Summary of PROS HOLDINGS, INC.

Item 2. Management's discussion and analysis of financial condition and results
of operations
The terms "we," "us" and "our" refer to PROS Holdings, Inc. and all of its subsidiaries that are consolidated in conformity with accounting principles generally accepted in the United States of America.
Cautionary statement
The following discussion should be read along with the unaudited condensed consolidated financial statements and unaudited notes to condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q, as well as the audited consolidated financial statements and notes to consolidated financial statements and management's discussion and analysis of financial condition and results of operations for the year ended December 31, 2008 set forth in our Annual Report on Form 10-K and filed with the Securities and Exchange Commission ("SEC"). This management's discussion and analysis of financial condition and results of operations contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements regarding future events and our future results are based on current expectations, estimates, forecasts and projections, and the beliefs and assumptions of our management including, without limitation, our expectations regarding the following: the sales of our software products and services; the impact of our revenue recognition policies; our belief that our current assets, including cash, cash equivalents, and expected cash flows from operating activities, will be sufficient to fund our operations; our anticipated additions to property, plant and equipment; our belief that our facilities are suitable and adequate to meet our current operating needs; our belief that that we do not have any material exposure to changes in the fair value of our investment portfolio as a result of changes in interest rates. Words such as "we expect," "anticipate," "target," "project," "believe," "goals," "estimate," "potential," "predict," "may," "might," "could," "intend," and variations of these types of words and similar expressions are intended to identify these forward-looking statements. Readers are cautioned that these forward-looking statements are predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements.
Overview
We are a leading provider of pricing and margin optimization software, an emerging category of enterprise applications designed to allow companies to improve financial performance by implementing pricing excellence best practices through the use of our software products. By using our software products, our customers gain insight into their pricing strategies, identify detrimental pricing practices, optimize their pricing decision-making and improve their business processes and financial performance. Our software products incorporate advanced pricing science, which includes operations research, forecasting and statistics. Our innovative science-based software products analyze, execute and optimize pricing strategies using data from traditional enterprise applications, often augmenting it with real-time and historical data. Our software also uses data elements that are determined using advanced pricing science and are stored in our database. Our high performance software architecture supports real-time high volume transaction processing and allows us to handle the processing and database requirements of the most sophisticated and largest customers, including customers with hundreds of simultaneous users and sub-second electronic transactions. We provide professional services to configure our software products to meet the specific pricing needs of each customer. We do not write custom code for each implementation. We provide our software products to enterprises across a range of industries, including manufacturing, distribution, services, hotel and cruise, and airline.
Many of our customers process large volumes of individually priced business-to-consumer and business-to-business transactions every day. Our high-performance, real-time, transaction pricing products differ from fixed list retail pricing products by delivering the relevant pricing information at the time the price is quoted, the deal is negotiated and the sale transaction is made. Our software products are also used to provide optimized price lists and goal-driven price guidance. While companies in our target industries differ in the wide range of business-to-business and business-to-customer products and services that they provide, many are similar in their need to optimally and dynamically price each individual transaction. We have installed over 200 solutions for over 100 customers across a range of industries in more than 40 countries.

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Trends and uncertainties
We have noted trends and uncertainties that we believe are particularly significant to understand our financial results and condition.
• Difficult Economic Conditions. We believe the market for pricing and margin optimization software is underpenetrated and in the early innovator stage of adoption. Market interest for our software has increased over the past several years. However, the world economies are in a recession and as a result we have experienced longer sales times, increased scrutiny on purchasing decisions and overall cautiousness taken by customers. As a result, there has been a negative impact on the sales of our products and service and license and implementation revenue; however, we are beginning to see our sales stabilize. We believe our solutions provide value to our customers during periods of growth as well as in recessions, but it is uncertain the extent to which a continued economic recession will further affect our business.

• Variability in revenue among industries and geography. We sell our products to customers in the manufacturing, distribution, services, hotel and cruise and airline industries. From a geographical standpoint, approximately 61% and 56% of our consolidated revenues were derived from customers outside the United States for the three months ended September 30, 2009 and 2008, respectively and approximately 59% and 55% of our consolidated revenues were derived from customers outside the United States for the nine months ended September 30, 2009 and 2008, respectively. The current economic environment could change our trends of revenue within industries and across geographies if certain industries or geographies are more impacted than others.

Critical accounting policies and estimates We prepare our unaudited condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America ("GAAP"). We make estimates and assumptions in the preparation of our unaudited condensed consolidated financial statements, and our estimates and assumptions may affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the unaudited condensed consolidated financial statements, and the reported amounts of revenue and expenses during the reporting periods. Actual results could differ from those estimates. The complexity and judgment of our estimation process and issues related to the assumptions, risks and uncertainties inherent in the application of the percentage-of-completion method of accounting affect the amounts of revenue, expenses, unbilled receivables and deferred revenue. Estimates are also used for, but not limited to, receivables, allowance for doubtful accounts, useful lives of assets, depreciation, income taxes and deferred tax asset valuation, valuation of stock options, other current liabilities and accrued liabilities. Numerous internal and external factors can affect estimates. The critical accounting policies related to the estimates and judgments are discussed in our Annual Report on Form 10-K for the year ended December 31, 2008 under management's discussion and analysis of financial condition and results of operations. There have been no changes to our critical accounting policies during 2009.
Our revenue recognition policy provides visibility into a significant portion of our revenue in the near-term quarters, although the actual timing of recognition of revenue will vary based on the nature and requirements of our contracts. Generally, we do not recognize license and implementation revenue upon signing a new contract with a customer. Our revenue recognition only begins when efforts are expended toward implementation, which alleviates pressure to enter into license agreements by the end of any particular quarter as we would not be able to recognize the corresponding revenue during the period in which the agreement is signed except to the extent we provide implementation services during the period.
Generally, we recognize the majority of our license and implementation revenue on a percentage-of-completion basis because we consider implementation services to be essential to our customers' usability of our licensed software. Under this recognition policy, the revenue we recognize during a reporting period is based on the total man-days expended on an implementation of our software products during the reporting period as a percentage of the total man-days estimated to be necessary to complete the implementation of our software products. As a result of our revenue recognition policy, revenue from license arrangements is recognized over the implementation period, which typically ranges from six months to several years. We account for revenue recognition on contracts for which an independent contractor provides implementation and maintenance services in accordance with the requirements under GAAP.

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Results of operations
Comparison of three months ended September 30, 2009 with three months ended

September 30, 2008
     Revenue:

                                                        For the Three Months Ended September 30,
                                                     2009                                         2008
                                                          As a percentage                            As a percentage
(Dollars in thousands)                Amount             of total revenue           Amount          of total revenue           Variance $          Variance %
License and implementation          $    10,276                   62%              $ 13,699                  71%              $     (3,423 )            (25)%
Maintenance and support                   6,234                   38%                 5,592                  29%                       642               11%

Total                               $    16,510                  100%              $ 19,291                 100%              $     (2,781 )             (14)%

License and implementation. License and implementation revenue decreased $3.4 million to $10.3 million for the three months ended September 30, 2009 from $13.7 million for the three months ended September 30, 2008, representing a 25% decrease. Generally, revenue is recognized using the percentage-of-completion method over the implementation period, which typically ranges from six months to several years. For the three months ended September 30, 2009, the number of implementations for which services were provided during the period increased 9%. Implementation periods can vary depending on numerous factors including, but not limited to, the number of licensed software products and the scope and complexity of the implementation requirements in relation to the number of man-days estimated to be necessary to complete the implementation. The decrease in license and implementation revenue was attributed to a decrease of 17% in license and implementation revenue recognized per man-day as a result of several projects during 2009 in which the value of the contracts was lower in relationship to the number of man-days needed to implement than in 2008 and a 10% decrease in the number of man-days that generated revenue primarily as a result of a decrease in amortized personnel costs related to subscription contracts.
Maintenance and support. Maintenance and support revenue increased $0.6 million to $6.2 million for the three months ended September 30, 2009 from $5.6 million for the three months ended September 30, 2008, representing an 11% increase. The increase in maintenance and support revenue is primarily the result of the completion of a number of implementations of our software products following which we recognize maintenance and support revenue partially offset by $0.2 million of temporary reductions.

     Cost of revenue and gross profit:

                                                                  For the Three Months Ended September 30,
                                                            2009                                              2008
                                                                 As a percentage                                 As a percentage
(Dollars in thousands)                      Amount              of related revenue            Amount            of related revenue           Variance $           Variance %
Cost of license and implementation       $      3,065                      30%               $   3,813                    28%               $       (748 )            (20)%
Cost of maintenance and support                 1,226                      20%                   1,056                    19%                        170               16%

Total cost of revenue                    $      4,291                      26%               $   4,869                    25%               $       (578 )            (12)%

Gross profit                             $     12,219                      74%               $  14,422                    75%               $     (2,203 )            (15)%

Cost of license and implementation. Cost of license and implementation decreased $0.7 million to $3.1 million for the three months ended September 30, 2009 from $3.8 million for the three months ended September 30, 2008, representing a 20% decrease. The decrease in cost of license and implementation is primarily attributable to a $0.4 million beneficial change in foreign currency exchange and a $0.4 million decrease in personnel and other costs. These decreases were partially offset by a $0.1 million increase in stock-based compensation expense. License and implementation gross margins were 70% for the three months ended September 30, 2009 as compared to 72% for the three months ended September 30, 2008. The reduction in license and implementation gross margins was primarily due to a decrease in license and implementation revenue of $3.4 million partially offset by a $0.7 million reduction of license and implementation costs for the three months ended September 30, 2009. License and implementation gross margins vary from period to period depending on the amount of implementation services required to deploy our products relative to the total value of contracts for which implementation services were provided during the quarter.

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Cost of maintenance and support. Cost of maintenance and support increased $0.2 million to $1.2 million for the three months ended September 30, 2009, representing a 16% increase. The increase in cost of maintenance and support is primarily attributable to the increased levels of effort required to support our higher installed customer base. Maintenance and support gross margins were 80% for the three months ended September 30, 2009 compared to 81% for the three months ended September 30, 2008.
Gross profit. Gross profit decreased $2.2 million to $12.2 million for the three months ended September 30, 2009 from $14.4 million for the three months ended September 30, 2008, representing a 15% decrease. The decrease in gross profit was primarily attributed to the 25% decrease in license and implementation revenues.

     Operating expenses:

                                                                For the Three Months Ended September 30,
                                                           2009                                           2008
                                                                 As a percentage                              As a percentage
(Dollars in thousands)                       Amount             of total revenue            Amount           of total revenue           Variance $          Variance %
Selling, general and administrative       $      5,954                    36%              $   5,787                  30%              $        167               3%
Research and development                         5,177                    31%                  5,242                  27%                       (65 )            (1)%

Total operating expenses                  $     11,131                    67%              $  11,029                  57%              $        102               1%

Selling, general and administrative expenses. Selling, general and administrative expenses increased by $0.2 million to $6.0 million for the three months ended September 30, 2009 from $5.8 million for the three months ended September 30, 2008, representing a 3% increase. The increase was attributed to an increase in sales personnel expenses of $0.3 million over 2008, an increase of $0.2 million of stock-based compensation expense and an increase of $0.1 million of travel expense associated with sales activities. These increases were partially offset by decreases of $0.3 million in bad debt expense as a result of an increase in our allowance for doubtful accounts during the third quarter of 2008 and $0.1 million of other expenses.
Research and development expenses. Research and development expenses decreased by $0.1 million for the three months ended September 30, 2009 as compared to the same period in 2008, representing a 1% decrease. The modest decrease of $0.1 million was attributed to a decrease of $0.2 million of other expenses, partially offset by an increase of $0.1 million of stock-based compensation expense.

     Other income:

                                For the Three Months
                                 Ended September 30,
     (Dollars in thousands)     2009             2008       Variance $       Variance %
     Interest income          $      30         $   261     $      (231 )        (89)%

     Other income             $      30         $   261     $      (231 )        (89)%

Interest income. Interest income decreased $0.2 million to $30,000 for the three months ended September 30, 2009 from $0.3 million for the three months ended September 30, 2008, representing an 89% decrease. The decrease is the result of a decrease in interest rates earned on higher invested cash and short-term investments. Interest income is generated from the investment of cash balances in short term interest bearing obligations with original maturities less than 90 days.

     Income tax provision:

                                   For the Three Months
                                   Ended September 30,
      (Dollars in thousands)      2009            2008         Variance $     Variance %
      Effective tax rate             29 %              35 %          n/a           (6 )%

Income tax provision $ 320 $ 1,295 $ (975 ) (75 )%

Income tax provision. Our income tax provision decreased $1.0 million to $0.3 million for the three months ended September 30, 2009 from $1.3 million for the three months ended September 30, 2008, representing a 75% decrease. The decrease in the effective tax rate from 35% to 29% in 2009 is primarily due to the utilization of Research and Experimentation

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("R&E") tax credits during 2009 as a result of the reinstatement of the R&E tax credit by Congress in October 2008, with the 2008 full year effect applied in the fourth quarter of 2008.
Our federal effective tax rate historically has been lower than the statutory federal tax rate of 35% largely due to the application of general business tax credits. In October 2008, Congress passed the Emergency Economic Stabilization Act of 2008 which included, among other items, the reinstatement of the R&E tax credit in the fourth quarter of 2008 that was applied retroactively to the beginning of 2008 with the full year effect applied in the fourth quarter of 2008. The R&E credit is scheduled to expire at the end of 2009. However, since its enactment in 1981, when the credit has expired, Congress has historically reinstated the credit.
Comparison of nine months ended September 30, 2009 with nine months ended

September 30, 2008
     Revenue:

                                                         For the Nine Months Ended September 30,
                                                     2009                                         2008
                                                          As a percentage                            As a percentage
(Dollars in thousands)                Amount             of total revenue           Amount          of total revenue           Variance $           Variance %
License and implementation          $    33,404                   64%              $ 39,880                  71%              $     (6,476 )            (16)%
Maintenance and support                  18,458                   36%                15,943                  29%                     2,515               16%

Total                               $    51,862                  100%              $ 55,823                 100%              $     (3,961 )             (7)%

License and implementation. License and implementation revenue decreased $6.5 million to $33.4 million for the nine months ended September 30, 2009 from $39.9 million for the nine months ended September 30, 2008, representing a 16% decrease. Generally, revenue is recognized using the percentage-of-completion method over the implementation period, which typically ranges from six months to several years. For the nine months ended September 30, 2009, the number of implementations for which services were provided during the period remained unchanged. Implementation periods can vary depending on numerous factors including, but not limited to, the number of licensed software products and the scope and complexity of the implementation requirements in relation to the number of man-days estimated to be necessary to complete the implementation. The decrease in license and implementation revenue was attributed to a 15% decrease in license and implementation revenue recognized per man-day as a result of several projects during 2009 in which the value of the contracts was lower in relationship to the number of man-days needed to implement than in 2008 while the number of man-days that generated revenue remained unchanged.
Maintenance and support. Maintenance and support revenue increased $2.5 million to $18.5 million for the nine months ended September 30, 2009 from $15.9 million for the nine months ended September 30, 2008, representing a 16% increase. The increase in maintenance and support revenue is primarily the result of the completion of a number of implementations of our software products following which we recognize maintenance and support revenue partially offset by $0.5 million of temporary reductions.

     Cost of revenue and gross profit:

                                                                  For the Nine Months Ended September 30,
                                                            2009                                             2008
                                                                 As a percentage                                As a percentage
(Dollars in thousands)                      Amount              of related revenue            Amount           of related revenue           Variance $           Variance %
Cost of license and implementation       $     10,422                      31%               $ 10,822                    27%               $       (400 )            (4)%
Cost of maintenance and support                 3,606                      20%                  3,295                    21%                        311               9%

Total cost of revenue                    $     14,028                      27%               $ 14,117                    25%               $        (89 )            (1)%

Gross profit                             $     37,834                      73%               $ 41,706                    75%               $     (3,872 )            (9)%

Cost of license and implementation. Cost of license and implementation decreased $0.4 million to $10.4 million for the nine months ended September 30, 2009 from $10.8 million for the nine months ended September 30, 2008, representing a 4% decrease. The decrease in cost of license and implementation is primarily attributable to a $0.4 million decrease in amortized costs related to subscription contracts, a $0.3 million beneficial change in foreign currency exchange and a decrease of $0.2

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million in travel and other expenses. These decreases were partially offset by an increase of $0.2 million in personnel costs, a $0.2 million increase in stock-based compensation expenses and an increase of $0.1 million of third party software deployment costs incurred in connection with certain implementations. Due primarily to lower license and implementation revenue of $6.5 million partially offset by a $0.4 million reduction of license and implementation costs for the nine months ended September 30, 2009, license and implementation gross margins were 69% for the nine months ended September 30, 2009 as compared to 73% for the nine months ended September 30, 2008. License and implementation gross margins vary from period to period depending on the amount of implementation services required to deploy our products relative to the total value of contracts for which implementation services were provided during the period.
Cost of maintenance and support. Cost of maintenance and support increased $0.3 million to $3.6 million for the nine months ended September 30, 2009 from $3.3 million for the nine months ended September 30, 2008, representing a 9% increase. The increase in cost of maintenance and support is primarily attributable to the increased levels of effort required to support our higher installed customer base. Maintenance and support gross margins were 80% for the nine months ended September 30, 2009 compared to 79% for the nine months ended September 30, 2008.
Gross profit. Gross profit decreased $3.9 million to $37.8 million for the nine months ended September 30, 2009 from $41.7 million for the nine months ended September 30, 2008, representing a 9% decrease. The decrease in gross profit was primarily attributed to a decrease in license and implementation revenues.

     Operating expenses:

                                                                For the Nine Months Ended September 30,
. . .