UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

For the quarterly period ended September 30, 2004.

OR

Commission File Number: 0-23067

CONCORD COMMUNICATIONS, INC.

600 Nickerson Road
Marlborough, Massachusetts 01752
(508) 460-4646
(Address and telephone of principal executive offices)

Indicate by check mark whether registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES [X] NO [  ]

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

YES [X] NO [  ]

     18,308,575 shares of the registrant’s common stock were outstanding as of October 29, 2004.

CONCORD COMMUNICATIONS, INC.

FORM 10-Q, September 30, 2004

TABLE OF CONTENTS

2

PART I: FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

CONCORD COMMUNICATIONS, INC.

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

3

CONCORD COMMUNICATIONS, INC.

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

4

CONCORD COMMUNICATIONS, INC.

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

5

CONCORD COMMUNICATIONS, INC.

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

(a) Basis of Presentation

     The accompanying unaudited condensed consolidated financial statements have been prepared by Concord Communications, Inc. (the “Company” or “Concord”) in accordance with accounting principles generally accepted in the United States of America (“US GAAP”) for interim financial statements and with the instructions to Form 10-Q and Regulation S-X pertaining to interim financial statements. Accordingly, these interim financial statements do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. These financial statements reflect all adjustments and accruals of a normal recurring nature, which management considers necessary for a fair presentation of the Company’s financial position as of September 30, 2004 and December 31, 2003, and the Company’s results of operations for the three and nine months ended September 30, 2004 and 2003. The results for the interim periods presented are not necessarily indicative of results to be expected for any future period. The financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto included in the Company’s 2003 Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on March 15, 2004.

(b) Financial Instruments, Concentration of Credit Risk and Significant Customers

     The Company maintains an allowance for potential credit losses but historically has not experienced any significant losses related to individual customers or groups of customers in any particular industry or geographic area. No individual customer accounted for more than 10% of revenues for either the three or nine months ended September 30, 2004 or 2003. One customer, located in the United States, accounted for 10.2% of the Company’s accounts receivable at September 30, 2004. No individual customer accounted for more than 10% of the Company’s accounts receivable at December 31, 2003.

(c) Derivative Financial Instruments

     The Company uses forward contracts to reduce its exposure to foreign currency risk and variability in operating results due to fluctuations in exchange rates underlying the value of accounts receivable denominated in foreign currencies until such receivables are collected. A forward contract obligates the Company to exchange predetermined amounts of specified foreign currencies at specified exchange rates on specified dates. These foreign currency forward exchange contracts are denominated in the same currency in which the underlying foreign currency receivables are denominated and bear a contract value and maturity date that approximate the value and expected settlement date, respectively, of the underlying transactions. For contracts that are designated and effective as hedges, unrealized gains and losses on open contracts at the end of each accounting period, resulting from changes in the fair value of these contracts, are recognized in earnings in the same period as gains and losses on the underlying foreign denominated receivables are recognized and generally offset. Gains and losses on forward contracts and foreign denominated receivables are included in other income (expense), net. The Company does not enter into or hold derivatives for trading or speculative purposes and only enters into contracts with highly rated financial institutions. At September 30, 2004, the Company did not have any forward contracts outstanding.

(d) Stock-Based Compensation

     The Company accounts for employee stock-based compensation arrangements under the provisions of Accounting Principles Board (“APB”) Opinion No. 25 and related interpretations. Statement of Financial Accounting Standards (“SFAS”) No. 123 permits the use of either a fair-value based method or the intrinsic value method under APB No. 25 to account for employee stock-based compensation arrangements. Companies that elect to use the intrinsic value method provided in APB No. 25 are required to disclose the pro forma net income (loss) and net income (loss) per share that would have resulted from the use of the fair value method. The Company has provided below the pro forma disclosures of the effect on net income (loss) and net income (loss) per share as if SFAS No. 123, as amended by SFAS No. 148, had been applied in measuring compensation expense for all periods presented.

6

(e) Restricted Cash

     Restricted cash totaling $65,000 and $194,000 at September 30, 2004 and December 31, 2003, respectively, consists of money market funds held in the Company’s name with a major financial institution. The balance as of September 30, 2004 is being used as collateral for a lease of one of the Company’s facilities and will expire in May 2005. The December 31, 2003 balance was being used as collateral under a letter of credit arrangement with a Company supplier and expired in May 2004.

(f) Reclassifications

     Certain amounts in the 2003 condensed consolidated financial statements have been reclassified to conform to the 2004 presentation.

2. ACQUISITION OF NETVIZ CORPORATION

     On July 17, 2003, the Company completed the acquisition of netViz Corporation (“netViz”). netViz’s software enables users to visualize business processes and allows them to map relationships within the supporting technology infrastructure through data-driven icons. The integration of netViz’s technologies with Concord’s eHealth® Suite will provide a new, more automated means of application service optimization. This integration will enable enterprises and service providers to employ data-driven icons to visualize and take action on the critical relationships between business processes, application services, and network and system infrastructures. Furthermore, this will allow customers to measure the performance and availability of application services, map the dependencies between business processes, and manage the complete application service. We believe that integrating netViz technologies will further increase the eHealth® Suite’s value proposition by capturing the business context of information and delivering IT knowledge.

     The results of operations of the acquired business have been included in the financial statements of the Company since the date of acquisition.

7

     The following table reflects unaudited pro forma results of operations of the Company assuming that the netViz acquisition had occurred on January 1, 2003:

     The unaudited pro forma results of operations are not necessarily indicative of the actual results that would have occurred had the transaction actually taken place at the beginning of these periods.

3. GOODWILL AND OTHER INTANGIBLE ASSETS

     All of the Company’s goodwill resulted from the acquisition of netViz (see Note 2). The goodwill is tested for impairment on June 30th of each year and whenever changes in circumstances indicate goodwill could be impaired. As of June 30, 2004, the Company performed its annual test for impairment on the carrying value of goodwill of its MSP/TC and Enterprise reporting units. The Company compared the fair value of each reporting unit to which goodwill has been allocated to its book value and determined that no impairment existed at that date.

     Other intangible assets as of September 30, 2004 consist of the following:

Aggregate amortization expense for the three and nine months ended September 30, 2004 was $0.2 million and $0.6 million, respectively. Aggregate amortization for the three and nine months ended September 30, 2003, was $0.2 million and $0.2 million, respectively. For each period, approximately 66% of the aggregate expense was included in costs of revenues and the remainder was included in operating expenses.

4. IN-PROCESS RESEARCH AND DEVELOPMENT

     On July 11, 2003, Concord entered into a license agreement with Tavve Software Company (“Tavve”) whereby Concord licensed components of Tavve’s technology. Concord has licensed Tavve’s root cause analysis and discovery of layer 2 and 3 network topology to build upon Concord’s current position in optimizing application availability and performance across networks and systems. The transaction included two different purchases of Tavve technology. The first purchase, valued at $1.2 million, included $0.2 million of prepaid maintenance and $1.0 million of in-process research and development. This was accounted for as in-process research and development as an integrated product had not reached technological feasibility and had no alternative future use. This purchase of in-process research and development was expensed during the three months ended September 30, 2003.

     During the three months ended June 30, 2004, the Company made a second purchase for additional source code for which the Company paid $0.1 million. This was also accounted for as in-process-research-and-development as an integrated product has not reached technological feasibility and has no alternative future use.

     Technological feasibility is established when either of two sets of criteria is met:

     a) the detail program design has been completed, documented, and traced to product specifications and its high-risk development issues have been resolved; or

     b) a working model of the product has been finished and determined to be complete and consistent with the product design.

8

     Upon acquiring the licensed components of Tavve’s technology, Concord did not have a completed product design at the time of the purchase as it had not completed, documented, and traced the detail program design to product specifications. Concord did not have the high-risk development issues resolved.

     A working model is defined as an operative version of the computer software product that is completed in the same software language as the product to be ultimately marketed, performs all the major functions planned for the product, and is ready for initial customer testing (usually identified as beta testing). Upon acquiring the licensed components of Tavve’s technology, Concord did not have a working model as defined.

     In addition, the purchased source code has no alternative future use, i.e., Concord will not use the source code for any other purpose than described above.

     The detail program design for the integration of Tavve’s technology into Concord eHealth® Suite of products has not been completed as of September 30, 2004; thus, the exact costs and efforts required for completion of this integration has not been determined. Based on management’s initial estimates, an integrated product based on Tavve’s technology will be introduced in the next one to three years. However, as with any major software development project, the timing of actual introduction may vary. Failure to successfully market and sell the integrated product may adversely impact the Company’s business.

5. COMMITMENTS AND CONTINGENCIES

(a) Indemnifications

     As permitted under Massachusetts law, the Company has agreements whereby it indemnifies its officers and directors for certain events or occurrences while the officer or director is, or was serving, at the Company’s request in such capacity. The term of the indemnification period is for the officer or director’s lifetime. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited; however, the Company has a Director and Officer insurance policy pursuant to which the Company may recover all or a portion of amounts it pays to directors or officers under their indemnification agreements. As a result of its insurance policy coverage, the Company believes the estimated fair value of these indemnification agreements is minimal.

     The Company warrants that its software products will perform in all material respects in accordance with its standard published specifications in effect at the time of delivery of the licensed products to the customer for a period of 90 days. Additionally, the Company warrants that its maintenance services will be performed consistent with its maintenance policy in effect at the time those services are delivered. The Company believes its maintenance policy is consistent with generally accepted industry standards. If necessary, the Company would provide for the estimated cost of product and service warranties based on specific warranty claims and claim history; however, the Company has never incurred significant expense under product or services warranties. As a result, the Company believes the estimated liability of these warranties is minimal.

     The Company enters into standard indemnification agreements in the ordinary course of its business. Pursuant to these agreements, the Company indemnifies, holds harmless, and agrees to reimburse the indemnified party for losses suffered or incurred by the indemnified party, generally its business partners or customers, in connection with any patent, copyright, trademark, trade secret or other intellectual property infringement claim by any third party with respect to the Company’s products. The term of these indemnification agreements is generally perpetual. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is often capped at a dollar figure. The Company has never incurred costs to defend lawsuits or settle claims related to these indemnification agreements. As a result, the Company believes the estimated liability of these agreements is minimal.

     When, as part of an acquisition, the Company acquires all of the stock or all or a portion of the assets and/or liabilities of a company, it may assume liability for certain events or occurrences that took place prior to the date of acquisition. The maximum potential amount of future payments it could be required to make for such obligations is undeterminable at this time. The Company has no liabilities recorded for these exposures as of September 30, 2004.

     The Company has entered into separate registration rights agreements with Vo Tran, a major shareholder of netViz, and with Bear, Stearns & Co. Inc. Pursuant to these agreements, the Company indemnifies and holds harmless the indemnified parties under the

9

agreements in connection with any material misstatements or omissions by the Company in its filings with the SEC or, with respect to the agreement entered into with Vo Tran, the violation by the Company of any applicable securities law or regulation. The term of the indemnification provisions in these agreements is perpetual. The Company has never incurred costs to defend lawsuits or settle claims related to these agreements. As a result, the Company believes the estimated liability of these agreements is minimal.

(b) Claims

     On April 30, 2004, the Company received a letter from LMS Technology Distributions SDN BHD (“LMS”) of Malaysia that demands that the Company reimburse LMS for approximately $4.65 million in alleged losses arising out of the Company’s purported wrongful termination of a Concord Authorized Reseller Agreement (the “CAR Agreement”) with LMS. The Company disputes that the CAR Agreement was wrongfully terminated or that LMS is owed any of the amounts claimed, and the Company intends to defend vigorously against the demand. It is not possible to predict or determine the outcome of these demands or to provide ranges of losses that may arise, if any.

     In November 2003, Concord received notice from a former sales employee in France, stating that he was wrongfully dismissed in July 2003. The former employee filed a wrongful termination lawsuit against Concord claiming approximately $0.4 million in damages. Concord disputes that the former employee was wrongfully terminated and intends to vigorously defend against this claim. However, Concord has determined, in the three month period ending September 30, 2004, that the amount of the loss was probable and could be estimated as defined by SFAS No. 5, Accounting for Contingencies; thus, an amount of $0.12 million has been accrued.

6. NET INCOME PER SHARE

     The Company computes earnings per share following the provisions of SFAS No. 128, Earnings per Share. Basic net income per share is computed using the weighted-average number of common shares outstanding for a period. Diluted net income per share is computed using the weighted-average number of common and dilutive potential common shares outstanding for the period. Diluted net income per share is computed using the weighted-average number of common shares outstanding for a period.

     For both the three and nine months ended September 30, 2004 and 2003, dilutive potential common shares outstanding consisted of stock options. The dilutive effect of outstanding stock options is computed using the treasury stock method. The dilutive effect of senior convertible notes is computed using the if-converted method.

     Calculations of the basic and diluted net income per common share and potential common share are as follows:

     For the three months ended September 30, 2004 and 2003 and for the nine months ended September 30, 2004 and 2003, diluted weighted average shares outstanding does not include 3,169,030; 1,828,568; 2,823,729 and 2,441,742 potential common shares, respectively, as their effect would have been anti-dilutive.

     For the period ended September 30, 2004, common stock reserved for issuance upon conversion of the convertible senior notes in the amount of 3,209,776 shares were not included in diluted earnings per share because the conversion criteria had not been met. Pursuant to a recently issued accounting standard (see Note 10), the Company must consider the effect of such conversion on diluted earnings per share, without regard to whether the conversion criteria have been met, beginning in the fourth quarter of 2004. Accordingly,

10

3,209,776 shares will be included in the diluted weighted average common shares outstanding and equivalents for the net income per share calculation, excluding interest expense for the period, if the effect of adding these shares is dilutive.

7. COMPREHENSIVE INCOME (LOSS)

Comprehensive income (loss) is defined as the change in net assets of the Company during a period from transactions generated from non-owner sources. It includes all changes in equity during a period except those resulting from investments by owners and distributions to owners.

Comprehensive income (loss) for the three and nine months ended September 30, 2004 and 2003 is as follows: