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CONFIDENTIAL TREATMENT REQUESTED

BY NEON SYSTEMS, INC.

Wilson Sonsini Goodrich &
Rosati, P.C.

8911 Capital of Texas Highway

Westech 360, Suite 3350

Austin, Texas 78759

October 7, 2005

CERTAIN
PORTIONS OF THIS LETTER HAVE BEEN OMITTED AND FILED SEPARATELY WITH THE
COMMISSION. CONFIDENTIAL TREATMENT HAS BEEN REQUESTED WITH RESPECT TO THE
OMITTED PORTIONS. OMITTED INFORMATION HAS BEEN REPLACED IN THIS LETTER WITH A
PLACEHOLDER IDENTIFIED BY THE MARK “[***]”.

VIA EDGAR AND

OVERNIGHT COURIER

Securities and Exchange Commission

Division of Corporation Finance

100 F Street, N.E.

Washington, D.C.  20549

Attn:       Kathleen
Collins

Kari
Jin

Re:                             NEON
Systems, Inc.

Form 10-K for Fiscal Year Ended March 31,
2005

Filed June 29, 2005

Form 10-Q for Fiscal Quarter Ended June 30,
2005

Filed August 15, 2005

File No. 0-25457

Dear Ms. Collins and
Ms. Jin:

On
behalf of NEON Systems, Inc. (the “Company” or “NEON”), we submit this
letter in response to the comment letter dated September 2, 2005 (the “Staff
Comment Letter”) from the staff (the “Staff”) of the Securities and Exchange
Commission (the “Commission”) relating to the above-referenced Annual Report on
Form 10-K (the “Form 10-K”) and above-referenced Quarterly Report on Form 10-Q
(the “Form 10-Q”).

***                         Confidential treatment requested pursuant
to a request for confidential treatment filed with the Securities and Exchange
Commission.  Omitted portions have been
filed separately with the Commission.

Because of the commercially
sensitive nature of information contained herein, this submission is
accompanied by a request for confidential treatment for selected portions of
this letter and the supplemental materials. The Company is requesting
confidential treatment for selected portions of this letter, including in connection
with the Freedom of Information Act, and has filed a separate letter with the
Office of Freedom of Information and Privacy Act Operations in connection with
that request, pursuant to Rule 406 promulgated by the Commission under the
Securities Act of 1933, as amended. For the Staff’s reference, we have enclosed
a copy of the Company’s letter to the Office of Freedom of Information and
Privacy Act Operations as well as a copy of this correspondence, marked to show
the portions redacted from the version filed via EDGAR and for which the
Company is requesting confidential treatment.

In this letter, we have reproduced the comments from
the Staff in italicized, bold type and have followed the comment with the
Company’s response.  The numbered
paragraphs of this letter set forth below correspond to the numbered paragraphs
of the Staff Letter.    References in
this letter to “we,” “our” or “us” means NEON Systems, Inc. All
information included in this letter related to the activities and stock
ownership of NEON Enterprise Software, Inc. (“NESI”), Scalable Software, Inc.
(“Scalable”) and Mr. John J. Moores was provided to NEON by such persons,
including through questionnaires completed by Mr. Moores. Mr. Moores,
having founded BMC Software, is an active venture capital investor in emerging
software and other technology companies. Information related to the beneficial
ownership of Mr. Moores and his affiliated entities is based on public
filings and/or non-confidential information available to the Company. NEON is
relying on the truth and accuracy of all such information and all information
provided by all third parties referred to herein.

Form 10-K for the Fiscal Year Ended March 31,
2005

Other - ObjectStar

1.                                       We note that on July 30, 2004 the Company
signed a letter of intent to acquire all of the outstanding capital stock of
ObjectStar for $17,200,000 in cash and shares of common stock having an
aggregate value of $3.2 million.  Was
this transaction ever consummated?  If
so, tell us when the Company filed the financial statements of ObjectStar as
previously proposed.  Also tell us what
consideration you gave to including a discussion of this acquisition in your
financial statement footnotes pursuant to paragraphs 51-52 of SFAS 141.  If this transaction was terminated, then tell
us how you considered the disclosure requirements of Item 1.02 of Form 8-K.

***                         Confidential treatment requested pursuant
to a request for confidential treatment filed with the Securities and Exchange
Commission.  Omitted portions have been
filed separately with the Commission.

2

Response:

As indicated in a letter dated August 26, 2004 to the Staff from
the Company, on June 30, 2004, the Company signed a letter of intent to
acquire all of the outstanding capital stock of ObjectStar International
Limited (the “Letter of Intent”).  Except for provisions relating
to confidentiality, access to information, exclusivity, termination and public
announcements, the provisions of the Letter of Intent were nonbinding.  The parties did not enter into a definitive
agreement related to the proposed transaction, and the Letter of Intent was
terminated on October 1, 2004 by the Company in accordance with its terms.

In connection with the
termination of the Letter of Intent, the Company had previously determined that
the Letter of Intent was not a “material definitive agreement,” as that term is
defined pursuant to Item 1.01(b) of the General Instructions to Form 8-K.  The General Instructions and the adopting
release (Release 34-49424) provide that the term “material definitive agreement”
only includes agreements that provide for obligations that are material to and
enforceable against the issuer, or rights that are material to the issuer and
enforceable by the issuer against one or more parties to the agreement.  Furthermore, the adopting release provides
that if a company enters into a nonbinding letter of intent that also contains
some binding, but non-material elements, such as a confidentiality agreement or
a no-shop agreement, the letter of intent would not constitute a “material
definitive agreement.”

As set forth above,
except for provisions relating to confidentiality, access to information,
exclusivity, termination and public announcements, the provisions of the Letter
of Intent were nonbinding.  As a result,
the obligations of the Letter of Intent were not enforceable against or by the
Company, except for certain provisions that are not material to the
Company.  Accordingly, the Company determined
that the Letter of Intent was not a “material definitive agreement” and that
the termination of the Letter of Intent did not require disclosure on Form 8-K
pursuant to Item 1.02 of the General Instructions thereto.

Note 4 – Related Party Transactions

Neon Enterprise Software, Inc. (NESI), page 41

2.                                       We note that you held a non-interest bearing
promissory note of $3.6 million and a non-interest bearing convertible note of
$3.0 million with NESI at March 31, 2004, which you determined had a net present
value of $4.3 million.  With regard to
these notes, please address the following:

***                         Confidential
treatment requested pursuant to a request for confidential treatment filed with
the Securities and Exchange Commission.
Omitted portions have been filed separately with the Commission.

3

a.                                      Tell
us how you determined the aggregate value of $4.3 million in August 2002
and tell us how you determined the loss on disposal of $687,000 given the notes’
original aggregate balance of $6.6 million.

Response:

In August 2002, the
Company terminated its distribution agreement with NESI (see Appendix A for the
history of the relationship between the Company and NESI). Upon execution of
the Termination and Customer Support Agreement, the Company received two
promissory notes in an aggregate principal amount of $6.6 million, which were
secured by all of NESI’s intellectual property (the “NESI Notes”). The Company
recorded the NESI Notes at their estimated net realizable value.

In determining the net
realizable value of the NESI Notes, the Company considered NESI’s ability to
repay the notes as well as the value of NESI’s intellectual property, which
secured the NESI Notes.  As of August 2002,
based on our review of NESI’s financial statements, the Company determined that
NESI had a substantial negative net worth and, as a result, the Company had
concerns regarding NESI’s ability to repay the NESI Notes. Accordingly, the
Company determined that the estimated fair value of the NESI intellectual
property securing the NESI Notes was a more appropriate estimate of the net
realizable value of the NESI Notes.

Because the intellectual
property of NESI represented the primary assets of NESI, the Company used the
enterprise value for NESI as a basis for the determination of the value of the
NESI intellectual property securing the NESI Notes. The Company’s calculation
of the enterprise value of NESI resulted in a range of approximately $4.3
million to $7.0 million. However, the Company also considered the costs
associated with and the potential diminution in the value of the NESI
intellectual property as a result of a foreclosure by the Company of its
security interest in NESI’s intellectual property. Based on such considerations,
the Company determined that the lower end of this range was more representative
of the value the Company would realize if it was forced to foreclose on its
security interest. As a result, in August 2002 the Company recorded the
NESI Notes at an estimated realizable value of $4.3 million.

The Company subsequently
received an independent valuation of NESI on March 31, 2003 and 2004. The
results of these valuation reports provide support for the reasonableness of
the Company’s initial valuation analysis. The valuation report on March 31,
2003 estimated the fair value of NESI to be between $4.9 million and $7.4
million. The valuation report on March 31, 2004 indicated a probability
weighted estimated fair value of NESI of $10.1 million.

***                         Confidential
treatment requested pursuant to a request for confidential treatment filed with
the Securities and Exchange Commission.
Omitted portions have been filed separately with the Commission.

4

The following is the
Company’s calculation of the loss recognized by the Company in association with
the termination of the NESI distribution agreement on August 1, 2002, as
reflected in the Company’s financial statements for such period.

  Estimated fair
  value of the notes received by NEON

  $

  4,260,000

  Recognition of deferred revenue on termination date
  (1)

  1,137,000

  $

  5,397,000

  Less:

  Prepaid royalty balance on termination date -
  August 1, 2002

  $

  (3,884,000

  )

  Final advance payment provided upon termination

  (2,200,000

  )

  Unearned
  advances provided to NESI (2)

  (6,084,000

  )

  Loss related to termination of the NESI distribution
  agreement

  $

  (687,000

  )

(1) The
Company had a $1,137,000 balance of deferred revenue on August 1, 2002,
the effective date of the Termination and Customer Support Agreement (the “Termination
Date”). Such deferred revenue balance related principally to maintenance fees
attributed to NESI products distributed by the Company, and pertained
principally to customer maintenance and support obligations to be provided by
the Company subsequent to the Termination Date. NESI contractually assumed the
customer maintenance and support obligations in Termination and Customer
Support Agreement.   The Company’s
license and support agreements with customers of NESI’s products were assigned
to and assumed by NESI, and the affected customers were notified of the
transfer. The Company was therefore relieved of its obligation to provide
future maintenance and support for previously distributed NESI products.  Accordingly, the balance of the associated
deferred revenue was recognized in earnings and included in the calculation of
the loss related to termination of the NESI distribution agreement.

(2)
This amount excludes $0.5 million included in the NESI Notes, which was related
to consideration provided by NESI to the Company for the assignment of the
customer license agreements and the licensing of certain source code and
trademarks of the Company.

***                         Confidential
treatment requested pursuant to a request for confidential treatment filed with
the Securities and Exchange Commission.
Omitted portions have been filed separately with the Commission.

5

It is important to note
that although the Company recorded an initial loss of $687,000 as a result of
this transaction, the Company believed that the decision to terminate the NESI
distribution agreement was a reasonable business decision under the
circumstances, as it ultimately released the Company from its obligation to
make $7.0 million in additional advance future royalty payments to NESI;
relieved the Company of its obligation to market and support the NESI products;
and resulted in further cost savings as a result of the termination of
approximately 15 NEON personnel that solely supported the sale of the NESI
products distributed by the Company.

b.                                      You
indicate that both NESI notes were sold to Mr. John Moores, a sole
shareholder of NESI on April 15, 2005 in exchange for $4.35 million in
cash and a note receivable of $2.2 million, for which you expect to record a
gain on sale beginning the first quarter of fiscal year 2006.  Considering the relationship between Mr. Moores
and both NESI and NEON, tell us how you determined that gain recognition is
appropriate.  Tell us how you determined
this is not, in substance, a capital transaction and provide the specific
guidance you are relying upon for your accounting treatment of this
transaction.

Response:

On April 15, 2005,
the Company sold the NESI Notes to Mr. John J. Moores for a one-time $4.35
million cash payment paid on April 15, 2005 and a note receivable from Mr. Moores
in a principal amount of $2.24 million, bearing interest at 4.0% per annum and
payable in quarterly installments through October 2007. As discussed in
the response to comment 2.a., the aggregate principal amount of the NESI Notes
was $6.6 million and the carrying amount on the Company’s books was $4.3
million. As of the date of sale, Mr. Moores owned approximately 44% of the
outstanding common stock of the Company and a majority of the capital stock of
Skunkware, Inc. (“Skunkware”), a holding company of which NESI is a wholly
owned subsidiary.

In determining the
appropriate accounting treatment for the sale of the NESI Notes to Mr. Moores,
we considered separately both the relevant accounting guidance identified in
our analysis below and the substance of the transaction.

The Company considered
whether NESI and the Company were under the common control of Mr. Moores.
The Company considered the definition of “common control” in Emerging Issues
Task Force (“EITF”) Issue No. 02-5, Definition of “Common
Control” in Relation to FASB

***                         Confidential
treatment requested pursuant to a request for confidential treatment filed with
the Securities and Exchange Commission.
Omitted portions have been filed separately with the Commission.

6

Statement
No. 141, and concluded that NEON and NESI were not under
the common control of Mr. Moores.

As previously stated, Mr. Moores
was the largest stockholder of Skunkware at the time of the sale of the NESI
Notes, as he beneficially owns over [***]% of its voting capital stock, [***],
after considering the exercise of all outstanding warrants and stock options.
However, on April 15, 2005, Mr. Moores only held approximately 44% of
the Company’s outstanding capital stock. On August 1, 2002, the
termination date of the distribution agreement between the Company and NESI, Mr. Moores
only held approxi