SecProbe.io

CORRESP
1
filename1.htm

corresp

[Selectica, Inc. Letterhead]

August 24, 2005

VIA EDGAR AND OVERNIGHT COURIER

Securities and Exchange Commission

Division of Corporate Finance

450 Fifth Street, N.W.

Washington, D.C. 20549

Attention: Craig D. Wilson

    Re:

    Selectica, Inc.

Form 8-K filed on July 26, 2005

File No. 0-29637

Dear Mr. Wilson:

On behalf of Selectica, Inc. (the “Company”), I am electronically transmitting hereunder this
response to your letter dated August 8, 2005. For your convenience, I have repeated and numbered
the comments in your letter in italicized print, and the Company’s responses are provided below
each comment.

          1.          We note that Ernst & Young LLP will resign following the earlier of the completion of
services related to the review of your interim financial statements for the quarter ended June 30,
2005 or the filing due date of that quarterly report. Please note that when this relationship is
actually terminated an additional Item 4.01 Form 8-K will be required, including an updated letter
from the former accountant.

Response to Comment #1

          The Company filed a Report on Form 8-K on August 15, 2005, reporting the official termination
date of Ernst & Young’s engagement.

          2.          Identify the date of the resignation and revise your references to “the subsequent interim
period” to specifically identify the subsequent interim period up to and including the date of
resignation.

Selectica, Inc.

August 24, 2005

Page 2 of 6

Response to Comment #2

          This comment was addressed in the Report on Form 8-K filed on August 15, 2005.

          3.          Revise to provide the disclosures required by Item 304(a)(l)(iv)(B) and (C) of Regulation
S-K.

Response to Comment #3

          We believe the following sentence from the Report on Form 8-K filed on August 15, 2005, is
responsive to Item 304(a)(l)(iv)(B) and (C) of Regulation S-K:

“The Company’s Audit Committee and management have discussed each of the
foregoing material weaknesses with Ernst & Young and have authorized Ernst &
Young to respond fully to any inquiries about the Company’s material weaknesses
over financial reporting as may be made by the Company’s successor independent
registered accounting firm.”

          4.          For each material weakness you have identified, tell us:

                                        4.1          in what period each material weakness occurred,

                                        4.2          the amount of each accounting error or misapplication of GAAP identified,

                                        4.3          whether or not you intend to restate any prior period for any adjustments. If not, tell us
why not, and

                                        4.4          in detail, all the steps you have taken (or plan to take) and procedures you have
implemented (or plan to implement) to correct each concern.

Response to Comment #4

          The Company reported in its Annual Report on Form 10-K for the fiscal year ended March 31,
2005 (the “2005 10-K”) that it had identified five material weaknesses in its internal controls
over financial reporting.

          First Material Weakness

          The first material weakness related to insufficient controls over the Quote to Collect process
related to the review, approval, and accounting for the Allowance for Doubtful Accounts. The lack
of sufficient controls caused two related errors: (a) the first error occurred in the quarter
ending December 31, 2004 (“Q3 2005”) and overstated the Allowance for Doubtful Accounts by
$195,000; and (b) the second error occurred in the quarter ending March 31, 2005 (“Q4 2005”) and
overstated the Allowance for Doubtful Accounts by $34,000. The Company identified the first error
and recorded an adjustment to correct it in Q3 2005. The Company evaluated the first adjustment in
accordance with Staff Accounting Bulletin No. 99 (SAB 99), concluded the adjustment was immaterial
to each of the affected quarters and, therefore, determined that no restatement was required. Ernst
and Young, LLP, our independent registered

Selectica, Inc.

August 24, 2005

Page 3 of 6

accounting firm (“E&Y”), identified the second error prior to the filing of the Company’s 2005
10-K. The Company recorded an adjustment to correct the error in the quarter ended March 31, 2005.

          The Company has implemented a control effective at the end of the quarter ended June 30, 2005
(“Q1 2006”) where the Vice President of Finance, Controller and the Chief Financial Officer will
review and approve the Accounts Receivable Reserve. This control allows for a detailed review of
the adequacy of the Specific Reserve component of the Accounts Receivable Reserve. This control was
tested internally in Q1 2006 with no exceptions. The Company has also implemented a control where
the Vice President of Finance, Controller reviews all payments received subsequent to quarter end.
This control ensures that the Company has correctly accounted for uncollectible accounts in the
Accounts Receivable Reserve. This control will be tested in the quarter ending September 30, 2005
(“Q2 2006”).

          Second Material Weakness

          The second material weakness related to insufficient controls for the Treasury process related
to the classification of Cash Equivalents and Investments. The Company had incorrectly classified
Cash Equivalents and Investments in its India subsidiary; this error occurred during Q4 2005 and
overstated Cash Equivalents and understated Investments by $2,400,000. E&Y identified the error
prior to the filing of our 2005 10-K and the error did not affect any prior quarters. The Company
recorded an adjustment to properly reflect Cash Equivalents and Investments prior to the filing of
the Company’s 2005 10-K. The Company disclosed in its 2005 10-K a reclassification of approximately
$2,600,000 for the fiscal year ended March 31, 2004 to conform to the current presentation.

          The Company has implemented a control effective as of Q1 2006 where the Vice President of
Finance, Controller reviews and approves the Investment Account Summary for all Cash, Cash
Equivalents, Short Term and Long Term Investments. This control was tested internally in Q1 2006
with no exceptions.

          Third Material Weakness

          The third material weakness involved two significant deficiencies in the Company’s revenue
recognition process. The first deficiency related to insufficient controls over the monitoring of
deferred revenue accounts for the purpose of determining when revenue should be recognized. The
Company failed to reverse deferred revenue when all criteria necessary for revenue recognition had
been satisfied. This had the effect of understating the Company’s revenue. This deficiency resulted
in a $100,000 error in the quarter ended December 31, 2004. The Company recorded an adjustment to
correct the error in the quarter ended March 31, 2005.

          The second deficiency related to insufficient controls for the identification of services to
be provided to customers at no charge. The Company inappropriately recorded revenue related to
service provided to a customer that was provided for no charge in the quarter ending December 31,
2004. This deficiency had the effect of overstating our revenue and the amount of the error

Selectica, Inc.

August 24, 2005

Page 4 of 6

was $75,000. The Company recorded an adjustment to correct the error in the quarter ended
March 31, 2005.

          The Company evaluated these adjustments in accordance with SAB 99, concluded they were
immaterial to each of the affected quarters and, therefore, determined that no restatement was
necessary.

          The Company has implemented a control effective Q1 2006 where the Vice President of Finance,
Controller reviews and approves the detailed revenue recognition file. This control was tested
internally during Q1 2006 with no exceptions. The Company also has implemented a control effective
June 30, 2005 whereby the Vice President of Finance, Controller reviews and approves all credit
memos before they are issued. This control ensures the Company maintains the proper level of
authorization for the issuance of credit memos. Also, the Vice President of Finance, Controller
ensures all current and recently terminated sales personnel sign a representation letter after the
completion of the quarter representing that there were no side arrangements made between the
Company’s sales representative and an employee or agent of the Customer. These controls were tested
internal in Q1 2006 with no exceptions.

          Fourth Material Weakness

          The fourth material weakness related to significant deficiencies in the Company’s payroll
process, which constitute a material weakness in the aggregate. The first deficiency related to
insufficient controls over the recording of expenses related to the employee benefits of terminated
employees. The Company failed to record expenses related to benefits extended when employees were
involuntarily terminated as part of a reduction in force program. These inadequate controls
resulted in a $38,000 adjustment as of March 31, 2005 to increase Accrued Payroll and Related
Liabilities, and increase Sales and Marketing expense. E&Y identified the error prior to the filing
of the Company’s 2005 10-K and the error did not affect any other quarters. The Company recorded an
adjustment to correct the error in the quarter ended March 31, 2005.

          The second deficiency related to insufficient controls over the recording and review of
expenses related to the acceleration of vesting on stock options for a former executive. These
inadequate controls resulted in a $37,000 cumulative adjustment as of March 31, 2005 to decrease
Additional Paid in Capital and Sales and Marketing expense. E&Y identified the error prior to the
filing of the Company’s 2005 10-K. The Company recorded an adjustment to correct the error in the
quarter ended March 31, 2005. The Company evaluated the impact of this adjustment on Q3 and Q4 2005
in accordance with SAB 99, concluded it was immaterial to each of the affected quarters and,
therefore, determined that no restatement was necessary.

          The Company has implemented a control effective as of June 30, 2005 (Q1 2006) where the Vice
President of Finance, Controller and the Chief Financial Officer review and approve all nonstandard
and material journal entries (which the Company defines as greater than $25,000). The Vice
President of Finance, Controller will also review and approve any employee change

Selectica, Inc.

August 24, 2005

Page 5 of 6

notifications and a summary schedule of all payroll-associated entries at the end of each
quarter. These controls were tested internally in Q1 2006 with no exceptions.

          Fifth Material Weakness

          The fifth material weakness related to two deficiencies in our financial statement close
process, which constitute a material weakness in the aggregate. The first deficiency related to
insufficient controls over the monitoring of the terms of employment agreements and bonus programs
and determining the appropriate accounting treatment for related accrued bonuses in accordance with
employment agreements and bonus programs. This inadequate control resulted in an adjustment as of
December 31, 2004 to decrease Accrued Payroll and Related Liabilities by $47,000, and decrease
General and Administrative expense by $47,000. This error was identified by E&Y and an adjustment
was recorded prior to the issuance of the related financial statements. This error did not affect
any prior quarters. The second deficiency related to insufficient controls over the monitoring of
accrued liabilities recorded upon the sale of the e-insurance business to Accenture in December
2003. The Company had incorrectly failed to reverse the warranty reserve it had accrued per the
terms of the Accenture agreement. This inadequate control resulted in a $95,000 adjustment as of
March 31, 2005 to decrease Accrued Liabilities and General and Administrative Expense,
respectively. E&Y identified the error prior to the filing of the Company’s 2005 10-K and the error
did not affect any prior quarters.

          The Company has implemented a control effective June 30, 2005 (Q1 2006) where the Vice
President of Finance, Controller and the Chief Financial Officer review and approve all nonstandard
and material journal entries (which the Company defines as greater than $25,000). The Vice
President of Finance, Controller will also review and approve any employee change notifications and
a summary schedule of all payroll-associated entries at the end of each quarter. These controls
were tested internal in Q1 2006 with no exceptions.

          5.          Provide us with any letter or written communication to and from your former accountants and
management or the Audit Committee regarding any disagreements or reportable events.

Response to Comment #5

          Other than the material weaknesses described in E&Y’s letter dated June 24, 2005 to the
Company’s management and the Audit Committee of the Company’s Board of Directors, which is also
attached to this response letter for your convenience as
Exhibit A, there are no letters or
other written communications to or from E&Y and the Company’s management or the Audit Committee
regarding any disagreements or reportable events.

Selectica, Inc.

August 24, 2005

Page 6 of 6

     As requested in your letter, I hereby acknowledge on behalf of Selectica, Inc. that:

     •

    it is responsible for the adequacy and accuracy of the disclosure in its
Report on Form 8-K;

     •

    comments the staff of the Securities and Exchange Commission (the
“Commission”) or changes to disclosure in response to staff comments do not foreclose the
Commission from taking any action with respect to the Company’s Report on Form 8-K; and

     •

    Selectica may not assert staff comments as a defense in any proceeding
initiated by the Commission or any person under the federal securities laws of the United
States.

Please do not hesitate to contact me at (408) 545-2530 if you have any questions or would like
additional information regarding this matter.

Sincerely,

/s/ Stephen Bennion

Stephen Bennion

Executive Vice President and

Chief Financial Officer

    cc:

    Tamara Tangen, Securities and Exchange Commission

Brett A. Pletcher, Esq., Gunderson Dettmer

Exhibit A

Management and the Audit Committee of the Board of Directors

Selectica, Inc.

In planning and performing our audit of the consolidated financial statements of Selectica, Inc.
for the year ended March 31, 2005 and of internal control over financial reporting as of March 31,
2005, we noted certain matters involving internal control over financial reporting and its
operation that we consider to be material weaknesses (and significant deficiencies) under standards
established by the Public Company Accounting Oversight Board (United States).

A control deficiency exists when the design or operation of a control does not allow management or
employees, in the normal course of performing their assigned functions, to prevent or detect
misstatements on a timely basis. A significant deficiency is a control deficiency, or combination
of control deficiencies, that adversely affects the company’s ability to initiate, authorize,
record, process or report external financial data reliably in accordance with generally accepted
accounting principles such that there is more than a remote likelihood that a misstatement of the
company’s annual or interim financial statements that is more than inconsequential will not be
prevented or detected. A material weakness is a significant deficiency, or combination of
significant deficiencies, that results in more than a remote likelihood that a material
misstatement of the annual or interim fi