CYBERSOURCE CORP - 10-K Annual Report

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities and 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. x Yes ¨ No

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

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

The aggregate market value of voting and non-voting common equity held by non-affiliates of the registrant as of June 30, 2004 was approximately $214.6 million (based on a closing sale price of $8.36 per share as reported for the NASDAQ National Market on such date). Shares of Common Stock held by officers and directors have been excluded from this calculation because such persons may be deemed to be affiliates.

The number of shares of the registrant’s Common Stock, $.001 par value per share, outstanding as of March 1, 2005 was 33,493,887.

Documents incorporated by reference: Part III of this Form 10-K incorporates information by reference from the registrant’s Proxy Statement for its 2005 Annual Meeting of Stockholders.

The statements contained in this Report on Form 10-K that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including, without limitation, statements regarding the Company’s expectations, objectives, anticipations, plans, hopes, beliefs, intentions or strategies regarding the future. Forward-looking statements include, without limitation, statements regarding (a) estimates regarding the potential growth of online sales, (b) Europe’s pace of growth, (c) our statement that ecommerce sales are growing by 24% per year, far faster than the 11% growth rate of traditional in-store credit card purchases, (d) the trend among some of our large U.S. customers seeking greater and more ready access to international markets (e) data suggesting that the overall cost of fraud, which includes the cost of fraud management and the rejection of good orders, continues to rise, (f) online merchants’ increasing focus on meeting regulatory requirements in areas such as collection of sales taxes and (g) our goal of providing a single source solution that simplifies and optimizes online payment under “Item 1, Business—Market Characteristics”; the statement regarding our belief that enterprises will demand a payment service capable of supporting multiple, independent sales channels and enterprises see significant benefit in being able to manage and control a single transaction payment platform under the heading “Item 1, Business—Technology”; statements regarding (a) our belief that our well-defined software development methodology enables us to deliver software services that satisfy real business needs for the global market while meeting commercial quality expectations and (b) our belief that a strong emphasis placed on analysis and design early in the project lifecycle reduces the number and costs of defects that may be found in later stages under the heading “Item 1, Business—Product Development”; the statement regarding our belief that our success depends upon our proprietary technology and licensed technology under the heading “Item 1, Business—Intellectual Property”; the statement regarding our technology, processes, and people enabling us to deliver the highest level of services and performance to our customers under the heading “Item 1, Business—Operations”; the statement regarding our solutions alliances and strategic alliance resulting in cooperative development efforts, streamlining of integration capabilities and leveraged marketing efforts under the heading “Item 1, Business—Sales and Marketing”; the statement regarding our beliefs with respect to our systems and processes enabling us to comply with the Fair Credit Reporting Act if we were deemed a consumer reporting agency under the heading of “Item 1, Business—Regulations”; statements regarding (a) our belief that the potential adverse effects of the lawsuit would be borne by our insurers and (b) statements regarding our belief that litigation outcomes of class action lawsuits and other claims would not have a material effect on our consolidated financial condition, results of operations or cash flows under the heading of “Item 3, Legal Proceedings” and under “Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies”; statements regarding (a) increasing demand for outsourced solutions, (b) our expectation that product development expenses will increase in absolute dollars during 2005 as we increase headcount to support the development of newly offered services, (c) our expectation that sales and marketing expenses will increase in absolute dollars during 2005 as we increase headcount to support our revenue growth, (d) our expectation that general and administrative expenses in 2005 will be consistent with 2004, (e) our expectation that interest income during 2005 will increase due to higher cash, cash equivalents and short-term investment balances and (f) our belief that the uncertainty regarding the ability to realize our deferred tax assets may diminish under the heading “Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Results of Operations”, the statement regarding our belief that our cash and short-term investment balances will be sufficient to meet our working capital requirements for at least the next twelve months under the heading “Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources”; the statement regarding our anticipation that our operating expenses are relatively fixed in the short term under the heading “Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations—Risk Factors”; statements regarding (a) our intention to vigorously defend against the lawsuits and (b) our belief that there are no claims or actions pending or threatened against us, the ultimate disposition of which would have a material impact on our financial position or results of operations, under the heading “Item 8, Financial Statements and Supplementary Data—Notes to Consolidated Financial Statements—Note 12—Litigation and Contingencies”; and statements regarding (a) our goal of monitoring our internal controls for financial reporting and making modifications as necessary and (b) our intent that the internal controls for financial reporting be maintained as dynamic systems that change (including improvements and corrections) as conditions warrant under the heading “Item 9A, Controls and Procedures—Internal Control Over Financial Accounting.”

All forward-looking statements included in this document are based on information available to the Company on the date hereof, and the Company assumes no obligation to update any such forward-looking statements. It is important to note that the Company’s actual results could differ materially from those included in such forward-looking statements. Factors that could cause actual results to differ materially from the forward looking statements include risks and uncertainties detailed throughout this Annual Report, and in particular in the “Risk Factors” section at the end of “Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations”. Such factors include but are not limited to the following cautions: (1) We are subject to the risks encountered by early stage companies, such as risks of intense competition and rapid technological change in our industry, risks that we may not be able to fully utilize relationships with our strategic partners and indirect sales channels, risks that any fluctuations in our quarterly operating results will be significant relative to our revenues and risks that we may not be able to adequately integrate acquired businesses; (2) We may incur future losses and there is no assurance that we will realize sufficient revenues to achieve ongoing profitability; (3) Our competitors may be able to respond more quickly to new or emerging technologies and changes in customer requirements; (4) Potential system failures, compromised security measures or lack of capacity issues could negatively affect demand for our services; (5) Growth in the significance of the Internet as a commercial marketplace may occur more slowly than anticipated; (6) We may not be successful in attracting and/or retaining key employees in the future, (7) Third parties may claim that the technology employed in providing our current or future products and services infringes upon their rights and (8) Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. These cautionary statements should be considered in the context of such factors, as well as those disclosed from time to time in the Company’s Reports on Forms 10-Q and 8-K.

CyberSource Corporation (“CyberSource” or the “Company”) provides secure electronic payment and risk management solutions to organizations that process orders for goods and services over the Internet. CyberSource’s payment solutions allow eCommerce merchants to accept a wide range of online payment options, from credit cards and electronic checks, to global payment options and emerging payment types. Our risk and compliance management tools address complexities common to online merchants such as credit card fraud, online tax requirements, and export controls. Our reporting and management tools facilitate the automation of the flow of complex eCommerce processes, such as recurring billing and payment reconciliation. We partner with and connect to a large network of payment processors and other payment service providers to offer merchants a single source solution.

Traditionally, our target customer base has been medium and large enterprises, but during the last three years we have also focused development and marketing efforts on the small business segment. In 2004, we processed approximately 436 million transactions, a 50% increase over 2003. The dollar value of all credit card authorization requests we processed in 2004 exceeded $16 billion, an average of nearly $1.8 million per hour.

Operated as a division of Beyond.com since March 1996, CyberSource Corporation was spun-off and incorporated in Delaware in December 1997 under the name Internet Commerce Services Corporation. In October 1998, we changed our name to CyberSource Corporation. Our headquarters is located at 1295 Charleston Road, Mountain View, California 94043, and our telephone number is (650) 965-6000. We maintain a website at www.cybersource.com. The reference to this website address does not constitute incorporation by reference of the information contained therein.

Our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports, and the Proxy Statement for our Annual Meeting of Stockholders are made available, free of charge, on our website, www.cybersource.com, as soon as reasonably practicable after the reports have been filed with or furnished to the Securities and Exchange Commission.

In 1997, Forrester Research estimated the total U.S. online consumer market to be $2.4 billion. Their total estimate of U.S. business-to-consumer online sales for 2004 is $144.6 billion, a six year compounded annual growth rate of 80%. Forrester estimates U.S. eCommerce revenues for 2005 will be $167.6 billion. Online sales in Europe are growing at an even faster pace. Forrester estimates that eCommerce revenues in Europe were $90.3 billion in 2004 and will be $127.4 billion in 2005, both in U.S. dollars. Though eCommerce sales represent only 1.9% of sales by U.S. retailers, eCommerce sales are growing by 24% per year, far faster than the 11% growth rate of traditional in-store credit card purchases.

As the online commerce market has grown, business requirements and attitudes about electronic commerce have evolved. What began as an online sales experiment for many organizations has become a strategic component of their business plan. Although credit cards have long been the dominant payment method available to online purchasers, alternative consumer preferences and cultural preferences have impacted the global payment environment. A wide spectrum of payment options, such as debit cards, electronic checks, stored value certificates, and online payment innovations such as PayPal are emerging worldwide. Since 2002, we have experienced a noticeable trend among some of our large U.S. customers that seek greater access to international markets, especially Europe. Conducting online commerce internationally involves supporting more payment types, currency conversions, new payment processors and mitigating higher fraud risk.

The growth of eCommerce has also resulted in more complexity with internal business processes. Online fraud has evolved into an organized and systemic threat to online merchants. The latest “CyberSource Fraud Survey,” sponsored by CyberSource and conducted by Mindwave Research in October 2004, concluded that online sellers expected fraudulent transactions to cost them 1.8% of revenues, on average, in 2004. Though that is statistically equivalent to the direct fraud cost projected by the prior year’s survey, the data suggests that the overall cost of fraud, which includes the cost of fraud management and the rejection of good orders, continues to rise. The cost of fraud management is incurred, for example, when merchants require manual intervention, a step that slows order processing and increases costs. Among other things, we are focused on improving our automated management tools to speed the appropriate disposition of orders.

Online merchants are also giving increased focus to meeting regulatory requirements in areas such as collection of sales taxes. U.S. merchants are gradually moving toward adding sales tax to their online orders as state and local governments focus

on this revenue source. European Union regulations adopted in July 2003 require that all online sellers of digital goods collect the applicable value-added tax for sales in the European Union.

The combination of these market trends is making the management of electronic payment transactions more complex. Online merchants are finding the need to maintain technical and financial connections with a number of different payment processors and service providers, integrate those disparate connections with a number of internal business systems, allocate manual resources to keep up with the pace of online sales, and comply with statutory requirements. CyberSource focuses on enabling our customers to meet these market requirements simply and cost effectively. Our goal is to provide a single source solution that simplifies and optimizes online payment.

CyberSource solutions are made available to customers through hosted services, enterprise software, or a combination of the two. Merchants that elect to outsource processing to CyberSource use our hosted services. Merchants that prefer to maintain processing internally and establish connections directly to processors use our enterprise software, called CyberSource Payment Manager. Both platforms are augmented by CyberSource Professional Services, which provides consulting, design, integration, and optimization services.

Over 6,000 customers use our hosted transaction processing services. Key attributes of our hosted services include redundancy of networks and data centers, strict security, and high capacity. In 2004, Visa, U.S.A., Inc. renewed CyberSource’s certification in the Visa Cardholder Information Security Program and CyberSource completed certification requirements for the new MasterCard Site Data Protection program. The company is also compliant with Visa International’s Account Information Security certification program.

CyberSource packaged software offerings consist of CyberSource Payment Manager and Decision Manager Custom Edition. CyberSource Payment Manager connects the merchant’s business systems with a variety of payment processors. CyberSource Decision Manager Custom Edition is our enterprise software product for risk management. Decision Manager Custom Edition provides a central software platform for order process management, enabling merchants to automatically determine whether to accept, review, or reject incoming orders.

Our customers range in size from small sole proprietorships to some of the world’s largest corporations and institutions. To properly serve this diverse set of needs, CyberSource divides its addressable market into two segments, both of which require different solutions. Merchants and institutions that have high sales volume generally demand the greatest range of payment options and the most sophisticated risk and management tools. These customers often sell in multiple countries and require support for local currencies and local payment options. High volume customers also frequently need to integrate payment processing with one or more internal business systems. Smaller merchants generally seek simplicity and ease of use. CyberSource addresses these needs with bundled services and integrations into popular online shopping cart software, while bringing to the small business market some of the advantages of CyberSource’s enterprise-level services, including important new payment options such as electronic checks, PayPal, and subscription payment, as well as reliability and high-quality customer support.

For the enterprise customer, CyberSource offers a comprehensive set of payment products and services. Requirements of these larger merchants typically include acceptance of all major credit cards, the ability to bill customers at regular monthly intervals, support for international payment options, sophisticated fraud prevention, and tools to automate internal processes to reduce the administrative costs and burdens of accepting online orders.

CyberSource Advanced enables merchants to accept payments made by all major credit or charge cards including American Express, Discover, Diners Club, JCB, MasterCard, and Visa cards. CyberSource customers can also accept payment by corporate procurement cards, electronic checks, and the Bill Me Later service. Merchants that have business models based on subscriptions can take advantage of the CyberSource recurring billing service. For merchants selling internationally, CyberSource supports direct debit, and bank transfer.

CyberSource Essentials gives businesses the ability to accept major credit cards via their websites as well as process telephone, facsimile, and mail order payments using a web-based virtual terminal. CyberSource Essentials includes support for payment options such as eChecks, PayPal, and subscription payment along with our reliability and high quality customer support.

CyberSource Payment Manager is an enterprise software processing platform that operates behind the scenes to authorize and settle payments originating from one or more sales channels. Once installed on the merchant’s servers, CyberSource Payment Manager receives transaction requests from the merchant’s commerce platform, contact center application, point-of-sale or enterprise resource planning system. CyberSource Payment Manager routes those requests to the payment network for authorization, either through our connections or packaged software gateways, and returns the results to dependent business systems.

The CyberSource suite of modular, scalable services, ranging from fully managed services to individual tools, is designed to help merchants address the growing challenge of online fraud. CyberSource solutions can be implemented as a single component or as fully-integrated systems, and can be managed in-house, outsourced, or constructed as a blend of both.

This service provides the professional analysis, design, modeling and monitoring services required to optimize transaction conversion, while minimizing manual review and fraud risk associated with card-not-present transactions. We collaborate with customers to set business metrics, review performance, and provide business tools.

We offer a range of decision management systems ranging from hosted solutions that include custom rule and case management capabilities to locally managed software that can be customized to the merchant’s installation. Hosted risk services are marketed as CyberSource Decision Manager Standard Edition and CyberSource Decision Manager Advanced Edition. Software installed and managed locally by merchants is marketed as CyberSource Decision Manager Custom Edition. These systems include interfaces to our risk scoring service as well as other external services and the merchant’s own data.

CyberSource Advanced Fraud Screen enhanced by Visa (AFS), the only risk scoring service endorsed and enhanced by Visa U.S.A, Inc., provides a real-time fraud risk assessment. AFS relies on a patented process blending multiple risk models, assessing over 150 attributes of the transaction and transaction histories, to determine the fraud risk associated with a card-not-present order. The results from AFS include a numerical risk score as well as risk profile codes indicating the types of risk detected by the system.

Through a single connection to CyberSource, CyberSource customers can use card association authentication systems such as Verified by Visa and MasterCard Secure Code.

We offer Delivery Address Verification (DAV) services to verify the validity of addresses worldwide and comply with the U.S. Postal Service’s requirements, such as bar code and carrier route identification. If an address is in error and is found to be correctable, DAV will return a corrected address and identify address elements in error.

Online organizations often require tools to facilitate tax payment and export regulatory compliance. The CyberSource Tax Service calculates sales and use taxes for over 60,000 taxing jurisdictions in the United States and Canada and supports value added tax calculation in 28 countries. The CyberSource Export Compliance service helps online merchants comply with U.S. Government export regulations by comparing orders against a changing list of denied countries or persons.

Building upon our experience in eCommerce, we employ a team of experts that can help merchants operate effective online businesses. The CyberSource Professional Services group provides business and technical consulting services including technology selection, analysis of impacts of the online business on internal processes, devising merchant-specific risk management strategies, systems installation, integration of CyberSource products and services with the merchants’ existing internal systems, building custom reporting tools, disaster recovery planning, and security consulting.

Our transaction processing system employs a modular architecture designed for scalability, reliability, extensibility and performance. This system is composed of multiple groups of servers and routers that appear as a single point of contact to our customers’ systems. This system also utilizes the latest industry standards to maximize compatibility with our customers’ commerce systems. In addition, we have implemented a global network of telecommunications access points that are designed to optimize transaction processing response times and to mitigate the effects of system failures. The primary software components of our system are the transaction databases, the commerce processing engine, the commerce services applications, the CyberSource Order Processing API, the Simple Commerce Messaging Protocol (SCMP) and respective client software.

Two primary databases form the core of our transaction processing system: the transaction processing database, which maintains information necessary to process each individual transaction, and the post-transaction database, which generates and provides detailed information about customers’ transactions, with advanced reporting capabilities available in XML and other formats.

Our commerce engine manages workflow functions and the required communications between our servers, our database, and our processors, including Barclays Bank, First Data Corporation, Paymentech, Streamline (provided by the Royal Bank of Scotland Group), Vital Processing Services and others. Our commerce engine is designed to meet the transaction processing demands of our customers in a secure, fast, efficient, reliable, scalable and interoperable manner and was designed to scale rapidly to balance and handle peak transaction processing loads. Additional Commerce Engine servers can be readily added to accommodate increased customer demand.

We have developed and licensed a set of software applications that perform the hosted services. These services include credit card processing, electronic check processing, order decision management, gift and promotional certificates, Bill Me Later payment service, payer authentication, PayPal, CyberSource Advanced Fraud Screen enhanced by Visa, tax services, delivery address verification, and export compliance. These applications contain the rules and logic necessary to provide our hosted services to customers. In many cases, execution of the applications are distributed among the commerce engine and database systems, enabling us to minimize interruptions during scheduled maintenance when enhancing or adding additional services to meet our customers’ needs.

In 2003, we introduced the CyberSource Order Processing API to allow the secure and reliable communication of order data from our customers’ systems to CyberSource systems. The Order Processing API provides our customers with a way to send invoice data to CyberSource for processing by any of the CyberSource commerce services applications. Using industry standard web services technologies, including SOAP, XML, and WS Security, the Order Processing API provides customers with an industry recognized implementation path allowing the Order Processing API to be built into customer order management applications. The Order Processing API uses the Data Encryption Standard, RSA/public key cryptography and digital certificates to ensure secure signed communication of transaction data.

We developed SCMP to enable efficient and secure connections between our commerce engine systems and our customers’ systems. In order to ensure secure messaging, SCMP utilizes industry standards for secure communications including the Data Encryption Standard, RSA/public key cryptography and digital certificates. SCMP has been designed so that it can be integrated into virtually any commerce server platform.

Our commerce services are invoked by a common programming interface residing on our customers’ commerce servers. Client software is provided for SCMP and Order Processing API interfaces and can be easily installed by customers using pre-built developer kits and application plug-ins. These developer kits are available for most popular Internet programming

environments, including ASP/COM, .NET, Java and others, and for most operating systems, including Windows NT/2000, Linux, and UNIX (Solaris, HP/UX, IBM/AIX and others). Developer kits also come with samples that customers can use to quickly deploy CyberSource services within their enterprises.

Our data centers are located at facilities in Santa Clara, California, Mesa, Arizona, London, England and Tokyo, Japan. These secure data center facilities contain our servers, network firewalls, routers and other technology necessary to provide high availability transaction services and connectivity to the Internet, our customers and processing partners. They provide high-speed and redundant network connectivity, uninterruptible power systems, fire detection and suppression systems, physical security and surveillance on a 24 hours a day, 7 days a week, 365 days a year basis. In addition, we have access to numerous network points of presence located on five continents from third party providers enhancing our ability to serve customers globally. These points of presence, through controlled route announcements to providers such as AT&T, UU-NET, Sprint, GLBX, Cable & Wireless, Verio, AboveNet, Telia and Level 3 Communications, enable us to provide direct, rapid and reliable access to our suite of services.

The implementation of our architecture for hosted services is based on and complies with widely accepted industry standards. For example, the commerce engine utilizes components from industry leaders such as Cisco, Hewlett Packard, IBM, Microsoft, RSA Data Security, Sun Microsystems and Sybase. Adherence to industry standards provides compatibility with existing applications, ease of modification, and reduces the need for software modules to be rewritten over time, thus protecting our customers’ investments.

The CyberSource Payment Manager product is based on modular systems architecture that allows this server to be installed into large customer infrastructures where a dedicated payment gateway interface will be used. CyberSource Payment Manager is designed as a three-layer software architecture well suited for enterprise deployment. These layers include the multiple sales channel interface, core server, and database.

The CyberSource Payment Manager core server supports a common programming interface that can be adapted to multiple sales channel enterprise systems. These sales systems could be used in conjunction with a call center in order to accept orders through an interactive voice response unit, from a Web server using hypertext transfer protocol, from a point-of-sale terminal, or from a wireless application protocol device. This architecture supports our belief that enterprises will demand a payment server capable of supporting multiple, independent sales channels, and that the enterprise sees significant benefit in being able to manage and control a single transaction payment platform.

The database layer is based on a standard structured query language (SQL) interface, offering a choice of implementations with any of the standard relational database management systems (RDBMS) on the market. Database platforms currently used by our customers include Microsoft SQL Server, Oracle, and Sybase.

CyberSource Decision Manager Custom Edition is powerful and flexible order decision/fraud management software that enables customers to customize fraud rules based on their specific product, industry, and environment variables. It intelligently and efficiently routes transactions for processing or customer service action and provides customers with the ability to adapt quickly to emerging fraud trends.

The decision engine itself is built on standard Java 2 Enterprise Edition (J2EE) technology and is currently deployable on the BEA WebLogic Platform, IBM WebSphere Application Server or JBOSS Application Server. Back-end database connectivity is provided through the Java Database Connectivity (JDBC) application programming interface, an integral part of the J2EE standard. Currently supported databases are IBM DB2, Microsoft SQL Server and Oracle RDBMS.

The architecture is extensible through a standards-based XML developer API, allowing our professional services organization or the customer to build custom plug-ins that can communicate with other external data sources. These data sources can provide additional information about the customer’s order, allowing more flexibility in determining associated risk. Standard plug-ins available from CyberSource connect Decision Manager Custom Edition to all of our hosted services, to CyberSource Payment Manager, as well as third-party services.

Our product development team is responsible for the design, development, and release of our software and core infrastructure for services. We have a well-defined software development methodology that we believe enables us to deliver software services that satisfy real business needs for the global market while meeting commercial quality expectations. We emphasize quality assurance throughout our development lifecycle. We believe that a strong emphasis placed on analysis and design early in the project lifecycle reduces the number and costs of defects that may be found in later stages.

When appropriate, we utilize third parties to expand the capacity and technical expertise of our internal product development organization. On occasion, we have licensed third-party technology that we feel provides the strongest technical alternative. We believe this approach shortens time-to-market without compromising our competitive position or product quality.

As of December 31, 2004, we employed 43 persons in our product development department.

Our success depends upon our proprietary technology and licensed technology. We rely on a combination of patent, copyright, trademark, trade secret laws, confidentiality procedures and licensing arrangements to establish and protect our proprietary rights.

We have been issued four patents and have eleven patent applications pending. The first issued patent, for a method and system for controlling distribution of software in a multi-tiered distribution chain, expires in April 2016. The second issued patent, for a method and system for detecting fraud in a credit card transaction over the Internet, expires in July 2017. The third issued patent, for a non-extensible thin server that generates user interfaces via browser, expires in April 2018. The fourth issued patent, for a method and system for delivering digital products electronically, expires in November 2017. We have pending patent applications covering cryptography, digital delivery, stored value, electronic gift certificate processing, electronic check processing, and enhancements to our fraud screening and digital delivery systems. We investigate, define and prepare applications for new patents as a part of the standard product development cycle. Our engineering management team meets on a regular basis to harvest new inventions from the engineering department. We cannot assure that any patent application that we file will issue as a patent, and we cannot assure that any patent issued to us will not be held invalid or unenforceable based on prior art or for any other reason.

We believe that numerous patent applications relating to the Internet commerce field have been filed or have issued as patents. From time to time, in the ordinary course of business, we become aware of one or more patents of third parties that we choose to evaluate for a variety of purposes. These purposes may include determining the general contents of patents, reviewing the technological developments of their assignees and determining whether our technology may overlap. We have not conducted searches to determine whether any of our services or technology could be alleged to infringe upon any patent rights of any third party. We cannot assure that none of our products, services, and technology infringes any patent of any third party.

As part of our confidentiality procedures, we generally enter into non-disclosure agreements with our employees, contractors, vendors, potential customers and alliances, and our license agreements with our customers, with respect to our software, services, documentation and other proprietary information, contain confidentiality obligations. Despite these precautions, third parties could reverse engineer, copy or otherwise obtain our technology without authorization, or develop similar technology independently. While we police the use of our services and technology through online monitoring and functions designed into SCMP and our Commerce Engine, an unauthorized third-party may nevertheless gain unauthorized access to our services or pirate our software. We are unable to determine the extent to which piracy of our intellectual property or software exists. Software piracy is a prevalent problem in our industry. Effective protection of intellectual property rights may be unavailable or limited in foreign countries. We cannot assure that the protection of our proprietary rights will be adequate or that our competitors will not independently develop similar technology, duplicate our services, or design around any intellectual property rights we hold.

From time to time we may receive notice of claims of infringement of other parties’ intellectual property rights. As the number of services in our market increases and functionalities overlap, companies such as ours may become increasingly subject to infringement claims. Any infringement claims, with or without merit, could be time-consuming, result in costly litigation, diversion of technical and management personnel, or require us to develop non-infringing technology or enter into licensing agreements. Such licensing agreements, if required, may not be available on acceptable terms, if at all. In the event of a successful claim of infringement and our failure or inability to develop non-infringing technology or license the proprietary rights on a timely basis, our business, operating results and financial condition could be materially adversely affected.

Our operations department is responsible for the 24 hours a day, 7 days a week, 365 days a year management, support, and data security for our global data centers and technology infrastructure. We support and manage the transaction services business with enterprise-class technologies and tools. These technologies and tools are deployed and managed by strict adherence to proven operational principles, processes, and procedures. We believe this technology, the processes, and our employees enable us to deliver the highest level of services and performance to our customers. Additionally, this team provides desktop computing and office productivity support and management to all CyberSource employees.

We provide a range of customer implementation and sustaining support services to ensure a high level of performance, reliability, and customer satisfaction for our customers. These services ensure our customers get solutions implemented quickly, as well as provide the support necessary to identify and effectively resolve operational issues. Our support offerings range from basic account activation and online self-help to priority response from dedicated technical account managers.

Our major focus is on customer satisfaction. In 2004, overall satisfaction was 98%. For the third consecutive year, CyberSource was a recipient of the Omega Northface Award for World Class Excellence in Customer Satisfaction. The Company’s performance in 2004 was graded by Omega Management through quarterly calls and Web surveys to customers using CyberSource’s hosted suite of payment and risk management services.

We target prospective customers worldwide through a direct sales force as well as reseller and referral programs. Our indirect sales channel is divided into “resellers,” “managed commerce providers,” and “referral allies.” We have contractual relationships with these companies that range from referral relationships to reselling our software and services.

Resellers: Our resellers provide our software and services as part of their larger offering portfolio and facilitate the sale and billing of our services. Resellers are authorized to sell our hosted services and support services. Our resellers include banks, small business resellers, and payment service providers such as Bank of America, First Data Merchant Services, Miva, a division of FindWhat.com, Paymentech, as well as a number of smaller partners.

Managed Commerce Providers (MCPs): Managed commerce providers typically host customized and turnkey storefronts for online businesses. MCPs manage the entire customer relationship including operations, support, and billing. MCPs include internet service providers, application service providers, and specialized systems integrators. Our MCP partners include AuctionAnything, Capitol Advantage, ChannelWave, Comergent, Crimson Bow, Graphtek, Radquest, and UniteU.

Referral Allies: These are companies with which we have referral agreements, structured with or without monetary incentives. These allies include companies from the payment industry, independent software vendors, integrators and consulting firms.

In addition to channel and referral relationships, we pursue both solutions alliances and strategic alliances. These result in cooperative product development efforts, streamlining of integration capabilities and leveraged marketing efforts.

Solutions Alliances: These alliances integrate CyberSource technology into some of their products, making it easier for their customers to access CyberSource products and services. These alliances include commerce server vendors, interactive voice response vendors, and enterprise software vendors. Current solutions alliance relationships include: Aspect, ATG, BEA, BroadVision, IBM, Microsoft, PeopleSoft, and Siebel.

Strategic Alliances: Our strategic alliances include our relationships with AmeriNet, CheckFree, FDC/Telecheck, I4 Commerce, PayPal, and Visa U.S.A. We work with strategic alliances to enhance our existing solutions portfolio, develop new services and drive the adoption of industry standards.

As of December 31, 2004, we had a total of 43 employees in sales and marketing worldwide and an additional 9 professional service consultants.

We also face competition from developers of other systems for online commerce transaction processing such as E-One Global (an affiliate of First Data Corporation), Fair Isaac, Lightbridge, Paymetrics, Retail Decisions, TrinTech and VeriSign. In addition, Visa and MasterCard offer Internet payment authentication programs with password protection that are designed to reduce the potential for unauthorized card use on the Internet, which may compete with our fraud screen services. Furthermore, other companies, including financial services and credit companies such as First Data Corporation may enter the market and provide competing services.

Many of our competitors have longer operating histories, substantially greater financial, technical, marketing or other resources, or greater name recognition than we do. Our competitors may be able to respond more quickly than we can to new or emerging technologies and changes in customer requirements. Competition could seriously impede our ability to sell additional products and services on terms favorable to us. Our current and potential competitors may develop and market new technologies that render our existing or future services obsolete, unmarketable or less competitive. Our current and potential competitors may make strategic acquisitions or establish cooperative relationships among themselves or with other commerce infrastructure providers, thereby increasing the ability of their solutions to address the needs of our prospective customers. Our current and potential competitors may establish or strengthen cooperative relationships with our current or future channel partners, thereby limiting our ability to sell services through these channels. Competitive pressures could reduce our market share or require the reduction of the prices of our offerings, either of which could materially and adversely affect our business, results of operations or financial condition.

Presently, we believe that we compete favorably with respect to each of these factors. However, the market for our solutions is rapidly evolving and we may not be able to compete successfully against current and future competitors.

As of December 31, 2004, we had a total of 168 employees, including 52 employees in professional services, sales and marketing, 43 employees in product development, 48 employees in operations and customer support and 25 employees in general and administrative services. None of our employees are represented by a labor union and we consider employee relations to be good.

The following regulations may adversely affect our business now or in the future:

Our primary offices are located in approximately 72,000 square feet of space in Mountain View, California, under an amended lease expiring in December 2011. During December 2001, we consolidated the under-utilized space in our Mountain View facility and used approximately 43,000 square feet from January 2002 through December 2004. During December 2004, we reviewed our future facility needs and determined that our forecasted growth for 2005 and beyond would require the utilization of certain currently unoccupied space. As a result, we extended the lease on our Mountain View facility through 2011. In addition, we occupy field sales offices in various cities throughout the United States. We also maintain sales and support offices in leased space in Reading, United Kingdom.

In July and August 2001, various class action lawsuits were filed in the United States District Court, Southern District of New York, against us, our Chairman and CEO, a former officer, and four brokerage firms that served as underwriters in our initial public offering. The actions were filed on behalf of persons who purchased our stock issued pursuant to or traceable to the initial public offering during the period from June 23, 1999 through December 6, 2000. The action alleges that our underwriters charged secret excessive commissions to certain of their customers in return for allocations of our stock in the offering. The two individual defendants are alleged to be liable because of their involvement in preparing and signing the registration statement for the offering, which allegedly failed to disclose the supposedly excessive commissions. On December 7, 2001, an amended complaint was filed in one of the actions to expand the purported class to persons who purchased our stock issued pursuant to or traceable to the follow-on public offering during the period from November 4, 1999 through December 6, 2000. The lawsuit filed against us is one of several hundred lawsuits filed against other companies based on substantially similar claims. On April 19, 2002, a consolidated amended complaint was filed to consolidate all of the complaints and claims into one case. The consolidated amended complaint alleges claims that are virtually identical to the amended complaint filed on December 7, 2001 and the original complaints. In October 2002, our officer and a former officer that were named in the amended complaint were dismissed without prejudice. In July 2002, we, along with other issuer defendants in the case, filed a motion to dismiss the consolidated amended complaint with prejudice. On February 19, 2003, the court issued a written decision denying the motion to dismiss with respect to CyberSource. On July 2, 2003, a committee of our Board of Directors conditionally approved a proposed partial settlement with the plaintiffs in this matter. The settlement would provide, among other things, a release of us and of the individual defendants for the conduct alleged in the action to be wrongful in the Amended Complaint. We would agree to undertake other responsibilities under the partial settlement, including agreeing to assign away, not assert, or release certain potential claims we may have against our underwriters. Any direct financial impact of the proposed settlement is expected to be borne by our insurers. The committee agreed to approve the settlement subject to a number of conditions, including the participation of a substantial number of other Issuer Defendants in the proposed settlement, the consent of our insurers to the settlement, and the completion of acceptable final settlement documentation. Furthermore, the settlement is subject to a hearing on fairness and final approval by the court overseeing the IPO litigations. While there can be no assurances as to the outcome of the lawsuit, we do not presently believe that an adverse outcome in the lawsuit would have a material effect on our financial condition, results of operations or cash flows.

On August 11, 2004, we filed suit in the Northern District of California against Retail Decisions, Inc. (“ReD US”) and Retail Decisions Plc (“ReD UK”) (collectively, “ReD”), Case No. 3:04-CIV-03268, alleging that ReD infringes our U.S. Patent No. 6,029,154 (the “‘154 Patent”). We served ReD US with the complaint on August 12, 2004, and we served ReD UK with the complaint on August 13, 2004. On September 30, 2004, ReD responded to our complaint. ReD filed a motion to stay the case for 90 days pending a determination by the U.S. Patent and Trademark Office (“PTO”) as to whether it will grant ReD’s request that the PTO re-examine the ‘154 Patent. ReD also filed a motion for a more definite statement by us with respect to our allegation that ReD is willfully infringing the ‘154 Patent. In addition, ReD UK filed a motion to dismiss the action against it on the ground that it is not subject to personal jurisdiction in the Northern District of California. On October 27, 2004, ReD filed a request for re-examination with the PTO, based on prior art ReD discovered that allegedly invalidates the patent. On October 28, 2004, we filed an opposition to ReD’s motion to stay the case for 90 days and an opposition to ReD’s motion for a more definite statement with respect to willful infringement. Based on ReD UK’s representation that ReD US is the sole entity that develops, operates, and distributes the eBitGuard service, we agreed to dismiss ReD UK while reserving the right to reinstitute action against ReD UK in the event we later discover that ReD UK is subject to the court’s personal jurisdiction. In return, ReD UK agreed that if we later establish that personal jurisdiction existed, we could re-file against ReD UK in this action without prejudice to our damages claim. We also filed an amended complaint, removing ReD UK as a named defendant and restating the willful infringement

claim. On November 16, 2004, the court granted ReD’s motion to stay the proceedings pending the PTO’s decision as to whether it will grant ReD’s request for re-examination. On December 30, 2004, the PTO granted ReD’s request for a re-examination. Based on our review of the cited prior art references and the re-examination request, we do not believe that the PTO will invalidate the ‘154 Patent. On January 19, 2005, ReD filed a motion to dismiss the case without prejudice or to extend the stay until completion of the re-examination process. On January 24, 2005, the court extended the stay pending the re-examination process, vacated ReD’s motion to dismiss, and ordered quarterly updates as to the status of the re-examination process. While there can be no assurances as to the outcome of the lawsuit, we do not presently believe that an adverse outcome in the lawsuit would have a material effect on our financial condition, results of operations, or cash flows.

We are currently party to various legal proceedings and claims which arise in the ordinary course of business. While the outcome of these matters cannot be predicted with certainty, we do not believe that the outcome of any of these claims or any of the above mentioned legal matters will have a material adverse effect on our consolidated financial position, results of operations or cash flows.

Since our initial public offering on June 23, 1999, our common stock has traded on the NASDAQ National Market under the symbol “CYBS.” The following table sets forth the range of high and low closing sales prices of our common stock for the periods indicated:

We had approximately 400 shareholders of record as of March 1, 2005. We have not declared or paid any cash dividends on our common stock and presently intend to retain our future earnings to fund the development and growth of our business and, therefore, do not anticipate paying any cash dividends in the foreseeable future.

In January 2005, our Board of Directors authorized the use of up to $10.0 million for the repurchase of shares of our common stock. The purchases may be made in the open market from time to time over the next twelve months as market and business conditions warrant. In addition, all purchases are subject to the availability of shares and, accordingly, there is no guarantee as to the timing or number of shares to be repurchased.

The following selected financial data should be read in conjunction with the Consolidated Financial Statements and Notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this Form 10-K. The historical results are not necessarily indicative of future results.

The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this document.

This Report on Form 10-K contains forward-looking statements within the “safe harbor” provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including statements regarding our expectations, hopes, intentions, beliefs or strategies regarding the future. Actual results could differ materially from those projected in any forward-looking statements for the reasons noted under the sub-heading “Risk Factors” and in other sections of this Report on Form 10-K. All forward-looking statements included in this Form 10-K are based on information available to us on the date of this Report on Form 10-K, and we assume no obligation to update the forward-looking statements, or to update the reasons why actual results could differ from those projected in the forward-looking statements. See “Risk Factors” below, as well as such other risks and uncertainties as are detailed in our Securities and Exchange Commission reports and filings for a discussion of the factors that could cause actual results to differ materially from the forward-looking statements.

CyberSource Corporation provides secure electronic payment and risk management solutions to organizations that process orders for goods and services over the Internet. CyberSource’s payment solutions allow eCommerce merchants to accept a wide range of online payment options, from credit cards and electronic checks, to global payment options and emerging payment types. Our risk and compliance management tools address complexities common to online merchants such as credit card fraud, online tax requirements and export controls. Our reporting

and management tools facilitate the automation of the flow of complex eCommerce processes, such as recurring billing and payment reconciliation. We partner with and connect to a large network of payment processors and other payment service providers to offer merchants a single source solution.

We commenced operations in March 1996 as a division of Beyond.com. On December 31, 1997, Beyond.com transferred assets and liabilities related to its commerce transaction processing services division to us. We have incurred significant losses since our inception, and through December 31, 2004 had incurred cumulative losses of approximately $318.1 million.

We derive our revenues from monthly commerce transaction processing fees, support service fees, professional services and the sale of enterprise software licenses and related maintenance. Transaction revenues are recognized in the period in which the transactions occur. Professional services revenue and support service fees are recognized as the related services are provided and costs are incurred. Enterprise software license revenue is recognized when the contract is signed, the software is delivered and the fee is fixed and determinable, and determined to be collectible. Enterprise software maintenance revenue is recognized ratably over the term of the maintenance period. For each of the years ended December 31, 2004, 2003 and 2002, no customer accounted for more than 10% of revenues.

Given the fluctuations in headcount and other expenses prior to 2003, we believe that period-to-period comparisons of our revenues and operating results for those periods, including our gross margin and operating expenses as a percentage of total revenues, are not meaningful and should not be relied upon as indications of future performance.

Our financial statements are based on the selection and application of significant accounting policies, which require management to make significant estimates and assumptions. We believe that the following are some of the more critical judgment areas in the application of our accounting policies that currently affect our financial condition and results of operations.

We recognize revenue in accordance with SEC Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements (“SAB 101”), SEC Staff Accounting Bulletin No. 104, Revenue Recognition (“SAB 104”) and Statement of Position 97-2, Software Revenue Recognition, (“SOP 97-2”), as amended. SAB 104 and SOP 97-2 require that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services have been rendered; (3) the fee is fixed or determinable; and (4) collectibility is reasonably assured. Determination of criteria (4) is based on management’s judgments regarding the collectibility of fees. Should changes in conditions cause management to determine these criteria are not met for certain future transactions, revenue recognized for any reporting period could be adversely affected.

In accordance with SOP 97-2 as amended, we had recognized enterprise software license and maintenance revenue when all elements of a contract had been delivered. For the periods through September 30, 2002, for enterprise software arrangements where maintenance was the only undelivered element, we had recognized the entire contract ratably over the term of the maintenance period as vendor-specific objective evidence (“VSOE”) of fair value for license or maintenance revenue had not been established. Beginning in the fourth quarter of 2002, we changed our maintenance pricing and established VSOE of fair value for new maintenance arrangements. As a result of establishing VSOE of fair value for maintenance revenue, effective October 1, 2002, we recognize software license revenue in the period in which the contract is signed, the software is delivered and the fee is collectible. We use the residual method of accounting as permitted by Statement of Position 98-9 (“SOP 98-9”) to recognize revenue when a software license includes one or more elements to be delivered at a future date and VSOE exists for all undelivered elements. We allocate revenue to each element based on its fair value as determined by VSOE. We defer revenue for any undelivered elements and recognize the deferred revenue when the product is delivered or over the period in which the service is performed. In addition, through September 30, 2003, we continued to ratably recognize enterprise software revenue that had previously been deferred prior to the establishment of VSOE of fair value for maintenance revenue, while also recording enterprise software revenue relating to new agreements under the residual method of accounting in accordance with SOP 98-9.

We derive a significant portion of our professional services revenue from fixed-price contracts, which require the accurate estimation of the cost, scope and duration of each engagement. Professional services revenue is recognized separately from enterprise software and transaction processing fees because the arrangements qualify as service transactions as defined by SOP 97-2. These services are accounted for separately from enterprise software and transaction processing fees as they are not essential to the functionality of the licensed software, and are available services from other vendors. Revenue and the related costs for these projects are recognized using the percentage-of-completion method. Estimates are made regarding time to complete the projects and revisions to estimates are reflected in the period in which changes become known. If we do not accurately estimate the resources required or the scope of work to be performed, or do not manage our projects properly within the planned periods of time or satisfy obligations under the contracts, then future professional service margins may be significantly and negatively affected or losses on existing contracts may need to be recognized.

During each of the fiscal years 2003, 2002 and 2001, we recorded significant charges in connection with our restructuring plans as discussed in Note 6 of our consolidated financial statements. These restructuring charges included estimates pertaining to employee separation costs and the settlement of contractual obligations, primarily facilities-related operating leases, resulting from our actions. We had estimated facility exit costs for certain under-utilized facilities and had made assumptions regarding a sublessee’s future rental rate, as well as the amount of time required to identify a sublessee. In December 2004, we reviewed our future facility needs and determined that our forecasted growth would require the utilization of unoccupied space in our Mountain View facility previously vacated as part of our 2001 restructuring plan. As a result, we extended the lease on our Mountain View facility through 2011 and reversed the remaining balance of previously recorded restructuring charges related to this facility. Our restructuring charges and subsequent reversal would have been higher had we assumed a lower future rental rate or longer period of time required to identify a sublessee.

We maintain allowances for doubtful accounts for estimated losses resulting from the potential inability of our customers to make required payments as well as for potential sales returns. If the financial condition of our customers was to deteriorate, resulting in their inability to make payments, additional allowances may be required. These estimates are based on historical bad debt experience and other known factors. If the historical data we used to determine these estimates does not properly reflect future losses, additional allowances may be required.

We are currently involved in certain legal proceedings and are required to assess the likelihood of any adverse judgments or outcomes of these proceedings as well as potential ranges of probable losses. A determination of the amount of accruals required, if any, for these contingencies is made after careful analysis. As discussed in Note 12 of our consolidated financial statements, as of December 31, 2004, we do not believe our current proceedings will have a material impact on our consolidated financial condition, results of operations or cash flows. It is possible, however, that future results of operations for any particular quarter or annual period could be materially affected by changes in our assumptions or as a result of the effectiveness of our strategies related to these proceedings.

The following table sets forth certain items in our condensed consolidated statements of operations expressed as a percentage of revenue for the periods indicated:

Revenues. Revenues increased to $36.7 million in 2004, an increase of approximately $9.2 million or 33.5% as compared to $27.5 million in 2003. Transaction and support revenues increased to $28.7 million in 2004, an increase of approximately 32.7% as compared to $21.7 million in 2003. We processed approximately 436.3 million transactions in 2004 as compared to approximately 291.2 million transactions in 2003, an increase of approximately 50%. The increase in revenue and transactions processed is due primarily to a general increase in our existing customers’ online business and the resulting increase in transaction volumes processed by our existing customers. To a lesser extent, the increase in revenue and transactions processed is due to the growth of our customer base as transaction revenues and volumes from new customers represented less than 15% and 10% of their respective totals in 2004. Transaction and support revenues increased at a lower rate relative to the increase in total transactions processed due primarily to the increase in transaction volumes of our higher-volume customers that receive greater discounts as their transaction volumes increase. Enterprise software license and maintenance revenues decreased to $3.4 million in 2004, a decrease of approximately 11.0% as compared to $3.9 million in 2003. The decrease is due primarily to a decrease in the number of new enterprise software sales that occurred in 2004, caused by a general decrease in demand for internal software payment solutions and an increasing demand for outsourced solutions. Professional services revenues increased to $4.5 million in 2004, an increase of approximately 128.5% as compared to $2.0 million in 2003, due primarily to an increase in the number and dollar magnitude of professional services projects that occurred during 2004, resulting from an increase in spending on information technology infrastructure.

Cost of Revenues. Transaction and support cost of revenues consist primarily of costs incurred in the delivery of e-commerce transaction services, including personnel costs in our operations and customer support functions, royalty costs to third parties, depreciation of capital equipment used in our network infrastructure and costs related to the hosting of our servers at third-party hosting centers in the United States and the United Kingdom. Transaction and support cost of revenues increased to $9.4 million or 32.7% of transaction and support revenues in 2004 from $7.9 million or 36.3% of transaction and support revenues in 2003. The increase in absolute dollars is primarily due to higher processing fees related to our global payment product which is a variable cost that will continue to increase in absolute dollars as the related revenue increases. The decrease as a percentage of transaction and support revenues is primarily due to the increase in revenue from existing and new customers during 2004 compared to 2003, offset to a certain extent, by the increase in processing fees related to our global payment product. Enterprise software cost of revenues is composed of customer support personnel costs and fulfillment costs. Enterprise software cost of revenues was $0.5 million or 14.8% of enterprise software revenues for 2004, consistent with the $0.5 million or 12.5% of enterprise software revenues for 2003. The increase as a percentage of enterprise software revenues is primarily due to an increase in third party license fees combined with a decrease in enterprise software revenues during 2004 compared to 2003. Professional services cost of revenues consist principally of personnel-related costs and expenses and a portion of allocated overhead costs related to providing professional services. Professional services cost of revenues increased to $2.1 million or 46.9% of professional services revenues for 2004 as compared to $1.0 million or 48.0% of professional services revenues for 2003. The increase in absolute dollars is due to higher personnel-related costs resulting from an increase in personnel necessary to support our professional services projects. During the year ended December 31, 2004, we reversed $0.2 million in accrued liabilities that had previously been recorded as cost of revenues in prior years.

Product Development. Product development expenses consist primarily of compensation and related costs of employees engaged in the research, design and development of new services, and to a lesser extent, facility costs and related overhead. Product development expenses decreased to $6.8 million in 2004 from $7.5 million in 2003. The decrease is primarily due to a decrease in overhead costs of approximately $0.6 million, which includes a $0.3 million decrease in depreciation expense. As a percentage of revenue, product development expenses decreased to 18.4% in 2004 as compared to 27.4% in 2003. The decrease is primarily due to the decrease in overhead costs combined with the increase in revenue from existing and new customers during 2004. We expect product development expenses will increase in absolute dollars during 2005 as we increase headcount to support the development of newly offered services. During the year ended December 31, 2004, we reversed $92,000 in accrued liabilities that had previously been recorded as product development expenses in prior years.

Sales and Marketing. Sales and marketing expenses consist primarily of compensation of sales and marketing personnel, market research and advertising costs, and, to a lesser extent, facility costs and related overhead. Sales and marketing expenses decreased to $10.1 million in 2004 from $11.2 million in 2003. The decrease is primarily due to an increase in utilization of professional services personnel as compared to the same period last year. To the extent professional services personnel are not utilized on professional services projects, they are redeployed in support of sales efforts and the related compensation expense is classified as sales and marketing expense accordingly. As a percentage of revenue, sales and marketing expenses decreased to 27.4% in 2004 as compared to 40.6% in 2003. The decrease is primarily due to the decrease in sales and marketing expenses resulting from the increase in utilization of professional services personnel, combined with the increase in revenue from existing and new customers during 2004. We expect that sales and marketing expenses will increase in absolute dollars as we increase headcount to support our anticipated revenue growth. In addition, sales and marketing expenses can fluctuate based on utilization of professional services personnel. During the year ended December 31, 2004, we reversed $0.2 million in accrued liabilities that had previously been recorded as sales and marketing expenses in prior years.

General and Administrative. General and administrative expenses consist primarily of compensation for administrative personnel, fees for outside professional services and, to a lesser extent, facility costs and related overhead. General and administrative expenses increased to $5.6 million in 2004 from $4.9 million in 2003. The increase is primarily due to an increase in legal costs and accounting fees related to Sarbanes-Oxley Section 404 compliance during 2004. As a percentage of revenue, general and administrative expenses decreased to 15.1% in 2004 as compared to 18.0% in 2003. The decrease is primarily due to the increase in revenue from existing and new customers during the year ended December 31, 2004. We expect general and administrative expenses in 2005 to be consistent with 2004. During the year ended December 31, 2004, we reversed $0.2 million in accrued liabilities that had previously been recorded as general and administrative expenses in prior years. We will continue to assess the necessity of all of our accrued liabilities and, as a result, may reverse additional amounts in the future.

Restructuring Charges. We incurred total restructuring and other non-recurring charges of approximately $0.5 million during 2003. Included in the charges were severance charges resulting from our realignment of resources to better manage and control our business, facility-related charges resulting from the consolidation of our facilities offset by a recovery of approximately $0.2 million resulting from the subleasing of a portion of our St. Louis, Missouri facility.

We recorded restructuring charges of approximately $0.4 million in 2003 which represented costs associated with the reduction of our worldwide workforce. During 2003, we reduced our workforce by 11 employees of which 8 were in sales and marketing; 2 were in product development; and 1 was in operations.

We also recorded facility-related restructuring charges of approximately $0.1 in 2003. During 2001, we closed our St. Louis, Missouri facility, exited certain under-utilized space in our Mountain View, California and Austin, Texas facilities and consolidated our data centers. During 2002, we reassessed our initial estimate of probable costs and the sublease timeline associated with subleasing excess leased facilities. The reassessment was prompted by a further decline in the real estate market in the cities where those facilities are located. After considering information provided to us by our real estate advisors, we concluded it was probable these facilities could not be subleased at rates originally considered nor could they be subleased in the timeframe originally planned. As a result, we recorded an additional charge of $2.0 million relating to the facilities located in Mountain View, California and Austin, Texas. This additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2003. During 2003, we again reassessed our estimate of probable costs and the sublease timeline associated with subleasing excess leased facilities. After considering information provided to us by our real estate advisors, we concluded it was probable these facilities could not be subleased in the timeframe assumed in December 2002. As a result, we recorded an additional charge of $0.3 million relating to the facilities located in Mountain View, California and Austin, Texas. The additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2004. Also, during 2003, we were able to sublease a portion of our St. Louis, Missouri facility and recorded a recovery of approximately $0.2 million. During the fourth quarter of 2004, we re-evaluated our future facility needs and determined that our forecasted growth would require the utilization of the unoccupied space in our Mountain View, California facility beginning in 2005. As a result, we decided to no longer market the available space at our Mountain View, California facility, and extended the lease on this facility through December 2011. As a result, we reversed the remaining $1.5 million balance of previously recorded restructuring charges related to this facility. See Note 6 of Notes to Consolidated Financial Statements.

Loss on Investment in Joint Venture. On March 1, 2000, we entered into a joint venture agreement with Japanese partners Marubeni Corporation and Trans-Cosmos, Inc. to establish CyberSource K.K. to provide commerce transaction services to the Japanese market. We maintain a majority controlling interest in CyberSource K.K., subject to certain veto rights granted to the partners which expire when CyberSource K.K. achieves at least $2.0 million in quarterly revenue. The joint venture is being accounted for under the equity method of accounting until the veto rights granted to the partners as described above expire. After such date, we expect to consolidate the financial position and results of operations of CyberSource K.K. As of June 30, 2002, we had recognized losses to the extent of our historical investment, including $0.2 million recognized in 2002. In 2003, we made additional contributions to the joint venture totaling $0.2 million, all of which were recorded as losses in the period the contribution occurred. In 2004, we made no additional contributions to the joint venture.

Interest Income (Expense), Net. Interest income, net which consists of interest earnings on cash, cash equivalents and short-term investments increased to $0.7 million in 2004 from $0.6 million in 2003. This increase is primarily due to an increase in average cash, cash equivalents and short-term investments during 2004 as compared to 2003 as a result of our income from operations in 2004 and slightly higher investment yields. We expect interest income to increase in 2005 due to anticipated higher cash, cash equivalents and short-term investment balances.

Income Taxes. We recorded a provision for income tax expense of $25,000 in 2004. This provision consists of amounts accrued for our 2004 domestic federal and state alternative minimum income tax liability. This provision is based upon our 2004 net income before income taxes and takes into consideration the utilization of our net operating loss carry forwards. Historically,

we have not recorded a provision for income tax expense because we had been generating net losses. Furthermore, we have not recorded an income tax benefit for prior years primarily due to continued substantial uncertainty regarding our ability to realize our deferred tax assets. Based upon available objective evidence, there has been sufficient uncertainty regarding the ability to realize our deferred tax assets which warrants a full valuation allowance in our financial statements. The factors considered include prior losses and lack of carry-back potential to realize our deferred tax assets. Based on our estimates, we believe the uncertainty regarding the ability to realize our deferred tax assets may diminish to the point where it is more likely than not that our deferred tax assets will be realized. At such point, we would reverse all or a portion of our valuation allowance which will result in an income tax benefit.

As of December 31, 2004, we had federal and state net operating loss carryforwards of approximately $157.9 million and $72.6 million, respectively. If we are not able to use them, the federal and state net operating loss carryforwards will expire in 2005 through 2014. The Tax Reform Act of 1986 imposes substantial restrictions on the utilization of net operating losses and tax credits in the event of a corporation’s ownership change, as defined in the Internal Revenue Code. Our ability to utilize net operating loss carryforwards may be limited if such an ownership change occurs.

Revenues. Revenues decreased to $27.5 million in 2003, a decrease of approximately $0.5 million or 1.9% as compared to $28.0 million in 2002. Transaction and support revenues increased to $21.7 million in 2003, an increase of approximately 8.1% as compared to $20.0 million in 2002. We processed approximately 291.2 million transactions in 2003 as compared to approximately 214.4 million transactions in 2002, an increase of approximately 36%. The increase in revenue and transactions processed was due primarily to an increase in transaction volumes processed by our existing customers and, to a lesser extent, the growth of our customer base. Transaction and support revenues increased at a lower rate relative to the increase in total transactions processed due primarily to the increase in transaction volumes of our higher-volume customers that received greater discounts as their transaction volumes increase. Enterprise software license and maintenance revenues decreased to $3.9 million in 2003, a decrease of approximately 11.8% as compared to $4.4 million in 2002. The decrease was due primarily to a decrease in number and dollar magnitude of new enterprise software sales that occurred during 2003. Professional services revenues decreased to $2.0 million in 2003, a decrease of approximately 45.1% as compared to $3.6 million in 2002, due primarily to a decrease in the dollar magnitude of professional services projects that occurred during 2003.

Cost of Revenues. Transaction and support cost of revenues decreased to $7.9 million or 36.3% of transaction and support revenues in 2003 from $9.6 million or 47.9% of transaction and support revenues in 2002. The decrease in absolute dollars and as a percentage of transaction and support revenues was primarily due to lower depreciation expense as many of our fixed assets became fully depreciated during 2003, which decreased by $1.5 million in 2003 compared to 2002. Enterprise software cost of revenues was $0.5 million or 12.5% of enterprise software revenues for 2003, consistent with the $0.5 million or 11.8% of enterprise software revenues for 2002. Professional services cost of revenues decreased to $1.0 million or 48.0% of professional services revenues for 2003 as compared to $1.9 million or 51.8% of professional services revenues for 2002. The decrease in absolute dollars was due to lower personnel-related costs resulting from a decrease in personnel necessary to support our professional services.

Product Development. Product development expenses decreased to $7.5 million in 2003 from $8.1 million in 2002. The decrease was primarily due to lower personnel-related costs resulting from lower headcount than in the prior year and, to a lesser extent, lower depreciation expense, which decreased by approximately $0.3 million and $0.2 million, respectively.

Sales and Marketing. Sales and marketing expenses decreased to $11.2 million in 2003 from $13.1 million in 2002. The decrease was primarily due to lower sales and marketing personnel-related costs resulting from lower headcount than in the prior year, which decreased by approximately $1.1 million in 2003 as compared to 2002. In addition, depreciation expense and marketing program costs decreased by approximately $0.4 million and $0.3 million, respectively, in 2003 as compared to 2002.

General and Administrative. General and administrative expenses decreased to $4.9 million in 2003 from $5.9 million in 2002. The decrease was primarily due to lower personnel-related costs resulting from lower headcount than in the prior year and lower depreciation expense, which decreased by approximately $0.5 million and $0.4 million, respectively, in 2003 as compared to 2002.

Restructuring Charges. We incurred total restructuring and other non-recurring charges of approximately $0.5 million and $2.5 million during 2003 and 2002, respectively. Included in the charges were severance charges resulting from our realignment of resources to better manage and control our business, facility-related charges resulting from the consolidation of our facilities offset by a recovery of approximately $0.2 million resulting from the subleasing of a portion of our St. Louis, Missouri facility.

We recorded restructuring charges of approximately $0.4 million and $0.3 million in 2003 and 2002, respectively, which represent costs associated with the reduction of our worldwide workforce. During 2003, we reduced our workforce by 11 employees of which 8 were in sales and marketing; 2 were in product development; and 1 was in operations. During 2002, we

reduced our workforce by 12 employees of which 8 were in sales and marketing; 3 were in product development; and 1 was in general and administrative services.

We also recorded facility-related restructuring charges of approximately $0.1 and $2.0 million in 2003 and 2002, respectively. During 2001, we closed our St. Louis, Missouri facility, exited certain under-utilized space in our Mountain View, California and Austin, Texas facilities and consolidated our data centers. Included in our 2001 restructuring charge was $3.5 million related to future lease payments for our St. Louis, Missouri facility, as well as future lease payments, net of estimated sublease income, for the exited Mountain View, California space. During 2002, we reassessed our initial estimate of probable costs and the sublease timeline associated with subleasing excess leased facilities. The reassessment was prompted by a further decline in the real estate market in the cities where those facilities are located. After considering information provided to us by our real estate advisors, we concluded it was probable these facilities could not be subleased at rates originally considered nor could they be subleased in the timeframe originally planned. As a result, we recorded an additional charge of $2.0 million relating to the facilities located in Mountain View, California and Austin, Texas. This additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2003. During 2003, we again reassessed our estimate of probable costs and the sublease timeline associated with subleasing excess leased facilities. After considering information provided to us by our real estate advisors, we concluded it was probable these facilities could not be subleased in the timeframe assumed in December 2002. As a result, we recorded an additional charge of $0.3 million relating to the facilities located in Mountain View, California and Austin, Texas. The additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2004.

Loss on Investment in Joint Venture. In 2003, we made additional contributions to the joint venture totaling $0.2 million, all of which were recorded as losses in the period the contribution occurred.

Interest Income (Expense), Net. Interest income, net which consists of interest earnings on cash, cash equivalents and short-term investments decreased to $0.6 million in 2003 from $1.2 million in 2002. This decrease was primarily due to a decline in average cash, cash equivalents and short-term investments during 2003 as compared to 2002 as a result of our operating losses incurred during 2003 and, to a lesser extent, slightly lower investment yields. Interest expense of $1,000 in 2002 represented interest on capital lease obligations.

Income Taxes. No provision for federal and state income taxes was recorded in 2003 as we had incurred net operating losses since inception.

Our Chief Executive Officer was the Chairman of the Board of Beyond.com. On January 24, 2002, Beyond.com filed for protection under Chapter 11 of the Bankruptcy Code. For the year ended December 31, 2002, sales of transaction and support services totaling $28,000 were made to Beyond.com.

For the years ended December 31, 2004, 2003 and 2002, legal fees of approximately $0.5 million, $0.3 million and $0.2 million, respectively, were paid to Morrison & Foerster LLP, a law firm in which one of our directors is a partner. As of December 31, 2004 and 2003, we had immaterial amounts of accounts payable due to Morrison & Foerster LLP.

The terms of our contracts with the above related parties are consistent with our contracts with other independent parties.

Our cash, cash equivalents and short-term investments were $44.7 million as of December 31, 2004 compared to $44.4 million as of December 31, 2003. An overview of the significant cash flow activities for the years ended December 31, 2004 and 2003 are as follows (in thousands):

Cash, cash equivalents and short-term investments increased $0.3 million from December 31, 2003 to December 31, 2004. This increase is primarily due to the following:

These increases are offset by decreases in cash, cash equivalents and short-term investments due to the following:

We believe that our cash and short-term investment balances as of December 31, 2004 will be sufficient to meet our working capital and capital requirements for at least the next twelve months. Our future capital requirements will depend on many factors including the level of investment we make in new businesses, new products or new technologies. We currently have no agreements or understandings with respect to any future investments or acquisitions. To the extent that our existing cash resources and future earnings are insufficient to fund our future activities, we may need to obtain additional equity or debt financing. Additional funds may not be available or, if available, we may not be able to obtain them on favorable terms.

The following is a table summarizing our significant commitments as of December 31, 2004, consisting of future minimum lease payments under all non-cancelable and operating leases (in thousands):

In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), which replaces SFAS No. 123 and supercedes APB No. 25. SFAS No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values beginning with the first interim or annual period after June 15, 2005, with early adoption encouraged. The pro forma disclosures previously permitted under SFAS No. 123 no longer will be an alternative to financial statement recognition. We are required to adopt SFAS No. 123R in the third quarter of 2005. Under SFAS No. 123R, we must determine the appropriate fair value model to be used for valuing share-based payments, the amortization method of compensation cost and the transition method to be used at date of adoption. The transition methods include retroactive and prospective adoption options. Under the retroactive option, prior periods may be restated either as of the beginning of the year of adoption or for all periods presented. The prospective method requires that compensation expense be recorded for all unvested stock options and restricted stock at the beginning of the first quarter of adoption of SFAS No. 123R, while the retroactive method would record compensation expense for all unvested stock options and restricted stock beginning with the first period restated. We are evaluating the requirements of SFAS No. 123R and have not yet determined the method of adoption or the effect of adopting SFAS No. 123R. In addition, we have not determined whether the adoption will result in amounts that are similar to the current pro forma disclosures under SFAS No. 123.

Set forth below and elsewhere in this Annual Report on Form 10-K, including in Item 7, Management’s Discussion and Analysis, and in other documents we file with the Securities and Exchange Commission are risks and uncertainties that could cause actual results to differ materially from those described herein:

We Have a Limited Operating History and Are Subject to the Risks Encountered by Early-Stage Companies

We have a limited operating history, and our business and prospects must be considered in light of the risks and uncertainties to which early-stage companies are particularly exposed. These risks include:

These risks are discussed in more detail below. We cannot assure you that our business strategy will be successful or that we will successfully address these risks and the risks detailed below.

The Expected Fluctuations of Our Quarterly Results Could Cause Our Stock Price to Fluctuate or Decline

We expect that our quarterly operating results will fluctuate significantly in the future based upon a number of factors, many of which are not within our control. We base our operating expenses on anticipated market growth and our operating expenses are relatively fixed in the short term. As a result, if our revenues are lower than we expect, our quarterly operating results may not meet the expectations of public market analysts or investors, which could cause the market price of our common stock to decline.

Our quarterly results may fluctuate in the future as a result of many factors, including the following:

Other factors that may affect our quarterly results are set forth elsewhere in this section. As a result of these factors, our revenues are not predictable with any significant degree of certainty.

Due to the uncertainty surrounding our revenues and expenses, we believe that quarter-to-quarter comparisons of our historical operating results should not be relied upon as an indicator of our future performance.

Our Stock Price May Fluctuate Substantially Due to Factors Outside Our Control

The market price for our common stock may be affected by a number of factors outside our control, including the following:

These factors and fluctuations, as well as general economic, political and market conditions may materially adversely affect the market price of our common stock.

The Intense Competition in Our Industry Could Reduce or Eliminate the Demand for Our Products and Services

The market for our products and services is intensely competitive and subject to rapid technological change. We expect competition to intensify in the future. Our primary source of competition comes from online merchants that develop custom systems. These online merchants, who have made large initial investments to develop custom systems, may be less likely to adopt an outsourced transaction processing strategy or purchase our software. We also face competition from developers of other systems for commerce transaction processing such as E-One Global (an affiliate of First Data Corporation), Fair, Isaac, Lightbridge, Paymetrics, Retail Decisions, TrinTech and VeriSign. In addition, Visa and MasterCard have announced an Internet payment authentication process with password protection which is designed to reduce the potential for unauthorized card use on the internet, which may compete with our fraud screen services. Further, other companies, including financial services and credit companies such as First Data Corporation may enter the market and provide competing services. In the future, we may also compete with large Internet-centric companies that derive a significant portion of their revenues from e-Commerce and may offer, or provide a means for others to offer, e-Commerce transaction services.

Many of our competitors have longer operating histories, substantially greater financial, technical, marketing or other resources, or greater name recognition than we do. Our competitors may be able to respond more quickly than we can to new or emerging technologies and changes in customer requirements. Competition could seriously impede our ability to sell additional products and services on terms favorable to us. Our current and potential competitors may develop and market new technologies that render our existing or future products and services obsolete, unmarketable or less competitive. For example, Visa and MasterCard have introduced cardholder authentication solutions that, if widely adopted by consumers, may reduce demand for our fraud screening services. Our current and potential competitors may make strategic acquisitions or establish cooperative relationships among themselves or with other solution providers, thereby increasing their ability to address the needs of our existing or prospective customers. Our current and potential competitors may establish or strengthen cooperative relationships with our current or future channel partners, thereby limiting our ability to sell products and services through these channels. We expect that competitive pressures may result in the reduction of our prices or our market share or both, which could materially and adversely affect our business, results of operations or financial condition.

We Have a History of Losses, May Incur Future Losses and Cannot Assure You that We Will Achieve Ongoing Profitability

We have incurred significant net losses since our inception. We incurred net losses of $75.0 million in 2000, $185.0 million in 2001, $12.5 million in 2002 and $5.4 million in 2003. As of December 31, 2004, we had incurred cumulative losses of $318.1 million. Fiscal year 2004 has been our only profitable year. We cannot give any assurances that we will realize sufficient revenues, and sufficiently limit expenses, to achieve ongoing profitability.

We May Pursue Strategic Acquisitions and Our Business Could be Materially Adversely Affected if We Fail to Adequately Integrate Acquired Businesses

As part of our future business strategy, we may pursue strategic acquisitions of complementary businesses or technologies that would provide additional product or service offerings, additional industry expertise, a broader client base or an expanded geographic presence. If we do not successfully integrate a strategic acquisition, or if the benefits of the transaction do not meet the expectation of financial or industry analysts, the market price of our common stock may decline. Any future acquisition could result in the use of significant amounts of cash, dilutive issuances of equity securities, or the incurrence of debt or amortization expenses related to goodwill and other intangible assets, any of which could materially adversely affect our business, operating results and financial condition. In addition, acquisitions involve numerous risks, including:

Potential System Failures and Lack of Capacity Issues Could Negatively Affect Demand for Our Services

Our ability to deliver services to our merchants depends on the uninterrupted operation of our commerce transaction processing systems. Our systems and operations are vulnerable to damage or interruption from:

Despite the fact that we have implemented redundant servers in third-party hosting centers located in Santa Clara, California, and Mesa, Arizona, we may still experience service interruptions for the reasons listed above and a variety of other reasons. If our redundant servers are not available, we may not have sufficient business interruption insurance to compensate us for resulting losses. We have experienced periodic interruptions, affecting all or a portion of our systems, which we believe will continue to occur from time to time. For example, on November 12, 1999, our services were unavailable for approximately ten hours due to an internal system problem. We have also subsequently experienced service interruptions of lesser duration. In addition, any interruption in our systems that impairs our ability to provide services could damage our reputation and reduce demand for our services.

Our success also depends on our ability to grow, or scale, our commerce transaction systems to accommodate increases in the volume of traffic on our systems, especially during peak periods of demand. We may not be able to anticipate increases in the use of our systems or successfully expand the capacity of our network infrastructure. Our inability to expand our systems to handle increased traffic could result in system disruptions, slower response times and other difficulties in providing services to our merchant customers, which could materially harm our business.

A Breach of Our eCommerce Security Measures Could Reduce Demand for Our Services

A requirement of the continued growth of e-Commerce is the secure transmission of confidential information over public networks. We rely on public key cryptography, an encryption method that utilizes two keys, a public and a private key, for encoding and decoding data, and digital certificate technology, or identity verification, to provide the security and authentication necessary for secure transmission of confidential information. Regulatory and export restrictions may prohibit us from using the most secure cryptographic protection available and thereby expose us to an increased risk of data interception. A party who is able to circumvent security measures could misappropriate proprietary information or interrupt our operations. Any compromise or elimination of security could reduce demand for our services.

We may be required to expend significant capital and other resources to protect against security breaches and to address any problems they may cause. Concerns over the security of the Internet and other online transactions and the privacy of users may also inhibit the growth of the Internet and other online services generally, and the Web in particular, especially as a means of conducting commercial transactions. Because our activities involve the storage and transmission of proprietary information, such as credit card numbers, security breaches could damage our reputation and expose us to a risk of loss or litigation and possible liability. Our security measures may not prevent security breaches, and failure to prevent security breaches may disrupt our operations.

CyberSource has potential liability for certain transactions processed primarily through our Global Payment Suite if the payments associated with such transactions are rejected, refused, or returned for reasons such as consumer fraud or billing disputes. For instance, if a billing dispute between a merchant and payer is not ultimately resolved in favor of the merchant, the disputed transaction may be charged back to the merchant’s bank and credited to the payer’s account. If the charged back amount cannot be recovered from the merchant’s account, or if the merchant refuses or is financially unable to reimburse its bank for the charged back amount, we may bear the loss for the amount of the refund paid to the payer’s bank. We could also incur fraud losses as a result of merchant fraud. Merchant fraud occurs when a merchant, rather than a customer, intentionally uses a stolen or counterfeit card, card number, or other bank account number to process a false sales transaction, or knowingly fails to deliver merchandise or services in an otherwise valid transaction. We may be responsible for any losses for certain transactions if we are unable to collect from the merchant.

We have established systems and procedures designed to detect and reduce the impact of consumer fraud and merchant fraud, but we cannot assure you that these measures are or will be effective. To date, we have not incurred any significant losses relating to charged back transactions.

Changes in Accounting Standards Regarding Stock Option Plans Could Limit the Desirability of Granting Stock Options, Which Could Harm Our Ability to Attract and Retain Employees, and Could Also Reduce Our Profitability

The Financial Accounting Standards Board (FASB) has issued its final standard that will require us to record a charge to earnings for employee stock option grants beginning with our third fiscal quarter of 2005. This regulation will negatively impact our earnings. See Note 1 to the Notes to Consolidated Financial Statements — Summary of Significant Accounting Policies: Accounting for Stock-Based Compensation. In addition, new regulations implemented by The NASDAQ National Market requiring shareholder approval for all stock option plans could make it more difficult for us to grant options to employees in the future. To the extent that new regulations make it more difficult or expensive to grant stock options to employees, we may incur increased compensation costs, change our equity compensation strategy or find it difficult to attract, retain and motivate employees, each of which could materially and adversely affect our business.

If We Are Not Able to Fully Utilize Relationships With Our Sales Alliances, We May Experience Lower Revenue Growth and Higher Operating Costs

Our future growth will depend in part on the success of our relationships with existing and future sales alliances that market our products and services to their merchant accounts. If these relationships are not successful or do not develop as quickly as we anticipate, our revenue growth may be adversely affected. Accordingly, we may have to increase our sales and marketing expenses in an attempt to secure additional merchant accounts.

Our Market is Subject to Rapid Technological Change and to Compete We Must Continually Enhance Our Systems to Comply with Evolving Standards

To remain competitive, we must continue to enhance and improve the responsiveness, functionality and features of our products and services and the underlying network infrastructure. The Internet and the e-Commerce industry are characterized by rapid technological change, changes in user requirements and preferences, frequent new product and service introductions embodying new technologies, and the emergence of new industry standards and practices that could render our technology and systems obsolete. Our success will depend, in part, on our ability to both internally develop and license leading technologies to enhance our existing products and services and develop new products and services. We must continue to address the increasingly sophisticated and varied needs of our merchants, and respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis. The development of proprietary technology involves significant technical and business risks. We may fail to develop new technologies effectively or to adapt our proprietary technology and systems to merchant requirements or emerging industry standards. If we are unable to adapt to changing market conditions, merchant requirements or emerging industry standards, our business would be materially harmed.

The Demand for Our Products and Services Could Be Negatively Affected by a Reduced Growth of e-Commerce or Delays in the Development of the Internet Infrastructure

Sales of goods and services over the Internet do not currently represent a significant portion of overall sales of goods and services. We depend on the growing use and acceptance of the Internet as an effective medium of commerce by merchants and customers in the United States and internationally. Rapid growth in the use of and interest in the Internet is a relatively recent development. In particular, the sale of goods and services over the Internet has gained acceptance more slowly outside of the United States. We cannot be certain that acceptance and use of the Internet will continue to develop or that a sufficiently broad base of merchants and consumers will adopt, and continue to use, the Internet as a medium of commerce.

The increase in the significance of the Internet as a commercial marketplace may occur more slowly than anticipated for a number of reasons, including potentially inadequate development of the necessary network infrastructure or delayed development of enabling technologies and performance improvements. If the number of Internet users, or the use of Internet resources by existing users, continues to grow, it may overwhelm the existing Internet infrastructure. Delays in the development or adoption of new standards and protocols required to handle increased levels of Internet activity could also have a detrimental effect. These factors could result in slower response times or adversely affect usage of the Internet, resulting in lower numbers of commerce transactions and lower demand for our products and services.

If We Lose Key Personnel, We May Not be Able to Successfully Manage Our Business and Achieve Our Objectives

We believe our future success will depend upon our ability to retain our key management personnel, including William S. McKiernan, our Chief Executive Officer, and other key members of management because of their experience and knowledge regarding the development, special opportunities and challenges of our business. None of our current key employees is subject to an employment contract. We may not be successful in attracting and retaining key employees in the future.

We May Not Be Able to Adequately Protect Our Proprietary Technology and May Be Infringing Upon Third-Party Intellectual Property Rights

Our success depends upon our proprietary technology. We rely on a combination of patent, copyright, trademark and trade secret rights, confidentiality procedures and licensing arrangements to establish and protect our proprietary rights.

As part of our confidentiality procedures, we enter into non-disclosure agreements with our employees, contractors, vendors and potential customers and alliances. Despite these precautions, third parties could copy or otherwise obtain and use our technology without authorization, or develop similar technology independently. Effective protection of intellectual property rights may be unavailable or limited in foreign countries. We cannot assure you that the protection of our proprietary rights will be adequate or that our competitors will not independently develop similar technology, duplicate our products and services or design around any patents or other intellectual property rights we hold.

We also cannot assure you that third parties will not claim that the technology employed in providing our current or future products and services infringe upon their rights. We have not conducted any search to determine whether any of our products and services or technologies may be infringing upon patent rights of third parties. As the number of products and services in our market increases and functionalities increasingly overlap, companies such as ours may become increasingly subject to infringement claims. In addition, these claims also might require us to enter into royalty or license agreements. Any infringement claims, with or without merit, could absorb significant management time and lead to costly litigation. If required to do so, we may not be able to obtain royalty or license agreements, or obtain them on terms acceptable to us.

We May Become Subject to Government Regulation and Legal Uncertainties That Would Adversely Affect Our Financial Results

We are not currently subject to direct regulation by any domestic or foreign governmental agency, other than regulations applicable to businesses generally, export control laws and laws or regulations directly applicable to e-Commerce. However, due to the increasing usage of the Internet, it is possible that a number of laws and regulations may be applicable or may be adopted in the future with respect to conducting business over the Internet covering issues such as:

For example, we believe that our fraud screen service may require us to comply with the Fair Credit Reporting Act (the “Act”). As a precaution, we have implemented processes that we believe will enable us to comply with the Act if we were deemed a consumer reporting agency. Complying with the Act requires us to provide information about personal data stored by us. Failure to comply with the Act could result in claims being made against us by individual consumers and the Federal Trade Commission.

Furthermore, the growth and development of the market for e-Commerce may prompt more stringent consumer protection laws that may impose additional burdens on those companies conducting business online. The adoption of additional laws or regulations may decrease the growth of the Internet or other online services, which could, in turn, decrease the demand for our products and services and increase our cost of doing business.

The applicability of existing laws governing issues such as property ownership, copyrights, encryption and other intellectual property issues, taxation, libel, export or import matters and personal privacy to the Internet is uncertain. The vast

majority of laws were adopted prior to the broad commercial use of the Internet and related technologies. As a result, they do not contemplate or address the unique issues of the Internet and related technologies. Changes to these laws intended to address these issues, including some recently proposed changes in the United States regarding taxation and encryption and in the European Union regarding contract formation and privacy, could create uncertainty in the Internet marketplace and impose additional costs and other burdens. These uncertainties, costs and burdens could reduce demand for our products and services or increase the cost of doing business due to increased litigation costs or increased service delivery costs.

Products and services provided to merchants outside the United States accounted for 6.9%, 7.7% and 9.4% of our revenues in 2002, 2003 and 2004, respectively. In March 2000, we entered into a joint venture agreement with Japanese partners Marubeni Corporation and Trans-Cosmos, Inc. and established CyberSource K.K. to provide commerce transaction services to the Japanese market. Conducting business outside of the United States is subject to additional risks that may affect our ability to sell our products and services and result in reduced revenues, including:

In addition, some software contains encryption technology that renders it subject to export restrictions and we may become liable to the extent we violate these restrictions. We might not successfully market, sell and distribute our products and services in local markets and we cannot be certain that one or more of these factors will not materially adversely affect our future international operations, and consequently, our business, financial condition and operating results.

Also, sales of our products and services conducted through our subsidiary in the United Kingdom are denominated in Pounds Sterling. We may experience fluctuations in revenues or operating expenses due to fluctuations in the value of the Pound Sterling relative to the U.S. Dollar. We do not currently enter into transactions with the specific purpose to hedge against currency exchange fluctuations.

The Anti-Takeover Provisions in Our Certificate of Incorporation Could Adversely Affect the Rights of the Holders of Our Common Stock

Anti-takeover provisions of Delaware law and our Certificate of Incorporation may make a change in control more difficult to finalize, even if a change in control would be beneficial to the stockholders. These provisions may allow the Board of Directors to prevent changes in our management and controlling interests. Under Delaware law, our Board of Directors may adopt additional anti-takeover measures in the future.

One anti-takeover provision that we have is the ability of our Board of Directors to determine the terms of preferred stock and issue preferred stock without the approval of the holders of the common stock. Our Certificate of Incorporation allows the issuance of up to 5,610,969 shares of preferred stock. As of December 31, 2004, there are no shares of preferred stock outstanding. However, because the rights and preferences of any series of preferred stock may be set by the Board of Directors in its sole discretion without approval of the holders of the common stock, the rights and preferences of this preferred stock may be superior to those of the common stock. Accordingly, the rights of the holders of common stock may be adversely affected.

Our Fraud Detection Services and Marketing Agreement With Visa U.S.A. Can Be Terminated

In July 2001, we entered into a new agreement with Visa U.S.A. to jointly develop and promote the CyberSource Advanced Fraud Screen Service Enhanced by Visa for use in the United States. Under the terms of the agreement, Visa has agreed to promote and market the new product to its member financial institutions and Internet merchants. The agreement expires in July 2005, but can be terminated by either party after the first year with ninety days prior written notice. After July 2005, the agreement renews automatically for additional periods of one year, unless terminated by either party.

Failure to Maintain Effective Internal Controls in Accordance with Section 404 of the Sarbanes-Oxley Act Could Have a Material Adverse Effect on Our Business and Stock Price

Section 404 of the Sarbanes-Oxley Act of 2002 requires, effective for our fiscal 2004, annual management assessments of the effectiveness of our internal controls over financial reporting and a report by our Independent Registered Public Accounting

Firm addressing these assessments. The threshold for what constitutes a significant deficiency in internal control under Section 404 of the Sarbanes-Oxley Act has been set quite low and, during the course of our annual testing, we may find one or more material weaknesses or significant deficiencies. Furthermore, there is no guarantee that we will be able to remedy any deficiencies we may find in a cost effective manner and in time to meet the deadline imposed by the Sarbanes-Oxley Act for compliance with the requirements of Section 404. In addition, if we fail to maintain the adequacy of our internal controls, as such standards are modified, supplemented or amended from time to time, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act. Failure to maintain an effective internal control environment could have a material adverse effect on our business and our stock price.

We provide our services to customers primarily in the United States and, to a lesser extent, in Europe and elsewhere throughout the world. As a result, our financial results could be affected by factors, such as changes in foreign currency exchange rates or weak economic conditions in foreign markets. All sales are currently made in U.S. Dollars or Pound Sterling. A strengthening of the U.S. Dollar or the Pound Sterling could make our products less competitive in foreign markets. Our interest income is sensitive to changes in the general level of U.S. interest rates. Due to the nature of our cash equivalents and short-term investments, which are primarily money market funds, government bonds and commercial paper, we have concluded that there is no material market risk exposure.

We have audited the accompanying consolidated balance sheets of CyberSource Corporation as of December 31, 2004 and 2003, and the related consolidated statements of operations, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the Index at Item 15(a)(2). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of CyberSource Corporation at December 31, 2004 and 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of CyberSource Corporation’s internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 7, 2005 expressed an unqualified opinion thereon.

CyberSource Corporation (“CyberSource” or the “Company”) provides secure electronic payment and risk management solutions to organizations that process orders for goods and services over the Internet. CyberSource’s payment solutions allow eCommerce merchants to accept a wide range of online payment options, from credit cards and electronic checks, to global payment options and emerging payment types. The Company’s risk and compliance management tools address complexities common to online merchants such as credit card fraud, online tax requirements and export controls. The Company’s reporting and management tools facilitate the automation of the flow of complex eCommerce processes, such as recurring billing and payment reconciliation. The Company partners with and connects to a large network of payment processors and other payment service providers to offer merchants a single source solution.

The accompanying consolidated financial statements reflect the financial position and results of operations of the Company and its wholly owned subsidiaries. All intercompany transactions and balances have been eliminated.

The financial statements of the Company’s non-U.S. subsidiary are translated into U.S. dollars in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 52, “Foreign Currency Translation.” Assets and liabilities of the Company’s subsidiary are translated at the rates of exchange at the end of the period. Revenues and expenses are translated using the average exchange rates in effect during the period. Foreign currency translation adjustments are recorded in other comprehensive income (loss). Gains and losses realized from foreign currency transactions denominated in currencies other than the subsidiary’s functional currency were not material through December 31, 2004.

The preparation of 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 financial statements as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

The Company recognizes revenue in accordance with SEC Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements” (“SAB 101”), SEC Staff Accounting Bulletin No. 104, Revenue Recognition (“SAB 104”) and Statement of Position 97-2, “Software Revenue Recognition” (“SOP 97-2”), as amended. SAB 104 and SOP 97-2 require that four basic criteria must be met before revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2) delivery has occurred or services rendered; (3) the fee is fixed and determinable; and (4) collectibility is reasonably assured. Determination of criteria (4) is based on management’s judgments regarding the collectibility of those fees.

The Company derives its revenues from monthly commerce transaction processing fees, support service fees, professional services and the sale of enterprise software licenses and related maintenance. Transaction revenues are recognized in the period in which the transactions occur. Professional services revenue and support service fees are recognized as the related services are provided and costs are incurred. In accordance with SOP 97-2 as amended, the Company had recognized enterprise software license and maintenance revenue when all elements of a contract had been delivered. For the periods through September 30, 2002, for enterprise software arrangements where maintenance was the only undelivered element, the Company had recognized the entire contract ratably over the term of the maintenance period as vendor-specific objective evidence (“VSOE”) of fair value for license or maintenance revenue had not been established. Beginning in the fourth quarter of 2002, the Company changed its maintenance pricing and established VSOE of fair value for new maintenance arrangements. As a result of establishing VSOE of fair value for maintenance revenue effective October 1, 2002, the Company recognizes software license revenue in the period in which the contract is signed, the software is delivered and the fee is collectible. The Company uses the residual method of accounting as permitted by Statement of Position 98-9 (“SOP 98-9”) to recognize revenue when a software license includes one or more elements to be delivered at a future date and VSOE exists for all undelivered elements. The Company allocates revenue to each element based upon its fair value as determined by VSOE. The Company defers revenue for any undelivered elements and recognizes the deferred revenue when the product is delivered or over the period in which the service is performed.

The Company derives a significant portion of its professional services revenue from fixed-price contracts, which require the accurate estimation of the cost, scope and duration of each engagement. Professional services revenue is recognized separately from enterprise software and transaction processing fees because the arrangements qualify as service transactions as defined by SOP 97-2. These services are accounted for separately from enterprise software and transaction processing fees as they are not essential to the functionality of the licensed software, and represent services available from other vendors. Revenue and the related costs for these projects are recognized using the percentage-of-completion method. Estimates are made regarding percent complete based on original hours budgeted and projected hours to complete the projects and revisions to estimates are reflected in the period in which changes become known. The Company has not had significant losses on professional services engagements to date.

Provisions are provided for sales returns and are based on historical experience and other known factors. For the years ended December 31, 2004, 2003 and 2002, no customer accounted for more than 10% of total revenues.

The Company considers all highly liquid investments with an original maturity from the date of purchase of three months or less to be cash equivalents. As of December 31, 2004 and 2003, cash equivalents consist primarily of investments in money market funds.

Short-term investments are classified as available-for-sale and are carried at fair market value. Short-term investments are primarily composed of government and corporate bonds with an original maturity greater than three months and less than one year. Also included in short-term investments are approximately $9.2 million in auction rate securities with final maturities ranging from 22 to 40 years. Although some maturities may extend beyond one year, these securities are available to be used for current operations and therefore, are classified as short-term investments as all of the Company’s auction rate securities have auction dates within at least one year of the prior auction date. The carrying amounts of the Company’s short-term investments approximate fair market value due to the short-term nature of these instruments. Cash, cash equivalents and short-term investments consist of the following as of December 31, 2004 and 2003 (in thousands):

Unrealized losses on short-term investments, which represent the difference between the fair market value and the amortized cost, were $72,000 as of December 31, 2004 and $15,000 as of December 31, 2003. There were no realized gains or losses from the sale of short-term investments during fiscal 2004, 2003 or 2002.

Financial instruments that potentially subject the Company and its subsidiaries to concentrations of credit risk consist principally of cash, cash equivalents, short-term investments and accounts receivable.

Cash, cash equivalents and short-term investments are invested in major financial institutions in the United States. Such deposits may be in excess of insured limits and are not insured in other jurisdictions. Management believes that the financial institutions that hold the Company’s investments are financially sound and, accordingly, minimal credit risk exists with respect to these investments.

The accounts receivable of the Company and its subsidiaries are derived from sales to customers located primarily in the United States and Europe. The Company performs ongoing credit evaluations of its customers. The Company generally does not require collateral.

An allowance for doubtful accounts is determined with respect to those amounts that the Company has determined to be doubtful of collection. At December 31, 2004 and 2003, no customer accounted for 10% or more of the Company’s accounts receivable balance. At December 31, 2004 and 2003, the percentage of accounts receivable due from foreign customers was 16% and 15%, respectively.

The Company has no off-balance-sheet concentration of credit risk such as foreign exchange contracts, option contracts or other hedging arrangements.

Property and equipment are stated at cost and are depreciated on a straight-line basis over estimated useful lives of three years. Leasehold improvements are amortized on a straight-line basis over the shorter of the lease terms or the estimated useful lives.

Product development expenditures are charged to operations as incurred. SFAS No. 86, “Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed,” requires capitalization of certain software development costs subsequent to the establishment of technological feasibility. Based on the Company’s product development process, technological feasibility is established upon the completion of a working model. To date, costs incurred by the Company between the completion of the working model and the point at which the product is ready for general release have been insignificant. Accordingly, the Company has charged all such costs to product development expense in the period incurred.

The cost of advertising is recorded as an expense when incurred. Advertising costs were approximately $0.1 million, $0.2 million and $0.5 million during the years ended December 31, 2004, 2003 and 2002, respectively.

In December 2002, the FASB issued Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation — Transition and Disclosure” (“SFAS 148”). SFAS 148 amends Statement of Financial Accounting Standards 123, “Accounting for Stock-Based Compensation,” (“SFAS 123”) to provide alternative methods of transition to the fair value method of accounting for stock-based employee compensation. In addition, SFAS 148 requires disclosure of the effects of an entity’s accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in annual and interim financial statements. As permitted under SFAS 148, the Company adopted the disclosure only provisions and has continued to follow the intrinsic value method of accounting for employee stock options in accordance with Accounting Principles Board Opinion No. 25 “Accounting for Stock Issued to Employees.” Accordingly, no compensation has been recognized for the Company’s stock-based compensation. If compensation expense for the Company’s stock-based compensation had been determined based on the fair value of the stock grants, our net income (loss) and net income (loss) per share would have been the pro forma amounts indicated below (in thousands, except per share amounts):

Total stock-based employee compensation expense determined under fair value based methods for all awards is shown net of tax related effects for 2004 and gross of tax related effects for 2003 and 2002 as the Company had incurred losses through 2003.

The fair value for these options was estimated at the date of grant using the Black-Scholes valuation model in 2004, 2003 and 2002 with the following weighted average assumptions:

The weighted average fair value of options granted, which is the value assigned to the options under SFAS 123, was $2.86, $1.16 and $1.06 per share for options granted during 2004, 2003 and 2002, respectively. The weighted average fair value assigned to shares purchased under the employee stock purchase plan under SFAS 123, was $1.44, $0.74 and $0.47 per share during 2004, 2003 and 2002, respectively.

The Company applies SFAS 123 and EITF 96-18 “Accounting for Equity Instruments that are Issued to Other than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” with respect to options issued to non-employees.

In accordance with Statement of Financial Accounting Standards No. 128, “Earnings Per Share,” basic and diluted net loss per share has been computed using the weighted average number of shares of common stock outstanding during the period. Potentially dilutive securities have been excluded from the computation as their effect is antidilutive.

If the Company had reported net income for the years ended December 31, 2003 and 2002, diluted earnings per share would have included the shares used in the computation of net loss per share as well as additional common equivalent shares related to outstanding options to purchase approximately 1,699,481 and 1,079,777 shares of common stock, respectively The common equivalent shares from options and warrants would be determined on a weighted average basis using the treasury stock method. The common equivalent shares related to the convertible note payable would be determined on a weighted average basis using the “as-if converted” method.

Income taxes are calculated under the provisions of Statement of Financial Accounting Standards No. 109, “Accounting for Income Taxes” (“SFAS 109”). Under SFAS 109, the liability method is used in accounting for income taxes, which includes the effects of temporary differences between financial and taxable amounts of assets and liabilities.

The Company’s comprehensive income (loss) consists of its net income (loss) and other comprehensive income (loss), including unrealized gains or losses on available for sale securities and foreign currency translation gains or losses.

In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123R”), which replaces SFAS No. 123 and supercedes APB No. 25. SFAS No. 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the financial statements based on their fair values beginning with the first interim or annual period after June 15, 2005, with early adoption encouraged. The pro forma disclosures previously permitted under SFAS No. 123 no longer will be an alternative to financial statement recognition. The Company is required to adopt SFAS No. 123R in the third quarter of 2005. Under SFAS No. 123R, the Company must determine the appropriate fair value model to be used for valuing share-based payments, the amortization method of compensation cost and the transition method to be used at date of adoption. The transition methods include retroactive and prospective adoption options. Under the retroactive option, prior periods may be restated either as of the beginning of the year of adoption or for all periods presented. The prospective method requires that compensation expense be recorded for all unvested stock options and restricted stock at the beginning of the first quarter of adoption of SFAS No. 123R, while the retroactive method would record compensation expense for all unvested stock options and restricted stock beginning with the first period restated. The Company is evaluating the requirements of SFAS No. 123R and has not yet determined the method of adoption or the effect of adopting SFAS No. 123R. In addition, the Company has not determined whether the adoption will result in amounts that are similar to the current pro forma disclosures under SFAS No. 123.

In June 2002, the Company entered into an Original Equipment Manufacturer agreement (“OEM Agreement”) with Miva Corporation (“Miva”), a privately-held provider of eCommerce software and services to small and medium-sized businesses. Under the terms of the OEM Agreement, the Company’s transaction processing services are being resold to the customers of Miva. Revenue generated under the OEM Agreement is being shared equally between the Company and Miva, after certain costs associated with delivering such services have been reimbursed to both parties.

In conjunction with the OEM Agreement, the Company and Miva also entered into a loan agreement whereby the Company provided an initial loan to Miva of $0.3 million in June 2002 and an additional loan of $0.3 million in August 2002 pursuant to a promissory note. Miva’s share of revenue under the OEM Agreement must first be used to repay the indebtedness outstanding under the loan. Any remaining principal and accrued interest was payable in full in June 2004. The loan accrued interest at an annual rate of 5% and was secured by substantially all of Miva’s assets. The Company recognized interest income related to the loan on a cash basis. In conjunction with the loan agreement, the Company also received a warrant to purchase 680,550 shares of Miva’s common stock at an exercise price of $0.28 per share. The warrant was fully vested, was to expire in June 2004 and had been assessed a value of approximately $95,000 using the Black-Scholes valuation model.

In December 2003, Miva was acquired by a third party, FindWhat.com. As a result, the Company waived its right to the warrant and wrote-off the value associated with the warrant accordingly. The principal and accrued interest on the loan had been classified as other current assets in the Company’s consolidated balance sheet as of December 31, 2003. In January 2004, the Company received payment in full from Miva of all principal and accrued interest on the outstanding loan classified as other current assets in the Company’s consolidated balance sheet as of December 31, 2003.

On March 1, 2000, the Company entered into a joint venture agreement with Japanese partners Marubeni Corporation and Trans-Cosmos, Inc. to establish CyberSource K.K. to provide commerce transaction services to the Japanese market. The Company will maintain a majority controlling interest in CyberSource K.K., subject to certain veto rights granted to the partners, which expire when CyberSource K.K. achieves at least $2.0 million in quarterly revenue. As of December 31, 2003, the Company has contributed $0.9 million to the joint venture. The joint venture is being accounted for under the equity method of accounting until the veto rights granted to the partners as described above expire. After such date, in accordance with the joint venture agreement, the Company will consolidate the financial position and results of operations of CyberSource K.K. For each of the years ended December 31, 2003 and 2002, the Company recorded losses from investment in the joint venture of approximately $0.2 million. As of June 30, 2002, the Company had recognized losses to the extent of its historical investment. In 2003, the Company made additional contributions to the joint venture totaling approximately $0.2 million, all of which were recorded as losses in the period the contribution occurred. In 2004, the Company made no additional contributions to the joint venture.

Operating segments are identified as components of an enterprise about which separate discrete financial information is available that is evaluated by the chief operating decision maker or decision-making group to make decisions about how to allocate resources and assess performance. The Company’s chief operating decision maker is the Chief Executive Officer. The Company views its operations as principally three segments, e-Commerce transaction services and support, enterprise software and professional services and manages the business based on the revenues and cost of revenues of these segments. Additionally, revenues from outside the United States were 9.4%, 7.7% and 6.9% of total revenues for the years ended December 31, 2004, 2003 and 2002, respectively. For the years ended December 31, 2004, 2003 and 2002, no customer accounted for more than 10% of revenues.

The following tables present revenues and cost of revenues by the Company’s three reportable segments for the years ended December 31, 2004, 2003 and 2002. There were no inter-business unit sales or transfers. The Company does not report operating expenses, depreciation and amortization, interest income (expense), income taxes, capital expenditures, or identifiable assets by its segments to the Chief Executive Officer. The Company’s Chief Executive Officer reviews the revenues and cost of revenues from each of the Company’s reportable segments, and all of the Company’s expenses are managed by and reported to the Chief Executive Officer on a consolidated basis. Revenues and cost of revenues are as follows (in thousands):

During the year ended December 31, 2004, the Company recorded a non-recurring restructuring reversal of $1.5 million. During the years ended December 31, 2003 and 2002, the Company recorded non-recurring restructuring charges totaling $0.5 million and $2.5 million, respectively. The non-recurring restructuring activity is summarized below:

The Company recorded restructuring charges of approximately $0.4 million and $0.3 million in 2003 and 2002, respectively, related to the reduction of its workforce worldwide to realign its resources to better manage and control the business. During 2003, the Company reduced its workforce by 11 employees of which 8 were in sales and marketing; 2 were in product development; and 1 was in operations. During 2002, the Company reduced its workforce by 12 employees of which 8 were in sales and marketing; 3 were in product development; and 1 was in general and administrative services. As of December 31, 2003, all amounts related to severance and benefits had been paid.

The Company also recorded facility-related restructuring charges of approximately $0.1 million and $2.0 million in 2003 and 2002, respectively. During 2001, the Company closed its St. Louis, Missouri facility, exited certain under-utilized space in its Mountain View, California and Austin, Texas facilities and consolidated its data centers. During 2002, the Company reassessed its initial estimate of future sublease income and the related sublease timeline associated with subleasing excess leased facilities. The reassessment was prompted by a further decline in the real estate market in the cities where those facilities are located. After considering information provided to the Company by its real estate advisors, the Company concluded it was probable these facilities could not be subleased at rates originally considered nor could they be subleased in the timeframe originally planned. As a result, the Company recorded an additional charge of $2.0 million relating to the facilities located in Mountain View, California and Austin, Texas. The additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2003. During 2003, the Company again reassessed its revised estimate of future sublease income and the related sublease timeline associated with subleasing excess leased facilities. After considering information provided to the Company by its real estate advisors, the Company concluded it was probable these facilities could not be subleased in the timeframe assumed in December 2002. As a result, the Company recorded an additional charge of $0.3 million relating to the facilities located in Mountain View, California and Austin, Texas. The additional charge considered current lease rates for similar facilities as well as costs associated with the estimated added holding period through December 2004. Also during 2003, the Company was able to sublease a portion of its St. Louis, Missouri facility and recorded a recovery of $0.2 million. During the fourth quarter of 2004, the Company re-evaluated its future facility needs and determined that its forecasted growth would require the utilization of the unoccupied space in its Mountain View, California facility beginning in 2005. As a result, the Company decided to no longer market the available space at its Mountain View, California facility, and extended its lease on this facility through December 2011. As a result, the Company reversed the remaining $1.5 million balance of previously recorded restructuring charges related to this facility.

The following table summarizes the costs and activities during fiscal 2004, related to the 2001 restructuring charges (in thousands):

As of December 31, 2004, the remaining accrued restructuring charges related to redundant facilities costs which will be paid over the remaining lease term.

The components of accumulated other comprehensive income (loss) are as follows (in thousands):

The Company leases its primary facility and certain equipment under noncancelable operating leases. The lease agreement for the Company’s primary facility expires in December 2011. Rental expense was approximately $1.4 million, $1.5 million and $1.5 million for the years ended December 31, 2004, 2003 and 2002, respectively.

The Company leases certain equipment under noncancelable lease agreements that are accounted for as capital leases. Equipment under capital lease arrangements, which is included in property and equipment, aggregated approximately $1.8 million at December 31, 2004 and 2003. Related accumulated amortization was approximately $1.8 million at December 31, 2004 and 2003. Amortization expense related to assets under capital leases is included with depreciation expense.

Future minimum lease payments under noncancelable operating leases at December 31, 2004 are as follows (in thousands):

The Company is authorized to issue 5,610,969 shares of preferred stock. The Company’s Board of Directors has the ability to determine the rights and preferences of the preferred stock and can issue the preferred stock without the approval of the holders of the common stock. As of December 31, 2004, there are no shares of preferred stock outstanding.

The Company is authorized to issue 50,000,000 shares of common stock. The holders of common stock are entitled to one vote per share on all matters to be voted upon by the stockholders of the Company. Subject to the preferences that may be

applicable to any outstanding shares of preferred stock, the holders of common stock are entitled to receive ratably such dividends, if any, as may be declared by the Board of Directors.

The Company has reserved shares of common stock for future issuance at December 31, 2004 as follows:

In March 1998, the Company adopted its 1998 Stock Option Plan (the “1998 Option Plan”). There are 1,900,000 shares of common stock authorized for issuance under the 1998 Option Plan. The 1998 Option Plan provides for the issuance of common stock and the granting of options to employees, officers, directors, consultants, independent contractors, and advisors of the Company. The exercise price of a nonqualifying stock option and an incentive stock option shall not be less than 85% and 100%, respectively, of the fair value of the underlying shares on the date of grant. Options granted under the 1998 Option Plan generally become exercisable over four years at the rate of 25% per year from the grant date.

In January 1999, the Company adopted its 1999 Stock Option Plan (the “1999 Option Plan”). The Company has reserved 2,500,000 shares of common stock for issuance under the 1999 Option Plan. The provisions of the 1999 Plan are similar to those of the 1998 Option Plan. In May 2000, September 2000 and May 2004, the Company reserved 3,500,000, 1,000,000 and 2,000,000 additional shares, respectively, of common stock under the 1999 Option Plan.

In October 1999, the Company adopted the 1999 Nonqualified Stock Option Plan (the “1999 Nonqualified Option Plan”). The Company has reserved 1,100,000 shares of common stock for issuance under the 1999 Nonqualified Option Plan. The 1999 Nonqualified Option Plan provides for the granting of non-qualified stock options to employees, consultants and directors. The other provisions of the 1999 Nonqualified Option Plan are similar to those of the 1999 and 1998 Stock Option Plans. In March 2000, the Company reserved an additional 637,500 shares of common stock for issuance under the 1999 Nonqualified Option Plan.

In September 2000, the Company assumed the PaylinX Stock Option Plan. During 2004, the Company retired the unissued shares available for grant. Options previously granted under this plan that have not yet expired or otherwise become unexercisable continue to be administered under such plan, and any portions that expire or become unexercisable for any reason shall be canceled and be unavailable for future issuance.

The following table summarizes information about the Company’s stock option activity under the 1998 Option Plan, the 1999 Option Plan and the 1999 Nonqualified Option Plan.

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

At December 31, 2003 and 2002, 3,234,683 and 2,948,052 options were exercisable at a weighted average exercise price of $7.94 and $8.23, respectively.

In June 1999, the Company’s board of directors and stockholders adopted the 1999 Employee Stock Purchase Plan and reserved 500,000 shares of common stock for issuance under this plan. In accordance with Section 423 of the Internal Revenue Code, this plan permits eligible employees to authorize payroll deductions of up to 10% of their base compensation to purchase shares of the Company’s common stock at the lower of 85% of the fair market value of the common stock on the first day of the offering period or the purchase date. In May 2004, the Company reserved an additional 200,000 shares of common stock for issuance under the 1999 Employee Stock Purchase Plan. During the year ended December 31, 2004, the Company issued 71,691 shares of common stock to employees under the terms of the plan. As of December 31, 2004, 243,918 shares remain available for purchase under the plan.

On January 22, 2002, the Board of Directors authorized management to use up to $10.0 million over a twelve-month period beginning at January 22, 2002 to repurchase shares of the Company’s common stock. During the twelve months ended January 21, 2003, the Company repurchased 518,300 shares at an average price of $1.98 per share, net of repurchase costs. All of the repurchased shares were cancelled and returned to the status of authorized, unissued shares.

On January 22, 2003, the Board of Directors authorized management to use up to $10.0 million over a twelve-month period beginning at January 22, 2003 to repurchase shares of the Company’s common stock. During the twelve months ended January 21, 2004, the Company repurchased 483,700 shares at an average price of $2.55 per share, net of repurchase costs. All of the repurchased shares were cancelled and returned to the status of authorized, unissued shares.

On January 22, 2004, the Board of Directors authorized management to use up to $10.0 million over a twelve-month period beginning at January 22, 2004 to repurchase additional shares of the Company’s common stock. During the period beginning January 22, 2004 and ended December 31, 2004, the Company repurchased 930,200 shares at an average price of $4.61 per share, net of repurchase costs. All of the repurchased shares were cancelled and returned to the status of authorized, unissued shares.

The Chief Executive Officer of the Company was the Chairman of the Board of Beyond.com. On January 24, 2002, Beyond.com filed for protection under Chapter 11 of the Bankruptcy Code. For the years ended December 31, 2004 and 2003, no sales were made to Beyond.com. For the year ended December 31, 2002, sales of transaction and support services totaling $28,000 were made to Beyond.com.

For the years ended December 31, 2004, 2003 and 2002, legal fees of approximately $0.5 million, $0.3 million and $0.2 million, respectively, were paid to Morrison & Foerster LLP, a law firm in which a director of the Company is a partner. As of December 31, 2004 and 2003, the Company had immaterial amounts of accounts payable due to Morrison & Foerster LLP.

The terms of the Company’s contracts with the above-related parties are consistent with its contracts with other independent parties.

In July and August 2001, various class action lawsuits were filed in the United States District Court, Southern District of New York, against the Company, its Chairman and CEO, a former officer, and four brokerage firms that served as underwriters in its initial public offering. The actions were filed on behalf of persons who purchased the Company’s stock issued pursuant to or traceable to the initial public offering during the period from June 23, 1999 through December 6, 2000. The action alleges that the Company’s underwriters charged secret excessive commissions to certain of their customers in return for allocations of the Company’s stock in the offering. The two individual defendants are alleged to be liable because of their involvement in preparing and signing the registration statement for the offering, which allegedly failed to disclose the supposedly excessive commissions. On December 7, 2001, an amended complaint was filed in one of the actions to expand the purported class to persons who purchased the Company’s stock issued pursuant to or traceable to the follow-on public offering during the period from November 4, 1999 through December 6, 2000. The lawsuit filed against the Company is one of several hundred lawsuits filed against other companies based on substantially similar claims. On April 19, 2002, a consolidated amended complaint was filed to consolidate all of the complaints and claims into one case. The consolidated amended complaint alleges claims that are virtually identical to the amended complaint filed on December 7, 2001 and the original complaints. In October 2002, the Company’s officer and a former officer that were named in the amended complaint were dismissed without prejudice. In July 2002, the Company, along with other issuer defendants in the case, filed a motion to dismiss the consolidated amended complaint with prejudice. On February 19, 2003, the court issued a written decision denying the motion to dismiss with respect to CyberSource. On July 2, 2003, a committee of the Company’s Board of Directors conditionally approved a proposed partial settlement with the plaintiffs in this matter. The settlement would provide, among other things, a release of the Company and of the individual defendants for the conduct alleged in the action to be wrongful in the Amended Complaint. The Company would agree to undertake other responsibilities under the partial settlement, including agreeing to assign away, not assert, or release certain potential claims it may have against its underwriters. Any direct financial impact of the proposed settlement is expected to be borne by the Company’s insurers. The committee agreed to approve the settlement subject to a number of conditions, including the participation of a substantial number of other Issuer Defendants in the proposed settlement, the consent of the Company’s insurers to the settlement, and the completion of acceptable final settlement documentation. Furthermore, the settlement is subject to a hearing on fairness and final approval by the court overseeing the IPO litigations. While there can be no assurances as to the outcome of the lawsuit, the Company does not presently believe that an adverse outcome in the lawsuit would have a material effect on its financial condition, results of operations or cash flows.

On August 11, 2004, the Company filed suit in the Northern District of California against Retail Decisions, Inc. (“ReD US”) and Retail Decisions Plc (“ReD UK”) (collectively, “ReD”), Case No. 3:04-CIV-03268, alleging that ReD infringes the Company’s U.S. Patent No. 6,029,154 (the “‘154 Patent”). The Company served ReD US with the complaint on August 12, 2004, and it served ReD UK with the complaint on August 13, 2004. On September 30, 2004, ReD responded to the Company’s complaint. ReD filed a motion to stay the case for 90 days pending a determination by the U.S. Patent and Trademark Office (“PTO”) as to whether it will grant ReD’s request that the PTO re-examine the ‘154 Patent. ReD also filed a motion for a more definite statement by the Company with respect to its allegation that ReD is willfully infringing the ‘154 Patent. In addition, ReD UK filed a motion to dismiss the action against it on the ground that it is not subject to personal jurisdiction in the Northern District of California. On October 27, 2004, ReD filed a request for re-examination with the PTO, based on prior art ReD discovered that allegedly invalidates the patent. On October 28, 2004, the Company filed an opposition to ReD’s motion to stay the case for 90 days and an opposition to ReD’s motion for a more definite statement with respect to willful infringement. Based on ReD UK’s representation that ReD US is the sole entity that develops, operates, and distributes the eBitGuard service, the Company agreed to dismiss ReD UK while reserving the right to reinstitute action against ReD UK in the event it later discovers that ReD UK is subject to the court’s personal jurisdiction. In return, ReD UK agreed that if the Company later establishes that personal jurisdiction existed, the Company could re-file against ReD UK in this action without prejudice to its damages claim. The Company also filed an amended complaint, removing ReD UK as a named defendant and restating the willful infringement claim. On November 16, 2004, the court granted ReD’s motion to stay the proceedings pending the PTO’s decision as to whether it will grant ReD’s request for re-examination. On December 30, 2004, the PTO granted ReD’s request for a re-examination. Based on the Company’s review of the cited prior art references and the re-examination request, it does not believe that the PTO will invalidate the ‘154 Patent. On January 19, 2005, ReD filed a motion to dismiss the case without prejudice or to extend the stay until completion of the re-examination process. On January 24, 2005, the court extended the stay pending the re-examination process, vacated ReD’s motion to dismiss, and ordered quarterly updates as to the status of the re-examination process. While there can be no assurances as to the outcome of the lawsuit, the Company does not presently believe that an adverse outcome in the lawsuit would have a material effect on its financial condition, results of operations, or cash flows.

The Company is currently party to various legal proceedings and claims which arise in the ordinary course of business. While the outcome of these matters cannot be predicted with certainty, the Company does not believe that the outcome of any of these claims or any of the above mentioned legal matters will have a material adverse effect on its consolidated financial position, results of operations or cash flows.

The components of income (loss) before income taxes are as follows (in thousands):

The Company’s provision for income taxes consists of the following (in thousands):

A reconciliation between the tax provision computed at the statutory income tax rate of 35% and the Company’s actual effective income tax provision is as follows (in thousands):

As of December 31, 2004, the Company has approximately $157.9 million federal and $72.6 million state net operating loss carryforwards to reduce future taxable income.

As of December 31, 2004, the Company also has research and experimentation tax credit carryforwards of approximately $1.1 million and $0.7 million for federal and state income tax purposes, respectively.

The net operating loss and credit carryforwards will expire at various dates beginning in 2005 through 2014, if not utilized. The utilization of the net operating losses and credits may be subject to a substantial annual limitation due to the “change in ownership” provisions of the Internal Revenue Code of 1986 and similar state provisions. The annual limitation may result in the expiration of net operating losses and credits before utilization.

Under SFAS 109, deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Due to the uncertainty surrounding the realization of the tax attributes in tax returns, the Company has placed a full valuation allowance against its otherwise recognizable deferred tax assets.

The Company maintains a defined contribution plan under Internal Revenue Service Code 401(k) (the “401(k) Plan”). The 401(k) Plan provides for tax deferred salary deductions. Employees can elect to contribute to the 401(k) Plan up to 20% of their salary, subject to current statutory limits. The Company is not required to contribute to the 401(k) Plan and has made no contributions since the inception of the 401(k) Plan.

The following table reconciles the numerators and denominators of the net income (loss) per share calculation for the years ended December 31, 2004, 2003 and 2002 (in thousands, except per share data):

The Company from time to time enters into certain types of contracts that contingently require the Company to indemnify parties against third-party claims. These contracts primarily relate to: (i) certain real estate leases, under which the Company may be required to indemnify property owners for environmental and other liabilities, and other claims arising from the Company’s use of the applicable premises; and (ii) certain agreements with the Company’s officers, directors and employees, under which the Company may be required to indemnify such persons for liabilities arising out of their employment relationship.

The terms of such obligations vary. Generally, a maximum obligation is not explicitly stated. Because the obligated amounts of these types of agreements often are not explicitly stated, the overall maximum amount of the obligations cannot be reasonably estimated. Historically, the Company has not been obligated to make significant payments for these obligations, and no liabilities have been recorded for these obligations on its balance sheet as of December 31, 2004 or 2003.

Summarized quarterly financial information for fiscal 2004 and 2003 is as follows (in thousands, except per share data):

The second quarter fiscal 2003 net loss includes a facility restructuring recovery of $0.2 million, offset by severance and benefit restructuring charges of $0.1 million.

The third quarter fiscal 2003 net loss includes severance and benefit restructuring charges of $0.2 million.

The fourth quarter fiscal 2003 net loss includes facility restructuring charges of $0.3 million.

The fourth quarter fiscal 2004 net income includes reversals of facility restructuring charges of $1.5 million.

On January 26, 2005, the Board of Directors authorized management to use up to $10.0 million over a twelve-month period beginning at February 1, 2005 to repurchase additional shares of the Company’s common stock. During the period beginning February 1, 2005 and ended March 2, 2005, the Company has repurchased 314,300 shares at an average price of $5.41 per share, net of repurchase costs. All of the repurchased shares were cancelled and returned to the status of authorized, unissued shares.

As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of its disclosure controls and procedures. Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that its disclosure controls and procedures are effective in timely alerting them to material information required to be included in this report. It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote.

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d -15(f)) for the Company. Management designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. The internal controls procedures were designed with the objective of providing reasonable assurance that the Company’s transactions are properly authorized, its assets are safeguarded against unauthorized acquisition, use or disposition and its transactions are properly recorded and reported, all to permit the preparation of the Company’s financial statements in conformity with U.S. generally accepted accounting principles.

As of the end of the period covered by this report, the Company’s management carried out an evaluation, under the supervision and with the participation of its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the Company’s internal controls over financial reporting. In making this assessment, the Company’s management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control-Integrated Framework. In the course of this evaluation, the Company sought to identify data errors, controls problems or acts of fraud. Our internal controls over financial reporting are evaluated on an ongoing basis by our finance department. The overall goal of these various evaluation activities is to monitor our internal controls over financial reporting and to make modifications as necessary; our intent in this regard is that the internal controls over financial reporting will be maintained as dynamic systems that change (including improvements and corrections) as conditions warrant.

Based on this evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that its internal controls over financial reporting are effective. It should be noted that internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

The Company’s independent registered public accounting firm, Ernst & Young LLP, audited management’s assessment that the Company maintained effective internal control over financial reporting as of December 31, 2004. Ernst & Young LLP has issued an attestation report concurring with management’s assessment, which is included in this Form 10-K.

There have been no significant changes in the Company’s internal controls or in other factors which could significantly affect internal controls subsequent to the date the Company carried out this evaluation.

We have audited management’s assessment, included in the accompanying Management Assessment of Internal Control, that CyberSource Corporation maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). CyberSource Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

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

In our opinion, management’s assessment that CyberSource Corporation maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, CyberSource Corporation maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of CyberSource Corporation as of December 31, 2004 and 2003 and the related consolidated statements of operations, stockholder’s equity and cash flows for each of the three years in the period ended December 31, 2004 of CyberSource Corporation and our report dated March 7, 2005 expressed an unqualified opinion thereon.

The information required by this item is incorporated by reference to the Company’s Proxy Statement for the 2005 Annual Meeting of Stockholders.

Schedule II—Valuation and Qualifying Accounts is listed on page 51 of this Annual Report on Form 10-K. All other schedules are omitted because they are not applicable or the required information is shown in the Financial Statements or the notes thereto.

Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized, in Mountain View, California on the 10th day of March, 2005.


CYBERSOURCE CORPORATION

By:		/s/ WILLIAM S. MCKIERNAN
		William S. McKiernan Chief Executive Officer

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints William S. McKiernan and Steven D. Pellizzer, and each of them, his attorneys-in-fact, each with the power of substitution, for him in any and all capacities, to sign any amendments to this Report on Form 10-K and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof.

Pursuant to the requirements of the Securities and Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.


Year ended December 31, 2003	High		Low
First Quarter	$	2.73	$	2.15
Second Quarter	$	2.99	$	2.05
Third Quarter	$	4.18	$	2.57
Fourth Quarter	$	5.81	$	3.40

Year ended December 31, 2004	High		Low
First Quarter	$	5.27	$	4.00
Second Quarter	$	8.83	$	4.89
Third Quarter	$	8.73	$	4.09
Fourth Quarter	$	7.94	$	5.03


	Years Ended December 31,
	2004			2003			2002			2001			2000(1)
	(In thousands, except per share data)
Consolidated Statements of Operations Data:
Revenues	$	36,709		$	27,503		$	28,024		$	30,749		$	29,924
Cost of revenues		12,023			9,293			11,984			20,550			23,161

Gross profit		24,686			18,210			16,040			10,199			6,763
Operating expenses:
Product development		6,772			7,529			8,078			17,372			16,103
Sales and marketing		10,065			11,164			13,143			20,607			29,400
General and administrative		5,551			4,942			5,856			11,070			13,532
In-process research and development		—			—			—			—			14,500
Amortization of goodwill and other intangible assets		—			—			—			41,933			12,961
Acquisition related costs		—			—			—			—			834
Deferred compensation amortization		—			—			—			2,511			1,521
Restructuring and other non-recurring charges		(1,493	)		467			2,473			104,661			—

Total operating expenses		20,895			24,102			29,550			198,154			88,851

Income (loss) from operations		3,791			(5,892	)		(13,510	)		(187,955	)		(82,088	)
Interest income, net		695			625			1,158			3,306			7,304
Loss on investment in joint venture		—			(175	)		(162	)		(398	)		(200	)
Income tax provision		25			—			—			—			—

Net income (loss)	$	4,461		$	(5,442	)	$	(12,514	)	$	(185,047	)	$	(74,984	)

Basic net income (loss) per share	$	0.13		$	(0.17	)	$	(0.38	)	$	(5.38	)	$	(2.63	)

Diluted net income (loss) per share	$	0.12		$	(0.17	)	$	(0.38	)	$	(5.38	)	$	(2.63	)

Weighted average number of shares used in computing basic net income (loss) per share		33,448			32,860			32,900			34,370			28,472

Weighted average number of shares used in computing diluted net income (loss) per share		35,884			32,860			32,900			34,370			28,472


	December 31,
	2004		2003		2002		2001		2000(1)
	(In thousands)
Consolidated Balance Sheet Data:
Cash, cash equivalents and short-term investments	$	44,703	$	44,361	$	49,275	$	59,116	$	92,003
Working capital		45,468		41,629		42,852		50,367		87,668
Total assets		55,280		54,807		61,807		78,192		261,855
Long-term obligations, net of current portion		—		—		—		—		65
Total stockholders’ equity		47,499		44,195		49,368		62,472		247,033


	Year Ended December 31,
	2004		2003
Revenues	100.0	%	100.0	%
Cost of revenues	32.8	%	33.8	%

Gross profit	67.2	%	66.2	%
Operating expenses:
Product development	18.4	%	27.4	%
Sales and marketing	27.4	%	40.6	%
General and administrative	15.1	%	18.0	%
Restructuring charges	(4.1	%)	1.7	%

Total operating expenses	56.8	%	87.7	%

Income (loss) from operations	10.4	%	(21.5	%)
Loss on investment in joint venture	—		(0.6	%)
Interest and other income, net	1.9	%	2.3	%

Income (loss) before income taxes	12.3	%	(19.8	%)
Income tax provision	0.1	%	—

Net income (loss)	12.2	%	(19.8	%)


	Years Ended December 31,
	2004			2003
Cash provided (used) by operating activities	$	1,531		$	(4,608	)
Proceeds from payment of promissory note		645			—
Proceeds from exercise of stock options and issuance of common stock under the employee stock purchase plan		3,088			1,444
Purchases of property and equipment		(677	)		(382	)
Repurchases of common stock		(4,288	)		(1,235	)


	Total		Less than 1 year		1 – 3 years		3 – 5 years		More than 5 years
Operating leases	$	10,900	$	2,882	$	4,146	$	1,936	$	1,936

Total commitments	$	10,900	$	2,882	$	4,146	$	1,936	$	1,936


Report of Independent Registered Public Accounting Firm		28
Consolidated Balance Sheets		29
Consolidated Statements of Operations		30
Consolidated Statements of Stockholders’ Equity		31
Consolidated Statements of Cash Flows		32
Notes to Consolidated Financial Statements		33


	Common Stock					Additional Paid in Capital			Accumulated Other Comprehensive Income (Loss)			Accumulated Deficit			Total
	Shares		Amount			Additional Paid in Capital			Accumulated Other Comprehensive Income (Loss)			Accumulated Deficit			Total
Balance at December 31, 2001	32,884,796		$	33		$	362,662		$	(100	)	$	(300,123	)	$	62,472
Issuance of common stock under stock option plans	307,868			—			311			—			—			311
Issuance of common stock under employee stock purchase plan	91,222			—			101			—			—			101
Repurchase of common stock, net	(518,300	)		—			(1,026	)		—			—			(1,026	)
Foreign currency translation adjustment	—			—			—			24			—			24
Net loss	—			—			—			—			(12,514	)		(12,514	)

Comprehensive loss	—			—			—			—			—			(12,490	)

Balance at December 31, 2002	32,765,586			33			362,048			(76	)		(312,637	)		49,368
Issuance of common stock under stock option plans	815,470			—			1,314			—			—			1,314
Issuance of common stock under employee stock purchase plan	71,767			—			130			—			—			130
Repurchase of common stock, net	(483,700	)		—			(1,235	)		—			—			(1,235	)
Unrealized loss on short-term investments	—			—			—			(15	)		—			(15	)
Foreign currency translation adjustment	—			—			—			75			—			75
Net loss	—			—			—			—			(5,442	)		(5,442	)

Comprehensive loss	—			—			—			—			—			(5,382	)

Balance at December 31, 2003	33,169,123			33			362,257			(16	)		(318,079	)		44,195
Issuance of common stock under stock option plans	1,120,676			1			2,866			—			—			2,867
Issuance of common stock under employee stock purchase plan	71,691			—			221			—			—			221
Repurchase of common stock, net	(930,200	)		(1	)		(4,287	)		—			—			(4,288	)
Unrealized loss on short-term investments	—			—			—			(57	)		—			(57	)
Foreign currency translation adjustment	—			—			—			100			—			100
Net income	—			—			—			—			4,461			4,461

Comprehensive income	—			—			—			—			—			4,504

Balance at December 31, 2004	33,431,290		$	33		$	361,057		$	27		$	(313,618	)	$	47,499


	Carrying Value at December 31, 2004		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value at December 31, 2004
Cash and cash equivalents:
Cash	$	1,912	$	—	$	—		$	1,912
Money market funds		11,140		—		—			11,140

Total cash and cash equivalents		13,052		—		—			13,052

Short-term investments:
Municipal bonds		10,226		—		(2	)		10,224
Corporate debt		11,468		—		(40	)		11,428
U.S. Government and agency securities		10,029		—		(30	)		9,999

Total short-term investments		31,723		—		(72	)		31,651

Total cash, cash equivalents and short-term investments	$	44,775	$	—	$	(72	)	$	44,703


	Carrying Value at December 31, 2003		Gross Unrealized Gains		Gross Unrealized Losses			Fair Market Value at December 31, 2003
Cash and cash equivalents:
Cash	$	809	$	—	$	—		$	809
Money market funds		14,441		—		—			14,441

Total cash and cash equivalents		15,250		—		—			15,250

Short-term investments:
Municipal bonds		6,904		—		—			6,904
Corporate debt		10,234		5		(14	)		10,225
U.S. Government and agency securities		11,988		15		(21	)		11,982

Total short-term investments		29,126		20		(35	)		29,111

Total cash, cash equivalents and short-term investments	$	44,376	$	20	$	(35	)	$	44,361


	Balance at December 31, 2003		Adjustment to Restructuring Charge			Cash Payments			Non-cash Charges		Balance at December 31, 2004
Facilities related charges	$	2,415	$	(1,493	)	$	(903	)	$	—	$	19

	$	2,415	$	(1,493	)	$	(903	)	$	—	$	19


Year ending December 31,	Operating Leases		Amount Included in Accrued Restructuring		Remaining Obligation
2005	$	2,882	$	19	$	2,863
2006		2,842		—		2,842
2007		1,304		—		1,304
2008		968		—		968
2009		968		—		968
2010 and thereafter		1,936		—		1,936

Total minimum payments	$	10,900	$	19	$	10,881


1998 and 1999 Stock Option Plans:
Options outstanding		6,182,832
Options available for future grants		3,829,882
1999 Employee Stock Purchase Plan—shares available for future purchase		243,918

		10,256,632


			Options Outstanding
	Options Available for Grant		Number of Options		Weighted Average Exercise Price
Balance at December 31, 2001	5,164,748		6,548,315		$	9.29
Options granted	(2,427,500	)	2,427,500		$	1.66
Options exercised	—		(307,868	)	$	1.01
Options canceled	2,850,814		(2,850,814	)	$	10.10

Balance at December 31, 2002	5,588,062		5,817,133		$	6.14
Options granted	(2,048,000	)	2,048,000		$	2.42
Options exercised	—		(815,470	)	$	1.61
Options canceled	1,108,612		(1,108,612	)	$	6.35

Balance at December 31, 2003	4,648,674		5,941,051		$	5.45
Additional shares reserved	2,000,000		—			—
Options granted	(2,046,500	)	2,046,500		$	5.24
Options exercised	—		(1,120,676	)	$	2.56
Options canceled	684,043		(684,043	)	$	7.27
Options retired	(1,456,335	)	—		$	5.86

Balance at December 31, 2004	3,829,882		6,182,832		$	5.70


Exercise Price	Number of Options Outstanding	Weighted Average Exercise Price		Weighted Average Remaining Contractual Life (Years)	Number of Options Exercisable	Weighted Average Exercise Price
$ 0.05–$ 1.13	305,604	$	1.07	6.10	286,922	$	1.06
$ 1.25–$ 1.60	918,218	$	1.59	7.08	588,068	$	1.59
$ 1.63–$ 2.25	1,308,389	$	2.13	7.91	584,361	$	2.07
$ 2.37–$ 4.92	660,512	$	3.56	8.04	324,927	$	3.19
$ 4.96–$ 4.96	1,024,435	$	4.96	9.05	214,104	$	4.96
$ 5.00–$ 6.75	1,029,062	$	6.17	6.64	818,779	$	6.33
$ 6.80–$ 64.63	936,612	$	18.05	6.32	687,528	$	22.00

	6,182,832	$	5.70		3,504,689	$	7.09


	First Quarter			Second Quarter			Third Quarter			Fourth Quarter		Fiscal Year
Fiscal 2004
Revenues	$	8,476		$	8,623		$	9,219		$	10,391	$	36,709
Gross profit		6,025			6,021			5,960			6,680		24,686
Net income		630			558			598			2,675		4,461
Basic net income per share	$	0.02		$	0.02		$	0.02		$	0.08	$	0.13
Diluted net income per share	$	0.02		$	0.02		$	0.02		$	0.07	$	0.12

Fiscal 2003
Revenues	$	6,373		$	6,502		$	6,949		$	7,679	$	27,503
Gross profit		3,958			4,138			4,661			5,453		18,210
Net income (loss)		(2,092	)		(2,014	)		(1,392	)		56		(5,442	)
Basic and diluted net income (loss) per share	$	(0.06	)	$	(0.06	)	$	(0.04	)	$	0.00	$	(0.17	)


		Page
Report of Independent Registered Public Accounting Firm		28
Consolidated Balance Sheets		29
Consolidated Statements of Operations		30
Consolidated Statements of Stockholders’ Equity		31
Consolidated Statements of Cash Flows		32
Notes to Consolidated Financial Statements		33


Signature	Title	Date

/s/ WILLIAM S. MCKIERNAN William S. McKiernan	Chief Executive Officer and Chairman of the Board (Principal Executive Officer)	March 10, 2005

/s/ STEVEN D. PELLIZZER Steven D. Pellizzer	Chief Financial Officer and Vice President of Finance (Principal Financial Officer)	March 10, 2005

/s/ JOHN J. MCDONNELL, JR. John J. McDonnell, Jr.	Director	March 10, 2005

/s/ STEVEN P. NOVAK Steven P. Novak	Director	March 10, 2005

/s/ RICHARD SCUDELLARI Richard Scudellari	Director	March 10, 2005

/s/ KENNETH R. THORNTON Kenneth R. Thornton	Director	March 10, 2005


	Balance at Beginning of Year		Amounts Charged to Revenue, Costs, or Expenses		Write- offs and Recoveries		Balance at End of Year
2002
Allowance for Doubtful Accounts	$	1,008	$	—	$	335	$	673
2003
Allowance for Doubtful Accounts	$	673	$	50	$	165	$	558
2004
Allowance for Doubtful Accounts	$	558	$	170	$	255	$	473


Exhibit Number		Document
3.1(1)*		Certificate of Incorporation of the Registrant, as amended.

3.2(1)*		Bylaws of the Registrant, as amended.

4.1		Reference is made to Exhibits 3.1 and 3.2.

10.1(1)*+		Form of Indemnification Agreement between the Registrant and each of its directors and officers.

10.2(1)*+		1998 Stock Option Plan.

10.3(1)*+		1999 Stock Option Plan, as amended

10.4(2)x		Conveyance Agreement dated December 31, 1997 by and between CyberSource Corporation and Internet Commerce Service Corporation.

10.5(3)x		Amended and Restated Inter-Company Cross License Agreement dated May 19, 1998 by and between Internet Commerce Services Corporation and software.net Corporation.

10.6(4)x		Internet Commerce Services Agreement dated April 23, 1998 by and between Internet Commerce Services Corporation and software.net Corporation.

10.7(5)		Amended and Restated Investors’ Rights Agreement dated October 21 1998.

10.8(6)+		1999 Employee Stock Purchase Plan.

10.9(7)x		CyberSource Internet Commerce Services Agreement dated May 1, 1999 by and between CyberSource Corporation and Beyond.com Corporation.

10.10(8)+x		1999 Nonqualified Stock Option Plan, as amended.

10.11(9)x		Software License Agreement dated June 30, 1999 by and between CyberSource Corporation and Beyond.com Corporation.

10.12(10)		Lease Agreement dated November 3, 1999 by and between Shoreline Investments V and CyberSource Corporation.

10.13		Second Amendment, dated December 30, 2004, to Lease, dated November 3, 1999 by and between Shoreline Investments V and CyberSource Corporation.

10.14		Oral Employment Agreements with Directors and Named Executive Officers.

23.1		Consent of Ernst & Young LLP, Independent Registered Public Accounting Firm.

24.1		Power of Attorney. Reference is made to Page 50.

31.1		Certification of William S. McKiernan, Chief Executive Officer of the Registrant dated March 10, 2005, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2		Certification of Steven D. Pellizzer, Chief Financial Officer of the Registrant dated March 10, 2005, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1		Certification of William S. McKiernan, Chief Executive Officer of the Registrant dated March 10, 2005, in accordance with 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2		Certification of Steven D. Pellizzer, Chief Financial Officer of the Registrant dated March 10, 2005, in accordance with 18 U.S.C. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002