CoStar Group Inc (CSGP) 2004 Q1 法說會逐字稿

Welcome to CoStar Group's first quarter earnings conference call. Today we have with us Andy Florance, President and CEO, Frank Carchedi, Chief Financial Officer. And Mark Klionsky, Senior Vice President of Corporate Communications. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question and answer period. If you would like to ask a question during that time, simply press star, then the number one on your telephone keypad. Thank you, I will now turn the call over to Mr. Klionsky.

Good morning, I'm Mark Klionsky, Senior Vice President of Corporate Communications, and would like to welcome you to the CoStar Group's first quarter 2004 conference call. Before I turn turn the call over to Andrew Florance, President and CEO of CoStar, let me state that certain portions of this discussion include forward-looking statements, which involve many risks and uncertainties that can cause actual results to differ materially from such statements.

Important factors that can cause actual results to differ include, but are not limited to those stated in CoStar's first quarter 2004 press release, and CoStar's filings with the SEC including the form 10-K for the year ended December 31st, 2003, under the heading, Risk Factors. All forward-looking statements are based on information available to CoStar the date of this call and CoStar assumes no obligation to update these statements.

In addition, please visit our website at www.costar.com/corporate/investor for a webcast of this conference call, and for the reconciliation of all non-GAAP financial measures discussed on this call. Andy.

Thank you, Mark. Welcome everyone to this quarter's conference call. We are very pleased to report another quarter of strong revenue and earnings growth. Our revenues for the first quarter of 2004 were 26.3 million, an increase of 4% over the fourth quarter of 2003. And a 16.5% increase year-over-year.

Pro forma earnings for the first quarter tripled to 3.1 million, or 17 cents per share, compared to pro forma earnings of $972,000, or 6 cents per share, in the first quarter of 2003. On a GAAP basis, our performance improved from a net loss of 843,000 or a loss of 5-cents per share in the first quarter of 2003, to net income of 1.5 million or 8 cents per share in the first quarter of 2004.

Our pro forma numbers represent net income before purchase amortization and costs of the revenues, and operating expenses and the related income tax benefits. We ended the first quarter with 104.6 million in cash and cash equivalents and short-term investments. For an increase of 7.2 million over December 31, 2003. CoStar Group has no material debt.

Overall we are in an outstanding financial position as we move forward with our plans to agressively expand our market coverage, and pursue the wide range of growth opportunities before us. Frank Carchedi, our Chief Financial Officer, will address the first quarter results in more detail later in the call.

First I would like to brief you on some the trends we are seeing in our current business, as well as the progress we are making on the aggressive expansion program we laid out for you last quarter. We have continued to see signs of gradual recovery in the the commercial real estate markets. After years of severe market conditions, most of the nation's office markets have stablized and are starting to turn back up.

The national vacany rate for office spaces had increased for 10 consecutive quarters throughout mid 2003, and has now held steady for three consecutive quarters. The amount of vacant subleased space in the market continued to decline this quarter. Net absorption of office space totaled approximately 4.5 million square feet this quarter. It's the third consecutive quarter in positive territory.

While any positive absorption is a plus, 4.5 million square feet is relatively low and a nonimpressive number. Usage of our services continue to increase at a very encouraging rate in the first quarter. If fact, our two leading revenue producers Property and Comps reached their highest usage levels since we began keeping track of these statistics in December of 2002.

Usage of CoStar Property Professional reached nearly 5 million weekly page views in the first quarter, and usage of Comps Professional is running about 25% ahead if its' historical average. The renewal rate for CoStar's subscription services increased almost 5 percentage points to over 90% in the first quarter of 2004, compared to the first quarter of 2003. We believe these usage trends are precursor to continued strong renewals and positive customer referrals.

During the first quarter of 2004, CoStar Group signed over 340 new customers including several of the leading commercial real estate ferms. Of particular note is a multiyear agreement with Encore International, an international network comprised of some of the leading independent brokerage firms in the U.S. and the U.K. We currently have liscense agreements with 20 independant Encore affiliates, and we are excited that Encore International is standardizing on our information platform.

In previous calls we have noted that financial services firms and institutional investors are using our services more and more. This quarter, we signed major agreements with Citigroup, AIG Global Investment Corp., Allied Capital and Capital Crossing Bank, RBS, Greenwich Capital, and others.

Our fastest growing client segment is nationally ranked consumers of our data. Investment banks, financial institutios, fund managers and retail billions of dollars invested in commercial real estate equity and debt, and spread throughout the nation. Last year we signed close to 1 million in annual revenues for national data with institutional clients The strength of the analytic and forecasting capabilities in the Property Professional system, in combination with seamless multimarket access, is very valuable to this client segment.

National brokerage firms like CB Richard Ellis, Cushman Wakefield, Trammel Crow, and Jones [INAUDIBLE] are now joined on our client roster by household names in the institutional money market business. Firms like money management business. Firms like Citigroup. Met life. Agone. CS First Boston. Deutsche Bank. [inaudible] are now our customers.

Expanding completeness of our market coverage will bring even greater value to this lucrative customer segment. It is our belief as we increase the value of our offerings to the institutional clients, we will be able to increase revenues as we penetrate deeper into this segment.

In addition, we are finding that many commercial real estate players in our planned expansion markets are pleased that we are going to make their commercial markets more visible to major institutional sources of capital. As we discussed during last quarters' conference call, we plan to expand CoStar services into 21 new geographic markets in 2004 and 2005. That expansion effort is now very much under way.

We believe we can enter these markets with tremendous financial efficiency, delivering the highest quality database as possible, and thereby positioning us to further accelerate our sequential quarterly growth rates in 2005, by as much as 50%. Furthermore we believe it is possible to achieve internal rates of return from 30-70% on our investments in these new markets.

Some of the smallest markets that we now currently operate in, generate very solid earnings, and we believe that as many as 100 or so cities in North America and the UK could contribute meaningfully to our future earnings growth.

CoStar has been recognized in the past for the sophisticated technology and processes we use in doing the important field research required to open new markets. CoStar personnel have driven millions of miles and photographed hundreds of thousands of buildings over the past decade. In preparation for the significant expansion effort we have revisited every aspect of the technology and process we use to could collect comprehensive information on new markets.

As a result, we have dramatically improved the technology and process we will use in the field in this expansion effort. I had the opportunity to spend two days last week with senior managers trying out and debugging the new field research trucks we are using in the expansion.

I cannot tell you how impressed I am with the potential value of the technology we developed in this area. These trucks are basically mobile offices equipped with computers, GPS, communications, sophisticated digital photography equipment, laser measuring devices, and rolling commercial real estate libraries.

Each market is broken into hundreds of half mile grids. Dispatchers dispatch one of these trucks to one grid at a time to collect all the relelevant data in that grid. If I drove a truck in one assignment grid I had an overhead monitor showing my assigned grid, a high resolution aerial of it,and map overlay.

My research partner in the back of the truck could see the same information on their monitor. As I drove the truck through the grid, I could see my precise location on the aerial, down to exactly which parking place I just pulled into. A digital bread crumb trail followed our vehicle throughout the day, so I could efficiently cover all the relevant areas of the grid, skipping none and minimizing the overlap.

And if there was an industrial area within two blocks over, that we didn't know about, I could see that clearly on the aerial. Each grid contains dozens of task points to indicate probable commercial real estate properties that need to be researched.

We stopped at each point or building, and our team would collect laser measurements, classify the properties, rate the properties, map them, collect tenant names, and collect dozens of data fields, including leasing and for sale signs. One team member would circle the property collecting data, and radio back to the truck to the second team member, who keyed or verified it into the database.

Finally, we would pneumatically raise a camera boom up to about 25 feet from the roof of the truck and collect high resolution, birds eye photographs of the property. I'm thrilled with the technology and process, because at least we believe that we can build these new market databases with unprecedented comprehensiveness, accuracy, quality, and speed. What has been historically a very complex task, it is broken down to very, very manageable segments.

Now, that we have designed and acquired the majority of the needed vehicles and equipment, we are currently focused on the challenging task of building and configuring 34 of these highly sophisticated vehicles. We believe that we will have dozens of the trucks functional within 30 days.

We have recently hired and are training approximately 42 new field research photographers from across the country. We expect to bring on another 20 research photographers over the following weeks.

Next Monday, the majority of these new personnel will participate in a two week intensive field research training exercise in one of our expansion markets, Richmond, Virginia. We expect to have research personnel working across all 21 markets by June of 2004.

We intend to work closely with the leading commercial real estate firms in these markets and will create advisory boards in these expansion markets in order to refine our services to meet the local market needs.

So far we have received a very positive reception and response from the initial firms contacted. I think they are very excited that CoStar is entering their markets. We intend to begin preselling leading firms in some of these expansion markets in May, and continue that process throughout the year. We expect to begin general preselling in many of these markets in the fourth quarter of 2004.

As we have mentioned before, we are current currently focused on the acquisition of smaller local market players that support our goal of rapid and efficient geographic expansion. On Monday, we announced that CoStar has entered into a definitive agreement to acquire Peer Market Research, Incorporated. This planned acquisition, which we will -- anticipate to close in May, will supplement and add momentum to our organic market expansion plans.

PeerMark [inaudible] four years ago, is an online provider of commercial real estate information and market reports, in Memphis and Nashville, Tennessee. The company has approximately 60 customers in the two cities, and is break even on revenues with approximately 415,000 annually. We are excited about this planned acquisition for a number of reasons. First, we think it is a great opportunity to expand into two significant new real estate markets that have been on our expansion list for some time.

Both Memphis and Nashville are among the top 60 U.S. MSAs, and are very important markets in the southeastern United States. Memphis is a major distribution center, and is always on the short list with Atlanta, Chicago, and Dallas, when corporations are considering relocating, or consolidating new distribution centers. The market is not only home to FedEx's corporate headquarters, but also hosts the headquarters of FedEx's three major operating units. In addition, Nike, Jhonson and Johnson, Pfizer, Hewlett Packard, and Mazda have major distribution facilities there.

Prologis and AMB, two of the largest industrial property reefs that operate in the region, have a significant presence in these markets, and IDI and [inaudible] Developments, two of the largest private industrial developers are also very active Memphis. PeerMark currently tracks approximately 116 million square feet of industrial service center space in Memphis, and about 24 million square feet of office space. On the office side in addition to FedEx, International Paper and Auto Zone have significant presence in that market.

Nashville is also a major industrial distribution center, with a slightly larger office component than Memphis. Overall, Nashville is a larger commercial real estate market than Memphis. PeerMark currently tracks approximately 30 million square feet of office space, and approximately 80 million square feet of industrial service center space in Nashville. There is good investment activity in both of these markets.

With our field research process, and significantly greater research resources, we believe we can add as much as 200 million square feet more to the databases in these two markets, thereforeby increasing the potential customer base in these cities. PeerMark has a very good retail database, tracking approximately 72 million square feet in Memphis and Nashville. We believe we can achieve significant revenue growth in these markets a number of ways.

The addition of Memphis and Nashville will give us a much stronger offering for the commercial real estate firms in Atlanta and Charlotte that operate throughout the region. Like wise we believe many of our multimarket customers particularly the large brokerage firms property owners lenders and investors will be interested in adding these new markets to their subscriptions.

In addition, we believe we can reach many new customers in these cities with superior technology and functionality of the CoStar Property Professional System. Over the longer term, we believe we can create additional growth by offering our full suite of services to these markets, such as adding CoStar Tenant, CoStar Comps, and the like..

Another reason the PeerMark deal is interesting is that the company was founded by two individuals from the Memphis commercial real estate community, and two-thirds of its' shares are owned by brokers and principals of real estate firms in Memphis and Nashville. When we complete the transaction, the current owners of the company will be our customers. I can't recall ever going into a market with as much strong support as we appear to see in these two cities.

In addition to our expansion effort, we are currently working on a major upgrade of our back office software systems that manage our research process. Research is our single greatest cost center.

We believe we can achieve significant efficiency gains in cost containment in this area through this software overhaul. We believe it is possible to contain our costs and simultaneously improve our data quality, and client satisfaction through software improvements.

The new system will consolidate three disparate research systems into one unified system. This will reduce the complexity of our systems and dramatically reduce our training requirements. In addition, the new system will eliminate a number of the instances of double data entry that we currently have today.

Hundreds of times each day the work of one researcher will suggest changes to the database that need to be considered and executed by a second researcher. Much of that sort of work flow today is done on spreadsheets and done manually. The new system will act as an automatic traffic cop and automate a significant amount of this work flow transfer. In many instances the current system does not enforce data integrity between our various products, and clients are sometime presented with two different values for the same data field across two different products. The new system will eliminate this inconsistency and problem.

Much of the data modeling our researchers need to perform is actually very complex. The new system will give our researchers visual representations of the data that will make complex systems seem much simpler and more intuitive. At the end of the day, the research we do for our clients is really very much of a service business, which requires a lot of human interaction with our clients.

We have found that our clients very much value their relationship with our researchers, and the excellent customer service our researchers provide to them. We believe that this new software system will allow us to improve that researcher-client relationship by making the research processes significantly smoother for our customers. At this point I will turn the call over to Frank Carchedi, our Chief Financial Officer and he will go to more color on the first quarter numbers.

Thank you, Andy. As reported in our press release yesterday, and as Andy indicated, the year-over-year progress we have made is substantial. But to save some time I'm going to move directly to a discussion of the first quarter results as they compare to the fourth quarter of 2003.

The sequential results from Q1 and Q4 of 2003 are important in understanding the Company's progress, and why we believe we will be able to balance our planned investment in 21 new markets, with continued revenue and earnings growth during 2004. Total revenues grew sequentially by 4% overall from Q4 to Q1 increasing from 25.3 million to 26.3 million.

The growth for the quarter was principally the result of further penetration and successful cross-selling as well as a renewal rate of over 90% for the quarter. Our UK operation contributed approximately 8% of the revenue in Q1 as expected. Organic growth of approximately 4.3% was achieved in U.S. subscription based information services, including CoStar Property, Tenant, Comps, Exchange, and Connect. With the addition of the London Based Focus Services, subscription revenues for the company accounted for 94% of revenues during Q1.

Gross margin increased from 17.5 million in Q4, to 18.3 million in Q1, as margin percentages increased from 69.1% to 69.8%. Costs of revenue increased slightly from 7.8 million in Q4 to 7.9 million in Q1. With regard to operating expenses, overall operating expenses excluding purchase amortization increased from 15.4 million in Q4 to 16 million in Q1.

On a more detailed level, selling and marketing expenses increased from 6.9 million in the fourth quarter of 2003 to 7.2 million in the first quarter of 2004. This was principally due to costs for our annual internal sales training meeting during the first quarter.

Software development increased slightly from 1.8 million in the fourth quarter of 2003, to 1.9 million in the first quarter of 2004. General and administrative expenses remained constant, at approximately 6.8 million from the fourth quarter of 2003 to the first quarter of 2004, as the company continues to leverage its existing overhead.

Income tax expense of 103,000 related to state taxes and federal alternative minimum taxes and was recorded in Q1. Income tax benefit of 115,000 arose as a result of the deferred income taxes we recorded in Q1 upon the finalization of the purchase accounting for the Property Intelligence acquisition.

We expect this benefit to be recorded each quarter, corresponding to non-tax deductible amortization of purchased intangible assets. Thisbenefit is excluded from the calculation of pro forma earnings.

Pro forma earnings per share, which is our net income before purchase amortization and the related income tax benefit, was 17 cents for the quarter, an increase of 1 cent per share from the fourth quarter of 2003. The continued improvement in pro forma earnings resulted from sequential revenue growth, growth in margin percentages, which over the last year increased approximately 3 percentage points and relatively stable operating expenses.

Our earnings before interest, taxes, depreciation, and amortization,improved from 4.2 million in Q4 of 2003, to $4.5 million Q1 of 2004. Our GAAP basis net income improved from 1 million or 6 cents per share in Q4 of 2003, to 1.5 million, or 8 cents per share in Q1 of 2004.

Reconcilliation to GAAP basis results of all non-GAAP financial measures discussed on the call, including EBITDA and pro forma earnings, is shown in detail in our press release, issued yesterday, which is available on our website. Capital expenditures for Q1 of 2004 were approximately 816,000, as planned, principally to support our existing platform.

We closed quarter with approximately 104.6 million in cash, cash equivalents, and short term investments, an increase of 7.2 million over the fourth quarter of 2003. This increase resulted from growing EBITDA, improved cash collections, and 1.9 million of proceeds from stock option exercises of approximately 240,000 shares of common stock during the first quarter.

We continue to believe we have adequate resources to operate under our current business plan, including our expansion plan, and that we are in a very strong financial position coming out of the quarter.

Now, I will discuss the outlook for the second quarter and the year 2004 As I mentioned last quarter, and as Andy has just described, during the second quarter we began the field research phase of the 21 market expansion. We generally have not experienced this type of expansion over the last few years, and as in our past expansion plans, we expect our cost structure to begin to escalate in advance of revenue in these markets, as we invest in future revenue growth opportunities for 2005 and beyond. This is consistent with our plan to balance earnings growth with continued expansion of the business platform, and focus on long-term opportunities.

As we indicated in our press release, we expect quarterly sequential organic revenue growth of approximately 4% for the second quarter of 2004. Also we expect pro forma earnings of approximately 17 cents per share for the second quarter of 2004, and continue to expect 71 to 73 cents of pro forma earnings per share for the year. In addition, we expect GAAP basis net income of approximately 8 cents per share for the second quarter of 2004, and 37 to 39 cents per share for the year.

The PeerMark acquisition is not included in our guidance for the second quarter, as it has it has not yet closed, but I will provide you with data points for the acquisition. PeerMark is running at approximately 415,000 in annual revenue for Nashville and Memphis combined. Having grown at approximately 25% annually for the past several years.

We expect to acquire the company for an initial payment in cash and stock of approximately two times the revenue. We expect the market entry costs under this type of acquisition scenario to continue to stay within our previously stated investment range of 250,000 to 750,000 per market.

Moving back to the operating expenses of the company. Gross margin percentage is expected to remain relatively flat from Q1 of 2004 to Q2 of 2004, based on our assumed revenue growth being offset with a gradual ramp up of direct expenses related to additional vehicle and research operating costs for our expansion plan.

We expect operating expenses including selling and marketing, software development, and G&A expenses to increase by 3-4% overall in Q2 of 2004 due to increases in personnel, marketing, outside services, and communications primarily as a result of our expansion. We believe that these increases include escalation in the underlying cost structure of the existing core business of approximately 1 to 1.5% due to normal salary and cost escalation.

We expect purchase amortization in the second quarter to continue at approximately 1.7 million, and we expect purchase amortization to be 1.6 million per quarter for the remainder of the year. We expect to continue to have growing taxable income during 2004 and although our net operating loss carry forwards are substantial, we may be subject to some limitations on their use. In addition, we may be subject to alternative minimum taxes and state and local tax jurisdictions may not recognize portions of these loss carry forwards.

As a result, we expect to incur tax expense of approximately 135,000 in Q2 of 2004. As mentioned earlier, we also expect to have an income tax benefit of approximately 115,000 in Q2, related to the deferred income taxes from Property Intelligence.

Finally, we expect capital expenditures for Q2 of 2004 to include investments in assets required to support our planned market expansion, including 35 additional research vehicles, substantial building photography, communications equipment, initial databases, and measuring, photographic, and computer equipment, totalling approximately $3 million for the quarter.

In addition to that, we expect approximately 1 million of capital expenditures in Q2 of 2004 to support existing operations, which is consistent with the past several years. In conclusion, we believe we have and will continue to demonstrate the strength of our business model and our ability to execute our plan. As we have in the past, we belive that during 2004, we will continue to grow earnings and revenue, while balancing our investment into new markets. We look forward to reporting our progress to you. And with that I'll open the call for questions and answers.

At this time I would like to remind everyone in order to ask a question, please press star, then the number one on your telephone keypad. To withdraw your question, press star, then the number 2. We will pause for just a moment to compile the Q & A roster . Your first question is from Brant Sakakeeny with Deutsche Bank

Thanks, and good morning, just a couple quick, modeling questions for you. Frank, do you happen to have the currency gains in the first quarter? I know the UK business is less than 10% of revenues, but were you favorably impacted at all by that?

Actually, I'm glad you raise that issue. There was a sharp spike up in the value of the pound in Q4 which favorably impacted our sequential growth in Q4. In Q1, that currency issue is pretty stable so we didn't really have a currency effect on the revenue numbers or the overall number

Thanks. And then I know you mentioned the tax rate. And some of the loss carry forwards that you might have. What -- I guess my question is what tax rate should we model going forward? And then can you just walk through the tax rate adjustments on the pro forma calculation?

Yes. You know, I would -- it is kind of a -- it is kind after long answer, Brandt. I.

Okay if it's easier to do it offline, we can do it offline.

Let me try to answer some pieces of it at least. On an ongoing basis I have no reason to think that the effective tax rate would not be much different from sort of a standard 40% rate. We do have significant loss carry forwards and you know, of course, it depends on how all that gets treated for accounting purposes. If you look at what is happening now, we are accounting for the tax expense on an actual basis, because we have those substantial loss carry forwards which are fully reserved on the balance sheet. So whatever tax is coming through in the form of alternative minimum taxes, state taxes are just getting charged to the P&L each quarter. And then this benefit arises, and is essentially a non-cash item, which is the unravelling of deferred income taxes associated with Property Intelligence, and that is going to be an offset for GAAP basis earnings but we have excluded that from the pro forma because that is a non-cash item and sort of a mechanical accounting treatment.

Got it. Okay. Okay. That is helpful. And the capex figures for '04, what should we be using?

For overall?

Yeah.

I believe we previously stated a number in the 9.5 million range, which is breaks down to about 5.5 million for 2004, for field research and expansion into the 21 markets, and 4 million or there abouts which relates to the ongoing capital expenditures for the existing operations, and just historically over the past few years we have been doing about, you know, some where in the neighborhood of a million a quarter on average just to support the existing platform.

Okay.

So, you know, consistent with that, you saw about a million, you know, rough numbers a million in the first quarter, largely relating to the existing platform because we had not really launched into the 21 market expansion, and then as I just mentioned in the call, we expect to you to see a bigger capex number in Q2 as we do start investing in the expansion area.

Okay. And just, with respect to the Tennesee acquisition, can you all just walk through, what integration challenges are ahead, and the timing of say, getting the back offices, the general ledgers and all the data all integrated? Thanks.

The integration challenges appear to be relatively straightforward. I would say that they are nearly identical to the integration we faced when we recently acquired the company up in Portland. And it is -- it should take us about a month of labor to do. It is basically just uploading their databases up into our product and the replacement. There are no real features in the PeerMark system that don't already exist in the CoStar system, so it is a relatively easy one to do. I anticipate we will have that done within about three months time, and run both their system and our system concurrently for some period of time to allow for a smooth transfer for their clients. But I would put this at the very lower end of challenges for integration.

Okay. Great. Thank you very much.

Your next question is from Jim Wilson of JMP Securities.

Good morning, guys.

Hi, Jim.

Hi.

I was wondering, Andy, if you could kind of describe outside of the brokage business the types, magnitude of deals you might be working on with REITs, developers, banks., are they bigger in scope or size of dollar amount than you might see in the brokerage business, just some level of sort of color or charchterization of what you see out there. I know your penetration is low, but just sort of characterize what the deal opportunities look like.

Sure. The -- the deals we do with banks and institutions generally are always almost always larger than the typical deals we are doing with brokerage firms. And that's simply because a brokerage firm is generally interested in purchasing local market data and the institutions are generally interested in purchasing all the U.S. markets or national access. So I would think that the average bill to an institution is probably 6 to 8 times larger than to a brokerage firm. Typical brokerage firm. And, so it is a -- it continues to be a -- a very significant piece of our revenue growth right now, and a pretty good area for us.

Okay. Do you describe your backlog or that, you know, the relative percentage of business you might be working on that is brokerage versus nonbrokerage?

Well, I think it would probably lie in line with what we have seen for the last two quarters, and what I believe we are seeing is about 30% of it is that sort of national institutional business, and perhaps a touch more. I would look for that to increase over time.

National institutional meaning again non-brokerage.

Meaning nonbrokerage. About 30% of what you're working on. Right.

Great, that's good. That's all I had. Good quarter.

Thanks.

Thanks, Jim.

Your next question is from Dalton Chandler of Needham and Company.

I'm sorry. Good morning.

Good morning, Dalton.

Good morning.

Let's see. I'm sorry could you just go over how the -- this tax benefit arose?

Sure. Dalton, it is -- it it is fairly normal to finalize these tax accounts in the purchase accounting, basically, within one year of an acquisition after you get tax returns and a lot of research finalized there. What that essentially is and what you will often see associated with an acquisition, is a deferred tax item that is associated with the nondeductible purchase intangibles, and this is kind of a mechanical accounting thing.

What happens is for book purposes you are going to have expenses which are the amortization of these intangibles. Those are nondeductible for tax. So mechanically what the accounting is trying to do, is correct the effective tax rate for the company, by having this deferred tax item which flows through as a benefit, correcting the ongoing effective tax rate.

The unusual thing that happens here under accounting is that the GAAP accounting, you know, is not really concerned with whether or not Property Intelligence is actually a tax paying entity and because it is not currently a tax paying entity, because of its financial situation, break even, or tax losses, that benefit is flowing through sort of unencumbered with tax charges, and that is why it pops out for GAAP purposes.

Okay. And then you did have an unusually large number of options exercised in the quarter, which made the share count higher than what I had expected. And when I just plug that in, it actually, looking at the out quarters turns out to be dilutive by about a penny a share in total. Can you talk about what we should expect to see from options exercises going forward?

Yeah, we did -- we did see -- you know, we did see some options that were exercised -- exercised by Andy, and that was about 125,000 options that were near expiration, and I think, you and I had discussed, he exercised options, he also acquired some shares through options, through exercising options, about 33,000 shares, so there was a fair amount of option activity, probably, you know, a little lumpy because of those transactions.

We had given -- we had given guidance of about 18, approximately 18.6 million diluted shares coming in the quarter and ended up with about 18.7. Not enough to really move the dial. And I would not take that change in share count and extrapolate that forward through the rest of the year I think that was an anomly in the first quarter, here.

I think the way I modeled it, I was looking for about 100,000 shares per quarter Is that a reasonable assumption going forward.

I think that is probably a reasonable modeling assumption. Of course, it is very hard to predict, but do I not -- I do not expect a very dilutive situation going from quarter to quarter through 2004.

Okay. All right. Thanks very much.

All right, Dalton, let me just add, you may have dropped off. Let me just add to that comment that, as options are exercised and become shares, they are also taken out of the dilution calculation for options, so, you know, it is -- there is a little bit of an offset there as options get converted to shares. It is not a one-to-one impact.

Your next question is from John Neff of William Blair.

Hi, guys. A couple of questions for you. First.

Hi, John.

The nonsubscription revenue line seems to be showing some signs of life in terms of year-over-year increasing positive growth. Can you talk about what's driving that?

I would think that would be our ad hoc revenues growing from property express, that is the new product where a customer can come in and use a credit card and purchase just a discrete search, rather than subscribing to the system, while 90 plus percent of our revenues are still subscription based, that's growing and that would cause that. As well, we have -- Jim Black in the advertising revenue.

Um-h'm.

That is also nonsubscription based and is growing as well. So those two components. The good news is they are growing. And -- so that is shifting that a little bi,t and hopefully continues to shift more but, we will take subscription or nonsububscription revenue.

Right. Also, Frank, according to my calculation, it looks like DSOs fell to 13 days during quarter. Is that correct and down from 28 a year-ago?

That's correct, John. You know, I think we talked about this on the last call. There are a host of reasons why that is happening, including I think foremost, improved products, improved customer service, improvement in the general economy, an important improvement is one in our just the mechanics of our billing system.

I mean we have done so much work on the infrastructure of the company and we've improved those processes, so we are getting -- we are getting better collections activity from all directions for a number of reasons, and we are obviously very pleased with that result. It is an outstanding indicator of a number of issues.

I I just was wondering if you could sort of comment generally on what -- what sort of the rising rate environment that we have been seeing could mean to the commercial real estate stablization or recovery and what, if anything, rising rates may mean to your business as a result.

I think the rising rates could impact cap rates on investment sales. Could shift that a bit. Could impact new construction. Neither one of those are -- are extremely direct impact on our business. Again, as ownership shifts on properties, should that occur, the new owners are more likely generally to buy information products than the existing owners who are marginal. So someone is still going to own those assets and transactions are fairly good for us. We have no debt in the [inaudible] to be impacted. We have decent cash balances which could be impacted. But I don't think it -- I think our strong recovering economy is good news for us even if it is accompanied by interest rate increases because it leads to positive absorption.

It could cause, and the bottomline, it could cause some static in the new construction and the -- some ownership interests could have a difficult time with new financing levels, but that generally does not impact CoStar's business, and often impacts it positively shifts -- impacts it positively.

Great, great. Thank you. And Andy, also congratulations on becoming a father.

I left that out of the conference call. But thank you very much.

There are no further questions at this time. Gentlemen, do you have any closing remarks?

I want to thank everyone for joining us for the first quarter conference call and we look forward to updating you on our progress in the expansion effort at next quarterly conference call. Thank you.

Thank you again for participating in today's conference call. You may now disconnect.