E.Piphany, Inc. Form 10-Q September 30, 2001

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-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, BL6LgaFqUzKYlwLvfrx9pLwEyQVu6C30QEVEEkb+mq2Ixn2G4cM6uxLkFBg/Q0Ax PLu6MGpP84RS07hAvLm8dw== 0000891618-01-502230.txt : 20020410 0000891618-01-502230.hdr.sgml : 20020410 ACCESSION NUMBER: 0000891618-01-502230 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20010930 FILED AS OF DATE: 20011114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: E PIPHANY INC CENTRAL INDEX KEY: 0001089613 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-BUSINESS SERVICES, NEC [7389] IRS NUMBER: 770443392 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-27183 FILM NUMBER: 1788535 BUSINESS ADDRESS: STREET 1: 1900 S NORFOLK ST STREET 2: SUITE 310 CITY: SAN MATEO STATE: CA ZIP: 94403 BUSINESS PHONE: 6504962430 10-Q 1 f76893e10-q.htm FORM 10-Q QUARTER ENDED SEPTEMBER 30, 2001 E.Piphany, Inc. Form 10-Q September 30, 2001

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10 - Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2001

OR

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

Commission File Number 000-26881

E.PIPHANY, INC.

(Exact Name as Registrant specified in its charter)


Delaware		77-0443392

(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification Number)

1900 South Norfolk Street, Suite 310
San Mateo, California 94403

(Address of principal executive offices)

(650) 356-3800

(Registrant’s telephone number, including area code)

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

The number of shares outstanding of the registrant’s common stock, par value $0.0001 per share, as of October 31, 2001, was 70,980,855.

TABLE OF CONTENTS


PART I: FINANCIAL INFORMATION
	ITEM 1: FINANCIAL STATEMENTS
		CONDENSED CONSOLIDATED BALANCE SHEETS
		CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
		NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
	ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
	ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
PART II: OTHER INFORMATION
	ITEM 1. LEGAL PROCEEDINGS
	ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
	ITEM 3. DEFAULTS UPON SENIOR SECURITIES
	ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
	ITEM 5. OTHER INFORMATION
	ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
SIGNATURES
EXHIBIT INDEX

E.PIPHANY, INC.

QUARTERLY REPORT ON FORM 10-Q
QUARTER ENDED SEPTEMBER 30, 2001

TABLE OF CONTENTS

Page No.

PART I FINANCIAL INFORMATION

Item 1. Financial Statements

Condensed Consolidated Balance Sheets -
As of December 31, 2000 and September 30, 2001
3

Condensed Consolidated Statements of Operations -
Three and nine months ended September 30, 2000 and 2001
4

Condensed Consolidated Statements of Cash Flows -
Nine months ended September 30, 2000 and 2001
5

Notes to Condensed Consolidated Financial Statements 6

Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
12

Item 3. Quantitative and Qualitative Disclosures About Market Risk 30

PART II OTHER INFORMATION

Item 1. Legal Proceedings 31

Item 2. Changes in Securities and Use of Proceeds 31

Item 3. Defaults Upon Senior Securities 31

Item 4. Submission of Matters to a Vote of Securities Holders 31

Item 5. Other Information 31

Item 6. Exhibits and reports on Form 8-K 32

SIGNATURES 33

PART I: FINANCIAL INFORMATION

ITEM 1: FINANCIAL STATEMENTS

E.PIPHANY, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)


			December 31,			September 30,
			2000			2001

						(unaudited)
ASSETS
Current assets:
	Cash and cash equivalents		$	319,634		$	214,761
	Short-term investments			77,339			123,010
	Accounts receivable, net			27,592			13,527
	Prepaid expenses and other assets			5,152			4,196

		Total current assets		429,717			355,494
Property and equipment, net				21,789			24,063
Goodwill and purchased intangibles				2,541,245			115,105
Other assets				2,323			3,643

		Total assets	$	2,995,074		$	498,305

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
	Current portion of capital lease obligations		$	658		$	593
	Trade accounts payable			2,191			1,236
	Accrued liabilities			17,289			15,095
	Accrued compensation			12,715			11,823
	Accrued restructuring costs			—			7,921
	Deferred revenue			23,412			18,224

		Total current liabilities		56,265			54,892
Accrued restructuring costs				—			17,991
Capital lease obligations, net of current portion				618			244

		Total liabilities		56,883			73,127
Minority interest				—			35
Stockholders’ equity:
	Common stock			6			7
	Additional paid-in capital			3,746,759			3,804,380
	Notes receivable			(2,668	)		(891	)
	Accumulated other comprehensive loss			(550	)		(100	)
	Deferred compensation			(1,009	)		(1,314	)
	Accumulated deficit			(804,347	)		(3,376,939	)

		Total stockholders’ equity		2,938,191			425,143

		Total liabilities and stockholders’ equity	$	2,995,074		$	498,305

The accompanying notes are an integral part of the condensed consolidated financial statements.

E.PIPHANY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)


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

			2000			2001			2000			2001

Revenues:
	Product license		$	21,382		$	16,200		$	43,943		$	54,893
	Services			17,758			12,306			34,131			42,788

		Total revenues		39,140			28,506			78,074			97,681

Cost of revenues:
	Product license			342			474			766			1,663
	Services			17,307			9,319			32,703			44,739

		Total cost of revenues		17,649			9,793			33,469			46,402

		Gross profit		21,491			18,713			44,605			51,279

Operating expenses:
	Research and development			8,533			10,147			17,699			32,355
	Sales and marketing			19,872			21,925			46,989			70,126
	General and administrative			6,207			4,672			12,503			20,232
	Restructuring charge			—			32,436			—			32,436
	In-process research and development charge			—			—			47,000			—
	Amortization and write-down of goodwill and purchased intangibles			269,904			1,935,315			427,162			2,480,201
	Stock-based compensation			332			410			1,993			1,156

		Total operating expenses		304,848			2,004,905			553,346			2,636,506

		Loss from operations		(283,357	)		(1,986,192	)		(508,741	)		(2,585,227	)
Other income, net				6,088			3,039			16,948			12,635

		Net loss	$	(277,269	)	$	(1,983,153	)	$	(491,793	)	$	(2,572,592	)

Basic and diluted net loss per share			$	(4.35	)	$	(28.68	)	$	(9.28	)	$	(38.00	)

Shares used in computing basic and diluted net loss per share				63,813			69,152			53,022			67,691

The accompanying notes are an integral part of the condensed consolidated financial statements.

E.PIPHANY, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)


					Nine Months Ended
					September 30,

					2000			2001

Cash flows from operating activities:
	Net loss				$	(491,793	)	$	(2,572,592	)
	Adjustments to reconcile net loss to net cash used for operating activities:
		Depreciation and amortization				2,045			4,315
		Allowance for doubtful accounts				1,450			2,700
		Noncash compensation expense				1,993			1,154
		Noncash restructuring expense				—			3,737
		In-process research and development charge				47,000			—
		Amortization and write-down of goodwill and purchased intangibles				427,162			2,480,201
		Changes in operating assets and liabilities, net of effect of acquisitions:
			Accounts receivable			(13,677	)		11,364
			Prepaid expenses and other assets			(3,030	)		(289	)
			Trade accounts payable			1,220			(955	)
			Accrued liabilities			1,001			(5,444	)
			Accrued restructuring costs			—			25,912
			Deferred revenue			12,503			(5,540	)

				Net cash used in operating activities		(14,126	)		(55,437	)

Cash flows from investing activities:
	Purchases of property and equipment					(8,583	)		(10,303	)
	Cash acquired in acquisitions					24,282			208
	Direct costs of purchase transactions					(21,330	)		1,204
	Purchases and sales of investments, net					(76,918	)		(45,581	)

				Net cash used in investing activities		(82,549	)		(54,472	)

Cash flows from financing activities:
	Repayments of notes payable					—			(2,088	)
	Repayments on line of credit					(8,319	)		—
	Principal payments on capital lease obligations					(405	)		(580	)
	Proceeds from secondary offering, net					356,108			—
	Repayments on notes receivable					246			1,777
	Proceeds from subsidiary stock offering					—			35
	Proceeds from sale of common stock, net of repurchases					4,455			5,532

				Net cash provided by financing activities		352,085			4,676

Effect of foreign exchange rates on cash and cash equivalents						(237	)		360

Net increase (decrease) in cash and cash equivalents						255,173			(104,873	)
Cash and cash equivalents at beginning of period						58,084			319,634

Cash and cash equivalents at end of period					$	313,257		$	214,761

The accompanying notes are an integral part of the condensed consolidated financial statements.

E.PIPHANY, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. Basis of Presentation

The condensed consolidated financial statements included herein have been prepared by E.piphany, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, E.piphany believes that the disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in E.piphany’s Annual Report on Form 10-K for the fiscal year ended December 31, 2000.

The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) which are, in the opinion of management, necessary to state fairly the results for the nine months ended September 30, 2001. The results for the nine months ended September 30, 2001 are not necessarily indicative of the results expected for the full fiscal year.

2. Summary of Significant Accounting Policies

Principles of Consolidation

The accompanying condensed consolidated financial statements include the accounts of E.piphany and its wholly owned subsidiaries. All intercompany accounts and transactions have been eliminated.

Foreign Currency Translation

The functional currency of our foreign subsidiaries is the local currency. The Company translates the assets and liabilities of international non-U.S. functional currency subsidiaries into dollars at the current rates of exchange in effect during each period. Revenues and expenses are translated using rates that approximate those in effect during the period. Gains and losses from translation adjustments are included in stockholders’ equity in the consolidated balance sheet caption “Accumulated other comprehensive loss.” Currency transaction gains or losses, derived on monetary assets and liabilities stated in a currency other than the functional currency, are recognized in current operations and have not been significant to the Company’s operating results in any period. The effect of foreign currency rate changes on cash and cash equivalents has not been significant in any period.

Impairment of Long-Lived Assets and Identifiable Intangible Assets

The Company evaluates long-lived assets and certain identifiable intangibles for impairment on an annual basis or whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds its fair market value.

Recent Accounting Pronouncements

In June 1998, the Financial Accounting Standards Board issued Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“FAS 133”), which provides a comprehensive and consistent standard for the recognition and measurement of derivatives and hedging activities. As amended, this statement is effective for fiscal years beginning after June 15, 2000. E.piphany applied the new rules prospectively to transactions beginning in the first quarter of 2001. The adoption did not have a material effect on its financial position or results of operations.

In March 2000, the FASB issued Financial Standards Board Interpretation (“FIN”) No. 44, “Accounting for Certain Transactions Involving Stock Compensation an Interpretation of APB Opinion No. 25.” FIN No. 44

addresses the application of APB No. 25 to clarify, among other issues (a) the definition of “employee” for purposes of applying APB No. 25, (b) the criteria for determining whether a plan qualifies as a noncompensatory plan, (c) the accounting consequences of various modifications to the terms of a previously fixed stock option or award, and (d) the accounting for an exchange of stock compensation awards in a business combination. FIN No. 44 is effective July 1, 2000, but certain conclusions cover specific events that occurred after either December 15, 1998 or January 12, 2000, but before the effective date of July 1, 2000. The effects of applying the interpretation have been recognized on a prospective basis from July 1, 2000. E.piphany adopted FIN No. 44 in July 2000. The adoption did not have a material effect on its financial position or results of operations.

In June 2001, the Financial Accounting Standards Board approved for issuance Statement of Financial Accounting Standards No. 141 “Business Combinations” (“SFAS 141”) and No. 142 “Goodwill and Other Intangible Assets” (“SFAS 142”). Major provisions of these Statements are as follows: (a) all business combinations initiated after June 30, 2001 must use the purchase method of accounting; the pooling of interest method of accounting is prohibited except for transactions initiated before July 1, 2001; (b) intangible assets acquired in a business combination must be recorded separately from goodwill if they arise from contractual or other legal rights or are separable from the acquired entity and can be sold, transferred, licensed, rented or exchanged, either individually or as part of a related contract, asset or liability; (c) goodwill and intangible assets with indefinite lives are not amortized but are tested for impairment annually using a fair value approach, except in certain circumstances, and whenever there is an impairment indicator; other intangible assets will continue to be valued and amortized over their estimated lives; (d) in-process research and development will continue to be written off immediately; (e) all acquired goodwill must be assigned to reporting units for purposes of impairment testing and segment reporting; and (f) effective January 1, 2002, existing goodwill will no longer be subject to amortization.

E.piphany anticipates that future amortization of goodwill and other intangibles associated with its acquisitions will continue to be amortized on a straight-line basis for the remaining three months of 2001, and will amount to approximately $17.0 million. Beginning January 1, 2002, the Company will adopt SFAS 141 and SFAS 142. As a result, all acquired goodwill will be assigned to reporting units for purposes of impairment testing and segment reporting and will no longer be amortized, but will be subject to an annual impairment assessment. The Company will continue to amortize other intangible assets, on a straight-line basis over their remaining useful lives, exclusive of assembled workforce, as pursuant to SFAS 141 an assembled workforce shall not be recognized as an intangible asset apart from goodwill. Amortization and write-down of goodwill for the three and nine months ended September 30, 2001 was $1.9 billion and $2.5 billion, respectively. These amounts include a $1.7 billion impairment of goodwill and intangible assets charge for the three and nine months ended September 30, 2001.

3. Stockholders’ Equity

Stock-Based Compensation

In connection with the grant of certain stock options to employees during the years ended December 31, 1998, 1999, 2000 and the first nine months of 2001, the Company recorded deferred compensation of approximately $3.0 million, $2.8 million, $0, and $1.3 million, respectively. The deferred compensation represents the difference between the fair value of the common stock and the option exercise price or stock sale price at the date of the option grant or stock sale. Such amount is presented as a reduction of stockholders’ equity and amortized over the vesting period of the applicable options in a manner consistent with FASB Interpretation No. 28. Total stock-based compensation expenses were approximately $0.3 million and $0.4 million during the three months ended September 30, 2000 and 2001, respectively. Total stock-based compensation expenses were approximately $2.0 million and $1.2 million during the nine months ended September 30, 2000 and 2001, respectively. Deferred compensation expense is decreased in the period of forfeiture for any accrued but unvested compensation arising from the early termination of an option holder’s services.

Comprehensive Income (Loss)

In June 1997, the FASB issued SFAS No. 130, “Reporting Comprehensive Income,” which E.piphany adopted beginning on January 1, 1998. SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general purpose financial statements. The objective of SFAS No. 130 is to report a measure of all changes in equity of an enterprise that results from transactions and other economic events of the period other than transactions with stockholders. Comprehensive income is the total of net income and all other

non-owner changes in equity. For the three and nine months ended September 30, 2000 and 2001, E.piphany’s comprehensive income (loss) did not differ materially from reported net loss.

4. Computation of Basic and Diluted Net Loss Per Share

Basic and diluted net loss per common share are presented in conformity with SFAS No. 128, “Earnings Per Share,” for all periods presented. In accordance with SFAS No. 128, basic net loss per common share has been computed using the weighted average number of shares of common stock outstanding during the period, less shares subject to repurchase.

The following table presents the calculation of basic net loss per share (in thousands, except per share amounts):

Three Months Ended Nine Months Ended

September 30, September 30,

2000 2001 2000 2001

Net loss
$ (277,269 ) $ (1,983,153 ) $ (491,793 ) $ (2,572,592 )

Basic and diluted:

Weighted average shares of common stock outstanding
67,902 70,555 56,982 69,806

Less: Weighted average shares subject to repurchase
(4,089 ) (1,403 ) (3,960 ) (2,115 )

Weighted average shares used in computing basic and diluted net loss per common share
63,813 69,152 53,022 67,691

Basic and diluted net loss per common share
$ (4.35 ) $ (28.68 ) $ (9.28 ) $ (38.00 )

E.piphany has excluded all outstanding stock options, and shares subject to repurchase from the calculation of diluted net loss per common share because all such securities are antidilutive for all periods presented. The total number of shares excluded from the calculations of basic and diluted net loss per share were 10,942,653 and 3,120,552 for the three months ended September 30, 2000 and September 30, 2001, respectively. The total number of shares excluded from the calculations of basic and diluted net loss per share were 10,841,347 and 3,832,525 for the nine months ended September 30, 2000 and September 30, 2001, respectively.

Stock Option Exchange Program

On April 2, 2001, we announced a voluntary stock option exchange program for our employees. Under the program, employees were given the opportunity to elect to cancel outstanding stock options held by them in exchange for an equal number of new options to be granted at a future date at the then current fair market value. These elections needed to be made by May 1, 2001 and were required to include all options granted during the prior six months. A total of 614 employees elected to participate in the exchange program. Those 614 employees tendered a total of 5,849,237 options to purchase our common stock in return for our promise to grant new options on the grant date of November 5, 2001. A total of 4,687,353 shares were granted at the fair market value of $6.44 per share on November 5, 2001 to those employees who have continuously been employed with us since they tendered their original options. The exchange program was not made available to our executive officers, directors, consultants, former employees or any of our employees who are residents of the Netherlands, Switzerland, Spain or Brazil or who are employed by our subsidiaries located in those countries.

5. Commitments and Contingencies

Litigation

As of the date hereof, there is no material litigation pending against us other than as disclosed in the paragraph below. From time to time, we may be a party to litigation and claims incident to the ordinary course of our business. Although the results of litigation and claims cannot be predicted with certainty, we believe that the final outcome of such matters will not have a material adverse effect on our business, results of operations, or financial condition.

against all defendants, a violation of Section 15 of the Securities Act against the individual defendants, and violations of Section 12(a)(2) of the Securities Act and Section 10(b) of the Securities Exchange Act of 1934 against the underwriters. The complaint seeks unspecified damages on behalf of a purported class of purchasers of common stock between September 21, 1999 and December 6, 2000. One additional lawsuit has been filed subsequently which contains allegations substantially identical to those in the Kucera complaint, and other related lawsuits may be brought.

Various plaintiffs have filed similar actions asserting virtually identical allegations against more than 150 other companies. The lawsuits against the Company have been coordinated for pretrial purposes with these other related lawsuits, and have been assigned the collective caption In re Initial Public Offering Securities Litigation. The coordinated pretrial proceedings are presently being overseen by Judge Shira A. Scheindlin. As of November 8, 2001, no schedule has been established regarding the lawsuits against the Company. The Company anticipates that all lawsuits against it specifically will eventually be formally coordinated or consolidated with one another. The Company believes it has meritorious defenses to these securities lawsuits and will defend itself vigorously.

Restructuring Costs

In the quarter ended September 30, 2001, the Company restructured its worldwide operations, by among other things, reducing its workforce and consolidating its operating facilities. The restructuring resulted in a total pre-tax charge of $32.4 million of which approximately $2.8 million was paid and a non cash charge of $3.7 million was incurred during the third quarter to provide for these actions and other items. The Company recorded the low end of a range of assumptions modeled for the restructuring charge, in accordance with SFAS No. 5, Accounting for Contingencies. Adjustments to the restructuring reserves will be made in future periods, if necessary, based upon the then current actual events and circumstances.

The following table describes restructuring charges taken through September 30, 2001 (in thousands):

Accrued Balance at Total Cash Accrued Balance at

December 31, 2000 Charges Payments Non Cash Activity September 30, 2001

Severance and related charges
$ — $ 1,532 $ (1,509 ) $ (23 ) $ —

Write-off of leasehold improvements
— 3,714 — (3,714 ) —

Lease termination costs — current
— 9,199 (1,278 ) — 7,921

Lease termination costs — non-current
— 17,991 — — 17,991

Total
$ — $ 32,436 $ (2,787 ) $ (3,737 ) $ 25,912

Severance and related charges primarily consisted of involuntary termination benefits and payroll taxes. Lease termination costs of $27.2 million are based on estimated exit costs associated with the abandonment of certain leased facilities in Atlanta, Boston, Chicago, New York, and San Mateo for the remaining lease terms. These lease termination costs reflect remaining lease liabilities and brokerage fees stated at actual cost reduced by estimated sublease income. The estimated costs of abandoning these leased facilities, including estimated costs to sublease were based on market information trend analyses provided by a commercial real estate brokerage firm retained by the Company. Actual future cash requirements may differ materially from the reserve balance at September 30, 2001. As of September 30, 2001, $25.9 million of lease termination costs, net of anticipated sublease income, remains accrued and is expected to be utilized by fiscal 2013.

6. Segment Information

E.piphany reports segment information under the provisions of SFAS No. 131, “Disclosures About Segments of an Enterprise and Related Information.” SFAS No. 131 requires that business segment information used by management to assess performance and manage company resources be the source for segment information disclosure (i.e. the management approach). On this basis, E.piphany is organized and operates as one business

segment, the design, development, and marketing of software solutions. The Company markets its products in the United States and in foreign countries through its sales personnel and its subsidiaries.

Revenue by geographic region is as follows (in thousands):


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

			2000		2001		2000		2001

Revenues:
	North America		$	36,089	$	17,140	$	74,212	$	71,905
	International			3,051		11,366		3,862		25,776

		Total	$	39,140	$	28,506	$	78,074	$	97,681

7. Acquisitions

The Radnet Acquisition

On January 29, 2001, E.piphany acquired certain intellectual property assets of Radnet, Inc. from a secured creditor of Radnet. Under the terms of the asset purchase agreement, E.piphany issued 238,032 shares of common stock in exchange for the assets. This transaction added to E.piphany’s strategic intellectual property and complement its current product development plan. The total purchase price was approximately $10.3 million, and is being amortized on a straight-line basis over a useful life of three years. Accumulated amortization was approximately $2.3 million for the nine months ended September 30, 2001. On September 30, 2001, we performed an impairment assessment of goodwill and identifiable intangible assets recorded in connection with our acquisition of certain intellectual property assets of Radnet and recorded an impairment charge. Please see the section under the heading “Impairment” in Note 7 in the Notes to Condensed Consolidated Financial Statements for more detailed information.

The Moss Acquisition

On April 12, 2001, E.piphany acquired Moss Software, Inc. through a merger of a wholly-owned subsidiary of E.piphany with and into Moss Software, Inc. Moss Software is a provider of customer relationship management products that resolve its customer sales automation challenges and better manage their sales cycles. Under the terms of the Reorganization Agreement, stockholders of Moss Software received approximately 0.0581 shares of E.piphany common stock for each share of Moss Software common stock held by them, which resulted in a total issuance of approximately 1,370,296 shares. In addition, E.piphany assumed all outstanding options to purchase Moss Software common stock, as adjusted to reflect the exchange ratio. The total purchase price was approximately $40.6 million. The total cost associated with the acquisition is subject to adjustments based upon finalization of management’s integration plans, which may include elimination of duplicate facilities and fixed assets as well as employee severance. In connection with the assumption of all outstanding options, the Company recorded deferred compensation of approximately $1.0 million. The deferred compensation represents the difference between the fair value of the common stock at the date of acquisition and the option exercise price at the date of the option grant, and will be amortized over the vesting period. Purchased intangibles, representing purchase price in excess of identified tangible and intangible assets, of approximately $45.5 million were recorded and are being amortized on a straight-line basis over a useful life of three years. Accumulated amortization was approximately $7.6 million at September 30, 2001. There can be no assurance that the value of the purchased intangible assets may not become impaired prior to its amortization.

In connection with the acquisition, net assets acquired were as follows (in thousands):


Cash, receivables and other current assets		$	384
Deferred compensation			976
Purchased intangibles			45,548
Current liabilities assumed			(6,280	)

	Net assets acquired	$	40,628

On September 30, 2001, we performed an impairment assessment of goodwill and identifiable intangible assets recorded in connection with our acquisition of Moss Software and recorded an impairment charge. Please see the section under the heading “Impairment” in Note 7 in the Notes to Condensed Consolidated Financial Statements for more detailed information.

Impairment

goodwill in accordance with the provisions of APB Opinion No. 17, “Intangible Assets”. As part of its review of its third quarter financial results, the Company performed an impairment assessment of identifiable intangible assets and goodwill in connection with all of its acquisitions. The impairment assessment was performed with the assistance of independent valuation experts to determine whether any impairment existed. The impairment indicators included, but were not limited to, the significant decline in the Company’s stock price, the net book value of assets, which significantly exceeds the Company’s market capitalization, and the overall decline in industry growth rates which have negatively impacted the Company’s revenues and forecasted revenue growth rates, which precipitated the Company’s reduction in workforce and overall restructuring in the quarter ended September 30, 2001. Also, current economic indicators suggest that these lower growth rates may continue for an indefinite period. As a result, the Company recorded a $1.7 billion impairment charge to reduce goodwill and other intangible assets associated with all of its acquisitions to reflect their current estimated fair market value combined with amortization of goodwill and other intangible assets of $0.2 billion resulting in a total amortization and impairment charge of $1.9 billion in the quarter ended September 30, 2001. Fair market value was determined based on discounted future cash flows for the acquisitions that had separately identifiable cash flows. Prior to the impairment charge, the goodwill and intangible assets related to the acquisition of Octane Software consisted of 84% of the total goodwill and intangible assets balance and the impairment of the goodwill and intangible assets related to the acquisition of Octane Software consisted of 86% of the $1.7 billion impairment charge. It is reasonably possible that the estimates and assumptions used under our assessment may change in the short term resulting in the need to further write-down our goodwill and other long-lived assets.

The remaining goodwill and identifiable intangible assets of $115.1 million will be amortized using the straight-line method, resulting in an estimated quarterly charge of approximately $17.0 million for the three months ended December 31, 2001. Beginning on January 1, 2002, amortization charges will be subject to the new accounting pronouncements described in Note 2 of Notes to Condensed Consolidated Financial Statements.

8. Minority Interest in Subsidiary

In April 2001, the Company established a consolidated subsidiary, Nihon E.piphany K.K., through the issuance of 196 shares for a 70% interest. In addition, 84 shares, or 30% of the common stock was purchased by three employees of the subsidiary, for cash consideration of approximately $35,000, which was deemed to be purchased at fair market value. Nihon E.piphany K.K.’s operations consist of the marketing, distribution, service and support of the Company’s products in Japan. As of September 30, 2001, a minority interest of approximately $35,000 was recorded on the Condensed Consolidated Balance Sheet in order to reflect the original investment in Nihon E.piphany K.K. held by minority investors.


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

This registration statement on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended, including statements regarding our expectations, beliefs, intentions or strategies regarding the future. Forward-looking statements include, without limitation, statements regarding the extent and timing of future revenues, expenses and customer demand, the deployment of our products and services, and reliance on third parties. Our actual results could differ materially from those in such forward-looking statements. Factors that might cause or contribute to such a difference include, but are not limited to, those discussed under the heading “Risk Factors” in this Form 10-Q and the risks discussed in our other filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K for the year ended December 31, 2000. All forward-looking statements included in this document are based on information available to us as of the date hereof, and we assume no obligation to update any such forward-looking statement.

Overview

We develop, market and sell the E.piphany E.5 System, an integrated suite of customer relationship management (CRM) software solutions. These CRM solutions provide capabilities for the analysis of customer data, the creation of inbound and outbound marketing campaigns, and the execution of sales and service customer interactions. Companies can implement the E.piphany E.5 System to gain insight into their customers’ characteristics and preferences, and then take action on that insight to better and more profitably serve those customers. To gain insight into their customers, companies use our analytic CRM solutions, which collect customer data from existing software systems or other E.piphany solutions, as well as third party data providers. To take action on this insight, companies use our operational CRM solutions to more efficiently interact with their customers across a variety of communication and distribution channels.

We were founded in November 1996. From our founding through the end of 1997, we primarily engaged in research activities, developing products and building business infrastructure. We began shipping our first software product and first generated revenues from software license fees, implementation and consulting fees, and maintenance fees in early 1998. Despite our revenue growth, we have incurred significant costs to develop our technology and products, to recruit research and development personnel, to build a direct sales force and a professional services organization, and to expand our general and administrative infrastructure. Our total headcount has increased from 279 employees at December 31, 1999 to 736 employees at September 30, 2001.

Recent Events

Acquisitions

On January 29, 2001, we acquired certain intellectual property assets of Radnet, Inc. from a secured creditor of Radnet. Under the terms of the asset purchase agreement, we issued 238,032 shares of common stock in exchange for the assets. This transaction will add to our strategic intellectual property and complement our current product development plan. The total purchase price was approximately $10.3 million, and is being amortized on a straight-line basis over a useful life of three years. Accumulated amortization was approximately $2.3 million for the nine months ended September 30, 2001. On September 30, 2001, we performed an impairment assessment of goodwill and identifiable intangible assets recorded in connection with our acquisition of certain intellectual property assets of Radnet and recorded an impairment charge. Please see Note 7 in the Notes to Condensed Consolidated Financial Statements for more detailed information.

On April 12, 2001, we acquired Moss Software, Inc. through a merger of a wholly-owned subsidiary of E.piphany with and into Moss Software, Inc. Moss Software is a provider of customer relationship management products that enable customers to resolve sales automation challenges and better manage sales cycles. Under the terms of the Reorganization Agreement, we acquired all of the outstanding shares of capital stock of Moss Software in exchange for 1,370,296 million shares of our common stock. In addition, we assumed all outstanding options to purchase Moss Software common stock. The total purchase price was approximately $40.6 million, and is being amortized on a straight-line basis over a useful life of three years. Accumulated amortization was approximately

$7.6 million at September 30, 2001. On September 30, 2001, we performed an impairment assessment of goodwill and identifiable intangible assets recorded in connection with our acquisition of Moss Software and recorded an impairment charge. Please see Note 7 in the Notes to Condensed Consolidated Financial Statements for more detailed information.

Stock Option Exchange Program

Restructuring Charge

In the quarter ended September 30, 2001, we initiated a plan to restructure our worldwide operations including a reduction in workforce and the consolidation of our operating facilities. The restructuring resulted in a charge of $32.4 million of which $2.8 million was paid and a non cash charge of $3.7 million was incurred during the third quarter to provide for these actions and other items. Please see Note 5 in the Notes to Condensed Consolidated Financial Statements for more detailed information.

Amortization and Write-Down of Goodwill and Other Intangible Assets

The Company periodically assesses the impairment of long-lived assets, including identifiable intangibles in accordance with the provisions of SFAS No. 121, “Accounting for the Impairment of Long Lived Assets and for Long Lived Assets to be Disposed of.” The Company also periodically assesses the impairment of enterprise level goodwill in accordance with the provisions of APB Opinion No. 17, “Intangible Assets”. As part of its review of its third quarter financial results, the Company performed an impairment assessment of identifiable intangible assets and goodwill in connection with all of its acquisitions. The impairment assessment was performed with the assistance of independent valuation experts to determine whether any impairment existed. The impairment indicators included, but were not limited to, the significant decline in the Company’s stock price, the net book value of assets, which significantly exceeds the Company’s market capitalization, and the overall decline in industry growth rates which have negatively impacted the Company’s revenues and forecasted revenue growth rates, which precipitated the Company’s reduction in workforce and overall restructuring in the quarter ended September 30, 2001. Also, current economic indicators suggest that these lower growth rates may continue for an indefinite period. As a result, the Company recorded a $1.7 billion impairment charge to reduce goodwill and other intangible assets associated with all of its acquisitions to reflect their current estimated fair market value. Fair market value was determined based on discounted future cash flows for the acquisitions that had separately identifiable cash flows. Prior to the impairment charge, the goodwill and intangible assets related to the acquisition of Octane Software consisted of 84% of the total goodwill and intangible assets balance and the impairment of the goodwill and intangible assets related to the acquisition of Octane Software consisted of 86% of the $1.7 billion impairment charge. It is reasonably possible that the estimates and assumptions used under our assessment may change in the short term resulting in the need to further write-down our goodwill and other long-lived assets. The aggregate amortization and write-down of goodwill and these other intangible assets increased to $1.9 billion for the three months ended September 30, 2001 from $270.0 million for the three months ended September 30, 2000. The aggregate amortization of goodwill and these other intangible assets increased to $2.5 billion for the nine months ended September 30, 2001 from $427.2 million for the nine months ended September 30, 2000. The increase was due to the $1.7 billion impairment of goodwill and intangible assets charge that was included in the results of operations for the three and nine months ended September 30, 2001.

Source of Revenues and Revenue Recognition Policy

We generate revenues principally from licensing our software products directly to customers and providing related professional services including implementation, consulting, support and training. Through September 30, 2001, substantially all of our revenues were generated by our direct sales force. Our license agreements generally provide that customers pay a software license fee to perpetually use one or more software solutions within specified limits. The amount of the license fee varies depending on which software solution is purchased, the number of software solutions purchased and the scope of the license rights. Customers can subsequently pay additional license

fees to allow additional users to use previously purchased software solutions or to purchase additional software solutions. Each software solution included in the E.piphany E.5 System contains the same core technology, allowing for easy integration of additional software solutions as they are purchased from us. Customers that purchase software solutions receive the software on compact disc or via Internet delivery.

Customers generally require consulting and implementation services which include evaluating their business needs, identifying the data sources necessary to meet these needs and installing the software solution in a manner which fulfills their requirements. Customers can purchase these services directly from us through our internal professional services organization on either a fixed fee or a time and expense basis or they can purchase these services directly from third party consulting organizations, such as Accenture, Deloitte & Touche, KPMG Consulting and PricewaterhouseCoopers. We have also historically supplemented the capacity of our internal professional services organization by subcontracting some of these services to these third party consulting organizations.

Fees from licenses are recognized as revenue upon contract execution, provided all shipment obligations have been met, fees are fixed or determinable, collection is probable, and vendor specific objective evidence exists to allocate the total fee between all delivered and undelivered elements of the arrangement. If vendor specific objective evidence does not exist to allocate the total fee to all delivered and undelivered elements of the arrangement, revenue is deferred until the earlier of the time at which 1) such evidence does exist for the undelivered elements, or 2) all elements are delivered. Fees from license agreements which include the right to receive unspecified future products are recognized over the term of the arrangement or, if not specified, the estimated economic life of the product.

When licenses are sold together with consulting and implementation services, license fees are recognized upon shipment, provided that (1) the above criteria have been met, (2) payment of the license fees is not dependent upon the performance of the consulting services, and (3) the services do not include significant alterations to the features and functionality of the software. To date, services have been essential to the functionality of the software products for substantially all license agreements entered into which included implementation services. For these arrangements and other arrangements which don’t meet the above criteria, both the product license revenues and services revenues are recognized in accordance with the provisions of Statement of Position (“SOP”) 81-1, “Accounting for Performance of Construction Type and Certain Production Type Contracts.” When reliable estimates are available for the costs and efforts necessary to complete the implementation services, we account for the arrangements under the percentage of completion contract method pursuant to SOP 81-1. When such estimates are not available, the completed contract method is utilized.

We provide for sales returns based on historical rates of return which, to date, have not been material.

Maintenance agreements generally call for us to provide technical support and software updates to customers. Revenue from technical support and software updates is recognized ratably over the term of the maintenance agreement and is included in services revenue in the accompanying consolidated statements of operations.

We also provide consulting, implementation and training services to our customers separately from our sales of product licenses. Revenue from such services, when not sold in conjunction with product licenses, is generally recognized as the services are performed.

Cost of Revenues and Operating Expenses

Our cost of license revenues primarily consist of license fees due to third parties for integrated technology. Our cost of services revenues include salaries and related expenses for our implementation, consulting support and training organizations, costs of services subcontracted from third party consulting organizations to fulfill consulting services obligations to customers and an allocation of facilities, communications and depreciation expenses. Our operating expenses are classified into three general categories: sales and marketing, research and development, and general and administrative. We classify all charges to these operating expense categories based on the nature of the expenditures. We allocate the costs for overhead and facilities to each of the functional areas that use the overhead and facilities services based on their headcount. These allocated charges include facility rent for corporate offices, communication charges and depreciation expenses for office furniture and equipment.

Software development costs incurred prior to the establishment of technological feasibility are included in research and development costs as incurred. Since license revenues from our software solutions are not recognized until after technological feasibility has been established, software development costs are not generally expensed in the same period in which license revenues for the developed products are recognized.

Results of Operations

Revenues

Total revenues decreased to $28.5 million for the three months ended September 30, 2001, from $39.1 million for the three months ended September 30, 2000. The decrease in revenues was primarily due to fewer sales of our product licenses resulting from an economic slowdown and the significant decline in spending by corporations in information technology. Total revenues increased to $97.7 million for the nine months ended September 30, 2001, from $78.1 million for the nine months ended September 30, 2000. The increase in revenues reflects our sequential year to date growth through the quarter ended June 30, 2001, that was primarily due to expansion of our business outside the United States and the introduction and shipment of new products.

Product license revenues decreased to $16.2 million, or 57% of total revenue, for the three months ended September 30, 2001 from $21.4 million, or 55% of total revenue, for the three months ended September 30, 2000. The decrease in dollar amount of product license revenues was primarily due to the downturn in the economy and weakness in information technology spending. Product license revenues increased to $54.9 million, or 56% of total revenue, for the nine months ended September 30, 2001 from $43.9 million, or 56% of total revenue, for the nine months ended September 30, 2000. The increase in dollar amount of product license revenues was due to expansion of our business internationally and the introduction and shipment of new products.

Services revenues decreased to $12.3 million, or 43% of total revenues, for the three months ended September 30, 2001 from $17.8 million, or 45% of revenues, for the three months ended September 30, 2000. The decrease in dollar amount of services revenues was primarily attributable to a decrease in services provided by our internal professional services organization as we continue to encourage our customers to contract directly with third party consulting organizations and a decrease in license sales due to the economic slowdown. Services revenues increased to $42.8 million, or 44% of total revenues, for the nine months ended September 30, 2001 from $34.1 million, or 44% of revenues, for the nine months ended September 30, 2000. The increase in dollar amount of services revenues was primarily attributable to increased implementation and consulting services performed in connection with increased license sales and to maintenance contracts sold to our new customers.

The relative amount of services revenues as compared to license revenues has varied depending on the extent to which third party consulting organizations are engaged to provide services directly to our customers, the nature of our solution which has been licensed, the complexity of the customers’ information technology environment, the resources allocated by customers to their implementation projects and the scope of licensed rights. Services revenues have substantially lower margins relative to product license revenues. This is especially true when we are required to subcontract with consulting organizations to supplement our internal professional services organization. To the extent that services revenues become a greater percentage of our total revenues and services margins do not increase, our overall gross margins will decline.

Cost of Revenues

Total cost of revenues decreased to $9.8 million for the three months ended September 30, 2001 from $17.6 million for the three months ended September 30, 2000. Total cost of revenues increased to $46.4 million for the nine months ended September 30, 2001 from $33.5 million for the nine months ended September 30, 2000. Cost of product license revenues consists primarily of license fees paid to third parties under technology license arrangements and have not been significant to date. Cost of services revenues consists primarily of the costs of consulting and customer service and support.

Cost of services revenues decreased to $9.3 million, or 76% of services revenues, for the three months ended September 30, 2001 from $17.3 million, or 97% of services revenues, for the three months ended September 30, 2000. The decrease in cost of services revenues in absolute dollars is due to a decrease in internal services

professionals. The decrease in cost of services as a percentage of revenues is primarily due to a higher proportion of maintenance revenues, which has more favorable margins.

Cost of services revenues increased to $44.8 million, or 105% of services revenues, for the nine months ended September 30, 2001 from $32.7 million, or 96% of services revenues, for the nine months ended September 30, 2000. The increase in cost of services revenues in absolute dollars reflects our sequential year to date growth through the quarter ended June 30, 2001, resulting primarily from the growth of our internal professional services organization to support increased customer demand for consulting services. The increase in cost of services revenues as a percentage of services revenues for the nine months ended September 30, 2001 resulted from excess capacity in our internal professional services organization resulting from our decision to encourage customers to contract directly with third party consulting organizations. This approach was adopted in conjunction with our overall strategy to strengthen our alliances with system integrators that recommend and implement our software on customers’ computer systems. Cost of services revenues may exceed services revenues in future periods as we continue to transition our services capacity to have a greater reliance on system integrators or if services revenues decrease in future periods.

Operating Expenses

Research and Development

Research and development expenses consist primarily of personnel and related costs associated with our product development efforts. Research and development expenses increased to $10.1 million for the three months ended September 30, 2001 from $8.5 million for three months ended September 30, 2000. Research and development expenses increased to $32.4 million for the nine months ended September 30, 2001 from $17.7 million for nine months ended September 30, 2000. Research and development expenses as a percentage of total revenues increased to 33% for the nine months ended September 30, 2001 from 23% for the nine months ended September 30, 2000. The increase was primarily due to an increase in the number of employees engaged in research and development from our internal growth and acquisitions, and fees paid to outside contractors for the internationalization of our products. We believe that investments in product development are essential to our future success. We anticipate that our recent restructuring of our operations will reduce research and development expenses over the short term, although these expenses may increase over the long term.

Sales and Marketing

Sales and marketing expenses consist primarily of employee salaries, benefits and commissions, and the costs of trade shows, seminars, promotional materials and other sales and marketing programs. Sales and marketing expenses increased to $21.9 million for the three months ended September 30, 2001 from $19.9 million for the three months ended September 30, 2000. Sales and marketing expenses increased to $70.1 million for the nine months ended September 30, 2001 from $47.0 million for the nine months ended September 30, 2000. Sales and marketing expenses as a percentage of total revenues increased to 72% for the nine months ended September 30, 2001 from 60% for the nine months ended September 30, 2000. The increase in sales and marketing expenses in absolute dollars was primarily attributable to an increase in the number of sales and marketing employees resulting from internal growth and acquisitions, and the establishment of sales offices in additional domestic and international locations including Europe and Asia. We anticipate that the recent restructuring of our operations will reduce sales and marketing expenses over the short term, although these expenses may increase over the long term.

General and Administrative

General and administrative expenses consist primarily of employee salaries and related expenses for executive, finance, legal and administrative personnel. General and administrative expenses decreased to $4.7 million for the three months ended September 30, 2001 from $6.2 million for the three months ended September 30, 2000. The decrease in absolute dollars was primarily due to a decrease in salary expense and professional fees. General and administrative expenses increased to $20.2 million for the nine months ended September 30, 2001 from $12.5 million for the nine months ended September 30, 2000. The increase in general and administrative expenses in absolute dollars was primarily attributable to an increase in the number of general and administrative employees

from our internal growth and acquisitions necessary to support our expanding operations. General and administrative expenses as a percentage of total revenues increased to 21% for the nine months ended September 30, 2001 from 16% for the nine months ended September 30, 2000. We expect that our recent restructuring of our operations will reduce general and administrative expenses over the short term, although these expenses may increase over the long term.

In-Process Research and Development Charge

In connection with the acquisitions of RightPoint Software, Inc. and Octane Software Inc., we recorded a charge of $47.0 million in the nine months ended September 30, 2000. There was no in-process research and development charge incurred during the nine months ended September 30, 2001.

The RightPoint Acquisition

In connection with the RightPoint acquisition, we expensed $22.0 million of acquired in-process research and development which, in the opinion of management, had not reached technological feasibility and had no alternative future use.

We allocated values to in-process research and development based on an assessment of the research and development projects. The value assigned to these assets was limited to significant research projects for which technological feasibility had not been established, including development, engineering and testing activities associated with the introduction of RightPoint’s next-generation technologies.

The value assigned to purchased in-process technology was determined by estimating the costs to develop the purchased in-process technology into commercially viable products, estimating the resulting net cash flows from the projects and discounting the net cash flows to their present value. The revenue projection used to value the in-process research and development was based on estimates of relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by RightPoint and its competitors.

The nature of the efforts to develop the acquired in-process technology into commercially viable products and services principally related to the completion of certain planning, designing, coding, prototyping, and testing activities that were necessary to establish that the developmental RightPoint technologies met their design specifications including functional, technical, and economic performance requirements.

RightPoint’s primary in-process R&D projects involved the development of additional features and functionality to make the RealTime product suite a complete e-marketing solution rather than a component technology. The estimated revenues for the in-process projects were expected to peak within four years of introduction and then decline as other new products and technologies are expected to enter the market.

Operating expenses were estimated based on historical results and management’s estimates regarding anticipated profit margin improvements. Due to purchasing power increases and general economies of scale, estimated operating expenses as a percentage of revenues were expected to decrease after the acquisition.

The rates utilized to discount the net cash flows to their present value were based on estimated cost of capital calculations. Due to the nature of the forecast and the risks associated with the projected growth, profitability and developmental projects, a discount rate of 25 percent was appropriate for the in-process R&D, and a discount rate of 20 percent was appropriate for the existing products and technology. These discount rates were commensurate with RightPoint’s stage of development and the uncertainties in the economic estimates described above.

The estimates used by us in valuing in-process research and development were based upon assumptions we believe to be reasonable but which are inherently uncertain and unpredictable. Our assumptions may be incomplete or inaccurate, and no assurance can be given that unanticipated events and circumstances will not occur. Accordingly, actual results may vary from the projected results. Any such variance may result in a material adverse effect on our financial condition and results of operations.

The Octane Acquisition

In connection with the acquisition of Octane Software, Inc., we expensed $25.0 million of acquired in-process research and development which, in the opinion of management, had not reached technological feasibility and had no alternative future use. This allocation represented the estimated fair value based on risk-adjusted cash flows related to the incomplete research and development projects. At the date of acquisition, the development of these projects had not yet reached technological feasibility, and the research and development in progress had no alternative future uses. Accordingly, these costs were expensed as of the acquisition date.

At the acquisition date, Octane was conducting design, development, engineering and testing activities associated with the completion of subsequent releases of the Octane 2000 application solution. The projects under development at the valuation date represent next-generation technologies that are expected to address emerging market demands for a new mix of complex e-business objectives. The technologies under development were approximately 50 percent complete based on engineering man-month data and technological progress.

In making its purchase price allocation, management considered present value calculations of income, an analysis of project accomplishments and remaining outstanding items, an assessment of overall contributions, as well as project risks. The value assigned to purchased in-process technology was determined by estimating the costs to develop the acquired technology into commercially viable products, estimating the resulting net cash flows from the projects, and discounting the net cash flows to their present value. The revenue projection used to value the in-process research and development was based on estimates of relevant market sizes and growth factors, expected trends in technology, and the nature and expected timing of new product introductions by the Company and its competitors. The resulting net cash flows from such projects are based on management’s estimates of cost of sales, operating expenses, and income taxes from such projects.

Aggregate revenues for the developmental Octane products were estimated to grow based on forecast sales for the five years following introduction, assuming the successful completion and market acceptance of the major R&D programs. The estimated revenues for the in-process projects were expected to peak within five years of acquisition and then decline sharply as other new products and technologies are expected to enter the market.

The rates utilized to discount the net cash flows to their present value were based on estimated cost of capital calculations. Due to the nature of the forecast and the risks associated with the projected growth and profitability of the developmental projects, a discount rate of 25 percent was considered appropriate for the in-process R&D. These discount rates were commensurate with Octane’s stage of development and the uncertainties in the economic estimates described above.

If these projects are not successfully developed, our sales and profitability may be adversely affected in future periods. As part of our review of our results for the three months ended September 30, 2001, we performed an impairment assessment of identifiable intangible assets and goodwill in connection with all of our acquisitions. As a result, we recorded a $1.7 billion impairment charge to reduce goodwill and other intangible assets associated with all of our acquisitions to reflect their current estimated fair market value. It is reasonably possible that the estimates and assumptions used under our assessment may change in the short term resulting in the need to further write-down our goodwill and other long-lived assets.

Stock-Based Compensation

Stock-based compensation consists of amortization of deferred compensation in connection with stock option grants and sales of stock to employees at exercise or sales prices below the deemed fair market value of our common stock and compensation related to equity instruments issued to non-employees for services rendered. In connection with the grant of certain stock options to employees during the years ended December 31, 1998, 1999, 2000 and the first nine months of 2001, we recorded deferred compensation of approximately $3.0 million, $2.8 million, $0, and $1.3 million, respectively. As of September 30, 2001, deferred compensation remaining to be amortized totaled $1.3 million. This amount is being amortized over the respective vesting periods of these equity instruments in a manner consistent with Financial Accounting Standards Board Interpretation No. 28. Total stock-based compensation was $410,000 and $1.2 million for the three and nine months ended September 30, 2001, respectively. We expect amortization of approximately $408,000 in the fourth quarter of 2001 and $632,000, $123,000, $100,000 and $50,000 for the years ended December 31, 2002, 2003, 2004 and 2005, respectively.

Other Income (Expense), Net

Interest income, net of interest expense, decreased to $3.0 million for the three months ended September 30, 2001 from $6.1 million for the three months ended September 30, 2000. Interest income, net of interest expense, decreased to $12.6 million for the nine months ended September 30, 2001 from $16.9 million for the nine months ended September 30, 2000. The decrease was due to lower average cash and investment balances and a decrease in the average rate of return on our investments.

Liquidity and Capital Resources

Net cash used in operating activities totaled $57.0 million and $14.1 million for the nine months ended September 30, 2001 and 2000, respectively. Cash used in operating activities for each period resulted principally from net losses in those periods, net of non-cash charges for amortization and write-down of goodwill and purchased intangibles, in-process research and development, and stock-based compensation. Cash used in operating activities for the nine months ended September 30, 2001 also resulted from decreases in accrued liabilities and deferred revenue. These uses of cash were partially offset by a decrease in accounts receivable.

Net cash used in investing activities totaled $52.9 million for the nine months ended September 30, 2001 compared to $82.5 million provided by investing activities for the nine months ended September 30, 2000. The increase in cash used resulted primarily from the purchase of short term investments.

Net cash provided by financing activities totaled $4.7 million and $352.1 million for the nine months ended September 30, 2001 and 2000, respectively. The decrease in cash provided was due primarily to the receipt of proceeds from our secondary offering completed during the first quarter of 2000.

As of September 30, 2001, our principal sources of liquidity included $214.8 million of cash and cash equivalents and $123.0 million in short-term investments. We believe that our current cash and cash equivalents and short-term investments will be sufficient to meet our anticipated liquidity needs for working capital and capital expenditures for at least the next twelve months. If we require additional capital resources to grow our business internally or to acquire complementary technologies and businesses at any time in the future, we may seek to sell additional equity or debt securities or secure an additional bank line of credit. The sale of additional equity or convertible debt securities could result in additional dilution to our stockholders. We cannot assure you that any financing arrangements will be available in amounts or on terms acceptable to us in the future.

RISK FACTORS

An investment in our common stock is very risky. You should carefully consider the risks described below, together with all of the other information in this quarterly report, before making an investment decision. If any of the following risks actually occur, our business, financial condition or results of operations could be materially adversely affected, the trading price of our common stock could decline, and you may lose all or part of your investment.

E.piphany has a history of losses, expects losses in the future and may not ever become profitable.

We incurred net losses of $2.6 billion for the nine months ended September 30, 2001, $768.5 million for the year ended December 31, 2000, $22.4 million for the year ended December 31, 1999 and $10.3 million for the year ended December 31, 1998. We had an accumulated deficit of $3.4 billion as of September 30, 2001, and $804.3 million as of December 31, 2000. We expect to continue to incur losses before amortization charges for the foreseeable future. In addition, in connection with the acquisitions of Octane Software, RightPoint Software, eClass Direct, iLeverage and Moss Software, we are incurring significant accounting charges for the amortization of intangible assets over the three years following these mergers, even after our significant write-down of goodwill and other intangible assets in the three months ended September 30, 2001. These losses will be substantial, and we may not ever become profitable. Therefore, our operating results will be harmed if our revenue does not keep pace with our expected increase in expenses or is not sufficient for us to achieve profitability. If we do achieve profitability in any period, it cannot be certain that we will sustain or increase profitability on a quarterly or annual basis.

Our limited operating history and the limited operating history of the companies we acquired makes financial forecasting and evaluation of our business difficult.

Our limited operating history and the limited operating history of the companies that we acquired makes it difficult to forecast E.piphany’s future operating results. E.piphany was founded in November 1996 and began developing products in 1997. Our revenue and income potential is unproven. We received our first revenues from licensing our software and performing related services in early 1998. Since neither we nor the companies we acquired have a long history upon which to base forecasts of future operating results, any predictions about our future revenues and expenses may not be as accurate as they would be if E.piphany and the other companies we acquired had a longer business history.

Our revenues may be harmed if general economic conditions continue to worsen.

Our revenues are dependent on the health of the economy and the growth of our customers and potential future customers. If the economy remains stagnant, our customers may continue to delay or reduce their spending on CRM software. When economic conditions weaken, sales cycles for software products tend to lengthen and companies’ information technology budgets tend to be reduced. If that happens, our revenues could suffer and our stock price may decline. Further, if the economic conditions in the United States worsen or if a wider or global economic slowdown occurs, we may experience a material adverse impact on our business, operating results, and financial condition.

The September 11, 2001 terrorist attacks in the United States and subsequent U.S. military operations in Afghanistan, as well as future developments occurring in connection with these events including, without limitation, actual or threatened future terrorist attacks against the United States or other countries, an escalation in the current armed conflict in Afghanistan or elsewhere, or full-scale war, may adversely affect our business. Although it is difficult to predict the effect of these potential world events, they could cause: a further softening of U.S. and foreign economies that could cause sales of our products and services to decline; many of our customers and potential customers, to cancel, reduce, or postpone or delay their purchases of our products and services; and the sales cycle for our products and services to lengthen. These outcomes, and other unforeseen outcomes of these world events, would adversely affect our revenues, results of operations and financial condition.

Variations in quarterly operating results due to such factors as changes in demand for our products and changes in our mix of revenues may cause our stock price to decline.

We expect our quarterly operating results to fluctuate. We therefore believe that quarter-to-quarter comparisons of our operating results may not be a good indication of our future performance, and you should not rely on them to predict our future performance or the future performance of our stock price. Our short-term expense levels are relatively fixed and are based on our expectations of future revenues. As a result, a reduction in revenues in a quarter may harm our operating results for that quarter. Our quarterly revenues, expenses and operating results could vary significantly from quarter-to-quarter. If our operating results in future quarters fall below the expectations of market analysts and investors, the trading price of our common stock will fall. Factors that may cause our operating results to fluctuate on a quarterly basis are:

       •    varying size, timing and contractual terms of orders for our products,

       •    our ability to timely complete our service obligations related to product sales,

       •    changes in the mix of revenue attributable to higher-margin product license revenue as opposed to substantially lower-margin service revenue,

       •    customers’ decisions to defer orders or implementations, particularly large orders or implementations, from one quarter to the next,

       •    changes in demand for our software or for enterprise software generally,

       •    announcements or introductions of new products by our competitors,

       •    software defects and other product quality problems,

       •    our ability to integrate acquisitions,

       •    our ability to release new U.S. and international products on a timely basis,

       •    any increase in our need to supplement our professional services organization by subcontracting to more expensive consulting organizations to help provide implementation, support and training services when our own capacity is constrained, and

       •    our ability to hire, train and retain sufficient engineering, consulting, training and sales staff.

The loss of key personnel, or any inability to attract and retain additional personnel, could affect our ability to successfully grow our business.

Our future success will depend in large part on our ability to hire and retain a sufficient number of qualified personnel, particularly in sales, marketing, research and development, service and support. If we are unable to do so, this inability could affect our ability to grow our business. Competition for qualified personnel in high technology is intense, particularly in the Silicon Valley region of Northern California where our principal offices are located. Our future success also depends upon the continued service of our executive officers and other key sales, engineering and technical staff. The loss of the services of our executive officers and other key personnel would harm our operations. None of our officers or key personnel are bound by an employment agreement and we do not maintain key person insurance on any of our employees. We would also be harmed if one or more of our officers or key employees decided to join a competitor or otherwise compete with us.

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

If customers do not contract directly with consulting organizations to implement and support our products, our revenues, profitability and margins may be harmed.

We focus on providing software solutions rather than services. As a result, we encourage our customers to purchase consulting, implementation, maintenance and training services directly from consulting organizations instead of purchasing these services from us. While we do not receive any fees directly from these consulting organizations when they contract directly with our customers, we believe that these consulting organizations increase market awareness and acceptance of our software solutions and allow us to focus on software development and licensing. If consulting organizations are unwilling or unable to provide a sufficient level and quality of service directly to our customers or if customers are unwilling to contract directly with these consulting organizations, we may not realize these benefits and our revenues and profitability may be harmed.

Further, to the extent that consulting organizations do not provide consulting, implementation, maintenance and training services directly to our customers, we need to provide these services to our customers. We provide these services to our customers either directly through our internal professional services organization or indirectly through subcontractors we hire to perform the services on our behalf. Because our margins on service revenues are less than our margins on license revenues, our overall margins decline when we provide these services to customers. This is particularly true if we hire subcontractors to perform these services because it costs us more to hire subcontractors to perform these services than to provide the services ourselves.

If our internal professional services organization does not provide implementation services effectively and according to schedule, our revenues and profitability would be harmed.

Customers that license our products typically require consulting, implementation, maintenance and training services and obtain them from our internal professional services, customer support and training organizations, or from outside consulting organizations. When we provide these services, we generally recognize revenue from the licensing of our software products as the implementation services are performed. If our internal professional services organization does not effectively implement and support our products or if we are unable to expand our internal professional services organization as needed to meet our customers’ needs, our ability to sell software, and accordingly our revenues, will be harmed. If we are unable to expand our internal professional services organization to keep pace with sales, we will be required to increase our use of subcontractors to help meet our implementation and service obligations, which will result in lower gross margins. In addition, we may be unable to negotiate agreements with subcontractors to provide a sufficient level and quality of services. If we fail to retain sufficient subcontractors, our ability to sell software for which these services are required will be harmed and our revenues will suffer.

Our service revenues have a substantially lower margin than our product revenues, and an increase in service revenues relative to license revenues could harm our gross margins.

Our service revenues, which includes fees for consulting, implementation, maintenance and training, were 44% of our revenues for the nine months ended September 30, 2001, 42% of our revenues for the year ended December 31, 2000, 47% of our revenues for the year ended December 31, 1999 and 34% of our revenues for the year ended December 31, 1998. Our service revenues have substantially lower gross margins than license revenues. Our cost of service revenues for the nine months ended September 30, 2001 and the years ended December 31, 2000, 1999 and 1998 was 105%, 101%, 102% and 120%, respectively, of our service revenues. An increase in the percentage of total revenues represented by services revenues could adversely affect our overall gross margins.

Service revenues as a percentage of total revenues and cost of service revenues as a percentage of total revenues have varied significantly from quarter to quarter due to our relatively early stage of development. The relative amount of service revenues as compared to license revenues has varied based on the volume of software solution orders compared to the volume of additional user orders. In addition, the amount and profitability of services can depend in large part on:

       •    the nature of the software solution licensed,

       •    the complexity of the customer’s information technology environment,

       •    the resources allocated by customers to their implementation projects,

       •    the scope of licensed rights, and

       •    the extent to which outside consulting organizations provide services directly to customers.

New product introductions and pricing strategies by our competitors could adversely affect our ability to sell our products and could result in pressure to price our products in a manner that reduces our margins.

Competitive pressures could prevent us from growing, reduce our market share or require us to reduce prices on our products and services, any of which could harm our business. We compete principally with vendors of:

       •    data management and data analysis software tools such as Kana Software, Microstrategy and Oracle,

       •    enterprise application software such as PeopleSoft, SAP and Siebel Systems,

       •    marketing campaign management software tools such as Xchange, Chordiant and Recognition Systems.

Many of these companies have significantly greater financial, technical, marketing, service and other resources than we do. Many of these companies also have a larger installed base of users, have been in business longer or have greater name recognition than we do. In addition, some large companies may attempt to build capabilities into their products that are similar to the capabilities of our products. Some of our competitors’ products may be more effective than our products at performing particular functions or be more customized for particular needs. Even if these functions are more limited than those provided by our products, our competitors’ software products could discourage potential customers from purchasing our products. Further, our competitors may be able to respond more quickly than we can to changes in customer requirements.

In addition, our products must integrate with software solutions provided by a number of our existing or potential competitors. These competitors could alter their products so that our products no longer integrate well with them, or they could deny or delay access by us to advance software releases that allow us to timely adapt our products to integrate with their products.

Our competitors have made and may also continue to make strategic acquisitions or establish cooperative relationships among themselves or with other software vendors. This may increase the ability of their products to address the need for software solutions such as ours, which provide both the ability to collect data from multiple sources and analyze that data to profile customer characteristics and preferences. Our competitors may also establish or strengthen cooperative relationships with our current or future distributors or other parties with whom we have relationships, thereby limiting our ability to sell through these channels, reducing promotion of our products and limiting the number of consultants available to implement our software.

Our revenues might be harmed by resistance to adoption of our software by information technology departments.

Some businesses may have already made a substantial investment in other third party or internally developed software designed to integrate data from disparate sources and analyze this data or manage marketing campaigns. These companies may be reluctant to abandon these investments in favor of our software. In addition, information technology departments of potential customers may resist purchasing our software solutions for a variety of other reasons, particularly the potential displacement of their historical role in creating and running software and concerns that packaged software products are not sufficiently customizable for their enterprises. If the market for our products does not grow for any of these reasons, our revenues will be harmed.

If the market in which we sell our products and services does not grow as we anticipate, our revenues will be lower than our expectations or even reduced.

If the market for software that enables companies to establish, manage, maintain and continually improve customer relationships by collecting and analyzing data to design and manage marketing campaigns and customize products and services and providing timely, consistent, multichannel customer interaction does not grow as quickly or become as large as we anticipate, our revenues will be lower than our expectations or even reduced. Our market is still emerging, and our success depends on its growth. Our potential customers may:

       •    not understand or see the benefits of using these products,

       •    not achieve favorable results using these products,

       •    experience technical difficulty in implementing or using these products, or

       •    use alternative methods to solve the same business problems.

In addition, because our products can be used in connection with Internet commerce and we are currently developing additional Internet commerce solutions, if the Internet commerce market does not grow as quickly as we anticipate, we may experience sales which are lower than our expectations.

If we fail to develop new products or improve our existing products to meet or adapt to the changing needs and standards of our industry, sales of our products may decline.

Our future success depends on our ability to address the rapidly changing needs of our customers and potential customers. We must maintain and improve our E.piphany E.5 System and develop new products that include new technological developments, keep pace with products of our competitors and satisfy the changing requirements of our customers. If we do not, we may not achieve market acceptance and we may be unable to attract new customers. E.piphany may also lose existing customers, to whom we seek to sell additional software solutions and professional services.

To achieve increased market acceptance of our products, we must, among other things, continue to:

       •    improve and introduce new software solutions for reporting and analysis, distributed database marketing and e-commerce,

       •    improve the effectiveness of our software, particularly in implementations involving very large databases and large numbers of simultaneous users,

       •    enhance our software’s ease of administration,

       •    design software for vertical markets,

       •    make available international versions of our software,

       •    improve our software’s ability to extract data from existing software systems, and

       •    adapt to rapidly changing computer operating system and database standards and Internet technology.

We may not be successful in developing and marketing these or other new or improved products. If we are not successful, we may lose sales to competitors. In addition, we have entered into customer contracts, which contain specific performance goals relating to new product releases or enhancements, and if we are not able to meet these goals, we may be required to, among other things, return fees, pay damages and offer discounts.

If our products do not stay compatible with currently popular software programs, we may lose sales and revenues.

The E.piphany E.5 System must work with commercially available software programs that are currently popular. If these software programs do not remain popular, or we do not update our software to be compatible with newer versions of these programs, we may lose customers.

In order to operate the E.piphany E.5 System, the system must be installed on both a computer server running the Microsoft Windows NT or Windows 2000 computer operating systems and a computer server running database software from Microsoft or Oracle. We are currently in various stages of porting our software to operate on additional operating systems and databases, including UNIX, IBM DB2 and other third party application servers such as BEA System’s Web Logic product. If we fail to successfully complete these modifications in a timely manner, we may lose sales and revenues. In addition, users access the E.piphany E.5 System through standard Internet browsers such as Microsoft Internet Explorer. If we fail to obtain access to developer versions of any of these software products, we may be unable to build and enhance our products on schedule.

After installation, the E.piphany E.5 System collects and analyzes data to profile customers’ characteristics and preferences. This data may be stored in a variety of our customers’ existing software systems, including systems from Oracle, PeopleSoft, Siebel Systems, and SAP, running on a variety of computer operating systems. If we fail to enhance our software to collect data from new versions of these products, we may lose potential customers. If we lose customers, our revenues and profitability may be harmed.

Our products have long sales cycles which makes it difficult to plan expenses and forecast results.

It takes us between three and nine months to complete the majority of our sales and it can take us up to one year or longer. It is therefore difficult to predict the quarter in which a particular sale will occur and to plan expenditures

accordingly. The period between initial contact with a potential customer and their purchase of products and services is relatively long due to several factors, including:

       •    the complex nature of our products,

       •    our need to educate potential customers about the uses and benefits of our products,

       •    the purchase of our products requires a significant investment of resources by a customer,

       •    our customers have budget cycles which affect the timing of purchases,

       •    uncertainty regarding future economic conditions,

       •    many of our potential customers requiring competitive evaluation and internal approval before purchasing our products,

       •    potential customers delay purchases due to announcements or planned introductions of new products by us or our competitors, and

       •    many of our potential customers are large organizations, which may require a long time to make decisions.

The delay or failure to complete sales in a particular quarter could reduce our revenues in that quarter, as well as subsequent quarters over which revenues for the sale would likely be recognized. If our sales cycle unexpectedly lengthens in general or for one or more large orders, it would adversely affect the timing of our revenues. If we were to experience a delay of several weeks on a large order, it could harm our ability to meet our forecasts for a given quarter.

If we fail to establish, maintain or expand our relationships with third parties, our ability to grow revenues could be harmed.

In order to grow our business, we must generate, retain and strengthen relationships with third parties. To date, we have established relationships with several companies, including consulting organizations and system integrators that implement our software, including Accenture, Deloitte & Touche, KPMG Consulting and PricewaterhouseCoopers; resellers, including Acxiom, EDS, Hewlett-Packard and Harte-Hanks; and application service providers that provide access to our software to their customers over the Internet, including Interrelate. If the third parties with whom we have relationships do not provide sufficient, high-quality service or integrate and support our software correctly, our revenues may be harmed. In addition, the third parties with whom we have relationships may offer products of other companies, including products that compete with our products. We typically enter into contracts with third parties that generally set out the nature of our relationships. However, our contracts do not require these third parties to devote resources to promoting, selling and supporting our products. Therefore we have little control over these third parties. We cannot assure you that we can generate and maintain relationships that offset the significant time and effort that are necessary to develop these relationships.

If we fail to expand our direct and indirect sales channels, we will not be able to increase revenues.

In order to grow our business, we need to increase market awareness and sales of our products and services. To achieve this goal, we need to increase both our direct and indirect sales channels. If we fail to do so, this failure could harm our ability to increase revenues. We currently receive substantially all of our revenues from direct sales, but we intend to increase sales through indirect sales channels in the future.

We intend to derive revenues from indirect sales channels by selling our software through value added resellers. These resellers offer our software products to their customers together with consulting and implementation services or integrate our software solutions with other software.

We expect as part of our strategy to increase international sales through the use of direct and indirect sales channels. We will be even more dependent on indirect sales channels in the future due to our international strategy.

We also plan to expand our international direct sales force and therefore must hire additional sales personnel outside the United States. Our ability to develop and maintain these channels will significantly affect our ability to penetrate international markets.

We have grown very quickly and if we fail to manage our growth, our ability to generate new revenues and achieve profitability would be harmed.

We have grown significantly since our inception and will need to grow quickly in the future. Any failure to manage this growth could impede our ability to increase revenues and achieve profitability. We have increased our number of employees from 21 at December 31, 1997 to 736 as of September 30, 2001. Our future expansion could be expensive and strain our management and other resources. In order to manage growth effectively, we must:

       •    hire, train and integrate new personnel,

       •    integrate people and technologies from acquired companies,

       •    continue to augment our financial and accounting systems,

       •    manage our sales operations, which are in several locations, and

       •    expand our facilities.

If we do not manage our growth effectively, our business could suffer.

If we acquire additional companies or technologies in the future, they could prove difficult to integrate, disrupt our business, dilute stockholder value or adversely affect our operating results.

In addition to the acquisitions that we have already completed, we may acquire or make investments in other complementary companies, services and technologies in the future. If we fail to successfully complete acquisitions and investments, they may seriously harm our business and prospects. To successfully complete an acquisition, we must:

       •    properly evaluate the business, personnel and technology of the company to be acquired,

       •    accurately forecast the financial impact of the transaction, including accounting charges and transaction expenses,

       •    integrate and retain personnel,

       •    combine potentially different corporate cultures,

       •    effectively integrate products and research and development, sales, marketing and support operations, and

       •    maintain focus on our day-to-day operations.

Further, the financial consequences of our acquisitions and investments may include potentially dilutive issuances of equity securities, one-time write-offs, impairment charges, amortization expenses related to goodwill and other intangible assets and the incidence of contingent liabilities.

If others claim that we are infringing their intellectual property, we could incur significant expenses or be prevented from selling our products.

We cannot assure you that others will not claim that we are infringing their intellectual property rights or that we do not in fact infringe those intellectual property rights. We have not conducted a search for existing intellectual property registrations and we may be unaware of intellectual property rights of others that may cover some of our technology.

We have been contacted by a company which has asked us to evaluate the need for a license of several patents that the company holds directed to data extraction technology. This company has filed litigation alleging infringement of its patents against several of our competitors. We cannot assure you that the holder of the patents will not file litigation against us or that we would prevail in the case of such litigation. In addition, the patent holder has informed us that it has applications pending in numerous foreign countries. The patent holder may also have applications on file in the United States covering related subject matter which are confidential until the patent or patents, if any, are issued.

Any litigation regarding intellectual property rights could be costly and time-consuming and divert the attention of our management and key personnel from our business operations. The complexity of the technology involved and the uncertainty of intellectual property litigation increase these risks. Claims of intellectual property infringement might also require us to enter into costly royalty or license agreements.

Further, we may not be able to obtain royalty or license agreements on terms acceptable to us, or at all. We also may be subject to significant damages or an injunction against use of our products. A successful claim of patent or other intellectual property infringement against us would have an immediate material adverse effect on our business and financial condition.

If we are unable to protect our intellectual property rights, this inability could weaken our competitive position, reduce our revenues and increase our costs.

Our success depends in large part on our proprietary technology. We rely on a combination of patent, copyright, trademark and trade secrets, confidentiality procedures and licensing arrangements to establish and protect our proprietary rights. We may be required to spend significant resources to monitor and police our intellectual property rights. If we fail to successfully enforce our intellectual property rights, our competitive position may be harmed.

Our pending patent and trademark registration applications may not be allowed or competitors may successfully challenge the validity or scope of these registrations. In addition, our patents may not provide a significant competitive advantage.

Other software providers could copy or otherwise obtain and use our products or technology without authorization. They also could develop similar technology independently which may infringe our proprietary rights. We may not be able to detect infringement and may lose a competitive position in the market before we do so. In addition, competitors may design around our technology or develop competing technologies. The laws of some foreign countries do not protect proprietary rights to the same extent as do the laws of the United States.

In addition, one of the ways in which we charge for our software is based on the number of users at a particular site that will be permitted to use the software. Organizations that have a site license for a fixed number of users for our products could allow unauthorized use of our software by unlicensed users. Unauthorized use is difficult to detect and, to the extent that our software is used without authorization, we may lose potential license fees.

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

The effectiveness of our software products relies on the storage and use of customer data collected from various sources, including information collected on web sites, as well as other data derived from customer registrations, billings, purchase transactions and surveys. Our collection and use of such data for customer profiling may raise privacy and security concerns. Our customers generally have implemented security measures to protect customer data from disclosure or interception by third parties. However, the security measures may not be effective against all potential security threats. If a well-publicized breach of customer data security were to occur, our software products may be perceived as less desirable, impacting our future sales and profitability.

In addition, due to privacy concerns, some Internet commentators, consumer advocates, and governmental or legislative bodies have suggested legislation to limit the use of customer profiling technologies. The European Union and some European countries have already adopted some restrictions on the use of customer profiling data. In

addition, Internet users can, if they choose, configure their web browsers to limit the collection of user data for customer profiling. Should many Internet users choose to limit the use of customer profiling technologies, or if major countries or regions adopt legislation or other restrictions on the use of customer profiling data, our software would be less useful to customers, and our sales and profits could decrease.

Our products are new, and if they contain defects, or our services are not perceived as high quality, we could lose potential customers or be subject to damages.

We began shipping our first products in early 1998. Our products are complex and may contain currently unknown errors, defects or failures, particularly since they are new and recently released. In the past we have discovered software errors in some of our products after introduction. We may not be able to detect and correct errors before releasing our products commercially. If our commercial products contain errors, we may be required to:

       •    expend significant resources to locate and correct the error,

       •    delay introduction of new products or commercial shipment of products, or

       •    experience reduced sales and harm to our reputation from dissatisfied customers.

Our customers also may encounter system configuration problems which require us to spend additional consulting or support resources to resolve these problems.

In addition, our customers generally store their data across computer networks, which are often connected to the Internet. Our software operates across our customers’ computer networks and can, at the customer’s option, be accessed through an Internet connection. Our software contains technology designed to prevent theft or loss of data. Nevertheless, customers may encounter security issues with their existing databases installed across networks, particularly the Internet, or with our software. A security breach involving our software, or a widely publicized security breach involving the Internet generally, could harm our sales. A security breach involving our software could also expose us to claims for damages.

Because our software products are used for important decision-making processes and enable our customers to interact with their customers, product defects may also give rise to product liability claims. Although our license agreements with customers typically contain provisions designed to limit our exposure, some courts may not enforce all or part of these limitations. Although we have not experienced any product liability claims to date, we may encounter these claims in the future. Product liability claims, whether or not successful, could:

       •    divert the attention of our management and key personnel from our business,

       •    be expensive to defend, and

       •    result in large damage awards.

Our product liability insurance may not be adequate to cover all of the expenses resulting from a claim. In addition, if our customers do not find our services to be of high quality, they may elect to use other training, consulting and product integration firms rather than contract for our services. If customers are dissatisfied with our services, we may lose revenues.

We do not have substantial experience in international markets.

We have limited experience in marketing, selling and supporting our products and services abroad. If we are unable to grow our international operations successfully and in a timely manner, our business and operating results could be seriously harmed. In addition, doing business internationally involves greater expense and many additional risks, particularly:

• unexpected changes in regulatory requirements, taxes, trade laws and tariffs,

       •    differing intellectual property rights,

       •    differing labor regulations,

       •    unexpected changes in regulatory requirements,

       •    changes in a specific country’s or region’s political or economic conditions,

       •    greater difficulty in establishing, staffing and managing foreign operations, and

       •    fluctuating exchange rates.

We have expanded our international operations, which has required a significant amount of attention from our management and substantial financial resources. As of September 30, 2001, we had 144 employees located in Asia, Australia, Canada, Europe, and Latin America.

If database access becomes standardized, demand for our products will be reduced.

Our products are useful for integrating data from a variety of disparate data sources. Adoption of uniform, industry-wide standards across various database and analytic software programs could minimize the importance of the data integration capabilities of our products. This, in turn, could adversely affect the competitiveness and market acceptance of our products. Also, a single competitor in the market for database and analytic software programs or Internet relationship management may become dominant, even if there is no formal industry-wide standard. If large numbers of our customers adopt a single standard, this would similarly reduce demand for our product. If we lose customers because of the adoption of standards, we may realize lower revenues and profitability.

Seasonal trends in sales of business software may affect our quarterly revenues.

The market for business software has experienced seasonal fluctuations in demand. The first and third quarters of the year have been typically characterized by lower levels of revenue growth. We believe that these fluctuations are caused in part by customer buying patterns, which are influenced by year-end budgetary pressures and by sales force commission structures. As our revenues grow, we may experience seasonal fluctuations in our revenues.

Provisions in our charter documents and Delaware law may delay or prevent an acquisition of E.piphany.

Our certificate of incorporation and bylaws contain provisions which could make it harder for a third party to acquire us without the consent of our board of directors. For example, if a potential acquirer were to make a hostile bid for us, the acquirer would not be able to call a special meeting of stockholders to remove our board of directors or act by written consent without a meeting. In addition, our board of directors have staggered terms, which makes it difficult to remove them all at once. The acquirer would also be required to provide advance notice of its proposal to remove directors at an annual meeting. The acquirer also will not be able to cumulate votes at a meeting, which will require the acquirer to hold more shares to gain representation on our board of directors than if cumulative voting were permitted.

Our board of directors also has the ability to issue preferred stock without stockholder approval. As a result, we could adopt a shareholder rights plan that could significantly dilute the equity ownership of a hostile acquirer. In addition, Section 203 of the Delaware General Corporation Law limits business combination transactions with 15% stockholders that have not been approved by the board of directors. These provisions and other similar provisions make it more difficult for a third party to acquire us without negotiation. These provisions may apply even if the offer may be considered beneficial by some stockholders.

Our board of directors could choose not to negotiate with an acquirer that it did not feel was in the strategic interests of our company. If the acquirer was discouraged from offering to acquire us, or prevented from successfully completing a hostile acquisition by the antitakeover measures, you could lose the opportunity to sell your shares at a favorable price.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

MARKET RISK

The following discusses our exposure to market risk related to changes in foreign currency exchange rates and interest rates. This discussion contains forward-looking statements that are subject to risks and uncertainties. Actual results could vary materially as a result of a number of factors including those set forth in the “Risk Factors” section of this quarterly report.

Foreign Currency Exchange Rate Risk

The majority of our operations are based in the United States and, accordingly, the majority of our transactions are denominated in U.S. Dollars. However, we do have foreign-based operations where transactions are denominated in foreign currencies and are subject to market risk with respect to fluctuations in the relative value of currencies. We have not entered into any foreign currency hedging transactions to manage this risk. Currently, we have operations in Asia, Australia, Canada, Europe, and Latin America and conduct transactions in the local currency of each location. To date, the impact of fluctuations in the relative value of other currencies has not been material and we do not expect them to be material in the future.

Interest Rate Risk

As of September 30, 2001, we had short-term investments of $123.0 million which consisted of fixed income securities. Declines of interest rates over time would reduce our interest income from our short-term investments. Based upon our balance of short-term investments, a decrease in interest rates of 0.5% would cause a corresponding decrease in our annual interest income by approximately $615,000. As of September 30, 2001, we did not have any short-term or long-term debt outstanding.

The following summarizes the Company’s short-term investments and the weighted average yields, as of September 30, 2001 (in thousands, except interest rates):


	Expected maturity date

	2001			2002			Total

Commercial paper	$	32,476		$	6,414		$	38,890
Weighted average yield		3.82	%		2.97	%		3.67	%
Corporate bonds	$	18,531		$	21,879		$	40,410
Weighted average yield		3.91	%		3.34	%		3.60	%
Government notes/bonds	$	38,695		$	5,015		$	43,710
Weighted average yield		4.58	%		3.66	%		4.47	%

Total investment securities	$	89,702		$	33,308		$	123,010

PART II: OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

On July 9, 2001, a putative securities class action, captioned Kucera v. E.piphany, Inc., et al., Civil Action No. 01-CV-6158, was filed against the Company, several of its officers and three underwriters in the Company’s initial public offering, in the United States District Court for the Southern District of New York. The complaint alleges violations of Section 11 of the Securities Act of 1933 against all defendants, a violation of Section 15 of the Securities Act against the individual defendants, and violations of Section 12(a)(2) of the Securities Act and Section 10(b) of the Securities Exchange Act of 1934 against the underwriters. The complaint seeks unspecified damages on behalf of a purported class of purchasers of common stock between September 21, 1999 and December 6, 2000. One additional lawsuit has been filed subsequently which contains allegations substantially identical to those in the Kucera complaint, and other related lawsuits may be brought.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

(a) None.

(b) None.

(d) None.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

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

None.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits

See exhibit index attached hereto.

(b) Reports on Form 8-K

None.

SIGNATURES

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

E.PIPHANY, INC

DATE: November 14, 2001 SIGNATURE: /s/ Roger S. Siboni

Roger S. Siboni
President, Chief Executive
Officer and Chairman of the Board

DATE: November 14, 2001 SIGNATURE: /s/ Kevin J. Yeaman

Kevin J. Yeaman
Chief Financial Officer

EXHIBIT INDEX

Incorporated by reference to the Registrant’s Registration Statement on Form S-1 (Registration No. 333-82799) declared effective by the Securities and Exchange Commission on September 21, 1999.

34 -----END PRIVACY-ENHANCED MESSAGE-----

Number

Exhibit Title

Restated Certificate of Incorporation of the Registrant.

Restated Bylaws of the Registrant.

Form of Stock Certificate.


	[X]	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934


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


		Page No.

PART I	FINANCIAL INFORMATION

Item 1.	Financial Statements

	Condensed Consolidated Balance Sheets - As of December 31, 2000 and September 30, 2001		3

	Condensed Consolidated Statements of Operations - Three and nine months ended September 30, 2000 and 2001		4

	Condensed Consolidated Statements of Cash Flows - Nine months ended September 30, 2000 and 2001		5

	Notes to Condensed Consolidated Financial Statements		6

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		12

Item 3.	Quantitative and Qualitative Disclosures About Market Risk		30

PART II	OTHER INFORMATION

Item 1.	Legal Proceedings		31

Item 2.	Changes in Securities and Use of Proceeds		31

Item 3.	Defaults Upon Senior Securities		31

Item 4.	Submission of Matters to a Vote of Securities Holders		31

Item 5.	Other Information		31

Item 6.	Exhibits and reports on Form 8-K		32

SIGNATURES			33


		Accrued Balance at		Total		Cash						Accrued Balance at
		December 31, 2000		Charges		Payments			Non Cash Activity			September 30, 2001

Severance and related charges		$	—	$	1,532	$	(1,509	)	$	(23	)	$	—
Write-off of leasehold improvements			—		3,714		—			(3,714	)		—
Lease termination costs — current			—		9,199		(1,278	)		—			7,921
Lease termination costs — non-current			—		17,991		—			—			17,991

	Total	$	—	$	32,436	$	(2,787	)	$	(3,737	)	$	25,912

	•		varying size, timing and contractual terms of orders for our products,

	•		our ability to timely complete our service obligations related to product sales,

	•		changes in the mix of revenue attributable to higher-margin product license revenue as opposed to substantially lower-margin service revenue,

	•		customers’ decisions to defer orders or implementations, particularly large orders or implementations, from one quarter to the next,

	•		changes in demand for our software or for enterprise software generally,

	•		announcements or introductions of new products by our competitors,

	•		software defects and other product quality problems,

	•		our ability to integrate acquisitions,

	•		our ability to release new U.S. and international products on a timely basis,

	•		any increase in our need to supplement our professional services organization by subcontracting to more expensive consulting organizations to help provide implementation, support and training services when our own capacity is constrained, and

	•		our ability to hire, train and retain sufficient engineering, consulting, training and sales staff.

	•		the nature of the software solution licensed,

	•		the complexity of the customer’s information technology environment,

	•		the resources allocated by customers to their implementation projects,

	•		the scope of licensed rights, and

	•		the extent to which outside consulting organizations provide services directly to customers.

	•		data management and data analysis software tools such as Kana Software, Microstrategy and Oracle,

	•		enterprise application software such as PeopleSoft, SAP and Siebel Systems,

	•		marketing campaign management software tools such as Xchange, Chordiant and Recognition Systems.

	•		not understand or see the benefits of using these products,

	•		not achieve favorable results using these products,

	•		experience technical difficulty in implementing or using these products, or

	•		use alternative methods to solve the same business problems.

	•		improve and introduce new software solutions for reporting and analysis, distributed database marketing and e-commerce,

	•		improve the effectiveness of our software, particularly in implementations involving very large databases and large numbers of simultaneous users,

	•		enhance our software’s ease of administration,

	•		design software for vertical markets,

	•		make available international versions of our software,

	•		improve our software’s ability to extract data from existing software systems, and

	•		adapt to rapidly changing computer operating system and database standards and Internet technology.

	•		the complex nature of our products,

	•		our need to educate potential customers about the uses and benefits of our products,

	•		the purchase of our products requires a significant investment of resources by a customer,

	•		our customers have budget cycles which affect the timing of purchases,

	•		uncertainty regarding future economic conditions,

	•		many of our potential customers requiring competitive evaluation and internal approval before purchasing our products,

	•		potential customers delay purchases due to announcements or planned introductions of new products by us or our competitors, and

	•		many of our potential customers are large organizations, which may require a long time to make decisions.

	•		hire, train and integrate new personnel,

	•		integrate people and technologies from acquired companies,

	•		continue to augment our financial and accounting systems,

	•		manage our sales operations, which are in several locations, and

	•		expand our facilities.

	•		properly evaluate the business, personnel and technology of the company to be acquired,

	•		accurately forecast the financial impact of the transaction, including accounting charges and transaction expenses,

	•		integrate and retain personnel,

	•		combine potentially different corporate cultures,

	•		effectively integrate products and research and development, sales, marketing and support operations, and

	•		maintain focus on our day-to-day operations.

	•		expend significant resources to locate and correct the error,

	•		delay introduction of new products or commercial shipment of products, or

	•		experience reduced sales and harm to our reputation from dissatisfied customers.

	•		divert the attention of our management and key personnel from our business,

	•		be expensive to defend, and

	•		result in large damage awards.

	•		differing intellectual property rights,

	•		differing labor regulations,

	•		unexpected changes in regulatory requirements,

	•		changes in a specific country’s or region’s political or economic conditions,

	•		greater difficulty in establishing, staffing and managing foreign operations, and

	•		fluctuating exchange rates.


	E.PIPHANY, INC

DATE: November 14, 2001	SIGNATURE:	/s/ Roger S. Siboni

		Roger S. Siboni President, Chief Executive Officer and Chairman of the Board


DATE: November 14, 2001	SIGNATURE:	/s/ Kevin J. Yeaman

		Kevin J. Yeaman Chief Financial Officer