UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549










FORM
10-Q





(Mark
One)




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




For
the quarterly period ended September 30, 2010




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




For the
transition period from ________ to ________





Commission
File Number 000-50954







NESS
TECHNOLOGIES, INC.


(Exact
name of registrant as specified in its charter)





Delaware
                98-0346908(State
      or other jurisdiction of
                (I.R.S.
      Employerincorporation
      or organization)
                Identification
      Number)Ness
      Tower
                Ness
      TechnologiesAtidim
      High-Tech Industrial Park, Building 4
                3
      University Plaza, Suite 600Tel
      Aviv 61580, Israel
                Hackensack,
      NJ 07601Telephone:
      +972 (3) 766-6800
                Telephone:
      (201) 488-7222


(Address
of registrant’s principal executive offices and registrant’s telephone number,
including area code)









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.  x Yes   ̈ No




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




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


Large
      accelerated filer  ̈
              Accelerated
      filer x
              Non-accelerated
      filer  ̈
              Smaller
      reporting company  ̈




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






As of
October 29, 2010, 38,003,058 shares of the issuer’s common stock, $0.01 par
value per share, were outstanding.










NESS
TECHNOLOGIES, INC. AND SUBSIDIARIES




INDEX




PART
      I – FINANCIAL INFORMATION
                    3Item
      1. Financial Statements
                    3Consolidated
      Balance Sheets – December 31, 2009 and September 30, 2010
      (Unaudited)
                    3Consolidated
      Statements of Income – Three and nine months ended September 30, 2009 and
      2010 (Unaudited)
                    5Consolidated
      Statements of Cash Flows – Nine months ended September 30, 2009 and 2010
      (Unaudited)
                    6Notes
      to Interim Consolidated Financial Statements – September 30, 2010
      (Unaudited)
                    8Item
      2. Management’s Discussion and Analysis of Financial Condition and Results
      of Operations
                    24Forward-Looking
      Statements
                    24Overview
                    24Consolidated
      Results of Operations
                    26Three
      Months Ended September 30, 2010 Compared to the Three Months Ended
      September 30, 2009
                    26Nine
      Months Ended September 30, 2010 Compared to the Nine months Ended
      September 30, 2009
                    29Results
      by Business Segment
                    32Liquidity
      and Capital Resources
                    33Item
      3. Quantitative and Qualitative Disclosures About Market
    Risk
                    35Item
      4. Controls and Procedures
                    36Evaluation
      of Disclosure Controls and Procedures
                    36Changes
      in Internal Control Over Financial Reporting
                    36PART
      II – OTHER INFORMATION
                    37Item
      1. Legal Proceedings
                    37Item
      1A. Risk Factors
                    37Item
      2. Unregistered Sales of Equity Securities and Use of
    Proceeds
                    37Item
      3. Defaults upon Senior Securities
                    37Item
      4. (Removed and Reserved)
                    37Item
      5. Other Information
                    37Item
      6. Exhibits
                    37SIGNATURES
                    29EXHIBIT
      INDEX
                    40





PART
I – FINANCIAL INFORMATION




Item
1. Financial Statements




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Interim
Consolidated Balance Sheets


U.S.
dollars in thousands




December
                  31, 2009
              
              
              September
                  30, 2010(Unaudited)ASSETSCURRENT
      ASSETS:Cash
      and cash equivalents
              
              $
              40,218
              
              
              $
              35,232Restricted
      cash
              
              
              2,470
              
              
              
              2,572Short-term
      bank deposits
              
              
              25,939
              
              
              
              14,802Trade
      receivables, net of allowance for doubtful accounts of $2,789 at December
      31, 2009 and $2,239 at September 30, 2010
              
              
              131,452
              
              
              
              146,683Unbilled
      receivables
              
              
              28,012
              
              
              
              42,307Other
      accounts receivable and prepaid expenses
              
              
              27,832
              
              
              
              30,451Work
      in progress
              
              
              9,690
              
              
              
              6,877Total
      assets attributed to discontinued operations
              
              
              43,212
              
              
              
              30,616Total
      current assets
              
              
              308,825
              
              
              
              309,540LONG-TERM
      ASSETS:Long-term
      prepaid expenses and other assets
              
              
              6,083
              
              
              
              7,209Unbilled
      receivables
              
              
              4,654
              
              
              
              3,508Deferred
      income taxes, net
              
              
              3,608
              
              
              
              2,704Severance
      pay fund
              
              
              53,145
              
              
              
              57,074Property
      and equipment, net
              
              
              35,739
              
              
              
              33,813Intangible
      assets, net
              
              
              10,016
              
              
              
              11,129Goodwill
              
              
              263,541
              
              
              
              279,875Total
      long-term assets
              
              
              376,786
              
              
              
              395,312Total
      assets
              
              $
              685,611
              
              
              $
              704,852




The
accompanying notes are an integral part of the interim consolidated financial
statements.
  - 3
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Interim
Consolidated Balance Sheets


U.S.
dollars in thousands (except share and par value data)




December
                    31, 2009
                
                
                September
                    30, 2010(Unaudited)LIABILITIES
      AND STOCKHOLDERS’ EQUITYCURRENT
      LIABILITIES:Short-term
      bank credit
                
                $
                500
                
                
                $
                30,379Current
      maturities of long-term debt
                
                
                21,332
                
                
                
                26,303Trade
      payables
                
                
                30,914
                
                
                
                33,796Advances
      from customers and deferred revenues
                
                
                40,639
                
                
                
                31,640Other
      accounts payable and accrued expenses
                
                
                99,464
                
                
                
                106,300Total
      liabilities attributed to discontinued operations
                
                
                25,461
                
                
                
                12,779Total
      current liabilities
                
                
                218,310
                
                
                
                241,197LONG-TERM
      LIABILITIES:Long-term
      debt, net of current maturities
                
                
                50,836
                
                
                
                43,351Other
      long-term liabilities
                
                
                6,689
                
                
                
                7,722Deferred
      income taxes
                
                
                2,045
                
                
                
                2,477Accrued
      severance pay
                
                
                56,443
                
                
                
                60,670Total
      long-term liabilities
                
                
                116,013
                
                
                
                114,220COMMITMENTS
      AND CONTINGENT LIABILITIESSTOCKHOLDERS’
      EQUITY:Preferred
      stock of $0.01 par value –Authorized:
      8,500,000 shares at December 31, 2009 and at September 30, 2010;Issued
      and outstanding: none at December 31, 2009 and September 30,
      2010
                
                
                —
                
                
                
                —Common
      stock of $0.01 par value –Authorized:
      76,500,000 shares at December 31, 2009 and at September 30, 2010;Issued:
      39,628,994 at December 31, 2009 and 39,630,962 at September 30, 2010;Outstanding:
      38,399,290 at December 31, 2009 and 38,003,058 at September 30,
      2010
                
                
                396
                
                
                
                396Additional
      paid-in capital
                
                
                332,928
                
                
                
                335,289Accumulated
      other comprehensive income
                
                
                16,176
                
                
                
                18,009Retained
      earnings
                
                
                6,476
                
                
                
                2,598Treasury
      stock, at cost (1,229,704 shares at December 31, 2009 and 1,627,904 at
      September 30, 2010)
                
                
                (4,688
                )
                
                
                (6,857
                )Total
      stockholders’ equity
                
                
                351,288
                
                
                
                349,435Total
      liabilities and stockholders’ equity
                
                $
                685,611
                
                
                $
                704,852




The
accompanying notes are an integral part of the interim consolidated financial
statements.




- 4
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Interim
Consolidated Statements of Income


U.S.
dollars in thousands (except per share data)





Three months ended
                  September 30,
              
              
              Nine months ended
                  September 30,2009
              
              
              2010
              
              
              2009
              
              
              2010(Unaudited)
              
              
              (Unaudited)
              
              
              (Unaudited)
              
              
              (Unaudited)Revenues
              
              $
              123,202
              
              
              $
              141,346
              
              
              $
              376,370
              
              
              $
              414,380Cost
      of revenues
              
              
              89,780
              
              
              
              102,716
              
              
              
              276,681
              
              
              
              301,512Gross
      profit
              
              
              33,422
              
              
              
              38,630
              
              
              
              99,689
              
              
              
              112,868Selling
      and marketing
              
              
              10,033
              
              
              
              9,542
              
              
              
              28,926
              
              
              
              29,433General
      and administrative
              
              
              19,521
              
              
              
              25,401
              
              
              
              64,339
              
              
              
              74,294Insurance
      settlement related to 2007 arbitration expense, net of related
      expenses
              
              
              —
              
              
              
              —
              
              
              
              (2,610
              )
              
              
              —Commissions
      related to the sale of Israeli SAP sales and distribution
      operations
              
              
              —
              
              
              
              —
              
              
              
              (2,534
              )
              
              
              —Total
      operating expenses
              
              
              29,554
              
              
              
              34,943
              
              
              
              88,121
              
              
              
              103,727Operating
      income
              
              
              3,868
              
              
              
              3,687
              
              
              
              11,568
              
              
              
              9,141Financial
      expenses, net
              
              
              (388
              )
              
              
              (489
              )
              
              
              (2,210
              )
              
              
              (1,140
              )Income
      before taxes on income
              
              
              3,480
              
              
              
              3,198
              
              
              
              9,358
              
              
              
              8,001Taxes
      on income
              
              
              826
              
              
              
              1,631
              
              
              
              2,005
              
              
              
              4,848Net
      income from continuing operations
              
              $
              2,654
              
              
              $
              1,567
              
              
              $
              7,353
              
              
              $
              3,153Net
      loss from discontinued operations
              
              
              (1,812
              )
              
              
              (799
              )
              
              
              (3,941
              )
              
              
              (7,031
              )Net
      income (loss)
              
              $
              842
              
              
              $
              768
              
              
              $
              3,412
              
              
              $
              (3,878
              )Basic
      net earnings per share from continuing operations
              
              $
              0.07
              
              
              $
              0.04
              
              
              $
              0.19
              
              
              $
              0.08Diluted
      net earnings per share from continuing operations
              
              $
              0.07
              
              
              $
              0.04
              
              
              $
              0.19
              
              
              $
              0.08Basic
      and diluted net loss per share from discontinued
operations
              
              $
              (0.05
              )
              
              $
              (0.02
              )
              
              $
              (0.10
              )
              
              $
              (0.18
              )Basic
      net earnings (loss) per share
              
              $
              0.02
              
              
              $
              0.02
              
              
              $
              0.09
              
              
              $
              (0.10
              )Diluted
      net earnings (loss) per share
              
              $
              0.02
              
              
              $
              0.02
              
              
              $
              0.09
              
              
              $
              (0.10
              )




(*) 
   Includes stock-based compensation, as follows:




Three months ended
                  September 30,
              
              
              Nine months ended
                  September 30,2009
              
              
              2010
              
              
              2009
              
              
              2010(Unaudited)
              
              
              (Unaudited)
              
              
              (Unaudited)
              
              
              (Unaudited)Cost
      of revenues
              
              $
              63
              
              
              $
              49
              
              
              $
              183
              
              
              $
              204Selling
      and marketing
              
              
              52
              
              
              
              40
              
              
              
              155
              
              
              
              125General
      and administrative
              
              
              748
              
              
              
              668
              
              
              
              2,281
              
              
              
              1,588




The
accompanying notes are an integral part of the interim consolidated financial
statements.




- 5
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Interim
Consolidated Statements of Cash Flows


U.S.
dollars in thousands




Nine months ended
                  September 30,2009
              
              
              2010(Unaudited)
              
              
              (Unaudited)Cash flows from operating
      activities:Net
      income (loss)
              
              $
              3,412
              
              
              $
              (3,878
              )Adjustments
      required to reconcile net income (loss) to net cash provided by (used in)
      operating activities:Net
      loss from discontinued operations
              
              
              3,941
              
              
              
              7,031Stock-based
      compensation
              
              
              2,619
              
              
              
              2,357Currency
      fluctuation of restricted cash and short-term bank
deposits
              
              
              —
              
              
              
              (999
              )Depreciation
      and amortization
              
              
              12,937
              
              
              
              13,387Loss
      (gain) on sale of property and equipment and impairment and sale of cost
      investments
              
              
              (138
              )
              
              
              108Commissions
      related to the sale of Israeli SAP sales and distribution
      operations
              
              
              (2,534
              )
              
              
              —Decrease
      (increase) in trade receivables, net
              
              
              53,444
              
              
              
              (9,255
              )Decrease
      (increase) in unbilled receivables
              
              
              3,549
              
              
              
              (11,298
              )Increase
      in other accounts receivable and prepaid expenses
              
              
              (4,293
              )
              
              
              (1,982
              )Decrease
      (increase) in work-in-progress
              
              
              (754
              )
              
              
              2,612Increase
      in long-term prepaid expenses
              
              
              (414
              )
              
              
              (825
              )Deferred
      income taxes, net
              
              
              395
              
              
              
              1,437Increase
      (decrease) in trade payables
              
              
              (17,174
              )
              
              
              2,372Decrease
      in advances from customers and deferred revenues
              
              
              (2,210
              )
              
              
              (9,518
              )Decrease
      in other accounts payable and accrued expenses
              
              
              (15,508
              )
              
              
              (15
              )Increase
      in other long-term liabilities
              
              
              677
              
              
              
              902Increase
      (decrease) in accrued severance pay, net
              
              
              (2,570
              )
              
              
              114Net
      cash used in discontinued operations
              
              
              (1,279
              )
              
              
              (6,109
              )Net
      cash provided by (used in) operating activities
              
              
              34,100
              
              
              
              (13,559
              )Cash flows from investing
      activities:Consideration
      from sale of a consolidated subsidiary
              
              
              —
              
              
              
              1,711Net
      cash paid for acquisition of a consolidated subsidiary
              
              
              —
              
              
              
              (17,197
              )Cash
      paid for acquisition of intangible assets
              
              
              —
              
              
              
              (513
              )Additional
      payments in connection with acquisitions of subsidiaries in prior
      periods
              
              
              (13,643
              )
              
              
              (1,330
              )Proceeds
      from maturity of (investment in) short-term bank deposits,
    net
              
              
              (16,822
              )
              
              
              12,031Proceeds
      from sale of property and equipment
              
              
              796
              
              
              
              —Purchase
      of property and equipment and capitalization of software developed for
      internal use
              
              
              (9,395
              )
              
              
              (6,906
              )Net
      cash used in discontinued operations
              
              
              (1,808
              )
              
              
              —Net
      cash used in investing activities
              
              
              (40,872
              )
              
              
              (12,204
              )Cash flows from financing
      activities:Exercise
      of options
              
              
              —
              
              
              
              4Repurchase
      of shares
              
              
              (2,037
              )
              
              
              (2,169
              )Acquired
      subsidiary’s dividend to its former shareholder
              
              
              (1,430
              )
              
              
              —Short-term
      bank loans and credit, net
              
              
              (2,960
              )
              
              
              26,622Proceeds
      from long-term debt
              
              
              15,000
              
              
              
              13,364Principal
      payments of long-term debt
              
              
              (4,411
              )
              
              
              (14,659
              )Net
      cash provided by financing activities
              
              
              4,162
              
              
              
              23,162




The
accompanying notes are an integral part of the interim consolidated financial
statements.




- 6
-


NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Interim
Consolidated Statements of Cash Flows


U.S.
dollars in thousands





Nine months ended
                  September 30,2009
              
              
              2010(Unaudited)
              
              
              (Unaudited)Effect
      of exchange rate changes on cash and cash equivalents
              
              
              (1,038
              )
              
              
              (2,385
              )Decrease
      in cash and cash equivalents
              
              
              (3,648
              )
              
              
              (4,986
              )Cash
      and cash equivalents at the beginning of the period
              
              
              44,585
              
              
              
              40,218Cash
      and cash equivalents at the end of the period
              
              $
              40,937
              
              
              $
              35,232






Non-cash
      activityGain
      (loss) from mark-to-market of foreign exchange forward contracts and
      interest rate swap
                
                $
                48
                
                
                $
                (1,737
                )




The
accompanying notes are an integral part of the interim consolidated financial
statements.




- 7
-


NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Notes
to Interim Consolidated Financial Statements


U.S.
dollars in thousands (except share and per share data)
(Unaudited)


Note
1: General




Ness
Technologies, Inc. (“we,” “our,” “us” or “the Company”) was incorporated under
the laws of the State of Delaware in March 1999. We operate through our
subsidiaries in North America, Europe, Israel and Asia Pacific.




We are a
global provider of IT and business services and solutions with specialized
expertise in software product engineering; and system integration, application
development, consulting and software distribution. We deliver our portfolio of
solutions and services using a global delivery model combining offshore,
near-shore and local teams. The primary verticals we serve include high-tech
companies and independent software vendors; utilities and government; financial
services; defense and homeland security; and life sciences and
healthcare.




Note
2: Significant Accounting Policies




a.
            Unaudited Interim
      Financial Information




The
accompanying consolidated balance sheet as of September 30, 2010, consolidated
statements of income for the three and nine months ended September 30, 2009 and
2010 and consolidated statements of cash flows for the nine months ended
September 30, 2009 and 2010 are unaudited. These unaudited interim consolidated
financial statements have been prepared in accordance with U.S. generally
accepted accounting principles for interim financial information. In the opinion
of management, the unaudited interim consolidated financial statements include
all adjustments of a normal recurring nature necessary for a fair presentation
of our consolidated financial position as of September 30, 2010, our
consolidated results of operations for the three and nine months ended September
30, 2009 and 2010 and our consolidated cash flows for the nine months ended
September 30, 2009 and 2010.




The
balance sheet at December 31, 2009 has been derived from the audited
consolidated financial statements at that date but does not include all of the
information and footnotes required by U.S. generally accepted accounting
principles for complete financial statements.




These
consolidated financial statements should be read in conjunction with the audited
consolidated financial statements and accompanying notes for the year ended
December 31, 2009 included in our Annual Report on Form 10-K filed with the U.S.
Securities and Exchange Commission (“SEC”) on March 15, 2010.




Results
for the three and nine months ended September 30, 2010 are not necessarily
indicative of results that may be expected for the year ending December 31,
2010.




Unless
otherwise noted, all references to “dollars” or “$” are to United States dollars
and all references to “NIS” are to New Israeli Shekels.




b.
            Reclassification




Certain
prior period amounts have been reclassified to conform to the current period
presentation.




c.
            Use of
      estimates




The
preparation of financial statements in conformity with United States generally
accepted accounting principles requires our management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Our management believes that the estimates, judgments and
assumptions used are reasonable based upon information available at the time
they are made. These estimates, judgments and assumptions can affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the dates of the financial statements, and the reported
amounts of revenue and expenses during the reporting period. Actual results
could differ from those estimates.




- 8
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




d.
            Principles of
      consolidation




Our
consolidated financial statements include the accounts of the company and its
wholly and majority owned subsidiaries, referred to herein as the group.
Inter-company transactions and balances, including profit from inter-company
sales not yet realized outside the group, have been eliminated in
consolidation.




e.
            Fair value
      measurements




We
categorize the fair value of our financial assets and liabilities according to
the hierarchy established by the Financial Accounting Standards Board (“FASB”),
which prioritizes the inputs to valuation techniques used to measure fair value.
The hierarchy gives the highest priority to unadjusted quoted prices in active
markets for identical assets or liabilities (Level 1 measurements) and the
lowest priority to unobservable inputs (Level 3 measurements). The three levels
of the fair value hierarchy are described as follows:




Level
      1
              Valuations
      based on quoted prices in active markets for identical assets or
      liabilities that we have the ability to directly
access.Level
      2
              Valuations
      based on quoted prices for similar assets or liabilities; valuations for
      interest-bearing securities based on non-daily quoted prices in active
      markets; quoted prices in markets that are not active; or other inputs
      that are observable or can be corroborated by observable data for
      substantially the full term of the assets or
  liabilities.Level
      3
              Valuations
      based on inputs that are supported by little or no market activity and
      that are significant to the fair value of the assets or
      liabilities.




A
financial instrument’s level within the fair value hierarchy is based on the
lowest level of any input that is significant to its fair value
measurement.




In
circumstances in which a quoted price in an active market for the identical
liability is not available, we are required to use the quoted price of the
identical liability when traded as an asset, quoted prices for similar
liabilities, or quoted prices for similar liabilities when traded as assets. If
these quoted prices are not available, then we are required to use another
valuation technique, such as an income approach or a market
approach.




Assets
and liabilities measured at fair value under Accounting Standards Codification
(“ASC”) Topic 820, “Fair Value Measurements and Disclosures” (“ASC 820”), as of
September 30, 2010 were presented on our Consolidated Balance Sheet as
follows:




- 9
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Total
                  
                  
                  Quoted
                      Prices in
                      Active
                      Markets
                      for
                      Identical
                      Assets
                      (Level 1)
                  
                  
                  Significant
                      Other
                      Observable
                      Inputs
                      (Level 2)
                  
                  
                  Significant
                      Unobservable
                      Inputs
                      (Level 3)Derivative
      instruments (recurring basis)
                  
                  $
                  972
                  
                  
                  $
                  —
                  
                  
                  $
                  972
                  
                  
                  $
                  —Goodwill
      and intangible assets, net (non-recurring basis)
                  
                  $
                  291,004
                  
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  291,004Total
      assets
                  
                  $
                  291,976
                  
                  
                  $
                  —
                  
                  
                  $
                  972
                  
                  
                  $
                  291,004Derivative
      instruments (recurring basis)
                  
                  $
                  1,532
                  
                  
                  $
                  —
                  
                  
                  $
                  1,532
                  
                  
                  $
                  —Total
      liabilities
                  
                  $
                  1,532
                  
                  
                  $
                  —
                  
                  
                  $
                  1,532
                  
                  
                  $
                  —




Assets
and liabilities measured at fair value under ASC 820 as of December 31, 2009
were presented on our Consolidated Balance Sheet as follows:




Total
                
                
                Quoted
                    Prices in
                    Active
                    Markets
                    for
                    Identical
                    Assets
                    (Level 1)
                
                
                Significant
                    Other
                    Observable
                    Inputs
                    (Level 2)
                
                
                Significant
                    Unobservable
                    Inputs
                    (Level 3)Derivative
      instruments (recurring basis)
                
                $
                1,221
                
                
                $
                —
                
                
                $
                1,221
                
                
                $
                —Goodwill
      and intangible assets, net (non-recurring basis)
                
                $
                273,557
                
                
                $
                —
                
                
                $
                —
                
                
                $
                273,557Total
      assets
                
                $
                274,778
                
                
                $
                —
                
                
                $
                1,221
                
                
                $
                273,557Derivative
      instruments (recurring basis)
                
                $
                665
                
                
                $
                —
                
                
                $
                665
                
                
                $
                —Total
      liabilities
                
                $
                665
                
                
                $
                —
                
                
                $
                665
                
                
                $
                —




The fair
value of long-term debt is estimated by discounting the future cash flows using
current interest rates for loans of similar terms and maturities. The carrying
amount of the long-term debt approximates its fair value.




In
addition to the assets and liabilities described above, our financial
instruments also include cash, trade receivables, other accounts receivable,
related party receivables, trade payables, accrued expenses and other payables.
The fair value of these financial instruments was not materially different from
their carrying value at September 30, 2010 and December 31, 2009 due to the
short-term maturity of these instruments.




- 10
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




f.
            Impact of recently
      issued and adopted accounting
  pronouncements




In
October 2009, the FASB issued ASU No. 2009-13, “Multiple-Deliverable Revenue
Arrangements (amendments to FASB ASC Topic 605, Revenue Recognition)” (“ASU
2009-13”), and ASU No. 2009-14, “Certain Arrangements That Include Software
Elements (amendments to FASB ASC Topic 985, Software)” (“ASU 2009-14”). ASU
2009-13 requires entities to allocate revenue in an arrangement using estimated
selling prices of the delivered goods and services based on a selling price
hierarchy. The amendments eliminate the residual method of revenue allocation
and require revenue to be allocated using the relative selling price method. ASU
2009-14 removes tangible products from the scope of software revenue guidance
and provides guidance on determining whether software deliverables in an
arrangement that includes a tangible product are covered by the scope of the
software revenue guidance. As a result of the amendments included in ASU
2009-14, many tangible products and services that rely on software will be
accounted for under the multiple-element arrangements revenue recognition
guidance rather than under the software revenue recognition guidance. ASU
2009-14 also provides guidance on how to allocate transaction consideration when
an arrangement contains both deliverables within the scope of software revenue
guidance (software deliverables) and deliverables not within the scope of that
guidance (non-software deliverables). ASU 2009-13 and ASU 2009-14 are to be
applied on a prospective basis for revenue arrangements entered into or
materially modified in fiscal years beginning on or after June 15, 2010, with
early adoption permitted. We are currently evaluating the impact of these
standards on our consolidated results of operations and financial
condition.




In
January 2010, the FASB issued ASU No. 2010-06 which amends ASC Topic 820-10,
“Fair Value Measurements and Disclosures – Overall” (“ASC 820-10”). The update
requires a gross presentation of activities within the Level 3 roll-forward and
adds a new requirement to disclose transfers in and out of Level 1 and 2
measurements. The update further clarifies the existing disclosure requirements
in ASC 820-10 regarding: i) the level of disaggregation of fair value
measurements; and ii) the disclosures regarding inputs and valuation techniques.
The update was effective for our fiscal year beginning January 1, 2010 except
for the gross presentation of the Level 3 roll-forward information, which is
effective for our fiscal year beginning January 1, 2011. The principal impact
from this update will be expanded disclosures regarding our fair value
measurements.




In July
2010, the FASB issued ASU No. 2010-20, “Disclosures about the Credit Quality of
Financing Receivables and the Allowance for Credit Losses,” which amends FASB
ASC Topic 310, “Receivables.” The update enhances disclosures about the credit
quality of financing receivables and the allowance for credit losses. We are
currently evaluating the impact of this standard on our consolidated financial
statements.




Note
3: Acquisitions




a.
            Gilon Business Insight
      Ltd.




On March
25, 2010, we signed a definitive agreement to acquire all of the outstanding
capital stock of Gilon Business Insight Ltd. (“Gilon”), a privately-held,
leading Israeli provider of business intelligence consulting and implementation
solutions and services, for cash consideration of NIS 65 million, or $17,218,
and related acquisition and integration costs of $728. The related acquisition
and integration costs were recognized as expenses in our operating expenses. An
additional payment of up to NIS 9 million, or approximately $2,400, may be made
during the two-year period following the closing of the agreement should Gilon
achieve certain performance and retention goals. As of the acquisition date, in
anticipation of full achievement of the performance goals, we provided for a
present value of $1,292 with respect to the potential additional payment; and
the remaining amount consists of retention expenses, which will be recorded
during the next two years in our statements of income. The purchase closed on
May 4, 2010 and we consolidated the results of Gilon commencing April 1, 2010
due to immateriality. The acquisition of Gilon increases our market share in
Israel and further positions us as a provider of enterprise solutions, with a
blend of enterprise resource planning (“ERP”), business intelligence (“BI”) and
customer relationship management (“CRM”) capabilities. We intend to utilize
Gilon’s capabilities to help fulfill the demand for business intelligence
applications, solutions and services around the world. Following our acquisition
of Gilon, it became part of Ness Israel under our System Integration and
Application Development segment.




- 11
-
 
  NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)


This
acquisition was accounted for under the purchase method of accounting and,
accordingly, the purchase price was allocated to the assets acquired and
liabilities assumed based on their relative fair values as of the acquisition
date, using the exchange rate prevailing on that date, as follows:




Cash
      and cash equivalents
                    
                    $
                    959Current
      assets, excluding cash and cash equivalents
                    
                    
                    9,215Property
      and equipment
                    
                    
                    113Customer
      relations
                    
                    
                    4,477Backlog
                    
                    
                    313Goodwill
                    
                    
                    14,858Current
      liabilities
                    
                    
                    (8,780
                    )Accrual
      for additional consideration to be paid subsequent to the balance sheet
      date
                    
                    
                    (1,292
                    )Long-term
      liabilities
                    
                    
                    (2,645
                    )Total
      purchase price
                    
                    $
                    17,218




The value
assigned to the tangible assets, intangible assets and liabilities has been
determined as follows:




a.
            Gilon’s
      current assets and liabilities were recorded at their carrying amounts.
      The carrying amounts of the current assets and liabilities were reasonable
      proxies for their market values due to their short-term
      maturity.




b.
            The
      value assigned to the customer-related intangibles was $4,790. The fair
      value of Gilon’s customer-related intangibles were determined using the
      Income Approach. Customer-related intangibles are amortized over their
      estimated useful lives, which are nine years for customer relations and
      one year for backlog.




c.
            Included
      in long-term liabilities is a deferred tax liability of $1,079 recorded by
      the Company for the difference between the assigned values and the tax
      bases of the customer-related intangibles
  acquired.




d.
            Goodwill
      represents the excess of the purchase price over the fair value of the net
      tangible and amortizable intangible assets
  acquired.




b.
            Goodwill




In the
nine months ended September 30, 2010, we increased our goodwill by $14,858 due
to the Gilon acquisition and by $1,476 on account of foreign currency
translation adjustments.




Goodwill
and intangible assets deemed to have indefinite lives are tested for impairment
annually, or between annual tests in certain circumstances, and written down
when impaired. Goodwill is tested for impairment at the reporting unit level by
comparing the fair value of the reporting unit with its carrying value. We
perform our annual impairment analysis of goodwill as of December 31 of each
year, or more often if there are indicators of impairment present. As of
December 31, 2009, we performed our annual impairment test and recorded goodwill
impairment of $28,531. As our market capitalization is lower than our
stockholders’ equity and in response to changes in our assumptions related to
future cash flows and market conditions during the nine months ended September
30, 2010, we updated our analysis and performed an impairment test as of
September 30, 2010. As a result of the analysis, we concluded that goodwill was
not impaired.




- 12
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




In
accordance with ASC Topic 350, “Intangibles – Goodwill and Other,” each time we
performed the test, we compared the fair value of each reporting unit to its
carrying value. In such a test, if the fair value exceeds the carrying value of
the net assets, goodwill is considered not impaired, and we are not required to
perform further testing. We determined the fair value of each reporting unit
using the Income Approach, which utilizes a discounted cash flow model, as this
approach best approximates the reporting unit’s fair value at this time.
Judgments and assumptions related to revenues, operating income, future
short-term and long-term growth rates, weighted average cost of capital,
interest, capital expenditures, cash flows, and market conditions are inherent
in developing the discounted cash flow model. We considered historical rates and
current market conditions when determining the discount and growth rates to use
in our analyses. We corroborated the fair values using the Market Approach. If
the carrying value of the net assets exceeds the fair value, then we must
perform the second step of the impairment test in order to determine the implied
fair value of goodwill. Determining the fair value of our net assets and our
off-balance sheet intangibles would require us to make judgments that involve
the use of significant estimates and assumptions. If these estimates or their
related assumptions change in the future, we may be required to record
impairment charges for our goodwill.




c.
            Pro Forma Financial
      Information




The
following table presents certain combined unaudited statements of income data
for the nine months ended September 30, 2009 and 2010 as if our 2010 acquisition
of Gilon had occurred on January 1st of each
respective year, after giving effect to purchase accounting adjustments,
including amortization of identifiable intangible assets:




Nine months ended
                      September 30,2009
                  
                  
                  2010(Unaudited)
                  
                  
                  (Unaudited)Revenues
                  
                  $
                  392,138
                  
                  
                  $
                  420,130Net
      earnings (loss)
                  
                  $
                  2,674
                  
                  
                  $
                  (4,574
                  )Earnings
      (loss) per share:Basic
                  
                  $
                  0.07
                  
                  
                  $
                  (0.12
                  )Diluted
                  
                  $
                  0.07
                  
                  
                  $
                  (0.12
                  )




Note
4: Discontinued operations




On
January 15, 2010, we closed a share purchase agreement with a privately-held
Dutch company to sell the shares of our indirectly wholly-owned subsidiary Ness
Benelux for a total of €1.2 million, or $1,711. Prior to the sale, Ness Benelux
operated as part of Ness Europe under our System Integration and Application
Development segment and was engaged primarily in providing IT professional
services in the Netherlands.




- 13
-
 
  NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)


On
February 1, 2010, our board of directors resolved to sell our operations in the
Asia Pacific region, and on April 24, 2010, we signed a definitive asset
transfer agreement with the buyer. Ness Asia Pacific operated as part of our
System Integration and Application Development segment and was engaged primarily
in providing IT professional services in Singapore, Thailand and Malaysia. The
sale closed on September 1, 2010, except for Ness Thailand, which is expected to
close during the fourth quarter of 2010 or the first quarter of 2011. The sale
is effective as of April 1, 2010.




On March
29, 2010, our board of directors resolved to sell our NessPRO operations in
Europe, and we are currently seeking a buyer for these operations. NessPRO
Europe operates as part of our former Software Distribution segment and is
engaged primarily in selling and distributing licenses to third-party enterprise
software products in Italy, Spain and Portugal.




In
connection with the acquisition of Gilon, our board of directors resolved to
sell Gilon’s Turkish subsidiary. Therefore, the results of operations of Gilon
Turkey were initially classified as discontinued operations. Summary revenue and
expenses for this discontinued operation are not presented due to their
immateriality.




The
results of operations for Ness Asia Pacific and NessPRO Europe for the three and
nine months ended September 30, 2010, and the results of operations for Ness
Benelux, Ness Asia Pacific and NessPRO Europe for the three and nine months
ended September 30, 2009, including revenues and operating expenses, have been
reclassified in the accompanying income statements as discontinued operations in
accordance with ASC Topic 205-20, “Presentation of Financial Statements –
Discontinued Operations” (“ASC 205-20”). In addition, our balance sheets at
December 31, 2009 and September 30, 2010 have been reclassified to reflect the
assets and liabilities of these operations as assets and liabilities of
discontinued operations within current assets and current liabilities; and our
statements of cash flows for the nine months ended September 30, 2009 and 2010
have been reclassified to reflect the cash flows used in or provided by
discontinued operations.




The
results of operations for Ness Asia Pacific for the three and nine months ended
September 30, 2009 and 2010, which were reported separately as discontinued
operations in the consolidated statements of income, are summarized as
follows:




Three months ended
                    September 30,
                
                
                Nine months ended
                    September 30,2009
                
                
                2010
                
                
                2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)Revenues
                
                $
                4,173
                
                
                $
                —
                
                
                $
                11,636
                
                
                $
                4,783Operating
      loss
                
                $
                (213
                )
                
                $
                (200
                )
                
                $
                (1,309
                )
                
                $
                (2,825
                )Net
      loss from discontinued operations
                
                $
                (185
                )
                
                $
                (200
                )
                
                $
                (1,317
                )
                
                $
                (2,844
                )Basic
      and diluted net loss per share from discontinued
operations
                
                $
                (0.00
                )
                
                $
                (0.01
                )
                
                $
                (0.03
                )
                
                $
                (0.07
                )




The
results of operations for NessPRO Europe for the three and nine months ended
September 30, 2009 and 2010, which were reported separately as discontinued
operations in the consolidated statements of income, are summarized as
follows:




- 14
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Three months ended
                    September 30,
                
                
                Nine months ended
                    September 30,2009
                
                
                2010
                
                
                2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)Revenues
                
                $
                3,646
                
                
                $
                3,773
                
                
                $
                13,439
                
                
                $
                11,586Operating
      loss
                
                $
                (1,737
                )
                
                $
                (576
                )
                
                $
                (3,095
                )
                
                $
                (3,943
                )Net
      loss from discontinued operations
                
                $
                (1,766
                )
                
                $
                (519
                )
                
                $
                (3,001
                )
                
                $
                (4,060
                )Basic
      and diluted net loss per share from discontinued
operations
                
                $
                (0.04
                )
                
                $
                (0.01
                )
                
                $
                (0.08
                )
                
                $
                (0.11
                )




The
results of operations for Ness Benelux for the three and nine months ended
September 30, 2009, which were reported separately as discontinued operations in
the consolidated statements of income, are summarized as follows:




Three months
                    ended
                
                
                Nine months
                    endedSeptember 30,
                    2009
                
                
                September 30,
                    2009(Unaudited)
                
                
                (Unaudited)Revenues
                
                $
                1,712
                
                
                $
                4,965Operating
      income
                
                $
                159
                
                
                $
                417Net
      income from discontinued operations
                
                $
                139
                
                
                $
                377Basic
      net earnings per share from discontinued operations
                
                $
                0.00
                
                
                $
                0.01Diluted
      net earnings per share from discontinued operations
                
                $
                0.00
                
                
                $
                0.01




Note
5: Insurance settlement related to 2007 arbitration expense, net of related
expenses




On March
31, 2009, we received a settlement payment of $2,610, net of related expenses,
from our liability insurance provider related to the arbitration settlement,
which we recognized in the fourth quarter of 2007 using the exchange rate
prevailing on the payment date. No further payments from our insurance provider
are expected related to this matter.




Note
6: Commissions related to the sale of Israeli SAP sales and distribution
operations




In the
nine months ended September 30, 2009, we recorded income of $2,534, representing
commissions related to the sale of our SAP sales and distribution operations in
Israel to SAP AG in August 2008, in connection with meeting certain performance
criteria for 2008.




- 15
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Note
7: Derivative Instruments




ASC Topic
815, “Derivatives and Hedging,” requires companies to recognize all of their
derivative instruments as either assets or liabilities in the statement of
financial position at fair value. For derivative instruments that are designated
and qualify as a fair value hedge (i.e., they hedge the exposure to changes in
the fair value of an asset or a liability or an identified portion thereof that
is attributable to a particular risk), the gain or loss on the derivative
instrument as well as the offsetting loss or gain on the hedged item
attributable to the hedged risk are recognized in current earnings during the
period of the change in fair values. Derivatives that are designated and qualify
as hedges of forecasted transactions (i.e., cash flow hedges) are carried at
fair value with the effective portion of a derivative’s gain or loss recorded in
other comprehensive income and subsequently recognized in earnings in the same
period or periods in which the hedged forecasted transaction affects earnings.
For derivative instruments that are not designated and qualified as hedging
instruments, the gains or losses on the derivative instruments are recognized in
current earnings during the period of the change in fair values.




The
derivative instruments we use are designed to reduce the market risk associated
with the exposure of our underlying transactions, assets and liabilities to
fluctuations in currency exchange rates or interest rates. We believe that there
is no significant risk of nonperformance by these counterparties because we
monitor the credit ratings of counterparties with whom we have outstanding
contracts with a significant mark-to-market positive amount, and we limit our
financial exposure with any one financial institution.




Cash
Flow Hedging Strategy:




At
September 30, 2010, we held interest rate swap derivatives to convert certain
floating-rate debts to fixed-rate debts. The interest rate swap derivatives
involve an agreement to pay fixed-rate interest and receive floating-rate
interest, at specified intervals, calculated on agreed notional amounts that
match the amounts of the original loans and paid on the same installments and
maturity dates and as such there was no ineffectiveness related to these
derivatives for the nine months ended September 30, 2010. At September 30, 2010,
the aggregate notional amount of the interest rate swaps was $18,621, with all
unrealized losses being deferred in accumulated other comprehensive income. The
liability is presented within other long-term liabilities on the balance sheet
at September 30, 2010, as the interest rate swap derivatives expire in November
2012 through April 2013.




We enter
into foreign exchange forward contracts to hedge against the effect of exchange
rate fluctuations on forecasted cash flows primarily denominated in Indian
Rupees. At September 30, 2010, the notional amount of foreign exchange forward
contracts we entered into was $47,261 and there was no ineffectiveness related
to these foreign exchange forward contracts for the nine months ended September
30, 2010, with all unrealized gains being deferred in accumulated other
comprehensive income. The asset is presented within other accounts receivable
and prepaid expenses on the balance sheet at September 30, 2010, as the foreign
exchange forward contracts expire through September 30, 2011.




Derivatives
Instruments Not Designated as Hedging Strategy:




We enter
into foreign exchange forward contracts to hedge a portion of our trade payables
and receivables for a period of one to three months. The purpose of the foreign
currency instruments is to protect the fair value of our trade payables and
receivables due to foreign exchange rates. All gains and losses related to such
derivative instrument are recorded in financial expenses, net.




The
following tables present fair value amounts and gains and losses of derivative
instruments and related hedged items:




- 16
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Fair Values of Derivative InstrumentsAssets
                
                LiabilitiesBalance Sheet
                    Item
                
                December
                    31, 2009
                
                
                September
                    30, 2010
                
                Balance Sheet
                    Item
                
                December
                    31, 2009
                
                
                September
                    30, 2010(Unaudited)
                
                
                
                
                
                
                (Unaudited)Cash
      flow hedging:Foreign
      exchange forward contracts
                “Other
      accounts
                  receivable
      and
                  prepaid
      expenses”
                
                $
                928
                
                
                $
                972
                
                “Other
      accounts
                  payable
      and
                  accrued
      expenses”
                
                $
                77
                
                
                $
                —Interest
      rate swap
                
                
                
                —
                
                
                
                —
                
                “Other
      long-term liabilities”
                
                
                480
                
                
                
                489Total
      cash flow hedging
                
                
                $
                928
                
                
                $
                972
                
                
                
                $
                557
                
                
                $
                489Derivatives
      not designated as hedging:Foreign
      exchange forward contracts
                “Other
      accounts
                  receivable
      and
                  prepaid
                  expenses”
                
                
                293
                
                
                
                —
                
                “Other
      accounts
                  payable
      and
                  accrued
                  expenses”
                
                
                108
                
                
                
                1,043Total
      derivatives
                
                
                $
                1,221
                
                
                $
                972
                
                
                
                $
                665
                
                
                $
                1,532




Loss
                              Recognized in
                              Other
                            
                            
                            
                            Gain (loss) Recognized in Statements of IncomeComprehensive
                              Income
                            
                            
                            
                            Three months ended
                              September 30,
                            
                            
                            Nine months ended
                              September 30,September 30,
                              2010
                            
                            Statements of
                              Income Item
                            
                            2009
                            
                            
                            2010
                            
                            
                            2009
                            
                            
                            2010(Unaudited)
                            
                            
                            
                            (Unaudited)
                            
                            
                            (Unaudited)
                            
                            
                            (Unaudited)
                            
                            
                            (Unaudited)Cash flow hedging:Foreign
      exchange forward contracts
                            
                            $
                            742
                            
                            “Cost
      of
                              revenues”
      and
                              “Total operating
                              expenses”
                            
                            $
                            (566
                            )
                            
                            $
                            498
                            
                            
                            $
                            (3,519
                            )
                            
                            $
                            2,044Interest
      rate swap
                            
                            
                            (255
                            )
                            “Financial
      expenses, net”
                            
                            
                            (174
                            )
                            
                            
                            (98
                            )
                            
                            
                            (277
                            )
                            
                            
                            (345
                            )Total
      cash flow hedging
                            
                            $
                            487
                            
                            
                            
                            $
                            (740
                            )
                            
                            $
                            400
                            
                            
                            $
                            (3,796
                            )
                            
                            $
                            1,699Derivatives
      not designated as hedging:Foreign
      exchange forward contracts
                            
                            
                            
                            
                            “Financial
      expenses, net”
                            
                            
                            309
                            
                            
                            
                            (926
                            )
                            
                            
                            (244
                            )
                            
                            
                            (708
                            )Total
      derivatives
                            
                            
                            
                            
                            
                            
                            $
                            (431
                            )
                            
                            $
                            (526
                            )
                            
                            $
                            (4,040
                            )
                            
                            $
                            991





- 17
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Note
8: Commitments and Contingent Liabilities




a.
            Litigation




We are
periodically a party to routine litigation incidental to our business. Other
than as disclosed below, we do not believe that we are a party to or our
property is subject to any pending legal proceeding that is likely to have a
material adverse effect on our business, financial condition or results of
operations.




One of
our Israeli subsidiaries is currently involved in legal proceedings with the
Israeli Ministry of Justice (the “MOJ”). The legal proceedings relate to a
contract for the provision of an information system for the MOJ, executed in
November 2005 (the “MOJ Contract”). Following continued disputes, correspondence
and discussions, on February 9, 2009 we filed a claim with the Israeli District
Court located in Jerusalem claiming, among other things, a breach of the MOJ
Contract by the MOJ, including in connection with the MOJ’s demands for
revisions and changes to the software that were not contemplated in the MOJ
Contract. Our claim is for damages in the amount of NIS 20.7 million, or
approximately $5,600, using the exchange rate prevailing at September 30, 2010.
On February 11, 2009, the MOJ filed a claim against our Israeli subsidiary in
the Israeli District Court located in Jerusalem claiming, among other things,
that our Israeli subsidiary breached the MOJ Contract and failed to fulfill its
undertakings and obligations set forth therein. The MOJ’s claim is for damages
in the amount of NIS 79.5 million, or approximately $21,700, using the exchange
rate prevailing at September 30, 2010. The MOJ and our subsidiary have filed
answers to the respective claims. Both claims were subsequently transferred to
the Israeli District Court located in Tel Aviv. The first pre-trial hearing for
both claims was held on September 7, 2010, at which time the court transferred
the case to non-binding mediation. We believe that we have a substantial basis
with respect to our claim and valid defenses with respect to the MOJ’s claim.
While we intend to vigorously prosecute our claim and defend against the MOJ’s
claim, we cannot at this point predict the outcome of either claim. Adverse
decisions on these claims may materially adversely affect our financial
condition.




b.
            Guarantees




Guarantees
are contingent commitments issued by us generally to guarantee our performance
in different projects to our customers, such as tenders. The term of a guarantee
generally is equal to the term of the related projects, which can be as short as
30 days or as long as 8 years. The maximum potential amount of future payments
we could be required to make under our guarantees at December 31, 2009 and
September 30, 2010 is $36,650 and $38,294, respectively. We do not hold
collateral to support guarantees except when deemed necessary.




c.
            Liens and
      charges




In order
to obtain loans, credits or other banking services from certain commercial
banks, we signed a negative pledge agreement with these banks. With the consent
of the banks, we recorded a fixed charge on deposits in the amount of
approximately $2,572 held by our Indian subsidiary related to the mark-to-market
of foreign exchange forward contracts.




d.
            Covenants




Long-term
loans and bank guarantees contain customary restrictive covenants as further
discussed below. Failure to comply with the covenants could lead to an event of
default under the agreements governing some or all of the indebtedness,
permitting the applicable lender to accelerate all borrowings under the
applicable agreement.




- 18
-
 
  NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)


1.
            Long-term
      loans denominated in dollars and euros contain covenants which, among
      other things, require us to maintain positive operating income in the last
      four quarters; require a certain ratio of total financial obligations to
      EBITDA and of total stockholders’ equity to total consolidated assets; and
      place limitations on our ability to merge or transfer assets to third
      parties. As of December 31, 2009, we were not in compliance with covenants
      under certain long-term loans requiring positive operating income and a
      certain ratio of total financial obligations to EBITDA. We received a
      waiver from the banks with respect to the covenants as of December 31,
      2009, and the banks agreed to provide, as substitutes, less stringent
      covenants to apply through September 30, 2010. As of September 30, 2010,
      we were in compliance and expect to remain in compliance with the
      applicable covenants.




2.
            A
      long-term loan and bank guarantees denominated in NIS contain covenants
      which, among other things, require our Israeli subsidiary to maintain
      positive annual net income in a fiscal year; require a certain ratio of
      total stockholders’ equity to total consolidated assets and minimum
      stockholders’ equity; and place limitations on its ability to merge,
      transfer or pledge assets to third parties. As of September 30, 2010, we
      were in compliance and expect to remain in compliance with these
      covenants.




Note
9: Stockholders’ Equity




a.
              Total comprehensive
      income:




Three months ended
                    September 30,
                
                
                Nine months ended
                    September 30,2009
                
                
                2010
                
                
                2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)Net
      income (loss)
                
                $
                842
                
                
                $
                768
                
                
                $
                3,412
                
                
                $
                (3,878
                )Foreign
      currency translation adjustments, net
                
                
                11,120
                
                
                
                16,754
                
                
                
                9,607
                
                
                
                1,797Unrealized
      income (loss) on foreign exchange forward contracts and interest rate
      swap
                
                
                366
                
                
                
                1,004
                
                
                
                3,748
                
                
                
                38Comprehensive
      income (loss)
                
                $
                12,328
                
                
                $
                18,526
                
                
                $
                16,767
                
                
                $
                (2,043
                )




b.
            Changes in accumulated
      other gain (loss) due to cash flow hedging
  strategy:




Nine months ended
                    September 30,2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)Balance
      at the beginning of the period
                
                $
                (4,000
                )
                
                $
                449Mark
      to market of foreign exchange forward contracts and interest rate
      swap
                
                
                (48
                )
                
                
                1,737Loss
      (gain) recognized in earnings during the period
                
                
                3,796
                
                
                
                (1,699
                )Balance
      at the end of the period
                
                $
                (252
                )
                
                $
                487




c.
            Option
      exercises:




In the
nine months ended September 30, 2009 and 2010, options to purchase 1,968 shares
of our common stock were exercised for aggregate consideration of
$4.




- 19
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




d.
            Treasury
      stock:




During
the nine months ended September 30, 2009 and 2010, we repurchased 636,163 and
398,200 shares of our common stock on the open market for an aggregate purchase
price of $2,037 and $2,169, respectively.






Note
10: Segment Reporting




Our
segment information has been prepared in accordance with ASC Topic 280, “Segment
Reporting.” Operating segments are defined as components of an enterprise
engaging in business activities about which separate financial information is
available that is evaluated regularly by our chief operating decision-maker in
deciding how to allocate resources and assess performance. Our chief operating
decision-maker is our chief executive officer, who evaluates our performance and
allocates resources based on segment revenues and operating profit.




We no
longer report a separate Software Distribution segment, as we reclassified our
European software distribution operations as discontinued operations and we
reclassified our Israeli software distribution operations to our System
Integration and Application Development segment, effective as of January 1,
2010, as a result of the resolution of our board of directors to sell our
European software distribution operations. Segment data for prior periods has
been restated to reflect the current organization of the segments.




Our
operating segments are:




1.
              Software Product
      Engineering, in which, through our Software Product Labs business
      unit, we offer software product research and development services. We set
      up these labs for clients and operate them on an ongoing basis, enabling
      us to collaborate with our clients’ engineering teams to extend their
      capacity and budgets throughout the software product life cycle. We locate
      our Software Product Labs predominantly in India and in Central and
      Eastern Europe and we operate them across multiple locations as needed to
      optimize global delivery. They primarily serve customers in North America
      and Europe, and may include team members local to the
    client.




2.
              System Integration and
      Application Development, in which we offer a broad set of IT
      services to our clients in the areas of system integration, application
      development, consulting and software distribution. We provide these
      services to customers in over 20 countries throughout North America,
      Europe, Israel and Asia Pacific. We deliver the services through a global
      delivery model that includes local teams as well as offshore and
      near-shore resources. We provide these services for a wide range of
      clients in many verticals, including utilities and government, financial
      services, defense and homeland security, life sciences and healthcare,
      manufacturing and transportation, retail, and
  others.




Segment
operating profit is defined as income from operations, excluding unallocated
headquarters costs. Expenses included in segment operating profit consist
principally of direct selling, general, administrative and delivery costs.
Certain general and administrative expenses, stock-based compensation and a
portion of depreciation are not allocated to specific segments as management
believes they are not directly attributable to any specific segment.
Accordingly, these expenses are categorized as “Unallocated Expenses” and
adjusted against our total income from operations. Additionally, our management
has determined that it is not practical to allocate certain identifiable assets
by segment when such assets are used interchangeably among the
segments.




- 20
-
 
  NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)


The table
below presents financial information for our reportable segments:




Three months ended September 30, 2010Software
                                                                                                                                                              Product
                                                                                                                                                              Engineering
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            System
                                                                                                                                                              Integration &
                                                                                                                                                              Application
                                                                                                                                                              Development
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Unallocated
                                                                                                                                                              Expenses
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Total(Unaudited)Revenues
      from external customers
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            28,879
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            112,467
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            —
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            141,346Operating
      income (loss)
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            3,675
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            4,002
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            (3,990
                                                                                                                                                            )
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            3,687Financial
      expenses, net
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            (489
                                                                                                                                                            )Income
      before taxes on income
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            3,198Three
      months ended September 30, 2009Software
                                                                                                                                                              Product
                                                                                                                                                              Engineering
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            System
                                                                                                                                                              Integration
      &
                                                                                                                                                              Application
                                                                                                                                                              Development
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Unallocated
                                                                                                                                                              Expenses
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Total(Unaudited)Revenues
      from external customers
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            25,621
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            97,581
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            —
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            123,202Operating
      income (loss)
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            3,609
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            3,159
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            (2,900
                                                                                                                                                            )
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            3,868Financial
      expenses, net
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            (388
                                                                                                                                                            )Income
      before taxes on income
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            3,480Nine
      months ended September 30, 2010Software
                                                                                                                                                              Product
                                                                                                                                                              Engineering
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            System
                                                                                                                                                              Integration
      &
                                                                                                                                                              Application
                                                                                                                                                              Development
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Unallocated
                                                                                                                                                              Expenses
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Total(Unaudited)Revenues
      from external customers
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            83,336
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            331,044
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            —
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            414,380Operating
      income (loss)
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            11,916
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            9,975
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            (12,750
                                                                                                                                                            )
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            9,141Financial
      expenses, net
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            (1,140
                                                                                                                                                            )Income
      before taxes on income
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            8,001Nine
      months ended September 30, 2009Software
                                                                                                                                                              Product
                                                                                                                                                              Engineering
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            System
                                                                                                                                                              Integration
      &
                                                                                                                                                              Application
                                                                                                                                                              Development
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Unallocated
                                                                                                                                                              Expenses
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            Total(Unaudited)Revenues
      from external customers
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            76,275
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            300,095
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            —
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            376,370Operating
      income (loss)
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            11,819
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            11,698
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            (11,949
                                                                                                                                                            )
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            11,568Financial
      expenses, net
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            (2,210
                                                                                                                                                            )Income
      before taxes on income
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            
                                                                                                                                                            $
                                                                                                                                                            9,358




- 21
-




NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES
 Notes
to Interim Consolidated Financial Statements
 U.S.
dollars in thousands (except share and per share data)
(Unaudited)




Our total
revenues are attributed to geographic areas based on the location of the end
customer.




The
following tables present total revenues for the three and nine months ended
September 30, 2009 and 2010, and long-lived assets as of December 31, 2009 and
September 30, 2010:




Three months ended
                    September 30,
                
                
                Nine months ended
                    September 30,2009
                
                
                2010
                
                
                2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)Revenues
      from sales to unaffiliated customers:Israel
                
                $
                41,905
                
                
                $
                51,714
                
                
                $
                129,546
                
                
                $
                150,680North
      America
                
                
                42,115
                
                
                
                48,557
                
                
                
                128,138
                
                
                
                142,187Europe
      (excluding Czech Republic)
                
                
                18,380
                
                
                
                21,506
                
                
                
                58,319
                
                
                
                62,588Czech
      Republic
                
                
                18,439
                
                
                
                16,943
                
                
                
                53,574
                
                
                
                53,026Asia
      Pacific
                
                
                2,363
                
                
                
                2,626
                
                
                
                6,793
                
                
                
                5,899$
                123,202
                
                
                $
                141,346
                
                
                $
                376,370
                
                
                $
                414,380




December
                    31, 2009
                
                
                September
                    30, 2010(Unaudited)Long-lived
      assets:Israel
                
                $
                21,983
                
                
                $
                21,990India
                
                
                6,812
                
                
                
                6,006Europe
                
                
                4,184
                
                
                
                3,444North
      America
                
                
                2,760
                
                
                
                2,373$
                35,739
                
                
                $
                33,813




Other
than as disclosed in the tables above, the revenues and long-lived assets
attributable to individual foreign countries are not material.




Note
11: Income Taxes




As of
September 30, 2010, the total of our unrecognized tax benefits was $4,798,
which, if recognized, would affect our effective tax rates in future periods.
Included in that amount are accrued interest and penalties resulting from such
unrecognized tax benefits of $825 at September 30, 2010. During the nine months
ended September 30, 2010, we recorded $139 for interest and penalties expenses
with respect to uncertain tax positions. A reconciliation of the beginning and
ending amounts of unrecognized tax benefits as of September 30, 2010 is as
follows:




Balance
      as of January 1, 2010
                  
                  $
                  3,892Reductions
      related to changes in interest rates and foreign currency exchange
      rates
                  
                  
                  (68
                  )Additions
      related to tax positions taken during the period
                  
                  
                  974Balance
      as of September 30, 2010
                  
                  $
                  4,798




- 22
-


NESS
TECHNOLOGIES, INC. AND ITS SUBSIDIARIES


Notes
to Interim Consolidated Financial Statements


U.S.
dollars in thousands (except share and per share data) (Unaudited)





The
amount of income taxes we pay is subject to ongoing audit by federal, state and
foreign tax authorities, which often results in proposed assessments. Management
performs a comprehensive review of our global tax positions on a quarterly basis
and accrues amounts for contingent tax liabilities. Based on these reviews, the
result of discussions and resolutions of matters with certain tax authorities
and the closure of tax years subject to tax audit, reserves are adjusted as
necessary. However, future results may include favorable or unfavorable
adjustments to estimated tax liabilities in the period the assessments are
determined or resolved. Additionally, the jurisdictions in which earnings and/or
deductions are realized may differ from current estimates. We are no longer
subject to U.S. federal, state and local, or non-U.S. income tax examination for
years before 2004 with respect to our primary locations.




The
effective tax rate used in computing the provision for income taxes is based on
our projected fiscal year income before taxes, including estimated income by tax
jurisdiction. The difference between the effective tax rate and the statutory
tax rate is due primarily to foreign tax holidays, foreign subsidiaries with
different tax rates and non-deductible expenses.




Note
12: Basic and Diluted Net Earnings per Share




Basic net
earnings per share are computed based on the weighted average number of shares
of common stock outstanding during each period. Diluted net earnings per share
are computed based on the weighted average number of shares of common stock
outstanding during each period, plus dilutive potential shares of common stock
considered outstanding during the period, in accordance with ASC Topic 260,
“Earnings per Share.”




The
following table sets forth the computation of basic and diluted net earnings per
share of common stock:




Three
      months ended
                    September
      30,
                
                
                Nine
      months ended
                    September
      30,2009
                
                
                2010
                
                
                2009
                
                
                2010(Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)
                
                
                (Unaudited)Numerator:Net
      income from continuing operations, numerator for basic and diluted
      earnings per share from continuing operations
                
                $
                2,654
                
                
                $
                1,567
                
                
                $
                7,353
                
                
                $
                3,153Denominator:Weighted
      average number of shares of common stock, denominator for basic net
      earnings per share from continuing operations, denominator for basic net
      earnings (loss) per share, denominator for diluted net loss per
      share
                
                
                38,451
                
                
                
                38,001
                
                
                
                38,653
                
                
                
                38,230Effect
      of dilutive securities:Employee
      stock options and restricted stock units
                
                
                413
                
                
                
                347
                
                
                
                528
                
                
                
                429Denominator
      for diluted net earnings per share from continuing operations, denominator
      for diluted net earnings per share – weighted average assuming exercise of
      options and restricted stock units
                
                
                38,864
                
                
                
                38,349
                
                
                
                39,181
                
                
                
                38,658




The total
weighted average number of shares related to the outstanding options excluded
from the calculations of diluted net earnings per share from continuing
operations and diluted net earnings per share, as they would have been
anti-dilutive for all periods presented, was 4,824,498 and 4,927,702,
respectively, for the three and nine months ended September 30, 2009 and
5,475,160 and 4,759,392, respectively, for the three and nine months ended
September 30, 2010.




- 23
-




Item
2. Management’s Discussion and Analysis of Financial Condition and Results of
Operations




The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our unaudited consolidated
financial statements and related notes appearing elsewhere in this Quarterly
Report on Form 10-Q.




Forward-Looking
Statements




This
quarterly report on Form 10-Q contains “forward-looking statements” that involve
risks and uncertainties, as well as assumptions that, if they never materialize
or prove incorrect, could cause our results to differ materially from those
expressed or implied by such forward-looking statements. The statements
contained in this Quarterly Report on Form 10-Q that are not purely historical
are forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended (the “Exchange Act”). Forward-looking statements are
often identified by the use of words such as, but not limited to, “anticipate,”
“believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,”
“will,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would” and
similar expressions or variations intended to identify forward-looking
statements. These statements are based on the beliefs and assumptions of our
management based on information currently available to management. Such
forward-looking statements are subject to risks, uncertainties and other
important factors that could cause actual results and the timing of certain
events to differ materially from future results expressed or implied by such
forward-looking statements. Factors that could cause or contribute to such
differences include, but are not limited to, those identified below, and those
discussed in the section titled “Risk Factors” included in our Annual Report on
Form 10-K for the year ended December 31, 2009 filed with the SEC on March 15,
2010. Furthermore, such forward-looking statements speak only as of the date of
this report. Except as required by law, we undertake no obligation to update any
forward-looking statements to reflect events or circumstances after the date of
such statements.




Overview




We are a
global provider of information technology, or IT, and business services and
solutions with specialized expertise in software product engineering; system
integration, application development, consulting and software distribution. We
deliver our portfolio of services and solutions using a global delivery model
combining offshore, near-shore and local teams. The primary industries, or
verticals, we serve include high-tech companies and independent software
vendors, or ISVs; utilities and public sector; financial services; defense and
homeland security; and life sciences and healthcare.




We have
operations in North America, Europe, Israel and India, serving customers in over
20 countries. We combine our deep expertise in the verticals we serve and strong
technical capabilities to provide a complete range of high quality services on a
global scale. By integrating our local and international personnel in focused
business and project teams, we leverage our corporate knowledge and experience,
intellectual property and global infrastructure to develop innovative solutions
for clients across the geographic areas and verticals we serve. Through our
global delivery model, which includes lower-cost offshore and near-shore
delivery capabilities, we can achieve meaningful cost reductions or other
benefits for our clients.




Our
revenues increased to $141.3 million and $414.4 million for the three and nine
months ended September 30, 2010, from $123.2 million and $376.4 million for the
three and nine months ended September 30, 2009, respectively. Net income from
continuing operations decreased to $1.6 million and $3.2 million for the three
and nine months ended September 30, 2010 from $2.7 million and $7.4 million for
the three and nine months ended September 30, 2009, respectively.




The
dollar weakened by an average of 1% and 5% against the NIS in the three and nine
months ended September 30, 2010 compared to the three and nine months ended
September 30, 2009, respectively, and strengthened by an average of 10% and 1%
against the Czech crown, euro and other relevant European currencies in the
three and nine months ended September 30, 2010 compared to the three and nine
months ended September 30, 2009, respectively. Since approximately 60% of our
revenues and 80% of our expenses are denominated in non-dollar currencies, we
estimate that our revenues were $2.9 million lower and $7.7 million higher, and
our operating income was $0.1 million higher and $0.3 million lower, in the
three and nine months ended September 30, 2010, respectively, as a result of
changes in foreign currency exchange rates versus their average rates for the
three and nine months ended September 30, 2009.




- 24
-




Our
client base is diverse, and we are not dependent on any single client. In the
three and nine months ended September 30, 2010, no client accounted for more
than 4% and 5% of our revenues, respectively, and our largest twenty clients
together accounted for approximately 38% of our revenues. For the three and nine
months ended September 30, 2010, the percentage of our revenues derived in
aggregate from agencies of the government of Israel was approximately 15% and
16%, respectively. Existing clients from prior years generated more than 85% of
our revenues in the three and nine months ended September 30, 2010.




Our
backlog from continuing operations as of September 30, 2010 was $633 million,
compared to $621 million as of September 30, 2009. The difference represents an
increase due to our Gilon acquisition of $16 million, offset by a year-over-year
backlog decrease for continuing operations of $3 million and a decrease in the
dollar value of our non-U.S. backlog due to the stronger dollar of $1 million.
We achieve backlog through new signings of IT services projects and outsourcing
contracts, including for new and repeat customers, and estimations of backlog
associated with ongoing time and materials engagements. We recognize backlog as
revenue when we perform the services related to the backlog.




For the
three and nine months ended September 30, 2010, the percentage of our revenues
derived from clients in Europe was 27% and 28%, respectively; from clients in
Israel, 37% and 36%, respectively; from clients in North America, 34% and 34%,
respectively; and from clients in Asia Pacific, 2% and 1%,
respectively.




As of
September 30, 2010, we had approximately 7,825 employees related to continuing
operations, including approximately 6,815 IT professionals. Of the 7,825
employees, approximately 3,210 were in India, 2,730 were in Israel, 1,330 were
in Europe, 525 were in North America and 30 were in Asia Pacific.




- 25
-




Consolidated
Results of Operations




The
following table sets forth the items in our consolidated statements of income as
a percentage of revenues for the periods presented.




Three
      months ended
                      September
      30,
                  
                  
                  Nine
      months ended
                      September
      30,2009
                  
                  
                  2010
                  
                  
                  2009
                  
                  
                  2010Revenues
                  
                  
                  100.0
                  %
                  
                  
                  100.0
                  %
                  
                  
                  100.0
                  %
                  
                  
                  100.0
                  %Cost
      of revenues
                  
                  
                  72.9
                  
                  
                  
                  72.7
                  
                  
                  
                  73.5
                  
                  
                  
                  72.8Gross
      profit
                  
                  
                  27.1
                  
                  
                  
                  27.3
                  
                  
                  
                  26.5
                  
                  
                  
                  27.2Selling
      and marketing
                  
                  
                  8.1
                  
                  
                  
                  6.8
                  
                  
                  
                  7.7
                  
                  
                  
                  7.1General
      and administrative
                  
                  
                  15.8
                  
                  
                  
                  18.0
                  
                  
                  
                  17.1
                  
                  
                  
                  17.9Insurance
      settlement related to 2007 arbitration expense, net of related
      expenses
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (0.7
                  )
                  
                  
                  —Commissions
      related to the sale of Israeli SAP sales and distribution
      operations
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (0.7
                  )
                  
                  
                  —Total
      operating expenses
                  
                  
                  24.0
                  
                  
                  
                  24.7
                  
                  
                  
                  23.4
                  
                  
                  
                  25.0Operating
      income
                  
                  
                  3.1
                  
                  
                  
                  2.6
                  
                  
                  
                  3.1
                  
                  
                  
                  2.2Financial
      expenses, net
                  
                  
                  (0.3
                  )
                  
                  
                  (0.3
                  )
                  
                  
                  (0.6
                  )
                  
                  
                  (0.3
                  )Income
      before taxes on income
                  
                  
                  2.8
                  
                  
                  
                  2.3
                  
                  
                  
                  2.5
                  
                  
                  
                  1.9Taxes
      on income
                  
                  
                  0.7
                  
                  
                  
                  1.2
                  
                  
                  
                  0.5
                  
                  
                  
                  1.2Net
      income from continuing operations
                  
                  
                  2.2
                  
                  
                  
                  1.1
                  
                  
                  
                  2.0
                  
                  
                  
                  0.8Net
      loss from discontinued operations
                  
                  
                  (1.5
                  )
                  
                  
                  (0.6
                  )
                  
                  
                  (1.0
                  )
                  
                  
                  (1.7
                  )Net
      income (loss)
                  
                  
                  0.7
                  
                  
                  
                  0.5
                  
                  
                  
                  0.9
                  
                  
                  
                  (0.9
                  )




Three
Months Ended September 30, 2010 Compared to the Three Months Ended September 30,
2009




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Three
      months ended
                    September
      30,
                
                
                Increase2009
                
                
                2010
                
                
                $
                
                
                %Revenues
                
                $
                123,202
                
                
                $
                141,346
                
                
                
                18,144
                
                
                
                14.7Cost
      of revenues
                
                
                89,780
                
                
                
                102,716
                
                
                
                12,936
                
                
                
                14.4Gross
      profit
                
                $
                33,422
                
                
                $
                38,630
                
                
                
                5,208
                
                
                
                15.6Gross
      margin
                
                
                27.1
                %
                
                
                27.3
                %




Revenues




Our
revenues increased from $123.2 million in the three months ended September 30,
2009 to $141.3 million in the three months ended September 30, 2010,
representing an increase of $18.1 million, or 14.7%. Approximately $5.3 million
of the increase was attributable to our acquisition of Gilon. The remaining
increase was due primarily to an increase in the other revenues of our System
Integration and Application Development segment, representing $12.3 million, and
an increase in revenues of our Software Product Engineering segment,
representing $3.4 million, offset by foreign currency translation effects on our
non-dollar revenues attributable to the stronger dollar, representing $2.9
million, compared to the three months ended September 30, 2009.




- 26
-




Cost
of revenues




Our cost
of revenues, including salaries, wages and other direct and indirect costs,
increased from $89.8 million in the three months ended September 30, 2009 to
$102.7 million in the three months ended September 30, 2010, representing an
increase of $12.9 million, or 14.4%. Approximately $4.2 million of the increase
was attributable to our Gilon acquisition, and the remaining increase was due
primarily to growth in our delivery staff needed to support our increased
revenues, representing $11.8 million, offset by foreign currency translation
effects on non-dollar expenses attributable to the stronger dollar, representing
$2.6 million.




Gross
Profit




Our gross
profit (revenues less cost of revenues) increased from $33.4 million in the
three months ended September 30, 2009 to $38.6 million in the three months ended
September 30, 2010, representing an increase of $5.2 million, or 15.6%.
Approximately $1.2 million of the increase was attributable to our Gilon
acquisition, and the remaining increase was due primarily to our other revenue
growth, representing $3.9 million, offset by foreign currency translation
effects on our non-dollar gross profits attributable to the stronger dollar,
representing $0.4 million. Gross margin increased from 27.1% in the three months
ended September 30, 2009 to 27.3% in the three months ended September 30, 2010
as a result of these factors.




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Three
      months ended
                    September
      30,
                
                
                Increase
                    (Decrease)2009
                
                
                2010
                
                
                $
                
                
                %Selling
      and marketing
                
                $
                10,033
                
                
                $
                9,542
                
                
                
                (491
                )
                
                
                (4.9
                )General
      and administrative
                
                
                19,521
                
                
                
                25,401
                
                
                
                5,880
                
                
                
                30.1Total
      operating expenses
                
                
                29,554
                
                
                
                34,943
                
                
                
                5,389
                
                
                
                18.2Operating
      income
                
                $
                3,868
                
                
                $
                3,687
                
                
                
                (181
                )
                
                
                (4.7
                )




Selling
and marketing




Selling
and marketing expenses decreased from $10.0 million in the three months ended
September 30, 2009 to $9.5 million in the three months ended September 30, 2010,
representing a decrease of $0.5 million, or 4.9%. The decrease was due primarily
to foreign currency translation effects on our non-dollar expenses attributable
to the stronger dollar, representing $0.3 million.




General
and administrative




General
and administrative expenses increased from $19.5 million in the three months
ended September 30, 2009 to $25.4 million in the three months ended September
30, 2010, representing an increase of $5.9 million, or 30.1%. The increase was
due primarily to salary increases and an increase in our Israeli severance pay
provision due to salary increases, together representing $3.3 million, and the
inclusion of general and administrative expenses from the acquisition,
representing $0.5 million, offset by foreign currency translation effects on
non-dollar expenses attributable to the stronger dollar, representing $0.2
million.




Operating
Income




Operating
income decreased from $3.9 million in the three months ended September 30, 2009
to $3.7 million in the three months ended September 30, 2010, representing a
decrease of $0.2 million, or 4.7%. The major factors contributing to this
decrease were an increase in unallocated expenses, representing $1.0 million,
and retention expenses related to prior acquisitions, representing $0.6 million,
offset by an increase in operating income of our System Integration and
Application Development segment, representing $1.0 million, and foreign currency
translation effects on non-dollar operating income attributable to the stronger
dollar, representing $0.1 million. See also “—Results by Business
Segment.”




- 27
-




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Three
      months ended
                    September
      30,
                
                
                Increase
                    (Decrease)2009
                
                
                2010
                
                
                $
                
                
                %Operating
      income
                
                $
                3,868
                
                
                $
                3,687
                
                
                
                (181
                )
                
                
                (4.7
                )Financial
      expenses, net
                
                
                (388
                )
                
                
                (489
                )
                
                
                (101
                )
                
                
                26.0Income
      before taxes on income
                
                
                3,480
                
                
                
                3,198
                
                
                
                (282
                )
                
                
                (8.1
                )Taxes
      on income
                
                
                826
                
                
                
                1,631
                
                
                
                805
                
                
                
                97.5Net
      income from continuing operations
                
                
                2,654
                
                
                
                1,567
                
                
                
                (1,087
                )
                
                
                (41.0
                )Net
      loss from discontinued operations
                
                
                (1,812
                )
                
                
                (799
                )
                
                
                1,013
                
                
                
                (55.9
                )Net
      income
                
                $
                842
                
                
                $
                768
                
                
                
                (74
                )
                
                
                (8.8
                )




Financial
expenses, net




Financial
expenses, net, increased from $0.4 million in the three months ended September
30, 2009 to $0.5 million in the three months ended September 30, 2010,
representing an increase of $0.1 million, or 26%. This increase was due
primarily to the increase in our average net debt, representing $0.1 million.
Our average net debt increased from $28.8 million in the three months ended
September 30, 2009 to $36.8 million in the three months ended September 30,
2010.




Taxes
on income




Our taxes
on income increased from $0.8 million in the three months ended September 30,
2009 to $1.6 million in the three months ended September 30, 2010, representing
an increase of $0.8 million, or 97.5%. This increase was due primarily to our
inability to create new deferred tax assets in certain jurisdictions where we
are still experiencing losses, representing $0.8 million. Our effective tax rate
in the three months ended September 30, 2010 was 51.0%, compared to 23.7% in the
three months ended September 30, 2009 mainly as a result of this
factor.




Net
income from continuing operations




Net
income from continuing operations decreased from $2.7 million in the three
months ended September 30, 2009 to $1.6 million in the three months ended
September 30, 2010, representing a decrease of $1.1 million, or 41%. The
decrease was due primarily to our increase in taxes on income, representing $0.8
million, our decrease in operating income of $0.2 million, and an increase in
financial expenses, net, representing $0.1 million.




Net
loss from discontinued operations




Our net
loss from discontinued operations decreased from $1.8 million in the three
months ended September 30, 2009 to $0.8 million in the three months ended
September 30, 2010, representing a decrease of $1.0 million, or 55.9%. The
decrease was due primarily to a decrease in the net loss of our NessPRO Europe
operations, representing $1.2 million, offset by the exclusion of our Ness
Benelux subsidiary, which we sold to a third party on January 15, 2010,
representing $0.1 million. The results of NessPRO Europe were reclassified as
discontinued operations following our March 29, 2010 resolution to sell the
operations.




Net
income




Net
income in the three months ended September 30, 2010 was $0.8 million, similar to
that in the three months ended September 30, 2009. This resulted from an
increase in taxes on income, representing $0.8 million, a decrease in operating
income, representing $0.2 million, and an increase our financial expenses,
representing $0.1 million, offset by a reduction in the net loss from
discontinued operations, representing $1.0 million.




- 28
-




Nine
Months Ended September 30, 2010 Compared to the Nine months Ended September 30,
2009




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Nine
      months ended
                    September
      30,
                
                
                Increase2009
                
                
                2010
                
                
                $
                
                
                %Revenues
                
                $
                376,370
                
                
                $
                414,380
                
                
                
                38,010
                
                
                
                10.1Cost
      of revenues
                
                
                276,681
                
                
                
                301,512
                
                
                
                24,831
                
                
                
                9.0Gross
      profit
                
                $
                99,689
                
                
                $
                112,868
                
                
                
                13,179
                
                
                
                13.2Gross
      margin
                
                
                26.5
                %
                
                
                27.2
                %




Revenues




Our
revenues increased from $376.4 million in the nine months ended September 30,
2009 to $414.4 million in the nine months ended September 30, 2010, representing
an increase of $38.0 million, or 10.1%. Approximately $10.7 million of the
increase was attributable to our acquisition of Gilon. The remaining increase
was due primarily to an increase in the other revenues of our System Integration
and Application Development segment, representing $12.5 million, foreign
currency translation effects on our non-dollar revenues attributable to the
weaker dollar, representing $7.7 million, and an increase in revenues of our
Software Product Engineering segment, representing $7.1 million.




Cost
of revenues




Our cost
of revenues, including salaries, wages and other direct and indirect costs,
increased from $276.7 million in the nine months ended September 30, 2009 to
$301.5 million in the nine months ended September 30, 2010, representing an
increase of $24.8 million, or 9.0%. Approximately $8.6 million of the increase
was attributable to our Gilon acquisition, and the balance was due primarily to
growth in our delivery staff needed to support our increased revenues,
representing $13.2 million, and foreign currency translation effects on
non-dollar expenses attributable to the weaker dollar, representing $5.2
million.




Gross
Profit




Our gross
profit (revenues less cost of revenues) increased from $99.7 million in the nine
months ended September 30, 2009 to $112.9 million in the nine months ended
September 30, 2010, representing an increase of $13.2 million, or 13.2%.
Approximately $2.0 million of the increase was attributable to our Gilon
acquisition, and the remaining increase was due primarily to the increase in our
other revenues, representing $6.4 million, and foreign currency translation
effects on our non-dollar gross profits attributable to the weaker dollar,
representing $2.5 million. Gross margin increased from 26.5% in the nine months
ended September 30, 2009 to 27.2% in the nine months ended September 30, 2010 as
a result of these factors.




- 29
-




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Nine
      months ended
                    September
      30,
                
                
                Increase
                    (Decrease)2009
                
                
                2010
                
                
                $
                
                
                %Selling
      and marketing
                
                $
                28,926
                
                
                $
                29,433
                
                
                
                507
                
                
                
                1.8General
      and administrative
                
                
                64,339
                
                
                
                74,294
                
                
                
                9,955
                
                
                
                15.5Insurance
      settlement related to 2007 arbitration expense, net of related
      expenses
                
                
                (2,610
                )
                
                
                —
                
                
                
                2,610
                
                
                
                (100.0
                )Commissions
      related to the sale of Israeli SAP sales and distribution
      operations
                
                
                (2,534
                )
                
                
                —
                
                
                
                2,534
                
                
                
                (100.0
                )Total
      operating expenses
                
                
                88,121
                
                
                
                103,727
                
                
                
                15,606
                
                
                
                17.7Operating
      income
                
                $
                11,568
                
                
                $
                9,141
                
                
                
                (2,427
                )
                
                
                (21.0
                )




Selling
and marketing




Selling
and marketing expenses increased from $28.9 million in the nine months ended
September 30, 2009 to $29.4 million in the nine months ended September 30, 2010,
representing an increase of $0.5 million, or 1.8%. The increase was due
primarily to foreign currency translation effects on our non-dollar expenses
attributable to the weaker dollar, representing $0.6 million.




General
and administrative




General
and administrative expenses increased from $64.3 million in the nine months
ended September 30, 2009 to $74.3 million in the nine months ended September 30,
2010, representing an increase of $10.0 million, or 15.5%. The increase was due
primarily to salary increases and an increase in our Israeli severance pay
provision due to salary increases, together representing $3.3 million, foreign
currency translation effects on non-dollar expenses attributable to the weaker
dollar, representing $2.3 million, retention expenses related to prior
acquisitions, representing $1.5 million, the inclusion of general and
administrative expenses from the acquisition, representing $1.2 million, and
acquisition and integration costs of our Gilon acquisition, representing $0.7
million, offset by severance expenses in the nine months ended September 30,
2009 for which there were no corresponding expenses in the nine months ended
September 30, 2010, representing $1.7 million.




Insurance
settlement related to 2007 arbitration expense, net of related
expenses




In the
nine months ended September 30, 2009, we recorded income of $2.6 million, net of
related expenses, representing an insurance settlement we received from our
liability insurance provider related to the arbitration settlement we recognized
in the fourth quarter of 2007. There was no corresponding income in the nine
months ended September 30, 2010.




Commissions
related to the sale of Israeli SAP sales and distribution
operations




In the
nine months ended September 30, 2009, we recorded income of $2.5 million,
representing commissions earned from SAP AG in connection with meeting certain
performance criteria for 2008. There was no corresponding income in the nine
months ended September 30, 2010.




Operating
Income




Operating
income decreased from $11.6 million in the nine months ended September 30, 2009
to $9.1 million in the nine months ended September 30, 2010, representing a
decrease of $2.4 million, or 21.0%. The major factors contributing to this
decrease were income in the nine months ended September 30, 2009 from an
insurance settlement, net of related expenses, recognized by our System
Integration and Application Development segment related to our 2007 arbitration
expense, representing $2.6 million, commissions recognized in the nine months
ended September 30, 2009 by NessPRO Israel (at that time a part of our former
Software Distribution segment and now part of our System Integration and
Application Development segment) related to the August 2008 sale of our SAP
sales and distribution operations, representing $2.5 million, retention expenses
related to prior acquisitions, representing $1.5 million, acquisition and
integration costs of our Gilon acquisition, representing $0.7 million, and
foreign currency translation effects on non-dollar operating income attributable
to the weaker dollar, representing $0.3 million, offset by an increase in
operating income of our System Integration and Application Development segment,
representing $5.2 million. See also “—Results by Business Segment.”




- 30
-




The
following table summarizes certain line items from our consolidated statements
of income (dollars in thousands):




Nine
      months ended
                    September
      30,
                
                
                Increase
                    (Decrease)2009
                
                
                2010
                
                
                $
                
                
                %Operating
      income
                
                $
                11,568
                
                
                $
                9,141
                
                
                
                (2,427
                )
                
                
                (21.0
                )Financial
      expenses, net
                
                
                (2,210
                )
                
                
                (1,140
                )
                
                
                1,070
                
                
                
                (48.4
                )Income
      before taxes on income
                
                
                9,358
                
                
                
                8,001
                
                
                
                (1,357
                )
                
                
                (14.5
                )Taxes
      on income
                
                
                2,005
                
                
                
                4,848
                
                
                
                2,843
                
                
                
                141.8Net
      income from continuing operations
                
                
                7,353
                
                
                
                3,153
                
                
                
                (4,200
                )
                
                
                (57.1
                )Net
      loss from discontinued operations
                
                
                (3,941
                )
                
                
                (7,031
                )
                
                
                (3,090
                )
                
                
                78.4Net
      income (loss)
                
                $
                3,412
                
                
                $
                (3,878
                )
                
                
                (7,290
                )
                
                
                N/A




Financial
expenses, net




Financial
expenses, net, decreased from $2.2 million in the nine months ended September
30, 2009 to $1.1 million in the nine months ended September 30, 2010,
representing a decrease of $1.1 million, or 48.4%. This decrease was due
primarily to the favorable impact of exchange rate differences, representing
$0.6 million, a reduction in our average net debt, representing $0.3 million,
and lower interest rates on our long-term debt, representing $0.2 million. Our
average net debt decreased from $32.9 million in the nine months ended September
30, 2009 to $17.8 million in the nine months ended September 30,
2010.




Taxes
on income




Our taxes
on income increased from $2.0 million in the nine months ended September 30,
2009 to $4.8 million in the nine months ended September 30, 2010, representing
an increase of $2.8 million, or 141.8%. This increase was due primarily to our
inability to create new deferred tax assets in certain jurisdictions where we
are still experiencing losses, representing $3.4 million, offset by a decrease
of $0.5 million resulting from our lower taxable income. Our effective tax rate
in the nine months ended September 30, 2010 was 60.6%, compared to 21.4% in the
nine months ended September 30, 2009 as a result of these factors.




Net
income from continuing operations




Net
income from continuing operations decreased from $7.4 million in the nine months
ended September 30, 2009 to $3.2 million in the nine months ended September 30,
2010, representing a decrease of $4.2 million, or 57.1%. The decrease was due
primarily to our increase in taxes on income, representing $2.8 million, and our
decrease in operating income of $2.4 million, partially offset by our decrease
in financial expenses, net, representing $1.1 million.




Net
loss from discontinued operations




Our net
loss from discontinued operations increased from $3.9 million in the nine months
ended September 30, 2009 to $7.0 million in the nine months ended September 30,
2010, representing an increase of $3.1 million, or 78.4%. The increase was due
primarily to additional restructuring expenses in our NessPRO Europe and Asia
Pacific operations, representing $2.6 million. The results of NessPRO Europe
were reclassified as discontinued operations following our March 29, 2010
resolution to sell the operations. Also included in discontinued operations are
our Ness Asia Pacific operations, which our board of directors resolved on
February 1, 2010 to sell and in respect of which we signed a definitive asset
transfer agreement with the buyer on April 24, 2010, and our Ness Benelux
subsidiary, which we sold to a third party on January 15, 2010.




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-




Net
income (loss)




Net
income changed from $3.4 million in the nine months ended September 30, 2009 to
a net loss of $3.9 million in the nine months ended September 30, 2010,
representing a change of $7.3 million. The change was due primarily to our
larger net loss from discontinued operations, representing $3.1 million, our
increase in taxes on income, representing $2.8 million, and our decrease in
operating income, representing $2.4 million, partially offset by our decrease in
financial expenses, representing $1.1 million.




Results
by Business Segment




Operating
segments are defined as components of an enterprise engaging in business
activities about which separate financial information is available that is
evaluated regularly by our chief operating decision-maker in deciding how to
allocate resources and assess performance. Our chief operating decision-maker is
our chief executive officer, who evaluates our performance and allocates
resources based on segment revenues and operating profit.




We no
longer report a separate Software Distribution segment, as we reclassified our
European software distribution operations as discontinued operations and we
reclassified our Israeli software distribution operations to our System
Integration and Application Development segment, effective as of January 1,
2010, as a result of the resolution of our board of directors to sell our
European software distribution operations. Segment data for prior periods has
been restated to reflect the current organization of the segments.




Our
operating segments are:




1.
              Software Product
      Engineering, in which, through our Software Product Labs business
      unit, we offer software product research and development services. We set
      up these labs for clients and operate them on an ongoing basis, enabling
      us to collaborate with our clients’ engineering teams to extend their
      capacity and budgets throughout the software product life cycle. We locate
      our Software Product Labs predominantly in India and in Central and
      Eastern Europe and we operate them across multiple locations as needed to
      optimize global delivery. They primarily serve customers in North America
      and Europe, and may include team members local to the
    client.




2.
              System Integration and
      Application Development, in which we offer a broad set of IT
      services to our clients in the areas of system integration, application
      development, consulting and software distribution. We provide these
      services to customers in over 20 countries throughout North America,
      Europe, Israel and Asia Pacific. We deliver the services through a global
      delivery model that includes local teams as well as offshore and
      near-shore resources. We provide these services for a wide range of
      clients in many verticals, including utilities and government, financial
      services, defense and homeland security, life sciences and healthcare,
      manufacturing and transportation, retail, and
  others.




Segment
operating profit is defined as income from operations, excluding unallocated
headquarters costs. Expenses included in segment operating profit consist
principally of direct selling, general, administrative and delivery costs.
Certain general and administrative expenses, stock-based compensation and a
portion of depreciation are not allocated to specific segments as management
believes they are not directly attributable to any specific segment.
Accordingly, these expenses are categorized as “Unallocated Expenses” and
adjusted against our total income from operations. Additionally, our management
has determined that it is not practical to allocate certain identifiable assets
by segment when such assets are used interchangeably among the
segments.




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-




The table
below presents financial information for our reportable segments (dollars in
thousands):




Three
      months ended
                    September
      30,
                
                
                Nine
      months ended
                    September
      30,Segment
      Data:
                
                2009
                
                
                2010
                
                
                2009
                
                
                2010Revenues:Software
      Product Engineering
                
                $
                25,621
                
                
                $
                28,879
                
                
                $
                76,275
                
                
                $
                83,336System
      Integration and Application Development
                
                
                97,581
                
                
                
                112,467
                
                
                
                300,095
                
                
                
                331,044$
                123,202
                
                
                $
                141,346
                
                
                $
                376,370
                
                
                $
                414,380Operating
      Income (Loss):Software
      Product Engineering
                
                $
                3,609
                
                
                $
                3,675
                
                
                $
                11,819
                
                
                $
                11,916System
      Integration and Application Development
                
                
                3,159
                
                
                
                4,002
                
                
                
                11,698
                
                
                
                9,975Unallocated
      Expenses
                
                
                (2,900
                )
                
                
                (3,990
                )
                
                
                (11,949
                )
                
                
                (12,750
                )$
                3,868
                
                
                $
                3,687
                
                
                $
                11,568
                
                
                $
                9,141




Liquidity
and Capital Resources




Overview




As of
September 30, 2010, we had cash and cash equivalents, restricted cash and
short-term bank deposits of $52.6 million compared to $68.6 million as of
December 31, 2009. The funds held at locations outside of the United States are
for future operating expenses and capital expenditures. We are not restricted in
repatriating those funds back to the United States, if necessary. While we
expect that cash generated by our non-U.S. subsidiaries will be reinvested in
their respective geographic areas to support expansion of our business, to the
extent that funds were repatriated to the United States in the form of dividend
payments, those payments may be subject to withholding taxes in their respective
countries, and would be subject to tax in the United States.




Cash
Flows




The
following table summarizes our cash flows for the periods presented (dollars in
thousands):




Nine
      months ended
                    September
      30,2009
                
                
                2010Net
      cash provided by (used in) operating activities
                
                $
                34,100
                
                
                $
                (13,559
                )Net
      cash used in investing activities
                
                
                (40,872
                )
                
                
                (12,204
                )Net
      cash provided by financing activities
                
                
                4,162
                
                
                
                23,162Effect
      of exchange rate changes on cash and cash equivalents
                
                
                (1,038
                )
                
                
                (2,385
                )Decrease
      in cash and cash equivalents
                
                
                (3,648
                )
                
                
                (4,986
                )Cash
      and cash equivalents at the beginning of the period
                
                
                44,585
                
                
                
                40,218Cash
      and cash equivalents at the end of the period
                
                $
                40,937
                
                
                $
                35,232




Nine
months ended September 30, 2010 compared to the nine months ended September 30,
2009




Net cash
used in operating activities was $13.6 million in the nine months ended
September 30, 2010, compared to net cash provided of $34.1 million in the nine
months ended September 30, 2009. The major factors contributing to the change
were an increase in our trade receivables and unbilled receivables in the nine
months ended September 30, 2010 compared to a decrease in the nine months ended
September 30, 2009, representing $77.5 million, a larger decrease in advances
from customers and deferred revenues, representing $7.3 million, and lower net
income from continuing operations, representing $4.2 million, offset by an
increase in our trade payables in the nine months ended September 30, 2010
compared to a decrease in the nine months ended September 30, 2009, representing
$19.5 million, and a smaller decrease in other accounts payable and accrued
expenses, representing $15.5 million.




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-




Net cash
used in investing activities was $12.2 million in the nine months ended
September 30, 2010, compared to $40.9 million in the nine months ended September
30, 2009. The major factors contributing to the decrease were proceeds from
maturity of short-term bank deposits in the nine months ended September 30, 2010
compared to investment in short-term bank deposits in the nine months ended
September 30, 2009, representing $28.9 million, and lower payments in connection
with acquisitions of subsidiaries in prior periods, representing $12.3 million,
offset by net cash paid for the acquisition of Gilon, representing $17.2
million.




Net cash
provided by financing activities was $23.2 million in the nine months ended
September 30, 2010, compared to $4.2 million in the nine months ended September
30, 2009. The major factors contributing to the increase were net proceeds from
short-term bank credit in the nine months ended September 30, 2010 compared to
net repayments of short-term bank credit in the nine months ended September 30,
2009, representing $29.6 million, offset by greater principal payments of
long-term debt, representing $10.2 million.




The
effect of exchange rate changes on cash and cash equivalents was ($2.4) million
in the nine months ended September 30, 2010, compared to ($1.0) million in the
nine months ended September 30, 2009. The change was primarily due to the effect
of translation adjustments on our net current assets.




Long-term
and Short-term Debt




At
September 30, 2010, we had a short-term loan in the amount of $5.0 million from
a commercial bank, bearing a variable interest rate and maturing in June 2011.
Additionally, at September 30, 2010, we had the following long-term loans
outstanding in connection with the funding of acquisitions: (i) a long-term loan
from a commercial bank in the amount of €5.5 million, or $7.6 million, taken in
September 2007 to fund the acquisition of NessPRO Italy S.p.A.; (ii) a long-term
loan from a commercial bank in the amount of €9.6 million, or $13.1 million,
taken in November 2007 to fund the acquisition of FMC Consulting and Informatics
Ltd.; (iii) a long-term loan from a commercial bank in the amount of $8.3
million, taken in November 2007 to fund the acquisition of MS9 Consulting LLC;
and (iv) two long-term loans from commercial banks in the amounts of NIS 28.5
million, or $7.8 million, and NIS 20 million, or $5.4 million, taken by one of
our Israeli subsidiaries in April and May 2010 to fund the acquisition of Gilon.
At September 30, 2010, we also had outstanding a long-term loan from a
commercial bank in the amount of €9.2 million, or $12.6 million, taken in March
2008, and a long-term loan from a commercial bank in the amount of $10.3
million, taken in April 2009. The NIS 28.5 million and NIS 20 million loans
taken to fund the acquisition of Gilon mature over six years with principal
payments commencing in the first year. The $10.3 million loan taken in April
2009 matures over four years with principal payments commencing in the first
year. Each of the other long-term loans matures over five years from the
inception of the loan with principal payments commencing in the third year. Each
long-term loan bears interest at fixed or variable rates, and is paid quarterly.
The long-term loans contain covenants which, among other things: require
positive operating income in the last four quarters; require a certain ratio of
total financial obligations to consolidated EBITDA and of total stockholders’
equity to total consolidated assets; and place limitations on our ability to
merge or transfer assets to third parties. Our failure to comply with the
covenants could lead to an event of default under the agreements governing some
or all of this indebtedness, permitting the applicable lender to accelerate all
borrowings under the applicable agreement. As of December 31, 2009, we were not
in compliance with covenants under certain long-term loans requiring positive
operating income and a certain ratio of total financial obligations to EBITDA.
We received a waiver from the banks with respect to the covenants as of December
31, 2009, and the banks agreed to provide, as substitutes, less stringent
covenants to apply through September 30, 2010. As of September 30, 2010, we were
in compliance and expect to remain in compliance with the applicable covenants.
In connection with the above-mentioned covenants, we received the consent of the
commercial banks during 2008 to record a fixed charge on deposits in the amount
of $2.6 million held by our Indian subsidiary related primarily to the
mark-to-market of foreign exchange forward contracts into which we entered to
hedge against the effect of exchange rate fluctuations on cash flows denominated
in Indian Rupees.




In
addition, at September 30, 2010, one of our Israeli subsidiaries had a long-term
loan of NIS 11.6 million, or $3.2 million, from a commercial bank, taken in
March 2008, bearing interest at a fixed rate and maturing over five years, with
principal and interest paid quarterly. This loan and bank guarantees obtained by
this Israeli subsidiary contain covenants which, among other things: require
positive annual net income in a fiscal year; require a certain ratio of total
stockholders’ equity to total consolidated assets and a minimum stockholders’
equity of this Israeli subsidiary; and place limitations on its ability to
merge, transfer or pledge assets to third parties. Our failure to comply with
the covenants could lead to an event of default under the agreements governing
some or all of this indebtedness, permitting the applicable lender to accelerate
all borrowings under the applicable agreement and to foreclose on any
collateral. As of September 30, 2010, we were in compliance and expect to remain
in compliance with these covenants.




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-




At
September 30, 2010, we had on-call borrowings in the aggregate amount of $25.4
million.




We
anticipate funding a portion of our global growth through financing from
commercial banks.




Anticipated
Needs




We intend
to fund future growth through future cash flow from operations and available
bank borrowings. We believe the borrowings and future cash flow from operations
will be sufficient to fund continuing operations for the foreseeable
future.




However,
in order to achieve our strategic business objectives, we may be required to
seek additional financing. For example, future acquisitions may require
additional equity and/or debt financing. In addition, we may require further
capital to continue to enhance our infrastructure and for working capital
purposes. These financings may not be available on acceptable terms, or at
all.




Critical
Accounting Policies and Estimates




Preparation
of our financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses. We believe the most complex and sensitive judgments, because of
their significance to our consolidated financial statements, result primarily
from the need to make estimates about the effects of matters that are inherently
uncertain. Management’s Discussion and Analysis and Note 2 to the consolidated
financial statements presented in our 2009 Annual Report on Form 10-K, filed
with the SEC on March 15, 2010, describe the significant accounting estimates
and policies used in preparation of our consolidated financial statements.
Actual results in these areas could differ from management’s estimates. There
were no significant changes in our critical accounting estimates during the
three months ended September 30, 2010.




Contractual
Obligations




As of
September 30, 2010, except for the short-term and long-term loans obtained
through September 30, 2010, as described in the long-term and short-term debt
section above, there have been no material changes to the contractual
obligations we disclosed in our 2009 Annual Report on Form 10-K, filed with the
SEC on March 15, 2010.




Item
3. Quantitative and Qualitative Disclosures About Market Risk




We have
operations in 18 different countries and commercial relationships in many other
parts of the world. Our foreign operations contract with clients using
applicable local currencies, euros or dollars. As a result, we are subject to
adverse movements in foreign currency exchange rates in countries in which we
conduct business. Our earnings are predominantly affected by fluctuations in the
value of the dollar as compared to the New Israeli Shekel, the Indian Rupee, the
Czech Crown and the euro; and to some extent by fluctuations in intra-European
currency rates.




As an
example, a decrease of 10% in the value of the euro relative to the U.S. dollar
in the nine months ended September 30, 2010 would have resulted in an increase
in the U.S. dollar reporting value of our operating income of $0.4 million for
that period, while an increase of 10% in the value of the euro relative to the
U.S. dollar in the nine months ended September 30, 2010 would have resulted in a
decrease in the U.S. dollar reporting value of our operating income of $0.4
million for that period.




In order
to reduce the effect of such movements on our earnings, we utilize certain
foreign exchange forward contracts to hedge our exposure against the Indian
Rupee. In the future, we may enter into additional forward foreign currency
exchange or other derivatives contracts to further hedge our exposure to foreign
currency exchange rates.




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-




We
utilize interest rate swap derivatives to convert certain floating-rate debt to
fixed-rate debt. Our interest rate swap derivatives involve an agreement to pay
a fixed-rate interest and receive a floating-rate interest, at specified
intervals, calculated on an agreed notional amount that matches the amount of
the original loan and paid on the same installments and maturity
dates.




Other
than as described above, we do not engage in trading market risk sensitive
instruments or purchase hedging or “other than trading” instruments that are
likely to expose us to market risk, whether interest rate, commodity price or
equity price risk, nor have we purchased options or entered into swaps or
forward or futures contracts, nor do we use derivative financial instruments for
speculative trading purposes.




In the
future, we may be subject to interest rate risk on our investments and loans,
which would affect their carrying value.




Item
4. Controls and Procedures




Evaluation
of Disclosure Controls and Procedures




As of the
end of the period covered by this report, our principal executive officer and
principal financial officer evaluated the effectiveness of our disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Exchange Act). Based on their evaluation of our disclosure controls and
procedures, our principal executive officer and principal financial officer,
with the participation of our management, have concluded that our disclosure
controls and procedures were effective as of September 30, 2010 to ensure that
information required to be disclosed by us in the reports that we file or submit
under the Exchange Act is (a) recorded, processed, summarized and reported
within the time periods specified in the SEC’s rules and forms and (b)
accumulated and communicated to management, including our principal executive
officer and principal financial officer, as appropriate to allow for timely
decisions regarding required disclosure.




It should
be noted that any system of controls, however well designed and operated, can
provide only reasonable, and not absolute, assurance that the objectives of the
system are met. In addition, the design of any control system is based in part
upon certain assumptions about the likelihood of future events. Given these and
other inherent limitations of control systems, there is only reasonable
assurance that our controls will succeed in achieving their stated goals under
all potential future conditions. Our principal executive officer and principal
financial officer have concluded that our disclosure controls and procedures
were effective at the reasonable assurance level as of September 30,
2010.




Changes
in Internal Control Over Financial Reporting




As of the
end of the period covered by this report, there were no changes in our internal
controls over financial reporting, or in other factors that could significantly
affect these controls, that materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.




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-


PART
II – OTHER INFORMATION




Item
1. Legal Proceedings




We are
periodically a party to routine litigation incidental to our business. Other
than as disclosed below, we do not believe that we are a party to or our
property is subject to any pending legal proceeding that is likely to have a
material adverse effect on our business, financial condition or results of
operations.




One of
our Israeli subsidiaries is currently involved in legal proceedings with the
Israeli Ministry of Justice (the “MOJ”). The legal proceedings relate to a
contract for the provision of an information system for the MOJ, executed in
November 2005 (the “MOJ Contract”). Following continued disputes, correspondence
and discussions, on February 9, 2009 we filed a claim with the Israeli District
Court located in Jerusalem claiming, among other things, a breach of the MOJ
Contract by the MOJ, including in connection with the MOJ’s demands for
revisions and changes to the software that were not contemplated in the MOJ
Contract. Our claim is for damages in the amount of NIS 20.7 million, or
approximately $5.6 million, using the exchange rate prevailing at September 30,
2010. On February 11, 2009, the MOJ filed a claim against our Israeli subsidiary
in the Israeli District Court located in Jerusalem claiming, among other things,
that our Israeli subsidiary breached the MOJ Contract and failed to fulfill its
undertakings and obligations set forth therein. The MOJ’s claim is for damages
in the amount of NIS 79.5 million, or approximately $21.7 million, using the
exchange rate prevailing at September 30, 2010. The MOJ and our subsidiary have
filed answers to the respective claims. Both claims were subsequently
transferred to the Israeli District Court located in Tel Aviv. The first
pre-trial hearing for both claims was held on September 7, 2010, at which time
the court transferred the case to non-binding mediation. We believe that we have
a substantial basis with respect to our claim and valid defenses with respect to
the MOJ’s claim. While we intend to vigorously prosecute our claim and defend
against the MOJ’s claim, we cannot at this point predict the outcome of either
claim. Adverse decisions on these claims may materially adversely affect our
financial condition.




Item
1A. Risk Factors




There are
no material changes from the risk factors previously disclosed in our Annual
Report on Form 10-K filed with the SEC on March 15, 2010.




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




None.




Item
3. Defaults upon Senior Securities




None.




Item
4. (Removed and Reserved)




Item
5. Other Information




On
October 25, 2010, our Board of Directors appointed Satyam Cherukuri, one of our
directors, as Vice Chairman of the Board of Directors to assist Aharon Fogel as
we transition to a new Chairman of the Board. As previously disclosed in a
Current Report on Form 8-K dated September 7, 2010, Mr. Fogel notified us of his
decision not to stand for re-election to the Board at our 2011 annual meeting of
stockholders and that he expects to retire in the beginning of
2011.




Item
6. Exhibits




The
following is a list of exhibits filed as part of this Form 10-Q:




Exhibit Number
              
              Description31.1
              
              Certification
      of Principal Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
              
              Certification
      of Principal Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
              
              Certification
      of Principal Executive Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2
              
              Certification
      of Principal Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.


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-


SIGNATURES




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




NESS
      TECHNOLOGIES, INC.(Registrant)Date:
            November
      4,
    2010
            By:
            /s/Issachar
      GerlitzIssachar
      GerlitzChief
      Executive Officer, President and Director(principal
      executive officer)Date:
            November
      4,
    2010
            By:
            /s/Ofer
      SegevOfer
      SegevExecutive
      Vice President and Chief Financial Officer(principal
      financial and accounting
officer)


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-


EXHIBIT
INDEX




Exhibit Number
              
              Description31.1
              
              Certification
      of Principal Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
              
              Certification
      of Principal Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
              
              Certification
      of Principal Executive Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2
              
              Certification
      of Principal Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.




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