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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549
  
 FORM 10-K FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 (Mark One) þ
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  Commission File Number: 0-31613 WEBSIDESTORY, INC.
  Delaware
    
    33-0072173(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)10182 Telesis Court, 6th Floor, San Diego, CA
    
    92121(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (858) 546-0040 Securities registered pursuant to Section 12(b) of the Act: Title of Each Class
    
    Name of Each Exchange on Which RegisteredNone
    
    None
 Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value $0.001 per
share Indicate by check mark whether the registrant: (1) has filed all reports required to be filed
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
þ Yes   o 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 the 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. þ Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule
12b-2 of the Exchange Act). o
Yes   þ No The aggregate market value of the common equity held by non-affiliates of the registrant as of
March 24, 2005 was approximately $95,283,325, based on the closing stock price as reported
by the Nasdaq National Market.* The registrants common stock was not publicly traded as of last
business day of its most recently completed second quarter.* The number of outstanding shares of the registrants common stock, par value $0.001 per share,
as of March 24, 2005 was 15,624,599. * Excludes the common stock held by executive officers, directors and stockholders whose ownership
exceeded 10% of the common stock outstanding at December 31, 2004. This calculation does not
reflect a determination that such persons are affiliates for any other purposes. DOCUMENTS INCORPORATED BY REFERENCE Portions of the registrants definitive proxy statement to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A and relating to its 2005 annual meeting of
stockholders are incorporated by reference into Part III of this report. Such proxy statement will
be filed with the Commission not later than 120 days after the registrants year ended December 31,
2004.




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WEBSIDESTORY, INC. FORM 10-K  ANNUAL REPORT
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2004 TABLE OF CONTENTS  
 PagePART I
    
    
    1Item 1 Business
    
    
    1Item 2 Properties
    
    
    20Item 3 Legal Proceedings
    
    
    20Item 4 Submission of Matters to a Vote of Security Holders
    
    
    20PART II
    
    
    20Item 5 Market for Registrants Common Equity, Related Stockholder
 Matters and Issuer Purchases of Equity Securities
    
    
    20Item 6 Selected Financial Data
    
    
    21Item 7 Managements Discussion and Analysis of Financial Condition
 and Results of Operations
    
    
    22Item 7A Quantitative and Qualitative Disclosures About Market Risk
    
    
    30Item 8 Financial Statements and Supplementary Data
    
    

    31Item 9 Changes in and Disagreements With Accountants on Accounting
 and Financial Disclosure
    
    
    31Item 9A Controls and Procedures
    
    
    31Item 9B Other Information
    
    
    32PART III
    
    
    32Item 10 Directors and Executive Officers of the Registrant
    
    
    32Item 11 Executive Compensation
    
    
    32Item 12 Security Ownership of Certain Beneficial Owners and Management
    
    
    32Item 13 Certain Relationships and Related Transactions
    
    
    32Item 14 Principal Accountant Fees and Services
    
    
    32PART IV
    
    
    32Item 15 Exhibits and Financial Statement Schedules
    
    
    32SIGNATURES
    
    
    36EXHIBIT 23.1EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32




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PART I Forward-Looking Statements Any statements in this report about our expectations, beliefs, plans, objectives, assumptions
or future events or performance are not historical facts and are forward-looking statements. This
report contains forward-looking statements that are based on our managements beliefs and
assumptions and on information currently available to our management. You can identify these
forward-looking statements by the use of words or phrases such as anticipates, believes,
could, estimates, expects, intends, may, plans, potential, predicts, projects,
should, will, would and similar expressions intended to identify forward-looking statements.
Among the factors that could cause actual results to differ materially from those indicated in the
forward-looking statements are risks and uncertainties inherent in our business including, without
limitation, the risk that our services are not adopted or used by other providers of software or
technology services or, if adopted, do not perform to the satisfaction of our partners or
customers; our reliance on our Web analytics services for the majority of our revenue; our recent
achievement of profitability and the risk that we may not maintain our profitability; the highly
competitive markets in which we operate that may make it difficult for us to retain customers; the
risk that our customers fail to renew their agreements; the risk that our services may become
obsolete in a market with rapidly changing technology and industry standards; and other risks
described in the prospectus filed pursuant to Rule 424(b) under the Securities Act of 1933, as
amended, with the Securities and Exchange Commission on September 28, 2004, our Quarterly Report on
Form 10-Q filed with the Securities and Exchange Commission on November 15, 2004 and in the
discussions set forth below under Business  Risk Factors. Given these uncertainties, you should
not place undue reliance on these forward-looking statements. Also, forward-looking statements
represent our managements beliefs and assumptions only as of the date of this report. Except as required by law, we assume no obligation to update these forward-looking statements
publicly or to update the reasons actual results could differ materially from those anticipated in
these forward-looking statements, even if new information becomes available. 
 Item 1. Business. We are a leading provider of on-demand web analytics services. Web analytics refers to the
collection, analysis and reporting of information about Internet user activity. Our services
collect data from web browsers, process that data and deliver analytic reports of online behavior
to our customers on demand. Customers use our services, including our primary service, HBX, to
understand how Internet users respond to website design and content, online marketing campaigns and
e-commerce offerings. As a result, our customers can make more effective marketing decisions and
improve the merchandising, sales, support and design of their websites, improving their return on
investment on marketing dollars spent. We deliver our services over the Internet using a secure, proprietary, scalable application
and system architecture, which allows us to concurrently serve a large number of customers and to
efficiently distribute the workload across our network of servers. Our technology is easy to
implement and allows our customers to avoid expensive, up-front hardware expenses and software
license fees, and to realize lower administration costs compared to traditional software licensing
alternatives. Our direct sales force sells our services to a wide range of organizations in many industries
including sports and entertainment, news, retail, finance, travel, technology, manufacturing,
telecommunications and education. Our services are offered by subscription agreements, typically
with terms of one to three years. As of December 31, 2004, we had more than 650 HBX customers,
growing from approximately 180 customers as of December 31, 2001. Walt Disney Internet Group
accounted for 17% and 14% of our total revenue in the years ended December 31, 2002 and 2003,
respectively. None of our customers accounted for more than 10% of our total revenue in the year
ended December 31, 2004. Benefits of Our Services We offer web analytics services that collect data from web browsers, process that data and
deliver analytic reports of online behavior over the Internet. We believe our services:  
    Facilitate Decisions On How to Improve Online and Off-line Initiatives.Our in-depth
analytic reports help our customers understand how users navigate their websites. Our
services provide reports that allow businesses to compare the popularity and effectiveness
of their content over time and across sections of their sites. These reports can reveal
which paths in a site lead to the greatest number of sales and where 1




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bottlenecks occur and enable rapid testing of the effects that changes in site content,
design and configuration have on browsing, shopping and buying. In addition, our services
allow our customers to develop off-line marketing strategies based on online analysis. We
also correlate browsing behavior with purchasing to reveal shopping patterns and trends.  
    Improve Marketing Return on Investment.Our web analytics reports help businesses
determine where their marketing budgets are best spent. We measure and report online
responses to both online and off-line marketing campaigns. Using our services, our
customers can run simultaneous campaigns, assess results in real time and then reallocate
marketing resources to the most effective campaigns. They can identify which referral
sources generate the most customer leads and can assess each campaigns return on
investment in terms of sales relative to costs. In addition, through an agreement with
salesforce.com, a provider of on-demand customer relationship management services, which
allows us to incorporate salesforce.coms off-line data, our customers can analyze the
effect of online marketing campaigns on off-line sales.
    Provide Valuable Information and Analysis On Demand.We do not rely on web server log
files for data; we collect data directly from web browsers for our customers. We believe
that our data collection method is more accurate and faster, because it reflects actual
browser activity, as opposed to server activity, which can come from sources other than
browsers, and because it does not require us to combine data files from multiple web
servers. Most of our reports are typically available within seconds of a request and
incorporate up-to-the-second information. These reports allow businesses to react
immediately to analysis without having to wait for data to be processed and presented. Our
services also allow the end user to receive reports 24 hours a day, seven days a week.
    Deliver Intuitive, Easy-to-Use Reports for Business Users.We provide customizable,
easy-to-read graphics and tables, that we call executive dashboards and key performance
indicators for high-level decision makers. With our executive dashboards, decision makers
can get an overview of their companys online performance, based on criteria that they
determine. Decision makers can use our interactive interface to generate more detailed
reports with relative ease. In addition, business analysts and marketers are able to
customize, manipulate, schedule and distribute our reports using Microsoft Excel as the
medium to analyze the data.
    Are Secure and Scalable.Our services are delivered over the Internet and have been
designed to provide our customers with security, performance and reliability. We maintain
security through the use of firewalls, intrusion detection, proprietary monitoring, and
network policies and procedures. Our proprietary data management system is highly scalable
and can handle large volumes of data at high speeds. Our systems generally use commercially
available hardware and proprietary software.
    Offer a Lower Total Cost of Ownership.Compared to traditional web analytics software,
our services can be quickly deployed, which allows our customers to avoid spending time
installing or maintaining software. Our services provide a low total cost of ownership by
eliminating the need for large investments in software licenses and upgrades, hardware,
extensive implementation and integration services and additional information technology
staff. Our services are also compatible with all commonly used operating systems and web
browsers. Our Strategy Our goal is to be the global market-share leader in web analytics and to enter into related
markets for online, on-demand services. The key components of our strategy are to:  
    Expand the Features and Functionality of Our Services.We plan to further enhance the
features and functionality of our on-demand web analytics services and to adapt our
services to changing Internet environments and business practices. We believe that our
technology is well designed to accommodate new features and functions. Most additions of
new features and functions are implemented entirely by us on our servers, which results in
the upgrades becoming part of our services. As a result, customers benefit from most
upgrades with no action required on their part.
    Pursue New Customers in Our Existing Markets and Expand into New Geographic Markets.
Our on-demand analytics application currently serves diverse organizations, including
Fortune 500 corporations, small and medium businesses and educational institutions. We
intend to continue marketing our services to a broad range of organizations, primarily
through our direct sales force. We plan to increase the number of sales people that we
employ and to develop other marketing or distribution channels for our services. Outside of
North America, we plan to market to customers by recruiting local sales and support
professionals and by 2




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designing our services to support additional languages. We may also pursue acquisitions of
similar business in new geographic markets.  
    Develop or Acquire Related Services and Technologies.We believe that our success in
web analytics will help us sell related, on-demand digital marketing services such as
search optimization; marketing surveys; email marketing; website search tools; affiliate
marketing networks; call center analytics; and content management. We intend to either
internally develop these digital marketing services or acquire these services through
strategic relationships or acquisitions. We believe our strengths in data analysis,
scalability and delivery of on-demand application services will allow us to compete
effectively with other companies that may attempt to offer comparable digital marketing
services.
    Provide Superior Customer Service and Build Lasting Relationships with Our Customers.
We believe that we can generate more revenue from our customers by promoting wider
deployments of our services within their online operations. We seek to learn industry best
practices based on feedback from our customers and to incorporate these practices into our
technology and professional services. This enhances the value our customers receive from
our services. We intend to keep our customers satisfied by responding promptly to their
feedback and requests and by building technology that helps them achieve their goals.
    Pursue Longer Term Contracts with Our New and Existing Customers.Since the second
quarter of 2003, we have sought to enter into longer-term agreements with our customers,
and we have successfully signed some of our larger customers to two or three year
agreements. We intend to encourage our customers to sign multi-year agreements, which we
believe will result in higher customer retention rates.
    Encourage the Development of Third-Party Applications that Integrate With and Are
Complementary to Our Services.Our services are designed to allow third-party developers
to create applications complementary to our core services offering. Our customers can also
integrate our services with other systems and applications that they use. We intend to
publish application programming interfaces to facilitate the integration of third-party
software with our services. Our Services We offer the following services based on our core technologies for collecting and reporting on
information about Internet user behavior: HBX On-Demand Web Analytics.Our on-demand web analytics services collect, process, store and
report on Internet user behavior based on browser activity. The reporting that we provide gives our
customers extensive information on, and analysis of, what visitors are doing on their web pages.
For example, HBX can inform our customers which marketing initiatives visitors responded to, what
search engines they used, what keywords they entered, how much time they spent on pages, what they
bought online, when they abandoned shopping carts and where they live. The available reports and
features can be grouped under the following categories:  
    Website Navigation Analysis.Navigation analysis allows site managers to analyze
browsing behavior in several ways. Conversion funnels measure the success rates of
custom-defined processes, such as the shopping checkout process. Our funnel analysis helps
our customers find and improve areas with high abandonment rates. Affinity reports show
trends and patterns among web pages and site content areas. Our page-affinity reports, for
example, show the pages that are viewed by the same visitors and can be used to detect the
products that are often viewed by the same people
    Commerce Analysis.Commerce analysis includes reporting on conversion rates by product,
product cross-selling and sales analysis by category, brand, color and size. Customer
reports provide the long-term value of buyers grouped by acquisition source. Customer ID
extraction feeds a file of the unique customer IDs associated with any available buyer
report or segment of buyers and allows our customers to follow up with targeted marketing
campaigns informed by their buyers online behavior.
    Campaign Analytics.Campaign analytics reports on the performance of virtually any
online marketing initiative, including pay-per-click keyword buys, banner advertisements,
emails and affiliate programs.
    Site Search Tracking.Site search tracking can reveal what visitors are looking for and
which search terms result in purchases. This information helps our customers improve their
marketing and promotions.
    Content Analysis.Content analysis shows how visitors navigate through site content and
what pages they view most frequently. Site content navigation is analyzed in logical
hierarchies that can be customized to our 3




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customers online operations. For example, a sports entertainment site may want to analyze
content by sport, by team and by athlete.  
    Visitor Segmentation.Segmentation reports categorize visitors into logical,
behavior-based groups. For example, a segment might include only visitors who saw a certain
banner advertisement on another website or only visitors from a given geographic region.
The behavior of visitors in these segments can then be analyzed to see how they differ.
    Cross-Channel Integration.Through a technology integration between us and
salesforce.com, our customers who use salesforce.com can correlate between online
promotions and off-line sales conversions. For example, they can assess the quality, in
terms of off-line sales, of their leads generated from an online campaign in order to
allocate their online marketing budgets to the most effective campaigns.
    Executive Dashboards.Our interactive executive dashboards display key performance
indicators in graphical form, much like the gauges on a dashboard of an automobile, which
help executives assess their operations at a glance. For example, a key performance
indicator might monitor conversion rates, leads, transactions generated or shopping cart
conversion rates.
    Custom Reports.Custom reports are easy to build with our HBX Report Builder, which is
a plug-in that allows our customers to import any HBX reporting element directly into
Microsoft Excel.
    Active Viewing.This visualization feature uses a browser plug-in to overlay visitor
and customer information right on top of our customers web pages as they navigate their
own site. It allows our customers to explore the data that we collect and analyze for them
without leaving their own website. HBX DataFeed.HBX DataFeed allows companies to combine our on-demand web analytics with
in-house data applications. Customers that want the raw behavioral data that we collect can get it
through data feeds that are easy to implement and compatible with standard database formats. HBX Professional Services.We also offer professional services to help our customers
interpret analytic reports. We develop recommendations for improving our customers websites and
marketing programs. We analyze the results of the implementation and develop new recommendations
based on these results. In addition, we provide education services. HitBox Professional.We develop and market HitBox Professional for small and medium-sized
businesses that need web analytics services, but do not need all of the features and capabilities
of HBX. HitBox Professional includes many, but not all of the features of HBX and is offered at a
lower base price. Technology and Operations Technology We released the first version of our service in 1996, and in 1999 we introduced an upgraded
version of our service, which we call the enterprise-class version, or HBX, designed to address the
web analytics needs of large enterprises such as Fortune 500 companies. Our HBX technology offers a
large set of features designed to respond to the needs of many constituents in the organizations to
which we sell and helps them assess and improve their online marketing, merchandising, sales,
support and design. We believe that our on-demand technology is highly scalable, allowing us to serve large
numbers of customers, including high-volume customers, more efficiently than traditional software.
Our proprietary software is optimized to run on a single, custom-built platform designed to run on
our system. Therefore, unlike traditional software vendors, we do not need to support different
hardware, operating systems or databases, or develop software for customers unique computing
environments and we can dedicate a greater proportion of our development resources to improving
features, functions, reliability and speed. Our technology is a multi-tenant application written in several computer languages including
Java, C and C++. We use commercially available hardware and proprietary software. To a lesser
extent, we also use commercially available software as components of our technology. We have
custom-built core services such as visitor session measurement and a data management system that
allows us to achieve both data manipulation and real-time reporting. We have built a distributed
environment for both data collection and end-user report generation that routes both tasks
efficiently to many servers instead of single, dedicated servers. Our customers can access our
services through a web browser without installing any software. They can also receive reports and
data from our systems through data feeds, a browser plug-in, a Microsoft Excel plug-in and
scheduled email delivery. 4




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To handle large volumes of data efficiently at high speeds, we have built our own proprietary
data management systems. These systems include proprietary data management software, data storage
methods and compression algorithms. These data management systems allow us to make information and
reports related to data collected over long periods of time available on demand. Our services provide extensive reporting and analytics functionality accessible through
hierarchical menus and interactive graphical reports available on demand. Other applications can address our services either directly or through the use of data feeds
from our network. Our systems allow customers and technology partners to insert and collect
information from our services. We maintain security through the use of firewalls, intrusion
detection, proprietary monitoring and network policies and procedures. Our research and development expenses, including related stock-based compensation expenses,
were $3.2 million, $3.4 million and $3.8 million in the years ended December 31, 2002, 2003 and
2004, respectively. Operations All of our servers and our customers data are located at a single, third party co-location
facility located in San Diego, California, operated by Level 3 Communications, Inc. Our agreement
with Level 3 obligates them to secure the facility with around-the-clock guards, biometric access
screening and escort-controlled access, and the facility is supported by on-site backup generators
in the event of a power failure. Our agreement with Level 3 expires on May 31, 2005. We
regularly rotate tapes of customer data out of the facility and store them off site in the event of
data loss at the facility. In addition, we gain access to the Internet through several internet
service providers. We continuously monitor the performance of our services. The monitoring features we have built
or licensed includes centralized performance consoles, automated load distribution and various
self-diagnostic tools and programs. We have service level agreements with our customers warranting
certain levels of reliability and permitting them to receive credits or terminate their agreements
in the event that we fail to meet those levels. We have a disaster recovery plan designed to protect our customers from the adverse effects of
an outage of the network and to resume data collection within 48 hours of a site disaster. We have
an agreement with Level 3 to provide alternate data center facilities and emergency bandwidth to
cover loads up to our current peaks. We also keep off-site archival copies of customer data. Our
plans provide for data processing and reporting to be restored by relocation of some computers and
configuration of others. We believe that complete data processing and reporting can be restored
within 21 days, with an additional seven days to back process the collected and logged data. Customers As of December 31, 2004, our customer base was approximately 2,450 with customers in the
United States and Europe. More than 650 customers subscribe to our HBX web analytics services, and
more than 1,800 customers subscribe to our HitBox Professional services. Walt Disney Internet Group accounted for 17% and 14% of our total revenue in the years ended
December 31, 2002 and 2003, respectively. None of our customers accounted for more than 10% of our
total revenue in the year ended December 31, 2004. Our agreement with the Walt Disney Internet
Group may be terminated by either party immediately upon written notice if the other party commits
a material breach of the agreement and fails to cure such breach within 30 days after receipt of
written notice of the breach. The Walt Disney Internet Group may terminate this agreement: (i) on
30 days prior written notice if an audit of our services shows that any statistics provided by us
vary by more than 15% over a 30-day period from the results of such audit and during such 30-day
period on the first occurrence only, we have not cured the variance; or (ii) under certain
circumstances, on 30 days prior written notice in the event of a change of control. Sales and Marketing We organize our sales and marketing programs by geographic regions, including North America
and Europe. Direct Sales We primarily sell our services through our direct sales force, consisting of telesales and
field sales personnel. Our telesales representatives are responsible for sales to customers
assigned by region or industry, as well as following up on leads generated from our marketing
campaigns. Our field sales personnel are responsible for the largest business customers and they generally sell our services in one-on-one client meetings
rather than over the telephone. All of our North American sales programs are managed out of our San
Diego, California headquarters. 5




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All of our European sales programs are managed out of our Amsterdam
facility. In addition, we have sales consultants in Germany, France, the United Kingdom, Sweden,
Australia, Singapore and Canada. Marketing Our marketing strategy is to build our brand name and raise awareness of WebSideStory as a
leading provider of on-demand web analytics services. Our marketing campaigns include a variety of
advertising, public relations activities and web-based seminars, all of which are targeted at key
executives and decision makers within business organizations. Our principal marketing initiatives include:  
    advertising on industry-related websites;
    participation in, and sponsorship of, Internet user conferences, trade shows and industry events;
    partnering with well-known organizations within the industry;
    using our website to provide product and company information and industry-related downloads; and
    issuing press releases on a regular basis. Customer Service and Support We believe that customer service and support begins with our sales personnel who are trained
to understand our customers needs. Our sales people will work with our technologists to insure
that our customers receive the services they need for their business. Continuing superior customer
support beyond the signing of our service contract is critical to the retention and expansion of
our customer base. Support and assistance is available to our customers through the telephone or
email. We offer training to our customers to help them use the services they purchase from us. International Sales In the years ended December 31, 2002, 2003 and 2004, we generated approximately 8%, 11% and
16% of our total revenues, respectively, from customers in Europe. Our international operations
primarily consist of sales activities for customers based in Europe. Our United States operations
provide technical, legal and network operating support services to support our European customers.
Our direct and indirect subsidiaries, including WebSideStory SAS, WebSideStory Holding B.V.,
WebSideStory CallCenter and Service B.V. and WebSideStory UK Limited, were established for the
purpose of paying the salaries of our sales personnel based in Europe and other expenses related to
the billing and collecting of revenues from our European customers. We expect international markets
to provide an increasing percentage of revenue in the future. Our current strategy in the
international arena is to grow and strengthen our presence in international markets by hiring
additional sales personal and designing our services to support additional languages. Competition The market for web analytics is rapidly evolving and highly competitive. We expect competition
to increase from existing competitors as well as new market entrants. We compete primarily with
other application service providers and software vendors on the basis of product functionality,
price, performance and level of service. We also compete with companies that offer web analytics
software bundled with other products or services sold. Our current principal competitors include:  
    web analytics application service providers such as Coremetrics, Nedstat and Omniture;
    network management software and business intelligence vendors such as NetIQ and SPSS
that offer web analytics as part of their larger product offerings; and
    digital marketing and e-commerce services providers such as aQuantive and Digital River
that incorporate web analytics in their services. In addition, we face competition from companies that develop software to measure their own
audience. Many companies, including some of our largest potential customers, use such
internally-developed software rather than the commercial services or software offered by us and our
competitors. These companies may seek to offer their
internally-developed software commercially in the future, which will bring our products into
direct competition with their products. 6




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We believe the principal competitive factors in our market include the following:  
    product functionality and breadth of services offered;
    speed and ease of implementation and use;
    price and cost of ownership;
    brand name and reputation;
    rates of user adoption among the decision makers;
    low total cost of ownership and demonstrable cost-effective benefits for customers;
    performance, security, scalability, reliability and flexibility of the services;
    ease of integration with existing applications; and
    quality of customer support and services. We believe that we compete favorably on the basis of these factors. However, some competitors
may have features in their services that we do not include, and that customers prefer. Many of our
current competitors and potential competitors have longer operating histories, greater name
recognition and substantially greater financial, technical and marketing resources than we have.
They may be able to devote a greater portion of their resources to the development, marketing and
sale of their products than we can. This may allow our competitors to respond more quickly to the
rapid advancements in technology, and to the constant change in customer needs. We cannot assure
you that our current or potential competitors will not offer or develop services that are
considered superior to ours, or that services other than ours will not achieve greater market
acceptance. Intellectual Property We rely on a combination of patent, trademark, servicemark, copyright and trade secret laws in
the United States and other jurisdictions as well as confidentiality procedures and contractual
provisions to protect our proprietary technology and our brand. We also enter into confidentiality
and proprietary rights agreements with our employees, consultants and other third parties and
control access to software, documentation and other proprietary information. We pursue the registration of our service marks in the United States and in other countries
although we have not secured registration of all of our marks. WebSideStory and HitBox, among
others, are our United States registered service marks. WebSideStory and HitBox are also registered
in Japan and the European Union. We have applied for registration of HBX, an unregistered trademark
that we use, in the United States and other jurisdictions. We currently have four patent applications pending in the United States relating to web-based
tracking of visitor paths for Internet access and relating to web-based tracking of events during
customer interaction with a website. As of December 31, 2004, we have two issued patents, both
relating to Internet website traffic analysis. Our patents, U.S. Patent No. 6,393,479 and U.S.
Patent No. 6,766,370, expire in 2019. We have entered into a cross license agreement with NetIQ,
pursuant to which we have a license to NetIQs U.S. Patent No. 6,112,238, which expires in 2017,
and certain patents pending and NetIQ has a license to our patents and certain patents pending. We
do not believe that this cross license is material to our ability to sell our current web analytics
services. This cross license agreement will terminate on the date the last patent expires. We
cannot assure you that our pending, or any future, patent applications will be granted, that any
existing or future patents will not be challenged, invalidated or circumvented, or that the rights
granted under any patent that may issue will provide competitive advantages to us. Many of our
current and potential competitors dedicate substantially greater resources to the protection and
enforcement of intellectual property rights, especially patents. If a patent has been or is issued
to a third party that prevents us from using some or all of our non-patented technology, we would
need either to obtain a license to, or to design around, that patent. We may not be able to obtain
a license on acceptable terms, if at all, or design around the patent, which could harm our ability
to provide our services. While our patent applications, copyrights, trademarks, servicemarks and other intellectual
property rights are important, we believe that our technical expertise and ability to introduce new
products in a timely manner will also be important factors in maintaining our competitive position. United States and Foreign Government Regulation The Internet, and in particular, the regulation of commercial enterprises on the Internet, has
become a focus of state, federal and foreign governments in recent years. Discussions among
policymakers and proposed regulation 7




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regarding the Internet have focused on the protection of
consumer privacy. Much of the proposed and enacted legislation regulates the collection and
disclosure of personally identifiable information of computer users such as their names, addresses,
credit card information and social security numbers. Legislation has been introduced in the United States House of Representatives to regulate
spyware. The term spyware is not consistently defined, but is often used to describe software that
is installed on a consumers computer and collects and disseminates information about the consumer
without the consumers knowledge or informed consent. The term spyware also may encompass programs
that take control a consumers computer or display advertising that either cannot be closed or that
is triggered by specific keywords entered into search engines. The proposed legislation would
require any person that is not the owner or authorized user of a computer system to give clear and
conspicuous notice and to obtain consent before installing and activating any information
collection program. Legislation regulating spyware was recently enacted in Utah and California, and
similar legislation has been proposed in several other states and in the U.S. House of
Representatives. None of our services currently require or provide for the installation of software on a
consumers computer, however, it is possible that legislation intended to regulate tracking of
consumers usage on the Internet could bring some or all of our services within a regulatory
framework. This could prevent us from operating our business in its current fashion, and could
require us to change our business practices or some of our services. Additionally, in the European Union, there is a range of legislation addressing, or affecting,
Internet-related businesses. In particular, the 1995 European Union Directive on Data Protection
applies to the processing of personal data, defined to include collection, storage, consultation
and disclosure of information about identified or identifiable individuals. Because our service
does not generally collect personal data as defined under the European Union Directives, and
because we do not associate the information we do collect with identified or identifiable
individuals, we believe that the data we collect and provide to our customers does not constitute
personal data regulated by this Directive. We also believe that in the instances where we collect
personal data, we do so in compliance with the European Union Directives. The 2002 European Union
Privacy and Electronic Communications Directive regarding the processing of personal data and
privacy in electronic communications prohibits the use of cookies, spyware and other tracking
devices unless the user is given clear and conspicuous notice and the right to opt out. The effect
of this Directive on our business will not be certain until the implementation of this Directive by
the members of the European Union. State, federal and foreign governments are considering other laws that may regulate our
activities or levy sales or other taxes relating to our activities. The laws governing the
Internet, however, remain largely unsettled, even in areas where there has been some legislative
action. It may take years to determine whether and how existing laws such as those governing
intellectual property, privacy, libel and taxation apply to the Internet and e-commerce activities.
In addition, the growth and development of the market for Internet commerce may prompt requests for
more stringent consumer protection laws, both in the United States and abroad, that may impose
additional burdens on companies conducting business over the Internet. Our business and financial
results could be materially harmed by the adoption or modification of laws or regulations relating
to the Internet. Employees On December 31, 2004, we had 135 employees, including 65 in sales and marketing, 6 in
professional services, 47 in technology development and operations and 17 in general
administration. We have never had a work stoppage. None of our employees are represented under
collective bargaining agreements. We consider our relationship with our employees to be good. Available Information We make available free of charge on or through our Internet website our annual reports on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those
reports as soon as reasonably practicable after such material is electronically filed with or
furnished to the Securities and Exchange Commission. Our Internet address is www.websidestory.com. Risks Factors The following information sets forth factors that could cause our actual results to differ
materially from those contained in forward-looking statements we have made in this annual report
and those we may make from time to time. For a more detailed discussion of the factors that could
cause actual results to differ, see the Risk Factors
section in our Prospectus filed pursuant toRule 424(b)under the Securities Act with the
Securities and Exchange Commission on September 28, 2004. 8




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Risks Related to Our Business We have limited experience in an emerging market with unproven business and technology models,
which makes it difficult to evaluate our current business performance and future prospects. Although we were formed in September 1996, we did not begin selling our services for a fee
until August 1999. Prior to that, we provided a basic Internet user behavior information and
analysis service solely in exchange for online advertising space that we used or sold. Our revenues
from advertising have been steadily declining due to our decision in 2001 to discontinue offering
our web analytics service in exchange for advertising revenue, and in December 2003, we stopped
providing services in exchange for advertising altogether. As a result, we have limited experience
in the subscription web analytics business, and we must sell increasing amounts of services in the
future to new customers, while retaining our current customers, in order to grow our business. Many
risks and uncertainties are inherent in our business, including securing new customers, attracting
and retaining qualified personnel, expanding our operations and developing and upgrading our
technology and services. These risks and uncertainties are particularly significant for companies
such as ours that operate in rapidly evolving markets for Internet products and services. If
businesses are not willing to buy our services, then our revenues will not grow and our operating
results will suffer, which may cause our stock price to decline. Our web analytics services comprise a majority of our revenues, and our business will be harmed if
these services do not achieve widespread customer acceptance. In late 1999, we introduced the predecessors of our HBX and HitBox Professional services.
Since that time, we have made significant changes to these services, including the release of HBX
in April 2004. These services and related support represented 96% and 99% of our total revenues for
the years ended December 31, 2003 and 2004, respectively. These new subscription services may not
achieve broad customer acceptance, and we may not be able to continue to generate or to grow
revenue from sales of these services. In addition, due to the recent introduction of our core
services, our target customers, who are generally medium and large businesses, may have concerns
regarding our viability and may prefer to purchase services from one of our larger, more
established competitors. We have only recently become profitable and may not maintain our level of profitability. Although we have generated net income for the three months ended December 31, 2003 and the
year ended December 31, 2004, we have not historically been profitable, and we may not be
profitable in future periods. We expect that expenses relating to the sales of our services,
technology improvements and general and administrative functions as well as the costs of operating
and maintaining our network will increase in the future. We may not be able to reduce or maintain
our expenses in response to any decrease in our revenues, and our failure to do so would adversely
affect our operating results and our level of profitability. We operate in highly competitive markets, which could make it difficult for us to acquire and
retain customers. The market for web analytics is rapidly evolving and highly competitive. We expect competition
to increase from existing competitors and new market entrants. We compete primarily with other
application service providers and software vendors on the basis of product functionality, price,
timeliness and level of service. Should our competitors consolidate or if other, larger competitors
acquire our smaller competitors, they may be able to provide services comparable to ours at a lower
price due to their size. We also compete with companies that offer web analytics software bundled
with other products or services, which may result in such companies effectively selling these
services at prices below the market. Our current principal competitors include:  
    web analytics application service providers such as Coremetrics, Nedstat and Omniture;
    network management software and business intelligence vendors such as NetIQ and SPSS; and
    digital marketing and e-commerce service providers such as aQuantive and Digital River
that incorporate web analytics in their services. In addition, we face competition from companies that develop software to measure their own
audience. Many companies, including some of our largest potential customers, use such internally
developed software rather than the commercial services or software offered by us or our
competitors. These companies may seek to offer their internally developed software commercially in
the future, which would bring us into direct competition with their
products. Likewise, to date, no web analytics service has been adopted as the industry
standard for measuring Internet user behavior and preferences. However, if one of our current or
future competitors is successful in 9




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establishing its products and services as the industry
standard, it will be difficult for us to retain current customers, or attract additional customers
for our services. Furthermore, some businesses may require data or reports that are available only in
competitors products, and potential customers may, therefore, select the products of our
competitors. Many of our current and potential competitors have longer operating histories, greater
name recognition, access to larger client bases, and substantially greater resources, including
sales and marketing, financial, support and other resources than we have. As a result, these
competitors may be able to devote more resources to new customer acquisitions or may be able to
respond to evolving market needs more quickly than we can. If we are not able to compete
successfully against our current and future competitors, it will be difficult to acquire and retain
customers, and we may experience limited revenue growth, reduced operating margins, loss of market
share and diminished value in our services. The majority of our services are sold pursuant to short-term subscription agreements, and if our
customers elect not to renew these agreements, our revenues may decrease. Typically, our HBX services are sold pursuant to short-term subscription agreements, which are
generally one to three years in length, with no obligation to renew these agreements. In addition,
our HitBox Professional services are usually cancelable any time with little or no penalty. Many of
our customers are new, which makes it difficult for us to predict if they will renew their
agreements. Many of our HBX subscription agreements will be subject to renewal in the next 12
months, and we cannot assure you that such agreements will be renewed. Our renewal rates may
decline due to a variety of factors, including the services and prices offered by our competitors,
consolidation in our customer base or if some of our customers cease their operations. If our
renewal rates are low or decline for any reason, or if customers renew on less favorable terms, our
revenues may decrease, which could adversely affect our stock price. If we fail to respond to rapidly changing technology or evolving industry standards, our services
may become obsolete or less competitive. The market for our services is characterized by rapid technological advances, changes in
client requirements, changes in protocols and evolving industry standards. If we are unable to
develop enhancements to and new features for our existing services or acceptable new services that
keep pace with rapid technological developments, our services may become obsolete, less marketable
and less competitive and our business will be harmed. The success of any enhancements, new features
and services depends on several factors, including the timely completion, introduction and market
acceptance of the feature or edition. Failure to produce acceptable new features and enhancements
may significantly impair our revenue growth and reputation. We may be liable to our customers and may lose customers if we provide poor service, if our
services do not comply with our agreements or if there is a loss of data. The information in our databases may not be complete or may contain inaccuracies that our
customers regard as significant. Our ability to collect and report data may be interrupted by a
number of factors, including our inability to access the Internet or the failure of our network or
software systems. In addition, computer viruses may harm our systems causing us to lose data, and
the transmission of computer viruses could expose us to litigation. Our subscription agreements
generally give our customers the right to terminate their agreements for cause if we fail to meet
certain reliability standards stated in the agreements or if we otherwise materially breach our
obligations. Any failures in the services that we supply or the loss of any of our customers data
may give our customers the right to terminate their agreements with us and could subject us to
liability. We may also be required to spend substantial amounts to defend lawsuits and pay any
resulting damage awards. We may be liable to our customers for loss of business, loss of future
revenue, breach of contract or even for the loss of goodwill to their business. In addition to
potential liability, if we supply inaccurate information or experience interruptions in our ability
to supply information, our reputation could be harmed and we could lose customers. Although we have errors and omissions insurance with coverage limits of up to $2 million, this
coverage may be inadequate or may not be available in the future on acceptable terms, or at all. In
addition, we cannot assure you that this policy will cover any claim against us for loss of data or
other indirect or consequential damages and defending a suit, regardless of its merit, could be
costly and divert managements attention. We may expand through acquisitions of, or investments in, other companies or through business
relationships, all of which may divert our managements attention, resulting in additional dilution
to our stockholders and consumption of resources that are necessary to sustain our business. 10




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One of our business strategies is to acquire competing or complementary services, technologies
or businesses. We also may enter into relationships with other businesses in order to expand our
service offerings, which could involve preferred or exclusive licenses, additional channels of
distribution or discount pricing or investments in other companies. An acquisition, investment or business relationship may result in unforeseen operating
difficulties and expenditures. In particular, we may encounter difficulties assimilating or
integrating the acquired businesses, technologies, products, personnel or operations of the
acquired companies, particularly if the key personnel of the acquired company choose not to work
for us, and we may have difficulty retaining the customers of any acquired business due to changes
in management and ownership. Acquisitions may also disrupt our ongoing business, divert our
resources and require significant management attention that would otherwise be available for
ongoing development of our business. Moreover, we cannot assure you that the anticipated benefits
of any acquisition, investment or business relationship would be realized or that we would not be
exposed to unknown liabilities. In connection with one or more of those transactions, we may:  
    issue additional equity securities that would dilute our stockholders;
    use cash that we may need in the future to operate our business;
    incur debt on terms unfavorable to us or that we are unable to repay;
    incur large charges or substantial liabilities;
    encounter difficulties retaining key employees of the acquired company or integrating
diverse business cultures; and
    become subject to adverse tax consequences, substantial depreciation or deferred
compensation charges. Although we periodically engage in preliminary discussions with respect to acquisitions, we
are not currently a party to any agreements or commitments, and we have no understandings with
respect to any acquisitions, other than our agreement to acquire Avivo Corporation. Any efforts we may make in the future to expand our services beyond the web analytics market may
not succeed. Although we have historically focused on the web analytics market, we may in the future seek
to expand our service offerings to address the demand for other digital marketing services. Any
efforts to expand our services beyond the web analytics market may not result in significant
revenue growth for us. In addition, our efforts to expand may divert management resources from our
existing operations and require us to commit significant resources to an unproven business,
limiting the financial and other resources that we are able to devote to our existing business.
For example, our agreement to acquire Avivo Corporation, if the transaction is consummated, may
divert management resources and financial and other resources from our existing business and may
not result in the revenue growth we anticipate from the acquisition. Because we recognize revenue from subscriptions to our services over the term of the applicable
agreement, the lack of subscription renewals or new subscription agreements may not be immediately
reflected in our operating results. We recognize revenue from our customers monthly over the term of their agreements with us. The
majority of our quarterly revenue usually represents deferred revenue from subscription agreements
entered into during previous quarters. As a result, a decline in new or renewed subscription
agreements in any one quarter will not necessarily be fully reflected in the revenue for the
corresponding quarter but will negatively affect our revenue in future quarters. Additionally, the
effect of significant downturns in sales and market acceptance of our services may not be fully
reflected in our results of operations until future periods. Our business model would also make it
difficult for us to reflect any rapid increase in our customer base and the effect of this increase
in our revenue in any one period because revenue from new customers must be recognized over the
applicable subscription agreement term. Fluctuations in our operating results may make it difficult to predict our future performance and
may result in volatility in the market price of our common stock. Due to our limited experience selling our services, our evolving business model and the
unpredictability of our emerging industry, we may not be able to accurately forecast our rate of
growth. For example, in our last eight quarters, we have recorded quarterly operating income of as
much as $659,000 (in the quarter ended December 31, 11




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2004) and a quarterly operating loss of as much as $1.1 million (in the quarter ended March
31, 2003). In addition, we may experience significant fluctuations in our operating results for
other reasons such as:  
    our ability to retain and increase sales to existing customers, attract new customers
and satisfy our customers requirements;
    the timing and success of new product introductions or upgrades by us or our competitors;
    changes in our pricing policies or payment terms or those of our competitors;
    concerns relating to the security of our network and systems;
    the rate of success of our domestic and international expansion;
    our ability to hire and retain key executives and technical and sales and marketing personnel;
    our ability to expand our operations and the amount and timing of expenditures related to this expansion;
    limitations in the bandwidth of our network and systems;
    costs related to the development or acquisition of technologies, products or businesses; and
    general economic, industry and market conditions. These factors tend to make the timing and amount of revenue unpredictable and may lead to
greater period-to-period fluctuations in revenue than we have experienced historically. As a result of the factors described above, we believe that our quarterly revenue and results
of operations are likely to vary significantly in the future and that period-to-period comparisons
of our operating results may not be meaningful. You should not rely on the results of one quarter
as an indication of future performance. If our quarterly revenue or results of operations fall
below the expectations of investors, the price of our common stock could decline substantially. We rely on a small number of third parties to support our network, any disruption of which could
affect our ability to provide our services and could harm our reputation. Our network is susceptible to outages due to fires, floods, power loss, telecommunications
failures, systems failures, break-ins and similar events. We have experienced some outages due to
power loss, systems failure and telecommunications failure. In addition, our network infrastructure
is located in San Diego, California, an area susceptible to earthquakes and rolling electricity
black-outs. We do not have multiple operating sites for our services in the event of any such
occurrence. Our servers are vulnerable to computer viruses, break-ins and similar disruptions from
unauthorized tampering with our computer systems. Frequent or persistent disruptions of our
services could cause us to suffer losses that are impossible to quantify at this time such as
claims by customers for indirect or consequential damages, loss of market share and damages to our
reputation. Our business interruption insurance may not compensate us for every kind of loss
resulting from disruptions of our services, and even if the type of loss is covered, the amount
incurred may exceed the loss limitations in our insurance policies. All of our customers data and our servers are located at a single, third party co-location
facility located in San Diego, California, operated by Level 3. Our agreement with Level 3 expires
on May 31, 2005. Level 3 has the right to discontinue our service if, within 30 days of providing
written notice to us, we fail to cure any of the following: (a) our failure to pay any amounts past
due within three business days of written notice; (b) our violation of any laws related to our
service; (c) a material misrepresentation by us related to our service; (d) our filing for
bankruptcy or reorganization, or our failure to discharge any involuntary petition for bankruptcy
within 60 days; or (e) our use of the service that materially exceeds our credit limit, and our
failure to give adequate security for payment of the additional use within one day of receipt of
written notice from Level 3. We depend on access to the Internet through Internet service providers, or ISPs, to operate
our business. If we lose the services of one or more of our ISPs for any reason, we could
experience disruption in our service offerings. The loss of one of our ISPs as the result of
consolidation in the ISP industry could delay us from retaining the services of a replacement ISP
and increase the potential for disruption of our business. Any disruption to our business could
damage our reputation and result in a decrease in our revenue from the loss of current or potential
customers. A rapid expansion of our network and systems could cause us to lose Internet user behavior
measurement information or cause our network or systems to fail. 12




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In the future, we may need to expand our network and systems at a more rapid pace than we have
in the past. We may suddenly require additional bandwidth for which we have not adequately planned.
We may secure an extremely large customer or a group of customers with extraordinary volumes of
information to collect and process that would require significant system resources and our systems
may be unable to process the information. Our network or systems may not be capable of meeting the
demand for increased capacity, or we may incur additional unanticipated expenses to accommodate
such capacity constraints. In addition, we may lose valuable Internet user data or our network may
temporarily shut down if we fail to expand our network to meet future requirements. Any lapse in
our ability to collect Internet user information will decrease the value of our existing data as
well as prevent us from providing the complete data requested by our customers. Any disruption in
our network processing or loss of Internet user data may damage our reputation and result in the
loss of customers. If our security measures are breached and unauthorized access is obtained, our services may be
perceived as not being secure, and customers may hold us liable or reduce their use of our
services. Our services involve the storage and transmission of proprietary information, and security
breaches could expose us to a risk of loss of this information, litigation and possible liability.
If our security measures are breached as a result of third-party action, employee error or
otherwise, and as a result, someone obtains unauthorized access to our data or our customers data,
we could incur liability and our reputation will be damaged. For example, hackers or individuals
who attempt to breach our network security could, if successful, misappropriate proprietary
information or cause interruptions in our services. If we experience any breaches of our network
security or sabotage, we might be required to expend significant capital and resources to protect
against or to alleviate problems. We may not be able to remedy any problems caused by hackers or
saboteurs in a timely manner, or at all. Because techniques used to obtain unauthorized access or
to sabotage systems change frequently and generally are not recognized until launched against a
target, we may be unable to anticipate these techniques or to implement adequate preventative
measures. If an actual or perceived breach of our security occurs, the perception of the
effectiveness of our security measures could be harmed and we could lose current and potential
customers. The success of our business depends in large part on our ability to protect and enforce our
intellectual property rights. We regard the protection of our inventions, patent, copyrights, service marks, trademarks and
trade secrets as important to our future success. We rely on a combination of patent, copyright,
service mark, trademark, and trade secret laws and contractual restrictions to establish and
protect our proprietary rights, all of which only offer limited protection. We endeavor to enter
into agreements with our employees and contractors and agreements with parties with whom we do
business in order to limit access to and disclosure of our proprietary information. Despite our
efforts, the steps we have taken to protect our intellectual property may not prevent the
misappropriation of proprietary rights or the reverse engineering of our technology. Moreover,
others may independently develop technologies that are competitive to ours or infringe our
intellectual property. The enforcement of our intellectual property rights also depends on our
legal actions against such infringers being successful, but we cannot be sure such actions will be
successful, even when our rights have been infringed. Although we do have two U.S. patents, several registered service marks, and pending patent and
service mark applications, we cannot assure you that any future patents or service mark
registrations will be issued with respect to pending or future applications or that any issued
patents or registered service marks will be enforceable or provide adequate protection of our
proprietary rights. Because of the global nature of the Internet, our websites can be viewed worldwide, but we do
not have intellectual property protection in every jurisdiction. Furthermore, effective patent,
trademark, service mark, copyright and trade secret protection may not be available in every
country in which our services are available over the Internet. In addition, the legal standards
relating to the validity, enforceability and scope of protection of intellectual property rights in
Internet-related industries are uncertain and still evolving. If a third party asserts that we are infringing its intellectual property, whether successful or
not, it could subject us to costly and time-consuming litigation or expensive licenses, and our
business may be harmed. The software and Internet industries are characterized by the existence of a large number of
patents, trademarks and copyrights and by frequent litigation based on allegations of infringement
or other violations of intellectual property rights. Third parties may assert patent and other
intellectual property infringement claims against us in the form of lawsuits, letters or other
forms of communication. If a third party successfully asserts a claim that we are infringing their
proprietary rights, royalty or licensing agreements might not be available on terms we find
acceptable or at all. As currently pending patent applications are not publicly available, we
cannot anticipate all such 13




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claims or know with certainty whether our technology infringes the intellectual property
rights of third parties. We expect that the number of infringement claims in our market will
increase as the number of services and competitors in our industry grows. These claims, whether or
not successful, could:  
    divert managements attention;
    result in costly and time-consuming litigation;
    require us to enter into royalty or licensing agreements, which may not be available on
acceptable terms, or at all; or
    require us to redesign our software and services to avoid infringement. As a result, any third-party intellectual property claims against us could increase our
expenses and adversely affect our business. In addition, many of our subscription agreements
require us to indemnify our customers for third-party intellectual property infringement claims,
which would increase the cost to us resulting from an adverse ruling in any such claim. Even if we
have not infringed any third parties intellectual property rights, we cannot be sure our legal
defenses will be successful, and even if we are successful in defending against such claims, our
legal defense could require significant financial resources and managements time. Any failure to adequately expand our direct sales force will impede our growth. We expect to be substantially dependent on our direct sales force to obtain new customers,
particularly large enterprise customers, and to manage our customer relationships. We believe that
there is significant competition for direct sales personnel with the advanced sales skills and
technical knowledge we need. Our ability to achieve significant growth in revenue in the future
will depend, in large part, on our success in recruiting, training and retaining sufficient direct
sales personnel. New hires require significant training and may, in some cases, take more than a
year before they achieve full productivity. Our recent hires and planned hires may not become as
productive as we would like, and we may be unable to hire sufficient numbers of qualified
individuals in the future in the markets where we do business. If we are unable to hire and develop
sufficient numbers of productive sales personnel, sales of our service will suffer. If we fail to develop our brand cost-effectively, our business may suffer. We believe that developing and maintaining awareness of the WebSideStory brand in a
cost-effective manner is critical to achieving widespread acceptance of our current and future
services and is an important element in attracting new customers. Furthermore, we believe that the
importance of brand recognition will increase as competition in our market develops. Successful
promotion of our brand will depend largely on the effectiveness of our marketing efforts and on our
ability to provide reliable and useful services at competitive prices. Brand promotion activities
may not yield increased revenue, and even if they do, any increased revenue may not offset the
expenses we incur in building our brand. If we fail to successfully promote and maintain our brand,
or incur substantial expenses in an unsuccessful attempt to promote and maintain our brand, we may
fail to attract enough new customers or retain our existing customers to the extent necessary to
realize a sufficient return on our brand-building efforts, and our business and results of
operations could suffer. We rely on a relatively new management team and need additional personnel to grow our business. Several of our executive officers are relatively new, and we intend to continue to hire key
management personnel. Our success and future growth depends to a significant degree on the skills
and continued services of Jeffrey W. Lunsford, our president, chief executive officer and chairman,
who we hired in April 2003. We may experience difficulty assimilating our recently hired managers,
and we may not be able to successfully locate, hire, assimilate and retain other qualified key
management personnel. We have employment agreements with our executive officers; however, under these agreements,
our employment relationships with our executive officers are at-will and they can terminate their
employment relationship with us at any time. We do not maintain key person life insurance on any
members of our management team. Our future success also depends on our ability to attract, retain and motivate highly skilled
technical, managerial, marketing and customer service personnel. We plan to hire additional
personnel in all areas of our business, in particular for our sales, marketing and technology
development areas, both domestically and internationally. Competition for these types of personnel
is intense, particularly in the Internet industry. As a result, we may be 14




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unable to successfully attract or retain qualified personnel. Our inability to retain and
attract the necessary personnel could adversely affect our business. We may encounter difficulties managing our growth, which could adversely affect our results of
operations. We will need to expand and effectively manage our organization, operations and facilities in
order to successfully sell our services and maintain our recent profitability. We increased the
number of our full-time employees from 17 as of January 1, 1998 to 135 as of December 31, 2004, and
we expect to continue to grow to meet our strategic objectives. If we continue to grow, it is
possible that our management, systems and facilities currently in place may not be adequate. Our
need to effectively manage our operations and growth requires that we continue to improve our
operational, financial and management controls, reporting systems and procedures. We may not be
able to successfully implement these tasks on a large scale and, accordingly, may not achieve our
strategic objectives. Our business strategy includes expanding our international operations, our business is susceptible
to risks associated with international operations. Our business strategy includes expanding our international operations. We currently maintain a
sales office in the Netherlands and currently have sales personnel or independent sales consultants
in Germany, France, the United Kingdom, Canada, Sweden, Singapore, and Australia. We have limited
experience operating in these foreign jurisdictions and no experience operating in other foreign
markets into which we may expand in the future. Conducting international operations subjects us to
new risks that we have not generally faced in the United States. These include:  
    political, social and economic instability abroad, including the conflicts in the Middle
East, terrorist attacks and security concerns in general;
    localization of our service, including translation into foreign languages and associated expenses;
    fluctuations in currency exchange rates;
    unexpected changes in foreign regulatory requirements;
    longer accounts receivable payment cycles and difficulties in collecting accounts receivable;
    difficulties in managing and staffing international operations;
    potentially adverse tax consequences, including the complexities of foreign value added
tax systems and restrictions on the repatriation of earnings;
    maintaining and servicing computer hardware in distant locations;
    the burdens of complying with a wide variety of foreign laws and different legal standards; and
    reduced or varied protection for intellectual property rights in some countries. The occurrence of any one of these risks could negatively affect our international business
and, consequently, our results of operations generally. In addition, the Internet may not be used
as widely in international markets in which we expand our international operations and, as a
result, we may not be successful in offering our services there. Some of our international subscription fees are currently denominated in U.S. dollars and paid
in local currency. As a result, fluctuations in the value of the U.S. dollar and foreign currencies
may make our services more expensive for international customers, which could harm our business. Changes in financial accounting standards or practices or existing taxation rules or practices may
cause adverse, unexpected financial reporting fluctuations and affect our reported results of
operations. A change in accounting standards or practices or a change in existing taxation rules or
practices can have a significant effect on our reported results and may even affect our reporting
of transactions completed before the change is effective. New accounting pronouncements and
taxation rules and varying interpretations of accounting pronouncements and taxation practice have
occurred and may occur in the future. Changes to existing rules or the questioning of current
practices may adversely affect our reported financial results or the way we conduct our business.
For example, on December 16, 2004, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment, or SFAS No. 15




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123R.
SFAS No. 123R, which is effective for fiscal periods beginning after June 15, 2005, requires that
employee stock-based compensation be measured based on its fair-value on the grant date and treated
as an expense that is reflected in the financial statements over the related service period. While
we are currently evaluating the impact on our consolidated financial statements of the adoption of
SFAS No. 123R, we anticipate that our adoption of SFAS 123R will have a significant impact on our
results of operations for 2005 and subsequent periods. Our net operating loss and tax credit carryforwards may expire unutilized, which could prevent us
from offsetting future taxable income. We believe that a change of control that will cause the limitation of Section 382 of the
Internal Revenue Code of 1986, as amended, occurred in connection with our October 2004 initial
public offering. Furthermore, sales of our convertible redeemable preferred stock in 1999, 2000
and 2001 may be deemed a change of control that could cause the limitation of Section 382 to be
applicable. This limitation would allow us to use only a portion of the net operating loss and tax
credit carryforwards generated prior to the deemed Section 382 change of control to offset future
taxable income, if any, for United States and state income tax purposes. However, based on the
annual limitation available and projected taxable income, it is not expected that the change in
ownership will impact the Companys cash tax payments. As of December 31, 2004, we have federal net
operating loss carryforwards of approximately $12.8 million and state net operating loss
carryforwards of approximately $5.9 million. Federal net operating losses generally carry forward
for 20 years from the year generated. The expiration dates for net operating losses vary among
states. Most of our state net operating losses are in California, and these net operating losses
will begin to expire in 2006. As of December 31, 2004, we have federal research and development tax
credits of $166,000 and California research and development tax credits of $107,000. Federal
research and development tax credits have a 20-year carry forward period and begin to expire in
2016. California research and development tax credits have no expiration. Risks Related to Our Industry Widespread blocking or erasing of cookies or limitations on our ability to use cookies may impede
our ability to collect information with our technology and reduce the value of that data. Our technology currently uses cookies, which are small files of information placed on an
Internet users computer, to collect information about the users visits to the websites of our
customers. Third-party software and our own technology make it easy for users to block or delete
our cookies. Several software programs, sometimes marketed as ad-ware or spyware detectors, block
our cookies by default or prompt users to delete or block our cookies. If a large proportion, such
as a majority, of users delete or block our cookies, this could significantly undermine the value
of the data that we collect for our customers and could negatively impact our ability to deliver
accurate reports to our customers, which would harm our business. Changes in web browsers may also encourage users to block our cookies. Microsoft, for example,
frequently modifies its Internet Explorer web browser. Some modifications by Microsoft could
substantially impair our ability to use cookies for data collection purposes. If that happens and
we are unable to adapt our technology and practices adequately in response to changes in
Microsofts technology, then the value of our services will be substantially impaired.
Additionally, other technologies could be developed that impede the operation of our services.
These developments could prevent us from providing our services to our customers or reduce the
value of our services. In addition, laws regulating the use of cookies by us and our customers could also prevent us
from providing our services to our customers or require us to employ alternative technology. A
European Union Directive currently being implemented by member countries requires us to tell users
about cookies placed on their computers, describe how we and our customers will use the information
collected and offer users the right to refuse a cookie. Although no European country currently
requires consent prior to delivery of a cookie, one or more European countries may do so in the
future. If we were required to obtain consent before delivering a cookie or if the use or
effectiveness of cookies is limited, we would be required to switch to alternative technologies to
collect user profile information, which may not be done on a timely basis, at a reasonable cost, or
at all. Currently, the only alternative to using cookies to identify a browser and its browsing
session is the use of an Internet protocol, or IP, address. The IP address is an identifier that
each computer or other device connected to the Internet has. However, for purposes of web
analytics, IP addresses are not as reliable as cookies, because they are often re-assigned by
Internet service providers. We do not believe that a better alternative to using cookies currently
exists. Creating replacement technology for cookies could require us to expend significant time and
resources. We
may be unable to complete this alternative technology development in time to avoid negative
consequences to our 16




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business, and the replacement methods we develop may not be commercially
feasible. The replacement of cookies might also reduce our existing customer base by requiring
current customers to take specific action to accommodate new technology. Privacy concerns and laws or other domestic or foreign regulations may subject us to litigation or
limit our ability to collect and use Internet user information, resulting in a decrease in the
value of our services and an adverse impact on the sales of our services. We collect, use and distribute information derived from the activities of Internet users.
Federal, state and foreign government bodies and agencies have adopted or are considering adopting
laws regarding the collection, use and disclosure of personal information obtained from consumers.
The costs of compliance with, and the other burdens imposed by, such laws may limit the adoption of
our services. In addition, some companies have been the subject of class-action lawsuits and
governmental investigations based on their collection, use and distribution of Internet user
information without the consent of the Internet users. For example, the Federal Trade Commission,
or FTC, investigates companies compliance with their own stated privacy policies. These
investigations have covered such activities as the sale of personally identifiable information to
third parties and the proposed merger of online anonymous profile information with personally
identifiable information obtained from off-line sources. While we are not aware of any FTC
investigation regarding any practices we currently employ, in the future, the FTC may investigate
the practices we employ. Governmental entities and private persons or entities may assert that our
methods of collecting, using and distributing Internet user information are illegal or improper.
Any such legal action, even if unsuccessful, may distract our managements attention, divert our
resources, negatively affect our public image and harm our business. Both existing and proposed laws regulate and restrict the collection and use of information
over the Internet that personally identifies the Internet user. These laws continue to change and
vary among domestic and foreign jurisdictions, but certain information such as names, addresses,
telephone numbers, credit card numbers and email addresses are widely considered personally
identifying. The scope of information collected over the Internet that is considered personally
identifying may become more expansive, and it is possible that current and future legislation may
apply to information that we currently collect without the explicit consent of Internet users. If
information that we collect and use without consent is considered to be personally identifying, our
ability to collect and use this information will be restricted and we will have to change our
methods. Recently, the legislatures of Utah and California enacted legislation designed to protect
Internet users privacy by prohibiting certain kinds of downloadable software defined as spyware.
Similar legislation has been proposed in several other states and in
the U.S. House of
Representatives. Such legislation, if it includes a broad definition of spyware, could restrict
our information collection methods. Any restriction or change to our information collection methods
would cause us to spend substantial money and time to make such changes and could decrease the
amount and utility of the information that we collect. In addition, domestic and foreign governments are considering restricting the collection and
use of Internet usage data. Some privacy advocates argue that even anonymous data, individually or
when aggregated, may reveal too much information about Internet users. If governmental authorities
were to follow privacy advocates recommendations and enact laws that limit our online profiling
practices, we would likely have to obtain the express consent, or opt-in, of an Internet user
before we could collect, share, or use any of that users information. It might not be possible to
comply with all domestic and foreign governmental restrictions simultaneously. Any change to an
opt-in system of profiling would damage our ability to aggregate and utilize the information we
currently collect from Internet users and would reduce the amount and value of the information that
we provide to customers. A reduction in the value of our information might cause some existing
customers to discontinue their use of our services or discourage potential customers from
subscribing to our services, which would reduce our revenue. We would also need to expend
considerable effort and resources, both human and financial, to develop new information collection
procedures to comply with an opt-in requirement. Even if we succeeded in developing new procedures,
we might be unable to convince Internet users to agree to our collection and use of their
information. This would negatively impact our revenue, growth and potential for expanding our
business and could cause our stock price to decline. The success of our business depends on the continued growth of the Internet as a business tool and
the growth of the web analytics market. Expansion in the sales of our service depends on the continued acceptance of the Internet as a
communications and commerce platform for enterprises. The use of the Internet as a business tool
could be adversely impacted by 17




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delays in the development or adoption of new standards and protocols to handle increased
demands of Internet activity, security, reliability, cost, ease-of-use, accessibility and
quality-of-service. The performance of the Internet and its acceptance as a business tool has been
harmed by viruses, worms, and similar malicious programs, and the Internet has experienced a
variety of outages and other delays as a result of damage to portions of its infrastructure. If for
any reason the Internet does not remain a widespread communications medium and commercial platform
and business processes do not continue to move online, the demand for our service would be
significantly reduced, which would harm our business. In addition, the market for Internet user measurement and analysis services is new and rapidly
evolving. In particular, the market for outsourced, on-demand information services such as ours is
relatively new and evolving. We will not be able to sell our services or grow our business if the
market for Internet user measurement and analysis services does not grow or is not outsourced, or
if on-demand services are not widely adopted. Risks Related to the Securities Market and the Ownership of Our Common Stock Our stock price may be volatile and you may not be able to sell your shares at an attractive price. Our common stock was not publicly traded prior to our initial public offering, which was
completed in October 2004, and an active trading market may not develop or be sustained. We have
not paid cash dividends since our inception and do not intend to pay cash dividends in the
foreseeable future. Therefore, investors will have to rely on appreciation in our stock price and a
liquid trading market in order to achieve a gain on their investment. The market prices for
securities of technology companies in general have been highly volatile and may continue to be
highly volatile in the future. The trading price of our common stock may fluctuate substantially as
a result of one or more of the following factors:  
    variations in our operating results;
    announcements of technological innovations, new services or service enhancements or
significant agreements by us or by our competitors;
    recruitment or departure of key personnel;
    changes in the estimates of our operating results or changes in recommendations by any
securities analysts that elect to follow our common stock;
    sales of our common stock, including sales by officers, directors and funds affiliated with them;
    fluctuations in stock market prices and trading volumes of similar companies or of the markets generally;
    market conditions in our industry, the industries of our customers and the economy as a whole; or
    economic and political factors, including wars, terrorism and political unrest. We might require additional capital to support business growth, and this capital might not be
available on acceptable terms, or at all. We intend to continue to make investments to support our business growth and may require
additional funds to respond to business challenges, including the need to develop new services or
enhance our existing service, enhance our operating infrastructure and acquire competing or
complementary businesses and technologies. Accordingly, we may need to engage in equity or debt
financings to secure additional funds. If we raise additional funds through further issuances of
equity or convertible debt securities, our existing stockholders could suffer significant dilution,
and any new equity securities we issue could have rights, preferences and privileges superior to
those of holders of our common stock. Any debt financing secured by us in the future could involve
restrictive covenants relating to our capital raising activities and other financial and
operational matters, which may make it more difficult for us to obtain additional capital and to
pursue business opportunities, including potential acquisitions. In addition, we may not be able to
obtain additional financing on terms favorable to us, if at all. If we are unable to obtain
adequate financing or financing on terms satisfactory to us, when we require it, our ability to
continue to support our business growth and to respond to business challenges could be
significantly limited. There may be an adverse effect on the market price of our stock as a result of shares being
available for sale in the future. The holders of approximately 9.8 million shares of our common stock agreed with the
underwriters of our initial public offering to be bound by a lock-up agreement that prohibits them
from selling or transferring their stock prior to March 27, 2005, other than in specific
circumstances. Under certain circumstances, the lock-up agreement may be 18




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extended up to 18 additional days. However, Friedman, Billings, Ramsey & Co., Inc. and RBC
Capital Markets Corporation, on behalf of the underwriters, at their discretion can waive the
restrictions of the lock-up agreement at an earlier time without prior notice or announcement and
allow our stockholders to sell their shares of our common stock in the public market. Upon
expiration of the lock-up period or if the restrictions of the lock-up agreement are waived, shares
of our common stock will be available for sale into the market, subject only to applicable
securities rules and regulations, which may cause our stock price to decline. Sales by our current stockholders of a substantial number of shares could significantly reduce
the market price of our common stock. Moreover, the holders of a substantial number of shares of
common stock will have rights, subject to some conditions, to require us to file registration
statements covering their shares or to include their shares in registration statements that we may
file ourselves or for other stockholders. We also registered the shares of our common stock that
are subject to outstanding stock options or reserved for issuance under our stock option plans.
These shares can be freely sold in the public market upon issuance, subject to the limitations of
our lock-up agreements. If any of our stockholders cause a large number of securities to be sold in the public market,
the sales could reduce the trading price of our common stock. These sales also could impede our
ability to raise future capital. Our executive officers and directors have control over our affairs. As of December 31, 2004 our executive officers and directors and entities affiliated with them
beneficially own, in the aggregate, approximately 51.1% of our common stock. As a group they will
be able to control our business. These stockholders will have the ability to exert substantial
influence over all matters requiring approval by our stockholders, including the election and
removal of directors and any merger, consolidation or sale of all or substantially all of our
assets. This concentration of ownership could have the effect of delaying, deferring or preventing
a change of control or impeding a merger or consolidation, takeover or other business combination. Provisions in our amended and restated certificate of incorporation and bylaws or under Delaware
law might discourage, delay or prevent a change of control of our company or changes in our
management and, therefore, depress the trading price of our common stock. Our amended and restated certificate of incorporation and bylaws contain provisions that could
depress the trading price of our common stock by acting to discourage, delay or prevent a change of
control of our company or changes in our management that the stockholders of our company may deem
advantageous. These provisions:  
    establish a classified board of directors so that not all members of our board are
elected at one time;
    provide that directors may only be removed for cause and only with the approval of 66
2/3% of our stockholders;
    require super-majority voting to amend some provisions in our amended and restated
certificate of incorporation and bylaws;
    authorize the issuance of blank check preferred stock that our board of directors
could issue to increase the number of outstanding shares to discourage a takeover attempt;
    prohibit stockholder action by written consent, which requires all stockholder actions
to be taken at a meeting of our stockholders;
    provide that the board of directors is expressly authorized to make, alter or repeal our
bylaws; and
    establish advance notice requirements for nominations for elections to our board or for
proposing matters that can be acted upon by stockholders at stockholder meetings. Additionally, we are subject to Section 203 of the Delaware General Corporation Law, which
generally prohibits a Delaware corporation from engaging in any of a broad range of business
combinations with any interested stockholder for a period of three years following the date on
which the stockholder became an interested stockholder and which may discourage, delay or prevent
a change of control of our company. We will incur increased costs as a result of being a public company. As a public company, we will incur significant legal, accounting and other expenses that we
did not incur as a private company. In addition, the Sarbanes-Oxley Act of 2002, as well as new
rules implemented by the Securities and Exchange Commission and the Nasdaq National Market,
requires changes in corporate governance practices of public companies. We expect these new rules
and regulations to significantly increase our legal and financial 19




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compliance costs and to make some activities more time-consuming and costly. We will also
incur additional costs associated with our public company reporting requirements. We also expect
these new rules and regulations to make it more difficult and more expensive for us to obtain
director and officer liability insurance, and we may be required to accept reduced policy limits
and coverage or incur substantially higher costs to obtain the same or similar coverage. As a
result, it may be more difficult for us to attract and retain qualified people to serve on our
board of directors or as executive officers. We are currently evaluating and monitoring
developments with respect to these new rules, and we cannot predict or estimate the amount of
additional costs we may incur or the timing of such costs. 
 Item 2. Properties. We currently lease approximately 61,000 square feet of office space located at 10182 Telesis
Court, 6th Floor, San Diego, California under a lease that expires in January 2007, of which we
currently occupy approximately 34,000 square feet. The rent for this facility is approximately
$1,230,000 per year. We sublease the unused space to RF Magic, Inc. and Avexus, Inc. under two
separate subleases, both of which expire in January 2007. We also lease approximately 1,000 square feet of office space in the Netherlands, under a
lease that expires in June 2006. The rent for this facility is approximately $80,000 per year. We
believe that our facilities are adequate for our current operations. 
 Item 3. Legal Proceedings. From time to time, we are subject to various legal proceedings in the ordinary course of our
business. We investigate these claims as they arise. 
 Item 4. Submission of Matters to a Vote of Security Holders. No matter was submitted to a vote of our security holders during the fourth quarter of 2004. 
 PART II 
 Item 5. Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities. Market Information Since September 28, 2004, our common stock has been listed on the Nasdaq National Market under
the symbol WSSI. Prior to such time, there was no public market for our common stock. The
following table sets forth, for the periods indicated, the high and low closing sale prices of our
common stock as reported by Nasdaq, without retail mark-up, mark-down or commissions and may not
necessarily represent actual transactions. High
    
    
    LowFiscal Year Ended December 31, 2004Third Quarter (from September 28, 2004)
    
    $
    9.25
    
    
    $
    9.04Fourth Quarter
    
    $
    14.01
    
    
    $
    9.50
 As
of March 24, 2005, there were approximately
56 holders of record of our common stock.
This figure does not reflect persons or entities that hold their stock in nominee or street name
through various brokerage firms. Dividend Policy We have never declared or paid any cash dividends on our common stock. We currently intend to
retain any future earnings to finance the growth and development of our business and therefore do
not anticipate paying any cash dividends in the foreseeable future. Any future determination to pay
cash dividends will be at the discretion of the board of directors and will be dependent upon our
financial condition, results of operations, capital requirements, general business condition and
other factors that our board of directors may deem relevant. Recent Sales of Unregistered Securities During fiscal 2004, we issued and sold the following unregistered securities: 20




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
    Between January 1, 2004 and September 28, 2004, we granted options to purchase shares of
common stock to employees and directors under our stock option plans at exercise prices
ranging from $0.84 to $10.50. Of the options granted, 895,490 remain outstanding, no shares
of common stock have been purchased pursuant to exercises of stock options and none
have been cancelled and returned to the stock option plan pool as of September 28, 2004.
These offers, sales and issuances of options and common stock were deemed to be exempt from
registration under the Securities Act in reliance on Rule 701 in that the transactions were
under compensatory benefit plans and contracts relating to compensation as provided under
such rule. The recipients of such options and common stock were our employees or directors
and received the securities under our equity incentive plans. Appropriate legends were
affixed to the share certificates issued in such transactions. Each of these recipients had
adequate access, through employment or other relationships, to information about us. The sale of these securities was made without general solicitation or advertising. No
underwriters were involved in connection with the sale of securities referred to above. Use of Proceeds from Sales of Registered Securities Our initial public offering of common stock was effected through a Registration Statement on
Form S-1 (File Nos. 333-119516 and 333-119322) that was declared effective by the Securities and
Exchange Commission on September 27, 2004. On October 1, 2004, 5,000,000 shares of common stock
were sold on our behalf at an initial public offering price of $8.50 per share for an aggregate
offering price of $42.5 million. On October 26, 2004, in connection with the full exercise of the
underwriters over-allotment option, 750,000 additional shares of common stock were sold on behalf
of certain of our stockholders at the initial public offering price of $8.50 per share for an
aggregate offering price of approximately $6.4 million. We did not receive any proceeds from the
sale of these additional shares. We paid to the underwriters underwriting discounts and commissions totaling approximately $3.0
million in connection with the offering. In addition, we incurred additional expenses of
approximately $1.4 million in connection with the offering, which when added to the underwriting
discounts and commissions paid by us, amounts to total estimated expenses of approximately $4.4
million. Thus, the net offering proceeds to us, after deducting underwriting discounts and
commissions and estimated offering expenses, were approximately $38.1 million. No offering expenses
were paid directly or indirectly to any of our directors or officers (or their associates) or
persons owning ten percent or more of any class of our equity securities or to any other
affiliates. As of December 31, 2004, we had used $16.75 million of the net proceeds from our initial
public offering to redeem all of the outstanding shares of our redeemable preferred stock. We
expect to use the remainder of the proceeds from our initial public offering to fund other working
capital and general corporate purposes, to expand our service offerings or technologies and for the
possible acquisition of, and investment in, competing or complementary businesses (including the
acquisition of Avivo Corporation), services or technologies. The complementary businesses, services
and technologies that we may invest in or acquire include automated management of promotional
campaigns on search engines, online marketing surveys, email marketing, website search tools,
affiliate marketing networks, call center analytics, content management, and other web-based,
on-demand services that our customers might want from us. Except for the anticipated acquisition of
Avivo Corporation, we are not currently a party to any agreements or commitments and we have no
current understandings with respect to any acquisitions. We cannot specify with certainty all of the particular uses for the net proceeds from our
initial public offering. The amounts we actually expend for these purposes may vary significantly
and will depend on a number of factors including the growth of our revenue, the type of efforts we
make to refine our core technology and enhance our services and competitive developments.
Accordingly, our management will retain broad discretion in the allocation of the net proceeds.
Pending their use, the net proceeds will be invested in short-term, interest-bearing,
investment-grade securities. 
 Item 6. Selected Consolidated Financial Data. The condensed consolidated financial and operating data set forth below should be read in
conjunction with Managements Discussion and Analysis of Financial Condition and Results of
Operations and our consolidated financial statements and related notes included elsewhere in this
Annual Report on Form 10-K. 21




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The Condensed Consolidated Statement of Operations Data for the years ended December 31, 2002,
2003, and 2004 and the Condensed Consolidated Balance Sheet Data as of December 31, 2003 and 2004
are derived from the audited consolidated financial statements that are included elsewhere in this
annual.The Condensed Consolidated Statement of Operations Data for the years ended December 31,
2000,and 2001 and the Condensed Consolidated Balance Sheet data as of December 31, 2000, 2001 and
2002 are derived from the audited financial statements that are not included in this annual report. Condensed Consolidated Statement of Operations Data (in thousands, except share and per share data) Year Ended December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004Revenues
    
    $
    14,251
    
    
    $
    14,447
    
    
    $
    13,570
    
    
    $
    16,360
    
    
    $
    22,602Income (loss) from operations
    
    
    (20,695
    )
    
    
    (4,794
    )
    
    
    (2,640
    )
    
    
    (2,424
    )
    
    
    1,598Net income (loss)
    
    
    (21,264
    )
    
    
    (4,797
    )
    
    
    (2,542
    )
    
    
    (1,867
    )
    
    
    1,758Net loss attributable to common stockholders
    
    
    (24,953
    )
    
    
    (6,451
    )
    
    
    (3,909
    )
    
    
    (3,433
    )
    
    
    (957
    )Net loss per share attributable to common
stockholders  basic and diluted
    
    $
    (7.88
    )
    
    $
    (1.70
    )
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.13
    )Weighted-average shares used in computing
per share amount  basic and diluted
    
    
    3,166,127
    
    
    
    3,784,319
    
    
    
    3,806,550
    
    
    
    4,001,979
    
    
    
    7,300,809
 Condensed Consolidated Balance Sheet Data (in thousands) As of December 31,2000
    
    
    2001
    
    
    2002
    
    
    2003
    
    
    2004Cash, cash equivalents and short-term marketable securities
    
    $
    5,355
    
    
    $
    4,704
    
    
    $
    4,563
    
    
    $
    5,690
    
    
    $
    22,033Working capital
    
    
    5,327
    
    
    
    4,210
    
    
    
    2,902
    
    
    
    2,755
    
    
    
    17,772Total assets
    
    
    12,743
    
    
    
    9,581
    
    
    
    8,605
    
    
    
    9,850
    
    
    
    37,472Redeemable preferred stock
    
    
    10,000
    
    
    
    11,181
    
    
    
    12,519
    
    
    
    14,056
    
    
    
    Convertible redeemable preferred stock
    
    
    29,357
    
    
    
    31,266
    
    
    
    30,008
    
    
    
    28,837
    
    
    
    Accumulated deficit
    
    
    (46,766
    )
    
    
    (51,563
    )
    
    
    (54,105
    )
    
    
    (55,972
    )
    
    
    (54,214
    )Total liabilities stockholders equity (deficit)
    
    $
    (32,623
    )
    
    $
    (36,175
    )
    
    $
    (38,420
    )
    
    $
    (39,115
    )
    
    $
    28,199
 
 Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations. The following discussion contains forward-looking statements, which involve risks and
uncertainties. Our actual results could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including those set forth above under
Business  Risk Factors. The financial statements and this Managements Discussion and Analysis
of Financial Condition and Results of Operations should be read in conjunction with the financial
statements and notes thereto for the year ended December 31, 2004, which are contained in this
annual report. Overview We are a leading provider of on-demand web analytics services. Our services collect data from
web browsers, process that data and deliver reports of online behavior to our customers on demand.
Customers use our services to better understand how Internet users respond to website design and
content, online marketing campaigns and e-commerce offerings. We deliver our services over the
Internet using a secure, proprietary, scalable application and system architecture, which allows us
to concurrently serve a large number of customers and to efficiently distribute the workload across
our network of servers. Although we commenced operations in September 1996, we did not begin selling our technology
services for a fee until August 1999. Prior to that, we provided a basic Internet user behavior
information and analysis service solely in exchange for online advertising space that we used or
sold. Our revenues from advertising have been steadily declining due to a strategic decision that
we made in 2001 to discontinue offering our web analytics service 22




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in exchange for
advertising revenue in favor of selling subscriptions to an enterprise-class service. As a result,
our revenues from advertising decreased from $8.4 million in 2000 to $126,000 in 2004. We
introduced the predecessor of our HBX web analytics services in late 1999 and have significantly
increased our subscription services revenues since that time. Our revenues from the sale of our
subscription services have grown from $5.8 million in 2000 to $22.5 million in 2004. We currently sell our services primarily through our direct sales force to a wide range of
organizations in many industries. As of December 31, 2004, our customer base included more than 650
HBX customers, an increase from approximately 180 customers as of December 31, 2001. Walt Disney
Internet Group accounted for 17% and 14% of our total revenue in the year ended December 31, 2002
and 2003, respectively. None of our customers accounted for more than 10% of our total revenue in
the years ended December 31, 2002, 2003 or 2004. We believe that there are growth opportunities for our HBX services in foreign markets. In the
years ended December 31, 2002, 2003 and 2004, we generated approximately 8%, 11% and 16% of
revenues, respectively, from customers in Europe. We anticipate that the percentage of revenues
from international operations will remain consistent or grow as we increase our direct sales force
and build brand awareness in foreign markets. We are currently investing in features such as
foreign language versions of our HBX service to facilitate use in certain foreign markets. Although
we have not entered into any agreement or understanding for an international acquisition, we have
evaluated international acquisition opportunities in the past and will continue to do so in the
future. We entered into an agreement and plan of merger agreement with Avivo Corporation, a California
corporation on February 8, 2005. Pursuant to this agreement, we anticipate issuing shares of our
common stock, options to purchase shares of our common stock and
paying cash to Avivo shareholders in
exchange for all of the outstanding shares of common stock and options held by Avivo shareholders.
Please see Note 12 to the Consolidated Financial Statements included elsewhere in this report for
further details regarding our proposed acquisition of Avivo Corporation. Sources of Revenues We currently derive substantially all of our revenues from fees associated with our
subscription services. The majority of these revenues are generated from our HBX services. These
services are provided by subscription to customers for a fee that is based on the number of
websites, page views and transactions monitored by our services. The terms of our subscription
agreements are generally one to three years. Our HBX subscription agreements also typically include
professional services, such as consulting, education and implementation services and training. In
addition, we generate revenues from subscriptions to our HitBox Professional service, which is
focused on providing web analytics to small and medium size businesses. While we have discontinued offering our services in exchange for advertising revenue, we
continue to generate minimal advertising revenues from related pre-existing arrangements. We
anticipate advertising revenues from our legacy free web analytics service will continue to
decline. In future periods we anticipate consolidated revenue from advertising to increase in
connection with our anticipated acquisition of Avivo Corporation. Please see Note 12 to the
Consolidated Financial Statements included elsewhere in this report for further details regarding
our proposed acquisition of Avivo Corporation. Cost of Revenues and Operating Expenses Cost of Revenues Cost of revenues primarily consists of expenses related to running our network infrastructure
(including Internet connectivity, co-location and data storage), customer training, depreciation
associated with computer equipment, web application development activities, salaries and related
expenses for network personnel, allocated overhead and amortization associated with capitalized
software. We allocate overhead such as rent and occupancy charges, employee benefit costs and
non-network related depreciation expense to all departments based on headcount. As a result,
general overhead expenses are reflected in our cost of revenues and each operating expense
category. In 2002, we moved our data center to a third party co-location facility, which contributed to
a decline in our cost of revenues for providing our services. In 2003 and 2004, we also experienced
lower Internet connectivity costs and depreciation, resulting from declining market prices for the
cost of Internet connectivity and network-related equipment. As our customer base grows, we expect
to continue to invest resources in our application infrastructure and to achieve certain economies
of scale related to our application infrastructure. 23




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##### Table of Contents



Sales and Marketing Expenses Sales and marketing expenses represent our largest operating expense category and consist
primarily of salaries and related expenses for our sales and marketing staff. Sales and marketing
expenses include commissions, travel and entertainment, marketing programs (including advertising,
events, corporate communications and other brand-building and product-marketing expenses) and
allocated overhead. We plan to increase our number of direct sales and marketing personnel to
expand our domestic and international sales and marketing activities. We also plan to sponsor
additional marketing events and programs to build brand awareness. We expect that sales and
marketing expenses will continue to increase as we hire additional sales and marketing personnel
and increase our marketing activities. Research and Development Expenses Research and development expenses consist primarily of salaries and related expenses for our
software engineers and product development and quality assurance personnel, as well as other costs
related to the development and enhancement of existing services and allocated overhead. We have
historically focused our research and development efforts on enhancing our core technology, as well
as improving the usability and accessibility of information within our web analytics subscription
services. We expect that research and development expenses will increase as we further enhance our
core technology and services and develop technologies for new service offerings. General and Administrative Expenses General and administrative expenses consist of salaries and related expenses for executive,
finance and accounting, legal, human resources and management information systems personnel,
professional fees, other corporate expenses and allocated overhead. We expect that general and
administrative expenses will increase as we continue to add personnel as we expand our business and
incur additional expenses to meet compliance requirements associated with operating as a public
company. Stock-Based Compensation Expenses Stock-based compensation expenses result from options and warrants issued to employees and
directors in situations where there is an excess of the fair value of our common stock at the date
of grant over the amount an employee or director must pay to acquire the stock. These expenses have
been significant and are reflected in our condensed consolidated financial results. We are
currently evaluating the impact on our consolidated financial statements with the adoption of SFAS
No. 123R and our future results will differ following adoption of this new standard. Critical Accounting Policies and Estimates Managements Discussion and Analysis of 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 of America. The preparation of our
consolidated financial statements requires us to make estimates and judgments that affect the
reported amounts of assets, liabilities, and expense and related disclosures. On an on-going basis,
estimates are evaluated, including those related to bad debts, depreciation and life of developed
software, fixed assets and impairment of long lived assets. These estimates are based 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 judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources. Actual results may
differ from these estimates. Critical accounting policies are those that, in managements view, are most important in the
portrayal of our financial condition and results of operations and include allowance for doubtful
accounts and accounting for stock-based compensation. Our critical accounting policies are
disclosed in the footnotes to the consolidated financial statements. Those critical accounting
policies that require significant judgments and estimates are: Allowance for Doubtful Accounts We maintain an allowance for doubtful accounts for estimated losses resulting from customers
inability to pay us. We calculate this provision based on our historical experience and for
specific customers that, in our opinion, are likely to default on our receivables from them. In
order to identify these customers, we perform ongoing reviews of all customers that have breached
their payment terms, as well as those that have filed for bankruptcy or for whom information has
become available indicating a significant risk of non-recoverability. In addition, we have
experienced significant growth in customers; therefore, we have less payment history to rely on
with these 24




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##### Table of Contents



customers. We rely on historical trends of bad debt as a percentage of total revenue and apply
these percentages to the accounts receivable associated with new customers and evaluate these
customers over time. To the extent our future collections experience differs from our assumptions
based on historical trends and our past experience, the amount of our bad debt and allowance
recorded may be different. Accounting for Stock-Based Compensation We measure compensation expenses for our employee and director stock-based compensation plans
using the intrinsic value method. Accordingly, compensation expense for stock options is measured
as the excess, if any, of the fair value of our common stock at the date of grant over the amount
an employee must pay to acquire the stock. Stock-based compensation is amortized over the related
vesting periods using an accelerated method. Prior to our initial public offering on October 1,
2004, we considered internal and external factors to assist in our determination of the fair value
of our common stock. Internal factors include the success of our sales efforts, customer retention
and overall profitability. External factors consist of market conditions and comparable public
companies. In addition to considering the factors described above, in connection with preparing our
2003 financial statements we obtained an independent valuation as of April 1, 2003 to assist us in
setting the fair value of our common stock to determine the amount of stock-based compensation
expenses to be recorded at specific grant dates; however, we are responsible for all fair values
used in preparing our consolidated financial statements. We made assumptions and estimates in the
preparation of our valuation, including assumptions and estimates related to projected cash flows,
discount rates, comparable market value multiples, the value of preferences associated with our
preferred stock, the effect that those preferences have on the value of our common stock, and the
likelihood at various points in time of certain transactions taking place such as a public
offering, sale of our company, raising additional private financing or liquidation. If we had made
different estimates and assumptions our conclusions and the related stock-based compensation
recorded may have been different. As of December 31, 2004, we had an aggregate of $779,000 of unearned stock-based compensation
expenses remaining to be amortized in future periods. We currently expect substantial unearned
stock-based compensation expenses in future periods. We anticipate that our adoption of SFAS No.
123R will have a significant impact on our results of operations for 2005 and future periods. Results of Operations The following table presents our selected consolidated statements of operations data as a
percent of our total revenues for the periods indicated: Year EndedDecember 31,2002
    
    
    2003
    
    
    2004Revenues:Subscription
    
    
    89
    %
    
    
    96
    %
    
    
    99
    %Advertising
    
    
    11
    
    
    
    4
    
    
    
    1Total revenues
    
    
    100
    
    
    
    100
    
    
    
    100Cost of revenues:Cost of revenues
    
    
    28
    
    
    
    20
    
    
    
    15Stock-based compensation expenses
    
    
    
    
    
    
    
    
    
    
    Total cost of revenues
    
    
    28
    
    
    
    20
    
    
    
    15Gross profit
    
    
    72
    
    
    
    80
    
    
    
    85Operating expenses:Sales and marketing
    
    
    46
    
    
    
    45
    
    
    
    43Research and development
    
    
    23
    
    
    
    21
    
    
    
    17General and administrative
    
    
    20
    
    
    
    21
    
    
    
    14IPO expenses
    
    
    
    
    
    
    
    
    
    
    Stock-based compensation expenses(1)
    
    
    2
    
    
    
    8
    
    
    
    4Total operating expenses
    
    
    91
    
    
    
    95
    
    
    
    78Income (loss) from operations
    
    
    (19
    )
    
    
    (15
    )
    
    
    7Interest expense
    
    
    
    
    
    
    
    
    
    
    Interest income
    
    
    
    
    
    
    
    
    
    
    1Other income
    
    
    1
    
    
    
    3
    
    
    
    0Net income (loss) before provision for (benefit from) income taxes
    
    
    (18
    )
    
    
    (12
    )
    
    
    8Provision for (benefit from) income taxes
    
    
    
    
    
    
    
    
    
    
    Net income (loss)
    
    
    (18
    )%
    
    
    (12
    )%
    
    
    8
    %
 25




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##### Table of Contents



Year EndedDecember 31,(1) Stock-based compensation expenses:
    
    2002
    
    
    2003
    
    
    2004Sales and marketing
    
    
    1
    %
    
    
    2
    %
    
    
    1
    %Research and development
    
    
    1
    
    
    
    
    
    
    
    General and administrative
    
    
    
    
    
    
    6
    
    
    
    22
    %
    
    
    8
    %
    
    
    3
    %
 Years Ended December 31, 2003 and 2004 Revenues Total revenues increased 38% from $16.4 million for the year ended December 31, 2003 to $22.6
million for the year ended December 31, 2004. Subscription Revenues.Subscription revenues increased 43% from $15.7 million, or 96% of
total revenues, for year ended December 31, 2003 to $22.5 million, or 99% of total revenues for the
year ended December, 31 2004. The increase in subscription revenues over the previous year was
primarily the result of increasing the number of new customers for our services, which resulted
from our decision to increase the number of direct sales personnel. A renewed focus on customer
service that resulted in lower customer attrition, higher retention rates and increased use of our
services by existing customers also contributed to the increase in subscription revenues. Deferred
revenues increased 64% from $3.9 million for the year ended December 31, 2003 to $6.4 million for
the year ended December 31, 2004. Deferred revenues reflect invoices rendered or cash received on
subscription agreements for which revenues have not yet been recognized. Advertising Revenues.Advertising revenues declined from $682,000, or 4% of total revenues,
for the year ended December 31, 2003, to $126,000, or 1% of total revenues, for the year ended
December 31, 2004. This decrease was due to our decision to stop providing our free web analytics
service that generated advertising revenues. We anticipate advertising revenues from our legacy
free web analytics service will continue to decline, however, in future periods we anticipate
consolidated revenue from advertising will increase in the event we complete our anticipated
acquisition of Avivo Corporation. Cost of Revenues and Operating Expenses Cost of Revenues.Cost of revenues increased 3% from $3.2 million, or 20% of total revenues,
for the year ended December 31, 2003 to $3.3 million, or 15% of total revenues, for the year ended
December 31, 2004. This increase primarily resulted from the addition of personnel in our
professional services group, who provide advanced training and optimization services for HBX
customers. Our professional services cost increased from $261,000 in 2003 to $655,000 in 2004.
Our cost of revenues, as a percentage of revenues, has declined, as we have been successful in
reducing the costs of running our data center. Some of these costs include bandwidth, which
declined $85,000, data center rent, which declined $130,000 and depreciation, which declined
$207,000 resulting from the lower market price of servers and increased server capacity. We expect
cost of revenues to increase in absolute dollars but decrease as a percentage of revenues in future
periods as a result of the scalability and efficiency of our application infrastructure. Sales and Marketing Expenses.Sales and marketing expenses increased 31% from $7.4 million,
or 45% of total revenues, for the year ended December 31, 2003 to $9.7 million, or 43% of total
revenues, for the year ended December 31, 2004. This was primarily attributable to salaries for
additional sales and marketing personnel and increased sales commissions related to increased
revenues and customers. Salaries and wages increased $702,000, travel and entertainment increased
$384,000 and bonus and commissions increased $515,000. Sales and marketing expenses as a
percentage of total revenues declined primarily due to increased productivity of sales personnel.
Since we plan to hire additional sales personnel in future periods, we expect our sales and
marketing personnel and related costs to increase in absolute dollars but decrease as a percentage
of revenues in future periods as a result of the recurring nature of our revenues and lower cost of
renewal as compared to initial acquisition cost of a customer. Research and Development Expenses.Research and development expenses increased 12% from $3.4
million, or 21% of total revenues, for the year ended December 31, 2003 to $3.8 million, or 17% of
total revenues, for the year ended December 31, 2004. This increase was primarily a result of
increased salary expense of $201,000 and other costs associated with the development of our HBX
service. We expect that research and development expenses will increase in absolute dollars as we
upgrade and extend our service offerings and develop new technologies and 26




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services, but decrease as a percentage of revenues in future periods as a result of the
scalability and efficiency of our application infrastructure. General and Administrative Expenses.General and administrative expenses decreased 3% from
$3.4 million, or 21% of total revenues, for the year ended December 31, 2003 to $3.3 million, or
14% of total revenues, for the year ended December 31, 2004. The decrease was primarily
attributable to a severance payment of $375,000 related to the departure of our former chief
executive officer and a one-time signing bonus of $100,000 related to the hiring of our new chief
executive officer paid in 2003. A reduction in our bad debt expense was partially associated with
the release of $77,000 of the valuation allowance placed on customer receivables that were
subsequently collected during the fourth quarter of 2004. Our recurring general and administrative
cost increased during 2004, the result of the addition of costs associated with our operation as a
public company, which included adding a chief financial officer, added costs for directors
and officers insurance, and added accounting and legal fees. We expect general and
administrative expenses to increase as we add personnel to support the anticipated growth of our
business and incur additional costs related to operating as a public company. These costs are
expected to include additional accounting, legal, insurance and consulting fees. Stock-Based Compensation Expenses Stock-based compensation expenses decreased by 35% from $1.3 million, or 8% of total revenues,
for the year ended December 31, 2003 to $867,000, or 4% of total revenues, for the year ended
December 31, 2004. Stock-based compensation expenses for the year ended December 31, 2004 included
$522,000 associated with a warrant and restricted stock grants to our chief executive officer and
our general counsel. In comparison, stock-based compensation expenses for the year ended December
31, 2003 included $1.0 million for the warrant and restricted stock grants to our chief executive
officer and general counsel and $132,000 associated with a modification of a stock option of our
former chief executive officer that required us to record stock-based compensation expense for the
difference between the exercise price and the fair value of the stock at the time the former chief
executive officers option was amended. The option was amended to extend the amount of time that
the former chief executive officer was allowed to exercise the option following his departure from
the company. Other Income, Net Other income, net, decreased from $526,000 for the year ended December 31, 2003 to $206,000
for the year ended December 31, 2004. This decrease was primarily attributable to the payment of a
one-time license fee in 2003 that was recorded in other income, which resulted in $526,000 in other
income being recorded in the fourth quarter of 2003. Other income for the year ended December 31,
2003 and 2004 included net interest income of $37,000 and $206,000, respectively. The increase in
net interest income in 2004 was due to the repayment of our borrowings on a line of credit in July
2003 and the interest earned on our cash balances, which increased substantially after the
completion of our initial public offering at the beginning of October 2004. Provision for (Benefit from) Income Taxes The provision for income taxes of $46,000 for the year ended December 31, 2004 primarily
related to current taxes associated with our foreign operations, alternative minimum tax associated
with our United States operations offset by a benefit resulting from the establishment of our
foreign deferred assets. At December 31, 2004, we had federal net operating loss carryforwards of
approximately $12.8 million and state net operating loss carryforwards of approximately $5.9
million. The federal net operating loss carryforwards begin to expire in 2019 and state operating
loss carryforwards begin to expire in 2006, if not realized. A change in control occurred in
connection with our October 2004 initial public offering under the provisions of Section 382 of the
Internal Revenue Code, which will limit the amount of net operating loss carryforwards that can be
used annually in the future to offset taxable income. However, based on the annual limitation
available and projected taxable income, it is not expected that the change in ownership will impact
the Companys cash tax payments. Additionally, at December 31, 2004, we had federal and California
research and development tax credits of $166,000 and $107,000, respectively. The expiration period
for the federal research and development tax credits will begin in 2016. California research and
development tax credits have no expiration. We currently have a full valuation allowance placed on
our deferred tax assets due to our relatively short history of profitability. This valuation
allowance will be evaluated each reporting period to determine these deferred tax assets are more
likely then not to be utilized in the near future. Years Ended December 31, 2002 and 2003 27




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Revenues Total revenues increased 21% from $13.6 million for 2002 to $16.4 million for 2003. Subscription Revenues.Subscription revenues increased 29% from $12.1 million, or 89% of
total revenues, for 2002 to $15.7 million, or 96% of total revenues, for 2003. The increase was
primarily due to growth in our HBX subscriber base to approximately 450 customers as of December
31, 2003 from approximately 300 customers as of December 31, 2002. This represented a net increase
in HBX customers of 50%. We also expanded our international sales in Europe, increasing our
revenues in Europe by 56% during 2003. Deferred revenues increased 85% from $2.1 million for 2002
to $3.9 million for 2003. Advertising Revenues.Advertising revenues declined from $1.4 million, or 11% of total
revenues, in 2002 to $682,000, or 4% of total revenues, in 2003. This decrease was due to our
decision to stop providing our free web analytics service that generated advertising revenues. Operating Expenses Cost of Revenues.Cost of revenues decreased 14% from $3.8 million, or 28% of total revenues,
for 2002 to $3.2 million, or 20% of total revenues, for 2003. This decrease was principally a
result of a $355,000 decrease in Internet connectivity costs, and a $314,000 decrease in
depreciation resulting from lower market price of servers and increased server capacity, offset by
increased professional services personnel costs of $146,000 and increased network salaries of
$20,000. Sales and Marketing Expenses.Sales and marketing expenses increased 21% from $6.1 million,
or 46% of total revenues, for 2002 to $7.4 million, or 45% of total revenue, for 2003. This
increase was primarily attributable to the hiring of a vice president of sales and the addition of
a sales organization in the United Kingdom and a field sales force in the United States. We also
enhanced our commission plans and expanded our customer service group. Our travel and entertainment
expenses increased in connection with our sales force and customer service expansion. Our
expenditures on marketing programs increased as we attended more trade shows, hosted conferences
for our HBX users, and conducted other promotional activities. Research and Development Expenses.Research and development expenses increased 8% from $3.2
million, or 23% of total revenues, for 2002 to $3.4 million, or 21% of total revenues, for 2003.
The increase in absolute dollars was primarily a result of increased salaries of our existing
development personnel. General and Administrative Expenses.General and administrative expenses increased 17% from
$2.9 million, or 20% of total revenues, for 2002 to $3.4 million, or 21% of total revenues, for
2003. The majority of the increase was attributable to the severance payable to our former chief
executive officer and a one-time signing bonus for our new chief executive officer, which was
partially offset by an increased focus on cost savings during 2003. Stock-Based Compensation Expenses Stock-based compensation expenses increased by 356% from $295,000, or 2% of total revenues,
for 2002 to $1.3 million, or 8% of total revenues, for 2003. This increase was primarily due to an
increase in stock-based compensation expenses associated with restricted stock grants to our new
chief executive officer and our general counsel and a stock option award modification for our
former chief executive officer. Other Income, Net Other income, net increased from a net other income of $79,000 for 2002 to $526,000 in 2003,
which was primarily due to a non-recurring technology cross-license agreement. Provision for (Benefit from) Income Taxes We recorded an income tax benefit of $19,000 for 2002 and $31,000 for 2003. These benefits
were primarily associated with our international operations. Net Operating Losses and Tax Credit Carryforwards At December 31, 2004, we had federal and state net operating loss carryforwards of
approximately $12.8 million and $5.9 million, respectively. The federal net operating loss
carryforwards begin to expire in 2019 and state operating loss carryforwards begin to expire in
2006, if not realized. Under the provisions of Section 382 of the Internal Revenue Code, a change
in control occurred in connection with our October 2004 initial public offering, which will limit
the amount of net operating loss carryforwards that can be used annually in the future to offset
taxable income. A valuation allowance has been established to reserve the potential benefits of
these carryforwards 28




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in our financial statements to reflect the uncertainty of future taxable income required to
utilize available tax loss carryforwards and other deferred tax assets. Liquidity and Capital Resources On October 1, 2004, we completed the sale of 5,000,000 shares of our common stock at the
initial offering price to the public of $8.50 per share. A total of $42.5 million in gross
proceeds were raised in the initial public offering. After deducting the underwriting discount of
$3.0 million and offering expenses of $1.4 million, net proceeds were $38.1 million. We redeemed
all of our outstanding redeemable preferred stock resulting in $16.75 million of our net initial
public offering proceeds being paid to the holders of all of our outstanding redeemable preferred
stock on October 1, 2004. On October 26, 2004, in connection with the full exercise of the
underwriters over-allotment option, 750,000 additional shares of common stock were sold to the
public on behalf of certain selling stockholders at the initial public offering price of $8.50 per
share for an aggregate offering price of $6.4 million. We did not receive any proceeds from the
sale of these additional shares. As of December 31, 2004, we had $5.7 million of cash and cash equivalents, $16.3 million in
short-term investments, $8.7 million in long-term investments, and $17.8 million in working
capital, as compared to $5.7 million of cash and cash equivalents and $2.8 million in working
capital as of December 31, 2003. On February 8, 2005, we entered into an Agreement and Plan of Merger (the Merger Agreement)
to acquire Avivo Corporation, a California corporation (Avivo).Under the terms of the Merger
Agreement, we plan to issue approximately 3.1 million shares of common stock and options and pay
approximately $4.3 million in cash, in exchange for the outstanding capital stock and options of
Avivo. The consideration described above is subject to an escrow arrangement where approximately 19%
of the Companys common stock and cash will be held back to secure possible indemnification
obligations for a period of 15 months from the closing (with a portion extended to up to 24
months). Cash Flows Net cash provided by operating activities was $4.7 million for the year ended December 31,
2004. Net cash provided by operating activities consisted primarily of an increase in deferred
revenues, accounts payable and accrued expenses and the add-back of non-cash charges for
stock-based compensation, depreciation and amortization. This was partially offset by the increase
in accounts receivable. Net cash provided by operating activities for the year ended December 31,
2003 was $2.4 million. Net cash provided by operating activities consisted primarily of an
increase in deferred revenues, accounts payable and accrued expenses and the add back of non-cash
charges for stock-based compensation, depreciation and amortization. This was also offset, to a
lesser extent than 2004, by the increase of accounts receivable. Since our inception, our investing activities have consisted primarily of purchases of fixed
assets and investments in software development and recently in marketable securities. Capital
expenditures were principally related to our network infrastructure and computer equipment. Cash
used in investing activities totaled $26.4 million for the year ended December 31, 2004. This
included $1.4 million for capital expenditures and a net cash outflow of $25.0 million for the
purchase of marketable securities. Cash used in investing activities totaled $739,000 for the year
ended December 31, 2003, which consisted entirely of capital expenditures. We intend to invest in
our network infrastructure and in software development to ensure reliability of our network and to
introduce new services and enhancements to our existing services. In addition, we plan on
investing larger amounts of our cash in longer-term investments to achieve higher returns on our
invested cash. Cash provided by financing activities was $21.8 million for the year ended December 31, 2004.
This consisted of $38.1 million in net proceeds from our initial public offering offset by the
$16.75 million redemption of our redeemable preferred stock. The exercise of stock options and
warrants also contributed cash during 2004. Cash used for financing during 2003 was $642,000. The
majority of this was attributable the repayment of our line of credit. Factors That May Affect Future Financial Condition And Liquidity 29




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##### Table of Contents



Our principal commitments consist of obligations under leases for office space, computer
equipment and furniture and fixtures. Our capital lease obligations for furniture and computer
equipment are approximately $135,000 for a term of 5 years. As the amounts are relatively small,
they do not materially affect our overall liquidity. The following table summarizes our long-term
contractual obligations as of December 31, 2004: Payments Due by Period
    
    
    MoreLess than
    
    
    1-3
    
    
    4-5
    
    
    thanContractual Obligations
    
    Total
    
    
    1 Year
    
    
    Years
    
    
    Years
    
    
    5 Years(in thousands)Capital lease obligations
    
    $
    135
    
    
    $
    27
    
    
    $
    55
    
    
    $
    53
    
    
    $
    Operating lease obligations
    
    
    3,631
    
    
    
    1,779
    
    
    
    1,852
    
    
    
    
    
    
    
    Notes Payable
    
    
    27
    
    
    
    27
    
    
    
    
    
    
    
    
    
    
    
    Purchase Obligations
    
    $
    220
    
    
    $
    220
    
    
    $
    
    
    
    $
    
    
    
    $
    
 We anticipate that our future capital uses and requirements will depend on a variety of
factors. These factors include but are not limited to the following:  
    the costs of serving more customers;
    the costs of our network infrastructure;
    the costs of our research and development activities to improve our service offerings; and
    the extent to which we acquire or invest in other technologies and businesses. We believe that our current cash, cash equivalents and short-term investments will be
sufficient to meet our working capital and capital expenditure requirements for at least the next
twelve months. We believe that we will have sufficient liquidity to fund our business and meet our
contractual lease obligations over a period beyond the next 12 months. However, we may need to
raise additional funds in the future if we pursue acquisitions or investments in competing or
complementary businesses or technologies or experience operating losses that exceed our
expectations. If we raise additional funds through the issuance of equity or convertible
securities, our stockholders may experience dilution. If we need additional financing, we may not
be able to obtain it on acceptable terms or at all. As of December 31, 2004 and all periods prior, we did not have any relationships with
unconsolidated entities or financial partnerships, such as entities often referred to as structured
finance or special purpose entities, which would have been established for the purpose of
facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.
Other than our operating leases for office space and computer equipment, which are described above,
we do not engage in off-balance sheet financing arrangements. In addition, we do not engage in
trading activities involving non-exchange traded contracts. Therefore, we are not materially
exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in
these relationships. 
 Item 7A. Quantitative and Qualitative Disclosures About Market Risk. Foreign Currency Exchange Risk Our results of operations and cash flows are subject to fluctuations due to changes in foreign
currency exchange rates, particularly changes in the Euro. We will analyze our exposure to currency
fluctuations and may engage in financial hedging techniques in the future to reduce the effect of
these potential fluctuations. We have not entered into any hedging contracts as exchange rate
fluctuations have had little impact on our operating results and cash flows. The majority of our
subscription agreements are denominated in U.S. dollars. To date, our foreign sales have been
primarily in Euros. Sales to customers domiciled outside the United States were approximately 11%
and 16% of our total revenues in the years ended December 31, 2003 and 2004, respectively. Interest Rate Sensitivity We had unrestricted cash, cash equivalents and short-term marketable securities totaling $5.7
million and $22.0 million at December 31, 2003 and 2004, respectively. These amounts were
invested primarily in money market 30




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##### Table of Contents



funds in 2003 and money market funds and auction rate preferreds in 2004. The unrestricted
cash, cash equivalents and auction rate preferred securities are held for working capital purposes.
We do not enter into investments for trading or speculative purposes. Due to the short-term nature
of these investments, we believe that we do not have any material exposure to changes in the fair
value of our investment portfolio as a result of changes in interest rates. Declines in interest
rates, however, will reduce future investment income. 
 Item 8. Financial Statements and Supplementary Data. The Selected Condensed Consolidated Quarterly Financial Data has been derived from our
unaudited consolidated interim financial statements which, in our opinion, have been prepared on
substantially the same basis as the audited consolidated financial statements contained herein and
include all normal recurring adjustments necessary for a fair presentation of the financial
information for the periods presented. These unaudited quarterly results should be read in
conjunction with our audited consolidated financial statements and related notes appearing
elsewhere in this annual report. The operating results in any quarter are not necessarily
indicative of the results that may be expected for any future period. Selected Condensed Consolidated Quarterly Data (unaudited, in thousands, except share and
per share data) Three Months EndedMarch 31,
    
    
    June 30,
    
    
    Sept. 30,
    
    
    Dec. 31,
    
    
    March 31,
    
    
    June 30,
    
    
    Sept. 30,
    
    
    Dec. 31,2003
    
    
    2003
    
    
    2003
    
    
    2003
    
    
    2004
    
    
    2004
    
    
    2004
    
    
    2004Quarterly Consolidated Statement of Operation
Revenues
    
    $
    3,789
    
    
    $
    3,936
    
    
    $
    4,077
    
    
    $
    4,558
    
    
    $
    5,040
    
    
    $
    5,293
    
    
    $
    5,735
    
    
    $
    6,534Cost of revenues
    
    
    818
    
    
    
    828
    
    
    
    778
    
    
    
    823
    
    
    
    755
    
    
    
    793
    
    
    
    855
    
    
    
    912Gross profit
    
    
    2,971
    
    
    
    3,108
    
    
    
    3,299
    
    
    
    3,735
    
    
    
    4,285
    
    
    
    4,500
    
    
    
    4,880
    
    
    
    5,622Operating Expenses
    
    
    4,025
    
    
    
    3,774
    
    
    
    3,871
    
    
    
    3,867
    
    
    
    4,144
    
    
    
    4,322
    
    
    
    4,260
    
    
    
    4,963Operating profit (loss)
    
    
    (1,054
    )
    
    
    (666
    )
    
    
    (572
    )
    
    
    (132
    )
    
    
    141
    
    
    
    193
    
    
    
    620
    
    
    
    659Net income (loss)
    
    
    (1,053
    )
    
    
    (657
    )
    
    
    (561
    )
    
    
    404
    
    
    
    128
    
    
    
    198
    
    
    
    614
    
    
    
    818Net income (loss) attributable to common
shareholders
    
    
    (1,425
    )
    
    
    (1,045
    )
    
    
    (961
    )
    
    
    (2
    )
    
    
    (270
    )
    
    
    (272
    )
    
    
    
    
    
    
    (571
    )Net income (loss) per share attributable to
common shareholdersBasic
    
    $
    (0.37
    )
    
    $
    (0.26
    )
    
    $
    (0.24
    )
    
    $
    (0.00
    )
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    
    
    
    $
    (0.04
    )Diluted
    
    $
    (0.37
    )
    
    $
    (0.26
    )
    
    $
    (0.24
    )
    
    $
    (0.00
    )
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    
    
    
    $
    (0.04
    )Weighted-average number of shares used in per
share amountsBasic*
    
    
    3,808
    
    
    
    3,975
    
    
    
    4,073
    
    
    
    4,158
    
    
    
    4,463
    
    
    
    4,614
    
    
    
    4,663
    
    
    
    15,402Diluted*
    
    
    3,808
    
    
    
    3,975
    
    
    
    4,073
    
    
    
    4,158
    
    
    
    4,463
    
    
    
    4,614
    
    
    
    11,603
    
    
    
    15,402
 * Due to rounding and the use of quarterly weighted-average share data, the summation of the
quarterly data presented may not agree to the annual net loss per share attributable to common
shareholders. 
 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. Not applicable. 
 Item 9A. Controls and Procedures. We maintain disclosure controls and procedures that are designed to ensure that information
required to be disclosed in our Exchange Act reports is recorded, processed, summarized and
reported within the time periods specified in the Securities and Exchange Commissions rules and
forms and that such information is accumulated and communicated to our management, including our
chief executive officer and chief financial officer, as appropriate, to allow for timely decisions
regarding required disclosure. In designing and evaluating the disclosure controls and procedures,
management recognizes that any controls and procedures, no matter how well designed and operated,
can provide only reasonable assurance of achieving the desired control objectives, and management
is required to apply its judgment in evaluating the cost-benefit relationship of possible controls
and procedures. 31




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##### Table of Contents



As required by Securities and Exchange Commission Rule 13a-15(b), we carried out an
evaluation, under the supervision and with the participation of our management, including our chief
executive officer and chief financial officer, of the effectiveness of the design and operation of
our disclosure controls and procedures as of the end of the period covered by this report. Based on
the foregoing, our chief executive officer and chief financial officer concluded that our
disclosure controls and procedures were effective at the reasonable assurance level. There has been no change in our internal controls over financial reporting during our most
recent fiscal quarter that has materially affected or is reasonably likely to materially affect our
internal controls over financial reporting. 
 Item 9B. Other Information. Not applicable. 
 PART III 
 Item 10. Directors and Executive Officers of the Registrant. The information required by this item will be contained in our definitive proxy statement (the
Proxy Statement) to be filed with the Securities and Exchange Commission in connection with the
2005 annual meeting of our stockholders, which is expected to be filed not later than 120 days
after the end of our fiscal year ended December 31, 2004, and is incorporated in this report by
reference. 
 Item 11. Executive Compensation. The information required by this item will be contained in the Proxy Statement and is
incorporated in this report by reference. 
 Item 12. Security Ownership of Certain Beneficial Owners and Management. The information required by this item will be contained in the Proxy Statement and is
incorporated in this report by reference. 
 Item 13. Certain Relationships and Related Transactions. The information required by this item will be contained in the Proxy Statement and is
incorporated in this report by reference. 
 Item 14. Principal Accountant Fees and Services. The information required by this item will be contained in the Proxy Statement and is
incorporated in this report by reference. 
 PART IV 
 Item 15. Exhibits and Financial Statement Schedules. Documents filed as part of this report: 1. Financial statements: The following financial statements of WebSideStory, Inc. and Report
of independent registered public accounting firm, are included in this report:  
    Report of Independent Registered Public Accounting Firm;
    Consolidated balance sheets as of December 31, 2003 and 2004;
    Consolidated statements of operations for the fiscal years ended
December 31, 2002, 2003 and 2004;
    Consolidated statements of stockholders equity (deficit) and other
comprehensive income (loss) for the fiscal years ended December 31, 2002,
2003 and 2004;
    Consolidated statements of cash flows for the fiscal years ended
December 31, 2002, 2003 and 2004; and
    Notes to consolidated financial statements. 32




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##### Table of Contents



2. List of financial statement schedules: All schedules are omitted because they are
not applicable or the required information is shown in the financial statements or notes thereto. 3. List of exhibits required by Item 601 of Regulation S-K: ExhibitNumber
    
    Description3.1(1)
    
    Amended and Restated Certificate of Incorporation.3.2(1)
    
    Amended and Restated Bylaws.4.1(1)
    
    Form of Common Stock Certificate.4.2(1)
    
    Registration Rights Agreement, as amended, by and among the Company and certain
investors set forth therein, dated June 18, 1999.4.3(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Bancorp,
dated March 27, 2000.4.4(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Bancorp,
dated February 2, 2001.4.5(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Creditcorp,
dated April 30, 2001.4.6(1)+
    
    Warrant to Purchase Series D Convertible Preferred Stock by and between the Company
and Jeffrey W. Lunsford, dated April 1, 2003.10.1(1)+
    
    Amended and Restated 2000 Equity Incentive Plan.10.2(2)+
    
    2004 Equity Incentive Award Plan and Form of Option Grant Agreement.10.3(1)+
    
    Common Stock Purchase Agreement between the Company and Jeffrey W. Lunsford, dated
April 1, 2003.10.4(1)+
    
    Common Stock Purchase Agreement between the Company and Michael S. Christian, dated
July 29, 2003.10.5(1)+
    
    Amended and Restated Employment Agreement between the Company and Jeffrey W.
Lunsford, dated July 21, 2004.10.6(1)+
    
    Offer Letter between the Company and Thomas D. Willardson, dated March 23, 2004.10.7(1)+
    
    Offer Letter between the Company and Rand Schulman, dated May 15, 2003.10.8(1)+
    
    Transition Agreement between the Company and John J. Hentrich, dated March 31, 2003.10.9(1)+
    
    Offer Letter between the Company and Christopher Reid, dated February 12, 2003.10.10(1)+
    
    Amendment to Employment Agreement between WebSideStory Holding B.V. and Daniel
Guilloux, dated November 15, 2002.10.11(1)+
    
    Employment Agreement between WebSideStory Holding B.V. and Daniel Guilloux, dated as
of July 1, 2000.10.12(1)+
    
    Confidentiality Agreement and Terms of Employment between the Company and Michael S.
Christian, dated April 25, 2000.10.13(1)+
    
    Form of Indemnification Agreement between the Company and the persons listed on
Schedule A thereto.
 33




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##### Table of Contents



ExhibitNumber
    
    Description10.14(1)+
    
    Form of Change of Control Agreement between the Company and the persons listed on
Schedule A thereto.10.15(1)+
    
    Change of Control Agreement between the Company and Thomas D. Willardson, dated July
21, 2004.10.16(1)
    
    Terms for Delivery of Service and Customer Order Summary between the Company and
Level (3) Communications, Inc., dated November 20, 2001.10.17(1)
    
    Addendum to Terms for Delivery of Service between the Company and Level (3)
Communications, Inc., dated November 20, 2001.10.18(1)
    
    Office Lease between the Company and LNR Seaview, Inc., dated August 23, 1999.10.19(1)
    
    First Amendment to Office Lease between the Company and LNR Seaview, Inc., dated
July 3, 2001.10.20(1)
    
    Sublease between the Company and RF Magic, Inc., dated July 3, 2001.10.21(1)
    
    Sublease between the Company and Avexus, Inc., dated July 6, 2001.10.22(1)
    
    Addendum to Sublease between the Company and Avexus, Inc., dated April 18, 2002.10.23(1)
    
    Amendment to Sublease between the Company and RF Magic, Inc., dated September 10,
2003.10.24(1) 
    
    Revised Master Service Agreement
among the Company, Buena Vista Internet Group, ESPN Internet Ventures, ABCNews Internet Ventures, Infoseek Corporation, ABC Multimedia,
Inc. and Walt Disney Parks & Resorts Online dated August 29, 2003.10.25(1) 
    
    Amendment to Revised Master Service Agreement among the Company, Buena Vista
Internet Group, ESPN Internet Ventures, ABCNews Internet Ventures, Infoseek
Corporation, ABC Multimedia, Inc. and Walt Disney Parks & Resorts Online dated March
31, 2004.10.26(1)
    
    Patent Cross-License Agreement between the Company and NetIQ Corporation dated
December 12, 2003.10.27(1)
    
    Salesforce.com JoinForces Product Alliance Program Agreement, dated May 21, 2004,
between the Company and Salesforce.com, Inc.10.28(1)
    
    Second Addendum to Terms for Delivery of Service between the Company and Level (3)
Communications, Inc., dated April 4, 2003.21.1(1)
    
    List of Subsidiaries.23.1
    
    Consent of PricewaterhouseCoopers LLP, independent registered public accounting firm.31.1
    
    Certification of Chief Executive
Officer pursuant to Rules 13a-14 and 15d-14
promulgated under the Securities Exchange Act of 1934.31.2
    
    Certification of Chief Financial
Officer pursuant to Rules 13a-14 and 15d-14
promulgated under the Securities Exchange Act of 1934.32*
    
    Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
   (1)
    
    Incorporated by reference to the Registration Statement on Form S-1 of
WebSideStory, Inc. (Registration No. 333-115916) filed with the
Securities and Exchange Commission on September 17, 2004. 34




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##### Table of Contents



(2)
    Incorporated by reference to the Registration Statement on Form S-8 of
WebSideStory, Inc. (Registration No. 333-119350) filed with the
Securities and Exchange Commission on September 28, 2004.
    WebSideStory, Inc. has been granted confidential treatment with
respect to certain portions of this exhibit (indicated by asterisks),
which have been separately filed with the Securities and Exchange
Commission.+
    Indicates management contract or compensatory plan.*
    These certifications are being furnished solely to accompany this
annual report pursuant to 18 U.S.C. Section 1350, and are not being
filed for purposes of Section 18 of the Securities Exchange Act of
1934 and are not to be incorporated by reference into any filing of
WebSideStory, Inc., whether made before or after the date hereof,
regardless of any general incorporation language in such filing. 35




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##### Table of Contents



SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized. WEBSIDESTORY,Inc.Dated:
March 28, 2005
    
    By:
    
    /s/ JEFFREY W. LUNSFORDJeffrey W. LunsfordPresident, Chief Executive Officer and Chairman
 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. Name
    
    Title
    
    Date/S/ JEFFREY W. LUNSFORD
Jeffrey W. Lunsford
    
    President, Chief Executive Officer
and Chairman(Principal Executive Officer)
    
    March 28, 2005/S/ THOMAS D. WILLARDSON
Thomas D. Willardson
    
    Chief Financial Officer(Principal Financial and Accounting
Officer)
    
    March 28, 2005/S/ BLAISE BARRELET
Blaise Barrelet
    
    Director
    
    March 28, 2005/S/ CHARLES J. FITZGERALD, JR.
Charles J. Fitzgerald, Jr.
    
    Director
    
    March 28, 2005/S/ JAMES R. GLYNN
James R. Glynn
    
    Director
    
    March 28, 2005/S/ KURT R. JAGGERS
Kurt R. Jaggers
    
    Director
    
    March 28, 2005/S/ JAMES S. MAHAN III
James S. Mahan III
    
    Director
    
    March 28, 2005
 36




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##### Table of Contents



WebSideStory, Inc.
Index To Financial Statements PageReport of Independent Registered Public Accounting Firm
    
    F-2Consolidated Balance Sheets as of December 31, 2003 and 2004
    
    F-3Consolidated Statements of Operations for the fiscal years ended
December 31, 2004, 2003 and 2002
    
    F-4Consolidated Statements of Stockholders Equity (Deficit) and Other
Comprehensive Income (Loss) for the fiscal years ended December 31,
2002, 2003 and 2004
    
    F-5Consolidated Statements of Cash Flows for the fiscal years ended
December 31, 2002, 2003 and 2004
    
    F-6Notes to Consolidated Financial Statements
    
    F-7
 F-1




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##### Table of Contents



REPORT OF 
 INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 To the Board of Directors and
Stockholders of
WebSideStory, Inc: In our opinion, the
accompanying consolidated balance sheets and the related consolidated
statements of operations, of stockholderss equity (deficit) and
comprehensive income (loss), and of cash flows present fairly, in all
material respects, the financial position of WebSideStory, Inc. and
its subsidiaries at December 31, 2004 and 2003, and the results
of their operations and their cash flows for each of the three years
in the period ended December 31, 2004 in conformity with
accounting principles generally accepted in the United States of
America. These financial statements are the responsibility of the
Companys management. Our responsibility is to express an
opinion on these financial statements based on our audits. We
conducted our audits of these statements 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, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide
a reasonable basis for our opinion. /s/ PricewaterhouseCoopers LLP San Diego, California
March 25, 2005 F-2




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##### Table of Contents



WEBSIDESTORY, INC. 
 CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data) WebSideStory, Inc.Consolidated Balance Sheets December 31,2003
    
    
    2004(in thousands, except share and per share data)AssetsCurrent assetsCash and cash equivalents
    
    $
    5,690
    
    
    $
    5,710Investments
    
    
    
    
    
    
    16,323Accounts receivable, net
    
    
    2,257
    
    
    
    3,704Prepaid expenses and other current assets
    
    
    433
    
    
    
    834Total current assets
    
    
    8,380
    
    
    
    26,571Property and equipment, net
    
    
    1,244
    
    
    
    1,884Investments
    
    
    
    
    
    
    8,676Other assets
    
    
    226
    
    
    
    341$
    9,850
    
    
    $
    37,472Liabilities, Redeemable Preferred Stock and Stockholders Equity (Deficit)Current liabilitiesAccounts payable
    
    $
    618
    
    
    $
    307Accrued liabilities
    
    
    1,054
    
    
    
    2,083Deferred revenue
    
    
    3,934
    
    
    
    6,364Capital lease short term
    
    
    19
    
    
    
    18Note payable
    
    
    
    
    
    
    27Total current liabilities
    
    
    5,625
    
    
    
    8,799Deferred rent
    
    
    393
    
    
    
    320Capital lease long term
    
    
    
    
    
    
    100Other liabilities
    
    
    54
    
    
    
    54Total liabilities
    
    
    6,072
    
    
    
    9,273Commitments and ContingenciesRedeemable preferred stock, 30,434,235 shares authorized at December 31, 2003 and 10,000,000 shares of
preferred stock authorized at December 31, 2004:Series D convertible redeemable preferred stock, $0.001 par value;
48 shares designated at December 31, 2003; no shares issued and outstanding at
December 31, 2003; and December 31, 2004. (Note 4)
    
    
    
    
    
    
    Redeemable preferred stock, $0.001 par value; 112 shares designated, 111.66667
shares issued and outstanding at December 31, 2003 and 0 shares issued and outstanding as of
December 31, 2004. (Note 4)
    
    
    14,056
    
    
    
    Series A convertible redeemable preferred stock, $0.001
par value; 16,788,746 shares designated. 16,788,746 issued and outstanding
at December 31, 2003; and 0 shares issued and outstanding at December 31, 2004. (Note 4)
    
    
    18,378
    
    
    
    Series B convertible redeemable preferred stock, $0.001 par value; 11,590,535 shares designated.
11,590,535 issued and outstanding at December 31, 2003,
and 0 shares issued and outstanding at December 31, 2004. (Note 4)
    
    
    7,473
    
    
    
    Series C convertible redeemable preferred stock, $0.001 par value;
2,054,794 shares designated. 2,054,794 issued and outstanding
at December 31, 2003 and 0 shares issued and outstanding at December 31, 2004. (Note 4)
    
    
    2,986
    
    
    
    42,893
    
    
    
    Stockholders equity (deficit)Common stock, $0.001 par value; 43,128,211 shares authorized at December 31,
2003 and 75,000,000 shares authorized at December 31, 2004. Common stock shares of 4,577,437
and 15,624,856 issued and outstanding at December 31, 2003 and December 31, 2004, respectively.
(Note 4)
    
    
    5
    
    
    
    16Additional paid-in capital
    
    
    17,733
    
    
    
    82,895Unearned stock-based compensation
    
    
    (1,157
    )
    
    
    (779
    )Accumulated other comprehensive income
    
    
    276
    
    
    
    281Accumulated deficit
    
    
    (55,972
    )
    
    
    (54,214
    )Total stockholders equity (deficit)
    
    
    (39,115
    )
    
    
    28,199$
    9,850
    
    
    $
    37,472
 See accompanying notes. F-3




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##### Table of Contents



WEBSIDESTORY, INC. 
 CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data) December 31,2002
    
    
    2003
    
    
    2004RevenuesSubscriptions
    
    $
    12,126
    
    
    $
    15,678
    
    
    $
    22,476Advertising
    
    
    1,444
    
    
    
    682
    
    
    
    126Total revenues
    
    
    13,570
    
    
    
    16,360
    
    
    
    22,602Cost of revenuesCost of Revenue
    
    
    3,773
    
    
    
    3,236
    
    
    
    3,300Stock-based compensation
    
    
    32
    
    
    
    11
    
    
    
    15Total Cost of Revenues
    
    
    3,805
    
    
    
    3,247
    
    
    
    3,315Gross profit
    
    
    9,765
    
    
    
    13,113
    
    
    
    19,287Operating expensesSales and marketing
    
    
    6,094
    
    
    
    7,355
    
    
    
    9,739Technology development
    
    
    3,178
    
    
    
    3,417
    
    
    
    3,774General and administrative
    
    
    2,870
    
    
    
    3,431
    
    
    
    3,309Stock-based compensation(*)
    
    
    263
    
    
    
    1,334
    
    
    
    867Total operating expenses
    
    
    12,405
    
    
    
    15,537
    
    
    
    17,689(Loss) income from operations
    
    
    (2,640
    )
    
    
    (2,424
    )
    
    
    1,598Interest expense
    
    
    (57
    )
    
    
    (19
    )
    
    
    (4
    )Interest income
    
    
    40
    
    
    
    56
    
    
    
    205Other income
    
    
    96
    
    
    
    489
    
    
    
    5Loss before provision for (benefit from) income taxes
    
    
    (2,561
    )
    
    
    (1,898
    )
    
    
    1,804Provision for (benefit from) income taxes
    
    
    (19
    )
    
    
    (31
    )
    
    
    46Net (loss) income
    
    $
    (2,542
    )
    
    $
    (1,867
    )
    
    $
    1,758Constructive dividend on redemption of redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (1,389
    )Accretion of discount on redeemable preferred stock
    
    
    (1,367
    )
    
    
    (1,566
    )
    
    
    (1,326
    )Net (loss) attributable to common stockholders
    
    $
    (3,909
    )
    
    $
    (3,433
    )
    
    $
    (957
    )Net (loss) per share attributable to common shareholders:Basic
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.13
    )Diluted
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.13
    )Weighted-average number of shares used in per share amountsBasic
    
    
    3,806,550
    
    
    
    4,001,979
    
    
    
    7,300,809Diluted
    
    
    3,806,550
    
    
    
    4,001,979
    
    
    
    7,300,809(*) Stock-based compensationSales and marketing
    
    $
    193
    
    
    $
    330
    
    
    $
    209Technology development
    
    
    129
    
    
    
    76
    
    
    
    37General and administrative
    
    
    (59
    )
    
    
    928
    
    
    
    621$
    263
    
    
    $
    1,334
    
    
    $
    867
 See accompanying notes. F-4




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##### Table of Contents



WEBSIDESTORY, INC. 
 CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
For the three years ended December 31, 2004
(in thousands, except share data) WebSideStory, Inc.Consolidated Statements of Stockholders Equity (Deficit) and Other Comprehensive Income
(Loss)   AccumulatedAdditional
    
    
    Unearned
    
    
    OtherCommon Stock
    
    
    Paid-In
    
    
    Stock-Based
    
    
    Comprehensive
    
    
    Accumulated
    
    
    Stockholders
    
    
    ComprehensiveShares
    
    
    Amount
    
    
    Capital
    
    
    Compensation
    
    
    Income
    
    
    Deficit
    
    
    Deficit
    
    
    Income (Loss)Balance at December 31, 2001
    
    
    3,805,136
    
    
    $
    4
    
    
    $
    16,014
    
    
    $
    (668
    )
    
    $
    38
    
    
    $
    (51,563
    )
    
    $
    (36,175
    )
    
    $
    (4,759
    )Exercise of stock options
    
    
    1,982
    
    
    
    
    
    
    
    2
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    2
    
    
    
    Unearned Stock based compensation
    
    
    
    
    
    
    
    
    
    
    (77
    )
    
    
    77
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Amortization of stock-based compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    295
    
    
    
    
    
    
    
    
    
    
    
    295
    
    
    
    Accretion of discount on redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (1,339
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,339
    )
    
    
    Amortization of premium on Series A convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    1,286
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,286
    
    
    
    Accretion of discount on Series B and Series C convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (29
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (29
    )
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    82
    
    
    
    
    
    
    
    82
    
    
    
    82Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2,542
    )
    
    
    (2,542
    )
    
    
    (2,542
    )Balance at December 31, 2002
    
    
    3,807,118
    
    
    $
    4
    
    
    $
    15,857
    
    
    $
    (296
    )
    
    $
    120
    
    
    $
    (54,105
    )
    
    $
    (38,420
    )
    
    $
    (2,460
    )Restricted stock purchases
    
    
    729,609
    
    
    
    1
    
    
    
    1,113
    
    
    
    (1,111
    )
    
    
    
    
    
    
    
    
    
    
    3
    
    
    
    Exercise of stock options
    
    
    40,710
    
    
    
    0
    
    
    
    34
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    34
    
    
    
    Unearned Stock based compensation
    
    
    
    
    
    
    
    
    
    
    1,094
    
    
    
    (1,094
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Amortization of stock-based compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,344
    
    
    
    
    
    
    
    
    
    
    
    1,344
    
    
    
    Accretion of discount on redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (1,537
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,537
    )
    
    
    Amortization of premium on Series A convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    1,202
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,202
    
    
    
    Accretion of discount on Series B and Series C convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (30
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (30
    )
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    156
    
    
    
    
    
    
    
    156
    
    
    
    156Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,867
    )
    
    
    (1,867
    )
    
    
    (1,867
    )Balance at December 31, 2003
    
    
    4,577,437
    
    
    $
    5
    
    
    $
    17,733
    
    
    $
    (1,157
    )
    
    $
    276
    
    
    $
    (55,972
    )
    
    $
    (39,115
    )
    
    $
    (1,711
    )Issuance of
common stock for cash net of $4.4 million issuance costs
    
    
    5,000,000
    
    
    $
    5
    
    
    $
    38,082
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    38,087
    
    
    $
    Conversion of convertible redeemable preferred stock
    
    
    5,634,131
    
    
    
    6
    
    
    
    28,000
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    28,006
    
    
    
    Exercise of stock options and warrants
    
    
    413,288
    
    
    
    
    
    
    
    439
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    439
    
    
    
    Unearned Stock based compensation
    
    
    
    
    
    
    
    
    
    
    504
    
    
    
    (504
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Amortization of stock-based compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    882
    
    
    
    
    
    
    
    
    
    
    
    882
    
    
    
    Accretion of discount on redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (1,305
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,305
    )
    
    
    Amortization of premium on Series A convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    852
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    852
    
    
    
    Accretion of discount on Series B and Series C convertible redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (21
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (21
    )
    
    
    Constructive dividend on redemption of redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (1,389
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,389
    )
    
    
    Foreign currency translation adjustment
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5
    
    
    
    
    
    
    
    5
    
    
    
    5Net income (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,758
    
    
    
    1,758
    
    
    
    1,758Balance at December 31, 2004
    
    
    15,624,856
    
    
    $
    16
    
    
    $
    82,895
    
    
    $
    (779
    )
    
    $
    281
    
    
    $
    (54,214
    )
    
    $
    28,199
    
    
    $
    1,763
 See accompanying notes. F-5




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##### Table of Contents



WEBSIDESTORY, INC. 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands) Year Ended December 31,2002
    
    
    2003
    
    
    2004Cash flows from operating activitiesNet (loss) income
    
    $
    (2,542
    )
    
    $
    (1,867
    )
    
    $
    1,758Adjustments to reconcile net (loss) income to net cash
(used in) provided by operating activitiesDepreciation and amortization
    
    
    1,674
    
    
    
    1,210
    
    
    
    1,009Bad debt provision
    
    
    330
    
    
    
    274
    
    
    
    28Stock-based compensation
    
    
    295
    
    
    
    1,345
    
    
    
    882Changes in operating assets and liabilities:Accounts receivable
    
    
    (745
    )
    
    
    (576
    )
    
    
    (1,475
    )Prepaid expenses and other assets
    
    
    (105
    )
    
    
    (287
    )
    
    
    (574
    )Accounts payable and accrued liabilities
    
    
    86
    
    
    
    477
    
    
    
    718Deferred revenue
    
    
    1,678
    
    
    
    1,812
    
    
    
    2,430Deferred rent
    
    
    37
    
    
    
    (17
    )
    
    
    (73
    )Other liabilities
    
    
    (27
    )
    
    
    (19
    )
    
    
    Net cash provided by operating activities
    
    
    681
    
    
    
    2,352
    
    
    
    4,703Cash flows from investing activitiesPurchase of investments
    
    
    
    
    
    
    
    
    
    
    (34,156
    )Proceeds from the sale of investments
    
    
    
    
    
    
    
    
    
    
    9,157Purchase of property and equipment
    
    
    (322
    )
    
    
    (739
    )
    
    
    (1,438
    )Net cash used in investing activities
    
    
    (322
    )
    
    
    (739
    )
    
    
    (26,437
    )Cash flows from financing activitiesExercise of stock options and warrants
    
    
    2
    
    
    
    34
    
    
    
    439Principal payments on note payable to former stockholder
    
    
    (77
    )
    
    
    
    
    
    
    Payments on line of credit
    
    
    
    
    
    
    3
    
    
    
    Payments on equipment term loan
    
    
    (508
    )
    
    
    (679
    )
    
    
    Payments on capital lease
    
    
    
    
    
    
    
    
    
    
    (27
    )Redemption of redeemable preferred stock
    
    
    
    
    
    
    
    
    
    
    (16,750
    )Proceeds from sale of common stock
    
    
    
    
    
    
    
    
    
    
    38,087Net cash (used in) provided by financing activities
    
    
    (583
    )
    
    
    (642
    )
    
    
    21,749Effect of exchange rate changes on cash
    
    
    83
    
    
    
    156
    
    
    
    5Net increase in cash and cash equivalents
    
    
    (141
    )
    
    
    1,127
    
    
    
    20Cash and cash equivalents at beginning of year
    
    
    4,704
    
    
    
    4,563
    
    
    
    5,690Cash and cash equivalents at end of year
    
    $
    4,563
    
    
    $
    5,690
    
    
    $
    5,710Supplemental cash flow information:Cash paid for interest
    
    $
    57
    
    
    $
    19
    
    
    $
    4Cash paid for taxes
    
    $
    
    
    
    $
    
    
    
    $
    22Refund of income taxes
    
    $
    (21
    )
    
    $
    
    
    
    $
    Supplemental disclosure of noncash investing and financing activities:Equipment acquired under capital lease obligation
    
    $
    
    
    
    $
    
    
    
    $
    126Equipment acquired under note payable
    
    $
    
    
    
    $
    
    
    
    $
    27
 See accompanying notes. F-6




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##### Table of Contents



WEBSIDESTORY, INC. 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. The Company Nature of Business WebSideStory, Inc. (the Company) was founded and commenced operations in September 1996 and
is a provider of on-demand web analytics services. The Companys services, including its primary
service, HBX, are used by customers to better understand how Internet users respond to website
design and content, online marketing campaigns and e-commerce offerings. These services are
provided on a subscription basis to customers for a fee, which is either fixed or based on the
actual number of web sites and total page views (Total Views) and transactions monitored by the
Companys services. Contracts for subscription services typically range in duration from one to
three years. The
Companys business consists of a single reporting segment. The Companys operations were
located solely in the United States through December 1999. In order to pursue the sale of its
products and services in international markets, the Company established wholly owned subsidiaries
in France (February 2000), the Netherlands (August 2000) and the United Kingdom (April 2003). 2. Summary of Significant Accounting Policies Use of Estimates The consolidated financial statements of the Company have been prepared using accounting
principles generally accepted in the United States of America. These principles require management
to make estimates and assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities, and reported amounts of revenue and expenses.
Actual results could differ from those estimates. Principles of Consolidation The Companys consolidated financial statements include the assets, liabilities and operating
results of the Company and its wholly owned subsidiaries HitBox, Inc., WebSideStory SAS,
WebSideStory Holding B.V., WebSideStory Call Center and Service B.V. and WebSideStory UK Limited.
All significant intercompany accounts and transactions have been eliminated. Foreign Currency The Companys foreign subsidiaries utilize their local currency as their functional currency.
The accounts of these foreign subsidiaries have been translated into U.S. dollars using the current
exchange rate as of the balance sheet date for assets and liabilities and the average exchange rate
for the period for revenues and expenses. Cumulative translation gains or losses are recorded as
accumulated other comprehensive income in stockholders equity (deficit). Concentration of Risk The Companys financial instruments that are exposed to concentrations of credit risk consist
primarily of cash and cash equivalents, short-term investments, and trade accounts receivable.
Although the Company deposits its cash with multiple financial institutions, its deposits, at
times, may exceed federally insured limits. The Company had revenues generated from The Walt Disney Internet Group who accounted for 17%,
14% and just under 10% of total revenues for the years ended December 31, 2002, 2003 and 2004,
respectively. No other customers individually accounted for more than 10% of total revenues in
2002, 2003 or 2004. As of December 31, 2003 and 2004, assets located outside the United States were 13% and 10% of
total assets, respectively. Revenues for the years ended December 31, 2002, 2003 and 2004, outside
the United States were 8%, 11% and 16%, respectively, of total revenues. Revenues by geographical
region are as follows (in thousands): Year Ended December 31,2002
    
    
    2003
    
    
    2004United States
    
    $
    12,434
    
    
    $
    14,585
    
    
    $
    18,983Europe
    
    
    1,136
    
    
    
    1,775
    
    
    
    3,619$
    13,570
    
    
    $
    16,360
    
    
    $
    22,602
 F-7




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) All of the Companys servers related to its services and its customer data are located at a
single third party co-location facility located in San Diego, California. The Company does not
control the operation of this facility, and it is vulnerable to damage or interruption in the event
the third-party co-location facility fails. Revenue Recognition The Company recognizes revenue in accordance with SEC Staff Accounting Bulletin (SAB), No.
104, Revenue Recognition in Financial Statementsand Emerging Issues Task Force (EITF), Issue No.
00-21, Accounting For Revenue Arrangements with Multiple Deliverables. Revenue is recognized when all of the following conditions are satisfied: (1) there is
persuasive evidence of an arrangement; (2) the service has been provided to the customer (in the
case of subscription services, revenue recognition commences when the customer has been given
access to the service); (3) the amount of fees to be paid by the customer is fixed or determinable;
and (4) the collection of the fees is probable. Subscription revenues are recognized over the term of the related service periods. Support
revenues are included in subscription revenues, and are recognized over the term of the related
contract as these services are considered to be inseparable from the subscription service. These
arrangements do not contain rights of return or other refund provisions. Subscription revenues that
are invoiced and paid in advance of delivery of the service are recorded as deferred revenue. Advertising revenue is recognized based on actual delivery of advertisements over the period
in which the related advertisements are displayed. Cash and Cash Equivalents The Company considers all highly liquid investments with original maturities of three months
or less to be cash and cash equivalents. Cash and cash equivalents, are comprised of money market
funds. The carrying amounts approximate fair value due to the short maturities of these
instruments. Investments Management determines the appropriate classification of marketable securities at the time of
purchase and re-evaluates such designation as of each balance sheet date. Short term investments
are classified as available for sale. The Company defines short term investments as income
yielding securities that can readily be converted to cash. These securities are carried at fair
value, with unrealized gains and losses reported as accumulated other comprehensive income.
Declines in the fair value of these securities judged to be other than temporary, if any, are
included in interest expense. Interest and dividends on available for sale securities are included
in interest income. In addition to its investment securities which are available for sale, the
Company has investment securities which it intends to hold to maturity. These consist primarily of
U.S. federal agency notes, certificates of deposit, auction rate preferred securities and mortgage
backed securities. Held to maturity investments are carried at amortized cost, which approximates
fair value. The Company regularly monitors and evaluates the realizable value of its investments to assess
for other than temporary declines in value. Management believes no such declines in value exist at
December 31, 2004. Accounts Receivable The Companys accounts receivable are derived from a large number of direct customers.
Collateral is not required for accounts receivable. The Company maintains an allowance for
potential credit losses as considered necessary. At December 31, 2003 and 2004, the allowance for potential credit losses was $553,000 and $407,000, respectively. The
Company performs ongoing reviews of all customers that have breached their payment terms or for
whom information has become available indicating a risk of non-recoverability. The Company records
an allowance for bad debts for specific customers identified as well as an allowance based on its
historical collection experience. The Companys evaluation of the allowance for potential credit
losses requires the use of estimates and the actual results may differ from these estimates. F-8




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Deferred Commissions The timing of commission payments varies but typically 50% of the commissions are paid 30 days
after access to the services are provided. The balance of the commissions is generally paid in 12
monthly installments. Deferred commissions are the incremental direct cost of sales commissions
paid to the Companys direct sales force. The deferred commission amounts are recoverable through
the future revenue streams under non-cancelable customer contracts; therefore, the commissions are
deferred and amortized over the non-cancelable terms of the related customer contracts.. Deferred
commissions are included in prepaid and other assets in the accompanying consolidated balance
sheets. Amortization of deferred commissions is included in sales and marketing expense in the
accompanying consolidated statements of operations. Deferred commissions as of December 31, 2003 and 2004 were $162,000 and $313,000,
respectively. Property and Equipment Property and equipment are stated at cost. Depreciation is calculated on a straight-line basis
over the estimated useful lives of those assets as follows: Computers, equipment and software
    
    3 yearsFurniture and fixtures
    
    5 yearsLeasehold improvements
    
    Shorter of the estimated useful life of 7 years or the remaininglease term
 Upon the retirement or disposition of property and equipment, the related cost and accumulated
depreciation or amortization are removed and the gain or loss is recorded. Repair and maintenance costs are expensed in the period incurred. Impairment of Long-Lived Assets The Company assesses potential impairment to its long-lived assets when there is evidence that
events or changes in circumstances indicate that the carrying amount of an asset may not be
recovered. An impairment loss is recognized when the carrying amount of the long-lived asset is not
recoverable and exceeds its fair value. The carrying amount of a long-lived asset is not
recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use
and eventual disposition of the asset. Any required impairment loss is measured as the amount by
which the carrying amount of a long-lived asset exceeds its fair value and is recorded as a
reduction in the carrying value of the related asset and a charge to operating results. Software and Website Development Costs The Company capitalizes qualifying software and website development costs, which are incurred
during the application development stage, and amortizes them over their estimated useful lives,
which are generally two to three years. The Company capitalized $0, $105,000 and $185,000 during
the years ended December 31, 2002, 2003 and 2004, respectively. Capitalized software and website
development costs are included in other assets in the accompanying consolidated balance sheets.
Amortization expense, recorded as research and development expense, totaled $1,000, $23,000, and
$58,000 during the years ended December 31, 2002, 2003 and 2004, respectively. Comprehensive Income (Loss) Comprehensive income (loss) is defined as the change in equity of a business enterprise during
a period from transactions and other events, including foreign currency translation adjustments and
unrealized gains and losses on available for sale investments. The Company presents comprehensive
income (loss) in its consolidated statements of stockholders equity. Accounting for Stock-Based Compensation F-9




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) The Company measures compensation expense for its employee and director stock-based
compensation plans using the intrinsic value method and provides pro forma disclosures of net
income (loss) as if a fair value method had been applied in measuring compensation expense.
Accordingly, compensation expense for stock options is measured as the excess, if any, of the fair
value of the Companys common stock at the date of grant over the amount an employee must pay to
acquire the stock. Stock-based compensation is amortized over the related service periods using an
accelerated graded method in accordance with Financial Accounting Standards Board Interpretation
No. 28 (FIN 28) Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award
Plan. Had compensation expense for employee stock options been determined based on the fair value of
the options on the date of grant, the Companys net income (loss) would have been as follows (in
thousands, except per share data): Year Ended December 31,2002
    
    
    2003
    
    
    2004Net income (loss)  as reported
    
    $
    (2,542
    )
    
    $
    (1,867
    )
    
    $
    1,758Add: Stock-based employee compensation as reported in
the statements of operations
    
    
    295
    
    
    
    1,345
    
    
    
    882Deduct: Total stock-based employee compensation
expense determined under fair value based method for
all awards
    
    
    (357
    )
    
    
    (1,359
    )
    
    
    (1,046
    )Pro forma net income (loss)
    
    $
    (2,604
    )
    
    $
    (1,881
    )
    
    $
    1,594Pro forma net (loss) attributable to common stockholders
    
    $
    (3,971
    )
    
    $
    (3,447
    )
    
    $
    (1,121
    )Net (loss), per share attributable to common
stockholders  basic and diluted:As reported
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.13
    )Pro forma
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.15
    )
 The use of an option valuation model includes highly subjective assumptions based on long-term
predictions, including the expected stock price volatility and average life of each option grant.
The Companys employee options have characteristics significantly different from those of freely
traded options, and changes in the subjective input assumptions can materially affect the Companys
estimate of the fair value of those options. The Company recently completed its initial public
offering (Note 4) and has a relatively short history to determine expected volatility based on
historical performance of its traded common stock. As a private company the Company used 0%
volatility. Due to the relatively short public trading of the Companys common stock, the
historical volatility for options granted in the forth quarter of 2004 of 31.32% may not be
indicative of future results. The fair value of each option grant is estimated on the date of
grant using the Black-Scholes method with the following assumptions: Year Ended December 31,2002
    
    
    2003
    
    
    2004Expected Life
    
    3.5 years
    
    3.3 years
    
    3.9 yearsRisk-free interest rate
    
    
    3.50
    %
    
    
    1.90
    %
    
    
    2.95
    %Expected volatility
    
    
    0
    %
    
    
    0
    %
    
    
    16.31
    %Expected dividend yield
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %
 Earnings (Loss) Per Share Basic earnings (loss) per share is computed by dividing net income (loss) attributable to
common stockholders by the weighted average number of common shares outstanding during the
reporting period. Weighted average shares exclude shares of common stock subject to lapsing
repurchase rights by the Company. Diluted earnings (loss) per common share is computed by dividing
net income (loss) attributable to common stockholders by the weighted average number of common
shares outstanding during the period increased to include dilutive potential common shares that
were outstanding during the period. The dilutive effect of outstanding stock options is reflected
in diluted earnings per share calculated using the treasury stock method. The Company has excluded
all convertible redeemable preferred stock, outstanding stock options and unvested common stock
subject to repurchase from the calculation of diluted loss per share for the years ended December
31, 2002, 2003 and 2004 because such securities are antidilutive for these periods. The total
number of potential common shares excluded from the calculation of diluted loss per share for the
years ended December 31, 2002, 2003 and 2004 are detailed in the following table: F-10




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Year Ended December 31,2002
    
    
    2003
    
    
    2004Potential common shares excluded from diluted loss per share:Unvested common stock
    
    
    
    
    
    
    307,227
    
    
    
    285,200Convertible redeemable preferred stock
    
    
    5,634,131
    
    
    
    5,634,131
    
    
    
    4,225,598Options and warrants
    
    
    76,823
    
    
    
    490,783
    
    
    
    1,084,220Total
    
    
    5,710,954
    
    
    
    6,432,141
    
    
    
    5,595,018
 The following table sets forth the computation of basic and diluted net loss per share
for the years ended December 31, 2002, 2003 and 2004 and (in thousands, except share and per share
data): Year Ended December 31,2002
    
    
    2003
    
    
    2004Numerator:Net loss attributable to common stockholders
    
    $
    (3,909
    )
    
    $
    (3,433
    )
    
    $
    (957
    )Denominator:Basic and diluted loss per share  adjusted
weighted average shares outstanding
    
    
    3,806,550
    
    
    
    4,001,979
    
    
    
    7,300,809Loss per share  basic and diluted:
    
    $
    (1.03
    )
    
    $
    (0.86
    )
    
    $
    (0.13
    )
 The amount of accretion related to the amortization of the discount on the redeemable
preferred stock was $1,367,000, $1,566,000 and $1,326,000 for the years ended December 31, 2002,
2003 and 2004. The amount of the unamortized discount on the redeemable preferred stock on the
date of its redemption of October 1, 2004 was recorded as a dividend in arriving at net loss
attributable to common stockholders in the amount of $1,389,000. Income Taxes The Company provides for income taxes utilizing the liability method. Under the liability
method, current income tax expense or benefit is the amount of income taxes expected to be payable
or refundable for the current year. A deferred income tax asset or liability is computed for the
expected future impact of differences between the financial reporting and tax bases of assets and
liabilities and for the expected future tax benefit to be derived from tax credit and loss
carryforwards. Deferred tax assets are reduced by a valuation allowance when, in the opinion of
management, it is more likely than not that some portion or all of the deferred tax assets will not
be realized. Tax rate changes are reflected in the computation of the income tax provision during
the period such changes are enacted. In connection with the Companys initial public offering, the
Company triggered a change in control resulting in annual limitations on the amount of the
historical net operating losses that can be utilized to offset future taxable income. Warranties and Indemnification The Company warrants certain levels of uptime reliability and permits its customers to receive
credits or terminate their agreements in the event that the Company fails to meet those levels. The
Company has rarely provided any such credits or termination rights. The Companys subscription agreements generally require the Company to indemnify its customers
for third party intellectual property infringement claims. The Company has also agreed to indemnify its directors and executive officers for costs
associated with any fees, expenses, judgments, fines and settlement amounts incurred by any of
these persons in any action or proceeding to which any of those persons is, or is threatened to be,
made a party by reason of the persons service as a director or officer, including any action by
the Company, arising out of that persons services as the Companys director or officer or that
persons services provided to any other company or enterprise at the Companys request. Advertising Expenses Advertising costs are expensed as incurred. Advertising expense for the years ended December
31, 2002, 2003 and 2004 totaled $1,000, $5,000 and $268,000, respectively, and are included
in sales and marketing expense. F-11




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Stock Split Stockholders equity has been restated for all periods presented to give retroactive
recognition to the 1-for-3.5 reverse stock split that the Company affected in 2004 in connection
with its initial public offering. All shares and per share amounts in the consolidated financial
statements have been retroactively restated to reflect the reverse stock split. Reclassifications Certain prior year balances have been reclassified to conform to the current year
presentation. These balances related to costs associated with the Companys European operations,
such as accounting, legal and bad debt expense that were previously reported as sales and marketing
expense and have been reclassified as general and administrative expense for all years presented. Recent Accounting Pronouncements In December 2004, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 123 (revised 2004), Share Based Payment, or SFAS No. 123R. SFAS No. 123R,
which will be effective for the fiscal third quarter of 2005, requires that employee stock-based
compensation is measured based on its fair value on the grant date and is treated as an expense
that is reflected in the financial statements over the related service period. SFAS No. 123R
applies to all employee equity awards granted after adoption and to the unvested portion of equity
awards outstanding as of adoption. The Company currently anticipates adopting SFAS No. 123R using
the modified-prospective method effective July 1, 2005. While the Company is currently evaluating
the impact on the consolidated financial statements of the adoption of SFAS No. 123R, it
anticipates that the adoption of SFAS No. 123R will have a significant impact on the results of
operations for 2005 and future periods. 3. Composition of Certain Balance Sheet Captions Investments Short-term and long term investments consist of the following (in thousands): Current
    
    
    Long Term2003
    
    
    2004
    
    
    2003
    
    
    2004Held to maturityCertificates of Deposits
    
    $
    
    
    
    $
    3,014
    
    
    $
    
    
    
    $
    1,244Federal Agencies
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    7,432$
    
    
    
    $
    3,014
    
    
    $
    
    
    
    $
    8,676Available for saleAuction rate securities
    
    $
    
    
    
    $
    13,309
    
    
    $
    
    
    
    $
    Total investments
    
    $
    
    
    
    $
    16,323
    
    
    $
    
    
    
    $
    8,676
 The Companys available for sale securities consist of auction rate securities with a fair value
equal to the carrying value of each security resulting in no unrealized gain or loss being recorded
as a component of other comprehensive income (loss) as of December 31, 2004. The Companys held
to maturity securities are recorded at amortized cost and the Company has the intent and ability to
hold these securities to maturity. The fair value of these securities as of December 31,2004 was
$3,006,000 and $8,612,000 for the short term and long term investments, respectively. All of the
long term securities have original maturity dates between one and two years. Accounts Receivable F-12




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) The following table sets forth the components of accounts receivable (in thousands): December 31,
    
    
    December 31,2003
    
    
    2004Accounts receivable:Trade accounts receivable
    
    $
    2,810
    
    
    $
    4,111Allowance for doubtful accounts
    
    
    (553
    )
    
    
    (407
    )$
    2,257
    
    
    $
    3,704
 The following table sets forth the activity within the allowance for doubtful accounts (in
thousands): December 31,
    
    
    December 31,
    
    
    December 31,2002
    
    
    2003
    
    
    2004Allowance for doubtful accounts:Beginning Balance
    
    $
    581
    
    
    $
    597
    
    
    $
    553Bad Debt Provision
    
    
    330
    
    
    
    274
    
    
    
    28Write Off
    
    
    (314
    )
    
    
    (325
    )
    
    
    (192
    )Write Off Recoveries
    
    
    
    
    
    
    7
    
    
    
    18Ending Balance
    
    $
    597
    
    
    $
    553
    
    
    $
    407
 Prepaid expenses and other current assets The following table sets forth the components of prepaid expenses and other current assets (in
thousands): December 31,
    
    
    December 31,2003
    
    
    2004Prepaid expenses and other current assets:Deferred tax assets
    
    $
    101
    
    
    $
    37Deferred commissions
    
    
    162
    
    
    
    313Other prepaid expenses
    
    
    170
    
    
    
    484$
    433
    
    
    $
    834
 F-13




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Fixed Assets The following table sets forth the components of property and equipment (in thousands): December 31,
    
    
    December 31,2003
    
    
    2004Property and equipment:Computers and office equipment
    
    $
    6,383
    
    
    $
    7,777Furniture and fixtures
    
    
    859
    
    
    
    1,042Leasehold improvements
    
    
    452
    
    
    
    4667,694
    
    
    
    9,285Accumulated depreciation and amortization
    
    
    (6,450
    )
    
    
    (7,401
    )$
    1,244
    
    
    $
    1,884
 The Company leases certain computer and office equipment under capital leases. As of December
31, 2003 and 2004, $132,000 and $253,000 of such equipment is included in property and equipment,
respectively. Accumulated amortization relating to this equipment totaled $114,000 and $134,000 at
December 31, 2003 and 2004, respectively. Other Assets Other assets consist of the following (in thousands): December 31,
    
    
    December 31,2003
    
    
    2004Other assets:Capitalized software and website
development costs, net of accumulated
amortization of $23 and $81, respectively
    
    $
    82
    
    
    $
    210Long-term deposits
    
    
    144
    
    
    
    131Total
    
    $
    226
    
    
    $
    341
 Accrued Expenses and Other Current Liabilities The following table sets forth the components of accrued liabilities (in thousands): December 31,
    
    
    December 31,2003
    
    
    2004Accrued liabilities:Accrued bonuses and commissions
    
    $
    554
    
    
    $
    844Accrued payroll and vacation
    
    
    285
    
    
    
    501Accrued sales tax
    
    
    114
    
    
    
    262Other accrued expenses
    
    
    101
    
    
    
    476$
    1,054
    
    
    $
    2,083
 4. Initial Public Offering On October 1, 2004, the Company completed the sale of 5,000,000 shares of the Companys common
stock at the initial offering price to the public of $8.50 per share. A total of $42,500,000 in
gross proceeds was raised in the initial public offering. After deducting the underwriting discount
of $2,975,000 and offering expenses of $1,438,000, net proceeds were $38,087,000. In connection
with the initial public offering, the Company amended and restated its certificate of
incorporation. The amended and restated certificate of incorporation authorized the Company to
issue two classes of stock to be designated, respectively, Common Stock, par value $0.001 per
share, and Preferred Stock, par value $0.001 per share. The total number of shares the Company
shall have the authority to issue is 85,000,000 shares, 75,000,000 shares of which shall be Common
Stock and 10,000,000 shares of which shall be Preferred Stock. F-14




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) In connection with and upon closing of the Companys initial public offering, the following
events occurred:  
    The Companys 2004 equity incentive plan came into effect on the first trading day of
the Companys common stock, September 28, 2004.
    On October 1, 2004, the effective date of the offering, the convertible redeemable
preferred stock of the Company converted into 5,634,131 shares of common stock of the
Company. The warrant to purchase series D convertible redeemable preferred stock converted
into a warrant to purchase 303,537 shares of the Companys common stock. In connection with
the conversion, all rights and preferences of the convertible redeemable preferred stock
terminated.
    The Company redeemed the redeemable preferred stock resulting in $16,750,000 of the
proceeds being paid out to the holders of the redeemable preferred stock on October 1,
2004. The related unamortized discount of $1,389,000 on the redeemable preferred stock was
charged to additional paid in capital as a constructive dividend to the redeemable
preferred holders. On October 26, 2004, in connection with the full exercise of the underwriters over-allotment
option, 750,000 additional shares of common stock were sold on behalf of certain selling
stockholders at the initial public offering price to the public of $8.50 per share, for an
aggregate offering price of $6.4 million. The Company did not receive any proceeds from the sale of
these additional shares. 5. Restricted Stock On April 1, 2003, the Company and its new chief executive officer (new CEO) entered into a
common stock purchase agreement in which the new CEO purchased 571,428 shares of common stock at a
purchase price of $0.0035 per share. Of the 571,428 shares purchased, 142,857 shares were fully
vested at the purchase date. The remaining 428,571 shares purchased are subject to the Companys
right to repurchase such shares at the original purchase price in the event the new CEOs
employment with the Company terminates. The Company measured total unearned stock-based
compensation of $742,000 based on an April 1, 2003 common stock fair value of $1.30 per share. This
amount is being amortized over the vesting term using an accelerated method in accordance with FIN
28. Amortization of stock-based compensation expense of $440,000 and $201,000 was recorded during
the years ended December 31, 2003 and 2004, respectively. On July 29, 2003, the Company and its general counsel entered into a common stock purchase
agreement in which the general counsel purchased 158,181 shares of common stock at a purchase price
of $0.0035 per share. Of these shares, 105,714 shares were immediately vested on July 29, 2003. The
remaining 52,467 shares of restricted stock are subject to the Companys right to repurchase such
shares at the original purchase price in the event the general counsels employment with the
Company terminates. The Company measured total unearned stock-based compensation of $369,000 based
on a July 29, 2003 common stock fair value of $2.35 per share, which is being amortized over the
vesting term using an accelerated graded method in accordance with FIN 28. Amortization of
stock-based compensation expense of $286,000 and $66,000 was recorded during the years ended
December 31, 2003 and 2004, respectively. 6. Warrants In April 2003, the Company granted the new CEO a warrant to purchase series D convertible
redeemable preferred stock (Series D Warrant). The Series D Warrant converted, in connection with
the Companys initial public offering, into a common stock warrant (Warrant) to purchase 303,537
shares of the Companys common stock. with an exercise price of $0.000001 per share. The Warrant
becomes exercisable as to 25% of the shares subject to the warrant on the first anniversary of the
date of commencement of the new CEOs employment with the Company and will become exercisable as to
the remaining shares subject to the Warrant in equal monthly installments over the three years
thereafter, subject to the new CEOs continued employment on such dates. The Company measured total
unearned stock-based compensation of $764,000 representing the fair value of the Warrant as of the
date of grant. This amount is being amortized over the vesting term using an accelerated graded
method in accordance with FIN 28. Amortization of stock-based compensation expense of $298,000 and
$255,000 was recorded during the years ended December 31 2003 and 2004, respectively. The Company had the following common stock warrants outstanding and exercisable as of December
31, 2003 and 2004 associated with its previous borrowings with a commercial bank: F-15




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Number of Shares
    
    Expiration Date
    
    Exercise Price2,857
    
    March 2005
    
    $
    37.8066,240
    
    February 2006
    
    $
    2.2734,504
    
    April 2006
    
    $
    5.11103,601
 The fair value of these warrants was calculated and recorded as a deferred facility fee and
amortized to interest expense over the life of the loan. There was no ongoing arrangement or
outstanding debt with this bank as of December 31, 2003 and 2004. 7. Common Stock As of December 31, 2003, 43,128,211 shares of common stock were authorized and 4,577,437
shares were issued and outstanding. In connection with the initial public offering effective on
October 1, 2004, the Company increased the number of authorized common stock to 75,000,000 shares
and 15,624,856 were issued and outstanding as of December 31, 2004. 8. Stock Option Plans The Company adopted the 2004 Equity Incentive Award Plan (2004 Plan), effective on September
28, 2004, which authorized the Company to initially issue up to 2,100,000 shares of common stock.
Commencing on January 1, 2005 and on each January 1,thereafter during the initial ten-year term of
the 2004 Plan, the number of shares of common stock that may be issued pursuant to awards granted
under the 2004 Plan shall be automatically increased by that number of shares equal to the least of
(1) four percent of the outstanding shares of common stock on such date, (2) 1,000,000 shares or
(3) a lesser amount determined by the Companys board of directors. The 2004 Plan replaced the existing 2000 equity incentive plan (2000 Plan) but all awards
outstanding under the 2000 Plan as of the effective date of the 2004 Plan shall remain outstanding
and exercisable pursuant to the terms of the 2000 Plan and the terms of such individual grants, but
no additional awards will be granted under the 2000 Plan. On September 28, 2004 the Company filed a
Registration Statement on Form S-8 to register with the Securities and Exchange Commission
1,149,999 shares of common stock for the options outstanding under the 2000 Plan and 4,100,000
shares of common stock available for issuance under the 2004 Plan (this number includes 2,000,000
shares of common stock that will become issuable over the next two years pursuant to the evergreen
provision in the 2004 Plan, as described above). The 2004 Plan provides for awards consisting of
stock options, restricted stock, stock appreciation rights, performance awards, dividend
equivalents, stock payments, restricted stock units and other stock related benefits, or any
combination thereof In the event of a change of control, as defined in the 2004 Plan and 2000 Plan (collectively
the Plans) where the acquirer does not assume or replace awards granted under the Plans, such
awards that are held by participants whose employment or service with the Company has not
terminated will be subject to accelerated vesting such that 100% of such awards will become vested
and exercisable or payable, as applicable. All awards under the Plans that are not exercised prior
to the change of control will terminate. Vesting provisions and other terms and conditions are determined by the compensation committee
at the time of grant. Options granted under the Plans generally vest over four years. Options
generally expire ten years from the date of grant. The Company recorded total unearned stock-based
compensation of $504,000 for the period ended December 31, 2004 based on the intrinsic value at the
time of the grants, which is being amortized over the vesting term using an accelerated graded
method in accordance with FIN 28. Amortization of stock-based compensation expense under the Plans
of $295,000, $320,000 and $360,000 was recorded during the years ended December 31 2002, 2003 and
2004, respectively. Stock option transactions under the Plans are summarized as follows: F-16




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##### Table of Contents



WEBSIDESTORY, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Weighted-AverageOptions
    
    
    ExerciseOutstanding
    
    
    PricesBalance at December 31, 2001
    
    
    692,315
    
    
    $
    4.17Granted
    
    
    519,931
    
    
    
    0.84Exercised
    
    
    (1,982
    )
    
    
    0.84Forfeited
    
    
    (145,673
    )
    
    
    2.93Balance at December 31, 2002
    
    
    1,064,591
    
    
    
    2.73Granted
    
    
    362,771
    
    
    
    0.84Exercised
    
    
    (40,710
    )
    
    
    0.84Forfeited
    
    
    (297,208
    )
    
    
    3.32Balance at December 31, 2003
    
    
    1,089,444
    
    
    
    2.00Granted
    
    
    1,053,321
    
    
    
    7.54Exercised
    
    
    (404,717
    )
    
    
    1.04Forfeited
    
    
    (99,241
    )
    
    
    4.88Balance at December 31, 2004
    
    
    1,638,807
    
    
    
    5.62Options exercisable at December 31, 2004
    
    
    405,795
    
    
    
    3.31Options exercisable at December 31, 2003
    
    
    614,314
    
    
    
    2.71Options exercisable at December 31, 2002
    
    
    352,664
    
    
    $
    5.22
 The weighted-average grant-date fair value per share of options granted for the years ended
December 31, 2002, 2003 and 2004 was as follows: Year Ended December 31,2002
    
    
    2003
    
    
    2004Weighted-average fair value:Options granted below fair value
    
    $
    
    
    
    $
    1.40
    
    
    $
    1.92Options granted above fair value
    
    
    
    
    
    
    
    
    
    
    0.21Options equal to fair value
    
    
    0.11
    
    
    
    
    
    
    
    2.66Weighted-average exercise price:Options granted at or below fair value
    
    
    0.84
    
    
    
    0.84
    
    
    
    7.59Options granted above fair value
    
    $
    
    
    
    $
    
    
    
    $
    6.74
 F-17




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##### Table of Contents



WEBSIDESTORY, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) The following table summarizes information about all options outstanding at December 31, 2004: Options Outstanding
    
    
    Options ExercisableWeighted-
    
    
    Weighted-
    
    
    
    
    
    
    Weighted-Average
    
    
    Average
    
    
    
    
    
    
    AverageExercise
    
    Number
    
    
    Remaining
    
    
    Exercise
    
    
    Number
    
    
    ExercisePrices
    
    Outstanding
    
    
    Life (Years)
    
    
    Price
    
    
    Exercisable
    
    
    Price$0.84
    
    
    530,683
    
    
    
    7.7
    
    
    $
    0.84
    
    
    
    297,734
    
    
    $
    0.841.89
    
    
    5,421
    
    
    
    6.6
    
    
    
    1.89
    
    
    
    4,730
    
    
    
    1.894.90
    
    
    48,813
    
    
    
    5.0
    
    
    
    4.90
    
    
    
    43,456
    
    
    
    4.905.25
    
    
    379,686
    
    
    
    9.2
    
    
    
    5.25
    
    
    
    
    
    
    
    8.00
    
    
    50,431
    
    
    
    9.7
    
    
    
    8.00
    
    
    
    
    
    
    
    8.50
    
    
    390,714
    
    
    
    9.7
    
    
    
    8.50
    
    
    
    
    
    
    
    9.52
    
    
    28,750
    
    
    
    5.3
    
    
    
    9.52
    
    
    
    28,678
    
    
    
    9.5210.20
    
    
    33,174
    
    
    
    6.3
    
    
    
    10.20
    
    
    
    
    
    
    
    10.25
    
    
    35,000
    
    
    
    9.8
    
    
    
    10.25
    
    
    
    
    
    
    
    10.50
    
    
    18,138
    
    
    
    9.5
    
    
    
    10.50
    
    
    
    
    
    
    
    10.92
    
    
    892
    
    
    
    5.4
    
    
    
    10.92
    
    
    
    892
    
    
    
    10.9211.22
    
    
    5,000
    
    
    
    9.9
    
    
    
    11.22
    
    
    
    
    
    
    
    11.45
    
    
    8,500
    
    
    
    9.9
    
    
    
    11.45
    
    
    
    
    
    
    
    11.61
    
    
    7,500
    
    
    
    9.9
    
    
    
    11.61
    
    
    
    
    
    
    
    11.75
    
    
    2,000
    
    
    
    9.9
    
    
    
    11.75
    
    
    
    
    
    
    
    11.92
    
    
    43,000
    
    
    
    9.9
    
    
    
    11.92
    
    
    
    
    
    
    
    12.46
    
    
    800
    
    
    
    10.0
    
    
    
    12.46
    
    
    
    
    
    
    
    12.76
    
    
    10,000
    
    
    
    9.9
    
    
    
    12.76
    
    
    
    
    
    
    
    12.93
    
    
    4,000
    
    
    
    9.9
    
    
    
    11.93
    
    
    
    
    
    
    
    13.10
    
    
    6,000
    
    
    
    10.0
    
    
    
    13.10
    
    
    
    
    
    
    
    14.56
    
    
    20,027
    
    
    
    5.5
    
    
    
    14.56
    
    
    
    20,027
    
    
    
    14.5628.00
    
    
    7,175
    
    
    
    4.0
    
    
    
    28.00
    
    
    
    7,175
    
    
    
    28.0030.80
    
    
    3,103
    
    
    
    5.5
    
    
    
    30.80
    
    
    
    3,103
    
    
    
    30.801,638,807
    
    
    
    8.7
    
    
    $
    5.62
    
    
    
    405,795
    
    
    $
    3.31
 During the period between January 1, 2003 and December 31, 2004, the Company granted
stock options and restricted stock awards with exercise prices as follows: WeightedWeighted
    
    
    Weighted
    
    
    AverageNumber
    
    
    Average
    
    
    Average Fair
    
    
    Intrinsicof Shares
    
    
    Exercise
    
    
    Value Per
    
    
    Value PerGrants Made During Quarter Ended
    
    Granted
    
    
    Price
    
    
    Share
    
    
    ShareMarch 31, 2003
    
    
    57,142
    
    
    $
    0.84
    
    
    $
    1.18
    
    
    $
    0.34June 30, 2003
    
    
    800,527
    
    
    $
    0.24
    
    
    $
    1.47
    
    
    $
    1.23September 30, 2003
    
    
    224,142
    
    
    $
    0.25
    
    
    $
    2.38
    
    
    $
    2.13December 31, 2003
    
    
    10,569
    
    
    $
    0.84
    
    
    $
    3.84
    
    
    $
    3.00March 31, 2004
    
    
    262,926
    
    
    $
    5.16
    
    
    $
    5.55
    
    
    $
    0.39June 30, 2004
    
    
    181,421
    
    
    $
    5.51
    
    
    $
    7.98
    
    
    $
    2.47September 30, 2004
    
    
    451,143
    
    
    $
    8.49
    
    
    $
    8.45
    
    
    $
    December 31, 2004
    
    
    157,831
    
    
    $
    11.13
    
    
    $
    11.13
    
    
    $
    
 The intrinsic value per share, which is the difference between the fair value per share and
the exercise price, is being recognized as compensation expense over the applicable vesting period.
The fair value of common stock was determined on a retrospective basis for all grants prior to the
Companys initial public offering on October 1, 2004. 9. Qualified Retirement Plan The Company maintains an employee savings plan that qualifies as a deferred salary arrangement
under Section 401(k) of the Internal Revenue Code. Under the savings plan, participating employees
may contribute a portion of their pre-tax earnings, up to the Internal Revenue Service annual
contribution limit. Additionally, the Company may elect to make matching contributions into the
savings plan at its sole discretion. As of December 31, 2004, the Company has not made any matching
contributions into the savings plan. Beginning in 2005 the Company began a 50% match of up to 4%
of the employees contributions. 10. Commitments and Contingencies F-18




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##### Table of Contents



WEBSIDESTORY, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) The Company leases its office facilities and office equipment under non-cancelable operating
lease arrangements that expire on various dates through January 2007 and, with respect to the
office leases, contain certain renewal options. Rent expense under non-cancelable operating lease
arrangements is accounted for on a straight-line basis and totaled $1,245,000, $1,228,000 and
$1,048,000 during 2002, 2003 and 2004, respectively. Rent expense for the year ended December 31,
2002, 2003 and 2004 was net of sublease income of $678,000, $720,000 and $744,000, respectively. From time to time, the Company is subject to various legal proceedings in the ordinary course
of our business. The Company investigates these claims as they arise. F-19




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##### Table of Contents



WEBSIDESTORY, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) Future minimum lease payments and sublease income under non-cancelable operating lease
arrangements are as follows at December 31, 2004 (in thousands): Gross
    
    
    Sublease
    
    
    NetPayments
    
    
    Income
    
    
    PaymentsYear Ending December 31,2005
    
    $
    1,779
    
    
    $
    768
    
    
    $
    1,0112006
    
    
    1,807
    
    
    
    786
    
    
    
    1,0212007
    
    
    45
    
    
    
    20
    
    
    
    25Total minimum payments
    
    $
    3,631
    
    
    $
    1,574
    
    
    $
    2,057
 11. Income Taxes The components of the provision for (benefit from) income taxes are as follows (in thousands): Year Ended December 31,2002
    
    
    2003
    
    
    2004CurrentFederal
    
    $
    (21
    )
    
    $
    
    
    
    $
    25State
    
    
    2
    
    
    
    2
    
    
    
    2Foreign
    
    
    
    
    
    
    68
    
    
    
    21(19
    )
    
    
    70
    
    
    
    48DeferredFederal
    
    
    
    
    
    
    
    
    
    
    State
    
    
    
    
    
    
    
    
    
    
    Foreign
    
    
    
    
    
    
    (101
    )
    
    
    (2
    )
    
    
    
    (101
    )
    
    
    (2
    )$
    (19
    )
    
    $
    (31
    )
    
    $
    46
 Deferred tax assets and liabilities are comprised of the following (in thousands): 2002
    
    
    2003
    
    
    2004Deferred tax assetsAccrued bonuses and vacation
    
    $
    120
    
    
    $
    159
    
    
    $
    96Allowance for doubtful accounts
    
    
    218
    
    
    
    211
    
    
    
    108Stock-based compensation related to nonstatutory stock options
    
    
    86
    
    
    
    594
    
    
    
    925Capitalized legal, net of amortization
    
    
    
    
    
    
    26
    
    
    
    Depreciation and amortization
    
    
    352
    
    
    
    433
    
    
    
    152Net operating loss carryforward
    
    
    4,961
    
    
    
    5,191
    
    
    
    4,677Federal research and development credits
    
    
    166
    
    
    
    241
    
    
    
    251Other
    
    
    268
    
    
    
    158
    
    
    
    2396,171
    
    
    
    7,013
    
    
    
    6,448Deferred tax liabilitiesCapitalized software and website development costs
    
    
    
    
    
    
    (42
    )
    
    
    (83
    )6,171
    
    
    
    6,971
    
    
    
    6,365Valuation allowance
    
    
    (6,171
    )
    
    
    (6,870
    )
    
    
    (6,328
    )$
    
    
    
    $
    101
    
    
    $
    37
 The Company has established a valuation allowance against its domestic deferred tax assets as
it is more likely than not that these assets will not be realized. At December 31, 2004, the Company had a federal net operating loss carryforward of
approximately $12,754,000 and a state net operating loss carryforward of approximately $5,851,000,
which may be available to offset future taxable income. The federal net operating loss
carryforwards will begin to expire in 2019. The state net operating loss carryforwards will begin
to expire in 2006. Additionally, the Company had federal research and development tax credits of
$166,000 and state research and tax credits of $107,000. The federal research and development tax
credits will begin to expire in 2016. Pursuant to Section 382 of the Internal Revenue Code, annual
use of the Companys net operating loss and credit carryforwards will be limited as a result of the
change of F-20




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##### Table of Contents



WEBSIDESTORY, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Continued) control that occurred upon the Companys initial public offering. However, based on the
annual limitation available and projected taxable income, it is not expected that the change in
ownership will impact the Companys cash tax payments A reconciliation of the income tax expense (benefit) computed using the U.S. federal statutory
tax rate (34%) and the Companys provision for income taxes follows (in thousands): 2002
    
    
    2003
    
    
    2004Computed expected federal tax expense
    
    $
    (871
    )
    
    $
    (666
    )
    
    $
    611State taxes, net of federal benefit
    
    
    (133
    )
    
    
    (90
    )
    
    
    129Stock-based compensation expense
    
    
    78
    
    
    
    23
    
    
    
    (30
    )Other
    
    
    (19
    )
    
    
    3
    
    
    
    69Valuation allowance
    
    
    926
    
    
    
    699
    
    
    
    (733
    )$
    (19
    )
    
    $
    (31
    )
    
    $
    46
 12. Subsequent Events On February 8, 2005 the Company entered into an Agreement and Plan of Merger (the Merger
Agreement) to acquire Avivo Corporation, a California corporation (Avivo).Under the terms of
the Merger Agreement, the Company plans to issue approximately 3.1 million shares of common stock
and options and pay approximately $4.3 million in cash, in exchange for the outstanding capital
stock and options of Avivo. The consideration described above is subject to an escrow arrangement where approximately 19%
of the Companys common stock and cash will be held back to secure indemnification
obligations for a period of 15 months from the closing (with a portion extended to up to 24
months). Avivos shareholders also have the right to receive an earn-out payment based on
achievement of certain revenues by Avivo in the 15-month period following the closing, with such
payment not to exceed $4.1 million. The Company has also agreed to issue, pursuant to its existing
equity incentive plan, options to purchase an aggregate of 450,000 shares of common stock to
certain employees of Avivo. A substantial portion of the shares of the Companys common stock issued in connection with
this transaction are subject to lock-up agreements.The shares subject to these lock-up
restrictions will be released in approximately four equal tranches on a quarterly basis following
the public announcement of the Companys financial results for the coming quarters, with the first
such release following the public announcement of the Companys financial results for the first
quarter of 2005. The above transaction contains certain closing conditions for the Company and Avivo,including
the receipt of a determination by the Commissioner of the California Department of Corporations as
to the fairness of the transaction and approval of the transaction by the requisite vote of the
shareholders of Avivo. F-21




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##### Table of Contents



Index to Exhibits ExhibitNumber
    
    Description3.1(1)
    
    Amended and Restated Certificate of Incorporation.3.2(1)
    
    Amended and Restated Bylaws.4.1(1)
    
    Form of Common Stock Certificate.4.2(1)
    
    Registration Rights Agreement, as amended, by and among the Company and certain investors
set forth therein, dated June 18, 1999.4.3(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Bancorp, dated
March 27, 2000.4.4(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Bancorp, dated
February 2, 2001.4.5(1)
    
    Warrant to Purchase Common Stock by and between the Company and Imperial Creditcorp, dated
April 30, 2001.4.6(1)+
    
    Warrant to Purchase Series D Convertible Preferred Stock by and between the Company and
Jeffrey W. Lunsford, dated April 1, 2003.10.1(1)+
    
    Amended and Restated 2000 Equity Incentive Plan.10.2(2)+
    
    2004 Equity Incentive Award Plan and Form of Option Grant Agreement.10.3(1)+
    
    Common Stock Purchase Agreement between the Company and Jeffrey W. Lunsford, dated April
1, 2003.10.4(1)+
    
    Common Stock Purchase Agreement between the Company and Michael S. Christian, dated July
29, 2003.10.5(1)+
    
    Amended and Restated Employment Agreement between the Company and Jeffrey W. Lunsford,
dated July 21, 2004.10.6(1)+
    
    Offer Letter between the Company and Thomas D. Willardson, dated March 23, 2004.10.7(1)+
    
    Offer Letter between the Company and Rand Schulman, dated May 15, 2003.10.8(1)+
    
    Transition Agreement between the Company and John J. Hentrich, dated March 31, 2003.10.9(1)+
    
    Offer Letter between the Company and Christopher Reid, dated February 12, 2003.10.10(1)+
    
    Amendment to Employment Agreement between WebSideStory Holding B.V. and Daniel Guilloux,
dated November 15, 2002.10.11(1)+
    
    Employment Agreement between WebSideStory Holding B.V. and Daniel Guilloux, dated as of
July 1, 2000.10.12(1)+
    
    Confidentiality Agreement and Terms of Employment between the Company and Michael S.
Christian, dated April 25, 2000.10.13(1)+
    
    Form of Indemnification Agreement between the Company and the persons listed on Schedule A
thereto.




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##### Table of Contents



ExhibitNumber
    
    Description10.14(1)+
    
    Form of Change of Control Agreement between the Company and the persons listed on Schedule
A thereto.10.15(1)+
    
    Change of Control Agreement between the Company and Thomas D. Willardson, dated July 21,
2004.10.16(1)
    
    Terms for Delivery of Service and Customer Order Summary between the Company and Level (3)
Communications, Inc., dated November 20, 2001.10.17(1)
    
    Addendum to Terms for Delivery of Service between the Company and Level (3)
Communications, Inc., dated November 20, 2001.10.18(1)
    
    Office Lease between the Company and LNR Seaview, Inc., dated August 23, 1999.10.19(1)
    
    First Amendment to Office Lease between the Company and LNR Seaview, Inc., dated July 3,
2001.10.20(1)
    
    Sublease between the Company and RF Magic, Inc., dated July 3, 2001.10.21(1)
    
    Sublease between the Company and Avexus, Inc., dated July 6, 2001.10.22(1)
    
    Addendum to Sublease between the Company and Avexus, Inc., dated April 18, 2002.10.23(1)
    
    Amendment to Sublease between the Company and RF Magic, Inc., dated September 10, 2003.10.24(1)
    
    Revised Master Service Agreement among the Company, Buena Vista Internet Group, ESPN
Internet Ventures, ABCNews Internet Ventures, Infoseek Corporation, ABC Multimedia, Inc.
and Walt Disney Parks & Resorts Online dated August 29, 2003.10.25(1)
    
    Amendment to Revised Master Service Agreement among the Company, Buena Vista Internet
Group, ESPN Internet Ventures, ABCNews Internet Ventures, Infoseek Corporation, ABC
Multimedia, Inc. and Walt Disney Parks & Resorts Online dated March 31, 2004.10.26(1)
    
    Patent Cross-License Agreement between the Company and NetIQ Corporation dated December
12, 2003.10.27(1)
    
    Salesforce.com JoinForces Product Alliance Program Agreement, dated May 21, 2004, between
the Company and Salesforce.com, Inc.10.28(1)
    
    Second Addendum to Terms for Delivery of Service between the Company and Level (3)
Communications, Inc., dated April 4, 2003.21.1(1)
    
    List of Subsidiaries.23.1
    
    Consent of PricewaterhouseCoopers LLP, independent registered public accounting firm.31.1
    
    Certification of Chief Executive Officer pursuant to Rules 13a-14and 15d-14 promulgated
under the Securities Exchange Act of 1934.31.2
    
    Certification of Chief Financial Officer pursuant to Rules 13a-14and 15d-14 promulgated
under the Securities Exchange Act of 1934.32*
    
    Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   (1)
    
    Incorporated by reference to the Registration Statement on Form S-1 of WebSideStory, Inc. (Registration




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##### Table of Contents



No. 333-115916) filed with the Securities and Exchange Commission on September 17, 2004.(2)
    
    Incorporated by reference to the Registration Statement on Form S-8 of WebSideStory, Inc. (Registration
No. 333-119350) filed with the Securities and Exchange Commission on September 28, 2004.
    
    WebSideStory, Inc. has been granted confidential treatment with respect to certain portions of this
exhibit (indicated by asterisks), which have been separately filed with the Securities and Exchange
Commission.+
    
    Indicates management contract or compensatory plan.*
    
    These certifications are being furnished solely to accompany this annual report pursuant to 18 U.S.C.
Section 1350, and are not being filed for purposes of Section 18 of the Securities Exchange Act of 1934
and are not to be incorporated by reference into any filing of WebSideStory, Inc., whether made before
or after the date hereof, regardless of any general incorporation language in such filing.