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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
(Mark One)
 
x
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
    
 
For the quarterly period ended September 30, 2002
 
OR
 
¨
 
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: 000-23997
 
 
BRIO SOFTWARE, INC.
(Exact name of registrant as specified in its charter)
 
Delaware
(State or other jurisdiction of incorporation or organization)
  
77-0210797
(I.R.S. Employer Identification No.)
 
4980 Great America Parkway
Santa Clara, CA 95054
(Address of principal executive offices, including zip code)
 
(408) 496-7400
(Registrant’s telephone number, including area code)
(Former name, former address and former fiscal year, if changed since last report)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
 
Yes x            No ¨
 
As of November 8, 2002 there were 37,838,928 shares of the registrant’s Common Stock outstanding.
 

Table of Contents
BRIO SOFTWARE, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE PERIOD ENDED SEPTEMBER 30, 2002
 
INDEX
 
         
Page
PART I.  Financial Information
     
Item 1.
   
Financial Statements:
     
       
3
       
4
       
5
       
6
Item 2.
      
15
Item 3.
      
33
Item 4.
      
33
PART II.  Other Information
     
Item 1.
      
34
Item 2.
      
34
Item 3.
      
34
Item 4.
      
34
Item 5.
      
34
Item 6.
      
34
       
35
       
36

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PART I. FINANCIAL INFORMATION
 
Item 1.    Financial Statements.
 
BRIO SOFTWARE, INC.
 
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
 
    
September 30,
2002
     
March 31,
2002(1)
  
    
(unaudited)
         
ASSETS
                  
Current Assets:
                  
Cash and cash equivalents
   
$
14,027
 
   
$
16,226
 
Short-term investments
   
 
11,370
 
   
 
11,056
 
Accounts receivable, net of allowance for doubtful accounts and sales returns of $1,983 and $2,006, respectively
   
 
19,991
 
   
 
17,238
 
Inventories
   
 
246
 
   
 
184
 
Deferred income taxes
   
 
447
 
   
 
447
 
Prepaid expenses and other current assets
   
 
3,430
 
   
 
4,475
 
    
  
Total current assets
   
 
49,511
 
   
 
49,626
 
Property and Equipment, net
   
 
20,944
 
   
 
24,625
 
Other Noncurrent Assets
   
 
1,772
 
   
 
1,785
 
    
  
    
$
72,227
 
   
$
76,036
 
    
  
LIABILITIES AND STOCKHOLDERS’ EQUITY
                  
Current Liabilities:
                  
Note payable, current portion
   
$
1,667
 
   
$
1,667
 
Accounts payable
   
 
5,619
 
   
 
5,089
 
Accrued liabilities—
                  
Payroll and related benefits
   
 
6,173
 
   
 
7,015
 
Other
   
 
5,666
 
   
 
8,059
 
Deferred revenue, current
   
 
31,389
 
   
 
29,347
 
    
  
Total current liabilities
   
 
50,514
 
   
 
51,177
 
Noncurrent Deferred Revenue
   
 
999
 
   
 
599
 
Noncurrent Note Payable
   
 
2,083
 
   
 
2,917
 
Other Noncurrent Liabilities
   
 
2,003
 
   
 
944
 
    
  
Total liabilities
   
 
55,599
 
   
 
55,637
 
    
  
Stockholders’ Equity:
                  
Common stock
   
 
37
 
   
 
36
 
Additional paid-in capital
   
 
101,669
 
   
 
103,779
 
Notes receivable from stockholders
   
 
(12
)
   
 
(12
)
Accumulated comprehensive income (loss)
   
 
(375
)
   
 
324
 
Accumulated deficit
   
 
(84,691
)
   
 
(83,728
)
    
  
Total stockholders’ equity
   
 
16,628
 
   
 
20,399
 
    
  
    
$
72,227
 
   
$
76,036
 
    
  
(1)
 
This financial information is derived from Brio Software, Inc.’s audited consolidated financial statements.
 
See accompanying notes to the condensed consolidated financial statements.

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BRIO SOFTWARE, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
 
    
Three Months Ended
September 30,
     
Six Months Ended
September 30,
  
    
2002
     
2001
     
2002
     
2001
  
Revenues:
                                    
License fees
   
$
9,709
 
   
$
12,721
 
   
$
21,730
 
   
$
26,192
 
Services
   
 
15,114
 
   
 
15,504
 
   
 
29,228
 
   
 
31,506
 
    
  
  
  
Total revenues
   
 
24,823
 
   
 
28,225
 
   
 
50,958
 
   
 
57,698
 
    
  
  
  
Cost of revenues:
                                    
License fees
   
 
476
 
   
 
570
 
   
 
887
 
   
 
1,133
 
Services (includes $0, $0, $386 and $0, respectively, in stock compensation benefit)
   
 
4,743
 
   
 
6,687
 
   
 
9,098
 
   
 
14,469
 
    
  
  
  
Total cost of revenues
   
 
5,219
 
   
 
7,257
 
   
 
9,985
 
   
 
15,602
 
    
  
  
  
Gross profit
   
 
19,604
 
   
 
20,968
 
   
 
40,973
 
   
 
42,096
 
    
  
  
  
Operating expenses:
                                    
Research and development (includes $0, $0, $543 and $0, respectively, in stock compensation benefit)
   
 
5,668
 
   
 
6,278
 
   
 
10,785
 
   
 
13,694
 
Sales and marketing (includes $0, $0, $758 and $0, respectively, in stock compensation benefit)
   
 
12,491
 
   
 
16,278
 
   
 
24,462
 
   
 
34,169
 
General and administrative (includes $0, $0, $1,505 and $0, respectively, in stock compensation benefit)
   
 
2,175
 
   
 
2,940
 
   
 
3,521
 
   
 
5,850
 
Loss on abandonment of property and equipment
   
 
—  
 
   
 
3,670
 
   
 
—  
 
   
 
3,670
 
Loss on disposal of property and equipment
   
 
63
 
   
 
—  
 
   
 
1,027
 
   
 
—  
 
Restructuring expenses
   
 
—  
 
   
 
996
 
   
 
1,000
 
   
 
1,427
 
Facility closure expenses
   
 
1,942
 
   
 
217
 
   
 
1,942
 
   
 
217
 
    
  
  
  
Total operating expenses
   
 
22,339
 
   
 
30,379
 
   
 
42,737
 
   
 
59,027
 
    
  
  
  
Loss from operations
   
 
(2,735
)
   
 
(9,411
)
   
 
(1,764
)
   
 
(16,931
)
Interest and other income, net
   
 
13
 
   
 
200
 
   
 
927
 
   
 
101
 
    
  
  
  
Loss before provision for income taxes
   
 
(2,722
)
   
 
(9,211
)
   
 
(837
)
   
 
(16,830
)
Provision for income taxes
   
 
6
 
   
 
11
 
   
 
126
 
   
 
25
 
    
  
  
  
Net loss
   
$
(2,728
)
   
$
(9,222
)
   
$
(963
)
   
$
(16,855
)
    
  
  
  
Basic and diluted net loss per share
   
$
(0.07
)
   
$
(0.32
)
   
$
(0.03
)
   
$
(0.58
)
    
  
  
  
Shares used in computing basic and diluted net loss per share
   
 
37,174
 
   
 
29,273
 
   
 
36,955
 
   
 
29,161
 
    
  
  
  
 
See accompanying notes to the condensed consolidated financial statements.

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BRIO SOFTWARE, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
    
Six Months Ended
September 30,
  
    
2002
     
2001
  
Cash Flows from Operating Activities:
                  
Net loss
   
$
(963
)
   
$
(16,855
)
Adjustments to reconcile net loss to cash used in operating activities—
                  
Depreciation and amortization
   
 
3,643
 
   
 
4,358
 
Provision for returns and doubtful accounts
   
 
—  
 
   
 
200
 
Deferred compensation amortization
   
 
—  
 
   
 
21
 
Stock compensation benefit
   
 
(3,192
)
   
 
—  
 
Loss on disposal and abandonment of property and equipment
   
 
1,474
 
   
 
3,670
 
Changes in operating assets and liabilities—
                  
Accounts receivable
   
 
(2,753
)
   
 
11,134
 
Inventories
   
 
(62
)
   
 
118
 
Prepaid expenses, other current assets and other noncurrent assets
   
 
986
 
   
 
(1,573
)
Accounts payable and accrued liabilities
   
 
(2,961
)
   
 
(2,781
)
Deferred revenue
   
 
2,442
 
   
 
(3,047
)
Other noncurrent liabilities
   
 
1,059
 
   
 
246
 
    
  
Net cash used in operating activities
   
 
(327
)
   
 
(4,509
)
    
  
Cash Flows from Investing Activities:
                  
Purchases of short-term investments
   
 
(7,220
)
   
 
—  
 
Sales of short-term investments
   
 
7,000
 
   
 
2,171
 
Purchases of property and equipment
   
 
(1,243
)
   
 
(5,920
)
    
  
Net cash used in investing activities
   
 
(1,463
)
   
 
(3,749
)
    
  
Cash Flows from Financing Activities:
                  
Proceeds from borrowings under line of credit
   
 
—  
 
   
 
6,000
 
Proceeds from issuance of common stock, net
   
 
1,218
 
   
 
2,362
 
Repayments under note payable
   
 
(834
)
   
 
—  
 
Repayments under notes receivable from stockholders
   
 
—  
 
   
 
4
 
    
  
Net cash provided by financing activities
   
 
384
 
   
 
8,366
 
    
  
Net increase (decrease) in cash and cash equivalents
   
 
(1,406
)
   
 
108
 
Effect of exchange rate changes on cash
   
 
(793
)
   
 
(218
)
Cash and cash equivalents, beginning of period
   
 
16,226
 
   
 
13,048
 
    
  
Cash and cash equivalents, end of period
   
$
14,027
 
   
$
12,938
 
    
  
Noncash operating activities:
                  
Negotiated reduction in implementation services classified as accounts payable and property and equipment
   
$
—  
 
   
$
1,417
 
    
  
 
See accompanying notes to the condensed consolidated financial statements.

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BRIO SOFTWARE, INC.
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 
Note 1.    Summary of Significant Accounting Policies
 
Basis of Presentation
 
The accompanying unaudited condensed consolidated financial statements have been prepared by Brio Software, Inc. (“Brio”) in accordance with generally accepted accounting principles for interim financial information pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, Brio believes that the disclosures are adequate to make the information not misleading. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in Brio’s annual report on Form 10-K, as amended, for the fiscal year ended March 31, 2002.
 
The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly the results for the periods presented. The results for such periods are not necessarily indicative of the results to be expected for the full fiscal year.
 
The preparation of condensed consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
 
In September 2001, Brio changed its legal name from Brio Technology, Inc. to Brio Software, Inc.
 
Revenue Recognition
 
Brio derives revenues from two sources, license fees and services. Services include software maintenance and support, training and system implementation consulting. Maintenance and support consists of technical support and software upgrades and enhancements. Significant management judgments and estimates are made and used to determine the revenue recognized in any accounting period. Material differences may result in the amount and timing of Brio’s revenue for any period if different conditions were to prevail.
 
Brio applies the provisions of Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as amended by SOP 98-9 “Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions” to all transactions involving the sale of software products.
 
Brio recognizes product revenue when persuasive evidence of an arrangement exists, the product has been delivered, the fee is fixed and determinable, and collection of the resulting receivable is probable. In software arrangements that include rights to multiple elements, such as software products and services, Brio uses the residual method under which revenue is allocated to the undelivered elements based on vendor specific objective evidence (VSOE) of the fair value of such undelivered elements. The residual amount of revenue is allocated to the delivered elements and recognized as revenue. Such undelivered elements in these arrangements typically consist of services.
 
Brio uses a purchase order or a signed contract as persuasive evidence of an arrangement for sales of software, maintenance renewals and training. Sales through Brio’s value-added resellers (VARs), private label

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partners (PLPs) or original equipment manufacturers (OEMs), resellers, system integrators and distributors (collectively “resellers”) are evidenced by a master agreement governing the relationship together with binding purchase orders on a transaction-by-transaction basis. Brio uses a signed statement of work to evidence an arrangement for system implementation consulting.
 
Software is delivered to customers electronically or on a CD-ROM. Brio assesses whether the fee is fixed and determinable based on the payment terms associated with the transaction. Brio’s standard payment terms are generally less than 90 days. In instances where payments are subject to extended payment terms, revenue is deferred until payments become due, which is generally when the payment is received. Brio assesses collectibility based on a number of factors, including the customer’s past payment history and its current creditworthiness. If Brio determines that collection of a fee is not probable, Brio defers the revenue and recognizes it at the time collection becomes probable, which is generally upon receipt of cash payment. If an acceptance period is other than in accordance with standard user documentation, revenue is recognized upon the earlier of customer acceptance or the expiration of the acceptance period.
 
When licenses are sold together with consulting and implementation services, license fees are recognized upon shipment, provided that (1) the above criteria have been met, (2) payment of the license fees is not dependent upon the performance of the consulting and implementation services, (3) the services are not essential to the functionality of the software, and (4) VSOE exists for the undelivered elements. For arrangements that do not meet the above criteria, both the product license revenues and services revenues are recognized in accordance with the provisions of SOP 81-1, “Accounting for Performance of Construction Type and Certain Production Type Contracts.” Brio accounts for the arrangements under the percentage of completion method pursuant to SOP 81-1 when reliable estimates are available for the costs and efforts necessary to complete the implementation services. In instances when such estimates are not available, the completed contract method is utilized.
 
The majority of Brio’s consulting and implementation services qualify for separate accounting. Brio uses VSOE of fair value for the services and the maintenance to account for the arrangement using the residual method, regardless of any separate prices stated within the contract for each element. Brio’s consulting and implementation service contracts are bid either on a fixed-fee basis or on a time-and-materials basis. For a fixed-fee contract, Brio recognizes revenue using the percentage of completion method. For time-and-materials contracts, Brio recognizes revenue as services are performed.
 
Maintenance and support revenue is recognized ratably over the term of the maintenance contract. Training revenue is recognized when training is provided.
 
Prior to March 1, 2002, revenue on product sales through Brio’s resellers was recognized upon delivery to the reseller, which in the vast majority of cases coincided with the resellers’ sale to an end user (i.e., sell-through). There were, however, limited circumstances in which revenue was recognized upon delivery to a reseller when a sale to an end user had not yet occurred (such as royalty prepayments). These transactions represented 0.5%, and 1.2% of total revenues in fiscal 2002 and 2001, respectively. For the three months and six months ended September 30, 2002, these transactions represented zero percent of total revenues, respectively. For the three months and six months ended September 30, 2001, these transactions represented 0.1% of total revenues, respectively. Effective March 1, 2002, the Company revised its revenue recognition policy with respect to resellers such that revenue for all reseller transactions is recognized only when product has been sold through to an end user and such sell-through has been reported to the Company. This change provided for a consistent policy of revenue recognition across all resellers. Due to the insignificant amount of revenue recognized upon delivery to a reseller, this change in policy had no impact on revenue for the three and six months ended September 30, 2001. The collection of payments on sales to resellers is not contingent on or linked to the end customer paying the reseller and there are no rights of return. Additionally, reseller sales are billed under the Company’s standard payment terms and post-contract support (PCS) starts upon delivery to the reseller when purchased along with software products. There are no contractual rights of return and the Company has not historically accepted unusual or significant returns.

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Comprehensive Loss
 
A summary of comprehensive loss follows (in thousands):
 
    
Three Months
Ended September 30,
     
Six Months
Ended September 30,
  
    
2002
     
2001
     
2002
     
2001
  
Net loss
   
$
(2,728
)
   
$
(9,222
)
   
$
(963
)
   
$
(16,855
)
Unrealized loss on short-term investments
   
 
(7
)
   
 
(23
)
   
 
(94
)
   
 
(78
)
Foreign currency translation adjustment
   
 
(91
)
   
 
(192
)
   
 
793
 
   
 
(218
)
    
  
  
  
Comprehensive loss
   
$
(2,826
)
   
$
(9,437
)
   
$
(264
)
   
$
(17,151
)
    
  
  
  
 
Short-term Investments
 
A summary of Brio’s available-for-sale investment portfolio is as follows (in thousands):
 
    
September 30, 2002
    
Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
     
Fair
Value
Corporate debt securities and commercial paper
   
$
11,967
   
$
35
   
$
(159
)
   
$
11,843
Government debt securities
   
 
6,560
   
 
—  
   
 
40
 
   
 
6,600
    
  
  
  
Total
   
$
18,527
   
$
35
   
$
(119
)
   
 
18,443
    
  
  
      
Less: Cash equivalents
                          
 
7,073
                           
Total short-term investments
                          
$
11,370
                           
    
March 31, 2002
    
Cost
   
Gross
Unrealized
Gains
   
Gross
Unrealized
Losses
     
Fair
Value
Corporate debt securities and commercial paper
   
$
15,857
   
$
—  
   
$
(130
)
   
$
15,727
Government debt securities
   
 
5,015
   
 
    —  
   
 
(6
)
   
 
5,009
    
  
  
  
Total
   
$
20,872
   
$
—  
   
$
(136
)
   
 
20,736
    
  
  
      
Less: Cash equivalents
                          
 
9,680
                           
Total short-term investments
                          
$
11,056
                           
 
Computation of Basic and Diluted Net Loss Per Share
 
Basic net loss per share is computed using the weighted average number of shares of common stock outstanding. No diluted net loss per share information is presented as Brio has incurred net losses in all periods presented. For the three and six months ended September 30, 2002, 10,412,653 and 10,383,686 and for the three and six months ended September 30, 2001, 10,997,427 and 10,400,354 potential common shares from conversion of stock options, warrants and contingently issuable shares, respectively, have been excluded from the calculation of net loss per share, with a weighted-average exercise price of $1.35, $1.61, $3.78 and $4.93 per common share, respectively, as their effect would be antidilutive.
 
Recent Accounting Pronouncements
 
In July 2001, the Financial Accounting Standards Board (FASB) issued SFAS No.’s 141 and 142, “Business Combinations” and “Goodwill and Other Intangibles”. SFAS No. 141 requires all business combinations initiated

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after June 30, 2001 to be accounted for using the purchase method. Under SFAS No. 142, goodwill is no longer subject to amortization. Rather, goodwill is subject to at least an annual assessment for impairment applying a fair-value based test. Additionally, an acquired intangible asset should be separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented, or exchanged, regardless of the acquirer’s intent to do so. In accordance with the transition provisions, Brio adopted this standard effective April 1, 2002. The remaining balance of goodwill at April 1, 2002 was immaterial, and therefore, the impact of adopting this SFAS was insignificant.
 
In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 replaces SFAS No. 121 and certain provisions of APB Opinion 30. SFAS No. 144 establishes a single accounting model for long-lived assets to be disposed of and redefines the valuation and presentation of discontinued operations. The adoption of SFAS No. 144 on April 1, 2002, did not have a material impact on Brio’s consolidated financial statements.
 
In January 2002, the EITF issued EITF No. 01-14 “Income Statement Characterization of Reimbursements Received for Out of Pocket Expenses Incurred,” which concluded that the reimbursement of “out-of-pocket” expenses should be classified as revenue in the statement of operations. Effective January 1, 2002, Brio adopted EITF No. 01-14 and reclassified the statement of operations for the three and six months ended September 30, 2001 to conform to the current presentation. The effect of this adoption is an increase in revenues and cost of revenues of $42,000 and $458,000 for the three and six months ended September 30, 2001, respectively.
 
In June 2002, the FASB issued SFAS No. 146, ”Accounting for Costs Associated with Exit or Disposal Activities”, which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. SFAS No. 146 is effective for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the commitment to an exit plan. SFAS No. 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No.146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized. Brio believes that the adoption of SFAS No. 146 will not have a material impact on Brio’s consolidated financial statements.
 
Reclassifications
 
Certain prior period financial statement balances have been reclassified to conform to the fiscal 2003 presentation.
 
Note 2.    Line of Credit
 
In December 2001, Brio entered into an accounts receivable-based revolving bank line of credit with Foothill Capital Corporation. The line provides for up to $15.0 million in borrowings, with interest at the bank’s prime rate plus one percent (7.0% at September 30, 2002). Credit available under the line of credit will be reduced by the amount outstanding under a term loan in the amount of up to $5.0 million, with interest at the bank’s prime rate plus three percent (7.75% at September 30, 2002), and by any outstanding letters of credit. Borrowings under the bank line are limited to 80% of non-maintenance, domestic, eligible accounts receivable. The line of credit is collateralized by substantially all of Brio’s assets, including the Company’s intellectual property, accounts receivable and property and equipment to the extent required to secure the line.
 
The line of credit with Foothill Capital initially required Brio to (a) maintain minimum EBITDA of $750,000 for the quarter ended March 31, 2002; $1,700,000 for the quarter ended June 30, 2002; $2,000,000 for the quarter ended September 30, 2002; and $1,800,000 for each quarter thereafter; (b) minimum recurring domestic maintenance revenues of $6,750,000 for each quarter; (c) minimum excess availability under the credit line plus cash equivalents of at least $4,000,000 at any time; and (d) maximum capital expenditures of $750,000 per quarter.

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On February 27, 2002, Brio amended the initial line of credit with Foothill Capital to change the definition of EBITDA to add back extraordinary non-cash losses of up to $500,000 occurring before June 30, 2002 and stock compensation charges resulting from Brio’s stock option repricing.
 
Additionally, the covenants were amended on May 15, 2002 on a prospective basis requiring Brio to maintain a maximum EBITDA loss of $800,000 for the quarter ended June 30, 2002. Future covenant requirements are a minimum EBITDA of $800,000 for the quarter ended September 30, 2002; $1,200,000 for the quarter ending December 31, 2002; and $1,800,000 for each quarter thereafter. For the quarter ended June 30, 2002, the definition of EBITDA had also been amended to include a one-time add back of non-cash expense resulting from the devaluation of Brio’s computers and related technology in an aggregate amount not to exceed $3,000,000.
 
Brio was not in compliance with the minimum EBITDA covenant for the quarter ended September 30, 2002, primarily due to the expenses related to closure of certain facilities, which resulted in a charge of $1.9 million, however, Brio obtained a waiver from the bank for this quarter’s requirement.
 
As of September 30, 2002, $3.8 million was outstanding under the term loan, of which $1.7 million is classified as short-term and $2.1 million is classified as long-term. The term loan amortizes over 36 months and requires monthly payments of $139,000 plus interest. The line of credit has prepayment penalties of up to three percent. The line of credit expires in December 2004. As of September 30, 2002, based on domestic eligible accounts receivable, there were $7.8 million of additional borrowings available under the line of credit. As of September 30, 2002, no amounts other than the term loan are outstanding under the line of credit.
 
Note 3.    Industry Segment and Geographic Information
 
Brio adopted SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” in fiscal 1998. SFAS No. 131 establishes standards for reporting information about operating segments in annual financial statements and requires selected information about operating segments in interim financial reports issued to stockholders. It also establishes standards for related disclosures about products and services, and geographic areas. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance.
 
Brio’s reportable segments are based on geographic area. Brio’s chief operating decision-makers are the President and Chief Executive Officer and the Chief Financial Officer. These chief operating decision-makers use net operating income to measure each region’s profit or loss and to allocate resources. Each region has a Vice President or Managing Director who is directly accountable to and maintains regular contact with the chief operating decision-makers regarding the operating activities, financial results and budgeting for the region. Brio identified the regions as segments under SFAS 131 based upon: 1) each region engaging in operating activities from which they generate revenue and expenses; 2) each region’s operating results being regularly reviewed by the chief operating decision-makers to make decisions about resources to be allocated to the regions and assess its performance; and 3) each region having discrete financial information available.

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Brio markets its products in the United States and Canada and in other foreign countries through its domestic sales personnel and its foreign subsidiaries. Reportable segments based on geographic area were as follows for the three months ended September 30, 2002 and 2001 (in thousands):
 
2002
   
North
America
   
Europe, the
Middle East,
and Africa
   
Asia Pacific
and rest of
the world
   
Eliminations
     
Total
Revenues:
                                     
External customers
   
$
19,820
   
$
3,175
   
$
1,828
   
$
—  
 
   
$
24,823
Intersegment
   
 
1,511
   
 
—  
   
 
226
   
 
(1,737
)
   
 
—  
    
  
  
  
  
Total revenues
   
 
21,331
   
 
3,175
   
 
2,054
   
 
(1,737
)
   
 
24,823
    
  
  
  
  
Other Disclosures:
                                     
Depreciation and amortization
   
 
1,487
   
 
129
   
 
37
   
 
—  
 
   
 
1,653
Interest income
   
 
148
   
 
2
   
 
2
   
 
—  
 
   
 
152
Interest expense
   
 
131
   
 
—  
   
 
—  
   
 
—  
 
   
 
131
Loss on disposal of property and equipment
   
 
63
   
 
—  
   
 
—  
   
 
—  
 
   
 
63
Facilities closure expenses
   
 
1,942
   
 
—  
   
 
—  
   
 
—  
 
   
 
1,942
Provision for income taxes
   
 
—  
   
 
—  
   
 
6
   
 
—  
 
   
 
6
2001
                           
Revenues:
                                     
External customers
   
$
21,655
   
$
4,059
   
$
2,511
   
$
—  
 
   
$
28,225
Intersegment
   
 
890
   
 
—  
   
 
396
   
 
(1,286
)
   
 
—  
    
  
  
  
  
Total revenues
   
 
22,545
   
 
4,059
   
 
2,907
   
 
(1,286
)
   
 
28,225
    
  
  
  
  
Other Disclosures:
                                     
Depreciation and amortization
   
 
1,974
   
 
213
   
 
24
   
 
—  
 
   
 
2,211
Interest income
   
 
62
   
 
16
   
 
4
   
 
—  
 
   
 
82
Interest expense
   
 
44
   
 
—  
   
 
—  
   
 
—  
 
   
 
44
Loss on abandonment of property and equipment
   
 
3,670
   
 
—  
   
 
—  
   
 
—  
 
   
 
3,670
Restructuring expenses
   
 
607
   
 
389
   
 
—  
   
 
—  
 
   
 
996
Facilities closure expenses
   
 
84
   
 
133
   
 
—  
   
 
—  
 
   
 
217
Provision for income taxes
   
 
—  
   
 
—  
   
 
11
   
 
—  
 
   
 
11

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Reportable segments based on geographic area were as follows for the six months ended September 30, 2002 and 2001 (in thousands):
 
2002
   
North
America
     
Europe, the
Middle East,
and Africa
   
Asia Pacific
and rest of
the world
   
Eliminations
     
Total
  
Revenues:
                                         
External customers
   
$
40,324
 
   
$
6,527
   
$
4,107
   
$
—  
 
   
$
50,958
 
Intersegment
   
 
3,075
 
   
 
—  
   
 
586
   
 
(3,661
)
   
 
—  
 
    
  
  
  
  
Total revenues
   
 
43,399
 
   
 
6,527
   
 
4,693
   
 
(3,661
)
   
 
50,958
 
    
  
  
  
  
Other Disclosures:
                                         
Depreciation and amortization
   
 
3,181
 
   
 
369
   
 
93
   
 
—  
 
   
 
3,643
 
Interest income
   
 
208
 
   
 
8
   
 
6
   
 
—  
 
   
 
222
 
Interest expense
   
 
249
 
   
 
—  
   
 
—  
   
 
—  
 
   
 
249
 
Loss on disposal of property and equipment
   
 
1,027
 
   
 
—  
   
 
—  
   
 
—  
 
   
 
1,027
 
Restructuring expenses
   
 
473
 
   
 
527
   
 
—  
   
 
—  
 
   
 
1,000
 
Facilities closure expenses
   
 
1,942
 
   
 
—  
   
 
—  
   
 
—  
 
   
 
1,942
 
Stock compensation charges
   
 
(3,192
)
   
 
—  
   
 
—  
   
 
—  
 
   
 
(3,192
)
Provision for income taxes
   
 
110
 
   
 
—  
   
 
16
   
 
—  
 
   
 
126
 
2001
                               
Revenues:
                                         
External customers
   
$
45,622
 
   
$
8,235
   
$
3,841
   
$
—  
 
   
$
57,698
 
Intersegment
   
 
1,691
 
   
 
—  
   
 
976
   
 
(2,667
)
   
 
—  
 
    
  
  
  
  
Total revenues
   
 
47,313
 
   
 
8,235
   
 
4,817
   
 
(2,667
)
   
 
57,698
 
    
  
  
  
  
Other Disclosures:
                                         
Depreciation and amortization
   
 
3,999
 
   
 
300
   
 
59
   
 
—  
 
   
 
4,358
 
Interest income
   
 
199
 
   
 
20
   
 
6
   
 
—  
 
   
 
225
 
Interest expense
   
 
110
 
   
 
—  
   
 
—  
   
 
—  
 
   
 
110
 
Loss on abandonment of property and equipment
   
 
3,670
 
   
 
—  
   
 
—  
   
 
—  
 
   
 
3,670
 
Restructuring expenses
   
 
1,038
 
   
 
389
   
 
—  
   
 
—  
 
   
 
1,427
 
Facilities closure expenses
   
 
84
 
   
 
133
   
 
—  
   
 
—  
 
   
 
217
 
Provision for income taxes
   
 
—  
 
   
 
—  
   
 
25
   
 
—  
 
   
 
25
 
 
No one foreign country comprised more than 10% of total revenues for the three and six months ended September 30, 2002 and 2001. None of Brio’s international operations have material long-lived assets. As of September 30, 2002 and March 31, 2002, no customer accounted for more than 10% of total accounts receivable.
 
Note 4.    Litigation
 
On September 9, 1999, Brio and Business Objects executed a Memorandum of Understanding settling Business Object’s pending patent litigation against Brio involving patent number 5,555,403 pursuant to which Brio agreed to pay to Business Objects $10.0 million, payable in $1.0 million payments over 10 consecutive quarters, with the first payment due September 30, 1999. Of the $10.0 million settlement, $9.1 million represented the net present value of the 10 quarterly payments and the remaining $900,000 represented interest that was recognized over the payment term using the effective interest rate method. As part of this settlement, Business Objects dismissed its pending lawsuit against Brio involving patent number 5,555,403 and Brio dismissed its pending lawsuit against Business Objects involving patent number 5,915,257. As of September 30, 2002 and March 31, 2002 approximately zero and $1.0 million, respectively, are included in the accompanying balance sheet in accrued liabilities. The final payment was made in July 2002.

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Note 5.    Restructuring Charges and Facilities Closure Expenses
 
Brio’s Board of Directors had originally approved a restructuring plan to reduce operating expenses in June 2001. In April 2002, Brio’s Board of Directors approved a new restructuring plan as additional reductions were required to bring costs in alignment with revenues. During the three and six months ended September 30, 2002 and 2001, Brio recorded costs associated with the closure of certain facilities and related write-off of leasehold improvements and furniture and fixtures due to underutilization.
 
The restructuring charges and facility closure expenses as of September 30, 2002 are as follows (in thousands):
 
    
Facility
Closure
Expenses
       
Severance and
Related
Benefits
       
Total
Restructuring
and Facility
Closure
Expenses
  
Accrual balance at March 31, 2002
   
$
84
 
     
$
24
 
     
$
108
 
Total charge in first quarter fiscal 2003
   
 
—  
 
     
 
1,000
 
     
 
1,000
 
Amount utilized in first quarter fiscal 2003
   
 
(51
)
     
 
(618
)
     
 
(669
)
    
    
    
Accrual balance at June 30, 2002
   
 
33
 
     
 
406
 
     
 
439
 
Total charge in second quarter fiscal 2003
   
 
1,942
 
     
 
—  
 
     
 
1,942
 
Amount utilized in second quarter fiscal 2003
   
 
(485
)
     
 
(173
)
     
 
(658
)
    
    
    
Accrual balance at September 30, 2002
   
$
1,490
 
     
$
233
 
     
$
1,723
 
    
    
    
 
For the three months ended September 30, 2002, Brio recorded approximately $1.9 million related to the closure of certain facilities and the write-off of leasehold improvements and furniture and fixtures. For the three months ended September 30, 2001, Brio recorded $996,000 in costs associated with severance and related benefits and approximately $217,000 related to the closure of certain facilities and the write-off of leasehold improvements and furniture and fixtures. For the six months ended September 30, 2002, Brio recorded approximately $1.0 million in costs associated with severance and related benefits and approximately $1.9 million related to the closure of certain facilities. For the six months ended September 30, 2001, Brio recorded approximately $1.4 million in costs associated with severance and related benefits and approximately $217,000 related to the closure of certain facilities. As of September 30, 2002, approximately $233,000 is classified in other accrued liabilities related to the remaining severance and remaining benefits. As of September 30, 2002, approximately $618,000 is classified in other accrued liabilities and approximately $872,000 is classified in other noncurrent liabilities related to the facility closures. Brio expects to make payments related to these closures over the next three years.
 
The facilities closure expenses include payments required under a lease contract, less applicable sublease income after the property was abandoned. To determine the lease loss, certain assumptions were made related to the (1) time period over which the building will remain vacant, (2) sublease terms, (3) sublease rates and (4) an estimate of brokerage fees. The lease loss is an estimate under SFAS No. 5, “Accounting for Contingencies,” and represents the low end of the estimate, considering time to sublease, actual sublease rates, and other variables. Brio has estimated that the high end of the lease loss could be an additional $657,000 if no suitable tenant is found to sublease the facility.
 
Note 6.    Stock Compensation Charges
 
In November 2001, Brio commenced an option exchange program under which eligible employees were given the opportunity to exchange approximately 7.5 million of their existing options to purchase common stock of the Company for new options, with a new exercise price of $2.00 and the same vesting schedule as the original options. The right to exchange terminated on December 5, 2001, at which time 6.9 million shares had elected the

13

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option. This option exchange program is deemed an option repricing and therefore, variable plan accounting applies. For each interim period, Brio will determine the change in fair value of the options that have not been exercised, cancelled or expired, and will record a stock compensation expense based on the vesting schedule of the options. If there is a reduction in the market value of the options, Brio will record a reduction in the stock compensation expense, but not in excess of what has been recognized to date. For the three and six months ended September 30, 2002, Brio recognized a stock compensation benefit of zero and $3.2 million, respectively, relating to the option exchange program.
 
Note 7.    Stock Bonus Program
 
To conserve Brio’s cash until Brio could raise additional equity financing and to help Brio achieve cash flow positive results of operations for the fiscal year 2002, Brio temporarily reduced the salaries of all North American and some international employees during November 2001 and December 2001. To balance the impact on employees of the salary reduction, and to incent Brio employees to remain with Brio, the Company implemented a stock bonus program (the “Program”) in November 2001. Under the Program, if Brio achieved cash flow positive results of operations for the quarter ended December 31, 2001, employees who remained with Brio on various dates through July 2002, as set forth in the Program, would receive a fixed dollar bonus, payable at the discretion of the Brio Board of Directors in either cash or shares of common stock. If amounts payable under the Program are paid in common stock, the number of shares to be issued is determined by the total value of the bonus divided by the market value of the stock on the applicable date of issuance. Brio achieved cash flow positive results of operations for the quarter ended December 31, 2001, and recorded an expense of $1.1 million for the bonus during the fiscal 2002. The bonus was paid in three installments in January, May, and July 2002 by the issuance of 95,420, 68,424 and 128,136 shares of common stock, respectively. The total amount issued as stock, net of income taxes, is $618,000 and is classified in additional paid-in capital.
 
Note 8.    Loss on Disposal and Abandonment of Property and Equipment
 
In May 2002, Brio performed a physical count of their technology equipment and related components. As a result of the physical count, the Company recorded a write-off of $6.2 million in property and equipment, which had accumulated depreciation of $5.2 million and resulted in a loss on disposal of $964,000.
 
During the three months ended September 30, 2001, Brio recorded a write-off of $3.7 million related to the abandonment of property and equipment, specifically the write-off of costs associated with the implementation of Siebel’s sales force automation system. The abandonment and write-off was the result of significant changes implemented in the sales organization. In order to align the system with these changes, Brio had to modify and simplify its Siebel implementation, resulting in the abandonment of a significant portion of the system.
 
Note 9.    Subsequent Event
 
In November 2002, Brio plans to announce a voluntary stock option exchange program under which certain eligible employees will be given the opportunity to cancel outstanding stock options held by them in exchange for an equal number of new options to be granted at a future date at the then current fair market value. The right to exchange will be open for 20 business days and will require that eligible employees exchange all options granted during the prior six-month period. The exchange program will not be made available to our executive officers, directors or consultants.

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Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations.
 
The following discussion should be read in conjunction with the Condensed Consolidated Financial Statements and the Notes thereto, and with Brio’s audited consolidated financial statements and notes thereto for the fiscal year ended March 31, 2002 included in Brio’s Form 10-K, as amended, and the other information included elsewhere in this Report. Certain statements in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” are forward-looking statements. The forward-looking statements contained herein are based on current expectations and entail various risks and uncertainties that could cause actual results to differ materially from those expressed in such forward-looking statements. For a more detailed discussion of these and other business risks, see “Risk Factors That May Affect Future Operating Results” below.
 
Unless expressly stated or the context otherwise requires, the terms “we”, “our”, “us” and “Brio” refers to Brio Software, Inc. and its subsidiaries.
 
Overview
 
Brio Software, Inc. (Brio) provides software solutions that help companies more easily extract, integrate, analyze and report information. The Brio Performance Suite includes advanced query and analysis technologies, along with information delivery through enterprise-wide reporting and personalized display screens known as “performance dashboards.” Our software products enable individuals, workgroups and executives in an organization to more easily view data and information allowing for more actionable insight resulting in superior business decisions. We had net losses of $25.7 million in fiscal 2002, $9.7 million in fiscal 2001 and $10.9 million in fiscal 2000. We had net losses of approximately $2.7 million and $963,000 during the three months and six months ended September 30, 2002, respectively. As of September 30, 2002, we had stockholders’ equity of approximately $16.6 million and an accumulated deficit of approximately $84.7 million. See “Risk Factors That May Affect Future Operating Results” for a description of the risks related to our operating results fluctuations in future periods.
 
Impact of Economic Downturn
 
Due to the severe economic downturn experienced beginning April 1, 2001 and continuing through September 30, 2002, we experienced a reduction in total revenues for each of the quarters during fiscal 2002 when compared to fiscal 2001 and for the three months ended September 30, 2002 when compared to the three months ended September 30, 2001. Total revenues for the three months ended for each of the fiscal quarters noted below were as follows (in thousands):
 
    
Fiscal
2003
   
Fiscal
2002
   
Fiscal
2001
June 30
   
$
26,135
   
$
29,473
   
$
33,424
September 30
   
$
24,823
   
$
28,225
   
$
34,259
December 31
   
 
N/A
   
$
28,347
   
$
39,227
March 31
   
 
N/A
   
$
25,323
   
$
44,702
 
The impact was initially felt through a marked reduction in the deal “pipeline” and a slowing of contract closings throughout fiscal 2002 and continuing through the first and second quarter of fiscal 2003. We experienced a decrease in our customers’ capital spending and as a result, sales to these customers have become progressively smaller.
 
In response to the revenue decline, we took several actions to reduce our operating expenses during fiscal 2002. Specifically, we reduced our headcount by 124 employees, from 661 employees at March 31, 2001 to 537 employees at March 31, 2002, closed underutilized facilities, wrote off the associated leasehold improvements and reduced overall operating expenses. In addition, during fiscal 2002, liquidity became a concern as expense reduction lagged revenue declines during the year. As a result, we increased our efforts to

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expedite collections and shorten days sales outstanding (DSO). These events allowed us to improve liquidity by securing a new credit line in December 2001 and raising additional equity capital during the three months ended March 31, 2002.
 
For the first six months of fiscal 2003, we additionally reduced our headcount by approximately 41 employees to further align our costs with revenues during the first quarter, closed additional underutilized facilities, and wrote off the associated leasehold improvements and furniture and fixtures during the second quarter and continued to closely monitor overall operating expenses. We anticipate continuing our cost reduction efforts as required on a go-forward basis. In particular, we are continuing to evaluate the underutilization of various facilities throughout the world in an effort to consolidate and or eliminate certain facilities to further reduce operating expenses. Additional facilities consolidation expenses due to underutilization may occur in the remaining quarters of fiscal 2003.
 
Critical Accounting Policies and Estimates
 
Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses 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 management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates its estimates and judgments, including those related to revenue recognition, valuation allowances, long-lived assets, and income taxes. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
 
Revenue Recognition
 
We derive revenues from two sources, license fees and services. Services include software maintenance and support, training and system implementation consulting. Maintenance and support consists of technical support and software upgrades and enhancements. Significant management judgments and estimates are made and used to determine the revenue recognized in any accounting period. Material differences may result in the amount and timing of our revenue for any period if different conditions were to prevail.
 
We apply the provisions of Statement of Position (SOP) 97-2, “Software Revenue Recognition,” as amended by SOP 98-9 “Modification of SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions” to all transactions involving the sale of software products.
 
We recognize product revenue when persuasive evidence of an arrangement exists, the product has been delivered, the fee is fixed and determinable, and collection of the resulting receivable is probable. In software arrangements that include rights to multiple elements, such as software products and services, we use the residual method under which revenue is allocated to the undelivered elements based on vendor specific objective evidence of the fair value of such undelivered elements. The residual amount of revenue is allocated to the delivered elements and recognized as revenue. Such undelivered elements in these arrangements typically consist of services.
 
We use a purchase order or a signed contract as persuasive evidence of an arrangement for sales of software, maintenance renewals and training. Sales through our VARs, PLPs or OEMs, resellers, system integrators and distributors (collectively “resellers”) are evidenced by a master agreement governing the relationship together with binding purchase orders on a transaction-by-transaction basis. We use a signed statement of work to evidence an arrangement for system implementation consulting.

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Software is delivered to customers electronically or on a CD-ROM. We assess whether the fee is fixed and determinable based on the payment terms associated with the transaction. Our standard payment terms are generally less than 90 days. In instances where payments are subject to extended payment terms, revenue is deferred until payments become due, which is generally when the payment is received. We assess collectibility based on a number of factors, including the customer’s past payment history and its current creditworthiness. If we determine that collection of a fee is not probable, we defer the revenue and recognize it at the time collection becomes probable, which is generally upon receipt of cash payment. If an acceptance period is other than in accordance with standard user documentation, revenue is recognized upon the earlier of customer acceptance or the expiration of the acceptance period.
 
When licenses are sold together with consulting and implementation services, license fees are recognized upon shipment, provided that (1) the above criteria have been met, (2) payment of the license fees is not dependent upon the performance of the consulting and implementation services, (3) the services are not essential to the functionality of the software, and (4) VSOE exists for the undelivered elements. For arrangements that do not meet the above criteria, both the product license revenues and services revenues are recognized in accordance with the provisions of SOP 81-1, “Accounting for Performance of Construction Type and Certain Production Type Contracts.” We account for the arrangements under the percentage of completion method pursuant to SOP 81-1 when reliable estimates are available for the costs and efforts necessary to complete the implementation services. In instances when such estimates are not available, the completed contract method is utilized.
 
The majority of our consulting and implementation services qualify for separate accounting. We use vendor specific objective evidence of fair value for the services and maintenance to account for the arrangement using the residual method, regardless of any separate prices stated within the contract for each element. Our consulting and implementation service contracts are bid either on a fixed-fee basis or on a time-and-materials basis. For a fixed-fee contract, we recognize revenue using the percentage of completion method. For time-and-materials contracts, we recognize revenue as services are performed.
 
Maintenance and support revenue is recognized ratably over the term of the maintenance contract. Training revenue is recognized when training is provided.
 
Prior to March 1, 2002, revenue on product sales through our resellers was recognized upon delivery to the reseller, which in the vast majority of cases coincided with the resellers’ sale to an end user (i.e., sell-through). There were, however, limited circumstances in which revenue was recognized upon delivery to a reseller when a sale to an end user had not yet occurred (such as royalty prepayments). These transactions represented 0.5%, and 1.2% of total revenues in fiscal 2002 and 2001, respectively. For the three months and six months ended September 30, 2002, these transactions represented zero percent of total revenues, respectively. For the three months and six months ended September 30, 2001, these transactions represented 0.1% of total revenues, respectively. Effective March 1, 2002, we revised our revenue recognition policy with respect to resellers such that revenue for all reseller transactions is recognized only when product has been sold through to an end user and such sell-through has been reported to us. This change provided for a consistent policy of revenue recognition across all resellers. Due to the insignificant amount of revenue recognized upon delivery to a reseller, this change in policy had no impact on revenue for the six months ended September 30, 2001. The collection of payments on sales to resellers is not contingent on or linked to the end customer paying the reseller and there are no rights of return. Additionally, reseller sales are billed under our standard payment terms and PCS starts upon delivery to the reseller when purchased along with software products. There are no contractual rights of return and we have not historically accepted unusual or significant returns.
 
Estimating Valuation Allowances
 
Management specifically analyzes accounts receivable and records a provision for doubtful accounts on a detailed assessment of our accounts receivable and our allowance for doubtful accounts. In estimating the

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provision for doubtful accounts, management considers the following: 1) historical bad debts, 2) the age of the accounts receivable 3) customer concentrations, 4) customer creditworthiness, 5) the customer mix in each of the aging categories, 6) current economic trends, 7) changes in customer payment terms, 8) changes in customer demand, and 9) sales returns, when evaluating the adequacy of the allowance for doubtful accounts and sales returns in any accounting period. Should any of these factors change, the estimates made by management will also change, which could impact our future provision for doubtful accounts.
 
Management also specifically reviews our allowance for sales returns on an ongoing basis. In estimating our allowance for sales returns, management considers the following: 1) historical product returns, 2) general economic conditions in our markets and 3) trends in our accounts receivable. Should any of these factors change, the estimates made by management will also change, which could impact our future allowance for sales returns.
 
Valuation of Long-Lived Assets
 
We periodically review our long-lived assets, including property and equipment and certain identifiable intangibles for impairment when events or changes in facts and circumstances indicate that their carrying amount may not be recoverable. Events or changes in facts and circumstances that we consider as impairment indicators include, but are not limited to (1) a significant decrease in the market value of the asset, (2) significant changes to the asset or the manner in which we use it, (3) adverse economic trends, and (4) a significant decline in expected operating results.
 
When we determine that one or more impairment indicators are present for our long-lived assets, we compare the carrying amount of the asset to net future undiscounted cash flows that the asset is expected to generate. If the carrying amount of the asset is greater than the net future undiscounted cash flows that the asset is expected to generate, we would recognize an impairment loss. The impairment loss would be the excess of the carrying amount of the asset over its fair value.
 
As of September 30, 2002, we recorded an impairment loss of $477,000 on our long-lived assets due to the abandonment of facilities and the related leasehold improvements and furniture and fixtures. Based on the additional facilities consolidation and review for underutilization, we may record additional impairment losses on our long-lived assets in the near future.
 
Income Taxes
 
Significant management judgment is required in determining the provision for income taxes, deferred tax assets and liabilities and any valuation allowance recorded against net deferred tax assets. In preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating actual current tax liability together with assessing temporary differences resulting from differing treatment of items, such as deferred revenue, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within the consolidated balance sheet. We then assess the likelihood that deferred tax assets will be recovered from future taxable income, and to the extent we believe that recovery is not likely, we establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we include an expense within the tax provision of the Condensed Consolidated Statements of Operations.
 
We record a valuation allowance due to uncertainties related to our ability to utilize some of the deferred tax assets, primarily consisting of certain net operating loss carryforwards and foreign tax credits, before they expire. The valuation allowance is based on estimates of taxable income by jurisdiction in which we operate and the period over which deferred tax assets will be recoverable. In the event that actual results differ from these estimates or we adjust these estimates in future periods, we may need to establish an additional valuation allowance, which could materially impact our financial position and results of operations.

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Facility Closure Expenses
 
We have restructured certain facilities and have established reserves at the low end of the range of estimable cost (as required by accounting standards) against outstanding commitments for leased properties that we have abandoned. These reserves are based upon our estimate of triggering events, such as, the time required to sublease the property and the amount of sublease income that might be generated from the date of abandonment and the expiration of the lease. These estimates are reviewed based on changes in these triggering events. Adjustments to the facility closure expenses will be made in future periods, if necessary, should different conditions prevail from those anticipated in our original estimate.
 
Results of Operations
 
The following table includes consolidated statements of operations data as a percentage of total revenues for the periods indicated:
 
    
Three Months Ended
September 30,
     
Six Months Ended
September 30,
  
    
2002
     
2001
     
2002
     
2001
  
Consolidated Statements of Operations Data:
                            
Revenues:
                            
License fees
   
39
%
   
45
%
   
43
%
   
45
%
Services
   
61
 
   
55
 
   
57
 
   
55
 
    
  
  
  
Total revenues
   
100
 
   
100
 
   
100
 
   
100
 
    
  
  
  
Cost of revenues:
                            
License fees
   
2
 
   
2
 
   
2
 
   
2
 
Services
   
19
 
   
24
 
   
18
 
   
25
 
    
  
  
  
Total cost of revenues
   
21
 
   
26
 
   
20
 
   
27
 
    
  
  
  
Gross profit
   
79
 
   
74
 
   
80
 
   
73
 
    
  
  
  
Operating expenses:
                            
Research and development
   
23
 
   
22
 
   
21
 
   
24
 
Sales and marketing
   
50
 
   
58
 
   
48
 
   
60
 
General and administrative
   
9
 
   
10
 
   
7
 
   
10
 
Loss on abandonment of property and equipment
   
—
 
   
13
 
   
—
 
   
6
 
Loss on disposal of property and equipment
   
—
 
   
—
 
   
2
 
   
—
 
Restructuring charges
   
—
 
   
4
 
   
2
 
   
2
 
Facility closure expenses
   
8
 
   
—
 
   
4
 
   
—
 
    
  
  
  
Total operating expenses
   
90
 
   
107
 
   
84
 
   
102
 
    
  
  
  
Loss from operations
   
(11
)
   
(33
)
   
(4
)
   
(29
)
Interest and other income, net
   
—
 
   
—
 
   
2
 
   
—
 
    
  
  
  
Loss before provision for income taxes
   
(11
)
   
(33
)
   
(2
)
   
(29
)
Provision for income taxes
   
—
 
   
—
 
   
—
 
   
—
 
    
  
  
  
Net loss
   
(11
)%
   
(33
)%
   
(2
)%
   
(29
)%
    
  
  
  
 
Revenues
 
We derive revenues from license fees and services, which include software maintenance and support, training and system implementation consulting. Total revenues decreased $3.4 million or 12% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001 and $6.7 million or 12% for the six months ended September 30, 2002 compared to the six months ended

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September 30, 2001. The decreases were primarily due to the continued weakness in the economic environment, which has resulted in continuing lengthening of the enterprise sales cycle and deferred information technology spending. As a result, there was a reduction in the number and size of deals closed when compared to historical results. Due to the continued economic uncertainties, we expect revenues to remain flat in the foreseeable future.
 
Revenues by geographic location were as follows for the three and six months ended September 30, 2002 and 2001:
 
    
Three Months Ended September 30,
   
Six Months Ended September 30,
    
2002
   
2001
   
2002
   
2001
Revenues by Geography:
                            
Domestic
   
$
19,820
   
$
21,655
   
$
40,324
   
$
45,622
International
   
 
5,003
   
 
6,570
   
 
10,634
   
 
12,076
    
  
  
  
Total revenues
   
$
24,823
   
$
28,225
   
$
50,958
   
$
57,698
    
  
  
  
 
Revenue from international sources decreased $1.6 million or 24% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001 and $1.4 million or 12% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decreases were primarily due to fewer sales in the European Region due to the slowing global economy. See Note 3 of Notes to Condensed Consolidated Financial Statements for additional information about revenues in geographic areas.
 
License Fees.    Revenues from license fees decreased $3.0 million or 24% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001 and $4.5 million or 17% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decreases were primarily due to the continued weakness in the economy and lengthening of the sales cycle for large-scale deployments, which resulted in a reduction in the number and size of deals closed and the price for which we are able to sell, when compared to historical results. We expect license revenues to remain flat in the foreseeable future.
 
Services.    Services revenues decreased $390,000 or 3% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001 and $2.3 million or 7% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decreases were primarily due to a decrease in consulting revenues due to the continued weakness in the economy offset by an increase in maintenance and support revenues related to our installed customer base. We expect service revenues to remain flat in the foreseeable future.
 
Cost of Revenues
 
License Fees.    Cost of revenues from license fees consists primarily of product packaging, shipping, media, documentation and related personnel and overhead allocations. Cost of revenues from license fees decreased $94,000 or 16% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001 and $246,000 or 22% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decreases in absolute dollars were due to the decrease in license revenues. Cost of revenues from license fees may vary between periods due to the mix of customers purchasing master disks, which are less expensive for us to produce relative to customers purchasing “shrinkwrapped” product.
 
Services.    Cost of revenues from services consists primarily of personnel costs and third-party consulting fees associated with providing software maintenance and support, training and system implementation consulting services. Cost of revenues from services decreased $1.9 million or 29% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001. The decrease was due to the mix of maintenance and support revenue compared to training and system implementation consulting revenue. Cost of

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revenues from services decreased $5.4 million or 37% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decrease was due to the mix of maintenance and support revenue compared to training and system implementation consulting services revenue, the workforce reduction and a benefit from the stock compensation charge. Cost of revenues from services may vary between periods due to the mix of maintenance and support revenues compared to training and system implementation consulting services revenue as it tends to be more labor intensive to provide training and system implementation consulting services. In addition, the cost of revenues from services may vary due to the volume and mix of services provided by our personnel relative to services provided by outside consultants and to varying levels of expenditures required to support the services organization. We expect that cost of services and the associated profit margins will remain flat, as a percentage of total revenues, with the results from the three months ended September 30, 2002.
 
Operating Expenses
 
Research and Development.    Research and development expenses consist primarily of personnel and related costs associated with the development of new products, the enhancement and localization of existing products, quality assurance and testing. Research and development expenses decreased $610,000 or 10% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001. The decrease was primarily due to overall cost reductions and lower payroll expenses and related benefits due to the previous workforce reductions. Research and development expenses decreased $2.9 million or 21% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decrease was primarily due to the workforce reduction, overall cost reductions and a benefit from the stock compensation charge. We expect that our research and development expenses will continue to vary as a percentage of total revenue as we may commit substantial resources to research and development in the future, as we believe that investment for research and development is essential to product and technical leadership. Specifically, we expect research and development expenses to increase as a percentage of total revenues due to localization of new products for sales into international markets.
 
Sales and Marketing.    Sales and marketing expenses consist primarily of salaries and other personnel related costs, commissions, bonuses and sales incentives, travel, marketing programs such as trade shows and seminars and promotion costs. Sales and marketing expenses decreased $3.8 million or 23% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001. The decrease was primarily due to overall cost reductions and lower commission expense in the sales organization due to the decrease in total revenues. Sales and marketing expenses decreased $9.7 million or 28% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decrease was primarily due to the workforce reduction, overall cost reductions and a one-time benefit from the stock compensation charge, as well as lower commission expenses in the sales organization due to the decrease in total revenues. We anticipate that sales and marketing expenses will increase as a percentage of total revenues due to our users’ conference scheduled in the quarter ending December 31, 2002, and the launch of new products.
 
General and Administrative.    General and administrative expenses consist primarily of personnel costs for finance, human resources, information systems and general management, as well as professional service fees such as legal, accounting and unallocated overhead expenses. General and administrative expenses decreased $765,000 or 26% for the three months ended September 30, 2002 compared to the three months ended September 30, 2001. The decrease was primarily due to a one-time benefit related to the reduction in accruals associated with Sqribe merger expenses in our German subsidiary, no additional allowance for doubtful accounts being required this quarter due to the decrease in our aged receivables, and overall cost reductions. General and administrative expenses decreased $2.3 million or 40% for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The decrease was primarily attributable to the one-time benefit from the stock compensation charge and overall cost reductions. We expect that our general and administrative expenses will remain consistent as a percentage of total revenues with the current quarter.
 
Restructuring Charges and Facility Closure Expenses.    Our Board of Directors had originally approved a restructuring plan to reduce operating expenses in June 2001. In April 2002, our Board of Directors approved a

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new restructuring plan as additional reductions were required to bring costs in alignment with revenues. During the three and six months ended September 30, 2002 and 2001, we recorded costs associated with the closure of certain facilities and related write-off of leasehold improvements and furniture and fixtures due to underutilization.
 
The restructuring charges and facilities closure expenses as of September 30, 2002 are as follows (in thousands):
 
    
Facility
Closure
Expenses
       
Severance and
Related
Benefits
       
Total
Restructuring
and Facility
Closure
Expenses
  
Accrual balance at March 31, 2002
   
$
84
 
     
$
24
 
     
$
108
 
Total charge in first quarter fiscal 2003
   
 
—
 
     
 
1,000
 
     
 
1,000
 
Amount utilized in first quarter fiscal 2003
   
 
(51
)
     
 
(618
)
     
 
(669
)
    
    
    
Accrual balance at June 30, 2002
   
 
33
 
     
 
406
 
     
 
439
 
Total charge in second quarter fiscal 2003
   
 
1,942
 
     
 
—
 
     
 
1,942
 
Amount utilized in second quarter fiscal 2003
   
 
(485
)
     
 
(173
)
     
 
(658
)
    
    
    
Accrual balance at September 30, 2002
   
$
1,490
 
     
$
233
 
     
$
1,723
 
    
    
    
 
For the three months ended September 30, 2002, we recorded approximately $1.9 million related to the closure of certain facilities and the write-off of leasehold improvements and furniture and fixtures. For the three months ended September 30, 2001, we recorded $996,000 in costs associated with severance and related benefits and approximately $217,000 related to the closure of certain facilities and the write-off of leasehold improvements and furniture and fixtures. For the six months ended September 30, 2002, we recorded approximately $1.0 million in costs associated with severance and related benefits and approximately $1.9 million related to the closure of certain facilities. For the six months ended September 30, 2001, we recorded approximately $1.4 million in costs associated with severance and related benefits and approximately $217,000 related to the closure of certain facilities. As of September 30, 2002, approximately $233,000 is classified in other accrued liabilities related to the remaining severance and remaining benefits. As of September 30, 2002, approximately $618,000 is classified in other accrued liabilities and approximately $872,000 is classified in other noncurrent liabilities related to the facility closures. We expect to make payments related to these closures over the next three years.
 
The facilities closure expenses include payments required under a lease contract, less applicable sublease income after the property was abandoned. To determine the lease loss, certain assumptions were made related to the (1) time period over which the building will remain vacant, (2) sublease terms, (3) sublease rates and (4) an estimate of brokerage fees. The lease loss is an estimate under SFAS No. 5, “Accounting for Contingencies,” and represents the low end of the estimate, considering time to sublease, actual sublease rates, and other variables. We have estimated that the high end of the lease loss could be an additional $657,000 if no suitable tenant is found to sublease the facility.
 
Stock Compensation Charges
 
In November 2001, we commenced an option exchange program under which eligible employees were given the opportunity to exchange approximately 7.5 million of their existing options to purchase our common stock for new options, with a new exercise price of $2.00 and the same vesting schedule as the original options. The right to exchange terminated on December 5, 2001, at which time 6.9 million shares had elected the option. This option exchange program is deemed an option repricing and therefore, variable plan accounting applies. For each interim period, we will determine the change in fair value of the options that have not been exercised,

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cancelled or expired, and will record a stock compensation expense based on the vesting schedule of the options. If there is a reduction in the market value of the options, we will record a reduction in the stock compensation expense, but not in excess of what has been recognized to date. For the three and six months ended September 30, 2002, we recognized a stock compensation benefit of zero and $3.2 million, respectively, relating to the option exchange program.
 
Stock Bonus Program
 
To conserve our cash until we could raise additional equity financing and to help us achieve cash flow positive results of operations for the fiscal year 2002, we temporarily reduced the salaries of all North American and some international employees during November 2001 and December 2001. To balance the impact on employees of the salary reduction, and to incent our employees to remain with us, we implemented a stock bonus program (the “Program”) in November 2001. Under the Program, if we achieved cash flow positive results of operations for the quarter ended December 31, 2001, employees who remained with us on various dates through July 2002, as set forth in the Program, would receive a fixed dollar bonus, payable at the discretion of our Board of Directors in either cash or shares of common stock. If amounts payable under the Program are paid in common stock, the number of shares to be issued is determined by the total value of the bonus divided by the market value of the stock on the applicable date of issuance. We achieved cash flow positive results of operations for the quarter ended December 31, 2001, and recorded an expense of $1.1 million for the bonus during fiscal 2002. The bonus was paid in three installments in January, May, and July 2002 by the issuance of 95,420, 68,424, and 128,136 shares of common stock, respectively. The total amount issued as stock, net of income taxes, is $618,000 and is classified in additional paid-in capital.
 
Loss on Disposal and Abandonment of Property and Equipment
 
In May 2002, we performed a physical count of our technology equipment and related components. As a result of the physical count, we recorded a write-off of $6.2 million in property and equipment, which had accumulated depreciation of $5.2 million and resulted in a loss on disposal of $964,000.
 
During the three months ended September 30, 2001, we recorded a write-off of $3.7 million related to the abandonment of property and equipment, specifically the write-off of costs associated with the implementation of Siebel’s sales force automation system. The abandonment and write-off was the result of significant changes implemented in the sales organization. In order to align the system with these changes, we had to modify and simplify our Siebel implementation, resulting in the abandonment of a significant portion of the system.
 
Interest and Other Income, Net
 
Interest and other income, net, is comprised primarily of interest income and foreign currency transaction gains or losses, and realized gains or losses from the sale of investments, net of interest expense. Interest and other income, net, decreased $187,000 for the three months ended September 30, 2002 compared to the three months ended September 30, 2001. The decrease was primarily due to a loss on foreign exchange due to the strengthening of the dollar against other foreign currencies. Interest and other income, net, increased $826,000 for the six months ended September 30, 2002 compared to the six months ended September 30, 2001. The increase was primarily related to a gain on foreign exchange due to the weakening of the dollar against the Euro and other foreign currencies. This gain was primarily driven by our intercompany payable balances between our foreign subsidiaries, which are eliminated in the presentation of Condensed Consolidated Balance Sheets. We anticipate continued fluctuations in foreign exchange, which we do not currently hedge against. Therefore, results will continue to vary based on such fluctuations in future periods.
 
Income Taxes
 
We recorded a provision for income taxes of $6,000 and $11,000 for the three months ended September 30, 2002 and 2001, respectively and $126,000 and $25,000 for the six months ended September 30, 2002 and 2001,

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respectively. The provisions consist primarily of taxes for certain profitable foreign subsidiaries. We will utilize net operating loss carryforwards to offset income taxes generated from domestic operations. However, given the uncertainty of achieving profitability during the remainder of fiscal 2003 and beyond, we maintain a valuation allowance to reduce the deferred tax benefit to the net realizable amount as of September 30, 2002.
 
Recent Accounting Pronouncements
 
In July 2001, the FASB issued SFAS No.’s 141 and 142, “Business Combinations” and “Goodwill and Other Intangibles”. SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Under SFAS No. 142, goodwill is no longer subject to amortization. Rather, goodwill is subject to at least an annual assessment for impairment applying a fair-value based test. Additionally, an acquired intangible asset should be separately recognized if the benefit of the intangible asset is obtained through contractual or other legal rights, or if the intangible asset can be sold, transferred, licensed, rented, or exchanged, regardless of the acquirer’s intent to do so. In accordance with the transition provisions, we adopted this standard effective April 1, 2002. The remaining balance of goodwill at April 1, 2002 was immaterial, and therefore, the impact of adopting this SFAS was insignificant.
 
In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 replaces SFAS No. 121 and certain provisions of APB Opinion 30. SFAS No. 144 establishes a single accounting model for long-lived assets to be disposed of and redefines the valuation and presentation of discontinued operations. The adoption of SFAS No. 144 on April 1, 2002 did not have a material impact on our consolidated financial statements.
 
In January 2002, the EITF issued EITF No. 01-14 “Income Statement Characterization of Reimbursements Received for Out of Pocket Expenses Incurred,” which concluded that the reimbursement of “out-of-pocket” expenses should be classified as revenue in the statement of operations. Effective January 1, 2002, we adopted EITF No. 01-14 and reclassified the statement of operations for the three and six months ended September 30, 2001 to conform to the current presentation. The effect of this adoption is an increase in revenues and cost of revenues of $42,000 and $458,000 for the three and six months ended September 30, 2001, respectively.
 
In June 2002, the FASB issued SFAS No. 146, ”Accounting for Costs Associated with Exit or Disposal Activities”, which addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. SFAS No. 146 is effective for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of commitment to an exit plan. SFAS No. 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized. We believe that the adoption of SFAS No. 146 will not have a material impact on our consolidated financial statements.
 
Liquidity and Capital Resources
 
In December 2001, we entered into an accounts receivable-based revolving bank line of credit with Foothill Capital Corporation. The line provides for up to $15.0 million in borrowings, with interest at the bank’s prime rate plus one percent (7.0% at September 30, 2002). Credit available under the line of credit will be reduced by the amount outstanding under a term loan in the amount of up to $5.0 million, with interest at the bank’s prime rate plus three percent (7.75% at September 30, 2002), and by any outstanding letters of credit. Borrowings under the bank line are limited to 80% of non-maintenance, domestic eligible accounts receivable. The line of credit is collateralized by substantially all of our assets, including our intellectual property, accounts receivable and property and equipment to the extent required to secure the line.
 
The line of credit with Foothill Capital initially required us to (a) maintain minimum EBITDA of $750,000 for the quarter ended March 31, 2002; $1,700,000 for the quarter ended June 30, 2002; $2,000,000 for the quarter

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ended September 30, 2002; and $1,800,000 for each quarter thereafter; (b) minimum recurring domestic maintenance revenues of $6,750,000 for each quarter; (c) minimum excess availability under the credit line plus cash equivalents of at least $4,000,000 at any time; and (d) maximum capital expenditures of $750,000 per quarter.
 
On February 27, 2002, we amended the initial line of credit with Foothill Capital to change the definition of EBITDA to add back extraordinary non-cash losses of up to $500,000 occurring before June 30, 2002 and stock compensation charges resulting from our stock option repricing.
 
Additionally, the covenants were amended on May 15, 2002 on a prospective basis requiring us to maintain a maximum EBITDA loss of $800,000 for the quarter ended June 30, 2002. Future covenant requirements are a minimum EBITDA of $800,000 for the quarter ended September 30, 2002; $1,200,000 for the quarter ending December 31, 2002; and $1,800,000 for each quarter thereafter. For the quarter ended September 30, 2002, the definition of EBITDA has also been amended to include a one-time add back of non-cash expense resulting from the devaluation of our computers and related technology in an aggregate amount not to exceed $3,000,000.
 
We were not in compliance with the minimum EBITDA covenant for the quarter ended September 30, 2002, due to expenses related to the closure of certain facilities, which resulted in a charge of $1.9 million; however, we obtained a waiver from the bank for this quarter’s requirement.
 
Although our ability to comply with these covenants is uncertain because of the risk factors highlighted in this document, we believe that we will be in compliance with these covenants through fiscal 2003. As of September 30, 2002, $3.8 million was outstanding under the term loan, of which $1.7 million is classified as short-term and $2.1 million is classified as long-term. The term loan amortizes over 36 months and requires monthly payments of $139,000 plus interest. The line of credit has prepayment penalties of up to three percent. The line of credit expires in December 2004. As of September 30, 2002, based on domestic eligible accounts receivable there were $7.8 million of additional borrowings available under the line of credit. As of September 30, 2002, no amounts other than the term loan are outstanding under the line of credit.
 
Net cash used in operating activities was $327,000 for the six months ended September 30, 2002 compared to $4.5 million for the six months ended September 30, 2001. The decrease in cash used of approximately $4.2 million was due to a decrease in non-cash operating activities of $6.3 million changes in operating assets and liabilities of approximately $5.4 million, offset by a decrease in net loss of approximately $15.9 million.
 
Net cash used in investing activities was $1.5 million for the six months ended September 30, 2002, consisting primarily of approximately $7.2 million for purchases of short-term investments, $1.2 million for purchases of property and equipment, net, offset by approximately $7.0 million of sales of short-term investments. Net cash used in investing activities was $3.7 million for the six months ended September 30, 2001, consisting primarily of approximately $5.9 million for purchases of property and equipment, net, offset by approximately $2.2 million of sales of short-term investments.
 
Net cash provided by financing activities was $384,000 for the six months ended September 30, 2002, consisting primarily of $1.2 million from proceeds from the issuance of common stock to employees under various incentive stock plans and $834,000 for repayments under our long-term debt. Net cash provided by financing activities was $8.4 million for the six months ended September 30, 2001, consisting primarily of $6.0 million from borrowings under our line of credit, $2.4 million from proceeds from the issuance of common stock to employees under various incentive stock plans and proceeds from the repayment of notes receivable from stockholders.
 
We have implemented several cash conservation measures to help improve our overall cash position. Specifically, we have cut expenses through reductions in headcount across the organization, reduced and/or eliminated cash bonus and cash incentive programs, reduced or eliminated employee fringe benefit programs and

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delayed or eliminated capital expenditure plans. We will continue to evaluate and implement additional cash conservation measures as circumstances dictate.
 
The following table summarizes our obligations to make future cash payments under non-cancelable contracts (in thousands):
 
    
Payments Due by Period
Contractual Obligations
   
Total
   
Less than
1 year
   
1-3 years
   
4-5 years
   
After
5 years
Long-term debt
   
$
3,750
   
$
1,667
   
$
2,083
   
$
—  
   
$
—  
Operating leases
   
 
43,042
   
 
3,367
   
 
12,907
   
 
10,505
   
 
16,263
    
  
  
  
  
Total contractual cash obligations
   
$
46,792
   
$
5,034
   
$
14,990
   
$
10,505
   
$
16,263
    
  
  
  
  
 
We will continue to evaluate possible acquisitions of, or investments in businesses, products and technologies that are complementary to ours, which may require the use of cash. Management believes existing cash, cash equivalents, short-term investments and existing credit facility will be sufficient to meet our operating requirements through September 30, 2003 based upon our projections, which have certain assumptions with regard to future levels of revenues and expenditures. If these assumptions are not achieved, additional cash may be required prior to September 30, 2003. We may sell additional equity or debt securities or modify or obtain credit facilities to further enhance our cash position. The sale of additional securities could result in additional dilution to our stockholders.
 
Risk Factors That May Affect Future Operating Results
 
We desire to take advantage of the “Safe Harbor” provisions of the Private Securities Litigation Reform Act of 1995 and of Section 21E and Rule 3b-6 under the Securities and Exchange Act of 1934. Specifically, we wish to alert readers that the following important factors, as well as other factors including, without limitation, those described elsewhere in reports we have filed with the SEC and incorporated into our annual report on Form 10-K, as amended, by reference, could in the future affect, and in the past have affected, our actual results and could cause our results for future periods to differ materially from those expressed in any forward-looking statements made by or on behalf of us. We assume no obligation to update these forward-looking statements.
 
Risks Factors Relating to Our Business
 
Our quarterly operating results have fluctuated in the past. We do not always meet financial analysts’ expectations, which has caused and may cause our share price to decrease significantly.
 
We have experienced, and expect to continue to experience, significant fluctuations in quarterly operating results. Our operating results are difficult to predict and we do not always meet the expectations of some securities analysts. If our operating results do not meet analysts’ expectations in the future, our common stock price could decrease significantly. For example, in the quarters ended June 30, 2001, September 30, 2001 and March 31, 2002, we did not meet analysts’ expectations for our revenues, expenses or earnings per share, and for the quarter ended September 30, 2002, we did not meet analysts’ expectations for our revenues. Following the announcements of the results for each of these quarters the price of our shares declined. There are a number of factors that contribute to the fluctuations in our quarterly operating results, including:
 
 
•
 
Long Sales Cycle.    Our sales cycle is typically six to twelve months long. Large-scale deployments take longer to evaluate, implement and close and they frequently require more customer education about the use and benefit of our products as well as requiring complex software license agreements. Additionally, unexpected budgeting constraints of our prospective customers, particularly during the recent period of worldwide economic slowdown, may arise during the course of a long sales cycle and may delay or disrupt sales. We anticipate that an increasing portion of our revenue could be derived

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from larger orders. Also, the product sales cycle in international markets has been, and is expected to continue to be, longer than the sales cycle in the United States and Canada. These issues make it difficult to predict the quarter in which the revenue for expected orders will be recorded. Delays in order execution could cause some or all of the revenues from those orders to be shifted from the expected quarter to a subsequent quarter or quarters.
 
 
•
 
Seasonality.    Seasonal changes in our customers’ spending patterns can cause fluctuations in our operating results. For example, in the past, our customers’ slower seasonal spending patterns have hurt our results of operations particularly in the quarters ending June 30 or September 30.
 
 
•
 
Weak Global Economic Conditions.    General economic conditions affect the demand for our products. Beginning in the June quarter of fiscal 2002, the slowing global economy caused many of our prospective customers to reduce budget allocations for technology spending. The terrorist attacks of September 11, 2001 and continued international violence have increased uncertainty as to the worldwide economic environment, which we believe caused deferral of information technology purchases including our products. In particular, the size of deals has declined during the past four quarters and we expect them to remain more conservative in size than in historical periods.
 
 
•
 
Introduction of Product Enhancements and New Products.    The announcement or introduction of product enhancements or new products by us or by our competitors, or any change in industry standards may cause customers to defer or cancel purchases of existing products. We anticipate continuing releases of new products and product enhancements throughout fiscal 2003.
 
 
•
 
Mix of License and Service Revenues.    Our revenues are derived from two sources, license fees and services. Both of these sources are essential to our business, but our profit margin is higher on license fees than it is on services. As the mix of license and service revenues varies between quarters, our profits fluctuate, which can cause fluctuations in our quarterly results. The mix of licensing fees and services is difficult to predict because it is influenced by many factors, some of which are beyond our ability to control, including the timing of new product introductions, success in promotion of new products, customers’ renewing maintenance and support contracts, customers’ needs for professional services and training and customers’ budgets for information technology spending.
 
There are many additional steps we must take in order to overcome our history of net losses, and there is no guarantee that we can accomplish these steps or that we will be profitable in the future.
 
We have a history of net losses. In particular, we incurred net losses of $25.7 million in fiscal 2002, $9.7 million in fiscal 2001, and $10.9 million in fiscal 2000. We had net losses of approximately $2.7 million and $963,000 during the three months and six months ended September 30, 2002, respectively. As of September 30, 2002, we had stockholders’ equity of approximately $16.6 million and an accumulated deficit of approximately $84.7 million. If we do not successfully take steps to overcome our net losses, we may never achieve profitability. Examples of areas that we must address to achieve profitability include:
 
 
•
 
Successfully Implementing Cost Reduction Measures.    We must continue to implement cost reduction measures to improve our overall cash position and align our expenses with revenues. However, this is challenging for us because if we implement too many cost reduction measures, we may lose the ability to attract, retain and motivate personnel, which could be detrimental to our business. For the fiscal year ended March 31, 2002, we cut expenses through a workforce reduction, a temporary salary reduction for all North American and some international employees, reduction or elimination of cash bonuses, cash incentive plans and some employee fringe benefits, and the delay or elimination of capital expenditure plans. In April 2002, we implemented an immediate 8% reduction in our worldwide workforce and in September 2002, we closed certain facilities due to underutilization.
 
 
•
 
Successfully Managing the Capacity of Our Direct Sales Force and Services Organization.    Maintaining more sales and service organization employees than is necessary to fulfill market opportunities leads to higher overhead costs without proportional revenue from greater product and service sales. If we fail to

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size the organization properly for market opportunities, it could have a negative impact on operating results.
 
 
•
 
Achieving Higher Rates of Revenue Growth.    Maintaining and increasing our rate of revenue growth is a significant factor for achieving profitability. We may not achieve or sustain the rates of revenue growth we have experienced in the past. Our prospects for increased future revenues depend on our ability to successfully increase the scope of our operations, expand and maintain indirect sales channels worldwide, improve our competitive position in the marketplace, educate the market on the need for deployment of enterprise-wide analytical solutions, and attract, retain and motivate qualified personnel.
 
 
•
 
Increasing Indirect Sales Channels while Maintaining Management Focus on Execution of Overall Strategy.    Selling our products through indirect sales channels, including VARs, PLPs, resellers, system integrators and distributors expands our reach into the marketplace. We need to attract and retain additional indirect channel partners that will be able to market our products effectively and provide timely and cost-effective customer support and services. We may not succeed in increasing indirect channel partner relationships, and this could limit our ability to grow revenues and achieve profitability. Managing indirect sales channels, however, may require more management attention than managing our direct sales force. If the indirect sales channels grow, management attention may be diverted, impairing our ability to execute other parts of our strategy. To date we have generated a majority of sales through our direct sales force. Our indirect sales channels accounted for less than 25% of total revenues for fiscal 2002 and less than 21% of total revenues in each of fiscal 2001 and 2000.
 
There are many strong competitors in our industry who may be more successful in attracting and retaining customers, which could result in fewer customer orders, price reductions, loss of market share and reduced gross margins.
 
We compete in the business intelligence software market. This market is highly competitive and we expect competition in the market to increase. Our competitors offer a variety of software solutions that our prospective customers could choose instead of our products. For example, Cognos and Business Objects offer business intelligence software that provides reporting and analysis capability that is similar to ours. There are also numerous other vendors such as MicroStrategy, Actuate and Crystal Decisions that are selling competitive products. Additionally, companies such as Microsoft, IBM and Oracle offer client products that operate specifically with their proprietary databases. These and other competitors pose business risks to us because:
 
 
•
 
They compete for the same customers that we try to attract;
 
•
 
If we lose customers to our competitors, it may be difficult or impossible to win them back;
 
•
 
Lower prices and a smaller market share could limit our revenue generating ability, reduce our gross margins and restrict our ability to become profitable or to sustain profitability; and
 
•
 
They may be able to devote greater resources to quickly respond to emerging technologies and changes in customer requirements or to the development, promotion and sales of their products.
 
Market consolidation may create more formidable competitors that are able to capture a larger market share.
 
Current and new competitors may form alliances, make strategic acquisitions or establish other cooperative relationships among themselves, thereby enhancing their ability to compete in our market with their combined resources. For example, in July 2002, Business Objects announced the acquisition of privately held Acta Technology, Inc. These types of agreements between our competitors could be harmful to our business because consolidated or allied competitors could:
 
 
•
 
Rapidly gain significant market share, possibly taking customers away from us;
 
•
 
Form relationships with our current or future indirect channel partners, possibly displacing our existing relationships and impeding our ability to expand our indirect sales channels; and
 
•
 
Force us to reduce prices to compete, possibly impacting our profitability or ability to become profitable.

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We may not successfully develop new and enhanced versions of our products that meet changing customer requirements in a timely manner, which could impair our ability to maintain market acceptance and remain competitive.
 
In our industry there is a continual emergence of new technologies and continual change in customer requirements. In order to remain competitive, we must introduce new products or product enhancements that meet customers’ requirements in a timely manner. If we are unable to do this, we may lose current and prospective customers to our competitors.
 
Our products incorporate a number of advanced and complex technologies, including data analysis systems, a distributed architecture, and Web access and delivery technology. Rapidly developing and delivering new and improved products is very challenging from an engineering perspective, and in the past, particularly with our efforts in the UNIX server environment, we experienced delays in software development. We may experience these types of delays in future product development activities.
 
The new and enhanced versions of our products may not offer competitive features, or be successfully marketed to our customers and prospective customers, or enable our current install base to easily migrate their existing applications to the newest version of our product, which could hurt our competitive position.
 
We must successfully market new and enhanced versions of our products for customers to remain competitive with our competitors’ products and to maintain our current market position. In order to be competitive and well received in the marketplace, our new products and product enhancements must:
 
 
•
 
Provide a complete offering of product features including analytical capabilities, open architecture, extranet capability and scalability;
 
•
 
Provide top level performance, quality, and ease-of-use;
 
•
 
Provide the necessary migration tools and aids to migrate our existing install base to the newest version of our product;
 
•
 
Include customer support packages;
 
•
 
Be completed and brought to market in a timely manner;
 
•
 
Minimize the inclusion of major defects and errors; and
 
•
 
Be competitively priced.
 
Our failure to compete favorably in these areas could limit our ability to attract and retain customers, which could have a material adverse effect on our business, operating results and financial conditions.
 
We may not successfully market larger, enterprise-wide implementations of our products, which could impair our future revenue growth.
 
We expect that larger, enterprise-wide implementations of our products will constitute an increasing portion of any future revenue growth, so we must successfully market and focus our selling efforts on these enterprise-wide implementations. Failure to succeed in this effort may limit our growth potential and adversely impact our business goals. In the past our selling efforts have resulted in limited enterprise-wide implementations of our products. We believe that most companies are not yet aware of the benefits of enterprise-wide business intelligence solutions. Additional risks of focusing our selling efforts on this area include:
 
 
•
 
That our efforts may not be sufficient to build market awareness of the need for enterprise-wide solutions;
 
•
 
That the market may not accept our products for enterprise-wide solutions; and
 
•
 
That the market for enterprise-wide solutions may not be as large as we anticipate and it may not continue to grow.

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Defects in our products could increase our costs, adversely affect our reputation, diminish demand for our products, and hurt our operating results.
 
As a result of their complexity, our software products may contain undetected errors or viruses. Errors in new products or product enhancements might not be detected until after initiating commercial shipments, which could result in additional costs, delays, possible damage to our reputation and could cause diminished demand for our products. This could lead to customer dissatisfaction and reduce the opportunity to renew maintenance or sell new licenses.
 
Also, any defects or viruses found in our products by our customers could cause our customers to seek damages for loss of data, lost revenue, systems costs or other harm they suffer. Our license agreements with customers typically contain provisions designed to limit our exposure for potential claims based on product error or malfunctions. These limitations of liability provisions may not be effective under the laws of all jurisdictions. Our insurance against product liability risks may not be adequate to cover a potential claim. A product liability claim brought against us could adversely affect our reputation, operating results and financial condition.
 
Because we depend on a direct sales force, any failure to attract and retain qualified sales personnel could slow our sales, impeding our revenue generating ability and causing significant financial and operational risks.
 
We depend on a direct sales force for the majority of our product sales. We may not be able to attract and retain qualified sales personnel. Due to the state of the economy and the increasingly competitive nature of the marketplace, fewer members of our sales force met quotas in fiscal year 2002 and for the first two quarters of fiscal 2003 than in historical periods. This issue, in addition to our recent reduction or elimination of cash bonuses, cash incentive plans and some employee fringe benefits, may make it difficult for us to retain a qualified sales force. We have experienced significant turnover of our sales force, including three Executive Vice Presidents of Worldwide Sales in the last seventeen months. As turnover tends to slow our sales efforts while replacement personnel are recruited and trained, our revenue generating ability may be impaired.
 
We may not continue to attract and retain high quality employees in our management, engineering, consulting and marketing departments. Our success depends to a significant degree upon the continued contributions from these employees.
 
Our success depends to a significant degree upon the continued contribution from employees in our management, engineering and marketing departments. If we fail to attract and retain high quality employees, our business operations and operating revenues may be impaired. Our recent or historic workforce reductions may hurt the morale and loyalty of our employees. Additionally, the recent reduction or elimination of cash bonuses, cash incentive plans and some employee fringe benefits may reduce incentives for our employees to remain with us.
 
Our patented intellectual property rights may not be sufficient to provide us competitive advantages in our industry.
 
We have two issued patents and fifteen pending patent applications. The patent applications may not result in the issuance of a patent, and we may not obtain any more patents. Our issued patents and any additional patents issued to us may be invalidated, circumvented or challenged, and the rights granted under these patents might not provide us competitive advantages.
 
Our intellectual property protection may not be adequate to prevent competitors from entering our markets or developing competing products, which could reduce our revenues or cause us to incur costly litigation.
 
We rely primarily on a combination of copyright and trademark laws, trade secrets, confidentiality procedures and contractual provisions to protect our intellectual property rights. The legal protection is limited.

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Unauthorized parties may copy aspects of our products and obtain and use information that we believe is proprietary. Other parties may breach confidentiality agreements or other protective contracts they have made with us. Policing unauthorized use of our products is difficult, and while we are unable to determine the extent to which piracy of our software products exists, we expect software piracy to be a persistent problem.
 
The laws of many foreign countries do not protect our intellectual property rights to the same extent as the laws of the United States. Litigation may be necessary to enforce our intellectual property rights. Intellectual property litigation is time-consuming, has an uncertain outcome and could result in substantial costs and diversion of management’s attention and resources. For example, in 1997 Business Objects instituted patent litigation against us and in 1999 we instituted patent litigation against Business Objects. These lawsuits took a total of two years and eight months to conclude. Additionally, as a smaller company with limited resources, we may choose not to pursue some patent litigation claims against competitors who may be violating our patents.
 
Our plans to expand internationally expose us to risks related to managing international operations, currency exchange rates, regulatory and other risks associated with foreign operations. We may not successfully address these risks, which could harm our operating results.
 
A key component of our strategy is continued expansion into international markets. If the international revenues generated by these expanded operations are not adequate to offset the expense of establishing and maintaining these foreign operations, our business, operating results and financial condition could be materially harmed. In our efforts to expand our international presence we will face certain risks, which we may not be successful in addressing. These risks include:
 
 
•
 
Difficulties localizing our products for foreign countries;
 
•
 
Difficulties finding staff to manage foreign operations and collect cash;
 
•
 
Liability or financial exposure under foreign laws and regulatory requirements; and
 
•
 
Potentially adverse tax consequences.
 
Additionally, our international sales are generally denominated and collected in foreign currencies, and we have not historically undertaken foreign exchange hedging transactions to cover potential foreign currency exposure. We incurred losses on foreign currency translations resulting from inter-company receivables from foreign subsidiaries in fiscal 2001, fiscal 2000, and gains in fiscal 2002 and the first six months of fiscal 2003.
 
We may acquire new businesses and technologies, as well as enter into business combinations, which may involve integration and transaction completion risks, and which could negatively impact our business.
 
In August 1999 we acquired SQRIBE Technologies Corp. (SQRIBE). Since that time we have considered various other business combination opportunities. We may in the future pursue and enter into other business combinations. Acquisitions could disrupt our ongoing business and distract the attention of management. Additionally, we may not be successful in assimilating the operations and personnel of the acquired companies, which could materially harm our business. Acquisitions also expose us to unknown liabilities and additional costs for technology integration. For example, it proved very difficult to integrate the sales, development and support teams between SQRIBE and us due to differences in culture, geographical locations and duplication of key talent. This resulted in higher than expected operating expenses in fiscal 2000.

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Risks Related to our Securities Market and Ownership of Our Common Stock
 
We have anti-takeover provisions that may adversely affect our stock price and make it more difficult for a third party to acquire us.
 
Our charter documents contain provisions that may delay or prevent us from a change in control. These include provisions:
 
 
•
 
Creating a classified board of directors;
 
•
 
Eliminating cumulative voting;
 
•
 
Eliminating the ability of stockholders to take actions by written consent; and
 
•
 
Limiting the ability of stockholders to raise matters at a meeting of stockholders without giving advance notice.
 
Delaware law also imposes some restrictions on mergers and other business combinations between us and any holder of 15% or more of our outstanding common stock.
 
Additionally, our board of directors has authority to issue up to 2,000,000 shares of preferred stock and to fix the rights and preferences of these shares, including voting rights, without stockholder approval. The rights of our common stock holders may be adversely affected by the rights of the holders of any preferred stock that we may issue in the future. The issuance of preferred stock could have the effect of making it more difficult for a third party to acquire a majority of our outstanding voting stock, thereby delaying, deferring or preventing a change in control. These provisions apply even if the offer may be considered beneficial by some stockholders.
 
Our stock price may be volatile because of the stock price volatility of other companies in our industry, and as a result you may lose all or part of your investment.
 
The market price of our common stock has experienced periods of high volatility and it is likely that the market price of our common stock will continue to be volatile. Broad market fluctuations, as well as economic conditions generally and in the software industry specifically, may result in material adverse effects on the market price of our common stock.
 
The cost of possible securities class action litigation could increase our expenses and damage our reputation with prospective and existing customers.
 
Securities class action litigation has often been instituted against companies following periods of volatility in the market price of their securities. Our common stock price has been volatile, fluctuating from a low sales price of $0.72 to a high sales price of $4.62 during the fifty-two weeks ended September 30, 2002. If litigation were instituted against us, it could result in substantial costs and a diversion of management’s attention and resources, which could have a material adverse effect on our business, operating results and financial condition.
 
We need to maintain qualified, independent directors to comply with new corporate governance reform initiatives and failure to do so could result in the delisting of our common stock from Nasdaq.
 
On October 9, 2002, Nasdaq filed proposed rule changes in connection with the recent, widely publicized corporate governance reform initiatives. The rule changes could be approved by the SEC at any time following the 30 day public comment period. The rule changes include requirements that (1) a majority of the Board of Directors be independent, and (2) the audit committee have at least three independent directors. On September 18, 2002 our Board of Directors approved the appointment of John Mutch as an additional independent director to our Board of Directors. Mr. Mutch was also appointed to serve on our Audit Committee. As such, if the new rules in the proposed format were adopted today, we would be at the minimum required numbers and levels for compliance. However, there is a risk that we will not be able to maintain the requisite number of qualified, independent directors to satisfy the new rules, and failure to do so, or to comply more generally with such new rules, could result in our delisting from Nasdaq, which could materially impair stockholders’ ability to engage in transactions involving our stock and impair the liquidity of our stock.

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Item 3.    Quantitative and Qualitative Disclosures About Market Risk.
 
Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio. We maintain an investment policy, which ensures the safety and preservation of our invested funds by limiting default risk, market risk and reinvestment risk. As of September 30, 2002, we had $14.0 million of cash and cash equivalents and $11.4 million of short-term investments with a weighted average variable rate of 2.6%.
 
We mitigate default risk by investing in high credit quality securities and by constantly positioning our portfolio to respond appropriately to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity and maintains a prudent amount of diversification.
 
We currently have limited cash flow exposure due to rate changes for long-term debt obligations. We have entered into borrowing agreements to support general corporate purposes including capital expenditures and working capital needs, should the need arise. As of September 30, 2002, $3.8 million was outstanding under the term loan (See Note 2 in Notes to Condensed Consolidated Financial Statements), of which $1.7 million is classified as short-term and $2.1 million is classified as long-term. The term loan is due over 36 months in monthly payments of $139,000 plus interest.
 
We conduct business on a global basis in international currencies. As such, we are exposed to adverse or beneficial movements in foreign currency exchange rates. We may enter into foreign currency forward contracts to minimize the impact of exchange rate fluctuations on certain foreign currency commitments and balance sheet positions. At September 30, 2002 there were no outstanding foreign currency exchange contracts.
 
Item 4.    Evaluation of Disclosure Controls and Procedures
 
(a)  Evaluation of disclosure controls and procedures.    We evaluated the design and operation of our disclosure controls and procedures to determine whether they are effective in ensuring that the disclosure of required information is timely made in accordance with the Exchange Act and the rules and forms of the Securities and Exchange Commission. This evaluation was made under the supervision and with the participation of management, including our chief executive officer and chief financial officer, as of a date (the “Evaluation Date”) within 90 days before the filing of this Quarterly Report on Form 10-Q. The chief executive officer and chief financial officer have concluded, based on their review, that our disclosure controls and procedures, as defined at Exchange Act Rules 13a-14(c) and 15d-14(c), are effective to ensure that information required to be disclosed by us in reports that we file under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.
 
(b)  Changes in internal controls.     There were no significant changes in our internal controls or to our knowledge, in other factors that could significantly affect our disclosure controls and procedures subsequent to the Evaluation Date.

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PART II. OTHER INFORMATION
 
Item 1.    Legal Proceedings.
 
Not applicable.
 
Item 2.    Changes in Securities and Use of Proceeds.
 
Not applicable.
 
Item 3.    Defaults Upon Senior Securities.
 
Not applicable.
 
Item 4.    Submission of Matters to Vote of Security Holders.
 
At Brio’s Annual Meeting of Stockholders on August 21, 2002, Brio’s stockholders approved the following items:
 
 
1.
 
The election of the following individuals as directors of Brio:
 
    
For
   
Authority
Withheld
Craig D. Brennan
   
26,681,550
   
584,861
Yorgen H. Edholm
   
27,115,938
   
150,473
Ernest von Simson
   
27,117,697
   
148,714
 
2. The ratification of the appointment of KPMG LLP as Brio’s independent public accounts for the fiscal year ending March 31, 2003.
 
For:    27,222,344
   
Against:    24,633
   
Abstain:    19,434
   
Broker non-votes:    None
 
Item 5.    Other Information.
 
On September 18, 2002 our Board of Directors approved the appointment of John Mutch as an additional member of our Board of Directors. Mr. Mutch was also appointed to serve on our Audit Committee.
 
In accordance with Section 10A(i)(2) of the Securities Exchange Act of 1934, as added by Section 202 of the Sarbanes-Oxley Act of 2002 (the “Act”). We are required to disclose the non-audit services approved by our Audit Committee to be performed by KPMG LLP, our external auditor. Non-audit services are defined in the Act as services other than those provided in connection with an audit or a review of the financial statements of a company. The Audit Committee has approved the engagement of KPMG LLP for the following non-audit services: (1) tax matter consultations concerning state taxes and (2) the preparation of federal and state income tax returns.
 
Item 6.    Exhibits and Reports on Form 8-K.
 
 
(a)
 
Exhibits:
 
None.
 
 
(b)
 
Reports on Form 8-K:
 
We filed two reports on Form 8-K during the three months ended September 30, 2002. Information regarding these items reported on are as follows:
 
Date
   
Item Reported On
July 9, 2002
   
Changes in Registrant’s Certifying Accountants
August 14, 2002
   
Regulation FD Disclosure

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SIGNATURE
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
BRIO SOFTWARE, INC.
By:
  
/s/    CRAIG COLLINS        
   
Craig Collins
Chief Financial Officer (Principal Financial
and Accounting Officer)
 
Date:  November 14, 2002

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Certifications
 
I, Craig D. Brennan, certify that:
 
1.  I have reviewed this quarterly report on Form 10-Q of Brio Software, Inc.;
 
2.  Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3.  Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4.  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
 
a)  designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
 
b)  evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
 
c)  presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
 
5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
a)  all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
 
b)  any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
 
6.  The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
 
Date: November 14, 2002
 
/s/    CRAIG D. BRENNAN
Craig D. Brennan
President and Chief Executive Officer

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I, Craig B. Collins, certify that:
 
1.  I have reviewed this quarterly report on Form 10-Q of Brio Software, Inc.;
 
2.  Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3.  Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4.  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
 
a)  designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
 
b)  evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
 
c)  presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
 
5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
 
a)  all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
 
b)  any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and
 
6.  The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
 
Date:  November 14, 2002
 
/s/    CRAIG B. COLLINS
Craig B. Collins
Chief Financial Officer and Executive Vice President, Finance and Operations

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