Autodesk Inc (ADSK) 2005 Q2 法說會逐字稿

Good day everyone, and welcome to the MoldFlow Corporation Second Quarter 2005 Earnings Conference Call. At this time, all lines have been placed on listen-only mode, and the floor will be open for question and comments following the presentation. I would now like to turn the floor over to your hosts, Roland Thomas and Sue Mac Cormack.

Welcome and thank you for joining the MoldFlow Corporation conference call for reporting of results for the second quarter of our 2005 financial year. Sue and I will make a series of prepared remarks Sue and I will make a series of prepared remarks and then we will take your questions. Before we begin with these remarks, I will ask Sue to remind all listeners about risks and uncertainties surrounding forward-looking statements.

Thank you, Roland. During our conference call today, we will be making certain forward-looking statements, including statements related to our future business prospects and outlook, pursuant to the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Please note, that any statements contained in this conference call that are not based on historical facts are forward-looking statements. Forward-looking statements involve risks and uncertainties that could cause actual results to differ materially from those projected. These risks and uncertainties include those detailed from time to time in reports filed by MoldFlow with the Securities and Exchange Commission, including the Company's filing on Form 10-K for the year ended June 30, 2004, and our subsequent quarterly and annual filings.

Our comments today will summarize the financial results for the second fiscal quarter ended December 25, 2004. For more complete details of the financial results, please refer to the press release made earlier this morning which also includes a description of specific risk factors.

Thanks Sue. Once again, I am very pleased to be here today discussing yet another successful quarter of growth at MoldFlow. During the second fiscal quarter of 2005, we continued our progress towards our vision to leverage the global imperative for cheaper and more reliable manufacturing by penetrating the large design and manufacturing markets with focus to product and solutions. We build on the foundation we set over the past several quarters with strong sales activity, increased revenues and earnings, and growing sales pipeline and a broadened distribution networks. Our second fiscal quarter produced results that were better than the financial guidance that we gave, and marks another superior quarter in terms of both operating and financial performance.

For the second quarter, we are reporting revenue of 16.3 million and GAAP EPS of 14 cents per share. This represents a 53% increase in revenue when compared to the same quarter last year, and a two fold increase in earnings per share. Our total product revenues for the quarter were 9.6 million, an 87% year-over-year increase and a 21% sequential increase. We noted growth in each region and across our largest vertical market segment. Once again, the performances from Europe and Asia were very strong, largely driven by continued investment, by companies in the automotive and electronic markets, as well as increased activities from tool makers and mould makers in America.

During the second quarter, we continued to focus on channel expansion in both business segments, specifically, in order to reach the large base of mid markets designed and analysis users and to enhance their distribution network for our hot runner process control product throughout Europe and Asia. Each business unit experienced success in these endeavors, with important partnerships and distribution agreements being put in place.

Also during the second quarter, we participated in the Mackay (phonetic) show, the largest plastic trade show in the world, hold every three years in Düsseldorf, Germany, and that was done in late October. Attended by nearly a quarter of a million people from 53 countries, the show gave us yet another venue to show existing and potential new customers how to optimize their designs manufactured process, and how that can drive real growth to their bottom-line. So, this was a very successful trade show for us and it helped us build on the momentum already established by our sales reps in both business segments.

Now I'd like to look at the activity and results in our business units over the last quarter, starting with our design analysis, business units. Once again we saw a robust growth in business segment with revenue of $12.2 million, a 32% year-over-year increase. 6.2 million of this revenue was from product sales, representing a 49% year-over-year increase. This result was largely driven by a series of new and follow-on investments by manufacturers in some of the larger vertical markets throughout Europe and Asia.

Specifically, demands for our predictive analysis software in the automotive and electronics industries in Europe, was evidenced by a large number of -- a number of large and small sales to a variety of Tier 1 suppliers, including notable names such as Sanyo Automotive and TRW Automotive. We noted success in the European electronics market, driven largely by a major manufacturer such as Nokia, pushing optimization requirement down through their supply chain.

In Asia, particularly, Korea and Japan, significant follow on investment by customers in the electronic sector by industry giants such as Foxcon, (phonetic), Samsung contributed to the revenue generated by this business segment over the second quarter.

During the quarter, we took a number of steps to accomplish a key goal of capturing potential analysis users in the under penetrated bid market design segment. To this end, we enhanced our technology offering with a release of version 7.1, our very popular Moldflow Plastic Advisers product. This release offers a range of new customer driven features designed specifically to enhance the productivity and usability of the product. Earlier reviews have been really quite positive and customers seem to be excited about these advancements.

In addition, we announced an agreement with Elysium Company for us to sell a Moldflow customized and branded version of their product. Elysium's proprietary product is used by CAE and design engineers to give simpler access to CAD design data. This agreement along with others that we have developed over the past year broadened our product offerings while validating a business model and allowing other products to leverage our worldwide sales infrastructure.

Now, I would like to turn to the results for our manufacturing solutions business segment. Revenues for the second quarter of financial year '05 were $4.1 million. They are up 22% over the last quarter and 192% over the same quarter last year. Of this revenue, $3.4 million came directly from product sales representing a 244% year-over-year growth.

For the fourth consecutive quarter, we saw strong sales of our Altanium hot runner process control products to a range of new and existing customers. Our sales and marketing efforts have been successful in building worldwide market share, as we have begun to convert customers away from competitive solutions. At the time of the acquisition of American MSI, exactly one year ago, we were confident that the AMSI solution was technologically superior and with direct access to customers we'd be able to capture a great portion of the worldwide market share. We are pleased that this has been the case.

During the quarter, we took significant towards our goal of establishing our worldwide manufacturer’s rep sales network, with new additions to our existing network in Europe and Asia. Since the beginning of fiscal 2005, we've signed up eleven new reps in these regions and these relationships have begun to bear fruit. This quarter also saw increased interest in our MMS historic soft flow optimization and management products, MPX, Shortscope, and the Celltrack production monitoring system. Our plan to revitalize the excitement in the market place for these products following the transition is in process. These technically complex products represent a real opportunity for our customers to optimize their manufacturing process. Our integrated selling model, in the MMS business unit, is capitalizing on our ability to sell multiple manufacturing products to the same customer.

Finally, during the quarter we signed a very important distribution agreement with Yudo Company Ltd., one of Asia's largest suppliers of hot runner system. Under this agreement Yudo will distribute our Altanium hot runner process control system through their global sales force. From our experience Yudo has an outstanding reputation for quality and customer service, and we believe this will be a productive relationship which will expand our reach into the Asian market for our manufacturing solution's product from both the short and the long term basis.

As we head into next quarter, we will continue building momentum in the new markets, while enjoying continued success in the traditional markets. Our progress towards our operating and financial goals has been significant over the first two quarters, and as you will here from Sue shortly, we are raising our financial outlook for fiscal 2005.

I could not let this call conclude without taking a moment to thank Sue MacCormack. As you all know, Sue is leaving Moldflow and this will be her last call with us today. And Sue has been instrumental in developing the Moldflow business over the last eight years and during which time we've become established as the market leader with a solid business model, and that continues to drive our growth. We wish Sue well in her future plans.

But with each ending comes a new beginning and it's with great pleasure that I welcome Chris Gorgone at the Moldflow team as our new Executive Vice President of Finance and Chief Financial Officer. Chris comes to us with over 25 years of financial experience and an eye towards taking Moldflow to the next level of growth. Chris has been and will continue to work with Sue over the next couple of weeks to fully transition into the role. We are all very excited to have Chris with us and look forward to a long and productive relationship.

So to summarize, I'm excited about the momentum we have built over the first half of fiscal 2005. Our confidence in our business outlook is based on a strong financial foundation that we've laid over the past several quarters, and the positive signs we are seeing in the industries and regions we serve. We have made great strides towards our business goals and head into the second half of the fiscal year, confident in our ability to successfully execute on the operating plan. By doing so, we will maximize shareholder value for all of our investors.

We remain absolutely focused on our key objectives namely; to firstly continue to penetrate rollout plastics mid market and design market. Second, by taking our hot runner process controlled products in Moldflow’s global market. Third, by following our success in Asia with further investments for both product line, fourth, by expanding our OEM, reseller, distributor and other creative partnership opportunities, and finally by delivering revenues and earnings growth in line with our stated financial model and objective.

And with that I will now ask Sue to provide a more detailed review of the operating results and outlook for the future.

Thank You Roland. Total revenues for the second quarter of fiscal 2005 were $16.3 million, which exceeded expectations and was above the high end of the guidance range that we established from the most recent investor conference call in October. This level represented an increase of 53% over the corresponding period of the prior year, an increase of 16% sequentially. Revenues in the first half of 2005 were $30.2 million, a 50% year-over-year increase.

With respect to currency effects on the total quarterly revenue, currency movements provided a benefit of 6% on a year-over-year basis, as global revenues in local currencies increased approximately 47%. And on a sequential basis, currency movements had a favorable impact of 3%, as revenues in local currencies increased approximately 13%.

Regionally, revenue in Europe represented 38% of the total revenues for the second quarter, while the Americas and Asia Pacifics regions represented 32% and 30% of the total revenue respectively. And when compared to the second quarter of last fiscal year, revenues were higher in all regions, with Europe up 25%, Americas up 125% and Asia Pacific up 44%. Sequentially revenues increased 44% in Europe, 3% in the Americas and 5% in the Asia Pacific.

Moving to the composition of revenues by type; Product revenues for Q2 were $9.6 million; up 87% over the comparable quarter of last year, and up 21% sequentially from last quarter. And on a constant currency basis, product revenues were up 80% year-over -year, and up 17% sequentially from the previous quarter. Approximately 26% of our product sales this quarter came from the sales to the 86 new customers that we added during the quarter.

Service revenues for the first quarter were $6.7 million reflecting a growth of 21% over the same period of last year, and up 11% sequentially from last quarter. On a constant currency basis, service revenues were up 16% year-over-year and up 7% sequentially.

Viewing the revenues by business unit; our total design analysis solutions revenue represented $12.2 million, or 75% of our total Q2 revenues. Design product license revenues accounted for $6.2 million or 64% of our total Q2 product revenues. And design product revenues this quarter were up 49% from the previous year and up 18% sequentially. As Roland noted, these results were driven in large part by another solid sales performance in Europe, in particular in the German and Scandinavian automotive markets and in Asia; in the Korean and Japanese electronics sectors. During the quarter, we shipped a total of a 129 new seats of the design analysis product, bringing up the total cumulative combined seat counts of over 8100 seats for these products.

For manufacturing solutions business, we had total revenues from the second quarter of $4.1 million, representing 25% of our total Q2 revenues. Of this amount, 3.4 million came from product sales, representing 36% of the companies overall total product revenues this quarter, and comparing to approximately 19% in the same quarter a year ago. The manufacturing product revenues grew by 244% over the same quarter of last year, due in large measure to the impact of the American MSI acquisition that occurred in Q3 last year. Had the product revenue of AMSI for the equivalent financial period been included in our prior year product revenue, the increase in our manufacturing product revenue this quarter would have been approximately 10%.

With respect to our sales force, we entered the quarter with 39 quota carrying sales rep. And we completed the quarter with 42; of which 32 were in the design analysis business unit and 10 were in the manufacturing solutions business unit. Annualize sales productivity for the design business was approximately $1.8 million per effective head. In the manufacturing business, annualize sale productivity with similar at $1.6 million per head. Historically, because we didn't have business unit in place in the past, we looked at our productivity over all product lines combined. On that basis, the combined productivity in the design and manufacturing teams was up 25% from Q1 '05, and up 36% from the same period of the prior year.

Turning to operations and earnings, we are reporting GAAP net income of 14 cents per diluted share for the second quarter of fiscal 2005, more than double the GAAP EPS of 6 cents reported in the same period of the prior year. The 14 cents in these quarter, exceeds the high end of our range of estimates for the quarter provided on the last earnings call, and was directly resulted the over achievement in the revenue. Earnings per share of 29 cents for the first half of the year were nearly three times the EPS recorded in the first half of the last year.

In the second quarter, our overall gross margin on total company-wide revenues was approximately 78%, unchanged from Q1. We would expect our growth margin to remain at similar or possibly slightly lower level over the course of the fiscal year, depending on the mix of the products revenue. The gross margin on our design analysis solutions revenue was 90% and was inline with traditional levels for this business and our expectations. The gross margin on the manufacturing solutions business in the second quarter was 42%, up from 37% in the first quarter. And we continue to expect to see these margins trending upward, toward a level up near 50% over the course of next year.

Total spending for operating expense item was $10.8 million, up from $8.9 million in the proceeding quarter. You may recall that on our last conference call, we noted, that our spending in Q1 was lower than planned due to delay in some items that would then be expected to be incurred Q2 and Q3. This in fact was the case and the Q2 results reflect approximately $300,000 to $400,000 of spending that fell over into Q2 from Q1, primarily in marketing and G&A. In addition, total operating expenses increased about $200,000 or 2% due to the weak dollar. The remaining growth is from a combination of elements, which I will touch on in just a moment.

When comparing to operating expenses of $8.5 million in the same quarter of the prior year, other factors do come into the mix. The Q3 2005 result reflects the combined impact of the full quarter of the American MSI acquisition and unfavorable foreign exchange -- I am sorry favorable -- unfavorable foreign exchange on expenses as well as the growth in spending relative to the higher levels revenue and increase costs of compliance. Breaking that down a bit further, R&D costs for the quarter of $2 million increased 24% from the first quarter, and 33% from the same period of last year. No software development costs were capitalized during the second quarter. However, in the September quarter, we had capitalized approximately $200,000 in a similar amount in Q2 of last year. Other factors driving the increased spending over Q1 in last year included unfavorable foreign exchange, particularly the strong Australian Dollar, and increased compensation cost.

Sales & marketing expenses were $5.6 million in the quarter, an increase of 20% from the first quarter, and 19% from the same period of last year. The increase in both periods was a result of increased sales commissions expenses related to higher revenues in the current quarter, increases in the marketing promotional activities largely delayed from Q1 and unfavorable currency movements. Additionally, the addition of American MSI sales team increased our sales expenses from the previous year.

G&A costs at $3.1 million dollars for the quarter were up 22% sequentially, and 45% from the same period of the prior year. The increases are a direct result of the high costs of professional fees related to compliance and tax matters, most significantly preparation of internal controls documentation and Sarbanes Oxley 404 testing requirements. In the second quarter, we incurred approximately 200,000 of expenses related to Sarbanes Oxley compliance.

As we have a large number of material operating sites, the documentation requirements are more expensive than our original estimates. As a result, we anticipate spending in the order of $300,000 to $400,000 for professional fees, in each of the remaining quarters of fiscal 2005. A significant portion of these costs will be incurred in the attestation process by our independent auditors However, if this is true --as is true this year in most companies, we have never engaged our auditors to do a full audit in attestation of our internal controls and therefore our estimates of their time and fees remain preliminary at this stage. We expect to be able to refine these estimates as we proceed through the second half of the fiscal year. However, it remains difficult to forecasts these costs at this time.

Currency fluctuations during the quarter had a small favorable impact on our net income results. As currency effects on the year-over-year revenue growth were approximately 6%, while the effect on total spending was an increase of approximately 4% over the same quarter last year.

And finally, our estimated annual effective income tax rate for fiscal 2005 is 29%. In the second fiscal quarter of 2005, our actual income tax rate was 31.3%, on pretax income of $2.3 million, in line with our expectations. You may recall that in our first fiscal quarter, we had incurred a one time benefit of $230,000 from the reduction of our valuation allowance recorded against our differed tax assets. As a results of the one time Q1 benefit, we estimate that our income tax rate in each of the remaining quarter, would be approximately 31% and that this will results in the estimated effective income tax rate of approximately 29% for the full fiscal year.

Looking at the balance sheet and cash flows; total cash and investments of $52.9 million at the end of the quarter, were up a $127,000 from the previous quarter. Operations consumed just over $700,000 of cash in the quarter, driven mainly by an increase in accounts receivable and decreased in our differed revenue. Relatively high proportion of our product sales are typically completed in the third month of our fiscal quarter, and as a result the increase in revenue late in Q2, relative to the prior quarter, increased our account receivable by more than $3 million.

Further, many of our European and Japanese customers renewed their maintenance and support contracts in January and April. The timing of that contributes to a seasonal decrease in differed revenue in our second fiscal quarter, which in turn reduces our cash generated from operation. This timings factor will have an opposite impact on Q3, when we expect to have a more meaningful level of positive cash flow.

During the second quarter, capital purchases consumed $345,000 of cash, as previously mentioned, no cost were capitalized relative to software development effort. DSOs of 65days were up 12 days from both the previous quarter and the same period of the prior fiscal year. This was a direct result of the timing of sales late the quarter and the corresponding increase in accounts receivable.

I would now like to turn to our outlook and provide you with a view of our business prospects for the future, and in doing so, I will note that this summary will include forward-looking-statements, which do involve risks and uncertainties that could cause actual results to differ materially from those projected. And again I’d note that you should refer to our SEC filings in today's press release, for description of those risks and uncertainties.

So as we look out in to the remainder of the 2005 fiscal year, we are raising our expectations for the level of the annual revenues, the projected range of which we are increasing to $64 million to $66 million. For the upcoming third fiscal quarter of 2005, we are projecting revenue between $16.5 million and $17.2 million. Operating margins are currently estimated to be between 10% and 12%, and with these operating results, we expect GAAP earnings per share for Q3 to be in the range of 12 cents to 14 cents per diluted share.

For the full year, we have also raised our expectation of the range of GAAP EPS. We currently expect that EPS will be in the range of 56 cents to 62 cents; a level which would representing roughly a 150% growth over the prior fiscal year results. Our expectation of achievement and earnings in this range represents performance at a level higher than our stated financial plan objective set out at the beginning of this year.

Now while the timing and magnitude of some costs items, in particular, the cost of Sarbanes-Oxley 404 compliance efforts are not wholly in our control, and thus, represents variability over the upcoming two quarters, we remain committed to delivering enhanced operating and earnings leverage during this current fiscal year. Finally, we expect to generate positive cash flow from operations in fiscal Q3 which is as noted, consistent with our seasonal trends. And with that, I will turn it back to Roland.

Thank you Sue. So in summary, we believe that the moment we have established has put up in a strong position to continue our expansion plans under the umbrella of responsible fiscal management, and continue to provide the steady earnings growth necessary to deliver maximum shareholder value.

And with that I will be happy to take any questions.

Thank you. The floor is now open for questions. If you have question, please press “*” “1” on your touch tone pone, at this time. If at any point your question has been answered, you may remove yourself from the queue by pressing “#” key. Questions will be taken in order they are received. We do ask that while you pose your question, that you pick up your handset to provide optimum sound quality. Once again, the floor is now open for question, if you do have a question or comment please press “*” “1” on your touch tone phone, at this time. Please hold while we poll for question. Thank you, the first question comes from Dennis Wassung of Adams Harkness.

Thank you. Couple of quick question, guys, on the -- some of the expenses actually, going forward to, obviously we saw some increases here sequentially. And looking at the guidance and some of your commentary, do you think we are looking at sequentially up operating expenses in each of the categories, as we move to the rest of the fiscal year at this point.

Yeah, I think it is fair to say that, you would expect to see that. Certainly, those expense is a function of increased revenues, and so you would expect to see some small growth there, as it’s consistent with the revenue base or the increase in revenue. And as I mentioned, on the G&A line, we will be working to try to hold G&A as steady as possible. But I think, you know, we are expecting some variability ability there because of the Sarbanes-Oxley cost.

So, you now will see a volume of, say, a couple of 100,000 kick into the G&A line, as you go up in terms of like $300,000 to $400,000.

Suzanne MacCormack Yeah, I guess -- baked into our view for the quarter is an assumption that we are going to try to hold the G&A close to current levels, but it could rise a little bit.

Okay. And couple of question I guess over on the product side, when you look at -- I guess you didn’t made too many comments Roland, on like the MoldflowWorks product and MoldflowXpress. I am curious what the progress is through the SolidWorks partnership, and if there is any material revenue in the next fiscal quarter from those partnerships?

I didn’t address it particularly, we are in a --in the mode of that product, it’s in the rollout process. It’s getting itself in to the hands of all other customers and they are working through the process of beginning with same activity result from that. We don't really expect to be able to say a lot of about it materially until later on in the financial year. But that which we have seen, has been encouraging. The relationship and the response that we have got from the resellers, as a result of relative customers bases seem positive, and it is one of the things that have made the environment for us working with resellers significant. S, that's the early sign that we see, and then we hope to see the follow-on in terms of their business success later --a little later on in the year.

Okay, so really no real impact from that yet, and -- a driver as we look forward to the rest of the fiscal year.

No, it's something that we look forward to kicking on later in the year.

Okay. And, I guess, similarly with some of the distributors -- and the expansions it's had to the channel here, how much of an impact or I guess contribution do you expect from some of this new initiatives you have made, over the next couple of quarters. And then if you look forward in the next year, is there going to be material chunk of revenue percentage basis coming from this new channel partner?

I think we should see some contribution towards the back end of this fiscal year, there might be -- the impact I think would be more significant going into our financial year ’06 as some of the relationships will have matured to a level that -- and the working relationship will have build itself up to a more predictable --on a more predictable basis. As far as ’05 is concerned, these were the things we set out to do at the beginning of the year. And so the impact that we should see, should be consistent with the guidance we put out there and we will build that into our ‘06 plan. We expected to see and still expect to see in ’06, indirect revenue taking a larger proportion of our overall revenue. I am not talking about where it's jumping from the current 10 to 15 range into the 40% range. But if it moves from 10 to 15 into the 15 to 20, or like those numbers, which we will find as we build the plan that would be consistent with what we've been trying to do.

Okay. It is very helpful. I guess one last question, just on the broader environment. You’ve obviously seen some sharp increase this year in gross and in the product revenue lines here. And I guess I am curious if you're seeing any material change out there or is it really the majority --I mean, if I am assuming that the majority of the growth you're seeing and the performance you're seeing coming from the new capabilities and some of the new products; whether it's MPA version 7.1, or on the manufacturing side, from the Altanium side. I guess, what are your thoughts there, between the design side and the manufacturing solutions part of the business?

Fortunately we saw positive things, pretty well, you know, kind of across the board. And if you look at this design business side, we saw both improvements which I would mark as the result of the environments. In other words that our end use customers are more inclined to invest. So we see -- as a result of that we see follow on orders coming from established large customers, as I mentioned people like Foxcon (phonetic) and Samsung making follow on investments in our traditional products.

We are also seeing the results coming through; on top of that, of the success of our MPA 7 product, which went out a year ago, we continue to build on that with the release of 7.1 here today. And that tends to -- that product line is the line, if you like, that pushes us further and further into the design -- upstream design process. And so the success of that product is following along with our belief which is being brought out in results that this is a segment which is receptive to this type of product because of the pressures which are being put on them. But there is an issue of a combination of the market acceptance and putting the product in place to match that.

I think two important industry statements for us, also showed improved signs of their health; the automotive and electronic sectors have historically been important sectors for us. And a couple of years ago we saw the electronic sector had quite some pretty big difficulties and I think I'd be ahead of myself if I said that the electronic sector that was ready today, but I think that they have found that they have a --prospect into a better place and that’s brought with the increased investments. And the automotive sector, which we had, pockets of success with over the last couple of years but we had soft areas. I think the German automotive area had not been particularly strong for us for a little while, and I think it’s one of the reasons why they are able to contribute to better results in that part of Europe and therefore drives the overall European place. So I think it's a number of factors on the design side.

On the manufacturing side, I think we saw the -- especially the strength in the biggest space of that business, the Altanium product line, through a combination of increased share in North America as well as the beginnings of increased shares in the European region. And so that product line is following the path that we set out for it when we made the acquisition and successfully so. We are also starting there to see, as we said the improvement traditional manufacturing shop floor as we revitalize that or we reintroduce it, if you like, through the new channel which we have been doing in the last couple of quarters. So we started to se some signs that that was in fact bearing fruit. So, it’s been pretty well across the board and as we execute on those plans we made out at the beginning of the year.

Thank you very much and congratulations. And Sue, good luck in the new endeavor

Thank you very much, Sir.

Thanks Dennis.

Thank you the next question comes from Julian Alan (phonetic) from Canal Capital.(phonetic)

Hi good morning, just a few quick questions. Firstly on the revenue growth side, Sue you mentioned that year-on-year growth in manufacturing solutions would have been about 10% [inaudible] effect of the acquisition. Just looking at some scribbled calculations that I have, that would make by my numbers about a 26% organic growth rate for the business as a whole, does that sound about right to you?

I just want to be clear on what I said. What I said was, if we had included American MSI revenues for the corresponding quarter in the base period.

Right, in the prior year.

The growth --the combined growth would have been about 10%.

Right and, if I, --

And it’s difficult to strip out what would have been the growth just on the -----

Julian, were you looking for the aggregate of the total business?

Yes exactly

So, it's the combination of design and manufacturing.

Right.

I am sorry, I thought your talking about the just the manufacturing business unit. I am not sure that I have that number, though. I can’t comment on that number because I don’t think I have it calculated.

Okay maybe we can take that off line.

Yes

Second question. In the past, you have spoken about trying to achieve an operating margin in the 16% to 22% range, here we’ve got a sequential decline from 14% to 12% and obviously you discussed that there were some one-off items, but perhaps some structural increase in expenses given Sarbanes-Oxley and other things. Do you thing that ultimately your target margins will be achievable this year? Or do you now think that with these unanticipated items --that these prior targets are maybe a little aggressive?

Well we still think that it is possible for us to get into that range in the second half of the fiscal year, and we are still planning and expecting that we will. The guidance that I gave you would suggest that it wouldn’t be in Q3. But we do think that it is possible and probable in Q4. The variability is first year Sarbanes -Oxley costs, and I think that’s the million dollar question for us and many other companies. We think that the model on an ongoing basis, striping out the effect of first year compliance activity, remains a viable business model for the company. But I guess I provide the caveat on fourth quarter, just because of the question about Sarbanes-Oxley first year cost being difficult to forecast at this point in time.

Absolutely, and then final question. Can you talk a little about conversion to cash? It looks like DSO's are up to about 65 days versus 53 days last quarter.

Right.

Any thing going on there?

Really is a factor of timing. Our growth in receivables was driven by the SKU of orders in the third month of the quarter. We typically have a high quarter end SKU. It is typically more significant in the December quarter because of the holiday effects. And so the increase in receivables, as well as the impact of deferred revenue decreased due to the annual contract that tends to renew in the third and the fourth quarter. So the draw down on deferred revenue is what draws down negatively on operating cash in the second quarter. It's a seasonal impact that has happened in other second quarters. That said, the DSO level is not higher than history in second quarter and we expect to see that begin to come back down again in to the low 60's or low to mid 60's, in the upcoming quarter, which is again consistent with sort of our internal -- our own view of what's realistic for DSO in this company with those global presence that we have.

Great. Well thank you very much and good luck in you next endeavors.

Thanks Julian.

Thank you.

Thank you. The next question comes from Jim Jenchub (phonetic) of Providence Equity (phonetic)

Good morning.

Good morning.

Good morning.

Most of my questions have been answered. Congratulations on the good quarter. I just wanted to -- on the operating expense, if I could go back to that one more time about the R&D line, because we didn’t really address or talk specifically about the increase there. It went from 2 million and 1.06 to 2 million sequentially. .

Yes

I just wondered f you could comment on -- I know that you might be limited a little bit about why the increases as a part of the transition from the acquisition yet, or -- and also may be on some comment on what is going on R&D right now?

Okay well let me take the sort of the mechanics question and turn it back to Roland to talk a little bit about what's active in R&D right now. But mechanically from Q1 to Q2, the growth, which was on the order of $400,000. The most significant factor is that in Q1 we had capitalized about $200,000 of software development cost under FAS-86. And we didn’t have a similar capitalization in Q2. So you might say Q1 was our officially lower -- or the run rate of actual spending was low by $200,000. That was properly capitalized under FAS-86. In Q2, we had no projects that met the criteria for capitalization and so we don't have that factor. So that accounts for about half of the growth. The other half -- the $200,000 growth reflects a combination of unfavorable foreign exchange, since the significant portion of our R&D occurs in Australia; the weak dollar impacted unfavorably our R&D expenses. As well as increasing compensation cost, we do our annual reviews for employees around the world on October 1, and so our cost structure typically reflects a small uptake related to the cost of increased compensation relative to review. And so that’s the elements -- and Roland.

Yeah I mean our R&D strategy, if you like, remains steady. Once we integrated American MSI into the business back in -- back a year ago. We set about on the manufacturing side, building the plan for hardware consolidation platform development, so that we could work with a lower cost on a highly effective platform, and that continues to be the primary strategy alongside the expansion of the flexibility of implementation of that product line so that it's simpler to bring these products into an operation and to make them changeable to match the changing business environments that a manufacturer has today. And they have been and remain the remainder goal. There not much difference in activity going on from quarter to quarter, it's more to do with what Sue is talking about. And on the design solution side, we continue to build on a number of fronts of course. We are building the on an ongoing basis the strength, speed and reliability of our solution technologies with numerical methods, new models of the white [polymer] behaves, and new applications that makes it easier to get access to those products. In addition, we are continuing with our long term goals of seeing the coming together, if you like, of the [Y] manufacturing technologies, can predict the properties of the plastics as the parts manufacturers have that concede to, the world of structural analysis and we’ve seen these things coming together over recent times. And some relationships which we had announced over the past 12 months would bare that out, so we continue to push forward our connections there.

Appreciate the detail. Could you guys -- so the normalized -- if we were to model this a little bit, I mean would say that 2 million is more of an normal expense going forward or it would be some place in between.

It's give or take.

Yeah

Okay alright. And then I know that Asia's big part of your plans the future. I was wondering if you can --and I know one of your goals is the China growth, especially the manufacturing side. Could you give us a little update more specifically on China -- or have you talked about that already, I don't know.

That’s fine. As you said, the whole Asian region is very important to us and China in particular is being built to be an important growth market for us. And we had early success in both Taiwan and China, which we in some respect put back together, I will explain why in a little moment. But some success earlier it would had designed product solutions and introduced those into that marketwise, as primarily, some of the larger foreign corporations were making investment in China and bringing some of their practices with them. And so that, that was the focus, and one of the reasons why we look at China and Taiwan, together many times, is because many of those business at least as it related to Moldflow represents Taiwanese companies making those Chinese investment, and we would follow those in.

And on the manufacturing side we had not done lot, in terms of introducing our manufacturing products into that region, as the generic level of the customer base there was really is still so heavily leveraging of our cost of labor -- and the manufacturing products, we felt we would best deploy them or put our resources elsewhere for the time being. When we bought American MSI last year, what we saw the opportunity to lead our manufacturing investment in China, with bringing the Altanium hot runner process control systems, there even ahead of our traditional shop floor products, and then use them to link demands. And so we, began the projects that we use elsewhere, which was to begin to establish relationship in the region, you know look for the right sort of people to help us partnering into that part of the world which I think is an important part for our strategy for China. And we have been doing that over the course of this year. The Yudo relationship was -Yudo is essentially a Korean company, they have a good presence across the entire region. So that is one of the element that our China strategy was getting such a strong partner.

I know that earlier, we spoke about 60-70% of your business being from repeat customers. I wondered just how that dynamic is going to change or will you have some channel complex. I mean, how are you managing this. Again, there were couple of questions in there --but.

Well I guess, if I was going to broadly characterize it, I think it is approximately a little under half of that revenue comes from services of which is largely maintenance which is inherently from our customer base, and half of their new product licenses tends to come from existing customers. So that’s --just characterizing where that number would come from.

Yeah, actually I am really talking about new products more then the maintenance.

So, yeah a little bit over -- characteristically it’s been at a half and half of the new products, new customers and existing customers and we tended to see that continued, the -- on the -- certainly throughout Europe and North America, because many of the businesses that has one of the opportunity we saw when we acquired American MSI was their installed customer base, and so part of the activities that’s going on is being able to use advantages of selling multiple products into the same customer base. So that would bring up even the amount of sales which would go into the existing customer base. Our strategy to leverage early implementation of shop floor products to slower the larger implementation would increase the amount of sales to existing customers, and to some extent that would, I think offset, the largely new product to new customer business which we would expect to see in Asia. So I'm not sure that we are going to see a significant change in the aggregate, although we might see the change per region vary a little bit.

Okay I will let somebody else jump in, and thanks, And Sue, good luck to you, okay.

Thank you.

Thank you the next question comes from Walter Ramsey (phonetic) of Walrus (phonetic)

Good morning. Hi Roland, hi Sue, congratulations great quarter.

Hi, Walter, thank you.

Thanks Walter

Just another few things, I guess we have covered a lot of ground already. But as far as the sales force goes, you plan to expand that or are you going to use the kind of indirect channels to drive the growth from here.

It's both. We have been making some steady investments in our sales force; both direct and indirect. I think the direct one is to continue the expansion into the more traditional base. And the indirect is to -- it's more focused on anyway, getting a broader access to the mid-market. We see opportunities in both those segments, so we should expect to see investments in both of those area, not exclusively but a lot of the focus for increasing our direct presence has been in the Asian region, where we are still building more of our of that presence, specially for our manufacturing product.

Okay. And in the design analysis area, the U.S. market perking up at all, or it's still kind of slow.

I don’t think it's where the others are. But we still would signed that as the US. market. I think we have been saying for sometime that we could feel that the environment was better, even if we didn’t see it really translating significantly into new business. And I think we started to see that occur over the course to the last quarter. It’s --it would be too early to say that it was buoyant year, but certainly the indications were on the positive side of neutral.

Okay. And then as far as manufacturing solutions goes, is that relatively subdued because of competition or economics or is there's something else that’s at work there.

No, I think really the -- I mean the overall, you know, you have to break that into two segments. The Altanium part of the manufacturing solutions has showed continued and marked strength. I think the traditional -- what we would call our traditional piece of manufacturing business went through the transition process, and it’s what we have been speaking about for a couple or quarter. The -- basically we change the entire sales model, rebuilt pipeline into that model. We had mentioned -- we had sort of called out the -- that the pipeline we thought it was growing, so it wasn’t something we thought was a structural change to the business. And we started to see -- that begin to emerge over the course of the quarter, so I still believe that to be true. So I think that’s you know an internally driven phenomena due to the fact that we strategically changed that business model to one which I believe is in the -- is the correct model long term for the business, so we had to endure the change.

So is the manufacturing solution on the verge of reaccelerating?

Well we saw positive signs to it and I think we will continue to see positive signs of the manufacturing business. You know, you got to roll through a sale cycle, through a pipeline and so, my expectation is that we should continue to see steady improvement in that part of the line. It is -- because of the Altanium piece being larger, it had a more muted effect now, until it actually gets back into the level where it's in -- where it know built itself up to be a larger piece of the overall revenue. But, I fully expect to see the manufacturing products continue to strengthen.

And just lastly, I guess, is the company actively pursuing any acquisitions or are you going to pretty much totally focus at what you have at this point.

No, we continue to evaluate businesses for acquisition. We have an active program that sources out the companies that fit our business plan, our long term strategy, and we are going through a rigorous evaluation process both in terms of the fits for products and markets, in terms of financial fit and what we see is the cultural fits. And of course that leads you to moving away from a lot of businesses, on one of those criteria or another, but the process is active and remains a key part of our growth strategy.

Well, that is good. Thanks again.

Thank you.

Thank you.

Once again everyone, the floor is now open for questions. If you do have a question or comment, please press “*” “1” on your touchtone keypad at this time. Once again that’s “*” “1” on your touch tone phone.

Okay.

We have no further questions at this time.

Well, there being no further questions, I would like to take the opportunity to thank you all for your support. And Chris and I look forward to speaking with all of you again in April. Thank you and good bye.

Thank you everyone. This thus concludes today’s teleconference. You may disconnect all lines at this time and have a wonderful day.