Forward Looking Statements
The statements contained in the following discussion that are not purely historical are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including without limitation statements about the expectations, beliefs, intentions or strategies regarding the future of our business. Words such as "expects," "intends," "plans," "projects," "believes," "estimates," and similar expressions are used to identify these forward-looking statements. These include, among others, statements regarding our future expectations, performance, plans and prospects as well as assumptions about future events. All forward-looking statements included in this Quarterly Report on Form 10-Q are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements. The forward-looking statements contained herein involve risks and uncertainties discussed in Item 1A. "Risk Factors" of our Annual Report on Form 10-K for the fiscal year ended January 31, 2008. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of such factors, including those set forth in our Annual Report.

The following discussion should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended January 31, 2008 and the consolidated financial statements and notes thereto as filed with the Securities and Exchange Commission.

We provide vertical search services to trade publishers. Our technology and services help publishers to build a loyal online community and increase their internet advertising revenues. With the use of our vertical search services, our customers can create search engines customized to meet the specialized information needs of their audience by combining publisher proprietary content with an authoritative subset of the Web. On March 31, 2007, we agreed to sell the assets of our Enterprise Search business for $23.0 million in cash to FAST. This transaction closed on August 9, 2007 with FAST assuming certain obligations of the business and retaining certain employees serving its Enterprise Search customers. Accordingly, revenues and expenses and cash flows related to the Enterprise Search business have been reflected as discontinued operations in the accompanying Consolidated Statements of Operations and of Cash Flows for the six months ended July 31, 2007. See further discussion in Note 2, "Discontinued Operations" in the Notes to Consolidated Financial Statements.

Our principal source of revenue is provided through sales of our vertical search services to the websites of publishers of trade business and specialist publications. Our vertical search technology is a hosted application sold as a service to the publishers. We generate our revenues by receiving a percentage of publishers' advertising revenues earned by the search sites and by charging minimum fees for our vertical search and advertising services. Many of our contracts with publishers contain monthly minimum fees that we are entitled to receive until website advertising revenue generated by the publishers' search sites exceeds these monthly minimum amounts. We can also generate revenues from hosting publisher web sites and from providing technical staff training. We offer professional services to customize publisher web sites and optimize search engines, as well as web site monetization consulting.

We use an AT&T facility to host our vertical search offering. This facility, located in Dallas, TX, is operated under a master hosting arrangement that expires in July 2009. We also maintained a hosting facility in San Diego, CA, which was vacated on January 31, 2008 in an effort to appropriately scale our hosting infrastructure. We believe that our Dallas hosting center environment has sufficient equipment capacity and redundancy to host vertical search websites for 200 trade publications each with an average community of 40,000 users at competitive search performance levels, providing sufficient capacity to meet our current needs.

Trends

As of July 31, 2008, Convera has 75 vertical search websites with 26 separate publishers under contract, with 46 of these vertical search sites in production and 29 of the websites in development awaiting launch. At July 31, 2007, Convera had 51 vertical search websites from 13 publishers under contract, of which 16 were in production and 35 were in development awaiting launch.

Our strategy for fiscal 2009 is to continue to target the top 50 B2B publishers in the United States and United Kingdom, which have an estimated 2,000 plus relevant trade magazine titles that have the economic attributes necessary to support search-based websites. For both newly signed and current customers, our expectation is that the publishers will launch vertical search-based websites in a much shorter period of time than was typical in fiscal 2008 due to the release of version 2 of our Publisher Control Panel. The tools included in this version of the Publisher Control Panel shortens the time required to launch a site from six months to less than a month, which should translate into our receiving advertising based revenues sooner than in prior periods.

The majority of the revenues earned for fiscal year 2008 represented contract minimum amounts for hosted services. We expect continued growth in hosted service fee revenues, as our new and renewal contracts with publishers will typically contain a minimum service fee for our vertical search services. We expect advertising share based revenue growth as new and existing websites build traffic and subsequently increase their advertising sales.

We also have launched the Convera Ad Service ("CAS") as an integral part of our vertical search services, which should result in additional advertising share revenues for us. CAS will enable publishers to better manage the monetization of their professional communities' search experiences and increase the effectiveness of search-based revenues on their websites. CAS can also connect the publisher websites directly with the providers of advertising inventory, increasing the opportunities for the websites to grow their advertising revenues.

As a result of restructuring actions taken throughout fiscal 2008, the quarterly expense run rate has been reduced. The expense base during the first quarter of fiscal 2009 was lower as a consequence of these actions and we expect to receive further benefits during the remainder of fiscal year 2009. The combined reduction in expenses and increase in revenues should result in a decrease in the net loss from continuing operations in fiscal 2009.

Recently Issued Accounting Standards

In April 2008, the FASB issued FSP No. FAS 142-3, Determination of the Useful Life of Intangible Assets ("FSP No. 142-3") FSP No. 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). The objective of FSP No. 142-3 is to improve the consistency between the useful life of a recognized intangible asset under SFAS No. 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS No. 141(revised 2007), Business Combinations ("SFAS No. 141(R)") and other U.S. GAAP. FSP No. 142-3 applies to all intangible assets, whether acquired in a business combination or otherwise, and shall be effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years and should be applied prospectively to intangible assets acquired after the effective date. Early adoption is prohibited. We are in the process of evaluating FSP No. 142-3 and do not expect its adoption to have a significant impact on our consolidated financial statements.

In December 2007, the FASB issued SFAS No. 141(R). SFAS No. 141 (R) establishes principles and requirements for how the acquirer in a business combination should recognize and measure in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, recognize and measure the goodwill acquired in the business combination or a gain from a bargain purchase and determine what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The provisions of SFAS No. 141(R) shall be applied prospectively to business combinations with acquisition dates on or after the beginning of the first annual reporting period in which it is initially applied. SFAS No. 141(R) is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. We do not expect SFAS No. 141(R) to have a significant impact on our consolidated financial statements upon adoption.

Recently Adopted Accounting Standards

In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157 ("SFAS 157"), Fair Value Measurements. SFAS 157 provides guidance for measuring the fair value of assets and liabilities. It requires additional disclosures related to the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. It does not require any new fair value measurements. SFAS 157 became effective for us beginning February 1, 2008 and did not have a material impact on our consolidated results of operations and financial condition.

In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities - including an Amendment of SFAS No. 115" ("SFAS 159"), which permits an entity to measure many financial assets and financial liabilities at fair value that are not currently required to be measured at fair value. Entities that elect the fair value option will report unrealized gains and losses in earnings at each subsequent reporting date. The fair value option may be elected on an instrument-by-instrument basis, with few exceptions. SFAS 159 amends previous guidance to extend the use of the fair value option to available-for-sale and held-to-maturity securities. SFAS 159 also establishes presentation and disclosure requirements to help financial statement users understand the effect of the election. SFAS 159 became effective for us beginning February 1, 2008 and the adoption did not have a material impact on our consolidated results of operations and financial condition.

Related Party Transactions

John C. Botts, a member of the board of directors of Convera, is also Chairman of United Business Media PLC, the parent company of CMP Information LTD ("CMP"). CMP is a customer of Convera. Sales to CMP for the three and six months ended July 31, 2008 were $305,000 and $627,000, respectively. For the three and six months ended July 31, 2007 sales to CMP were $234,000 and $446,000, respectively. Amounts due from CMP were $522,000 and $170,000 as of July 31, 2008 and January 31, 2008, respectively. The outstanding balance at July 31, 2008 is expected to be paid in full within 60 days.

For the three months ended July 31, 2008, total revenues from continuing operations were $0.5 million, as compared to revenues of $0.3 million in the comparable period of the prior year. The loss from continuing operations for the three months ended July 31, 2008 was $3.6 million, or $(0.07) per common share, compared to a loss from continuing operations of $6.0 million, or $(0.11) per common share for the three months ended July 31, 2007. The net loss for the three months ended July 31, 2008 was $3.6 million, or $(0.07) per common share, as compared to a net loss of $6.2 million or $(0.12) per common share in the comparable period of the prior year.

For the six months ended July 31, 2008, total revenues from continuing operations were $0.9 million, as compared to revenues of $0.6 million in the comparable period of the prior year. The loss from continuing operations for the six months ended July 31, 2008 was $9.1 million, or $(0.17) per common share, compared to a loss from continuing operations of $13.8 million, or $(0.26) per common share for the six months ended July 31, 2007. The net loss for the six months ended July 31, 2008 was $9.1 million, or $(0.17) per common share, as compared to a net loss of $13.8 million or $(0.26) per common share in the comparable period of the prior year.

Three Months Ended July 31, 2008 as compared to July 31, 2007

The following chart summarizes the components of revenues and the categories of expenses, including the amounts expressed as a percentage of total revenues, for the three months ended July 31, 2008 and 2007.

                                           Components of Revenue and Expense            Increase
                                              Three Months Ended July 31,              (Decrease)
                                       2008           %         2007          %            %
Continuing Operations:

Revenue                             $      469        100 %   $    255        100 %           84 %

Expenses:
Cost of revenues                         1,854        395 %      2,071        812 %          -10 %
Sales and marketing                        772        165 %      1,193        468 %          -35 %
Research and product development         1,059        226 %        906        355 %           17 %
General and administrative               1,355        289 %      2,592       1016 %          -48 %
Total operating expenses                 5,040       1075 %      6,762       2652 %          -25 %

Operating loss                          (4,571 )                (6,507 )                     -30 %

Other income, net                          945                     478                        98 %

Loss before taxes                       (3,626 )                (6,029 )                     -40 %

Income tax expense ( benefit)                -                       -                         0 %

Loss from continuing operations         (3,626 )                (6,029 )                     -40 %

Discontinued Operations:
Loss from discontinued operations            -                    (186 )                    -100 %

Net loss                            $   (3,626 )              $ (6,215 )                     -42 %

Continuing Operations:

Revenues

Hosted services revenue from our vertical search services offering for the three months ended July 31, 2008 increased to $0.5 million from $0.3 million in the same period of the prior fiscal year due to an overall increase in the number of vertical search sites in production. As of July 31, 2008, there were a total of 46 Convera supported websites in production compared to 16 at the end of the second fiscal quarter last year.

Revenue from international operations is generated from publishers located primarily in the United Kingdom. Our international sales operation, Convera Technologies International, Ltd. ("CTIL"), is headquartered in the United Kingdom. International revenues were $0.4 million and $0.2 million for the three months ended July 31, 2008 and 2007, respectively.

One customer accounted for 65% of the revenues generated in the three months ended July 31, 2008 and accounted for 92% of the revenues generated during the three months ended July 31, 2007.

Operating Expenses:

Cost of Revenues

Our hosted services cost of revenue decreased 10% to $1.9 million for the three months ended July 31, 2008 from $2.1 million in the comparable period of the prior fiscal year. This decrease is principally attributable to a $0.2 million decrease in hosting costs due to the termination of the agreement with AT&T for the San Diego hosting center in January 2008 and a $0.1 million decrease in compensation expenses resulting from lower headcount stemming from the restructuring actions undertaken in fiscal 2008. These decreases were offset, in part, by a $0.1 million increase in depreciation and equipment costs resulting from assets acquired and placed into service throughout fiscal 2008 and the first quarter of fiscal 2009. Cost of revenue headcount decreased to an average of 20 for the second quarter of fiscal 2009 from an average of 21 in the comparable period of the prior year.

Sales & Marketing

Sales and marketing expense decreased 35% to $0.8 million for the three months ended July 31, 2008 from $1.2 million in the comparable period of the prior fiscal year. The decrease in sales and marketing expense is attributable to the combination of a decrease in compensation from lower staffing levels resulting from the restructuring actions taken throughout fiscal 2008 and lower marketing program costs. Sales and marketing head count decreased to an average of 8 for the second quarter of fiscal 2009 from an average of 13 for the comparable period of the prior fiscal year.

Research and Development

Research and product development costs increased 17% to $1.1 million for the three months ended July 31, 2008 from $0.9 million in the comparable period of the prior fiscal year. The increase in research and development costs is primarily due to increased stock compensation expense resulting from new grants for key members of the development team and from benefits realized in the second quarter of last fiscal year from the cumulative catch up adjustment credits from stock compensation forfeited in the restructuring in fiscal 2008. Research and development headcount decreased to an average of 21 for the second quarter of fiscal 2009 from an average of 25 for the comparable period of the prior year.

General and Administrative

General and administrative expense decreased 48% to $1.4 million for the three months ended July 31, 2008 from $2.6 million in the comparable period of the prior fiscal year. The decrease is principally due to a $1.1 million reduction in third-party legal, consulting and accounting fees which result from a reduction of legal actions and the completion of the sale of RetrievalWare in the third quarter of fiscal 2008. General and administrative headcount decreased to an average of 21 in the second quarter of fiscal 2009 from an average of 16 in the comparable period of the prior fiscal year.

Other income

Other income for the three months ended July 31, 2008 includes $0.7 million of income that had been previously deferred until the Company satisfied its contractual obligations, which occurred during the current quarter, and $0.2 million of interest income, which decreased 50% to $0.2 million during the three months ended July 31, 2008 from $0.5 million in the same period of the prior fiscal year. The decrease in interest income was due to the combined effects of a lower average cash balance and declining interest rates.

Discontinued operations:

Discontinued operations for the three months ended July 31, 2007 included a loss of $0.2 million. As the sale of the RetrievalWare enterprise search business was completed in August 2007, there was no business activity or operating results from discontinued operations during the three months ended July 31, 2008

Six Months Ended July 31, 2008 as compared to July 31, 2007

The following chart summarizes the components of revenues and the categories of expenses, including the amounts expressed as a percentage of total revenues, for the six months ended July 31, 2008 and 2007.

                                           Components of Revenue and Expense            Increase
                                               Six Months Ended July 31,               (Decrease)
                                      2008           %         2007           %            %
Continuing Operations:

Revenue                             $     871        100 %   $     579        100 %           50 %

Expenses:
Cost of revenues                        3,682        423 %       4,004        692 %           -8 %
Sales and marketing                     1,648        189 %       2,212        382 %          -25 %
Research and product development        2,293        263 %       2,195        379 %            4 %
General and administrative              3,424        393 %       6,915       1194 %          -50 %
Total operating expenses               11,047       1268 %      15,326       2647 %          -28 %

Operating loss                        (10,176 )                (14,747 )                     -31 %

Other income, net                       1,124                      969                        16 %

Loss before taxes                      (9,052 )                (13,778 )                     -34 %

Income tax expense ( benefit)               -                        -                         0 %

Loss from continuing operations        (9,052 )                (13,778 )                     -34 %

Discontinued Operations:
Loss from discontinued operations           -                      (20 )                    -100 %

Net loss                            $  (9,052 )              $ (13,758 )                     -34 %

Continuing Operations:

Revenues

Hosted services revenue from our vertical search services offering for the six months ended July 31, 2008 increased to $0.9 million from $0.6 million in the same period of the prior fiscal year due to an overall increase in the number of vertical search sites in production. As of July 31, 2008, there were a total of 46 Convera supported websites in production compared to 16 such sites at July 31, 2007.

Revenue from international operations is generated from publishers located primarily in the United Kingdom. Our international sales operation, Convera Technologies International, Ltd. ("CTIL"), is headquartered in the United Kingdom. International revenues were $0.8 million in the six months ended July 31, 2008 and were $0.5 million in the six months ended July 31, 2007.

One customer accounted for 72% and 77% of the revenues generated in the six months ended July 31, 2008 and 2007, respectively.

Operating Expenses:

Cost of Revenues

Our hosted services cost of revenue decreased 8% to $3.7 million for the six months ended July 31, 2008 from $4.0 million in the comparable period of the prior fiscal year. This decrease is attributable to a $0.5 million decrease in hosting costs due to the termination of the agreement with AT&T for the San Diego hosting center in January 2008 and a $0.3 million decrease in facilities costs and compensation expenses resulting from the restructuring actions undertaken in fiscal 2008. These decreases were offset, in part, by a $0.5 million increase in depreciation and equipment costs resulting from assets acquired and placed into service throughout fiscal 2008 and the first half of fiscal 2009. Cost of revenue headcount decreased to an average of 19 for the first six months of fiscal 2009 from an average of 21 in the comparable period of the prior year.

Sales & Marketing

Sales and marketing expense decreased 25% to $1.6 million for the six months ended July 31, 2008 from $2.2 million in the comparable period of the prior fiscal year. The decrease in sales and marketing expense is attributable to the combination of a decrease in compensation from lower staffing levels resulting from the restructuring actions taken throughout fiscal 2008 and lower marketing program expenditures. Sales and marketing head count decreased to an average of 9 for the first six months of fiscal 2009 from an average of 12 for the comparable period of the prior fiscal year.

Research and Development

Research and product development costs increased 4% to $2.3 million for the six months ended July 31, 2008 from $2.2 million in the comparable period of the prior fiscal year. The increase in research and development costs is primarily due to a $0.5 million increase in compensation expense resulting from the combination of increased average compensation levels resulting from our efforts to attract and retain members of the engineering team and from benefits realized in the second quarter of last fiscal year from the cumulative catch up adjustment credits from stock compensation forfeited in the restructuring in fiscal 2008, offset by reduced facilities and consultant charges due to the restructuring efforts undertaken in fiscal 2008. Research and development headcount decreased to an average of 21 for the first six months of fiscal 2009 from an average of 27 for the comparable period of the prior year.

General and Administrative

General and administrative expense decreased 50% to $3.4 million for the six months ended July 31, 2008 from $6.9 million in the comparable period of the prior fiscal year. The decrease includes a $2.2 million reduction in third-party legal, consulting and accounting fees, a $0.3 million decrease in compensation costs stemming from the restructuring actions taken in fiscal 2008, and a $0.9 million decrease stemming from the settlement of the DSMCi matter in fiscal 2008. General and administrative headcount decreased to an average of 15 in the first six months of fiscal 2009 from an average of 22 in the comparable period of the prior fiscal year.

Other income

Other income for the six months ended July 31, 2008 includes $0.7 million of income that had been previously deferred until the Company satisfied its contractual obligations, which occurred during the current quarter, and $0.4 million of interest income, which decreased 57% to $0.4 million during the six months, ended July 31, 2008 from $1.0 million in the same period of the prior fiscal year. The decrease in interest income was due to the combined effects of a lower average cash balance and declining interest rates.

Discontinued operations:

Discontinued operations for the three months ended July 31, 2007 included income of $20,000. As the sale of the RetrievalWare enterprise search business was completed in August 2007, there was no business activity or operating results from discontinued operations during the six months ended July 31, 2008.

Liquidity and Capital Resources

Our combined balance of cash and cash equivalents at July 31, 2008 as compared to January 31, 2008 is summarized below (in thousands).

July 31, 2008 January 31, 2008 Change Cash and cash equivalents $ 27,421 $ 36,641 $ (9,220 )

At July 31, 2008, our principal source of liquidity was cash and cash equivalents of $27.4 million.

Operating activities used $8.2 million in cash during the six months ended July 31, 2008. The primary use of cash from operating activities was the net loss . . .