable income. Further, our net operating loss and tax
credit carryforwards are subject to potential expiration if not utilized by certain dates in the future.



We are subject to income taxes in the United States and numerous foreign jurisdictions. Significant judgment is required in determining our worldwide
provision for income taxes and recording the related assets and liabilities. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. We are regularly under audit by tax
authorities. Accruals for tax contingencies are provided for in accordance with the requirements of SFAS No. 5, Accounting for Contingencies. Although we believe we have appropriate support for the positions taken on our tax returns, we
have recorded a liability for our best estimate of the probable loss on certain of these positions. We believe that our accruals for tax liabilities are adequate for all open years, based on our assessment of many factors including past experience
and interpretations of tax law applied to the facts of each matter, which matters result primarily from intercompany transfer pricing. Although we believe our recorded assets and liabilities are reasonable, tax regulations are subject to
interpretation and tax litigation is inherently uncertain; therefore our assessments can involve both a series of complex judgments about future events and rely heavily on estimates and assumptions. Although we believe that the estimates and
assumptions supporting our assessments are reasonable, the final determination of tax audits and any related litigation could be materially different than that which is reflected in historical income tax provisions and recorded assets and
liabilities. Based on the results of an audit or litigation, a material effect on our income tax provision, net income, or cash flows in the period or periods for which that determination is made could result. Due to the complexity involved we are
not able to estimate the range of reasonably possible losses in excess of amounts recorded.



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##### Index to Financial Statements

Results of Operations



The following table sets forth for the periods indicated the percentage of revenues represented by certain lines in our consolidated statements of
operations.



|                                                          |  |                    |   |  |      |   |  |      |  
|--------------------------------------------------------- |  | ------------------ | - |  | ---- | - |  | ---- | -
|                                                          |  | Year EndedJune 30, |  
|                                                          |  | 2003               |   |  | 2004 |   |  | 2005 |  
|Revenues:                                                 |  |                    |   |  |      |   |  |      |  
|Product licenses                                          |  | 90                 | % |  | 83   | % |  | 76   | %
|Services and others .                                     |  | 10                 |   |  | 17   |   |  | 24   |  
|                                                          |  |                    |   |  |      |   |  |      |  
|Total revenues                                            |  | 100                | % |  | 100  | % |  | 100  | %
|Costs and expenses:                                       |  |                    |   |  |      |   |  |      |  
|Cost of product licenses                                  |  | 3                  |   |  | 3    |   |  | 5    |  
|Cost of services and other                                |  | 12                 |   |  | 11   |   |  | 10   |  
|Sales and marketing                                       |  | 35                 |   |  | 37   |   |  | 44   |  
|Research and development                                  |  | 21                 |   |  | 20   |   |  | 23   |  
|General and administrative                                |  | 12                 |   |  | 11   |   |  | 10   |  
|Write-off of acquired in-process research and development |  |                   |   |  | 2    |   |  |     |  
|                                                          |  |                    |   |  |      |   |  |      |  
|Total costs and expenses                                  |  | 83                 |   |  | 84   |   |  | 92   |  
|                                                          |  |                    |   |  |      |   |  |      |  
|Operating income from continuing operations               |  | 17                 |   |  | 16   |   |  | 8    |  
|Interest and other income, net                            |  | 1                  |   |  | 1    |   |  | 1    |  
|Income tax provision                                      |  | (1                 | ) |  | (2   | ) |  | (1   | )
|                                                          |  |                    |   |  |      |   |  |      |  
|Income from continuing operations                         |  | 17                 |   |  | 15   |   |  | 8    |  
|                                                          |  |                    |   |  |      |   |  |      |  
|Gain from discontinued operations                         |  |                   |   |  |     |   |  |     |  
|                                                          |  |                    |   |  |      |   |  |      |  
|Net income                                                |  | 17                 | % |  | 15   | % |  | 8    | %
|                                                          |  |                    |   |  |      |   |  |      |  



Revenues



Revenue from our embedded database product,
Pervasive.SQL, decreased in fiscal year 2005, relative to the fiscal year 2004. We believe this decrease was due to a variety of factors, including but not limited to, the length of time since the last major version release of our database product
(Version 8 in December 2002), increasing competition and what we believe to be the increasingly negative impact of general economic conditions on our ISV customers who build applications utilizing our database software and reduced demand for the
ISVs software applications themselves. Revenue from recently introduced add-on products for our database products, namely AuditMaster and Data Exchange, continued to generate database related revenue in the year ended June 30, 2005 as we
continue to market these add-on products to our large base of database customers. Our embedded database and related products represented approximately 70% of our revenue in fiscal year 2005. In addition, we believe the integration products we
acquired in fiscal year 2004 represent a compelling growth opportunity as we invest in revenue synergies and opportunities presented by the acquired business, combined with our historical database business and channels. Our integration products
represented approximately 30% of our revenue in fiscal year 2005. And although we have not generated substantial revenue from Pervasive Postgres to date, we believe that our entry in to the open source database market represents an exciting
opportunity to be a significant participant in this emerging market. A continued reduction in our embedded database business, or our inability to grow our integration products business and our open source database business, could have a material
adverse effect on our business, operating results and financial condition.



We generated revenue of $39.2 million, $49.6 million and $48.3 million for the fiscal years ended June 30, 2003, 2004 and 2005, respectively, which represents an increase of 27% from fiscal 2003 to 2004, and a
decrease of 3% from fiscal 2004 to 2005. The increase in revenue in fiscal 2004 is primarily attributable to license and



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##### Index to Financial Statements

service revenues from Data Junction related products and services during the Stub Period. The decrease in revenue in fiscal year 2005 is primarily
attributable to a decrease in our embedded database product revenue, partially offset by the inclusion of a full twelve months of revenue from Data Junction related products and services in fiscal year 2005 versus only seven months in fiscal year
2004.



Our product license revenues were $35.4 million, $41.0
million and $37.0 million for the fiscal years ended June 30, 2003, 2004 and 2005, respectively, which represents an increase of 16% from fiscal 2003 to 2004, and a decrease of 10% from fiscal 2004 to 2005. The increase in product license
revenue from fiscal 2003 to fiscal 2004 was primarily due to the inclusion of license revenue from Data Junction related products during the Stub Period. The decrease in product license revenue from fiscal 2004 to fiscal 2005 is attributable to a
decrease in our embedded database product revenue, partially offset by the inclusion of a full twelve months of revenue from Data Junction related products in fiscal year 2005 versus only seven months in fiscal year 2004.



Licenses of our software operating on Windows NT or other Microsoft operating
systems continue to represent approximately 90% to 95% of our database product license revenues. We expect that the percentages of our revenue attributable to licenses of our software operating on particular platforms will continue to change from
time to time. We cannot be certain that our revenue attributable to licenses of our software operating on Windows NT, or any other operating system platform, will grow in the future.



Our service and other revenues were $3.8 million, $8.6 million and $11.4 million for the fiscal years ended June 30,
2003, 2004 and 2005, respectively, which represents an increase of 125% from fiscal 2003 to 2004, and an increase of 32% from fiscal 2004 to 2005. The increase in service and other revenue from fiscal 2003 to fiscal 2004 was primarily due to the
inclusion of service and other revenue from Data Junction services during the Stub Period. The increase in service and other revenue from fiscal 2004 to fiscal 2005 is primarily related to inclusion of service and other revenues from Data Junction
services for a full twelve months in fiscal year 2005, versus only seven months in fiscal year 2004.



International revenues, consisting of all revenue from customers located outside of North America, were $16.3 million, $17.6 million and $18.3 million in
fiscal 2003, 2004 and 2005, representing 42%, 35% and 38% of total revenue, respectively. We attribute the increase in international revenue in fiscal year 2004 primarily to increased revenue in Japan and to the inclusion of revenue from Data
Junction related products and services during the Stub Period. International revenue as a percentage of total revenues in 2004 decreased from prior year due to inclusion of Data Junction revenues during the Stub Period, as Data Junction revenues are
more predominantly from North America. We attribute the increase in international revenue in fiscal year 2005 to increased database revenue in Europe and inclusion of international integration product revenues for a full year in fiscal year 2005. We
expect that international revenue will continue to account for a significant portion of our revenue in the future.



Costs and Expenses



Cost of Product Licenses Revenues.    Cost of product licenses revenues consists primarily of the cost to manufacture and
fulfill orders for our shrink-wrap software products, payment of license fees for third-party technologies embedded in our products and amortization of purchased technology. Cost of product licenses revenues for continuing operations was $1.0
million, $1.7 million and $2.3 million in fiscal 2003, 2004 and 2005, representing 3%, 3% and 5% of total revenues respectively. Cost of product licenses revenue increased in dollar amount in fiscal 2004 as compared to fiscal 2003 principally as the
result of amortization related to the $6.3 million value assigned to developed technology acquired through the Data Junction acquisition. The Data Junction acquisition occurred in the second quarter of fiscal 2004, and accordingly, we began to
recognize amortization expense in the Stub Period. Cost of product licenses revenue increased in fiscal year 2005 primarily due to a full year of amortization of purchased technology acquired through the Data Junction acquisition. We anticipate that
cost of product licenses revenue will increase slightly in fiscal year 2006 primarily due to amortization of approximately $0.6 million of other third party technologies licensed late in fiscal year 2005.



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Cost of Services and Other Revenues.    Cost of services and other revenues
consists primarily of the cost to provide technical support, primarily telephone support, which is typically provided within 30 days of purchase and the costs to deliver professional services and training services to others. Cost of services and
other revenues for continuing operations was $4.9 million, $5.5 million and $5.2 million in fiscal 2003, 2004 and 2005, representing 12%, 11% and 10% of total revenues, respectively. Cost of services and other revenues increased in dollar amount in
fiscal 2004 as compared to fiscal 2003 primarily as a result of an increase in technical support and consulting personnel and related operating costs associated with the Data Junction operations subsequent to the December 4, 2003 acquisition
date. Cost of services and other revenues decreased in fiscal year 2005 as compared to fiscal year 2004 primarily as a result of a decrease in technical support and consulting personnel and related operating costs. We anticipate that cost of
services and other revenues will increase in fiscal year 2006 primarily due to an anticipated increase in technical support and consulting personnel and related operating costs and due to the inclusion of compensation costs associated with stock
options in accordance with SFAS No.123R.



Sales and
Marketing.    Sales and marketing expenses consist primarily of salaries, commissions and bonuses earned by sales and marketing personnel, foreign sales office expenses, travel and entertainment, marketing programs and
promotional expenses. Sales and marketing expenses related to continuing operations were $13.7 million, $18.3 million and $21.3 million in fiscal 2003, 2004 and 2005, representing 35%, 37% and 44% of total revenues, respectively. The increase in
sales and marketing expenses in fiscal 2004 as compared to fiscal year 2003 is due primarily to Stub Period operating costs associated with the Data Junction operations subsequent to the acquisition date. Sales and marketing expenses increased in
fiscal 2005 primarily due to a full year of combined sales and marketing activities as we increased relative investments in sales and marketing personnel and marketing programs related to the data integration product line acquired in the Data
Junction acquisition. We anticipate that sales and marketing expenses will increase in fiscal year 2006 primarily due to an anticipated increase in sales and marketing personnel and marketing programs related to the data integration product line and
Pervasive Postgres and due to the inclusion of compensation costs associated with stock options in accordance with SFAS No.123R.



Research and Development.    Research and development expenses consist primarily of personnel and related costs. Research and
development expenses related to continuing operations were $8.0 million, $10.0 million and $11.1 million in fiscal 2003, 2004 and 2005, representing 21%, 20% and 23% of total revenues, respectively. Research and development expenses increased in
dollar amount in fiscal year 2004 primarily as a result of costs relating to Data Junction operations during the Stub Period. Research and development expenses increased in fiscal year 2005 primarily due to a full year of combined research and
development activities after the acquisition of Data Junction. We anticipate that research and development expenses in fiscal year 2006 will increase relative to fiscal year 2005, due to the inclusion of compensation costs associated with stock
options in accordance with SFAS No.123R, offset partially by a slight decrease in other engineering costs as we continue to leverage our investments in our India development operations.



General and Administrative.    General and
administrative expenses consist primarily of personnel salaries and other costs of our finance, human resources and administrative departments. General and administrative expenses related to continuing operations were $4.9 million, $5.2 million and
$4.8 million in fiscal 2003, 2004 and 2005, representing 12%, 11% and 10% of total revenues, respectively. General and administrative expenses increased in dollar amount in fiscal year 2004 and decreased in fiscal year 2005 primarily as a result of
a non-recurring charge in fiscal year 2004 described in the paragraph below. We believe our general and administrative expenses in fiscal year 2006 will increase relative to fiscal year 2005 due to the inclusion of compensation costs associated with
stock options in accordance with SFAS No.123R.



In the second
quarter of fiscal 2004, we wrote-off related party notes receivable totaling approximately $0.3 million, included in general and administrative expenses. These notes receivable, dated July 2001 and March 2002, were written off in accordance with the
original terms of the note agreements with our former Chairman of the Board and Chief Executive Officer Ron Harris. The terms of the original notes required the forgiveness of the balance of the notes in the event Mr. Harris service to
the Company ended under certain conditions. With the



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##### Index to Financial Statements

expiration and non-renewal of Mr. Harris term as a Director of the Company at the 2003 Annual Shareholders Meeting on December 3, 2003, and
with the absence of any other agreement calling for the continued service of Mr. Harris to the Company, the conditions for forgiveness of the notes were met.



Write-off of Acquired In-Process Research and Development.In connection with the Data
Junction acquisition in December 2003, we recorded a charge of $1.1 million, or approximately 2% of the total purchase price, for IPRD. The value allocated to the projects identified as IPRD was charged to operations during the three months ended
December 31, 2003.



At the acquisition date, Data
Junctions in-process project was Release 9.0 of the Data Junction integration software product. At the date of the acquisition, IPRD was approximately 70% complete, based upon costs expended to date and estimated costs to complete the project.
Release 9.0 will include significant new code that will result in the creation of an improved architecture designed to solve the high performance integration needs of larger companies and will be much better suited to tackle more complex data and
application integration projects.



As of the Data Junction
acquisition date, this technology had not yet reached technological feasibility and had no alternative uses. The technological feasibility of an in-process product is established when the enterprise has completed all planning, designing, coding and
testing activities necessary to establish that the product can be produced to meet its design specifications. The value of IPRD was determined using an income approach. This approach takes into consideration earnings remaining after deducting from
cash flows related to the in-process technology the market rates of return on contributory assets, including assembled workforce, customer accounts and existing technology. The cash flows are then discounted to present value at an appropriate rate.
Discount rates are determined by an analysis of the risks associated with each of the identified intangible assets. Given the riskier nature of the cash flows related to the IPRD, a higher discount was warranted, and is based on the cost of equity
plus 1000 basis points. The resulting cash flows attributable to the IPRD were discounted at a discount rate of 25.4%. The resulting net cash flows to which this discount rate was applied are based on managements estimates of revenues,
operating expenses, and income taxes from such acquired technology. Many of the features of Release 9.0 of the Data Junction integration software project have now been released in the form of various add-on products to core Data Junction technology.
Some of the risks and uncertainties inherent in the estimated costs to complete the project and the attainment of completion, include, but are not limited to, the difficulty of predicting the duration of product development and the risks that
changes in the product requirements will result in unexpected redesign activity.



Provision for Income Taxes.    Provision for income taxes related to continuing operations was approximately $0.6 million, $0.8 million and $0.3 million in fiscal 2003, 2004 and 2005,
respectively. The provision for income taxes consists primarily of income taxes on our foreign operations. Income from U.S. operations has been offset by net operating losses carried forward from previous years.



Based on a number of factors, we believe that it is more likely than not,
that a substantial amount of our deferred tax assets may not be realized. Accordingly, we have recorded a valuation allowance equal to the net deferred tax asset due to uncertainties regarding the realization of deferred tax assets based on the
uncertainty of future earnings and risks associated with business combinations. We expect to continue to incur foreign taxes associated with our international operations. See Note 4 of Notes to Consolidated Financial Statements for further
discussion of our provision for income taxes.



Gain from
Discontinued Operations.    Gain from discontinued operations in fiscal 2003 was $0.2 million and is the result of a reduction in the future liabilities of the discontinued operations following the partial termination of an
office lease on favorable economic terms.



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##### Index to Financial Statements

Quarterly Results from Operations



The following table sets forth selected unaudited quarterly information for our last eight fiscal quarters. This information
has been prepared on the same basis as the audited consolidated financial statements appearing elsewhere in this Report, and we believe all necessary adjustments (consisting only of normal recurring adjustments) have been included in the amounts
stated below. We also believe this information presents fairly the results of such periods when read in conjunction with the audited consolidated financial statements and notes.



|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|--------------------------------------------------------- |  | ------------------------------------- | ----- | - | ------------ | - | ------ | ------------ |  | - | ------------ | - |  | ------------- | ------ | - | ------------ | - | ------ | ------------ |  | - | ------------ | - |  | - | ------ | - |  | - | ------ | -
|                                                          |  | Quarter Ended                         |      
|                                                          |  | Sept. 30 2003                         |       |   | Dec. 31 2003 |   |        | Mar. 31 2004 |  |   | June 30 2004 |   |  | Sept. 30 2004 |        |   | Dec. 31 2004 |   |        | Mar. 31 2005 |  |   | June 30 2005 |  
|                                                          |  | (in thousands, except per share data) |      
|Revenues:                                                 |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Product licenses                                          |  | $                                     | 8,276 |   |              | $ | 9,856  |              |  | $ | 11,147       |   |  | $             | 11,688 |   |              | $ | 8,984  |              |  | $ | 8,856        |   |  | $ | 9,665  |   |  | $ | 9,473  |  
|Services and other                                        |  |                                       | 1,115 |   |              |   | 1,654  |              |  |   | 3,055        |   |  |               | 2,817  |   |              |   | 2,800  |              |  |   | 2,736        |   |  |   | 2,749  |   |  |   | 3,089  |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Total revenue                                             |  |                                       | 9,391 |   |              |   | 11,510 |              |  |   | 14,202       |   |  |               | 14,505 |   |              |   | 11,784 |              |  |   | 11,592       |   |  |   | 12,414 |   |  |   | 12,562 |  
|Costs and expenses:                                       |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Cost of product licenses                                  |  |                                       | 212   |   |              |   | 374    |              |  |   | 553          |   |  |               | 574    |   |              |   | 512    |              |  |   | 576          |   |  |   | 605    |   |  |   | 581    |  
|Cost of services and other                                |  |                                       | 1,044 |   |              |   | 1,228  |              |  |   | 1,627        |   |  |               | 1,618  |   |              |   | 1,392  |              |  |   | 1,115        |   |  |   | 1,310  |   |  |   | 1,396  |  
|Sales and marketing                                       |  |                                       | 3,354 |   |              |   | 3,943  |              |  |   | 5,621        |   |  |               | 5,394  |   |              |   | 5,398  |              |  |   | 5,475        |   |  |   | 5,416  |   |  |   | 5,024  |  
|Research and development                                  |  |                                       | 2,058 |   |              |   | 2,330  |              |  |   | 2,768        |   |  |               | 2,828  |   |              |   | 2,641  |              |  |   | 2,799        |   |  |   | 2,971  |   |  |   | 2,673  |  
|General and administrative                                |  |                                       | 1,194 |   |              |   | 1,556  |              |  |   | 1,166        |   |  |               | 1,312  |   |              |   | 1,091  |              |  |   | 1,126        |   |  |   | 1,209  |   |  |   | 1,327  |  
|Write-off of acquired in-process research and development |  |                                       |      |   |              |   | 1,084  |              |  |   |             |   |  |               |       |   |              |   |       |              |  |   |             |   |  |   |       |   |  |   |       |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Total costs and expenses                                  |  |                                       | 7,862 |   |              |   | 10,515 |              |  |   | 11,735       |   |  |               | 11,726 |   |              |   | 11,034 |              |  |   | 11,091       |   |  |   | 11,511 |   |  |   | 11,001 |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Operating income                                          |  |                                       | 1,529 |   |              |   | 995    |              |  |   | 2,467        |   |  |               | 2,779  |   |              |   | 750    |              |  |   | 501          |   |  |   | 903    |   |  |   | 1,561  |  
|Interest and other income, net                            |  |                                       | 92    |   |              |   | 82     |              |  |   | 47           |   |  |               | 72     |   |              |   | 84     |              |  |   | 108          |   |  |   | 146    |   |  |   | 224    |  
|Income tax provision                                      |  |                                       | (175  | ) |              |   | (175   | )            |  |   | (200         | ) |  |               | (200   | ) |              |   | (46    | )            |  |   | (62          | ) |  |   | (70    | ) |  |   | (90    | )
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Net income                                                |  | $                                     | 1,446 |   |              | $ | 902    |              |  | $ | 2,314        |   |  | $             | 2,651  |   |              | $ | 788    |              |  | $ | 547          |   |  | $ | 979    |   |  | $ | 1,695  |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Basic earnings per share                                  |  | $                                     | 0.09  |   |              | $ | 0.05   |              |  | $ | 0.11         |   |  | $             | 0.12   |   |              | $ | 0.04   |              |  | $ | 0.02         |   |  | $ | 0.04   |   |  | $ | 0.08   |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Diluted earnings per share                                |  | $                                     | 0.08  |   |              | $ | 0.04   |              |  | $ | 0.10         |   |  | $             | 0.11   |   |              | $ | 0.03   |              |  | $ | 0.02         |   |  | $ | 0.04   |   |  | $ | 0.07   |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|                                                          |  |                                       |       |   |              |   |        |             
|As a Percentage of Revenues:                              |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Revenues:                                                 |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Product licenses                                          |  |                                       | 88    | % |              |   | 86     | %            |  |   | 78           | % |  |               | 81     | % |              |   | 76     | %            |  |   | 76           | % |  |   | 78     | % |  |   | 75     | %
|Services and other                                        |  |                                       | 12    |   |              |   | 14     |              |  |   | 22           |   |  |               | 19     |   |              |   | 24     |              |  |   | 24           |   |  |   | 22     |   |  |   | 25     |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Total revenue                                             |  |                                       | 100   |   |              |   | 100    |              |  |   | 100          |   |  |               | 100    |   |              |   | 100    |              |  |   | 100          |   |  |   | 100    |   |  |   | 100    |  
|Costs and expenses:                                       |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Cost of product licenses                                  |  |                                       | 2     |   |              |   | 3      |              |  |   | 4            |   |  |               | 4      |   |              |   | 4      |              |  |   | 5            |   |  |   | 5      |   |  |   | 5      |  
|Cost of services and other                                |  |                                       | 11    |   |              |   | 11     |              |  |   | 11           |   |  |               | 11     |   |              |   | 12     |              |  |   | 10           |   |  |   | 10     |   |  |   | 11     |  
|Sales and marketing                                       |  |                                       | 36    |   |              |   | 34     |              |  |   | 41           |   |  |               | 38     |   |              |   | 46     |              |  |   | 47           |   |  |   | 44     |   |  |   | 40     |  
|Research and development                                  |  |                                       | 22    |   |              |   | 20     |              |  |   | 19           |   |  |               | 19     |   |              |   | 23     |              |  |   | 24           |   |  |   | 24     |   |  |   | 21     |  
|General and administrative                                |  |                                       | 13    |   |              |   | 14     |              |  |   | 8            |   |  |               | 9      |   |              |   | 9      |              |  |   | 10           |   |  |   | 10     |   |  |   | 11     |  
|Write-off of acquired in-process research and development |  |                                       |      |   |              |   | 9      |              |  |   |             |   |  |               |       |   |              |   |       |              |  |   |             |   |  |   |       |   |  |   |       |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Total costs and expenses                                  |  |                                       | 84    |   |              |   | 91     |              |  |   | 83           |   |  |               | 81     |   |              |   | 94     |              |  |   | 96           |   |  |   | 93     |   |  |   | 88     |  
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Operating income                                          |  |                                       | 16    |   |              |   | 9      |              |  |   | 17           |   |  |               | 19     |   |              |   | 6      |              |  |   | 4            |   |  |   | 7      |   |  |   | 12     |  
|Interest and other income, net                            |  |                                       | 1     |   |              |   | 1      |              |  |   |             |   |  |               |       |   |              |   | 1      |              |  |   | 1            |   |  |   | 1      |   |  |   | 2      |  
|Income tax provision                                      |  |                                       | (2    | ) |              |   | (2     | )            |  |   | (1           | ) |  |               | (1     | ) |              |   |       |              |  |   |             |   |  |   |       |   |  |   | (1     | )
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  
|Net income                                                |  |                                       | 15    | % |              |   | 8      | %            |  |   | 16           | % |  |               | 20     | % |              |   | 7      | %            |  |   | 5            | % |  |   | 8      | % |  |   | 13     | %
|                                                          |  |                                       |       |   |              |   |        |              |  |   |              |   |  |               |        |   |              |   |        |              |  |   |              |   |  |   |        |   |  |   |        |  



Our operating results
have varied significantly from quarter to quarter in the past and may continue to vary significantly from quarter to quarter in the future due to a variety of factors. Such fluctuations may result in volatility in the price of our common stock. We
establish our expenditure levels based on expectations as to future revenue, and, if revenue levels are below expectations, expenses can be disproportionately high. As a



41



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##### Index to Financial Statements

result, a drop in near term demand for our products could significantly affect both revenues and profits in any quarter. In the future, our operating results
may fluctuate for this reason or as a result of a number of other factors, including increased expenses, timing of product releases, increased competition, variations in the mix of sales, announcements of new products by us or our competitors and
capital spending patterns of our customers. As a result of these factors, there can be no assurance we will be able to maintain profitability on a quarterly basis. See Risk Factors That May Affect Future Results.



Liquidity and Capital Resources



Cash provided by continuing operations was $9.2 million, $9.1 million and
$5.3 million for fiscal 2003, 2004 and 2005, respectively. Cash provided by continuing operations decreased slightly from fiscal 2003 to 2004 despite an increase in income from continuing operations in fiscal 2004, primarily due to an increase in
current assets, partially offset by an increase in deferred revenue. Cash provided by continuing operations decreased from fiscal 2004 to 2005 primarily due to decreased net income, offset partially by an increase in non-cash amortization of
acquisition related intangible assets, and the payment of a lease termination fee of $2.3 million in the quarter ended September 30, 2004.



We used $16.6 million, net of $6.5 million of cash held by Data Junction at the time of closing of the transaction, and issued 5 million shares of
Pervasive common stock to acquire the outstanding shares of Data Junction, including certain acquisition-related costs.



We received net proceeds of $1.7 million, $0.4 million and $6.6 million from the sale or maturity of marketable securities in fiscal 2003, 2004 and 2005
respectively. In addition, we purchased property and equipment totaling approximately $0.6 million, $1.0 million and $1.2 million in fiscal 2003, 2004 and 2005, respectively. This property consisted primarily of computer hardware and software for
general upgrade requirements in fiscal 2003, 2004 and 2005 as well as an upgrade to the front office system in 2004 and 2005. We expect that our capital expenditures in the next fiscal year will be consistent with fiscal 2005 as a result of specific
capital projects anticipated to upgrade additional front and back office systems.



In July 2003, we announced the authorization of a new $5.0 million stock repurchase plan which became effective upon expiration of the previous plan on July 21, 2003. During fiscal year 2005, we repurchased
359,700 shares of common stock at a cost of approximately $1.8 million. Depending on market conditions and other factors, such purchases may be commenced or suspended at any time without prior notice.



During fiscal years ended June 30, 2003, 2004 and 2005, we received
approximately $0.5 million, $1.5 million and $1.6 million, respectively, in proceeds from the exercise of stock options and our employee stock purchase plan resulting in the issuance of shares of our common stock of approximately 248,000, 532,000
and 491,000 for the fiscal years ending June 30, 2003, 2004 and 2005, respectively.



On September 24, 2004, we entered into a Lease Agreement with Carr Texas OP, LP (the Landlord) pursuant to which we will lease approximately 91,000 square feet for use as our principal headquarters.
The Lease Agreement replaced our prior lease with the Landlord which was terminated on September 24, 2004. We paid the Landlord $2.3 million in satisfaction of our obligations under the original lease. The cancellation fee was previously
accrued and is reflected in the Companys consolidated balance sheet as of June 30, 2004 under the heading Deferred Rent and Lease Related Accruals.



We are exploring new opportunities to build, license or acquire products and services for introduction to and through our
expansive worldwide channel. Any such transactions could cause us to issue dilutive equity securities, reduce our cash and marketable securities, or incur debt or contingent liabilities.



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On June 30, 2005, we had $34.9 million in working capital including $37.4 million in cash, cash
equivalents and marketable securities.



Summary Disclosures About
Contractual Obligations



The following table summarizes
our operating lease obligations at June 30, 2005, and the effect such obligations are expected to have on our liquidity and cash flow in future periods:



|           |  |   |      
|---------- |  | - | -----
|2006       |  | $ | 905  
|2007       |  |   | 1,254
|2008       |  |   | 1,167
|2009       |  |   | 1,320
|2010       |  |   | 1,396
|Thereafter |  |   | 1,861
|           |  |   |      
|           |  | $ | 7,903
|           |  |   |      



Recently Issued Accounting
Standards



In December 2004, the FASB issued SFAS
No. 123R Share-Based Paymentwhich supersedes Accounting Principle Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, SFAS No. 123, Accounting for
Stock-Based Compensation, and related implementation guidance. The pronouncement is effective for the Company for interim and annual periods beginning after June 15, 2005.Under this pronouncement, stock-based compensation to
employees is required to be recognized as a charge to the statement of operations and such charge is to be measured according to the fair value of the stock options. In the absence of an observable market price for the stock awards, the fair value
of the stock options would be based upon a valuation methodology that takes into consideration various factors, including the exercise price of the option, the expected term of the option, the current price of the underlying shares, the expected
volatility of the underlying share price, the expected dividends on the underlying shares and the risk-free interest rate.



SFAS No. 123R permits adoption using one of two methods: (1) a modified prospective method in which compensation cost is recognized
beginning on the effective date based on the requirements of SFAS 123R for all share-based payments granted after the effective date and based on SFAS 123 for all awards granted to employees prior to the effective date that remain unvested on the
effective date or (2) a modified retrospective method which includes the requirements of the modified prospective method, but also permits entities to restate all periods presented or prior interim periods of the year of adoption
based on the amounts previously recognized under SFAS 123 for purposes of pro forma disclosures. We will adopt the delayed provisions of SFAS 123R during the first quarter of our fiscal year 2006, utilizing the modified prospective
method. We expect to continue to grant stock-based compensation to employees.



Our current policy is to not expense share-based compensation; however, we do disclose the effect of this item as currently required by SFAS 123, see Note 2  Summary of Significant Accounting
PoliciesStock Based Compensation. We expect the adoption of SFAS 123R will have a significant impact on our results of operations, but we do not expect such adoption to have a significant impact on our financial position or liquidity.



ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



The majority of our operations are based in the United States and, accordingly, the majority of our transactions are denominated in U.S. dollars. However,
we do have foreign-based operations where transactions are denominated in foreign currencies and are subject to market risk with respect to fluctuations in the relative value of currencies. Currently, we have operations in Japan, Belgium, Germany,
France, England and India and conduct transactions in the local currency of each location. If the U.S. dollar to Japanese yen rate had remained unchanged throughout fiscal 2003, the result would have been an increase in revenue and operating income
of



43



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##### Index to Financial Statements

less than $0.1 million. If the U.S. dollar to Japanese yen rate had remained unchanged throughout fiscal 2004, the result would have been a decrease in
revenue and operating income of approximately $0.5 million. If the U.S. dollar to Japanese yen rate had remained unchanged throughout fiscal 2005, the result would have been a decrease in revenue and operating income of less than $0.1 million. If
the U.S. dollar to euro rate had remained unchanged throughout fiscal 2003, the result would have been an increase in operating income of approximately $0.2 million. If the U.S. dollar to euro rate had remained unchanged throughout fiscal 2004, the
result would have been an increase in operating income of approximately $0.2 million. If the U.S. dollar to euro rate had remained unchanged throughout fiscal 2005, the result would have been an increase in operating income of approximately $0.3
million. The impact of fluctuations in the relative value of all other currencies for fiscal 2003, 2004 and 2005 was not material.



We monitor our foreign currency exposure and, from time to time, will attempt to reduce exposure through hedging. Gains and losses on foreign currency
hedging were not material to the consolidated financial statements for fiscal years ended June 30, 2003, 2004 and 2005 as such hedging activities were minimal.



We are subject to interest rate risk on our cash and marketable securities investments; however, this risk is limited as our
investment policy requires us to invest in short-term securities and maintain an average maturity of one year or less.



|ITEM 8. | CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
|------- | --------------------------------------------------------



The financial statements and supplementary data required by this Item 8 are listed in Item 15(a)(1) and begin at page F-1 of this Report.



|ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
|------- | ------------------------------------------------------------------------------------



Not applicable.



ITEM 9A.    CONTROLS AND PROCEDURES



Evaluation of Disclosure Controls and Procedures



Our management, under supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of
our disclosure controls and procedures, as defined under Exchange Act Rule 13a-15(e). Based upon this evaluation, the Chief Executive Officer and Chief Financial Officer concluded that, as of June 30, 2005, the disclosure controls and
procedures were effective to ensure that information required to be disclosed in the Companys Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities Exchange Commissions
rules and forms.



Managements Report On Internal
Control Over Financial Reporting



Our management is
responsible for establishing and maintaining adequate internal control over financial reporting, as defined under Exchange Act Rules 13a-15(f) and 15d-15(f). Our internal control over financial reporting is designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.



All internal control systems, no matter how well designed, have inherent limitations and may not prevent or detect
misstatements. Therefore even those systems determined to be effective can only provide reasonable assurance with respect to financial reporting reliability and financial statement preparation and presentation. In addition, projections of any
evaluation of effectiveness to future periods are subject to the risk that controls become inadequate because of changes in conditions and that the degree of compliance with the policies or procedures may deteriorate.



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Management assessed the effectiveness of the Companys internal control over financial reporting as
of June 30, 2005. In making this assessment, management used the criteria issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on its assessment, management
concluded that, as of June 30, 2005, the Companys internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for
external purposes in accordance with generally accepted accounting principles.



Our managements assessment of the effectiveness of our internal control over financial reporting as of June 30, 2005, has been audited by Ernst & Young LLP, an independent registered public accounting
firm. This report appears on page F-2 in our Consolidated Financial Statements.



Changes in Internal Control Over Financial Reporting



There have been no changes in our internal controls over financial reporting that occurred during our most recent fiscal quarter that has materially
affected, or is reasonably likely to materially affect, our internal controls over financial reporting.



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PART III



ITEM 10.    DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT



The information regarding directors is incorporated herein by reference from the section entitled Election of Directors of the Companys
definitive Proxy Statement (the Proxy Statement) to be filed pursuant to Regulation 14A of the Securities Exchange Act of 1934, as amended, for the registrants Annual Meeting of Stockholders to be held on November 1, 2005. The
Proxy Statement is anticipated to be filed within 120 days after the end of the registrants fiscal year ended June 30, 2005. For information regarding executive officers of the Company, see the Information appearing under the caption
Executive Officers of the Registrant in Part I, Item 4a of this Report on Form 10-K.



ITEM 11.    EXECUTIVE COMPENSATION



Information regarding executive compensation is incorporated herein by reference from the section entitled Executive Compensation and Related Information of the Proxy Statement.



ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT



Information regarding security ownership of certain beneficial owners and management is incorporated herein by reference from the section entitled
Stock Ownership of Certain Beneficial Owners and Management of the Proxy Statement.



ITEM 13.    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS



Information regarding certain relationships and related transactions is incorporated herein by reference from the section entitled Certain
Relationships and Related Transactions of the Proxy Statement.



ITEM 14.    PRINCIPAL ACCOUNTANT FEES AND SERVICES



Information concerning principal accountant fees and services appears in the Proxy Statement under the heading Fees Billed by Ernst & Young
LLP and is incorporated herein by reference.



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PART IV



ITEM 15.    EXHIBITS, FINANCIAL STATEMENT SCHEDULES



(a)(1) Financial Statements



The following consolidated financial statements of the Company are filed as part of this Annual Report on Form 10-K as follows:



Index to Consolidated Financial Statements



|                                                                                                                         |  |    
|------------------------------------------------------------------------------------------------------------------------ |  | ---
|Report of Independent Registered Public Accounting Firm on Internal Control over Financial Reporting                     |  | F-2
|Report of Independent Registered Public Accounting Firm                                                                  |  | F-3
|Consolidated Balance Sheets at June 30, 2004 and 2005                                                                    |  | F-4
|Consolidated Statements of Operations for each of the three years in the period ended June 30, 2005                      |  | F-5
|Consolidated Statements of Changes in Stockholders Equity for each of the three years in the period ended June 30,
2005 |  | F-6
|Consolidated Statements of Cash Flows for each of the three years in the period ended June 30, 2005                      |  | F-7
|Notes to the Consolidated Financial Statements                                                                           |  | F-8



(a)(2) Financial
Statement Schedules



Schedule IIValuation and Qualifying
Accounts is filed on page S-1 of this Report on Form 10-K.



All
other schedules have been omitted because they are not applicable, not required under the instructions, or the information requested is set forth in the consolidated financial statements or related notes thereto.



(c)    Exhibits



|        |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|        | 
|2.1+    |  | Merger Agreement dated as of August 8, 2003 among Pervasive Software Inc., Ramal Acquisition Corp., Data Junction Corporation, Michael E. Hoskins, The Hoskins 2003 Charitable Remainder
Unitrust with Makeup, Darrell G. Blandford, The Blandford 2003 Charitable Remainder Trust with Makeup, Gregory E. Grosh, The Gregory E. Grosh Charitable Remainder Unitrust (Gregory E. Grosh Trustee), Ron S. Dougherty and Computershare Trust Company,
Inc., as escrow agent.
|        | 
|3.1*    |  | Restated Certificate of Incorporation                                                                                                                                                                                                                                                                                                                                                                                                                                    
|        | 
|3.2*    |  | Bylaws of the Company                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|        | 
|4.1*    |  | Reference is made to Exhibits 3.1 and 3.2                                                                                                                                                                                                                                                                                                                                                                                                                                
|        | 
|4.2*    |  | Specimen Common Stock certificate                                                                                                                                                                                                                                                                                                                                                                                                                                        
|        | 
|4.3***  |  | Rights Agreement dated October 20, 2000, between the Company and Computershare Trust Company, Inc. as Rights Agent                                                                                                                                                                                                                                                                                                                                                       
|        | 
|10.1*   |  | Form of Indemnification Agreement                                                                                                                                                                                                                                                                                                                                                                                                                                        
|        | 
|10.2*   |  | 1997 Stock Incentive Plan                                                                                                                                                                                                                                                                                                                                                                                                                                                
|        | 
|10.3*   |  | Employee Stock Purchase Plan                                                                                                                                                                                                                                                                                                                                                                                                                                             
|        | 
|10.4*   |  | First Amended and Restated 1994 Incentive Plan                                                                                                                                                                                                                                                                                                                                                                                                                           
|        | 
|10.10** |  | Lease agreement dated April 2, 1998, between the Company and CarrAmerica Realty, L.P. T/A Riata Corporate Park                                                                                                                                                                                                                                                                                                                                                           
|        | 
|10.11++ |  | Lease agreement dated September 24, 2004 between the Company and Carr Texas Op, LP T/A Riata Corporate Park                                                                                                                                                                                                                                                                                                                                                              



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|     |  |                                                                                                                                                                                                                                           
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|     | 
|21.1 |  | Subsidiaries of the Company                                                                                                                                                                                                               
|     | 
|31.1 |  | Rule 13a-14(a)/15d-a4(a) Certification executed by David Sikora, Chief Executive Officer                                                                                                                                                  
|     | 
|31.2 |  | Rule 13a-14(a)/15d-a4(a) Certification executed by John Farr, Chief Financial Officer                                                                                                                                                     
|     | 
|32.1 |  | Certifications required by Rule 13a-14(b) or Rule 15d-14(b) and Section 1350 of Chapter 63 of Title 18 of the United States Code (18 U.S.C. 1350) executed by David Sikora, Chief Executive
Officer and John Farr, Chief Financial Officer

---

|+ |  | Incorporated by reference to the Companys Current Report on Form 8-K filed August 13, 2003.
|- |  | --------------------------------------------------------------------------------------------

|* |  | Incorporated by reference to the Companys Registration Statement on Form S-1 (File No. 333-32199).
|- |  | ---------------------------------------------------------------------------------------------------

|** |  | Incorporated by reference to the Companys Annual Report on Form 10-K for the fiscal year ended June 30, 1998 (File No. 000-23043).
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------

|*** |  | Incorporated by reference to the Companys Registration Statement on Form 8-A filed on October 24, 2000 (File No. 000-23043).
|--- |  | -----------------------------------------------------------------------------------------------------------------------------

|++ |  | Incorporated by reference to the Companys Current Report on Form 8-K filed September 24, 2004.
|-- |  | -----------------------------------------------------------------------------------------------



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SIGNATURES



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



PERVASIVE SOFTWARE INC. (Registrant)By:

/S/    DAVID
SIKORADavid Sikora President and Chief Executive OfficerSeptember 13, 2005Date




Pursuant to the
requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.



|                                                  |  |                                                                                 |  |                   
|------------------------------------------------- |  | ------------------------------------------------------------------------------- |  | ------------------
|Signature                                         |  | Title                                                                           |  | Date              
|                                                  |  |                                                                                
|/S/    DAVID
SIKORADavid
Sikora                   |  | President and Chief Executive Officer and Director(Principal Executive Officer) |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    JOHN E.
FARRJohn E. Farr                   |  | Chief Financial Officer(Principal Financial and Accounting Officer)             |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    SHELBY H. CARTER,
JR.Shelby H. Carter,
Jr. |  | Director and Chairman of the Board                                              |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    NANCY R.
WOODWARDNancy R.
Woodward         |  | Director                                                                        |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    DAVID A.
BOUCHERDavid A.
Boucher           |  | Director                                                                        |  | September 13, 2005
|                                                  |  |                                                                                
|/s/    DAVID R.
BRADFORDDavid R.
Bradford         |  | Director                                                                        |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    JEFFREY S.
HAWNJeffrey S.
Hawn             |  | Director                                                                        |  | September 13, 2005
|                                                  |  |                                                                                
|/S/    MICHAEL E.
HOSKINSMichael E.
Hoskins       |  | Director                                                                        |  | September 13, 2005



49



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##### Index to Financial Statements

SCHEDULE II



PERVASIVE SOFTWARE INC.

VALUATION AND QUALIFYING ACCOUNTS



(in thousands)



|                                             |  |                              |  |                                      |  |                                          |  |                 |  |                       
|-------------------------------------------- |  | ---------------------------- |  | ------------------------------------ |  | ---------------------------------------- |  | --------------- |  | ----------------------
|Description                                  |  | Balance atBeginningof Period |  | AdditionsCharged toCosts andExpenses |  | Deductions/Write-offsCharged toAllowance |  | OtherAdditions* |  | Balance atEnd ofPeriod
|Allowance for Doubtful Accounts:             |  |                              |  |                                      |  |                                          |  |                 |  |                       
|Year ended June 30, 2003                     |  | 350                          |  | 86                                   |  | 92                                       |  |                |  | 344                   
|Year ended June 30, 2004                     |  | 344                          |  | 94                                   |  | 94                                       |  | 134             |  | 478                   
|Year ended June 30, 2005                     |  | 478                          |  | 70                                   |  | 70                                       |  |                |  | 478                   
|                                             |  |                              |  |                                      | 
|Valuation Allowance for Deferred Tax Assets: |  |                              |  |                                      |  |                                          |  |                 |  |                       
|Year ended June 30, 2003                     |  | 20,957                       |  |                                     |  | 6,603                                    |  |                |  | 14,354                
|Year ended June 30, 2004                     |  | 14,354                       |  |                                     |  | 2,475                                    |  |                |  | 11,879                
|Year ended June 30, 2005                     |  | 11,879                       |  |                                     |  | 2,132                                    |  |                |  | 9,747                 

---

|* |  | Additions allocated as part of the purchase accounting treatment of the acquisition of Data Junction Corporation
|- |  | ----------------------------------------------------------------------------------------------------------------



S-1



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



INDEX TO
CONSOLIDATED FINANCIAL STATEMENTS



|                                                                                                                         |  |     
|------------------------------------------------------------------------------------------------------------------------ |  | ----
|                                                                                                                         |  | Page
|Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting                     |  | F-2 
|Report of Independent Registered Public Accounting Firm                                                                  |  | F-3 
|Consolidated Balance Sheets at June 30, 2004 and 2005                                                                    |  | F-4 
|Consolidated Statements of Operations for each of the three years in the period ended June 30, 2005                      |  | F-5 
|Consolidated Statements of Changes in Stockholders Equity for each of the three years in the period ended June 30, 2005 |  | F-6 
|Consolidated Statements of Cash Flows for each of the three years in the period ended June 30, 2005                      |  | F-7 
|Notes to Consolidated Financial Statements                                                                               |  | F-8 



F-1



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##### Index to Financial Statements

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

ON INTERNAL CONTROL OVER FINANCIAL REPORTING



The Board of Directors and Stockholders

Pervasive Software Inc.



We have audited managements assessment, included in the accompanying Report of Management on Internal Control Over Financial Reporting, that
Pervasive Software Inc. maintained effective internal control over financial reporting as of June 30, 2005, based on criteria established in Internal ControlIntegrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission (the COSO criteria). Pervasive Software Inc.s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial
reporting. Our responsibility is to express an opinion on managements assessment and an opinion on the effectiveness of the companys internal control over financial reporting based on our audit.



We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our
audit included obtaining an understanding of internal control over financial reporting, evaluating managements assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures
as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.



A companys internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A companys internal control over financial reporting includes those policies and procedures that
(1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors
of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the companys assets that could have a material effect on the financial statements.



Because of its inherent limitations, internal control over
financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of
compliance with the policies or procedures may deteriorate.



In
our opinion, managements assessment that Pervasive Software Inc. maintained effective internal control over financial reporting as of June 30, 2005, is fairly stated, in all material respects, based on the COSO criteria. Also, in our
opinion, Pervasive Software Inc. maintained, in all material respects, effective internal control over financial reporting as of June 30, 2005, based on the COSO criteria.



We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the
consolidated balance sheets of Pervasive Software Inc. as of June 30, 2005 and 2004, and the related consolidated statements of operations, stockholders equity, and cash flows for each of the three years in the period ended June 30,
2005, of Pervasive Software Inc. and our report dated September 8, 2005, expressed an unqualified opinion thereon.



/s/ ERNST & YOUNG LLP



Austin, Texas

September 8, 2005



F-2



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##### Table of Contents

##### Index to Financial Statements

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM



The Board of Directors and Stockholders

Pervasive Software Inc.



We have audited the accompanying consolidated balance sheets of Pervasive Software Inc. as of June 30, 2005 and 2004,
and the related consolidated statements of operations, stockholders equity, and cash flows for each of the three years in the period ended June 30, 2005. Our audits also included the financial statement schedule listed in the Index at
Item 15(a). These financial statements and schedules are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.



We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis for our opinion.



In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Pervasive Software Inc. at June 30, 2005 and 2004, and the consolidated
results of its operations and its cash flows for each of the three years in the period ended June 30, 2005, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.



We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Pervasive
Software Inc.s internal control over financial reporting as of June 30, 2005, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our
report dated September 8, 2005 expressed an unqualified opinion thereon.



/s/ ERNST & YOUNG LLP



Austin, Texas

September 8, 2005



F-3



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



CONSOLIDATED BALANCE SHEETS



|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|-------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------------- | ------ | - | ---- | - | ------ | -
|                                                                                                                                             |  | June 30,                         |       
|                                                                                                                                             |  | 2004                             |        |   | 2005 |  
|                                                                                                                                             |  | (in thousands, exceptshare data) |       
|ASSETS                                                                                                                                       |  |                                  |        |   |      |   |        |  
|Current assets:                                                                                                                              |  |                                  |        |   |      |   |        |  
|Cash and cash equivalents, including interest bearing investments of $17,953 in 2004 and $28,763 in 2005                                     |  | $                                | 24,705 |   |      | $ | 34,086 |  
|Marketable securities                                                                                                                        |  |                                  | 9,914  |   |      |   | 3,305  |  
|Trade accounts receivable, net of allowance for doubtful accounts of $478 in 2004 and 2005                                                   |  |                                  | 9,348  |   |      |   | 7,398  |  
|Prepaid expenses and other current assets                                                                                                    |  |                                  | 1,545  |   |      |   | 1,572  |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Total current assets                                                                                                                         |  |                                  | 45,512 |   |      |   | 46,361 |  
|Property and equipment, net                                                                                                                  |  |                                  | 2,530  |   |      |   | 2,422  |  
|Purchased technology, net                                                                                                                    |  |                                  | 6,616  |   |      |   | 6,079  |  
|Goodwill                                                                                                                                     |  |                                  | 38,955 |   |      |   | 38,953 |  
|Other assets                                                                                                                                 |  |                                  | 255    |   |      |   | 390    |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Total assets                                                                                                                                 |  | $                                | 93,868 |   |      | $ | 94,205 |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|                                                                                                                                             |  |                                 
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                         |  |                                  |        |   |      |   |        |  
|Current liabilities:                                                                                                                         |  |                                  |        |   |      |   |        |  
|Trade accounts payable                                                                                                                       |  | $                                | 1,283  |   |      | $ | 490    |  
|Accrued payroll and payroll related costs                                                                                                    |  |                                  | 2,343  |   |      |   | 1,277  |  
|Deferred rent and lease related accruals                                                                                                     |  |                                  | 2,290  |   |      |   | 1,028  |  
|Other accrued expenses                                                                                                                       |  |                                  | 3,677  |   |      |   | 2,986  |  
|Deferred revenue                                                                                                                             |  |                                  | 5,190  |   |      |   | 5,681  |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Total current liabilities                                                                                                                    |  |                                  | 14,783 |   |      |   | 11,462 |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Stockholders equity:                                                                                                                        |  |                                  |        |   |      |   |        |  
|Common stock, $0.001 par value; Authorized75,000,000 shares; issued and outstanding22,297,964 shares in 2004 and 22,429,131 shares
in 2005 |  |                                  | 90,184 |   |      |   | 89,949 |  
|Accumulated other comprehensive loss                                                                                                         |  |                                  | (1,145 | ) |      |   | (1,261 | )
|Retained deficit                                                                                                                             |  |                                  | (9,954 | ) |      |   | (5,945 | )
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Total stockholders equity                                                                                                                   |  |                                  | 79,085 |   |      |   | 82,743 |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  
|Total liabilities and stockholders equity                                                                                                   |  | $                                | 93,868 |   |      | $ | 94,205 |  
|                                                                                                                                             |  |                                  |        |   |      |   |        |  



See accompanying
notes.



F-4



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



CONSOLIDATED STATEMENTS OF OPERATIONS



|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|--------------------------------------------------------- |  | ------------------------------------- | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                                          |  | Year ended June 30                    |       
|                                                          |  | 2003                                  |        |   | 2004 |   |        | 2005 | 
|                                                          |  | (in thousands, except per share data) |       
|Revenues:                                                 |  |                                       |        |   |      |   |        |      |  |   |        |  
|Product licenses                                          |  | $                                     | 35,373 |   |      | $ | 40,967 |      |  | $ | 36,978 |  
|Services and other                                        |  |                                       | 3,832  |   |      |   | 8,641  |      |  |   | 11,374 |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Total revenue                                             |  |                                       | 39,205 |   |      |   | 49,608 |      |  |   | 48,352 |  
|Costs and expenses:                                       |  |                                       |        |   |      |   |        |      |  |   |        |  
|Cost of product licenses                                  |  |                                       | 991    |   |      |   | 1,712  |      |  |   | 2,273  |  
|Cost of services and other                                |  |                                       | 4,907  |   |      |   | 5,519  |      |  |   | 5,213  |  
|Sales and marketing                                       |  |                                       | 13,673 |   |      |   | 18,311 |      |  |   | 21,313 |  
|Research and development                                  |  |                                       | 8,033  |   |      |   | 9,983  |      |  |   | 11,084 |  
|General and administrative                                |  |                                       | 4,866  |   |      |   | 5,228  |      |  |   | 4,753  |  
|Write-off of acquired in-process research and development |  |                                       |       |   |      |   | 1,084  |      |  |   |       |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Total costs and expenses                                  |  |                                       | 32,470 |   |      |   | 41,837 |      |  |   | 44,636 |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Operating income from continuing operations               |  |                                       | 6,735  |   |      |   | 7,771  |      |  |   | 3,716  |  
|Interest and other income                                 |  |                                       | 534    |   |      |   | 293    |      |  |   | 561    |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Income from continuing operations before income taxes     |  |                                       | 7,269  |   |      |   | 8,064  |      |  |   | 4,277  |  
|Income tax provision                                      |  |                                       | (580   | ) |      |   | (750   | )    |  |   | (268   | )
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Income from continuing operations                         |  |                                       | 6,689  |   |      |   | 7,314  |      |  |   | 4,009  |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Discontinued operations:                                  |  |                                       |        |   |      |   |        |      |  |   |        |  
|Gain on disposal                                          |  |                                       | 159    |   |      |   |       |      |  |   |       |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Gain from discontinued operations                         |  |                                       | 159    |   |      |   |       |      |  |   |       |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Net income                                                |  | $                                     | 6,848  |   |      | $ | 7,314  |      |  | $ | 4,009  |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Basic earnings per share:                                 |  |                                       |        |   |      |   |        |      |  |   |        |  
|Income from continuing operations                         |  | $                                     | 0.40   |   |      | $ | 0.37   |      |  | $ | 0.18   |  
|Gain from discontinued operations                         |  |                                       | 0.01   |   |      |   |       |      |  |   |       |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Net income                                                |  | $                                     | 0.41   |   |      | $ | 0.37   |      |  | $ | 0.18   |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Diluted earnings per share:                               |  |                                       |        |   |      |   |        |      |  |   |        |  
|Income from continuing operations                         |  | $                                     | 0.37   |   |      | $ | 0.33   |      |  | $ | 0.17   |  
|Gain from discontinued operations                         |  |                                       | 0.01   |   |      |   |       |      |  |   |       |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  
|Net income                                                |  | $                                     | 0.38   |   |      | $ | 0.33   |      |  | $ | 0.17   |  
|                                                          |  |                                       |        |   |      |   |        |      |  |   |        |  



See accompanying
notes.



F-5



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS EQUITY



|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|------------------------------------------------------------------------------------------------------------------- |  | --------------------------------- | ------ | - | --------------------------------- | - | ------ | --------------- |  | - | ------------------------ | - |  | - | ------ | -
|                                                                                                                    |  | CommonStock                       |        |   | AccumulatedOtherComprehensiveLoss |   |        | RetainedDeficit |  |   | TotalStockholdersEquity |  
|                                                                                                                    |  | (in thousands, except share data) |       
|Balances at June 30, 2002                                                                                           |  | $                                 | 59,096 |   |                                   | $ | (1,188 | )               |  | $ | (24,116                  | ) |  | $ | 33,792 |  
|Acquisition of 277,350 treasury shares, cumulative treasury shares of 1,130,899 and cost of $2,471 at June 30, 2003 |  |                                   | (929   | ) |                                   |   |       |                 |  |   |                         |   |  |   | (929   | )
|Issuance of 168,438 shares of common stock pursuant to the exercise of stock options                                |  |                                   | 331    |   |                                   |   |       |                 |  |   |                         |   |  |   | 331    |  
|Issuance of 79,921 shares of common stock pursuant to the employee stock purchase plan                              |  |                                   | 130    |   |                                   |   |       |                 |  |   |                         |   |  |   | 130    |  
|Reduction of note receivable to executive officer pursuant to the exercise of stock options                         |  |                                   | 32     |   |                                   |   |       |                 |  |   |                         |   |  |   | 32     |  
|Foreign currency translation adjustment                                                                             |  |                                   |       |   |                                   |   | (2     | )               |  |   |                         |   |  |   | (2     | )
|Net income                                                                                                          |  |                                   |       |   |                                   |   |       |                 |  |   | 6,848                    |   |  |   | 6,848  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Total comprehensive income                                                                                          |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   | 6,846  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Balances at June 30, 2003                                                                                           |  |                                   | 58,660 |   |                                   |   | (1,190 | )               |  |   | (17,268                  | ) |  |   | 40,202 |  
|Issuance of 461,613 shares of common stock pursuant to the exercise of stock options                                |  |                                   | 1,186  |   |                                   |   |       |                 |  |   |                         |   |  |   | 1,186  |  
|Issuance of 70,587 shares of common stock pursuant to the employee stock purchase plan                              |  |                                   | 273    |   |                                   |   |       |                 |  |   |                         |   |  |   | 273    |  
|Reduction of note receivable to executive officer pursuant to the exercise of stock options                         |  |                                   | 65     |   |                                   |   |       |                 |  |   |                         |   |  |   | 65     |  
|Issuance of 4,999,962 shares of common stock pursuant to the acquisition of Data Junction Corporation               |  |                                   | 30,000 |   |                                   |   |       |                 |  |   |                         |   |  |   | 30,000 |  
|Foreign currency translation adjustment                                                                             |  |                                   |       |   |                                   |   | 45     |                 |  |   |                         |   |  |   | 45     |  
|Net income                                                                                                          |  |                                   |       |   |                                   |   |       |                 |  |   | 7,314                    |   |  |   | 7,314  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Total comprehensive income                                                                                          |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   | 7,359  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Balances at June 30, 2004                                                                                           |  |                                   | 90,184 |   |                                   |   | (1,145 | )               |  |   | (9,954                   | ) |  |   | 79,085 |  
|Acquisition of 359,700 treasury shares, cumulative treasury shares of 1,490,599 and cost of $4,319 at June 30, 2005 |  |                                   | (1,848 | ) |                                   |   |       |                 |  |   |                         |   |  |   | (1,848 | )
|Issuance of 430,525 shares of common stock pursuant to the exercise of stock options                                |  |                                   | 1,413  |   |                                   |   |       |                 |  |   |                         |   |  |   | 1,413  |  
|Issuance of 60,342 shares of common stock pursuant to the employee stock purchase plan                              |  |                                   | 200    |   |                                   |   |       |                 |  |   |                         |   |  |   | 200    |  
|Unrealized loss on investments                                                                                      |  |                                   |        |   |                                   |   | (9     | )               |  |   |                         |   |  |   | (9     | )
|Foreign currency translation adjustment                                                                             |  |                                   |       |   |                                   |   | (107   | )               |  |   |                         |   |  |   | (107   | )
|Net income                                                                                                          |  |                                   |       |   |                                   |   |       |                 |  |   | 4,009                    |   |  |   | 4,009  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Total comprehensive income                                                                                          |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   | 3,893  |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  
|Balances at June 30, 2005                                                                                           |  | $                                 | 89,949 |   |                                   | $ | (1,261 | )               |  | $ | (5,945                   | ) |  | $ | 82,743 |  
|                                                                                                                    |  |                                   |        |   |                                   |   |        |                 |  |   |                          |   |  |   |        |  



See accompanying
notes.



F-6



---

##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



CONSOLIDATED STATEMENTS OF CASH FLOWS



|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|---------------------------------------------------------------------------------- |  | ------------------- | ------- | - | ---- | - | ------- | ---- |  | - | ------ | -
|                                                                                   |  | Year ended June 30, |        
|                                                                                   |  | 2003                |         |   | 2004 |   |         | 2005 | 
|                                                                                   |  | (in thousands)      |        
|Cash from continuing operations                                                    |  |                     |         |   |      |   |         |      |  |   |        |  
|Income from continuing operations                                                  |  | $                   | 6,689   |   |      | $ | 7,314   |      |  | $ | 4,009  |  
|Adjustments to reconcile net income to net cash provided by continuing operations: |  |                     |         |   |      |   |         |      |  |   |        |  
|Depreciation and amortization                                                      |  |                     | 1,358   |   |      |   | 1,808   |      |  |   | 2,523  |  
|Write-off of acquired in-process research and development                          |  |                     |        |   |      |   | 1,084   |      |  |   |       |  
|Non cash compensation expense pursuant to employee stock purchase plan             |  |                     | 147     |   |      |   | 294     |      |  |   | 109    |  
|Other non cash items                                                               |  |                     | 32      |   |      |   | 86      |      |  |   | 125    |  
|Change in current assets and liabilities:                                          |  |                     |         |   |      |   |         |      |  |   |        |  
|(Increase) decrease in current assets                                              |  |                     | (229    | ) |      |   | (2,543  | )    |  |   | 1,846  |  
|Increase (decrease) in accounts payable and accrued liabilities                    |  |                     | 1,148   |   |      |   | 674     |      |  |   | (3,819 | )
|Increase in deferred revenue                                                       |  |                     | 88      |   |      |   | 413     |      |  |   | 500    |  
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Net cash provided by continuing operations                                         |  |                     | 9,233   |   |      |   | 9,130   |      |  |   | 5,293  |  
|Cash from discontinued operations                                                  |  |                     |         |   |      |   |         |      |  |   |        |  
|Gain from discontinued operations                                                  |  |                     | 159     |   |      |   |        |      |  |   |       |  
|Accrued liabilities of discontinued operations                                     |  |                     | (652    | ) |      |   | (8      | )    |  |   | (18    | )
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Net cash used in discontinued operations                                           |  |                     | (493    | ) |      |   | (8      | )    |  |   | (18    | )
|Cash from investing activities                                                     |  |                     |         |   |      |   |         |      |  |   |        |  
|Purchase of property and equipment                                                 |  |                     | (612    | ) |      |   | (990    | )    |  |   | (1,218 | )
|Purchase of marketable securities                                                  |  |                     | (18,546 | ) |      |   | (21,535 | )    |  |   | (4,622 | )
|Proceeds from sale or maturity of marketable securities                            |  |                     | 20,206  |   |      |   | 21,934  |      |  |   | 11,222 |  
|Investment in business, net of cash acquired                                       |  |                     | 200     |   |      |   | (15,974 | )    |  |   | (2     | )
|Purchase of technology rights                                                      |  |                     | (550    | ) |      |   | (600    | )    |  |   | (895   | )
|(Increase) decrease in other assets                                                |  |                     | 190     |   |      |   | (30     | )    |  |   | (15    | )
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Net cash provided by (used in) investing activities .                              |  |                     | 888     |   |      |   | (17,195 | )    |  |   | 4,470  |  
|Cash from financing activities                                                     |  |                     |         |   |      |   |         |      |  |   |        |  
|Purchase of treasury stock                                                         |  |                     | (929    | ) |      |   |        |      |  |   | (1,848 | )
|Proceeds from exercise of stock options and employee stock purchase plan           |  |                     | 461     |   |      |   | 1,459   |      |  |   | 1,614  |  
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Net cash provided by (used in) financing activities                                |  |                     | (468    | ) |      |   | 1,459   |      |  |   | (234   | )
|Effect of exchange rate changes on cash and cash equivalents .                     |  |                     | (23     | ) |      |   | (33     | )    |  |   | (130   | )
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Change in cash and cash equivalents                                                |  |                     | 9,137   |   |      |   | (6,647  | )    |  |   | 9,381  |  
|Cash and cash equivalents at beginning of year                                     |  |                     | 22,215  |   |      |   | 31,352  |      |  |   | 24,705 |  
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  
|Cash and cash equivalents at end of year                                           |  | $                   | 31,352  |   |      | $ | 24,705  |      |  | $ | 34,086 |  
|                                                                                   |  |                     |         |   |      |   |         |      |  |   |        |  



See accompanying
notes.



F-7



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS



June 30, 2005



1.     The Company



Pervasive Software Inc. (the Company) is a global value leader in
data infrastructure software. Thousands of businesses worldwide rely on the Companys award winning solutions to help manage, integrate, analyze and secure their critical data. The Companys data management and integration product lines
are designed specifically for small to mid-sized businesses and departments of large enterprises where high performance, flexibility, rapid deployment and low total cost of ownership (TCO) are paramount. In addition, significant portions
of the Companys product line are embeddable into commercial applications for sale predominantly to small to mid-size enterprises (SMEs) through a well-developed channel of independent software vendors (ISVs),
value-added resellers (VARs) and systems integrators.



The Company develops, markets, sells and supports its offerings worldwide through its principal office in Austin, Texas and through international offices in Brussels, Frankfurt, Paris, London and Bangalore and a joint venture in Japan. The
consolidated financial statements include the accounts of the Company and its majority-owned subsidiaries. All material intercompany accounts and transactions have been eliminated in consolidation.



2.    Summary of Significant Accounting Policies



Revenue Recognition



The Company licenses its software through original equipment manufacturer
(OEM) license agreements with software developers, or ISVs and through shrink-wrap software licenses, sold through ISVs, VARs, systems integrators and distributors, or direct to end users. Revenues are recognized when persuasive evidence of an
agreement exists, delivery of the product has occurred, no significant Company obligations with regard to implementation remain, the fee is fixed or determinable and collectibility is probable. Revenues related to OEM license agreements involving
nonrefundable fixed minimum license fees are recognized upon delivery of the product master or first copy if no significant vendor obligations remain. Per copy royalties related to OEM license agreements in excess of a fixed minimum amount are
recognized as revenue when such amounts are reported to the Company. Revenue from post contract support and the right to receive unspecified upgrades is recognized ratably over the contract term. The Company generally provides telephone support to
customers and end users in the 30 days immediately following the sale at no additional charge and at a minimal cost per call. The Company accrues the cost of providing this support. Revenue from consulting services and training is recognized when
the related services are performed. The Company enters into agreements with certain distributors that provide for certain stock rotation and price protection rights. These rights allow the distributor to return products in a non-cash exchange for
other products or for credits against future purchases. The Company reserves for the cost of estimated sales returns, stock rotation and price protection rights as well as uncollectible accounts based on experience. Revenue from shipping and
handling is recognized at the shipping date. Shipping and handling costs are included in Costs of product licenses in the Consolidated Statements of Operations.



Where software licenses are sold with maintenance or other services, the Company allocates the total fee to the various elements based on the fair
values of the elements specific to the Company. The Company determines the fair value of each element in the arrangement based on vendor-specific objective evidence (VSOE) of fair value. VSOE of fair value is based upon the normal
pricing and discounting practices for those products and services when sold separately and, for support services, is additionally measured by the renewal rate. If the Company does not have VSOE for one of the delivered elements of an arrangement,
but does have VSOE for all undelivered elements, the Company uses the residual method to record revenue. Under the residual method, the arrangement fee is first allocated to the undelivered elements based upon their VSOE of fair value; the remaining



F-8



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



arrangement fee, including any discount, is allocated to the delivered element. If the residual method is not used, discounts, if any, are applied
proportionately to each element included in the arrangement based on each elements fair value without regard to the discount.



Software Development Costs



Software development costs incurred by the Company in connection with its development projects are accounted for in accordance with Statement of Financial
Accounting Standards No. 86,Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed(Statement 86). The Company has not capitalized any internal costs through June 30, 2005 related to its
software development activities as costs eligible for capitalization are not significant. In April 2003, the Company purchased a database transaction intelligence technology and capitalized the cost in accordance with Statement 86 (see Note 9).



Advertising Costs



The Company expenses costs of producing advertising- and sales-related
collateral materials as incurred. Other production costs associated with direct mail programs, placement costs associated with magazine or other printed media and all direct costs associated with trade shows and other sales related events are
expensed when the related direct mail is sent, advertising space is used or the event is held. These expenses in 2003, 2004 and 2005 were approximately $1.4 million, $2.1 million and $3.0 million, respectively.



Income Taxes



Under the asset and liability method of Statement of Financial Accounting
Standards No. 109,Accounting for Income Taxes (Statement 109), deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts
of existing assets and liabilities and their respective tax bases and net operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered or settled.



The Company estimates its income taxes in each of the jurisdictions in which it operates as part of the process of preparing the consolidated financial statements. This process involves estimating the actual current tax exposure together
with assessing temporary differences resulting from differing treatment of items, such as net operating loss carryforwards and foreign tax credit carryforwards, for tax and accounting purposes. These differences result in deferred tax assets and
liabilities. The Company then assesses the likelihood that net deferred tax assets will be recovered from future taxable income and to the extent the Company believes that recovery is not more likely than not, it establishes a valuation allowance.
The Company concluded that a full valuation allowance was required for all periods presented. While the Company has considered future taxable income in assessing the need for the valuation allowance, in the event the Company was to determine that it
would be able to realize deferred tax assets in the future in excess of its net recorded amount, an adjustment to the deferred tax asset would be made, increasing income in the period in which such determination was made. Pursuant to the Internal
Revenue Code, the amounts of and benefits from net operating loss and tax credit carryforwards may be impaired or limited in certain circumstances. Events which cause limitations in the amount of net operating losses and tax credits that the Company
may utilize include, but are not limited to, a cumulative change of more than 50% ownership of the Company, as defined, over a three year period, and changes in the relative mix of foreign source taxable income versus domestic taxable income.
Further, the Companys net operating loss and tax credit carryforwards are subject to potential expiration if not utilized by certain dates in the future.



F-9



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The Company is subject to income taxes in the United States and numerous foreign jurisdictions.
Significant judgment is required in determining the worldwide provision for income taxes and recording the related assets and liabilities. In the ordinary course of business, there are many transactions and calculations where the ultimate tax
determination is uncertain. The Company has been audited by tax authorities in the past. Accruals for tax contingencies are provided for in accordance with the requirements of SFAS No. 5, Accounting for Contingencies. Although the
Company believes it has appropriate support for the positions taken on its tax returns, the Company has recorded a liability for its best estimate of the probable loss on certain of these positions. The Company believes that its accruals for tax
liabilities are adequate for all open years, based on its assessment of many factors including past experience and interpretations of tax law applied to the facts of each matter, which matters result primarily from intercompany transfer pricing.
Although the Company believes its recorded assets and liabilities are reasonable, tax regulations are subject to interpretation and tax litigation is inherently uncertain; therefore assessments can involve both a series of complex judgments about
future events and rely heavily on estimates and assumptions. Although the Company believes that the estimates and assumptions supporting our assessments are reasonable, the final determination of tax audits and any related litigation could be
materially different than that which is reflected in historical income tax provisions and recorded assets and liabilities. Based on the results of an audit or litigation, a material effect on our income tax provision, net income, or cash flows in
the period or periods for which that determination is made could result. Due to the complexity involved, the Company is not able to estimate the range of reasonably possible losses in excess of amounts recorded.



Cash and Cash Equivalents



Cash and cash equivalents include cash, certificates of deposit, and
securities with original maturities less than ninety days when purchased.



Marketable Securities



Marketable securities have been classified as available-for-sale and such designation is reevaluated as of each balance sheet date. While the Companys intent is to hold debt securities to maturity, they are classified as
available-for-sale because the sale of such securities may be required prior to maturity. Realized gains and losses are recorded on the specific identification method and are included in other income. Realized and unrealized gains and losses have
been insignificant for all periods presented.



Substantially
all of the Companys marketable securities mature on or before June 30, 2006. All are stated at cost, which approximates fair market value as of June 30, 2004 and 2005, and consist of the following (in thousands):



|                         |  |          |       |      |   |      
|------------------------ |  | -------- | ----- | ---- | - | -----
|                         |  | June 30,
|                         |  | 2004     |       | 2005
|Marketable securities    |  |          |       |      |   |      
|U.S. Government Agencies |  | $        | 8,937 |      | $ | 3,129
|Commercial Paper         |  |          | 799   |      |   |     
|Certificates of Deposit  |  |          | 178   |      |   | 176  
|                         |  |          |       |      |   |      
|Total                    |  | $        | 9,914 |      | $ | 3,305
|                         |  |          |       |      |   |      



Property and
Equipment



Property and equipment are stated at cost and
are being depreciated over their estimated useful lives (3 to 7 years) using the straight-line method. Leasehold improvements are amortized over the life of the lease or the estimated useful life, whichever is shorter.



F-10



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Long-Lived Assets



The Company periodically reviews the carrying amounts of long-lived assets, to determine whether current events or
circumstances, as defined in Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, (Statement 144), warrant adjustment to such carrying amounts. In reviewing the
carrying amounts of long-lived assets, the Company considers, among other factors, the future cash inflows expected to result from the use of the asset and its eventual disposition less the future cash outflows expected to be necessary to obtain
those inflows.



Costs in Excess of Fair Value of Net Assets
Acquired



In June 2001, the Financial Accounting Standards
Board (FASB) issued Statement of Financial Accounting Standards No. 141, Business Combinations, which eliminates the pooling method of accounting for all business combinations initiated after June 30, 2001 and addresses the initial
recognition and measurement of goodwill and other intangible assets acquired in a business combination. The Company adopted this accounting standard for business combinations initiated after June 30, 2001. See Note 8 for a description of
business combinations.



The Company adopted Statement of
Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets(Statement 142), effective July 1, 2001. Statement 142 discontinues the amortization of goodwill and requires future periodic testing of
goodwill for impairment. In addition, Statement 142 requires reassessment of the useful lives of previously recognized intangible assets. With the adoption of Statement 142, the Company ceased amortization of goodwill as of July 1, 2001.



As of June 30, 2004 and 2005, Pervasive had goodwill in
the amount of $39.0 million associated with the acquisition of Data Junction (see Note 8). The Company previously determined, in accordance with Statement of Financial Accounting Standards No. 142 Goodwill and Other Intangible Assets,
that it would assess the impairment of goodwill and other intangible assets with indefinite lives annually in the fourth quarter, or more frequently if other indicators of impairment arise. Based on its assessment, the Company believes that there
has been no such impairment of its goodwill and other intangible assets. Other intangible assets, classified as Purchased Technology on the balance sheet, amounted to $6.1 million (net of accumulated amortization of $2.3 million) as of
June 30, 2005. These intangible assets consist of developed technology, including the $6.3 million value assigned to amortizable intangible assets related to developed technology in connection with the acquisition of Data Junction during the
second quarter of fiscal 2004, the $550,000 purchase of a database transaction intelligence technology from ThinkNet Inc., a software development company based in Toronto, Ontario, the $600,000 license of full text search technology from ABACUS
Research A.G., a software development company based in St. Gallen, Switzerland, and the $487,000 license of modeling environment technology from Metaserver Inc., a software development company based in New Haven, Connecticut.



Foreign Currency Transactions



For the Companys foreign subsidiaries, the functional currency has
been determined to be the local currency, and therefore, assets and liabilities are translated at year-end exchange rates, and income statement items are translated at average exchange rates prevailing during the year in accordance with Statement
52, Foreign Currency Translation. Such translation adjustments are recorded in aggregate as a component of stockholders equity. Gains and losses from foreign currency denominated transactions are included in other income and were not
significant in 2003, 2004 or 2005.



Financial instruments,
principally forward pricing contracts, are used by the Company from time to time in the management of its foreign currency exposures. The fair value associated with these forward pricing contracts



F-11



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



at June 30, 2004 and 2005 is not significant. Gains and losses on foreign currency transaction hedges are recognized in income when realized and offset
the foreign exchange gains and losses on the underlying transactions. The Company does not hold or issue derivative financial instruments for trading purposes.



Fair Value of Financial Instruments



Cash equivalents, marketable securities, accounts receivable, accounts payable, accrued liabilities and other liabilities are stated at cost which
approximates fair value due to the short-term maturity of these instruments.



Concentration of Credit Risk



Financial instruments which potentially subject the Company to concentrations of credit risk consist of short-term investments, including marketable securities, and trade receivables. The Companys short-term investments, which are
included in cash and cash equivalents and in marketable securities for reporting purposes, are placed with high credit quality financial institutions and issuers. The Company performs periodic credit evaluations of its customers financial
condition and generally does not require collateral. Estimated credit losses are provided for in the financial statements.



AG-TECH Corporation, the Companys distribution partner in Japan, accounted for approximately 13%, 12% and 13% of the Companys revenue during
the years ended June 30, 2003, 2004 and 2005 respectively (see Note 8).



Use of Estimates



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



Stock-Based Compensation



The Company has
adopted the provisions of Financial Accounting Standards Statement No. 123, Accounting for Stock-Based Compensation (Statement 123). Statement 123 prescribes accounting and reporting standards for all stock-based compensation
plans, including employee stock options. As allowed by Statement 123, the Company has elected to continue to account for its employee stock-based compensation using the intrinsic value method in accordance with Accounting Principles Board Opinion
No. 25,Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under the plan had an exercise price equal to the market value of
the underlying common stock on the date of grant. The Company has calculated the fair value of options granted in these periods using the Black-Scholes option-pricing model and has determined the pro forma impact on net income.



The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, this option valuation model requires the input of highly subjective assumptions including the expected stock price volatility. Because the
Companys employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in managements opinion, the
Black-Scholes model does not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense on a straight-line
basis over the options vesting period.



F-12



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The following table illustrates the effect on net income and earnings per share if the Company had
applied the fair value recognition provisions of Statement 123 to stock-based employee compensation (in thousands, except per share data):



|                                                                                                                                |  |                    |        |   |      |   |        |      |  |   |        |  
|------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                                                                                                                |  | Year Ended June 30 |       
|                                                                                                                                |  | 2003               |        |   | 2004 |   |        | 2005 | 
|Net income                                                                                                                      |  | $                  | 6,848  |   |      | $ | 7,314  |      |  | $ | 4,009  |  
|Deduct stock-based compensation expense determined under the fair value based method for all awards, net of related tax
effects |  |                    | (3,681 | ) |      |   | (3,887 | )    |  |   | (3,389 | )
|                                                                                                                                |  |                    |        |   |      |   |        |      |  |   |        |  
|Pro forma net income                                                                                                            |  | $                  | 3,167  |   |      | $ | 3,427  |      |  | $ | 620    |  
|                                                                                                                                |  |                    |        |   |      |   |        |      |  |   |        |  
|                                                                                                                                |  |                    |       
|Earnings per share, basic:                                                                                                      |  |                    |        |   |      |   |        |      |  |   |        |  
|As reported                                                                                                                     |  | $                  | 0.41   |   |      | $ | 0.37   |      |  | $ | 0.18   |  
|Pro forma                                                                                                                       |  | $                  | 0.19   |   |      | $ | 0.17   |      |  | $ | 0.03   |  
|                                                                                                                                |  |                    |       
|Earnings per share, diluted:                                                                                                    |  |                    |        |   |      |   |        |      |  |   |        |  
|As reported                                                                                                                     |  | $                  | 0.38   |   |      | $ | 0.33   |      |  | $ | 0.17   |  
|Pro forma                                                                                                                       |  | $                  | 0.18   |   |      | $ | 0.16   |      |  | $ | 0.03   |  



During fiscal 2003,
2004 and 2005, the fair value of each option grant was estimated on the date of grant using the Black-Scholes option-pricing model, with the following weighted average assumptions:



|                                                     |  |                        |   |  |                             |   |  |      |   |  |       |   |  |      |  
|---------------------------------------------------- |  | ---------------------- | - |  | --------------------------- | - |  | ---- | - |  | ----- | - |  | ---- | -
|                                                     |  | Employee Stock Options |   |  | Employee StockPurchase Plan |  
|                                                     |  | 2003                   |   |  | 2004                        |   |  | 2005 |   |  | 2004  |   |  | 2005 |  
|Risk free interest rate                              |  | 2.45                   | % |  | 2.96                        | % |  | 3.58 | % |  | 1.14  | % |  | 2.72 | %
|Dividend yield                                       |  | 0.00                   | % |  | 0.00                        | % |  | 0.00 | % |  | 0.00  | % |  | 0.00 | %
|Volatility factor                                    |  | 1.30                   |   |  | 1.235                       |   |  | 1.22 |   |  | 1.235 |   |  | 1.22 |  
|Weighted average expected life of options (in years) |  | 4                      |   |  | 4                           |   |  | 4    |   |  | 0.5   |   |  | 0.5  |  



The weighted average
grant date fair value per share of options granted during the years ended June 30, 2003, 2004 and 2005 was $4.13, $5.48 and $3.27, respectively.



Net Income Per Share



The Company follows the provisions of Statement of Financial Accounting Standards No. 128, Earnings Per Share (Statement 128).
Basic earnings per share is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share includes the weighted average number of common
shares outstanding and the number of common equivalent shares which would be issued related to options using the treasury method, unless such additional shares are anti-dilutive.



Segments



In accordance with Financial Accounting Standards Boards Statement of Financial Accounting Standards No. 131, Disclosures about Segments of
an Enterprise and Related Information,the Company considers its business activities to be a single segment.



Reclassifications



Certain prior year amounts have been reclassified to conform to current year presentation.



F-13



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Recently lssued Accounting Standards



In December 2004, the FASB issued SFAS No. 123R
Share-Based Paymentwhich supersedes Accounting Principle Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, SFAS No. 123, Accounting for Stock-Based
Compensation, and related implementation guidance. The pronouncement is effective for the Company for interim and annual periods beginning after June 15, 2005.Under this pronouncement, stock-based compensation to employees is
required to be recognized as a charge to the statement of operations and such charge is to be measured according to the fair value of the stock options. In the absence of an observable market price for the stock awards, the fair value of the stock
options would be based upon a valuation methodology that takes into consideration various factors, including the exercise price of the option, the expected term of the option, the current price of the underlying shares, the expected volatility of
the underlying share price, the expected dividends on the underlying shares and the risk-free interest rate.



SFAS No. 123R permits adoption using one of two methods: (1) a modified prospective method in which compensation cost is recognized
beginning on the effective date based on the requirements of SFAS 123R for all share-based payments granted after the effective date and based on SFAS 123 for all awards granted to employees prior to the effective date that remain unvested on the
effective date or (2) a modified retrospective method which includes the requirements of the modified prospective method, but also permits entities to restate all periods presented or prior interim periods of the year of adoption
based on the amounts previously recognized under SFAS 123 for purposes of pro forma disclosures. We will adopt the delayed provisions of SFAS 123R during the first quarter of our fiscal year 2006, utilizing the modified prospective
method. We expect to continue to grant stock-based compensation to employees.



Our current policy is to not expense share-based compensation; however, we do disclose the effect of this item as currently required by SFAS 123, see Note 2  Summary of Significant Accounting
PoliciesStock Based Compensation. We expect the adoption of SFAS 123R will have a significant impact on our results of operations, but we do not expect such adoption to have a significant impact on our financial position or liquidity.



3.    Property and Equipment



Property and equipment consists of the following (in thousands):



|                                               |  |          |         |   |      |   |         |  
|---------------------------------------------- |  | -------- | ------- | - | ---- | - | ------- | -
|                                               |  | June 30, |        
|                                               |  | 2004     |         |   | 2005 |  
|Computer equipment and purchased software      |  | $        | 13,856  |   |      | $ | 9,767   |  
|Office equipment, furniture and fixtures       |  |          | 4,252   |   |      |   | 3,481   |  
|Leasehold improvements                         |  |          | 1,293   |   |      |   | 1,293   |  
|                                               |  |          |         |   |      |   |         |  
|                                               |  |          | 19,401  |   |      |   | 14,541  |  
|Less accumulated depreciation and amortization |  |          | (16,871 | ) |      |   | (12,119 | )
|                                               |  |          |         |   |      |   |         |  
|                                               |  | $        | 2,530   |   |      | $ | 2,422   |  
|                                               |  |          |         |   |      |   |         |  



Depreciation expense
was approximately $1.3 million, $1.0 million and $1.1 million for fiscal years ending June 30, 2003, 2004 and 2005, respectively.



F-14



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



4.    Income Taxes



The components of income from continuing operations before income taxes consist of the following (in thousands):



|                                                      |  |                    |       |      |   |       |  |   |      
|----------------------------------------------------- |  | ------------------ | ----- | ---- | - | ----- |  | - | -----
|                                                      |  | Year ended June 30
|                                                      |  | 2003               |       | 2004 |   | 2005 
|Domestic income                                       |  | $                  | 7,095 |      | $ | 7,979 |  | $ | 3,861
|Foreign income                                        |  |                    | 174   |      |   | 85    |  |   | 416  
|                                                      |  |                    |       |      |   |       |  |   |      
|Income from continuing operations before income taxes |  | $                  | 7,269 |      | $ | 8,064 |  | $ | 4,277
|                                                      |  |                    |       |      |   |       |  |   |      



As of June 30,
2005, the Company expects that upon filing of its domestic tax return for fiscal year 2005 it will have remaining a research and development credit carryforward of approximately $0.9 million and a foreign tax credit carryforward of approximately
$2.3 million. These carryforwards will begin to expire in fiscal 2012 and 2007, respectively, if not utilized. In addition, the Company expects it will have an Alternative Minimum Tax Credit carryforward, which does not expire, of approximately $0.4
million upon filing its domestic tax return for fiscal year 2005.



Significant components of expense (benefit) for income taxes attributable to continuing operations are as follows (in thousands):



|                      |  |                    |     |   |      |   |      |  |   |    
|--------------------- |  | ------------------ | --- | - | ---- | - | ---- |  | - | ---
|                      |  | Year ended June 30
|                      |  | 2003               |     |   | 2004 |   | 2005
|Income tax provision: |  |                    |     |   |      |   |      |  |   |    
|Current:              |  |                    |     |   |      |   |      |  |   |    
|Federal               |  | $                  | (60 | ) |      | $ | 17   |  | $ | 122
|Foreign               |  |                    | 640 |   |      |   | 733  |  |   | 146
|                      |  |                    |     |   |      |   |      |  |   |    
|Total current         |  |                    | 580 |   |      |   | 750  |  |   | 268
|                      |  |                    |     |   |      |   |      |  |   |    
|Deferred:             |  |                    |     |   |      |   |      |  |   |    
|Federal               |  |                    |    |   |      |   |     |  |   |   
|Foreign               |  |                    |    |   |      |   |     |  |   |   
|                      |  |                    |     |   |      |   |      |  |   |    
|Total deferred        |  |                    |    |   |      |   |     |  |   |   
|                      |  |                    |     |   |      |   |      |  |   |    
|                      |  | $                  | 580 |   |      | $ | 750  |  | $ | 268
|                      |  |                    |     |   |      |   |      |  |   |    



F-15



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The Companys provision for income taxes for the year ended June 30, 2003 and 2004 consists
primarily of withholdings on income generated in foreign countries, which was substantially less for the year ended June, 30, 2005 due to a change in the Japanese tax laws regarding withholding on royalties generated in Japan. The Companys
provision for income taxes differs from the expected provision amount computed by applying the statutory federal income tax rate of 34% to income from continuing operations before income taxes for 2003, 2004 and 2005 as a result of the following (in
thousands):



|                                                                                                   |  |                    |        |   |      |   |        |      |  |   |        |  
|-------------------------------------------------------------------------------------------------- |  | ------------------ | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                                                                                   |  | Year ended June 30 |       
|                                                                                                   |  | 2003               |        |   | 2004 |   |        | 2005 | 
|Computed at statutory rate of 34%                                                                  |  | $                  | 2,470  |   |      | $ | 2,742  |      |  | $ | 1,454  |  
|Effect of foreign operations                                                                       |  |                    | 59     |   |      |   | 29     |      |  |   | 5      |  
|Deduction related to disqualifying disposition of incentive stock options                          |  |                    | (92    | ) |      |   | (368   | )    |  |   | (251   | )
|Deemed foreign dividends                                                                           |  |                    |       |   |      |   | 240    |      |  |   | 58     |  
|Benefit of deferred tax asset not previously recognized related to foreign tax credit carryforward |  |                    |       |   |      |   |       |      |  |   | (1,151 | )
|Benefit of deferred tax asset not previously recognized related to net operating loss carryforward |  |                    | (1,935 | ) |      |   | (1,956 | )    |  |   | (314   | )
|Benefit of deferred tax asset not previously recognized related to temporary differences           |  |                    | 210    |   |      |   | 128    |      |  |   | 373    |  
|Non-deductible charges and amortization related to acquisitions                                    |  |                    | (66    | ) |      |   | 31     |      |  |   | 32     |  
|Other                                                                                              |  |                    | (66    | ) |      |   | (96    | )    |  |   | 62     |  
|                                                                                                   |  |                    |        |   |      |   |        |      |  |   |        |  
|                                                                                                   |  | $                  | 580    |   |      | $ | 750    |      |  | $ | 268    |  
|                                                                                                   |  |                    |        |   |      |   |        |      |  |   |        |  



The components of
deferred income taxes at June 30, 2004 and 2005 are as follows (in thousands):



|                                                              |  |          |         |   |      |   |        |  
|------------------------------------------------------------- |  | -------- | ------- | - | ---- | - | ------ | -
|                                                              |  | June 30, |        
|                                                              |  | 2004     |         |   | 2005 |  
|Deferred tax assets:                                          |  |          |         |   |      |   |        |  
|Domestic net operating loss carryforwards                     |  | $        | 467     |   |      | $ |       |  
|Domestic tax credit carryforwards                             |  |          | 4,262   |   |      |   | 3,230  |  
|Domestic alternative minimum tax credit carryforwards         |  |          | 271     |   |      |   | 357    |  
|Canadian net operating loss carryforwards                     |  |          | 6,844   |   |      |   | 5,781  |  
|Accrued expenses and reserves not deductible for tax purposes |  |          | 1,733   |   |      |   | 1,922  |  
|Depreciable assets                                            |  |          | 199     |   |      |   | 174    |  
|                                                              |  |          |         |   |      |   |        |  
|Total deferred tax assets                                     |  |          | 13,776  |   |      |   | 11,464 |  
|                                                              |  |          |         |   |      |   |        |  
|Deferred tax liabilities:                                     |  |          |         |   |      |   |        |  
|Prepaid expenses                                              |  |          | (193    | ) |      |   | (234   | )
|Purchased technology, net                                     |  |          | (1,704  | ) |      |   | (1,483 | )
|                                                              |  |          |         |   |      |   |        |  
|Total deferred tax liabilities                                |  |          | (1,897  | ) |      |   | (1,717 | )
|Valuation allowance for deferred tax assets                   |  |          | (11,879 | ) |      |   | (9,747 | )
|                                                              |  |          |         |   |      |   |        |  
|Net deferred tax assets                                       |  | $        |        |   |      | $ |       |  
|                                                              |  |          |         |   |      |   |        |  



F-16



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



During the year ending June 30, 2004, the Company filed amended federal tax returns for the
June 30, 1997, 1998 and 1999 years to deduct foreign income taxes previously claimed as foreign tax credits in such years. The deduction of foreign income taxes in each year created a net operating loss that was utilized as a carryback in prior
years.



The Company has established a valuation allowance equal
to the net deferred tax asset due to uncertainties regarding the realization of deferred tax assets based on the uncertainty of future taxable income and risks associated with business combinations. The valuation allowance decreased by approximately
$2.1 million during the year ended June 30, 2005.



5.    Employee Benefits



The Companys employees are offered health coverage under a partially self-funded plan in which the Company purchases specific stop-loss insurance coverage at $35,000 per year, per employee. The Company has also purchased an aggregate
stop-loss insurance coverage to limit its maximum annual exposure to claims funded. From the date of the acquisition of Data Junction through June 30, 2004, the employees who joined the Company as part of the merger were covered by a fully
funded insurance plan. As of July 1, 2004, all employees are covered by the partially self-funded plan. Based on the policy census at July 1, 2005, such maximum annual exposure for the policy year ending June 30, 2006 is approximately
$2.0 million. The Company pays a fixed fee per covered individual for administrative costs of the administrator and the cost of the stop-loss insurance purchased on the Companys behalf. The Company contributes 100% toward the cost to insure
each employee and 75% toward the cost to insure dependents for which coverage is requested by the employee. Combined expenses for the partially self-funded and fully funded plans including premiums and claims funded for the years ended June 30,
2003, 2004 and 2005 were approximately $0.9 million, $1.2 million, and $1.1 million respectively.



The Company has a 401(k) retirement plan which is available to all domestic, full-time employees. The Companys expenses related to the plan were not
significant in the years ended June 30, 2003, 2004 or 2005. In December 2002, the Company funded a matching contribution of 10% of participant contributions made during calendar year 2002 for all participants employed by the Company on
December 31, 2002. The amount of the match was approximately $56,000 for the year ended June 30, 2003. In April 2004, the Company funded a matching contribution of 10% of participant contributions made during calendar year 2003 for all
participants employed by the Company on December 31, 2003. The amount of the match was approximately $81,000 for the year ended June 30, 2004. In March 2005, the Company funded a matching contribution of 10% of participant contributions
made during calendar year 2004 for all participants employed by the Company on December 31, 2004. The amount of the match was approximately $91,000 for the year ended June 30, 2005.



6.    Common Stock and Stock Options



The Companys 1997 Stock Incentive Plan (the 1997 Plan) was adopted by
the Board of Directors on May 22, 1997, and approved by the stockholders on August 12, 1997, as the successor to the First Amended and Restated 1994 Incentive Plan (the 1994 Plan). Outstanding options under the 1994 Plan have been
incorporated into the 1997 Plan and no further option grants will be made under the 1994 Plan. The incorporated options will continue to be governed by their existing terms, unless the Plan Administrator elects to extend one or more features of the
1997 Plan to those options.



Incentive stock options may be
granted to employees of the Company entitling them to purchase shares of common stock for a maximum of ten years (five years in the case of options granted to a person possessing more than 10% of the combined voting power of the Company as of the
date of grant). The exercise price for incentive



F-17



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



stock options may not be less than fair market value of the common stock on the date of the grant (110% of fair market value in the case of options granted
to a person possessing more than 10% of the combined voting power of the Company). Nonqualified stock options may be granted to employees, officers, directors, independent contractors and consultants of the Company. The exercise price for
nonqualified stock options may not be less than 85% of the fair market value of the common stock on the date of the grant (110% of fair market value in the case of options granted to a person possessing more than 10% of the combined voting power of
the Company). The Company may also award Restricted Stock and Stock Appreciation Rights subject to provisions in the 1997 Plan.



The vesting period for stock options is generally a four-year period. Options are generally exercisable by the holder only for the vested portion of each
grant.



A summary of changes in common stock options during the
year ended June 30, 2003, 2004 and 2005 is as follows:



|                                   |  |           |   |  |                         |  |                                 |     
|---------------------------------- |  | --------- | - |  | ----------------------- |  | ------------------------------- | ----
|                                   |  | Shares    |   |  | Range ofExercise Prices |  | Weighted Average Exercise Price
|Options outstanding, June 30, 2002 |  | 4,421,122 |   |  | $0.1324.88             |  | $                               | 3.88
|Granted                            |  | 1,076,200 |   |  | $3.01  5.65            |  | $                               | 5.01
|Exercised                          |  | (168,438  | ) |  | $0.13  3.09            |  | $                               | 1.78
|Surrendered                        |  | (444,950  | ) |  | $1.0616.81             |  | $                               | 4.34
|                                   |  |           |   |  |                         |  |                                 |     
|Options outstanding, June 30, 2003 |  | 4,883,934 |   |  | $0.1324.88             |  | $                               | 4.13
|Granted                            |  | 1,487,500 |   |  | $5.83  8.15            |  | $                               | 6.83
|Exercised                          |  | (461,613  | ) |  | $0.13  7.00            |  | $                               | 2.83
|Surrendered                        |  | (961,059  | ) |  | $1.0624.88             |  | $                               | 6.15
|                                   |  |           |   |  |                         |  |                                 |     
|Options outstanding, June 30, 2004 |  | 4,948,762 |   |  | $0.1316.81             |  | $                               | 4.67
|Granted                            |  | 1,224,500 |   |  | $3.92  6.00            |  | $                               | 4.13
|Exercised                          |  | (430,525  | ) |  | $1.18  5.65            |  | $                               | 3.00
|Surrendered                        |  | (687,887  | ) |  | $1.40  9.88            |  | $                               | 5.48
|                                   |  |           |   |  |                         |  |                                 |     
|Options outstanding, June 30, 2005 |  | 5,054,850 |   |  | $0.1316.81             |  | $                               | 4.57
|                                   |  |           |   |  |                         |  |                                 |     



The following is
additional information relating to options outstanding at June 30, 2005:



|                       |  |                     |  |                                                     |  |                                |       |                  |           |                               |   |      
|---------------------- |  | ------------------- |  | --------------------------------------------------- |  | ------------------------------ | ----- | ---------------- | --------- | ----------------------------- | - | -----
|                       |  | Options Outstanding |  | Options Exercisable                                
|Range ofExercise Price |  | Number ofOptions    |  | Weighted-AverageRemainingContractual Lifeof Options |  | WeightedAverage Exercise Price |       | Number ofOptions |           | WeightedAverageExercise Price
|$ 0.13 to $2.00        |  | 385,587             |  | 5.60                                                |  | $                              | 1.34  |                  | 373,587   |                               | $ | 1.33 
|$ 2.31 to $4.00        |  | 2,542,787           |  | 7.54                                                |  | $                              | 3.45  |                  | 1,272,162 |                               | $ | 3.15 
|$ 4.10 to $6.00        |  | 1,112,125           |  | 8.50                                                |  | $                              | 5.39  |                  | 363,125   |                               | $ | 5.50 
|$ 6.88 to $9.88        |  | 937,101             |  | 8.03                                                |  | $                              | 7.24  |                  | 285,725   |                               | $ | 7.46 
|$ 10.00 to $16.81      |  | 77,250              |  | 4.17                                                |  | $                              | 13.37 |                  | 77,250    |                               | $ | 13.37
|                       |  |                     |  |                                                     |  |                                |       |                  |           |                               |   |      
|$ 0.13 to $16.81       |  | 5,054,850           |  | 7.64                                                |  | $                              | 4.57  |                  | 2,371,849 |                               | $ | 4.08 
|                       |  |                     |  |                                                     |  |                                |       |                  |           |                               |   |      



At June 30, 2005,
6,907,101 shares of common stock were reserved for future exercise of stock options. As part of the Companys 1997 Plan, the number of shares of common stock available for issuance automatically increased on July 1 each calendar year
beginning July 1, 1998 and ending July 1, 2000 by an amount equal to



F-18



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



five percent (5%) of the shares of common stock and common stock equivalents outstanding on the trading day immediately preceding July 1, with a
maximum annual increase of 1,000,000 shares. The 1997 Plan was amended in November 2000 to extend the automatic annual increase to July 1 each calendar year beginning July 1, 2001 and ending July 1, 2003, by an amount equal to five
percent (5%) of the shares of common stock outstanding on the trading day immediately preceding July 1, with a maximum annual increase of 1,000,000 shares.



The Companys 1997 Employee Stock Purchase Plan (the 1997 Purchase Plan) was adopted by the Board of
Directors in July 1997 and approved by the stockholders in August 1997. A total of 1,250,000 shares of common stock have been reserved for issuance under the 1997 Purchase Plan. The 1997 Purchase Plan is intended to qualify under Section 423 of
the Internal Revenue Code and has consecutive and overlapping twenty-four month offering periods that begin every six months. Each twenty-four month offering period includes four six-month purchase periods, during which payroll deductions are
accumulated and at the end of which, shares of common stock are purchased with a participants accumulated payroll deductions. The 1997 Purchase Plan permits eligible employees to purchase common stock through payroll deductions of up to 500
shares per purchase period. The price of common stock to be purchased under the 1997 Purchase Plan is 85% of the lower of the fair market value of the common stock at the beginning of the offering period or at the end of the relevant purchase
period. Through June 30, 2005, 598,700 shares of common stock have been issued under the 1997 Purchase Plan. The Company terminated the 1997 Purchase Plan effective May 1, 2005, immediately following the April 2005 purchase.



7.    Earnings Per Share



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



|                                                                                                    |  |                     |        |      |   |        |  |   |       
|--------------------------------------------------------------------------------------------------- |  | ------------------- | ------ | ---- | - | ------ |  | - | ------
|                                                                                                    |  | Year Ended June 30,
|                                                                                                    |  | 2003                |        | 2004 |   | 2005  
|Numerator:                                                                                          |  |                     |        |      |   |        |  |   |       
|Income from continuing operations                                                                   |  | $                   | 6,689  |      | $ | 7,314  |  | $ | 4,009 
|                                                                                                    |  |                     |        |      |   |        |  |   |       
|Denominator:                                                                                        |  |                     |        |      |   |        |  |   |       
|Denominator for basic earnings per shareweighted average shares                                    |  |                     | 16,663 |      |   | 19,801 |  |   | 22,341
|Effect of dilutive securitiesEmployee stock options                                                |  |                     | 1,254  |      |   | 2,150  |  |   | 1,011 
|                                                                                                    |  |                     |        |      |   |        |  |   |       
|Denominator for diluted earnings per shareadjusted weighted average shares and assumed conversions |  |                     | 17,917 |      |   | 21,951 |  |   | 23,352
|                                                                                                    |  |                     |        |      |   |        |  |   |       
|Basic earnings per share from continuing operations                                                 |  | $                   | 0.40   |      | $ | 0.37   |  | $ | 0.18  
|                                                                                                    |  |                     |        |      |   |        |  |   |       
|Diluted earnings per share from continuing operations                                               |  | $                   | 0.37   |      | $ | 0.33   |  | $ | 0.17  
|                                                                                                    |  |                     |        |      |   |        |  |   |       



At June 30, 2003,
2004 and 2005 approximately 1,303,000, 1,329,000 and 1,866,000 shares, respectively, were not included in the diluted earnings per share calculation since the shares are anti-dilutive.



8.    Business Combinations and Divestitures



Investment in Data Junction Corporation



On December 4, 2003, the Company purchased Data Junction for cash of approximately $16.6 million, net of cash acquired
of $6.5 million and including acquisition costs of approximately $1.0 million, and 5,000,000



F-19



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##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



shares of common stock valued at $30.0 million, based on the average market value of the Companys common stock a few days before and after the
acquisition was agreed to and announced on August 8, 2003. Accordingly, the results of operations of the acquired business are included in the consolidated financial statements of the Company from the date of acquisition. The Company acquired
Data Junction to broaden its data infrastructure capabilities, increase the Companys size and scale, and leverage the increased customer base of the combined companies. The contributing factors to the purchase price paid by the Company
consisted primarily of Data Junctions historical earnings and cash flow from operations and perceived market opportunity for future growth. The purchase price was allocated to the acquired assets and liabilities assumed, based upon
managements estimate of their fair values as of the acquisition date.



A summary of the purchase price for the Data Junction acquisition is as follows (in millions):



|                                                                 |  |   |     
|---------------------------------------------------------------- |  | - | ----
|Cash paid to acquire stock, net of cash acquired of $6.5 million |  | $ | 15.6
|Cash paid and accrued for transaction costs                      |  |   | 1.0 
|                                                                 |  |   |     
|                                                                 |  |   | 16.6
|Shares issued to acquire stock                                   |  |   | 30.0
|                                                                 |  |   |     
|Total                                                            |  | $ | 46.6
|                                                                 |  |   |     
|The purchase price was allocated as follows:                     |  |   |     
|Purchased technology                                             |  | $ | 6.3 
|In-process research and development                              |  |   | 1.1 
|Goodwill                                                         |  |   | 39.0
|Fair value of net tangible assets acquired, excluding cash       |  |   | 0.2 
|                                                                 |  |   |     
|                                                                 |  | $ | 46.6
|                                                                 |  |   |     



The value of purchased
technology was determined by discounting the incremental earnings attributable to all existing technology which had reached technological feasibility, after considering risks relating to: (i) the expected lifecycle of the technology,
(ii) the expected annual operating profit related to the technology, and (iii) the future cash flows associated with the technology. Estimates of future revenues and expenses used to determine the value of developed technology was
consistent with the historical trends in the industry and expected outlooks. The purchased technology is being amortized over its respective useful life of five years using the straight-line method.



Of the total purchase price, $1.1 million was allocated to in-process
research and development (IPR&D) and was expensed upon acquisition. The value of IPR&D was based on an evaluation of all developmental projects using the guidance set forth in FASB Interpretation No. 4, Applicability of
FASB Statement No. 2 to Business Combinations Accounted for by the Purchase Method. Projects that qualify as IPR&D represent those that have not yet reached technological feasibility and for which no future alternative uses existed.
Technological feasibility is defined as being equivalent to a beta-phase working prototype in which there is no remaining risk relating to the development.



The value of the IPR&D was determined by (i) estimating future revenue and operating profits associated with existing development projects,
(ii) projecting the future cash flows and costs to complete the underlying technologies and resultant products and (iii) discounting these cash flows to their net present value. Estimates of future revenue and expenses used to determine
the value of in-process research and development were consistent with the historical trends in the industry and the expected outlooks. The entire amount of $1.1 million was charged to operations because related technologies had not reached
technological feasibility and they had no alternative use.



F-20



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The following table represents the Companys unaudited pro forma results of operations for the
fiscal years ended June 30, 2003 and 2004 as if the acquisition of Data Junction had occurred as of the beginning of the applicable period. The pro forma information excludes IPR&D charges of $1.1 million in the fiscal year ended
June 30, 2004, as these charges are nonrecurring charges resulting from the acquisition. The unaudited pro forma financial information has been prepared for comparative purposes only and there can be no assurance that this presentation reflects
the results of operations that would have occurred had Data Junction been consolidated with the Company during the applicable periods (in millions, except per share data).



|                                                      |  |                           |      |                           |   |     
|----------------------------------------------------- |  | ------------------------- | ---- | ------------------------- | - | ----
|                                                      |  | Fiscal Year EndedJune 30,
|                                                      |  | 2003 Pro forma(unaudited) |      | 2004 Pro forma(unaudited)
|Net revenue                                           |  | $                         | 53.2 |                           | $ | 55.3
|Income from continuing operations                     |  |                           | 7.8  |                           |   | 8.6 
|Net income                                            |  |                           | 8.0  |                           |   | 8.6 
|Diluted earnings per share from continuing operations |  | $                         | 0.34 |                           | $ | 0.36
|Diluted earnings per share                            |  | $                         | 0.35 |                           | $ | 0.36



Investment in
AG-TECH Corporation



In July 2001, the Company and
Pervasive Software Co. Ltd. (Pervasive Japan) formed a new business venture with AG-TECH Corporation, a company developing, selling and importing packaged software, to sell and support the Companys products in Japan. AG-TECH has
been engaged in the sales and support of Btrieve (predecessor to Pervasive.SQL) and Pervasive.SQL products since 1986. In conjunction with the joint venture, AG-TECH receives a discount on the purchase of Pervasive products in Japan, in exchange for
assuming responsibility for OEM sales, packaged software sales, technical support and localization and translation of the Companys products into Japanese. In connection with the formation of the new business venture, Pervasive Japan loaned
AG-TECH 48 million yen (approximately $0.4 million), under a two-year note payable in eight quarterly installments, bearing interest at 2% per annum, individually guaranteed by two principals of AG-TECH. As of June 30, 2003, the loan
was repaid in full. The Company acquired less than 20% of the equity of AG-TECH and the right to name one member of the board of directors of AG-TECH. In June 2004, the Company renewed portions of its distribution agreement with AG-TECH for an
additional three year period ending June 30, 2007. The Company does not have the ability to significantly influence or control the operations of AG-TECH and therefore accounts for its investment in AG-TECH on the cost method of accounting.



9.    Goodwill and Other Intangible Assets



As of June 30, 2005, Pervasive had goodwill in the
amount of $39.0 million associated with the acquisition of Data Junction (see Note 8). The Company previously determined, in accordance with Statement of Financial Accounting Standards No. 142 Goodwill and Other Intangible Assets, that
it would assess the impairment of goodwill and other intangible assets with indefinite lives annually in the fourth quarter, or more frequently if other indicators of impairment arise. Other intangible assets, classified as Purchased Technology on
the balance sheet, amounted to $6.1 million (net of accumulated amortization of $2.3 million) as of June 30, 2005. These intangible assets consist of developed technology, including the $6.3 million value assigned to amortizable
intangible assets related to developed technology in connection with the acquisition of Data Junction during the second quarter of fiscal 2004, the $550,000 purchase of a database transaction intelligence technology from ThinkNet Inc., a software
development company based in Toronto, Ontario, the $600,000 license of full text search technology from ABACUS Research A.G., a software development company based in St. Gallen,



F-21



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##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



Switzerland, and the $487,000 license of modeling environment technology from Metaserver Inc., a software development company based in New Haven,
Connecticut.



The Company is amortizing these assets on a
straight-line basis over their estimated useful lives, generally five to ten years. Amortization expense for the years ended June 30, 2003, 2004 and 2005 was approximately $14,000, $854,000 and $1.4 million, respectively. Amortization expense
for intangible assets is anticipated to be approximately $1.6 million for each of the years ended June 30, 2006, 2007 and 2008, approximately $0.8 million for the year ended June 30, 2009 and approximately $0.2 million for the year ended
June 30, 2010.



Purchased technology consists of the
following as of June 30, 2005 (in thousands):



|                         |  |          |       |   |      |   |        |  
|------------------------ |  | -------- | ----- | - | ---- | - | ------ | -
|                         |  | June 30, |      
|                         |  | 2004     |       |   | 2005 |  
|Purchased technology     |  | $        | 7,484 |   |      | $ | 8,379  |  
|Accumulated amortization |  |          | (868  | ) |      |   | (2,300 | )
|                         |  |          |       |   |      |   |        |  
|                         |  | $        | 6,616 |   |      | $ | 6,079  |  
|                         |  |          |       |   |      |   |        |  



10.    Commitments and Contingencies



The Company leases its headquarters and remote office space and, in some cases, is obligated for its proportionate share of utilities and other defined operating expenses of the related building. The Company has
executed a $175,000 letter of credit as required under the headquarters office lease. Office rent expense for the Companys domestic and international offices for the years ended June 30, 2003, 2004 and 2005, was approximately $2.4
million, $2.3 million, and $2.0 million, respectively, net of approximately $0.1 million of sublease income for the year ended June 30, 2003.



On September 24, 2004, the Company entered into a Lease Agreement with Carr Texas OP, LP (the Landlord) pursuant to which the Company
will lease approximately 91,000 square feet for use as its principal headquarters. The Lease Agreement replaced the Companys prior lease with the Landlord which was terminated on September 24, 2004. The Company paid the Landlord
$2,290,000 in satisfaction of the Companys obligations under the original lease. The cancellation fee was previously accrued by the Company and is reflected in the Companys consolidated balance sheet as of June 30, 2004 under the
heading Deferred Rent and Lease Related Accruals.



Future minimum lease payments at June 30, 2005 under the operating leases for worldwide office space are as follows (in thousands):



|           |  |   |      
|---------- |  | - | -----
|2006       |  | $ | 905  
|2007       |  |   | 1,254
|2008       |  |   | 1,167
|2009       |  |   | 1,320
|2010       |  |   | 1,396
|Thereafter |  |   | 1,861
|           |  |   |      
|           |  | $ | 7,903
|           |  |   |      



In November 2002, the
FASB issued Interpretation No. 45, Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others (FIN 45). FIN 45



F-22



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



requires certain guarantees to be recorded at fair value and requires a guarantor to make disclosures, even when the likelihood of making any payments under
the guarantee is remote. For those guarantees and indemnifications that do not fall within initial recognition and measurement requirements of FIN 45, the Company must continue to monitor the conditions that are subject to the guarantees and
indemnifications, as required under existing generally accepted accounting principles, to identify if a loss has been incurred. If the Company determines that it is probable that a loss has been incurred, any such estimable loss would be recognized.
The initial recognition and measurement requirements do not apply to the Companys product warranties or to the provisions contained in the majority of the Companys software license agreements that indemnify licensees of the
Companys software from damages and costs resulting from claims alleging that the Companys software infringes the intellectual property rights of a third party. The Company has historically received only a limited number of requests for
payment under these provisions and has not been required to make material payments pursuant to these provisions. The Company has not identified any losses that are probable under these provisions and, accordingly, the Company has not recorded a
liability related to these indemnification provisions.



11.    General Litigation



The Company is involved in various legal proceedings which arise from time to time in the normal course of business. While the ultimate results of such matters generally cannot be predicted with certainty, management does not expect any
such matters to have a material adverse effect on the consolidated financial position and results of operations as of June 30, 2005.



12.    Segments of Business and Geographic Area Information



The Company is engaged in the design, development and marketing of data infrastructure software. The Company considers its
business activities to constitute a single segment of business.



F-23



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



A summary of the Companys continuing operations by geographic area follows (in thousands):



|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|--------------------------------------------------- |  | ------------------- | ------ | - | ---- | - | ------ | ---- |  | - | ------ | -
|                                                    |  | Year ended June 30, |       
|                                                    |  | 2003                |        |   | 2004 |   |        | 2005 | 
|Revenue:                                            |  |                     |        |   |      |   |        |      |  |   |        |  
|North America                                       |  | $                   | 22,888 |   |      | $ | 32,034 |      |  | $ | 30,016 |  
|Europe (majority originating from U.S.)             |  |                     | 10,418 |   |      |   | 10,350 |      |  |   | 11,321 |  
|Japan                                               |  |                     | 5,258  |   |      |   | 6,190  |      |  |   | 6,336  |  
|Rest of World (all originating from U.S.)           |  |                     | 641    |   |      |   | 1,034  |      |  |   | 679    |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|Total                                               |  | $                   | 39,205 |   |      | $ | 49,608 |      |  | $ | 48,352 |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|Operating income (loss)(A):                         |  |                     |        |   |      |   |        |      |  |   |        |  
|North America                                       |  | $                   | (3,778 | ) |      | $ | (2,326 | )    |  | $ | (5,835 | )
|Europe (inclusive of revenue originating from U.S.) |  |                     | 5,262  |   |      |   | 3,970  |      |  |   | 4,104  |  
|India                                               |  |                     |       |   |      |   |       |      |  |   | (879   | )
|Japan                                               |  |                     | 5,251  |   |      |   | 6,127  |      |  |   | 6,326  |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|Total                                               |  | $                   | 6,735  |   |      | $ | 7,771  |      |  | $ | 3,716  |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|Identifiable assets:                                |  |                     |        |   |      |   |        |      |  |   |        |  
|North America                                       |  | $                   | 49,801 |   |      | $ | 92,731 |      |  | $ | 92,107 |  
|Europe                                              |  |                     | 298    |   |      |   | 602    |      |  |   | 1,099  |  
|India                                               |  |                     |       |   |      |   |       |      |  |   | 485    |  
|Japan                                               |  |                     | 493    |   |      |   | 535    |      |  |   | 514    |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  
|Total                                               |  | $                   | 50,592 |   |      | $ | 93,868 |      |  | $ | 94,205 |  
|                                                    |  |                     |        |   |      |   |        |      |  |   |        |  



|(A) |  | Operating income for Europe, India and Japan do not include any allocation of marketing, product development, technical support and administrative costs incurred in the United
States.
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



13.    Statements of Cash Flows



The (increase) decrease in current assets from continuing
operations reflected in the consolidated statements of cash flows is comprised of the following (in thousands):



|                                                                 |  |                     |      |   |      |   |        |      |  |   |       |  
|---------------------------------------------------------------- |  | ------------------- | ---- | - | ---- | - | ------ | ---- |  | - | ----- | -
|                                                                 |  | Year ended June 30, |     
|                                                                 |  | 2003                |      |   | 2004 |   |        | 2005 | 
|(Increase) decrease in trade accounts receivable                 |  | $                   | (637 | ) |      | $ | (2,823 | )    |  | $ | 1,943 |  
|Decrease in notes receivable from related parties                |  |                     | 102  |   |      |   | 102    |      |  |   |      |  
|(Increase) decrease in prepaid expenses and other current assets |  |                     | 306  |   |      |   | 178    |      |  |   | (97   | )
|                                                                 |  |                     |      |   |      |   |        |      |  |   |       |  
|                                                                 |  | $                   | (229 | ) |      | $ | (2,543 | )    |  | $ | 1,846 |  
|                                                                 |  |                     |      |   |      |   |        |      |  |   |       |  



F-24



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##### Table of Contents

##### Index to Financial Statements

PERVASIVE SOFTWARE INC.



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued)



The increase (decrease) in accounts payable and accrued liabilities from continuing operations
reflected in the consolidated statements of cash flows is comprised of the following (in thousands):



|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  
|---------------------------------------------------------------- |  | ------------------- | ----- | - | ---- | - | ---- | ---- |  | - | ------ | -
|                                                                 |  | Year ended June 30, |      
|                                                                 |  | 2003                |       |   | 2004 |   |      | 2005 | 
|Increase (decrease) in trade accounts payable                    |  | $                   | 452   |   |      | $ | 379  |      |  | $ | (789   | )
|Increase (decrease) in accrued payroll and payroll related costs |  |                     | (208  | ) |      |   | 126  |      |  |   | (1,174 | )
|Increase (decrease) in deferred rent and lease related accruals  |  |                     | 796   |   |      |   |     |      |  |   | (1,262 | )
|Increase (decrease) in other accrued expenses                    |  |                     | 108   |   |      |   | 169  |      |  |   | (594   | )
|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  
|                                                                 |  | $                   | 1,148 |   |      | $ | 674  |      |  | $ | (3,819 | )
|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  
|Supplemental disclosures:                                        |  |                     |       |   |      |   |      |      |  |   |        |  
|Income taxes paid (refunds received) during the year:            |  |                     |       |   |      |   |      |      |  |   |        |  
|Domestic                                                         |  | $                   | 90    |   |      | $ | (183 | )    |  | $ | 125    |  
|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  
|Foreign                                                          |  | $                   | 618   |   |      | $ | 720  |      |  | $ | 193    |  
|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  
|Noncash activities:                                              |  |                     |       |   |      |   |      |      |  |   |        |  
|Issuance of common stock under employee stock purchase plan      |  | $                   | 130   |   |      | $ | 273  |      |  | $ | 200    |  
|                                                                 |  |                     |       |   |      |   |      |      |  |   |        |  



F-25