ONYX SOFTWARE CORP/WA - 10-Q Quarterly Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

		For the quarterly period ended September 30, 2003

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

		For the transition period from ________ to _________

Commission File Number 0-25361

ONYX SOFTWARE CORPORATION

(Exact name of registrant as specified in its charter)


Washington (State or other jurisdiction of incorporation or organization)		91-1629814 (IRS Employer Identification No.)

1100 – 112th Avenue NE
Suite 100
Bellevue, Washington 98004
(Address of principal executive offices) (Zip code)

(425) 451-8060
(Registrant’s telephone number)

Indicate by check whether the registrant (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

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

The number of shares of common stock, par value $0.01 per share, outstanding on November 3, 2003 was 13,913,563.

TABLE OF CONTENTS


PART I—FINANCIAL INFORMATION
	Item 1. Condensed Consolidated Financial Statements
		CONDENSED CONSOLIDATED BALANCE SHEETS
		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
		CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
		NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3. Quantitative and Qualitative Disclosures about Market Risk
	Item 4. Controls and Procedures
PART II—OTHER INFORMATION
	Item 4. Submission of Matters to a Vote of Security Holders
	Item 5. Other Information
	Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
EXHIBIT 3.1
EXHIBIT 31.1
EXHIBIT 31.2
EXHIBIT 32.1
EXHIBIT 32.2

ONYX SOFTWARE CORPORATION

CONTENTS


PART I—FINANCIAL INFORMATION		3
Item 1.	Condensed Consolidated Financial Statements (Unaudited)	3
	Condensed Consolidated Balance Sheets as of December 31, 2002 and September 30, 2003.	3
	Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2002 and 2003.	4
	Condensed Consolidated Statement of Shareholders’ Equity for the Three and Nine Months Ended September 30, 2003.	5
	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2002 and 2003	6
	Notes to Condensed Consolidated Financial Statements	7
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	18
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	41
Item 4.	Controls and Procedures	42
PART II—OTHER INFORMATION		43
Item 4.	Submission of Matters to a Vote of Security Holders	43
Item 5.	Other Information	44
Item 6.	Exhibits and Reports on Form 8-K	44
SIGNATURES		45

PART I—FINANCIAL INFORMATION

Item 1. Condensed Consolidated Financial Statements

CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
(Unaudited)


					December 31,			September 30,
					2002			2003

				ASSETS
Current assets:
	Cash and cash equivalents				$	17,041		$	8,950
	Restricted cash					2,238			3,033
	Accounts receivable, less allowances of $1,039 in 2002 and $500 in 2003					14,408			12,419
	Current deferred tax asset					273			272
	Prepaid expenses and other					3,374			2,912

Total current assets						37,334			27,586
Property and equipment, net						6,474			4,501
Purchased technology, net						253			3
Other intangibles, net						1,461			835
Goodwill, net						8,180			8,180
Other assets						1,085			830

			Total assets		$	54,787		$	41,935

				LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
	Accounts payable				$	1,484		$	1,026
	Salary and benefits payable					1,675			1,531
	Accrued liabilities					3,147			2,489
	Income taxes payable					660			1,003
	Current portion of capital-lease obligations					180			—
	Current portion of restructuring-related liabilities					10,224			4,055
	Deferred revenue					16,258			14,287

Total current liabilities						33,628			24,391
Capital-lease obligations, less current portion						77			—
Long-term restructuring-related liabilities, less current portion						2,600			567
Long-term restructuring-related liabilities—warrants						920			786
Deferred tax liabilities						497			284
Minority interest in joint venture						237			35
Commitments and contingencies
Shareholders’ equity:
	Preferred stock, $0.01 par value:
		Authorized shares — 20,000,000; Issued and outstanding shares — none				—			—
	Common stock, $0.01 par value:
		Authorized shares — 80,000,000; Issued and outstanding shares — 12,696,739 in 2002 and 13,907,284 in 2003				139,459			142,445
	Deferred stock-based compensation					(84	)		—
	Accumulated deficit					(122,061	)		(126,619	)
	Accumulated other comprehensive income (loss)					(486	)		46

			Total shareholders’ equity			16,828			15,872

			Total liabilities and shareholders’ equity		$	54,787		$	41,935

See accompanying notes to condensed consolidated financial statements.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)


			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2002			2003			2002			2003

Revenue:
	License		$	7,265		$	3,633		$	16,828		$	9,374
	Support and service			11,763			11,767			35,325			36,043

		Total revenue		19,028			15,400			52,153			45,417
Cost of revenue:
	License			270			175			667			657
	Amortization of acquired technology			138			84			414			252
	Support and service			4,922			5,251			15,181			16,129

		Total cost of revenue		5,330			5,510			16,262			17,038

Gross margin				13,698			9,890			35,891			28,379
Operating expenses:
	Sales and marketing			7,882			4,460			20,941			16,025
	Research and development			3,530			2,798			11,506			9,074
	General and administrative			2,382			2,158			7,358			6,253
	Restructuring and other related charges			1,171			162			7,729			1,256
	Amortization of acquisition-related intangibles			209			209			627			627
	Amortization of stock-based compensation			51			4			203			32

		Total operating expenses		15,225			9,791			48,364			33,267

Income (loss) from operations				(1,527	)		99			(12,473	)		(4,888	)
Other income (expense), net				269			(117	)		(73	)		3
Change in fair value of outstanding warrants				—			(123	)		—			134

		Loss before income taxes		(1,258	)		(141	)		(12,546	)		(4,751	)
Income tax provision (benefit)				(29	)		86			383			7
Minority interest in consolidated subsidiary				(345	)		32			(817	)		(200	)

Net loss			$	(884	)	$	(259	)	$	(12,112	)	$	(4,558	)

Net loss per share:
	Basic and diluted		$	(0.07	)	$	(0.02	)	$	(0.97	)	$	(0.34	)

Shares used in calculation of net loss per share:
	Basic and diluted			12,641			13,902			12,427			13,284

See accompanying notes to condensed consolidated financial statements.

CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY
(In thousands, except share data)
(Unaudited)


			Common Stock					Deferred						Accumulated Other
								Stock-Based			Accumulated			Comprehensive			Shareholders’
			Shares		Amount			Compensation			Deficit			Income (Loss)			Equity

Balance at December 31, 2002				12,696,739	$	139,459		$	(84	)	$	(122,061	)	$	(486	)	$	16,828
	Amortization of deferred stock-based compensation			—		—			13			—			—			13
	Exercise of stock options			3,698		5			—			—			—			5
Comprehensive income (loss):
	Cumulative translation gain			—		—			—			—			129
	Net loss			—		—			—			(3,402	)		—
	Total comprehensive loss																	(3,273	)

Balance at March 31, 2003				12,700,437		139,464			(71	)		(125,463	)		(357	)		13,573
	Amortization of deferred stock-based compensation			—		—			13			—			—			13
	Stock-based compensation			—		2			—			—			—			2
	Proceeds from private offering, net of offering costs			1,135,697		2,815			—			—			—			2,815
	Exercise of stock options			1,125		3			—			—			—			3
	Issuance of common stock under ESPP			60,596		201			—			—			—			201
Comprehensive income (loss):
	Cumulative translation gain			—		—			—			—			292
	Net loss			—		—			—			(897	)		—
	Total comprehensive loss																	(605	)

Balance at June 30, 2003				13,897,855		142,485			(58	)		(126,360	)		(65	)		16,002
		Reversal of deferred stock-based compensation		—		(54	)		54			—			—			—
		Stock-based compensation		—		—			4			—			—			4
		Exercise of stock options		9,429		14			—			—			—			14
Comprehensive income (loss):
		Cumulative translation gain		—		—			—			—			111
		Net loss		—		—			—			(259	)		—
		Total comprehensive loss																(148	)

Balance at September 30, 2003				13,907,284	$	142,445		$	—		$	(126,619	)	$	46		$	15,872

See accompanying notes to condensed consolidated financial statements.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)


					Nine Months Ended
					September 30,

					2002			2003

Operating activities:
	Net loss				$	(12,112	)	$	(4,558	)
	Adjustments to reconcile net loss to net cash used in operating activities:
		Depreciation and amortization				4,915			3,497
		Loss on disposal of assets				709			284
		Deferred income taxes				(268	)		(212	)
		Noncash stock-based compensation expense				203			32
		Change in fair value of outstanding warrants				—			(134	)
		Minority interest in loss of consolidated subsidiary				(817	)		(200	)
		Changes in operating assets and liabilities:
			Accounts receivable			7,761			2,215
			Other assets			(1,376	)		717
			Accounts payable and accrued liabilities			(1,538	)		(1,260	)
			Restructuring-related liabilities			(4,539	)		(8,202	)
			Deferred revenue			(3,994	)		(1,971	)
			Income taxes payable			(382	)		343

				Net cash used in operating activities		(11,438	)		(9,449	)
Investing activities:
	Restricted cash					(4,670	)		(795	)
	Purchases of property and equipment					(416	)		(933	)
	Proceeds on disposal of equipment					174			—

				Net cash used in investing activities		(4,912	)		(1,728	)
Financing activities:
	Proceeds from exercise of stock options					237			22
	Proceeds from issuance of shares under employee stock purchase plan					272			201
	Payments on capital lease obligations					(142	)		(257	)
	Net proceeds from sale of common stock					20,531			2,815

				Net cash provided by financing activities		20,898			2,781
Effects of exchange rate changes on cash						398			305
Net increase (decrease) in cash and cash equivalents						4,946			(8,091	)
Cash and cash equivalents at beginning of period						15,868			17,041

Cash and cash equivalents at end of period					$	20,814		$	8,950

Supplemental cash flow disclosure:
	Interest paid				$	89		$	85
	Income taxes paid (refunded), net					290			(124	)
	Payment of obligation with common stock					50			—

See accompanying notes to condensed consolidated financial statements.

ONYX SOFTWARE CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Description of Business and Basis of Presentation

Description of the Company

Onyx Software Corporation and subsidiaries (Company) is a leading provider of enterprise-wide customer relationship management (CRM) solutions designed to promote strategic business improvement and revenue growth by enhancing the way businesses market, sell and service their products. Using the Internet in combination with traditional forms of interaction, including phone, mail, fax and e-mail, the Company’s solution helps enterprises to more effectively acquire, manage and maintain customer, partner and other relationships. The Company markets its solution to companies that want to merge new, online business processes with traditional business processes to enhance their customer-facing operations, such as marketing, sales, customer service and technical support. The Company’s solution uses a single data model across all customer interactions, resulting in a single repository for all marketing, sales and service information. It is fully integrated across all customer-facing departments and interaction media. The Company’s solution is designed to be easy to use, widely accessible, rapidly deployable, scalable, flexible, customizable and reliable, which can result in a comparatively low total cost of ownership and rapid return on investment. The Company was incorporated in the state of Washington on February 23, 1994 and maintains its headquarters in Bellevue, Washington.

Interim Financial Information

The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information and note disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed, or omitted, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). In the Company’s opinion, the statements include all adjustments necessary (which are of a normal and recurring nature) for a fair presentation for the results of the interim periods presented. These financial statements should be read in conjunction with the Company’s audited consolidated financial statements for the year ended December 31, 2002, included in its Form 10-K filed with the SEC on March 26, 2003. The Company’s results of operations for any interim period are not necessarily indicative of the results of operations for any other interim period or for a full fiscal year.

Reverse Stock Split

On July 23, 2003, the Company’s shareholders approved a one-for-four reverse stock split. All share and per share amounts in the accompanying condensed consolidated financial statements have been adjusted to reflect this reverse stock split.

2. Summary of Significant Accounting Policies

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect amounts reported in the financial statements. Changes in these estimates and assumptions may have a material impact on the financial statements. The Company has used estimates in determining certain provisions, including uncollectible trade accounts receivable, useful lives for property and equipment, intangible assets, tax liabilities and restructuring liabilities.

Revenue Recognition

The Company recognizes revenue in accordance with accounting standards for software companies including Statement of Position (SOP) 97-2, “Software Revenue Recognition”, as amended by SOP 98-9, and related interpretations, including Technical Practice Aids.

The Company generates revenue through two sources: (a) software license revenue and (b) support and service revenue. Software license revenue is generated from licensing the rights to use the Company’s products directly to end-users and vertical service providers (VSPs) and indirectly through value-added resellers (VARs) and, to a lesser extent, through third-party products the Company distributes. Support and service revenue is generated from sales of customer support services, consulting services and training services performed for customers that license the Company’s products.

License revenue is recognized when a noncancellable license agreement becomes effective as evidenced by a signed contract, the product has been shipped, the license fee is fixed or determinable, and collectibility is probable.

In software arrangements that include rights to multiple software products and/or services, the Company allocates the total arrangement fee among each of the deliverables using the residual method, under which revenue is allocated to undelivered elements based on vendor-specific objective evidence of fair value of such undelivered elements and the residual amounts of revenue are allocated to delivered elements. Elements included in multiple-element arrangements could consist of software products, maintenance (which includes customer support services and unspecified upgrades), or consulting services. Vendor-specific objective evidence is based on the price charged when an element is sold separately or, in the case of an element not yet sold separately, the price established by authorized management, if it is probable that the price, once established, will not change once the element is sold separately.

Standard terms for license agreements call for payment within 90 days. Probability of collection is based on the assessment of the customer’s financial condition through the review of its current financial statements or credit reports. For follow-on sales to existing customers, prior payment history is also used to evaluate probability of collection. Revenue from distribution agreements with VARs is typically recognized on the earlier of receipt of cash from the VAR or identification of an end-user. In the latter case, probability of collection is evaluated based on the credit worthiness of the VAR. The Company’s agreements with its customers, VSPs and VARs do not contain product return rights.

Revenue from maintenance arrangements is recognized ratably over the term of the contract, typically one year. Consulting revenue is primarily related to implementation services performed on a time-and-materials basis or, in certain situations, on a fixed-fee basis, under separate service arrangements. Revenue from consulting and training services is recognized as services are performed. Standard terms for renewal of maintenance arrangements, consulting services and training services call for payment within 30 days.

Fees from licenses sold together with consulting services are generally recognized upon shipment of the software, provided that the above criteria are met, payment of the license fees do not depend on the performance of the services, and the consulting services are not essential to the functionality of the licensed software. If the services are essential to the functionality of the software, or payment of the license fees depends on the performance of the services, both the software license and consulting fees are recognized under the percentage of completion method of contract accounting.

If the fee is not fixed or determinable, revenue is recognized as payments become due from the customer. If a nonstandard acceptance period is provided, revenue is recognized upon the earlier of customer acceptance and the expiration of the acceptance period.

Cash Equivalents and Restricted Cash

The Company considers all highly liquid investments with a remaining maturity of three months or less at the date of purchase to be cash equivalents. At December 31, 2002 and September 30, 2003, the Company’s cash equivalents consisted of money market funds.

Separately, the Company had $3.0 million in restricted cash at September 30, 2003, which was security for its credit line with Silicon Valley Bank that supports its outstanding letters of credit.

Stock-Based Compensation

The Company applies the intrinsic-value-based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretations including Financial Accounting Standards Board (FASB) Interpretation No. 44, “Accounting for Certain Transactions Involving Stock Compensation,” an interpretation of APB Opinion No. 25, issued in March 2000, to account for its fixed-plan stock options. Under this method, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. Under APB Opinion No. 25, because the exercise price of the Company’s employee stock options generally equals the fair value of the underlying stock on the date of grant, no compensation expense is generally recognized.

SFAS No. 123, “Accounting for Stock-Based Compensation,” (SFAS 123) established accounting and disclosure requirements using a fair-value-based method of accounting for stock-based employee compensation plans. As allowed by SFAS 123, the Company has elected to continue to apply the intrinsic-value-based method of accounting described above, and has adopted only the disclosure requirements of SFAS 123. The following table illustrates the effect on net loss had the fair-value-based method been applied to all outstanding and unvested awards in each period.


		Three Months Ended September 30,						Nine Months Ended September 30,

		2002			2003			2002			2003

		(In thousands, except per share data)
	Net loss:
As reported		$	(884	)	$	(259	)	$	(12,112	)	$	(4,558	)
Add: stock-based employee expense included in reported net loss			51			4			203			32
Deduct: stock-based employee compensation expense determined under fair-value-based method for all awards			(2,123	)		(678	)		(7,559	)		(4,002	)

Pro forma		$	(2,956	)	$	(933	)	$	(19,468	)	$	(8,528	)

Net loss per share:
As reported		$	(0.07	)	$	(0.02	)	$	(0.97	)	$	(0.34	)
Pro forma		$	(0.23	)	$	(0.07	)	$	(1.57	)	$	(0.64	)

Other Comprehensive Income (Loss)

SFAS No. 130, “Reporting Comprehensive Income,” establishes standards for reporting and display of comprehensive income (loss) and its components in the financial statements. The only items of other comprehensive income (loss) that the Company currently reports are foreign currency translation adjustments and unrealized gains (losses) on marketable securities. Total comprehensive loss for the three months ended March 31, 2002 was $6.5 million which included approximately $20,000 of cumulative translation gains. Total comprehensive loss for the three months ended June 30, 2002 was $4.0 million which included approximately $675,000 of cumulative translation gains. Total comprehensive loss for the three months ended September 30, 2002 was $1.0 million which included approximately $112,000 of cumulative translation losses. The total comprehensive loss for the three and nine months ended September 30, 2003 was $148,000 and $4.0 million, respectively, which included approximately $111,000 and $532,000 of cumulative translation gains.

Accounting for Costs Associated with Exit or Disposal Activities

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities” (SFAS 146). This statement addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” This statement requires that a liability for a cost associated with an exit or disposal

activity be recognized at fair value when the liability is incurred. The provisions of this statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. The Company applied the provisions of EITF 94-3 to those restructuring activities initiated prior to December 31, 2002. The adoption of SFAS 146 has not had a material effect on the Company’s consolidated financial statements.

Recent Accounting Pronouncements

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51” (FIN 46). FIN 46 addresses the consolidation by business enterprises of variable interest entities as defined in FIN 46. FIN 46 applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. As amended by FASB Staff Position (“FSP”) No. FIN 46-6, FIN 46 is effective for variable interests in a variable interest entity created before February 1, 2003 at the end of the first interim or annual period ending after December 15, 2003. The Company does not expect the adoption of FIN 46 to have a material impact on its financial position or results of operations.

In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities (SFAS 149). SFAS 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under FASB Statement of financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS 149 is generally effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The Company’s adoption of SFAS 149 did not have a significant impact on its financial position or results of operations.

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (SFAS 150). SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS 150 is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. SFAS 150 is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The Company’s adoption of SFAS 150 did not have a significant impact on its financial position or results of operations.

3. Restructuring and Other Related Charges

In April and again in September 2001, the Company approved a restructuring plan to reduce headcount, reduce infrastructure and eliminate excess and duplicate facilities. During 2001, the Company recorded approximately $51.8 million in restructuring and other related charges. During 2002, the Company recorded approximately $8.5 million in restructuring and other related charges. During the first quarter of 2003, the Company recorded approximately $340,000 in restructuring and other related charges.

The components of the first quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the			Cash
	Balance at		Three Months			Payments
	December 31,		Ended			and Write-			Fair Value			Balance at
	2002		March 31, 2003			offs			Adjustment			March 31, 2003

Excess facilities	$	12,134	$	354		$	(3,376	)	$	—		$	9,112
Excess facilities — warrants		920		—			—			(242	)		678
Employee separation costs		636		(101	)		(167	)		—			368
Asset impairments, net		—		87			(87	)		—			—
Other		54		—			(35	)		—			19

Total	$	13,744	$	340		$	(3,665	)	$	(242	)	$	10,177

In April 2003, the Company approved a restructuring plan to reduce additional headcount. Severance costs associated with this restructuring plan were charged to expense during the second quarter of 2003. The components of the second quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the		Cash
	Balance at		Three Months		Payments
	March 31,		Ended		and Write-			Fair Value			Balance at
	2003		June 30, 2003		offs			Adjustment			June 30, 2003

Excess facilities	$	9,112	$	15	$	(2,441	)	$	—		$	6,686
Excess facilities — warrants		678		—		—			(15	)		663
Employee separation costs		368		739		(964	)		—			143
Other		19		—		(18	)		—			1

Total	$	10,177	$	754	$	(3,423	)	$	(15	)	$	7,493

The components of the third quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the		Cash
	Balance at		Three Months		Payments
	June 30,		Ended		and Write-			Fair Value		Balance at
	2003		September 30, 2003		offs			Adjustment		September 30, 2003

Excess facilities	$	6,686	$	112	$	(2,211	)	$	—	$	4,587
Excess facilities — warrants		663		—		—			123		786
Employee separation costs		143		50		(159	)		—		34
Other		1		—		—			—		1

Total	$	7,493	$	162	$	(2,370	)	$	123	$	5,408

The excess facility charges recorded in 2001 and 2002 are the result of the Company’s decision to reduce its utilization of certain facilities and to terminate usage of certain domestic and international facilities altogether. The most significant portion of the excess facility charges relates to the Company’s leases for 262,000 square feet of office space in Bellevue, Washington, which commenced in April and June 2001 and were originally contracted to expire in 2011 and 2013.

In 2002, the Company made significant progress in its efforts to mitigate excess facility commitments. Specifically, in August 2002, the Company executed a sublease agreement on its 21,000 square foot facility in the United Kingdom that reduces its obligation on seven of the remaining 14 years on the lease, and in November 2002, the Company executed a lease termination agreement on its former 100,000-square-foot corporate headquarters facility in Bellevue, Washington. This lease termination resulted in accelerated cash outflows of approximately $2.0 million during the fourth quarter of 2002. The Company paid its monthly lease obligation of approximately $250,000 associated with this facility in January 2003, after which the Company relocated its corporate headquarters and no further obligations remained. The signing of this agreement, which required the Company to move its corporate headquarters, resulted in accelerated amortization of leasehold improvements and furniture, of which approximately $1.3 million was charged to expense in the fourth quarter of 2002. An additional $450,000 in accelerated amortization was charged to expense in January 2003.

The most significant mitigation of the Company’s excess facility commitments was completed in December 2002 when the Company reached an agreement with the landlord, Bellevue Hines Development, L.L.C. (Hines), relating to its 262,000 square feet of office space in Bellevue, Washington. The partial lease termination reduces the Company’s excess facilities in Bellevue, Washington by approximately 202,000 square feet. The Company continues to lease approximately 60,000 square feet at this facility, which began serving as its new corporate headquarters effective at the end of January 2003. The new lease for 60,000 square feet expires in December 2013. The partial lease termination requires cash outflows of approximately $2.5 million over the 7-month period ending April 2004, which is included in current restructuring-related liabilities at September 30, 2003. In addition to cash payments, the Company issued three five-year warrants to Hines for the purchase of up to an aggregate of 198,750 shares of the Company’s common stock, including a warrant to purchase 66,250 shares of common stock at an exercise price of $10.38 per share, a warrant to purchase 66,250 shares of common stock at an exercise price of $12.11 per share and a warrant to purchase 66,250 shares of common stock at an exercise price of $13.84 per share. If the Company either undergoes a change of control or issues securities with rights and preferences superior to the Company’s common stock within two years after the warrants were issued, Hines will have the option of

canceling any unexercised warrants and receiving a cash cancellation payment of $18.40 per share in the case of the $10.38 warrants, $16.00 per share in the case of the $12.11 warrants and $13.92 per share in the case of the $13.84 warrants. These contingent cash payments aggregate $3.2 million. The Company also entered into a registration rights agreement with Hines, pursuant to which the Company filed a registration statement on February 14, 2003 covering the resale of the shares of the Company’s common stock subject to purchase by Hines under the warrants. The warrant value as of December 31, 2002 was estimated at $920,000 based on (a) the estimated value of the warrants using the Black-Scholes model with an expected dividend yield of 0.0%, a risk-free interest rate of 5.0%, volatility of 85% and an expected life of five years and (b) the estimated value of the cash cancellation payments in the event of a change in control. The warrants are subject to variable accounting and the Company is required to mark the warrants to market at each reporting period. At September 30, 2003, the warrant value was estimated at $786,000 using similar assumptions to those used at December 31, 2002, and is included in long-term liabilities.

The termination of the 202,000 square feet in Bellevue, Washington is contingent upon the following conditions, among others, being met as of April 30, 2004: (a) the Company is current in its payments under the lease and (b) the Company has not filed a bankruptcy or other liquidation petition, or otherwise attempted to reject or contest the lease. If the Company is not in compliance with any of these conditions as of April 30, 2004, the original lease will not terminate and the Company will be required to continue making payments on the excess facilities subject to the original lease. The Company previously issued a letter of credit to Hines in the amount of approximately $6.6 million to guarantee its payment obligations to Hines. The letter of credit is secured by the Company’s cash deposits. The letter of credit will secure the Company’s obligations under the original lease and the amended lease for the 60,000 square feet that the Company still occupies. The parties have agreed to effect eight monthly reductions in the amount of the letter of credit of $507,000 each starting in October 2003 if (i) the conditions precedent described above are satisfied and (ii) the Company has timely made all of the payments due under the original lease and the new lease for the 60,000 square feet that the Company still occupies. In no event will the letter of credit be reduced to an amount less than $2.5 million. The Company’s rights to reduce the amount of the letter of credit will be forfeited if, at any time before May 1, 2004, it makes any late payment under the original lease or the new lease for the 60,000 square feet that the Company still occupies, or if there is any default or material misrepresentation by the Company in any of the warrants or the registration rights agreement.

The accounting for excess facilities is complex and, as a result, may result in adjustments to the Company’s current restructuring charge. In particular, based on the terms of the warrants issued in connection with the partial lease termination of excess facilities in Bellevue, Washington, the warrants are subject to variable accounting and will be marked to market at each reporting period. Future cash outlays are anticipated through July 2006 unless estimates and assumptions change or the Company is able to negotiate to exit certain leases at an earlier date.

The current portion of restructuring-related liabilities totaled $4.1 million at September 30, 2003, the long-term portion of restructuring-related liabilities totaled $567,000 at September 30, 2003 and the value of the warrants issued in connection with the termination of certain facility lease obligations was $786,000 at September 30, 2003.

4. Shareholders’ Equity

Private Offering

In May 2003, the Company completed a private offering of 1,038,475 shares of its common stock at a purchase price of $2.60 per share with an existing institutional investor and 97,222 shares of its common stock at a purchase price of $3.22 per share with certain officers and directors of the Company. The proceeds to the Company totaled approximately $2.8 million after deducting the costs of the offering. In connection with the private offering the Company granted anti-dilution rights to the existing institutional investor whereby the Company will issue warrants to purchase common stock if additional shares of common stock are sold at a price less than $2.60 per share before November 19, 2003.

Increase in Authorized Capital

On July 23, 2003, the Company’s shareholders approved an amendment to the Company’s restated articles of incorporation increasing the number of authorized shares of the Company’s stock after the reverse stock split from 25,000,000 (including 20,000,000 shares of common stock and 5,000,000 shares of preferred stock) to 100,000,000 shares (including 80,000,000 shares of common stock and 20,000,000 shares of preferred stock).

5. Litigation and Contingencies

The Company, several of the Company’s officers and directors and Dain Rauscher Wessels have been named as defendants in a series of related lawsuits filed in the United States District Court for the Western District of Washington on behalf of purchasers of publicly traded Company common stock during various time periods. The consolidated amended complaint in these lawsuits alleges that the Company violated the Securities Act of 1933 (Securities Act) and the Securities Exchange Act of 1934 (Exchange Act), and seeks certification of a class action for purchasers of Company common stock in the Company’s February 12, 2001 public offering and on the open market during the period January 30, 2001 through July 24, 2001. In addition, a shareholder to whom the Company issued shares in the first quarter of 2001 has claimed that the Company made certain misrepresentations and omissions and otherwise violated the securities laws. None of the complaints or claims specifies the amount of damages to be claimed.

The Company, one of its officers and one of its former officers have also been named as defendants in a lawsuit filed in the United States District Court for the Southern District of New York on behalf of purchasers through December 6, 2000 of Company common stock sold under the February 12, 1999 registration statement and prospectus for the Company’s initial public offering. The complaint alleges that the Company and the individual defendants violated the Securities Act by failing to disclose excessive commissions allegedly obtained by the Company’s underwriters pursuant to a secret arrangement whereby the underwriters allocated initial public offering shares to certain investors in exchange for the excessive commissions. The complaint also asserts claims against the underwriters under the Securities Act and the Exchange Act in connection with the allegedly undisclosed commissions.

The Company’s directors and some of its officers have been named as defendants in a shareholder derivative lawsuit filed in the Superior Court of Washington in and for King County. The complaint alleges that the individual defendants breached their fiduciary duty and their duty of care to the Company by allegedly failing to supervise the Company’s public statements and public filings with the SEC. The complaint alleges that, as a result of these breaches, misinformation about the Company’s financial condition was disseminated into the marketplace and filed with the SEC. The complaint asserts that these actions have exposed the Company to harmful and costly securities litigation, which could potentially result in an award of damages against the Company.

The Company disputes the allegations of wrongdoing in these complaints and intends to vigorously defend itself and, where applicable, its officers and directors against these lawsuits and claims, and believes it has several meritorious defenses and, in certain instances, counterclaims. Accordingly, the Company does not believe it is probable that the outcome of these litigation matters will be unfavorable to the Company. While it is unlikely that the outcomes would result in a material adverse outcome, the Company cannot provide assurance that some or all of these matters will not materially and adversely affect the Company’s business, future results of operations, financial position or cash flows in a particular period.

6. Earnings (Loss) Per Share

Basic earnings (loss) per share is computed by dividing net income (loss) available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings (loss) per share reflects the potential dilution of securities by including other common stock equivalents, including stock options and convertible preferred stock, in the weighted average number of common shares outstanding for a period, if dilutive.


			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2002			2003			2002			2003

Net loss (A)			$	(884	)	$	(259	)	$	(12,112	)	$	(4,558	)

Weighted average number of common shares (B)				12,641			13,902			12,427			13,284
	Effect of dilutive securities:
		Stock options		*			*			*			*
		Warrants		N/A			**			N/A			**

Adjusted weighted average shares (C)				12,641			13,902			12,427			13,284

Loss per share:
	Basic (A)/(B)		$	(0.07	)	$	(0.02	)	$	(0.97	)	$	(0.34	)
	Diluted (A)/(C)		$	(0.07	)	$	(0.02	)	$	(0.97	)	$	(0.34	)

*		The effect of stock options are excluded from the computation of diluted earnings per share because the effects are antidilutive. Outstanding stock options of 2,621,296 and 3,388,673 at September 30, 2002 and 2003, respectively, were excluded from the computation of diluted earnings per share because their effect was antidilutive. Outstanding options will be included in the computation of diluted earnings per share in future periods to the extent their effects are dilutive. If the Company had been profitable during any of the periods reported, based on the average price of the Company’s common stock during each period using the treasury stock method, the approximate number of dilutive options included in the computation of diluted earnings per share would have been 176,000 shares and 228,000 shares for the three and nine months ended September 30, 2002, respectively, and 108,000 and 112,000 during the three and nine months ended September 30, 2003, respectively.

**		In January 2003, the Company issued warrants to purchase 198,750 shares of its common stock at exercise prices ranging from $10.38 to $13.84 per share in connection with the termination of excess facilities. There were no warrants outstanding prior to January 2003. Outstanding warrants were excluded from the computation of diluted earnings per share for the three and nine months ended September 30, 2003 because their effect was antidilutive. Outstanding warrants will be included in the computation of diluted earnings per share in future periods to the extent their effects are dilutive.

7. Stock-Based Compensation

Stock-based compensation includes stock-based charges resulting from option-related deferred compensation recorded at the Company’s initial public offering and certain compensation arrangements with third-party consultants, as well as the portion of acquisition-related consideration conditioned on the continued service of key employees of certain acquired businesses, which must be classified as compensation expense rather than as a component of purchase price under accounting principles generally accepted in the United States of America. Stock-based compensation was $51,000 and $4,000 for the three months ended September 30, 2002 and 2003, respectively and $203,000 and $32,000 for the nine months ended September 30, 2002 and 2003. Option-related deferred compensation recorded at the Company’s initial public offering was fully amortized as of December 31, 2002.

The following table shows the amounts of stock-based compensation that would have been recorded under the following income statement categories had stock-based compensation not been separately stated in the consolidated statements of operations (in thousands):


		Three Months Ended				Nine Months Ended
		September 30,				September 30,

		2002		2003		2002		2003

Support and service cost of sales		$	29	$	4	$	114	$	30
Sales and marketing			10		—		42		2
Research and development			4		—		15		—
General and administrative			8		—		32		—

	Total amortization of stock-based compensation	$	51	$	4	$	203	$	32

8. Line of Credit

In documents dated March 28, 2003 and May 5, 2003, the Company amended its Loan and Security Agreement with Silicon Valley Bank (SVB), which was originally entered into in February 2002, and entered into a second Loan and Security Agreement with SVB that is intended to take advantage of a loan guarantee by the Export Import Bank of the United States (Exim Bank). Under the terms of these agreements, the Company has a total $15.0 million working capital revolving line of credit with SVB, which is split between a $13.0 million domestic facility and a $2.0 million Exim Bank facility. Both are secured by accounts receivable, property and equipment and intellectual property. The domestic facility allows the Company to borrow up to the lesser of (a) 75% of eligible domestic and individually approved foreign accounts receivable and (b) $13.0 million. The Exim Bank facility allows the Company to borrow up to the lesser of (a) 80% of eligible foreign accounts receivable and (b) $2.0 million. If the borrowing base calculation falls below the outstanding standby letters of credit issued by SVB on the Company’s behalf, SVB may require the Company to cash secure the amount by which outstanding standby letters of credit exceed the borrowing base. The amount required to be restricted under the loan agreement was $3.0 million, measured as of September 30, 2003. Due to the variability in the Company’s borrowing base, the Company may be subject to restrictions on its cash at various times throughout the year. Any borrowings will bear interest at SVB’s prime rate, which was 4.00% as of September 30, 2003, plus 1.5%, subject to a minimum rate of 6.0%. The loan agreements require that the Company maintain certain financial covenants based on its adjusted quick ratio and tangible net worth. The Company was in compliance with these covenants at September 30, 2003. The Company is also prohibited under the loan and security agreements from paying dividends. The facilities expire in March 2004. Based on the outstanding standby letters of credit relating to long-term lease obligations totaling $9.7 million at September 30, 2003, no additional amounts are currently available under the credit facilities.

9. Segment and Geographic Information

The Company and its subsidiaries are principally engaged in the design, development, marketing and support of enterprise-wide CRM solutions designed to promote strategic business improvement and revenue growth by enhancing the way businesses market, sell and service their products. Substantially all revenue results from licensing the Company’s software products and related consulting and customer support (maintenance) services. The Company’s Chief Executive Officer and Chief Financial Officer, who are the Company’s chief operating decision makers, review financial information presented on a consolidated basis, accompanied by disaggregated information about revenue by geographic region for purposes of making operating decisions and assessing financial performance. Accordingly, the Company considers itself to be in a single industry segment, specifically the license, implementation and support of its software applications, and to have only one operating segment. The Company does not prepare reports for, or measure the performance of, its individual software applications and, accordingly, the Company has not presented revenue or any other related financial information by individual software product.

The Company evaluates the performance of its geographic regions primarily based on revenues. In addition, the Company’s assets are primarily located in its corporate office in the United States and not allocated to any specific region. The Company does not produce reports for, or measure the performance of, its geographic regions on any asset-based metrics. Therefore, geographic information is presented only for revenues.

Total revenues outside of North America for the three months ended September 30, 2002 and 2003 were $7.2 million and $5.2 million, respectively. Total revenues outside of North America for the nine months ended September 30, 2002 and 2003 were $17.9 million and $17.6 million, respectively.

The following geographic information is presented for the three and nine months ended September 30, 2002 and 2003 (in thousands):


		North		United		Rest of
		America		Kingdom		World		Total

Three months ended September 30, 2002:
	Revenue	$	11,853	$	5,157	$	2,018	$	19,028
Three months ended September 30, 2003:
	Revenue	$	10,194	$	1,790	$	3,416	$	15,400
Nine months ended September 30, 2002:
	Revenue	$	34,269	$	8,511	$	9,373	$	52,153
Nine months ended September 30, 2003:
	Revenue	$	27,845	$	6,209	$	11,363	$	45,417

10. Guarantees

In November 2002, the FASB issued FASB Interpretation (FIN) No. 45, Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN No. 45 provides expanded accounting guidance surrounding liability recognition and disclosure requirements related to guarantees, as defined by this Interpretation. We adopted FIN No. 45 during the quarter ended December 31, 2002. In the ordinary course of business, we are not subject to potential obligations under guarantees that fall within the scope of FIN No. 45 except for standard indemnification and warranty provisions that are contained within many of our customer license and service agreements, and give rise only to the disclosure requirements prescribed by FIN No. 45.

Indemnification and warranty provisions contained within our customer license and service agreements are generally consistent with those prevalent in our industry. The duration of our product warranties generally does not exceed 180 days following delivery of our products. We have not incurred significant obligations under customer indemnification or warranty provisions historically and do not expect to incur significant obligations in the future. Accordingly, we do not maintain accruals for potential customer indemnification or warranty-related obligations.

11. Onyx Japan

In September 2000, the Company entered into a joint venture with Softbank Investment Corporation and Prime Systems Corporation to create Onyx Software Co., Ltd. (Onyx Japan), a Japanese corporation, for the purpose of distributing the Company’s technology and product offerings in Japan. In October 2000, the Company made an initial contribution of $4.3 million in exchange for 58% of the outstanding common stock of Onyx Japan. The Company’s joint venture partners invested an additional $3.1 million for the remaining 42% of the common stock of Onyx Japan. Because the Company has a controlling interest, Onyx Japan has been included in its consolidated financial statements. The minority shareholders’ interest in Onyx Japan’s earnings or losses is separately reflected in the statement of operations.

Under the terms of the joint venture agreement Prime Systems may, at any time, sell its shares to a third party, provided that it notifies the Company 90 days prior to doing so. The Company has a right of first refusal to purchase any of Prime Systems’ shares that are offered for resale at the same price for which those shares are being offered to a third party. Further, since Onyx Japan did not complete an initial public offering on or before July 31, 2003, either the Company or Prime Systems may terminate the joint venture agreement at its discretion. If Prime Systems exercises its right of termination for this reason, the Company has the right, at its election, to either (a) buy Prime Systems’ shares at the current fair market value as determined by an appraiser or (b) force a liquidation of Onyx Japan.

The Company has entered into a distribution agreement with Onyx Japan, which was approved by the minority shareholders, that provides for a fee to the Company based on license and maintenance revenues in Japan. During the three months ended September 30, 2002 and 2003, fees charged under this agreement were $77,000 and $175,000, respectively and during the nine months ended

September 30, 2002 and 2003, fees charged under this agreement were $328,000 and $361,000. The intercompany fees are eliminated in consolidation; however, the Company allocates 42% of the fees to the minority shareholders.

Although profitable in the third quarter of 2003, Onyx Japan incurred substantial losses in previous periods. The minority shareholders’ capital account balance as of September 30, 2003 was $35,000. Additional Onyx Japan losses above approximately $84,000 in the aggregate will be absorbed 100% by the Company, as compared to 58% in prior periods

Restructuring efforts carried out in the second half of 2002 significantly reduced the operating expenses of Onyx Japan and increased the probability that Onyx Japan can be cash flow positive, as evidenced by the profits generated by Onyx Japan in the third quarter of 2003. Nevertheless, additional funding may be required to continue the operation of the joint venture. If Onyx Japan incurs losses in future periods and no additional capital is invested, the Company may have to further restructure Onyx Japan’s operations.

12. Liquidity

The Company’s near-term restructuring costs related to the mitigation of excess facilities liabilities will consume a material amount of its cash resources. The termination of approximately 202,000 square feet in Bellevue, Washington will result in cash outflows of approximately $2.5 million over the 7-month period ending April 2004 and is included in current restructuring-related liabilities at September 30, 2003. The termination of these excess facilities commitments is contingent upon the following conditions, among others, being met as of April 30, 2004: (a) the Company is current in its payments under the lease and (b) the Company has not filed a bankruptcy or other liquidation petition, or otherwise attempted to reject or contest the lease. If the Company is not in compliance with any of these conditions as of April 30, 2004, its original lease will not terminate and the Company will be required to continue making payments on the excess facilities subject to the original lease. If this were to take place, the Company’s business, financial condition and operating results would be materially adversely affected.

Onyx currently has loan and security agreements with SVB that allow the Company to borrow up to the lesser (a) 75% of eligible domestic and individually approved foreign accounts receivable and (b) $13.0 million under a domestic line, plus up to the lesser of (a) 80% of eligible foreign accounts receivable and (b) $2.0 million under a line guaranteed by Exim Bank. At the time of this filing, however, no additional amounts are available under the lines of credit based on the level of the Company’s borrowing base and its outstanding letters of credit. The Company was in compliance with the financial covenants of these facilities as of September 30, 2003. If the Company is unable to maintain compliance with its covenants in the future or if SVB decides to restrict its cash deposits, the Company’s liquidity would be further limited and its business, financial condition and operating results could be materially harmed.

Assuming the Company’s future revenue performance is comparable to the most recent quarterly periods reported, the Company believes that, with the expense reduction efforts instituted in April 2003 and the proceeds from the private placement completed in May 2003, existing cash and cash equivalents will be sufficient to meet its capital requirements for at least the next 12 months. Should the Company’s results for subsequent quarters fall below the results the Company achieved in the first quarter of 2003, the Company would likely take action to restructure its operations to preserve its cash. Mitigation of the Company’s excess facilities liabilities will consume a material amount of the Company’s cash resources. In addition, the Company may bear substantial costs associated with the proposed acquisition of Pivotal Corporation, or Pivotal, discussed more fully below, whether or not the acquisition is completed. Although the Company expects the proposed Pivotal acquisition to be accretive to shareholders, if it is successfully completed, the combined company may require additional funds to support significantly larger operations and pursue expected market opportunities. As a result of these factors, along with the impact lower cash balances could have on the Company’s sales, the Company may seek additional funds in the future through public or private equity financing or from other sources to fund its operations and pursue the Company’s growth strategy. The Company may experience difficulty in obtaining funding on favorable terms, if at all. Any financing the Company might obtain may contain covenants that restrict the Company’s freedom to operate its business or may require the Company to issue securities that have rights, preferences or privileges senior to its common stock and may dilute current shareholders’ ownership interest in the Company.

13. Subsequent Event

On November 12, 2003, the Company announced an unsolicited proposal to acquire Pivotal by way of a business combination in a stock-for-stock transaction. Under the terms of the proposal which was submitted by letter to the Pivotal Board of Directors on November 12, 2003, the companies would be combined on the basis of 0.475 shares of Onyx common stock for each common share of Pivotal, or approximately 12.5 million shares of Onyx common stock. The

approximate price per Pivotal common share is $2.25 based on the $4.73 closing price of Onyx common stock on November 11, 2003. On October 8, 2003, Pivotal announced that it had entered into a definitive agreement to be acquired by Talisma Corporation in a cash transaction financed by Oak Investment Partners valued at $1.78 per share.

The Company’s offer was not solicited by Pivotal and, as of this filing, the Company had not received any response from Pivotal’s Board of Directors. Pivotal may reject the Company’s offer and Pivotal or Oak may employ certain defensive tactics, such as adopting a poison pill or other takeover defense measures, to delay or discourage the Company from pursuing its offer. In addition, Oak may increase the value of its offer to match or exceed the premium represented by the Company’s proposal. As a result, the Company may not be successful in completing its proposed acquisition of Pivotal and the Company may incur substantial costs in pursuing the transaction. If the Company does successfully complete the acquisition, the combined company would have to pay a $1.5 million breakup fee associated with the pending Talisma transaction and would incur additional restructuring costs.

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

Forward-Looking Information

Our disclosure and analysis in this report contain forward-looking statements, which provide our current expectations or forecasts of future events. Forward-looking statements in this report include, without limitation:

• information concerning possible or assumed future results of operations, trends in financial results and business plans, including those relating to earnings growth and revenue growth;

• statements about the level of our costs and operating expenses relative to our revenues, and about the expected composition of our revenues;

• statements about our future capital requirements and the sufficiency of our cash, cash equivalents, investments and available bank borrowings to meet these requirements;

• information about the anticipated release dates of new products;

• statements about the expected costs and timing of terminating our excess facility commitments;

• statements about the proposed acquisition of Pivotal and the expected costs and benefits of the acquisition;

• other statements about our plans, objectives, expectations and intentions; and

• other statements that are not historical facts.

Words such as “believes,” “anticipates” and “intends” may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking. Forward-looking statements are subject to known and unknown risks and uncertainties and are based on potentially inaccurate assumptions that could cause actual results to differ materially from those expected or implied by the forward-looking statements. Our actual results could differ materially from those anticipated in the forward-looking statements for many reasons, including the factors described in the section entitled “Important Factors That May Affect Our Business, Our Results of Operations and Our Stock Price” in this report. Other factors besides those described in this report could also affect actual results. You should carefully consider the factors described in the section entitled “Important Factors That May Affect Our Business, Our Results of Operations and Our Stock Price” in evaluating our forward-looking statements.

You should not unduly rely on these forward-looking statements, which speak only as of the date of this report. We undertake no obligation to publicly revise any forward-looking statement to reflect circumstances or events after the date of this report, or to reflect the occurrence of unanticipated events.

Overview

Onyx Software Corporation is a leading provider of enterprise-wide customer relationship management, or CRM, solutions designed to promote strategic business improvement and revenue growth by enhancing the way businesses market, sell and service their products. We focus on our customers’ success as the prime criterion for how we judge our own success. Using the Internet in combination with traditional forms of interaction, including phone, mail, fax and e-mail, our solution helps enterprises to more effectively acquire, manage and maintain customer, partner and other relationships. We market our solution to companies that want to merge new, online business processes with traditional business processes to enhance their customer-facing operations, such as marketing, sales, customer service and technical support. Our solution is Internet-based, which means companies can take advantage of lower costs and faster deployment associated with accessing CRM software with a simple browser. Our solution uses a single data model across all customer interactions, resulting in a single repository for all marketing, sales and service information. It is fully integrated across all customer-facing departments and interaction media. Our solution is designed to be easy to use, widely accessible, rapidly deployable, scalable, flexible, customizable and reliable, which can result in a comparatively low total cost of ownership and rapid return on investment.

Overview of the Results for the Three and Nine Months Ended September 30, 2003

Key financial data points relating to our three and nine month performance include:

• Revenue of $15.4 million, down 19% from the third quarter of 2002 and down 3% from the second quarter of 2003;

• License revenue of $3.6 million, down 50% from the third quarter of 2002 and up 16% from the second quarter of 2003;

• Service revenue of $11.8 million, consistent with service revenue from the third quarter of 2002 and down 7% from the second quarter of 2003;

• Service margins of 55%, down from 58% in the third quarter of 2002 and down from 57% in the second quarter of 2003;

• Operating expenses, excluding acquisition-related amortization, stock compensation and restructuring charges, of $9.4 million, down from $13.8 million in the third quarter of 2002 and down from $10.1 million in the second quarter of 2003;

• Revenue for the first nine months of 2003 of $45.4 million, down 13% from the first nine months of 2002;

• License revenue for the first nine months of 2003 of $9.4 million, down 44% from the first nine months of 2002;

• Service revenue for the first nine months of 2003 of $36.0 million, up 2% from the first nine months of 2002;

• Service margins for the first nine months of 2003 of 55%, down from 57% for the first nine months of 2002;

• Operating expenses, excluding acquisition-related amortization, stock compensation and restructuring charges, for the first nine months of 2003 of $31.4 million, down from $39.8 million for the first nine months of 2002;

• Cash and restricted cash balances of $12.0 million at September 30, 2003, down from $13.9 million at June 30, 2003 and down from $19.3 million at December 31, 2002; and

• Days sales outstanding, based on end of period receivable balances, at 74 days compared to 59 days in the third quarter of 2002 and 74 days in the second quarter of 2003.

We believe that continued adverse economic conditions have affected our ability to generate license revenue during the first nine months of 2003. Our service revenue, service margins and operating expense management, however, continued to be solid during the first nine months of 2003.

Although our license revenue in the third quarter of 2003 showed incremental improvement and recent published reports are signaling modest improvement in the global economy, we are cautious as to the speed at which macroeconomic conditions will improve, particularly as it relates to the information technology and communications industries, and believe our ability to generate new license sales will continue to be challenged in the near term. The majority of our revenue has been generated from customers in the high-technology, financial services and healthcare industries. Accordingly, our business is affected by the economic and business conditions of these industries and the demand for information technology within these industries. Macroeconomic conditions were extremely challenging during 2001, 2002 and the first nine months of 2003, and we expect them to continue to impact capital spending initiatives of our targeted new and existing customer base in the near term.

As a result of current economic uncertainties, we will be focused on the following objectives in the near term:

• successful rebuilding of our direct sales force;

• managing our costs to allow our return to profitability and allow us to preserve our cash;

• sales management aimed at focusing our resources and efforts on the opportunities with the highest probability of success;

• maximizing the value of our partnerships with key system integration and technology vendors, particularly as it relates to our Embedded CRM initiative and our key vertical industries;

• aggressive marketing of our recent major product releases on the Windows NT/Microsoft BackOffice and Oracle/Unix platforms; and

• maintaining high customer satisfaction levels.

We hope that, by focusing our efforts on these key objectives, we will be able to return to profitability in challenging economic times and successfully grow our business, although we cannot offer any assurance regarding when, or whether, this will occur. We continue to align costs and expenses to our expected revenues. We may, however, continue to experience losses and negative cash flows in the near term, unless sales of our products and services grow.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our critical accounting policies and estimates, including those related to revenue recognition, bad debts, intangible assets, restructuring, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe the following critical accounting policies affect the more significant judgments and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition

Revenue recognition rules for software companies are very complex and often subject to interpretation. We follow very specific and detailed guidelines in measuring revenue; however, certain judgments affect the application of our revenue policy. Revenue results are difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter and could result in future operating losses.

We recognize revenue in accordance with accounting standards for software companies, including Statement of Position, or SOP, 97-2, “Software Revenue Recognition,” as amended by SOP 98-9 and related interpretations, including Technical Practice Aids.

We generate revenue through two sources: (a) software license revenue and (b) support and service revenue. Software license revenue is generated from licensing the rights to use our products directly to end-users and vertical service providers, or VSPs, and indirectly through value-added resellers, or VARs, and, to a lesser extent, through third-party products we distribute. Support and service revenue is generated from sales of customer support services (maintenance contracts), consulting services and training services performed for customers that license our products.

In software arrangements that include rights to multiple software products and/or services, we allocate the total arrangement fee among each of the deliverables using the residual method, under which revenue is allocated to undelivered elements based on vendor-specific objective evidence of fair value of such undelivered elements and the residual amounts of revenue are allocated to delivered elements. Elements included in multiple-element arrangements could consist of software products, maintenance (which includes customer support services and unspecified upgrades), or consulting services. Vendor-specific objective evidence is based on the price charged when an element is sold separately or, in the case of an element not yet sold separately, the price established by authorized management, if it is probable that the price, once established, will not change once the element is sold separately.

Standard terms for license agreements call for payment within 90 days. Probability of collection is based on the assessment of the customer’s financial condition through the review of its current financial statements or credit reports. For follow-on sales to existing customers, prior payment history is also used to evaluate probability of collection. Revenue from distribution agreements with VARs is typically recognized upon the earlier of receipt of cash from the VAR or identification of an end user. In the latter case, probability of collection is evaluated based on the creditworthiness of the VAR. Our agreements with customers, VSPs and VARs do not contain product return rights.

Revenue from maintenance arrangements is recognized ratably over the term of the contract, typically one year. Consulting revenue is primarily related to implementation services performed on a time-and-materials basis or, in certain situations, on a fixed-fee basis, under separate service arrangements. Implementation services are periodically performed under fixed-fee arrangements and, in such cases, consulting revenue is recognized on a percentage-of-completion basis. Revenue from consulting and training services is recognized as services are performed. Standard terms for renewal of maintenance arrangements, consulting services and training services call for payment within 30 days.

Revenue consisting of fees from licenses sold together with consulting services is generally recognized upon shipment of the software, provided that the above criteria are met, payment of the license fees do not depend on the performance of the services, and the consulting services are not essential to the functionality of the licensed software. If the services are essential to the functionality of the software, or payment of the license fees depends on the performance of the services, both the software license and consulting fees are recognized under the percentage of completion method of contract accounting.

Allowance for Doubtful Accounts

A considerable amount of judgment is required when we assess the ultimate realization of receivables, including assessing the probability of collection and the current creditworthiness of each customer. Although no expenses were required in 2002 and we have recorded a net benefit year to date through September 30, 2003, significant expenses were recorded to increase our allowance for doubtful accounts in prior years due to the rapid downturn in the economy, and in the technology sector in particular, and we may record additional expenses in the future.

Impairment of Intangible Assets

We periodically evaluate intangible asset valuations of businesses we acquired as impairment indicators arise. Our judgments regarding the existence of impairment indicators are based on legal factors, market conditions and operational performance of our acquired businesses. Future events could cause us to conclude that impairment indicators exist and that goodwill and other intangible assets associated with our acquired businesses are impaired.

Restructuring

During 2001 and 2002, we recorded significant write-offs and accruals in connection with our restructuring program under Emerging Issues Task Force, or EITF, Issue No. 94-3. These write-offs and accruals include estimates pertaining to employee separation costs and the settlements of contractual obligations related to excess leased facilities and other contracts. Although we believe that we have made reasonable estimates of our restructuring costs in calculating these write-offs and accruals, the actual costs could differ from these estimates. With the contractual settlement of the majority of our excess facilities, the range of outcomes that must be estimated has narrowed significantly, except for the value assigned to the warrants issued in connection with the settlement, which will fluctuate in the future based on our stock price.

In June 2002, the Financial Accounting Standards Board, or FASB, issued Statement of Financial Accounting Standards, or SFAS, No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” This statement addresses financial accounting and reporting for costs associated with exit or disposal activities, and nullifies EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring).” This statement requires that a liability for a cost associated with an exit or disposal activity be recognized at fair value when the liability is

incurred. The provisions of this statement are effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. The adoption of SFAS No. 146 has not had a material effect on our consolidated financial statements.

Contingencies and Litigation

We are subject to proceedings, lawsuits and other claims related to class action lawsuits and other matters. We are required to assess the likelihood of any adverse judgments or outcomes to these matters, as well as potential ranges of probable losses. A determination of the amount of loss accrual required, if any, for these contingencies are made after careful analysis of each individual issue. The required accruals may change in the future due to new developments in each matter.

Onyx Japan

In September 2000, we entered into a joint venture with Softbank Investment Corporation and Prime Systems Corporation to create Onyx Software Co., Ltd., or Onyx Japan, a Japanese corporation, for the purpose of distributing our technology and product offerings in Japan. In October 2000, we made an initial contribution of $4.3 million in exchange for 58% of the common stock of Onyx Japan. Our joint venture partners invested an additional $3.1 million for the remaining 42% of the common stock of Onyx Japan. Because we have a controlling interest, Onyx Japan has been included in our consolidated financial statements. The minority shareholders’ interest in Onyx Japan’s earnings or losses is accounted for in our consolidated statement of operations.

Under the terms of the joint venture agreement Prime Systems may, at any time, sell its shares to a third party provided that they notify us 90 days prior to doing so. We have a right of first refusal to purchase any of Prime Systems’ shares that are offered for resale at the same price at which those shares are being offered to a third party. Further, since Onyx Japan did not complete an initial public offering on or before July 31, 2003, either Onyx or Prime Systems may terminate the joint venture agreement at its discretion. If Prime Systems exercises its right of termination for this reason, Onyx has the right, at its election, to either (a) buy Prime Systems’ shares at the current fair market value as determined by appraisal or (b) force a liquidation of Onyx Japan.

We have entered into a distribution agreement with Onyx Japan, which was approved by the minority shareholders, that provides for a fee to us based on license and maintenance revenues in Japan. During the three months ended September 30, 2002 and 2003, fees charged under this agreement were $77,000 and $175,000, respectively and during the nine months ended September 30, 2002 and 2003, fees charged under this agreement were $328,000 and $361,000. All intercompany fees are eliminated in consolidation; however, we allocate 42% of the fees to the minority shareholders.

Restructuring efforts carried out in the second half of 2002 significantly reduced the operating expenses of Onyx Japan and increased the probability that Onyx Japan can be cash flow positive, as evidenced by the profits generated by Onyx Japan in the third quarter of 2003. Nevertheless, additional funding may be required to continue the operation of the joint venture. If Onyx Japan incurs losses in future periods and no additional capital is invested, we may have to further restructure Onyx Japan’s operations.

Results of Operations

The following table presents certain financial data, derived from our unaudited statements of operations, as a percentage of total revenue for the periods indicated. The operating results for the three and nine months ended September 30, 2002 and 2003 are not necessarily indicative of the results that may be expected for the full year or any future period.


			Three Months Ended						Nine Months Ended
			September 30,						September 30,

			2002			2003			2002			2003

Consolidated Statement of Operations Data:
Revenue:
	License			38.2	%		23.6	%		32.3	%		20.6	%
	Support and service			61.8			76.4			67.7			79.4

		Total revenue		100.0			100.0			100.0			100.0

Cost of revenue:
	License			1.4			1.1			1.3			1.4
	Amortization of acquired technology			0.7			0.6			0.8			0.6
	Support and service			25.9			34.1			29.1			35.5

		Total cost of revenue		28.0			35.8			31.2			37.5

Gross margin				72.0			64.2			68.8			62.5
Operating expenses:
	Sales and marketing			41.4			29.0			40.2			35.3
	Research and development			18.6			18.2			22.1			20.0
	General and administrative			12.5			14.0			14.1			13.8
	Restructuring and other-related charges			6.1			1.0			14.8			2.7
	Amortization of acquisition-related intangibles			1.1			1.4			1.2			1.4
	Amortization of stock-based compensation			0.3			—			0.4			0.1

		Total operating expenses		80.0			63.6			92.8			73.3

Income (loss) from operations				(8.0	)		0.6			(24.0	)		(10.8	)
Interest and other income (expense), net				1.4			(0.7	)		(0.1	)		0.0
Change in fair value of outstanding warrants				—			(0.8	)		—			0.3

Loss before income taxes				(6.6	)		(0.9	)		(24.1	)		(10.5	)
Income tax provision (benefit)				(0.2	)		0.6			0.7			0.0
Minority interest in consolidated subsidiary				(1.8	)		0.2			(1.6	)		(0.4	)

		Net loss		(4.6	)%		(1.7	)%		(23.2	)%		(10.1	)%

Revenue

Total revenue, which consists of software license and support and service revenue, decreased 19% from $19.0 million in the third quarter of 2002 to $15.4 million in the third quarter of 2003. Total revenue decreased 13% from $52.2 million in the first nine months of 2002 to $45.4 million in the first nine months of 2003. For the three months ended September 30, 2002, NTL Group accounted for approximately 15% of total revenue. For the nine months ended September 30, 2002, no single customer accounted for more than 10% of total revenue. For the three and nine months ended September 30, 2003, no single customer accounted for more than 10% of total revenue.

Our license revenue decreased 50%, from $7.3 million in the third quarter of 2002 to $3.6 million in the third quarter of 2003. Our license revenues decreased 44% from $16.8 million in the first nine months of 2002 to $9.4 million in the first nine months of 2003. We believe that continued adverse economic conditions led to disappointing license revenue results for the first nine months of 2003 as compared to the prior year. We believe that macroeconomic conditions will continue to be challenging in the near term which may delay capital spending initiatives of our prospective and existing customers.

Our support and service revenue in the third quarter of 2002 were consistent with the third quarter of 2003 at $11.8 million. Support and service revenue represented 62% of our total revenue in the third quarter of 2002 and 76% in the third quarter of 2003. Our support and service revenues increased 2% from $35.3 million in the first nine months of 2002 to $36.0 million in the first nine months of 2003. Support and service revenue represented 68% of our total revenue in the first nine months of 2002 and 79% in the first nine months of 2003. We expect the dollar amount of our support and service revenue to decline slightly in the near term compared with recent results due to the unusually high demand for our professional services that we experienced in the second and third quarters of 2003. We may also experience a modest decline in maintenance revenue as some customers elect not to renew annual maintenance contracts, primarily due to specific economic circumstances facing these customers and fewer new licenses sold in 2002 and the first nine months of 2003. We expect that the proportion of support and service revenue to total revenue to fluctuate in the future, depending on our overall sales of software licenses to new and existing customers, as well as our customers’ direct use of third-party consulting and implementation service providers, the degree to which we provide opportunities for our partners to engage with our customers and the ongoing renewals of customer support contracts.

Revenue outside of North America decreased 27%, from $7.2 million in the third quarter of 2002 to $5.2 million in the third quarter of 2003. The decrease in international revenue in the third quarter of 2003 compared to the third quarter of 2002 was due to a decrease in license revenue in Europe. Revenue outside of North America decreased 2%, from $17.9 million in the first nine months of 2002 to $17.6 million in the first nine months of 2003.

Cost of Revenue

Cost of license revenue

Cost of license revenue consists of license fees for third-party software, amortization of acquired technology, product media, product duplication, manuals, product fulfillment and shipping costs. Cost of license revenue decreased 35%, from $270,000 in the third quarter of 2002 to $175,000 in the third quarter of 2003. Cost of license revenue as a percentage of related license revenue was 4% in the third quarter of 2002 and 5% in the third quarter of 2003. Cost of license revenue decreased 1%, from $667,000 in the first nine months of 2002 to $657,000 in the first nine months of 2003. Cost of license revenue as a percentage of related license revenue was 4% in the first nine months of 2002 and 7% in the first nine months of 2003. The increase in cost of license revenue as a percentage of related license revenue in the three and nine months ended September 30, 2003 compared to the same periods of the prior year was primarily the result of a higher concentration of license revenue subject to third-party product royalty costs coupled with the impact of certain fixed third-party product royalty agreements which do not vary directly with license revenue.

Amortization of acquired technology

Amortization of acquired technology represents the amortization of capitalized technology associated with our acquisitions of EnCyc in 1998 and Market Solutions in 1999. Amortization of acquired technology was $138,000 in the third quarter of 2002 and $84,000 in the third quarter of 2003. Amortization of acquired technology was $414,000 in the first nine months of 2002 and $252,000 in the first nine months of 2003. The decrease in amortization of acquired technology in the three and nine months ended September 30, 2003 compared to same periods of the prior year is the result of the completion of the amortization of acquired technology for Market Solutions in the third quarter of 2002. The unamortized balance of acquired technology, all of which relates to our acquisition of EnCyc, totaled $3,000 at September 30, 2003 and is expected to be amortized in full during the fourth quarter of 2003.

Cost of support and service revenue

Cost of support and service revenue consists of personnel and third-party service provider costs related to consulting services, customer support and training. Cost of service revenue increased 7%, from $4.9 million in the third quarter of 2002 to $5.3 million in the third quarter of 2003. Cost of support and service revenue as a percentage of related support and service revenue was 42% in the third quarter of 2002 compared to 45% in the third quarter of 2003. The increase in cost of support and service revenue in dollar amount and as a percentage of related support and service revenue in the third quarter of 2003 compared to the same period of the prior year is due to a higher concentration of professional service revenue, which contributes lower margins than support revenue. Cost of service revenue increased 6%, from $15.2 million in the first nine months of 2002 to $16.1 million in the first nine months of 2003. Cost of support and service revenue as a percentage of related support and service revenue was 43% in the first nine months of 2002 compared to 45% in the first nine months of 2003. The increase in cost of support and service revenue in dollar amount and as a percentage of related support and service revenue in the first nine months of 2003 compared to the same period of the prior year is due to a higher concentration of professional service revenue, which contributes lower margins than support revenue, as well as an increase in overall service revenue. The cost of support and services as a percentage of support and service revenue may vary between periods primarily for two reasons: (1) the mix of services we provide (consulting, customer support, training), which have different cost structures, and (2) the resources we use to deliver these services (internal versus third parties).

Operating Expenses and Other

Sales and marketing

Sales and marketing expenses consist primarily of salaries, commissions and bonuses earned by sales and marketing personnel, travel and promotional expenses and facility and communication costs for direct sales offices. Sales and marketing expenses decreased 43%, from $7.9 million in the third quarter of 2002 to $4.5 million in the third quarter of 2003. Sales and marketing expenses decreased 23%, from $20.9 million in the first nine months of 2002 to $16.0 million in the first nine months of 2003. The decrease in dollar amount from 2002 to 2003 was primarily due to restructuring activities and reductions in sales and marketing headcounts, along with a decrease in sales commissions and bonuses associated with lower license revenues. Sales and marketing employees decreased 32% from September 30, 2002 to September 30, 2003. Sales and marketing expenses represented 41% of our total revenue in the third quarter of 2002, compared to 29% in the third quarter of 2003. Sales and marketing expenses represented 40% of our total revenue in the first nine months of 2002, compared to 35% in the first nine months of 2003.

We expect our sales and marketing expenses to decrease in dollars in 2003 relative to 2002 as we gain the full benefit of our April 2003 restructuring efforts and invest in resource levels that are more closely aligned with the expected demand for our products. As we gain visibility into our long-term sales growth opportunity, we believe that we may need to increase our sales and marketing efforts, particularly in support of our vertical and embedded CRM strategies, to expand our market position and further increase acceptance of our products.

Research and development

Research and development expenses consist primarily of salaries, benefits and equipment for software developers, quality assurance personnel, program managers and technical writers, and payments to outside contractors. Research and development expenses decreased 21%, from $3.5 million in the third quarter of 2002 to $2.8 million in the third quarter of 2003. Research and development expenses decreased 21%, from $11.5 million in the first nine months of 2002 to $9.1 million in the first nine months of 2003. The decrease was primarily due to a decrease in the use of outside contractors, and to a lesser extent, due to a decrease in the number of development personnel. Research and development employees decreased 16% from September 30, 2002 to September 30, 2003. Research and development costs represented 19% of our total revenue in the third quarter of 2002, compared to 18% in the third quarter of 2003. Research and development costs represented 22% of our total revenue in the first nine months of 2002, compared to 20% in the first nine months of 2003.

Although research and development expenses were affected by our April 2003 restructuring efforts, we believe that those development projects that are most essential to our long-term growth were least affected. We believe that our research and development investments are essential to our long-term strategy. To fully realize our long-term sales growth opportunity, we believe that we may need to increase our research and development investment in the future in dollars.

General and administrative

General and administrative expenses consist primarily of salaries, benefits and related costs for our executive, finance, human resource and administrative personnel, professional services fees and allowances for bad debt. General and administrative expenses decreased 9%, from $2.4 million in the third quarter of 2002 to $2.2 million in the third quarter of 2003. General and administrative expenses decreased 15%, from $7.4 million in the first nine months of 2002 to $6.3 million in the first nine months of 2003. The decrease in dollar amount for the third quarter of 2003 compared to the same period of the prior year was primarily due to reductions in executive and administrative personnel, in particular, costs associated with the role of the President and Chief Operating Officer position that was eliminated in October 2002. The decrease in dollar amount for the first nine months of 2003 compared to the same period of the prior year was due to reductions in executive and administrative personnel, along with a decrease in professional services fees and the benefit from collections of accounts previously believed to be uncollectible during the first and second quarters of 2003. General and administrative costs represented 13% of our total revenue in the third quarter of 2002, compared to 14% in the third quarter of 2003. General and administrative costs represented 14% of our total revenue in the first nine months of 2002, consistent with the first nine months of 2003.

Although general and administrative expenses were affected by our April 2003 restructuring efforts, our general and administrative expenses may increase in future quarters as we incur additional professional services fees related to the satisfaction of new compliance requirements under the Sarbanes-Oxley Act of 2002. We also believe that we may need to expand our administrative staff, domestically and internationally, in the future to pursue our long-term sales growth opportunities.

Restructuring and other related charges

In April and again in September 2001, Onyx approved a restructuring plan to reduce headcount, reduce infrastructure and eliminate excess and duplicate facilities. During 2001, we recorded approximately $51.8 million in restructuring and other related charges. During 2002, we recorded approximately $8.5 million in restructuring and other related charges. During the first quarter of 2003, we recorded approximately $340,000 in restructuring and other related charges.

The components of the first quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the			Cash
	Balance at		Three Months			Payments
	December 31,		Ended			and Write-			Fair Value			Balance at
	2002		March 31, 2003			offs			Adjustment			March 31, 2003

Excess facilities	$	12,134	$	354		$	(3,376	)	$	—		$	9,112
Excess facilities — warrants		920		—			—			(242	)		678
Employee separation costs		636		(101	)		(167	)		—			368
Asset impairments, net		—		87			(87	)		—			—
Other		54		—			(35	)		—			19

Total	$	13,744	$	340		$	(3,665	)	$	(242	)	$	10,177

In April 2003, Onyx approved a restructuring plan to reduce additional headcount. Severance costs associated with this restructuring plan were charged to expense during the second quarter of 2003. The components of the second quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the		Cash
			Three Months		Payments
	Balance at		Ended		and Write-			Fair Value			Balance at
	March 31, 2003		June 30, 2003		offs			Adjustment			June 30, 2003

Excess facilities	$	9,112	$	15	$	(2,441	)	$	—		$	6,686
Excess facilities — warrants		678		—		—			(15	)		663
Employee separation costs		368		739		(964	)		—			143
Other		19		—		(18	)		—			1

Total	$	10,177	$	754	$	(3,423	)	$	(15	)	$	7,493

The components of the third quarter 2003 charges and a roll-forward of the related liability follow (in thousands):


			Charge for the		Cash
	Balance at		Three Months		Payments
	June 30,		Ended		and Write-			Fair Value		Balance at
	2003		September 30, 2003		offs			Adjustment		September 30, 2003

Excess facilities	$	6,686	$	112	$	(2,211	)	$	—	$	4,587
Excess facilities — warrants		663		—		—			123		786
Employee separation costs		143		50		(159	)		—		34
Other		1							—		1

Total	$	7,493	$	162	$	(2,370	)	$	123	$	5,408

The excess facility charges recorded in 2001 and 2002 are the result of our decision to reduce our utilization of certain facilities and to terminate usage of certain domestic and international facilities altogether. The most significant portion of the excess facility charges relates to our leases for 262,000 square feet of office space in Bellevue, Washington, which commenced in April and June of 2001 and were originally contracted to expire in 2011 and 2013.

In 2002, we made significant progress in our efforts to mitigate excess facility commitments. Specifically, in August 2002, we executed a sublease agreement on our 21,000 square foot facility in the United Kingdom that reduces our obligation on seven of the remaining 14 years on the lease, and in November 2002, we executed a lease termination agreement on our former 100,000-square-foot corporate headquarters facility in Bellevue, Washington. This lease termination resulted in accelerated cash outflows of

approximately $2.0 million during the fourth quarter of 2002. We paid our monthly lease obligation of approximately $250,000 associated with this facility in January 2003, after which we relocated our corporate headquarters and no further obligations remained. The signing of this agreement, which required us to move our corporate headquarters, resulted in accelerated amortization of leasehold improvements and furniture, of which approximately $1.3 million was charged to expense in the fourth quarter of 2002. An additional $450,000 in accelerated amortization was charged to expense in January 2003.

The most significant mitigation of our excess facility commitments was completed in December 2002 when we reached an agreement with the landlord, Bellevue Hines Development, L.L.C, or Hines, relating to our 262,000 square feet of office space in Bellevue, Washington. The partial lease termination reduces our excess facilities in Bellevue, Washington by approximately 202,000 square feet. Onyx continues to lease approximately 60,000 square feet at this facility, which began serving as our new corporate headquarters effective at the end of January 2003. The new lease for 60,000 square feet expires in December 2013. The partial lease termination will require cash outflows of approximately $2.5 million over the 7-month period ending April 2004, which is included in current restructuring-related liabilities at September 30, 2003. In addition to cash payments, Onyx issued three five-year warrants to Hines for the purchase of up to an aggregate of 198,750 shares of Onyx common stock, including a warrant to purchase 66,250 shares of common stock at an exercise price of $10.38 per share, a warrant to purchase 66,250 shares of common stock at an exercise price of $12.11 per share and a warrant to purchase 66,250 shares of common stock at an exercise price of $13.84 per share. If Onyx either undergoes a change of control or issues securities with rights and preferences superior to Onyx’s common stock within two years after the warrants were issued, Hines will have the option of canceling any unexercised warrants and receiving a cash cancellation payment of $18.40 per share in the case of the $10.38 warrants, $16.00 per share in the case of the $12.11 warrants and $13.92 per share in the case of the $13.84 warrants. These contingent cash payments aggregate $3.2 million. We also entered into a registration rights agreement with Hines, pursuant to which we filed a registration statement on February 14, 2003 covering the resale of the shares of Onyx common stock subject to purchase by Hines under the warrants. The warrant value as of December 31, 2002 was estimated at $920,000 based on (a) the estimated value of the warrants using the Black-Scholes model with an expected dividend yield of 0.0%, a risk-free interest rate of 5.0%, volatility of 85% and an expected life of five years and (b) the estimated value of the cash cancellation payments in the event of a change in control. The warrants are subject to variable accounting and we are required to mark the warrants to market at each reporting period. At September 30, 2003, the warrant value was estimated at $786,000 using similar assumptions to those used at December 31, 2002, and is included in long-term liabilities.

The termination of the 202,000 square feet in Bellevue, Washington is contingent on the following conditions, among others, being met as of April 30, 2004: (a) we are current in our payments under the lease and (b) we have not filed a bankruptcy or other liquidation petition, or otherwise attempted to reject or contest the lease. If we are not in compliance with any of these conditions as of April 30, 2004, the original lease will not terminate and we will be required to continue making payments on the excess facilities subject to the original lease. We previously issued a letter of credit to Hines in the amount of approximately $6.6 million to guarantee our payment obligations to Hines. The letter of credit is secured by our cash deposits. The letter of credit will secure our obligations under the original lease and the amended lease for the 60,000 square feet that we still occupy. The parties have agreed to effect eight monthly reductions in the amount of the letter of credit of $507,000 each starting in October 2003 if (i) the conditions precedent described above are satisfied and (ii) we have timely made all of the payments due under the original lease and the new lease for the 60,000 square feet that we still occupy. In no event will the letter of credit be reduced to an amount less than $2.5 million. Our right to reduce the amount of the letter of credit will be forfeited if, at any time before May 1, 2004, we make any late payment under the original lease or the new lease for the 60,000 square feet that we still occupy, or if there is any default or material misrepresentation by us in any of the warrants or the registration rights agreement.

The accounting for excess facilities is complex and, as a result, may result in adjustments to our current restructuring charge. In particular, based on the terms of the warrants issued in connection with the partial lease termination of excess facilities in Bellevue, Washington, the warrants are subject to variable accounting and will be marked to market at each reporting period. Future cash outlays are anticipated through July 2006 unless estimates and assumptions change or we are able to negotiate to exit certain leases at an earlier date.

We are continuing to align our operations and review our restructuring efforts. We may, however, be unable to achieve these expense reductions without adversely affecting our business and operating results. We may continue to experience losses and negative cash flows in the near term, unless sales of our products and services grow.

Amortization of acquisition-related intangibles

Amortization of acquisition-related intangibles consists of intangible amortization associated with our acquisitions of EnCyc in 1998 and Market Solutions in 1999. Amortization of other acquisition-related intangibles totaled $209,000 in the third quarter of 2002 and 2003 and $627,000 in the first nine months of 2002 and 2003.

Amortization of stock-based compensation

We recorded deferred stock-based compensation of $2.2 million in 1998, representing the difference between the exercise prices of options granted to acquire shares of common stock during 1997 and 1998, prior to our initial public offering, and the deemed fair value for financial reporting purposes of our common stock on the grant dates. We recorded an additional $1.8 million in deferred compensation in connection with the options granted to new employees in conjunction with the acquisition of RevenueLab in January 2001. Deferred compensation is amortized over the vesting periods of the options. We recorded stock-based compensation expense of $51,000 in the third quarter of 2002 and $4,000 in the third quarter of 2003. We recorded stock-based compensation expense of $203,000 in the first nine months of 2002 and $32,000 in the first nine months of 2003. Approximately $1.0 million of the deferred compensation that was recorded in January 2001 in connection with options granted to employees of RevenueLab was reversed within shareholders’ equity during 2001 and 2002 upon the employees’ termination. Option-related deferred compensation recorded at our initial public offering was fully amortized as of December 31, 2002. The deferred stock-based compensation balance of $54,000 at June 30, 2003 was reversed within shareholders’ equity during the third quarter of 2003 due to the departure of the last eligible RevenueLab employee in August 2003.

Other Income (Expense), Net

Other income (expense), net consists of earnings on our cash and cash equivalent and short-term investment balances and foreign currency transaction gains, offset by interest expense, bank fees associated with debt obligations and credit facilities and foreign currency transaction losses. Other income (expense), net was income of $269,000 in the third quarter of 2002 compared to expense of $117,000 in the third quarter of 2003. The decrease in other income (expense), net during the third quarter of 2003 compared to the same period of the prior year is primarily the result of a benefit recorded in the third quarter of 2002 relating to lower than previously estimated equity transaction-related expenses which were not associated with the sale of securities, originally recorded in the first quarter of 2002, coupled with a decrease in interest income. Other income (expense), net was an expense of $73,000 in the first nine months of 2002 compared to income of $3,000 in the first nine months of 2003. The increase in other income (expense), net during the first nine months of 2003 compared to the first nine months of 2002 is primarily the result of equity transaction-related expenses which were not associated with the sale of securities recorded during 2002, coupled with an increase in foreign currency gains during the first nine months of 2003, offset in part by a decrease in interest income during the first nine months of 2003.

Change in Fair Value of Outstanding Warrants

Based on the terms of the warrants issued in connection with the partial lease termination of excess facilities in Bellevue, Washington, we are subject to variable accounting and will be required to mark the warrants to market at each reporting period. During the third quarter of 2003, we recorded an expense of $123,000 representing the change in fair value of the outstanding warrants. The benefit recorded during the nine months ended September 30, 2003 totaled $134,000.

Income Tax Provision (Benefit)

We recorded an income tax benefit of $29,000 in the third quarter of 2002 and a provision of $86,000 in the third quarter of 2003. We recorded an income tax provision of $383,000 in the first nine months of 2002 and a provision of $7,000 in the first nine months of 2003. The increase in the provision for income taxes during the third quarter of 2003 compared to the same period of the prior year is the result of an increase in estimated taxes related to operations of our subsidiaries in Australia and the United Kingdom. The significant provision recorded in the nine months ended September 30, 2002 was primarily related to withholding taxes associated with the settlement of royalties due our U.S. entity by the Japanese joint venture. Our income tax provision (benefit) in all periods reported is the net result of income taxes in connection with our foreign operations, offset by the deferred tax benefit recorded as we amortize the intangibles associated with our international acquisitions. We made only insignificant provisions and recorded no benefit for federal or state income taxes in the third quarter and first nine months of 2002 and the third quarter and first nine months of 2003

due to our historical operating losses, which resulted in deferred tax assets. We have recorded a valuation allowance for all but $272,000 of our deferred tax assets as a result of uncertainties regarding the realization of the asset balance at September 30, 2003.

Minority Interest in Loss of Onyx Japan

In the third quarter of 2002 the minority shareholders’ interest in Onyx Japan’s losses totaled $345,000 and in the third quarter of 2003 the minority shareholders’ interest in Onyx Japan’s income totaled $32,000, respectively. In the first nine months of 2002 and 2003, the minority shareholders’ interest in Onyx Japan’s losses totaled $817,000 and $200,000, respectively. At September 30, 2003, the minority shareholders’ remaining interest in the joint venture, net of their share of cumulative translation losses, totaled $35,000. As a result, additional Onyx Japan losses above approximately $84,000 in the aggregate will be absorbed 100% by Onyx, as compared to 58% in prior periods.

Liquidity and Capital Resources

As of September 30, 2003, we had unrestricted cash and cash equivalents of $9.0 million, a decrease of $8.1 million from unrestricted cash and cash equivalents held as of December 31, 2002. As of September 30, 2003, we also had restricted cash balances totaling $3.0 million, as compared to $2.2 million at December 31, 2002. We invest our cash in excess of current operating requirements in a portfolio of investment-grade securities. We did not hold any short-term marketable securities as of December 31, 2002 or September 30, 2003.

As of September 30, 2003, our principal obligations consisted of restructuring-related liabilities totaling $4.6 million, excluding the value assigned to warrants, of which $4.1 million is expected to be paid within the next 12 months, accrued liabilities of $2.5 million, trade payables of $1.0 million and salaries and benefits payable of $1.5 million. The majority of the restructuring-related liabilities relate to excess facilities in domestic and international markets, the most significant portion of which relates to the termination agreement signed in December 2002 in connection with excess facilities in Bellevue, Washington. The majority of our accounts payable, salaries and benefits payable and accrued liabilities at September 30, 2003 will be settled during the next three months and will result in a corresponding decline in the amount of cash and cash equivalents, offset by liabilities associated with activity in the fourth quarter of 2003. Off-balance sheet obligations as of September 30, 2003 primarily consisted of operating leases associated with facilities in Bellevue, Washington and other domestic and international field office facilities. Our contractual commitments at September 30, 2003 are substantially similar to those at December 31, 2002 disclosed in our annual report on Form 10-K.

In documents dated March 28, 2003 and May 5, 2003, we amended our Loan and Security Agreement with Silicon Valley Bank, or SVB, which was originally entered into in February 2002, and entered into a second Loan and Security Agreement with SVB that is intended to take advantage of a loan guarantee by the Export Import Bank of the United States, or Exim Bank. Under the terms of these agreements, we have a total $15.0 million working capital revolving line of credit with SVB, which is split between a $13.0 million domestic facility and a $2.0 million Exim Bank facility. Both are secured by accounts receivable, property and equipment and intellectual property. The domestic facility allows us to borrow up to the lesser of (a) 75% of eligible domestic and individually approved foreign accounts receivable and (b) $13.0 million. The Exim Bank facility allows us to borrow up to the lesser of (a) 80% of eligible foreign accounts receivable and (b) $2.0 million. If the borrowing base calculation falls below the outstanding standby letters of credit issued by SVB on our behalf, SVB may require us to cash secure the amount by which outstanding standby letters of credit exceed the borrowing base. The amount required to be restricted under the loan agreement was $3.0 million, measured as of September 30, 2003. Due to the variability in our borrowing base, we may be subject to restrictions on our cash at various times throughout the year. Any borrowings will bear interest at SVB’s prime rate, which was 4.00% as of September 30, 2003, plus 1.5%, subject to a minimum rate of 6.0%. The loan agreements require us to maintain certain financial covenants based on its adjusted quick ratio and tangible net worth. We were in compliance with these covenants at September 30, 2003. We are also prohibited under the loan and security agreements from paying dividends. The facilities expire in March 2004. Based on the outstanding standby letters of credit relating to long-term lease obligations totaling $9.7 million at September 30, 2003, no additional amounts are currently available under the credit facilities.

Our operating activities resulted in net cash outflows of $11.4 million in the first nine months of 2002 and $9.4 million in the first nine months of 2003. The operating cash outflow in the first nine months of 2002 was primarily the result of our operating loss for the period adjusted for non-cash amortization and impairment charges, decreases in accounts payable and accrued liabilities, decreases in restructuring-related liabilities, decreases in deferred revenues, decreases in income taxes payable and increases in prepaid expenses and other assets, offset in part by cash provided by collections on accounts receivable. The operating cash outflow in the first nine

months of 2003 was primarily the result of our operating loss for the period adjusted for non-cash amortization and impairment charges, decreases in accounts payable, salaries and benefits payable and accrued liabilities, decreases in restructuring-related liabilities, decreases in deferred revenues, offset in part by cash provided by collections on accounts receivable, decreases in prepaid expenses and other assets and increases in income taxes payable. The net cash outflow of $11.4 million in the first nine months of 2002 includes $11.9 million in cash paid for restructured items and the net cash outflow of $9.4 million in the first nine months of 2003 includes $9.3 million in cash paid for restructured items.

Investing activities used cash of $4.9 million in the first nine months of 2002, primarily due to the restriction of cash used to secure outstanding letters of credit. Investing activities used cash of $1.7 million in the first nine months of 2003 primarily due to the restriction of cash used to secure outstanding letters of credit and capital expenditures associated with the relocation of our corporate headquarters in January 2003.

Financing activities provided cash of $20.9 million in the first nine months of 2002 primarily due to the proceeds from our public offering of common stock in February 2002 and proceeds from our employee stock purchase plan and the exercise of stock options, offset in part by payments on our long-term obligations. Financing activities provided cash of $2.8 million in the first nine months of 2003 primarily due to the proceeds from our private offering of common stock in May 2003 and proceeds from our employee stock purchase plan and the exercise of stock options, offset in part by payments on our long-term obligations.

Our near-term restructuring costs related to the mitigation of our excess facilities liabilities will consume a material amount of our cash resources. The termination of approximately 202,000 square feet in Bellevue, Washington will result in cash outflows of approximately $2.5 million over the 7-month period ending April 2004 and is included in current restructuring-related liabilities at September 30, 2003. We may also use a portion of our cash resources to provide further capital to Onyx Japan. If Onyx Japan continues to incur losses and no additional capital is invested, we may have to further restructure our operations in Japan. Finally, it is also possible that we will use a portion of our cash resources to acquire or invest in complementary business, products or technologies; however, we currently have no commitments or agreements with respect to any transactions of this nature.

Assuming our future revenue performance is comparable to the most recent quarterly periods reported, we believe that, with the expense reduction efforts instituted in April 2003 and the proceeds from the private placement completed in May 2003, existing cash and cash equivalents will be sufficient to meet our capital requirements for at least the next 12 months. Should our results for subsequent quarters fall below the results we achieved in the first quarter of 2003, we would likely take action to restructure our operations to preserve our cash. Mitigation of our excess facilities liabilities will consume a material amount of our cash resources. In addition, we may bear substantial costs associated with the proposed acquisition of Pivotal, whether or not the acquisition is completed. Although we expect the proposed Pivotal acquisition to be accretive to shareholders, if it is successfully completed, the combined company may require additional funds to support significantly larger operations and pursue expected market opportunities. As a result of these factors, along with the impact lower cash balances could have on our sales, we may seek additional funds in the future through public or private equity financing or from other sources to fund our operations and pursue our growth strategy. We may experience difficulty in obtaining funding on favorable terms, if at all. Any financing we might obtain may contain covenants that restrict our freedom to operate our business or may require us to issue securities that have rights, preferences or privileges senior to our common stock and may dilute current shareholders’ ownership interest in Onyx.

Recent Accounting Pronouncements

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51,” or FIN 46. FIN 46 addresses the consolidation by business enterprises of variable interest entities as defined in FIN 46. FIN 46 applies immediately to variable interests in variable interest entities created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. As amended by FASB Staff Position (“FSP”) No. FIN 46-6, FIN 46 is effective for variable interests in a variable interest entity created before February 1, 2003 at the end of the first interim or annual period ending after December 15, 2003. We do not expect the adoption of FIN 46 to have a material impact on our financial position or results of operations.

In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities, or SFAS 149. SFAS 149 amends and clarifies financial accounting and reporting for derivative instruments, including certain derivative instruments embedded in other contracts and for hedging activities under FASB Statement of financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS 149 is generally effective for contracts entered into or modified after June 30, 2003 and for hedging relationships designated after June 30, 2003. The adoption of SFAS 149 did not have a significant impact on our financial position or results of operations.

In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, or SFAS 150. SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity. SFAS 150 is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003. SFAS 150 is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS 150 did not have a significant impact on our financial position or results of operations.

Important Factors That May Affect Our Business, Our Results of Operations and Our Stock Price

Our operating results fluctuate and could fall below expectations of investors, resulting in a decrease in our stock price.

Our operating results have varied widely in the past, and we expect that they will continue to fluctuate in the future. If our operating results fall below the expectations of investors, it could result in a decrease in our stock price. Some of the factors that could affect the amount and timing of our revenue and related expenses and cause our operating results to fluctuate include:

• general economic conditions, which may affect our customers’ capital investment levels in management information systems and the timing of their purchases;

• rate of market acceptance of our CRM solution;

• budget and spending decisions by our prospective and existing customers;

• customers’ and prospects’ decisions to defer orders or implementations, particularly large orders or implementations, from one quarter to the next, or to proceed with smaller-than-forecasted orders or implementations;

• level of purchases by our existing customers, including additional license and maintenance revenues;

• our ability to enable our products to operate on multiple platforms;

• our ability to compete in the highly competitive CRM market;

• the loss of any key technical, sales, customer support or management personnel and the timing of any new hires;

• our ability to develop, introduce and market new products and product versions on a timely basis;

• variability in the mix of our license versus service revenue, the mix of our direct versus indirect license revenue and the mix of services that we perform versus those performed by third-party service providers;

• our ability to successfully expand our operations, and the amount and timing of expenditures related to this expansion; and

• the cost and financial accounting effects of any acquisitions of companies or complementary technologies that we may complete.

As a result of all of these factors, we cannot predict our revenue with any significant degree of certainty, and future product revenue may differ from historical patterns. It is particularly difficult to predict the timing or amount of our license revenue because:

• our sales cycles are lengthy and variable, typically ranging between six and eighteen months from our initial contact with a potential customer to the signing of a license agreement, although the sales cycle varies substantially from customer to customer, and occasionally sales require substantially more time;

• a substantial portion of our sales are completed at the end of the quarter and, as a result, a substantial portion of our license revenue is recognized in the last month of a quarter, and often in the last weeks or days of a quarter;

• in recent quarters, the contracting process of our sales cycle has taken more time than we have historically experienced;

• the amount of unfulfilled orders for our products at the beginning of a quarter is small because our products are typically shipped shortly after orders are received; and

• delay of new product releases can result in a customer’s decision to delay execution of a contract or, for contracts that include the new release as an element of the contract, will result in deferral of revenue recognition until such release.

Even though our revenue is difficult to predict, we base our decisions regarding our operating expenses on anticipated revenue trends. Many of our expenses are relatively fixed, and we cannot quickly reduce spending if our revenue is lower than expected. As a result, revenue shortfalls could result in significantly lower income or greater loss than anticipated for any given period, which could result in a decrease in our stock price.

We may be unable to obtain the funding necessary to support the expansion of our business, and any funding we do obtain could dilute our shareholders’ ownership interest in Onyx.

Our future revenue may be insufficient to support the expenses of our operations, capital needs of Onyx Japan and the expansion of our business. We may therefore need additional equity or debt capital to finance our operations. If we are unable to generate sufficient cash flow from operations or to obtain funds through additional financing, we may have to reduce our development and sales and marketing efforts and limit the expansion of our business.

We currently have loan and security agreements with SVB that allow us to borrow up to the lesser (a) 75% of eligible domestic and individually approved foreign accounts receivable and (b) $13.0 million under a domestic line, plus up to the lesser of (a) 80% of eligible foreign accounts receivable and (b) $2.0 million under a line guaranteed by Exim Bank. At the time of this filing, however, no additional amounts are available under the lines of credit based on the level of our borrowing base and our outstanding letters of credit. We were in compliance with the financial covenants of these facilities as of September 30, 2003. If we are unable to maintain compliance with our covenants in the future or if SVB decides to restrict our cash deposits, our liquidity would be further limited and our business, financial condition and operating results could be materially harmed.

We previously announced that we had restructured our lease for our principal business offices to reduce our excess facilities obligations. The termination of these excess facilities commitments is contingent upon the following conditions, among others, being met as of April 30, 2004: (a) we are current in our payments under the lease and (b) we have not filed a bankruptcy or other liquidation petition, or otherwise attempted to reject or contest the lease. If we are not in compliance with any of these conditions as of April 30, 2004, our original lease will not terminate and we will be required to continue making payments on the excess facilities subject to the original lease. If this were to take place, our business, financial condition and operating results would be materially adversely affected.

We have incurred losses in recent periods, and may not again achieve profitability, which could cause a decrease in our stock price.

If we do not return to profitability in future quarters, our stock price could decrease. We incurred net losses in each quarter from Onyx’s inception through the third quarter of 1994, from the first quarter of 1997 through the second quarter of 1999, and from the first quarter of 2000 through the third quarter of 2003. As of September 30, 2003, we had an accumulated deficit of $126.6 million. Our accumulated deficit and financial condition have caused some of our potential customers to question our viability, which we believe has in turn hampered our ability to sell some of our products.

In the near-term, we believe our costs and operating expenses, excluding restructuring-related charges, may increase modestly in certain areas as we continue to invest in our strategic priorities. We expect our costs and operating expenses in the near-term to be at a level that is at or below our expected revenue. We may, however, incur substantial costs in pursuing our proposed acquisition of Pivotal. We may not be able to increase our revenue sufficiently to keep pace with any growth in expenditures, if at all, and, as a result, may be unable to achieve or maintain profitability in the future.

Although profitable in the third quarter of 2003, Onyx Japan, our joint venture with Softbank Investment Corporation and Prime Systems Corporation, incurred substantial losses in previous periods. The minority shareholders’ capital account balance in Onyx Japan as of September 30, 2003 was $35,000. Additional Onyx Japan losses above approximately $84,000 in the aggregate will be absorbed 100% by Onyx, as compared to 58% in prior periods, which could impact our ability to achieve profitability in future periods.

Economic conditions could adversely affect our revenue growth and ability to forecast revenue.

Our revenue growth and potential for profitability depend on the overall demand for CRM software and services. Because our sales are primarily to corporate customers, we are also impacted by general economic and business conditions. A softening of demand for computer software caused by the weakened economy, both domestic and international, has affected our sales and may continue to result in decreased revenue and growth rates. When economic conditions weaken, sales cycles for software products tend to lengthen, and, as a result, we experienced longer sales cycle in 2001, 2002 and the first nine months of 2003. We expect to continue to experience longer sales cycles than usual throughout 2003. As a result of the economic downturn, we have also experienced and may continue to experience difficulties in collecting outstanding receivables from our customers.

Our management team uses our software to identify, track and forecast future revenue, backlog and trends in our business. Our sales force monitors the status of all proposals, such as the date when they estimate that a transaction will close and the potential dollar amount of such sale. We aggregate these estimates regularly in order to generate a sales pipeline and then evaluate the pipeline at various times to look for trends in our business. While this pipeline analysis provides us with visibility about our potential customers and the associated revenue for budgeting and planning purposes, these pipeline estimates may not consistently correlate to revenue in a particular quarter or over a longer period of time. The slowdown in the domestic and international economies, as well as the ongoing effects of armed conflict, may continue to cause customer purchasing decisions to be delayed, reduced in amount or cancelled, which could reduce the rate of conversion of the pipeline into contracts during a particular period of time. In particular, as a result of the economic slowdown, we believe that a number of our potential customers may delay or cancel their purchase of our software, consulting services or customer support services or may elect to develop their own CRM solution or solutions. A variation in the pipeline or in the conversion of the pipeline into contracts could adversely affect our business and operating results. In addition, because a substantial portion of our sales are completed at the end of the quarter, and often in the last weeks or days of a quarter, we may be unable to adjust our cost structure in response to a variation in the conversion of the pipeline into contracts in a timely manner, which could adversely affect our business and operating results. We have also recently experienced a trend of smaller initial orders by new purchasers of our software. Some customers are reluctant to make large purchases before they have had the opportunity to observe how our software performs in their organization, and have opted instead to make their planned purchase in stages. Additional purchases, if any, may follow only if the software performs as expected. We believe that this is a symptom of poor economic conditions, lack of successful deployments by competitors and increasing averseness to risk among our customers and potential customers. To the extent that this trend continues, it will impact the pace of our revenue flow, and could also result in a reduction of the total amount of revenue over time.

Fluctuations in support and service revenue could decrease our total revenue or decrease our gross margins, which could cause a decrease in our stock price.

During 2001, 2002 and the first nine months of 2003, our support and service revenue represented a higher percentage of our total revenue than in past periods, which negatively impacted our gross margins. To the extent that this trend continues, our gross margins will continue to suffer. Due largely to the decrease in license revenue in 2001, 2002 and the first nine months of 2003, support and service revenue represented 62% of our total revenue in 2001, 67% of our total revenue in 2002 and 79% of our total revenue in the

first nine months of 2003. We anticipate that support and service revenue will continue to represent a significant percentage of total revenue. Because support and service revenue has lower gross margins than license revenue, a continued increase in the percentage of total revenue represented by support and service revenue or a further decrease in license revenue, as we experienced in 2001, 2002 and the first nine months of 2003, could have a detrimental effect on our overall gross margins and thus on our operating results. Our support and service revenue is subject to a number of risks. First, we subcontract some of our consulting, customer support and training services to third-party service providers. Third-party contract revenue generally carries even lower gross margins than our service business overall. As a result, our support and service revenue and related margins may vary from period to period, depending on the mix of third-party contract revenues. Second, support and service revenue depends in part on ongoing renewals of support contracts by our customers, some of which may not renew their support contracts. The renewal rates of our support contracts declined during 2001, 2002 and the first nine months of 2003. We believe this occurred at least in part as a result of the economic downturn, and we cannot offer any assurance that these rates will increase or that they will not continue to decline. Finally, support and service revenue could decline further if customers select third-party service providers to install and service our products more frequently than they have in the past. If support and service revenue is lower than anticipated, our operating results could fall below the expectations of investors, which could result in a decrease in our stock price.

Our operating results may fluctuate seasonally, and these fluctuations may cause our stock price to decrease.

Our stock price may decrease due to seasonal fluctuations in our revenue. We have experienced and expect in the future to experience significant seasonality in the amount of our software license revenue. In fiscal years before 2001, we recognized more license revenue in our fourth quarter than in each of the first three quarters of the fiscal year and experienced lower license revenue in the first quarter than in the preceding fourth quarter. We believe that these fluctuations are caused in part by customer buying patterns and the efforts of our direct sales force to meet or exceed fiscal year-end quotas. Our fourth quarter 2001 revenue was, however, lower than the revenue we achieved in the first and second quarters of 2001, and was only slightly higher than the revenue we achieved in the third quarter of 2001. Similarly, our fourth quarter 2002 revenue was lower than the revenue we achieved in the second and third quarters of 2002. Our first quarter 2003 revenue was lower than the revenue we achieved in the fourth quarter of 2002. We believe that this deviation from our historical experience reflects recessionary economic conditions, and that in the current economic environment the approval process for capital spending will be lengthy. We experienced delays in the customer procurement process throughout 2002, which caused our seasonal sales to vary from the historical pattern. We believe these delays may continue through the rest of 2003 or beyond, before we return to the seasonal patterns described above.

We have a limited operating history and are subject to the risks of new enterprises.

We commenced operations in February 1994 and commercially released the first version of our flagship product in December 1994. Accordingly, we have a limited operating history, and we face all of the risks and uncertainties encountered by early-stage companies. These risks and uncertainties include:

• no history of sustained profitability;

• uncertain growth in the market for, and uncertain market acceptance of, our solution;

• reliance on one product family;

• the risk that competition, technological change or evolving customer preferences, such as preferences for different computing platforms, could harm sales of our solution;

• the need to implement our sales, marketing and after-sales service initiatives, both domestically and internationally;

• the need to execute our product development activities;

• dependence on a limited number of key technical, customer support, sales and managerial personnel; and

• the risk that our management will be unable to effectively manage growth, a downturn or any acquisition we may undertake.

The evolving nature of the CRM market increases these risks and uncertainties. Our limited operating history makes it difficult to predict how our business will develop.

In attempting to acquire Pivotal and to integrate the business and technology of Pivotal or any future acquisition, we could incur significant costs that may not be outweighed by any benefits of the acquisition.

As part of our business strategy, from time to time, we acquire other companies, products or technologies, and these acquisitions may result in substantial costs that may not be outweighed by any benefits of the acquisition. On November 12, 2003, we announced an unsolicited proposal to acquire Pivotal by way of a business combination in a stock-for-stock transaction. Under the terms of the proposal which was submitted by letter to the Pivotal Board of Directors on November 12, 2003, the companies would be combined on the basis of 0.475 shares of Onyx common stock for each common share of Pivotal, or approximately 12.5 million shares of Onyx common stock. The approximate price per Pivotal common share is $2.25 based on the $4.73 closing price of Onyx common stock on November 11, 2003. On October 8, 2003, Pivotal announced that it had entered into a definitive agreement to be acquired by Talisma Corporation in a cash transaction financed by Oak Investment Partners valued at $1.78 per share.

Our offer was not solicited by Pivotal and, as of this filing, we have not received any response from Pivotal’s Board of Directors. Pivotal may reject our offer and Pivotal or Oak may employ certain defensive tactics, such as adopting a poison pill or other takeover defense measures, to delay or discourage us from pursuing our offer. In addition, Oak may increase the value of its offer to match or exceed the premium represented by our proposal. As a result, we may not be successful in completing our proposed acquisition of Pivotal and we may incur substantial costs in pursuing the transaction. If we do successfully complete the acquisition, the combined company would have to pay a $1.5 million breakup fee associated with the pending Talisma transaction.

In addition to the breakup fee, the costs of any Pivotal acquisition or any future acquisitions may include costs for:

• integration of operations, including combining teams and processes in various functional areas;

• restructuring costs for reorganization or closure of operations and facilities;

• integration of new technology into our products;

• fees and expenses of professionals involved in completing the integration process; and

• potential existing liabilities of Pivotal or any future acquisition target.

Successful integration of the operations, technology, products, customers, suppliers and personnel of Pivotal or any future acquisition could place a significant burden on our management and internal resources. The diversion of the attention of our management and any difficulties encountered in the transition and integration process could disrupt our business and have an adverse effect on our business and operating results.

If we are unable to compete successfully in the highly competitive CRM market, our business will fail.

Our solution targets the CRM market. This market is intensely competitive, fragmented, rapidly changing and significantly affected by new product introductions. We face competition in the CRM market primarily from front-office software application vendors, large enterprise software vendors and our potential customers’ information technology departments, which may seek to develop proprietary CRM systems. The dominant competitor in our industry is Siebel Systems, Inc., which holds a significantly greater percentage of the CRM market than we do. Other companies with which we compete include, but are not limited to, Amdocs Limited, BroadVision, Inc., E.piphany, Inc., Kana Communications, Inc., Oracle Corporation, PeopleSoft, Inc., Pivotal Corporation and SAP AG. Microsoft Corporation recently released its version of a new CRM product. As a result, we are starting to compete with Microsoft in the CRM market.

In addition, as we develop new products, including new product versions operating on new platforms, we may begin competing with companies with whom we have not previously competed. It is also possible that new competitors will enter the market. In 2002, we experienced an increase in competitive pressures in our market, which has resulted in enhanced pricing competition among our competitors. A continued increase in competitive pressures in our market or our failure to compete effectively may result in pricing reductions, reduced gross margins and loss of market share. Many of our competitors have longer operating histories, greater name recognition, larger customer bases and significantly greater financial, technical, marketing and other resources than we do. Furthermore, we believe that there may be ongoing consolidation among our competitors. For example, on October 8, 2003, Pivotal announced that it had entered into a definitive agreement to be acquired by Talisma Corporation, a privately-held CRM company, in a cash transaction financed by Oak Investment Partners. On November 12, 2002, we announced an unsolicited proposal to acquire Pivotal in a stock-for-stock transaction. As a result of consolidation among our competitors, our competitors may be able to adapt more quickly to new technologies and customer needs, devote greater resources to promoting or selling their products and services, initiate and withstand substantial price competition, take advantage of acquisition or other strategic opportunities more readily or develop and expand their product and service offerings more quickly than we can. In addition, our competitors may form strategic relationships with each other and with other companies in attempts to compete more successfully against us. These relationships may take the form of strategic investments, joint marketing agreements, licenses or other contractual arrangements, any of which may increase our competitors’ ability, relative to ours, to address customer needs with their software and service offerings and that may enable them to rapidly increase their market share.

If we do not retain our key employees and management team, and integrate our new senior management personnel, our ability to execute our business strategy will be limited.

Our future performance will depend largely on the efforts and abilities of our key technical, sales, customer support and managerial personnel and on our ability to attract and retain them. In addition, our ability to execute our business strategy will depend on our ability to recruit additional experienced management personnel and to retain our existing executive officers. The competition for qualified personnel in the computer software and technology markets is particularly intense. We have in the past experienced difficulty in hiring qualified technical, sales, customer support and managerial personnel, and we may be unable to attract and retain such personnel in the future. In addition, due to the intense competition for qualified employees, we may be required to increase the level of compensation paid to existing and new employees, which could materially increase our operating expenses. Our key employees are not obligated to continue their employment with us and could leave at any time.

The market price of our common stock has fluctuated substantially since our initial public offering in February 1999. Consequently, potential employees may perceive our equity incentives such as stock options as less attractive, and current employees whose options are no longer priced below market value may choose not to remain employed by us. In that case, our ability to attract or retain employees will be adversely affected.

We have been named as a defendant in securities class actions and other litigation, and have received other claims, that could result in substantial costs and divert management’s attention and resources.

We, several of our officers and directors and Dain Rauscher Wessels have been named as defendants in a series of related lawsuits filed in the United States District Court for the Western District of Washington on behalf of purchasers of publicly traded Onyx common stock during various time periods. The consolidated amended complaint in these lawsuits alleges that we violated the Securities Act of 1933, or Securities Act, and the Securities Exchange Act of 1934, or Exchange Act, and seeks certification of a class action for purchasers of Onyx common stock in Onyx’s February 12, 2001 public offering and on the open market during the period January 23, 2001 through July 24, 2001. In addition, a shareholder to which we issued shares in the first quarter of 2001 has claimed that we made certain misrepresentations and omissions and otherwise violated the securities laws. None of the complaints or claims specifies the amount of damages to be claimed.

Onyx, one of its officers and one of its former officers have also been named as defendants in a lawsuit filed in the United States District Court for the Southern District of New York on behalf of purchasers through December 6, 2000 of Onyx common stock sold under the February 12, 1999 registration statement and prospectus for our initial public offering. The complaint alleges that Onyx and the individual defendants violated the Securities Act by failing to disclose excessive commissions allegedly obtained by our underwriters pursuant to a secret arrangement whereby the underwriters allocated initial public offering shares to certain investors in exchange for the excessive commissions. The complaint also asserts claims against the underwriters under the Securities Act and the Exchange Act in connection with the allegedly undisclosed commissions.

Onyx’s directors and some of its officers have been named as defendants in a shareholder lawsuit filed in the Superior Court of Washington in and for King County. The complaint alleges that the individual defendants breached their fiduciary duty and their duty of care to Onyx by allegedly failing to supervise Onyx’s public statements and public filings with the SEC. The complaint alleges that, as a result of these breaches, misinformation about Onyx’s financial condition was disseminated into the marketplace and filed with the SEC. The complaint asserts that these actions have exposed Onyx to harmful and costly securities litigation that could potentially result in an award of damages against Onyx.

Onyx intends to vigorously defend itself and, where applicable, its officers and directors against these lawsuits and claims, and believes it has several meritorious defenses and, in certain instances, counterclaims. If we are not successful in our defense of these

claims, however, we could be forced to make significant payments to the plaintiffs and their lawyers and such payments, if not covered by our insurance carriers, could harm our financial condition, operating results and cash flows. Even if these claims are not successful, the litigation could result in substantial costs to Onyx and could divert management’s time and attention away from business operations. The uncertainty associated with this unresolved litigation may also impair our relationships with existing customers and our ability to obtain new customers.

Our solution may not achieve significant market acceptance.

Continued growth in demand for and acceptance of CRM systems remains uncertain. Even if the market for CRM systems grows, businesses may purchase our competitors’ solutions or develop their own. We believe that many of our potential customers are not fully aware of the benefits of CRM systems and that, as a result, CRM systems may not achieve continued market acceptance. We also believe that many of our potential customers perceive the implementation of a CRM system to require a great deal of time, expense and complexity. This perception has been exacerbated by well-publicized failures of certain CRM projects of some of our competitors. This, in turn, has caused some potential customers to approach purchases of CRM systems with caution or to postpone their orders or decline to make a purchase altogether. We have spent, and will continue to spend, considerable resources educating potential customers not only about our solution but also about CRM systems in general. Even with these educational efforts, however, continued market acceptance of our solution may not increase. We will not succeed unless we can educate our target market about the benefits of CRM systems and the cost effectiveness, ease of use and other benefits of our solution.

If potential customers do not accept the Onyx product family, our business will fail.

We rely on one product family for the success of our business. License revenue from the Onyx product family has historically accounted for nearly all of our license revenue. We expect product license revenue from the Onyx product family to continue to account for a substantial majority of our future revenue. As a result, factors adversely affecting the pricing of or demand for the Onyx product family, such as competition or technological change, could dramatically affect our operating results. If we are unable to successfully deploy current versions of the Onyx product family and to develop, introduce and establish customer acceptance of new and enhanced versions of the Onyx product family, our business will fail.

If we are unsuccessful in our attempt to enable our products to operate on multiple platforms, our revenue growth could be limited.

We originally designed our products to operate exclusively on the Windows NT and Microsoft BackOffice platforms. As a result, our primary market has historically been to customers that have developed or are willing to develop their enterprise computing systems around these platforms, which limits our potential sales. We announced the general availability of an Oracle version of Onyx Employee Portal, or OEP, designed to operate on the Unix platform in June 2002. Later in 2002, we also introduced an Oracle version of OEP designed to run on IBM AIX. We cannot predict the degree to which either new product version will achieve market acceptance or the extent to which they will perform as our customers expect. If our new product versions contain defects or errors, or otherwise do not run as expected, their market acceptance may be delayed or limited, and our reputation may be damaged. Further, if our new product versions do not achieve general market acceptance, our revenue growth will be limited. We believe that our ability to effectively expand our business into large enterprises depends in part on the successful release and market acceptance of our new platform versions. If we are unable to expand into large enterprises, the growth of our business and our revenue will be limited. Moreover, enabling our products to run on multiple platforms could lengthen the development cycle, thus delaying the release date of future product versions or new products, which could further restrict our revenue growth.

Privacy and security concerns, particularly related to the use of our software on the Internet, may limit the effectiveness of and reduce the demand for our solution.

The effectiveness of our solution relies on the storage and use of customer data collected from various sources, including information derived from customer registrations, billings, purchase transactions and surveys. The collection and use of such data by our customers for customer profiling may raise privacy and security concerns. Our customers generally have implemented security measures to protect customer data from disclosure or interception by third parties. These security measures may not, however, be effective against all potential security threats. If a well-publicized breach of customer data security were to occur, our solution may be perceived as less desirable, which could limit our revenue growth.

In addition, due to privacy concerns, some Internet commentators, consumer advocates and governmental or legislative bodies have suggested legislation to limit the use of customer profiling technologies. The European Union and some European countries have already adopted some restrictions on the use of customer profiling data. If major countries or regions adopt legislation or other restrictions on the use of customer profiling data, our solution would be less useful to customers, and our sales could decrease.

We may be unable to efficiently restructure or expand our sales organization, which could harm our ability to expand our business.

To date, we have sold our solution primarily through our direct sales force. As a result, our future revenue growth will depend in large part on recruiting, training and retaining direct sales personnel and expanding our indirect distribution channels. These indirect channels include VARs, VSPs, original equipment manufacturer, or OEM, partners, system integrators and consulting firms. We have experienced and may continue to experience difficulty in recruiting qualified direct sales personnel and in establishing third-party relationships with VARs, VSPs, OEM partners, systems integrators and consulting firms.

In April 2003, we eliminated two significant sales positions: Senior Vice President of the Americas and one of our regional sales management positions in North America. We do not plan to hire individuals in either of these positions in the near term. Our sales organization for the Americas has been realigned and is now headed by an executive who has been with Onyx since 1995. This executive has past experience managing Onyx’s global sales organization. The restructuring of the management of our sales organization for the Americas may result in some disruption in our sales activities in this market and in turn, reduce our sales or limit our sales growth.

If our customers cannot successfully implement our products in a timely manner, demand for our solution will be limited.

The implementation of our products involves a significant commitment of resources by prospective customers. Our customers frequently deploy our products to large numbers of sales, marketing and customer service personnel, who may not accept our products. Our products are also used with a number of third-party software applications and programming tools. This use may present significant technical challenges, particularly as large numbers of personnel attempt to use our software concurrently. If an implementation is not successful, we may be required to deliver additional consulting services free of charge in order to remedy the problem. If our customers have difficulty deploying our software or for any other reason are not satisfied with our software, our operating results and financial condition may be harmed.

Rapid changes in technology could render our products obsolete or unmarketable, and we may be unable to introduce new products and services successfully and in a timely manner.

The CRM market is characterized by rapid change due to changing customer needs, rapid technological developments and advances introduced by competitors. Existing products can become obsolete and unmarketable when products using new technologies are introduced and new industry standards emerge. New technologies could change the way CRM systems are sold or delivered. We may also need to modify our products when third parties change software that we integrate into our products. As a result, the life cycles of our products are difficult to estimate.

To be successful, we must continue to enhance our current product line and develop new products that successfully respond to changing customer needs, technological developments and competitive product offerings. We may not be able to successfully develop or license the applications necessary to respond to these changes, or to integrate new applications with our existing products. We have delayed enhancements or new product release dates several times in the past, and may be unable to introduce enhancements or new products successfully or in a timely manner in the future. If we delay release of our products and product enhancements, or if they fail to achieve market acceptance when released, it could harm our reputation and our ability to attract and retain customers, and our revenue may decline. In addition, customers may defer or forego purchases of our products if we, our competitors or major technology vendors introduce or announce new products or product enhancements.

If we do not expand our international operations and successfully overcome the risks inherent in international business activities, the growth of our business will be limited.

To be successful in the long term, we will need to expand our international operations. This expansion may be delayed as a result of our recent operating expense reduction measures and general economic conditions. If we do expand internationally, it will require significant management attention and financial resources to successfully translate and localize our software products to various

languages and to develop direct and indirect international sales and support channels. Even if we successfully translate our software and develop new channels, we may not be able to maintain or increase international market demand for our solution. We, or our VARs or VSPs, may be unable to sustain or increase international revenues from licenses or from consulting and customer support. In addition, our international sales are subject to the risks inherent in international business activities, including

• costs of customizing products for foreign countries;

• export and import restrictions, tariffs and other trade barriers;

• the need to comply with multiple, conflicting and changing laws and regulations;

• reduced protection of intellectual property rights and increased liability exposure; and

• regional economic, cultural and political conditions, including the direct and indirect effects of terrorist activity and armed conflict in countries in which we do business.

As noted above, Onyx Japan was profitable in the third quarter of 2003, however, Onyx Japan incurred substantial losses in previous periods. The minority shareholders’ capital account balance at of September 30, 2003 was $35,000. Additional Onyx Japan losses above approximately $84,000 in the aggregate will be absorbed 100% by Onyx, as compared to 58% in prior periods. Although restructuring efforts carried out in the second half of 2002 significantly reduced the operating expenses of Onyx Japan and increased the probability that Onyx Japan can be cash flow positive, as evidenced by the profits generated by Onyx Japan in the third quarter of 2003, additional funding may be required to continue the operation of the joint venture. Our joint venture partners are not obligated to participate in any capital call and have indicated that they do not currently intend to invest additional sums in Onyx Japan. We are, however, discussing other ways our partners can assist Onyx Japan. If Onyx Japan incurs losses in future periods and no additional capital is invested, we may have to further restructure Onyx Japan’s operations.

Our foreign subsidiaries operate primarily in local currencies, and their results are translated into U.S. dollars. We do not currently engage in currency hedging activities, but we may do so in the future. Changes in the value of the U.S. dollar relative to foreign currencies have not materially affected our operating results in the past. Our operating results could, however, be materially harmed if we enter into license or other contractual agreements involving significant amounts of foreign currencies with extended payment terms if the values of those currencies fall in relation to the U.S. dollar over the payment period.

If we are unable to develop and maintain effective long-term relationships with our key partners, or if our key partners fail to perform, our ability to sell our solution will be limited.

We rely on our existing relationships with a number of key partners, including consulting firms, system integrators, VARs, VSPs and third-party technology vendors, that are important to worldwide sales and marketing of our solution. We expect an increasing percentage of our revenue to be derived from sales that arise out of our relationships with these key partners. Key partners often provide consulting, implementation and customer support services, and endorse our solution during the competitive evaluation stage of the sales cycle.

Although we seek to maintain relationships with our key partners, and to develop relationships with new partners, many of these existing and potential key partners have similar, and often more established, relationships with our competitors. These existing and potential partners, many of which have significantly greater resources than we have, may in the future market software products that compete with our solution or reduce or discontinue their relationships with us or their support of our solution. In addition, our sales will be limited if

• we are unable to develop and maintain effective, long-term relationships with existing and potential key partners;

• our existing and potential key partners endorse a product or technology other than our solution;

• we are unable to adequately train a sufficient number of key partners; or

• our existing and potential key partners do not have or do not devote the resources necessary to implement our solution.

We may be unable to adequately protect our proprietary rights, which may limit our ability to compete effectively.

Our success depends in part on our ability to protect our proprietary rights. To protect our proprietary rights, we rely primarily on a combination of copyright, trade secret and trademark laws, confidentiality agreements with employees and third parties, and protective contractual provisions such as those contained in license agreements with consultants, vendors and customers, although we have not signed these agreements in every case. Despite our efforts to protect our proprietary rights, unauthorized parties may copy aspects of our products and obtain and use information that we regard as proprietary. Other parties may breach confidentiality agreements and other protective contracts we have entered into, and we may not become aware of, or have adequate remedies in the event of, a breach. We face additional risk when conducting business in countries that have poorly developed or inadequately enforced intellectual property laws. While we are unable to determine the extent to which piracy of our software products exists, we expect piracy to be a continuing concern, particularly in international markets and as a result of the growing use of the Internet. In any event, competitors may independently develop similar or superior technologies or duplicate the technologies we have developed, which could substantially limit the value of our intellectual property.

Intellectual property claims and litigation could subject us to significant liability for damages and result in invalidation of our proprietary rights.

In the future, we may have to resort to litigation to protect our intellectual property rights, to protect our trade secrets or to determine the validity and scope of the proprietary rights of others. Any litigation, regardless of its success, would probably be costly and require significant time and attention of our key management and technical personnel. Although we have not been sued for intellectual property infringement, we may face infringement claims from third parties in the future. The software industry has seen frequent litigation over intellectual property rights, and we expect that participants in the industry will be increasingly subject to infringement claims as the number of products, services and competitors grows and the functionality of products and services overlaps. Infringement litigation could also force us to

• stop or delay selling, incorporating or using products that incorporate the challenged intellectual property;

• pay damages;

• enter into licensing or royalty agreements, which may be unavailable on acceptable terms; or

• redesign products or services that incorporate infringing technology, which we might not be able to do at an acceptable price, in a timely fashion or at all.

Our products may suffer from defects or errors, which could result in loss of revenues, delayed or limited market acceptance of our products, increased costs and reputational damage.

Software products as complex as ours frequently contain errors or defects, especially when first introduced or when new versions are released. Our customers are particularly sensitive to such defects and errors because of the importance of our solution to the day-to-day operation of their businesses. We have had to delay commercial release of past versions of our products until software problems were corrected, and in some cases have provided product updates to correct errors in released products. Our new products or releases, including any new or limited Oracle versions of our product that may be generally released, may not be free from errors after commercial shipments have begun. Any errors that are discovered after commercial release could result in loss of revenues or delay in market acceptance, diversion of development resources, damage to our reputation, increased service and warranty costs or claims against us.

In addition, the operation of our products could be compromised as a result of errors in the third-party software we incorporate into our software. It may be difficult for us to correct errors in third-party software because that software is not in our control.

You may be unable to resell your shares at or above the price at which you purchased them, and our stock price may be volatile.

Since our initial public offering in February 1999, the price of our common stock has been volatile, particularly in the last year. Our common stock, on a split-adjusted basis, reached a high of $176.00 per share on March 6, 2000 and traded as low as $2.24 per share on April 30, 2003. As a result of fluctuations in the price of our common stock, you may be unable to sell your shares at or

above the price at which you purchased them. The trading price of our common stock could be subject to fluctuations for a number of reasons, including

• future announcements concerning us or our competitors;

• actual or anticipated quarterly variations in operating results;

• changes in analysts’ earnings projections or recommendations;

• announcements of technological innovations;

• the introduction of new products;

• changes in product pricing policies by us or our competitors;.

• proprietary rights litigation or other litigation;

• changes in accounting standards that adversely affect our revenues and earnings; or

• significant trading activity by shareholders with large holdings in our common stock.

In addition, future sales of substantial numbers of shares of our common stock in the public market, or the perception that these sales could occur, could adversely affect the market price of our common stock.

Stock prices for many technology companies fluctuate widely for reasons that may be unrelated to operating results of these companies. These fluctuations, as well as general economic, market and political conditions, such as national or international currency and stock market volatility, recessions or military conflicts, may materially and adversely affect the market price of our common stock, regardless of our operating performance and may expose us to class action securities litigation which, even if unsuccessful, would be costly to defend and distracting to management.

Our articles of incorporation and bylaws and Washington law contain provisions that could discourage a takeover.

Certain provisions of our restated articles of incorporation and bylaws, our shareholder rights plan and Washington law would make it more difficult for a third party to acquire us, even if doing so would be beneficial for our shareholders. This could limit the price that certain investors might be willing to pay in the future for shares of our common stock. For example, certain provisions of our articles of incorporation or bylaws

• stagger the election of our board members so that only one-third of our board is up for reelection at each annual meeting;

• allow our board to issue preferred stock without any vote or further action by the shareholders;

• eliminate the right of shareholders to act by written consent without a meeting, unless the vote to take the action is unanimous;

• eliminate cumulative voting in the election of directors;

• specify a minimum threshold for shareholders to call a special meeting;

• specify that directors may be removed only with cause; and

• specify a supermajority requirement for shareholders to change those portions of our articles that contain the provisions described above.

In October 1999, we adopted a shareholder rights plan, which is triggered upon commencement or announcement of a hostile tender offer or when any one person or group acquires 15% or more of our common stock. Once triggered, the rights plan would result in the issuance of preferred stock to the holders of our common stock other than the acquirer. The holders of this preferred stock

would be entitled to ten votes per share on corporate matters. In addition, these shareholders receive rights under the rights plan to purchase our common stock, and the stock of the entity acquiring us, at reduced prices.

We are also subject to certain provisions of Washington law that could delay or make more difficult a merger, tender offer or proxy contest involving us. In particular, Chapter 23B.19 of the Washington Business Corporation Act prohibits corporations based in Washington from engaging in certain business combinations with any interested shareholder for a period of five years unless specific conditions are met.

These provisions of our articles of incorporation, bylaws and rights plan and Washington law could have the effect of delaying, deferring or preventing a change in control of Onyx, including, without limitation, discouraging a proxy contest or making more difficult the acquisition of a substantial block of our common stock. The provisions could also limit the price that investors might be willing to pay in the future for shares of our common stock.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

We are exposed to financial market risks, including changes in interest rates and foreign currencies.

Interest Rate Risk

We typically do not attempt to reduce or eliminate our market exposures on our investment securities because all of our investments are short-term in nature and are classified as cash equivalents as of September 30, 2003. Due to the short-term nature of these investments, their fair value would not be significantly impacted by either a 100 basis point increase or decrease in interest rates. We do not use any hedging transactions or any financial instruments for trading purposes and we are not a party to any leveraged derivatives.

Foreign Currency Risk

In 2002, international revenue accounted for 36% of our consolidated revenue and in the first nine months of 2003, international revenue accounted for 41% of our consolidated revenue. International revenue, as well as most of the related expenses incurred, is denominated in the functional currencies of the corresponding country. Results of operations from our foreign subsidiaries are exposed to foreign currency exchange rate fluctuations as the financial results of these subsidiaries are translated into U.S. dollars upon consolidation. As exchange rates vary, revenues and other operating results, when translated, may differ materially from expectations. The effect of foreign exchange transaction gains and losses were not material to Onyx during the first six months of 2003 or in prior fiscal years.

At September 30, 2003, we were also exposed to foreign currency risk related to the current assets and current liabilities of our foreign subsidiaries, in particular, our consolidated joint venture denominated in Yen. Cumulative unrealized translation losses related to the consolidation of Onyx Japan amounted to $475,000 at September 30, 2003, which was offset in part by cumulative unrealized translation gains related to the consolidation of our other foreign subsidiaries, resulting in net consolidated cumulative unrealized translation gains of $46,000.

Although we have not engaged in foreign currency hedging to date, we may do so in the future.

Item 4. Controls and Procedures

Evaluation of disclosure controls and procedures

Our chief executive officer and our chief financial officer, after evaluating the effectiveness of our “disclosure controls and procedures” (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report, have concluded that as of that date, our disclosure controls and procedures were effective in ensuring that information required to be disclosed by us in this quarterly report is accumulated and communicated by our management, to allow timely decisions regarding required disclosure.

Changes in internal controls

There have been no changes in our internal control over financial reporting that occurred during the period covered by this quarterly report that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.

PART II—OTHER INFORMATION

Item 4. Submission of Matters to a Vote of Security Holders

Onyx held its 2003 Annual Meeting of Shareholders on July 23, 2003 at Onyx’s corporate headquarters in Bellevue, Washington. A total of 52,557,318 shares of common stock (representing 94.96% of the outstanding shares of common stock) were present at the meeting, either in person or represented by proxy, which constituted a quorum for purposes of the meeting, and voted as follows:

(1) Elect one Class 3 director to Onyx’s board of directors for a three-year term.

The incumbent Class 3 director who stood for reelection was elected with the following voting results.


Nominee	Votes for		Votes Withheld

Brent R. Frei		50,267,766		2,289,552

(2) Reapprove Onyx’s 1998 Stock Incentive Compensation Plan, as amended and restated solely to impose limits on the number of shares that may be granted under the plan to any single employee in any single fiscal year.


For			48,711,614
Against			3,808,874
Abstain			36,830

(3) Approve an amendment to Onyx’s Amended and Restated Articles of Incorporation effecting a one-for-four reverse stock split and increasing the number of authorized shares of Onyx’s stock after the reverse stock split from 25,000,000 shares (including 20,000,000 shares of common stock and 5,000,000 shares of preferred stock) to 100,000,000 shares (including 80,000,000 shares of common stock and 20,000,000 shares of preferred stock).


For			37,379,281
Against			1,899,946
Abstain			31,208

Item 5. Other Information

On November 12, 2003, we announced an unsolicited proposal to acquire Pivotal Corporation by way of a business combination in a stock-for-stock transaction. Under the terms of the proposal which was submitted by letter to the Pivotal Board of Directors on November 12, 2003, the companies would be combined on the basis of 0.475 shares of Onyx common stock for each common share of Pivotal Corporation, or approximately 12.5 million shares of Onyx common stock. The approximate price per Pivotal common share is $2.25 based on the $4.73 closing price of Onyx common stock on November 11, 2003. On October 8, 2003, Pivotal announced that it had entered into a definitive agreement to be acquired by Talisma Corporation in a cash transaction financed by Oak Investment Partners valued at $1.78 per share.

Item 6. Exhibits and Reports on Form 8-K

(a) Exhibits


Number		Description

3.1		Restated Articles of Incorporation of the registrant (filed herewith)

3.2		Amended and Restated Bylaws of the registrant (exhibit 3.2)(a)

4.1		Rights Agreement dated October 25, 1999 between the registrant and ChaseMellon Shareholder Services LLC (exhibit 2.1)(b)

4.2		Amendment No. 1 to Rights Agreement dated March 5, 2003 between the registrant and Mellon Investor Services LLC (exhibit 4.1)(c)

31.1		Certification of Chief Executive Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as amended

31.2		Certification of Chief Financial Officer pursuant to Rules 13a-14(a) and 15d-14(a) under the Securities Exchange Act of 1934, as amended

32.1		Certification of Chief Executive Officer furnished pursuant to Rules 13a-14(b) and 15d-14(b) under the Securities Exchange Act of 1934, as amended, and 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2		Certification of Chief Financial Officer furnished pursuant to Rules13a-14(b) and 15d-14(b) under the Securities Exchange Act of 1934, as amended, and 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

(a) Incorporated by reference to the designated exhibit to the registrant’s Quarterly Report on Form 10-Q (No. 0-25361) for the quarter ended March 31, 2001.

(b) Incorporated by reference to the designated exhibit to the registrant’s registration statement on Form 8-A (No. 0-25361) filed October 28, 1999.

(c) Incorporated by reference to the designated exhibit to the registrant’s Annual Report on Form 10-K (No. 0-25361) for the year ended December 31, 2002.

(b) Current Reports on Form 8-K

On July 25, 2003, we furnished a current report on Form 8-K announcing a 1-for-4 reverse stock split of all outstanding shares of common stock approved at our annual shareholders meeting held on July 23, 2003.

On July 29, 2003 we furnished a current report on Form 8-K announcing our financial results for the quarter ended June 30, 2003.

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.


	ONYX SOFTWARE CORPORATION (Registrant)

Date: November 14, 2003	By:	/s/ Brent R. Frei

		Brent R. Frei
		Chief Executive Officer and
		Chairman of the Board
		(Principal Executive Officer)

Date: November 14, 2003	By:	/s/ Brian C. Henry

		Brian C. Henry
		Executive Vice President and
		Chief Financial Officer
		(Principal Financial Officer)

Date: November 14, 2003	By:	/s/ Amy E. Kelleran

		Amy E. Kelleran
		Vice President Finance,
		Corporate Controller and
		Assistant Secretary
		(Principal Accounting Officer)

•		information concerning possible or assumed future results of operations, trends in financial results and business plans, including those relating to earnings growth and revenue growth;

•		statements about the level of our costs and operating expenses relative to our revenues, and about the expected composition of our revenues;

•		statements about our future capital requirements and the sufficiency of our cash, cash equivalents, investments and available bank borrowings to meet these requirements;

•		information about the anticipated release dates of new products;

•		statements about the expected costs and timing of terminating our excess facility commitments;

•		statements about the proposed acquisition of Pivotal and the expected costs and benefits of the acquisition;

•		other statements about our plans, objectives, expectations and intentions; and

•		other statements that are not historical facts.

•		Revenue of $15.4 million, down 19% from the third quarter of 2002 and down 3% from the second quarter of 2003;

•		License revenue of $3.6 million, down 50% from the third quarter of 2002 and up 16% from the second quarter of 2003;

•		Service revenue of $11.8 million, consistent with service revenue from the third quarter of 2002 and down 7% from the second quarter of 2003;

•		Service margins of 55%, down from 58% in the third quarter of 2002 and down from 57% in the second quarter of 2003;

•		Operating expenses, excluding acquisition-related amortization, stock compensation and restructuring charges, of $9.4 million, down from $13.8 million in the third quarter of 2002 and down from $10.1 million in the second quarter of 2003;

•		Revenue for the first nine months of 2003 of $45.4 million, down 13% from the first nine months of 2002;

•		License revenue for the first nine months of 2003 of $9.4 million, down 44% from the first nine months of 2002;

•		Service revenue for the first nine months of 2003 of $36.0 million, up 2% from the first nine months of 2002;

•		Service margins for the first nine months of 2003 of 55%, down from 57% for the first nine months of 2002;

•		Operating expenses, excluding acquisition-related amortization, stock compensation and restructuring charges, for the first nine months of 2003 of $31.4 million, down from $39.8 million for the first nine months of 2002;

•		Cash and restricted cash balances of $12.0 million at September 30, 2003, down from $13.9 million at June 30, 2003 and down from $19.3 million at December 31, 2002; and

•		Days sales outstanding, based on end of period receivable balances, at 74 days compared to 59 days in the third quarter of 2002 and 74 days in the second quarter of 2003.

•		successful rebuilding of our direct sales force;

•		managing our costs to allow our return to profitability and allow us to preserve our cash;

•		sales management aimed at focusing our resources and efforts on the opportunities with the highest probability of success;

•		maximizing the value of our partnerships with key system integration and technology vendors, particularly as it relates to our Embedded CRM initiative and our key vertical industries;

•		aggressive marketing of our recent major product releases on the Windows NT/Microsoft BackOffice and Oracle/Unix platforms; and

•		maintaining high customer satisfaction levels.

•		general economic conditions, which may affect our customers’ capital investment levels in management information systems and the timing of their purchases;

•		rate of market acceptance of our CRM solution;

•		budget and spending decisions by our prospective and existing customers;

•		customers’ and prospects’ decisions to defer orders or implementations, particularly large orders or implementations, from one quarter to the next, or to proceed with smaller-than-forecasted orders or implementations;

•		level of purchases by our existing customers, including additional license and maintenance revenues;

•		our ability to enable our products to operate on multiple platforms;

•		our ability to compete in the highly competitive CRM market;

•		the loss of any key technical, sales, customer support or management personnel and the timing of any new hires;

•		our ability to develop, introduce and market new products and product versions on a timely basis;

•		variability in the mix of our license versus service revenue, the mix of our direct versus indirect license revenue and the mix of services that we perform versus those performed by third-party service providers;

•		our ability to successfully expand our operations, and the amount and timing of expenditures related to this expansion; and

•		the cost and financial accounting effects of any acquisitions of companies or complementary technologies that we may complete.

•		our sales cycles are lengthy and variable, typically ranging between six and eighteen months from our initial contact with a potential customer to the signing of a license agreement, although the sales cycle varies substantially from customer to customer, and occasionally sales require substantially more time;

•		a substantial portion of our sales are completed at the end of the quarter and, as a result, a substantial portion of our license revenue is recognized in the last month of a quarter, and often in the last weeks or days of a quarter;

•		in recent quarters, the contracting process of our sales cycle has taken more time than we have historically experienced;

•		the amount of unfulfilled orders for our products at the beginning of a quarter is small because our products are typically shipped shortly after orders are received; and

•		delay of new product releases can result in a customer’s decision to delay execution of a contract or, for contracts that include the new release as an element of the contract, will result in deferral of revenue recognition until such release.

•		no history of sustained profitability;

•		uncertain growth in the market for, and uncertain market acceptance of, our solution;

•		reliance on one product family;

•		the risk that competition, technological change or evolving customer preferences, such as preferences for different computing platforms, could harm sales of our solution;

•		the need to implement our sales, marketing and after-sales service initiatives, both domestically and internationally;

•		the need to execute our product development activities;

•		dependence on a limited number of key technical, customer support, sales and managerial personnel; and

•		the risk that our management will be unable to effectively manage growth, a downturn or any acquisition we may undertake.

•		integration of operations, including combining teams and processes in various functional areas;

•		restructuring costs for reorganization or closure of operations and facilities;

•		integration of new technology into our products;

•		fees and expenses of professionals involved in completing the integration process; and

•		potential existing liabilities of Pivotal or any future acquisition target.

•		costs of customizing products for foreign countries;

•		export and import restrictions, tariffs and other trade barriers;

•		the need to comply with multiple, conflicting and changing laws and regulations;

•		reduced protection of intellectual property rights and increased liability exposure; and

•		regional economic, cultural and political conditions, including the direct and indirect effects of terrorist activity and armed conflict in countries in which we do business.

•		we are unable to develop and maintain effective, long-term relationships with existing and potential key partners;

•		our existing and potential key partners endorse a product or technology other than our solution;

•		we are unable to adequately train a sufficient number of key partners; or

•		our existing and potential key partners do not have or do not devote the resources necessary to implement our solution.

•		stop or delay selling, incorporating or using products that incorporate the challenged intellectual property;

•		pay damages;

•		enter into licensing or royalty agreements, which may be unavailable on acceptable terms; or

•		redesign products or services that incorporate infringing technology, which we might not be able to do at an acceptable price, in a timely fashion or at all.

•		future announcements concerning us or our competitors;

•		actual or anticipated quarterly variations in operating results;

•		changes in analysts’ earnings projections or recommendations;

•		announcements of technological innovations;

•		the introduction of new products;

•		changes in product pricing policies by us or our competitors;.

•		proprietary rights litigation or other litigation;

•		changes in accounting standards that adversely affect our revenues and earnings; or

•		significant trading activity by shareholders with large holdings in our common stock.

•		stagger the election of our board members so that only one-third of our board is up for reelection at each annual meeting;

•		allow our board to issue preferred stock without any vote or further action by the shareholders;

•		eliminate the right of shareholders to act by written consent without a meeting, unless the vote to take the action is unanimous;

•		eliminate cumulative voting in the election of directors;

•		specify a minimum threshold for shareholders to call a special meeting;

•		specify that directors may be removed only with cause; and

•		specify a supermajority requirement for shareholders to change those portions of our articles that contain the provisions described above.

	(1)		Elect one Class 3 director to Onyx’s board of directors for a three-year term.

			The incumbent Class 3 director who stood for reelection was elected with the following voting results.

(a)		Incorporated by reference to the designated exhibit to the registrant’s Quarterly Report on Form 10-Q (No. 0-25361) for the quarter ended March 31, 2001.

(b)		Incorporated by reference to the designated exhibit to the registrant’s registration statement on Form 8-A (No. 0-25361) filed October 28, 1999.

(c)		Incorporated by reference to the designated exhibit to the registrant’s Annual Report on Form 10-K (No. 0-25361) for the year ended December 31, 2002.