QAD Inc.
Q3 2008 Earnings Call Transcript

Published: 21 Nov 2007

[Operator:]

Ladies and gentlemen, thank you for standing by, and welcome to the QAD Fiscal 2008 Third Quarter Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. (Operator Instructions). We do remind you today's call is being recorded. And starting off, we have Vice President of Finance, Aileen Osborn. Please go ahead.

[Aileen Osborn:]

Hello, everyone. I am Aileen Osborn, QAD's Vice President in charge of Investor Relations. Earlier today, we issued a press release announcing QAD's financial results for the third quarter and first nine months of fiscal 2008. The press release and associated financial statements are available on the Investor Relations section of our website at www.qad.com. Additionally, please be advised that this call is being webcast live at our website where it will be available for approximately one year. Before I begin, I want to ensure that everyone on today's call understands that the discussion might contain forward-looking statements that are based on certain expectations and analysis as of today, November 20th, 2007. Such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated. QAD takes no obligation to revise or update any forward-looking statements to reflect events or circumstances after the date of this conference call. For a complete description of risks and uncertainties, please refer to QAD's January 31st, 2007 10-K filing. Now, I'd like to turn the call over to Karl Lopker, QAD's Chief Executive Officer.

[Karl Lopker:]

Good afternoon, and thank you for joining us to discuss our third quarter results. With me today is Daniel Lender, Chief Financial Officer, and Pam Lopker, President. We're pleased to report that our third quarter results were vastly improved from last year and contributed to our positive results for year-to-date. We experienced good performance in each of the major revenue categories, regions and vertical markets. Daniel will give you the numbers for the quarter, and then I'll discuss the results. Pam will be available for questions. Dan?

[Daniel Lender:]

Well, thank you, Karl. Our fiscal 2008 third quarter revenue came in above earlier forecast with growth in all of our business lines year-over-year. Services revenue increased 31%. Our license revenue increased 28%. These increases were enhanced by execution improvement to our traditional business as well as contributions from the businesses we acquired during the last fiscal year. During the third quarter of fiscal 2008, total revenue was up 16% to $66.6 million compared with $57.3 million in last's year third quarter and up 4% from $64.2 million last quarter. Our acquisitions of Precision Software and FBO Systems accounted for approximately $3.4 million of our fiscal 2008 third quarter revenue compared with $0.8 million in the previous year's quarter. This quarter, we received orders from 19 customers, representing more than $500,000 each in combined license, support and services billings. Four of these orders exceeded $1 million and one of which exceeded $2 million. For the first nine months of fiscal 2008, total revenue was up 11% to $187.4 million compared with $169.1 million in the first nine months of last year. The acquisitions contributed approximately $9.2 million to our total revenue in the first nine months of fiscal '08. As I mentioned, license revenue for the third quarter of fiscal '08 grew 28% to $14.1 million compared with $11 million in the same period last year. License revenue was down 5% from $14.8 million on a sequential basis. The acquisitions contributed approximately $900,000 to our fiscal 2008 third quarter license revenue. Maintenance and other revenue increased 4% to $32.3 million versus $30.9 million in the year ago quarter and 2% from $31.8 million in the previous sequential quarter. The acquisitions added approximately $700,000 to this category in the third quarter of fiscal '08. Services revenue grew 31%, increasing to $20.2 million in the fiscal '08 third quarter compared with $15.4 million in last year's third quarter, reflecting strength in the Americas and Asia Pacific regions. Services revenue grew 15% sequentially from $17.6 million and was supported by higher utilization of our own personnel and the use of subcontractors. The acquisitions contributed about $1.7 million to services revenue in the third quarter of this year compared to $0.7 million in the same period last year. Fiscal 2008 third quarter gross margin held steady with the just prior year quarter at 58% but was down from 60% in the third quarter of fiscal '07. The year-over-year decline reflects the services growth as a percent of total revenue. Operating expenses in the fiscal 2008 third quarter were $35.3 million or 53% of total revenues compared with $32.9 million or 57% of total revenues in the year ago third quarter and $36.6 million or 57% of revenues in the prior sequential quarter. Sales and marketing costs increased 10% from last year, a decline of 4% sequentially. The year-over-year increase relates to higher personnel cost primarily due to our acquisitions, while the sequential decrease is due to expenses related to our Explore user conference in the second quarter. R&D expense of $10 million was relatively flat when compared to both the prior year third quarter and the prior sequential quarter. G&A expense of $8 million increased 9% from the prior year quarter related to higher personnel costs but decreased 7% from this year's second quarter. Operating income in the fiscal 2008 third quarter increased to $3.2 million versus $1.3 million in the same period last year and $0.7 million for the preceding quarter. Operating margin for the fiscal 2008 third quarter was 5% compared with 2% in the same period of last year and 1% last quarter. Other expenses for the most recent quarter totaled approximately $281,000 versus other income of approximately $200,000 in the third quarter of fiscal '07, primarily reflecting unfavorable foreign exchange due to the weakening of the US dollar. Net income for the fiscal 2008 third quarter totaled $1.5 million or $0.05 per diluted share compared with net income of $0.9 million or $0.03 per diluted share in the same period last year. In the third quarter of fiscal '08, pre-tax stock compensation expense was $1.5 million compared with $1.3 million in last year's third quarter, both calculating to $0.03 per diluted share net of tax. For the current nine-month period, net income was $0.2 million or $0.01 per diluted share compared with $3.5 million or $0.10 per diluted share for the same period last year. In the first nine-month of fiscal '08, pre-tax stock compensation expense was $4.5 million, or $0.09 per diluted share net of tax, compared to $3.9 million, or $0.08 per diluted share net of tax, in the same period last year. Before closing up with our business outlook, I'll briefly discuss our balance sheet. Cash and equivalents were $46.6 million on October 31st, 2007 compared to $56.8 million at January 31st, 2007. Both periods included restricted cash of $2.6 million related to our acquisition of Precision Software. During the third quarter, under the buyback program authorized by our Board in September '07, we purchased approximately 226,000 shares of QAD's common stock at an average price of $8.56 per share, including transaction costs. Thus far in 2008, QAD has purchased a total of 1.7 million shares at an average price of $8.24 for a total cash use of about $14.2 million. Cash flow provided by operations for the fiscal 2008 third quarter was $3.4 million compared with $700,000 in the prior year quarter. Days sales outstanding, using the count-back method, improved from 72 days in the prior quarter to 66 days, which was level with the prior year's third quarter. Before turning the call back to Karl, I will provide you with our outlook for the fiscal '08 full year. QAD anticipates revenue between $255 million and $261 million and earnings in the range of $0.11 to $0.18 per diluted share for the full year ending January 31, 2008. This range of earnings includes a pre-tax stock compensation expense of $0.12 per diluted share net of tax. Our business outlook for the full year assumes an effective tax rate of 47%. This is higher than the 42% previously assumed, mainly as a result of a change in our estimated mix of profitability by tax jurisdiction. With that, I'll turn the floor back to you, Karl.

[Karl Lopker:]

Okay. Thanks, Daniel. Well, our efforts to increase the breadth of our product line and our increased training have started to show results. Half of our license growth for the quarter and most of the license growth for the year so far was attributable to add-on products, which include the products we acquired in the past couple of years. As a result of our strategy to expand our product line, we're finding that our current customers are depending more and more on QAD to provide a cluster of product line and also expanding their purchase of our core products. In fact, our challenge will be to add services capacity to ensure that the new products are implemented quickly and start providing value as soon as possible. So far, our revenue from services has grown as fast as our licenses, and we're planning to keep up this pace of growth. Services growth is also benefiting from customers' desire to get more of their consulting from the product vendor. Services are becoming a more important part of most engagements, and we've been focusing on services margin, which are also showing improvement. Geographically, all regions contributed to year-to-date license and total revenue growth. Some of the growth in the third quarter did come from deals that were delayed from the first and second quarters due to the management changes in North America and our increased sales training. There was no significant change in the vertical revenue mix. Total headcount is up slightly from last year, mostly in services. And although sales headcount is down slightly from last year, we're planning to develop the sales force more aggressively through hiring and more extensive training. While additional personnel will probably not have a big effect on the fourth quarter, they should be productive in the first quarter, which was a challenge for us last year. Due to the number of orders closed in the third quarter, our overall sales funnel have declined somewhat less than 10% from last year, although our short-term funnel is actually higher than last year. However, sales of add-on modules, which include the acquired products, was up 37% from last year-to-date, and our sales funnel for these modules has increased 50%. Interest in on-demand is still picking up even though the number of deals did not increase significantly. In summary, we're pleased to be finally experiencing improvement in license revenue from our new products, and we're working to provide the services to make them effective. We expect that the January fourth quarter will also us bring positive results. That finishes our report for the quarter. So operator, can you please give the instructions for questions?

[Operator:]

(Operator Instructions) And at this time, we have a question in queue from Terry Tillman, SunTrust Robinson. Please go ahead.

[Terry Tillman:]

Yeah. Thanks for my taking my questions. Can you hear me okay?

[Karl Lopker:]

Yes, Terry.

[Terry Tillman:]

Well, first, congrats on the improved license growth. I guess for Karl or Pam. I guess just kind of an obligatory question is what are you seeing in terms of yearend spending in terms of like a budget flush with your manufacturing customers? Do you get any sense from your field operations folks that maybe there is a bit of a pause, or folks are getting a little bit more uneasy with the broader macro concerns out there?

[Pam Lopker:]

I haven't really seen that at all. I'm not sure, Karl, if you've seen any issues. I feel like we're in more of a constant drumbeat kind of environment as opposed to an up and down syndrome across.

[Karl Lopker:]

Yeah. People don't usually spend large amounts of money at the end of the year with us just because of a budget situation that they may have. We are doing lot of module type transactions, which tend to be a little bit smaller, and tend to be justified on their value so.

[Terry Tillman:]

Okay. Then, Karl, in terms of, you had indicated short-term funnel looks solid, but maybe the longer dated funnel has declined 10% year-over-year. Is that potentially an impact on the license growth for next year? Or how do we read that that seems like an isolated dated point? I mean is that -- could that translate into some challenges in the next fiscal year for the license growth, or what should we think about that?

[Karl Lopker:]

We are still trying to take a look in and see what it does mean. I actually like the funnel being more short-term oriented, which means that there is not a lot of -- [which is] out there longer term. So, it actually makes me feel a little bit better that the funnel is more real when it's a little more short-term.

[Terry Tillman:]

Well, I guess with the higher end, could you maybe, or one of you guys, could you give us an update specifically what the quota-carrying reps were at the end of the quarter? And could that be something that could help the longer dated funnel early in the next year?

[Daniel Lender:]

We are looking it up right now.

[Karl Lopker:]

Looks like I can show you, yeah, we had 82 quota-carrier reps ending quarter, Terry.

[Terry Tillman:]

Yes.

[Karl Lopker:]

I know we've hired a few this quarter already. So, our plans are actually to try to get them productive going into Q1.

[Daniel Lender:]

The effect on the funnel is I think, when we do more reps, I do believe that the funnel will extend because more of those reps will be working new business deals, which tend to be longer into the future.

[Terry Tillman:]

Okay. And then in terms of in the actual press release, I don’t know if this is a quote from Pam or from you, Karl, about the idea of an improved sales execution. What I am curious about is the North America, what's your new head of North America operations? Where do you feel like he is in terms of being able to help on the leadership side and improve sales execution? Is that early? Would that be still more of an FY ’09, and then in terms of monetizing that?

[Daniel Lender:]

Well, since we did fairly well in North America, I believe he is working well in the saddle, if you will. I think that he is up at speed at this point.

[Terry Tillman:]

Okay, then, I guess, it's the last question. Daniel just relates to -- we did some quick back of the envelope calculations. For the full year guidance, now I mean, it has been lowered on a non-GAAP basis, which is what we look at. Is that all taxes, or is there a little bit of a higher expense level in the fourth quarter for the full year than what you originally had talked about last quarter, when you lowered the guidance?

[Daniel Lender:]

It's a little bit of both Terry. The capital has – is having effect, and also the overall shelf and marketing spend is a little bit higher than what we had originally forecasted, mainly a result of a lot of the training activities that we are doing with the sales force and some of our planned hiring as well.

[Terry Tillman:]

Well, okay, just lastly, the idea-- the license growth seems like an important parameter so if you execute around that this quarter, but what I’m wondering about, and clearly the margins are up year-over-year, but I know you are not giving us guidance here for next year, but I mean even though you are investing in the business, could this become more of an earnings leverage or margin expansion story next year, even if you could just give us a broad commentary.

[Daniel Lender:]

Sure, I mean generally speaking, I mean this year so far we’ve shown some growth, and we would like to capitalize on that. And going into next year, and we are not as satisfied in terms of the overall operating margins that we’re currently getting, and that’s something that we certainly want to improve next year for sure.

[Terry Tillman:]

Alright. Thank you.

[Daniel Lender:]

Sure.

[Operator:]

Thank you. (Operator Instructions). We have got a question this time from Peter Goldmacher - Cowen & Company. Please go ahead.

[Peter Goldmacher:]

Hi, guys. Just wanted to talk to you a little bit about, Karl, your earlier comments regarding having more products to sell back into the [installed] base. Can you give us a couple of examples of some of the acquired stuff and how you have been able to leverage your installed base to sell the new stuff, and also talk a little bit more about some of the on demand products and how you are balancing your sales guys' desires to sell the bigger ticket on premise stuff versus the smaller ticket or maybe better for the company overtime on demand stuff.

[Karl Lopker:]

Okay, sure. Some of the modules that seem to be doing really well, which we would expect to do well would be the transportation management modules especially. So we’ve a lot of larger customers out in our base, and they have international shipping requirements. So that has been a really great fit. We have -- the funnel has been going up. We’ve had a lot of excitement, and we’ve been closing deals for the transportation management. The other one that seems to be getting a lot of interest is the enterprise asset management module, which helps people to do premeditative maintenance on all their equipment and help to manage their storerooms. So because again -- because of the multinational flavor of all of our customers, they will find that they would like to start having a more consistent package around the world than just all these small individual packages they have. And we do very well against the IBM product that competes with us in that area so that’s a couple of ones.

[Pam Lopker:]

I think IBM bought MRO systems, which has the maximum of product, and it's going to be focused on selling that to the manufacturing industry and our customer base. So, there is quite a bit of that in our customer base particularly. So, that's being an opening for us as well.

[Karl Lopker:]

Yeah. Then, the relationship of the new product sales to the on-demand sales, certainly we are seeing a lot of activity in the newer products, and we want to make sure we press that to bring in the orders. The on-demand business, we think, is a little bit longer term. So, we are quoting on-demand wherever we think it might make sense. We have not yet started quoting on-demand to every deal we are doing. That will come later, when we feel the time is right.

[Peter Goldmacher:]

One last question, trying to get a little bit beyond Q4 close rates, because you have such a broad geographic business, and I certainly don’t want to put words in your mouth, but if you say the long-term pipeline is slowing down a little bit, is that any sort of commentary on the macro demand environment or IT spending in '08? Is that potential related, Karl?

[Karl Lopker:]

Well, we hope not. Although we do have the eye on the approaching economic storm, I am calling it. Hopefully, our distribution around the world isn’t going to make us vulnerable too much to that, unless it becomes a global economic manufacturing slowdown, which, of course, would be bad for us. So, we are going to be keeping our eyes on that. But people are not using that as an excuse not to buy right now.

[Peter Goldmacher:]

Okay, great. Thank you.

[Operator:]

Our next question is from the line of Mark Schappel with Benchmark. Please go ahead.

[Mark Schappel:]

Hi, good evening. Karl, could you just speak to the percentage of business coming from the installed base as opposed to some of the newer opportunities?

[Karl Lopker:]

Newer opportunities, you mean new customers?

[Mark Schappel:]

New customers, yeah.

[Karl Lopker:]

Yeah. The new customers are down slightly because of the opportunities we saw with the new modules. So, generally speaking, new customers are usually between 20% and 25% of our total new license revenue, and we're at the lower end of that.

[Mark Schappel:]

Okay. And you mentioned that the on-demand revenue wasn't all that meaningful this quarter, or it just fell off. Is that more of a function of the fact that it is still kind of ramping up products in this area, or is it more of a function do you think of just manufacturers just not -- still evaluating the products that are still kicking the [tiers] at this point [in the beginning]?

[Pam Lopker:]

I think that we did sell two on-demand deals this last quarter, and we do have a building panel that’s fairly significant. We don't expect that on-demand is going to take over or level off on premise sales for quite sometime. But reviewing a new Gartner Report that came out about on-demand and ERP, I particularly say that we are at the very, very beginning of a five-year cycle for ERP on-demand. So, that's good and bad. The good news for us is beginning which is always great to be in the startup mode. But we do agree that it's going to be a few years before we have the mainstream environment. But we do see a lot of interest in on-demand particularly on the enterprise level, where the customers are either startups or are being spun off. I mean there is some major change in ownership.

[Mark Schappel:]

And can those two deals that you mentioned in on-demand, were they for the supply chain visualization product?

[Pam Lopker:]

Yeah. Most of deals this quarter were supply chain visualization.

[Mark Schappel:]

Okay, thanks. That’s all for me.

[Pam Lopker:]

Thanks.

[Operator:]

And we have no further questions in queue. I would like to turn the call over to the management for some final review.

[Karl Lopker:]

Okay. We will just wait for 5 to 10 seconds here to see if any calls come in.

[Operator:]

Okay. We do have a question in queue from the line of Brian Murphy. Please go ahead, sir. State your company name, please.

[Brian Murphy:]

Sidoti & Company. Hi. Thanks for taking my call. Pam, just going back to the on-demand revenue, can you give us a sense of where that stands in relation to our license revenue at this point? I mean is it 10%? And if not, when do you expect that it would get to around that level?

[Pam Lopker:]

I am going to let Daniel take that for not making mistakes.

[Daniel Lender:]

Yeah. Our on-demand revenue right now, Brian, is below the 5% mark as a percentage, and it's hard to predict how quickly that's going to ramp up. I mean, I think a lot of it is going to depend on what manufacturers in general, their level of comfort in terms of getting to an on-demand environment and also any catalyst for any particular company that would cause them to switch to an on-demand like acquisitions and so forth, which we have seen in the past has been caused previously. The short answer is it's hard to predict when that will happen.

[Brian Murphy:]

I see. And are you seeing sort of early attraction with on-demand in any particular vertical right now? And also, I think, in prior calls, you mentioned that there was the possibility that on-demand might be able to open up new opportunities for deals that you might not otherwise be able to address. Are you seeing any of that at this point?

[Pam Lopker:]

Well, certainly, several of our on-demand leads are for the enterprise level application or for companies only looking at on-demand. They are not interested in having an on-premise environment. So had we not had an on-demand environment, that would have been something that we kind of compete in. And I think you are going to see more and more of that, that people have made a decision; I'm just spinning-off; I'm just starting up some company; I don't want to invest in IPA; I don't want to invest in ERP; I'm looking at only on-demand opportunities.

[Brian Murphy:]

Great. That's good color. Also, Pam, could you just give us a quick update on the enhanced financials module?

[Pam Lopker:]

Our enhanced financial modules will be generally available in March of 2008. We have five beta customers, and actually a couple more of those [from various] adopters, people that didn't -- were to wait for beta, but they didn't want to wait until (inaudible). So, we are now allowing a few more companies to come forward. I have heard nothing but very good response from the beta customers. I think the primary demand for that originally is going to be in Europe because of their complex financial situations with the multiple countries and such a short geographical area, but I think it's been very well received.

[Brian Murphy:]

Great. And just lastly, Daniel, could you give us a quick geographic breakdown of revenues for the quarter?

[Daniel Lender:]

Sure. In terms of total revenue by region, not much change from before; North America 44%, EMEA 33%, Asia Pacific 17% and Latin America 7%.

[Brian Murphy:]

Great. That's it for me. Thank you.

[Daniel Lender:]

Sure.

[Operator:]

And we have no further questions in queue at this time.

[Karl Lopker:]

Okay. Well, thank you for your attendance everyone. We'll look forward to updating you again in March, after the end of our final quarter of FY '08. Talk to you then. Goodbye.

[Operator:]

Ladies and gentlemen, that does conclude your conference. We do thank you for joining while using AT&T Executive Teleconference. You may now disconnect. Have a good day.