ANSYS Inc (ANSS) 2016 Q2 法說會逐字稿

Good morning and welcome to the ANSYS quarter two 2016 earnings conference call. All participants will be in listen only mode.

(Operator Instructions)

Please note that this event is being recorded. With us on the call today are Jim Cashman, CEO and President; and Maria Shields, Chief Financial Officer. I would now like to turn the conference over to Jim Cashman, President and CEO. Please go ahead.

Thank you. Good morning and thank you to everyone for joining us to discuss our second quarter and first half of 2016 financial results. But, of course, before we get started, I will introduce Maria Shields, our CFO, for our Safe Harbor statement. Maria?

Thank you, Jim. Good morning, everyone, our earnings release and the related prepared documents have been posted on the homepage of our Investor Relations website this morning.

They contain all of the key financial information and supporting data relative to Q2 and the first half 2016 business results, as well as our Q3 and FY16 outlook and key the underlying assumptions.

I would also like to remind everywhere that in addition to any risks and uncertainties that we highlight during the course of this call, important factors that may affect our future results are discussed at length in our public filings with the SEC, all of which are also available via our website. Additionally, the Company's reported results should not be considered an indication of future performance, as there are risks and uncertainties that could impact our business in the future.

These statements are based upon our view of the business as of today and ANSYS undertakes no obligation to update any such information unless we do so in a public forum. During the course of this call and in the prepared remarks we will be making reference to non-GAAP financial measures. A discussion of the various items that are excluded and a full reconciliation of GAAP to comparable non-GAAP financial measures are include in this morning's earnings release materials and related form 8-K. Jim, I'll now turn it over to you.

Thank you, Maria. First, I would like to start with a recap of the results that the ANSYS team achieved in Q2. The quick headline is that all of our recent communications on performance metrics, including at our last investor day, are on track or even ahead of projections. As you may recall from our Q1 earnings call, and from the investor day in early June, we laid out a number of key financial and operational objectives for Q2.

These included, first, achieving non-GAAP revenue in the range of $240 million to $248 million, secondly achieving strong margins and earnings per share, three high rates of recurring revenue, fourth, continued growth in both deferred revenue and backlog, and then finally, an improvement in our direct sales and channel productivity, particularly in those areas where we have ramped up the new sales hires. I am encouraged to say we did, in fact, deliver on every one of these goals in the second quarter.

So, specifically, first, our non-GAAP revenue for the quarter was $246.1 million in the upper half of our range. Our revenue growth was led by solid sale's execution, particularly in Germany and Japan which reported 12% and 9%, respectively, growth in constant currency, as well as in China which was actually our fastest growing of the larger markets.

Now, this in turn, was offset by the UK and France, which were the softer performing parts of Europe. Our overall revenue growth was also suppressed, in the short term, for the quarter by a shift away from perpetual licenses to leased licenses, whereby the revenue was spread rateably over the term of the contract, but this shift also contributed to the record deferred revenue and backlog and we will talk about that in a few minutes.

This shift was particularly true in the more mature markets like the US and Japan. So, notably, growth came across a broad base of industries, including aerospace and defense, electronics and automotive. All of these are all actually highlighted in more detail in this quarter's prepared remarks which are posted on the website so you can check into that if you haven't already.

Okay, secondly, non-GAAP EPS in Q2 was $0.93, which is actually above the high end of our guidance range. The 2016 second quarter and year-to-date results included approximately $2.4 million or about $0.03 earnings per share related to incremental tax benefits that were associated with some end of the structuring and related repatriation activities that were not included on our previous guidance. Our non-GAAP operating margin was 47%, well within the projected margin range.

Okay, so now if we dig into just highlights, operational highlights in the first quarter included 31 customers orders in excess of $1 million. This is inclusive of the five enterprise agreements, actually, one of which was in excess of $16 million with one of our long standing aero and defense customers.

So, through the first half we've now closed eight enterprise agreements and we continue to build a solid pipeline for the second half. This should put us in good position to achieve our target of around 15 of these deals by the end of 2016.

In particular, these deals are a validation of the evolving licensing and increasing usage trends that we are seeing within some of our largest and most long standing, in terms of time, customers. They tend to the be very similar to Cummins and P&G, customer stories that were actually highlighted if you attended our investor day in June.

In addition, I am actually pleased to report that in addition to those long standing customers, that we also added over 350 new company logos to the roster of ANSYS customers during our second quarter. It is really important because ANSYS really has a long history of retaining and growing our relationships with customers for, well, basically, literally decades. This remaining true today and our reoccurring revenues are demonstrative of that success.

These new logos compliment our solid customer base and basically they represent all major verticals, but I would say there was a particular strength in sales in new companies, particularly in sectors like electronics, industrial equipment, automotive and the material and chemical processing areas.

Our recurring revenue for the quarter was 74%. And our deferred revenue and backlog as of July 30, was at a record high $524 million.

I guess overall the second quarter results, they reflect a mixed bag of pluses and minuses, most importantly we saw improved execution in targeted areas of our business, while we also saw the continuation of softness in certain markets and parts of the channel. In addition, we see the same ongoing geo-political tensions that we highlighted last quarter and everybody is seeing. They maybe got a tweak worse in the short term as a result of things like the recent Brexit vote and some of the other activities going on around the globe.

So, on the technical side during Q2, we also released the latest ground breaking version of our software, ANSYS 17.1. In this we also launched our new ANSYS SeaScape and platform and our SeaHawks solution. Both of these are spelled out in more detail in separate releases that you can find on our website.

But the key of these is that they leverage the power of really what our ANSYS proven technologies for low powered designs, but it also combines them with big data analytics. This taking techniques that are useful in all forms of high performance computing, such as big data, map reduce, [adupe] and machine learning. We've actually applied them to chip design, so coupled with an open interface, we are able to do things that really are very revolutionary compared to the previous state-of-the-art.

Basically what it does is it creates a system-aware chip flow and also a chip-aware system flow that our customers can leverage the technology to predict expensive failures and optimize designs and innovate actually before volume production. So, enabling this faster design convergence is extending our leadership in this important and growing market.

I think the combination of advances of existing products such as Chip Package System and this next generation innovation is what was really behind driving accelerated bookings growth in the first half of the year in our semiconductor business unit, even amidst all the consolidations that we've talked about and heard about in the news. I would also say we are well positioned to leverage these technologies to close deals that are filling up the pipeline in the second half. Now, the one thing on technology, as we have said a number of times, particularly in recent calls, we know we have to make our software easier to use to bridge now to a broader range of engineers.

For several decades we've had strong relationships with academia, but we have really taken it to another level recently with new initiatives. These include -- I am thinking -- including our campus wide licensing, our student version of the software, which actually recently went over the 100,000 download mark.

With massive online courses, or MOOCs, that actually are one of the largest ever, with over 20,000 participants. And then capped off by, at our investor day on June 2, we also announced our new partnership with Carnegie Mellon University, which basically includes an ANSYS simulation site to be built near the engineering -- actually, built on the engineering campus.

On top of that, we also recently announced our University of Pittsburgh partnership whereby we actually jointly established an additive manufacturing lab to further education and research in next generation manufacturing.

I think the key of all this is we are moving into not just providing current technology to students, but we're actually proactively teaming with world renowned institutions to drive how tomorrow's engineers are actually being prepared to tackle the challenges of the future. This is a really big part of pre-equipping an ever-expanding user community.

With those brief comments I will turn it back over to Maria and she will discuss our Q3 and 2016 guidance, and then we will move on to Q&A. Maria?

Thank you, Jim.

As we outlined in this morning's press release we've initiated our outlook for Q3 with non-GAAP revenue in the range of $244 million to $253 million and non-GAAP EPS in the range of $0.90 to $0.94. With respect to our previous guidance for FY16, we've tightened the revenue range and factored in Q2 EPS outperformance, as well as incremental tax benefits in the second half that we believe now are more likely to occur.

This translates to our updated outlook of non-GAAP revenue in the range of $990 million to $1.01 billion and non-GAAP EPS of $3.57 to $3.67. From second half of 2016 we are assuming no significant changes either way in the overall macro climate.

We also see sales rates ramping up, particularly in Q4, as some of the newer sales investments have been brought on begin producing, and as the channel improvement and expansion initiatives also continue to drive incremental sales.

Our updated guidance also factors in assumptions around the enterprise agreement that are in the pipeline for the second half and the high probability that those deals will be recognized rateably over the contract period given what we experienced in the first half of 2016 and also given the current dialogue with many of these customers around the compositions of the deals and the licensing terms.

Further details around specific currency and tax rates and some of the other key assumptions that we factored into Q3 and 2016 outlook are outlined in the prepared remarks.

So, during the second quarter, we repurchased 1 million shares at an average price of $86.08, and for the first half we have repurchased 1.5 million shares at an average price of $85.84.

As of the end of June, we have 3.5 million shares of capacity left in our share repurchase program, so consistent with what we have been communicating, including at investor day, it is our intention to continue to dedicate a portion of our free cash flow to returning capital to shareholders through our share repurchase program. We currently anticipate that the second half share repurchase activity will be similar to that of what we did in the first half. With that, operator, now we can open up the phone lines and take some questions.

We will now begin the question-and-answer session.

(Operator Instructions)

Our first question is from Anil Doradla of William Blair & Company. Please go ahead.

Hey, guys. Jim and Maria, good job on the quarter. I had a couple of questions. So, Jim, obviously, you folks have embarked on big changes within the Company, whether it is salesforce, whether it is products or whether it is pricing.

We saw some positive impacts through the channel it looks like in some of the Asia pack regions. Can you help us understand a little bit where you, or what innings you are on in terms of improving salesforce productivity, improving the channel and adoption of these new products?

Okay. Well, I will go along with your baseball metaphor and let's just say we are probably in about the 4th inning, but as you can see, as you noted, trends are going pretty well. First of all, the acquisition of the talent, whether it is channel or directed, is the one element. Second of all is the training.

Keep in mind we are continuing to broaden and extend the product base so it is not like it is this static base of technology that people can get on top of. It is a continual learning process. And then the time that it takes for them to take those skill sets and employ them into the field and interact with customers effectively.

We have gotten through, pretty much, the ramp-up in staffing. Actually what you were witnessing in the first part so far is the ramp up in terms of the training and the efficiency of the team. Now we are into more of the traditional sales comment.

You also mentioned a couple of other things. It is not that we are changing because things were inherently bad because actually they have been very good for a long time.

Actually we were changing because -- we were evolving because the world is evolving an awful lot. The presence of cloud computing, some of the buying preferences of customers, basically being able to embrace all of those. One of the most notable recent additions as we've always had perpetual -- we've always had software as a service, we've always had time-based licenses.

But now you get into some of these things that are being prompted about by clouding. You get into the concept of elastic licensing and different kinds of mechanisms like that. That is really just meeting and evolving consumer demand.

All the while, while technology is continuing to progress because we see with new technologies like additive manufacturing come forth, well it brings a new set of pressures as to what could really benefit from simulation. So, it is just one of those things.

You cannot stand pat in this industry. You have to continue. So we have done a lot of organic investment, but we also continue to stay very active even in these, kind of like, tricky evaluation times of the heavy search on potential partners for mergers and acquisitions.

Okay. Clearly, you are on track of a good year on ELAs. You are talking 15. I think you did like four or five in 2014 and 2015. The question is, given that ELA is turning out to be much more on the upside and given that you have been making some changes in your traditional salesforce, is there a -- taking a second look at your salesforce strategy? In other words, people that you are allocated on these verticals, on these customers and clients, and not turning the demand environment on versus focusing on ELAs where you are seeing a lot more productivity. Can you help us understand how you are balancing these two?

Well, sure. It is a totally fair question.

First of all, we don't sit there and say we are going to hit X number of these things because as we talked about, you talk about something this big and the buying cycles can move and push a little bit there and forth.

However, it is also one where it takes a very deep understanding and usually already a long history with customers who have already proven it internally.

So, we have -- we actually mentioned about a year ago that we -- actually, even more than that -- we started to shift some of our salesforce because there are an increasing number of customers that are interested now in moving toward these system-wide adoptions of simulation. However, there still is a lot of the traditional base. They're still doing tactical technical buys. We need to be able to serve both of those markets as that latter market continues to mature.

What we started to do is actually segment the -- from what was basically an all geographic base salesforce to one that are actually more targeted toward those larger engagements, while also not leaving the tactical territorial ones behind also. In fact, that was part of the transition and turbulence that we were seeing, talking about, probably even as recently as four quarters ago. So, that is still going on in place. But the fact is we are now starting to ramp up. I think you can even see from the measures of these that they are, in fact, starting to ramp up.

The other interesting part of this is that we are also seeing, though, that once people get into this mode, they are able to now adopt the value much more quickly. We are seeing that we are getting some periodic additions from companies that may have already even committed to a multi-year deal, but now they are actually accelerating that. It is just that we've removed some of the barriers by making it very easy for them to adopt on an enterprise basis and quickly learn internally as to which paths are the right way to go.

All right. Great. Thanks a lot.

Thank you.

Our next question comes from Jason Rogers with Great Lakes Review. Please go ahead.

Good morning.

Hi, Jason.

Hello. It was good to see the double-digit growth in Germany. I wonder if you can talk about the factors that contributed to that and how sustainable that is going forward.

The factors there -- keep in mind there has been a lot of ups and downs in Europe of all sorts of natures votes and various domestic and -- all sorts of things like that. However, Germany is a really strong industrial base. It has been perennially one of our top three markets.

With that in mind, we've also been doing some ramping up. We have got one of our best long term partners who has continued to grow and evolve with us, also, which is, of course, one thing we have always looked for. So they have been very solid. They in particular -- the channel activity was particularly strong there.

Now, how sustainable is it? Yes, it is sustainable. I think that even during this ramp up thing we will see some ebbs and flows, but if you pass a trend line through it you will see positive activity because, again, the same things that we saw in North America and Japan are fairly evident also in Germany where you have a strong industrial base, it is fairly mature and developed, we have long standing relationships, now we just have to bring those same skills and processes into it.

I don't think it will be like a monotonically linear type of up-tick curve, but it should be trending continually up-wise and being, in particular, pretty positive. That being said, any time you talk about anything projected for Q3 in Europe, there is always a bit of ups and downs in there. I will put that caveat in any -- I probably put that in every Q3 for the last 17 years that we have been doing this. Does that hit you?

Yes. That is helpful. Thank you. Then just looking at the perpetual license performance in the US or North America in the quarter, would you expect that to be a similar rate for the next several quarters, or were there some unusual factors that led to the results there such as the signing of the ELAs?

Well, ELAs can affect that, but keep in mind, some ELAs, some customers doing ELAs, still do perpetuals. They are not all time-based licenses. I think in general what you will see is, yes, there does seem to be that trend that we have been talking about and trying to delineate the last few quarters where there is more of a trend toward time-based licenses, but we've also said there is a lot of financial examination that companies are looking at.

They are doing everything and looking at the trade-off between time-based licenses and perpetual licenses. They are comparing that to, oh, what if I use the cloud and elastic pricing? How does the economics of that work? We have a number -- in fact, most of our cloud activity is really right now tied up in customers doing economic comparison evaluations of on-premise versus cloud.

I think during this situation where you have more and more companies entering that kind of thing on top of the macro economic choppiness, I think there will be some -- I think there will be some chop in those numbers.

The bottom line is, at the end of the day -- I don't want to be cavalier about this -- we don't care that much over the long term because as long as we lock in customers we know our retention rates are very high. Right now we are really trying to get the ramp of having more people utilizing the technology. We want to make sure there are numerous -- that there are numerous ways and no particular enforced financial hurdles that could slow down that potential ramp up.

Thank you.

Thank you.

Our next question is from Monika Garg with Pacific Crest Securities. Please go ahead.

Thanks for taking my question. First, the perpetual licenses first half 2016 over first half 2016 is down. You talked about some shifts to the time-based license, but the lease of first half 2016 is only doing 5% over first half 2015. Could you maybe talk about the reason for that?

Well, keep in mind, if a perpetual license shifts to a lease, each time you compare a perpetual license, you are renewing what happened that year before. When you are growing on the lease base, you are growing on something that has been accumulating for 20 or 30 years.

So, you can have a pretty dramatic swing in a shift toward lease-based licenses. If you compare it to the total accumulated over history standpoint, it may look like a lower number, but it is really showing some fairly significant growth. I think that may be the big comparison is when you compare perpetual growth, you are comparing it to only what happened last year. When you are comparing lease growth, you are comparing to what added on to what was preceded by the previous 30 or 40 years of accumulated lease base. I think that's more of just a mathematical analysis of it.

The other thing is, when you shift from a perpetual to a lease, while the deferred balances go up and things like that, first of all, an annual lease is less than a perpetual license. On top of it gets rateably recognized so you don't even see all of the impacts of that. But in general you see a steady growth going up. I think that is how the math is working if I am understanding the question right.

Okay. So, would you see similar phenomenon going forward, that perpetual keeps coming down but the lease growth is less than, still mid-single-digits?

Yes. And particularly, Monica, I will also point out particularly in Q3, the decline in the comparative numbers to Q3 a year ago is probably going to be more significant because last year's Q3 contained a very, very large perpetual that we don't see repeating in this year's Q3. So I think you will see this phenomenon continuing throughout the remainder of 2016.

Then operating cash flow is also down, right? First half of 2016 over first half of 2015. Maybe just some points on that?

Most of that is just around the timing of tax payments compared to a year ago. We are still looking at cash flow for FY16 in the $355 million to $370 million range.

Okay. Thanks. But that is still down year-over-year, right?

It is.

Okay. Thank you.

It will be about even.

Thank you.

Our next question is from Jay Vleeschhouwer from Griffin Securities. Please go ahead.

Thank you and good morning. Maria, let me start with you, and then turn to Jim for a longer term product or technology question. So, for Maria, you had a surprisingly large increase in maintenance revenue in the second quarter, at least versus our model. Particularly given the quarterly and trailing 12 month weakness in perpetual, was there anything of an unusual nature in the maintenance revenues that that level may not be sustainable in the second half?

Also for you, we see that you are now providing your bookings numbers, which is very helpful, and you are up 4% year-to-date, and by our calculation, about 2% to 3% bookings growth trailing 12. What does your guidance contemplate in terms of the annual increase in bookings, and then for Jim. Thanks.

Okay. So, let's start with the first one. I am sorry, I lost track.

The maintenance question.

So, the maintenance question, Jay, sometimes that will be a catch-up of renewals that didn't renew on time. So some of those were renewals that slipped from Q1 into Q2. So you get the benefit of, what I'll call, back tax. I think, at least for the remainder of 2016, we are expecting the maintenance rate to continue at a healthy pace, while renewals on maintenance continue to be in the mid-90%s and we don't see that trend changing.

I would like -- the other thing I would add, you asked the question about the bookings situation. I would say right now as we talked about the last call or two, we are -- I mean, the big issue particularly perturbed by the enterprise license agreements are the bookings being affected by the multi-year deals and our push toward being able to look at the annualized contract value of that.

You will notice we tried to put a little more additional information on that as we have gotten to it on the prepared remarks, but we really are not in a position right now to nail down guidance. At least for that on the long term right now. The main issue there being the preponderance of ELAs and the multi-year impacts of that, which tend to cause some real ripples.

Jim, for you, on the product and technology side, at the analyst meeting two months ago the Company intimated that perhaps by the end of this year you would broaden your portfolio. And necessarily also broaden your price ranges in an effort to broaden the user base, or grow the number of users, which has long been one of your major objectives.

But you didn't really say very much about it then. I am wondering now, two months later, whether you would be willing to say a little more about that. And relatedly, with respect to the SeaScape architecture, could you talk about the longer term implications of that for pricing and packaging?

When you think about the modular architecture of SeaScape around the three different services that it is built upon and your wanting to become more of a platform, so to say, what are the longer term implications for the business of SeaScape, particularly for non-EDA applications?

Okay. Well, the first part is related to -- I mean, the simple non-profound answer is that we are always continuing to broaden the technology base. And, yes, the price [income is] on a number of things.

Actually, we talked about the inclusion of elastics pricing, which is an effective pricing addition as it is, but we are trying to broaden things out because we've seen as people get the broader portfolio, there can be larger sales, but we also want to come in at the entry-level. Amidst all of that, over the years we have tended to get a very complicated number of SKUs, if you will, and we are trying to simplify the SKU base.

So even while it is getting broader, it's probably going have more discreet chunks in the there. That being said, I really want to wait until we get the specific product release information on that which is going to be later this year. Because anything else would be very -- there could still be some fine tuning, it would be like a pre-announce. It really would not be right other than the fact that the trajectory-wise, those are the trends that we are doing, but they are also in support of what we have done forever.

So, now the second part of the question was related to SeaHawk and SeaScape, right? You are absolutely right. It got its start in the chip business.

That was really where some of the name brain power from our technology group put that to play, and also you look at the complexity, when you are talking 5 billion to 10 billion transistors and how do you look at all of the permutations and how do you actually simulate all that and just doing brute force computations is one of the reasons why it was very difficult to apply that. So that's why it came out in that manner, but as opposed to putting things in individual products -- you actually just mentioned the word platform, and as that, there are certain things that need to transcend and go across all products. So you look at multi-physics, that has to be handled at a platform level through our flagship products. You look at the advanced calculations.

In general, the SeaScape/SeaHawk was actually made a platform element. It is our full intent, again, not pre-announcing specific releases here, but it is our intent to actually apply that in.

I think you can see as you started to do very complicated simulations, maybe, particularly of complete mechanical system, or you look at complex hybrid systems between software, mechanics and electronics all combined, it might be needed in Internet of Things or autonomously driven cars. Those type of things, or very, very complicated non-linear calculations even in a particular like mechanics or fluids kind of situation. These kinds of capabilities for handling the big data. Then also using machine learning to learn from that and making it more efficient are clearly things that we have slated on.

It is just that we haven't attributed those to any specific release, but they have applicability across a broader range of calculations for sure.

Thanks, Jim. Thanks, Maria.

Thank you.

Our next question is from Saket Kalia with Barclays. Please go ahead.

Hey, guys. How are you doing?

Hi, Saket.

Hey, first and foremost, thanks for the additional disclosure on the bookings and a nice acceleration in growth here in the second quarter. Jim, you kind of hinted at this in one of your prior questions. I kind of want to ask it in a little bit different way.

But, lots of talk about the ELA activity and a lot more multi-year renewals. Can you just talk about how much of that bookings growth that we saw this quarter, I think it was roughly 14% or 13% constant currency, how much of that would have been excluding some of those longer duration contracts?

Oh. Pulling out the calculator here, this is not a -- you know, we didn't parse it down to that particular level.

Sure. I didn't mean to put you on the spot, but even qualitatively, how much that might have added?

My guess is it is somewhere in the mid to upper single-digits in constant currency, but that is finger in the wind. I normally like to give precise answers, and I would not be able to do that in a couple of minutes, but I know it is safely in that range.

Yes, Saket, the other thing I will add, too, let's not discount the semiconductor business units, the legacy Apache business, also had a number of renewals and expansions that were scheduled in Q2 which took place. So it is a combination of not only new enterprise agreements that are expanding the usage and the product portfolio, but also a good renewal and expansion in the semiconductor business unit.

And the other thing I will add, you commented on what we tried to add to the prepared remarks, like I told you before, we are committed both internally, but also making that available externally. As we start to evolve and enhance those disclosures, if there are certain things that you don't like or certain things that you specifically do like, we welcome that kind of input because I think it is an important part going forward. I appreciate your comments on that, too.

No. Absolutely. It is very helpful. Just to clarify the answer to that, and of course, Jim, we won't hold you to it. Maybe we could take the specific math offline, but just to clarify, would bookings growth have been -- was it mid to upper single-digits benefit to that growth? Or would bookings have grown mid to upper single-digits excluding the long term? Just to be absolutely clear.

The latter. The latter. So we would have been in like that upper digit range -- upper single-digit range without. And the rest was additive.

Got it. Okay. That is very helpful.

Sorry I wasn't clear on that.

No. Not at all. Just for my follow-up, a little bit more of an accounting question, Maria, how do you recognize the sales commissions on multi-year contracts and the ELAs? A lot of the longer term kind of subscription companies that all of us cover recognize that up front in which case you could get a big bookings benefit, but actually get a little bit of ding on the margin. Maybe just walk us through how the sales commissions are recognized as that becomes a larger part of the business?

Yes. So, in the period in which the deal is recorded, we pay commissions on the first year and also a portion of the second year, largely the new business, if you will, and those all flow through the period in which the deal is booked. So in Q2, for those enterprise agreements, no doubt the commissions were all run through the P&L in that period. Not unlike, as you mentioned, other people.

Great. That is very helpful. Thanks very much for the clarification, guys.

Thank you.

Our next question is from Steve Ashley of Robert W. Baird. Please go ahead.

Terrific. I would just like to ask on the ELAs you signed in the period. You may not have a line of sight on this, but if you had any sense whether some of the usage or use case for those would extend outside of the core QA and validation areas that you've historically dominated? Thanks.

They definitely have. In fact, if you look at it, the part you are calling the QA and that, the validation, the traditional analyst market, in fact, that is one of the reasons why, if you will, on the overall push we have been on is because that part has been relatively -- has a pretty good tax rate.

However, it is a very small part of the overall engineering design and innovation process. This is actually, if anything, it usually signals the fact of a company now bridging and going to a broader range. It is clearly -- I can only think of maybe one of the situations where that wasn't the case, where it was just in some cases they were just expanding an already well staffed out group.

Really the premise of that is, if you will, moving down the pyramid into broader bases of usage and usually involved with that also is utilizing it earlier in the design cycle where you have a disproportionate impact on innovation.

Terrific. Then I would just like to ask about the vertical markets. You kind of -- the semis, I think, have been challenged over the last, maybe, year. But I think I heard a comment today thinking maybe that had gotten a little bit better.

My question is around the vertical market. Number one, outside of oil and gas, is there anything else that is really weak? And number two, has the semi business shown some recent improvement here? Thank you.

Well, okay, in general, I would say that you might get into some of the commodity based, the mining stocks, in addition to that, that are a little bit relatively suppressed.

The one thing I would say, I wasn't trying to infer that I felt that the semiconductor market was turning the corner and was coming around. I am just saying that our relative positioning in it, as a result of both chip package system, and the SeaScape kind of platform type of thing has put us in a much better competitive situation which, in turn, has led to accelerating growth. While it is all time-based and you have a long pipeline of things, the pipeline is building nicely and as we mentioned, the growth is accelerating which kind of turned -- reversed the trends that we might have been seeing last year. So, I still think, I don't know, Maria, if you have different comments on this? I still think the headwinds are still kind of there, but our relative stead in there is actually improved.

Perfect. That's helpful. Thanks.

Okay.

Our next question is from Steve Koenig with Wedbush Securities. Please go ahead.

I guess I'm with my own firm now. (laughter) Let's see. I want to start with a question about guidance, and tuck in another financial question. Then I have a follow-up on cloud.

You all lowered the full year guide on the top end despite the beat. Are you able to talk about relative to your prior plan, did you take that more out of Q3 or Q4? And what do you attribute that lower guidance to? Is it mostly derisking or is it Brexit? Just some more color there would be helpful.

And I'll add in, opportunistically, just to follow-up to Monica's question on cash flow, for the full year, it's flat, relatively flat, despite the increase in deferred, and Maria, I guess the thought there is why? Can you give us some color on that?

Yes. Let's start with tightening of the range. No doubt it is derisking. As I said in my prepared comments, Steve, as we look at the pipeline for the second half, a number of these deal, particularly the larger ones, are really going to translate to radical revenue recognition.

So, there are some paid-ups, no doubt, that are still in there, particularly I would say in the Asia-Pac area in some of the larger markets, paid-ups are still the preferable licensing model. So it is a combination of de-risking. It is a combination of the composition of the deals, and as a result, we thought it would be wiser to go ahead and tighten the range.

Relative to cash flow, if you look at the plan and the way the numbers are working out, since Q4 it is going to be the strongest growth quarter and the build-up of receivables, you will see that manifest in improved cash flow going into early 2017.

Got it. Okay. Great. Thanks, Maria. If I could then shoot one to Jim here. So simulations seems ideal for the cloud where compute capacity is cheap and can be scaled up or down quickly. From our check we see that customers are interested and it sounds like the main barrier is an effective pricing model. You remarked that cloud activity was tied up in customers doing economic evaluations.

Yes.

Can you talk about -- is this phenomenon impacting ANSYS' growth rate right now or is that a concern for the future? And then just any thoughts or metrics on adoption of enterprise cloud and also your elastic pricing model?

Absolutely. The first part is long term, no, it is nothing but a plus. Short term, I mean, anything that causes people to spend more cycles comparing and deciding, yes, it is going to slow things down along that standpoint.

You talked about an effective pricing model. I think you brought up that term. I would say to that, luckily we have been able to look at this in two different steps. First of all, people can host existing licenses on a cloud and therefore pay on a basis of that versus actually acquiring hardware on premise and all that type of thing.

So that actually zeros out, if you will, it makes it a one-to-one on the software pricing. That being said, they are still right now comparing what does it means to turn loose that amount of computing, you know, pay for it through a service versus not having to maintain an IT staff and all the different things that are associated with that.

And that really is what has been the major things that people have been doing. It's almost the comparative of the cost of the infrastructure, control of the infrastructure, things like that. That being said, there will be an additional layer there.

What is the advantages of actually doing flexible licensing versus actually hosting owned licenses, be they time based or perpetual? And that is one that people will only be starting to dig into now, but it is really kind of the age old question on anything. Do you buy something? Do you lease something? Or do you just rent it for the weekend that you need it if you are getting access to yard equipment, things like that?

So that is part given the elastic pricing hasn't been out that long, and given the fact that people are still trying to single out, if you will, the infrastructural costs, we are still at the early stages of that, but we have time to adjust. I agree with you there is interest. There's maybe a little bit of a gap between interest and ultimate adoption, but that ultimate adoption will come.

Got you. Great. Thank you so much.

Thank you.

Our next question is from Shateel Alam with Goldman Sachs

Thank you for taking my question. I had one on the competitive dynamics in the space and your acquisition strategy.

So, CD-adapco has been under Siemens for a few months now. [Deso] just acquired a smaller simulation vendor. Two parts. Does this change your go to market in any way, especially if these vendors are likely to be able to bundle along with CAD and PLM at lower prices?

And then in terms of your own acquisition strategy, are there any areas of simulation that you would want to build out, or should we expect more of the bigger acquisitions to be in areas that are adjacent to simulation a little like space claim was?

First of all, I think the first way I view that is a lot of other companies are now validating the path that we took years ago when people were saying, why are they doing that? They are, if they will, they are validating that, you know, in the form of imitation.

More importantly is, it's not just adding a bigger grab bag of products. You have to have a comprehensive set that actually allows those to do a complete virtual prototype. And of the various situations that are out there right now, really nobody runs the gamut like we do. There are barriers to being able to do that.

That being said, I would say, if you will, our independence has actually made us attractive in mixed vendor environments and mix supply chains to being able to do that. So, it really -- we really haven't seen a lot of change.

I mean, other than the fact that -- I'd say the one change we have seen which usually happens when a CAD/CAM company buys a simulation product, is people that were on a different platform now are strongly looking at moving into that environment with us.

So, really it is -- I guess we really don't see any directional change or we are not really surprised by too many things. Now, to answer the first part of your question, or at least one of the parts of the question is, oh yes, we would still like some of the larger ones, but you said which parts of the -- we have the basic families of physics all covered. Have had that for a while and the only ones who do.

However, every one of those continue to need to be continued to be developed. So, even though our home PC was around for many years, the processors need to get faster, the graphics need to get better, the connectivity needs to get better.

Likewise, even though we have industry-leading capabilities and have had, we need to continue to progress those further in addition to meeting the evolving and emerging new trends that are pretty much in the news today, like the Internet of Things, like autonomously driven cars, as getting into additive manufacturing, all those things that put new twists, if you will, on building virtual prototypes.

Got it. That is helpful. And then just a follow-up on territory sales. Last quarter you said these reps were a little slow to ramp. I just wanted to get an update there. And then your 4Q guidance assumes an acceleration. How important is it for territory reps to get up to productivity to make that guidance?

Well, let's put it this way. We do have an assumption on productivity of the newer hires which tend to be more in the territory alignment one.

We do have -- but we also have fairly -- we haven't made, based on our historical observation of the last few quarters as we have been ramping up on here, we do see a progression. Of course, it maps very well into data as we have shown at previous meetings where it shows that, if you will, the salesforce productivity is a function of maturity of the sales person, year one, year two, year three, year four.

So we expect that kind of ramp up to come forward, but it is not -- we are not relying on any kind of herculean effort. We are relying on continued progression along that path. So, that is definitely is part of it.

Great. Thank you. Very helpful.

(Operator Instructions)

This concludes the question-and-answer session. I would now like to turn the conference back over to Jim Cashman for any closing remarks.

Thank you. I would like to thank all of you for your participation in our call today and for the ongoing support of ANSYS.

We are really encouraged by what we accomplished in the first half of 2016, but, again, as we discussed on this call and thanks to your questions, we have a lot of work ahead to deliver on our goals for the full year and the years beyond. Nevertheless, I would still like to thank our entire ANSYS team as we've mentioned some of our key partners for their commitment to driving results. All I will say is, I think in general, the general tenor here, is it is a really exciting time to be in the simulation market. We have seen a lot of trends that are driving that.

We see other companies that are now interested in entering it. It is really exciting in terms of the product advancements, things that we didn't even envision a few years ago, like additive manufacturing, like the autonomously driven cars, like this whole concept of a digital twin for industrial use for prescriptive analytics, just to name some of the opportunities.

So it just continues to grow from this point and it tends to be pretty exciting and we're happy to be in the position we are to be able to embark upon that. So basically, as the simulation markets propose to enter what we feel is a new era, we are proactively evolving our ANSYS teams.

I know some of your questions brought that. But this is in terms of technology, infrastructure, the actual ANSYS and sales teams and even the partner ecosystems to take advantage of what we see as really a tremendous opportunity over the next few years.

Basically, unimpeachably, we have a proven product strategy, one that other people are trying to emulate. We have a progressing go-to-market plan, and on top of all, we have a solid financial foundation that enables us to continue to invest in our business.

Over the decades we have built, I think, unparalleled product offerings. We have longevity with our customers, at very high reoccurring revenues, and the opportunity to augment growth through new features and exciting technology. So the bottom line is, we are continuing to expand our direct salesforce.

We have a renewed focus on the indirect channel and we are basically committed to driving those solid financial results we have been talking about and generating long term value for our shareholders and everyone else involved. With that, I will thank you very much and we will catch you on the next call, if not sooner.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.