News Column

ARI NETWORK SERVICES INC /WI - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

June 16, 2014

The following discussion of our results of operations and financial condition should be read together with our unaudited consolidated financial statements for the three and nine months ended April 30, 2014 and 2013, including the notes thereto, which appear elsewhere in this quarterly report on Form 10-Q. All amounts are in thousands, except per share data. This discussion, including, without limitation, the section entitled "Summary of Operating Results", contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933 (the "Securities Act") and the Securities Exchange Act of 1934 (the "Exchange Act"). All statements other than statements of historical facts are statements that could be deemed to be forward-looking statements. These statements are based on current expectations, estimates, forecasts, and projections about the markets in which we operate and the beliefs and assumptions of our management. Words such as "expects," "anticipates," "targets," "goals," "projects," "intends," "plans," "believes," "seeks," "estimates," "endeavors," "strives," "may," variations of such words, and similar expressions are intended to identify such forward-looking statements. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses, and other characterizations of future events or circumstances are forward-looking statements. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict, estimate, or verify, including those identified in Part I, Item 1A of our annual report on Form 10-K for the year ended July 31, 2013, and elsewhere herein. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. We undertake no obligation to revise or update any forward-looking statements for any reason. Overview ARI Network Services, Inc. offers an award-winning suite of data-driven software tools and marketing services to help dealers, equipment manufacturers and distributors in selected vertical markets Sell More Stuff!™ - online and in-store. Our innovative products are powered by a proprietary data repository of enriched original equipment and aftermarket electronic content spanning more than 10.5 million active part and accessory SKUs, 469,000 models and $1.7 billion in retail product value. Business is complicated, but we believe our customers' technology tools don't have to be. We remove the complexity of selling and servicing new and used vehicle inventory, parts, garments and accessories ("PG&A") for customers in the automotive tire and wheel aftermarket("ATW"), powersports, outdoor power equipment ("OPE"), marine, home medical equipment ("HME"), recreational vehicles ("RV") and appliance industries. More than 22,000 equipment dealers, 195 distributors and 1,500 manufacturers worldwide leverage our web and eCatalog platforms to Sell More Stuff!™ Our Solutions Our SaaS and DaaS solutions include: (i) eCommerce-enabled websites, which provide a web presence for dealers and serve as a platform for driving leads and eCommerce sales; (ii) eCatalog content, which drives sales of inventory and PG&A both online and within the dealership; and (iii) lead management software designed to increase sales for dealers through more efficient management and improved closure of leads. Our solutions also improve our customers' overall customer satisfaction through a highly efficient and accurate data lookup experience at the parts counter and a quicker response time to online inquiries, both of which serve to significantly improve a customer's overall experience with the dealer. Our SaaS and DaaS solutions are sold through our internal sales force and are composed primarily of recurring license and eCatalog subscriptions. Customers typically sign annual, auto-renewing contracts. Today, more than 90% of our revenues are recurring. In addition to our award-winning SaaS and DaaS solutions, ARI offers a suite of complementary products and services designed to supplement our three primary offerings in order to help our customers Sell More Stuff!™ Web Platform Solutions Our eCommerce-enabled website solutions provide consumers with information about a dealership and its product lines through our extensive library of electronic catalog content and allow consumers to obtain information on whole goods and purchase PG&A via the dealers' website 24 hours a day, 7 days a week. Our website solutions are tailored to each of the vertical markets we serve and tightly integrated with our electronic library of inventory and PG&A content. We also offer a mobile solution that allows dealers' websites to be fully functional on smart mobile phones. Websites are sold through our inside sales teams, which are aligned by vertical market. The sales process will typically include a live demo of the site and may even include a free trial period (we refer to these as "test drives"). We typically charge a nominal, Page 26 -------------------------------------------------------------------------------- one-time set-up fee to develop a new dealer website, monthly recurring subscription fees and variable transaction fees. Our website solutions are typically sold under one year, renewable contracts with monthly payment terms. We estimate that we currently host and maintain more than 5,600 websites for dealers in all of our vertical markets. Websites have become ARI's largest source of revenue and accounted for 51% of total revenue during the first nine months of fiscal 2014. eCatalog Platform Solutions Our eCatalog solutions, which encompass our PartSmart®, PartSmart Web™ and PartStream™ products, leverage our industry-leading library of electronic whole goods and PG&A content to allow distributors and dealers to view and interact with this information to efficiently support the sales and service of equipment. We believe that our eCatalog solution is the fastest and most efficient in the market, as it allows multi-line dealers to quickly access data for any of the brands serviced from within the same software, allowing the dealer's parts and service operations to more quickly identify, locate and sell products and services to their customers. Our eCatalog solutions include: PartSmart®, our CD-based electronic parts catalog, is used by dealers worldwide in the OPE, powersports, marine, appliance and agricultural equipment industries to increase productivity by significantly reducing parts lookup time. Our PartSmart® software is designed to allow multi-line dealers to look up parts and service information for all manufacturer product lines that the dealer carries, and integrates with more than 90 of the leading dealer business management systems.



PartSmart Web™, a SaaS solution, is used by distributors and manufacturers to provide their dealers with access to parts and pricing information via the Internet.

PartStream™, a SaaS solution, is a modular, consumer-focused illustrated parts lookup application that integrates with existing dealer and distributor websites and shopping carts and allows consumers to quickly identify the desired part, add the part to their electronic shopping cart and check out. It leverages ARI's parts content, delivering it to PartStream™ users on demand from ARI servers. AccessorySmartTM, a SaaS solution, is the only aftermarket PG&A lookup product of its kind, providing access to more than 500,000 SKUs from more than 1,400 powersports aftermarket manufacturers. AccessorySmart provides parts and service counter personnel a one-stop resource to look up products, cost and availability for all of the leading aftermarket PG&A distributors. AccessorySmart significantly decreases the time it takes to look up PG&A information and availability, allowing dealers to service and sell more stuff to customers on a given day. This product is powered by the fitment data we acquired with the assets of Ready2Ride, Inc. in August 2012. We derived approximately 43% of our revenues from our eCatalog solutions during the nine months ended April 30, 2014. Our eCatalog products are sold through our dedicated internal sales team, and fees charged include a recurring license fee, subscription fees for subscribed catalogs, and in some cases, page view fees. Lead Management Product Our award-winning SaaS solution, Footsteps™, is designed to efficiently manage and nurture generated leads, increasing conversion rates and ultimately revenues for our customers. Footsteps™ connects equipment manufacturers with their dealer channel through lead consolidation and distribution, and allows the dealers to handle leads more efficiently and professionally through marketing automation and business management system integration. The product is used as a complete database of customers and prospects, and manages the dealer-to-customer relationship, from generating email campaigns and automated responses, to providing sales teams with a daily follow-up calendar and reminder notices.



We

derived approximately 3% of our revenues from Footsteps™ in the first nine months of fiscal 2014.

Digital Marketing Our digital marketing solutions provide lead generation tools through search engine optimization, social media marketing and website enhancements, which serve to drive on-line sales and increase traffic at dealerships. We derived approximately 1% of our revenues from digital marketing services during the nine months ended April 30, 2014. Digital marketing services is a relatively new service offering by ARI and in the third quarter of fiscal 2014, we went to market with a more robust offering in the space as a result of our continued integration of the DUO acquisition. Page 27 --------------------------------------------------------------------------------

Other Solutions We also offer a suite of complementary solutions, which include software and website customization services and hosting services. On a combined basis, these other services accounted for approximately 2% of revenue during the nine months ended April 30, 2014. Our Growth Strategy ARI's goal is to become the leading provider of SaaS and DaaS solutions that help our customers, in selected vertical markets, efficiently and effectively sell and service more whole goods and PG&A - in other words, to Sell More Stuff!™ Our goal is to grow revenues at a double-digit rate and to grow earnings through scalability. We will provide our solutions to dealers, distributors, manufacturers, service providers, and consumers in vertical markets where the finished goods are complex equipment requiring service and are primarily sold and serviced through an independent dealer channel. We believe this strategy will drive increased value to our shareholders, employees, and customers. We also believe the execution of the following strategic pillars will enable us to achieve the growth and profitability needed to drive long-term sustainable value for our shareholders. These strategic foundations are primarily centered on enhancing the value proposition to our customers, which will lead to additional revenues through pricing actions, product and feature upsells, and reduced customer churn rates, and expansion by leveraging our core competencies in new markets where appropriate. Each of these strategic pillars is a long-term foundation for growth; within each one we have established near-term goals, as discussed below.



Drive organic growth through innovative new solutions, differentiated content, entering new markets and expanding geographically

As a subscription-based, recurring revenue ("RR") business, the most important drivers of future growth are increasing the level of our RR and reducing the rate of our customer churn. We define RR as revenue from products and services which are subscription-based and renewable, including software access fees, data content fees, maintenance and support fees and hosting fees, and we define churn as the percentage of RR that does not renew. During the nine months ended April 30, 2014, our RR increased 20.8% over the same period last year and the percentage of our total revenues that were RR increased to 94.2% for the nine months ended April 30, 2014 from 88.2% for the same period in fiscal 2013.



· Develop and deploy innovative new solutions. We have resources assigned to each

of our core products that continue to research and develop new value-added

features and functionality for our existing products. The introduction of new

solutions, upgrades to existing products, and new feature sets are all designed

to grow our average revenue per dealer ("ARPD"), an important measure for a

subscription-based business, and the increase in our customer base serves to

quickly compound the benefits of an increased ARPD.



In the third quarter of fiscal 2014, we completed a number of new enhancements to our services, including the following:

o Web Platform - During the quarter we completed the integration of our Endeavor

website solution with Footsteps, our lead management product, which enables

Endeavor customers to capture, connect and convert website leads, allowing us

to deliver higher ROI to our dealers. Leads from Endeavor websites can now

be seamlessly delivered to and processed by FootSteps™, making sure dealers

don't miss out on any sales opportunities. o eCatalog - During the quarter we launched a new version of PartSmart



DataManager, which includes streamlined management and creation of OEM parts

catalogs; automatic diagram hotspotting that finds and links diagram callouts

to associated items in the parts list; an enhanced part, assembly and

attachment search utilities; and enhanced data import features. In addition to

this, we added a new online application update process to PartSmart, which

expands the scalability and international capabilities of the product.

· Differentiate our content. We believe we have the largest library of whole

goods and PG&A content in the vertical markets we serve. During the quarter,

we added 10 new manufacturers' content to our library. However, simply

offering the largest content library in the markets we serve is not sufficient

to drive the long-term revenue growth we desire. We strive to deliver more

value to our customers through enrichment of our content. Content enrichment

can take several forms, including the incorporation of user reviews and feedback into our existing content, further Page 28

-------------------------------------------------------------------------------- enhancing content provided to us by our OEM customers, and creating new forms of content that further our customers' ability to efficiently service and sell more whole goods and PG&A. Our content library includes aftermarket fitment data for the powersports industry, which is the only content of its type available electronically. We have developed consumer analytic tools to several of our products, offering value-added feedback to our customers to help them "Sell More Stuff!"



· Enter new markets. ARI currently maintains a significant share of the OPE and

appliances markets. Accordingly, we anticipate low single-digit growth in these

markets. The acquisition of 50 Below more than doubled our website business,

providing ARI entrance into two new potentially high-growth markets - ATW and

HME, and catapulting the Company into one of the leaders in the powersports

industry. As we continue to increase our share in our current markets,

leveraging our technology in new and underserved markets will be important to

maintaining substantial organic growth rates. ARI currently has more than 2,000

dealer websites in the ATW market. We estimate that the total market

approximates 18,000 dealers and further, the broader automotive aftermarket

comprises nearly 80,000 dealers, more than all of our other markets

combined. We intend to continue to invest heavily in this market, including

seeking opportunities to leverage our products and services in the broader

automotive aftermarket. 50 Below was one of the first website providers to

service the HME. We estimate that this market comprises nearly 25,000 dealers,

and believe the market to be in its infancy with respect to eCommerce. We

recently invested in dedicated resources designed to expedite our growth in

this market. Ready2Ride was the first to market with electronic aftermarket fitment data for the power sports industry. We estimate that the availability of this data almost doubles the size of our addressable market in the powersports industry. In February 2013, we launched our new AccessorySmartTM product. AccessorySmart is the only aftermarket PG&A lookup solution of its kind, providing access to more than 500,000 SKUs from more than 1,400 aftermarket manufacturers. AccessorySmart provides parts and service counter personnel a one-stop resource to look up products, cost and availability for all of the leading aftermarket PG&A distributors. AccessorySmart significantly decreases the time it takes to look up PG&A information and availability, allowing dealers to service and sell more customers on a given day. We plan to leverage our aftermarket publishing experience and product capabilities in our other vertical markets where the market will support it.



· Expand geographically. Although we maintain relationships with dealers

throughout the world, we have very low penetration into international

markets. Growing our international business will require us to secure and

publish electronic content from OEMs outside the U.S. and make changes to our

existing products that will allow us to rapidly deploy these products in a

scalable and efficient manner and without the need to have "boots on the

ground" in those countries. To this end we have a business development resource solely dedicated to obtaining new international content and to date, we have added 10 new catalog content offerings in the international OPE market and begun to establish relationships with OEMs in China and Europe. Also, we have upgraded our product roadmaps to allow us to rapidly deploy our products in these markets as discussed above.



Nurture and retain existing customers through world-class customer service and value-added product feature updates

In order to achieve sustained double-digit organic growth, we not only need to execute the new growth strategies described above, we must also retain our existing customers. In a SaaS business, the cost to retain an existing customer is much less than the cost to acquire a new customer. Accordingly, customer churn is one of the most important metrics we track and manage. We experienced marked improvements in our churn rates the past several years as a result of strategic actions taken by the Company, all of which are designed to enhance the "stickiness" of our product within our customers' operations. We will continue to leverage our relationships with existing customers and closely monitor and manage the level of customer churn. On a trailing 12 month basis, customer churn increased from 12.0% in April 2013 to 13.2% in April 2014 due to a larger portion of our revenues coming from Websites, which typically have a higher churn rate than our eCatalog solutions. We will continue to leverage our relationships with existing customers and closely monitor and manage the level of customer churn.



Lead the market with open integration to related platforms

One of our strategic advantages is our focus on integrating our solutions with dealer business management systems ("DMS") in order to pass key information, including customer and transactional data, between our solutions and the DMS, saving our customers valuable time and eliminating redundant data entry. We currently have integration capabilities with over 90 DMSs Page 29 -------------------------------------------------------------------------------- (we refer to these relationships as "Compass Partners") and we continue to seek other strategic alliances that can be integrated with our product and service offerings.



Successfully execute acquisitions that align with our core strategy

Since 1995 we have had a formal corporate development program aimed at identifying, evaluating and closing acquisitions that align with our strategy. Since the program's inception, we have closed twelve acquisitions. A summary of some of our most recent acquisitions is as follows: Acquisition Date Strategy OC-Net, Inc. January 2007 ? New website platform Market-leading entrance into white Info Access July 2008 ? goods market Market-leading entrance into marine



Channel Blade Technologies April 2009 ? and RV markets

New lead management product, ? Footsteps™ First of its kind aftermarket fitment Ready2Ride, Inc. August 2012 ? data for the powersports industry 50 Below Sales & A market leader in the powersports Marketing, Inc. November 2012 ? industry (Retail Division) ? Entrance into ATW and HME industries ? New award-winning website platform A leading provider of social media DUO Web Solutions November 2013 ? and online marketing services in the powersports industry All of these acquisitions, with the exception of 50 Below and DUO Web Solutions, have been fully integrated into our operations. We continue to integrate the 50 Below operations into ARI and anticipate that the 50 Below and DUO Web Solutions operations will be fully integrated into ARI during fiscal 2014. Summary of Operating Results Total revenue declined 0.6% in the third quarter of fiscal 2014, and increased 13.0% year to date, over the same periods last year. Recurring revenue constituted 94.2% of our total revenue for the nine months ended April 30, 2014, compared to 88.2% for the same period last year. Recurring revenue increased 0.1% for the quarter and 20.8% year to date during fiscal 2014, compared to the same periods last year. The growth in year to date revenue is largely attributable to revenue from the 50 Below acquisition in November 2012. Operating income increased 174.0% or $858,000 from a loss of $493,000 for the three months ended April 30, 2013 to income of $365,000 for the same period this year. We had an operating loss of $74,000 for the nine months ended April 30, 2014, compared to a loss of $756,000 for the same period last year, an improvement of 90.2% or $682,000. Operating expenses increased 13.5% or $2,349,000 during the nine month period ended April 30, 2014, compared to the same period last year, primarily due to the additional costs of the 50 Below operation, an increase in our sales and marketing resources, and termination benefits incurred in connection with a workforce reduction in January 2014. Operating expenses decreased 8.6% or $585,000 during the three months ended April 30, 2014, compared to the same period last year, primarily due to a $420,000 loss on impairment of long-lived assets recorded in the third quarter of fiscal 2013, a reduction in legal expenses and a legal settlement received in the third quarter of fiscal 2014. The legal settlement served to offset legal expenses incurred on a year to date basis related to the same matter. Management expects general and administrative expeses to be less than the prior year in the fourth quarter of fiscal 2014, but to be higher on a consecutive quarter basis due to the impact of legal settlement in the third quarter of fiscal 2014.



During January 2014, the Company implemented a 14% reduction in workforce, primarily in the catalog conversion and website implementation and support areas, as a result of consolidating operations and other operational efficiencies achieved as we have continued to integrate the 50 Below operation,

thereby eliminating duplicate efforts. The Company expensed approximately $63,000 and $297,000 during the three and nine months ended April 30, 2014 in severance and related costs as a result of this workforce reduction.

Net income was $160,000 or $0.01 per share for the quarter ended April 30, 2014 compared to a net loss of $571,000 or $0.05 per share for the same period last year. Net loss was $276,000 or $0.02 per share for the nine months ended April 30, 2014, compared to $454,000 or $0.05 per share for the same period last year. The increase in earnings is primarily due to (i) the increase in operating income; (ii) a loss on debt extinguishment and higher interest expense in fiscal 2013; offset in part by (iii) Page 30

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an increase in income tax expense related to the increase in earnings and a benefit related to a change in valuation allowance against deferred tax assets recorded in fiscal 2013.

Cash flows from operations were $1,015,000 and $1,042,000 during the three and nine months ended April 30, 2014 compared to $127,000 and $1,504,000 during the same periods last year. The year to date decline in cash generation was primarily due to costs associated with the integration of the 50 Below operation, the timing of customer receipts and the timing of vendor payments. We experienced an improvement in cash during the third quarter of fiscal 2014 as a result of operational efficiencies and the workforce reduction. We expect positive cash from operations during the remainder of fiscal 2014 due to the cost savings from the operational efficiency improvements made in the second quarter of fiscal 2014 and an increase in cash receipts as a result of RR growth. Revenue



The following table summarizes our RR and non-recurring revenue by product (in thousands). Revenue categories are presented differently than what was previously reported in our financial statements.

Three months ended April 30 Percent



Nine months ended April 30 Percent

2014 2013 Change 2014 2013 Change Recurring revenue Websites $ 4,090$ 3,956 3.4 % $ 12,131$ 8,169 48.5 % eCatalog 3,215 3,324 (3.3) % 9,973 9,899 0.8 % Lead management 224 219 2.3 % 648 642 0.9 % Other 102 122 (16.5) % 308 384 (19.7) % Total recurring revenue $ 7,631$ 7,621 0.1 % $ 23,060$ 19,094 20.8 % Non-recurring revenue Digital marketing $ 127$ 211 (39.8) % $ 293$ 794 (63.1) % Professional services 180 159 13.1 % 428 1,015 (57.9) % Usage fees 140 145 (3.2) % 424 430 (1.4) % Other 98 92 6.0 % 266 315 (15.5) % Total non-recurring revenue $ 545$ 607 (10.2) % $ 1,411$ 2,554 (44.8) % - Total revenues $ 8,176$ 8,228 (0.6) % $ 24,471$ 21,648 13.0 % Recurring revenue 93.3 % 92.6 % 94.2 % 88.2 % Non-recurring revenue 6.7 % 7.4 % 5.8 % 11.8 % 100.0 % 100.0 % 100.0 % 100.0 % Total revenue decreased 0.6% or $52,000 and increased 13.0% or $2,823,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. Recurring revenue increased 0.1% or $10,000 and 20.8% or $3,966,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. RR represented 94.2% of total revenues in the first nine months of fiscal 2014 versus 88.2% in the first nine months of fiscal 2013. We anticipate that RR will continue to increase over the comparable prior year period for the remainder of fiscal 2014. Recurring Revenue RR is one of the most important growth drivers of our business. Increasing the percentage of our revenues that are recurring, while at the same time reducing the rate of customer churn, enhances our ability to generate profitable growth. Our subscription-based SaaS and DaaS products generate higher margins than our non-recurring products and services, and the incremental cost of selling these products to new dealers (we refer to these as new "logos") is relatively low. Reducing the rate of our customer churn, which is the percentage of RR that do not renew, helps drive organic growth as it allows for a greater percentage of our new logos to be incremental to the top line (versus making up for lost logos) and also increases the base upon which we can apply price increases and sell additional products and features. We generate RR from each of our three primary product categories. Web platform products generate RR from monthly subscription fees. Web platform RR increased 3.4% or $134,000 and 48.5% or $3,962,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. Web platform RR represented 52.6% of total RR in the first nine months of fiscal 2014 and is our largest source of RR. Page 31

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The growth in Web platform RR was largely the result of our acquisition of 50 Below in November 2012. Since the acquisition, we have integrated our sales, support and implementation teams related to our website products. As part of the 50 Below acquisition, the Company assumed a significant recurring revenue service obligation and has had a high success rate in renewing those contracts. We anticipate that our web platforms will continue to be the Company's largest source of growth, much of this growth coming in the ATW and HME markets, both of which are new to ARI. Our eCatalog solutions generate RR from renewable subscription fees for our software, data content, software maintenance and support fees. eCatalog RR decreased 3.3% or $109,000 and increased 0.8% or $74,000 for the three and nine months ended April 30, 2014, compared to the same periods in fiscal 2013. eCatalog is our second largest source of RR, representing 43.2% of total RR for the nine months ended April 30, 2014. eCatalog revenues have historically had the Company's lowest revenue growth rates, primarily attributable to ARI's already strong market position. We had a slight decline in eCatalog revenues in the third quarter of fiscal 2014, primarily related to a reduction in two significant OEM renewals. This was offset year to date by an increase in our new AccessorySmart product. AccessorySmart is a fitment-powered aftermarket PG&A lookup solution and is a first-of-its-kind in the powersports industry. The product won a "Nifty 50 Award" from Powersports Business, a leading industry trade publication, at the powersports industry's largest trade show in February 2014. Lead management RR is generated from subscription fees for the use of our Footsteps™ products. Lead management RR was $224,000 and $648,000 for the three and nine months ended April 30, 2014, a small increase over the same periods in fiscal 2013. Management is currently reviewing various options with respect to the Footsteps™ product, including the possibility of including the core functionality of the product within our web platforms and expects this product to continue to be instrumental in our goal of helping our customers Sell More Stuff!TM. Non-recurring Revenues Non-recurring revenues are generated from the Company's digital marketing services, including its lead management tool SearchEngineSmart™, professional services related to software customization and data conversion, usage fees charged on our RR products, and other complementary products and services. Total non-recurring revenues were $545,000 for the three months ended April 30, 2014, versus $607,000 for the same period in fiscal 2013, a decline of 10.2% and $1,411,000 for the nine months ended April 30, 2014, versus $2,554,000 for the same period last year, a decline of 44.8%. As a percentage of total revenues, non-recurring revenues were 5.8% for the first nine months of fiscal 2014, versus 11.8% for the same period in fiscal 2013. Our goal is to maintain non-recurring revenues of less than 10% of total revenues, as the margins on these revenues tend to be lower than our RR products. Furthermore, these revenues must be resold each year. We expect non-recurring revenues to be less than 10% of total revenues for the remainder of fiscal 2014. The fiscal 2014 decline in non-recurring revenues was primarily driven by a change in business model for our lead generation service. The largest cost associated with this service is the purchase of ad words from Internet search providers such as Google. Historically, the revenues recognized on this service included the cost associated with the ad word spend. These costs were then "passed through" directly to the Internet search provider. Under this model, GAAP requires these costs to be recognized as both a revenue and a cost of sale. Not only did this treatment have the impact of reducing gross margins as a percentage of revenue, but also provided negative float to ARI as the ad word costs were at times paid to the Internet search provider prior to receiving the funds from the customer. During the latter part of fiscal 2013, we made a change to this business model whereby the customer is now responsible for paying the cost of the ad words directly to the Internet search provider. ARI now simply charges the customer a fee for the service provided. This change had the impact of reducing GAAP revenues associated with this service, as discussed above. However, the change had little or no net impact on the gross profit or net cash receipts associated with the service. Non-recurring revenues from our professional services business increased 13.1% or $21,000 during the three months ended April 30, 2014 due to an increase in billable data conversion services and declined 57.9% or $587,000 during the nine months ended April 30, 2014, compared to the same periods in fiscal 2013. The nine month decline is due to our goal of focusing on RR, which generates higher gross profits. Revenues from non-recurring professional services will fluctuate from period to period based on the timing of custom projects. Page 32 --------------------------------------------------------------------------------

Pro forma Revenue The following unaudited pro forma revenue information for the nine months ended April 30, 2013 reflects the historical results of operations of the Company and 50 Below, with pro forma adjustments as if the acquisition had occurred on August 1, 2012. The unaudited pro forma financial information presented is for information purposes only and does not purport to represent what the Company's and 50 Below's revenue would have been had the acquisition in fact occurred on such date or at the beginning of the period indicated, nor any future date or period. Three months ended April 30

Nine months ended April 30 2014 2013 Percent 2014 2013 Percent Actual Actual Change Actual Pro forma Change Recurring revenue $ 7,631$ 7,621 0.1 % $ 23,060$ 22,296 3.4 % Non-recurring revenue 545 607 (10.2) % 1,411 2,554 (44.8) % Total pro forma revenue $ 8,176$ 8,228 (0.6) % $ 24,471$ 24,850 (1.5) % 50 Below revenues are all classified as recurring revenue. Pro forma recurring revenue grew 0.1% or $10,000 and 3.4% or $764,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. Non-recurring revenue decreased 10.2% or $62,000 and 44.8% or $1,143,000 for the three and nine months ended April 30, 2014, compared to the same periods in fiscal 2013, primarily due to the change in our lead generation business model described above. Management expects recurring revenue to continue to increase over the previous year pro forma recurring revenue for the remainder of fiscal 2014.



Cost of Revenue and Gross Margin

We classify as cost of revenue those costs directly attributable to the provision of services. These costs include (i) software amortization, which represents the periodic amortization of costs for internally developed or purchased software sold to customers; (ii) direct labor for the provision of catalog production, product implementations and professional services revenue; and (iii) other direct costs, which represent amounts paid to third party vendors for data royalties, as well as data conversion and replication fees directly attributable to the services we provide our customers. The table below breaks out cost of revenue into each of these three categories (in thousands): Three months ended April 30 Nine months ended April 30 % of % of % of % of 2014 Revenue 2013 Revenue 2014 Revenue 2013 Revenue Net revenues $ 8,176$ 8,228$ 24,471$ 21,648



Cost of revenues:

Amortization of capitalized software costs 532 6.5 % 451 5.5 % 1,494 6.1 % 1,311 6.1 % Direct labor 474 5.8 % 728 8.8 % 1,723 7.0 % 1,742 8.0 % Other direct costs 554 6.8 % 706 8.6 % 1,589 6.5 % 1,961 9.1 % Total cost of revenues 1,560 19.1 % 1,885 22.9 % 4,806 19.6 % 5,014 23.2 % Gross profit $ 6,616 80.9 % $ 6,343 77.1 % $ 19,665 80.4 % $ 16,634 76.8 % Gross profit was $6,616,000 or 80.9% of revenue for the three months ended April 30, 2014, compared to $6,343,000 or 77.1% of revenue for the same period last year and $19,665,000 or 80.4% of revenue for the nine months ended April 30, 2014, compared to $16,634,000 or 76.8% of revenue for the same period last year. The increase in gross profit margin was primarily attributed to our strategy to focus on recurring SaaS and DaaS services, which have a much higher gross margin than our non-recurring services, and a decrease in direct labor costs associated with the reduction of workforce in January 2014. In conjunction with this, we made a change to our lead generation service business model, eliminating the pass-through cost of purchased ad words from the search engine providers on behalf of our customers. The Company expects fluctuations in gross margin from quarter to quarter and year over year based on the mix of products sold. Operating Expenses



We categorize net operating expenses as follows:

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· Sales and marketing expenses consist primarily of personnel and related costs,

including commissions for our sales and marketing employees, and the cost of

marketing programs and trade show attendance;

· Customer operations and support expenses are composed of our computer server

operations, software maintenance agreements for our core network, and personnel

and related costs for operations and support employees;

· Software development and technical support expenses are composed primarily of

personnel and related costs; we capitalize certain of these costs in accordance

with GAAP, which is discussed below, while the remaining costs are primarily

related to technical support and research and development;

· General and administrative expenses primarily consist of personnel and related

costs for executive, finance, human resources and administrative personnel,

legal and other professional fees and other corporate expenses and overhead;

· Depreciation and amortization expenses consist of depreciation on fixed assets,

which are composed of leasehold improvements and information technology assets,

and the amortization of acquisition-related intangible assets. Costs associated

with the amortization of software products are a component of cost of

revenue; and

· We allocate certain shared costs among the various net operating expense

classifications. Allocated costs include facilities, insurance, and

telecommunications. These costs are generally allocated based on headcount,

unless circumstances dictate otherwise. Note that all public company costs,

including legal and accounting fees, investor relations costs, board fees and

directors and officers liability insurance, remain in general and administrative. The following table summarizes our unaudited operating expenses by expense category (in thousands). Certain reclassifications were made to amounts previously reported in our financial statements in order to conform to the current presentation related to certain shared corporate overhead expenses which were reclassified between sales and marketing, customer operations and support, software development and technical support and general and administrative expenses. Three months ended April 30 Percent of Percent of Percent 2014 Revenue 2013 Revenue Change Sales and marketing $ 2,291 28.0 % $ 2,324 28.3 % (1.4) % Customer operations and support 1,638 20.0 % 1,545 18.8 % 6.0 % Software development and technical support 679 8.3 % 672 8.2 % 1.0 % General and administrative 1,289 15.8 % 1,541 18.7 % (16.3) % Depreciation and amortization (1) 354 4.3 % 334 4.1 % 6.0 % Loss on impairment of long-lived assets - - % 420 5.1 % - % Net operating expenses $ 6,251 76.5 % $ 6,836 83.1 % (8.6) % Nine months ended April 30 Percent of Percent of Percent 2014 Revenue 2013



Revenue % Change

Sales and marketing $ 7,190 29.4 % $ 5,459 25.2 % 31.7 % Customer operations and support 5,029 20.6 % 4,106 19.0 % 22.5 % Software development and technical support 2,016 8.2 % 1,995 9.2 % 1.0 % General and administrative 4,490 18.3 % 4,457 20.6 % 0.7 % Depreciation and amortization (1) 1,014 4.1 % 953 4.4 % 6.4 % Loss on impairment of long-lived assets - % 420 1.9 % - % Net operating expenses $ 19,739 80.7 % $ 17,390 80.3 % 13.5 %



(1) Exclusive of amortization of software products of $532, $452, $1,494 and

$1,312 for the three and nine months ended April 30, 2014 and 2013, respectively, which are included in cost of revenue. Net operating expenses decreased 8.6% or $585,000 and increased 13.5% or $2,349,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. The decrease in net operating expenses for the quarter ended April 30, 2014 is primarily attributable to a $420,000 loss on impairment of long-lived assets recorded in the third quarter of fiscal 2013 and a legal settlement in the third quarter of fiscal 2014, offsetting related legal expense, included in general and administrative expenses. The year to date increase in net operating expenses was largely due to the costs necessary to operate the 50 Below business, primarily in the sales and marketing and general and administrative categories. During January 2014, the Company Page 34 -------------------------------------------------------------------------------- implemented a 14% reduction in workforce as a result of consolidating operations and other operational efficiencies achieved as we have continued to integrate the 50 Below operation, primarily in the catalog conversion and website implementation and support areas, thereby eliminating duplicate efforts. The Company expensed approximately $63,000 and $297,000 during the three and nine month periods ended April 30, 2014 in severance and related costs as a result of this workforce reduction. To the extent the Company can leverage growth in its core RR products, management expects net operating expenses to decline as a percentage of total revenues, as incremental costs related to these products decrease for every dollar of new revenue. Sales and Marketing Sales and marketing expense decreased 1.4% or $33,000 for the three months ended April 30, 2014 as a result of the workforce reduction. Sales and marketing expense increased 31.7% or $1,731,000 for the nine months ended April 30, 2014, compared to the same period last year, as a result of an increase in trade show attendance and variable selling expense on increased new sales. Sales and marketing expense as a percentage of revenue increased from 25.2% of revenue for the first nine months of fiscal 2013 to 29.4% for the same period in fiscal 2014. The Company has focused its resources in the sales and marketing area designed to drive revenue growth, including: the hire of a Vice President of Marketing; increasing staff in both sales and marketing; and increasing involvement in trade shows and online publications. Management expects sales and marketing expense as a percentage of revenue to fluctuate, based upon the timing of the Company's marketing events and trade show schedule and its decision to add additional sales and marketing resources to drive organic revenue growth.



Customer Operations and Support

Customer operations and support expense increased 6.0% or $93,000 and 22.5% or $923,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. Customer operations and support expense as a percentage of revenue increased from 19.0% of revenue for the first nine months of fiscal 2013 to 20.6% for the same period in fiscal 2014. The increase in customer operations and support expense is primarily related to the additional costs necessary to operate the 50 Below business and an increase in software maintenance costs as the Company moves its infrastructure to a cloud-based system. Management expects customer operations and support expenses to decline, as a percentage of total revenues, over time as we realize the cost savings related to the efficiencies implemented in the catalog conversion and customer implementation and support areas, while RR continues to grow.



Software Development and Technical Support

Our software development and technical support staff have three essential responsibilities for which the accounting treatment varies depending upon the work performed: (i) costs associated with internal software development efforts (after technological feasibility is established) are typically capitalized as software product costs and amortized over the estimated useful lives of the product; (ii) professional services performed for customers related to software customization projects are classified as cost of revenue; and (iii) all other activities, including research and development, are considered operating expenses and included within the software development and technical support operating expense category. The table below summarizes our internal software development and technical support (in thousands): Three months ended April 30 Percent Nine months ended April 30 2014 2013 Change 2014 2013 % Change

Total software development and technical support costs $ 1,487$ 1,864 (20.2) % $ 4,910$ 5,014 (2.1) % Less: amount capitalized as software development* (334) (464) (28.0) % (1,171) (1,277) (8.3) % Less: direct labor classified as cost of revenues (474) (728) (34.9) % (1,723) (1,742) (1.1) % Net software development and technical support costs classified as operating expenses $ 679 $ 672 1.0 % $ 2,016$ 1,995 1.0 % *Does not include outside vendor costs or capitalized interest costs Total software development and technical support costs decreased 20.2% or $377,000 and 2.1% or $104,000 for the three and nine months ended April 30, 2014 versus the same periods last year. The decrease was primarily a result of the workforce reduction in January 2014, offset in part year to date by the development costs associated with our two acquisitions. Page 35 -------------------------------------------------------------------------------- During the three and nine months ended April 30, 2014, we capitalized $334,000 and $1,171,000 of software development labor and overhead, versus $464,000 and $1,277,000 during the same periods last year. We have devoted resources to several enhancements of our newly acquired website product, including integration with our lead management and lead optimization tools. During the quarter we also launched a new version of PartSmart DataManager with streamlined management and data import tools and enhanced diagram hotspotting. In addition to this, we added a new online application update process to PartSmart, which expands the scalability and international capabilities of the product. We expect fluctuations in the percentage of software development and technical support costs classified as operating expenses from period to period, based on the mix of research and prototype work versus capitalized software development and professional services activities. Other Income and Expense The table below summarizes the components of other income and expenses (in thousands): Nine months ended Three months ended April 30 April 30 2014 2013 2014 2013 Interest expense $ (68)$ (197)$ (216)$ (534) Loss on debt extinguishment - (682) - (682) Gain (loss) on change in fair value of stock warrants 4 - (28) - Gain on change in fair value of earn-out payable - - 26 - Gain on change in fair value of contingent assets - 64 - 64 Other, net 12 (1) 27 7 Total other income (expense) $ (52)$ (816)$ (191)$ (1,145) Interest Expense Interest expense is composed of both interest paid on the Company's debt financing arrangements and amortization of non-cash interest charges related to deferred finance costs. Interest expense decreased 65.5% or $129,000 and 59.6% or $318,000 for the three and nine months ended April 30, 2014, compared to the same periods last year. The decrease in interest expense is a result of the April 2013 restructuring of debt that the Company incurred in November 2012 to finance the 50 Below acquisition. Loss on Debt Extinguishment In April, 2013, we refinanced our debt under more favorable interest and payment terms. As a result of the early extinguishment of debt, we recorded a loss of $682,000 related to unamortized debt discount for stock issued as a cost of acquiring the debt and unamortized deferred loan fees.



Gain (Loss) on Change in Fair Value of Stock Warrants

In March 2013, we executed a private placement with certain institutional and accredited investors. As part of the transaction, the Company issued warrants to purchase an aggregate of 1,130,667 shares of common stock at an exercise price of $2.00 per share. The warrants contain a down-round protection feature which reduces the strike price of the warrants from $2.00 to $1.50 if there is a private placement for less than the $2.00 strike price. This feature resulted in the warrants being treated as a derivative instrument. Accordingly, the warrants are recorded as a liability on the balance sheet at fair market value and changes in the fair market value are recorded to gain or loss on change in fair market value of stock warrants on the statement of operations. During the three and nine months ended April 30, 2014, we incurred a non-cash gain of $4,000 and a non-cash loss of $28,000, respectively, related to the warrants, primarily as a result of changes in the market value of the Company's common stock. We have 214,000 warrants outstanding at April 30, 2014, which will require fair value accounting treatment until the earlier of their exercise or expiration of the down-round protection feature. Changes in the market price of the Company's common stock are likely to have the most significant impact on the fair value of the warrants. The down-round protection feature expires on June 20, 2014, at which time any remaining balance of warrants outstanding will no longer have a derivative feature and will be reclassified to equity. Page 36 --------------------------------------------------------------------------------



Gain on Change in Fair Value of Earn-out Payable

The Company incurred a liability as part of the consideration for the Ready2Ride acquisition in August 2012, contingent on future revenues earned related to the acquired business. On October 22, 2013, the Company amended the Purchase Agreement in relation to the earn-out payments resulting in three fixed payments of $125,000 and an aggregate of 40,000 shares of common stock. During the nine months ended April 30, 2014, we recorded a gain on change in fair value of earn-out payable of $26,000, or $0.00 per basic and diluted common related to this amendment.



Gain on Change in Fair Value of Contingent Assets

The Company recorded a benefit of approximately $64,000 during the three and nine months ended April 30, 2013, respectively, related to an assessment of the expected future cash flows of the Globalrange Earn-out Receivable, which is performed annually in the third fiscal quarter based on historical receipts over the previous twelve-month period. The assessment performed in the third quarter of fiscal 2014 resulted in no change in fair market value. Acquisitions On November 28, 2012, the Company, through a wholly-owned subsidiary, completed the acquisition of the assets of the Retail Services Division of Fifty Below Sales & Marketing, Inc., a leading provider of eCommerce websites in the powersports, ATW and HME industries for a purchase price of $5,000,000 and the assumption of contracts having deferred revenue originally valued in the amount of $4,601,000. The Company funded $1,500,000 of the purchase price through a combination of the Company's operating cash flows and availability under its existing credit facilities. The balance of the purchase price was funded through a term note with a significant shareholder. On August 17, 2012, the Company acquired substantially all of the assets of Ready2Ride, Incorporated ("Ready2Ride") pursuant to the terms of an Asset Purchase Agreement dated August 17, 2012. Ready2Ride marketed aftermarket fitment data to the powersports industry, which furthers ARI's differentiated content strategy and expands ARI's product offerings into aftermarket PG&A. Consideration for the acquisition included $500,000 in cash, 100,000 shares of the Company's common stock and assumed liabilities totaling approximately $419,000 and contingent liabilities with an estimated fair market value of approximately $600,000.



On November 5, 2013, the Company acquired the assets of DUO Web Solutions, a leading provider of social media and online marketing services for the powersports industry. The transaction is not considered material to the financial statements.

Income Taxes The Company has net deferred tax assets of $6,392,000, primarily consisting of net operating loss carryforwards ("NOLs") and book to tax temporary differences. Income tax expense is provided for at the applicable statutory tax rate applied to current U.S. income before taxes, plus or minus any adjustments to the deferred tax assets and to the estimated valuation allowance against deferred tax assets. Income tax expense, if any, does not represent a significant current cash obligation, as we continue to have NOLs to offset substantially all of the taxable income. We had income tax expense of $153,000 and $11,000 during the three and nine months ended April 30, 2014, compared to an income tax benefit of $738,000 and $1,447,000 during the same periods last year. We recorded a tax benefit related to a change in estimate of the valuation allowance against future NOLs of $0 and $32,000 for the three and nine months ended April 30, 2014 compared to $387,000 and $1,328,000 for the three and nine months ended April 30, 2013, because of an expected increase in future taxable income. We paid income taxes of $70,000 and $50,000 for the nine month periods ended April 30, 2014 and 2013, respectively, primarily related to statutory alternative minimum taxes. Income tax expense may vary from period to period as we continue to evaluate the valuation allowance against net deferred tax assets on a semi-annual basis. Page 37 --------------------------------------------------------------------------------



Liquidity and Capital Resources

The following table sets forth certain cash flow information derived from our unaudited financial statements (in thousands):

Three months ended April 30



Nine months ended April 30

2014 2013 2014 2013



Net cash provided by operating

activities $ 1,015 $ 127



$ 1,042$ 1,504

Net cash used in investing

activities (412) (484) (2,361) (4,113)



Net cash provided by (used in)

financing activities (144) 1,326 168 2,430



Effect of foreign currency exchange

rate changes on cash (6) 5 (10) (7) Net change in cash $ 453 $ 974 $ (1,161)$ (186)

Cash at end of period $ 1,034$ 1,164

$ 1,034$ 1,164 We generated $453,000 for the three months ended April 30, 2014, compared to $974,000 for the same period last year and utilized $1,161,000 of cash during the nine months ended April 30, 2014, compared to $186,000 during the same period in fiscal 2013. Net cash provided by operating activities was $1,015,000 and $1,042,000 during the three and nine months ended April 30, 2014, respectively, compared to $127,000 and $1,504,000 during the same periods last year. The decline in cash generation was primarily due to costs and assumed liabilities associated with the integration of the 50 Below operation, the timing of customer receipts and the timing of vendor payments. We expect cash from operations to improve during the remainder of fiscal 2014 due to the cost savings from the operational efficiency improvements made in the second quarter of fiscal 2014, the completion of assumed service obligations related to the 50 Below acquisition for which the cash was received prior to the acquisition and an increase in cash receipts as a result of growth in RR. Net cash used in investing activities decreased $72,000 and $1,752,000 during the three and nine months ended April 30, 2014, compared to the same periods last year. The year to date decrease in investing was primarily due to the $2,479,000 investment in the acquisitions of Ready2Ride and 50 Below during fiscal 2013. We invested $1,420,000 in capitalized software development costs, acquired $592,000 worth of technology equipment and leasehold improvements and invested $200,000 for the DUO acquisition during the first nine months of fiscal 2014. We will continue to invest cash in the business to further our growth strategies previously discussed. Net cash used in financing activities was $144,000 for the third quarter of fiscal 2014, as the Company paid off its line of credit, and year to date net cash provided by financing activities was $168,000 due to cash proceeds of $312,000 related to capital leases. Cash provided by financing activities was $1,326,000 and $2,430,000 for the three and nine months ended April 30, 2013. The Company borrowed an additional $1,000,000 of debt from Fifth Third, under its previous credit facilities, to fund its acquisition of Ready2Ride in August 2012 and borrowed an additional $3,500,000 from an affiliate of a shareholder for its acquisition of 50 below in November 2012. The Company paid off $4,300,000 of debt with the proceeds from a $4,800,000 equity offering and the remaining debt was refinanced in April 2013 under more favorable payment terms. Terms and conditions of the Company's indebtedness are detailed in the footnotes to the financial statements in Part I, Item 1 of this report. Management believes that current cash balances and its ability to generate cash from operations, as well as the existing availability under our line of credit are sufficient to fund our needs over the next 12 months, although additional financing may be necessary if the Company were to complete a material acquisition or to make a large investment in its business. Debt Silicon Valley Bank On April 26, 2013, the Company entered into a Loan and Security Agreement (the "Agreement") with Silicon Valley Bank ("SVB"), pursuant to which SVB extended to the Company credit facilities consisting of a $3,000,000 revolving credit facility with a maturity date of April 26, 2015 and a $4,500,000 term loan with a maturity date of April 26, 2018. The Agreement replaced the Company's Loan and Security Agreement with Fifth Third Bank, which is described below. The term loan and any loans made under the SVB revolving credit facility accrue interest at a per annum rate equal to one or more of the following as may be selected by SVB: (a) the one, two or three-month LIBOR Rate (as defined in the Agreement, subject to a floor of 1.00%), plus the Applicable Margin for LIBOR Loans set forth in the chart below, determined based on the most recent senior leverage ratio, which is defined as total senior indebtedness to earnings before interest, taxes, depreciation Page 38

-------------------------------------------------------------------------------- and amortization ("EBITDA"), calculated by SVB on a quarterly basis (the "Senior Leverage Ratio"); or (b) the Prime rate plus the Applicable Margin for Prime Rate Loans set forth in the chart below determined based on the Senior Leverage Ratio (effective rate of 3.75% at April 30, 2014). Senior Leverage Applicable Margin Applicable Margin Ratio for Libor Loans for Prime Rate Loans >= 1.75 to 1.0: 3.25 % 1.00 % > 1.25 to 1.00 but <1.75 to 1.00: 3.00 % 0.75 % <= 1.25 to 1.00: 2.75 % 0.50 % Principal in respect of any loans made under the revolving facility is required to be paid in its entirety on or before April 26, 2015. Principal in respect of the term loan is required to be paid in quarterly installments on the first day of each fiscal quarter of the Company as follows: $112,500 commencing on August 1, 2013 through May 1, 2014; $168,750 commencing on August 1, 2014 through May 1, 2015; and $281,250 commencing on August 1, 2015 through February 1, 2018. All remaining principal in respect of the term loan is due and payable on April 26, 2018. The Company is permitted to prepay all of, but not less than all of, the outstanding principal amount of the term loan upon certain notice to SVB and, in certain circumstances, the payment of a prepayment penalty of up to $90,000. The Agreement contains covenants that restrict, among other things and subject to certain conditions, the ability of the Company to permit a change of control, incur debt, create liens on its assets, make certain investments, enter into merger or acquisition transactions and make distributions to its shareholders. Financial covenants include the maintenance of a minimum Senior Leverage Ratio equal to or less than 2.00 to 1.00, and the maintenance of a Fixed Charge Coverage Ratio (as defined in the Agreement) equal to or greater than 1.25 to 1.00. The Agreement also contains customary events of default that, if triggered, could result in an acceleration of the Company's obligations under the Agreement. The loans are secured by a first priority security interest in substantially all assets of the Company. The Company was in compliance with its debt covenants at April 30, 2014.



Off-Balance Sheet Arrangements

The Company has no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on its financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.


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