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SECURITIES AND EXCHANGE
COMMISSION

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2003

OR

FROM            TO            .

COMMISSION FILE NUMBER 0-28121

RETEK INC.

(Address, including zip code, and telephone number, including area code, of Registrant’s Principal Executive Offices)

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

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

     As of November 4, 2003, the number of shares of the Registrant’s common stock outstanding was 54,644,309

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RETEK INC.
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2003
INDEX

SPECIAL NOTE REGARDING FORWARD-LOOKING INFORMATION

     This Quarterly Report on Form 10-Q contains forward-looking statements in “Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Item 3 - Quantitative and Qualitative Disclosures About Market Risk,” and elsewhere. These statements relate to future events or our future financial performance. In some cases, forward-looking statements may be identified by terminology such as “may,” “will,” “should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” “continue” or the negative of these terms or other comparable terminology. These statements are only predictions and involve known and unknown risks, uncertainties and other factors that may cause our or our industry’s actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements. Such risks, uncertainties and other factors include, among other things, the matters described in “Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations - Factors that May Impact Future Results of Operations.”

     Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of these statements. We are under no duty to update any of the forward-looking statements after the date of this Quarterly Report on Form 10-Q to conform these statements to actual future results.

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PART I - FINANCIAL INFORMATION

ITEM 1: FINANCIAL STATEMENTS

Retek Inc.
Consolidated Balance Sheet
(in thousands, except per share data)
(Unaudited)

See accompanying notes to consolidated financial statements.

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Retek Inc.
Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)

See accompanying notes to consolidated financial statements.

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Retek Inc.
Consolidated Statements of Cash Flows
(in thousands)
(unaudited)

See accompanying notes to consolidated financial statements.

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RETEK INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - The Company and its Significant Accounting Policies

The Company

     Retek Inc. and its wholly owned subsidiaries, Retek Information Systems, Inc., Retek International, Inc. and HighTouch Technologies, Inc. (“we” “us” or the “Company”), develop application software that provides a complete information infrastructure solution to the global retail industry. We provide innovative technology solutions that help retailers create, manage and fulfill consumer demand. Our solutions and services have been developed specifically to meet the needs of the retail industry. We believe the processes and methodologies embedded in our solutions reflect the best retail practices of our customers and partners. By supporting core retail business processes, our solutions help retailers improve the efficiency of their operations and build stronger relationships with their customers. We are headquartered in Minneapolis, Minnesota.

Basis of Presentation

     We have prepared the accompanying interim consolidated financial statements, without audit, in accordance with the instructions to Form 10-Q and, therefore, the accompanying interim consolidated financial statements do not necessarily include all information and footnotes necessary for a fair presentation of our financial position, results of operations and cash flows in accordance with accounting principles generally accepted in the United States of America.

     We believe the accompanying unaudited financial information for interim periods presented reflects all adjustments consisting only of normal recurring adjustments, except for any discussed in the notes below, necessary for a fair presentation. These consolidated financial statements and notes thereto should be read in conjunction with our audited financial statements and notes thereto presented in our Annual Report on Form 10-K for the year ended December 31, 2002. The interim financial information contained in this Quarterly Report on Form 10-Q is not necessarily indicative of the results to be expected for any other interim period or for an entire year.

Reclassifications

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

Financial Statement Preparation

     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 the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

Note 2 - Stock-Based Compensation

     We measure compensation expense for our employee stock-based compensation awards using the intrinsic value method and provide pro forma disclosures of net income (loss) and earnings (loss) per share as if a fair value method had been applied. Therefore, compensation cost for employee stock awards is measured as the excess, if any, of the fair value of our common stock at the grant date over the amount an employee must pay to acquire the stock and is amortized over the related service periods using the straight-line method. Compensation expense previously recorded for unvested employee stock-based compensation awards that are forfeited upon employee termination is reversed in the period of forfeiture.

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     The following table compares net loss and loss per share as reported to the pro forma amounts that would be reported had compensation expense been recognized for our stock-based compensation plans in accordance with the fair value recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation as amended by SFAS No. 148, Accounting for Stock-Based Compensation - Transition Disclosure, issued in December 2002 (in thousands except per share amounts):

Note 3 - Per Share Data

     Basic earnings per share is calculated using the weighted average common shares outstanding during the period. Diluted earnings per share is computed on the basis of the weighted average basic shares outstanding plus the dilutive effect of outstanding stock options and warrants using the treasury stock method.

     For the three and nine months ended September 30, 2003, the calculation of diluted earnings per share excludes the impact of the potential exercise of 12,467 stock options and warrants outstanding because their effect would be anti-dilutive. For the three and nine months ended September 30, 2002, the calculation of diluted earnings per share excludes the impact of the potential exercise of 11,001 stock options and warrants outstanding because the effect would be anti-dilutive.

Note 4 - Asset Acquisition

     On March 31, 2002, we acquired the intellectual property of Chelsea Market Systems, LLC (“Chelsea”) and certain other assets and liabilities for a net cash purchase price of $8.9 million, of which $8.9 million has been allocated to purchased software, an intangible asset. This purchased software is stated at the lower of cost or net realizable value and is being amortized over 36 months.

Note 5 - Contingencies

Federal Litigation in the U.S. District Court for the Southern District of New York

     Between June 11 and June 26, 2001, three class action complaints alleging violations of Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), were filed in the Southern District of New York against us, certain of our current and former officers and directors, and certain underwriters of our initial public offering (“IPO”). On August 9, 2001, these actions were consolidated for pre-trial purposes before a single judge along with similar actions involving the initial public offerings of numerous other issuers.

     On February 14, 2002, the parties signed and filed a stipulation dismissing the consolidated action without prejudice against us and the individual officers and directors, which the Court approved and entered as an order on March 1, 2002. On April 20, 2002, the plaintiffs filed an amended complaint in which they elected to proceed with their claims against us and the individual officers and directors only under Sections 10(b) and 20(a) of the Exchange Act. The amended complaint alleges that the prospectus filed in connection with the IPO was false or misleading in that it failed to disclose: (i) that the underwriters allegedly were paid excessive commissions by certain of the underwriters’ customers in return for receiving shares in the IPO and (ii) that certain of the underwriters’

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customers allegedly agreed to purchase additional shares of our common stock in the aftermarket in return for an allocation of shares in the IPO. The complaint further alleges that the underwriters offered to provide positive market analyst coverage for the Company after the IPO, which had the effect of manipulating the market for our stock. Plaintiffs contend that, as a result of the omissions from the prospectus and alleged market manipulation through the use of analysts, the price of our common stock was artificially inflated between November 18, 1999 and December 6, 2000, and that the defendants are liable for unspecified damages to those persons who purchased our common stock during that period.

     On July 15, 2002, the Company and the individual defendants, along with the rest of the issuers and related officer and director defendants, filed a joint motion to dismiss based on common issues. Opposition and reply papers were filed. The Court rendered its decision on February 19, 2003, which granted dismissal in part of a claim against one of the individual defendants and denied dismissal in all other respects.

     On June 30, 2003, a Special Litigation Committee of the Board of Directors of the Company approved a Memorandum of Understanding (the “MOU”) reflecting a settlement in which the plaintiffs agreed to dismiss the case against the Company with prejudice in return for the assignment by the Company of claims that the Company might have against its underwriters. The same offer of settlement was made to all issuer defendants involved in the litigation. No payment to the plaintiffs by the Company is required under the MOU. There can be no assurance that the MOU will result in a formal settlement or that the Court will approve the settlement that the MOU sets forth.

     The Company believes that it and the individual defendants have meritorious defenses to the claims made in the complaint and, if the MOU does not result in a formal settlement approved by the Court, intends to contest the lawsuit vigorously. Securities class action litigation can result in substantial costs and divert our management’s attention and resources, which may have a material adverse effect on our business and results of operations.

Federal Litigation in the U.S. District Court for the District of Minnesota

     Between October 30, 2002 and December 8, 2002, several purported shareholder class action suits were filed in federal district court in Minnesota. The Court has not yet certified any class. The federal court in Minnesota appointed a lead plaintiff and lead plaintiff’s counsel on February 14, 2003. The consolidated complaint (the “Consolidated Complaint”) alleges, among other things, violations of Sections 10(b) and 20(a) of the Exchange Act against us and certain of our current and former officers and directors. Specifically, the Consolidated Complaint alleges that, among other things, between June 19, 2001 and July 8, 2002 (the “Class Period”), defendants made false and misleading statements and/or concealed material adverse facts from the market in press releases, presentations and SEC disclosures. The Consolidated Complaint alleges that our Company and the individual defendants misled the market with respect to, among other things, our alliance with IBM, our ability to develop certain software, and our expectations regarding certain customer sales. Plaintiffs further allege that defendants manipulated financial statements and failed to disclose problems with existing and potential customer deals, which led to the Company’s stock price being artificially inflated during the Class Period. The plaintiffs seek compensatory damages and other unspecified relief. On May 30, 2003, the Company and the individual defendants served a motion to dismiss the Consolidated Complaint. Briefing on the motion is complete. The Court has not yet set a hearing date on the motion.

     We dispute plaintiffs’ allegations in the consolidated federal class actions in Minnesota and believe that the allegations are subject to a variety of meritorious defenses. We intend to establish a vigorous defense. While there can be no assurance, and while the outcome of federal class action litigation cannot be predicted with certainty, our management currently believes that the ultimate outcome of the consolidated federal class action litigation in Minnesota is unlikely to have a material adverse affect on our financial position, results of operations or cash flows. Despite our belief that the consolidated federal class action is without merit, it is possible that the litigation could be resolved adversely. Were the federal court in Minnesota to issue a ruling or rulings unfavorable to us, such ruling or rulings could have a material adverse impact on the results of operations for the period in which the ruling occurs, or in a period thereafter.

State Derivative Litigation in the State of Minnesota, District Court, Hennepin County

     In addition to the above federal litigation, in December 2002 two shareholder derivative lawsuits were filed in state court in Hennepin County, Minnesota, against certain of our current and former officers and directors, naming us as a nominal defendant. Plaintiffs in both derivative cases have agreed to consolidate their respective actions, although the derivative plaintiffs have not yet filed a consolidated derivative complaint. The derivative suits claim that certain of our officers and directors breached their fiduciary duties to us and our stockholders by: (i) selling shares of our common stock while in possession of material adverse non-public

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information regarding our business and prospects, and (ii) disseminating inaccurate information regarding our business and prospects to the market and/or failing to correct such inaccurate information. The derivative complaints seek compensatory and other damages, restitution, disgorgement, and other legal and equitable relief. As stated above, the complaints are brought derivatively on our behalf, and consequently do not seek relief from us. We however, have entered into indemnification agreements in the ordinary course of business with certain of the officer and director defendants and may be obligated throughout the pendency of this action to advance payment of legal fees and costs incurred by those defendants pursuant to our obligations under the indemnification agreements and/or applicable Delaware law.

     While there can be no assurance, our management currently believes that the ultimate outcome of the derivative proceedings will not have a material adverse affect on our financial position, results of operations, or cash flows. However, we are unable to predict with certainty the results of the derivative litigation.

Legal Proceedings that Arise in the Ordinary Course of Business

     In addition to the matters discussed above, we are subject to various legal proceedings and claims that arise in the ordinary course of business. We believe that the resolution of such matters will not have a material impact on our financial position, results of operations or cash flows.

Note 6 - Restructuring and Other

     In the fourth quarter of 2002, we began implementation of a restructuring plan intended to bring our operating expenses in line with expected revenues due to concerns with a weakening global economy and decreasing capital expenditures by retailers. Actions taken included a reduction of our workforce and a reduction in the amount of leased space.

     The restructuring plan includes workforce reductions of 265 employees across most business functions and geographic regions and all employees were notified in 2002 of benefits to be received. We recorded a charge for severance and related benefits of $2.6 million and made payments of $0.9 million in the fourth quarter of 2002. We recorded an additional charge of $0.2 and $0.3 million for the three and nine months ended September 30, 2003, respectively, to reflect adjustments to final severance benefits paid. As of September 30, 2003, all payments had been made to severed individuals.

     We also recorded a net loss on lease abandonment of $17.0 million in the fourth quarter of 2002. In the third quarter of 2003 we recorded a $(0.1) reduction to the estimated lease abandonment charges. The lease abandonment loss recorded in the fourth quarter of 2002 consisted of the payments to be made for the remaining lease term of the abandoned space aggregating $31.1 million, net of estimated sublease income of $14.1 million. Lease terms of the leased space abandoned range from five to eleven years. Management has made its best estimates of expected sublease income over the remaining term of the abandoned leases. The estimated sublease income amount is highly judgmental and includes assumptions regarding the periods of sublease and the price per square foot to be paid by the sublessors. As required by the applicable accounting standards, we will review these estimates each quarter and make adjustments, as necessary, to reflect management’s best estimates.

     The following table sets forth a summary of the restructuring charges, adjustments to the provision, payments made against those charges and the remaining liabilities as of September 30, 2003.

     Related to the lease abandonment charge, we recorded $0.2 and $1.9 million of accelerated depreciation on equipment and leasehold improvements to be abandoned in the three and nine month periods ended September 30, 2003, which is recorded as general and administrative expense.

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Note 7 - Income Taxes

     During the quarter ended September 30, 2002, we determined that it was appropriate to record a full valuation allowance for our deferred tax assets. The establishment of a full deferred tax valuation allowance was determined to be appropriate in light of the magnitude of the revenue decreases in the third quarter of 2002, our operating losses for the three and nine months ended September 30, 2002, our then current expectation of a significant loss for the full year 2002 and the added uncertainty of the market in which we operate. Despite the full valuation allowance, the income tax benefits related to these deferred tax assets will remain available to offset future taxable income.

     The income tax provision for the three and nine months ended September 30, 2003 relates to state and foreign income taxes.

Note 8 - Comprehensive Loss

     The following table presents the calculation of comprehensive loss:

Note 9 - Indemnification Arrangements and Warranty

     We license our software products to customers under end user license agreements and to certain resellers or other business partners under business partner agreements. These agreements generally include certain provisions for indemnifying the customer or business partner against losses, expenses and liabilities from damages that may be awarded against them if our software, or the third party-owned software we resell, is found to infringe a patent, copyright, trademark or other proprietary right of a third party. These agreements generally limit our indemnification obligations based on industry standards and geographical parameters, and give us the right to replace an infringing product. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited; however, we believe our internal development processes and other practices limit our exposure under these indemnification provisions. In addition, the invention and nondisclosure agreements signed by our employees, assign to us various intellectual property rights. We have not incurred significant costs payable to a customer or business partner to defend lawsuits or settle claims related to these indemnification agreements. As a result, management believes the estimated fair value of these agreements is not significant. Accordingly, there are no liabilities recorded for these agreements as of September 30, 2003.

     We enter into services agreements with customers for the implementation of our software. We also may subcontract those services to our business partners. From time to time, we include in those services agreements, certain provisions for indemnifying the customer against losses, expenses and liabilities from those services, including, for example, personal injury or tangible property damage. Lease agreements and other contracts with our vendors may also impose similar indemnification obligations on us for personal injury, tangible property damage or other claims. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited; however, we have general liability and umbrella insurance policies that enable us to recover a portion of certain amounts paid. We have not incurred significant costs payable to a customer to defend lawsuits or settle claims related to these indemnification agreements. As a result, management believes the estimated fair value of these agreements is not significant. Accordingly, there are no liabilities recorded for these agreements as of September 30, 2003.

     We have arrangements with certain vendors whereby we guarantee the expenses incurred by certain of our employees. The term is from execution of the arrangement until cancellation and payment of any outstanding amounts. Unless otherwise limited in the contract, we would be required to pay any unsettled employee expenses upon notification from the vendor. The maximum potential amount of future payments we could be required to make under these indemnification agreements is not significant. As a result, management believes the estimated fair value of these agreements is not significant. Accordingly, there are no liabilities recorded for these agreements as of September 30, 2003.

     Delaware law and our certificate of incorporation and bylaws provide that we will, under certain circumstances and subject to certain limitations, indemnify any person made, or threatened to be made, a party to a proceeding by reason of that person’s former or present official capacity with us against judgments, penalties, fines, settlements and reasonable expenses. Any such person also is

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entitled, subject to limitations, to payment or reimbursement of reasonable expenses in advance of the final disposition of the proceeding. The maximum potential amount of future payments we could be required to make under these indemnification arrangements is unlimited; however, we have insurance policies that enables us to recover a portion of certain amounts paid. We have not incurred significant costs payable to an indemnitee to defend lawsuits or settle claims related to these indemnification arrangements. As a result, management believes the estimated fair value of these arrangements is minimal. Accordingly, there are no liabilities recorded for these agreements as of September 30, 2003.

     When a customer purchases support for our software products, we generally warrant that those products then eligible for support will operate materially and substantially as described in the documentation that is provided with that software. We also generally warrant that our services will be provided by trained personnel and in a professional manner using commercially reasonable efforts. If necessary, we provide for the estimated cost of product and service warranties based on specific warranty claims and claim history. Historically, these costs have not been significant.

Note 10 - Segment Information

     We operate in one reportable segment. Our operations are primarily conducted in the United States, our country of domicile. Geographic data, determined by references to the location of our operations for the three and nine months ended September 30, 2003 and 2002 are as follows:

     The following is long-lived asset information by geographic area:

Note 11 - Asset Write-offs

     We evaluate the recoverability of our intangible assets for potential impairment when events or changes in circumstances warrant. As a result of information obtained subsequent to the quarter ended September 30, 2002, we determined that an evaluation of the recoverability of the intangible asset related to Henderson was appropriate. Because our relationship with Henderson did not generate any software sales, the increasing uncertainty about retailers’ future capital investments and other factors we determined that no significant future cash flows were probable from our relationship with Henderson. As are result, we determined that the intangible asset related to the software development and distributions agreement was impaired and we wrote off the $8.7 net book value. In addition, we concluded that our cost method investment in Henderson of $0.4 million was impaired and was also written off as of September 30, 2002. The aggregate write-off of $9.1 million is a non-cash expense and is reflected as a component of general and administrative expense for the three and nine months ended September 30, 2002.

Note 12 - Recent Accounting Pronouncements

     In January 2003, the FASB issued FASB Interpretation No. 46, “Consolidation of Variable Interest Entities.” This interpretation addresses the requirements for business enterprises to consolidate related entities in which they are determined to be the primary economic beneficiary as a result of their variable economic interests. The interpretation is intended to provide guidance in judging

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multiple economic interests in an entity and in determining the primary beneficiary. The interpretation outlines disclosure requirements for Variable Interest Entities (VIEs) in existence prior to January 31, 2003, and outlines consolidation requirements for VIEs created after January 31, 2003. We have reviewed our economic interests with other companies consisting of companies in which we have an equity position, and other suppliers to determine the extent of our variable economic interest in these parties. As a result of this review, we determined that no material entities are Variable Interest Entities and we are not a primary economic beneficiary of any Variable Interest Entity.

     In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity.” SFAS No. 150 requires that an issuer classify certain financial instruments within its scope as a liability (or an asset in some circumstances). SFAS No. 150 is generally effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective for us at the beginning of the third quarter of 2003. This standard is not expected to materially impact our consolidated financial position or results of operations.

ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes, and the other financial information included in this Quarterly Report on Form 10-Q. This discussion and analysis contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of specified factors, including those set forth in the section below entitled “Factors That May Impact Future Results of Operations” and elsewhere in this Quarterly Report on Form 10-Q.

Overview

     We generate revenue from the sale of software licenses, maintenance and support contracts, and professional consulting and contract development services. We generally provide technical advisory services after the delivery of our products to help customers exploit the full value and functionality of our products. Revenue from the sale of software licenses under these agreements is recognized over the period the technical advisory services are performed if all other criteria for recognition of revenue are met. These periods of technical advisory services generally range from 12 to 24 months, as determined by each customer’s objectives. Deferred revenue consists principally of the unrecognized portion of amounts received under license and maintenance service agreements. Deferred license revenue is recognized ratably over the technical advisory period (if applicable), or on a percentage of completion basis, or when all criteria for recognition of revenue are met based on the contract terms. Deferred maintenance revenue is recognized ratably over the term of the service agreement.

     Customers who license our software generally purchase maintenance contracts, typically covering renewable annual periods. In addition, customers may purchase consulting services, which are customarily billed at a fixed daily rate plus out-of-pocket expenses. Contract development services, including new product development services, are typically performed at a fixed daily rate plus out-of-pocket expenses or for a fixed fee. We also offer training services that are billed on a per student or per class session basis.

     We market our software solutions worldwide through direct and indirect sales channels. Indirect sales channels represent sales contracted by other entities on our behalf. Revenue generated from our direct sales channel accounted for approximately 99% of total revenue for the three and nine month periods ended September 30, 2003, respectively, compared to 97% and 98% for the corresponding prior year periods.

     Revenue attributable to customers outside of North America accounted for approximately 31% and 35% of total revenue for the three and nine month periods ended September 30, 2003, compared to 33% and 34% for the corresponding prior year periods, respectively. Approximately 24% and 23% of our sales were denominated in currencies other than the U.S. dollar for the three and nine month periods ended September 30, 2003, compared to 22% and 24% for the corresponding prior year periods, respectively.

Asset Acquisitions

     On March 31, 2002, we acquired substantially all of the technology of Chelsea Market Systems, LLC (“Chelsea”) and assumed certain liabilities for a net cash purchase price of $8.9 million. The entire $8.9 million purchase price has been allocated to purchased software, an intangible asset. This purchased software is being amortized using the straight-line method over 36 months.

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Critical Accounting Policies and Estimates

     For discussion on critical accounting policies and estimates, see our 2002 Annual Report on Form 10-K.

Results of Operations

     The following table presents selected financial data for the periods indicated as a percentage of our total revenue. Our historical reporting results are not necessarily indicative of the results to be expected for any future period.

Three and Nine Months Ended September 30, 2003 and 2002

Revenue

     Total revenue. Total revenue increased 8% to $43.8 million for the three months ended September 30, 2003, from $40.5 million for the corresponding prior year period. This increase in total revenue was due to an increase in services and other revenue, which was partially offset by a decrease in license and maintenance revenue. Total revenue decreased 20% to $124.2 million for the nine months ended September 30, 2003, from $154.8 million for the corresponding prior year period.

     License and maintenance revenue. License and maintenance revenue decreased 4% and 42% to $23.7 and $65.6 million for the three and nine months ended September 30, 2003, respectively, from $24.8 and $112.2 million for the corresponding prior year periods. The decrease was due to a slowdown in the U.S. and world economies and our potential customers’ more deliberate evaluation processes, which has extended sales cycles. The decrease for the three months ended September 30, 2003 was less than the nine month decrease primarily due to sequential quarter over quarter increases in license revenue since January 1, 2003. Maintenance revenues increased $0.1 million for the three months ended September 30, 2003 and remained consistent for the nine months ended September 30, 2003. Maintenance revenues remained consistent for the nine months as an increase in maintenance revenues from new customers offset a drop in maintenance revenue due to one customer not renewing their maintenance agreement in the first quarter of 2003 based on a strategic decision to outsource all information technology functions to a third party provider. Maintenance revenues may vary on a quarterly basis primarily due to the timing of contract execution during the quarter and other specific contract terms.

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     Services and other revenue. Services and other revenue increased 28% and 38% to $20.1 and $58.7 million for the three and nine months ended September 30, 2003, respectively, from $15.7 and $42.5 million for the corresponding prior year periods. The increase in services and other revenue was due to several large concurrent projects being serviced by us during the three and nine month periods ended September 30, 2003 as well as an increase in our contracted rates. Consulting and custom development increased $4.7 and $17.1 million for the three and nine months ended September 30, 2003, respectively, which were offset by decreases in various services and other revenues. We have relationships with third party integrators and consultants that contract either with us or directly with our customers for services and other integration needs. Our customer’s proportionate use of our services offerings or other third party integrators and consultants may cause our services revenue to vary independently of changes in license and maintenance revenue. Services revenues dropped on a sequential quarter basis during the third quarter 2003 primarily due to the larger services projects that were completed during the second quarter of 2003. As larger projects are finished, considerable amounts of internal resources may be free for other projects, including other non-services related activities. Due to contracting or customer timetables, there may be a period where certain resources are not billable until the next project is ready, and therefore may be utilized in other projects including non-services related activities. Allocating resources to other non-services activities may cause a decrease in services revenues.

     Cost of Revenue

     Cost of license and maintenance revenue. Cost of license and maintenance revenue consists of fees for third party software products that are integrated into our products, third party license development costs, salaries and related expenses of our customer support organization, other infrastructure costs, and an allocation of our facilities and depreciation expense. Cost of license and maintenance revenue decreased 21% to $8.0 and 31% to $22.3 million for the three and nine months ended September 30, 2003, respectively, from $10.1 and $32.4 million for the corresponding prior year periods. The decrease for the three months ended September 30, 2003 was due to a drop of $1.0 million in personnel and related costs, $0.4 million decrease in third party consultants and a $0.3 million decrease in purchased software amortization. For the nine months ended September 30, 2003 the decrease was due to an $8.3 million decrease in third party consultants, $0.8 million decrease in personnel and related costs and a $0.7 million decrease in purchased software amortization. Third party consultants were used in the prior year to help with several funded development contracts, which were mostly completed in the prior year. We anticipate the use of additional third party consultant resources to complete pending development contracts. As a percentage of license and maintenance revenue, cost of license and maintenance revenue decreased to 34% for the three months ended September 30, 2003 from 41% for the corresponding prior year period and increased to 34% for the nine months ended September 30, 2003 from 29% in prior year. These changes are due to the amount of funded development and proportion of funded development to total license and maintenance revenues during the three and nine month periods ended September 30, 2003. Funded development and maintenance revenue typically have lower margins than license revenues. The decrease in percentage cost of license and maintenance revenues for the three months ended September 30, 2003 is due to a decrease in funded development projects as well as funded development revenues representing a smaller proportion of total license and maintenance revenues over prior year. For the nine months ended September 30, 2003, the increase in costs was due to funded development and maintenance revenues representing a larger proportion of total license and maintenance revenues over the prior year.

     Cost of services and other revenue. Cost of services and other revenue includes salaries and related expenses of our consulting organization, cost of third parties contracted to provide consulting services to our customers, and an allocation of facilities and depreciation expense. Cost of services and other revenue increased 23% and 40% to $14.4 and $43.7 million for the three and nine months ended September 30, 2003, respectively, from $11.7 and $31.3 million for the corresponding prior year periods. The increase in cost of services and other revenue for the three months ended September 30, 2003 was primarily due to a $3.1 million increase in third party consulting costs offset by a $0.2 million decrease in personnel and related costs. The increase in cost of services and other revenue for the nine month period ended September 30, 2003 was primarily due to a $10.3 million increase in third party consulting costs and a $2.6 million increase in personnel and related costs. Third party consultants are used on an as-needed basis depending on the availability and skills of internal resources and our ability to leverage our relationships with third party integrators. Also, demand for third party consultants fluctuates due to the location of our services customers. Service projects for international customers are typically staffed by local third party consultants, rather than internal resources, thus as we continue to expand our international customer base, we may increase our usage of third party consultants. The decrease in personnel and related costs for the three months ended and the increase in personnel related costs for the nine months ended was due to our assignment of internal development resources to services projects. Several large services projects were completed in the second quarter of 2003 and in order to finish these projects we assigned other internal development resources to assist in these custom development projects. Thus, the decrease in the third quarter 2003 was due to these larger projects being completed in the second quarter 2003 and subsequently those internal development resources were reassigned to other non-services projects. The increase for the nine months ended 2003 was due to the

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assignment of internal development resources to these large services projects in the first and second quarter of 2003. As a percentage of services and other revenue, cost of services and other revenue decreased to 72% for the three months ended September 30, 2003, from 75% for the corresponding prior year period and increased to 75% for the nine months ended September 30, 2003, from 74% in prior year. This increase in margins for the three months ended September 30, 2003 was due to our using proportionately less third party contractors, which have a higher daily average cost, during the quarter, and the decrease in margins for the nine months ended September 30, 2003 was due to our using proportionately more third party contractors to finish projects in the first and second quarters of 2003.

     Operating Expenses

     Research and development. Research and development expenses, which are expensed as incurred, consist primarily of salaries and related costs of our engineering organization, fees paid to third party consultants and an allocation of facilities and depreciation expenses. Research and development expenses increased 8% to $11.5 million and decreased 9% to $33.8 million for the three and nine months ended September 30, 2003, respectively, from $10.7 and $37.0 million for the corresponding prior year periods. The increase for the three months ended September 30, 2003 was due to a $3.4 million increase in third party consultant costs offset by a $1.9 million decrease in personnel and related costs. For the nine months ended September 30, 2003, the decrease was due to a $5.9 million decrease in personnel and related costs offset by a $4.1 million increase in third party consultant costs. The decrease in personnel and related costs were due to our restructuring efforts initiated in 2002. We use third party consultants on an as needed basis, in particular if our internal resources are not sufficient to complete the necessary development activities. We anticipate leveraging third party consultants in the future to assist in certain development activities.

     Sales and marketing. Sales and marketing expenses consist primarily of salaries and related costs of the sales and marketing organization, sales commissions, costs of marketing programs, including public relations, advertising, trade shows and sales collateral and an allocation of facilities and depreciation expenses. Sales and marketing expenses decreased 39% and 35% to $8.0 and $26.7 million for the three and nine months ended September 30, 2003, respectively, from $13.1 and $40.9 million for the corresponding prior year periods. The decrease for the three months ended September 30, 2003 was due to a $1.4 million decrease in personnel and related costs, primarily due to a decrease in personnel due to our restructuring efforts and a $1.1 million decrease in direct allocation depreciation for an asset that was fully depreciated as of December 31, 2002. In addition, sales and marketing expenses for the three months ended September 30, 2002 were higher due to $1.6 million of various marketing and other start up costs incurred to expand our sales offices in the Asia Pacific region. The three month period ended September 30, 2003 did not contain similar startup and marketing costs. The decrease for the nine months ended September 30, 2003 was due to a $7.9 million decrease in personnel and related costs, primarily due to a decrease in personnel due to our restructuring efforts, a $3.4 million decrease in direct allocation depreciation for an asset that was fully depreciated as of December 31, 2002, and a $1.0 million decrease in marketing costs, primarily for trade shows and advertising.

     General and administrative. General and administrative expenses consist primarily of costs from our finance and human resources organizations, legal and other professional service fees and an allocation of facilities costs and depreciation expenses. General and administrative expenses decreased 73% to $3.3 million for the three months ended September 30, 2003, from $12.6 million for the corresponding prior year period and decreased 43% to $11.7 million for the nine months ended September 30, 2003, from $20.6 million in the prior year. The decrease for the three months ended September 30, 2003 was primarily due to a $9.1 million write-off in the third quarter of 2002 of our equity investment in and the net book value of intangible assets related to our software development and distribution agreement with Henderson Ventures, Inc. (“Henderson”), a $0.5 million decrease in personnel and related costs, primarily due to our restructuring efforts, which were partially offset by an increase in overhead allocations. The decrease for the nine months ended September 30, 2003 was primarily due to the $9.1 million write off related to Henderson, a $1.5 million decrease in professional services, which were partially offset by a $1.2 million increase in depreciation and other expenses primarily due to the accelerated depreciation taken for assets abandoned in connection with our restructuring efforts.

     Acquisition-related amortization of intangibles. Acquisition-related amortization of intangibles decreased 46% and 33% to $1.6 and $5.0 million for the three and nine months ended September 30, 2003, respectively, from $2.9 and $7.4 million for the corresponding prior year periods. The decrease was due to certain intangible assets being fully amortized in 2003 and due to ceasing amortization on Henderson, as the asset was written-off in the third quarter of 2002.

     Restructuring and other. In the fourth quarter of 2002, we began implementation of a restructuring plan intended to bring our operating expenses in line with expected revenues due to concerns with a weakening global economy and decreasing capital expenditures by retailers. Actions taken included a reduction of our workforce and a reduction in the amount of leased space.

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     The restructuring plan includes workforce reductions of 265 employees across most business functions and geographic regions and all employees were notified in 2002 of benefits to be received. We recorded a charge for severance and related benefits of $2.6 million and made payments of $0.9 million in the fourth quarter of 2002. We recorded an additional charge of $0.2 and $0.3 million for the three and nine months ended September 30, 2003, respectively, to reflect adjustments to final severance benefits paid. As of September 30, 2003, all payments had been made to the severed individuals.

     We also recorded a net loss on lease abandonment of $17.0 million in the fourth quarter of 2002. In the third quarter of 2003 we recorded a $0.1 reduction to the estimated lease abandonment charges. The lease abandonment loss recorded in the fourth quarter of 2002 consisted of the payments to be made for the remaining lease term of the abandoned space aggregating $31.1 million, net of estimated sublease income of $14.1 million. Lease terms of the leased space abandoned range from five to eleven years. Management has made its best estimates of expected sublease income over the remaining term of the abandoned leases. The estimated sublease income amount is highly judgmental and includes assumptions regarding the periods of sublease and the price per square foot to be paid by the sublessors. As required by the applicable accounting standards, we will review these estimates each quarter and make adjustments, as necessary, to reflect management’s best estimates.

     The following table sets forth a summary of the restructuring charges, adjustments to the provision, payment made against those charges and the remaining liabilities as of September 30, 2003.

     Related to the lease abandonment charge, we recorded $0.2 and $1.9 million of accelerated depreciation on equipment and leasehold improvements to be abandoned in the three and nine month period ended September 30, 2003, which is recorded as general and administrative expense.

     Other income, net. Other income, net decreased to $0.3 and $1.1 million for the three and nine months ended September 30, 2003, from $0.6 and $1.8 million for the corresponding prior year periods. The decrease is primarily due to lower interest income earned during the period.

     Income tax provision. The income tax provision decreased $75.0 and $77.8 million for the three and nine months ended September 30, 2003, respectively compared to the corresponding prior year periods. During the third quarter of 2002, we determined that it was appropriate to record a full valuation allowance for our deferred tax assets. The establishment of a full deferred tax valuation allowance was determined to be appropriate in light of the magnitude of our revenue decrease, our operating losses, our expectation of significant loss for the full year 2002 and the added uncertainty of the market in which we operate. Despite the full valuation allowance, the income tax benefits related to these deferred tax assets will remain available to offset future taxable income. We expect to record a full valuation allowance on future tax benefits until we can sustain an appropriate level of profitability and until such time, we would not expect to recognize any significant tax benefits in our future results of operations. Through the second quarter of 2002, the tax amounts were based on management’s estimates of the effective tax rates to be incurred by us during those respective full years.

     The income tax provision for the three and nine months ended September 30, 2003 relates to state and foreign income taxes.

Liquidity and Capital Resources

     At September 30, 2003, our balance of cash, cash equivalents, and investments available for sale was $90.8 million.

     Net cash provided by operating activities was $2.7 million for the nine months ended September 30, 2003, compared to $2.5 million for the corresponding prior year period. Sources of cash for the quarter ended September 30, 2003 include, operating cash flow adjustments for depreciation and amortization expense, amortization of stock based compensation and bad debt provisions, as well as increases in accounts payable and decreases of accounts receivable and other assets. Uses of cash for the nine month period ended September 30, 2003, were due to net losses and a decrease in accrued liabilities, accrued restructuring and deferred revenue.

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     Net cash provided by investing activities was $7.6 million for the nine months ended September 30, 2003, compared to $16.7 million used by investing activities for the corresponding prior year period. Sources of cash for the nine months ended September 30, 2003 included net sales of investments for sale and uses of cash were due to the purchase of property and equipment. The increase in sales of investments was due to the increase in number of investments that matured. We purchase investments designed to protect our capital investment, primarily short-term investments that have a low risk of capital loss, such as U.S. government securities, major corporation commercial paper, money market securities and tax-exempt municipal securities.

     Net cash provided by financing activities was $2.2 million for the nine months ended September 30, 2003, compared to $11.7 million provided by financing activities for the corresponding prior year period. Sources of cash were primarily due to the proceeds from shares issued through our Employee Stock Purchase Plan.

     We believe that our current cash, cash equivalents, investments and net cash provided by operating activities, will be sufficient to meet our working capital and capital expenditure requirements for at least the next 12 months. One of the major components of our positive operating cash flow is our collection of receivables from our customers. Operating cash flows would be negatively impacted if we were unable to sign new customer contracts or if a significant number of customers were unable to pay for our solutions and services. Consumer spending, consumer confidence and other economic measures in the U.S. economy impact our customer base in the retail industry and negative trends in these measures may impact the amount and type of capital expenditures made by them.

     Management intends to invest our cash in excess of current operating requirements primarily in short-term, interest-bearing, investment-grade securities.

     A portion of our cash could also be used to acquire or invest in complementary businesses or products or otherwise to obtain the right to use complementary technologies or data. We regularly evaluate, in the ordinary course of business, potential acquisitions of such businesses, products, technologies or data.

Accounting Pronouncements

     In January 2003, the FASB issued FASB Interpretation No. 46, “Consolidation of Variable Interest Entities.” This interpretation addresses the requirements for business enterprises to consolidate related entities in which they are determined to be the primary economic beneficiary as a result of their variable economic interests. The interpretation is intended to provide guidance in judging multiple economic interests in an entity and in determining the primary beneficiary. The interpretation outlines disclosure requirements for Variable Interest Entities (VIEs) in existence prior to January 31, 2003, and outlines consolidation requirements for VIEs created after January 31, 2003. We have reviewed our economic interests with other companies consisting of companies in which we have an equity position, and other suppliers to determine the extent of our variable economic interest in these parties. As a result of this review, we determined that no material entities are Variable Interest Entities and we are not a primary economic beneficiary of any Variable Interest Entity.

     In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity.” SFAS No. 150 requires that an issuer classify certain financial instruments within its scope as a liability (or an asset in some circumstances). SFAS No. 150 is generally effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective for us at the beginning of the third quarter of 2003. This standard is not expected to materially impact our consolidated financial position or results of operations.

Factors That May Impact Future Results of Operations

     An investment in our common stock involves a high degree of risk. Investors evaluating us and our business should carefully consider the factors described below and all other information contained in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K before purchasing our common stock. Any of the following factors could materially harm our business, operating results and financial condition. Additional factors and uncertainties not currently known to us or that we currently consider immaterial could also harm our business, operating results and financial condition. Investors could lose all or part of their investment as a result of these factors. As defined in the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, except for the historical information contained herein, some of the matters discussed in this Quarterly Report on Form 10-Q contain forward looking statements regarding future events that are subject to risks and uncertainties. The following factors, among others, could cause actual results to differ materially from those described by such statements.

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FLUCTUATIONS IN OUR QUARTERLY OPERATING RESULTS COULD CAUSE OUR STOCK PRICE TO DECLINE.

     Our quarterly operating results have fluctuated in the past and are expected to continue to fluctuate in the future. If our quarterly operating results fail to meet expectations, the trading price of our common stock could decline. In addition, significant fluctuations in our quarterly operating results may harm our business operations by making it difficult to implement our budget and business plan. Factors, many of which are outside of our control, which could cause our operating results to fluctuate include:

	•		the size and timing of customer orders, which can be affected by customer budgeting and purchasing cycles;
	•		the demand for and market acceptance of our software solutions;
	•		competitors’ announcements or introductions of new software solutions, services or technological innovations;
	•		our ability to develop, introduce and market new products on a timely basis;
	•		customer deferral of material orders in anticipation of new releases or new product introductions;
	•		our success in expanding our sales and marketing programs;
	•		technological changes or problems in computer systems;
	•		general economic conditions which may affect our customers’ capital investment levels; and
	•		our ability to reduce expense levels if our revenues decline and our ability to implement our restructuring plan.

     We currently derive a significant portion of our license revenue in each quarter from a small number of relatively large orders, and we generally recognize revenue from our licenses over the related technical advisory services period. If we are unable to recognize revenue from one or more substantial license sales for a particular fiscal quarter, our operating results for that quarter would be seriously harmed and our visibility for revenue deferred into future quarters would be reduced. In addition, the license of our products typically involves a substantial commitment of resources by our customers or their consultants over an extended period of time. The time required to complete an implementation may vary from customer to customer and may be protracted due to unforeseen circumstances. Because our revenues from implementation, maintenance and training services are largely correlated with our license revenue, a decline in license revenue may also cause a decline in our services revenue in the same quarter and in subsequent quarters. Because our sales cycle is long, we may have difficulty predicting when we will recognize revenue. If our quarterly revenue or operating results fall below expectations, the price of our common stock could fall substantially and we could become subject to additional securities class action litigation. Litigation, if instituted, could result in substantial costs and a diversion of management’s attention and resources, which would materially adversely affect our business, financial condition and results of operations.

     Additionally, our reporting period operating results would also be impacted if our customers did not purchase technical advisory support with our software solutions. With technical advisory support, revenues are recognized ratably over the advisory period, if all other revenue recognition criteria are met. Without the advisory services, revenues would be recognized when we execute the license agreement or contract, deliver the software, determine that collections of the proceeds is probable, and vendor specific objective evidence exists to allocate revenue to undelivered elements of the arrangement. Using these criteria, rather than our current revenue recognition policy with advisory services, could materially impact period over period results in our consolidated financial statements.

     We have incurred, and will continue to incur, compensation expense in connection with our grants of options under our 1999 Equity Incentive Plan, our HighTouch Technologies, Inc. 1999 Stock Option Plan and our 1999 Directors Stock Option Plan. This expense will be amortized over the vesting period of these granted options, which is generally four years, resulting in lower quarterly income.

     Our quarterly expense levels are relatively fixed and are based, in part, on expectations as to future revenue. As a result, if revenue levels fall below our expectations, net income will decrease because only a small portion of our expenses varies with our revenue.

IN THE FOURTH QUARTER 2002, WE RECORDED RESTRUCTURING CHARGES AND ENACTED CERTAIN COST REDUCTION MEASURES IN RESPONSE TO THE DOWNTURN IN OUR FINANCIAL RESULTS. IF OUR RESTRUCTURING PLANS AND OUR COST REDUCTION MEASURES FAIL TO ACHIEVE THE DESIRED RESULTS OR RESULT IN UNANTICIPATED NEGATIVE CONSEQUENCES, WE MAY SUFFER MATERIAL HARM TO OUR BUSINESS.

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     In response to the recent downturn in our financial performance, we implemented restructuring plans and cost reduction measures to reduce our cost structure, which included workforce and facilities reductions. Our cost reduction measures may yield unanticipated consequences, such as attrition beyond our planned reduction in workforce, reduced employee morale and decreased productivity, and may result in incidental employment related litigation. The workforce reductions impacted employees directly responsible for sales and research and development, which may affect our ability to close revenue transactions with our customers and potential customers and may affect our ability to finish development efforts on a timely basis. Further, sales force reductions will require an increase in sales resource productivity in order for us to achieve revenue projections. The failure to retain and effectively manage our remaining employees could increase our costs, hurt our development efforts and impact the quality of our customer service and products. Failure to achieve the desired results of our strategic cost reduction initiatives or sufficiently reduce our workforce would harm our business, results of operations and financial condition.

IF OUR CURRENT PRODUCTS ARE NOT CONTINUED TO BE ACCEPTED OR WE DO NOT RESPOND ADEQUATELY TO OUR INDUSTRY’S RAPID PACE OF CHANGE, SALES OF OUR PRODUCTS MAY DECLINE.

     Our business depends on the successful customer acceptance of our products and we expect that we will continue to depend on revenue from existing, new and enhanced versions of our products. In addition, our business would be harmed if our target customers do not adopt and/or expand their use of our products. In addition, potential customers are evaluating solutions more deliberately, which resulted in extended sales cycles. If we are unable to develop new software solutions or enhancements to our existing products on a timely and cost-effective basis, or if new products or enhancements do not achieve market acceptance, our sales may decline. The life cycles of our products are difficult to predict because the market for our products is characterized by rapid technological change and changing customer needs. The introduction of products employing new technologies could render our existing products or services obsolete and unmarketable.

     In developing new products and services, we may:

	•		fail to respond to technological changes in a timely or cost-effective manner;
	•		encounter products, capabilities or technologies developed by others that render our products and services obsolete or noncompetitive or that shorten the life cycles of our existing products and services;
	•		experience difficulties that could delay or prevent the successful development, introduction and marketing of these new products and services; or
	•		fail to achieve market acceptance of our products and services.

IF WE FAIL TO ESTABLISH, MAINTAIN AND EXPAND OUR RELATIONSHIPS WITH THIRD PARTIES WHO IMPLEMENT OUR PRODUCTS, OUR ABILITY TO MEET OUR CUSTOMERS’ NEEDS COULD BE HARMED.

     We rely, and expect to continue to rely, on a number of third parties to implement our software solutions at customer sites. If we are unable to establish and maintain effective, long-term relationships with these implementation providers, or if these providers do not meet the needs or expectations of our customers, our revenue will be reduced and our customer relationships will be harmed. Our current implementation partners are not contractually required to continue to help implement our software solutions. Our software products perform or directly affect mission-critical functions across many different functional and geographic areas of the enterprise. Implementation of our software solutions can be a lengthy process.

     We may be unable to establish or maintain relationships with third parties having sufficient qualified personnel resources to provide the necessary implementation services to support our needs. If third-party services are unavailable, we will be required to provide these services internally, which would significantly limit our ability to meet customers’ implementation needs and would increase our operating expenses and could reduce gross margins. A number of our competitors have significantly more established relationships with these third parties and, as a result, these third parties may be more likely to recommend competitors’ products and services rather than our own. In addition, we cannot control the level and quality of service provided by our current and future implementation partners. Significant issues implementing our solutions could result in client dissatisfaction and could therefore cause delays or prevent us from collecting fees from our customers and could damage our ability to attract new customers.

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WE HAVE BEEN NAMED A DEFENDANT IN SECURITIES CLASS ACTION LITIGATION AND DERIVATIVE ACTIONS AND WE MAY IN THE FUTURE BE NAMED IN ADDITIONAL LITIGATION, WHICH MAY RESULT IN SUBSTANTIAL COSTS AND DIVERT MANAGEMENT’S ATTENTION AND RESOURCES.

     As described in Part II - Item 1: Legal Proceedings, a number of shareholder class action suits have been filed naming the Company and/or certain of our current and former officers and directors as co-defendants. Two additional related derivative action suits have been filed on our behalf naming certain of our officers and directors. We believe these claims are subject to a variety of meritorious defenses, which we intend to vigorously pursue. However, it is possible that the litigation could be resolved adversely, could result in substantial costs and could divert management’s attention and resources, which could seriously harm our business.

     More generally, securities class action litigation has often been brought against a company following declines in the market price of its securities. This risk is greater for technology companies, which have experienced greater-than-average stock price declines in recent years and, as a result, have been subject to, on average, a greater number of securities class action claims than companies in other industries. While we maintain director and officer insurance, the amount of insurance coverage may not be sufficient for any such claim and the continued availability of such insurance cannot be assured. We may in the future be the target of this kind of litigation and such litigation could also result in substantial costs and divert management’s attention and resources.

IF WE LOSE KEY PERSONNEL OR ARE UNABLE TO ATTRACT AND RETAIN ADDITIONAL PERSONNEL, OUR ABILITY TO GROW OUR BUSINESS COULD BE HARMED.

     We believe that our future success will depend significantly upon our ability to attract, integrate, motivate and retain skilled sales, research and development, marketing and management personnel. Competition for skilled personnel is intense and the software industry is characterized by a high level of employee mobility and aggressive recruiting of skilled personnel. There can be no assurance that we will be successful in attracting, retaining and motivating the personnel required to grow and operate profitably. Failure to attract, retain and motivate qualified personnel would adversely affect our business.

     The recent trading levels of our stock have decreased the value of our stock options granted to employees under our stock option plans. As a result of these factors, our remaining personnel may seek alternate employment, such as with larger, more established companies or companies that they perceive as having less volatile stock prices. Continuity of personnel can be a very important factor in sales and implementation of our software and completion of our product development efforts. Attrition beyond our planned reduction in workforce could have a material adverse effect on our business, operating results, financial condition and cash flows.

COMPETITIVE PRESSURES COULD REDUCE OUR MARKET SHARE OR REQUIRE US TO REDUCE OUR PRICES, WHICH WOULD REDUCE OUR REVENUE AND/OR OPERATING MARGINS.

     The market for our software solutions is highly competitive and subject to rapidly changing technology. Competition could seriously impede our ability to sell products and services on terms favorable to us. Competitive pressures could reduce our market share or require us to reduce prices, which would reduce our revenues and/or operating margins. Many of our competitors have substantially greater financial, marketing, development or other resources, and greater name recognition than us. In addition, these companies may adopt aggressive pricing policies that could compel us to reduce the prices of our products and services in response. Our competitors may also be able to respond more quickly than we can to new or emerging technologies and changes in customer requirements. Our current and potential competitors may:

	•		develop and market new technologies that render our existing or future products obsolete, unmarketable or less competitive;
	•		make strategic acquisitions or establish cooperative relationships among themselves or with other solution providers, which would increase the ability of their products to address the needs of our customers; and
	•		establish or strengthen cooperative relationships with our current or future strategic partners, which would limit our ability to sell products through these channels.

     As a result, we may not be able to maintain a competitive position against current or future competitors.

A SUBSTANTIAL PORTION OF OUR REVENUE IS DERIVED FROM THE RETAIL INDUSTRY.

     We have in the past derived substantially all of our revenues from the license of our software products and the delivery of related

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services to retail customers. Our future growth and profitability is dependent upon increased sales to retailers. Recent world wide economic conditions and competitive pressures in the retail industry have negatively impacted demand for our products and services. Such competitive pressures and softness of economic conditions could continue to cause retail customers and potential customers to delay, cancel or reduce their information technology budgets and their spending on our software products and services.

IF WE FAIL TO OBTAIN ACCESS TO THE INTELLECTUAL PROPERTY OF THIRD PARTIES, OUR BUSINESS AND OPERATING RESULTS COULD BE HARMED.

     We must now, and may in the future have to, license or otherwise obtain access to the intellectual property of third parties, including MicroStrategy, SeeBeyond, Sun, IBM, Accenture and Oracle. Our business would be seriously harmed if the providers from whom we license such software cease to deliver and support reliable products or enhance their current products. In addition, the third-party software may not continue to be available to us on commercially reasonable terms or prices or at all. Our inability to maintain or obtain this software could result in shipment delays or reduced sales of our products. Furthermore, we might be forced to limit the features available in our current or future product offerings. Either alternative could seriously harm business and operating results.

IF OUR INTELLECTUAL PROPERTY IS NOT ADEQUATELY PROTECTED, OUR COMPETITORS MAY GAIN ACCESS TO OUR TECHNOLOGY AND WE MAY LOSE CUSTOMERS.

     We depend on our ability to develop and maintain the proprietary aspects of our technology. To protect proprietary technology, we rely primarily on a combination of contractual provisions, confidentiality procedures, trade secrets, and copyright and trademark laws. We seek to protect our software, documentation and other written materials under trade secret and copyright laws, which afford only limited protection.

     Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or obtain and use information that we regard as proprietary. Policing unauthorized use of our products is difficult and expensive, and while we are unable to determine the extent to which piracy of our software products exists, software piracy may be a problem. In addition, the laws of some foreign countries do not protect our proprietary rights to the same extent as do the laws of the United States. We intend to vigorously protect intellectual property rights through litigation and other means. However, such litigation can be costly to prosecute and we cannot be certain that we will be able to enforce our rights or prevent other parties from developing similar technology, duplicating our products or designing around our intellectual property.

IF, IN THE FUTURE, THIRD PARTIES CLAIM THAT OUR PRODUCTS INFRINGE ON THEIR INTELLECTUAL PROPERTY, WE MAY INCUR SIGNIFICANT COSTS.

     There has been a substantial amount of litigation in the software industry and the Internet industry regarding intellectual property rights. It is possible that in the future third parties may claim that our current or potential future products infringe their intellectual property. We expect that software product developers and providers of electronic commerce solutions will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grow and the functionality of products in different industry segments overlap. Any claims, with or without merit, could be time-consuming, result in costly litigation, cause product shipment delays or require us to enter into royalty or licensing agreements. Royalty or licensing agreements, if required, may not be available on terms acceptable to us or at all, which could seriously harm our business and expose us to claims by our customers.

OUR BUSINESS IS SUBJECT TO ECONOMIC, POLITICAL AND OTHER RISKS ASSOCIATED WITH INTERNATIONAL SALES.

     Since we sell products worldwide, our business is subject to risks associated with doing business internationally. To the extent that our sales are denominated in foreign currencies, the revenue we receive could be subject to fluctuations in currency exchange rates. If the effective price of the products we sell to our customers were to increase due to fluctuations in foreign currency exchange rates, demand for our technology could fall, which would, in turn, reduce our revenue. We have not historically attempted to mitigate the effect that currency fluctuations may have on our revenue through use of hedging instruments, and we do not currently intend to do so in the future.

     We anticipate that revenue from international operations will continue to represent a substantial portion of our total revenue. Accordingly, our future results could be harmed by a variety of factors, including:

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	•		changes in foreign currency exchange rates;
	•		greater risk of uncollectable accounts and longer accounts receivable payment cycles;
	•		changes in a specific country’s or region’s political, legal or economic conditions, particularly in emerging markets;
	•		trade protection measures and import or export licensing requirements;
	•		potentially negative consequences from changes in tax laws or other localization legal requirements;
	•		cost of and difficulty in staffing and managing widespread operations and foreign language skill limitations;
	•		international variations in technology standards;
	•		differing levels of protection of intellectual property; and
	•		unexpected changes in regulatory requirements.

CONTINUED TERRORIST ATTACKS OR GLOBAL UNREST COULD LEAD TO FURTHER ECONOMIC INSTABILITY WHICH COULD HARM OUR BUSINESS.

     Terrorist attacks, such as the attacks that occurred in New York, Pennsylvania and Washington, D.C., on September 11, 2001, and current and future global unrest may adversely affect our business, results of operation, financial condition or future growth. Terrorist attacks and global unrest may lead to additional armed hostilities or to further acts of terrorism and civil disturbance in the United States or elsewhere, which may further contribute to economic instability and could adversely affect economic conditions, particularly in the retail industry.

ERRORS AND DEFECTS IN OUR PRODUCTS COULD RESULT IN SIGNIFICANT COSTS TO US AND COULD IMPAIR OUR ABILITY TO SELL OUR PRODUCTS.

     Our products are complex and, accordingly, may contain undetected errors or failures when we first introduce them or as we release new versions. This may result in loss of, or delay in, market acceptance of our products and could cause us to incur significant costs to correct errors or failures or to pay damages suffered by customers as a result of such errors or failures. In the past, we have discovered software errors in new releases and new products after their introduction. We have incurred costs during the period required to correct these errors, although to date such costs, including costs incurred on specific contracts, have not been material. We may in the future discover errors in new releases or new products after the commencement of commercial shipments.

ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     The following discusses our exposure to market risk related to changes in interest rates, foreign currency exchange rates and equity prices.

Interest Rate Risk

     The fair value of our cash, cash equivalents and investments available for sale at September 30, 2003 was $90.8 million. The objectives of our investment policy are safety and preservation of invested funds and liquidity of investments that is sufficient to meet cash flow requirements. Our policy is to place our cash, cash equivalents and investments available for sale with high credit quality financial institutions and commercial companies and government agencies in order to limit the amount of credit exposure. It is also our policy to maintain certain concentration limits and to invest only in certain “allowable securities” as determined by our management. Our investment policy also provides that our investment portfolio must not have an average portfolio maturity of beyond one year. Investments are prohibited in certain industries and speculative activities. Investments must be denominated in U.S. dollars. An increase in market interest rates would not materially affect our financial results as our $0.1 million in notes payable are at a fixed interest rate.

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Foreign Currency Exchange Rate Risk

     We develop products in the United States and sell in North America, Asia and Europe. As a result, our financial results could be affected by various factors, including changes in foreign currency exchange rates or weak economic conditions in foreign markets. Our foreign currency risks are mitigated principally by contracting primarily in U.S. dollars and maintaining only nominal foreign currency cash balances. Working funds necessary to facilitate the short-term operations of our subsidiaries are kept in local currencies in which they do business, with excess funds transferred to our offices in the United States. Approximately 24% and 23% of our sales were denominated in currencies other than the U.S. dollar for the three and nine month periods ended September 30, 2003, compared to 22% and 24% for the corresponding prior year periods, respectively.

Equity Price Risk

     We own several investments in the common stock of certain companies that we have entered into for strategic business purposes. As of September 30, 2003, we had substantially written off all of the value associated with these investments.

ITEM 4: CONTROLS AND PROCEDURES

     (a)  An evaluation was carried out under the supervision and with the participation of Retek’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of Retek’s disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this quarterly report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that Retek’s disclosure controls and procedures are effective to ensure that information required to be disclosed by Retek in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms.

     No change in Retek’s internal control over financial reporting was identified in connection with the evaluation required by Rule 13a-15(d) of the Exchange Act that occurred during the period covered by this quarterly report and that has materially affected, or is reasonably likely to materially affect, Retek’s internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1: LEGAL PROCEEDINGS

Federal Litigation in the U.S. District Court for the Southern District of New York

     Between June 11 and June 26, 2001, three class action complaints alleging violations of Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) were filed in the Southern District of New York against us, certain of our current and former officers and directors, and certain underwriters of our initial public offering (“IPO”). On August 9, 2001, these actions were consolidated for pre-trial purposes before a single judge along with similar actions involving the initial public offerings of numerous other issuers.

     On February 14, 2002, the parties signed and filed a stipulation dismissing the consolidated action without prejudice against us and the individual officers and directors, which the Court approved and entered as an order on March 1, 2002. On April 20, 2002, the plaintiffs filed an amended complaint in which they elected to proceed with their claims against us and the individual officers and directors only under Sections 10(b) and 20(a) of the Exchange Act. The amended complaint alleges that the prospectus filed in connection with the IPO was false or misleading in that it failed to disclose: (i) that the underwriters allegedly were paid excessive commissions by certain of the underwriters’ customers in return for receiving shares in the IPO and (ii) that certain of the underwriters’ customers allegedly agreed to purchase additional shares of our common stock in the aftermarket in return for an allocation of shares in the IPO. The complaint further alleges that the underwriters offered to provide positive market analyst coverage for the Company after the IPO, which had the effect of manipulating the market for our stock. Plaintiffs contend that, as a result of the omissions from the prospectus and alleged market manipulation through the use of analysts, the price of our common stock was artificially inflated

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between November 18, 1999 and December 6, 2000, and that the defendants are liable for unspecified damages to those persons who purchased our common stock during that period.

     On July 15, 2002, the Company and the individual defendants, along with the rest of the issuers and related officer and director defendants, filed a joint motion to dismiss based on common issues. Opposition and reply papers were filed. The Court rendered its decision on February 19, 2003, which granted dismissal in part of a claim against one of the individual defendants and denied dismissal in all other respects

     On June 30, 2003, a Special Litigation Committee of the Board of Directors of the Company approved a Memorandum of Understanding (the “MOU”) reflecting a settlement in which the plaintiffs agreed to dismiss the case against the Company with prejudice in return for the assignment by the Company of claims that the Company might have against its underwriters. The same offer of settlement was made to all issuer defendants involved in the litigation. No payment to the plaintiffs by the Company is required under the MOU. There can be no assurance that the MOU will result in a formal settlement or that the Court will approve the settlement that the MOU sets forth.

     The Company believes that it and the individual defendants have meritorious defenses to the claims made in the complaint and, if the MOU does not result in a formal settlement approved by the Court, intends to contest the lawsuit vigorously. Securities class action litigation can result in substantial costs and divert our management’s attention and resources, which may have a material adverse effect on our business and results of operations.

Federal Litigation in the U.S. District Court for the District of Minnesota

     Between October 30, 2002 and December 8, 2002, several purported shareholder class action suits were filed in federal district court in Minnesota. The Court has not yet certified any class. The federal court in Minnesota appointed a lead plaintiff and lead plaintiff’s counsel on February 14, 2003. The consolidated complaint (the “Consolidated Complaint”) alleges, among other things, violations of Sections 10(b) and 20(a) of the Exchange Act against us and certain of our current and former officers and directors. Specifically, the Consolidated Complaint alleges that, among other things, between June 19, 2001 and July 8, 2002 (the “Class Period”), defendants made false and misleading statements and/or concealed material adverse facts from the market in press releases, presentations and SEC disclosures. The Consolidated Complaint alleges that our Company and the individual defendants misled the market with respect to, among other things our alliance with IBM, our ability to develop certain software, and our expectations regarding certain customer sales. Plaintiffs further allege that defendants manipulated financial statements and failed to disclose problems with existing and potential customer deals, which led to the Company’s stock price being artificially inflated during the Class Period. The plaintiffs seek compensatory damages and other unspecified relief. On May 30, 2003, the Company and the individual defendants served a motion to dismiss the Consolidated Complaint. Briefing on the motion is complete. The Court has not yet set a hearing date on the motion.

     We dispute plaintiffs’ allegations in the consolidated federal class actions in Minnesota and believe that the allegations are subject to a variety of meritorious defenses. We intend to establish a vigorous defense. While there can be no assurance, and while the outcome of federal class action litigation cannot be predicted with certainty, our management currently believes that the ultimate outcome of the consolidated federal class action litigation in Minnesota is unlikely to have a material adverse affect on our financial position, results of operations or cash flows. Despite our belief that the consolidated federal class action is without merit, it is possible that the litigation could be resolved adversely. Were the federal court in Minnesota to issue a ruling or rulings unfavorable to us, such ruling or rulings could have a material adverse impact on the results of operations for the period in which the ruling occurs, or in a period thereafter.

State Derivative Litigation in the State of Minnesota, District Court, Hennepin County

     In addition to the above federal litigation, in December 2002 two shareholder derivative lawsuits were filed in state court in Hennepin County, Minnesota, against certain of our current and former officers and directors, naming us as a nominal defendant. Plaintiffs in both derivative cases have agreed to consolidate their respective actions, although the derivative plaintiffs have not yet filed a consolidated derivative complaint. The derivative suits claim that certain of our officers and directors breached their fiduciary duties to us and our stockholders by: (i) selling shares of our common stock while in possession of material adverse non-public information regarding our business and prospects, and (ii) disseminating inaccurate information regarding our business and prospects to the market and/or failing to correct such inaccurate information. The derivative complaints seek compensatory and other damages, restitution, disgorgement, and other legal and equitable relief. As stated above, the complaints are brought derivatively on our behalf, and consequently do not seek relief from us. We however, have entered into indemnification agreements in the ordinary course of

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business with certain of the officer and director defendants and may be obligated throughout the pendency of this action to advance payment of legal fees and costs incurred by those defendants pursuant to our obligations under the indemnification agreements and/or applicable Delaware law.

     While there can be no assurance, our management currently believes that the ultimate outcome of the derivative proceedings will not have a material adverse affect on our financial position, results of operations, or cash flows. However, we are unable to predict with certainty the results of the derivative litigation.

Legal Proceedings that Arise in the Ordinary Course of Business

     In addition to the matters discussed above, we are subject to various legal proceedings and claims that arise in the ordinary course of business. We believe that the resolution of such matters will not have a material impact on our financial position, results of operations or cash flows.

ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS

     (c)  Changes in Securities

     Not applicable.

     (d)  Use of Proceeds

     Not applicable.

ITEM 3: DEFAULTS UPON SENIOR SECURITIES

     Not applicable.

ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     None.

ITEM 5: OTHER INFORMATION

     None.

ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K

(a)

Exhibits

(b) REPORTS ON FORM 8-K

     On October 21, 2003 we furnished a current report on Form 8-K, reporting under Item 12 that we issued a press release disclosing material non-public information regarding the results of operations for the quarter ended September 30, 2003 that included additional information that was not in accordance with, or an alternative for, generally accepted accounting principles.

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SIGNATURES

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

Date: November 13, 2003

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Index to Exhibits

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