S1 CORP /DE/ - 10-K Annual Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

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

For the fiscal year ended December 31, 2004

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

For the transition period from to

Commission file number: 000-24931

S1 CORPORATION

(Exact name of registrant as specified in its charter)


Delaware		58-2395199
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

3500 Lenox Road, NE, Suite 200
Atlanta, Georgia		30326
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (404) 923-3500

Securities registered pursuant to Section 12(b) of the Act:
Not Applicable

Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $0.01 per share
Title of Class

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 þ No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

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

Aggregate market value of the common stock held by non-affiliates of the Registrant, computed using the closing price on the for the Registrant’s common stock on June 30, 2004, was $662,066,572.

Shares of common stock outstanding as of March 1, 2005: 70,626,594

Documents Incorporated by Reference

List hereunder the following documents if incorporated by reference and the Part of the Form 10-K into which the document is incorporated:

Portions of the definitive proxy statement for the annual meeting of shareholders to be held May 12, 2005, which the registrant intends to file no later than 120 days after December 31, 2004, are incorporated by reference in Part III.

PART I

Item 1. Business.

This annual report on Form 10-K and the documents incorporated into this annual report on Form 10-K by reference contain forward-looking statements within the safe harbor provisions of the Private Securities Litigation Reform Act. These statements include statements with respect to our financial condition, results of operations and business. The words “believes,” “expects,” “may,” “will,” “should,” “projects,” “contemplates,” “anticipates,” “forecasts,” “intends” or similar terminology identify forward-looking statements. These statements are based on our beliefs as well as assumptions made using information currently available to us. Because these statements reflect our current views concerning future events, they involve risks, uncertainties and assumptions. Therefore, actual results may differ significantly from the results discussed in the forward-looking statements. The risk factors described below provide examples of risks, uncertainties and events that may cause our actual results to differ materially from the expectations we describe in our forward-looking statements. Except as provided by law, we undertake no obligation to update any forward-looking statement.

Business Overview

We operate and manage S1 in two business segments: our core business financial institutions segment and our Edify business in the voice/speech solutions market. We sell our solutions primarily to traditional financial services providers, such as banks and insurance companies, as well as non-traditional financial providers, such as retailers. Our solutions address the needs of small, mid-sized and large financial organizations in two geographic areas: (i) the Americas region, and (ii) the International region, consisting of Europe, Middle East and Africa (EMEA) and Asia-Pacific and Japan (APJ). Additional information about our operating segments, geographic disclosures and major customers is presented in note 17 to our consolidated financial statements contained elsewhere in this report.

Financial Institutions Segment

Through our financial institutions segment, we provide enterprise and single channel software solutions for financial services organizations, including banks, credit unions and insurance companies around the world. Our solutions help financial institutions improve revenue opportunities, reduce operating costs and enhance customer service by delivering multiple customer-facing applications that can be implemented on a single platform. These interaction channels include:

• Branch and call center applications, or full-service channels, which banks primarily use to provide personalized service and relationship selling through the teller, agent desktop and call center; and

• ATM, Internet and voice applications, or self-service channels, which financial institutions use as a low-cost way to enable customers to conduct simple transactions anytime, anywhere.

S1 applications, which can be sold as standalone applications or as an integrated suite across the enterprise, help financial services providers better service and sell financial products to all of their market segments, ranging from retail consumers and small businesses to global corporations. Our applications also help financial institutions lower the costs associated with supporting their infrastructure and servicing their customers and employees by providing a single platform on which all of their front-office applications and customer information can reside. Our analytical applications enable institutions to better understand their customers, segment their needs, more effectively cross-sell services and improve customer satisfaction.

Our products are designed to run on-premise at a financial institution location, or hosted in a data center. The products can be branded and extended to meet the individual specifications of the financial institution. We provide professional services for the installation and integration of our products, product training, consulting and product enhancement services, all of which are focused on enabling our customers to maximize the value of our applications and meet their particular business needs and strategies. We also provide hosting applications for customers who elect to run S1 solutions in our data center.

We derive a significant portion of our revenues from licensing our solutions and providing professional services. We generate recurring data center revenues by charging our data center customers a monthly fixed fee or a fee based on the number of their end users who use the solutions we provide, subject to a minimum charge. We also generate recurring

revenue by charging customers who license our products a periodic fee for software maintenance. We also generate recurring revenues by charging our customers a periodic fee for term licenses including the right-to-use software and receive maintenance and support. In discussions with our customers and investors, we use the term “subscription” as being synonymous with a term license. We intend to license Enterprise Platform Version 3 and other next generation applications primarily on a subscription basis wherein revenue will be recognized evenly over the term of the contract.

Edify Segment

Through our Edify business segment, we deliver voice and speech solutions for companies across a range of industries. Edify’s products help companies automate their customer service facilities, improve customer satisfaction and create new revenue opportunities, while reducing operational costs. Edify’s voice and speech applications are scalable, multilingual and flexible, allowing companies to easily integrate multiple back-end systems with a variety of contact interfaces. Edify’s voice and speech solutions combine speech recognition, speaker verification, text-to-speech, fax, and touch-tone automation with a powerful application development environment and natural language capabilities to help organizations optimize customer service while lowering costs. Revenues from the Edify business segment accounted for approximately 15% of our total revenues from continuing operations in 2004.

General Background

S1 is headquartered in Atlanta, Georgia with 29 offices in 15 countries, including development Centers of Excellence in Atlanta, Georgia; Boston, Massachusetts; Charlotte, North Carolina; Austin, Texas; West Hills, California; Pune, India; Dublin, Ireland; and Cape Town, South Africa. We are a global software and services organization that has more than 4,000 financial institution customers, ranging from global financial services companies to community banks and credit unions in the United States. S1 is primarily focused on the financial services industry, but also delivers voice, speech, point-of-sale, and payment solutions to retailers and telecommunication companies.

S1 was founded in 1996 when we released the world’s first Internet bank — Security First Network Bank. In 1998, we sold the banking operations to Royal Bank of Canada. We then focused on software development, implementation and services. Our core business was Internet banking and insurance for several years. Through a series of strategic acquisitions and more than $100 million invested in product development activities in the past few years, S1 offers multiple products including our suite of integrated front-office products — S1 Enterprise.

In 2004, we made three strategic acquisitions:

•   X/Net Associates, Inc., a Rochester, New York based provider of lending solutions to financial institutions;

•   Mosaic Software Holdings Limited, a United Kingdom based global provider of solutions that drive ATM and electronic payments: and

•   a business unit from an Indian-based provider of software development, programming, infrastructure development and related services.

The acquisition of X/Net and Mosaic added to S1’s suite of products and increased our customer base. The third acquisition enabled us to cost effectively move from a contracted to an owned development and professional services organization in India with a continuity of workforce.

Financial Industry Background

There are many factors influencing the formation of a new, more competitive environment for financial services providers today. These factors include pressure to grow their businesses organically instead of through mergers/acquisitions, lower interest rates that require banks to generate income through alternative sources, and the need to minimize IT and infrastructure costs while meeting the ever-rising consumer expectations for customer service and convenience. We believe that these factors are influencing financial services companies to look for new ways to more effectively service and sell their customers through all of their interaction channels, including the branch (teller and platform), call center, Internet, phone and ATM.

As in some other industries, financial services providers can more cost-effectively grow their businesses by cross-selling additional products and services to their existing customers. This is difficult to do if they are not able to understand, segment and intelligently market services to these customers. S1 solutions are designed to not only provide financial institutions with greater insight into their customer data, but also into the transactions that their customers conduct. Unlike traditional customer relationship management (“CRM”) solutions that only provide the demographic customer information,

S1’s products are designed to combine customer information with transaction information to provide its customers with a very comprehensive view of their customers.

As each customer interaction channel was introduced, many financial institutions took a tactical approach in expanding their offerings, incrementally adding these new channels as they fit in with their evolving business plans. By and large, each channel functioned independently, with limited, if any, interactions and knowledge of the customer interactions occurring in the other channels. This silo-like infrastructure has become too expensive for many institutions to support and too inefficient for consumers and businesses to try to interact with their financial institution. By implementing multiple applications on a single platform – what we believe to be the value proposition for S1 Enterprise solutions – banks are able to minimize the number of technology platforms, interfaces and administrative resources associated with supporting their operations. S1 Enterprise applications are designed to share common infrastructure elements through the reuse of business objects that help reduce the cost of rolling out new products, implementing upgrades and performing application maintenance.

We believe that financial institutions that provide a unified experience for their customers across multiple points of interaction, delivered at the lowest possible price, will have a key competitive advantage. Financial institutions will need to deliver a consistent and compelling experience to their customers and provide them with products and services that better meet their needs and are relevant to their stage in life. We believe it is very challenging for financial institutions to deal with multiple channels, using different technologies, all of which must be integrated with a variety of legacy applications. Financial institutions are driven by technology and must attempt to keep up with the rapid pace of change. They must determine how to leverage their existing solutions while moving to new technologies that will protect their investments and better position them for the future.

We believe that these factors are influencing the decision on the part of many financial institutions of all sizes to pursue an enterprise solution that helps them reduce their costs, increase their revenue opportunities and improve customer loyalty. With a single platform and common data model, institutions can reduce their costs by using single points of integration to the legacy applications, decreasing operational complexity and eliminating multi-vendor coordination, as well as drive revenue by enhancing cross-selling opportunities and improving the relationships they have with their customers. We are in the process of delivering a fully integrated solution that automates and integrates all of the front-office applications, while providing a technology platform to simplify integration and operations as well as speed implementation and time to market. Our activities during 2002, 2003 and 2004 were focused on the execution of our strategy around the delivery and implementation of this type of enterprise application and getting financial institutions in production on this new platform.

S1 Solutions

Our direction for the S1 Enterprise is to take a holistic approach to unifying a financial institution’s multiple channels, applications, business processes and customer segments. By taking a customer-centric view, we expect that the S1 Enterprise will enable financial institutions to deliver a personalized, compelling experience to their retail, small business and corporate customers. By supporting all customer interaction channels — including full-service channels such as branches, agents and call centers; self-service channels such as voice, ATM and the Internet; and automated interactions such as ACH and wire transfers — we believe that S1 Enterprise will enable financial institutions to deliver a consistent customer experience while helping them rapidly deploy new products and services. S1 Enterprise offers banking, investment, insurance and CRM applications that can be used by both financial institution customers and internal users, such as tellers, agents, brokers, and customer service representatives. We provide flexible, customizable solutions with a modular approach so financial institutions can innovate their enterprise at their own pace, while increasing revenue, lowering costs and building stronger customer loyalty.

In 2004, S1 made several strategic product acquisitions that supported the S1 Enterprise strategy. The acquisition of X/Net Associates, Inc., a provider of consumer and commercial lending solutions, helped augment S1’s online and branch offerings. The acquisition of Mosaic Software Holdings, Limited not only helped complete the S1 Enterprise vision by adding an ATM solution to enable S1 to support all primary customer interaction channels, but also brought electronic payments applications that serve both traditional banks and non-traditional financial providers, such as retailers. We intend to integrate these applications into the S1 family of products to enhance our current solutions and provider greater cross-sell opportunities.

We believe that S1 Enterprise, when fully implemented, will offer a number of important benefits to our customers, including the following:

•   S1 Enterprise turns static customer and transaction data into actionable information to help financial institutions grow revenues — Financial institutions have a wealth of valuable customer information stored throughout their organizations. Their customers also have multiple financial relationships with other providers. S1 Enterprise helps financial institutions collect the data from internal and external systems, giving greater insight into customers and the ability to deliver more personalized service. S1 Enterprise features fully integrated CRM capabilities so that our financial institution customers can leverage customer information and marketing programs across all customer touch points, helping them create profitable and satisfying customer interactions. Our CRM solutions go beyond the traditional approach by turning information such as alerts, awards and promotions into actionable information at the delivery channel of choice for the financial institution’s customer.

•   S1 Enterprise helps banks and insurers deliver compelling, personalized products and services that help increase customer retention — In order to build customer loyalty, financial institutions need to deliver personalized products and services that are timely, relevant and accurate. S1 Enterprise is designed to help financial institutions understand their customer’s buying behaviors, attitudes toward technology and short and long-term financial goals. S1 Enterprise helps financial institutions create more cross-selling opportunities, while maximizing the existing relationships they have established to up-sell additional products and services and to reduce customer turn-over. We believe such personalized service will increase opportunities for cross-selling and create more effective marketing.

•   S1 Enterprise provides integration of multiple applications and channels to lower a financial institution’s costs —S1 Enterprise delivers integrated solutions across all of an institution’s interaction channels and market segments. Delivering all of these services from a common platform enables financial institutions to achieve significant cost savings over time. With the deployment of one application, financial institutions receive comprehensive functionality on an open, flexible, and operable industry platform. With multiple applications, they begin to see true economies of scale with the single platform. This not only reduces integration, maintenance and implementation costs, it can also leverage the cross-channel CRM capabilities for more effective personalization and sales opportunities. All of this capability is delivered while leveraging existing investments in back-office system interfaces.

S1 Vision and Strategy

Our objective is to be the leading global provider of integrated enterprise solutions that enable financial institutions to improve the way they service their customers by integrating all delivery channels, expanding the total financial relationship and increasing profits. To achieve this objective, we intend to pursue the following initiatives:

Achieve Financial and Operational Stability through a Combination of Enterprise Revenue Growth and Continued Cost Control

Within our financial institutions business, we generated approximately 23% of our revenues from services provided to our major insurance customer (State Farm Mutual Automobile Insurance Company) in 2004. The remainder of the revenue was generated from the sale of licenses and services in the global financial services market. Revenue from State Farm of approximately $46 million and $48 million in 2003 and 2004, respectively, is expected to be approximately $45 to $50 million in 2005.

In 2005, we will continue to sell Enterprise solutions to financial institutions. We believe these Enterprise customers will purchase additional Enterprise applications from us.

Beginning in 2005, we intend to license Enterprise Platform 3.0 and certain other applications primarily on a subscription basis where in license revenues will be recognized evenly over the term of the contract. In addition to the recurring license and maintenance revenues we will earn, we expect to generate implementation fees from these sales. In late 2004, the strategic decision to move more of our business to a recurring license revenue model was made. We believe this will provide greater revenue visibility, higher operating margins and more financially balanced customer relationships.

For the year ended December 31, 2004, S1 generated income from continuing operations and net income. In prior years, we made a number of changes to our operating structure which reduced total operating expenses through a combination of office consolidation, headcount reduction and other cost control initiatives. We believe that the combination

of new Enterprise revenue and our continuing focus on cost control will result in the generation of positive cash flow from operations and profits in 2005.

Increase Revenues by Cross-Selling our Products and Services to Existing Customers

We intend to generate revenues by selling additional S1 products and services to our existing customer base of approximately 4,000 financial institutions. We believe that opportunities for cross-selling our products and services will increase as we deliver more of our applications on the S1 Enterprise Platform, and as we continue to add and enhance products through acquisition and internal development. In addition to the sale of new products, the migration of our customer base from single-channel solutions to S1 Enterprise offers further revenue growth opportunities.

S1 Products

We have products that address both the community bank and credit union marketplace, as well as those that address the needs of mid and large-size financial services providers. We generate revenues from the following principal product groups: Banking Solutions, Insurance Solutions, CRM Solutions, Website Solutions, Financial Reporting Solutions and Account Aggregation. At the end of 2004, we added several solutions related to ATM and electronic payments solutions with our acquisition of Mosaic Software.

S1 Banking Solutions

In the third quarter of 2004, we completed the third major release of our flagship suite of products – S1 Enterprise. This release deliver new applications and brought all of S1’s Enterprise solutions (retail Internet, commercial Internet, teller, sales and service platform, call center, voice and analytics) onto a single platform – the S1 Enterprise Platform. The first of its kind, this integrated multi-channel solution architecture solidified S1’s leadership position at the forefront of this mission-critical trend in financial services industry.

In the retail and small business banking markets, we offer the following Internet-based applications:

•   S1Enterprise Personal Banking gives individual consumers anytime, anywhere access to all of their banking accounts, including deposit, credit card and loan accounts. Functions include the ability to view statements, account activity, and cleared and pending transactions online, to transfer funds between accounts and to pay bills electronically.

•   S1Enterprise Business Banking is a comprehensive banking product geared to the unique needs of small business owner-operators. Available services include daily account balance and transaction reporting, disbursement services, payroll, account transfers, wires, and electronic tax payments. Personalization options simplify cash management tasks for easy organization and management of company funds.

•   S1 Internet Banking System (IBS) Retail Banking is designed specifically with the unique needs of the community banking market in mind. This turn-key application includes functions such as the ability to view statements, account activity, and cleared and pending transactions online, to transfer funds between accounts and to pay bills electronically.

•   S1 Consumer Lending offers highly customizable, complete credit origination system designed for indirect, direct, credit card, home equity and revolving credit lending, to be used in conjunction with multiple scoring and decision support tools.

In the commercial banking area, we offer the following Internet-based applications:

• S1Enterprise Corporate Banking is a comprehensive Internet-based cash management solution that helps financial institutions better serve large corporations on a global basis. This application offers multi-lingual, multi-currency and multi-delivery channel capability to perform such functions as information reporting, global payments, check services, file services and customer administration on a global basis.

• S1 IBS Cash Management System is designed to help community banks deliver services to small businesses in the markets that they serve. Functions include integrated front and back office systems, multiple payment vehicles such

    as domestic and SWIFT wires, ACH, and EFTPS, integration with the IBS retail Internet banking application and EDI data display.

•   S1 Enterprise Trade Finance solutions help financial institutions increase the efficiency of processing their trade transactions. S1 Trade Finance delivers one integrated system to create and report on trade documents from purchase order, to letter of credit, to direct collections. These solutions enhance the risk evaluation process for global trade using optimized workflow and reporting and deliver up-to-date status reports on all outstanding trade finance engagements.

•   S1 Business Lending is a complete workflow solution that supports the processing of a financial institution’s small business lending requirements from data entry through qualification, notification, closing and document delivery.

In branch automation, we offer the following solutions:

•   S1 Enterprise Teller is a “smart-client” teller application, combining thin and rich client technologies to provide scalability, real-time connectivity, and low total cost of ownership with extensive offline capabilities. The application is highly flexible and customizable, and its centralized administration capabilities enable quick and efficient rollout of new products, features, and upgrades.

•   S1 Enterprise Sales & Service Platform provides a robust set of transactional capabilities and embedded relationship management tools. With real-time information from all channels and advanced features that support selling, branches can significantly improve their visibility of potential cross-sell and up-sell opportunities, and have the tools to act on those opportunities.

•   S1 Enterprise Call Center offers a full set of workflows, transactions and core services that meet the specialized needs of the call center environment. In addition to the core services found in the teller and platform applications, S1 Enterprise Call Center provides the customer information, sales and service capabilities, process flows, reporting, and the fulfillment management that are exclusive to call center operations.

•   S1 Teller provides the complete set of transactions and core services necessary for fulfilling the rigorous requirements of today’s teller environment, including host communications, sharing and storing of information, cumulative totals, electronic journal, transaction security and approval, and balancing aids.

•   S1 Sales and Service Platform includes an extensive set of transactions, sales tools, and core services that expedite selling new products, as well as servicing existing accounts.

•   S1 Banking Call Center provides the customer information, sales and service capabilities, process flows, reporting, and fulfillment management that are exclusive to call center operations. The S1 Banking Call Center application integrates with other call center technologies, including integrated voice response (IVR) systems, computer telephony integration servers, and automatic call distributor systems.

We offer two voice banking solutions: (1) a complex set of tools that an institution can customize to meet its unique voice banking needs, and (2) a packaged IVR system that is typically used by community banks and mid-size institutions.

• S1 Enterprise Voice Banking, powered by Edify, and speech recognition products help companies automate their customer service facilities, improving customer satisfaction and enabling new revenue-generating opportunities while reducing operational costs. Edify’s voice and speech applications are scalable, multilingual and flexible, allowing companies to easily integrate multiple backend systems with a variety of contact interfaces. Our voice and speech solutions combine speech recognition, speaker verification, text-to-speech, fax, and touch-tone automation with a powerful application development environment and natural language capabilities to help organizations optimize customer service while lowering costs. Edify’s open, standards-based platform manages millions of customer interactions every day across a broad range of industries.

• S1 Voice Banking delivers IVR functionality in a stable, flexible, Windows-based application. With the push of a button or through simple voice commands, users can check on a deposit or account balance, find a CD rate, pay bills or transfer funds.

S1 Insurance Solutions

S1 Insurance solutions include products for both the customer and the agent/intermediary. The applications support product sales capabilities as well as self-service capabilities for the property and casualty and life and annuity markets.

• S1 Consumer Insurance provides the features and functionality to enable insurance providers to improve customer service, acquire new business and reduce costs by providing anytime, anywhere access to meet insurance needs. Customers can view policy information, request changes to their policies, initiate the claims process and get insurance quotes as well as apply and purchase products online.

S1 CRM Solutions

•   S1Enterprise Analytics features easy to use analytical and segmentation tools, comprehensive campaign development and management capabilities, and a unique methodology to drive the results of CRM out to all channels. It permits real time access to customer contact and value information, as well as target campaigns, and significantly enhances the value of CRM efforts.

•   S1 Marketing Center supports the planning and execution of marketing campaigns based on multiple segmentations of customers and prospects. It includes robust inbound and outbound telemarketing features that can be combined with advanced Computer Telephony Integration (CTI) functionality to enhance the efficiency of our customer’s marketing personnel.

•   S1 Sales Center supports sales associates and managers in a telesales or field sales environment by tracking all relevant information and proactively guiding the associate through initiating, closing and tracking opportunities.

•   S1 Support Center enables customer service representatives and managers to create, assign and manage customer support requests such as incidents, problems and resolutions. It provides details of the problem, the ability to request status and history and the ability to suggest products for cross-sell and up-sell.

Website Solutions

• S1 Customer Center is a virtual financial lobby which provides customers with a destination web site or portal that gives them access to product information, news and other content, as well as community pages and bulletin boards. The S1 Customer Center enables financial institutions to efficiently create, manage and quantify their web presence.

Financial Reporting Solutions

• Under the FRS brand, our financial reporting solutions provide financial institutions worldwide with a suite of optimized regulatory reporting, financial intelligence and analytic solutions. FRS FinancialAnalytics provides a consolidated global data foundation to help banks prepare and comply with Basel II and IAS. FRS Regulatory Reporting eases the burden of complying with national regulatory reporting requirements of central banks, monetary authorities, and other financial regulators in more than 20 countries. More than 600 financial institutions, including 37 of the top 50 European financial institutions and 55 and the top 100 global institutions, utilize our financial reporting solutions.

Account Aggregation

• Through our reseller agreement with Yodlee, Inc., which is described in Note 18 to our consolidated financial statements included elsewhere in this report, we provide account aggregation capabilities, which allow the delivery of an integrated balance sheet consolidating, organizing and presenting a consumer’s personal account information from a variety of providers for confidential viewing and access.

Check Truncation Solutions

• S1 Check Truncation module enables S1 Branch Solutions to process checks electronically in accordance with the “Check 21” legislation that went into effect on October 28, 2004. By processing checks electronically, banks are able to reduce their processing costs, provide immediate credit to customers’ accounts, and reduce check fraud.

S1 Services

We provide services to assist our customers in the planning, implementation and customization of their applications as well as ongoing maintenance and support and, if desired, application hosting services.

S1 Hosting Services

Our hosting services provide operational management and control across the full range of banking, insurance, loan, credit card and content applications and information. We host S1 applications for more than 400 customers in our global data center facility in Atlanta, which handles more than 2.5 million transactions every day. Our mature operating environment was designed to address mission-critical operational issues for financial applications, such as security, recovery and availability of data. Our global data center is a hardened facility that can scale to support large volumes of customers.

S1 Customer Support

The S1 Customer Support team offers various levels of service to meet an organization’s support needs and budgets:

•   Technical Support — Customer support engineers will work to provide solutions on S1 products;

•   Software Release Management — Software upgrades that include enhancements to our software as well as operational and performance improvements; and

•   Online Support — The S1 Support Website is designed to provide “one-stop” access to technical information for S1 products. The S1 Support Website provides access to technical FAQs, download patches, the latest documentation, and support bulletins.

S1 Professional Services

Our professional services team helps financial institutions bring their solutions to market — rapidly and efficiently. Our professional services organization is engaged in the following activities:

•   Project Management — Our project managers are responsible for keeping a project on schedule and within budget throughout the implementation cycle;

•   Custom Software Development — Our developers will customize our solutions to meet the specific business requirements of our customers — from analysis and design to building and testing;

•   Technical Services — Our team will design, implement and test the servers and network infrastructure to support our solutions. Our expertise includes software integration, database services, networking and the applications skills required to deliver secure, robust solutions;

•   Educational Services — Our training professionals help financial institutions train their employees to use our solutions to better serve their customers; and

•   Web Design Services — Our web design group is available to assist with delivery of a complete web presence for financial institutions.

Customers and Markets

We provide solutions to all sizes of financial institutions, ranging from global financial services organizations to community banks and credit unions. Currently, we serve approximately 4,000 banks, credit unions and insurance providers and retailers.

We also provide product enhancement, implementation, and hosting services to State Farm Mutual Automobile Insurance Company. Revenues from State Farm were 23%, 18% and 20% of our revenues from continuing operations during the years ended December 31, 2002, 2003 and 2004, respectively. We expect revenues from this customer to be approximately 15% to 20% of our total revenues in 2005.

Strategic Alliances and Partners

We have built a global network of more than 40 alliances, allowing us to more fully extend our expertise, capabilities, and reach within the financial services industry. We have established strategic, technology, and channel relationships with a number of organizations. We have alliances with companies such as IBM and BearingPoint as well as with numerous core processing vendors, bill payment providers, credit card processing vendors and printed product vendors. In certain geographies, including Asia, the Middle East and some European countries, we are using partners as our primary sales channel to increase our market reach. In 2004, we established several new international distribution relationships including Misys, one of the largest international core processors, and EverSystems, a key reseller in our Latin America region. These relationships will not only extend our sales efforts to new corners of the world, but will also increase the market share of financial institutions using S1 Enterprise solutions.

Sales and Marketing

We sell our solutions primarily to small, mid-sized and large financial organizations. Our sales force is comprised of professionals structured in three major regional groups: (i) the Americas region, (ii) the Europe, Middle East and Africa region (EMEA) and (iii) the Asia-Pacific and Japan (APJ) region. We reported revenues from continuing operations of $284 million, $248 million and $241 million in 2002, 2003 and 2004, respectively, of which 72%, 71% and 80%, respectively, were attributed to sales in the United States.

In the Americas region, our sales force is a mix of named account support, geographic support and inside sales support, depending on the size of the financial institution. The named accounts sales force focuses on developing long-term relationships with senior management team members of financial institutions. Once we have established a relationship with these organizations and their senior management teams, the sales team continues to market additional products and services to them. The sales cycle for large financial institutions generally lasts from six to 18 months. Contracts with these large financial organizations typically have multi-year terms. Sales to the small community and regional financial institutions are executed by a telephone sales team. The sales cycle for these small to mid-sized financial organizations typically lasts from six to nine months, and the contracts entered into with them typically provide for direct delivery and service requirements. In addition, we have relationships with distribution partners, thereby maximizing our market penetration through the reseller channel.

In the EMEA region, we sell through both a named account structure in specific territories such as the United Kingdom, Belgium, the Netherlands, Germany, France, Luxemburg, Spain and Portugal, and through resellers in other territories such as Switzerland, Italy, the Middle East and Africa. In the APJ region our sales efforts are focused primarily through resellers in countries such as China, Hong Kong, Taiwan, Malaysia and Singapore.

Within each group are trained sales support personnel who provide functional and technical expertise to maximize the customer’s understanding of S1’s solutions.

In addition to internal sales efforts and joint efforts with distribution partners, S1 markets its products and services in other ways to build awareness of the S1 brand. Our marketing efforts include participating in and exhibiting at industry conferences and trade shows, hosting an annual users conference, maintaining memberships in key industry organizations and establishing close relationships with industry analysts to help guide product development and marketing efforts.

Product Development

Our product development efforts are focused on:

• Enhancing the S1 Enterprise Platform. In mid-2004, we delivered the third major release of our S1 Enterprise solution. This release included the delivery of most of our major customer-interaction channel applications on the S1 Enterprise Platform. These applications include our Internet retail, Internet small business, Internet cash management, teller, sales and service platform, call center and CRM solutions. Utilizing leading industry standards such as J2EE, the S1 Enterprise Platform is an open, flexible and scalable architecture that will serve as a common base for S1 product deployments. Its layered framework ensures that all applications are consistent in their interpretation and presentation of all data and that they can be consistently extended, upgraded, maintained and operated. It also allows all applications and channels to access customer information via a single database.

• Creating Development Centers of Excellence. In 2004, we established two new Development Centers of Excellence: S1 established its Pune, India Center of Excellence with the acquisition of the Indian-based business unit discussed above. With the acquisition of Mosaic Software, S1 added a Center of Excellence in Cape Town, South Africa which is focused on ATM, electronic funds transfer and payment solutions. Other existing Centers include Charlotte, North Carolina for banking; Littleton, Massachusetts for insurance; West Hills, California for branch automation; Dublin, Ireland for CRM and the Enterprise Platform; and Austin, Texas for community banking and voice banking. Atlanta, Georgia serves as the integration center supporting the development centers.

• Enhancing Existing Products and Services. We are developing new functions and features across our entire product line in order to provide a broader range of capabilities and continue to best meet our customer’s needs.

We spent $42.8 million, $39.3 million and $43.7 million on product development efforts for our financial institutions segment in 2002, 2003 and 2004, respectively. During 2005, we expect product development costs for our financial institutions segment to be between $46 million and $52 million.

Competition

The market for financial software is competitive, rapidly evolving and subject to technological change. We currently perceive our near-term competition as coming from primary four areas: (1) in-house development organizations of financial institutions, (2) best-of-breed solution providers (3) core processing vendors and (4) enterprise solution vendors. We perceive our long-term competition as coming from other enterprise software providers.

In-house Development Organizations

We believe financial organizations may encounter the following challenges when building financial software in-house:

•   building, maintaining and upgrading an in-house solution can be very costly;

•   attracting and retaining the necessary technical personnel can be difficult and costly; and

•   technological development may be too far outside the financial organization’s core competencies to be effective or successful.

Best-of-Breed Solution Providers

These vendors offer solutions for a specific line of business and/or channel for the financial institution. In the retail Internet banking space, we compete primarily with Digital Insight Corporation, Financial Fusion (a division of Sybase, Inc.), and Corillian Corporation. In branch banking, we compete primarily with Argo Data Resource, Inc. and Fidelity Information Services, Inc. In business banking, we compete primarily with Fundtech Ltd., P&H Solutions, Financial Fusion, Inc. and Digital Insight. In CRM, we compete with Siebel Systems, Inc., PeopleSoft, Inc. and Onyx Software Corporation. We believe the disadvantages associated with a best of breed solution approach include:

•   integrating applications and channels from multiple vendors greatly lengthens a financial organization’s time-to-market and implementation costs;

•   operating and upgrading solutions from multiple vendors is very costly; and

•   a combination of best-of-breed solutions across different channels does not provide a single view of the customer.

Core Processing Vendors

These vendors offer data processing services and outsourcing for financial institutions’ systems of record. In this space, we compete with companies such as Fidelity National, Metavante, Fiserv, Inc. and Jack Henry and Associates, Inc. Many of these companies offer front-office products at a sharp discount to augment their back-office capabilities. We believe the primary disadvantage of this approach is that these front-office applications will lag behind the market to some degree in terms of functions and features and are of secondary focus to the vendor behind their back-office products and services.

Enterprise Solution Vendors

As we continue to roll out our Enterprise suite in 2005, we believe we may increasingly see interest and competition from various enterprise software and solution providers, such as SAP Aktiengesell, Oracle Corporation and Seibel. We believe our advantage in the financial services market will continue to stem from our deep domain knowledge and tight

integration with the various key business systems within our financial organization customers base. Additionally, our large installed base will differentiate our ability to establish, deliver and defend our core market over time.

Government Regulation

We are subject to examination by, and are indirectly regulated by, the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of Thrift Supervision and the various state financial regulatory agencies that supervise and regulate the banks and thrift institutions for which we provide data processing services. Matters subject to review and examination by federal and state financial institution regulatory agencies include our internal controls in connection with our performance of data processing services and the agreements giving rise to those processing activities.

Laws and regulations that apply to communications and commerce over the Internet are becoming more prevalent. Currently, there are Internet laws regarding copyrights, taxation and the transmission of specified types of material. Congress also adopted legislation imposing obligations on financial institutions to notify their customers of the institution’s privacy practices, restrict the sharing of non-public customer data with non-affiliated parties at the customer’s request, and establish procedures and practices to protect and secure customer data. These privacy provisions are implemented by regulations with which compliance is now required. Additionally, many legislative and regulatory actions have been enacted or are pending at the state and federal level with respect to privacy. Further, our customers and we may be faced with state and federal requirements that differ drastically, and in some cases conflict. In addition, the European Union enacted its own privacy regulations and is currently considering other Internet-related legislation. The law of the Internet, however, remains largely unsettled, even in areas where there has been some legislative action. It may take years to determine whether and how existing laws such as those governing intellectual property, privacy, libel and taxation apply to the Internet. In addition, the growth and development of the market for online financial services, including online banking, may prompt calls for more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on companies conducting business online. We are also subject to encryption and security export laws which, depending on future developments, could adversely affect our business.

Employees

As of February 28, 2005, we had approximately 1,666 employees, including 653 in customer support, hosting services and professional services, 197 in sales and marketing and 690 in product development. In addition to full-time employees, we have used the services of various independent contractors for professional services projects and product development.

Available Information

Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934 are available free of charge at our website at www.s1.com as soon as reasonably practicable after we electronically file such materials with, or furnish to, the Securities and Exchange Commission. You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site (www.sec.gov) that contains our reports.

Risk Factors

You should consider carefully the following risks. If any of the following risks actually occur, our business, financial condition or results of operations would likely suffer. In that case, the trading price of our common stock could decline, and you may lose all or a part of the money you paid to buy our common stock.

Our quarterly operating results may fluctuate and any fluctuations could adversely affect the price of our common stock

Our quarterly operating results have fluctuated significantly to date. If we fail to meet the expectations of securities analysts or investors as a result of any future fluctuations in our quarterly operating results, the market price of our common stock would likely decline. We may experience fluctuations in future quarters because:

• we cannot accurately predict the number and timing of contracts we will sign in a period, in part because the budget constraints and internal review processes of existing and potential customers are not within our control;

• we are at the start of a transition of selling our financial institutions products on a perpetual license to a term or subscription license; we cannot accurately predict how long it will take to complete this transition or the mix of perpetual licenses to term licenses sold in any one quarter. Term licenses significantly reduce the amount of revenue recognized in the first year of the contract, but increase the overall revenue earned from the customer during the typical customer life cycle;

• the length of our sales cycle to large financial organizations generally lasts from six to eighteen months, which adds an element of uncertainty to our ability to forecast revenues;

• if we fail to introduce new or enhanced products, or if our competitors introduce new or enhanced products, sales of our products and services may not achieve expected levels and/or may decline;

• our ability to expand the mix of distribution channels through which our products are sold may be limited;

• our products may not achieve widespread consumer acceptance, which could cause our revenues to be lower than expected;

• we have had significant contracts with legacy customers that have decreased or terminated their services and we may not be able to replace this revenue and / or the gross margins associated with this revenue;

• our sales may be constrained by the timing of releases of third-party software that works with our products; and

• a significant percentage of our expenses is relatively fixed, and we may be unable to reduce expenses in the short term if revenues decrease.

• the migration of our license sales model to be more focused on recurring revenue contracts may result in less predictable revenue due to an inability to predict the rate at which it is adopted by our customers, or the rate at which it may be deferred.

In 2005, we will depend on one customer for a significant portion of our revenue and if that customer terminates its contract with us, our revenues and financial performance would decline

In 2004, we derived 20% of our total revenues from continuing operations from one customer. This customer accounted for 23% and 18% of our total revenue from continuing operations in 2002 and 2003, respectively. Over the past three years, this customer has moved from a period of heavy investment and is now entering a more stable maintenance state with their applications. We expect revenues from this customer to be approximately 15% to 20% of our total revenues in 2005.

System failures or performance problems with our products could cause demand for these products to decrease, require us to make significant capital expenditures or impair customer relations

There are many factors that could adversely affect the performance, quality and desirability of our products and could delay or prevent these products from gaining market acceptance. These factors include, but are not limited to the following:

• extraordinary end-user volumes or other events could cause systems to fail;

• our products could contain errors, or “bugs”, which could impair the services we provide;

• during the initial implementation of some products, we have experienced significant delays in implementing and integrating software, and we may experience similar difficulties or delays in connection with future implementations and upgrades to new versions; and

• many of our products require integration with third-party products and systems, and we may not be able to integrate these products with new or existing products.

We have experienced substantial losses in the past and may not achieve or maintain profitable operations in the future

Although we were profitable in the fourth quarter of 2003 and throughout 2004, we incurred losses in fiscal years 2002 and 2003. We are beginning the transition from a perpetual license revenue model to a term or subscription license model which may significantly reduce the amount of revenue in any one quarter during the transition. As a result, we could experience losses, which could negatively impact the value of our common stock.

We are engaged in offshore software development activities, which may not be successful and which may put our intellectual property at risk

In order to optimize available research and development resources and meet development timeframes, in 2002, we acquired a development center in Dublin, Ireland. In 2004, we acquired a previously contracted Indian based development center. This center had been operated as a contracted facility since 2001. In 2004, associated with our acquisition of Mosaic, we acquired a development center in Cape Town, South Africa. While our experience to date with these offshore development activities has been positive, there is no assurance that this will continue. Specifically, there are a number of risks associated with this activity, including but not limited to the following:

• communications and information flow may be less efficient and accurate as a consequence of the time, distance and language differences between our primary development organization and the foreign based activities, resulting in delays in development or errors in the software developed;

• potential disruption from the involvement of the United States in the conflicts in the Middle East region;

• the quality of the development efforts undertaken offshore may not meet our requirements because of language, cultural and experiential differences, resulting in potential product errors and/or delays;

• we have experienced a greater level of voluntary turnover of personnel in India than in other development centers which could have an adverse impact on efficiency and timeliness of development as well as the opportunity for misappropriation of our intellectual property; and

• in addition to the risk of misappropriation of intellectual property from departing personnel, there is a general risk of the potential for misappropriation of our intellectual property that might not be readily discoverable.

Our operating results would suffer if we were subject to a protracted infringement claim or a significant damage award.

Substantial intellectual property litigation and threats of litigation exist in our industry. The number of patents issued protecting software and business methods has grown significantly in recent years, with the scope of such patents often unclear. Additionally, copyright and trade secrets are regularly asserted as a means for protecting software. We expect software to be increasingly subject to third-party intellectual property infringement claims as a result of the increased level of intellectual property based actions relating to such technology and methods, and as the number of competitors grows and the functionality of products in different industry segments overlaps.

Third parties may have, or may eventually be issued, patents or assert copyrights and/or trade secrets that would be infringed by our products or technology. Any of these third parties could make a claim of infringement against us with respect to our products or technology. In some instances, our customers may be accused of infringing the intellectual property rights of third parties. As a result, we provide limited indemnity for our customers against infringement claims. Even if such accusations ultimately prove lacking in merit, the disposition of such disputes may be costly, distracting, and result in damages, royalties, or injunctive relief preventing the use of the intellectual property in question and may require entering into licensing agreements, redesigning our products or ceasing production entirely.

Any claims, with or without merit, could have the following negative consequences:

•   costly litigation and damage awards;

•   diversion of management attention and resources;

•   product shipment delays or suspensions;

•   injunction prohibiting us from selling our products; and

•   the need to enter into royalty or licensing agreements, which may not be available on terms acceptable to us, if at all.

Acquisitions and divestitures may be costly and difficult to integrate / divest, divert management resources or dilute stockholder value

We acquired two companies in the first quarter of 2002 and three companies in 2004. We also divested one company in 2004. The integration of these companies and any future acquisitions into our existing operations is a complex,

time-consuming and expensive process and may disrupt our business. With acquisitions made prior to 2001, we have encountered difficulties, costs and delays in integrating the acquired operations with our own and may continue to do so in the future. Among the issues related to integration are:

• potential incompatibility of business cultures;

• potential delays in rationalizing diverse technology platforms;

• potential difficulties in coordinating geographically separated organizations;

• potential difficulties in re-training sales forces to market all of our products across all of our intended markets;

• potential difficulties implementing common internal business systems and processes;

• potential conflicts in third-party relationships; and

• the loss of key employees and diversion of the attention of management from other ongoing business concerns.

A significant portion of our customers are in a consolidating financial services industry, which is subject to economic changes that could reduce demand for our products and services

For the foreseeable future, we expect to derive most of our revenue from products and services we provide to the banking industry and other financial services firms such as insurance companies. Changes in economic conditions and unforeseen events, like recession or inflation, could occur and reduce consumers’ use of banking services. Any event of this kind, or implementation for any reason by banks of cost reduction measures, could result in significant decreases in demand for our products and services. Mergers and acquisitions are pervasive in today’s banking industry. Our existing customers may be acquired by or merged into other financial institutions that have their own financial software solutions or decide to terminate their relationships with us for other reasons. As a result, our sales could decline if an existing customer is merged into or acquired by another company.

We are involved in litigation over proprietary rights, which may be costly and time consuming

We have received a claim that certain of our products, trademarks or other proprietary rights require a license of intellectual property rights or infringe, or may infringe, on the intellectual property rights of others. Those claims, with or without merit, could:

• be time-consuming to investigate and defend;

• result in costly litigation;

• cause product shipment delays;

• require us to enter into royalty or licensing agreements; or

• result in an injunction being issued against the use of our products.

Royalty or licensing agreements, if required, may not be available on terms acceptable to us, or at all, which could harm our business, financial condition and results of operations. Litigation to determine the validity of any claims could result in significant expense to us and divert the efforts of our technical and management personnel from productive tasks, whether or not the litigation is determined in our favor. In the event of an adverse ruling, we may be required to:

• pay substantial damages;

• discontinue the use and sale of infringing products;

• expend significant resources to develop non-infringing technology; or

• obtain licenses to infringing technology.

Our failure to develop or license a substitute technology could significantly harm our business.

Market volatility may affect the price of our common stock

The trading prices of technology stocks in general, and ours in particular, have experienced extreme price fluctuations. Our stock price has declined significantly since reaching a high in 2000. Any further negative change in the public’s perception of the prospects of technology based companies, particularly those which are associated with the Internet or e-commerce such as ours, could further depress our stock price regardless of our results of operations. Other broad market and industry factors may decrease the trading price of our common stock, regardless of our operating performance. Market fluctuations, as well as general political and economic conditions such as a recession or interest rate or currency rate fluctuations, also may decrease the trading price of our common stock. In addition, our stock price could be subject to wide fluctuations in response to the following factors:

• actual or anticipated variations in our quarterly operating results;

• 23% of our common stock is owned by 4 institutions, a rapid change in position of any one of these holders could cause a significant drop in our stock price if market demand is insufficient to meet sales demand;

• announcements of new products, product enhancements, technological innovations or new services by us or our competitors;

• changes in financial estimates by securities analysts;

• conditions or trends in the computer software, electronic commerce and Internet industries;

• changes in the market valuations of other technology companies;

• developments in Internet regulations;

• announcements by us or our competitors of significant acquisitions, strategic partnerships, joint ventures or capital commitments;

• unscheduled system downtime of our products in either a hosted or in-house environment;

• additions or departures of key personnel; and

• sales of our common stock or other securities in the open market.

Future sales of our common stock in the public market could negatively affect our stock price

If our stockholders sell substantial amounts of our common stock, including shares issued when options and warrants are exercised or shares of our preferred stock are converted into common stock, the market price of our common stock could fall. As of March 1, 2005, we had 70.6 million shares of common stock outstanding, assuming no exercise of outstanding options or warrants or conversion of preferred stock. As of March 1, 2005, there were outstanding employee stock options to purchase 14.4 million shares of our common stock and 0.8 million shares of preferred stock convertible into an aggregate of 1.1 million shares of our common stock. The common stock issuable after vesting and upon exercise of these options and warrants and upon conversion of this preferred stock will be eligible for sale in the public market from time to time. The possible sale of a significant number of these shares may cause the market price of our common stock to fall. Some of the holders of restricted shares of our common stock, our preferred stock and vested options or warrants have rights that may require us to register shares of common stock with the Securities and Exchange Commission. By exercising their registration rights and causing a large number of shares to be sold in the public market, these stockholders could cause the market price of our common stock to fall.

Our market is highly competitive and if we are unable to keep pace with evolving technology our revenue and future prospects may decline

The market for our products and services is characterized by rapidly changing technology, intense competition and evolving industry standards. We have many competitors who offer various components of our suite of applications or who use a different technology platform to accomplish similar tasks. In some cases, our existing customers also use some of our competitors’ products. Our future success will depend on our ability to develop, sell and support enhancements of current products and new software products in response to changing customer needs. If the completion of the next version of any of our products is delayed, our revenue and future prospects could be harmed. In addition, competitors may develop products or technologies that the industry considers more attractive than those we offer or that render our technology obsolete.

International operations may adversely affect us

We conduct our business worldwide and may be adversely affected by changes in demand resulting from:

• fluctuations in currency exchange rates;

• governmental currency controls;

• changes in various regulatory requirements;

• political and economic changes and disruptions;

• difficulties in enforcing our contracts in foreign jurisdictions;

• export/import controls;

• tariff regulations;

• difficulties in staffing and managing foreign sales and support operations;

• greater difficulties in trade accounts receivable collection; and

• possible adverse tax consequences.

Our solutions use encrypted technology, the export of which is regulated by the United States government. If the United States government were to adopt new legislation restricting the export of software or encryption technology, we could experience delays or reductions in our shipments of products internationally. In addition, existing or future export regulations could limit our ability to distribute our solutions outside of the United States.

We maintain our international executive offices and a significant portion of our maintenance, consulting, and research and development operations in Europe. Therefore, our operations may also be affected by economic conditions in Europe. The risks associated with international operations may harm our business.

Infringement of our proprietary technology could hurt our competitive position and income potential

Our success depends upon our proprietary technology and information. We rely on a combination of patent, copyright, trademark and trade secret laws and confidentiality procedures to protect our proprietary technology and information. Because it is difficult to police unauthorized use of software, the steps we have taken to protect our services and products may not prevent misappropriation of our technology. Any misappropriation of our proprietary technology or information could reduce any competitive advantages we may have or result in costly litigation. We now also have a significant international presence. The laws of some foreign countries may not protect our proprietary technology as well as the laws of the United States. Our ability to protect our proprietary technology abroad may not be adequate.

If we are unable to attract and retain highly skilled technical employees, we may not be able to compete

Based on the need for highly skilled technical employees, we believe that our future success will depend in large part on our ability to attract and retain highly skilled technical personnel. Because the development of our software requires knowledge of computer hardware, as well as a variety of software applications, we need to attract and retain technical personnel who are proficient in all these disciplines. There is substantial competition for employees with the technical skills we require. If we cannot hire and retain talented technical personnel, this could adversely affect our growth prospects and future success.

We are subject to government regulation

We are subject to examination, and are indirectly regulated, by the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of Thrift Supervision and the various state financial regulatory agencies that supervise and regulate the banks and thrift institutions for which we provide data processing services. Matters subject to review and examination by federal and state financial institution regulatory agencies include our internal controls in connection with our performance of data processing services and the agreements giving rise to those processing activities.

The adoption or modification of laws or regulations relating to the Internet, or interpretations of existing law, could adversely affect our business

Laws and regulations which apply to communications and commerce over the Internet are becoming more prevalent. Currently, there are Internet laws regarding copyrights, taxation and the transmission of specified types of material. Congress also

adopted legislation imposing obligations on financial institutions to notify their customers of the institution’s privacy practices, restrict the sharing of non-public customer data with non-affiliated parties at the customer’s request, and establish procedures and practices to protect and secure customer data. These privacy provisions are implemented by regulations with which compliance is now required. Additionally, many legislative and regulatory actions have been enacted or are pending at the state and federal level with respect to privacy. Further, our customers and we may be faced with state and federal requirements that differ drastically, and in some cases conflict. In addition, the European Union enacted its own privacy regulations and is currently considering other Internet-related legislation. The law of the Internet, however, remains largely unsettled, even in areas where there has been some legislative action. It may take years to determine whether and how existing laws such as those governing intellectual property, privacy, libel and taxation apply to the Internet. In addition, the growth and development of the market for online financial services, including online banking, may prompt calls for more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on companies conducting business online.

Item 2. Properties.

Our executive offices and our headquarters for our financial institutions segment are located in Atlanta, Georgia. For our financial institutions segment, our primary office for EMEA operations is in London and our primary office for APJ operations is in Singapore. Our global data center is located in the Atlanta metropolitan area. We maintain additional domestic offices in Boston, Massachusetts; Charlotte, North Carolina; Austin, Texas; Deerfield Beach, Florida; Rochester, New York and West Hills, California. We maintain additional international offices in Brussels, Beijing, Cape Town, Dublin, Hong Kong, Johannesburg, Lisbon, London, Luxembourg, Madrid, Munich, Paris, Pune and Rotterdam. We lease all of our office space and data center facilities.

Our Edify business segment is headquartered in Santa Clara, California and maintains offices in the London and Dublin.

Item 3. Legal Proceedings.

Except as noted below, there are no material pending legal proceedings, other than ordinary routine litigation incidental to the business, to which S1, or any of its subsidiaries is a party or which their property is subject.

As reported in previous filings with the SEC, S1 Corporation is involved in litigation with Tradecard, Inc. relating to a claim of infringement of U.S. Patent 6,151,588 filed in the U.S. District Court for the Southern District of New York. The action was filed in March 2003 against S1 Corporation, Bank of America Corporation and Bank of America National Association. We believe that the plaintiff’s claims are not meritorious and intend to vigorously defend the suit.

While we do not believe that the above matter or any other pending litigation will be material to our financial position or results of operations, there can be no assurance on the ultimate outcome of this matter. An adverse judgment or settlement could be material to our financial position and results of operations.

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

(a) Not applicable.

(b) Not applicable.

(d) Not applicable.

PART II

Item 5. Market for Registrant’s Common Equity and Related Stockholder Matters.

(a) Our common stock is quoted on the Nasdaq National Market under the symbol “SONE”. The following table shows, for the periods indicated, the high and low prices per share of our common stock as reported on the Nasdaq National Market.


	High		Low
2003
First Quarter	$	5.78	$	4.50
Second Quarter		5.15		3.50
Third Quarter		5.45		3.45
Fourth Quarter		9.60		4.93

2004
First Quarter	$	9.73	$	6.66
Second Quarter		10.65		7.60
Third Quarter		9.94		7.27
Fourth Quarter		10.08		7.91

As of the close of business on March 1, 2005 there were 615 holders of record of our common stock. We have never paid or declared cash dividends on our common stock or preferred stock and do not anticipate paying cash dividends on our capital stock in the foreseeable future, although there are no restrictions on our ability to do so.

(b) Not applicable.

Issuer Purchases of Equity Securities


	Total				Total Number of Shares		Approximate Dollar Value
	Number of				Purchased as Part of		of Shares that May Yet Be
	Purchased		Average Price		Publicly Announced Plans		Purchased Under the
	Shares		Paid per Share		or Programs		Plans or Programs
October 1, 2004 to October 31, 2004		42,350	$	8.44		42,350	$	3,406,529
November 1, 2004 to November 30, 2004		—		—		—		—
December 1, 2004 to December 31, 2004		—		—		—		—

Total		42,350	$	8.44		42,350	$	3,406,529

In October 2003, our board of directors approved a stock repurchase program. This program authorizes the repurchase of up to $15.0 million of our common stock on the open-market subject to pre-defined purchase guidelines. There is no expiration date for this program. As of December 31, 2004, we had repurchased 1.5 million shares at a cost of $11.6 million under this program. As of December 31, 2004, we are authorized to repurchase an additional $3.4 million of our common stock at market prices.

Item 6. Selected Financial Data.

The following table presents selected statement of operations data, selected balance sheet data and other selected data for S1 on a consolidated basis. We derived the selected historical consolidated financial data presented below from our audited consolidated financial statements and related notes. You should read this data together with our audited consolidated financial statements and related notes.


				Year Ended December 31,
	2000 ⁽¹⁾			2001⁽²⁾			2002⁽³⁾⁽⁴⁾			2003⁽⁴⁾			2004⁽⁴⁾⁽⁵⁾
	(in thousands, except per share data)
Statement of Operations Data:
Total revenues	$	229,506		$	270,883		$	284,037		$	247,618		$	241,043
(Loss) income from continuing operations		(1,153,109	)		(221,831	)		(14,778	)		(30,096	)		8,159
(Loss) income from discontinued operations		(24,569	)		288			(1,619	)		(8,076	)		7,411
Net (loss) income		(1,177,678	)		(221,543	)		(16,397	)		(38,172	)		15,570

(Loss) earnings per share:
Basic:
Continuing operations	$	(21.32	)	$	(3.74	)	$	(0.22	)	$	(0.43	)	$	0.12
Discontinued operations		(0.45	)		0.00			(0.02	)		(0.12	)		0.10

Net (loss) income per share	$	(21.77	)	$	(3.74	)	$	(0.24	)	$	(0.55	)	$	0.22


Diluted:
Continuing operations	$	(21.32	)	$	(3.74	)	$	(0.22	)	$	(0.43	)	$	0.11
Discontinued operations		(0.45	)		0.00			(0.02	)		(0.12	)		0.10

Net (loss) income per share	$	(21.77	)	$	(3.74	)	$	(0.24	)	$	(0.55	)	$	0.21


			As of December 31,
	2000		2001		2002		2003		2004
	(in thousands)
Balance Sheet Data:
Cash and cash equivalents	$	145,486	$	106,366	$	94,162	$	76,713	$	43,223
Short-term investments		27,780		42,235		48,523		87,477		65,248
Working capital		165,704		129,827		120,864		125,940		105,232
Goodwill, net		195,428		79,723		106,971		93,462		117,699
Total assets		606,704		372,037		376,974		337,088		340,881
Notes payable		3,822		—		—		—		—
Capital lease obligation, excluding current portion		6,226		1,450		185		523		1,572
Stockholders’ equity		467,745		274,618		279,761		243,814		254,996


				Year Ended December 31,
	2000 ⁽¹⁾			2001⁽²⁾		2002⁽³⁾⁽⁴⁾		2003⁽⁴⁾		2004⁽⁴⁾
	(in thousands)
Other Selected Data:
Cash (used in) provided by operating activities	$	(150,712	)	$	11,894	$	21,421	$	22,374	$	(15,244	)
Depreciation		25,849			29,170		22,425		16,517		10,226
Amortization and impairment of acquisition intangible assets		1,055,133			79,212		17,460		17,392		3,483
Weighted average common shares outstanding -basic		54,096			59,242		67,725		69,872		70,613
Weighted average common shares outstanding – diluted		n/a			n/a		n/a		n/a		73,130

(1)		Our net loss, net loss per share and cash flows for the year ended December 31, 2000 were affected by the results of the operations from acquired businesses, including FICS Group, N.V. (November 1999), Edify Corporation (November 1999), VerticalOne Corporation (November 1999) and Q-Up Systems, Inc (April 2000). Revenues and expenses from the operations of these acquired businesses were included in our operations from their respective dates of acquisition. Our net loss and net loss per share for the year ended December 31, 2000 included an impairment charge of $646.3 million for goodwill and other intangible assets.

(2)		Our net loss and net loss per share for the year ended December 31, 2001 were affected by the loss on the sale of VerticalOne of $52.3 million and charges of $61.9 million from our equity investment in Yodlee.

(3)		Our net loss, net loss per share and cash flows for the year ended December 31, 2002 were affected by the results of operations from acquired businesses, including Software Dynamics, Inc. (September 2001), Regency Systems, Inc. (February 2002) and the assets and subsidiaries of Point Holdings, Ltd. (March 2002). Revenues and expenses from the operations of these acquired businesses were included in our operations from their respective dates of acquisition.

(4)		Our results for the years ended December 31, 2002, 2003 and 2004 were positively affected by the adoption of a new accounting principle, Statement of Financial Accounting Standards No. 142 “Goodwill and Other Intangible Assets.” Effective January 1, 2002, we stopped amortizing goodwill and assembled workforce, which was reclassified to goodwill.

(5)		Our net income for the year ended December 31, 2004 includes the gain on disposal of discontinued operations of $8.6 million.

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

This annual report contains forward-looking statements and information relating to our subsidiaries and us. The words “believes,” “expects,” “may,” “will,” “should,” “projects,” “contemplates,” “anticipates,” “forecasts,” “intends” or similar terminology identify forward-looking statements. These statements are based on the beliefs of management as well as assumptions made using information currently available to management. Because these statements reflect the current views of management concerning future events, they involve risks, uncertainties and assumptions. Therefore, actual results may differ significantly from the results discussed in the forward-looking statements. You are urged to read the risk factors described under the caption “Risk Factors” in Item 1 of Part I of this report. Except as required by law, we undertake no obligation to update publicly any forward-looking statement for any reason, even if new information becomes available.

The following discussion should be read in conjunction with the audited condensed consolidated financial statements and notes appearing elsewhere in this report.

Executive Overview

We operate and manage S1 in two business segments: our core business in financial services and the Edify business in the voice/speech solutions market. We sell our solutions primarily to traditional financial services providers, such as banks and insurance companies, as well as non-traditional financial providers, such as retailers. Our solutions address the needs of small, mid-sized and large financial organizations. We derive a significant portion of our revenues from licensing our solutions and providing professional services. We generate recurring revenue from support and maintenance as well as from hosting revenue related to hosting applications sold to customers in our data center revenues. We also generate recurring revenues by charging our customers a periodic fee for term licenses including the right-to-use software and receive maintenance and support for a specified period of time. In discussions with our customers and investors, we use the term “subscription” as being synonymous with a term license. We intend to license Enterprise Platform 3.0 and other next generation applications primarily on a subscription basis wherein revenue will be recognized evenly over the term of the contract.

We sell our solutions to small, mid-sized and large financial organizations in two geographic regions: (i) the Americas region and (ii) the International region, consisting primarily of Europe, the Middle East region and Africa (EMEA) and the Asia-Pacific region and Japan (APJ). Our S1 Enterprise solutions target banks, credit unions and insurance companies. We have over 4,000 financial institution customers, the majority of which are located in the United States.

Through our Edify business segment, we deliver voice and speech solutions for companies in a wide range of industries. Edify’s products help companies automate their customer service facilities, improve customer satisfaction and create new revenue generating opportunities, while reducing operational costs. Edify’s voice and speech applications are scalable, multilingual and flexible, allowing companies to easily integrate multiple back-end systems with a variety of customer contact center applications interfaces. Edify’s voice and speech solutions combine speech recognition, speaker verification, text-to-speech, fax, and touch-tone automation with a powerful application development environment and natural language capabilities to help organizations optimize customer service while lowering costs.

In 2004, within our financial institutions business, we generated approximately 23% of our revenues from services provided to our major customer, State Farm Mutual Automobile Insurance Company. Revenue from State Farm was approximately $48 million and $46 million in 2004 and 2003, respectively, and is expected to be approximately $45 million to $50 million in 2005. The remainder of the revenue was generated from the sale of licenses and services in the global financial services market. In the fourth quarter of 2003, we substantially completed a transition from our legacy Internet-only business to an Enterprise software and services business. During the transition, we experienced a loss or decrease of revenue from legacy Internet-only customers. Another major customer, Zurich Insurance Company, whose contract with us expired on December 31, 2003, accounted for approximately $43 million in revenue in 2003, did not generate any revenue for S1 in 2004. In addition to Zurich, we had a number of other legacy Internet-only customers that cancelled their hosting contracts or moved to “in house” implementations contributing to an estimated loss of data center revenue from 2003 to 2004 of approximately $5 million. We believe the majority of these data center revenue transitions were substantially completed during the third and fourth quarters of 2003.

Throughout 2003 and 2004, we continued to invest in the development of the integrated S1 Enterprise Platform as the technology foundation for the S1 Enterprise family of products. In 2003, we released for general availability additional applications for the S1 Enterprise Platform including: retail Internet banking, small business Internet banking, corporate cash management and branch automation. The third major release of S1 Enterprise, in August 2004, added a number of new

applications to the S1 Enterprise Platform, including S1 Enterprise Teller, S1 Enterprise Sales and Service Platform, S1 Enterprise Call Center, S1 Enterprise Voice (powered by Edify) and S1 Enterprise Analytics and for the first time, all the S1 Enterprise applications operated on the same integrated technology platform. As of December 31, 2004, over seventy-five financial institutions are in production mode with a hosted or on-premise S1 Enterprise solution and over one hundred and fifty financial institutions have purchased one or more of our Enterprise applications.

Historically, we have not capitalized software development costs because of the insignificant amount of costs incurred between technological feasibility and general customer release. If the amount of time between the completion of beta testing and general customer release lengthens, we may be required to capitalize certain software development costs in the future.

During the first quarter of 2004, we entered into long-term distribution agreements with two international financial services solution providers. We believe these agreements will expand our distribution and delivery capacity in EMEA, Asia and Latin America regions. We did not record any revenues from these agreements until the fourth quarter of 2004. These relationships require time to train their personnel on our products and to build a sales pipeline. We expect to increase international revenues through these reseller agreements. During the fourth quarter of 2004, we extended our relationships to include additional products.

Excluding merger related costs and restructuring charges of $19.9 million in 2003 and $2.4 million in 2002, our total operating expenses were $230.0 million in 2004, $257.7 million in 2003 and $300.6 million in 2002. During 2002 and 2003, we focused on activities to reduce our total operating costs in each of our business segments in order to align our operating costs with our expected 2004 revenues. In 2003, we reorganized our worldwide operations by reducing the work force, relocating and consolidating certain office facilities and selling certain corporate assets. In connection with these activities, we recorded restructuring charges of $21.2 million during the year ended December 31, 2003. In total, we eliminated approximately 200 positions worldwide and closed or consolidated several office facilities. The reorganization of our businesses was substantially complete as of December 31, 2003. We continue to look for additional ways to streamline our global operations and continue to use a disciplined approach to control costs throughout our organization.

2004 Business Acquisitions

In the fourth quarter of 2004, we acquired Mosaic Software Holdings, Limited, a United Kingdom based provider of solutions that drive ATMs and electronic payment networks. We believe the acquisition will add a leading financial transaction solution to S1’s suite of products and will enable S1 to offer financial services providers an ATM channel solution along with the S1 Enterprise integrated front-office suite. We paid cash consideration of $37.0 million upon the closing of the transaction and committed to pay up to an additional $15.0 million in cash for earn-out payments upon Mosaic achieving certain financial metrics during its fiscal year ending May 31, 2005.

In the third quarter of 2004, we acquired X/Net Associates, Inc., a Rochester, New York based provider of lending solutions. We believe this acquisition will strengthen our product offering around lending solutions and accelerate the development of additional lending functionality. In September 2004, we announced general availability of our S1 Lending Solutions product. We paid cash consideration of $4.0 million for this business. Under the agreement, additional consideration may be paid to one shareholder of X/Net, who is also an S1 employee, if certain financial metrics are achieved. There is a maximum of $1.0 million that can be earned in the period from August 1, 2004 through July 31, 2005 and $2.0 million that can be earned in the period from August 1, 2005 through July 31, 2006.

In the second quarter of 2004, we purchased a business unit from vMoksha Technologies, Private Limited in order to establish a wholly owned software development center in Pune, India. Previously, this business unit provided software development, programming and other related services for S1. We believe this acquisition will reduce our costs and provide greater flexibility and control over the quality of the development and professional services efforts from this center. We paid cash consideration of approximately $1.2 million for the business unit.

Revenue from Significant Customers

Revenues from State Farm were 27%, 21% and 23% of our financial institution revenues and 23%, 18% and 20% of our revenues from continuing operations during the years ended December 31, 2002, 2003 and 2004, respectively. Revenues from State Farm for the year ended December 31, 2004 increased approximately $2.4 million from 2003. We expect State Farm to contribute approximately 15% to 20% of our financial institution segment revenue for 2005.

Zurich accounted for 18% and 20% of our revenues from our financial institutions segment and 15% and 17% of our total revenues during the years ended December 31, 2002 and 2003, respectively. For the year ended December 31, 2004, we did not have any revenue from Zurich.

Restructuring Charges

In 2003, we reorganized our worldwide operations by reducing the work force, relocating and consolidating certain office facilities and selling certain corporate assets. In connection with these activities, we recorded restructuring charges of $21.2 million during the year ended December 31, 2003. In total, we eliminated approximately 200 positions worldwide and closed or consolidated office facilities.

In the domestic operations of our financial institution segment, we recorded $6.2 million in restructuring charges during the year ended December 31, 2003, which were primarily comprised of charges for severance costs associated with headcount reductions, lease payments associated with excess office space and other corporate charges. In 2003, we consolidated our U.K. data center operations into our global hosting center in Atlanta, relocated our remaining U.K. operations to a smaller facility, decreased our workforce both in our European and APJ operations and closed offices in our APJ operations. As a result, in 2003, we recorded restructuring charges of $9.4 million in our European operations and $1.3 million in our APJ operations. These charges were comprised of accelerated depreciation of assets, severance costs, other related costs to relocate the data center operations, losses on the vacated office space and the write off of abandoned leasehold improvements. In the third quarter of 2003, we completed the process of reorganizing our Edify business to align costs with expected revenues. We reduced the workforce and closed and consolidated several Edify office facilities worldwide. We recorded restructuring charges of $4.3 million for the year ended December 31, 2003 as a result of these activities.

In 2002, we recorded a charge of $0.7 million for excess office space in our Edify business.

We undertook these restructuring activities in 2002 and 2003 to streamline our worldwide operations following a period of multiple business acquisitions, and to reduce our operating expenses to a level that we believe is appropriate based on our estimate of future revenues. We achieved cost savings from these activities throughout the geographic and functional areas of our operating segments. For additional information about these restructuring activities, including a tabular presentation of our restructuring charges, see note 9 to our consolidated financial statements contained elsewhere in this report.

We expect to make future cash expenditures, net of anticipated sublease income, related to these restructuring activities of approximately $8.1 million, of which we expect to pay $3.3 million within the next twelve months.

Adjustments to the restructuring accrual may be recorded in the future due to changes in estimates of lease termination reserves arising from changing real estate market conditions.

Merger Related Costs

In 2003, we decreased our merger related reserve for legal claims by $0.8 million, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve two legal matters during 2003 for less than previously estimated. Additionally in 2003, we reduced our merger related accrual by $0.5 million when we determined that we had an alternate use for excess office space that was reserved when we completed the acquisition of Point in March 2002.

During 2002, we incurred merger related costs of $3.7 million in connection with the acquisition of Point. These costs, incurred in connection with our plan to reorganize certain of our European operations, included headcount reduction, consolidation of S1 and acquired Point office facilities and disposal of redundant or obsolete computer equipment. This merger related charge was partially offset by a $1.7 million decrease in reserves for legal claims, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve this legal matter during the first quarter of 2002 for less than previously estimated amounts. Our restructuring and merger related reserves include provisions for obligations for unused real estate less estimates for sub-lease income. In 2002, we were able to secure a sublease for one of our foreign properties at terms that were $0.3 million more favorable than previously anticipated.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States

of America. The preparation of these financial statements requires us to make estimates and judgments 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 reported period. Generally, we base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under other assumptions or conditions.

Critical accounting policies are those that we consider the most important to the portrayal of our financial condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Our critical accounting policies include those related to:

• revenue recognition;

• estimation of our allowance for doubtful accounts and billing adjustments;

• valuation and recoverability of long-lived assets, including goodwill;

• determination of technological feasibility and capitalization of software development costs;

• recognition of costs in connection with restructuring plans and merger-related activities; and

• reserve for contingencies.

Revenue recognition. Revenue is a key component of our results of operations and is a key metric used by management, securities analysts and investors to evaluate our performance. Our revenue arrangements generally include multiple elements such as license fees for software products, installation services, customization services, training services, post-contract customer support, data center services and, in some cases, hardware or other third party products.

Software license revenue. We recognize software license sales in accordance with Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements, Statement of Position No. 97-2, “Software Revenue Recognition,” and SOP No. 98-9, “Modification of SOP No. 97-2 With Respect to Certain Transactions,” as well as Technical Practice Aids issued from time to time by the American Institute of Certified Public Accountants. For software license sales for which any services rendered are not considered essential to the functionality of the software, we recognize revenue upon delivery of the software provided (1) there is evidence of an arrangement, (2) collection of our fee is considered probable and (3) the fee is fixed or determinable. In certain of these arrangements, vendor specific objective evidence of fair value exists to allocate the total fee to all elements of the arrangement. If vendor specific objective evidence of fair value does not exist for the delivered element and exists for all undelivered elements, we use the residual method under SOP No. 98-9.

When the professional services are considered essential to the functionality of the software, we record revenue for the license and professional services over the implementation period using the percentage of completion method, measured by the percentage of labor hours incurred to date to estimated total labor hours for each contract. For software licenses where the license term does not begin until installation is complete, we recognize license and professional services revenue when we complete the installation of the software.

For subscription license arrangements where we sell customers the rights to unspecified products as well as unspecified upgrades and enhancements during a specified term, the license revenue is recognized ratably over the term of the arrangement. For license arrangements in which the fee is not considered fixed or determinable, the license revenue is recognized as payments become due.

Support and maintenance revenue. Revenues for post-contract customer support and maintenance are recognized ratably over the contract period.

Professional services revenue. Revenues derived from arrangements to provide professional services on a time and materials basis are recognized as the related services are performed. Revenues from professional services provided on a fixed fee basis are recognized using the percentage of completion method, measured by the percentage of labor hours incurred to date to estimated total labor hours for the contract.

Data center revenue. We recognize data center revenue in accordance with Staff Accounting Bulletin No. 104, “Revenue Recognition” and Emerging Issues Task Force 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.” We also consider the applicability of Emerging Issues Task Force Issue No. 00-03, “Application of AICPA Statement of Position 97-2 to Arrangements That Include the Right to Use Software Stored on Another Entity’s Hardware,” to our data center arrangements on a contract-by-contract basis. If it is determined that a software element covered by SOP No. 97-2

is present in a hosting arrangement, the license, professional services and data center revenue is recognized pursuant to SOP No. 97-2. If it is determined that a software element covered by SOP No. 97-2 is not present in a hosting arrangement, we recognize revenue for the arrangement pursuant to SAB No. 104 and EITF 00-21.

See a full discussion of our revenue recognition policies in Note 2 to the consolidated financial statements.

Our contractual arrangements are evaluated on a contract-by-contract basis and often require our judgment and estimates that affect the classification and timing of revenue recognized in our statements of operations. Specifically, we may be required to make judgments about:

• whether the fees associated with our products and services are fixed or determinable;

• whether or not collection of our fees is reasonably assured;

• whether professional services are essential to the functionality of the related software product;

• whether we have the ability to make reasonably dependable estimates in the application of the percentage of completion method; and

• whether we have verifiable objective evidence of fair value for our products and services.

Additionally, we may be required to make the following estimates:

• percentage of labor hours incurred to date to the estimated total labor hours for each contract;

• provisions for estimated losses on uncompleted contracts; and

• the need for an allowance for doubtful accounts or billing adjustments.

If other judgments or assumptions were used in the evaluation of our revenue arrangements, the timing and amounts of revenue recognized may have been significantly different. For instance, many of our revenue arrangements are accounted for using the percentage of completion method since the services are considered essential to the functionality of the software. If it was determined that those services were not essential to the functionality of the software, we may have recognized the license revenue upon delivery of the license, provided other required criteria were satisfied. Further, if we determined that we cannot make reasonably dependable estimates in the application of the percentage of completion method, we would defer all revenue and recognize it upon completion of the contract.

Estimation of allowance for doubtful accounts and billing adjustments. We are required to report accounts receivable at the amount we expect to collect from our customers. As a result, we are required to use our judgment to estimate the likelihood that certain receivables may not be collected or that we might offer future discounts or concessions for previously billed amounts. As a result, we have established a discount allowance for estimated billing adjustments and a bad debt allowance for estimated amounts that we will not collect. We report provisions for billing adjustments as a reduction of revenue and provisions for bad debts as a component of selling expense. We review specific accounts for collectibility based on circumstances known to us at the date of our financial statements. In addition, we maintain reserves based on historical billing adjustments and write-offs. These estimates are based on historical discounts, concessions and bad debts, customer concentrations, customer credit-worthiness, current economic trends and changes in our customer payment terms. Accordingly, our judgments and estimates about the collectibility of our accounts receivable affect revenue, selling expense and the carrying value of our accounts receivable.

Valuation and recoverability of long-lived assets, including goodwill. We evaluate the recoverability of long-lived assets, including goodwill, whenever events or changes in circumstances indicate that the carrying amount should be assessed by comparing their carrying value to the undiscounted estimated future net operating cash flows expected to be derived from such assets. If such evaluation indicates a potential impairment, we use discounted cash flows to measure fair value in determining the amount of the long-lived assets that should be written off. For long-term cost and equity investments, we write-down their carrying values if it is determined that an impairment is other than temporary. Factors we consider important which could trigger an impairment review include, but are not limited to, the following:

•   significant under-performance relative to expected historical or projected future operating results;

•   significant changes in the manner of our use of the acquired assets or the strategy of our overall business;

•   significant negative industry or economic trends;

•   significant decline in our stock price for a sustained period; and

•   our market capitalization relative to net book value.

In 2003, we sold one cost-basis investment at a loss of approximately $0.6 million. If other assumptions and estimates were used in our evaluations, the timing and amount of the charges may have been significantly different. At December 31, 2003, the carrying value of these investments was $1.0 million.

SFAS No. 142, “Goodwill and Other Intangible Assets” which we adopted on January 1, 2002, requires us to perform an annual test of goodwill value to determine whether or not it has been impaired. Based on the results of our initial and annual tests, except as explained in the following paragraph, the fair value of our reporting units exceeds their carrying value. While we no longer record amortization expense for goodwill and other indefinite lived intangible assets, future events and changes in circumstances may require us to record a significant impairment charge in any given period.

In the first quarter of 2003, we terminated our efforts to divest the Edify business. We considered our inability to sell the Edify business on terms that were acceptable to us a triggering event under SFAS No. 142 and 144 that required us to perform a current assessment of the carrying value of the Edify business. Based on our current analysis of fair value for the Edify business, including estimates we based on discounted future cash flows, market valuations of comparable businesses and offers from potential buyers, we concluded that the fair value of the Edify business was less than its carrying value. Accordingly, we allocated our estimate of fair value for the unit to the existing assets and liabilities of the Edify business as of March 31, 2003, resulting in a goodwill impairment charge of $11.7 million and accelerated amortization on other intangible assets (developed technology and customer base) and purchased software of $1.2 million and $0.5 million, respectively.

Valuation of acquired businesses. In 2004, we made three acquisitions. We are required to allocate the purchase price of acquired business to the assets acquired and liabilities assumed based on their fair values at date of acquisition. Prior to this allocation, we are required to identify intangible assets and assign a value to these intangible assets based on their fair value. Determining the fair value of identifiable intangible assets requires management to estimate future cash flows for the related assets and the useful life of such assets. The excess of the cost of the acquired business over the net of the amounts assigned to assets acquired and liabilities assumed is recognized as goodwill. Intangible assets are amortized over their useful lives and goodwill is evaluated on an annual basis. Consequently, our estimates determine the timing and the amount of expense recognized in our financial statements.

Determination of technological feasibility and capitalization of software development costs. We are required to assess when technological feasibility occurs for products that we develop. Based on our judgment, we have determined that technological feasibility for our products generally occurs when we complete beta testing. Because of the insignificant amount of costs incurred between completion of beta testing and general customer release, we have not capitalized any software development costs in the accompanying consolidated financial statements. If we determined that technological feasibility had occurred at an earlier point in the development cycle and that subsequent production costs incurred before general availability of the product were significant, we would have capitalized those costs and recognized them over future periods. We continue to monitor changes in the software development cycle and may be required to capitalize certain software development costs in the future.

Recognition of costs in connection with restructuring plans and merger-related activities. During the last three years, we recorded charges in connection with various restructuring activities. Additionally, we recorded merger related charges related to a reorganization of our European operations in connection with the acquisition of Point in the second quarter of 2002. See further discussion of the terms of these charges in Note 9 to the consolidated financial statements.

Following the adoption of SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” we establish a liability for the estimated fair value of exit costs at the date we incur a liability under an approved restructuring plan. At that time, and thereafter until the plan activities are complete, the actual costs or timing of payments associated with the plan may differ from our estimates. We use our judgment and information available to us at the date of the financial statements to reevaluate our initial estimates of the exit costs. If we believe that our previous estimates of exit costs or timing of payments are no longer accurate in light of current conditions, we adjust the liability with a corresponding increase or decrease to current period earnings. Any adjustments to estimates of our exit costs under restructuring plans are reflected on the same line item in the statement of operations as the initial charge to establish the restructuring liability. Additionally, in periods subsequent to the initial measurement, we increase the carrying amount of the liability by the amount of accretion recorded as an expense due to the passage of time.

Accrued restructuring costs at December 31, 2004 reflect our estimate of the fair value of future rental obligations and other costs associated with office space that we do not plan to use in our operations as a result of the restructuring plans, offset by our estimate of the fair value of sublease income for this space. The determination of fair value is based on a discounted future

cash flow model using a credit-adjusted risk-free rate. While we know the terms of our contractual lease obligations and related future commitments, we must estimate when and under what terms we will be able to sublet the office space, if at all. Such estimates require a substantial amount of judgment, especially given current real estate market conditions. Actual sublease terms may differ substantially from our estimates. Any future changes in our estimates of lease termination reserves could materially impact our financial condition, results of operations and cash flows.

In connection with the acquisition of certain businesses, we established reserves for certain contingencies that existed at the date of acquisition. At that time, we believed that the resolution of the contingency would result in future cash expenditures that we estimated based on the information available at the date of acquisition. As those contingencies are resolved, we reduce the related liabilities for any related cash disbursements or if we determine that the contingency is no longer likely to result in a loss.

Reserve for contingencies. When a loss contingency exists, we are required to evaluate the likelihood that a future event or events will confirm the loss. SFAS No. 5 “Accounting for Contingencies” states that a company must accrue for a loss contingency by a charge to income when information available prior to issuance of the financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements, and that the amount of loss can be reasonably estimated.

Income taxes. We have recorded a valuation allowance on our most of our deferred tax assets. If we sustain profitability during 2005, we may make a determination to reverse the valuation allowance related to domestic net operating loss carryforwards in the latter part of 2005 or early 2006. In order to reverse any portion of the valuation allowance, we are required to make estimates regarding our future earnings and the recoverability of the domestic net operating loss carryforwards. A portion of this reversal could have a positive impact on our income tax benefit and our earnings in the period in which it is reversed.

Recent Accounting Pronouncements

In March 2004, the Emerging Issue Task Force (“EITF”) reached consensus on EITF Issue No. 03-06, “Participating Securities and the Two-Class Method under Statement of Financial Accounting Standards No. 128, Earnings Per Share.” EITF Issue No. 03-06 provides guidance in applying the two-class method of calculating earnings per share and clarifies what constitutes a participating security. The consensus significantly expands the notion of participation right from previous practice. EITF Issue No. 03-06 is effective for fiscal periods beginning after March 31, 2004. We have adopted EITF Issue No. 03-06 as of April 1, 2004, with no material impact on our consolidated financial statements. We determined that our preferred shares outstanding are participating securities as defined in EITF Issue No. 03-06 and we have restated prior period earnings per share amounts to ensure comparability.

On December 16, 2004, the FASB issued SFAS No. 123R, “Share-Based Payment,” (“SFAS 123R”) which is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). Statement 123R supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and amends SFAS No. 95, “Statement of Cash Flows.” Generally, the approach in SFAS 123R is similar to the approach described in SFAS 123. SFAS 123R requires all share-based payments to employees to be recognized in the income statement based on their grant date fair values over the corresponding service period and also requires an estimation of forfeitures when calculating compensation expense. We will adopt SFAS No. 123R on July 1, 2005 using the “modified prospective” method. We expect to record stock based compensation expense of between $5.0 million and $8.0 million during the six months ended December 31, 2005.

In December 2004 the FASB issued FASB Staff Position No. 109-1 (“FSP FAS No. 109-1”), “Application of FASB Statement No. 109, “Accounting for Income Taxes,’ to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004.” The American Jobs Creation Act of 2004 introduces a special tax deduction of up to 9.0 percent when fully phased in, of the lesser of “qualified production activities income” or taxable income. FSP FAS 109-1 clarifies that this tax deduction should be accounted for as a special tax deduction in accordance with SFAS No. 109. Although FSP FAS No. 109-1 was effective upon issuance, we are still evaluating the impact FSP FAS No. 109-1 will have on our consolidated financial statements.

Results of Operations

The following table sets forth our statement of operations data for the three years ended December 31, 2002, 2003 and 2004 and the percentage of total revenues of each line item for the periods presented.


	2002					2003					2004
Revenues:
Software licenses	$	88,703		31	%	$	61,650		25	%	$	49,693		21	%
Support and maintenance		56,926		20	%		57,921		24	%		62,973		26	%
Professional services		99,904		35	%		82,842		33	%		88,732		37	%
Data center		37,230		14	%		42,288		17	%		37,354		15	%
Other		1,274		0	%		2,917		1	%		2,291		1	%

Total revenues		284,037		100	%		247,618		100	%		241,043		100	%

Direct costs:
Software licenses		6,973		2	%		4,048		2	%		5,824		2	%
Professional services, support and maintenance		85,104		30	%		80,697		33	%		73,497		31	%
Data center		21,581		8	%		21,603		9	%		17,062		7	%
Other		1,267		0	%		2,623		1	%		1,715		1	%

Total direct costs⁽¹⁾		114,925		40	%		108,971		44	%		98,098		41	%

Gross margin⁽²⁾		169,112		60	%		138,647		56	%		142,945		59	%

Operating expenses:
Selling and marketing		57,501		20	%		38,758		16	%		37,050		15	%
Product development		50,935		18	%		45,148		18	%		49,706		21	%
General and administrative		37,051		13	%		30,871		12	%		31,393		13	%
Depreciation		22,425		8	%		16,517		7	%		10,226		4	%
Merger related and restructuring costs		2,417		1	%		19,858		8	%		—		—
Acquired in-process research and development		350		0	%		—		0	%		—		—
Amortization and impairment of acquisition intangible assets		17,460		6	%		17,392		7	%		3,483		1	%

Total operating expenses		188,139		66	%		168,544		68	%		131,858		55	%

Operating income (loss)		(19,027	)	-7	%		(29,897	)	-12	%		11,087		4	%
Interest, investment and other income, net		1,479		1	%		84		0	%		(1,538	)	-1	%

Income (loss) from continuing operations before income taxes		(17,548	)	-6	%		(29,813	)	-12	%		9,549		3	%
Income tax benefit (expense)		2,770		1	%		(283	)	0	%		(1,390	)	-1	%

Income (loss) from continuing operations		(14,778	)	-5	%		(30,096	)	-12	%		8,159		2	%

Discontinued operations:
Loss from operations of discontinued operations		(1,619	)	-1	%		(8,076	)	-3	%		(1,148	)	0	%
Gain on disposal of discontinued operations, net of tax		—		0	%		—		0	%		8,559		4	%

Net income (loss)	$	(16,397	)	-6	%	$	(38,172	)	-15	%		15,570		6	%

(1)		Direct costs exclude charges for depreciation of property and equipment and amortization of purchased technology.

(2)		Gross margin is derived from our statements of operations as total revenues less cost of software licenses, cost of professional services, support and maintenance, cost of data center and cost of other revenue. Costs of revenue exclude charges for depreciation of property and equipment and amortization of purchased technology.

Comparison of the Year Ended December 31, 2004 to the Year Ended December 31, 2003

Revenues. The following table sets forth selected revenue data for the years ended December 31, 2004 and 2003.


	Software			Support and			Professional
	Licenses			Maintenance			Services			Data Center		Other		Total
Year Ended December 31, 2004:
Financial institutions, excluding Zurich	$	37,151		$	45,880		$	83,677		$	37,354	$	2,291	$	206,353
Zurich		—			—			—			—		—		—

Financial institutions		37,151			45,880			83,677			37,354		2,291		206,353
Edify		13,191			18,533			5,124			—		—		36,848
Eliminations		(649	)		(1,440	)		(69	)		—		—		(2,158	)

Total	$	49,693		$	62,973		$	88,732		$	37,354	$	2,291	$	241,043


Year Ended December 31, 2003:

Financial institutions, excluding Zurich	$	22,189		$	43,697		$	75,665		$	33,654	$	2,910	$	178,115
Zurich		32,704			—			1,500			8,634		—		42,838

Financial institutions		54,893			43,697			77,165			42,288		2,910		220,953
Edify		7,745			16,403			5,872			—		7		30,027
Eliminations		(988	)		(2,179	)		(195	)		—		—		(3,362	)

Total	$	61,650		$	57,921		$	82,842		$	42,288	$	2,917	$	247,618

Total revenues decreased by $6.6 million to $241.0 million for 2004 compared to $247.6 million for 2003, a decrease of 3%. This decrease is attributable to a $12.0 million decrease in software license revenue and a $4.9 million decrease in data center revenues, offset in part by a $5.1 million increase in customer support revenue and $5.9 million increase in professional services revenue. Our financial institutions segment generated $206.4 million of revenue in 2004 compared to $221.0 million for 2003, a decrease of 7%. Revenues from our Edify business segment were $36.8 million for 2004, a 23% increase from $30.0 million in 2003. Below is a detailed discussion of changes in revenue by revenue type.

Software license revenues for our financial institutions segment were $37.1 million for 2004, a $17.7 million decrease from 2003. This decrease was attributable to the loss of license revenue earned from Zurich of $32.7 million for 2003, offset in part by license revenues earned from sales of new customers and cross sales to existing customers. The Zurich revenue was earned from a subscription license that expired in December 2003. Excluding license revenues from Zurich, license revenues increased $15.0 million or 67%.

In 2005, we will license Enterprise Platform Version 3 and future versions as well as certain other applications primarily on a subscription basis wherein license revenue will be recognized evenly over the term of the contract. During 2004, we recorded $1.4 million of subscription license revenue. During 2005, we expect to continue to sell our non-Enterprise 3 on a perpetual license basis. The amount of license revenue growth in 2005 may vary significantly depending on the mix of perpetual to subscription licenses sold.

Software license revenues for our Edify business segment were $13.2 million for 2004, an increase of $5.4 million from 2003. This increase resulted from several new large contracts signed during 2004, improved economic conditions in the primary markets served by Edify (telecommunications, travel and retail) and the stabilization of the business under new management.

Support and maintenance revenues for our financial institution segment were $45.9 million for 2004, an increase of $2.2 million or 5% from $43.7 million in 2003. The increase is primarily attributable to support and maintenance fees earned from new and existing customers who purchased licenses during 2003 and 2004, partially offset by the attrition of legacy Internet-only customers. We believe that the attrition of legacy customers was substantially complete at December 31, 2003 and that support and maintenance revenues from our financial institutions segment will continue to grow on a sequential quarter basis. Additionally, the acquisition of Mosaic in the fourth quarter of 2004 will contribute to the growth in support and maintenance revenues in 2005.

Support and maintenance revenues for the Edify business were $18.5 million for 2004, an increase from $16.4 million for 2003. The growth in 2004 resulted from support and maintenance fees from customers who purchased new or add-on licenses in 2003 and 2004.

Professional services revenues from our financial institution segment were $83.7 million for 2004, a $6.5 million increase from $77.2 million for 2003 related to the growth in non-Zurich license revenues in 2004. The sales of these licenses generally include the sale of professional services for implementation and other services. Although we expect revenues from professional services to vary quarter to quarter, we believe professional services revenues from our financial institutions segment will grow during 2005, as revenues from new projects will replace revenues lost to the completion of current projects.

The Edify business recorded $5.1 million of revenue for professional services for 2004 compared to $5.9 million for 2003. During 2004, license sales in the Edify business were heavily weighted to sales through distributors. Professional services associated with these license sales are generally provided by the distributor. We expect professional services to remain stable in 2005.

Data center revenues were $37.4 million for 2004, a decrease of $4.9 million for 2003. The decrease resulted primarily from the loss of data center revenues from Zurich (as discussed in the “Executive Overview”) in 2003. This was offset by increases in the number of hosted customers. As we add hosted customers on our S1 Enterprise products and our existing customer base grows, we expect data center revenues to increase on a sequential quarter basis throughout 2005.

Other revenues are primarily related to the sale of third party hardware and software that is used in connection with our products. Other revenue fluctuates based on the mix of products and services sold and is not typical in our sales arrangements. The related cost of the hardware sold is included in “cost of other revenue” as the hardware is delivered. There is only minimal gross margin associated with other revenue.

Direct Costs and Gross Margins. Direct costs decreased $10.9 million to $98.1 million for the year ended December 31, 2004 from $109.0 million for 2003. Overall gross margins were 59% and 56% for the years ended December 31, 2004 and 2003, respectively. We expect gross margins to range between 55% and 62% during 2005, depending on the mix of license and services revenues. The overall decrease in direct costs and corresponding increase in gross margins is a result of a lower cost base as discussed below.

Direct costs exclude charges for depreciation of property and equipment and the amortization of purchased technology.

Costs of software licenses principally consist of royalties paid to third parties. Historically, royalties paid on our financial institution software product sales have been minimal because we internally develop most of the software components, the cost of which is reflected in product development expense as it is incurred. We anticipate that costs of software licenses will increase in future periods as we license and install more of our new S1 Enterprise products because these products include some software components that we license from third parties; however, the costs of software licenses will continue to vary with the mix of products sold.

Software licenses costs for our financial institutions segment increased to $2.9 million in 2004 from $1.6 million in 2003. The overall increase in cost of software licenses was primarily related to increased license sales (excluding Zurich which had no software license costs in 2003). Software license costs for the Edify business were $3.5 million in 2004 and 2003. Gross margins for software licenses for the Edify business increased from 55% in 2003 to 73% in 2004 due to a reduction in the cost of third party voice recognition software.

Costs of professional services, support and maintenance consist primarily of personnel and related infrastructure costs.

Direct costs associated with professional services, support and maintenance were $73.5 million for the year ended December 31, 2004, a decrease of $7.2 million from $80.7 million for the same period in 2003. $6.7 million of the decrease from 2003 was caused by net additional charges of $3.2 million on services projects that were accrued in the first, second and fourth quarters of 2003 and partially released or reduced in the third quarter of 2003. These loss accruals reflect the amounts by which our then anticipated future project costs would exceed the remaining unrecognized contractual revenues for those projects. In 2004, we reduced these loss accruals by approximately $3.5 million, as a result of a combination of additional project funding and reductions in the estimated hours to complete the project and changes in the project scope from one customer, and clarification of project scope and resulting changes in cost projections for certain other loss projects. Margins for professional services, support and maintenance were 43% and 52% for 2003 and 2004, respectively.

Costs of data center consist of personnel costs, facility costs and related infrastructure costs to support our data center business. Direct data center costs decreased $4.5 million to $17.1 million for the year ended December 31, 2004 from $21.6 million for 2003. The decrease is primarily attributable to the cost savings realized from consolidation of the U.K. data center into our global hosting center in Atlanta, Georgia during 2003 and $1.8 million of accelerated costs during the first half of 2003 related to the closing of the U.K data center. As a result of the cost savings from the consolidation of locations and an increase in data center revenue (excluding Zurich), data center margins increased from 49% in 2003 to 54% in 2004. Data center margins are expected to increase in 2005 related to revenue growth and cost containment.

Selling and Marketing. For the year ended December 31, 2004, selling and marketing expenses decreased $1.7 million to $37.1 million from $38.8 million in 2003. Selling and marketing expenses decreased $1.5 million and $0.3 million in our financial institutions and Edify segments, respectively. These decreases are primarily attributable to a reduction in bad debt expense and reduced sales and marketing headcount resulting in a decrease in compensation expense, other payroll related costs and benefits and travel and entertainment expenses; offset in part by an increase in the cost of marketing programs.

Product Development. Total product development expenses increased $4.6 million to $49.7 million for the year ended December 31, 2004 from $45.1 million for 2003. This increase is primarily attributable to an increase in product development headcount and the increased use of outside contractors. In 2003 and 2004, product development expenses were 18% and 21% of revenue. We expect this percentage to decrease in 2005.

Historically we have not capitalized software development costs because of the insignificant amount of costs incurred between technological feasibility and general customer release. However, if the amount of time between the completion of beta testing and general customer release lengthens, we may be required to capitalize certain software development costs in the future.

General and Administrative. General and administrative expenses were $31.4 million for the year ended December 31, 2004 compared to $30.9 million for 2003, an increase of $0.5 million or 2%. As a percentage of revenues, general and administrative expenses increased slightly to 13% for the year ended December 31, 2004 from 12% for the same period in 2003. The increase in general and administrative expenses is attributable to an increase in professional accounting fees related to compliance with the Sarbanes-Oxley Act of 2002 and legal fees related to corporate development activities and litigation matters in which we were involved in 2004, offset in part by a decrease in compensation and benefits from lower headcount and lower discretionary spending as a result of cost containment initiatives undertaken during the second half of 2003.

Depreciation. Depreciation decreased $6.3 million to $10.2 million for the year ended December 31, 2004 from $16.5 million in 2003, due to reductions in capital expenditures during recent periods as compared with those made in 2001 and 2002. A significant portion of those items that we purchased in 2001 became fully depreciated by the end of 2003. We expect depreciation expense to be approximately $3.0 million per quarter in 2005.

Merger Related and Restructuring Costs. During 2004, we did not incur any merger related costs and restructuring charges compared to $19.9 million for 2003.

During 2003, we undertook several initiatives to align our worldwide cost structure with our anticipated 2004 revenues. As a result, we reduced the work force, relocated and consolidated certain office facilities and sold certain corporate assets. In addition we consolidated our EMEA data center operations based in the United Kingdom into our global hosting center in

Atlanta. In connection with these plans, we recorded restructuring charges of $21.2 million during the year ended December 31, 2003. In total, we eliminated approximately 200 positions worldwide and closed or consolidated office facilities. In the domestic operations of our financial institution segment, we recorded $6.2 million in restructuring charges during 2003, which were primarily comprised of charges for severance costs associated with headcount reductions, lease payments associated with excess office space and other corporate charges.

During 2003, we reorganized our international operations. We consolidated our U.K. data center operations into our global hosting center in Atlanta, relocated our remaining U.K. operations to a smaller facility, decreased our workforce both in our European and APJ operations and closed offices in our APJ operations. As a result, in the year ended December 31, 2003, we recorded restructuring charges of $9.4 million in our European operations and $1.3 million in our APJ operations. These charges were comprised of accelerated depreciation of assets, severance costs, other related costs to relocate the data center operations, losses on the vacated office space and the write off of abandoned leasehold improvements. Under the provisions of SFAS No. 146, we recorded the loss on vacated office space at the present value of the expected cash flows.

In the third quarter of 2003, we completed the process of reorganizing our Edify business to align costs with expected revenues. As a result, we hired a new general manager, replaced the entire senior management team, reduced the workforce and closed and consolidated several Edify office facilities worldwide. These actions resulted in restructuring charges of $4.3 million for the year ended December 31, 2003.

In 2003, we decreased our merger related reserve for legal claims by $0.8 million, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve two legal matters during 2003 for less than previously estimated. In the second quarter of 2003, we further reduced our merger related accrual by $0.5 million when we determined that we had an alternate use for excess office space that was reserved when we completed the acquisition of Point in March 2002.

Amortization and Impairment of Acquisition Intangible Assets. Amortization and impairment of acquisition intangible assets decreased $13.9 million to $3.5 million for the year ended December 31, 2004 from $17.4 million for the same period in 2003.

In April 2003, we terminated our efforts to divest the Edify business. We considered our inability to sell the Edify business on terms that were acceptable to us a triggering event under SFAS No. 142 and 144 that required us to perform a current assessment of the carrying value of the Edify business. Based on our current analysis of fair value for the Edify business, including estimates we based on discounted future cash flows, market valuations of comparable businesses and offers from potential buyers, we concluded that the fair value of the Edify business was less than its carrying value. Accordingly, we allocated our estimate of fair value for the unit to the existing assets and liabilities of the Edify business as of March 31, 2003, resulting in a goodwill impairment charge of $11.7 million and accelerated amortization on other intangible assets and purchased software of $1.2 million and $0.5 million, respectively.

Interest, Investment and Other Income (Expense). Interest, investment and other expense, net was $1.5 million for the year ended December 31, 2004, a decrease from income of $0.1 million from 2003. Realized foreign currency translation loss was $0.6 million and $0.2 million in 2004 and 2003, respectively. In 2003, we recorded a loss of $0.6 million on the sale of an investment that we accounted for on a cost basis and in 2004, we recorded a $1.5 million expense for a loss in an equity method investment.

Income Tax Benefit (Expense). We recorded income tax expense of $1.4 million during the year ended December 31, 2004 compared to $0.3 million in 2003.

Although we have fully reserved net deferred tax assets of approximately $206.2 million as of December 31, 2004 primarily related to our net operating loss carryforwards (NOLs) and tax credit carryforwards from time-to-time we are required to record an income tax provision in periods:

•   for tax expense in certain subsidiaries or jurisdictions for which do not have NOLs to utilize;

•   in the United States due to limitations on the use of our federal NOLs for alternative minimum tax purposes which will be paid in cash; or

•   if there are NOLs that were acquired as part of a business combination, upon which we placed a valuation allowance at acquisition date. This results in non-cash income tax expense as goodwill is reduced and the valuation allowance is released.

We incurred foreign income tax expense in certain European countries in 2004 and 2003. In 2004, we recorded alternative minimum tax expense for our domestic operations as a result of limitations on the use of our federal NOLs. Approximately $0.4 million of our income tax expense in 2004 resulted from the release of the valuation allowance against pre-acquisition NOLs and does not represent anticipated cash taxes to be paid.

At December 31, 2004, we had a valuation allowance of $206.2 million on our deferred tax assets. If we continue to sustain profitability during 2005, we may make a determination to reverse the valuation allowance related to domestic net operating loss carryforwards in the latter part of 2005 or early 2006. A portion of this reversal could have a positive impact on our income tax benefit and our earnings in the period in which it is reversed.

Loss from discontinued operations. We recorded a loss from discontinued operations of $8.1 million in the year ended December 31, 2003 as compared to a loss of $1.1 million for the ten month period we owned Davidge in 2004. The improvement of $7.0 million in results from discontinued operations is primarily related to a $4.5 million charge taken for loss contingencies established in the fourth quarter of 2003, an increase in revenues and a decrease in operating expenses.

Gain on disposal of discontinued operations, net of tax. We recorded a gain on sale of subsidiary of $8.6 million, including $0.7 million of income tax, in the year ended December 31, 2004.

Comparison of the Year Ended December 31, 2003 to the Year Ended December 31, 2002

Revenues. The following table sets forth selected revenue data for the years ended December 31, 2003 and 2002.


	Software			Support and			Professional			Data
	Licenses			Maintenance			Services			Center		Other		Total
Year Ended December 31, 2003:
Financial institutions, excluding Zurich	$	22,189		$	43,697		$	75,665		$	33,654	$	2,910	$	178,115
Zurich		32,704			—			1,500			8,634		—		42,838

Financial institutions		54,893			43,697			77,165			42,288		2,910		220,953
Edify		7,745			16,403			5,872			—		7		30,027
Eliminations		(988	)		(2,179	)		(195	)		—		—		(3,362	)

Total	$	61,650		$	57,921		$	82,842		$	42,288	$	2,917	$	247,618


Year Ended December 31, 2002:

Financial institutions, excluding Zurich	$	35,066		$	39,128		$	90,196		$	31,330	$	1,274	$	196,994
Zurich		31,789			1,745			3,392			5,900		—		42,826

Financial institutions		66,855			40,873			93,588			37,230		1,274		239,820
Edify		21,910			17,303			8,140			—		—		47,353
Eliminations		(62	)		(1,250	)		(1,824	)		—		—		(3,136	)

Total	$	88,703		$	56,926		$	99,904		$	37,230	$	1,274	$	284,037

Total revenues decreased by $36.4 million to $247.6 million for 2003 compared to $284.0 million for 2002, a decrease of 13%. This decrease is attributable to a $27.1 million decrease in software license revenue and a $17.1 million decrease in professional services revenue, offset in part by a $5.1 million increase in data center revenues. Our financial institutions segment generated $221.0 million of revenue in 2003 compared to $239.8 million for 2002, a decrease of 8%. Revenues from our Edify business segment were $30.0 million for 2003, a 37% decrease from $47.4 million in 2002. Below is a detailed discussion of changes in revenue by revenue type.

Software license revenues for our financial institutions segment were $54.9 million for 2003, a $12.0 million decrease from 2002. License revenue earned from Zurich was $32.7 million for 2003 and $31.8 million for 2002. This revenue was earned from a subscription license that expired in December 2003. We will not earn any license revenue from Zurich in 2004 and beyond. License revenues declined in 2003 primarily due to an increase in the number of contracts signed that required accounting for under the percentage of completion method based on the terms of the agreement. As a result, license revenues for these contracts are generally recognized over time as the related implementation and customization services are provided, as opposed to “up front” when the software is delivered in accordance with Statement of Position No. 97-2.

Software license revenues for our Edify business segment were $7.7 million for 2003, a decrease of $14.2 million from 2002. We believe the following items contributed to the decrease: (1) poor economic conditions in the primary markets served by Edify (telecommunications, travel and retail) and (2) the impact on the business of the reorganization activities. During the third and fourth quarters of 2003, we experienced an improvement in Edify sales activity as the business began to stabilize under new management.

Support and maintenance revenues for our financial institution segment were $43.7 million for 2003, an increase of $2.8 million or 7% from $40.9 million in 2002. This increase is attributable to new customer maintenance contracts signed from customers who purchased new licenses in 2002 and 2003; partially offset by the attrition from our Internet-only legacy customers and a $1.7 million decrease in support and maintenance fees earned from Zurich.

Support and maintenance revenues for the Edify business were $16.4 million for 2003, a decrease from $17.3 million for 2002 due principally to customer attrition. The reduction in maintenance is directly related to the downturn in the economy during 2001 and 2002, which saw a certain portion of Edify’s base of customers discontinue maintenance or shut down applications altogether.

Professional services revenues from our financial institution segment were $77.2 million for 2003, a $16.4 million decrease from $93.6 million for 2002. The decrease is primarily attributable to the $18.5 million decrease in professional services revenues from State Farm and a $1.9 million decrease in professional services revenues from Zurich.

The Edify business recorded $5.9 million of revenue for professional services for 2003 compared to $8.1 million for 2002. This decrease is attributable to the decrease in software sales and related implementation projects.

Data center revenues were $42.3 million for 2003, an increase of $5.1 million from 2002. The increase resulted primarily from the acceleration of data center revenues from Zurich (as discussed in the “Overview”). Increases in data center revenues from new and existing clients were nearly offset by other reductions in transitioning legacy customer revenues (as discussed in the “Overview”). This transition was completed by the end of 2003.

Other revenues are primarily related to the sale of third party hardware and software that is used in connection with our products. Other revenue fluctuates based on the mix of products and services sold and is not typical in our sales arrangements. In 2003, we recorded $2.3 million in revenue for third-party hardware delivered from inventory to one financial institution customer. The related cost of the hardware sold is included in “cost of other revenue” as the hardware is delivered. There is only minimal gross margin associated with other revenue.

Direct Costs and Gross Margins. Direct costs decreased $6.0 million to $109.0 million for the year ended December 31, 2003 from $115.0 million for 2002. Overall gross margins were 56% and 60% for the years ended December 31, 2003 and 2002, respectively. The overall decrease in direct costs was principally due to a $4.4 million reduction in cost of professional services, support and maintenance related to lower staffing levels and reduced facilities costs resulting from the consolidation of offices and a decrease in royalties and other third party fees paid on a lower base of sales (especially in the Edify business). These decreases were offset in part by the establishment of accruals for professional services costs, as discussed below, and the cost of the pass-through hardware (approximately $2.2 million) delivered to one customer in 2003. The decrease in gross margins was primarily due to the mix of revenue earned and a decrease in gross margins for professional services, support and maintenance, from 47% in 2002 to 43% in 2003. Software license revenues represented 25% and 31% of total revenues for the years ended December 31, 2003 and 2002, respectively. Historically, the gross margins on software licenses have been higher than the gross margins on professional service, support and maintenance and data center fees. Therefore, a significant decrease in license revenues as a percentage of total sales negatively affects the overall gross margin percentages. Gross margins on professional services decreased as the amount of revenue from State Farm decreased.

Direct costs exclude charges for depreciation of property and equipment and the amortization of purchased technology.

Software licenses costs for our financial institutions segment increased to $1.6 million in 2003 from $0.5 million in 2002, resulting from a higher volume of product sales including third party software components. Software license costs for the Edify business decreased to $3.5 million in 2003 from $6.5 million in 2002 due to the decrease in product sales and a reduction in the cost of third party voice recognition software.

Costs of professional services, support and maintenance consist primarily of personnel and related infrastructure costs.

Direct costs associated with professional services, support and maintenance were $80.7 million for the year ended December 31, 2003, a decrease of $4.4 million from 2002. This decrease resulted from reductions in professional services headcount, outside contractors and associated facilities costs to a level that is more closely aligned with the projects and services under contract. This decrease was partially offset by the accrual of approximately $3.2 million for the estimated future costs to complete service projects where our expected costs will exceed the contractual revenues. Gross margins for professional services and customer support and maintenance increased due to the revenue mix between lower margin professional services and higher margin support revenues.

Costs of data center consist of personnel costs, facility costs and related infrastructure costs to support our data center business. Direct data center costs were $21.6 million for the years ended December 31, 2003 and 2002. The acceleration of data center costs of $1.8 million in the first and second quarters of 2003 associated with the amendment of the Zurich contract, as well as the incremental costs incurred to the transfer the remaining data center business from the U.K. to our global hosting center in Atlanta, Georgia was offset by the cost savings from this consolidation during the second half of 2003.

Selling and Marketing. For the year ended December 31, 2003, selling and marketing expenses decreased $18.7 million to $38.8 million from $57.5 million in 2002. Selling and marketing expenses decreased $11.6 million and $7.2 million in our financial institutions and Edify segments, respectively, as a result of headcount reductions and the related decrease in compensation expense, other payroll related expense and benefits, and travel expenses.

Product Development. Total product development expenses decreased $5.9 million to $45.1 million for the year ended December 31, 2003 from $51.0 million for 2002. We achieved cost savings from the realignment of our product development organization in 2002, including replacing outside contractors in our domestic operations with lower cost offshore contractors in India and our development center in Ireland.

General and Administrative. General and administrative expenses were $31.0 million for the year ended December 31, 2003 compared to $37.1 million for 2002, a decrease of $6.1 million or 16%. As a percentage of revenues, general and administrative expenses decreased slightly to 12% for the year ended December 31, 2003 from 13% for the same period in 2002. The decrease in general and administrative expenses resulted principally from a decrease in administrative headcount, recruiting fees and professional fees.

Depreciation. Depreciation decreased $5.9 million to $16.5 million for the year ended December 31, 2003 from $22.4 million in 2002. This decrease was due to reductions in capital expenditures during 2001, 2002 and 2003 as compared with those made in 2000. In addition, depreciation expense decreased approximately $1.5 million as a result of the closure of our U.K data center operations and our disposal of the data center assets.

Merger Related and Restructuring Costs. During 2003, we recorded merger related costs and restructuring charges of $19.9 million, as compared to $2.4 million for 2002.

During 2003, we undertook several initiatives to align our worldwide cost structure with our anticipated 2004 revenues. As a result, management approved restructuring plans in the financial institution and Edify segments to reduce the work force, relocate and consolidate certain office facilities and sell certain corporate assets. In addition we consolidated our EMEA data center operations based in the United Kingdom into our global hosting center in Atlanta. In connection with these plans, we recorded restructuring charges of $21.2 million during the year ended December 31, 2003. In total, we eliminated approximately 200 positions worldwide and closed or consolidated office facilities. In the domestic operations of our financial institution segment, we recorded $6.2 million in restructuring charges during 2003, which were primarily comprised of charges for

severance costs associated with headcount reductions, lease payments associated with excess office space and other corporate charges.

During 2003 we reorganized our international operations. We consolidated our U.K. data center operations into our global hosting center in Atlanta, relocated our remaining U.K. operations to a smaller facility, decreased our workforce both in our European and APJ operations and closed offices in our APJ operations. As a result, in the year ended December 31, 2003, we recorded restructuring charges of $9.4 million in our European operations and $1.3 million in our APJ operations. These charges were comprised of accelerated depreciation of assets, severance costs, other related costs to relocate the data center operations, losses on the vacated office space and the write off of abandoned leasehold improvements. Under the provisions of SFAS No. 146, we recorded the loss on vacated office space at the present value of the expected cash flows.

In 2003, we decreased our merger related reserve for legal claims by $0.8 million, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve two legal matters during 2003 for less than previously estimated. In the second quarter of 2003, we further reduced our merger related accrual by $0.5 million when we determined that we had an alternate use for excess office space that was reserved when we completed the acquisition of Point in March 2002.

During 2002, we incurred merger related costs of $3.7 million in connection with the acquisition of the assets and subsidiaries of Point Holdings, Ltd. These costs, incurred in connection with our plan to reorganize certain of our European operations, include headcount reduction, consolidation of S1 and acquired Point office facilities and disposal of redundant or obsolete computer equipment. This merger related charge was partially offset by a $1.7 million decrease in reserves for legal claims, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve this legal matter during the first quarter of 2002 for less than previously estimated. Additionally, in 2002, we recorded a charge of $0.7 million for some excess office space in our Edify business.

Acquired In-Process Research and Development. In connection with the purchase price allocation for the Regency and Point acquisitions during the year ended December 31, 2002, we allocated $0.4 million to acquired in-process research and development, which we expensed immediately in accordance with the applicable accounting rules.

Amortization and Impairment of Acquisition Intangible Assets. Amortization and impairment of acquisition intangible assets decreased $0.1 million to $17.4 million for the year ended December 31, 2003 from $17.5 million for the same period in 2002.

Interest, Investment and Other Income. Interest, investment and other income, net was $0.1 million for the year ended December 31, 2003, a decrease from $1.5 million from 2002. We recorded interest and investment income, net of $1.4 million and $1.5 million in 2003 and 2002, respectively. Other expense increased $0.7 million due to an increase in realized foreign currency translation loss in 2003. Also, in 2003, we recorded a loss of $0.6 million on the sale of an investment that we accounted for on a cost basis.

Income Tax Benefit (Expense). We recorded income tax expense of $0.3 million during the year ended December 31, 2003 compared to an income tax benefit of $2.8 million in 2002. We incurred foreign income tax expense in certain European countries in 2002 and 2003. The income tax benefit in 2002 resulted from the amortization of other intangible assets acquired in

the acquisition of FICS, which was offset by the foreign income tax expense in 2002. This benefit ended with the complete amortization of the FICS other intangible assets in 2002.

Loss from discontinued operations. We recorded a loss from discontinued operations of $1.6 million and $8.1 million in the year ended December 31, 2002 and 2003, respectively. The decrease of $6.5 million in results from discontinued operations is primarily related to a $4.5 million reserve for loss contingencies established in the fourth quarter of 2003, and a decrease in revenues.

Valuation of Acquired Businesses

For the acquisitions of Mosaic, X/Net and the Indian business unit, we allocated the respective purchase prices to the net assets (or liabilities) of the businesses, identifiable intangible assets (if any) and goodwill.

For Mosaic and X/Net, we identified customer relationship and developed technology intangible assets. These assets were valued using the income approach to fair value. We did not identify any in-process research and development for these acquisitions. For the third acquisition, we did not identify any identifiable intangible assets.

Acquired In-process Research and Development

In connection with the acquisitions of Regency and Point, we allocated a portion of the respective purchase prices to acquired in-process research and development based on appraisals prepared by independent valuation consultants.

We determined the fair value of in-process research and development for each of the above acquisitions using an income approach. This involved estimating the present value of the after-tax cash flows expected to be generated by the purchased in-process research and development, using risk-adjusted discount rates and revenue forecasts as appropriate. Estimates of future cash flows related to the in-process research and development were made for each project based on our estimates of revenue, operating expenses and income taxes from the project. These estimates were consistent with historical pricing, margins and expense levels for similar products. Revenues were estimated based on relevant market size and growth factors, expected industry trends, individual product sales cycles and the estimated life of each product’s underlying technology. Estimated operating expenses, income taxes and charges for the use of contributory assets were deducted from estimated revenues to determine estimated after-tax cash flows for each project. Estimated operating expenses include cost of goods sold, selling, general and administrative expenses and research and development expenses. The research and development expenses include estimated costs to maintain the products once they have been introduced into the market. The selection of the discount rate was based on consideration of our weighted average cost of capital, as well as factors including the useful life of each technology, profitability levels of each technology, the uncertainty of technology advances that were known at the time, and the stage of completion of each technology. We believe that the estimated in-process research and development amounts represent fair value at the date of acquisition and do not exceed the amount a third party would have paid for the projects.

At the date of acquisition, the in-process research and development projects had not yet reached technological feasibility and had no alternative future uses. Accordingly, the values allocated to these projects were immediately expensed upon acquisition. Where appropriate, we deducted an amount reflecting the contribution of developed technology to the anticipated cash flows of in-process research and development projects. The acquisitions and related in-process research and development expenses are detailed in the table below:


				In-process		Costs to
Company	Acquisition Date	Purchase Price		R&D Expense		Complete
				(in millions)
Regency Systems	February 14, 2002	$	12.6	$	0.2		0.8
Point	March 27, 2002		17.9		0.2		1.1

At the date of acquisition, Regency was working on an IVR system for the NT platform, known as V3.1. Although this technology includes all of the same features of the developed system, it is based on an entirely new code, and includes additional features. We released this new product at the end of 2002 within the estimated costs and timeline used in the valuation.

As of the acquisition date, Point had two projects under development: e-point Version 6.5 for Windows NT and e-point Version 6.0 for Unix. E-point Version 6.5 incorporates additional functionalities to the existing platform. At the time of acquisition, conceptualization for Version 6.5 was complete, however it had not progressed through the development cycle.

e-point Unix has the same features as existing Point technology, but for use as interconnectivity with Unix operating systems. At the time of acquisition, the coding, prototyping and stabilization of the e-point Unix project was not complete. Both of these projects were completed during the first quarter of 2003 within the anticipated costs and timelines.

Liquidity and Capital Resources

The following tables show information about our cash flows during the years ended December 31, 2002, 2003 and 2004 and selected balance sheet data as of December 31, 2003 and 2004:


	Year Ended December 31,
	2002			2003			2004
				(in thousands)
Net cash provided by operating activities before changes in operating assets and liabilities	$	31,238		$	7,956		$	22,942
Changes in operating assets and liabilities		(9,817	)		14,418			(38,186	)

Net cash provided by (used in) operating activities		21,421			22,374			(15,244	)
Net cash used in investing activities		(26,719	)		(38,212	)		(12,534	)
Net cash (used in) provided by financing activities		(9,893	)		37			(6,239	)
Effect of exchange rates on cash and cash equivalents		487			852			527

Net decrease in cash and cash equivalents	$	(14,704	)	$	(14,949	)	$	(33,490	)


	As of December 31,
	2003		2004
	(in thousands)
Cash and cash equivalents	$	76,713		43,223
Short-term investments		87,477		65,248
Working capital ⁽¹⁾		125,940		105,232
Total assets		337,088		340,881
Total stockholders’ equity		243,814		254,996

(1)

Working capital includes deferred revenues of $38.5 million and $33.3 million as of December 31, 2003 and 2004, respectively.

Operating Activities. During the year ended December 31, 2004, cash used for operations was $15.2 million compared to cash provided by operations of $22.4 million and $21.4 million for the years ended December 31, 2003 and 2002, respectively. Changes in operating assets and liabilities, especially trade accounts receivable, trade accounts payable and accrued expenses, are generally the result of timing differences between the collection of fees billed and payment of operating expenses.

Cash used in operations for the year ended December 31, 2004 included the effects of:

•   our net income of $15.6 million, which included the gain on the sale of a subsidiary of $8.6 million and $1.5 million equity in net loss of affiliate;

•   non-cash charges of $14.0 million of depreciation and amortization;

•   provision of doubtful accounts receivable and billing adjustments of $0.4 million;

•   a decrease in accrued expenses and other liabilities of $10.6 million, including a $4.5 million payment for the settlement of a disputed claim in our discontinued business and $3.6 million for restructuring;

•   an increase of $19.9 million in accounts receivable due to the increased revenue accounted for under the percentage of completion accounting, the timing of billings at or near quarter end;

•   a decrease in deferred revenues of $6.4 million due to the timing of billings and the recognition of revenues; and

•   changes in other operating assets and liabilities of $1.3 million.

Our net loss of $38.2 million for the year ended December 31, 2003, included non-cash items of $34.3 million in depreciation and amortization, including acquisition intangibles and impairment charges, $3.9 million for the loss on disposal of property and $6.1 million to provide for doubtful accounts and billing adjustments.

The changes in operating assets and liabilities of $14.4 million in 2003 was primarily attributable to a decrease in accounts receivable of $11.1 million, a decrease in prepaid expenses and other assets of $6.2 million, and an increase in accrued expenses of $6.3 million, offset in part by a $7.6 million decrease in accounts payable.

Our net loss of $16.4 million for the year ended December 31, 2002, included non-cash items of $40.1 million in depreciation and amortization, including acquisition intangibles and the write-off of acquired in-process research and development and $7.8 million to provide for doubtful accounts and billing adjustments.

The change in operating assets and liabilities of $9.8 million in 2002 was primarily attributable to a decrease in accrued expenses and other liabilities of $14.4 million and an increase in prepaid expenses of $6.7 million and other assets, partially offset by an increase in deferred revenues of $6.6 million.

Investing Activities. Cash used in investing activities was $12.5 million for the year ended December 31, 2004 compared to $38.2 million in 2003 and $26.7 million in 2002.

We spent $3.9 million and $39.4 million in cash in connection with acquisitions in the years 2002 and 2004, respectively.

Short term investments consist of investments in certificates of deposit, commercial paper and other highly liquid securities with original maturities exceeding 90 days but less than one year. Short term investments also includes certain auction rate securities that have been reclassified from cash and cash equivalents to short-term investments. We had historically classified these instruments as cash and cash equivalents if the period between the interest rate resets was 90 days or less, which was based on our ability to either liquidate our holding or roll our investments over to the next reset period. Based on our re-evaluation of the maturity dates associated with the underlying bonds, we have reclassified our auction rate securities, previously classified as cash and cash equivalents, as short term investments for each of the periods presented in the accompanying consolidated balance sheets. Auction rate securities are variable rate bonds tied to short term interest rates with maturities on the face of the securities in excess of 90 days. Auction rate securities have interest rate resets through a modified Dutch auction, at predetermined short term intervals, usually every 7, 28 or 35 days. They generally trade at par and are callable at par on any interest payment date at the option of the issuer. Interest paid during a given period is based upon the interest rate determined through the auction process. Although these securities are issued and rated as long term bonds, they are priced and traded as short term instruments because of the liquidity provided through the interest rate reset. All short-term investments are available for sale and are reported at amortized cost. We converted a net $22.2 million of short-term investments to cash in 2004. We made net investments of $33.8 million and $8.9 million in short term investments in 2003 and 2002, respectively.

We purchased $6.8 million, $6.4 million, and $11.3 million of property and equipment in 2004, 2003, and 2002, respectively. Our property and equipment purchases are primarily related to computer equipment.

In 2004, we invested $1.5 million in an equity method investment. In 2003, we received proceeds of $2.0 million for the sale of certain assets and investment securities.

In 2002, we invested in a $2.5 million certificate of deposit. Because its remaining maturity exceeded one year at December 31, 2002, it was classified on our balance sheet in “other assets.” The remaining maturity for this investment is less than one year at December 31, 2003; accordingly, it is classified on our balance sheet in “short-term investments.”

Financing Activities. Cash used for financing activities was $6.2 million for the year ended December 31, 2004, as compared to cash provided by financing activities of $0.04 million and cash used in financing activities of $9.9 million for the years ended December 31, 2003 and 2002 respectively.

In July 2002, our Board of Directors approved a $10.0 million stock repurchase program. This program was completed in the first quarter of 2003. In October 2003, our Board of Directors approved a $15.0 million stock repurchase program. The principle objective of the stock repurchase plan is to offset dilution of our common stock from shares granted under our employee stock option plans. These programs were and continue to be funded from available cash and short-term investments. In the year ended December 31, 2004, we repurchased 1,438,249 shares of our common stock for $11.2 million. In the year ended December 31, 2003, we repurchased 199,562 shares of our common stock for $1.2 million. In the year ended December 31, 2002, we repurchased 1,906,300 shares of our common stock for $9.3 million under this program. As of December 31, 2004, we are

authorized to repurchase additional common stock up to $3.4 million. We expect to execute purchases of our common stock under this plan throughout 2005.

In 2004, 2003 and 2002, we received $6.0 million, $3.2 million and $5.4 million from the sale of common stock under our employee stock plans, respectively.

We paid $1.1 million, $2.0 million, and $6.0 million for capital lease obligations in 2004, 2003 and 2002, respectively.

As of December 31, 2004, we do not have any borrowing arrangements.

Commitments. In connection with the lease of certain offices, we issued standby letters of credit in the amount of $6.9 million to guarantee certain obligations under the lease agreements. The amount of the letter of credit reduces as our rent obligation declines. At December 31, 2004, there were no drawings outstanding under the letter of credit.

We lease office space and computer equipment under non-cancelable operating leases that expire at various dates through 2023. As a result of the consolidation of our offices over the past few years, we have entered into non-cancelable sub-lease agreements for certain of our properties. We also lease certain computer equipment under capital lease arrangements.

In the normal course of business, we enter into contracts with vendors. Some of these contracts include provisions for fixed or minimum purchase quantities. These obligations are included in aggregate in the table below.

Future minimum payments under operating and capital leases, operating sublease income, and purchase obligations to vendors are as follows (in thousands):


	Less than			1 – 3			3 – 5			Greater
	1 year			years			years			than 5 years			Total
Operating leases	$	15,324		$	19,887		$	13,406		$	12,155		$	60,772
Capital leases		1,665			1,641			—			—			3,306
Purchase obligations		5,835			1,226			—			—			7,061

Total	$	22,824		$	22,754		$	13,406		$	12,155		$	71,139


Operating sub-lease income	$	(2,215	)	$	(3,598	)	$	(2,945	)	$	(2,520	)	$	(11,278	)

In connection with the acquisitions of Mosaic and X/Net, we have committed to pay additional cash consideration if certain financial metrics are achieved during a certain time period. For Mosaic, the earn-out could be up to $15.0 million in 2005. For X/Net, the additional consideration could be $1.0 million in 2005 and $2.0 million in 2006. As of December 31, 2004, the certainty of these payments cannot be determined.

We believe that our expected cash flows from operations together with our existing cash and cash equivalents will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for at least the next 12 months. If cash generated from operations and existing cash and cash equivalents are insufficient to satisfy our liquidity requirements, we may seek to sell additional equity or issue debt securities or establish an additional credit facility. The sale of additional equity or convertible debt securities could result in additional dilution to our stockholders. The addition of indebtedness would result in increased fixed obligations and could result in operating covenants that would restrict our operations. We cannot assure you that financing will be available in amounts or on terms acceptable to us, if at all.

Item 7A. Qualitative and Quantitative Disclosures about Market Risk.

The foreign currency financial statements of our international operations are translated into U.S. dollars at current exchange rates, except revenues and expenses, which are translated at average exchange rates during each reporting period. Net exchange gains or losses resulting from the translation of assets and liabilities are accumulated in a separate section of stockholders’ equity titled “accumulated other comprehensive income (loss).” Therefore, our exposure to foreign currency exchange rate risk occurs when translating the financial results of our international operations to U.S. dollars in consolidation. At this time, we do not use financial instruments to hedge our foreign exchange exposure because the effect of foreign exchange rate fluctuations are not material. The net assets of our foreign operations at December 31, 2004 were approximately $10.3 million.

Our capital lease obligations include only fixed rates of interest. Therefore, we do not believe there is any material exposure to market risk changes in interest rates relating to our capital lease obligations.

Report of Independent Registered Public Accounting Firm

To Board of Directors
and Stockholders of S1 Corporation:

We have completed an integrated audit of S1 Corporation’s 2004 consolidated financial statements and of its internal control over financial reporting as of December 31, 2004 and audits of its 2003 and 2002 consolidated financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below.

Consolidated financial statements and financial statement schedule

In our opinion, the consolidated financial statements listed in the accompanying index present fairly, in all material respects, the financial position of S1 Corporation and its subsidiaries at December 31, 2004 and 2003, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2004 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the accompanying index presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit of financial statements includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

Internal control over financial reporting

Also, in our opinion, management’s assessment, included in Management’s Report on Internal Control Over Financial Reporting appearing under Item 9A, that the Company maintained effective internal control over financial reporting as of December 31, 2004 based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), is fairly stated, in all material respects, based on those criteria. Furthermore, in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control – Integrated Framework issued by the COSO. The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express opinions on management’s assessment and on the effectiveness of the Company’s internal control over financial reporting based on our audit. We conducted our audit of internal control over financial reporting in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. An audit of internal control over financial reporting includes obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we consider necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

As described in Management’s Report on Internal Control Over Financial Reporting, management has excluded X/Net Associates, Inc. and Mosaic Software Holdings and its subsidiaries from their assessment of internal control over financial reporting as of December 31, 2004 because they were acquired by the Company in purchase business combinations during 2004. We have also excluded X/Net Associates, Inc. and Mosaic Software Holdings and its subsidiaries from our audit of internal control over financial reporting. X/Net Associates, Inc. and Mosaic Software Holdings and its subsidiaries are wholly-owned subsidiaries whose total assets represent 1.39% and 12.74%, respectively, and whose total revenues represent 0.15% and 1.58%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2004.

PricewaterhouseCoopers LLP

Atlanta, Georgia
March 15, 2005

S1 CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS


	December 31,
	2003			2004
	(in thousands, except share
	and per share data)
ASSETS
Current assets:
Cash and cash equivalents	$	76,713		$	43,223
Short-term investments		87,477			65,248
Accounts receivable, net of allowance for doubtful accounts and billing adjustments of $5,106 and $4,705 at December 31, 2003 and 2004, respectively		37,188			61,216
Prepaid expenses		5,745			6,113
Other current assets		3,218			5,485

Total current assets		210,341			181,285
Property and equipment, net		15,661			15,150
Intangible assets, net		14,073			22,766
Goodwill, net		93,462			117,699
Other assets		3,551			3,981

Total assets	$	337,088		$	340,881


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	6,166		$	6,253
Accrued compensation and benefits		11,500			14,269
Accrued restructuring		4,711			3,337
Accrued other expenses		22,726			17,369
Deferred revenues		38,536			33,302
Current portion of capital lease obligation		762			1,523

Total current liabilities		84,401			76,053
Capital lease obligation, excluding current portion		523			1,572
Accrued restructuring, excluding current portion		7,063			4,789
Other liabilities		1,287			3,471

Total liabilities		93,274			85,885


Commitments and contingencies (Note 11)

Stockholders’ equity:
Preferred stock, $0.01 par value. Authorized 25,000,000 shares. Issued and outstanding 749,064 shares at December 31, 2003 and 2004, respectively		10,000			10,000
Common stock, $0.01 par value. Authorized 350,000,000 shares. Issued and outstanding 73,230,760 and 74,152,529 shares at December 31, 2003 and 2004, respectively		732			742
Additional paid-in capital		1,907,918			1,913,913
Common stock held in treasury, at cost. 2,105,862 and 3,544,111 shares at December 31, 2003 and 2004, respectively		(10,438	)		(21,593	)
Accumulated deficit		(1,661,717	)		(1,646,147	)
Accumulated other comprehensive income (loss):
Cumulative foreign currency translation adjustment, net of tax		(2,681	)		(1,919	)

Total stockholders’ equity		243,814			254,996

Total liabilities and stockholders’ equity	$	337,088		$	340,881

See accompanying notes to consolidated financial statements.

S1 CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS


	Year Ended December 31,
	2002			2003			2004
	(in thousands, except share and per share data)
Revenues:
Software licenses	$	88,703		$	61,650		$	49,693
Support and maintenance		56,926			57,921			62,973
Professional services		99,904			82,842			88,732
Data center		37,230			42,288			37,354
Other		1,274			2,917			2,291

Total revenues		284,037			247,618			241,043


Operating expenses:
Cost of software licenses		6,973			4,048			5,824
Cost of professional services, support and maintenance		85,104			80,697			73,497
Cost of data center		21,581			21,603			17,062
Cost of other revenue		1,267			2,623			1,715
Selling and marketing		57,501			38,758			37,050
Product development		50,935			45,148			49,706
General and administrative, including stock option compensation expense of $1,322, $281 and $0, for 2002, 2003 and 2004		37,051			30,871			31,393
Depreciation		22,425			16,517			10,226
Merger related and restructuring costs		2,417			19,858			—
Acquired in-process research and development		350			—			—
Amortization and impairment of acquisition intangible assets		17,460			17,392			3,483

Total operating expenses		303,064			277,515			229,956

Operating (loss) income		(19,027	)		(29,897	)		11,087
Interest, investment and other income (expense), net		1,479			84			(1,538	)

(Loss) income before income taxes		(17,548	)		(29,813	)		9,549
Income tax benefit (expense)		2,770			(283	)		(1,390	)

(Loss) income from continuing operations		(14,778	)		(30,096	)		8,159

Discontinued operations:
Loss from operations of discontinued operations, net of tax		(1,619	)		(8,076	)		(1,148	)
Gain on disposal of discontinued operations, net of tax		—			—			8,559

Net (loss) income	$	(16,397	)	$	(38,172	)	$	15,570


Basic earnings per share:
Continuing operations	$	(0.22	)	$	(0.43	)	$	0.12
Discontinued operations, net of tax		(0.02	)		(0.12	)		0.10

Net (loss) income per share	$	(0.24	)	$	(0.55	)	$	0.22


Diluted earnings per share:
Continuing operations	$	(0.22	)	$	(0.43	)	$	0.11
Discontinued operations, net of tax		(0.02	)		(0.12	)		0.10

Net (loss) income per share	$	(0.24	)	$	(0.55	)	$	0.21


Weighted average common shares outstanding - basic		67,724,593			69,872,436			70,612,973

Weighted average common shares outstanding – fully diluted		n/a			n/a			73,130,026

See accompanying notes to consolidated financial statements.

S1 CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS


	Year Ended December 31,
	2002			2003			2004
	(in thousands)
Cash flows from operating activities:
Net (loss) income	$	(16,397	)	$	(38,172	)	$	15,570
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
Depreciation, amortization and intangible asset impairment charges		40,095			34,308			14,010
Gain on disposal of discontinued operations, net of tax		—			—			(8,559	)
Acquired in-process research and development		350			—			—
Provision for doubtful accounts receivable and billing adjustments		7,756			6,063			421
Equity in net loss of affiliate		—			—			1,500
Compensation and marketing expense for options and warrants		1,322			281			—
Benefit for deferred income taxes		(2,930	)		—			—
Loss on disposal of property and equipment		610			3,931			—
Other		432			1,545			—
Changes in operating assets and liabilities
(Increase) decrease in accounts receivable		(2,698	)		11,089			(19,884	)
(Increase) decrease in prepaid expenses and other assets		(6,707	)		6,249			(831	)
Increase (decrease) in accounts payable		7,396			(7,588	)		(457	)
(Decrease) increase in accrued expenses and other liabilities		(14,363	)		6,314			(10,624	)
Increase (decrease) in deferred revenues		6,555			(1,646	)		(6,390	)

Net cash provided by (used in) operating activities		21,421			22,374			(15,244	)


Cash flows from investing activities:
Cash paid in connection with acquisition of businesses		(3,943	)		—			(39,434	)
Proceeds from sale of subsidiary		—			—			12,924
Maturities of short-term investment securities		76,884			40,133			82,752
Purchases of short-term investment securities		(85,823	)		(73,956	)		(60,523	)
Investment in equity method investment		—			—			(1,500	)
Purchase of long-term certificate of deposit		(2,500	)		—			—
Proceeds from sale of other assets		—			1,415			—
Proceeds from sale of cost-basis investment and other investment securities		—			586			—
Purchases of property, equipment, and technology		(11,337	)		(6,390	)		(6,753	)

Net cash used in investing activities		(26,719	)		(38,212	)		(12,534	)


Cash flows from financing activities:
Proceeds from employee stock option plans and stock purchase plan		5,371			3,217			6,005
Repurchase of common stock held in treasury		(9,250	)		(1,188	)		(11,155	)
Payments on capital lease obligations		(6,014	)		(1,992	)		(1,089	)

Net cash (used in) provided by financing activities		(9,893	)		37			(6,239	)

Effect of exchange rate changes on cash and cash equivalents		487			852			527

Net decrease in cash and cash equivalents		(14,704	)		(14,949	)		(33,490	)
Cash and cash equivalents at beginning of year		106,366			91,662			76,713

Cash and cash equivalents at end of year	$	91,662		$	76,713		$	43,223


Non-cash financing and investing activities:
Property and equipment acquired through leases	$	479		$	1,399		$	2,899
Maintenance agreement financed through vendor		—			—			1,279
Conversion of preferred stock to common stock		225,778			8,328			—
Issuance of preferred stock and common stock		22,767			—			—
Assets acquired, net of cash acquired	5,487				—		8,153
Liabilities assumed in acquisition		10,002			—			5,551

See accompanying notes to consolidated financial statements.

S1 CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME (LOSS)

(in thousands, except share data)


											Additional											Accumulated			Other			Total
	Preferred Stock						Common Stock				Paid-in		Treasury Stock						Accumulated			Comprehensive			Stockholders			Comprehensive
	Shares			Amount			Shares		Amount		Capital		Shares			Amount			Deficit			Income (Loss)			Equity			(Loss) Income
Balance at December 31, 2001		1,635,714		$	241,975			61,444,554	$	614	$	1,640,972		—		$	—		$	(1,607,148	)	$	(1,795	)	$	274,618

Net loss		—			—			—		—		—		—			—			(16,397	)		—			(16,397	)		(16,397	)
Change in net unrealized gains on investment securities available for sale		—			—			—		—		—		—			—			—			(11	)		(11	)		(11	)
Change in cumulative foreign currency translation adjustment		—			—			—		—		—		—			—			—			(790	)		(790	)		(790	)
Conversion of preferred stock to common stock		(237,500	)		(225,778	)		6,954,712		70		225,708		—			—			—			—			—			—
Common stock issued upon the exercise of stock options and employee stock purchases		—			—			1,386,088		14		5,357		—			—			—			—			5,371			—
Stock option compensation		—			—			—		—		1,322		—			—			—			—			1,322			—
Issuance of capital stock in connection with acquisitions		—			2,131			1,474,547		15		22,752		—			—			—			—			24,898			—
Repurchase of common stock, held in treasury		—			—			—		—		—		(1,906,300	)		(9,250	)		—			—			(9,250	)		—

Comprehensive loss		—			—			—		—		—		—			—			—			—			—		$	(17,198	)

Balance at December 31, 2002		1,398,214		$	18,328			71,259,901	$	713	$	1,896,111		(1,906,300	)	$	(9,250	)	$	(1,623,545	)	$	(2,596	)	$	279,761

Net loss		—			—			—		—		—		—			—			(38,172	)		—			(38,172	)		(38,172	)
Change in net unrealized gains on investment securities available for sale		—			—			—		—		—		—			—			—			(38	)		(38	)		(38	)
Change in cumulative foreign currency translation adjustment		—			—			—		—		—		—			—			—			(23	)		(23	)		(23	)
Realized gains on sale of investment securities		—			—			—		—		—		—			—			—			(24	)		(24	)		—
Conversion of preferred stock to common stock		(649,150	)		(8,328	)		649,150		6		8,322		—			—			—			—			—			—
Common stock issued upon the exercise of stock options and employee stock purchases		—			—			1,321,709		13		3,204		—			—			—			—			3,217			—
Stock option compensation		—			—			—		—		281		—			—			—			—			281			—
Repurchase of common stock, held in treasury		—			—			—		—		—		(199,562	)		(1,188	)		—			—			(1,188	)		—

Comprehensive loss		—			—			—		—		—		—			—			—			—			—		$	(38,233	)

Balance at December 31, 2003		749,064		$	10,000			73,230,760	$	732	$	1,907,918		(2,105,862	)	$	(10,438	)	$	(1,661,717	)	$	(2,681	)	$	243,814

Net income		—			—			—		—		—		—			—			15,570			—			15,570			15,570
Change in cumulative foreign currency translation adjustment		—			—			—		—		—		—			—			—			762			762			762
Common stock issued upon the exercise of stock options		—			—			921,769		10		5,995		—			—			—			—			6,005			—
Repurchase of common stock, held in treasury		—			—			—		—		—		(1,438,249	)		(11,155	)		—			—			(11,155	)		—

Comprehensive income		—			—			—		—		—		—			—			—			—			—		$	16,332

Balance at December 31, 2004		749,064		$	10,000			74,152,529	$	742	$	1,913,913		(3,544,111	)	$	(21,593	)	$	(1,646,147	)	$	(1,919	)	$	254,996

See accompanying notes to consolidated financial statements.

S1 CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2002, 2003 and 2004

1. Business

S1 Corporation is a global provider of enterprise software solutions for financial organizations including banks, credit unions, investment firms and insurance companies. We operate and manage S1 in two business segments: financial institutions, which is our core business segment, and the Edify business. Our financial institution solutions automate transactions and integrate the channels by which financial institutions interact with their customers. Our objective is to be the leading global provider of integrated enterprise solutions that enable financial institutions to improve the way they service their customers by integrating all delivery channels, expanding the total financial relationship and increasing profits. We sell our solutions to small, mid-sized and large financial organizations in two geographic regions: (i) the Americas region, and (ii) the International region, consisting of Europe, Middle East and Africa (EMEA) and Asia-Pacific and Japan (APJ).

Through our Edify business segment, we deliver voice and speech solutions for the enterprise. Edify’s solutions help companies automate their customer service facilities, improve customer satisfaction and create new revenue generating opportunities, while reducing operational costs. Edify’s voice and speech applications are scalable, multilingual and flexible, allowing companies to easily integrate multiple back-end systems with a variety of contact interfaces. Edify’s voice and speech solutions combine speech recognition, speaker verification, text-to-speech, fax, and touch-tone automation with a powerful application development environment and natural language capabilities to help organizations optimize customer service while lowering costs. Edify’s products are sold across multiple vertical markets including financial services, travel, retail and telecommunications.

We derive a significant portion of our revenues from licensing our solutions and providing professional services. We generate recurring data center revenues by charging our data center customers a monthly fixed fee or a fee based on the number of their end users who use the solutions we provide and the level of use of the solutions, subject to a minimum charge. We also generate recurring revenues by charging our customers a periodic fee for maintenance.

S1 is headquartered in Atlanta, Georgia, USA, with additional domestic offices in Boston, Massachusetts; Charlotte, North Carolina; Austin, Texas; Deerfield Beach, Florida; Rochester, New York; West Hills, California and Santa Clara, California; and international offices in Brussels, Beijing, Capetown, Dublin, Hong Kong, Lisbon, London, Luxembourg, Madrid, Melbourne, Munich, Paris, Pune, Rotterdam and Singapore. S1 is incorporated in Delaware.

2. Summary of Significant Accounting Policies

Basis of presentation

The consolidated financial statements include the accounts of S1 Corporation and its wholly owned subsidiaries. During 2002 and 2004, we completed a total of five business acquisitions, which we discuss more fully in Note 3. The results of operations and cash flows of these acquired businesses are included in our consolidated statements of operations and cash flows from their respective dates of acquisition.

We have accounted for the disposal of our wholly-owned subsidiary, Davidge Data Systems, as discontinued operations in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” As such, Davidge results for current and prior periods are presented in “discontinued operations.”

Use of estimates

We have made estimates and assumptions that affect the reported amounts of revenue, expenses, assets and liabilities and disclosure of liabilities to prepare these financial statements in conformity with accounting principles generally accepted in the United States of America. Actual results could differ from our estimates. Areas involving the use of significant estimates include:

•   revenue recognition;

•   estimation of our allowance for doubtful accounts and billing adjustments;

•   valuation and recoverability of long-lived assets, including goodwill;

•   valuation of acquired businesses;

•   determination of technological feasibility and capitalization of software development costs;

•   recognition of costs in connection with restructuring plans and merger-related activities;

•   reserve for contingencies;

•   valuation of stock based compensation; and

•   income taxes.

Financial instruments

We use financial instruments in the normal course of business, including cash and cash equivalents, investment securities, accounts receivable, accounts payable, accrued compensation and benefits, other accrued expenses, deferred revenues and capital lease obligations.

Cash and cash equivalents include deposits with commercial banks and highly liquid investments with original maturities of 90 days or less.

Short-term investments consist of investments in certificates of deposit, commercial paper and other highly liquid securities with original maturities exceeding 90 days but less than one year. Short term investments also includes certain auction rate securities that have been reclassified from cash and cash equivalents to short-term investments. We had historically classified these instruments as cash and cash equivalents if the period between the interest rate resets was 90 days or less, which was based on our ability to either liquidate our holding or roll our investments over to the next reset period. Based on our re-evaluation of the maturity dates associated with the underlying bonds, we have reclassified our auction rate securities, previously classified as cash and cash equivalents, as short term investments for each of the periods presented in the accompanying consolidated balance sheets. Auction rate securities are variable rate bonds tied to short term interest rates with maturities on the face of the securities in excess of 90 days. Auction rate securities have interest rate resets through a modified Dutch auction, at predetermined short term intervals, usually every 7, 28 or 35 days. They generally trade at par and are callable at par on any interest payment date at the option of the issuer. Interest paid during a given period is based upon the interest rate determined through the auction process. Although these securities are issued and rated as long term bonds, they are priced and traded as short term instruments because of the liquidity provided through the interest rate reset. All short-term investments are available for sale and are reported at amortized cost.

Investments with a remaining maturity that exceed one year are reported in other assets. These investments are held to maturity and are reported at amortized cost. At December 31, 2004, we had no investments whose remaining maturity exceeded one year.

Certain of our investments are made with financial institutions who are also our customers. These investments are made at market rates in arms-length transactions.

At December 31, 2004, we had restricted cash of $3.0 million designated for lease payments and other disbursements in our international businesses. Restricted cash is included in other current assets.

The carrying values of accounts receivable, accounts payable, accrued compensation and benefits, other accrued expenses and deferred revenues approximate fair value due to the short-term nature of these assets and liabilities. The carrying value of our capital lease obligations approximates their fair value given their market rates of interest and maturity schedules.

Accounts receivable and allowance for doubtful accounts and billing adjustments

Accounts receivable includes amounts billed to customers and unbilled amounts of revenue earned in advance of billings. Accounts receivable are recorded at the invoiced amount or the earned amount and do not bear interest. We have established a discount allowance for estimated billing adjustments and an allowance for estimated amounts that we will not collect. We report provisions for billing adjustments as a reduction of revenue and provisions for uncollectible amounts as a component of selling expense. We review specific accounts, including substantially all accounts with past due balances over 90 days, for collectibility based on circumstances known to us at the date of our financial statements. In addition, we maintain reserves based on historical billing adjustments and write-offs. These estimates are reviewed quarterly and are based on historical discounts, concessions and write-offs, customer concentrations, customer credit-worthiness, current economic trends and changes in our customer payment terms. Accounts receivable are charged off against the allowance when we estimate it is probable the receivable will not be recovered.

Property and equipment

We report property and equipment at cost, less accumulated depreciation. We calculate depreciation using the straight-line method over the estimated useful lives of the related assets. We amortize leasehold improvements using the straight-line method over the estimated useful life of the improvement or the lease term, whichever is shorter. Gains or losses recognized on disposal or retirement of property and equipment are recognized in the consolidated statement of operations.

The estimated useful lives of the assets are as follows:


Furniture and fixtures		5 years
Computer equipment ⁽¹⁾		1.5 to 3 years
Software		3 years

(1)

Computer equipment under capital lease is depreciated over the term of the lease agreement which approximates the equipment’s economic useful life.

Goodwill

We have recorded goodwill and other intangible assets in connection with the acquisition of businesses accounted for using the purchase method. On January 1, 2002, in connection with the adoption of Statement of Financial Accounting Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets” we reclassified the unamortized balance of the assembled workforce intangible asset to goodwill and discontinued amortization of goodwill, as adjusted.

Under the provisions of SFAS No. 142, we are required to perform an impairment test of goodwill at least once annually or upon the occurrence of a triggering event. We have elected to test our intangible assets for impairment as of October 1st each year. The impairment test requires us to: (1) identify our reporting units, (2) determine the carrying value of each reporting unit by assigning assets and liabilities, including existing goodwill and intangible assets, to those reporting units, and (3) determine the fair value of each reporting unit. If the carrying value of any reporting unit exceeds its fair value in future periods, we will determine the amount of goodwill impairment, if any, through a detailed fair value analysis of each of the assigned assets (excluding goodwill). If any impairment were indicated as a result of the annual test, we would record an impairment charge as part of income (loss) from operations. Based upon the results of our annual impairment test in October 2002, 2003 and 2004, no impairments were identified.

Other long-lived assets

We evaluate the recoverability of long-lived assets whenever events or changes in circumstances indicate that the carrying amount should be assessed by comparing their carrying value to the undiscounted estimated future net operating cash flows expected to be derived from such assets. If such evaluation indicated a potential impairment, we used discounted cash flows to measure fair value in determining the amount of these intangible assets that should be written off.

We amortize identifiable intangible assets over their estimated useful lives (ranging from three to ten years) using the straight-line method which approximates the projected utility of such assets based upon the information available. Purchased technology represents technology acquired from third parties, which we have incorporated in our products. We amortize purchased technology over its estimated useful life (ranging from two to five years).

Cost-basis and equity method investments

Other assets include investments in entities that we account for on the cost basis as well as our investment in Yodlee, Inc., which we account for using the equity method. We account for investments in affiliated entities, which we do not manage and over which we exert significant influence, under the equity method. The equity method of accounting requires us to record our share of the net operating results of the investee in our consolidated statements of operations. We adjust the carrying value of our equity method investments for our share of their net operating results, unless and until our share of their underlying net assets has been reduced to $0. At the end of each period, we assess the recoverability of these cost basis and equity method investments by comparing their carrying value, including goodwill, to the undiscounted estimated future net operating cash flows expected to be derived from such assets. If we determine that the carrying value is not recoverable and that the impairment is other than temporary, we reduce the asset to its estimated fair value. Since our share of Yodlee’s underlying net assets was $0 at December 31, 2001 and we have not made any commitments to Yodlee to provide additional funding, we did not record our share of Yodlee’s operating results in 2002, 2003 and 2004, and we will not record our share of any future operating results until our basis in Yodlee increases above $0, if ever. In 2004, we made additional investments totaling $1.5 million in Yodlee which we expensed immediately as these investments represented our funding of our share of Yodlee’s prior losses previously suspended under the equity method of accounting as described above.

Concentration of credit risk

We derive a significant portion of our revenue from products and services we provide to the banking industry and other financial services firms such as insurance and securities brokerage companies. Changes in economic conditions and unforeseen events, like recession or inflation, could occur and reduce consumers’ use of banking services.

Our business success depends in part on our relationships with a limited number of large customers. For the year ended December 31, 2002, two customers represented 23% and 15% of total revenues from continuing operations, respectively. For the year ended December 31, 2003, two customers represented 18% and 17% of total revenues from continuing operations, respectively. For the year ended December 31, 2004, one customer represented 20% of total revenues from continuing operations. One customer represented 8% and 20% of total receivables at December 31, 2003 and 2004, respectively.

We are subject to concentrations of credit risk from our cash and cash equivalents, short term investments and accounts receivable. We limit our exposure to credit risk associated with cash and cash equivalents and short term investments by placing our cash and cash equivalents with a number of major domestic and foreign financial institutions and by investing in investment grade securities.

Revenue recognition, deferred revenues and cost of revenues

Software license revenue. We recognize software license sales in accordance with Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements,” Statement of Position No. 97-2, “Software Revenue Recognition,” and SOP No. 98-9, “Modification of SOP No. 97-2, Software Revenue Recognition With Respect to Certain Transactions,” as well as Technical Practice Aids issued from time to time by the American Institute of Certified Public Accountants. For software license sales for which any services rendered are not considered essential to the functionality of the software, we recognize revenue upon delivery of the software, provided (1) there is evidence of an arrangement, (2) collection of our fee is considered probable and (3) the fee is fixed or determinable. In certain of these arrangements, vendor specific objective evidence of fair value exists to allocate the total fee to all elements of the arrangement. If vendor specific objective evidence of fair value does not exist for the license element, we use the residual method under SOP No. 98-9 to determine the amount of revenue to be allocated to the license element.

For software license sales where the license term does not begin until installation is complete, we recognize license and professional services revenue when we complete the installation of the software. For license arrangements in which the fee is not considered fixed or determinable, the license revenue is recognized as payments become due. For those arrangements where collectibility is not considered probable, revenue is recognized upon cash collections.

For term license arrangements, sometimes referred to as subscription licenses, where we allow customers the rights to use software and receive unspecified products as well as unspecified upgrades and enhancements during a specified term, the license revenue is recognized ratably over the term of the arrangement.

Support and maintenance revenue. Revenues for post-contract customer support and maintenance are recognized ratably over the contract period. Services provided to customers under customer support and maintenance agreements generally include technical support and unspecified product upgrades.

Professional services revenue. Revenues derived from arrangements to provide professional services on a time and materials basis are recognized as the related services are performed. Revenues from professional services provided on a fixed fee basis are recognized using the percentage of completion method, measured by the percentage of labor hours incurred to date to estimated total labor hours for each contract. Provisions for estimated losses on incomplete contracts are made in the period in which such losses are determined.

Data center revenue. We recognize data center revenue in accordance with Staff Accounting Bulletin No. 104, “Revenue Recognition” and Emerging Issues Task Force No. (EITF) 00-21, “Accounting for Revenue Arrangements with Multiple Deliverables.” We also consider the applicability of EITF 00-03, “Application of AICPA Statement of Position 97-2 to Arrangements That Include the Right to Use Software Stored On Another Entity’s Hardware,” to our hosting arrangements on a contract-by-contract basis. If we determine that a software element covered by SOP No. 97-2 is present in a hosting arrangement, we recognize the license, professional services and data center revenue pursuant to SOP No. 97-2. If we determine that a software element covered by SOP No. 97-2 is not present in a hosting arrangement, we recognize revenue for the arrangement pursuant to SAB No. 104 and EITF 00-21 as follows:

Data center arrangements typically include two elements: implementation and transaction processing services. For those data center arrangements which contain elements that qualify as separate units of accounting, the implementation and transaction processing services are recognized as the services are performed.

For those data center arrangements that contain elements that do not qualify as separate units of accounting, the professional services revenue earned under these arrangements is initially deferred and then recognized over the term of the data center arrangement or the expected period of performance, whichever is longer.

Other revenue. Other revenue is primarily related to the sale of third party hardware and software that is used in connection with our products. Other revenue is recognized upon delivery of the third party hardware or software, provided (1) there is evidence of an arrangement, (2) collection of our fee is considered probable and (3) the fee is fixed or determinable.

Deferred revenues. Deferred revenues represent payments received from customers for software licenses, services and maintenance in advance of performing services. Maintenance is normally billed quarterly or annually in advance of performing the service.

Cost of revenues. Direct software license costs consist primarily of the cost of third-party software used in our products. Support and maintenance and professional services direct costs are primarily personnel and related infrastructure costs. Direct data center costs consist of personnel and infrastructure to support customer installations that we host in one of our data centers. Costs of revenues exclude charges for depreciation of property and equipment and amortization of purchased technology.

Product development

Product development includes all research and development expenses and software development costs. We expense all research and development expenses as incurred. We expense all software development costs associated with establishing technological feasibility, which we define as completion of beta testing. Because of the insignificant amount of costs incurred between completion of beta testing and general customer release, we have not capitalized any software development costs in the accompanying consolidated financial statements.

Merger related and restructuring costs

Merger related costs include expenses related to integrating the products and platforms of acquired companies, training personnel on new products acquired, establishing the infrastructure and consolidating the operations of acquired companies and expenses incurred pursuing transactions that did not result in a strategic arrangement. In addition, we established accruals for pre-acquisition contingencies that existed at the date of acquisition in connection with the acquisition of certain businesses. As those contingencies are resolved, we reduce the related liabilities for any related cash disbursements or changes in estimate. Any difference in the actual settlement amount or any change in estimate is reflected as an adjustment to income or expense within this line item in the period of resolution or adjustment.

In 2003, we approved restructuring plans related to the reorganization of our business operations. We accrued the estimated costs of exiting certain activities under these restructuring plans and recorded a corresponding charge in the period the exit plan was approved. In subsequent periods, we re-assessed the initial assumptions and estimates made in connection with these restructuring plans based on current information and, as a result, recorded additional charges for the estimated incremental costs of exiting certain activities under this restructuring plan. See Note 9 for further discussion of these restructuring activities.

Interest, investment and other income (expense), net

Interest, investment and other income (expense), net is comprised of the following:


	For the year ended
	December 31,
	2002			2003			2004
Interest and investment income	$	2,469		$	1,782		$	2,122
Interest expense		(963	)		(423	)		(597	)
Equity in net loss of affiliate		—			—			(1,500	)
Other		(27	)		(1,275	)		(1,563	)

Total	$	1,479		$	84		$	(1,538	)

Income taxes

We use the asset and liability method of accounting for income taxes, under which deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and net operating loss and tax credit carry forwards. We measure deferred income tax assets and liabilities using enacted tax rates expected to apply to taxable income in the years in which we expect those temporary differences to be recovered or settled. The effect on deferred income tax assets and liabilities of a change in tax rates is recognized in the statement of operations in the period that includes the enactment date. We establish a valuation allowance to reduce the deferred income tax assets to the level at which we believe it is more likely than not that the tax benefits will be realized. See Note 12 for further discussion of our income taxes.

Stock-based compensation

We account for our stock option plans in accordance with the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations and comply with the disclosure provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation.” As such, we record compensation expense on the date of grant only if the current market price of the underlying stock exceeds the exercise price. Additionally, if a modification is made to an existing grant, any related compensation expense is calculated on the date both

parties accept the modification and recorded on the date the modification becomes effective. Otherwise, we do not record stock compensation expense when we grant stock options to S1 employees.

In 2002 and 2003, we recognized compensation cost of approximately $1.3 million and $0.3 million, respectively, relating to stock options granted with exercise prices less than the market price on the date of grant. Had we determined compensation cost based on the fair value at the grant date for our stock options and stock purchase rights under SFAS No. 123, our net loss would have increased to the pro forma amounts indicated below (in thousands, except per share data):


	2002			2003			2004
Net (loss) income, as reported	$	(16,397	)	$	(38,172	)	$	15,570
Add: Stock-based employee compensation expense included in reported net (loss) income, net of related tax effects		1,322			281			—
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(45,172	)		(31,991	)		(25,143	)

Pro forma net loss	$	(60,247	)	$	(69,882	)	$	(9,573	)


Basic and diluted net (loss) income per share:
As reported - basic	$	(0.24	)	$	(0.55	)	$	0.22
As reported - diluted		(0.24	)		(0.55	)		0.21
Pro forma – basic and diluted		(0.89	)		(1.00	)		(0.14	)

The effect of applying SFAS No. 123 for providing these pro forma disclosures is not necessarily representative of the effects on reported net income (loss) in future periods. In 2004, we identified certain assumptions surrounding the forfeiture of stock options used in our Black-Scholes model calculation that were not correctly reflected in our pro forma expense. For 2002, 2003 and 2004, we are presenting pro forma compensation expense amounts that reflect actual forfeitures that have occurred in the respective periods.

The fair values were determined using the Black-Scholes option-pricing model with the following weighted-average assumptions:


	2002			2003			2004
Expected dividend yield		0	%		0	%		0	%
Expected volatility		115.7	%		111.1	%		101.9	%
Risk-free interest rate, stock option plans		3.8	%		3.0	%		3.6	%
Expected life, stock option plans		4.5	years		4.1	years		4.0	years
Risk-free interest rate, stock purchase plan		2.0	%		—			—
Expected life, stock purchase plan		0.5	years		—			—

Net Income (loss) per share

In the second quarter of 2004, we adopted EITF 03-06, “Participating Securities and the Two-Class Method under Statement of Financial Accounting Standards No. 128, Earnings Per Share” and began calculating earnings per share using the two-class method during periods which we recorded net income. For periods in which we record a net loss, we calculate net loss per share as the net loss during the period divided by the weighted average number of common shares outstanding during the period as the effect of adopting EITF 03-06 would be anti-dilutive.

Net income has been allocated to the common and preferred stock based on their respective rights to share in dividends. Net losses have not been allocated to preferred stock, as there is no contractual obligation for the holders of the participating preferred stock to share in our losses. We excluded the preferred convertible stock from diluted earnings per share under the if-converted method because the effect is anti-dilutive.

Diluted earnings per share is calculated to reflect the potential dilution that would occur if stock options or other contracts to issue common stock were exercised and resulted in additional common stock that would share in the earnings of S1. Because of our net losses in the years ended December 31, 2003 and 2002, the issuance of additional shares of common stock through the exercise of stock options or upon the conversion of preferred stock were excluded as they would have an anti-dilutive effect on our net loss per share for that period. See Note 19 for more information.

Foreign currency translation

We translate the financial statements of our international subsidiaries into U.S. dollars at current exchange rates, except for revenues and expenses, which are translated at average exchange rates during each reporting period. Currency transaction gains or losses, which we include in our results of operations, are immaterial for all periods presented. We include net exchange gains or losses resulting from the translation of assets and liabilities as a component of accumulated other comprehensive income (loss) in stockholders’ equity.

Comprehensive income (loss)

We report total changes in equity resulting from revenues, expenses, and gains and losses, including those that do not affect the accumulated deficit. Accordingly, we include in other comprehensive income (loss) those amounts relating to foreign currency translation adjustments and unrealized gains and losses on available for sale investment securities classified as available for sale in the consolidated statement of stockholders’ equity and comprehensive income (loss).

Reclassifications

We reclassified certain amounts in the prior years’ consolidated financial statements to conform to the current year presentation.

Recent accounting pronouncements

payments to employees to be recognized in the income statement based on their grant date fair values over the corresponding service period and also requires an estimation of forfeitures when calculating compensation expense. We will adopt SFAS No. 123R on July 1, 2005 using the “modified prospective” method. We expect to record stock based compensation expense of between $5.0 million and $8.0 million during the six months ended December 31, 2005.

3. Business Acquisitions

On November 12, 2004, we purchased the outstanding stock of Mosaic Software Holdings Limited, a United Kingdom based provider of solutions that drive ATMs and electronic payments. We believe the acquisition adds a financial transaction solution to S1’s suite of products and will enable S1 to offer financial services providers and retailers an ATM and payments solution which complements the S1 Enterprise integrated front-office suite. Under the terms of the transaction, S1 paid $37.0 million in cash upon the closing of the transaction and committed to pay up to an additional $15.0 million in cash for earn-out payments upon Mosaic achieving certain financial metrics during its fiscal year ending May 31, 2005. Any additional consideration will be accounted for as additional purchase price and will increase the amount of goodwill associated with Mosaic in the period in which such payment becomes issued or issuable. We incurred approximately $1.0 million of expenses associated with this transaction. For accounting purposes, we treated the acquisition as if it had occurred on November 12, 2004. Accordingly, our consolidated results of operations for the year ended December 31, 2004 include approximately one and a half months of operating results for Mosaic.

On August 4, 2004, we purchased the outstanding stock of X/Net Associates, Inc., a Rochester, New York based provider of lending solutions to financial institutions. We believe this acquisition will strengthen our product offering around lending solutions and accelerate the development of our lending functionality. We paid cash consideration of $4.0 million for this business and incurred approximately $0.1 million of expenses in connection with the acquisition. Under the agreement, additional consideration may be paid to one shareholder of X/Net, who is also an S1 employee, if certain financial metrics are achieved. There is a maximum of $1.0 million that can be earned in the period from August 1, 2004 through July 31, 2005 and $2.0 million that can be earned in the period from August 1, 2005 through July 31, 2006. We will record any such contingent consideration as compensation expense in the period it becomes issued or issuable. We have included the results of X/Net in our results of operations from the date of the acquisition. For accounting purposes, we treated the acquisition as if it had occurred on August 1, 2004. Accordingly, our consolidated results of operations for the year ended December 31, 2004 include five months of operating results for X/Net.

On May 16, 2004, we purchased a business unit from vMoksha Technologies, Private Limited, an Indian-based provider of software development, programming, infrastructure development and related services. This business unit consisted of a development center in Pune, India that had been previously provided software development, programming and other related services to S1. We believe this acquisition will reduce our costs and allow us to have greater control over the quality of the development efforts undertaken. We paid cash consideration of approximately $1.2 million for the business unit. We have included the results of the business in our consolidated results of operations from the date of acquisition. In connection with this acquisition, we acquired approximately 240 employees. For accounting purposes, we treated the acquisition as if it had occurred on May 16, 2004. Accordingly, our consolidated results of operations for the year ended December 31, 2004 include approximately seven and a half months of operating results for the business unit.

On February 14, 2002, we completed the acquisition of Regency Systems, Inc., a Dallas, Texas based provider of telephone and Internet banking applications and web design services for community and mid-market banks. The Regency acquisition enhanced our product offerings with a telephone banking solution for community and mid-market banks and added over 1,000 customers. For accounting purposes, we treated the acquisition as if it had occurred on February 1, 2002.

Accordingly, our consolidated results of operations for the year ended December 31, 2002 include eleven months of operating results for Regency.

On March 27, 2002, we acquired the assets and subsidiaries of Point Holdings, Ltd., a Dublin, Ireland based CRM provider. The acquisition of Point strengthened our product offering, extended our insurance customer base and expanded our presence in Europe. For accounting purposes, we treated the acquisition as if it had occurred on March 31, 2002. Accordingly, our consolidated results of operations for the year ended December 31, 2002 include nine months of operating results for Point.

Under the terms of the acquisition agreements for Regency and Point, we issued common stock and paid cash to the sellers and paid direct acquisition costs, including principally advisory, legal and accounting fees. The values of the common shares issued were determined based on the average market price of our common shares over the two-day trading period before and the two-day trading period after the respective acquisition agreements were signed, less the costs to register the securities. We calculated the purchase price for Regency and Point as follows (in thousands, except share data):


	Regency		Point
Acquisition date	February 14, 2002		March 27, 2002

Common shares issued		400,561		1,073,986

Value of common shares issued	$	6,051	$	16,716
Cash consideration		6,478		500
Direct acquisition costs		70		634

Total purchase price	$	12,599	$	17,850

The entire Regency, Mosaic, X/Net and vMoksha businesses and the operations of the Point business that are focused on financial institutions are included in financial institutions segment. The remaining Point operations (those that are not focused on financial institutions) are included in the Edify segment. We allocated the goodwill and customer relationship assets associated with the Point acquisition between the financial institutions and Edify segments based on the completion of an independent appraisal. The amounts of the Regency and Point purchase prices allocated to in-process research and development were expensed upon acquisition because technological feasibility had not been established and no future alternative uses existed. The projects under development at the time of the acquisitions were completed during the estimated time lines and within anticipated costs.

We accounted for these acquisitions using the purchase accounting method of accounting as prescribed by SFAS No. 141, “Business Combinations”. We assigned the total purchase price to the net assets and liabilities of the businesses with the remaining amount assigned to goodwill. The value assigned to the identifiable intangible assets was based on an analysis performed as of the date of the acquisition. The following table summarizes the estimated fair values of the assets acquired and liabilities assumed at the acquisition date (in thousands):


	Mosaic			X/Net			vMoksha			Point			Regency
Current assets	$	10,553		$	18		$	87		$	6,664		$	1,027
Property and equipment		594			—			433			552			250
Other non-current assets		300			—			—			—			31
Developed technology ⁽¹⁾		6,100			600			—			2,200			2,600
In-process research and development ⁽²⁾		—			—			—			150			200
Customer relationship assets ⁽³⁾		4,900			200			—			1,500			3,900
Goodwill		20,136			4,008			888			12,754			8,623
Current liabilities		(4,537	)		(743	)		(210	)		(5,970	)		(3,989	)
Non-current liabilities		(61	)		—			—			—			(43	)

Total purchase price	$	37,985		$	4,083		$	1,198		$	17,850		$	12,599

(1)		Developed technology for Mosaic, X/Net, Point and Regency has an estimated useful life of five years.

(2)		We expensed in-process research and development immediately upon closing the acquisitions.

(3)		Customer relationship asset for Mosaic and Regency has a useful life of ten years and for X/Net and Point, it has an estimated useful life of five years.

We did not present proforma results of operations for these acquisitions because their effect was not significant, individually or in the aggregate.

4. Discontinued Operations

On November 1, 2004, we completed the sale of our wholly-owned subsidiary, Davidge Data Systems, a component of our financial institutions segment. We have accounted for the disposal of Davidge as discontinued operations in accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” As such, Davidge results for current and prior year periods are presented in the discontinued operations section of the consolidated statement of operations.

Under the terms of the agreement, we received approximately $12.9 million in cash. We recorded a gain of $8.6 million, net of tax in 2004. We recorded expenses of approximately $1.4 million in connection with the sale including legal fees and employee severance payments. Our consolidated balance sheet for December 31, 2004 includes approximately $0.3 million of net current liabilities relating to the sale of the Davidge business.

Revenues and loss from discontinued operations are as follows (in thousands):


	Year Ended December 31,
	2002			2003			2004⁽¹⁾
Revenues	$	8,132		$	4,963		$	5,650

Loss from discontinued operations	$	(1,619	)	$	(8,076	)	$	(1,148	)
Gain on disposal of discontinued operations		—			—			9,254
Income tax expense		—			—			(695	)

(Loss) income from discontinued operations	$	(1,619	)	$	(8,076	)	$	7,411

(1)

Ten months ended October 31, 2004 prior to sale

Assets and liabilities of the discontinued operations as of October 31, 2004 were as follows (in thousands):


Current assets	$	1,794
Property and equipment		280
Goodwill		346
Current liabilities		(196	)

Net assets of discontinued operations	$	2,224

5. Investments

We had short-term investments at December 31, 2003 and 2004 of $87.5 million and $65.2 million, respectively. The fair value of our short-term investments was not significantly different from their carrying values at December 31, 2003 and 2004. At December 31, 2002, we had investments with a remaining maturity that exceeded one year (included in other assets) of $3.7 million. Certain of our investments are made with financial institutions that are also our customers. These investments, consisting of approximately $5.1 million at December 31, 2003 are made at market rates in arms-length transactions.

6. Accounts Receivable

Accounts receivable include unbilled receivables of approximately $13.3 million at December 31, 2003 and $20.5 million at December 31, 2004. Unbilled receivables generally represent revenue recognized on contracts for which billings have not been presented to the customers under the terms of the contracts at the balance sheet dates.

7. Property and Equipment

Property and equipment consist of the following:


	December 31,
	2003			2004
	(in thousands)
Leasehold improvements	$	11,623		$	9,986
Furniture and fixtures		6,542			6,959
Computer equipment		22,411			22,536
Software		8,663			10,641

		49,239			50,122
Accumulated depreciation		(33,578	)		(34,972	)

	$	15,661		$	15,150

8. Goodwill and Other Intangible Assets

At December 31, 2004, our other intangible assets consisted of the following:


	Gross		Accumulated
	Carrying Value		Amortization
	(in thousands)
Purchased and acquired technology	$	19,489	$	(6,310	)
Customer relationships		12,600		(3,013	)

Total	$	32,089	$	(9,323	)

We recorded amortization expense of $17.5 million, $5.7 million and $3.5 million during the years ended December 31, 2002, 2003 and 2004, respectively. Amortization of acquired technology excluded from cost of license was $10.1 million, $3.7 million and $2.5 million for the years ended December 31, 2002, 2003 and 2004, respectively. We estimate aggregate amortization expense for the next five calendar years to be as follows (in thousands):


	2005		2006		2007		2008		2009
Financial institutions business segment	$	4,931	$	4,931	$	3,990	$	3,165	$	2,200

The changes in the carrying value of our goodwill for the year ended December 31, 2004 are as follows:


	Financial
	Institutions			Edify		Total
	(in thousands)
Balance, January 1, 2004	$	88,576		$	4,886	$	93,462
Acquisitions		25,032			—		25,032
Utilization of acquisition related income tax benefits		(449	)		—		(449	)
Sale of subsidiary		(346	)		—		(346	)

Balance, December 31, 2004	$	112,813		$	4,886	$	117,699

In April 2003, we terminated our efforts to divest the Edify business. We considered our inability to sell the Edify business on terms that were acceptable to us a triggering event under SFAS No. 142 and 144 that required us to perform a current assessment of the carrying value of the Edify business. Based on our current analysis of fair value for the Edify business, including estimates we based on discounted future cash flows, market valuations of comparable businesses and offers from potential buyers, we concluded that the fair value of the Edify business was less than its carrying value. Accordingly, we allocated our estimate of fair value for the unit to the existing assets and liabilities of the Edify business as of March 31, 2003, resulting in a goodwill impairment charge of $11.7 million and accelerated amortization on other intangible assets (developed technology and customer base) and purchased software of $1.2 million and $0.5 million, respectively.

9. Merger Related and Restructuring Costs

Components of merger related and restructuring costs are as follows:


	2002		2003			2004
	(in thousands)
Merger related costs	$	1,683	$	(1,312	)	$	—
Restructuring costs		734		21,170			—

	$	2,417	$	19,858		$	—

During 2002, we incurred merger related costs of $3.7 million in connection with the acquisition of Point. These costs, incurred in connection with our plan to reorganize certain of our European operations, include headcount reduction, consolidation of S1 and acquired Point office facilities and disposal of redundant or obsolete computer equipment. This merger related charge was partially offset by a $1.7 million decrease in reserves for legal claims, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve this legal matter during the first quarter of 2002 for less than previously estimated amounts. Our merger related reserves include provisions for obligations for unused real estate less estimates for sub-lease income. In 2002, we were able to secure a sublease for one of our foreign properties at terms that were $0.3 million more favorable than previously anticipated. Additionally, in the third quarter of 2002, we recorded a charge of $0.7 million for some excess office space in our Edify business.

During the year ended December 31, 2003, we undertook several initiatives to align our worldwide cost structure with our anticipated 2004 revenues. As a result, management approved restructuring plans in the financial institution and Edify segments to reduce the work force, relocate and consolidate certain office facilities and sell certain corporate assets. In addition we consolidated our EMEA data center operations based in the United Kingdom into our global hosting center in Atlanta. In connection with these plans, we recorded restructuring charges of $21.2 million during the year ended December 31, 2003. In total, we eliminated approximately 200 positions worldwide and closed or consolidated office facilities. In the domestic operations of our financial institution segment, we recorded $6.2 million in restructuring charges during 2003, which were primarily comprised of charges for severance costs associated with headcount reductions, lease payments associated with excess office space and other corporate charges.

In the first quarter of 2003, we began the process of reorganizing our international operations. As of December 31, 2003, we believe this reorganization is complete. In 2003, we consolidated our U.K. data center operations into our global hosting center in Atlanta, relocated our remaining U.K. operations to a smaller facility, decreased our workforce both in our European and APJ operations and closed offices in our APJ operations. As a result, in 2003, we recorded restructuring charges of $9.4 million in our European operations and $1.3 million in our APJ operations. These charges were comprised of accelerated depreciation of assets, severance costs, other related costs to relocate the data center operations, losses on the vacated office space and the write off of abandoned leasehold improvements. Under the provisions of SFAS No. 146, we recorded the loss on vacated office space at the present value of the expected cash flows. We will accrete interest expense of approximately $0.9 million over the remaining term of the lease, which is six years.

In the third quarter of 2003, we completed the process of reorganizing our Edify business to align costs with expected revenues. As a result, we hired a new general manager, reduced the workforce and closed and consolidated several Edify office facilities worldwide. These actions resulted in restructuring charges of $4.3 million for the year ended December 31, 2003.

In 2003, we decreased our merger related reserve for legal claims by $0.8 million, which was established in connection with our acquisition of FICS Group, N.V. in November 1999. We were able to resolve two legal matters during 2003 for less than previously estimated. In the second quarter of 2003, we reduced our merger related accrual by $0.5 million when we determined that we had an alternate use for excess office space that was reserved when we completed the acquisition of Point in March 2002.

In 2004, we adjusted our restructuring reserves as we re-occupied certain office space, re-hired certain employees who were previously terminated and adjusted our estimates based on sublease assumptions for certain vacant office space.

The restructuring charges and their utilization as of December 31, 2002, 2003 and 2004 and for the years then ended are summarized as follows (in thousands):


	Personnel Costs			Lease Costs			Other			Total
Balance, December 31, 2001	$	78		$	10,716		$	560		$	11,354


2002 restructuring charge		—			734			—			734
Amounts utilized through December 31, 2002		—			(4,726	)		(252	)		(4,978	)

Balance, December 31, 2002		78			6,724			308			7,110


2003 restructuring charge		6,461			7,492			7,217			21,170
Amounts utilized through December 31, 2003		(5,595	)		(3,904	)		(7,007	)		(16,506	)

Balance, December 31, 2003		944			10,312			518			11,774


Amounts utilized through December 31, 2004		(488	)		(2,989	)		(171	)		(3,648	)
Change in estimate		(456	)		803			(347	)		—

Balance, December 31, 2004	$	—		$	8,126		$	—		$	8,126

The remaining restructuring reserve at December 31, 2004 relates to future rent expense for vacated facilities, net of sublease income, and other costs. We expect to make future cash expenditures, net of anticipated sublease income, related to these restructuring activities of approximately $8.1 million, of which we anticipate to pay approximately $3.3 million within the next twelve months. The leases expire on various terms through 2011.

10. Accrued Other Expenses

Accrued other expenses consists of the following:


	December 31,
	2003		2004
	(in thousands)
Accrued service fees payable	$	1,720	$	3,395
Accrued merger related costs		2,407		2,105
Sales and income taxes payable		1,675		3,281
Accrued contract losses		3,959		666
Accruals for loss contingencies		4,500		—
Other		8,465		7,922

	$	22,726	$	17,369

11. Commitments and Contingencies

Lease commitments

We lease office facilities and computer equipment under non-cancelable operating lease agreements, which expire at various dates through 2023. Total rental expense under these leases was $16.1 million, $12.2 million, and $12.4 million in 2002, 2003 and 2004, respectively.

Future minimum annual payments under non-cancelable operating lease agreements and expected sublease income from non-cancelable sublease agreements are as follows (in thousands):


	Operating Lease		Sublease			Net Lease
	Commitments		Income			Commitments
2005	$	15,324		(2,215	)	$	13,109
2006		11,196		(1,966	)		9,230
2007		8,691		(1,632	)		7,059
2008		7,352		(1,601	)		5,751
2009		6,054		(1,344	)		4,710
Thereafter		12,155		(2,520	)		9,635

	$	60,772	$	(11,278	)	$	49,494

In connection with the lease on our corporate offices, we issued to our landlord a standby letter of credit in the amount of $6 million to guarantee certain obligations under the lease agreement. The amount that we are required to maintain under the standby letter of credit decreases as our future obligations under the lease agreement decline. At December 31, 2004, there were no drawings outstanding under the letter of credit. Additionally, we have issued letters of credit in the aggregate amount of $0.9 million to guarantee certain obligations for other leased facilities.

Property and equipment as of December 31, 2003 includes computer equipment under capital lease with original cost and accumulated depreciation of approximately $5.1 million and $3.8 million, respectively. Property and equipment as of December 31, 2004 includes computer equipment under a capital lease with original cost and accumulated depreciation of approximately $4.5 million and $1.4 million, respectively. Future minimum annual lease payments for the capital lease as of December 31, 2004 are as follows (in thousands):


2005		1,665
2006		1,122
2007		519

	$	3,306
Less amount representing interest		(211	)

		3,095
Less current portion		(1,523	)

Long-term capital lease obligations	$	1,572

Contractual commitments

In the normal course of business, we enter into contracts with vendors. Some of these contracts include provisions for fixed or minimum purchase quantities. At December 31, 2004, our payment obligations under these contracts are $5.8 million for 2005, $1.0 million for 2006 and $0.3 million for 2007.

In the normal course of business, we enter into contracts with customers. These contracts contain commitments including, but not limited to, minimum standards and time frames against which our performance is measured. In the event we do not meet our contractual commitments with our customers, we may incur penalties and/or certain customers may have the right to

terminate their contracts with us. We do not believe that we will fail to meet our contractual commitments to an extent that will result in a material adverse effect on our financial position or results of operations.

Guarantees

We typically grant our customers a warranty that guarantees that our product will substantially conform to our current specifications for 90 days from the delivery date. We also indemnify our customers from third party claims of intellectual property infringement relating to the use of our products. Historically, costs related to these guarantees have not been significant and we are unable to estimate the potential impact of these guarantees on our future results of operations.

Litigation

As previously reported, S1 Corporation is involved in litigation with Tradecard, Inc. relating to a claim of infringement of U.S. Patent 6,151,588 filed in the U.S. District Court for the Southern District of New York. The action was filed in March 2003 against S1 Corporation, Bank of America Corporation and Bank of America National Association. We believe that the plaintiff’s claims are not meritorious and intend to vigorously defend the suit.

While we do not believe that the above matter or any other pending litigation will be material to our financial position or result of operations, there can be no assurance on the ultimate outcome of this matter. An adverse judgment or settlement could be material to our financial position and results of operations.

12. Income Taxes

(Loss) income from continuing operations before income taxes consists of the following:


	2002			2003			2004
	(in thousands)
U.S. operations	$	(5,388	)	$	3,751		$	20,775
Foreign operations		(12,160	)		(33,564	)		(11,226	)

	$	(17,548	)	$	(29,813	)	$	9,549

Income tax (benefit) expense from continuing operations is summarized as follows:


	2002			2003		2004
				(in thousands)
Current:
Federal	$	—		$	96	$	430
Foreign		252			13		349
State		25			47		162

Total current	$	277		$	156	$	941

Deferred:
Federal	$	—		$	—	$	—
Foreign		(3,047	)		127		449
State		—			—		—

Total deferred	$	(3,047	)	$	127	$	449

Total income tax (benefit) expense	$	(2,770	)	$	283	$	1,390

A reconciliation of the income tax (benefit) expense to the amount computed by applying the statutory federal income tax rate to the income (loss) from continuing operations before income tax benefit is as follows:


	2002			2003			2004
				(in thousands)
Income taxes at federal statutory rate of 35%	$	(6,142	)	$	(10,435	)	$	3,342
State income tax (benefit) expense, net of federal benefit		(767	)		(1,516	)		105
(Decrease) increase in valuation allowance related to current year operations		(2,061	)		4,432			(3,467	)
Foreign operations tax rate differences		—			3,447			407
In-process R&D, goodwill amortization, tax assessments and other permanent items		6,200			4,355			1,003

Income tax (benefit) expense	$	(2,770	)	$	283		$	1,390

The income tax effects of the temporary differences that give rise to our deferred income tax assets and liabilities as of December 31, 2003 and 2004 are as follows:


	2003			2004
	(in thousands)
Deferred income tax assets:
Net operating loss carryforwards	$	166,173		$	159,100
Equity in net loss of affiliate		20,076			20,299
Accrued expenses		10,137			7,258
Deferred revenue		13,389			10,693
Tax credit carryforwards		7,175			6,872
Restructuring		3,744			2,937
Property and equipment depreciation		1,193			5,598

Total gross deferred income tax assets		221,887			212,757
Valuation allowance for deferred income tax assets		(217,889	)		(206,241	)

Total deferred income tax assets		3,998			6,516

Deferred income tax liabilities
Identifiable intangibles		3,998			6,512
Other		—			4

Total gross deferred income tax liabilities		3,998			6,516

Net deferred income taxes	$	—		$	—

We recognize deferred income tax assets and liabilities for differences between the financial statement carrying amounts and the tax bases of assets and liabilities which will result in future deductible or taxable amounts and for net operating loss and tax credit carryforwards. We then establish a valuation allowance to reduce the deferred income tax assets to the level at which we believe it is more likely than not that the tax benefits will be realized. Realization of the tax benefits associated with deductible temporary differences and operating loss and tax credit carryforwards depends on having sufficient taxable income within the carryback and carryforward periods. Sources of taxable income that may allow for the realization of tax benefits include (1) future taxable income that will result from the reversal of existing taxable temporary differences and (2) future taxable income generated by future operations. Because of the uncertainties with respect to our ability to achieve and sustain profitable operations in the future, we have recorded a valuation allowance to offset substantially all of our net deferred income tax assets.

At December 31, 2004, we had domestic and foreign net operating loss carryforwards and tax credit carryforwards of approximately $331.5 million, $106.1 million and $7.5 million, respectively. The domestic net operating loss carryforwards expire at various dates through 2024 unless utilized. The foreign net operating loss carryforwards generally do not expire and the tax credit carryforwards expire at various dates through 2021. Our domestic net operating loss carryforwards at December 31, 2004 include $208.5 million in income tax deductions related to stock options which will be tax effected and the benefit will be reflected as a credit to additional paid-in capital when realized. The acquisitions described in Note 3 created ownership changes for federal income tax purposes. The result of an ownership change is to limit a company’s ability to utilize its net operating loss and credit carryforwards based on the valuation of the company. Due to the value of the

companies at the time of their respective ownership changes, the limitation of net operating loss and credit carryforwards is not expected to be meaningful.

During 1999, we acquired FICS, which resulted in establishing non-goodwill intangible assets of $48.0 million. These identifiable intangibles created a $19.2 million deferred tax liability. We acquired net operating loss carryforwards in the FICS transaction of approximately $45.3 million. We established a valuation allowance relating to the FICS carryforwards that resulted in the recording of a net deferred tax liability of $15.3 million as a result of the acquisition. Amortization of the FICS non-goodwill intangible assets resulted in a deferred tax benefit of $3.7 million in 2002. As the benefit from the FICS net operating loss carryforwards was realized, we reduced goodwill recorded in connection with the FICS transaction and increased deferred tax expense. During 2004 and 2003, we reduced goodwill $0.4 million and $0.1 million, respectively, in connection with the realization of these tax benefits.

As indicated in Note 4, the sale of VerticalOne to Yodlee in January 2001 was a stock-for-stock transaction that was treated as a tax-free reorganization. The difference between the tax basis in S1’s investment in Yodlee and the net book value in S1’s share of Yodlee’s assets is treated as a temporary difference and is reported as a deferred tax asset in the table above offset by a full valuation allowance.

13. Convertible Preferred Stock

S1 has authorized 25,000,000 shares of $0.01 par value preferred stock, of which 1,637,832 shares have been designated as series A convertible preferred stock, 749,064 shares have been designated as series B convertible preferred stock, 215,000 shares have been designated as series C convertible preferred stock, 244,000 have been designated as series D convertible preferred stock and 649,150 have been designated as series E convertible preferred stock. At December 31, 2004, there were 749,064 shares of series B convertible preferred stock outstanding. As of December 31, 2004, series A, series C, series D and series E shares have been converted to common stock or cancelled.

Series B preferred stock are non-cumulative and the terms of all series of preferred stock provide the holders with identical rights to common stockholders with respect to dividends and distributions in the event of liquidation, dissolution, or winding up of S1. Except as described below, series B are nonvoting shares. Series B holders are entitled to vote as a single class on the following matters:

• any amendment to any charter provision that would change the specific terms of that series which would adversely affect the rights of the holders of that series, and

• the merger or consolidation of S1 with another corporation or the sale, lease, or conveyance (other than by mortgage or pledge) of the properties or business of S1 in exchange for securities of another corporation if series B is to be exchanged for securities of such other corporation and if the terms of such securities are less favorable in any respect.

Action requiring the separate approval of the series B stockholders requires the approval of two-thirds of the shares of series B then outstanding voting as a separate class. In addition, holders of the series B are entitled to vote with the holders of common stock as if a single class, on any voluntary dissolution or liquidation of S1. Holders of series B also are entitled to vote with the holders of the common stock on any merger, acquisition, consolidation or other business combination involving S1 and the sale, lease or conveyance other than by mortgage or pledge of all or substantially all of our assets or properties. When the series B is entitled to vote with the common stock, the holders of series B are entitled to the number of votes equal to the number of shares of common stock into which the series B could be converted. The 749,064 shares of series B preferred are convertible at the option of the holder after October 1, 2000 into 1,070,090 shares of common stock based on a conversion price of $9.345. The number of shares of common stock into which the series B are convertible is subject to adjustment.

14. Equity Transactions

On December 23, 1999, we granted a fully-vested, immediately exercisable warrant to purchase 84,994 shares of S1 common stock at $80.00 per share in connection with a pilot project and distribution agreement between a third party and a

subsidiary of S1. The fair value of the warrant was expensed over the term of the agreement that was approximately 60 days. We recorded expense of $715,000 in 1999 and $4.6 million 2000. The warrant expired on December 23, 2004.

On April 30, 2002, our series D convertible preferred stock automatically converted into S1 common stock at a rate of 29.283 common shares for each preferred share. Accordingly, we issued 6,954,712 shares of S1 common stock in exchange for 237,500 shares of series D convertible preferred stock.

On September 20, 2001, we issued 649,150 shares of newly authorized Series E convertible preferred stock in connection with the acquisition of SDI as described in Note 3. The value of the preferred shares of $6.2 million was determined based on the value of the as-converted common stock, less the estimated amount of contingent consideration of $2.1 million. Of the total series E preferred shares issued, we placed in escrow for the selling shareholders 318,098 shares of series E preferred stock in connection with a general indemnity provision and the collection of specific funds under a pending sale of software licenses. In May 2002, we amended the purchase agreement with SDI to eliminate the contingent consideration. We assigned an additional $2.1 million of value to the series E preferred shares. The escrow period expired on March 20, 2003 and the series E preferred shares were released from escrow.

On September 20, 2003, our series E convertible preferred stock automatically converted into S1 common stock at a rate of one common share for each preferred share. Accordingly, we issued 649,150 shares of S1 common stock in exchange for 649,150 shares of series E preferred stock.

In July 2002, our board of directors approved a $10.0 million stock repurchase program to enhance long-term shareholder value. This program was funded from available cash and short-term investments. As of December 31, 2002, we had repurchased 1,906,300 shares of our common stock at a cost of $9.3 million under this program. The stock repurchase program was completed in January 2003. We repurchased a total of 2,051,862 shares of our common stock at an average price of $4.87 per share.

In October 2003, our board of directors approved a $15.0 million stock repurchase program to offset dilution of our common stock from shares granted under our employee stock option plans. This program was funded from available cash and short-term investments. As of December 31, 2004, we had repurchased 1,492,000 shares of our common stock at a cost of $11.6 million under this program. As of December 31, 2004, we are authorized to purchase an additional $3.4 million of our common stock at market prices.

15. Stock Option and Purchase Plans

We maintain certain stock option plans providing for the grant of stock options to officers, directors and employees. The plans provide for 17,561,921 shares of S1 common stock to be reserved for issuance under the plans. Substantially all stock options granted under the plans have ten-year terms and generally vest and become exercisable ratably over four years from the date of grant. At December 31, 2004, 3,018,242 shares were available for future grants under the plans.

During 1999, we granted approximately 1,450,000 stock options that will fully vest at the end of five years with accelerated vesting based on the achievement of certain performance targets during fiscal years 1999 through 2002. Two performance goals were in place for each of these years. For each performance target achieved, 12.5% of the options vested in the year following the achievement of the target. Vesting related to performance targets not met may be earned in subsequent years. As of December 31, 2004, three performance goals had been met resulting in the vesting of 37.5% of the shares. The remaining 62.5% of the shares vested on January 1, 2005 in accordance with the stock option agreements.

A summary of our stock options as of December 31, 2002, 2003 and 2004, and changes during the years ended on those dates is presented below:


	2002					2003					2004
				Weighted-					Weighted-					Weighted-
				average					average					average
	Shares			Exercise		Shares			Exercise		Shares			Exercise
	(000)			Price		(000)			Price		(000)			Price
Outstanding at beginning of year		16,864		$	14.74		18,390		$	13.97		15,067		$	12.00
Granted		6,707			13.99		2,598			3.80		2,520			8.10
Exercised		(1,095	)		3.40		(1,322	)		2.43		(922	)		6.51
Forfeited/canceled		(4,086	)		19.99		(4,599	)		18.02		(2,121	)		16.27

Outstanding at end of year		18,390		$	13.97		15,067		$	12.00		14,544		$	11.05

Exercisable at end of year		7,138		$	15.06		7,751		$	15.37		8,200		$	12.96

The following table summarizes information about stock options outstanding at December 31, 2004:


	Options Outstanding
			Weighted-				Options Exercisable
			average		Weighted-				Weighted-
	Number		Remaining		average		Number		average
	Outstanding		Contractual		Exercise		Exercisable		Exercise
Range of Exercise Price	(000)		Life		Price		(000)		Price
$ 0.63 – 3.50		80		2.6	$	2.52		79	$	2.50
3.51 – 4.00		2,109		8.4		3.61		580		3.60
4.01 – 5.50		836		6.7		4.84		518		4.88
5.51 – 7.00		2,282		6.3		6.57		1,878		6.55
7.01 – 8.50		3,883		7.5		8.06		1,533		8.12
8.51 – 10.00		642		7.3		9.12		349		9.10
10.01 – 15.00		884		6.2		12.70		628		12.44
15.01 – 20.00		2,977		5.6		16.79		1,784		16.93
20.01 – 97.44		851		3.2		41.75		851		41.75

0.63 – 97.44		14,544		6.6	$	11.05		8,200	$	12.96

For stock options granted where the exercise price equaled the market price of the stock on the date of grant, the per share weighted-average exercise price was $13.99, $3.80 and $8.10 and the per share weighed-average fair value was $11.59, $2.95 and $5.86 for stock options granted during 2002, 2003 and 2004, respectively.

Under our employee stock purchase plan, each employee of S1 or a participating subsidiary that is employed at least twenty hours per week over a five-month period, was eligible to purchase S1 common stock at a discounted price. The purchase price is equal to 85% of the fair market value of the common stock on either the first or last day of the subscription period, whichever is lower. Purchases under this plan are limited to 10% of an employee’s compensation or $500 per purchase period; whichever is lower. Under this plan, we issued 270,334 shares at an average price of $6.09 per share during 2002. At December 31, 2004, 2,121,349 common shares were reserved for future issuance under this plan. Effective January 1, 2003, we suspended the ESPP.

Options granted in connection with acquisitions

In connection with our acquisitions during 2002, we issued approximately:

• 100,000 new options to employees of Regency, and

• 300,000 new options to employees of Point.

Stock option exchange program

On June 8, 2001, we offered eligible employees the opportunity to exchange outstanding stock options to purchase shares of our common stock that have an exercise price of $18.00 per share or more for new options under the S1 Corporation 1997 Employee Stock Option Plan. Through July 6, 2001, the expiration date of the exchange offer, we accepted for exchange and canceled 2,937,162 stock options from eligible employees. Eligible employees who were not senior managers received new options equal to the number of options exchanged. Senior managers received new options equal to the number of options exchanged multiplied by 0.75. To receive the new options, eligible employees who participated in this voluntary exchange program had to remain continuously employed by S1 or one of our consolidated subsidiaries from the date the options were tendered for exchange through the date we granted the new options. On January 8, 2002, which was the first business day that was at least six months and one day following the date we canceled the options accepted for exchange, we granted 2,410,613 new options to eligible employees at the fair market value at the date of grant. We did not record a charge for stock compensation expense as a result of this stock option exchange program. As of December 31, 2004, we are not considering any additional stock option exchange programs.

16. Retirement Savings Plan

We provide a 401(k) retirement savings plan for substantially all of our full-time employees in the United States. Each participant in the 401(k) plan may elect to contribute from 1% to 15% of his or her annual compensation to the plan. S1, at management’s discretion, may make matching contributions to the plan. Our matching contributions to the plan charged to expense for 2002 and 2003 were approximately $2.6 million and $1.1 million, respectively. We did not have any matching contributions during 2004.

17. Segment Reporting, Geographic Disclosures and Major Customers

We operate and manage S1 in two business segments: financial institutions, our core business segment, and the Edify business. The financial institutions segment develops, markets and implements integrated, transactional and brandable enterprise applications for small, mid-sized and large financial institutions worldwide, available as in-house or hosted solutions. The Edify business segment provides a variety of voice and speech recognition applications that help organizations globally in a wide range industries (including principally retail, telecommunications and travel) increase customer retention through automation and improved operational effectiveness.

We evaluate the performance of our operating segments based on their contribution before interest, other income and income taxes, as reflected in the tables presented below for the years ended December 31, 2002, 2003 and 2004. We do not use any asset-based metrics to measure the operating performance of our segments.

We have entered into reseller arrangements between our operating segments to sell the Edify IVR product to financial institutions and the S1 CRM application to non-financial institutions. Under these arrangements, intercompany revenues and intercompany expenses are recorded in each operating segment. These revenues and expenses are eliminated in consolidation. The table below represents intercompany revenues recorded in each business segment.


	2002		2003		2004
Financial institutions	$	—	$	1,519	$	164
Edify		3,136		1,843		1,994

The following table shows revenues from continuing operations by revenue type for our operating segments:


	Software			Support and			Professional
	Licenses			Maintenance			Services			Data Center		Other		Total
	(in thousands)
Year Ended December 31, 2002:
Financial institutions	$	66,855		$	40,873		$	93,588		$	37,230	$	1,274	$	239,820
Edify		21,910			17,303			8,140			—		—		47,353
Eliminations		(62	)		(1,250	)		(1,824	)		—		—		(3,136	)

Total	$	88,703		$	56,926		$	99,904		$	37,230	$	1,274	$	284,037


Year Ended December 31, 2003:
Financial institutions	$	54,893		$	43,697		$	77,165		$	42,288	$	2,910	$	220,953
Edify		7,745			16,403			5,872			—		7		30,027
Eliminations		(988	)		(2,179	)		(195	)		—		—		(3,362	)

Total	$	61,650		$	57,921		$	82,842		$	42,288	$	2,917	$	247,618


Year Ended December 31, 2004:
Financial institutions	$	37,151		$	45,880		$	83,677		$	37,354	$	2,291	$	206,353
Edify		13,191			18,533			5,124			—		—		36,848
Eliminations		(649	)		(1,440	)		(69	)		—		—		(2,158	)

Total	$	49,693		$	62,973		$	88,732		$	37,354	$	2,291	$	241,043

The following table shows results from continuing operations for our operating segments:


	Year Ended December 31, 2002
	Financial
	Institutions			Edify			Eliminations			Total
				(in thousands)
Revenues	$	239,820		$	47,353		$	(3,136	)	$	284,037
Operating expenses:
Direct costs		97,288			20,773			(3,136	)		114,925
Selling and marketing		38,926			18,575			—			57,501
Product development		42,784			8,151			—			50,935
General and administrative		31,381			5,670			—			37,051
Depreciation		21,194			1,231			—			22,425
Merger related and restructuring costs		1,683			734			—			2,417
Acquired in-process research and development		350			—			—			350
Amortization of acquisition intangible assets		15,943			1,517			—			17,460

Total operating expenses		249,549			56,651			(3,136	)		303,064

Segment operating loss	$	(9,729	)	$	(9,298	)	$	—		$	(19,027	)


	Year Ended December 31, 2003
	Financial
	Institutions			Edify			Eliminations			Total
				(in thousands)
Revenues	$	220,953		$	30,027		$	(3,362	)	$	247,618
Operating expenses:
Direct costs		95,115			17,218			(3,362	)		108,971
Selling and marketing		27,366			11,392			—			38,758
Product development		39,275			5,873			—			45,148
General and administrative		26,506			4,365			—			30,871
Depreciation		15,863			654			—			16,517
Merger related costs and restructuring charges		15,599			4,259			—			19,858
Amortization and impairment of acquisition intangible assets		3,730			13,662			—			17,392

Total operating expenses		223,454			57,423			(3,362	)		277,515

Segment operating loss	$	(2,501	)	$	(27,396	)	$	—		$	(29,897	)


	Year Ended December 31, 2004
	Financial
	Institutions		Edify		Eliminations			Total
			(in thousands)
Revenues	$	206,353	$	36,848	$	(2,158	)	$	241,043
Operating expenses:
Direct costs		86,521		13,735		(2,158	)		98,098
Selling and marketing		25,921		11,129		—			37,050
Product development		43,695		6,011		—			49,706
General and administrative		26,950		4,443		—			31,393
Depreciation		9,350		876		—			10,226
Merger related costs and restructuring charges		—		—		—			—
Amortization and impairment of acquisition intangible assets		3,408		75		—			3,483

Total operating expenses		195,845		36,269		(2,158	)		229,956

Segment operating income		10,508		579	$	—			11,087

Revenues from international customers were $80.2 million, $73.0 million and $48.6 million for the years ended December 31, 2002, 2003 and 2004, respectively.

At December 31, 2003 and 2004, approximately $1.3 million and $2.2 million, respectively, of total property and equipment is located outside of the United States.

For the years ended December 31, 2003 and 2002, we had two major customers in the financial institutions segment (defined as those customers who individually contribute more than 10% of total revenues). We derived 27%, 21%, and 23% of our financial institutions segment revenues from State Farm Mutual Automobile Insurance Company during the years ended December 31, 2002, 2003 and 2004, respectively.

The other major customer, Zurich Insurance Company and certain of its affiliates or subsidiaries, accounted for 18% and 20% of our revenues from the financial institutions segment during the years ended December 31, 2002 and 2003, respectively.

In March 2003, we amended the terms of our data center arrangement with Zurich to shorten the term over which revenue will be recognized and payments received. Revenue from the data center contract, which would have been recognized ratably throughout 2003 and 2004, was recognized in the first six months of 2003. Associated direct costs were accelerated over the same period.

During the six months ended June 30, 2003, we reported data center revenue of $8.6 million for data center services provided to Zurich. There is no remaining data center revenue to record from Zurich after the quarter ended June 30, 2003. Total costs associated with Zurich were approximately $2.6 million, including cost of goods sold and depreciation and does not include any allocation of management or administration expenses during the six months ended June 30, 2003.

The subscription license and professional services components of our arrangement with Zurich were not affected by the data center contract amendment. We recognized $32.7 million of subscription license revenue in the year ended December 31, 2003, at which time the subscription license terminated with no further expected revenue. There were no direct costs associated with this subscription license.

18. Related Party Transactions

Yodlee, Inc.

As a result of our sale of VerticalOne to Yodlee in January 2001, we own approximately 27% of Yodlee at December 31, 2004. In 2004, we invested an additional $1.5 million in Yodlee. The chairman of our board of directors is also a director of Yodlee. In connection with the sale, we entered into the following agreements with Yodlee:

•   a sales representation (and OEM) agreement;

•   a data center agreement; and

•   a facilities sublease, which expired in 2001.

Under the terms of the OEM agreement, we are a non-exclusive reseller of Yodlee’s aggregation service. In connection with this arrangement, we made a nonrefundable prepayment of $10.0 million to Yodlee, which we included as part of our loss on the sale of VerticalOne. Subject to certain conditions, (i) we may sell Yodlee’s aggregation service directly to certain of our customers and retain 100% of the fees or (ii) we may assist Yodlee with the sale of its aggregation service to one of its customers in return for 50% of their fees. The OEM agreement expires in July 2005. During 2002, 2003 and 2004, we received $0.1 million, $0.1 million and $0.1 million from Yodlee under this agreement, respectively.

Under the data center agreement, we agreed to provide Yodlee with certain data center services for a fee. During 2002, 2003 and 2004, we provided data center services in the amount of $0.3 million, $0.5 million and $0.4 million, respectively. The original term of the data center agreement ended in January 2003, but is renewed annually in January. At December 31, 2003 and 2004, we had receivables from Yodlee of approximately $0.1 million and $0.1 million, respectively, for services performed under this agreement.

19. Net Income (Loss) Per Share

In the second quarter of 2004, we adopted EITF 03-06 and began calculating earnings per share using the two-class method during periods which we recorded net income. For periods which we record a net loss, we calculate net loss per share as the net loss during the period divided by the weighted average number of common shares outstanding during the period as the effect of adopting EITF 03-06 would be anti-dilutive.

Diluted earnings per share is calculated to reflect the potential dilution that would occur if stock options or other contracts to issue common stock were exercised and resulted in additional common stock that would share in the earnings of the Company. Because of our net losses in 2002 and 2003, the issuance of additional shares of common stock through the exercise of stock options or upon the conversion of preferred stock were excluded as they would have an anti-dilutive effect on our net loss per share for that period.

20. Quarterly Financial Information (Unaudited)

The following table shows selected unaudited consolidated quarterly statement of operations data for the years ended December 31, 2003 and 2004. In our opinion, this unaudited information has been prepared on substantially the same basis as the consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K and includes all adjustments (consisting of normal recurring adjustments) necessary to present fairly the unaudited consolidated quarterly data. The unaudited consolidated quarterly data should be read together with the audited consolidated financial statements and notes thereto appearing elsewhere in this Annual Report on Form 10-K. The results for any quarter are not necessarily indicative of results for any future period.


	Three Months Ended
	Mar. 31,			June 30,			Sept. 30,			Dec. 31,			Mar. 31,			June 30,			Sept. 30,			Dec. 31,
	2003(2)			2003(3)			2003(3)			2003(4)			2004			2004			2004			2004
	(in thousands, except per share data)
Revenues	$	63,692		$	66,143		$	57,360		$	60,423		$	56,114		$	59,392		$	60,310		$	65,227
Gross margin (1)		32,303			37,155			32,660			36,529			32,574			34,549			36,108			39,714
Operating (loss) income		(28,756	)		(5,438	)		(2,303	)		6,600			1,484			1,571			3,802			4,230
(Loss) income from continuing operations		(28,629	)		(5,929	)		(2,143	)		6,605			1,071			817			3,347			2,924
Discontinued operations:
Loss from operations of discontinued Operations, net of tax		(660	)		(474	)		(2,217	)		(4,725	)		(627	)		(197	)		(128	)		(196	)
Gain on sale of discontinued operations, net of tax		—			—			—			—			—			—			—			8,559

Net (loss) income		(29,289	)		(6,403	)		(4,360	)		1,880			444			620			3,219			11,287

(Loss) earnings per share:
Basic:
Continuing operations	$	(0.41	)	$	(0.08	)	$	(0.03	)	$	0.09		$	0.02		$	0.01		$	0.05		$	0.04
Discontinued operations		(0.01	)		(0.01	)		(0.03	)		(0.06	)		(0.01	)		0.00			0.00			0.12

Net (loss) income per common share – basic	$	(0.42	)	$	(0.09	)	$	(0.06	)	$	0.03		$	0.01		$	0.01		$	0.05		$	0.16


Diluted:
Continuing operations	$	(0.41	)	$	(0.08	)	$	(0.03	)	$	0.09		$	0.01		$	0.01		$	0.05		$	0.04
Discontinued operations		(0.01	)		(0.01	)		(0.03	)		(0.06	)		0.00			0.00			0.00			0.11

Net income per common share - diluted	$	(0.42	)	$	(0.09	)	$	(0.06	)	$	0.03		$	0.01		$	0.01		$	0.05		$	0.15

(1)		Gross margin is derived from our statements of operations as total revenues less cost of software licenses, cost of professional services, support and maintenance, cost of data center and cost of other revenue. Cost of revenues exclude charges for depreciation of property and equipment and amortization of purchased technology.

(2)		Our operating loss, net loss and net loss per common share for the quarter ended March 31, 2003 reflect an impairment charge of $11.7 million and a restructuring charge of $8.1 million.

(3)		Our operating loss, net loss and net loss per common share for the quarters ended June 30, 2003 and September 30, 2003, reflect restructuring charges of $8.4 million and $4.1 million, respectively.

(4)		Our operating loss, net loss and net loss per common share for the quarter ended December 31, 2003 include a $4.5 million charge for loss contingencies.

Schedule II

VALUATION AND QUALIFYING ACCOUNTS

FOR THE YEARS ENDED DECEMBER 31, 2002, 2003 AND 2004


	Balance		Additions
	at		Charged to				Charged to						Balance at
	beginning		costs and				other						end of
	of period		expenses				accounts			Deductions			period
Description						(in thousands)
Year ended December 31, 2002:
Allowance for doubtful accounts	$	8,083		7,756				505	(2)		8,743	(1)	$	7,601
Valuation allowance for deferred taxes	$	200,618		(1,495	)			10,407	(3)		—		$	209,530

Year ended December 31, 2003
Allowance for doubtful accounts	$	7,601		6,063				—			8,558	(1)	$	5,106
Valuation allowance for deferred taxes	$	209,530		7,258				1,101	(3)		—		$	217,889

Year ended December 31, 2004:
Allowance for doubtful accounts	$	5,106		421				775	(2)		1,597	(1)	$	4,705
Valuation allowance for deferred taxes	$	217,889		(3,467	)			(8,181	) (3)		—		$	206,241

(1)		Accounts deemed to be uncollectible and written off during the year.

(2)		Allowances related to companies acquired.

(3)		Allowances related to companies acquired, stock option expense and change in estimation.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.

Not Applicable.

Item 9A. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures. As of December 31, 2004, we carried out an evaluation, under the supervision and with the participation of management, including the chief executive officer and the chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(b). Based upon that evaluation, the chief executive officer and the chief financial officer concluded that our disclosure controls and procedures were effective.

There have not been any changes in the Company’s internal control over financial reporting during the quarter ended December 31, 2004, which have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Management’s Report on Internal Control Over Financial Reporting. Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. The Company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

Management assessed the effectiveness of the company’s internal control over financial reporting as of December 31, 2004. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control—Integrated Framework. Based on this assessment, the company’s management concluded that, as of December 31, 2004, the Company’s internal control over financial reporting was effective based on those criteria.

Our management’s assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2004 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which appears herein.

Management excluded X/Net Associates, Inc. and Mosaic Software Holdings and its subsidiaries from its assessment of internal control over financial reporting as of December 31, 2004 because they were acquired by the Company in purchase business combinations during 2004. X/Net Associates, Inc. and Mosaic Software Holdings and its subsidiaries are wholly-owned subsidiaries whose total assets represent 1.39% and 12.74%, respectively, and whose total revenues represent 0.15% and 1.58%, respectively, of the related consolidated financial statement amounts as of and for the year ended December 31, 2004.

Item 9B. Other Information.

None

PART III

Item 10. Directors and Executive Officers of the Registrant.

Information regarding the directors and executive officers of S1 is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement is incorporated in this report by reference.

Information concerning the independence of our Audit Committee and audit committee financial expert disclosure is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement is incorporated in this report by reference.

Item 11. Executive Compensation.

Information regarding compensation of executive officers and directors is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement (excluding the Compensation Committee Report on Executive Compensation and the Performance of our Common Stock information) is incorporated in this report by reference.

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.

Information required by this Item is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement is incorporated in this report by reference.

The following table provides information with respect to compensation plans under which equity securities of S1 Corporation are authorized for issuance to employees, non-employee directors and others as of December 31, 2004:

Number of securities to be

Weighted-average

Number of securities remaining available

issued upon exercise of

exercise price of

for future issuance under equity

outstanding options, warrants

outstanding options,

compensation plans (excluding securities

and rights

warrants and rights

reflected in column (a))

Plan Category

(a)

(b)

(c)

Equity compensation plans approved by shareholders

4,505,615

6.09

3,018,242

Equity compensation plans not approved by shareholders

10,038,064

13.28

—

Total

14,543,679

11.05

3,018,242

Item 13. Certain Relationships and Related Transactions.

Information regarding certain relationships and related transactions is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement is incorporated in this report by reference.

Item 14. Principal Accountant Fees and Services.

Information regarding principal accountant fees and services is omitted from this report because we will file our definitive proxy statement within 120 days after the end of the fiscal year covered by this report, and the information included in our definitive proxy statement is incorporated in this report by reference.

PART IV

Item 15. Exhibits and Financial Statement Schedules.

(a)(1) The consolidated financial statements filed as a part of this report and incorporated in this report by reference are listed and indexed under Item 8 Financial Statements and Supplementary Data.

(2) The financial statement schedules filed as part of this report and incorporated in this report by reference are listed and indexed under Item 8 Financial Statements and Supplementary Data.

(3) The exhibits listed are filed as part of this report and incorporated in this report by reference:


Exhibit
No.		Exhibit Description
3.1		Amended and Restated Certificate of Incorporation of S1 Corporation (“S1”) (filed as Exhibit 1 to S1’s Registration Statement on Form 8-A filed with the Securities and Exchange Commission (the “SEC”) on September 30, 1998 and incorporated herein by reference).

3.2		Certificate of Amendment of Amended and Restated Certificate of Incorporation of S1 dated June 3, 1999 (filed as Exhibit 4.2 to S1’s Registration Statement on Form S-8 (File No. 333-82369) filed with the SEC on July 7, 1999 and incorporated herein by reference).

3.3		Certificate of Amendment of Amended and Restated Certificate of Incorporation of S1 dated November 10, 1999 (filed as Exhibit 3.3 to S1’s Annual Report on Form 10-K for the fiscal year ended December 31, 1999 and incorporated herein by reference).

3.4		Certificate of Designation for S1’s Series B Redeemable Convertible Preferred Stock (filed as Exhibit 2 to S1’s Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference).

3.5		Certificate of Designations for S1’s Series D Convertible Preferred Stock (filed as Exhibit 3 to S1’s Current Report on Form 8-K filed with the SEC on June 7, 2000 and incorporated herein by reference).

3.6		Certificate of Designations for S1’s Series E Convertible Preferred Stock (filed as Exhibit 3 to S1’s Registration Statement on Form S-8 (File No. 333-72250) filed with the SEC on October 26, 2001 and incorporated herein by reference).

3.7		Amended and Restated Bylaws of S1, as amended (filed as Exhibit 4.7 to S1’s Post-Effective Amendment No. 1 to Form S-8 Registration Statement (File No. 333-82383) filed with the SEC on August 9, 2000 and incorporated herein by reference).

4.1		Specimen certificate for S1’s common stock (filed as Exhibit 4 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2000 and incorporated herein by reference).

4.2		Specimen certificate for S1’s Series B Redeemable Convertible Preferred Stock (filed as Exhibit 4.3 to S1’s Annual Report on Form 10-K for the fiscal year ended December 31, 1998 and incorporated herein by reference).

4.3		Specimen certificate for S1’s Series D Convertible Preferred Stock (filed as Exhibit 4 to S1’s Current Report on Form 8-K filed with the SEC on June 7, 2000 and incorporated herein by reference).

4.4		Specimen certificate for S1’s Series E Convertible Preferred Stock (filed as Exhibit 4.2 to S1’s Registration Statement on Form S-3 (File No. 333-75178) filed with the SEC on December 14, 2001 and incorporated herein by reference).


Exhibit
No.		Exhibit Description
10.1		Stock Purchase Agreement, dated as of June 29, 1998, by and among SFNB, S1 and State Farm Mutual Automobile Insurance Company (filed as Exhibit 10.4 to Pre-Effective Amendment No. 2 to the S1’s Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference).

10.2		Stock Subscription Warrant, dated December 23, 1999, issued by S1 to America Online, Inc. (filed as Exhibit 10.16 to S1’s Annual Report on Form 10-K for the fiscal year ended December 31, 1999 and incorporated herein by reference).

10.3		Alliance Center Office Lease Agreement, entered into as of February 25, 2000, by and between Solano Associates, as Landlord, and Security First Technologies, Inc., as Tenant (filed as Exhibit 10.3 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000 and incorporated herein by reference).

10.4		Security First Technologies Corporation Amended and Restated 1995 Stock Option Plan (filed as Appendix B to S1’s definitive proxy statement for S1’s 1999 annual meeting of shareholders and incorporated herein by reference).*

10.5		Amendment to Security First Technologies Corporation Amended and Restated 1995 Stock Option Plan (filed as Exhibit 10.3 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2000 and incorporated herein by reference).*

10.6		Security First Network Bank Amended and Restated Directors’ Stock Option Plan (filed as Exhibit 10.2 to Pre-Effective Amendment No. 2 to S1’s Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference).*

10.7		Amendment to Security First Network Bank Amended and Restated Directors’ Stock Option Plan (filed as Exhibit 10.1 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000 and incorporated herein by reference).*

10.8		Security First Technologies Corporation 1998 Directors’ Stock Option Plan (filed as Exhibit 10.3 to Pre-Effective Amendment No. 1 to S1’s Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on July 30, 1998 and incorporated herein by reference).*

10.9		Amendment to Security First Technologies Corporation 1998 Directors’ Stock Option Plan (filed as Exhibit 10.2 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000 and incorporated herein by reference).*

10.10		Employment Agreement, entered into as of October 5, 2001, by and between S1 and Matthew Hale (filed as Exhibit 10.36 to S1’s Annual Report on Form 10-K for the fiscal year ended December 31, 2001 and incorporated herein by reference).*

10.11		Employment Agreement, entered into as of April 27, 2001, by and between S1 and Jaime Ellertson (filed as Exhibit 10.1 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2002 and incorporated herein by reference).*

10.12		Employment Agreement, entered into as of April 30, 2001, by and between S1 and James Mahan (filed as Exhibit 10.2 to S1’s Quarterly Report on Form 10-Q for the quarterly period ended March 31, 2002 and incorporated herein by reference).*

10.13		S1 Corporation 2003 Stock Option Plan (filed as Attachment A to S1’s Definitive Proxy Statement on Schedule 14A filed with the SEC on April 18,2003 and incorporated herein by reference).*

10.14		Stock Purchase Agreement By and Among S1 Corporation, Davidge Data Systems Corp. and GL Consultants, Inc. Dated as of October 20, 2004 (filed as Exhibit 99 to S1’s Current Report on Form 8-K filed with the SEC on October 25, 2004 and incorporated herein by reference).

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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, as of March 15, 2005.


		S1 CORPORATION


		By:		/s/ Jaime W. Ellertson

				Jaime W. Ellertson
				Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities indicated as of March 15, 2005.


Name		Title
/s/ Jaime W. Ellertson Jaime W. Ellertson		Chief Executive Officer and Director (Principal Executive Officer)

/s/ Matthew Hale Matthew Hale		Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)

/s/ James S. Mahan, III James S. Mahan, III		Chairman of the Board

/s/ David C. Hodgson David C. Hodgson		Director

/s/ M. Douglas Ivester M. Douglas Ivester		Director

/s/ Gregory J. Owens Gregory J. Owens		Director

Howard J. Runnion, Jr.		Director

/s/ John W. Spiegel John W. Spiegel		Director


	Page
PART I

Item 1. Business		1

Item 2. Properties		17

Item 3. Legal Proceedings		17

Item 4. Submission of Matters to a Vote of Security Holders		18

PART II

Item 5. Market for Registrant’s Common Equity and Related Stockholder Matters		18

Item 6. Selected Financial Data		19

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations		20

Item 7A. Qualitative and Quantitative Disclosures about Market Risk		40

Item 8. Financial Statements and Supplementary Data		41

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure		75

Item 9A. Controls and Procedures		75

Item 9B. Other Information		75

PART III

Item 10. Directors and Executive Officers of the Registrant		75

Item 11. Executive Compensation		76

Item 12. Security Ownership of Certain Beneficial Owners and Management		76

Item 13. Certain Relationships and Related Transactions		76

Item 14. Principal Accountant Fees and Services		76

PART IV

Item 15. Exhibits and Financial Statement Schedules		77

Signatures		80
EX-10.16 DESCRIPTION OF ARRANGEMENT FOR DIRECTORS FEES
EX-21 SUBSIDIARIES OF S1
EX-23.1 CONSENT OF INDEPENDENT PUBLIC ACCOUNTING FIRM
EX-31.1 CERTIFICATION OF THE CEO
EX-31.2 CERTIFICATION OF THE CFO
EX-32.1 SECTION 906 CERTIFICAITON OF THE CEO
EX-32.2 SECTION 906 CERTIFICAITON OF THE CFO


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


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

	•	X/Net Associates, Inc., a Rochester, New York based provider of lending solutions to financial institutions;

	•	Mosaic Software Holdings Limited, a United Kingdom based global provider of solutions that drive ATM and electronic payments: and

	•	a business unit from an Indian-based provider of software development, programming, infrastructure development and related services.

	•	S1 Enterprise turns static customer and transaction data into actionable information to help financial institutions grow revenues — Financial institutions have a wealth of valuable customer information stored throughout their organizations. Their customers also have multiple financial relationships with other providers. S1 Enterprise helps financial institutions collect the data from internal and external systems, giving greater insight into customers and the ability to deliver more personalized service. S1 Enterprise features fully integrated CRM capabilities so that our financial institution customers can leverage customer information and marketing programs across all customer touch points, helping them create profitable and satisfying customer interactions. Our CRM solutions go beyond the traditional approach by turning information such as alerts, awards and promotions into actionable information at the delivery channel of choice for the financial institution’s customer.

	•	S1 Enterprise helps banks and insurers deliver compelling, personalized products and services that help increase customer retention — In order to build customer loyalty, financial institutions need to deliver personalized products and services that are timely, relevant and accurate. S1 Enterprise is designed to help financial institutions understand their customer’s buying behaviors, attitudes toward technology and short and long-term financial goals. S1 Enterprise helps financial institutions create more cross-selling opportunities, while maximizing the existing relationships they have established to up-sell additional products and services and to reduce customer turn-over. We believe such personalized service will increase opportunities for cross-selling and create more effective marketing.

	•	S1 Enterprise provides integration of multiple applications and channels to lower a financial institution’s costs —S1 Enterprise delivers integrated solutions across all of an institution’s interaction channels and market segments. Delivering all of these services from a common platform enables financial institutions to achieve significant cost savings over time. With the deployment of one application, financial institutions receive comprehensive functionality on an open, flexible, and operable industry platform. With multiple applications, they begin to see true economies of scale with the single platform. This not only reduces integration, maintenance and implementation costs, it can also leverage the cross-channel CRM capabilities for more effective personalization and sales opportunities. All of this capability is delivered while leveraging existing investments in back-office system interfaces.

	•	S1Enterprise Personal Banking gives individual consumers anytime, anywhere access to all of their banking accounts, including deposit, credit card and loan accounts. Functions include the ability to view statements, account activity, and cleared and pending transactions online, to transfer funds between accounts and to pay bills electronically.

	•	S1Enterprise Business Banking is a comprehensive banking product geared to the unique needs of small business owner-operators. Available services include daily account balance and transaction reporting, disbursement services, payroll, account transfers, wires, and electronic tax payments. Personalization options simplify cash management tasks for easy organization and management of company funds.

	•	S1 Internet Banking System (IBS) Retail Banking is designed specifically with the unique needs of the community banking market in mind. This turn-key application includes functions such as the ability to view statements, account activity, and cleared and pending transactions online, to transfer funds between accounts and to pay bills electronically.

	•	S1 Consumer Lending offers highly customizable, complete credit origination system designed for indirect, direct, credit card, home equity and revolving credit lending, to be used in conjunction with multiple scoring and decision support tools.

	•	S1Enterprise Corporate Banking is a comprehensive Internet-based cash management solution that helps financial institutions better serve large corporations on a global basis. This application offers multi-lingual, multi-currency and multi-delivery channel capability to perform such functions as information reporting, global payments, check services, file services and customer administration on a global basis.

	•	S1 IBS Cash Management System is designed to help community banks deliver services to small businesses in the markets that they serve. Functions include integrated front and back office systems, multiple payment vehicles such

		as domestic and SWIFT wires, ACH, and EFTPS, integration with the IBS retail Internet banking application and EDI data display.

	•	S1 Enterprise Trade Finance solutions help financial institutions increase the efficiency of processing their trade transactions. S1 Trade Finance delivers one integrated system to create and report on trade documents from purchase order, to letter of credit, to direct collections. These solutions enhance the risk evaluation process for global trade using optimized workflow and reporting and deliver up-to-date status reports on all outstanding trade finance engagements.

	•	S1 Business Lending is a complete workflow solution that supports the processing of a financial institution’s small business lending requirements from data entry through qualification, notification, closing and document delivery.

	•	S1 Enterprise Teller is a “smart-client” teller application, combining thin and rich client technologies to provide scalability, real-time connectivity, and low total cost of ownership with extensive offline capabilities. The application is highly flexible and customizable, and its centralized administration capabilities enable quick and efficient rollout of new products, features, and upgrades.

	•	S1 Enterprise Sales & Service Platform provides a robust set of transactional capabilities and embedded relationship management tools. With real-time information from all channels and advanced features that support selling, branches can significantly improve their visibility of potential cross-sell and up-sell opportunities, and have the tools to act on those opportunities.

	•	S1 Enterprise Call Center offers a full set of workflows, transactions and core services that meet the specialized needs of the call center environment. In addition to the core services found in the teller and platform applications, S1 Enterprise Call Center provides the customer information, sales and service capabilities, process flows, reporting, and the fulfillment management that are exclusive to call center operations.

	•	S1 Teller provides the complete set of transactions and core services necessary for fulfilling the rigorous requirements of today’s teller environment, including host communications, sharing and storing of information, cumulative totals, electronic journal, transaction security and approval, and balancing aids.

	•	S1 Sales and Service Platform includes an extensive set of transactions, sales tools, and core services that expedite selling new products, as well as servicing existing accounts.

	•	S1 Banking Call Center provides the customer information, sales and service capabilities, process flows, reporting, and fulfillment management that are exclusive to call center operations. The S1 Banking Call Center application integrates with other call center technologies, including integrated voice response (IVR) systems, computer telephony integration servers, and automatic call distributor systems.

	•	S1 Enterprise Voice Banking, powered by Edify, and speech recognition products help companies automate their customer service facilities, improving customer satisfaction and enabling new revenue-generating opportunities while reducing operational costs. Edify’s voice and speech applications are scalable, multilingual and flexible, allowing companies to easily integrate multiple backend systems with a variety of contact interfaces. Our voice and speech solutions combine speech recognition, speaker verification, text-to-speech, fax, and touch-tone automation with a powerful application development environment and natural language capabilities to help organizations optimize customer service while lowering costs. Edify’s open, standards-based platform manages millions of customer interactions every day across a broad range of industries.

	•	S1 Voice Banking delivers IVR functionality in a stable, flexible, Windows-based application. With the push of a button or through simple voice commands, users can check on a deposit or account balance, find a CD rate, pay bills or transfer funds.

	•	S1Enterprise Analytics features easy to use analytical and segmentation tools, comprehensive campaign development and management capabilities, and a unique methodology to drive the results of CRM out to all channels. It permits real time access to customer contact and value information, as well as target campaigns, and significantly enhances the value of CRM efforts.

	•	S1 Marketing Center supports the planning and execution of marketing campaigns based on multiple segmentations of customers and prospects. It includes robust inbound and outbound telemarketing features that can be combined with advanced Computer Telephony Integration (CTI) functionality to enhance the efficiency of our customer’s marketing personnel.

	•	S1 Sales Center supports sales associates and managers in a telesales or field sales environment by tracking all relevant information and proactively guiding the associate through initiating, closing and tracking opportunities.

	•	S1 Support Center enables customer service representatives and managers to create, assign and manage customer support requests such as incidents, problems and resolutions. It provides details of the problem, the ability to request status and history and the ability to suggest products for cross-sell and up-sell.

	•	Technical Support — Customer support engineers will work to provide solutions on S1 products;

	•	Software Release Management — Software upgrades that include enhancements to our software as well as operational and performance improvements; and

	•	Online Support — The S1 Support Website is designed to provide “one-stop” access to technical information for S1 products. The S1 Support Website provides access to technical FAQs, download patches, the latest documentation, and support bulletins.

	•	Project Management — Our project managers are responsible for keeping a project on schedule and within budget throughout the implementation cycle;

	•	Custom Software Development — Our developers will customize our solutions to meet the specific business requirements of our customers — from analysis and design to building and testing;

	•	Technical Services — Our team will design, implement and test the servers and network infrastructure to support our solutions. Our expertise includes software integration, database services, networking and the applications skills required to deliver secure, robust solutions;

	•	Educational Services — Our training professionals help financial institutions train their employees to use our solutions to better serve their customers; and

	•	Web Design Services — Our web design group is available to assist with delivery of a complete web presence for financial institutions.

	•	building, maintaining and upgrading an in-house solution can be very costly;

	•	attracting and retaining the necessary technical personnel can be difficult and costly; and

	•	technological development may be too far outside the financial organization’s core competencies to be effective or successful.

	•	integrating applications and channels from multiple vendors greatly lengthens a financial organization’s time-to-market and implementation costs;

	•	operating and upgrading solutions from multiple vendors is very costly; and

	•	a combination of best-of-breed solutions across different channels does not provide a single view of the customer.

	•	costly litigation and damage awards;

	•	diversion of management attention and resources;

	•	product shipment delays or suspensions;

	•	injunction prohibiting us from selling our products; and

	•	the need to enter into royalty or licensing agreements, which may not be available on terms acceptable to us, if at all.

	•	significant under-performance relative to expected historical or projected future operating results;

	•	significant changes in the manner of our use of the acquired assets or the strategy of our overall business;

	•	significant negative industry or economic trends;

	•	significant decline in our stock price for a sustained period; and

	•	our market capitalization relative to net book value.

	•	for tax expense in certain subsidiaries or jurisdictions for which do not have NOLs to utilize;

	•	in the United States due to limitations on the use of our federal NOLs for alternative minimum tax purposes which will be paid in cash; or

	•	if there are NOLs that were acquired as part of a business combination, upon which we placed a valuation allowance at acquisition date. This results in non-cash income tax expense as goodwill is reduced and the valuation allowance is released.

	•	our net income of $15.6 million, which included the gain on the sale of a subsidiary of $8.6 million and $1.5 million equity in net loss of affiliate;

	•	non-cash charges of $14.0 million of depreciation and amortization;

	•	provision of doubtful accounts receivable and billing adjustments of $0.4 million;

	•	a decrease in accrued expenses and other liabilities of $10.6 million, including a $4.5 million payment for the settlement of a disputed claim in our discontinued business and $3.6 million for restructuring;

	•	an increase of $19.9 million in accounts receivable due to the increased revenue accounted for under the percentage of completion accounting, the timing of billings at or near quarter end;

	•	a decrease in deferred revenues of $6.4 million due to the timing of billings and the recognition of revenues; and

	•	changes in other operating assets and liabilities of $1.3 million.


Report of Independent Registered Public Accounting Firm			42
Consolidated Balance Sheets as of December 31, 2003 and 2004			44
Consolidated Statements of Operations for the Years Ended December 31, 2002, 2003 and 2004			45
Consolidated Statements of Cash Flows for the Years Ended December 31, 2002, 2003 and 2004			46
Consolidated Statements of Stockholders’ Equity and Comprehensive Income (Loss) for the Years Ended December 31, 2002, 2003 and 2004			47
Notes to Consolidated Financial Statements			48

FINANCIAL STATEMENT SCHEDULE:

For each of the three years ended December 31, 2004 Schedule II—Valuation and Qualifying Accounts			74

	•	revenue recognition;

	•	estimation of our allowance for doubtful accounts and billing adjustments;

	•	valuation and recoverability of long-lived assets, including goodwill;

	•	valuation of acquired businesses;

	•	determination of technological feasibility and capitalization of software development costs;

	•	recognition of costs in connection with restructuring plans and merger-related activities;

	•	reserve for contingencies;

	•	valuation of stock based compensation; and

	•	income taxes.

	•	any amendment to any charter provision that would change the specific terms of that series which would adversely affect the rights of the holders of that series, and

	•	the merger or consolidation of S1 with another corporation or the sale, lease, or conveyance (other than by mortgage or pledge) of the properties or business of S1 in exchange for securities of another corporation if series B is to be exchanged for securities of such other corporation and if the terms of such securities are less favorable in any respect.

	•	100,000 new options to employees of Regency, and

	•	300,000 new options to employees of Point.

	•	a sales representation (and OEM) agreement;

	•	a data center agreement; and

	•	a facilities sublease, which expired in 2001.