Restricted Cash

Concentrations of credit risk

Financial instruments that potentially subject us to concentrations of credit risk consist of cash, cash equivalents, short-term investments and accounts receivable. To date, we have invested excess funds in money market accounts, commercial paper, municipal bonds and term notes. We deposit cash, cash equivalents and short-term investments with financial institutions that we believe are credit worthy. Our accounts receivables are derived from revenues earned from customers principally located in the Americas and Europe. We perform ongoing credit evaluations of our customers' financial condition and, generally, require no collateral from our customers. We maintain reserves for potential credit losses on customer accounts when deemed necessary. 

The following table summarizes the revenues from customers in excess of 10% of total revenues:

At June 30, 2002, Company's B and G accounted for 11% and 10% of accounts receivable, respectively. At December 31, 2001 Companies F and B accounted for 10% and 17%, respectively, of accounts receivable.

Basic and diluted net loss per share is computed by dividing the net loss for the period by weighted average number of shares of common stock outstanding during the period. The calculation of diluted net loss per share includes potential common stock unless their effect is antidilutive. Potential common stock consist of common shares issuable upon the exercise of stock options (using the treasury stock method) and common shares subject to repurchase by us.

The following table sets forth the potential common shares that are excluded from the calculation of diluted net loss per share as their effect is anti-dilutive (in thousands, except share data):  

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Segment information

Based on the information that our chief operating decision maker reviews for assessing performance and allocating resources, we have concluded that we have one reportable segment.

License revenues for enterprise solutions amounted to $4.1 million and $5.3 million for the three months ended June 30, 2002 and 2001, respectively. License revenues for enterprise solutions  for the six months ended June 30, 2002 and 2001 were $13.9 million and $10.0 million, respectively.  License revenues for application products were approximately $1.9 million and $4.5 million for the three months ended June 30, 2002 and 2001, respectively. License revenues for application products  for the six months ended June 30, 2002 and 2001 were approximately $3.2 million and $6.6 million, respectively.

Service revenues consist of consulting assistance and implementation, customization and integration and post-contract customer support, training and certain reimbursable out-of-pocket expenses. Service revenues for enterprise solutions were approximately $6.4 million and $6.3 million for the three months ended June 30, 2002 and 2001, respectively. Service revenues for enterprise solutions for the six months ended June 30, 2002 and 2001 were approximately $15.3 million and $12.8 million, respectively. Service revenues for application products were approximately $2.6 million and $2.9 million for the three months ended June 30, 2002 and 2001, respectively. Service revenues for application products for the six months ended June 30, 2002 and 2001 were approximately $5.5 million and $3.0 million, respectively.

Foreign revenues are based on the country in which the customer is located. The following is a summary of total revenues by geographic area (in thousands):

Property and equipment information is based on the physical location of the assets. The following is a summary of property and equipment, net by geographic area (in thousands):

In November 2001, the Financial Accounting Standards Board ("FASB") issued Issue No. 01-14, "Income Statement Characterization of Reimbursements Received for Out-of-Pocket Expenses Incurred" ("EITF No. 01-14"). EITF No. 01-14 is to be applied for financial reporting periods beginning after December 15, 2001 and generally requires that a company recognize as revenue, travel expense and other reimbursable expenses billed to customers. As a result of the adoption of EITF No. 01-14 beginning January 1, 2002, our service revenues now include reimbursable out-of-pocket expenses and cost of service revenues include the costs associated with reimbursable out-of-pocket expenses. In the historical financial statements, these amounts were previously recorded as net amounts in cost of service revenues. Comparative financial information has been reclassified to conform with current period presentation.  Reimbursable expenses reported as service revenue for the three months ended June 30, 2002 and 2001 were $0.5 million and $0.4 million, respectively. Reimbursable expenses reported as service revenue for the six months ended June 30, 2002 and 2001 were $1.0 million and $0.8 million, respectively.

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Effective January 1, 2002 we adopted SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 144 requires that long-lived assets to be disposed of by sale, including discontinued operations, be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. SFAS No. 144 also broadens the reporting requirements of discontinued operations to include all components of an entity that have operations and cash flows that can be clearly distinguished, operationally and for financial reporting purposes, from the rest of the entity. The adoption of this statement did not have a significant impact on our results of operations or financial position.

NOTE 3 - ACQUISITION

On April 1, 2002 we acquired OnDemand, Inc., a provider of relationship management software located in Palo Alto, California.

The results of operations of OnDemand have been included in our operating results from the date of acquisition.

The total purchase price of $11,718 was paid in cash. The purchase price is subject to adjustments based upon our finalization of integration plans, which may include elimination of duplicate facilities and fixed assets as well as employee severance. The following table summarizes the estimated fair value of the assets acquired and liabilities assumed at the date of acquisition (in thousands):

Tangible assets acquired principally include cash and cash equivalents, accounts receivable, fixed assets and other assets. Liabilities assumed principally include borrowings, accounts payable and accrued expenses.

The value of the purchased in-process research and development was determined by estimating the projected net cash flows related to the product under development, determined based upon our estimates of costs to complete the development of the technology and the future revenue to be earned upon commercialization of the products. The estimated stage of completion (expressed as a percentage of completion) was calculated and then applied to the net cash flow for the product. Discount rates used in the analysis consisted of 30% applied to the projected cash flows of the in-process research and development to determine their net present value for OnDemand products under development, 25% for core technology and 20% for developed technology.

The value attributed to in-process research and development was charged to expense in the period the acquisition was consummated. The write-off was necessary because the acquired in-process technology had not yet reached technological feasibility, and in management's opinion, have no future alternative uses. The product under development may not achieve commercial viability. The nature of the efforts required to develop the purchased in-process research and development into a commercially viable product principally relate to the completion of all planning, designing, prototyping, verification and testing activities that are necessary to establish that the product can be produced to meet its designed specifications, including functions, features and technical performance requirements.

The excess of purchase price over tangible and identifiable intangible assets acquired and liabilities assumed was recorded as goodwill.

The following unaudited pro forma consolidated financial information reflects the results of operations for the three and six months ended June 30, 2002 and June 30, 2001, as if the acquisition of OnDemand, Prime Response, Actionpoint and AoNet had occurred on at the beginning of each of the years presented. These pro forma results have been prepared for comparative purposes only, do not purport to be indicative of what operating results would have been had the acquisitions actually taken place on January 1, 2002, and may not be indicative of future operating results (in thousands, except per share data):

NOTE 4 - BALANCE SHEET COMPONENTS

Unbilled receivables relate to earned service revenues and licenses delivered that have not yet been billed and maintenance services for future periods that have been purchased by our customers, but have not yet been billed.

NOTE 5 - RESTRUCTURING

During 2001, several areas of the company were restructured to prioritize our initiatives around areas of our business, reduce expenses, and improve efficiency due to our integration and absorption of our acquisitions and reflecting our desire to become cashflow and profitability breakeven in the near future. This restructuring program included a worldwide workforce reduction, consolidation of excess facilities, and restructuring of certain business functions.  During the quarters ended March 31, 2002 and June 30, 2002, we took further actions in the areas of workforce reduction and consolidation of excess facilities.

Workforce reduction

The restructuring program initiated in the quarter ended March 31, 2002 resulted in the reduction of 20 regular employees.  As a result, we recorded a workforce reduction charge of approximately $1.0 million relating primarily to severance and benefits.  A continuation of the restructuring program in the quarter ended June 30, 2002 resulted in a further reduction of 37 additional employees.  As a result, we recorded an additional workforce reduction charge of approximately $0.9 million relating primarily to severance and benefits.  We anticipate incurring additional workforce reduction charges and expect to complete the restructuring program during the third quarter ending September 30, 2002. 

Consolidation of excess facilities

We accrued for lease costs of $2.6 million in the first quarter of 2002 pertaining to the estimated future obligations for non-cancelable lease payments for additional excess facilities that were vacated due to reductions in workforce.

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A summary of the restructuring expense and other special charges is outlined as follows (in thousands):

Amounts related to net lease charges due to the consolidation of facilities will be paid over the lease terms through fiscal 2011.  The reserve balance at June 30, 2002 is currently being included on the balance sheet within accrued expenses.

On January 1, 2002, we adopted SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142 requires goodwill to be tested for impairment under certain circumstances, written down when impaired, and requires purchased intangible assets other than goodwill to be amortized over their useful lives unless these lives are determined to be indefinite. We ceased amortizing goodwill totaling $20.7 million as of the beginning of fiscal 2002, including $2.7 million of acquired workforce intangibles previously classified as purchased intangible assets. Our purchase of OnDemand increased our goodwill by $4.0 million to $24.8 million at June 30, 2002.  Purchased intangible assets are carried at cost less accumulated amortization. Amortization is computed over the estimated useful lives of the respective assets, generally one and one half to three years. We expect amortization expense, including the effect of our acquisition of OnDemand, on purchased intangible assets to be $1.9 million for the remainder of fiscal 2002, $3.6 million in fiscal 2003, $1.3 million in fiscal 2004 and $0.1 million in fiscal 2005, at which time existing purchased intangible assets will be fully amortized.

The following table presents the impact of SFAS No. 142 on net loss and net loss per share had the standard been in effect for the three and six months ended June 30, 2002 and 2001, respectively (in thousands, except per-share amounts):

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NOTE 7 - COMMITMENTS

Future payments due under debt and lease obligations as of June 30, 2002 are as follows (in thousands):

We have entered into a two-year agreement, beginning March 19, 2002, with Merit International pursuant to which Merit will provide exclusive training and certain consulting services for a fixed fee. Upon the effective date of this agreement, we transferred to Merit our training operations including selected employees. In addition, Merit will provide to our customers resource development services in exchange for an agreed-upon fee negotiated on a transaction-by-transaction basis. We believe this agreement will provide us with high quality training and consulting services. We will pay Merit, based on meeting certain minimum revenue targets, as follows: July 1, 2002 to December 31, 2002: (British Pounds) 900,000; January 1, 2003 to June 30, 2003: (British Pounds) 900,000; July 1, 2003 to December 31, 2003: (British Pounds) 1.0 million; and January 1, 2004 to June 30, 2004: (British Pounds) 500,000, for a total of (British Pounds) 3.3 million. The minimum revenue target above can be reduced for Merit's non-compliance with the terms of the agreement. If we exceed the minimum revenue target, the excess will be applied against future minimums. After one year from the effective date, we may, at our option, terminate the agreement and pay an early termination fee that reduces from (British Pounds) 555,000 to (British Pounds) 0 over time. Payment of the early termination fee will release our obligation related to the minimum revenue target.

NOTE 8 - RELATED PARTY TRANSACTIONS

During the quarter ended March 31, 2002, two of our executives exercised 285,000 stock options in exchange for notes receivables (the "Notes") of $496,000. The Notes are full-recourse secured by the underlying stock. These Notes are due in February and March of 2003 and accrue interest between 6.0% and 6.5% per annum.

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In addition to historical information, the following discussion and analysis of management contains forward-looking statements. These forward-looking statements involve risks, uncertainties and assumptions. The actual results may differ materially from those anticipated in these forward-looking statements as a result of many factors, including but not limited to, those discussed below and in the sections in this Form 10-Q entitled  "Overview," "Results of Operations," "Cost of revenues," "Operating Expenses," "Interest and other Income (Expense), and Interest Expense," "Restructuring Costs," "Provision for Income Taxes," "Liquidity and Capital Resources" and "Business Risks." Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's opinions only as of the date hereof. We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements. Readers should carefully review the risk factors described in this document as well as in other documents we file from time to time with the Securities and Exchange Commission.  

Overview  

We provide customer relationship management (CRM) software solutions for global business-to-consumer enterprise companies. Our target customers include companies with demanding customer relationships involving a large number of individual customers with complex customer relationships requiring high levels of personalized services. We began marketing our enterprise solutions in 1997. Through our acquisitions of Prime Response, OnDemand, certain technology from ActionPoint and ASP Outfitter, we have added new products to our product offerings. Our customers include global companies in the financial services, telecommunications, retail and travel services industries. Our solutions seek to fulfill the requirements these companies have for enterprise-wide CRM software infrastructure solutions capable of servicing millions of individual customers across multiple communication channels in real-time. Our solutions enable organizations to market, sell, and serve their customers across multiple channels, including call centers, branch representatives and self-serve channels such as automated telephony, the internet and e-mail. 

We have had several acquisitions over the past two years. As a result of these acquisitions, comparison of prior period revenues and expenses may not be meaningful. 

Service revenues as a percentage of total revenues were 60% and 48% for the three months ended June 30, 2002 and 2001, respectively.  Service revenues as a percentage of total revenues were 55% and 49% for the six moths ended June 30, 2002 and 2001, respectively. We expect that service revenue will continue to represent over 40% of total revenues. 

We sell our products through our direct sales force, and we augment our sales efforts through relationships with systems integrators, application service providers and technology vendors. 

For the three and six months ended June 30, 2002 and 2001, revenues were principally derived from customer accounts in the Americas and Europe (principally The United Kingdom). For the three months ended June 30, 2002 and 2001, international revenues were $10.7 million and $14.6 million, or approximately 71% and 76% of our total revenues, respectively. For the six months ended June 30, 2002 and 2001, international revenues were $30.7 million and $25.8 million, or approximately 81% and 80% of our total revenues, respectively. We believe international revenues will continue to represent a significant portion of our total revenues in future periods. 

Over the past two years our international revenue growth rate has rapidly outpaced our United States revenue growth rate. We believe this has occurred for several reasons. First, the U.S. economy has been weak compared to areas where we have an international presence. Second, our leadership has been very strong internationally as Stephen Kelly was personally responsible for promoting our strong growth in International Operations. Third, up until recently, the competition for sales personnel was very strong in the United States. And fourth, Prime Response, which we acquired in 2001, has a very strong international presence. Assuming the United States economy begins to recover and given our focus, Stephen Kelly as our Chief Executive Officer and Jeremy Coote as our new Americas' President, we believe we will be able to increase our growth rate for our U.S. revenues more rapidly than our international revenues. We project the Americas will grow to 50% of our total revenues.

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A small number of customers account for a significant portion of our total revenues. As a result, the loss or delay of individual orders or delays in the product implementations for a customer can have a material impact on our revenues. We expect that revenues from a small number of customers will continue to account for a majority of our total revenues in the future as historical implementations are completed and replaced with new projects from new and existing customers. Customer concentration has reduced and we expect that trend to continue. 

Pricing pressure during the past year has intensified particularly with application products. Several of our competitors continue to aggressively price their products with large discounts in comparison to our prices. We believe this competitive pricing pressure will continue. Our strategy is to continue to offer products with functionality that is different and superior to our competitors. 

We have experienced a lengthening of our customers' contract cycle and have taken that issue into account for our forecasting model. 

Since our inception, we have incurred substantial research and development costs and have invested heavily in the expansion of our product development, sales, marketing and professional services organizations in order to build an infrastructure to support our long-term growth strategy. The number of our fulltime employees decreased from 436 at December 31, 2001, to 401 at June 30, 2002, representing a decrease of approximately 8%. The decrease was due primarily to reduction in force and the transfer of our training employees to Merit International. We anticipate that our operating expenses, in gross dollars, will continue to increase over the very long term as we expand our product development, sales and marketing and professional services organization.

We believe that period-to-period comparisons of our operating results should not be relied upon as indicative of future performance. Our prospects must be considered given the risks, expenses and difficulties frequently encountered by companies in early stages of development, particularly companies in new and rapidly evolving businesses. There can be no assurance we will be successful in addressing these risks and difficulties. In addition, although we have experienced revenue growth recently, this trend may not continue. In addition, we may not achieve or maintain profitability in the future.

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Results of Operations

The following table sets forth, as a percentage of total revenues, consolidated statements of operations data for the periods indicated:

CHORDIANT SOFTWARE, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)

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Comparison of the Three Months Ended June 30, 2002 and 2001

Revenues

Service. Total service revenues, including reimbursement of out-of-pocket expenses, decreased slightly to $9.0 million for the quarter ended June 30, 2002, from $9.2 million for the quarter ended June 30, 2001. Service revenues for enterprise solutions increased approximately 5% to $6.5 million for the quarter ended June 30, 2002, from $6.3 million for the quarter ended June 30, 2001. Service revenues for application products decreased approximately 10% to $2.5 million for the quarter ended June 30, 2002, from $2.9 million, for the quarter ended June 30, 2001. The revenue decrease was primarily due to the lack of growth in the number of product implementations by new and existing customers as they delayed and deferred spending decisions..

Reimbursement of out-of-pocket expenses increased to approximately $0.5 million for the quarter ended June 30, 2002 from $0.4 million, or approximately 25%, for the quarter ended June 30, 2001.

Cost of revenues

License. Cost of license revenues increased to $0.5 million for the quarter ended June 30, 2002, from $0.3 million, or approximately 67%, for the quarter ended June 30, 2001. These costs resulted in license gross margins of approximately 92% and 97% for the quarters ended June 30, 2002 and 2001, respectively. The cost of license revenues reflects a higher royalty mix in the quarter ended June 30, 2002.

Service. Cost of service revenues, before the effect of non-cash compensation expense, decreased to $6.6 million for the quarter ended June 30, 2002, from $8.4 million, or approximately 16%, for the quarter ended June 30, 2001. The decrease is primarily due to a decrease of $0.9 million in personnel related expenses, a decrease of $0.9 million in facilities and depreciation expenses partially offset by an increase of $0.5 million in external consultants.

Service gross margins improved from 9% for the quarter ended June 30, 2001 to 27% for the quarter ended June 30, 2002.  This improvement is mainly the result of the combined effects of restructuring actions implemented and our cost savings associated with our agreement with Merit International.

Reimbursement of out-of-pocket expenses increased to approximately $0.5 million for the quarter ended June 30, 2002 from $0.4 million, or approximately 25%, for the quarter ended June 30, 2001.

Operating Expenses

Sales and marketing. Sales and marketing expenses, before the effect of non-cash compensation expense, decreased to $8.3 million for the quarter ended June 30, 2002 from $10.4 million, or approximately 20%, for the quarter ended June 30, 2001. The decrease in these expenses were mainly attributable to decreases of $1.7 million in personnel related expenses due to headcount reductions and a reduction in commission expense and a reduction of $0.4 million in marketing and advertising costs. 

Research and development. Research and development expenses before the effect of non-cash compensation expense and purchased in-process research development decreased to $5.2 million for the quarter ended June 30, 2002 from $5.4 million, or approximately 4%, for the quarter ended June 30, 2001. The decrease was mainly due to a decrease of $0.2 million in  consulting expenses.

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Purchased in-process research and development. In-process research and development expense represents technology acquired that on the date of acquisition, the technology had not achieved technological feasibility and there was no alternative future use based on the state of development. Because the product under development may not achieve commercial viability, the amount of acquired in-process research and development was immediately expensed. The nature of the efforts required to develop the purchased in-process research and development into a commercially viable product principally relate to the completion of all planning, designing, prototyping, verification and testing activities that are necessary to establish that the product can be produced to meet its designed specifications, including functions, features and technical performance requirements. Purchased in-process research and development of $1.0 million for the quarter ended June 30, 2002 is related to the OnDemand acquisition that was completed on April 1, 2002.  Purchased in-process research and development of $1.2 million for the quarter ended June 30, 2001 is related to the acquisitions of Actionpoint, Inc. and ASP Outfitter, Inc. that were completed in May 2001.

General and administrative. General and administrative expenses, before the effect of non-cash compensation expense, decreased to $1.9 million for the quarter ended June 30, 2002, from $2.8 million, or 32%, for the quarter ended June 30, 2001. The decrease in these expenses was mainly attributable to a decrease of $0.5 million in personnel related expenses and $0.4 million reduction in communication, insurance and other overhead related costs.

Non-cash compensation expense. In connection with the grant of certain employee stock options, we recorded aggregate unearned stock-based compensation expenses of $14.8 million. The balance represents the total difference between the exercise price of the option and the deemed fair market value of the underlying common stock at the date of issuance in relation to options granted prior to our initial public offering. We recorded for the quarter ended June 30, 2002, amortization of stock-based compensation expense of $0.4 million compared to $0.8 for the quarter ended June 30, 2001. At June 30, 2002, approximately $3.1 million of stock-based compensation remained to be amortized. 

Amortization of intangibles. Amortization of intangibles for the quarter ended June 30, 2002, was $1.0 million of which $0.5 million is attributable to the acquisition of Prime Response in March 2001. The remaining balance of $0.5 million is related to the acquisitions of certain assets from ActionPoint, Inc. and ASP Outfitter, Inc. in May 2001, technology from EDS in December 2001 and the acquisition of OnDemand, Inc. in April 2002. The decrease in amortization of intangible assets for the quarter ended June 30, 2002 compared to the quarter ended June 30, 2001 is principally due to the effect of the implementation of SFAS No. 142 effective January 1, 2002.  We ceased to amortize the unamortized goodwill balances of $20.7 million including $2.7 million of acquired workforce-in-place that was reclassified to goodwill.  Amortization of goodwill during the quarter ended June 30, 2001 represented $1.9 million.

Interest and other Income, net, and Interest Expense

Interest and other income, net consist primarily of interest income generated from our cash, cash equivalents, short-term investments, foreign currency gains and losses and other non-operating income and expenses. Interest expenses are incurred in connection with outstanding borrowings. Interest and other income (expense), net decreased to approximately $0.2 million for the quarter ended June 30, 2002, from $0.9 million for the quarter ended June 30, 2001. The decrease in interest and other income is primarily attributable to declining interest rates and a lower amount of funds available for investment.

Comparison of the Six Months Ended June 30, 2002 and 2001

Revenues

License. Total license revenues increased to approximately $17.1 million for the six months ended June 30, 2002 from $16.6 million, or approximately 3%, for the quarter ended June 30, 2001. License revenues for enterprise solutions increased to approximately $13.9 million for the six months ended June 30, 2002 from $10.0 million, or approximately 39%, for the six months ended June 30, 2001. License revenues for application products decreased to approximately $3.2 million for the six months ended June 30, 2002 from $6.6 million, or approximately 52%, for the six months ended June 30, 2001. The overall revenue increase was primarily due to the growth in the number of product implementations by new and existing customers for our enterprise solutions.  

Service. Total service revenues, including reimbursement of out-of-pocket expenses, increased to approximately $20.8 million for the six months ended June 30, 2002, from $15.8 million, or approximately 32%, for the six months ended June 30, 2001. Service revenues for enterprise solutions increased to approximately $15.3 million for the six months ended June 30, 2002, from $12.8 million, or approximately 20%, for the six months ended June 30, 2001. Service revenues for application products increased to approximately $5.5 million for the six months ended June 30, 2002, from $3.0 million, or approximately 83%, for the six months ended June 30, 2001. The revenue increase was primarily due to a continuation in large customer implementations as well as maintenance, support and consulting revenues associated with license agreements.

Reimbursement of out-of-pocket expenses increased to approximately $1.0 million for the six months ended June 30, 2002 from $0.8 million, or approximately 25%, for the six months ended June 30, 2001.

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Cost of revenues

License. Cost of license revenues increased to $1.1 million for the six months ended June 30, 2002, from $0.8 million, or approximately 38%, for the six months ended June 30, 2001. License gross margins were approximately 94% and 95% for the six months ended June 30, 2002 and 2001, respectively. The cost of license revenues increase was primarily due to transaction growth in the number of product implementations by new and existing customers and a higher average transaction size. 

Service. Cost of service revenues, before the effect of non-cash compensation expense, increased to $16.2 million for the six months ended June 30, 2002, from $13.7 million, or approximately 18%, for the six months ended June 30, 2001. These costs resulted in service gross margins of 22% and 13% for the six months ended June 30, 2002 and 2001, respectively. Service gross margins improved mainly as the result of the combined effects of restructuring actions implemented, increased efficiencies and our cost savings associated with outsourcing and our agreement with Merit International.

Reimbursement of out-of-pocket expenses increased to approximately $1.0 million for the six months ended June 30, 2002 from $0.8 million, or approximately 25%, for the six months ended June 30, 2001.

Operating Expenses

Sales and marketing. Sales and marketing expenses, before the effect of non-cash compensation expense, decreased to $17.4 million for the six months ended June 30, 2002 from $18.8 million, or approximately 7%, for the six months ended June 30, 2001. The decrease in these expenses were mainly attributable to decreases of $1.4 million in personnel related expenses due to a decrease in headcount and a decrease in commission expenses.

Research and development. Research and development expenses before the effect of non-cash compensation expense and purchased in-process research development increased slightly to $10.1 million for the six months ended June 30, 2002 from $9.9 million, for the six months ended June 30, 2001.

Purchased in-process research and development. In-process research and development expense represents technology acquired that on the date of acquisition, the technology had not achieved technological feasibility and there was no alternative future use based on the state of development. Because the product under development may not achieve commercial viability, the amount of acquired in-process research and development was immediately expensed. The nature of the efforts required to develop the purchased in-process research and development into a commercially viable product principally relate to the completion of all planning, designing, prototyping, verification and testing activities that are necessary to establish that the product can be produced to meet its designed specifications, including functions, features and technical performance requirements. Purchased in-process research and development of $1.0 million for the six months ended June 30, 2002 is related to the OnDemand acquisition that was completed on April 1, 2002.  Purchased in-process research and development of $2.7 million for the six months  ended June 30, 2001 is related to the acquisitions of Prime Response, Inc., Actionpoint, Inc. and ASP Outfitter, Inc.

General and administrative. General and administrative expenses, before the effect of non-cash compensation expense, decreased to $4.1 million for the six months ended June 30, 2002, from $4.7 million, or 13%, for the six months ended June 30, 2001. The decrease in these expenses was mainly attributable to an decrease of $0.3 million in personnel related expenses and $0.2 million decrease in consultant expenses. 

Non-cash compensation expense. In connection with the grant of certain employee stock options, we recorded aggregate unearned stock-based compensation expenses of $14.8 million. The balance represents the total difference between the exercise price of the option and the deemed fair market value of the underlying common stock at the date of issuance in relation to options granted prior to our initial public offering. We recorded for the six months ended June 30,2002, amortization of stock-based compensation expense of approximately $1.0 million compared to $1.8 million for the six months ended June 30, 2001. At June 30, 2002, approximately $3.5 million of stock-based compensation remained to be amortized. 

Amortization of intangibles. Amortization of intangibles for the six months ended June 30, 2002, was $1.8 million of which $0.9 million is attributable to the acquisition of Prime Response in March 2001. The remaining balance of $0.9 million is related to the acquisitions of certain assets from ActionPoint, Inc. and ASP Outfitter, Inc. in May 2001 and technology from EDS in December 2001.  The decrease in amortization of intangible assets for the six months ended June 30, 2002 compared to the quarter ended June 30, 2001 is principally the effect of the implementation of SFAS No. 142,  goodwill and other intangible assets effective January 1, 2002.  We ceased to amortize the unamortized goodwill balances of $20.7 million including $2.7 million of acquired workforce-in-place that was reclassified to goodwill.  Amortization of goodwill during the six months ended June 30, 2001 represented $2.4 million.

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Interest and other Income, net, and Interest Expense

Interest and other income, net consist primarily of interest income generated from our cash, cash equivalents, short-term investments, foreign currency gains and losses and other non-operating income and expenses. Interest expenses are incurred in connection with outstanding borrowings. Interest and other income (expense), net decreased to approximately $0.5 million for the six months ended June 30, 2002, from $2.2 million for the six months ended June 30, 2001. The decrease in interest and other income is primarily attributable to declining interest rates and a lower amount of funds available for investment.

We have not generated taxable income since inception and, as a result, no provision for income taxes was recorded during the periods presented. Our deferred tax assets primarily consist of net operating loss carryforwards, nondeductible allowances and research and development tax credits. We have recorded a valuation allowance for the full amount of our net deferred tax assets, as the future realization of the tax benefit is not considered by management to be more-likely-than-not.

During the six months ended June 30, 2002, net cash used to fund operating activities was $8.2 million.

On May 29, 2002, we sold 479,100 shares of our common stock to Canadian Imperial Holdings Inc. ("CIBC") for an aggregate purchase price of $3.0 million. The principal purpose of this offering is to use the net proceeds primarily for working capital and other general corporate purposes.

The amounts that we actually expend for working capital and other general corporate purposes will vary significantly depending on a number of factors, including future revenue growth, if any, and the amount of cash that we generate from operations. As a result, we will retain broad discretion over the allocation of the net proceeds of this offering. We also may use a portion of the net proceeds for the acquisition of businesses, products and technologies. We have no current agreements or commitments for acquisitions of any businesses, products or technologies, except for the acquisition of OnDemand that was completed on April 1, 2002. We will invest the net proceeds of this offering in short-term to medium-term interest-bearing, investment-grade securities until we use the proceeds. We cannot predict whether the proceeds will be invested to yield a favorable return.

Net cash provided by investing activities was $5.1 million, primarily related to our proceeds from short-term investments. Our cash and cash equivalents, short-term investments and restricted cash value on June 30, 2002, was $43.6 million, representing a decrease of approximately $7.5 million since December 31, 2001. Cash used in relation to the acquisition of OnDemand represented $4.8 million.

At December 31, 2001 and June 30, 2002, we had a balance of $1.0 million in the form of short-term investments, which were restricted from withdrawal.  The balance serves as a security deposit in a revenue transaction. At December 31, 2001 and June 30, 2002, we also had a interest bearing letter-of-credit for $0.5 million securing a leased facility.

On October 15, 2001, we renewed terms and conditions for a line of credit with Comerica Bank that is comprised of two elements, an accounts receivable line and an equipment line. 

Under the renewed terms and conditions, the total amount available under the accounts receivable and equipment lines of credit is $11.5 million and $2.0 million, respectively. At our option, borrowings under the accounts receivable line of credit will bear interest either at the lending bank's prime rate plus 1.5% or the LIBOR Option (1,2,3 or 6 month maturity) plus 500 basis points. Borrowings under our $2.0 million equipment line bear interest at the lending bank's prime rate plus 2.0%. The accounts receivable line is limited to 80% of eligible accounts receivable. There were no borrowings outstanding at June 30, 2002 under both the accounts receivable and equipment lines of credit.

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Our assets collateralize borrowings under both lines of credit. Both lines of credit require us to maintain a minimum quick ratio of 2.00 to 1.00, a tangible net worth of at least $25.0 million plus 60% of the proceeds of any equity offerings and subordinated debt issuance subsequent to the effective date of this line of credit agreement, and certain other covenants. As of June 30, 2002 we were in compliance with all covenants of the agreement. 

Our existing cash, cash equivalents and investment balances may decline further during fiscal 2002, although we believe that the effects of our strategic actions implemented to improve revenue as well as control costs will be adequate to generate sufficient cash reserves, which combined with existing cash balances, will be sufficient to meet our working capital and operating resource expenditure requirements for the next 12 months. If the global economy weakens further, the decline in cash, cash equivalents and investments balances may be greater than presently anticipated. We expect to continue to experience growth in our operating expenses. We anticipate that operating expenses will continue to be a material use of our cash resources. We may continue to utilize cash resources to fund acquisitions or investments in other businesses, technologies or product lines. We may require additional funds to support our working capital and operating expense requirements or for other purposes and may seek to raise these additional funds through public or private debt or equity financings. There can be no assurance that this additional financing will be available, or if available, will be on reasonable terms.  Failure to generate sufficient revenues or control spending could adversely affect our ability to achieve our business objectives.

In addition, while our cash projections contain assumptions about future revenues, we have significant commitments for cash payouts that will occur regardless of our revenues. Future payments due under debt and lease obligations as of June 30, 2002 are as follows (in thousands):

In addition, we have entered into a two-year agreement, beginning March 19, 2002, with Merit International pursuant to which Merit will provide exclusive training and certain consulting services for a fixed fee. Upon the effective date of this agreement, we transferred to Merit our training operations including selected employees. In addition, Merit will provide to our customers resource development services in exchange for an agreed-upon fee negotiated on a transaction-by-transaction basis. We believe this agreement will provide us with high quality training and consulting services. We will pay Merit, based on meeting certain minimum revenue targets, as follows: July 1, 2002 to December 31, 2002: (British Pounds) 900,000; January 1, 2003 to June 30, 2003: (British Pounds) 900,000; July 1, 2003 to December 31, 2003: (British Pounds) 1.0 million; and January 1, 2004 to June 30, 2004: (British Pounds) 500,000, for a total of (British Pounds) 3.3 million. The minimum revenue target above can be reduced for Merit's non-compliance with the terms of the agreement. If we exceed the minimum revenue target, the excess will be applied against future minimums. After one year from the effective date, we may, at our option, terminate the agreement and pay an early termination fee that reduces from (British Pounds) 555,000 to (British Pounds) 0 over time. Payment of the early termination fee will release our obligation related to the minimum revenue target.

Interest Rate Risk. Our exposure to market rate risk for changes in interest rates relates primarily to our investment portfolio. We have not used derivative financial instruments to hedge our investment portfolio. We invest excess cash in debt instruments of the U.S. Government and its agencies, and in high-quality corporate issuers and, by policy, limit the amount of credit exposure to any one issuer. We protect and preserve invested funds by limiting default, market and reinvestment risk. Investments in both fixed rate and floating rate interest earning instruments carries a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to a rise in interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future investment income may fall short of expectations due to changes in interest rates or we may suffer losses in principal if forced to sell securities, which have declined in market value due to changes in interest rates.

Foreign Currency Risk. International revenues from our foreign subsidiaries accounted for approximately 72% and 81% of total revenues for the three and six months ended June 30, 2002, respectively. International sales are made mostly from our foreign sales subsidiaries in their respective countries and are typically denominated in the local currency of each country. These subsidiaries also incur most of their expenses in the local currency. Accordingly, all foreign subsidiaries use the local currency as their functional currency. 

Our international business is subject to risks, including, but not limited to differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions, and foreign exchange rate volatility when compared to the United States. Accordingly, our future results could be materially adversely impacted by changes in these or other factors. 

Our exposure to foreign exchange rate fluctuations arises in part from intercompany accounts in which costs incurred in the United States are charged to our foreign sales subsidiaries. These intercompany accounts are typically denominated in the functional currency of the foreign subsidiary. We are also exposed to foreign exchange rate fluctuations as the financial statements of foreign subsidiaries are translated into U.S. dollars in consolidation. As exchange rates vary, these results, when translated, may vary from expectations and adversely impact overall expected profitability. The effect of foreign exchange rate fluctuations for the six months ended June 30, 2002 was not material.

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Item 2.  Changes in Securities

1. Modification of Constituent Instruments

   Not applicable.

2. Change in Rights

   Not applicable.

3. Changes in Securities

   On May 29, 2002, we completed a private sale of 479,100 shares of our common stock to Canadian Imperial Holdings Inc. ("CIBC"), for an aggregate purchase price of $3.0. million. The sale was made pursuant to an exemption from registration provided by section 4(2) of the securities act of 1933.

4. Use of Proceeds

The principal purpose of this offering is to use the net proceeds of this offering primarily for additional working capital and other general corporate purposes, including increased sales and marketing expenditures, increased research and development expenditures and capital expenditures. We have not yet determined our expected use of these proceeds.

The amounts that we actually expend for working capital and other general corporate purposes will vary significantly depending on a number of factors, including future revenue growth, if any, and the amount of cash that we generate from operations. As a result, we will retain broad discretion over the allocation of the net proceeds of this offering. We also may use a portion of the net proceeds for the acquisition of businesses, products and technologies. We have no current agreements or commitments for acquisitions of any businesses, products or technologies. Pending these uses, we will invest the net proceeds of this offering in short-term to medium-term interest-bearing, investment-grade securities. We cannot predict whether the proceeds will be invested to yield a favorable return.

          None.

On May 29, 2002, our Annual Meeting of Stockholders was held in Cupertino, California.  Of the 54,448,792 shares outstanding and entitled to vote as of the record date of April 25, 2002, 42,494,945 shares were present or represented by proxy at the meeting.  At the meeting stockholders were asked to vote with respect to (i) the election of 2 directors to hold office until the 2005 Annual Meeting of Stockholders or until such time as their respective successors are elected and qualified, (ii) to approve an amendment to the 1999 Non-Employee Directors' Stock Option Plan to change the vesting period from four to three years and (iii) the ratification of the selection of PricewaterhouseCoopers LLP as our independent accountants for our fiscal year ending December 31, 2002.

The following nominees were elected as class II directors, each to hold office until the 2005 Annual Meeting of Stockholders or until such time as their respective successors are elected and qualified, by the vote set forth below:

The approval of an amendment to the 1999 Non-Employee Directors' Stock Option Plan to change the vesting period from four to three years was sustained by the vote set forth below:

The selection of PricewaterhouseCoopers LLP as our independent accountants for our fiscal year ending December 31, 2002 was ratified by the vote set forth below:

         In May 2002, Joseph Tumminaro resigned from our board of directors for reasons not associated with the management of Chordiant.

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(a) Exhibits

2.1 Agreement and Plan of Merger and Reorganization, dated as of March 28, 2002, by and among Chordiant Software, Inc., OnDemand Acquisition Corp. and OnDemand, Inc. (filed as Exhibit 2.1 to Chordiant's Current Report on Form 8-K filed on April 12, 2002, and which Exhibit 2.1 is incorporated herein by reference).

3.1 Amended and Restated Certificate of Incorporation of Chordiant Software, Inc. (filed as Exhibit 3.1 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 3.1 is incorporated herein by reference).

3.2 Amended and Restated Bylaws of Chordiant Software, Inc. (filed as Exhibit 3.2 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 3.2 is incorporated herein by reference).

4.1 Specimen Common Stock Certificate (filed as Exhibit 4.2 with Amendment No. 2 to Chordiant's Registration Statement on Form S-1 (No. 333- 92187) filed on February 7, 2000 and which Exhibit 4.2 is incorporated herein by reference).

4.2 Amended and Restated Registration Rights Agreement, dated as of September 28, 1999 (filed as Exhibit 4.3 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 4.3 is incorporated herein by reference).

4.3 Subordinated Registration Rights Agreement, dated July 19, 2000, by and among Chordiant Software, Inc. and the Sellers of capital stock of White Spider Software, Inc. (filed as Exhibit 4.3 with Chordiant's Registration Statement on Form S-4 (No. 333-54856) filed on February 2, 2001 and which Exhibit 4.3 is incorporated herein by reference).

4.4 Registration Rights Agreement, dated May 17, 2001, by and between Chordiant and ActionPoint, Inc. (filed as Exhibit 4.4 to Chordiant's Annual Report on Form 10-K filed on March 29, 2002, which Exhibit 4.4 is incorporated herein by reference).

10.1   Securities Purchase Agreement by and between Chordiant and Canadian Imperial Holdings, Inc. Filed as exhibit 10.21 to Chordiant's quarterly report on Form 10-Q filed on May 15, 2002, which Exhibit 10.21 is incorporated by reference herein.

10.22 *Change of Control Agreement, dated November 15, 2001, by and between Chordiant and Jeremy Coote.

24.1 Power of Attorney (set forth on signature page).

99.1 Certification pursuant to Section 906 of the Corporate Fraud Accountability Act of 2002.

* Management contract or compensatory plan or arrangement.

 

(b) Reports on Form8-K

On April 12, 2002 we filed a current report on Form 8-K announcing our signing of an Agreement and Plan of Merger with between Chordiant Acquisition Corp., a Delaware corporation and wholly owned subsidiary of Chordiant Software, Inc. and OnDemand, Inc., a Delaware corporation.

On May 29, 2002 we filed a current report on Form 8-K announcing the closure of financing and sale of 479,100 shares of our common stock to Canadian Imperial Holdings Inc. ("CIBC") for an aggregate purchase price of $3,028,676.

On June 17, 2002 we filed a current report on Form 8-K/A providing the consolidated financial statements of OnDemand, Inc. and the unaudited pro forma combined financial information for OnDemand, Inc. and Chordiant Software.

On June 21, 2002 we filed a current report on Form 8-K/A amending the consent of Ernst & Young LLP, independent auditors, filed as Exhibit 23.1 thereto.

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2.1 Agreement and Plan of Merger and Reorganization, dated as of March 28, 2002, by and among Chordiant Software, Inc., OnDemand Acquisition Corp. and OnDemand, Inc. (filed as Exhibit 2.1 to Chordiant's Current Report on Form 8-K filed on April 12, 2002, and which Exhibit 2.1 is incorporated herein by reference).

3.1 Amended and Restated Certificate of Incorporation of Chordiant Software, Inc. (filed as Exhibit 3.1 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 3.1 is incorporated herein by reference).

3.2 Amended and Restated Bylaws of Chordiant Software, Inc. (filed as Exhibit 3.2 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 3.2 is incorporated herein by reference).

4.1 Specimen Common Stock Certificate (filed as Exhibit 4.2 with Amendment No. 2 to Chordiant's Registration Statement on Form S-1 (No. 333- 92187) filed on February 7, 2000 and which Exhibit 4.2 is incorporated herein by reference).

4.2 Amended and Restated Registration Rights Agreement, dated as of September 28, 1999 (filed as Exhibit 4.3 with Chordiant's Registration Statement on Form S-1 (No. 333-92187) filed on December 6, 1999 and which Exhibit 4.3 is incorporated herein by reference).

4.3 Subordinated Registration Rights Agreement, dated July 19, 2000, by and among Chordiant Software, Inc. and the Sellers of capital stock of White Spider Software, Inc. (filed as Exhibit 4.3 with Chordiant's Registration Statement on Form S-4 (No. 333-54856) filed on February 2, 2001 and which Exhibit 4.3 is incorporated herein by reference).

4.4 Registration Rights Agreement, dated May 17, 2001, by and between Chordiant and ActionPoint, Inc. (filed as Exhibit 4.4 to Chordiant's Annual Report on Form 10-K filed on March 29, 2002, which Exhibit 4.4 is incorporated herein by reference).

10.1   Securities Purchase Agreement by and between Chordiant and Canadian Imperial Holdings, Inc. Filed as exhibit 10.21 to Chordiant's quarterly report on Form 10-Q filed on May 15, 2002, which Exhibit 10.21 is incorporated by reference herein.

10.22 *Change of Control Agreement, dated November 15, 2001, by and between Chordiant and Jeremy Coote.

24.1 Power of Attorney (set forth on signature page).

99.1 Certification pursuant to Section 906 of the Corporate Fraud Accountability Act of 2002.

* Management contract or compensatory plan or arrangement.

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