UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2007March 31, 2008

OR

For the transition periodto

Commission File NumberNumber: 000-50640

SUMTOTAL SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

1808 North Shoreline Boulevard

Mountain View, California 94043

(Address of principal executive offices, including zip code)

(650) 934-9500

(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 is a large accelerated filer, an accelerated filer, a non-accelerated filer or a non-accelerated filer.smaller reporting company. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (check(Check one):

¨  Large accelerated filer                x  Accelerated filer                ¨  Non-accelerated filer

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

The number of shares outstanding of the issuer’s common stock,Common Stock, par value $0.001, as of October 31, 2007May 1, 2008 was 32,409,79932,131,784 shares.

SUMTOTAL SYSTEMS, INC.

FORM 10–Q

For the Quarter Ended

September 30, 2007 March 31, 2008

TABLE OF CONTENTS

PART I – FINANCIAL INFORMATION

SUMTOTAL SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited, in thousands except for share and per-share data)thousands)

Refer to the accompanying Notes to the Unaudited Condensed Consolidated Financial Statements.

SUMTOTAL SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited, in thousands, except per share data)

Refer to the accompanying Notes to the Unaudited Condensed Consolidated Financial StatementsStatements.

SUMTOTAL SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, in thousands)

Refer to the accompanying Notes to the Unaudited Condensed Consolidated Financial Statements.

SUMTOTAL SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

NOTE 1: DESCRIPTION OF BUSINESS

SumTotal Systems, Inc. (“SumTotal Systems”) develops, markets, distributes and supports learning, managementperformance and performancetalent management software products and on-demand subscriptions. SumTotal Systems’ markets are worldwide and include a broad range of industries. SumTotal Systems was formed on March 18, 2004, as a result of the acquisition of Docent by Click2learn.

NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying financial data as of September 30, 2007,March 31, 2008, and for the three and nine-monthsthree-months periods ended September 30,March 31, 2008 and 2007, and 2006, respectively, has been prepared by SumTotal Systems, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been condensed or omitted pursuant to such rules and regulations. Certain other amounts have been reclassified to conform to the current period presentation. The December 31, 20062007 condensed consolidated balance sheet was derived from audited consolidated financial statements, but does not include all disclosures required by GAAP.

In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments (which include normal recurring adjustments, except as disclosed herein) necessary to present fairly SumTotal Systems’ financial position, results of operations and cash flows for the interim periods presented. There were no significant changes in theour accounting policies that occurred during the three and nine-monththree-month periods ended September 30, 2007March 31, 2008 from those policies outlined in theour Annual Report of Form 10-K which was filed with the SEC on March 16, 200713, 2008 that have materially affected theour financial reporting unless specifically outlined in these unaudited notes to the Condensed Consolidated Financial Statements. This Quarterly Report on Form 10-Q should be read in conjunction with SumTotal Systems’ audited consolidated financial statements contained in the Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission.10-K.

Principles of Consolidation

The accompanying unaudited condensed consolidated financial statements include the financial statements of SumTotal Systems and its wholly owned subsidiaries. All significant inter-company accountsbalances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with GAAPaccounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the reporting period. Such estimates and assumptions are based on historical experience, where applicable and adequacy of other assumptions. On an ongoing basis, SumTotal Systems evaluates estimates, including those related to revenue, recognition, allowance for sales returns and doubtful accounts, potential impairment of intangible assets, restructuring, reserves, stock-based compensation, and valuation reserves for deferred tax assets and incomethe tax expense.provision. Actual results could differ from those estimates.

ReclassificationCash and Cash Equivalents

Cash and cash equivalents of $41.9 million and $19.2 million at March 31, 2008 and December 31, 2007, respectively, are comprised of highly liquid financial instruments consisting primarily of investments in money market funds and commercial paper, with insignificant interest rate risk and with original maturities of three-months or less. Cash equivalents are stated at amounts that approximate fair value, based on quoted market prices.

Short-term Investments

Short-term investments of $9.4 million and $30.1 million at March 31, 2008 and December 31, 2007, respectively, are stated at fair value. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 115,Accounting for Certain amountsInvestments in Debt and Equity Securities, management determines the appropriate classification of the debt securities at the time of purchase and re-evaluates the designation as of each balance sheet date. SumTotal Systems classified all of the debt securities as available-for-sale pursuant to SFAS No. 115. Short-term investments consist principally of taxable, short-term marketable investment instruments; such as commercial paper, publicly traded common stock and treasury notes, with maturities or callable dates between three-months and one year. SumTotal Systems states its investments at estimated fair value with unrealized gains and losses reported in accumulated

other comprehensive income (loss). A decline in the prior period’smarket value of any available-for-sale or held-to-maturity security below cost that is deemed to be other-than-temporary results in an impairment to reduce the carrying amount to fair value. The impairment is charged to earnings and a new cost basis for the security is established. To determine whether an impairment is other-than-temporary, SumTotal Systems considers whether it has the ability and intent to hold the investment until a market price recovery and considers whether evidence indicating the costs of the investment is recoverable outweighs evidence to the contrary. Evidence considered in this assessment includes the reason for the impairment, the severity and duration of the impairment, changes in value subsequent to year-end, forecasted performance of the investee, and the general market condition in the geographic area or industry the investee operates in. The specific identification method is used to determine the costs of securities disposed of, with realized gains and losses reflected in other expense, net. Investments are anticipated to be used for current operations.

Fair Value of Financial Instruments

The carrying amounts of certain of SumTotal Systems’ financial statementsinstruments including cash, cash equivalents, short-term investments, accounts receivable, accounts payable, accrued liabilities approximate fair value due to their short maturities. The carrying amount of the credit facility approximates fair value as this facility bears interest at a variable rate tied to the current market, and related noteshas terms similar to other borrowing arrangements available to SumTotal Systems.

Concentration of Credit Risk

Financial instruments that potentially subject SumTotal Systems to concentration of credit risk consist principally of cash, cash equivalents, restricted cash, short-term investments and accounts receivable. SumTotal Systems’ cash, cash equivalents, restricted cash and short-term investments are deposited with several financial institutions, which, at times, may exceed federally insured limits. Cash, cash equivalents and short-term investments are invested in short-term highly liquid investment-grade obligations of commercial issuers.

Accounts receivable include amounts due from customers in a wide variety of industries, throughout North and South America, Europe, Middle East and Africa and the Asia/Pacific region. Accounts receivable are recorded at the invoiced amount and do not bear interest. SumTotal Systems performs ongoing credit evaluations of its customers, does not require collateral and maintains allowances for potential credit losses based on the expected collectability of its accounts receivable. To date, such losses have been reclassified to conform towithin management’s expectations. At March 31, 2008 and December 31, 2007, respectively, SumTotal Systems had no customers that accounted for greater than 10% of accounts receivable, net of allowance for sales returns and doubtful accounts. One customer accounted for 15% of total revenue in the 2007 presentation. These reclassifications have no material impact on previously reported net loss.three-months ended March 31, 2008. No customers accounted for greater than 10% of total revenue in the three-months ended March 31, 2007.

Revenue ClassificationRecognition

SumTotal Systems derives itsrecognizes revenue from three sources: (1) the salesmaintenance, support services and subscription fees from clients accessing its on-demand software and hosting arrangements, all of on-demandwhich SumTotal Systems refers to as subscriptions maintenance and support services, hosting arrangements, and term license rental arrangements;sales, (2) the sales of services performed in connection with consulting agreementsarrangements, and other “service transactions” as defined in(3) sales of software licenses and related products. Revenue derived from software licenses and related products is subject to the guidance and requirements of American Institute of Certified Public Accountants (“AICPA”) Statement of Position (“SOP”) No. 97-2,Software Revenue Recognition, as amended; and (3) the sales of software licenses and related royalty arrangements.

amended by SOP No. 98-9,Software Revenue Recognition with Respect to Certain Arrangements

. Revenue from SumTotal Systems’ on-demand subscriptions is recognized in accordance with SEC Staff Accounting Bulletin (“SAB”) No. 101,104,Revenue Recognition in Financial Statements, as amended by SAB No. 104,Revenue Recognition.Revenue derived from software products is subject to the guidance and requirements of SOP No. 97-2, as amended by SOP No. 98-9,Software Revenue Recognition with Respect to Certain Arrangements. In the event of a multiple element arrangement, SumTotal Systems evaluates the transaction as if each element represents a separate unit of accounting taking into account all factors following the guidelines set forth in SOP No. 97-2 and the Financial Accounting Standards Board (“FASB”) Emerging Issues Task Force Issue (“EITF”) No. 00-21,Accounting for Revenue Arrangements with Multiple Deliverables. In accordance with these standards, SumTotal Systems recognizes revenue when all of the following four conditions are met:

4.

Collection is probable. SumTotal Systems conducts a credit review for all significant transactions at the time of the arrangement to determine the creditworthiness of the customer. Collection is deemed probable if SumTotal Systems expects that the customer will be able to pay amounts under the arrangement as payments become due. If SumTotal Systems determines that collection is not probable, SumTotal Systems defers the recognition of revenue until cash collection.

SumTotal Systems sells both perpetual and term-based software licenses. SumTotal Systems’ customers may or may not purchase with licenses the following: (i) support services that provides for technical support and product updates, generally over renewable 12-month periods, (ii) professional services including consulting and training, and (iii) hosting. Depending upon the elements and the terms of the arrangement, SumTotal Systems recognizes license revenues under the residual method or the contract accounting method.

Residual Method.License fees are recognized upon delivery whether sold separately or together with other services, described above, provided that: (i) the revenue recognition above have been met, (ii) payment of the license fees is not dependent on any implementation or performance criteria, (iii) the related services do not contain any acceptance provisions, and (iv) services are not essential to the functionality of the software. In these cases, SumTotal Systems recognizes license revenue utilizing the residual method, as prescribed in SOP No. 97-2, as amended by SOP No. 98-9. Under the residual method, revenue is recognized when vendor-specific objective evidence of fair value exists for all of the undelivered elements in the arrangement (i.e.: maintenance, professional services and hosting), but does not exist for one or more of the delivered elements in the arrangement (i.e.: software license). Under the residual method, SumTotal Systems defers the fair value of undelivered elements and the remainder of the arrangement fee is then allocated to the delivered elements and is recognized as revenue assuming the other revenue recognition criteria are met. Each license arrangement requires careful analysis to ensure that all of the individual elements in the license transaction have been identified, along with the fair value of each undelivered element.

SumTotal Systems allocates revenue to each undelivered element based on its fair value, with the fair value determined by the price charged when that element is sold separately. If evidence of fair value cannot be established for the undelivered elements of a license agreement, the entire amount of revenue from the arrangement is deferred until evidence of fair value can be established, or until the items for which evidence of fair value cannot be established are delivered. If the only undelivered element is maintenance or hosting, then the entire amount of revenue is recognized over the delivery period.

Vendor-specific objective evidence is established for most maintenance and hosting of SumTotal Systems’ products based upon the amounts SumTotal Systems charges when maintenance and hosting are sold separately. Vendor-specific objective evidence for maintenance in arrangements where license value is greater than one million dollars, SumTotal Systems utilizes the contractual stated renewal rate, provided that the stated renewal rate is considered substantive.

Partner Arrangements.Distributors, resellers and systems integrators purchase products for specific projects of the end-user and do not hold inventory. They perform functions that include importation, delivery to the end-customer, installation or integration and post-sales service and support. The agreements with these partners have terms which are generally consistent with the standard terms and conditions for the sale of SumTotal Systems’ software to end-users and do not provide for product rotation or pricing allowances, as are typically found in agreements with stocking distributors. Revenue on shipments to SumTotal Systems’ partners is generally recognized on sell-through after the end user has been identified and the product has been delivered.

Contract Accounting Method.Where the services are essential to the functionality of the software element of the arrangement and separate accounting for the services is not permitted, contract accounting is applied to both the software and service elements. For these projects, revenue is recognized in accordance with SOP No. 81-1,Accounting for Performance of Construction Type and Certain Production Type Contracts, typically on.

Typically, a percentage-of-completion basis asis evidenced by labor hourscosts incurred compared to estimated total labor hours.costs to complete the project. The application of the appropriate accounting principle to SumTotal Systems’ revenue is dependent upon the specific transaction and whether the sale includes software and software-related products, on-demand subscriptions, services, or a combination of these items.

For all sales, revenue attributable to an element in a customer arrangement is recognized when persuasive evidence of an arrangement exists and delivery has occurred, provided the fee is fixed or determinable and collectability is reasonably assured.

SumTotal Systems typically uses either a binding purchase order or signed agreement, depending onutilizes the nature of the transaction, as evidence of an arrangement. In addition, sales through its significant resellers are evidenced by a master agreement governing the relationship.

At the time of each transaction, SumTotal Systems assesses whether the fees associated with the transaction are fixed or determinable. If a significant portion of a fee is due after SumTotal Systems’ normal payment terms, currently upcost basis alternative to net ninety days (payment terms beyond ninety days are considered to be extended terms), or if the price is subject to refund or forfeiture, concession or other adjustment, then SumTotal Systems considers the fee to not be fixed or determinable. In these cases,allocate revenue is deferred and recognized when payments become due and payable, or the right to refund or adjustment lapses.

SumTotal Systems assesses whether or not collection is reasonably assured based on a number of factors including the creditworthiness of the customer as determined by credit checks and analysis, past transaction history, the geographic location and financial viability. SumTotal Systems does not request, nor does it require, collateral from customers. If the determination is made at the time of the transaction that collection of the fee is not reasonably assured, then all of the related revenue is deferred until the time that collection becomes reasonably assured.

SumTotal Systems uses shipping documents, proof of electronic transmittal, contractual terms and conditions and customer acceptance, when applicable, to verify delivery to the customer. For perpetual software license fees in arrangements that do not include customization, consulting services, or the services are not considered essential to the functionality of the licenses, delivery is deemed to occur when the product is shipped, or the access key is provided, to the customer. Services and consulting arrangements that are not essential to the functionality of the licensed product are recognized as revenue as these services are provided. Delivery of on-demand subscriptions, hosting agreements and support agreements is generally considered to occur and revenue recognized on a straight-line basis over the life of the contract.

Allowances provided for estimated returns and discounts are recorded when the revenue is initially recognized and such allowances are adjusted periodically to reflect actual and anticipated experience.

Distributors, resellers and systems integrators purchase products for specific projects of the end-user and do not hold inventory. They perform functions that include importation, delivery to the end-customer, installation or integration and post-sales service and support. The agreements with these distributors and systems integrators have terms which are generally consistent with the standard terms and conditions for the sale of SumTotal Systems’ software to end users and do not provide for product rotation or pricing allowances, as are typically found in agreements with stocking distributors. Revenue on shipments to distributors, resellers and systems integrators is generally recognized on delivery or sell-in and after the end user has been identified.

Revenue from sales of third-party products, net of royalties to third-party companies, is recorded in accordance with EITF No. 99-19,Reporting Revenue Gross as a Principal versus Net as an Agent. In accordance with EITF No. 99-19, SumTotal Systems evaluates these sales on a case-by-case basis to determine whether the transaction should be recorded gross or net, including but not limited to assessing whether or not SumTotal Systems:

These sales are typically recorded on a gross basis.

Software Products

Sales of software products and related services that are subject to the guidance ofunder SOP No. 97-2 as amended by SOP No. 98-9 are recognized as follows:

For deliverables and multiple element arrangements subject to SOP No. 97-2, as amended by SOP No. 98-9, when Company-specific objective evidence of fair value exists for all of the undelivered elements of the arrangement, but does not exist for one of the delivered elements in the arrangement, SumTotal Systems recognizes revenue under the residual method. Under the residual method, at the outset of the arrangement with a customer, revenue is deferred for the fair value of its undelivered elements such as consulting services and product post contract support and revenue is recognized for the remainder of the arrangement fee attributable to the elements initially delivered, with the residual being allocated to delivered elements (typically software licenses), when all of the applicable criteria in SOP No. 97-2 have been met.

Company-specific objective evidence is established for hosting and support of standard products based upon the amounts SumTotal Systems charges when support and hosting are sold separately and/or renewals to other customers or upon renewal rates quoted in contracts when the quoted renewal rates are deemed substantive. Company-specific objective evidence is established for consulting and installation services based on the hourly rates SumTotal Systems charges for its employees when they are performing these services separately and provided SumTotal Systems has the ability to accurately estimate the hours required to complete the project based upon experience with similar projects.

Time-based license sales which always include post-contract support (“PCS”), may or may not include installation services that do not involve significant production, modification, or customization of software and may or may not include hosting services. These time-based license sales are recognized in accordance with paragraph 12 of SOP No. 97-2 because company-specific objective evidence of fair value does not exist for the related post contract support and in cases where SumTotal Systems provides hosting for the customer, for the hosting element. As these arrangements are in essence subscriptions, SumTotal Systems recognizes revenue for the entire arrangement fee ratably over the longest performance period of these elements beginning at the time the customer has been provided access to the time-based license and can utilize the software, and after all other criteria for revenue recognition have been met. Delivery of the time-based license is considered to occur at the time when the customer has been provided with the necessary logon and access information required to utilize the time-based license, delivery of the PCS and hosting is generally considered to occur on a straight-line basis over the term of the contract, and delivery of the services (if included in the arrangement) that do not involve significant production, modification, or customization of software, is considered to occur as these services are delivered.

Many of SumTotal Systems’ software contracts include consulting implementation services. Consulting revenue from certain of these contracts is generally accounted for separately from the perpetual license revenue because the consulting arrangements qualify as “service transactions” as defined in SOP No. 97-2. The more significant factors considered in determining whether the revenue should be accounted for separately include the nature of services (e.g., consideration of whether the services are essential to the functionality of the licensed product), degree of risk, availability of the same services from other vendors, timing of payments and impact of milestones or acceptance criteria on the realizability of the software license fee. Revenue for consulting services is generally recognized as the services are performed. If there is a significant uncertainty about the project completion date or receipt of payment for the consulting services, revenue is deferred until the uncertainty is sufficiently resolved.

SumTotal Systems recognizes revenue on contracts with fixed or “not-to-exceed” fees and those with billing milestones to the extent that SumTotal Systems has a basis for measuring progress to completion and provided that all other revenue recognition criteria have been met. If SumTotal Systems does not have a sufficient basis to measure progress towards completion, or if the service engagement is subject to final customer acceptance, then revenue is recognized when SumTotal Systems has completed all its obligations and/or received final acceptance from the customer. If SumTotal Systems has a sufficient basis to measure progress towards completion and the service engagement is not subject to final customer acceptance, then revenue is recognized as the services are provided or by using input measures based on hours to complete, not to exceed milestone billings.

For arrangements that require significant customization, modification or production of the software, or where software services are otherwise considered essential and separate accounting for the services is not permitted, SumTotal Systems recognizes revenue using contract accounting for both the software and service elements. For these projects, revenue is recognized in accordance with SOP No. 81-1, typically on a percentage-of-completion basis as evidenced by labor hours incurred to estimated total labor hours. The percentage-of-completion methodology generally results in the recognition of reasonably consistent profit margins over the life of the contract since81-1. SumTotal Systems has the ability to produce reasonably dependable estimates of contract billings and contract costs. Amounts recognized in revenue are calculated using the progress-to-completion measurement after giving effect to any changes in cost estimates. Changes to total estimated contract costs, if any, are recorded in the period they are determined.

Estimated losses on uncompleted contracts are recorded in the period in which it is first determined that a loss is apparent. Amounts billed in excess of revenue recognized are recorded as deferred revenue in the accompanying consolidated balance sheets. Revenue recognized in accordance with SOP No. 81-1 is allocated for classification purposes in the statement of operations between license and service revenues based on an estimate of the fair value of the service portion of the arrangement as indicated by rates that SumTotal Systems separately sells similar services and use of the residual method for the license component.

The cost of providing these services consists primarily of fully burdened cost of SumTotal Systems’ service organization and to some extent, the cost SumTotal Systems pays to third party contractors who provide these services on SumTotal Systems’ behalf. When total cost estimates exceed revenue, SumTotal Systems accrues for the estimated losses immediately based upon an average fully burdened daily rate applicable to the consulting organization delivering the services. The complexity of the estimation process and issues related to the assumptions, risks and uncertainties inherent with the application of the percentage of completion method of accounting affect the amounts of revenue and related expenses reported in SumTotal Systems’ operating results. A number of internal and external factors can affect SumTotal Systems’ estimates, including labor rates, utilization and efficiency variances and specification and testing requirement changes. Professional services from time and materials contracts and training services, along with the related costs are recognized as these services are performed.

Revenue from maintenanceMaintenance and support agreements isHosting Revenue

These arrangements are recognized on a straight-line basis over the life of the contract. Customers with perpetual or time-based licenses may also outsource to SumTotal Systems the hosting of their system on a SumTotal Systems’ server or a third party’s server for a monthly fee and an initial set-up fee. Based on the criteria outlined in EITF No. 00-03,Application of AICPA SOPStatement of Position 97-2 Software Revenue Recognition, to Arrangements thatThat Include the Right to Use Software Stored on Another Entity’s Hardware, SumTotal Systems has determined that the vast majority of itsSumTotal Systems’ hosting arrangements are within the scope of SOP No. 97-2. The applicability of EITF No. 00-03 allows SumTotal Systems to recognize that portion of the fee attributable to the license on delivery, while that portion of the fee related to the hosting element iswould be recognized ratably as the service is provided, assuming all other revenue recognition criteria of SOP No. 97-2 have been met. In cases where the hosting arrangement falls outside of the scope of SOP No. 97-2, SumTotal Systems appliesrecognizes the arrangement ratably under the provisions of SAB No. 104, to the arrangement. The costs of these services are recognized as incurred and included as a component in costs of services revenue.Revenue Recognition.

On-Demand Subscriptions

These are subscriptionsIn hosted arrangements where the customer has purchased a bundled product that includes the use of a license over a term, hosting, maintenance and support and consulting services, and are all reported as service revenue. Under the terms and conditions of these on-demand sales, SumTotal Systems’ customers can only access services via SumTotal Systems’ hosted environment and they do not have the right of refund once their term has commenced. Therefore, these customers do not have the right to take possession of the software at any time during the hosting period without significant penalty, nor is it feasible for these customers to run the software on their own hardware or contract with another party unrelated to SumTotal Systems to host the software. In accordance withprovides its software applications as a service, SumTotal Systems considered EITF No. 00-03rrangements and concluded that do not give the customer such optionsgenerally these transactions are considered service contractsarrangements and arefall outside of the scope of SOP No. 97-2. Accordingly, SumTotal Systems recognizes revenuefollows the provisions of SAB No. 101, SAB No. 104 and EITF No. 00-21.Customers will typically prepay for these services, amounts which SumTotal Systems will defer and recognize ratably over the non-cancelable term of the customer contract. In addition to the hosting services, these arrangements may also include set-up fees which are sold at a fixed fee and/or customizations which are billed on a time-and-materials basis. SumTotal Systems recognizes the revenue from these services ratably over the term of the expected customer relationship once the implementation is complete and the customer has access to the software. In addition, SumTotal Systems defers the direct and incremental costs of the implementation and configuration services and amortizes those costs over the same time period as the related revenue is recognized. If the direct costs incurred for a contract exceed the non-cancelable contract value, then SumTotal Systems will recognize a loss for incurred and projected direct costs in excess of the contract value as a period expense.

Allowance for Sales Returns and Doubtful Accounts

SumTotal Systems assesses the credit worthiness of its customers based on multiple sources of information and analyzes such factors as its historical bad debt experiences, industry and geographic concentrations of credit risk, economic trends and changes in customer payment terms. This assessment requires significant judgment. Because of this assessment, which covers the sales of all SumTotal Systems’ products and services, SumTotal Systems maintains an allowance for doubtful accounts for potential future estimated losses resulting from the inability of certain customers to make all of their required payments. In making this estimate, SumTotal Systems analyzes historical payment performance, current economic trends, changes in customer demand of its products when evaluating the adequacy of the allowance for sales returns and doubtful accounts. If the financial condition of its customers or any of the other factors SumTotal Systems uses to analyze credit worthiness were to worsen, additional allowances may be required, resulting in future operating losses that are not included in the allowance for doubtful accounts at March 31, 2008. A reserve for future sales returns is also established based on historical trends in product return rates and is recorded as a reduction to SumTotal Systems’ revenue and accounts receivable. Accounts receivable are written-off to revenue or the allowance for doubtful accounts when all collection efforts have been exhausted and it is deemed uncollectible.

Commissions

Commissions are generally expensed as they become payable per the terms of the sales compensation plans. SumTotal Systems’ ResultsOnDemand commissions are deferred and amortized to sales expense over the noncancelable term of its related subscription contracts with its customers, which are typically 12 to 36 months.

Property and Equipment

Property and equipment are stated at cost. Depreciation and amortization are calculated using the straight-line method over the estimated useful lives of the related assets. Computer equipment and software have estimated useful lives typically ranging from between three to five years. Furniture and fixtures have useful lives typically of five years. Leasehold improvements and assets acquired under capital leases are amortized on a straight-line basis over the term of the lease, or the estimated useful life of the assets, whichever is shorter. Maintenance and repairs are charged to expense as incurred and improvements and betterments are capitalized. When assets are retired or otherwise disposed of, the cost and accumulated depreciation and amortization are removed from the accounts and any resulting gain or loss is reflected in the statement of operations for the period realized.

Impairment of Long-Lived Assets

Long-lived assets, such as property, plant and equipment and purchased intangible assets subject to amortization, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable in accordance with SFAS No. 144,Accounting for the guidance providedImpairment or Disposal of Long-Lived Assets. Recoverability of assets to be held and used is measured by SAB No. 104. This revenue is included as a componentcomparison of service, maintenance and other revenue on the accompanying consolidated statementcarrying amount of operations.

Based on the guidance of EITF No. 00-21, SumTotal Systems notes that the individual elements contained within each on-demand subscription sale do not have valuean asset group to the customer on a stand-alone basis. As these specific elements are currently only providedestimated undiscounted future cash flows expected to be generated by SumTotal Systems and are not sold separately, SumTotal Systems does not have evidencethe asset group. If the carrying amount of an asset group exceeds its estimated future cash flows, an impairment charge is recognized in the amount by which the carrying amount of the asset group exceeds the fair value of the asset group.

Business Combinations

In accordance with SFAS No. 141,Business Combinations, the acquisitions discussed in Note 3,Acquisitions and Intangible Assets, in the Notes to the Condensed Consolidated Financial Statements have been accounted for these elements. Further, as these customers are in fact purchasing an ongoing service activity and not discrete setup activities,under the sales of SumTotal Systems’ on-demand subscriptions are considered to be a single unitpurchase method of accounting in accordance with specific guidance. As these services are performed continuously throughand include the contractual termresults of operations of the arrangement revenue is recognized ratablyacquired businesses since the date of acquisition. Net assets of the companies acquired were recorded at their estimated fair value as of the date of acquisition.

Goodwill and Intangible Assets

Goodwill represents the excess of costs over the contractual term as there is no other discernable patternnet fair value of service delivery and no other evidence suggesting that the revenue is earned or that the obligations are fulfillednet identifiable assets acquired in a different pattern.

Transactions including both Software Products and On-Demand Subscriptions

For multiple element arrangements that contain both software products and on-demand subscriptions, SumTotal Systems evaluatesbusiness combination. Goodwill is not amortized, but is instead tested for impairment at least annually, typically during the arrangement based on EITF No. 03-05,Applicability of AICPA Statement of Position 97-2 to Non-Software Deliverablesfourth quarter, in an Arrangement Containing More-Than-Incidental Software. In accordance with the provisions of EITFSFAS No. 03-05, when142,Goodwill and Intangible Assets. The goodwill impairment test is a two-step test. Under the arrangement contains one or more deliverables for which the functionality is not dependent on the software, the arrangement fee is allocated between the “non-software” and software deliverables in accordance with EITF No. 00-21 if the following criteria are met:

asset group. If the above criteria are met, SumTotal Systems allocates the arrangement fee to the delivered items using the residual value method. Revenue for the elements whose functionality is not dependent upon the delivered softwarecarrying amount of an asset group exceeds its estimated future cash flows, an impairment charge is recognized in accordance with SAB No. 104the amount by which the carrying amount of the asset group exceeds the fair value of the asset group.

Restructuring Costs and revenueAccruals for software elements is recognizedExcess Facilities

Restructuring costs and accruals for excess facilities are accounted for in accordance with SFAS No. 146, Accounting for Exit or Disposal Activities,as a liability for costs associated with an exit or disposal activity is recognized and measured initially at fair value only when the liability is incurred. Refer to Note 6,Restructuring, in the Notes to the Condensed Consolidated Financial Statements.

Capitalized Software

Costs related to internally developed software and software purchased for internal use, are capitalized pursuant to SOP No. 97-2. If the above criteria are not met, all deliverables are considered a single unit98-1,Accounting for Costs of accountingComputer Software Developed or Obtained for Internal Use. SumTotal Systems will capitalize qualifying internal payroll and revenue is normally recognized in accordance with SOP No. 97-2. The subscription fees from clients accessing SumTotal Systems’ on-demand softwareexternal contracting and consulting servicescosts related to the development of internal use software after the conceptualization and formulation stage has been completed. SumTotal Systems ceases capitalization at the time the software is placed in service and amortizes such costs which are recognizedincluded in accordance with SAB No. 104.

Deferred Revenue

Deferred revenue represents advanced payments for software licenses, services, maintenanceproperty, plant and support, subscription services and hosting arrangements in advanceequipment over the estimated useful life of the time SumTotal Systems recognizes revenue. These deferred amounts are expectedsoftware.

Advertising

Costs related to be recognizedadvertising and promotion of products is charged to sales and marketing expense as revenue based on the revenue policy outlined above.incurred.

Income Taxes

In June 2006,Income taxes are accounted for under the FASB issued Interpretation (“FIN”) No. 48,Accounting for Uncertainty in Income Taxes. FIN No. 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statementsasset and liability method in accordance with Statement of Financial Accounting Standards (“SFAS”)SFAS No. 109,Accounting for Income Taxes. This interpretation prescribes a recognition thresholdDeferred tax assets and measurement attribute forliabilities are determined based on the difference between the financial statement recognition and measurementtax basis of aassets and liabilities using enacted tax position taken orrates in effect for the year in which the differences are expected to be taken in a tax return. FIN No. 48 also provides guidancerecovered or settled. The effect on de-recognition of tax benefits, classification on the balance sheet, interest and penalties, accounting in interim periods, disclosure, and transition. SumTotal Systems adopted FIN No. 48 effective January 1, 2007.

As a result of the implementation of FIN No. 48, SumTotal Systems recognized a $0.3 million increase in liability for unrecognized tax benefits, which was accounted for as a $0.2 million reduction to the January 1, 2007 balance of retained earnings and as a $0.1 million increase in deferred tax assets . SumTotal Systems hasand liabilities of a liability for unrecognizedchange in tax benefits of approximately $0.3 million as of January 1, 2007, all of which ifrates is recognized would result in a reduction of SumTotal System’s effective tax rate. SumTotal Systems recorded no increase to its liability for unrecognized tax benefits as of September 30, 2007. In accordance with FIN No. 48, SumTotal Systems has decided to classify interest and penalties related to income taxes as a component of income tax expense. Interest and penalties are immaterial at the date of adoption and are included in the unrecognizedperiod that includes the enactment date. Valuation allowances are established when necessary to reduce deferred tax benefits. SumTotal Systems is subjectassets to audit by various taxing authorities for open returns from 2000 through 2006.amounts expected to be realized.

Net LossIncome (Loss) Per Share

Basic and diluted net lossincome (loss) per share is computed by dividing the net lossincome (loss) for the period by the weighted average number of shares of common stock outstanding during the period, less outstanding unvested shares. For the three and nine-months ended September 30, 2007, 92,500 shares held in escrow for the MindSolve acquisition are not included in the weighted average numberThe calculation of common shares outstanding during the period for both basic and diluted net loss per share. For the three and nine-months ended September 30, 2006, 391,665 shares held in escrow for the Pathlore acquisition were not included in the weighted average number of common shares outstanding during the period for both basic and diluted net loss per share. As SumTotal Systems had a net loss for each of the periods presented, basic and diluted net lossincome per share are the same since the inclusion ofincludes potential dilutive common stock would be anti-dilutive.shares. Potential dilutive common shares are comprised of common stock subject to repurchase rights, incremental shares of common and preferred stock issuable upon the exercise of stock options or warrants and shares issuable upon conversion of convertible preferred stock.

The following table sets forth the computation of basic and diluted net lossincome (loss) per share for the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007 and 2006 (in thousands, except per share amounts):

The following table sets forth the common stock options and warrants that have been excluded from the computation of diluted lossincome (loss) per share because their effects would have been anti-dilutive due to exercise prices being in excess of market price for the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007 and 2006 (in thousands, except weighted average prices)per option and warrant amounts):

For the three-months ended March 31, 2007, SumTotal Systems had 4,197,100 options with exercise prices below the weighted average fair market value of common stock for the period which were excluded from diluted weighted average shares calculation because of SumTotal Systems’ net loss position in the period.

Comprehensive LossIncome (Loss) and Accumulated Other Comprehensive LossIncome (Loss)

The following table sets forth the components of comprehensive loss for the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007 and 2006 presented below (in thousands):

SumTotal Systems’ total comprehensive lossincome (loss) for the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007 and 2006 consisted of net loss, unrealized losses on investments and the change in foreign currency translation adjustments.adjustments and unrealized gain/loss on investments. The tax effects on the foreign currency translation adjustments have not been significant. Accumulated other comprehensive loss at March 31, 2008, consists of foreign currency translation loss adjustments of $336,000$37,000 and $332,000 at September 30, 2007 and December 31, 2006, respectively, and an unrealized gainloss on investments of $11,000 at September 30, 2007.$3,000.

Stock-Based Compensation

On January 1, 2006, SumTotal Systems adopted SFAS No. 123R,Share BasedShare-Based Payment, which establishes standards for the accounting of transactions in which an entity exchanges its equity instruments for goods or services, primarily focusing on accounting

for transactions where an entity obtains employee services in share-based payment transactions. SFAS No. 123R requires a public entity to measure the cost of employee services received in exchange for an award of equity instruments, including stock options, based on the grant-date fair value of the award and to recognize it as compensation expense over the period the employee is required to provide service in exchange for the award, usually the vesting period. SFAS No. 123R supersedes SumTotal Systems previous accounting under Accounting Principles Board Opinion (“APB”) No. 25,Accounting for Stock Issued to Employees, for periods beginning in fiscal year 2006. In March 2005, the SEC issued SABStaff Accounting Bulletin (“SAB”) No. 107Share-Based Payment, relating to SFAS No. 123R. SumTotal Systems applied the provisions of SAB No. 107 and SAB No. 110 in the adoption of SFAS No. 123R.

SumTotal Systems adopted SFAS No. 123R using the modified prospective transition method. In accordance with the modified prospective transition method, which requires the application of the accounting standard as of January 1, 2006, the first day of fiscal 2006. The consolidated financial statements as offor prior periods have not been restated to reflect and for the year ended December 31, 2006 reflectdo not include, the impact of SFAS No. 123R.

SFAS No. 123R requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in SumTotal Systems’ consolidated statement of operations. SFAS No. 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The estimated forfeiture rates the three-months ended March 31, 2008 and 2007 were 10.54% and 11.85%, respectively, and were based on historical compound annual forfeiture experience.

The fair value of stock-based awards to employees is calculated using the Black-Scholes option pricing model, even though this model was developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which differ significantly from SumTotal Systems’ stock options. The Black-Scholes model also requires subjective assumptions, including future stock price volatility and expected time to exercise, which greatly affect the calculated values. The expected term of options granted during fiscal year 2007 was derived from the use of the simplified method under SAB No. 107 and the expected term of options granted subsequent to December 31, 2007, as governed by SAB No. 110. SAB No. 110 expresses the views of the SEC staff regarding the use of a “simplified” method, as discussed in SAB No. 107, in developing an estimate of expected term of “plain vanilla” share options in accordance with SFAS No. 123R. In particular, the staff indicated in SAB 107 that it will accept a company’s election to use the simplified method, regardless of whether the company has sufficient information to make more refined estimates of expected term. At the time SAB 107 was issued, the staff believed that more detailed external information about employee exercise behavior (e.g., employee exercise patterns by industry and/or other categories of companies) would, over time, become readily available to companies. Therefore, the staff stated in SAB 107 that it would not expect a company to use the simplified method for share option grants after December 31, 2007. The staff understands that such detailed information about employee exercise behavior may not be widely available by December 31, 2007. Accordingly, the staff will continue to accept, under certain circumstances, the use of the simplified method beyond December 31, 2007. The risk-free rate is based on the U.S. Treasury rates in effect which most closely corresponds to a period of grant. The expected volatility is based on the historical volatility of the stock price over a period at least as long as the expected term of the options. These factors could change in the future, which would affect the stock-based compensation expense in future periods.

Valuation and Expense Information underUnder SFAS No. 123R

The weighted-average fair value of stock-based compensation to employees is based on the single option valuation approach. Forfeitures are estimated based on historical experience and it is assumed no dividends will be declared. The estimated fair value of stock-based compensation awards to employees is amortized using the straight-line method over the vesting period of the options, except for restricted stock, which is amortized on a multi-option accelerated method, consistent with the prior year.options.

The weighted-average fair value calculations for options granted within the period below are based on the following weighted average assumptions:

assumptions set forth in the table below. Options that were granted in prior periods are based on assumptions prevailing at the date of grant.

The weighted-average fair value calculations for SumTotal Systems’ employee stock purchase planEmployee Stock Purchase Plan (“ESPP”) shares within the periods belowperiod are based on the following weighted average assumptions:

The following table summarizes stock-based compensation expense related to employee stock options, shares associated with the ESPP and restricted stock and units under SFAS No. 123R for the three-monthsthree-month periods ended September 30,March 31, 2008 and 2007 and 2006, respectively, and werewhich was allocated as follows (in thousands):

The following table summarizes stock-based compensation expense related to employee stock options, ESPP and restricted stock units under SFAS No. 123R for the nine-months ended September 30, 2007 and 2006, respectively, and were allocated as follows (in thousands):

		Three-Months Ended March 31,
		2008			2007
Subscriptions and support		$	70		$	60
Service			150			137
Total costs of revenue			220			197
Research and development			175			138
Sales and marketing			355			275
General and administrative			469			442
Stock-based compensation included in operating expenses			999			855
Total stock-based compensation expense		$	1,219		$	1,052

A summary of option activity under SumTotal Systems’ stock equity plans during the nine-monthsthree-months ended September 30, 2007March 31, 2008 is as follows:

A summary of the status of the changes in SumTotal Systems’ restricted stock during the three-months ended March 31, 2008 is as follows:

A summary of the status of the changes in SumTotal Systems’ restricted stock units during the nine-monthsthree-months ended September 30, 2007March 31, 2008 is as follows:

The following table summarizes significant ranges of outstanding and exercisable options as of September 30, 2007:

		Number of Shares (in thousands)		Weighted Average Grant Date Fair Value
Non-vested restricted share units at December 31, 2007		67		$	4.17
Granted		170			4.68
Vested		—			—
Cancelled		—			—
Non-vested restricted share units at March 31, 2008		237		$	4.54

The total intrinsic value of options exercised during the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007, was approximately $59,000$54,000 and $909,000,$652,000, respectively. The total intrinsic value of shares issued under the employee stock purchase plan during the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007, was approximately $98,000$40,000 and $239,000,$141,000, respectively. The fair value of options vested during the three-months ended March 31, 2008 and restricted shares vested2007, was approximately $921,000$1.1 million and $2,926,000 for the three and nine-months ended September 30, 2007,$0.9 million, respectively. As of September 30, 2007,March 31, 2008, total unrecognized compensation costs related to non-vested stock options, restricted stock and restricted stock units was $10.9$10.3 million, which is expected to be recognized as expense over a weighted average period of approximately 2.72.3 years. The weighted average grant date fair value of options granted in the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007, was $4.48$3.30 and $5.55,$6.03, respectively.

Adoption of Other Accounting Standards

In February 2006, the FASBFinancial Accounting Standards Board (“FASB”) issued SFAS No. 155, Accounting for Certain Hybrid Instruments, which permits, but does not require, fair value accounting for any hybrid financial instrument that contains an embedded derivative that would otherwise require bifurcation in accordance with SFAS No. 133,Accounting for Derivative Instruments and Hedging Activities. The statement was adopted as of January 1, 2007 and did not have a material impact on SumTotal Systems’ results of operations and financial condition.

In September 2006, the SEC issued SAB No. 108,Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, which provides guidance on how prior year misstatements should be taken into consideration when quantifying misstatements in current year financial statements for purposes of determining whether the current year’s financial statements are materially misstated. SAB No. 108 was adopted as of January 1, 2007 and did not have a material impact on SumTotal Systems’ results of operations and financial condition.

In June 2006, theEffective January 1, 2007, SumTotal Systems adopted FASB issued FINInterpretation (“FIN”) No. 48,Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109, which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109.109,Accounting for Income Taxes. This interpretation prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN No. 48 also provides guidance on de-recognition of tax benefits, classification on the balance sheet, interest and penalties, accounting in interim periods, disclosure, and transition. SumTotal Systems adopted FIN No. 48 effective January 1, 2007.

As a result ofIn the implementation of FIN No. 48,three-months ended March 31, 2008, SumTotal Systems recognized a $0.3 million increase in liability$6,000 adjustment for interest expense related to the unrecognized tax benefits which was accounted for as a $0.2 million reduction to the January 1, 2007 balance of retained earnings and as a $0.1 million increase in deferred tax assets. SumTotal Systems has a liability for unrecognized tax benefits of approximately $0.3 million as of January 1, 2007, all of which if recognized would result in a reduction of SumTotal System’s effective tax rate. SumTotal Systems recorded no increase to its liability for unrecognized tax benefits as of September 30, 2007.previously. In accordance with FIN No. 48, paragraph 19, SumTotal Systems has decided to classify interest and penalties related to income taxes as a component of income tax expense. Interest and penalties are immaterial at the date of adoption and are included in the unrecognized tax benefits. SumTotal Systems is subject to audit by various taxing authorities for open returns from 2000 through 2006.

Recent Accounting Pronouncements2007.

In September 2006, the FASB issued SFAS No. 157,Fair Value Measurements. This statement clarifies the definition ofMeasurements. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles (“GAAP”) and expands the disclosures onabout fair value measurements. The FASB has issued a proposed interpretation that would defer the implementation of SFAS No. 157 isfor non-financial assets and liabilities until fiscal years beginning after November 15, 2008. The remaining provisions of SFAS No. 157 are effective for fiscal years beginning after November 15, 2007 which would be SumTotal Systems’and interim periods within those fiscal year 2008 beginningyears. On January 1, 2008.2008, SumTotal Systems is currently evaluating the impact of adoptingadopted SFAS No. 157 which did not have a material impact on its financial statements.position and results of operations.

SFAS No. 157 establishes a valuation hierarchy for disclosure of the inputs to valuation used to measure fair value. This hierarchy prioritizes the inputs into three broad levels as follows:

A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.

The following table provides the assets and liabilities carried at fair value measured on a recurring basis as of March 31, 2008:

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements, an amendment of ARB No. 51. SFAS No. 160 changes the accounting for noncontrolling (minority) interests in consolidated financial statements including the requirements to classify noncontrolling interests as a component of consolidated stockholders’ equity, and the elimination of “minority interest” accounting in results of operations with earnings attributable to noncontrolling interests reported as part of consolidated earnings. Additionally, SFAS No. 160 revises the accounting for both increases and decreases in a parent’s controlling ownership interest. SFAS No. 160 is effective for fiscal years beginning after December 15, 2008, with early adoption prohibited. SumTotal Systems will be required to adopt SFAS No. 160 in the first quarter of fiscal year 2009. SumTotal Systems does not expect the adoption of SFAS No. 160 to have a material effect on its operations or financial condition.position.

In December 2007, the SEC issued SAB No. 110, which expressed the views of the SEC staff regarding the use of a “simplified” method, as discussed in SAB No. 107, in developing an estimate of expected term of “plain vanilla” share options in accordance with SFAS No. 123R. In particular, the staff indicated in SAB No. 107 that it will accept a company’s election to use the simplified method, regardless of whether SumTotal Systems has sufficient information to make more refined estimates of expected term. At the time SAB No. 107 was issued, the staff believed that more detailed external information about employee exercise behavior would, over time, become readily available to companies. Therefore, the SEC staff stated in SAB No. 107 that it would not expect a company to use the simplified method for share option grants after December 31, 2007. The staff understands that such detailed information about employee exercise behavior may not be widely available by December 31, 2007. Accordingly, SAB No. 110 states that the staff will continue to accept, under certain circumstances, the use of the simplified method beyond December 31, 2007. SumTotal Systems does not expect the adoption of SAB No. 110 to have a material effect on its operations or financial position, although it is evaluating the potential impact.

NOTE 3: ACQUISITIONS AND INTANGIBLE ASSETS

MindSolve Acquisition

On November 14, 2006, SumTotal Systems acquired MindSolve, Technologies, Inc. (“MindSolve”), a leading provider of Performance Management products and services for the delivery and administration of performance appraisals, multi-source assessments, career and succession planning, goal tracking functions and accountability management.

The acquisition has been accounted for under the purchase method of accounting in accordance with SFAS No. 141,Business Combinations. Assets acquired and liabilities assumed were recorded at their estimated fair values as of November 14, 2006.

The total purchase price wasis $11,263,000 and is comprised of (in thousands):

The total purchase consideration washas been allocated to the assets and liabilities acquired, including identifiable intangible assets, based on their respective fair values at the acquisition date and resultedresulting in excess purchase consideration over the net tangible liabilities and identifiable intangible assets acquired less assessed liabilities of $6.2 million. The following condensed balance sheet data presents the estimated fair value of the assets and liabilities assumedacquired (in thousands):

Goodwill of $6.2 million, representing the excess of the purchase price over the fair value of tangible and identifiable intangible assets acquired in the acquisition, will not be amortized, but is instead tested for impairment at least annually.annually, consistent with the guidance in SFAS No. 142. In addition, a portion of the purchase price was allocated to the following identifiable intangible assets (in thousands, except years):

SumTotal Systems assigned $1.1 million to acquired in-process research and development (“IPR&D”) that had not yet reached technological feasibility and had no alternative future use and wrote off these assets as of the date of the acquisition in accordance with FIN No. 4,Applicability of FASB No. 2, Business Combinations Accounted for by the Purchase Method. To estimate the value of

the IPR&D, SumTotal Systems calculated the expected cash flows attributed to the completed portion of the IPR&D. These cash flows considered the contribution of the core and developed technologies, the risks related to the development of the IPR&D and the percent complete as of the valuation date as well as the expected life cycle of the technology. Finally, the cash flows attributed to the completed portion of the IPR&D, net of the core and developed technologies contribution, were discounted to the present value, using a discount rate of 20%, to estimate the value of the IPR&D. These projects were completed in 2007.

In connection with the MindSolve acquisition in November 2006, SumTotal Systems hasestablished two notes payable in the amount of $719,000 each to a former MindSolve officer. TotalThe remaining future obligations amountobligation at March 31, 2008 amounts to $1,438,000$719,000 and will be paid in two equal installments of $719,000 in November 2007 and 2008, respectively.December 2008. In addition, effectiveconnection with the MindSolve acquisition in November 2006, SumTotal Systems has change of control payments to be made to certain employees of MindSolve who are now employees of SumTotal Systems. These contractual changeschange of control payments and are being expensed ratably over the contractual performance period. Total remaining future obligations amount to $1,508,000 with$588,000 at March 31, 2008 and are scheduled paymentsto be paid in the fourth quarter of $920,000 and $588,000 in 2007 and 2008, respectively.2008.

The results of operations of MindSolve since November 14, 2006 are included in SumTotal Systems’ statement of operations.

NOTE 4: GOODWILL AND INTANGIBLE ASSETS

Goodwill and intangible assets at September 30, 2007March 31, 2008 and December 31, 20062007 are as follows (in thousands):

There was no impairment of goodwill or intangible assets for the threethree-months ended March 31, 2008 and nine-months ended September 30, 2007, and 2006, respectively.

The following represents the expected future amortization of intangible assets as of September 30, 2007March 31, 2008 (in thousands):

Amortization expense related to intangible assets was approximately $2.1 million$1,684,000 and $2.1 million$2,250,000 in the three-months ended September 30,March 31, 2008 and 2007, and 2006, respectively, and approximately $6.4 million and $6.6 million in the nine-months ended September 30, 2007 and 2006, respectively.

NOTE 5: BORROWINGS

The current portion of notes payable consists of the following (in thousands):

		March 31, 2008			December 31, 2007
Credit facility		$	4,375		$	4,375
Litigation settlement			1,133			1,116
MindSolve shareholder			681			666
Total current portion of notes payable		$	6,189		$	6,157

The non-current portion of notes payable consists of the following (in thousands):