LYRIS, INC. - FORM 10-Q

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EXCEL - IDEA: XBRL DOCUMENT - LYRIS, INC.	Financial_Report.xls
EX-32.2 - EXHIBIT 32.2 - LYRIS, INC.	v409274_ex32-2.htm
EX-32.1 - EXHIBIT 32.1 - LYRIS, INC.	v409274_ex32-1.htm
EX-31.1 - EXHIBIT 31.1 - LYRIS, INC.	v409274_ex31-1.htm
EX-31.2 - EXHIBIT 31.2 - LYRIS, INC.	v409274_ex31-2.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

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

For the quarterly period ended March 31, 2015

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

For the transition period from _________________ to _________________________________

Commission File Number 333-82154

Lyris, Inc.

(Exact name of registrant as specified in its charter)

Delaware		01-0579490
(State of incorporation)		(I.R.S. Employer Identification No.)

6401 Hollis Street, Suite 125, Emeryville, CA 94608

(Address of principal executive office, including zip code)

(800) 768-2929

(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 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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

Yes x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer	¨	Accelerated filer	o

Non-accelerated filer	¨ (Do not check if a smaller reporting company)	Smaller Reporting Company	x

Indicate by checkmark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

9,568,613 shares of $0.01 Par Value Common Stock as of April 30, 2015

LYRIS, INC. AND SUBSIDIARIES

Quarterly Report on Form 10-Q

For Quarter Ended March 31, 2015

Item No.	Description	Page Number

	PART I – FINANCIAL INFORMATION

Item 1.	Financial Statements	1
	Unaudited Condensed Consolidated Balance Sheets as of March 31, 2015 and June 30, 2014	1
	Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended March 31, 2015 and March 31, 2014	2
	Unaudited Condensed Consolidated Statements of Comprehensive Income (Loss) for the three and nine months ended March 31, 2015 and March 31, 2014	3
	Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended March 31, 2015 and March 31, 2014	4
	Notes to Unaudited Condensed Consolidated Financial Statements	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	14
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	25
Item 4.	Controls and Procedures	25

	PART II – OTHER INFORMATION

Item 1.	Legal Proceedings	26
Item 1A.	Risk Factors	26
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	43
Item 3.	Defaults Upon Senior Securities	43
Item 4.	Mine Safety Disclosures	43
Item 5.	Other Information	43
Item 6.	Exhibits	44
Signatures		45

PART I. FINANCIAL INFORMATION

ITEM 1. Financial Statements

LYRIS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited, in thousands, except per share data)

	March 31,			June 30,
	2015			2014 (1)
ASSETS
Current assets:
Cash and cash equivalents	$	1,334		$	1,884
Accounts receivable, less allowances of $250 and $396, respectively		3,203			3,456
Prepaid expenses and other current assets		711			674
Deferred income taxes		479			1,152
Total current assets		5,727			7,166
Property and equipment, net		6,419			5,160
Intangible assets, net		4,400			4,404
Goodwill		5,491			9,791
Other long-term assets		189			615
TOTAL ASSETS	$	22,226		$	27,136

LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY
Current liabilities:
Revolving line of credit	$	3,050		$	2,350
Accounts payable and accrued expenses		2,819			3,103
Capital lease obligations - short-term		208			459
Income taxes payable		48			136
Deferred revenue		3,231			3,165
Total current liabilities		9,356			9,213
Other long-term liabilities		301			163
Capital lease obligations - long-term		119			450
TOTAL LIABILITIES		9,776			9,826
Commitments and contingencies (Note 10)
Redeemable convertible Series A preferred stock: $0.01 par value, 2,000 shares authorized, issued and outstanding, liquidation preference $5,000		5,000			5,000

Stockholders' equity:
Preferred stock, $0.01 par value, 2,000,000 shares authorized; no shares issued and outstanding		-			-
Common stock, $0.01 par value; 40,000,000 shares authorized; 9,568,613 shares issued and outstanding		1,415			1,415
Additional paid-in capital		269,015			268,592
Accumulated deficit		(262,793	)		(257,603	)
Treasury stock, at cost; 11 shares held		(56	)		(56	)
Accumulated other comprehensive loss		(131	)		(38	)
Total stockholders' equity		7,450			12,310
TOTAL LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY	$	22,226		$	27,136

(1) Derived from the consolidated audited financial statements included in our annual report on Form 10-K for the year ended June 30, 2014 filed with the Securities and Exchange Commission.

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.

LYRIS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited, in thousands)

	Three Months Ended March 31,						Nine Months Ended March 31,
	2015			2014			2015			2014

Revenue:
Subscription	$	5,355		$	5,960			16,464		$	18,572
Support and maintenance		859			959			2,671			2,987
Professional services		500			510			1,533			1,688
Software		85			160			457			720
Total revenue		6,799			7,589			21,125			23,967
Cost of revenue:
Subscription, support and maintenance, professional services, and software		2,410			2,292			7,370			7,386
Amortization of developed technology		-			427			93			1,305
Total cost of revenue		2,410			2,719			7,463			8,691
Gross profit		4,389			4,870			13,662			15,276
Operating expenses:
Sales and marketing		2,086			2,453			6,460			7,694
General and administrative		2,061			1,393			4,800			4,489
Research and development		1,073			1,019			2,673			2,893
Impairment of goodwill		-			-			4,300			-
Amortization of customer relationships and trade names		-			50			4			151
Total operating expenses		5,220			4,915			18,237			15,227
(Loss) Income from operations		(831	)		(45	)		(4,575	)		49
Interest expense		(37	)		(39	)		(95	)		(116	)
Interest income		-			-			3			-
Other income, net		51			29			73			43
Loss from operations before income tax provision (benefit)		(817	)		(55	)		(4,594	)		(24	)
Income tax provision (benefit)		91			(71	)		643			(25	)
Net (loss) income	$	(908	)	$	16		$	(5,237	)	$	1

Net (loss) income per share
Basic	$	(0.09	)	$	0.00		$	(0.55	)	$	0.00
Diluted	$	(0.09	)	$	0.00		$	(0.55	)	$	0.00

Weighted average shares outstanding
Basic		9,568			9,568			9,568			9,568
Diluted		9,568			11,568			9,568			11,568

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.

LYRIS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)

(Unaudited; in thousands)

	Three Months Ended March 31,						Nine Months Ended March 31,
	2015			2014			2015			2014
Net (loss) income	$	(908	)	$	16		$	(5,237	)	$	1
Other comprehensive income loss, net of tax:
Foreign currency translation loss		(42	)		(75	)		(93	)		(83	)
Comprehensive loss	$	(950	)		(59	)		(5,330	)	$	(82	)

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.

LYRIS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited; in thousands)

	Nine Months Ended March 31,
	2015			2014

Cash Flows from Operating Activities:
Net (loss) income	$	(5,237	)	$	1
Adjustments to reconcile net loss to net cash provided by operating activities:
Stock-based compensation expense		470			256
Depreciation		767			1,085
Amortization of intangible assets		4			151
Amortization of capitalized software costs		93			1,305
Goodwill impairment		4,300			-
Provision (recovery) for bad debts		121			(26	)
Deferred income taxes		673			(46	)
Changes in assets and liabilities:
Accounts receivable		132			228
Prepaid expenses and other current assets		(8	)		29
Accounts payable and accrued expenses		(383	)		(767	)
Deferred revenue		66			(44	)
Income taxes payable		(138	)		(60	)
Net cash provided by operating activities		860			2,112
Cash Flows from Investing Activities:
Purchases of property and equipment		(107	)		(133	)
Capitalized software expenditures		(1,940	)		(2,100	)
Investment in non-marketable equity securities		300			-
Net cash used in investing activities		(1,747	)		(2,233	)
Cash Flows from Financing Activities:
Proceeds from short-term credit arrangements, net		800			80
Proceeds from letter of credit		-
Payments under capital lease obligations		(393	)		(658	)
Net cash provided by (used in) in by financing activities		407			(578	)
Net effect of exchange rate changes on cash and cash equivalents		(70	)		(83	)
Net decrease in cash and cash equivalents		(550	)		(782	)
Cash and cash equivalents, beginning of period		1,884			2,318
Cash and cash equivalents, end of period	$	1,334		$	1,536

See accompanying Notes to Unaudited Condensed Consolidated Financial Statements.

LYRIS INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE QUARTERLY PERIOD ENDED March 31, 2015

Note 1 - Nature of Business and Basis of Presentation

Lyris, Inc. ("Lyris", "we", or "us") is a leading internet marketing technology company. Our Software-as-a-Service ("SaaS") or cloud-based online marketing solutions and services provide customers the ability to build, deliver and manage permission-based, online direct marketing programs and other communications to customers that use online and mobile channels to communicate to their customers and members. Our software products are offered to customers primarily on a subscription and license basis.

We were incorporated under the laws of the state of Delaware as J.L. Halsey Corporation and changed our name to Lyris, Inc. in October 2007. We have principal offices in Emeryville, California and conduct our business worldwide, with wholly owned subsidiaries in Canada, United Kingdom, Argentina, Brazil and Australia. Our foreign subsidiaries are generally engaged in providing sales, account management and support.

On May 4, 2015, Lyris entered into an Agreement and Plan of Merger with LY Acquisition Corp., a Delaware corporation, which sets forth the terms and conditions of the proposed merger of Lyris and Buyer. Pursuant to the merger agreement, LY Acquisition Corp. will merge with and into Lyris, with Lyris surviving the merger. As a result of the merger, each issued and outstanding share of Lyris Series A Preferred Stock and Lyris Common Stock not owned by LY Acquisition Corp. or Lyris as of the effective time of the merger (other than shares held by stockholders of Lyris who have validly exercised their appraisal rights under Delaware law) will be converted into the right to receive $2.50 and $0.89, respectively, in cash, without interest and subject to any required tax withholding. Upon the consummation of the merger, Lyris will become a subsidiary of Aurea Software, Inc. Lyris currently plans to complete the proposed merger in the second half of 2015 although Lyris cannot predict the exact timing of the completion of the merger, because it is subject to governmental review processes and other conditions, many of which are beyond the Lyris’ control.

Fiscal Year

Our fiscal year ends on June 30^th. References to fiscal year 2015, for example, refer to the fiscal year ending June 30, 2015.

Basis of Presentation and Consolidation

The accompanying unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements and prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) have been condensed or omitted pursuant to such rules and regulations; however we believe that the disclosures included are adequate.

These interim unaudited condensed consolidated financial statements and notes thereto should be read in conjunction with our consolidated financial statements and notes thereto filed in our Annual Report on Form 10-K for the fiscal year ended June 30, 2014, or fiscal year 2014, filed with the SEC on September 18, 2014. Interim information presented in the unaudited condensed consolidated financial statements has been prepared by management. In the opinion of management, statements include all adjustments necessary for a fair presentation and that all such adjustments are of a normal, recurring nature and necessary for the fair statement of the financial position, results of operations and cash flows for the periods presented in accordance with GAAP. Interim results of operations for the nine months ended March 31, 2015 are not necessarily indicative of results to be expected for the year ending June 30, 2015, or fiscal year 2015, or for any future period.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and related disclosures at the date of the financial statements and the reported amounts of revenues, expenses and related disclosures during the reporting period. On an ongoing basis, management evaluates these estimates, judgments and assumptions, including those related to revenue recognition, stock-based compensation, goodwill and acquired intangible assets, capitalization of software, allowances for bad debt and income taxes. We base these estimates on historical and anticipated results and trends and on various other assumptions that we believe are reasonable under the circumstances, including assumptions as to future events. These estimates form the basis for making judgments about the carrying values of assets and liabilities and recorded revenue and expenses that are not readily apparent from other sources. Actual results could differ from those estimates, and such differences could affect the results of operations reported in future periods.

The condensed consolidated financial statements include the accounts of Lyris and our wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

Fair Value of Financial Instruments

The carrying amounts of certain financial instruments, including cash, accounts receivable and accounts payable, and certain other accrued liabilities approximate their fair values, due to their short maturities. Based on borrowing rates currently available to us for loans with similar terms, the carrying amounts of capital lease obligations approximate their fair value. The revolving line of credit approximates fair value due to its market interest rate and short-term nature.

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Financial Accounting Standards Board (“FASB”) has established a fair value hierarchy that distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity’s own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3).

The three levels of the fair value hierarchy under the guidance for fair value measurement are:

Level 1: Pricing inputs are based upon quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. As of March 31, 2015, we used Level 1 assumptions for our cash equivalents which were nil at March 31, 2015 and nil at June 30, 2014. The valuations are based on quoted prices of the underlying security that are readily and regularly available in an active market, and accordingly, a significant degree of judgment is not required.

Level 2: Pricing inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. As of March 31, 2015 we did not have any Level 2 financial assets or liabilities.

Level 3: Pricing inputs are generally unobservable for the assets or liabilities and include situations where there is little, if any, market activity for the investment. The inputs into the determination of fair value require management’s judgment or estimation of assumptions that market participants would use in pricing the assets or liabilities. The fair values are therefore determined using model-based techniques that include option pricing models, discounted cash flow models, and similar techniques. As of March 31, 2015, we did not have any significant Level 3 financial assets or liabilities.

Revenue Recognition

We recognize revenue from hosting, professional services, and licensing our software products to our customers.

We generally recognize revenue when all of the following conditions are satisfied: (1) there is persuasive evidence of an arrangement; (2) the service has been provided to the customer (for software licenses, revenue is recognized when the customer is given electronic access to the licensed software); (3) the amount of fees to be paid by the customer is fixed or determinable; and (4) the collection of fees is probable.

Subscription and Other Service Revenue

We generate service revenue from several sources, including hosted software services bundled with technical support (maintenance) services and professional services. We recognize subscription revenue in two ways: (1) based on the subscription plan defined in the agreement with specified monthly volume, and (2) based on actual usages at rates specified in the agreement. Additionally, we invoice excess usage and recognize it as revenue when incurred.

We follow Accounting Standards Update 2009-13, Multiple-Deliverable Revenue Arrangements (“ASU No. 2009-13”) for revenue recognition of multiple-element arrangements to determine whether such arrangements contain more than one unit of accounting. Multiple-element arrangements require the delivery or performance of multiple products, services and/or rights to use assets. Although our professional services that are a part of multiple element arrangement have standalone value to the customer, such services could not be accounted as separate units of accounting under the previous guidance, as vendor-specific objective evidence (“VSOE”) did not exist for the undelivered element. The VSOE for subscription services could not be established based on the historical pricing trends to date, which indicate that the price of the majority of standalone sales does not yet fall within a narrow range around the median price. Since our subscription services have standalone value as such services are often sold separately, but do not have VSOE, we use estimate of selling price (“ESP”) to determine fair value for our subscription services when sold in a multiple-element arrangement and recognize revenue based on ASU No. 2009-13. Third-party evidence (“TPE”) was concluded to be an impractical alternative due to differences in features and functionality of other companies’ offerings and lack of access to the actual selling price of competitor standalone sales. If new subscription service products are acquired or developed that require significant professional services in order to deliver the subscription service and the subscription service and professional services cannot support standalone value, and then such subscription services and professional services will be evaluated as one unit of accounting. We determined ESP of fair value for subscription services based on the following:

We have defined processes and controls to ensure our pricing integrity. Such controls include oversight by a cross-functional team and members of executive management. Significant factors considered when establishing pricing include market conditions, underlying costs, promotions and pricing history of similar services. Based on this information and actual pricing trends, management establishes or modifies the pricing.

We identified the population of transactions to serve as the basis for establishing ESP, including subscription services and professional services pricing history in transactions with multiple element arrangements and those sold on a standalone basis.

We analyzed the population of items sold by stratifying the population by product type and level and considered several data points, such as (1) average price charged, (2) weighted average price to incorporate the frequency of each item sold at any given price, and (3) the median price charged. These three price points were then compared with the existing price list that is used as a point of reference to negotiate contracts and does not represent fair value. Additionally, we gathered and analyzed sales’ team feedback gained from interaction with customers and similar activities. This feedback included consideration of current market trends for pricing charged by companies offering similar services, competitive advantage of the products we offer and recent economic pressures that have resulted in lower spending on marketing activities. ESP for each item in the population was established based on the factors noted above and was reviewed by management.

We defer technical support (maintenance) revenue, including revenue that is part of a multiple element arrangement, and recognize it ratably over the term of the agreement, which is generally one year.

For professional services sold separately from subscription services, we recognize professional service revenues as the services are delivered. Expenses associated with delivering all professional services are recognized as incurred when the services are performed. Associated out-of-pocket travel costs and expenses related to the delivery of professional services are typically reimbursed by the customer and are accounted for as both revenue and expense in the period the cost is incurred.

Software Revenue

We enter into certain revenue arrangements for which we are obligated to deliver multiple products and/or services (multiple elements). For these arrangements, which generally include software products and technical support (maintenance), we allocate and defer revenue for the undelivered elements based on their VSOE. We allocate total earned revenue under the agreement among the various elements based on their relative fair value. In the event that VSOE cannot be established, we defer the entire amount until all elements of the arrangements have been delivered.

We determine VSOE based on actual prices charged for standalone sales of maintenance. To accomplish this, we track sales for the maintenance product when sold on a standalone basis for a one year term and compares to the established price list to ensure that the prices charged on the invoices align with the prices per price list.

We perform a quarterly analysis of the actual sales for standalone maintenance to establish VSOE. We consider VSOE established if prices charged per invoice of least 75% of all standalone deals for maintenance fall within 20% of the price list amounts. If that condition is satisfied, the price list is considered to represent VSOE as prices charged per majority of the invoices agree to the established price list. Software revenue is then recognized based on a residual method unless the price for maintenance exceeds the price for price list (which rarely happens), in which case portion of maintenance fee would be allocated to SW.

Note 2 – Recent Accounting Standards

In May 2014, the FASB issued Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which will require companies to recognize revenue for a customer in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This will be implemented by identifying the contracts with customers, identifying the performance obligations under those contracts, determining the relevant transaction price, allocating the transaction prices to the performance obligations and recognizing revenue when the performance obligation has been met. ASU 2014-09 will require Lyris to provide comprehensive information about the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. This update will be effective beginning December 15, 2017.

In August 2014, the FASB issued Accounting Standards Update No. 2014-15, Presentation of Financial Statements – Going Concern, which will require management to disclose any going concern uncertainties in the financial statements. This new standard will require management to perform interim and annual assessments of an entity’s ability to continue as a going concern within the year the financial statements are issued. This update will be effective January 1, 2017.

Note 3 – Other Long-term Assets

During the fourth quarter of fiscal year 2014, Lyris and SiteWit entered into a contract for a repurchase of SiteWit shares held by Lyris, effective in fiscal year 2015. In August 2014, Lyris and SiteWit amended that agreement, and the sale was completed with the final installment payment on October 15, 2014.

During fiscal year 2013 Lyris had issued a $0.1 million letter of credit to The Hartford Insurance Company (“Hartford”) for workers’ compensation insurance obligations (“Hartford LOC”). This was held by The Hartford as collateral for deductible payments that may become due under a worker’s compensation insurance policy. We classify The Hartford LOC as a restricted cash account of $0.1 million. Any amounts drawn on the Hartford LOC account will be expensed during that fiscal year. As of March 2015, Lyris made a one-time payment of $38 thousand to The Hartford for settlement of the workers compensation obligation. As a result of the payment, The Hartford has now assumed the workers’ insurance compensation liability and the respective letter of credit has been cancelled.

Other long-term assets at March 31, 2015 included $0.2 million related to security deposits for leases entered into by Lyris.

Note 4 – Goodwill

Goodwill represents the excess of the purchase price over the fair value of net assets acquired in connection with our business combinations accounted for using the acquisition method of accounting.

There was no change in goodwill activity during the third quarter ended March 31, 2015. The following table outlines our goodwill, by acquisition:

	As of March 31, 2015		As of June 30, 2014
	(In thousands)
Lyris Technologies	$	5,407	$	9,707
Cogent		84		84
Total	$	5,491	$	9,791

ASU No. 2011-08 “Intangibles - Goodwill and Other (Topic 350) Testing Goodwill for Impairment” provides an entity the option to first assess qualitative factors to determine whether it is necessary to perform the current two-step test for goodwill impairment. If an entity believes, as a result of its qualitative assessment, that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, the quantitative two-step impairment test is required. Otherwise, no further testing is required. Lyris operates as one reporting unit, and conducts a test for the impairment of goodwill on at least an annual basis. Lyris adopted June 30th as the date of the annual impairment test, but will conduct the test at an earlier date if indicators of possible impairment arise.

We considered various events and circumstances when we evaluated whether it is more likely than not that the fair value of our reporting unit is less than our carrying value. We considered events and circumstances such as macroeconomic conditions, industry and market considerations, overall financial performance, entity-specific events, and our share price relative to our peers.

In the second quarter of fiscal year 2015, Lyris’ assessment of relevant events and circumstances conducted on December 31, 2014, considered the decline in Lyris’ stock price from $1.15 to $0.62. Lyris determined that it was more-likely-than-not that the fair value was less than the carrying amount. As a result, the two-step impairment test related to goodwill was performed during the quarter ended December 31, 2014.

In the first step of the impairment test, Lyris compared the estimated fair value of Lyris to its carrying value utilizing both an income approach and a market approach considering guideline company market multiples. Since the carrying value exceeded fair value, this was an indicator of impairment, and proceeded to step two. Step two involved assigning the estimated fair value from step one to Lyris’ identifiable net assets, with any residual fair value assigned to goodwill. Based on the results of step two, Lyris recorded a $4.3 million impairment loss in the three months ended December 31, 2014.

The valuation approaches related to step one and step two considered a number of factors that included, but were not limited to, expected future cash flows, growth rates, discount rates, comparable multiples from publicly traded companies in the industry, technology lifecycles and growth rates, customer attrition, and required certain assumptions and estimates regarding industry, economic factors, and future profitability of business. The assumptions were based on reasonable market participant considerations and historical experience, which were inherently uncertain.

Note 5 – Credit Facility

On December 9, 2013 Lyris, Inc. and our wholly owned subsidiaries, Lyris Technologies, Inc. and Commodore Resources (Nevada), Inc. (each a “Borrower” and collectively, the “Borrowers”), entered into a First Amendment (“First Amendment”) to the Loan and Security Agreement (as amended from time to time, the “SVB Agreement”) with Silicon Valley Bank. Under the First Amendment, the definitions of certain terms used to calculate the amount available to Lyris under the Agreement are restated.

The revolving line of credit (“SVB Revolving Line”) of up to $5,000,000 remains the same under the SVB Agreement. The amount available under the SVB Revolving Line is limited by a borrowing base formula based on each Borrower’s recurring revenue and customer retention rate. The SVB Revolving Line is up for renewal on May 6, 2015.

Advances under the SVB Revolving Line will accrue interest at a per annum floating rate equal to the greater of 6.25% or Silicon Valley Bank’s prime rate plus 3%. Interest is due monthly, and all unpaid principal and accrued but unpaid interest is due upon maturity.

The SVB Agreement contains typical negative covenants for a credit facility of this size and type, including covenants that prevent or restrict our and our subsidiaries’ ability to take certain actions, including, without limitation, changing principal executive offices, entering into mergers and acquisitions, disposing of property or other assets, and incurring additional indebtedness. Under the SVB Agreement, we are required to comply with financial covenants to maintain a liquidity ratio of not less than 1.25 to 1.00, and to maintain a minimum EBITDA (maximum loss) for the trailing three month period according to the following schedule:

Trailing Three Month Period

Ending

Minimum EBITDA

(maximum loss)

January 31, 2015 and February 28, 2015

(75,000

)

Payment and performance of our obligations with respect to the SVB Revolving Line is secured by a security interest in substantially all of the assets of the Borrowers, including intellectual property assets.

The SVB Agreement contains typical default provisions for a credit facility of this size and type that include, among others, defaults in the event of non-payment or non-performance of covenants, a material adverse change, an attachment of our assets or entry of an injunction against doing business, occurrence of certain bankruptcy and insolvency events, cross-defaults to certain other material indebtedness, entry of material judgment and inaccuracy of representations and warranties. The occurrence of an event of default could result in, among other things, acceleration of all obligations under the SVB Revolving Line, Silicon Valley Bank ceasing to advance money or extending credit under the SVB Revolving Line, and a right by Silicon Valley Bank to exercise all remedies available to it under the SVB Agreement, including the disposition of any or all collateral.

As of March 31, 2015, we were in compliance with all of the covenants of the SVB Agreement. Our outstanding borrowings totaled approximately $3.05 million with $0.3 million in available credit remaining as of March 31, 2015.

Note 6 - Income Taxes

The following table provides a reconciliation of the income tax expense at the statutory U.S. federal rate to our actual income tax provision (benefit) for the nine- month periods ended March 31, 2015 and 2014:

	Nine Months Ended March 31,
	2015			%			2014			%
	(In thousands)
Income tax expense at the statutory rate	$	(1,349	)		35.0	%	$	(9	)		35.0	%
State income taxes, net of federal benefit		34			(0.9	)%		5			(20.2	)%
Utilization of NOL carryover		-			0.0	%		(218	)		n.m.
Amortization of intangible assets		1			0.0	%		53			n.m.
Impact of Foreign Operations		(25	)		0.6	%		73			n.m.
Difference between AMT and statutory federal income tax rates		-			0.0	%		(9	)		38.4	%
Change in valuation allowance		500			0.0	%		1			(4.5	)%
Permanent difference		1,530			(39.7	)%		5			(20.9	)%
Other, net		(48	)		1.2	%		74			n.m.
Income tax provision (benefit)	$	643			(3.8	)%	$	(25	)		n.m.

In accordance with FASB standards, we establish a valuation allowance if we believe that it is more likely than not that some or all of our deferred tax assets will not be realized. We do not recognize a tax benefit unless we determine that it is more likely than not that the benefit will be sustained upon external examination, such as an audit by a taxing authority. The amount of the benefit that may be recognized is the largest amount that has a greater than 50% likelihood of being realized upon ultimate settlement.

Note 7 – Income (Loss) Per Share

Accounting standards established by the FASB require the presentation of the basic net income (loss) per common share and diluted net income (loss) per common share. Basic net income (loss) per common share excludes any dilutive effects of options and convertible securities.

The following table sets forth the computation and reconciliation of net income (loss) per share:

	Three Months Ended March 31,					Nine Months Ended March 31,
	2015			2014		2015			2014
	(In thousands)
Net (loss) income	$	(908	)	$	16	$	(5,237	)	$	1

Weighted average shares outstanding:
Basic		9,568			9,568		9,568			9,568
Effect of dilutive redeemable convertible Series A Preferred Stock		-			2,000		-			2,000
Diluted		9,568			11,568		9,568			11,568
Net (loss) income per share
Basic	$	(0.09	)	$	0.00	$	(0.55	)	$	0.00
Diluted	$	(0.09	)	$	0.00	$	(0.55	)	$	0.00

No shares were excluded in the dilutive net (loss) income per common share calculation for the three and nine months ended March 31, 2015 and 2014

Note 8 - Stock-Based Compensation

Stock Options

We recognize stock-based compensation costs, including employee stock awards and purchases under stock purchase plans, at the grant date fair value of the award. Determining the fair value of stock-based awards at the grant date requires judgment. Judgment is also required in estimating the amount of stock-based awards that are expected to be forfeited. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be impacted.

The following table summarizes the allocation of stock-based compensation for the three and nine months ended March 31, 2015 and 2014:

	Three Months Ended March 31,					Nine Months Ended March 31,
	2015		2014			2015		2014
	(In thousands)					(In thousands)
Cost of revenues	$	26	$	7		$	49	$	19
General and administrative		73		67			253		97
Research and development		33		(5	)		70		58
Sales and marketing		37		31			98		82
Total	$	169	$	100		$	470	$	256

For the three months ended March 31, 2015, total stock-based compensation was $0.2 million and for the same period in fiscal year 2014, total stock-based compensation was $0.1 million. For the nine months ended March 31, 2015, total stock –based compensation was $0.5 million and for the same period in fiscal year 2014, total stock-based compensation was $0.3 million. We determine the fair value of each option grant using a Black-Scholes model. The Black-Scholes model utilizes multiple assumptions including expected volatility, expected life, expected dividends and interest rates. The expected term of the options is based on the period of time that options are expected to be outstanding and is derived by analyzing historical exercise behavior of employees in Lyris’ peer group as well as the options’ contractual terms. Expected volatilities are based on implied volatilities from traded options on Lyris’ peer group’s common stock, Lyris’ historical volatility and other factors. The risk-free rates are for the period matching the expected term of the option and are based on the U.S. Treasury yield curve rates as published by the Federal Reserve in effect at the time of grant. The dividend yield is zero based on the fact we have no intention of paying dividends in the near term.

We recognize stock-based compensation expense on a straight-line basis over the requisite service period of the award, which is typically the option vesting term of four years.

Stock-based compensation expense as part of capitalized software development costs was not significant for the quarter ended March 31, 2015.

As of March 31, 2015, unamortized stock-based compensation expense associated with common stock options was $1.5 million which we expect to recognize over a weighted-average period of 2.5 years.

The following table summarizes stock option activity from July 1, 2014 to March 31, 2015:

	Number of options			Weighted- Average Fair Value		Weighted-Average Remaining Contractual Life in Years
	(In thousands)
Outstanding at July 1, 2014		1,946		$	1.77		8.8
Granted		-		$	-
Forfeited/expired		(101	)	$	1.93
Outstanding at September 30, 2014		1,845		$	1.76		8.5
Granted		172		$	1.31
Forfeited/expired		(42	)	$	2.01
Outstanding at December 31, 2014		1,976		$	1.75		8.5
Granted		19		$	0.94
Forfeited/expired		(43	)	$	1.67
Outstanding at March 31, 2015		1,963		$	1.74		8.2
Vested and expected to vest at March 31, 2015		1,622		$	1.77		8.1
Exercisable at March 31, 2015		758		$	1.90		7.6

As March 31, 2015, the calculated aggregate intrinsic value of options outstanding and exercisable was nil. The intrinsic value represents the pre-tax intrinsic value, based on our closing stock price on March 31, 2015 which would have been received by the option holders had all option holders exercised their options as of that date.

Option grants of 217,000 options to purchase shares of our common stock were granted under our equity compensation plan for the nine months ended March 31, 2015. The weighted-average grant date fair value of the options granted was $1.23 for the nine months ended March 31, 2015 and $1.17 for the nine months ended March 31, 2014, respectively.

Reserved Shares of Common Stock

On August 8, 2012, we amended our 2005 Equity-Based Compensation Plan (“Plan”) to increase the number of shares available under the Plan by 775,000 shares. As of March 31, 2015, we had 360,850 shares of common stock reserved for future equity awards under the Plan.

Note 9 – Segment Information

ASC 280 “Segment Reporting,” (“ASC 280”), establishes standards for the way public business enterprises report information about operating segments in annual consolidated financial statements and requires that those enterprises report selected information about operating segments in interim financial reports. ASC 280 also establishes standards for related disclosures about products and services, geographic areas and major customers. We concluded that there is only one reportable segment as it is a SaaS-based online marketing solutions and service provider and uses an integrated approach in developing and selling our solutions and services. Our Chief Executive Officer has been identified as the Chief Operating Decision Maker as defined by ASC 280.

Note 10 - Commitments and Contingencies

Our commitments consist of obligations under operating leases for corporate office space and co-location facilities for data center capacity for research and test data centers. We have also entered into capital leases in connection with acquiring computer equipment for our data center operations which is included in property and equipment. We used an average of 6.78% interest rate to calculate the present value of the future principal payments and interest expense related to our capital leases. Additionally, in the ordinary course of business, we enter into contractual purchase obligations and other agreements that are legally binding and specify certain minimum payment terms.

	Operating Leases
	Facilities		Other		Total Operating		Capital Leases			Total
	(In thousands)
Fiscal Year 2015		224		94		318		84			402
Fiscal Year 2016		726		140		866		172			1,038
Fiscal Year 2017		147		35		182		69			251
Fiscal Year 2018		-		-		-		23			23
Total	$	1,097	$	269	$	1,366		348		$	1,714
Less: amounts representing interest								(21	)
Present value of capital lease obligations								327
Less: short-term portion								(208	)
Long-term portion							$	119

Legal claims

On February 14, 2012, David R. and Janet H. Burt filed suit against Wolfgang Maasberg, our former Chief Executive Officer, one other employee, several current or former directors, and certain of our stockholders in the U.S. District Court for the District of Maryland, Baltimore Division. The plaintiffs alleged various facts and make claims of federal and state securities law violations, as well as breach of fiduciary duty under Delaware law and intentional infliction of emotional distress. The plaintiffs sought unspecified damages, punitive damages, costs, and injunctive relief. The lawsuit was dismissed in April, 2013; however, the Burts filed an amended complaint in May 2013. In March, 2014 the defendants’ motion to dismiss the amended complaint was granted with prejudice, in part and partially denied. The lawsuit is now in the discovery phase, which is scheduled to conclude on May 24, 2015. On May 4, 2015, the defendants filed motions for summary judgment for both merit and lack of standing. The court has not yet ruled on these motions.

Note 11 – Subsequent Events

On April 30, 2015, Lyris, Inc and our wholly owned subsidiaries, entered into a Second Amendment (“Second Amendment”) to the SVB Agreement. The SVB Revolving Line of up to $5,000,000 remains the same under the Second Amendment. The amount available under the SVB Revolving Line is limited by a borrowing base formula based on each Borrower’s recurring revenue and customer retention rate. The SVB Revolving Line is up for renewal on August 31, 2015.

Pursuant to the Second Amendment, upon the earlier of the maturity date of the SVB Revolving Line or the payment in full of all obligations under the SVB Agreement, Lyris is required to make a final payment of $20 thousand. If the SVB Agreement is terminated in connection with sale of Lyris to a third party, either through merger or sale of substantially all of our assets, we are required to make a payment of the greater of $20 thousand or one-tenth of one percent of the purchase price of such sale.

Under the SVB Agreement, we are required to comply with financial covenants to maintain a liquidity ratio of not less than 1.0 to 1.0, and to maintain a minimum EBITDA (maximum loss) for the trailing three month period according to the following schedule:

Trailing Three Month Period Ending	Minimum EBITDA (maximum loss)

January 31, 2015	$	(75,000	)
February 28, 2015 - August 31, 2015	$	(300,000	)

The other material terms of the SVB Agreement remain the same.

On May 4, 2015, Lyris entered into an Agreement and Plan of Merger with LY Acquisition Corp., a Delaware corporation, which sets forth the terms and conditions of the proposed merger of Lyris and Buyer. Pursuant to the merger Agreement, LY Acquisition Corp. will merge with and into Lyris, with Lyris surviving the merger. As a result of the merger, each issued and outstanding share of Lyris Series A Preferred Stock and Lyris Common Stock not owned by LY Acquisition Corp. or Lyris as of the effective time of the merger (other than shares held by stockholders of Lyris who have validly exercised their appraisal rights under Delaware law) will be converted into the right to receive $2.50 and $0.89, respectively, in cash, without interest and subject to any required tax withholding. Upon the consummation of the merger, Lyris will become a subsidiary of Aurea Software, Inc. Lyris currently plans to complete the proposed merger in the second half of 2015 although Lyris cannot predict the exact timing of the completion of the merger, because it is subject to governmental review processes and other conditions, many of which are beyond the Lyris’ control.

The parties expect the transaction to be completed in the second half of 2015. Following completion of the transaction, Lyris’ common stock will be delisted from the OTCB and deregistered from the Securities Exchange Act of 1934.

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

The following discussion should be read in conjunction with our unaudited condensed consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the audited consolidated financial statements and notes thereto and management’s discussion and analysis of financial condition and results of operations for the fiscal year ended June 30, 2014, or fiscal year 2014, included in our Annual Report on Form 10-K for fiscal year 2014, filed with the SEC on September 18, 2014 .

This Quarterly Report on Form 10-Q, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations” 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. These statements identify prospective information, particularly statements referencing our expectations regarding revenue and operating expenses, cost of revenue, tax and accounting estimates, cash, cash equivalents and cash provided by operating activities, the demand and expansion opportunities for our products, our customer base, our competitive position and the impact of the current economic environment on our business. In some cases, forward-looking statements can be identified by the use of words such as “may,” “could,” “would,” “might,” “will,” “should,” “expect,” “forecast,” “predict,” “potential,” “continue,” “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “is scheduled for,” “targeted,” and variations of such words and similar expressions. Such forward-looking statements are based on current expectations, estimates, and projections about our industry, management’s beliefs, and assumptions made by management. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict; therefore, actual results and outcomes may differ materially from what is expressed or forecasted in any such forward-looking statements. Such risks and uncertainties include those set forth under “Risk Factors” or included elsewhere in our Annual Report on Form 10-K for the fiscal year ended June 30, 2014. Unless required by law, we undertake no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

Overview

We are a leading provider of digital marketing software solutions that help organizations engage with their customers across multiple interactive channels. Our solutions empower marketers to design, automate and optimize data-driven campaigns that generate superior engagement, increased business value through greater customer conversions and measurable return on marketing investment.

Lyris' high-performance, secure and flexible digital marketing applications improve marketing efficiency by providing automated digital message delivery, robust segmentation, and real-time social, mobile, and interaction analytics. The Lyris solutions portfolio is comprised of both in-the-cloud and on-premises solutions – Lyris HQ, Lyris ListManager - combined with customer-focused services and support, and delivered on a powerful integration platform that connects data and marketing workflows across the enterprise.

Lyris HQ is our proven in-the-cloud digital marketing solution that combines enterprise-class email marketing with web analytics. Lyris HQ helps marketers manage complex email marketing campaigns and provides real-time access to revenue and conversion events to inform message targeting, relevancy, and timeliness. Lyris ListManager is our on-premises solution for advanced email marketing. It includes powerful automation features and reporting capabilities, and its flexible and configurable architecture integrates seamlessly with in-house databases so that digital marketers can leverage existing data stores to target customers and prospects more effectively.

Lyris HQ and Lyris ListManager are deployed on an open, flexible, and powerful environment for enabling multichannel digital marketing automation across the enterprise. With a foundation in email marketing, our platform architecture enables organizations to integrate and orchestrate complex digital marketing campaigns involving multiple systems. The Lyris platform seamlessly integrates with complementary systems via Lyris Enterprise Connectors that provide a visually-oriented environment for connecting data and application workflows.

Our solutions help companies increase customer conversions and grow revenues by allowing enterprise companies to create synergistic value across the entire ecosystem of multi-channel campaign management systems. Our in-the-cloud technology stack is architected for “big data” to consolidate and analyze large amounts of vital behavioral and transactional information from online activities in order to increase the relevance of every customer message. With almost 20 years’ experience and billions of digital messages processed by our solutions, we are continuously expanding ways companies deliver value to their customers.

The majority of our revenues are recurring, comprised of subscription revenue and support and maintenance revenue. We derive revenue from subscriptions to our SaaS solutions (Lyris HQ), software licenses (Lyris ListManager), support and maintenance, and related professional services.

Critical Accounting Policies and Use of Estimates

Our unaudited condensed consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”). The preparation of these condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses and related disclosures. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. In many instances, we could have reasonably used different accounting estimates, and in other instances changes in the accounting estimates are reasonably likely to occur from period to period. Accordingly, actual results could differ significantly from the estimates made by our management. To the extent that there are material differences between these estimates and actual results, our future financial statement presentation, financial condition, results of operations and cash flows will be affected.

In many cases, the accounting treatment of a particular transaction is specifically dictated by GAAP and does not require management’s judgment in our application, while in other cases, management’s judgment is required in selecting among available alternative accounting standards that allow different accounting treatment for similar transactions. Our management has reviewed these critical accounting policies, our use of estimates and any related disclosures with our audit committee.

Revenue Recognition

We recognize revenue from hosting and professional services and licensing our software products to our customers.

Subscription and Other Service Revenue

We follow Accounting Standards Update 2009-13, Multiple-Deliverable Revenue Arrangements (“ASU No. 2009-13”) for revenue recognition of multiple-element arrangements to determine whether such arrangements contain more than one unit of accounting. Multiple-element arrangements require the delivery or performance of multiple products, services and/or rights to use assets. Although our professional services that are a part of multiple element arrangement have standalone value to the customer, such services could not be accounted as separate units of accounting under the previous guidance, as vendor-specific objective evidence (“VSOE”) did not exist for the undelivered element. The VSOE for subscription services could not be established based on the historical pricing trends to date, which indicate that the price of the majority of standalone sales does not yet fall within a narrow range around the median price. Since our subscription services have standalone value as such services are often sold separately, but do not have VSOE, we use estimate of selling price (“ESP”) to determine fair value for our subscription services when sold in a multiple-element arrangement and recognize revenue based on ASU No. 2009-13. Third-party evidence was concluded to be an impractical alternative due to differences in features and functionality of other companies’ offerings and lack of access to the actual selling price of competitor standalone sales. If new subscription service products are acquired or developed that require significant professional services in order to deliver the subscription service and the subscription service and professional services cannot support standalone value, then such subscription services and professional services will be evaluated as one unit of accounting. We determined ESP of fair value for subscription services based on the following:

Software Revenue

We determine VSOE based on actual prices charged for standalone sales of maintenance. To accomplish this, we track sales for the maintenance product when sold on a standalone basis for a one year term and compare to the established price list to ensure that the prices charged on the invoices align with the prices per price list.

We perform a quarterly analysis at the actual sales for standalone maintenance to establish the VSOE. We consider VSOE established if prices charged per invoice of least 75% of all standalone deals for maintenance fall within 20% of the prices charged per price list. If the condition is satisfied, the price list is considered to represent VSOE as prices charged per majority of the invoices agree to the established price list. Software is then recognized based on a residual method (As per ASU 985-605-25-10e) unless the price for maintenance exceeds the price for price list (which rarely happens), in which case a portion of maintenance fee would be allocated to software.

Results of Operations

Three and Nine Months Ended March 31, 2015 Compared to Three and Nine Months Ended March 31, 2014

The following tables set forth our condensed consolidated statements of operations data as a percentage of total revenue for the three and six months ended March 31, 2015 and 2014:

	Three Months Ended March 31,						Nine Months Ended March 31,
	2015			2014			2015			2014

Revenue:
Subscription		79	%		79	%		78	%		77	%
Support and maintenance		13	%		13	%		13	%		12	%
Professional services		7	%		7	%		7	%		7	%
Software		1	%		2	%		2	%		3	%
Total revenue		100	%		100	%		100	%		100	%
Cost of revenue		35	%		36	%		35	%		36	%
Gross profit		65	%		64	%		65	%		64	%
Operating expenses:
Sales and marketing		31	%		32	%		31	%		32	%
General and administrative		30	%		18	%		23	%		19	%
Research and development		16	%		13	%		13	%		12	%
Impairment of goodwill		0	%		0	%		20	%		0	%
Amortization of customer relationships and trade names		0	%		1	%		0	%		1	%
Total operating expenses		77	%		65	%		86	%		64	%
Loss from operations		-13	%		0	%		-22	%		0	%
Interest expense		-1	%		-1	%		0	%		0	%
Interest income		0	%		0	%		0	%		0	%
Other income, net		1	%		0	%		0	%		0	%
Loss from operations before income taxes		-12	%		-1	%		-22	%		0	%
Income tax provision		1	%		0	%		3	%		0	%
Gain on disposal of discontinued operations, net of tax		0	%		0	%		0	%		0	%
Net loss		-13	%		-1	%		-25	%		0	%

Revenue

	Three Months Ended March 31					Change
	2015		2014			$			Percent
	(In thousands, except percentages)
Subscription:
Lyris HQ	$	4,465	$	4,721		$	(256	)		(5	)%
Legacy		890		1,239			(349	)		(28	)%
Total subscription		5,355		5,960			(605	)		(10	)%
Support and maintenance		859		959			(100	)		(10	)%
Professional services		500		510			(10	)		(2	)%
Software		85		160			(75	)		(47	)%
Total revenue	$	6,799	$	7,589	#	$	(790	)		(10	)%

	Nine Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Subscription
Lyris HQ	$	13,584	$	14,601	$	(1,017	)		(7	)%
Legacy		2,880		3,971		(1,091	)		(27	)%
Total subscription		16,464		18,572		(2,108	)		(11	)%
Support and maintenance		2,671		2,987		(316	)		(11	)%
Professional services		1,533		1,688		(155	)		(9	)%
Software		457		720		(263	)		(37	)%
Total revenue	$	21,125	$	23,967	$	(2,842	)		(12	)%

Subscription revenue

Subscription revenue is primarily comprised of subscription fees from customers accessing our SaaS solutions and from customers purchasing additional offerings that are not included in the standard hosting agreement. Our subscription revenue includes revenue from our Lyris HQ product, and a variety of legacy products which are in the process of reaching their end of life. Subscription revenue was $5.4 million or 79% of our total revenue for the three months ended March 31, 2015, compared to $6.0 million or 79% of our total revenue for the same period in fiscal year 2014, a decrease of $0.6 million or 10%. Subscription revenue was $16.5 million or 78% of our total revenue for the nine months ended March 31, 2015, compared to $18.6 million or 77% of our total revenue for the same period in fiscal year 2014, a decrease of $2.1 million or 11%.

Subscription revenue related to Lyris HQ for the three and nine months ended March 31, 2015 decreased compared to the same periods in fiscal year 2014, primarily as a result of existing customer turnover and decrease in new sales. Subscription revenue related to legacy products decreased for the three and nine months ended March 31, 2015 compared to the same periods in fiscal year 2014, primarily due to customer turnover. Customer turnover is related to the competition in digital marketing.

Support and maintenance revenue

Support and maintenance revenue is primarily comprised of customer service and support for our products. Support and maintenance revenue was $0.9 million or 13% of our total revenue for the three months ended March 31, 2015 compared to $1.0 million or 13% of our total revenue for the same period in fiscal year 2014, a decrease of $0.1 million or 10%. Support and maintenance revenue was $2.7 million or 13% of our total revenue for the nine months ended March 31, 2015 compared to $3.0 million or 12% of our total revenue for the same period in fiscal year 2014, a decrease of $0.3 million or 11%. The decrease in support and maintenance revenue for the three and nine months ended March 31, 2015 compared to the same periods in fiscal year 2014 is a result of existing customers not renewing support contracts.

Professional services revenue

Professional services revenue is primarily comprised of training, campaigning services which includes web analytics and reporting, web design, email deliverability and search engine marketing. Professional services revenue remained relatively flat at $0.5 million or 7% of our total revenue for the three months ended March 31, 2015, compared to $0.5 million or 7% of our total revenue for the same period in fiscal year 2014. Professional services revenue was $1.5 million or 7% of our total revenue for the nine months ended March 31, 2015, compared to $1.7 million or 7% of our total revenue for the same period in fiscal year 2014, a decrease of $0.2 million or 9%.

The decrease in professional service revenue for the nine months ended March 31, 2015 compared to the same period in fiscal year 2014 reflects a decreased demand by new and existing customers for professional services.

Software revenue

Software revenue is derived from perpetual licensing rights of our software that we sell to our customers. Software revenue was $0.1 million or 1% of our total revenue for the three months ended March 31, 2015 compared to $0.2 million or 2% of our total revenue for the same period in fiscal year 2014, a decrease of $0.1 million or 47%. Software revenue was $0.5 million or 2% of our total revenue for the nine months ended March 31, 2015 compared to $0.7 million or 3% of our total revenue for the same period in fiscal year 2014, a decrease of $0.3 million or 37%.

Software revenue decreased for the three and nine months ended March 31, 2015 as compared to the same periods in fiscal year 2014 primarily due to a decrease in software upgrades.

Cost of revenue

Cost of revenue consists primarily of the amortization of intangible assets related to internally developed software to support our cloud-based marketing products, amortization of our intangibles and software acquired from our strategic acquisitions, payroll-related expenses related to our engineers assigned to product-and revenue-support projects, data center and depreciation costs associated with our supporting hardware, various support costs such as website development, processing fees, and allocated overhead.

	Three Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Cost of revenue	$	2,410	$	2,719	$	(309	)		(11	)%

	Nine Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Cost of revenue	$	7,463	$	8,691	$	(1,228	)		(14	)%

Cost of revenue was $2.4 million for the three months ended March 31, 2015, compared to $2.7 million for the same period in fiscal year 2014, a decrease of $0.3 million. As a percentage of total revenue, cost of revenue decreased to 35% for the three months ended March 31, 2015 from 36% for the same period in fiscal year 2014. Cost of revenue for the three months ended March 31, 2015 decreased compared to the same period in fiscal year 2014 primarily to due to a decrease of $0.5 million in depreciation and amortization expense from our internally developed software offset by an increase of $0.1 million in compensation and benefits and $0.1 million in outside services.

Cost of revenue was $7.5 million for the nine months ended March 31, 2015 and compared to $8.7 million for the same period in fiscal year 2014, a decrease of $1.2 million. As a percentage of total revenue, cost of revenue decreased to 35% for the nine months ended March 31, 2015 from 36% for the same period in fiscal year 2014. Cost of revenue for the nine months ended March 31, 2015 compared to the same period in fiscal year 2014, primarily due to a decrease of $1.4 million in depreciation and amortization, mainly from our internally developed software offset by an increase to outside services of $0.2 million.

Gross profit

	Three Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Gross profit	$	4,389	$	4,870	$	(481	)		(10	)%

	Nine Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Gross profit	$	13,662	$	15,276	$	(1,614	)		(11	)%

Gross profit was $4.4 million for the three months ended March 31, 2015, compared to $4.9 million for the same period in fiscal year 2014, a decrease of $0.5 million. As a percentage of total revenue, gross profit increased to 65% for the three months ended March 31, 2015 from 64% for the same period in fiscal year 2014. Gross profit was $13.7 million for the nine months ended March 31, 2015, compared to $15.3 million for the same period in fiscal year 2014. As a percentage of net revenue, gross profit increased to 65% for the nine months ended March 31, 2015 compared 64% for the same period in fiscal year 2014.

Operating expenses

	Three Months Ended March 31,				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Sales and marketing	$	2,086	$	2,453	$	(367	)		(15	)%
General and administrative		2,061		1,393		668			48	%
Research and development		1,073		1,019		54			5	%
Amortization of customer relationships and trade names		-		50		(50	)		(100	)%
Total operating expenses	$	5,220	$	4,915	$	305			6	%

	Nine Months Ended March 31				Change
	2015		2014		$			Percent
	(In thousands, except percentages)
Sales and marketing	$	6,460	$	7,694	$	(1,234	)		(16	)%
General and administrative		4,800		4,489		311			7	%
Research and development		2,673		2,893		(220	)		(8	)%
Impairment of goodwill		4,300		-		4,300			100	%
Amortization and impairment of customer relationships and trade names		4		151		(147	)		(97	)%
Total operating expenses	$	18,237	$	15,227	$	3,010			20	%

Sales and marketing

Sales and marketing includes expenses primarily related to employee salaries and related costs, costs associated with advertising and other promotional programs, and allocated facilities costs.

Sales and marketing expense was $2.1 million for the three months ended March 31, 2015, compared to $2.5 million for the same period in fiscal year 2014, a decrease of $0.4 million or 15%. As a percentage of total revenue, sales and marketing expense decreased to 31% for the three months ended March 31, 2015 from 32% for same period in fiscal year 2014. The decrease in sales and marketing expense was primarily due to a reduction of $0.3 million in compensation and benefits related to a decrease in headcount and a reduction of $0.1 million in advertising expenses.

Sales and marketing expense was $6.5 million for the nine months ended March 31, 2015, compared to $7.7 million for the same period in fiscal year 2014, a decrease of $1.2 million or 16%. As a percentage of total revenue, sales and marketing expense decreased to 31% for the nine months ended March 31, 2015 from 32% for same period in fiscal year 2014. The decrease in sales and marketing expense was primarily due to a $0.8 million decrease in compensation and benefits due to a reduction in headcount, a $0.3 million in facilities and departmental overhead expenses, and $0.1 million in advertising.

General and administrative

General and administrative expense consists primarily of salaries and related costs for administrative personnel, professional services such as consultants, legal fees and accounting, audit and tax fees, and related allocation of overhead including stock-based compensation and other corporate development costs.

General and administrative expense was $2.1 million for the three months ended March 31, 2015, compared to $1.4 million for the same period in fiscal year 2014, an increase of $0.7 million or 50%. As a percentage of total revenue, general and administrative expense increased to 31% for the three months ended March 31, 2015 from 18% for the same period in fiscal year 2014. The increase was primarily due to $0.8 million in project expenses consisting of consulting and legal fees.

General and administrative expense was $4.8 million for the nine months ended March 31, 2015, compared to $4.5 million for the same period in fiscal year 2014, an increase of $0.3 million or 7%. As a percentage of total revenue, general and administrative expense increased to 23% for the nine months ended March 31, 2015 from 19% for the same period in fiscal year 2014. The increase in general and administrative expense was primarily due to $0.7 million increase in project expenses consisting of consulting and legal fees offset by a decrease of $0.3 million in compensation and benefits due to a decrease in headcount.

Research and development

Research and development expense consists of salaries and related costs for engineering personnel, stock-based compensation and other headcount-related expenses associated with development of our next generation product line and increasing the functionality of current lines. We capitalize product development expenses incurred during the application development stage until the product is available for general release, provided we can ascertain that there is future economic value. We expense engineering costs in cost of revenue if the expense is related to supporting on-going platforms and is more related to product support activities. Management’s judgment is used to determine the allocation between these three categories, and we refer to these three categories in aggregate as ‘‘product investment.’’

Research and development expense was $1.1 million for the three months ended March 31, 2015 compared to $1.0 million for the same period in fiscal year 2014. As a percentage of total revenue, research and development expense increased to 16% for the three months ended March 31, 2015 from 13% for the same period in fiscal year 2014. The increase was primarily related to compensation levels, benefits, and outside services.

Research and development expense was $2.7 million for the nine months ended March 31, 2015, compared to $2.9 million for the same period in fiscal year 2014, a decrease of $0.2 million or 8%. As a percentage of total revenue, research and development expense increased to 13% for the nine months ended March 31, 2015 from 12% for the same period in fiscal year 2014. The decrease in research and development expense for the nine months ended March 31, 2015 compared to the same period in fiscal year 2014 was primarily due to a $0.2 million decrease in outside services.

Amortization of customer relationships and trade names

Amortization of customer relationships and trade names expenses consist of intangibles that we obtained through the acquisition of other businesses.

Amortization of customer relationships and trade names expense was nil for the three months ended March 31, 2015 and $50 thousand for the same period in fiscal year 2014. As a percentage of total revenue, amortization of customer relationships and trade names expense remained at 0% for the three months ended March 31, 2015 and 1% for the same period in fiscal year 2014.

Amortization of customer relationships and trade names expense was $4thousand for the nine months ended March 31, 2015 and $151 thousand for the same period in fiscal year 2014. As a percentage of total revenue, amortization of customer relationships and trade names expense remained at 0% for the nine months ended March 31, 2015 and 1% for the same period in fiscal year 2014.

Impairment of Goodwill

We classify our intangible assets into three categories: (1) intangible assets with definite lives subject to amortization; (2) intangible assets with indefinite lives not subject to amortization; and (3) goodwill.

Periodically, we evaluate our fixed assets and intangible assets with definite lives for impairment. If the carrying amount of an asset or asset group (in use or under development) is evaluated and found not to be recoverable (carrying amount exceeds the gross, undiscounted cash flows from use and disposition), then an impairment loss must be recognized. The impairment loss is measured as the excess of the carrying amount over the asset’s or asset group’s fair value. In addition, the potential impairment of finite life intangibles is assessed whenever events or a change in circumstances indicate the carrying value may not be recoverable.

ASU No. 2011-08 “Intangibles - Goodwill and Other (Topic 350) Testing Goodwill for Impairment” provides an entity the option to first assess qualitative factors to determine whether it is necessary to perform the current two-step test for goodwill impairment. If an entity believes, as a result of its qualitative assessment, that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, the quantitative impairment test is required. Otherwise, no further testing is required.

We adopted ASU No. 2011-08 in the first quarter of fiscal year 2012 and considered various events and circumstances when we evaluated whether it is more likely than not that the fair value of our reporting unit is less than our carrying value. We considered events and circumstances such as macroeconomic conditions, industry and market considerations, overall financial performance, entity-specific events, and our share price relative to our peers. In the second quarter of fiscal year 2015, Lyris’ assessment of relevant events and circumstances conducted on December 31, 2014, considered the decline in Lyris’ stock price from $1.15 to $0.62. Lyris determined that it was more-likely-than-not that the fair value was less than the carrying amount. As a result, the two-step impairment test related to goodwill was performed during the quarter ended December 31, 2014. As a result of this process, Lyris determined a goodwill impairment of $4.3 million as of December 31, 2014. In the three months ended March 31, 2015, there was no goodwill impairment.

Interest expense

	Three Months Ended March 31,						Change
	2015			2014			$			Percent
	(In thousands, except percentages)
Interest expense	$	(37	)	$	(39	)	$	(2	)		(5	)%

	Nine Months Ended March 31,						Change
	2015			2014			$			Percent
	(In thousands, except percentages)
Interest expense	$	(95	)	$	(116	)	$	(21	)		(18	)%

Interest expense relates to our revolving line of credit with Silicon Valley Bank and our short and long-term capital lease obligations in connection with acquiring computer equipment for our data center operations which is included in property and equipment.

Interest expense was $37 thousand for the three months ended March 31, 2015, compared to $39 thousand for the same period in fiscal year 2014, a decrease of $2 thousand or 5%. The decrease was primarily due to less interest expense paid for capital lease equipment.

Interest expense was $95 thousand for the nine months ended March 31, 2015, compared to $116 thousand for the same period in fiscal year 2014, a decrease of $21 thousand or 18%. The decrease in interest expense for the nine months ended March 31, 2015 compared to the same period in fiscal year 2014 was primarily due to a decrease in our short and long term capital lease obligations.

Income Tax Provision (Benefit)

Our effective tax rates for the nine months ended March 31, 2015 and 2014 were (3.8)% and 101.6%, respectively. For additional information about income taxes, refer to Note 6 of the Notes to Unaudited Condensed Consolidated Financial Statements.

Liquidity, Capital Resources and Financial Condition

Our primary sources of liquidity to fund our operations as of March 31, 2015 were the collection of accounts receivable balances generated from net sales and proceeds from our revolving line of credit.

For additional operational funds requirements, we have available a revolving line of credit with Silicon Valley Bank as amended in April 2015, which is up for renewal on August 31, 2015. Please refer to Note 6 of the Notes to Unaudited Condensed Consolidated Financial Statements. As of March 31, 2015, our availability under this credit facility was approximately $0.3 million. As of March 31, 2015, our cash and cash equivalents totaled $1.3 million compared to $1.9 million at June 30, 2014. As of March 31, 2015, our accounts receivable, less allowances, totaled $3.2 million compared to $3.5 million at June 30, 2014.

							Change
	March 31, 2015			June 30, 2014			$			Percent
	(In thousands, except percentages)
Accounts receivable	$	3,453		$	3,852		$	(399	)		(10	)%
Allowance for doubtful accounts		(250	)		(396	)		146			(37	)%
Total - Accounts receivable	$	3,203		$	3,456		$	(253	)		(7	)%

Accounts receivables decreased $0.4 million or 10% for the nine months ended March 31, 2015 due to decreased sales in our subscription, professional service and software. Allowance for doubtful accounts (“Allowance”) decreased by $0.1 million for the nine months ended March 31, 2015, compared to the same period in fiscal year 2015 primarily as a result of our routine evaluation of customer balances. We adjusted the Allowance as appropriate based upon the collectability of the receivables in light of historical trends, adverse situations that may affect our customers’ ability to repay, and prevailing economic conditions. This evaluation was done in order to identify issues which may impact the collectability of receivables and reserve estimates. Revisions to the Allowance are recorded as an adjustment to bad debt expense. After appropriate collection efforts are exhausted, specific receivables deemed to be uncollectible are charged against the Allowance in the period they are deemed uncollectible. Recoveries of receivables previously written-off are recorded as credits to the Allowance.

Our short-term and long-term liquidity requirements primarily arise from: (i) interest and principal payments related to our debt obligations; (ii) working capital requirements; and (iii) capital expenditures, including periodic acquisitions.

As of March 31, 2015, our existing cash and cash equivalents, cash flow from operations, and the availability from our revolving credit facility, provides sufficient liquidity to fund our projected working capital requirements, and capital spending for at least the next 12 months at our current growth and spending rate. We anticipate that we will continue to improve our cash flow from operations through both expense reductions and stabilization of our customer base, and we intend to continue building our cash reserves. See Note 5 “Credit Facility” and Note 11 “Subsequent Events” of the Notes to Unaudited Condensed Consolidated Financial Statements.

Our ability to service any indebtedness we incur under our revolving credit facility will depend on our ability to generate cash in the future. We may not have significant cash available to meet any large unanticipated liquidity requirements, other than from available borrowings, if any, under our revolving credit facility. As a result, we may not retain a sufficient amount of cash to finance growth opportunities, including acquisitions, or unanticipated capital expenditures or to fund our operations. If we do not have sufficient cash for these purposes, our financial condition and our business could suffer.

While the first nine months of fiscal year 2015 had its challenges, we still expect to obtain long-term growth in our hosted revenue offerings through the marketing of our products, Lyris HQ and Lyris ListManager, as well as future product releases. Additionally, we continue to increase efficiency through aggressive management of our operating expenses in order to generate available cash to satisfy our capital needs and debt obligations. To the extent that existing cash, cash equivalents, and cash from operations are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. Additionally, we may enter into agreements or letters of intent with respect to potential investments in, or acquisitions of, complementary businesses, applications or technologies in the future, which could also require us to seek additional equity or debt financing.

On May 4, 2015 Lyris has announced that it has entered into a definitive agreement under which Aurea, a technology solutions provider that enables companies to deliver transformative customer experiences, will acquire Lyris. Under the terms of the agreement, each share of outstanding common stock of Lyris will be exchanged for $0.89, payable in cash, and each outstanding share of preferred stock of Lyris will be exchanged for $2.50, payable in cash, in accordance with Lyris’ charter. The transaction has been unanimously approved by the Special Committee of the Lyris Board of Directors, as well as by the entire Lyris Board of Directors.

Our cash flows were as follows for the nine months ended March 31, 2015 and 2014 (in thousands):

	Nine Months Ended March 31,
	2015			2014
	(In thousands)
Net cash provided by operating activities	$	860		$	2,112
Net cash used in investing activities		(1,747	)		(2,233	)
Net cash provided by (used in) financing activities		407			(578	)
Effect of exchange rate changes on cash		(70	)		(83	)
Net decrease in cash and cash equivalents	$	(550	)	$	(782	)

Cash Flows for the Nine Months Ended March 31, 2015 Compared to the Nine Months Ended March 31, 2014

Operating Activities

Net cash flows provided by operating activities was $0.9 million for the nine months ended March 31, 2015 compared to net cash flows provided by operating activities of $2.1 million in the same period in fiscal year 2014.

Adjustments had a $6.4 million positive effect on cash flows from operating activities for the nine months ended March 31, 2015 including $4.3 million for the impairment of goodwill, $0.8 million of depreciation and amortization, $0.7 million in deferred income tax, $0.5 million stock-based compensation, and $0.1 in provision for bad debt. Changes in assets and liabilities had no effect on cash flows provided by operating activities for the nine months ended March 31, 2015 due to an increase of $0.4 million in accounts receivable and $0.1 million in deferred revenue, offset by a decrease of $0.4 million in accounts payable and $0.1 million in income tax payable.

Investing Activities

Net cash flows used in investing activities was $1.7 million for the nine months ended March 31, 2015 compared to net cash flow used in investing activities of $2.2 million in the same period in fiscal year 2014. Net cash flows used in investing activities primarily reflects capitalized software expenditures. The net cash flow used in investing activities for the nine months ended March 31, 2015 consisted of $1.9 million in capitalized software expenditures, $0.1 million used in purchasing property and equipment offset by $0.3 million in net cash provided by the sale of SiteWit.

Financing Activities

Net cash flows provided by financing activities was $0.3 million for the nine months ended March 31, 2015, compared to net cash flows used by financing activities of $0.6 million in the same period in fiscal year 2014. Financing cash flows provided for the nine months ended March 31, 2015 consisted primarily of $0.7 million in borrowings from our Silicon Valley Bank revolving loan, offset by $0.4 million in payments under our capital lease obligations in connection with acquiring computer equipment for our data center operations.

Off-Balance Sheet Arrangements

As of March 31, 2015, Silicon Valley Bank released the $40 thousand irrevocable letter of credit issued by Silicon Valley Bank in favor of Legacy Partners I SJ North Second, LLC (“Legacy LOC”), for obligations under our San Jose, California office lease.

We issued $0.1 million to The Hartford for a letter of credit (“Hartford LOC”) which is held by as collateral for deductible payments that may become due under a worker’s compensation insurance policy. We classify the Hartford LOC as a restricted cash account of $0.1 million. Any amounts drawn on the account will be expensed during that fiscal year. As of March 31, 2015 The Hartford has assumed the long-term liability and cancelled the collateral, and the restricted cash was released. As of March 2015, Lyris made a one-time payment of $38 thousand to The Hartford for settlement of the workers compensation obligation. As a result of the payment, The Hartford has now assumed the workers’ insurance compensation liability and the respective letter of credit have been cancelled.

We do not have any interest in entities referred to as variable interest entities, which include special purpose entities and other structured finance activities.

Revolving Line of Credit

For summary description of our revolving credit facility with Silicon Valley Bank, please refer to Note 5 of the Notes to Unaudited Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not applicable.

ITEM 4.

CONTROLS AND PROCEDURES

(a) Disclosure Controls and Procedures

As of March 31, 2015, we carried out an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rule 13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934 ( “Exchange Act”). Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded at that time that our disclosure controls and procedures are effective to ensure that the information we are required to disclose in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure and is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

(b) Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the second quarter of fiscal year 2015, which were identified in connection with management’s evaluation required by paragraph (d) of rules 13a-15 and 15d-15 under the Exchange Act, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Lyris is involved in litigation as discussed under the caption “Legal claims” in Note 10 of the Notes to Unaudited Condensed Consolidated Financial Statements disclosed in this Quarterly Report on Form 10-Q and incorporated herein by reference.

In addition, from time to time, we are subject to legal proceedings and claims with respect to such matters as patents, intellectual property rights, and contractual disputes with customers, marketing service providers, and others, arising out of the normal course of business. Litigating claims of these types, whether or not ultimately determined in our favor or settled by us, is costly and diverts the efforts of management and other personnel from normal business operations. The results of legal proceedings cannot be predicted with certainty. We do not believe the final disposition of these matters will have a material effect on our financial statements and future cash flows.

ITEM 1A. RISK FACTORS

Careful consideration should be given to the risk factors discussed under the caption “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended June 30, 2014. This Quarterly Report on Form 10-Q is qualified in its entirety by these risks. This Form 10-Q also contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including the risks faced by us described in the Form 10-K and elsewhere in this Form 10-Q. The market price of our common stock could decline due to any of these risks and uncertainties, or for other reasons, and a stockholder may lose part or all of its investment.

Risks Related to the Merger

Lyris will incur substantial expenses related to the merger, and the merger might not be completed if Lyris is unable to fulfill all of the closing conditions.

Lyris expects to incur substantial expenses in connection with the merger whether or not the transaction is consummated. Further, the consummation of the merger is conditioned upon the fulfillment of certain conditions. If any closing condition is not met, it is possible that Lyris might not consummate the merger. If Lyris stockholders do not adopt the merger agreement, or if the merger is not consummated for any other reason, there can be no assurance that any other transaction acceptable to Lyris will be offered, or that the business, prospects or results of operations of Lyris will not be adversely impacted.

The merger will be fully taxable to Lyris stockholders for U.S. federal income tax purposes.

The receipt of cash in the merger will be fully taxable to Lyris holders of common stock for U.S. federal income tax purposes.

Failure to complete the merger could negatively impact the stock price and the future business and financial results of Lyris.

Completion of the merger is subject to a number of closing conditions, including the adoption of the merger agreement by Lyris stockholders, and those closing conditions may not be satisfied on a timely basis or at all. If the merger is not completed, the price of Lyris common stock may decline. In addition, if the merger is not completed, Lyris may be subject to a number of material risks, including the following: Lyris may be subject to litigation related to the completion of the merger or the failure to complete the merger, which could require substantial time and resources to resolve; the market price of Lyris common stock may be adversely affected to the extent the market price reflects an assumption that the merger will be completed; Lyris may not be able to find another buyer willing to pay an equivalent or higher price in an alternative transaction than the price to be paid in the proposed merger; Lyris will be required to pay certain costs relating to the merger, such as legal, accounting and printing fees whether or not the merger is completed; and matters relating to the merger (including integration planning) require substantial commitments of time and resources by Lyris management, which could otherwise have been devoted to other opportunities that may have been beneficial to Lyris.

Certain directors, executive officers and principal stockholders of Lyris may have interests in the merger that differ from the interests of Lyris stockholders that may influence these directors and executive officers to support the merger.

Certain of Lyris’ directors and executive officers may have financial interests in the merger that are different from, or in addition to, the interests of Lyris stockholders. The members of the Lyris board of directors were aware of and considered these interests, among other matters, in evaluating and negotiating the merger agreement and the merger, establishing a special committee for the approval of the transaction and in recommending to Lyris stockholders that the merger agreement be adopted.

The merger agreement limits Lyris’ ability to pursue alternative transactions to the merger.

The merger agreement contains “no shop” provisions that, subject to limited exceptions, limit Lyris’ ability to discuss, facilitate or commit to competing third-party proposals to acquire all or a significant part of the company. These provisions might discourage a potential competing acquirer that might have an interest in acquiring all or a significant part of Lyris, from considering or proposing that transaction even if it were prepared to pay consideration with a higher per share market price than that proposed in the merger, or might result in a potential competing acquirer’s proposing to pay a lower per share price to acquire Lyris than it might otherwise have proposed to pay.

Lyris will no longer exist as an independent public company following the merger and its stockholders will forego any increase in its value.

If the merger is successful, Lyris will no longer exist as an independent public company and Lyris stockholders will forego any increase in Lyris’ value that might have otherwise resulted from its possible growth.

Risks Related to Our Business and Industry

The markets in which we participate are highly competitive, and pricing pressure or other competitive dynamics, which could include customers developing their own solutions, could adversely affect our business and operating results.

The markets for digital marketing solutions are fragmented, highly competitive and rapidly changing. With the introduction of new technologies and potential new entrants into these markets, we expect competition to intensify in the future, which could harm our ability to increase sales and maintain our margins. We provide digital marketing solutions to a broad array of customers, ranging from enterprises to small businesses. We have a large number of competitors, most significantly Exact Target, Inc., Responsys, Inc., and Silverpop Systems Inc.

We also face competition from social media marketing providers, as well as from in-house solutions that our current and prospective customers may develop. We may also face competition from new companies entering our markets, which may include large established businesses, such as Adobe Systems Incorporated, Amazon.com, Inc., Google Inc., Oracle Corporation or salesforce.com, inc., each of which currently offers, or may in the future offer, digital marketing or related applications such as applications for customer relationship management, analysis of internet data and marketing automation. If these companies decide to develop, market or resell competitive digital marketing products or services, acquire one of our competitors or form a strategic alliance with one of our competitors, our ability to compete effectively could be compromised, and our operating results could be harmed. Furthermore, we believe that our industry may experience further consolidation, which could lead to increased competition and result in pricing pressure or loss of market share, either of which could have a material adverse effect on our business, limit our growth prospects or reduce our revenue.

Our current and potential competitors may have significantly more financial, technical, marketing and other resources than we have, may be able to devote greater resources to the development, promotion, sale and support of their products and services than we can, may have more extensive customer bases and broader customer relationships than we have and may have longer operating histories and greater name recognition than we have. In some cases, these companies may choose to offer digital marketing applications at little or no additional cost to the customer by bundling them with their existing applications. If we are unable to compete with such companies, the demand for our cross- channel, SaaS digital marketing solutions and related professional services could decline and adversely affect our business, operating results and financial condition.

We have a recent history of losses, and we may not return to or sustain profitability in the future.

We incurred net losses of $10.5 million for fiscal 2012, $0.3 million for fiscal 2013 and $5.1 million for fiscal 2014. In recent years, we have made substantial investments in research and development, infrastructure, international expansion and acquisitions to support anticipated future revenue growth. In the past, we have not been in compliance with our liquidity covenants under our credit agreements and we may not be in compliance with the liquidity covenant or other financial covenants in our credit agreements in the future. We expect to continue to make significant investments in the development and expansion of our business, which may make it difficult for us to return to profitability. We may not be able to increase revenue in future periods, and our revenue could continue to decline or grow more slowly than we expect. We may incur significant losses in the future for many reasons, including due to the risks described in this Annual Report.

We may experience quarterly fluctuations in our operating results due to many factors, which makes our future results difficult to predict and could cause our operating results to fall below expectations or our guidance.

Our quarterly operating results have fluctuated in the past and are expected to fluctuate in the future due to a variety of factors, many of which are outside of our control. As a result, comparing our operating results on a period-to-period basis may not be meaningful. Our past results may not be indicative of our future performance. If our revenue or operating results fall below the expectations of investors or securities analysts, or below any guidance we may provide, the price of our common stock could decline.

In addition to the other risks described in this Annual Report, factors that may affect our quarterly operating results include the following:

	·	changes in spending on digital marketing technologies by our current or prospective customers;
	·	the volume of utilization above contracted levels for a particular quarter and the amount of any associated additional revenue earned;
	·	customer renewal rates, and the pricing and volume commitments at which agreements are renewed;
	·	customers delaying purchasing decisions in anticipation of new products or product enhancements by us or our competitors;
	·	budgeting cycles of our customers;
	·	changes in the competitive dynamics of our industry, including consolidation among competitors or customers;
	·	long or delayed implementation times for new customers;
	·	the amount and timing of operating expenses, particularly research and development and sales and marketing expenses (including commissions and bonuses associated with performance), unforeseen product execution costs, employee benefit expenses and expenses related to the expansion of our business, operations and infrastructure;
	·	changes in the levels of our capital expenditures;
	·	seasonality;
	·	the amount and timing of costs associated with recruiting, training and integrating new employees; and
	·	failure to successfully manage any acquisitions or the incurrence of write-downs, impairment charges or unforeseen liabilities in connection with acquisitions.

We may not be able to accurately forecast the amount and mix of future subscriptions, revenue and expenses and, as a result, our operating results may fall below our estimates or the expectations of public market analysts and investors.

If we fail to effectively expand our sales and marketing capabilities and teams, we may not be able to increase our customer base and achieve broader market acceptance of our SaaS solutions.

Increasing our customer base and achieving broader market acceptance of our solutions will depend on our ability to expand our sales and marketing teams and their capabilities to obtain new customers and sell additional products and services to existing customers. We believe there is significant competition for direct sales professionals with the skills and technical knowledge that we require, and we may be unable to hire or retain sufficient numbers of qualified individuals in the future. Our ability to achieve significant future revenue growth will depend on our success in recruiting, training and retaining sufficient numbers of direct sales professionals. New hires require significant training and time before they become fully productive, and may not become as productive as quickly as we anticipate. Our growth prospects will be harmed if our efforts to expand, train and retain our direct sales team do not generate a corresponding significant increase in revenue.

In addition to our direct sales team, we also extend our global sales distribution through relationships with marketing service providers. These providers do not have exclusive relationships with us, and we cannot be certain that these partners will prioritize or provide adequate resources for selling our solutions. Establishing and retaining qualified partners and training them in our solutions requires significant time and resources. If we are unable to devote sufficient time and resources to establish and train these partners, or if we are unable to maintain successful relationships with them, our business could be adversely affected.

We may not be able to sustain or manage any future growth effectively. If we fail to manage our growth effectively, we may be unable to execute our business plan, sell our digital marketing solutions successfully and adequately address competitive challenges. As a result, our business, financial condition, operating results and cash flows may suffer.

Our future growth prospects depend in large part on our ability to sell our SaaS solutions to the enterprise customer base, our ability to add direct sales personnel and expand our network of business partners, agencies and marketing service providers, cross-sell and up-sell new solutions and services to existing customers, and strengthen our SaaS solutions and our ability to manage our growing business effectively. Growing our business will place significant demands on our team, infrastructure and operations. Our success will depend on our ability to manage such growth effectively.

We intend to expand our overall business, customer base, number of employees, and operations, and to expand our operations internationally. Managing a large, diverse, and geographically dispersed customer base and workforce will require substantial management effort, and significant additional investment in our team, technology, and infrastructure. In order to support and sustain our growth, we will have to continue to improve our technology and our operational, financial, and management controls and reporting procedures, and all of these investments will increase our costs. Furthermore, we have encountered and will continue to encounter risks and uncertainties frequently experienced by growing companies in rapidly changing industries.

If we do not address these risks successfully, or if we are unable to execute our growth strategy effectively or to manage any future growth we may experience, we may not be able to take advantage of market opportunities, execute our business plan, sell our digital marketing solutions successfully, remain competitive, maintain customer relationships or attract new customers. Our failure to effectively sustain or manage any future growth we do experience could result in a reduction in our revenue and materially and adversely affect our business, financial condition, operating results and cash flows.

Our operating results and revenue will be adversely affected if we are not able to attract new customers, retain existing customers or sell additional functionality and services to existing customers.

To grow our business, we must attract new customers and retain and sell additional solutions and services to existing customers. Many of our subscription agreements do not automatically renew at the end of their terms. As the digital marketing industry matures and as competitors introduce lower cost or differentiated competitive products or services, our ability to effectively compete with respect to pricing, technology, functionality, services and support could be impaired. In such an event, we may be unable to attract new customers or renew our agreements with existing customers on favorable or comparable terms to prior periods. In addition, we may not be able to accurately predict new subscriptions or subscription renewal rates and the impact these rates may have on our future revenue and operating results. These events and developments could have a material adverse effect on our revenue, gross margin and other operating results.

Because our long-term growth strategy involves further expansion of our sales to customers outside the United States, our business will be susceptible to risks associated with international operations.

A key component of our growth strategy involves the further expansion of our operations and customer base internationally. In recent years, we have added direct sales personnel in Europe, Latin America, and Australia, and opened offices in London, Buenos Aires, Brazil and Sydney. As we continue to expand the sales of our solutions to customers outside the United States, our business will be increasingly susceptible to risks associated with international operations. Among the risks and challenges we believe are most likely to affect us with respect to international expansion are:

difficulties and expenses associated with the continued adaptation of our solutions for international markets, including translation into foreign languages;

difficulties in staffing and managing foreign operations and the increased travel, real estate, infrastructure and legal compliance costs associated with international operations;

burdens of complying with applicable laws and regulations, including regional data privacy laws and anti-bribery laws such as the Foreign Corrupt Practices Act;

in some countries, a less-developed set of rules and infrastructure for online and mobile communications;

our ability to secure local communications and data center services and to successfully deliver communications to international ISPs and mobile carriers;

adverse tax burdens and foreign exchange controls that could make it difficult to repatriate earnings and cash;

currency exchange rate fluctuations;

difficulties in enforcing contracts;

difficulties in managing a business in new markets with diverse cultures, languages, customs, legal systems, alternative dispute systems and regulatory systems;

trade restrictions;

laws and business practices favoring local competitors or general preferences for local vendors;

lesser degrees of intellectual property protection;

political instability or terrorist activities;

legal systems subject to undue influence or corruption; and

business cultures in which improper sales practices may be prevalent.

We have a limited operating history outside the United States, and our ability to manage our business and conduct our operations internationally requires considerable management attention and resources and is subject to the particular challenges of supporting a rapidly growing business. In addition, we have limited experience in marketing, selling and supporting our cross-channel, SaaS digital marketing solutions and services abroad, which increases the risk that our future expansion efforts will not be successful. If we invest substantial time and resources to expand our international operations and are unable to do so successfully and in a timely manner, our business, operating results and reputation will be adversely affected. Additionally, operating in international markets requires significant management attention and financial resources. We cannot be certain that the investment and additional resources required to establish operations in other countries will result in adequate revenue and profitability levels.

Shifts over time in the mix of sizes or types of organizations that purchase our solutions or changes in the types of solutions purchased by our customers could negatively affect our operating results.

Our strategy is to sell our cross-channel, digital marketing solutions to organizations of all sizes, but to focus on selling our SaaS solutions. Our profit margins can vary depending on numerous factors, including the number of customers using our SaaS (Lyris HQ) solutions, the number of customers using our legacy products, complexity and frequency of their use, the level of utilization, the volume of messages sent, the amount of stored data and the level of professional services and support required by a customer. For example, if we are not successful in a smooth migration of customers using our legacy products to SaaS solutions, we could lose customers or fail to maximize profits resulting from customers who continue to use our legacy products rather than our newest offering. In addition, we will have to use resources to continue to support our customers who use our legacy products. Because our professional services offerings typically have a higher cost of revenue than subscriptions to our SaaS solutions, any increase in sales of professional services may have an adverse effect on our overall gross profit margin and operating results. Enterprise organizations generally require more professional services compared to small businesses and medium-sized companies and, as a result, the overall margin for our enterprise engagements may be lower. We supplement our internal professional services team with third parties to provide professional services, and our goal is to expand these relationships over time. We also will need to increase our sales reach and add direct sales personnel to sell our SaaS solutions to new customers. If the mix of organizations that purchase our solutions changes, or the mix of solution components purchased by our customers changes, our profit margins could decrease and our operating results could be adversely affected.

As the number of enterprise customers that we serve increases, we may encounter implementation challenges, and we may have to delay revenue recognition for some complex engagements, which would harm our business and operating results.

We may face unexpected challenges with some enterprise customers or more complicated implementations of our solutions with such customers. It may be difficult or expensive to implement our solutions if a customer has unexpected data, hardware or software technology challenges, or complex or unanticipated business requirements. In addition, prospective enterprise customers may require acceptance testing related to implementation of our solutions. Implementation delays may also require us to delay revenue recognition until the technical or implementation requirements have been met. Any difficulties or delays in the initial implementation could cause customers to delay or forego future purchases of our solutions, in which case our business, operating results and financial condition would be adversely affected.

We have been dependent on our customers’ use of email as a channel for digital marketing, and any decrease in the use of email for this purpose would harm our business, growth prospects, operating results and financial condition.

Historically, our customers have used our digital marketing solutions primarily for email-based digital marketing to consumers who have given our customers permission to send them emails. We expect that email will continue to be the primary digital marketing channel used by our customers for the foreseeable future. Should our customers lose confidence in the value or effectiveness of email marketing, or if other interactive channels are perceived to be more effective than email marketing, the demand for our solutions may decline. A number of factors could adversely affect our customers’ assessment of the value or effectiveness of email marketing, including continual growth in the number of emails consumers receive on a daily basis, the inability of internet service providers (‘‘ISPs’’) to prevent unsolicited bulk email, or ‘‘spam,’’ from overwhelming consumers’ inboxes, security concerns regarding viruses, worms or similar problems affecting internet and email utilization and increased governmental regulation or restrictive policies adopted by ISPs that make it more difficult or costly to utilize email for marketing communications.

The market for cross-channel, SaaS digital marketing solutions is relatively new and emerging. If the market develops more slowly or differently than we expect, our business, growth prospects and financial condition would be adversely affected.

The market for cross-channel, SaaS digital marketing solutions, such as ours, is relatively new and may not achieve or sustain high levels of demand and market acceptance. While email has been used successfully for digital marketing for several years, marketing through new digital marketing channels, such as mobile and social media is not as well established, and revenue from email represents a substantial majority of our total revenues. The future growth of our business depends both on the acceptance and expansion of emerging digital marketing channels, as well as the continued use and growth of existing digital marketing channels, including email. Even if digital marketing through these channels becomes widely adopted, our existing customers may choose not to use our solutions, and we may not acquire new customers. Organizations may not make significant investments in cross-channel, digital marketing solutions and may not purchase SaaS solutions to address their digital marketing needs. If cross-channel, SaaS digital marketing solutions are not widely adopted, or the market for such SaaS solutions does not develop as we expect, our business, growth prospects, and financial condition would be adversely affected.

Defects or errors in our digital marketing solutions could harm our reputation, result in significant costs to us and impair our ability to sell our solutions.

Our cross-channel, digital marketing solutions are inherently complex and may contain defects or errors, which may cause disruptions in availability or other performance problems that could include prolonged down-time. Any such errors, defects, disruptions in service or other performance problems, whether in connection with day-to-day operations, bug fixes, upgrades or otherwise, could be costly for us to remedy, damage our customers’ businesses and harm our reputation. In addition, if we have any such errors, defects, disruptions in service or other performance problems, our customers could terminate their agreements, elect not to renew their subscriptions, delay or withhold payment, or make claims against us. Any of these actions could result in lost business, increased insurance costs, difficulty in collecting our accounts receivable and costly litigation. Such errors, defects or other problems could also result in reduced sales or a loss of or delay in the market acceptance of our solutions.

Our business could be adversely affected if our customers are not satisfied with our solutions, our implementation and integration of our solutions or our professional services.

Our business depends on our ability to satisfy our customers and meet their business needs. If a customer is unsatisfied with our solutions and services, we could lose the customer, we could incur additional costs to remedy the situation, or the profitability of our relationship with that customer may be impaired. In addition, negative publicity resulting from issues related to our customer relationships, regardless of accuracy, may damage our business by adversely affecting our ability to attract new customers and maintain and expand our relationships with existing customers.

In addition, supporting enterprise customers could require us to devote significant development services and support personnel, which could strain our team and infrastructure, and reduce our profit margins. If we are unable to address the needs of these customers in a timely fashion or further develop and enhance our solutions, these customers may seek to terminate their relationships with us, not renew their subscriptions, renew their subscriptions on less favorable terms or not purchase additional features or solutions. If any of these were to occur, our revenue may decline, we may not realize future growth and our operating results may be materially and adversely affected.

Our inability to acquire and integrate other businesses, products or technologies could harm our operating results.

Since 2009, we have acquired Robinsonscalvini Limited and Cogent Online PTY Ltd. In the future we may acquire or invest in businesses, products or technologies that we believe could complement or expand our existing solutions, expand our customer base and operations worldwide, enhance our technical capabilities or otherwise offer growth or cost-saving opportunities. We have limited experience in successfully acquiring and integrating businesses, products and technologies. If we identify an appropriate acquisition candidate, we may not be successful in negotiating the terms of the acquisition, financing the acquisition or effectively integrating the acquired business, product or technology into our existing business and operations. Our due diligence may fail to identify all of the problems, liabilities or other shortcomings or challenges of an acquired business, product or technology, including issues related to intellectual property, product quality or product architecture, regulatory compliance practices, revenue recognition or other accounting practices, or employee or customer issues.

Additionally, in connection with any acquisitions we complete, we may not achieve the synergies or other benefits we expected to achieve, and we may incur write-downs, impairment charges or unforeseen liabilities that could negatively affect our operating results or financial position or could otherwise harm our business. In Q2 fiscal 2015, we determined that the goodwill associated with the acquisitions of Lyris Technologies on May 12, 2005 and Email Labs on October 12, 2005 exceeded their fair value. We have recorded $4.3 million in impairment of goodwill in Q2 fiscal 2015. If we finance acquisitions by issuing convertible debt or equity securities, the ownership interest of our existing stockholders may be diluted, which could adversely affect the market price of our stock. Further, contemplating or completing an acquisition and integrating an acquired business, product or technology could divert management and employee time and resources from other matters.

Widespread blocking or erasing of cookies or limitations on our ability to use cookies may impede our ability to collect information with our technology and may reduce the value of the data that we do collect.

Our technology currently uses cookies, which are small files of information placed on an internet user’s computer, to collect information about the user’s visits to the websites of our customers. Third- party software and our own technology make it easy for users to block or delete our cookies. Several software programs, sometimes marketed as ad-ware or spyware detectors, block our cookies by default or prompt users to delete or block our cookies. If a large proportion of users delete or block our cookies, this could undermine the value of the data that we collect for our customers and could negatively impact our ability to deliver accurate reports to our customers, which would harm our business.

Changes in web browsers may also encourage users to block cookies. Microsoft, for example, frequently modifies its Internet Explorer web browser. Some modifications by Microsoft could substantially impair our ability to use cookies for data collection purposes. If that happens and we are unable to adapt our technology and practices adequately in response to changes in Microsoft’s technology, then the value of our services will be substantially impaired. Furthermore, some of the unique device identifier or mobile platform providers are restricting the use of identifiers in mobile apps for the purpose of collecting user information. For example, in March 2013 Apple informed developers that starting May 1, 2013 the App Store will no longer accept new apps or app updates that access the device’s unique identifier (UDID). If we are not up to speed with these changes to collection on mobile devices, our services and products will be impaired. Additionally, other technologies could be developed that impede the operation of our services. These developments could prevent us from providing our services to our customers or reduce the value of our services.

In addition, laws regulating the use of cookies by us and our customers could also prevent us from providing our services to our customers or require us to employ alternative technology. A European Union directive implemented by member countries requires us to tell users about cookies placed on their computers, describe how we and our customers will use the information collected and offer users the right to refuse a cookie. The requirement to obtain users’ consent has been implemented differently across the EU member states. Some countries, like the United Kingdom, permit companies to imply consent from the user’s proceeding on the website and continuing navigation, so long as the user was first clearly informed about how cookies are used without disabling them. Some other countries, like France and the Netherlands, currently require that the user’s consent must be obtained prior to the placement of cookies for targeted advertising purposes. In guidance published in April 2012, the French data protection authority interpreted the French law to require the controller of any processing that sets cookies, or a third party designated by the controller, to inform the user of the purpose of the cookie and to ask if the user accepts the storage of the cookie on his/her computer prior to any processing of user data for targeted advertising purposes, among other requirements.

We are required to obtain consent before delivering a cookie and the use or effectiveness of cookies is limited, we are required to switch to alternative technologies to collect user profile information, which may not be done on a timely basis, at a reasonable cost or at all.

The standards that private entities use to regulate the use of email have in the past interfered with, and may in the future interfere with, the effectiveness of our solutions and our ability to conduct business.

Our customers rely on email to communicate with their customers. Various private entities attempt to regulate the use of email for commercial solicitation. These entities often advocate standards of conduct or practice that significantly exceed current legal requirements and classify certain email solicitations that comply with current legal requirements as spam. Some of these entities maintain ‘‘blacklists’’ of companies and individuals, and the websites, ISPs and internet protocol addresses associated with those entities or individuals, who do not adhere to those standards of conduct or practices for commercial email solicitations that the blacklisting entity believes are appropriate. If a company’s internet protocol addresses are listed by a blacklisting entity, emails sent from those addresses may be blocked if they are sent to any internet domain or internet address that subscribes to the blacklisting entity’s service or purchases its blacklist.

From time to time, some of our internet protocol addresses may become listed with one or more blacklisting entities due to the messaging practices of our customers. There can be no guarantee that we will be able to successfully remove ourselves from those lists. Blacklisting of this type could interfere with our ability to market our on-demand software and services and communicate with our customers and, because we fulfill email delivery on behalf of our customers, could undermine the effectiveness of our customers’ email marketing campaigns, all of which could have a material negative impact on our business and results of operations.

Evolving domestic and international data privacy regulations may restrict our customers’ ability to solicit, collect, process, disclose and use personal information or may increase the costs of doing so, which could harm our business.

Federal, state and foreign governments and supervising authorities have enacted, and may in the future enact, laws and regulations concerning the solicitation, collection, processing, disclosure, or use of consumers’ personal information. Evolving regulations regarding personal data and personal information, in the European Union and elsewhere, especially relating to classification of IP addresses, machine identification, location data and other information, may limit or inhibit our ability to operate or expand our business. Such laws and regulations require or may require companies to implement privacy and security policies, permit consumers to access, correct or delete personal information stored or maintained by such companies, inform individuals of security incidents that affect their personal information, and, in some cases, obtain consent to use personal information for certain purposes. Other proposed legislation could, if enacted, impose additional requirements and prohibit the use of specific technologies, such as those that track individuals’ activities on web pages or record when individuals click on a link contained in an email message. Such laws and regulations could restrict our customers’ ability to collect and use email addresses, web browsing data and personal information, which may reduce demand for our solutions. Changing industry standards and industry self-regulation regarding the collection, use and disclosure of data may have similar effects. Existing and future privacy and data protection laws and increasing sensitivity of consumers to unauthorized disclosures and use of personal information may also negatively affect the public’s perception of digital marketing, including marketing practices of our customers. If our solutions are perceived to cause, or are otherwise unfavorably associated with, invasions of privacy, whether or not illegal, we or our customers may be subject to public criticism. Public concerns regarding data collection, privacy and security may also cause some consumers to be less likely to visit our customers’ websites or otherwise interact with our customers, which could limit the demand for our solutions and inhibit the growth of our business.

Any failure to comply with applicable privacy and data protection laws, regulations, policies and standards or any inability to adequately address privacy concerns associated with our solutions, even if unfounded, could subject us to liability, damage our reputation, impair our sales and harm our business. Furthermore, the costs to our customers of compliance with, and other burdens imposed by, such laws, regulations, policies and standards may limit adoption of and demand for our solutions.

If we fail to respond to evolving technological requirements or to introduce adequate enhancements and new features, our solutions could become obsolete or less competitive.

To remain a leading provider of cross-channel, SaaS digital marketing solutions, we must continue to invest in research and development of new solutions and enhancements to our existing solutions. The process of developing new technologies, products and services is complex and expensive. Our industry is characterized by rapidly changing technologies, standards, regulations and customer requirements and frequent product enhancements and introductions. The introduction of new solutions by our competitors, the market acceptance of competitive solutions based on new or alternative technologies or the emergence of new industry standards could render our solutions obsolete or less effective. In addition, other means of digital marketing may be developed or adopted in the future, and our solutions may not be compatible with these new marketing channels. The success of any enhancement or new solution depends on several factors, including timely completion, adequate quality testing, introduction and market acceptance. Any new solution or feature that we develop or acquire may not be introduced in a timely or cost-effective manner, may contain defects or may not achieve the broad market acceptance necessary to generate significant revenue. If we are unable to anticipate customer requirements, successfully develop or acquire new solutions or features in a timely manner or enhance our existing solutions to meet our customers’ requirements, our business and operating results may be adversely affected.

Failures of the third-party hardware, software and infrastructure on which we rely, including third-party data center hosting facilities, could impair the delivery of our solutions and adversely affect our business.

We rely on hardware and infrastructure, which is purchased or leased, and software licensed from third parties, to offer our cross-channel, SaaS digital marketing solutions and related professional services. For example, we rely on bandwidth providers, ISPs, mobile providers and social networks to deliver messages to consumers on behalf of our customers. Any errors or defects in third-party hardware, software or infrastructure could result in errors, interruptions or a failure of our SaaS solutions. Furthermore, this hardware, software and infrastructure may not continue to be available on commercially reasonable terms, or at all. The loss of the right to use any of this hardware, software or infrastructure could limit access to our SaaS solutions.

We currently serve our customers from third-party data center hosting facilities located in California (Milpitas and Sunnyvale) and the United Kingdom (Maidenhead), with backup data storage provided remotely by Iron Mountain. Although our network infrastructure is generally redundant in each of our data centers, our data storage and operational capabilities are not fully redundant across data centers. The owners and operators of these facilities do not guarantee that our customers’ access to our solutions will be uninterrupted, error-free or secure. We do not control the operation of these facilities, and such facilities are vulnerable to damage or interruption from a tornado, earthquake, fire, cyber-attack, terrorist attack, power loss, telecommunications failure or similar catastrophic events. They also could be subject to break-ins, computer viruses, sabotage, intentional acts of vandalism and other misconduct. The occurrence of a natural disaster or an act of terrorism, a decision to close the facilities without adequate notice or other unanticipated problems could result in lengthy interruptions in the delivery of our solutions. If for any reason our arrangement with one or more of the third-party data centers we use is terminated, we could incur additional expense in arranging for new facilities and support. In addition, the failure of the data centers to meet our capacity requirements could result in interruptions in the availability of our SaaS solutions or impair the functionality of our SaaS solutions, which could adversely affect our business.

Errors, defects, disruptions or other performance problems with the delivery of our solutions may reduce our revenue, harm our reputation and brand and adversely affect our contract renewals and our ability to attract new customers. In addition, some of our customer agreements require us to issue credits for downtime in excess of certain thresholds, and in some instances give our customers the ability to terminate the agreements in the event of significant amounts of downtime. Our business, growth prospects and operating results will also be harmed if our customers and potential customers are not confident that our solutions are reliable.

As we add data centers and increase capacity in data centers to accommodate increased demand, our costs and expenses associated with these efforts may adversely affect our operating results, liquidity and financial condition.

If our security measures are compromised or unauthorized access to customer data is otherwise obtained, our solutions may be perceived as not secure, customers may curtail or cease using our solutions, our reputation may be harmed and we may incur significant liabilities.

Our operations involve the storage and transmission of customer and consumer data, and security incidents could result in unauthorized access to, loss of or unauthorized disclosure of this information, litigation, indemnity obligations and other possible liabilities, as well as negative publicity, that could damage our reputation, impair our sales and harm our business. Cyber-attacks and other malicious internet-based activity continue to increase, and platform providers of digital marketing services have been targeted. Our security measures and the contractual restraints we maintain to prevent our customers from loading sensitive health, personal and financial information into our SaaS solution may not be sufficient to prevent the storage of such information on our systems or to prevent our systems from being compromised. We do not regularly monitor or review the content that our customers upload and store and, therefore, do not control the substance of the content within our hosted environment. If customers use our cross-channel, digital marketing solutions for the transmission or storage of personally identifiable information and our security measures are compromised as a result of third- party action, employee or customer error, malfeasance, stolen or fraudulently obtained log-in credentials or otherwise, our reputation and our business could be harmed and we could incur significant liability. We may be unable to anticipate or prevent techniques used to obtain unauthorized access or to sabotage systems because they change frequently and generally are not detected until after an incident has occurred. As we increase our customer base and our brand becomes more widely known and recognized, we may become more of a target for third parties seeking to compromise our security systems or gain unauthorized access to our customers’ data. If we do not meet customers’ expectations with respect to security and confidentiality, our reputation could be seriously damaged and our ability to retain customers and attract new business could be harmed.

Many governments have enacted laws requiring companies to notify individuals of data security incidents involving certain types of personal data. In addition, some of our customers contractually require notification of any data security compromise. Security compromises experienced by our competitors, by our customers or by us may lead to public disclosures, which may lead to widespread negative publicity. Any security compromise in our industry, whether actual or perceived, could harm our reputation, erode customer confidence in the effectiveness of our security measures, negatively impact our ability to attract new customers, cause existing customers to elect not to renew their subscriptions or subject us to third-party lawsuits, regulatory fines or other action or liability, which could materially and adversely affect our business and operating results.

There can be no assurance that the limitations of liability in our contracts would be enforceable or adequate or would otherwise protect us from any such liabilities or damages with respect to any particular claim. We also cannot be sure that our existing general liability insurance coverage and coverage for errors or omissions will continue to be available on acceptable terms or will be available in sufficient amounts to cover one or more large claims, or that the insurer will not deny coverage as to any future claim. The successful assertion of one or more large claims against us that exceed available insurance coverage, or the occurrence of changes in our insurance policies, including premium increases or the imposition of large deductible or co-insurance requirements, could have a material adverse effect on our business, financial condition and results of operations.

We may not be able to scale our infrastructure quickly enough to meet our customers’ growing needs and, even if we can, our operations may be disrupted or our operating results could be harmed.

As usage of our cross-channel, SaaS digital marketing solutions grows and as customers use our solutions for more advanced digital marketing programs, we will need to devote additional resources to improving our application architecture and our infrastructure to maintain our solutions’ performance. Any failure of or delays in our systems could cause service interruptions or impaired system performance. If sustained or repeated, these performance issues could reduce the attractiveness of our solutions to customers, result in decreased sales to new customers and lower renewal rates by existing customers, which could hurt our revenue growth and our reputation. We also may need to expand our hosting operations at a more rapid pace than we have in the past. This would involve spending substantial amounts to purchase or lease data center capacity and equipment, upgrade our technology and infrastructure and introduce new SaaS solutions. Similarly, our international expansion efforts could require us to use data centers located outside the United States. We may not be able to scale our existing systems in a manner that is satisfactory to our existing or prospective customers. In addition, any such expansion will require management time and support, could be expensive and complex, could result in inefficiencies, unsuccessful data transfers or operational failures, could reduce our margins and could adversely impact our financial results. Moreover, there are inherent risks associated with upgrading, improving and expanding our information technology systems. We cannot be sure that the improvements to our infrastructure and systems will be fully or effectively implemented on a timely basis, if at all.

Because we recognize subscription revenue from our customers over the terms of their agreements and most of the costs associated with those agreements are incurred up front, rapid increases in new customers and expanding sales to existing customers may cause an adverse impact on our short-term operating income and cash flows and may cause our operating results to be difficult to predict.

The majority of our subscription revenue in a quarter is derived from customer agreements entered into in previous quarters. Significant selling activity in a quarter may result in little incremental recognized revenue and customer cash receipts during that quarter, but results in the recognition of related commissions and sales and company bonuses due to immediate expense recognition. In addition, it takes several months to ramp up a professional services consultant to full productivity and, as a result, we generally must increase our professional services capacity ahead of the recognition of associated professional services revenue, which can result in lower margins in a period of significant hiring. The timing of revenue and expense recognition and associated cash flows may result in an adverse impact on our short-term operating income and cash flows and may also make it more difficult to accurately predict current quarter operating results. The resulting variations in our operating income, earnings per share, cash flows from operating activities and other financial metrics and non-financial metrics could harm the price of our common stock if they do not meet the expectations of the public market, securities analysts or investors.

Our sales cycle can be unpredictable, time-consuming and expensive, which could harm our business and operating results.

Our sales efforts involve educating prospective customers and our existing customers about the use, technical capabilities and benefits of our solutions. Some customers, particularly in the enterprise market, undertake a prolonged solution-evaluation process, which frequently involves not only our solutions but also those of our competitors. As we continue to pursue enterprise customers, we may face greater costs, longer sales cycles and less predictability in completing such sales. We may spend substantial time, effort and money on our sales efforts without any assurance that our efforts will produce any sales. It is also difficult to predict the level and timing of sales that come from our indirect sales channel of marketing service providers since these resellers do not exclusively sell our solutions. Events affecting our customers’ businesses may occur during the sales cycle that could affect the size or timing of a purchase, contributing to more unpredictability in our business and operating results.

We derive a significant portion of our revenue from customers in the technology, retail, publishing, entertainment, non-profit and telecommunications industries, and any downturn in these industries could harm our business.

A significant portion of our revenue is derived from customers in the technology, retail, publishing, entertainment, non-profit and telecommunications industries. In addition, a significant portion of our revenue is derived from agencies and marketing service providers. Any downturn in these industries may cause our customers to reduce their spending on digital marketing solutions, delay or cancel digital marketing projects or seek to terminate or renegotiate their contracts with us. Also, the increased pace of consolidation in any of these industries may result in reduced overall spending on our solutions. In particular, if our customers are acquired by entities that are not our customers, that use fewer of our solutions or that choose to discontinue, reduce or change the terms of their use of our solutions, our business and operating results could be materially and adversely affected.

Uncertain or weakened global economic conditions may adversely affect our industry, business and results of operations.

Our overall performance depends on domestic and worldwide economic conditions, which may remain challenging for the foreseeable future. Financial developments seemingly unrelated to us or to our industry may adversely affect us. The U.S. economy and other key international economies have been impacted by threatened sovereign defaults and ratings downgrades, falling demand for a variety of goods and services, restricted credit, threats to major multinational companies, poor liquidity, reduced corporate profitability, volatility in credit, equity and foreign exchange markets, bankruptcies and overall uncertainty. These conditions affect the rate of information technology spending and could adversely affect our customers’ ability or willingness to purchase our digital marketing solutions and services, delay prospective customers’ purchasing decisions, reduce the value or duration of their subscriptions or affect renewal rates, any of which could adversely affect our operating results. We cannot predict the timing, strength or duration of the economic recovery or any subsequent economic slowdown worldwide, in the United States, or in our industry.

We rely on our management team and other key employees, and the loss of one or more key employees could harm our business.

Our success and future growth depend upon the continued services of our management team and other key employees, including in the areas of research and development, marketing, sales, services and general and administrative functions. From time to time, there may be changes in our management team resulting from the hiring or departure of executives, which could disrupt our business. For example, in the last two fiscal years, we have experienced significant turnover in our management team, including our Chief Executive Officer, and many of our current executive officers and key employees are new. As a result, we may face challenges in effectively managing our operations during this period of transition. If new key employees and other members of our senior management team cannot work together effectively, or if other members of our senior management team resign, our ability to effectively manage our business may be impacted. We also are dependent on the continued service of our existing development professionals because of the complexity of our solutions. We may terminate any executive officer’s employment at any time, with or without cause, and any executive officer may resign at any time, with or without cause. We do not maintain key person life insurance on any of our employees. The loss of any of our key employees could harm our business.

Because competition for key employees is intense, we may not be able to attract and retain the highly-skilled employees we need to support our operations and future growth.

Competition for executive officers, software developers and other key employees in our industry is intense. In particular, we compete with many other companies for software developers with high levels of experience in designing, developing and managing software, as well as for skilled sales and operations professionals, and we may not be successful in attracting and retaining the professionals we need. Job candidates and existing employees often consider the actual and potential value of the equity awards they receive as part of their overall compensation. Thus, if the perceived value or future value of our stock declines, our ability to attract and retain highly skilled employees may be adversely affected. If we fail to attract new employees or fail to retain and motivate our current employees, our business and future growth prospects could be harmed.

Any violation of our policies or misuse of our digital marketing solutions by our customers could damage our reputation and subject us to liability.

Our customers could misuse our digital marketing solutions by, among other things, transmitting negative messages or website links to harmful applications, sending unsolicited commercial email, reproducing and distributing copyrighted material without permission, reporting inaccurate or fraudulent data and engaging in illegal activity. Any such use of our digital marketing solutions could damage our reputation and could subject us to claims for damages, copyright or trademark infringement, defamation, negligence or fraud. Moreover, our customers may use our digital marketing solutions to promote their products and services in violation of federal, state and foreign laws. We rely on contractual representations made to us by our customers that their use of our digital marketing solutions will comply with our policies and applicable law, including, without limitation, our Anti-Spam Policy. Although we retain the right to review customer lists and emails to verify that customers are abiding by our Anti-Spam Policy, our customers are ultimately responsible for compliance with our policies, and we do not audit our customers to confirm compliance with our policies.

We cannot predict whether the use of our digital marketing solutions would expose us to liability under applicable laws or subject us to other regulatory action. Even if claims asserted against us do not result in liability, we may incur substantial costs in investigating and defending against such claims or our reputation may be damaged. If we are found liable in connection with our customers’ activities, we could be required to pay fines or penalties, redesign our digital marketing solutions or otherwise expend resources to remedy any damages caused by such actions and to avoid future liability.

Federal, state and foreign laws regulating email and text messaging marketing practices impose certain obligations on the senders of commercial emails and text messages, which could reduce the effectiveness of our solutions or increase our operating expenses to the extent these laws subject us to financial penalties.

The Federal Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 (the ‘‘CAN-SPAM Act’’) regulates commercial email messages and specifies penalties for the transmission of commercial email messages that are intended to deceive the recipient as to source or content. Among other things, the CAN-SPAM Act obligates each sender of commercial emails to allow recipients to opt-out of receiving future emails from the sender.

In addition, some states have passed laws regulating commercial email. In some cases, these laws are significantly more punitive and difficult to comply with than the CAN-SPAM Act. For example, Utah and Michigan have enacted do-not-email registries to protect minors from receiving unsolicited commercial email marketing adult content and other products that minors are prohibited from obtaining. Whether such state laws are preempted in whole or in part by the CAN-SPAM Act is uncertain. Furthermore, some foreign jurisdictions, such as Australia, Canada and the European Union, have also enacted laws that regulate email. Some of these laws are more restrictive than U.S. laws.

As internet commerce continues to evolve and grow, increasing regulation by federal, state or foreign governments may become more likely In addition, the collection of user information from mobile devices is attracting increasing scrutiny. In January 2013, the California Attorney General issued a report that specifically focuses on privacy issues in the mobile ecosystem, which report recommended, among other things, minimizing consumer surprise by supplementing the general privacy policy with enhanced measures to alert users and give them control over data practices that are not related to an app’s basic functionality or that involve sensitive information. Other state attorneys general have expressed a similar interest in active enforcement in this area. In particular, the collection and use of certain types of information available through mobile devices, such as geo-location data, may in the future become more problematic or subject to stricter requirements. The cost to comply with such laws or regulations could be significant and would increase our operating expenses. We may be unable to pass along those costs to our customers in the form of increased subscription fees. If such restrictions require us to change one or more aspects of the way we operate our business, it could impair our ability to attract and retain customers or otherwise harm our business.

Noncompliance with any existing or future laws and regulations may subject us to significant financial penalties. If we are found to have violated these laws or regulations or if our customers are found to have violated these laws or regulations, we could be required to pay penalties, which would adversely affect our financial performance and harm our reputation and our business.

Regulation of the internet and the lack of certainty regarding the application of existing laws to the internet could substantially harm our operating results and business.

We are subject to laws and regulations applicable to doing business over the internet. It is often not clear how existing laws governing issues such as property ownership, sales and other taxes, libel and personal privacy apply to the internet, as these laws have in some cases failed to keep pace with technological change. Recently-enacted laws governing the internet could also impact our business. For instance, existing and future regulations on taxing internet use or restricting the exchange of information over the internet could result in reduced growth or a decline in the use of the internet and could diminish the viability of our services. Furthermore, it is possible that governments of one or more countries may censor, limit or block certain users’ access to websites or other social media services. Changing industry standards and industry self-regulation regarding the collection, use and disclosure of certain data may have similar effects. Any such adverse legal or regulatory developments could substantially harm our operating results and our business.

If we are unable to protect our proprietary technology and intellectual property, our business could be adversely affected.

Our success is dependent upon our ability to protect our proprietary technology and intellectual property, which may require us to incur significant costs. We rely on a combination of confidentiality obligations in contracts, patents, copyrights, trademarks, service marks, trade secret laws and other contractual restrictions to establish and protect our proprietary rights. In particular, we enter into confidentiality and invention assignment agreements with all of our employees and consultants and enter into confidentiality agreements with the parties with whom we have business relationships in which they will have access to our confidential information. No assurance can be given that these agreements or other steps we take to protect our intellectual property will be effective in controlling access to and distribution of our solutions and our confidential and proprietary information. We will not be able to protect our intellectual property if we are unable to enforce our rights or if we do not detect unauthorized uses of our intellectual property. Despite our precautions, it may be possible for third parties to copy our solutions and use information that we regard as proprietary to create products and services that compete with ours. Third parties may also independently develop technologies that are substantially equivalent or superior to our solutions. Some license provisions protecting against unauthorized use, copying, transfer and disclosure of our solutions may be unenforceable under the laws of certain jurisdictions and foreign countries. Further, the laws of some countries do not protect proprietary rights to the same extent as the laws of the United States. To the extent we expand our international activities, our exposure to unauthorized copying and use of our solutions and proprietary information may increase.

In some cases, litigation may be necessary to enforce our intellectual property rights or to protect our trade secrets. Litigation could be costly, time consuming and distracting to management and could result in the impairment or loss of portions of our intellectual property. Furthermore, our efforts to enforce our intellectual property rights may be met with defenses, counterclaims and countersuits attacking the validity and enforceability of our intellectual property rights and exposing us to significant damages or injunctions. Our inability to protect our proprietary technology against unauthorized copying or use, as well as any costly litigation or diversion of our management’s attention and resources, could delay sales or the implementation of our solutions, impair the functionality of our solutions, delay introductions of new solutions, result in our substituting less-advanced or more-costly technologies into our solutions or harm our reputation. In addition, we may be required to license additional technology from third parties to develop and market new solutions, and we cannot assure you that we could license that technology on commercially reasonable terms or at all.

We cannot be certain that any patents will be issued with respect to our current or potential patent applications.

To date, we have no patent applications pending and one issued patent. We do not know whether any of our future patent applications will result in the issuance of patents or whether the examination process will require us to narrow the scope of our claims. To the extent any of our future applications proceed to issuance as a patent, any such future patent and our existing issued patent may be opposed, contested, circumvented, designed around by a third party or found to be invalid or unenforceable. The process of seeking patent protection can be lengthy and expensive. Some of our technology is not covered by any patent or patent application.

We may be sued by third parties for alleged infringement of their proprietary rights.

The software industry is characterized by the existence of a large number of patents, copyrights, trademarks, trade secrets and other intellectual property and proprietary rights. Companies in our industry are often required to defend against litigation claims based on allegations of infringement or other violations of intellectual property rights. Our technologies may not be able to withstand any third- party claims or rights against their use. As a result, our success depends upon our not infringing upon the intellectual property rights of others. Our competitors, as well as a number of other entities and individuals, may own or claim to own intellectual property relating to our industry. From time to time, we have received threatening letters or notices or may be the subject of claims that our solutions and underlying technology infringe or violate the intellectual property rights of others, and we may be found to be infringing upon such rights.

Any claims or litigation could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, prevent us from offering our solutions or require that we comply with other unfavorable terms. Even if the claims do not result in litigation or are resolved in our favor, these claims, and the time and resources necessary to resolve them, could divert the resources of our management and harm our business and operating results.

Indemnity provisions in our subscription agreements potentially expose us to substantial liability for intellectual property infringement and other losses.

In our customer agreements, we agree to indemnify our customers against any losses or costs incurred in connection with claims by a third party alleging that a customer’s use of our services infringes the intellectual property rights of the third party. Companies in the software industry, including those that provide digital marketing solutions, frequently face infringement threats from non-practicing organizations (sometimes referred to as ‘‘patent trolls’’) filing lawsuits for patent infringement. In the past, we have been notified of claims brought against our customers for infringement by such a patent troll and have requested indemnification or indicated that they may seek redress from us under the indemnification provisions of our contracts with them. Other customers facing infringement claims who are accused of infringement may in the future seek indemnification from us under the terms of our contracts. If such claims are successful, or if we are required to indemnify or defend our customers from these or other claims, these matters could be disruptive to our business and management and have a material adverse effect on our business, operating results and financial condition.

We use open source software in our solutions, which may subject us to litigation or other actions that could adversely affect our business.

We use open source software in our solutions and may use more open source software in the future. In the past, companies that incorporate open source software into their products have faced claims challenging the ownership of open source software or compliance with open source license terms. Therefore, we could be subject to suits by parties claiming ownership of what we believe to be open source software or claiming noncompliance with open source licensing terms. Some open source software licenses require users who distribute open source software as part of their software to publicly disclose all or part of the source code to such software or make available any derivative works of the open source code on unfavorable terms or at no cost. If we were to use open source software subject to such licenses, we could be required to release our proprietary source code, pay damages, re-engineer our applications, discontinue sales or take other remedial action, any of which could adversely affect our business.

If we are unable to integrate our solutions with certain third-party applications, the functionality of our solutions could be adversely affected.

The functionality of our solutions depends on our ability to integrate them with third-party applications and data management systems used by our customers to obtain consumer data. In addition, we rely on access to third-party application programming interfaces (‘‘APIs’’) to provide our social media channel offerings through social media platforms. Third-party providers of marketing applications and APIs may change the features of their applications and platforms, restrict our access to their applications and platforms or alter the terms governing use of their applications and APIs and access to those applications and platforms in a manner adverse to us. Such changes could limit our ability to integrate or could prevent us from integrating our software with these third-party applications and platforms, which could impair the functionality of our software and harm our business. Further, if we fail to integrate our software with new third-party applications and platforms that our customers use for marketing purposes, or if we fail to adapt to the data transfer requirements of such third-party applications and platforms, demand for our solutions could decrease, which would harm our business and operating results.

Qualifying and supporting our digital marketing solutions on multiple computer platforms is time consuming and expensive.

We devote time and resources to qualify and support our solutions on specific computer platforms, such as Microsoft operating systems. The pace at which existing platforms are being modified and new platforms are being adopted has increased rapidly over time. To the extent that existing platforms are modified or upgraded, or customers adopt new platforms, we could be required to expend additional engineering time and resources to qualify and support our solutions on such modified or new platforms, or we could lose customers to competitors who respond more quickly to platform changes, which could add significantly to our development expenses, decrease our revenues and adversely affect our operating results.

The market forecasts included in this Annual Report may prove to be inaccurate, and even if the markets in which we compete achieve the forecasted growth, we cannot assure you that our business will grow at similar rates, or at all.

The market forecasts included in this Annual Report, including the forecasts by Forrester Research, are subject to significant uncertainty and are based on assumptions and estimates that may not prove to be accurate. This risk also applies to forecasts of anticipated spending on digital marketing channels. Market data and forecasts relating to international spending on digital marketing are even more limited than data for the U.S. market. If the forecasts of market growth or anticipated spending prove to be inaccurate, our business and growth prospects could be adversely affected. Even if the forecasted growth occurs, our business may not grow at a similar rate, or at all. Our future growth is subject to many factors, including our ability to successfully implement our business strategy, which itself is subject to many risks and uncertainties. Accordingly, the forecasts and market data in this Annual Report should not be taken as indicative of our future growth.

We may not be able to secure sufficient additional financing on favorable terms, or at all, to meet our future capital needs.

In the future, we may require additional capital to pursue business opportunities or acquisitions or respond to challenges and unforeseen circumstances. We may also decide to engage in equity or debt financings or enter into credit facilities for other reasons. We may not be able to secure additional debt or equity financing in a timely manner, on favorable terms, or at all. Any debt financing obtained by us in the future could involve restrictive covenants relating to our capital raising activities and other financial and operational matters, which may make it more difficult for us to obtain additional capital and to pursue business opportunities, including potential acquisitions.

We may not be able to utilize a significant portion of our net operating loss carry-forwards, which could adversely affect our operating results and cash flows.

As of June 30, 2014, we had $166.1 million of net operating loss carry-forwards. Utilization of these net operating loss carry-forwards depends on many factors, including our future income, which cannot be assured. Our loss carry-forwards begin to expire in 2019. In addition, Section 382 of the Internal Revenue Code generally imposes an annual limitation on the amount of net operating loss carry-forwards that may be used to offset taxable income when a corporation has undergone significant changes in stock ownership. We have undergone one or more ownership changes as a result of prior financings. Future ownership changes, or future regulatory changes may limit our ability to utilize our net operating loss carry-forwards. To the extent we are not be able to offset our future income against our net operating loss carry-forwards, this would adversely affect our operating results and cash flows.

Tax laws or regulations could be enacted or existing laws could be applied to us or our customers, which could increase the costs of our solutions and adversely impact our business.

The application of federal, state, local and international tax laws to services and products provided electronically is evolving. New income, sales, use or other tax laws, statutes, rules, regulations or ordinances could be enacted at any time (possibly with retroactive effect), and could be applied solely or disproportionately to services and products provided over the internet or via email, which could discourage the use of the internet and email as a means of commercial marketing, adversely affecting the viability of our solutions. These enactments could adversely affect our sales activity due to the inherent cost increase the taxes would represent and ultimately result in a negative impact on our operating results and cash flows.

In addition, existing tax laws, statutes, rules, regulations or ordinances could be interpreted, changed, modified or applied adversely to us (possibly with retroactive effect), which could require us or our customers to pay additional tax amounts, as well as require us or our customers to pay fines or penalties and interest for past amounts. If we are unsuccessful in collecting such taxes from our customers, we could be held liable for such costs, thereby adversely impacting our operating results and cash flows.

Our internal controls and disclosure controls may not be adequate, and control deficiencies could be significant or could even be material weaknesses that could cause us to restate our financial statements or otherwise cause errors in our public reporting.

Internal controls for financial reporting and disclosure controls for public disclosures generally are important to assure that financial and other information is reported accurately and in a timely fashion. Where control deficiencies are significant, we may be required to restate our financial statements or we may encounter errors in our public reporting. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, will be detected. In the past we have experienced control deficiencies that required us to reclassify as research and development expense amounts that had previously been classified as cost of revenues expense.

Implementing new disclosure controls or internal controls requires specific compliance training of our directors, officers and employees, may entail substantial costs to modify existing accounting systems, and may take a significant period of time to complete. There can be no assurance that new disclosure controls or internal controls will be effective in maintaining the adequacy of our controls. Failure to develop or maintain effective controls, or any difficulties encountered in implementing or improving existing controls, could harm our operating results or cause us to fail to meet our reporting obligations. In the event that our disclosure controls or internal controls are perceived as inadequate or that we are unable to produce timely or accurate financial statements, investors may lose confidence in our operating results which could cause our stock price to decline.

Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and affect our reported results of operations.

Financial accounting standards may change or their interpretation may change. A change in accounting standards or practices can have a significant effect on our reported results and may even affect our reporting of transactions completed before the change becomes effective. Changes to existing rules or the re-examining of current practices may adversely affect our reported financial results or the way we conduct our business. Accounting for revenue from sales of our solutions is particularly complex, is often the subject of intense scrutiny by the SEC, and will evolve as the Financial Accounting Standards Board (‘‘FASB’’) continues to consider applicable accounting standards in this area.

Catastrophic events may disrupt our business.

We rely heavily on our network infrastructure and information technology systems for our business operations. A disruption or failure of these systems in the event of a tornado, earthquake, fire, cyber-attack, terrorist attack, power loss, telecommunications failure or other similar catastrophic event could cause system interruptions, delays in the delivery of our customers’ digital marketing communications, reputational harm and loss of critical data or could prevent us from providing our digital marketing solutions to our customers. Our system hardware is co-located in three data centers operated by third parties with two in California (Milpitas and Sunnyvale) and one in the United Kingdom (Maidenhead). A catastrophic event that results in the destruction or disruption of any of these data centers, or our network infrastructure or information technology systems, could affect our ability to conduct normal business operations and adversely affect our operating results.

Risks Related to Our Common Stock

Our stock price has been volatile or may decline regardless of our operating performance.

Our stock price has experienced high volatility, may continue to be volatile and may decline. The market price of our common stock may fluctuate significantly in response to many factors, many of which are beyond our control. In addition to the other risk factors described herein, these factors include:

actual or anticipated fluctuations in our revenue and other operating results;

the financial guidance we may provide to the public, any changes in such guidance, our failure to meet any such guidance or any changes in analysts’ recommendations;

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

changes in operating performance and stock market valuations of software or other technology companies, particularly companies in our industry;

the addition or loss of significant customers;

fluctuations in the trading volume of our common stock or the size of our public float;

announcements by us with regard to the effectiveness of our internal controls and our ability to accurately report our financial results;

price and volume fluctuations in the overall stock market, including as a result of trends in the economy as a whole;

general economic, legal, regulatory and market conditions unrelated to our performance;

lawsuits threatened or filed against us; and

other events or factors, including those resulting from war, incidents of terrorism or responses to these events.

In addition, the stock markets have experienced extreme fluctuations in price and trading volume that have caused and will likely continue to cause the stock prices of many technology companies to fluctuate in a manner unrelated or disproportionate to the operating performance of those companies. In the past, stockholders have instituted securities class action litigation following periods of declining stock prices. If we were to become involved in securities litigation, we could face substantial costs and be forced to divert resources and the attention of management from our business, which could adversely affect our business.

The transfer restrictions on our common stock may delay or prevent stockholders from obtaining more than 5% of our common stock, may delay or prevent takeover bids by third parties, and may delay or frustrate any attempt by stockholders to replace or remove members of management.

In order to protect our net operating loss carry-forwards, our common stock is subject to transfer restrictions that, unless waived by the Board, prevent any individual stockholder or group of stockholders from acquiring in excess of 5% of our outstanding common stock, within the meaning of Section 382 of the Internal Revenue Code. The transfer restrictions will make it more difficult for stockholders to obtain more than 5% of our outstanding shares of common stock. The types of acquisition transactions that we may undertake will also be limited unless our Board waives the transfer restrictions. The transfer restrictions will delay or frustrate stockholders who would like to replace current management because no single stockholder may cast votes for more than 5% of our outstanding shares of common stock, unless that stockholder already holds 5% of our common stock or our Board specifically authorizes the acquisition of more than 5% of our common stock.

Delaware law and our amended and restated certificate of incorporation and bylaws contain provisions that could delay or discourage takeover attempts that our stockholders may consider favorable.

Provisions in our amended and restated certificate of incorporation and amended and restated bylaws, as they will be in effect upon the closing of this offering, may have the effect of delaying or preventing a change of control or changes in our management. These provisions include the following:

Our Board is divided into three classes serving staggered three-year terms.

Our Board has the right to elect a director to fill a vacancy created by the expansion of the Board or due to the resignation or departure of an existing board member.

Our directors are not elected by cumulative voting; cumulative voting would allow less than a majority of stockholders to elect director candidates.

Advance notice of nominations for election to the board of directors or for proposing matters that can be acted upon at a stockholders meeting is required.

Our Board may issue, without stockholder approval, up to 4,000,000 shares of preferred stock with terms set by the Board, certain rights of which could be senior to those of our common stock.

Stockholders do not have the right to call a special meeting of stockholders and to take action by written consent in lieu of a meeting.

Approval of at least two thirds of the shares entitled to vote at an election of directors is required to amend or repeal, or adopt any provision inconsistent with, our amended and restated bylaws or the provisions of our amended and restated certificate of incorporation regarding the election and removal of directors; and

Directors may be removed from office only for cause.

In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law (the ‘‘DGCL’’). In general, Section 203 prohibits a publicly-held Delaware corporation from engaging in a ‘‘business combination’’ with an ‘‘interested stockholder’’ for three years following the time that such stockholder becomes an interested stockholder, unless the business combination is approved in a prescribed manner. A ‘‘business combination’’ includes, among other things, a merger, asset or stock sale or other transaction resulting in a financial benefit to the interested stockholder. An ‘‘interested stockholder’’ is a person who, together with affiliates and associates, owns, or did own, within three years prior to the determination of interested stockholder status, 15% or more of a corporation’s voting stock.

These provisions may prohibit large stockholders, particularly those owning 15% or more of our outstanding voting stock, from merging or combining with us. These provisions in our amended and restated certificate of incorporation and our amended and restated bylaws and the DGCL could discourage potential takeover attempts, could reduce the price that investors are willing to pay for shares of our common stock in the future and could potentially result in the market price of our common stock being lower than it otherwise would be.

Our certificate of incorporation also restricts any stock ownership that would cause a person or group of persons to be a five percent stockholder within the meaning of Section 382 of the Internal Revenue Code.

Our directors, executive officers and principal stockholders collectively own approximately 66% of our outstanding common stock and will continue to have substantial control over the company.

Our directors, executive officers and holders of more than 5% of our common stock, together with their affiliates, beneficially own, in the aggregate, approximately 66% of our outstanding common stock. As a result, these stockholders, acting together, would have the ability to control the outcome of matters submitted to our stockholders for approval, including the election of directors and any merger, consolidation or sale of all or substantially all of our assets. In addition, these stockholders, acting together, would have the ability to control our management and affairs. Accordingly, this concentration of ownership might harm the market price of our common stock by:

delaying, deferring or preventing a change in control of the company;

impeding a merger, consolidation, takeover or other business combination involving us; or

discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of the company.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None

ITEM 4. MINE SAFETY DISCLOSURES

None

ITEM 5. OTHER INFORMATION

None

ITEM 6. EXHIBITS

			Incorporated by Reference
Exhibit No.	Description	Form	Date of First Filing	Exhibit Number	Filed Herewith

3.1	Certificate of Incorporation of the Company.	10-K	9/26/07	3(a)(i)

3.2	Certificate of Amendment to Certificate of Incorporation of the Company.	10-K	9/26/07	3(a)(ii)

3.3	Certificate of Amendment to Certificate of Incorporation of the Company.	8-K	3/5/12	3.1

3.4	Certificate of Ownership and Merger, merging NAHC, Inc. with and into J.L. Halsey Corporation.	10-K	9/26/07	3(a)(iii)

3.5	Certificate of Ownership and Merger, merging Lyris, Inc., with and into J.L. Halsey Corporation.	8-K	10/31/07	3.2

3.6	First Amended and Restated Bylaws of the Company	8-K	2/21/07	3.3

3.7	Amendment to First Amended and Restated Bylaws of the Company	8-K	2/21/07	3.1

3.8	Amendment No.2 to First Amended and Restated Bylaws of the Company	8-K	9/17/13	3.1

4.1	Certificate of Designation, as filed with the Delaware Secretary of State on October 17, 2012.	8-K	10/18/12	4.1

31.1	Certification of Chief Executive Officer pursuant to Rule 13a-14(a)/15d-14(a)				X

31.2	Certification of Chief Financial Officer pursuant to Rule 13a-14(a)/15d-14(a)				X

32.1	Section 1350 Certification of Chief Executive Officer				X

32.2	Section 1350 Certification of Chief Financial Officer				X

101.INS	XBRL Instance Document				X

101.SCH	XBRL Taxonomy Extension Schema Document				X

101.CAL	XBRL Taxonomy Extension Calculation Linkbase Document				X

101.DEF	XBRL Taxonomy Extension Definition Linkbase Document				X

101.LAB	XBRL Taxonomy Extension Label Linkbase Document				X

101.PRE	XBRL Taxonomy Extension Presentation Linkbase Document				X

SIGNATURE

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

Dated: May 15, 2015
	By: /s/ John Philpin
	John Philpin
	Chief Executive Officer and President

	By: /s/ Deborah Eudaley
	Deborah Eudaley
	Chief Financial Officer and Chief Operating Officer

LYRIS, INC. - FORM 10-Q - May 15, 2015

Attached files

LYRIS, INC. Reports