Fair Isaac Corp (FICO) 2006 Q1 法說會逐字稿

Good afternoon, and welcome to Fair Isaac Corporation’s first quarter fiscal 2006 Earnings Conference Call.

Your lines have been placed on a listen-only mode until today’s question-and-answer segment.

Today's conference is being recorded.

If you have any objections, please disconnect at this time.

I would now like to turn the call over to JD Bergquist, Fair Isaac's Director of Investor Relations.

Thank you, Ms. Bergquist.

You may go ahead with your call.

Thank you, [Cary], and good afternoon, everyone.

Thank you for joining us for Fair Isaac's first quarter fiscal 2006 Earnings Conference Call.

We issued our earnings release after market close this afternoon, and you may access the news release on our Investor Relations page through our website, www.fairisaac.com.

A replay of this call will be available on our website approximately two hours after the completion of this call through February 22.

I would like to remind everyone that, except for historical information, the statements made on this call should be considered forward-looking within the meaning of the Federal Securities laws, including the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995.

These statements include statements concerning our business strategies and our intended results and similar statements concerning anticipated future events and expectations.

The forward-looking statements made on this call and in the news release distributed this afternoon should be viewed with caution.

These statements are subject to risks and uncertainties, which could cause actual results to differ materially from those expressed and/or implied by these statements.

Additional information concerning risks and uncertainties that could affect future financial results are described from time-to-time in our SEC filings, including our Annual Report on form 10K for the fiscal year ended September 30, 2005.

Fair Isaac disclaims any intent or obligation to update these forward-looking statements.

On the call today are Thomas Grudnowski, Chief Executive Officer, and Chuck Osborne, Chief Financial Officer.

They will review first quarter results and guidance.

Once we have completed our prepared remarks, we'll open the call for questions.

Now, I will turn the call over to Tom.

Thank you, JD, and welcome, everyone, to our first quarter call.

Our new fiscal year, as you can see based on the information that went out earlier today, is off to a very good start.

We beat our earnings guidance and the street consensus by $0.02 with EPS of $0.52.

Our revenue, although (indiscernible) of our guidance generated increasing profits due to a revenue mix shift that has been going on for the better part of the last year, as you know.

This quarter, as in the last several, our market leading and most profitable products are gaining market share, and our results continue to show it.

Scoring in our leading industry applications in credit, namely TRIAD, and fraud, namely Falcon, outperformed our expectations again this quarter.

Within the hot EDM market place, we grew again with both strong license sales and strong consulting services.

For the quarter, revenue was about 203 million with net income of 34.4 million before option expenses were included.

Please note that this is the first quarter that we will be adopting the new stock option expense accounting rule, and Chuck will talk about that in more detail later.

Using that new rule, the GAAP EPS was $0.43 per share.

In summary, our revenue was increased about 4% over the same period last year, and our EPS increased over the last year's quarter, by 44%.

Again, an indication of our improved revenue mix trend.

We believe this trend will continue throughout this year, and I'll explain that more in a second.

In addition, our pipeline remains extremely strong and is growing as a result of the increased number of feet on the street, as we've been discussing in previous quarters.

Our total bookings number was a strong 128 million, and you can see that -- see that in the waterfall report, part of the announcement.

But again, like revenue, they were very strong in our best areas.

In fact, we set sales records in the following areas -- scoring, TRIAD, collections, analytic consulting, professional services, and EDM overall.

All had record sales quarters, and interestingly, fraud had its second best sales quarter ever.

So, because of those large booking numbers in our key areas, we anticipate being in a very good position for the rest of the fiscal year if we can continue this one again.

I’ll tie back to guidance in a second.

Based on this strength, we maintain our original guidance for the year, and our revenue for Q2, now we project at around 210 million and our EPS to be again around $0.52, with options expense, again, that number would be $0.42.

Expenses this quarter will be up a bit from the first quarter as tradition holds.

We increase our salaries, our salary adjustments for the year happen in mid-December, and we plan to increase personnel in revenue producing areas like sales and consulting where we're finding ourselves in a position where demand is outstripping our supply of personnel in some areas, so we're going to fix that in the second quarter.

To tie back to our revenue guidance last quarter, we expect growth this year to come primarily from 6 core product areas.

We emphasized this in our last call.

To remind you, they include scoring, fraud, account management, collections, consumer, and EDM.

As I said last quarter, this group made up about 68% of the revenue in fiscal year '05 and grew over 20% for the year from fiscal year '04.

We said this core group had to grow 12% or more to get to the -- around 12%, I should say, to get to the 860 million of revenue that we have in our guidance for '06.

If you take that same catagory of areas, based on our Q1 actual results, this group actually now represents 70% of our revenue in Q1 and grew together greater than 13% organically.

So, therefore, naturally, we feel very good about our guidance as we depicted it last quarter.

Also, the EDM market trends appear to be very hot.

The number of qualified deals that we're chasing going into this quarter is up significantly over last quarter.

From about 2X of our projected revenue in the quarter to 3X of our projected revenue.

So, the additional feet that we've putting on the street, as we've talking about is starting to pay off in terms of lead generation.

Now before I -- I want to talk a little bit more about EDMs, since it’s a significant market for us.

First, let me highlight some of the other major areas.

Let's do scoring.

Our scoring solutions unit had another outstanding revenue quarter, roughly 46.7 million and significantly up from last year.

We're firing on all cylinders here.

We see strong product pull from the FICO expansion score, the global FICO score, the qualify score, just general increased volume and commitments throughout.

We had an extremely high bookings quarter.

As I said earlier, the highest ever, so we anticipate that this trend will strengthen and one our most important units will continue this year.

In the consumer area, we had a 34% growth this quarter, over first quarter of last year.

Again, very good traction here.

It slowed down a little.

We were expecting a little bit more revenue, but we were impacted by the hurricanes that occurred in New Orleans, and all of the consumer websites were down a bit for the statistics that are shared in the industry.

The good news was those are back up again, and based on that, we'll get back on our original plan, which is even higher than that amount of growth.

So we continue to be encouraged by Score Watch; that product is still hot.

We have some other new product launches that should keep us on track in the consumer unit.

In fraud -- had another great quarter here.

Our debit product remains the strongest one in the industry, and we've added several new customers this quarter.

We had $23 million of new sales here.

As I said, the second most ever.

Based on that, we expect that we'll exceed our annual expectations given our fast start.

Also, our new Falcon One fraud platform, which is meant to help extend the credit fraud capabilities of our existing customers, is off and running, and this platform, this last quarter, is now helping us add some new projects in new fraud areas that haven't been our traditional strengths, but will soon be our strengths.

These include checking and identity theft.

So, again, we see big opportunities in this strong backlog.

In good old TRIAD, strong TRIAD sales, one of the best quarters ever -- 8 new TRIAD deals around the world, and our processor volumes are up significantly.

Most of this growth is occurring in the international marketplace, which we think is excellent, and we have some new products that are getting very good traction here.

We have something called TRIAD transactions scores, which sort of like credit-line management, (indiscernible) science a couple of years ago when they were new, this is a new way of developing behavior scores using transaction data, and this is getting very fast take-up in our TRIAD customer base.

We expect this to add to this fast growing unit as well.

In collections and recovery, again, we were up 22% over this quarter last year.

Again, very high concentration of growth in international markets.

Here we're getting some large consulting projects where we're getting a share of the gain.

If we can help use science and do a better job of collections, we can make some consulting money here.

So, again, doing better than our expectations.

Professional services is also firing on all cylinders this quarter.

Revenue is good.

We had the strongest bookings ever.

We had larger bookings this quarter than revenue.

That's the first time that's happened in a long time.

So, given that fast start and some of the large engagements we've already won this quarter in the first few weeks, we anticipate a very strong professional services quarter.

We actually were approximately 70% chargeable head count basis, which is the best we've ever done.

So, most of that, or a significant part of that, increase in charge-ability is the result of higher-than-average consulting services in the EDM space, which we've all been trying hard to do.

In fact, if you take two of the strategic areas of the consulting practice.

If you take the EDM consulting and the analytic consulting, which we do on custom projects, that number was a little over 30% of our total consulting revenue this quarter, which is a good predictor for our EDM strategy.

Let me end.

I'm going to take a few minutes here to try to talk a little bit more about this EDM strategy because it is our biggest future growth opportunity, we believe.

And interestingly, this past -- actually month -- there have been some very interesting articles, not only in Business Week – where there's a picture of a face with a lot of equations on it.

You probably saw it last week.

The Harvard Business Review also had an entire issue dedicated to the decision processes.

In general, this area of analytics, and the importance of analytics, has become a market, and our clients are seeing it.

I want to explain again some examples of success stories.

Let me first start by reminding you that EDM means "Enterprise Decision Management."

It's an emerging discipline that any business can use to improve decision-making through the automation of decision processes using math as the principal tool.

It means using this ability to accurately score, predict, some type of customer behavior to your competitive advantage.

Now, we are obviously a pioneer in this area, and we helped create our competency in the financial services industry, and now what we're trying to do is apply this competency in new applications and extend our dominance in financial services in North America, which has gotten us to where we are today, to new industries, geographies, and decision areas.

If we had accomplished this, as you know, our strategy is to try to convert Fair Isaac from a niche scoring company to a global business modeling technology company.

So what have we been doing?

To that end, we have invested over the last four years in building decisioning software, the software we've been talking about, decision management methodology and consulting practices, new R&D in new industries, expansion in non-U.S. territories, and increasing our delivery and sales resources.

Taken together, all of this was necessary, sort of the minimum financials -- the minimum investment -- required to pursue these new markets in a good, aggressive way.

So, how are we doing, and are these investments paying off?

First, let me speak to the platform issue -- the software issue.

Our EDM software sales and growth have been outstanding both in and outside our core markets.

Our revenue is up this quarter over the same quarter last year by over 34%.

Our software has become the analytic chip, if you will, upon which, customers can confidently build new analytic applications, and our growth in consulting and software is proving that.

So, yes, our platform sells.

It works as advertised.

It's now proven.

It's recognized by independent third parties as the best one there is.

So, from that perspective, we're off to a good start.

Unfortunately, that’s not the end of our business model, as you know.

For our business model to really work, we need to create more analytical applications.

So our end game is not just setting the razor, if you will, but creating new analytic applications.

So how well is that going?

As you know, the way to measure the success of that strategy, is to look at EDM consulting projects.

Our strategy is to create enough resources in new industries, new vertical markets, new decision domains, to convince customers that analytic technology can be applied in areas where we haven't previously created analytic applications.

So how are we doing there?

Let me go through a few examples -- go through six or seven of them.

I did a little bit of this last quarter.

I'm going to do it again this quarter, and then I'll turn it over to Chuck.

I'm going to try to emphasize areas that are newer, that you may not have heard about before.

In the area -- we'll start with marketing.

In the area of marketing, in the consumer products industry, we're working with Coke and others, to develop customer databases that have behavioral characteristics for individual registered customers that allow them to make realtime decisions online about how to deal with our customers.

Now, in this particular space, there aren't databases like there are in credit and fraud.

So, actually here, the thought leadership that we are providing and actually helping the industry build new databases that are attentive to analytic rigor makes this project a ground-breaking one for us.

This project has been going on for over a year now.

It's in production.

We run it; we're building it.

There is millions of new customers in this database, and our client is taking advantage of that.

In another area -- bio-analytics -- you probably haven't heard me talk about this one before -- we now have pennant software developed again as a result of a consulting project at Darpa that has reinvented the way bio-diagnosistics work.

We have thought leading customers who are using our approach to detect viruses, and I mean the real kind of viruses.

The kind of viruses that actually kill.

In this case, vets are using this today to detect cat and dog viruses.

The project is over two years old.

Here, data is derived from a blood or saliva sample, and we match it -- believe it or not -- to a DNA virus pattern and determine whether or not the individual has a virus.

It's a Pennant recognition approach, we developed in fraud and are now applying to diagnostics.

Here, our analytics are actually stored in chemical form rather than digital form, so chew on that one for a while.

In the web services space, we are completing a project with a company called Dell Financial, and there we're creating a universal decisioning approach -- if you want to call it that -- where the entire organization is rallying around a common set of technologies to make decisions around marketing, fraud, originations, et cetera.

It's a true example of an enterprise that's embraced analytics, wants to apply it, and it consists in a fashion across the entire enterprise to do a better job of serving their customers.

In the banking environment, there is a company called Toronto Dominion, where we have been working for the last two years and is now in production, creating a similar enterprise level way of looking at customers.

This happens to be a bank, but what is unique about it is they have tried to establish the holy grail, if you will, of analytics of banks by creating one digital store for all the equations to find how you value and interact with your customers, and make those equations, if you will, accessible in realtime from all customer touch points.

So, again, it's an integration of technologies that is providing value there.

At the Royal Bank of Scotland, in collections, we're reinventing the way collections is done, doing it on a gain share basis, and have projects going on whereby we win, if they win, it's a new consulting model that we have been testing the last year and a half and we're applying there.

In the recoveries and placements field, we've been working with GE to figure out how to help Wal-Mart and Sam's Club and others.

I'm creating a network around our product called ScoreNet to connect all those companies and partners involved and try to do a better job of collections, and that system is in production and setting new standards for that particular function.

In Telco, we have had a project going on for over a year now, at British Telecom, where we have created a unique solution that minimizes revenue leakage for every call made at the BT central office.

At Sun Microsystems, we've now bundled technology -- decision technology -- that's actually included on every server they ship.

That's able to detect and diagnose, and self-heal their servers.

If, in fact, there's problems, this eliminates calls to their call center, and the computer tries to heal itself.

At Air Products, we have developed an interface between their SAP ERP system that allows them in a fast and user-friendly way, to modify -- or to simplify the way they maintain their complex material maintenance functions.

So, I will stop there, and I actually had a few more, but I'm sort of running out of time.

In general, or in summary, I wanted to leave the impression that this EDM market place is real.

We've been working on it.

We're doing it now.

We're in the process of scaling its capability by growing our consulting and R&D capacity, and actually for the first time, at least in this particular segment, we're more supply constrained right now.

In conclusion, our industry leading core products continued to perform well in the past quarter.

That, combined with the emerging EDM market place, provide us with an excellent opportunity for continued growth this year.

With that, I will turn it over to Chuck for more numbers.

Okay.

Thanks, Tom, and good afternoon, everyone.

I'm going to provide, as I have in the past, a summary of our first quarter fiscal 2006 results and then talk about our guidance going forward.

But first, I would like to address FAS 123 with you.

As many of you know, during the quarter, we were required to adopt Statement of Accounting Standards Number 123, share-based payment.

As of October 1, 2005, we began to record compensation expense for stock options on the Income Statement.

Our results for prior periods have not been restated.

The adoption of 123R makes it difficult to compare current results to historical results and prior guidance.

However, we have included in our 10K filings, a pro forma analysis of the annual impact of share-based option expense to our net income and earnings per share.

In addition, going forward, we will provide the GAAP results, the impact of 123R, and the results without the impact of 123R.

Beginning with revenue, we reported revenue, for first quarter of fiscal ‘06, of 202.8 million, a slight decrease compared to the prior quarter, and about a 4% increase over the same quarter in the prior year.

We also came in about 4.2 million short of our first quarter guidance of 207 million.

We reported 127.8 million of bookings for the quarter, an increase of 12.4 million compared to the same period last year, and less than the 140 million we estimated in the previous waterfall report.

However, our first quarter revenue yield on these bookings rose to 17%, an increase over the average yield in fiscal 2005, of 16%.

As we discussed in our press release and as Tom touched upon, our revenue contribution by market segment is outlined as follows -- scoring contributed 46.2 million, or about 23% of total revenue for the quarter, again, 39.4 million or about 20% of the total revenue in the same quarter of the prior fiscal year.

Scoring continues to benefit from increase in risk scoring services at the credit bureaus, as well as from strong sales of the PreScore product.

Strategy machines contributed 112 million, or about 55% of total revenue, against 117.8 million, or about 60% of revenue in the same quarter of the prior year.

Results of the strategy machine segment were mixed.

We had strong performance from the customer management, collection and recovery, mortgage and consumer unit, and we continue to experience some weakness from quarter-over-quarter in our marketing and insurance units.

Analytic software tools contributed 11.8 million, or about 6% of the total revenues for the quarter, against 8.8 million, or about 5% of revenues, in the same quarter of the prior year.

The increase is mainly attributable to increased sales of the Blaze Advisor and Model Builder products.

Finally, the professional services segment of our business contributed 32.8 million, or about 16% of total revenue, against 29.5 million, or about 15% of total revenue, in the same quarter last year.

The increase was primarily due to revenues from industries strategic consulting services and implementation services for our Blaze Advisor products.

Looking at vertical markets, the percentage of the quartered revenue in vertical market was as follows -- financial industry was 64%; insurance industry was 8%; telecom was 5%; retail, 7%; and finally, all of the verticals together were 16%.

The Company's transactional, or recurring, revenue for the quarter represented approximately 77% of our total revenues, as compared to 78% last quarter and 79% in the first quarter of last year.

International revenue accounted for 25% of our total revenue and was up nearly 5% over both last year's first quarter and our prior quarter.

Now to review expenses.

The adoption of 123R impacted certain expenses line items.

The numbers I'll discuss here all include the impact of 123, and we have provided the impact of those line items on our condensed consolidated statement of income for your review and analysis.

The breakdown of our operating expenses represented as a percentage of revenue during the quarter was as follows -- the cost of revenue was approximately 33%, compared to 36% in the same quarter last year; our research and development costs were flat at 11%, compared to the same period last year; finally, selling, general, and administrative costs were 31%, against 27% in the same quarter last year.

So, total operating income for the first quarter was 44 million.

The pro forma operating income before the amortization of intangible assets of 6.3 million and stock-based compensation of 9.5 million, was 59.8 million.

This equates to an operating margin of slightly above 29%, virtually unchanged from last quarter.

Other income net was 845,000 for the quarter, which was the net amount of our interest income, interest expense, and foreign exchange activity.

The first quarter's effective tax rate was 36.6%, compared to 37.7% in the same period last year and inline with our expectations.

Net income for the quarter was 28.5 million, compared to net income in the prior year quarter of 27.9 million, an increase of 2%.

Furthermore, our current quarter net income includes 6.1 million of after-tax compensation expense related to 123R.

We reported diluted earnings per share for the quarter of $0.43 versus diluted earnings per share of $0.36 for the same period last year.

This 19% increase was mainly due to a lower share count than the prior period.

As you may recall, we provided guidance of $0.50 for the first quarter, without the impact of stock option expensing.

So, for comparability purposes, we came in at $0.52 over the prior year quarter, which represented an increase of 44%, both quarters excluding the 123 expense.

Turning to our balance sheet, cash and investments as of December 31, were approximately 372 million, which is up from the 288 million reported as of September 30, 2005.

This increase is primarily due to cash generated from operations, the exercise of employee stock options, and proceeds from our employee stock purchase plan purchases, offset by capital expenditures, dividends, and stock repurchase activity.

Net accounts receivable as of 12/31, totaled 156.4 million, remaining essentially flat compared to the prior year end balance.

Our day sales outstanding were 71 days as of December 31, which is consistent with last quarter.

We continue to focus on this and are working to bring it closer to our target of 70 days or less.

Our property and equipment balance was 45 million and 48.4 million as of September 30, 2005, year end.

The reduction was mainly due to depreciation expense, slightly offset by some purchasing activity.

Intangibles and goodwill totaled 794 million for the quarter.

For those of you who break out intangibles and goodwill separately, intangibles were 107.9 million, and goodwill was 686.2 million.

Total current liabilities were 147.9 million, which is an increase from the 138.2 million reported as of September 30.

This increase is attributed to an increase in other accrued liabilities, mainly the result of a timing differences related to the payment of taxes and interest expense.

On the equity side, shareholders' equity increased to 869.5 million, up 64.4 million from 805 million as of the last fiscal year-end.

The increase is principally due to the current quarter income and the exercising of employee stock options, partially offset by the repurchase of company stock.

During the quarter, under the current stock repurchase authorization, we repurchased about 283,000 shares of our common stock at an average price of $45.06, for a total of nearly $13 million.

We have approximately 159 million remaining under the current $200 million authorization approved by our Board in August of 2005.

Finally, our head count -- our total head count -- at the end of the quarter was 2,844, compared with 2,796 at the end of last quarter.

So now, focusing on our guidance, we expect second quarter revenue of 210 million and fiscal 2006 revenues to remain in the range of 860 to 900 million.

On the baseline revenue analysis and our water fall revenue report that is attached to the release, we believe we have a baseline forecast heading into the second quarter of approximately 184 million.

We anticipate closing around 26 million in new revenue to derive the total of 210 million of estimated revenue for the quarter.

Of course, this 26 million in new revenue will mainly need to come from traditional license renewal and from professional services.

Second quarter's estimated revenue of 210 million will be about 174 million from our product segments, that is scoring, strategy machines, and analytic software tools, and the remaining 36 million will be services-related.

Therefore, based upon our pipeline and general market conditions, our full-year guidance will remain in the range of 860 to 900 million.

We previously provided annual EPS guidance of $2.15, which did not include the impact of 123R.

After adjusting to the newly adopted 123R standard, we now expect GAAP EPS of $1.77 for fiscal 2006.

As I noted earlier, for the remainder of fiscal 2006, we will call out the difference in earnings per share caused by the 123 standard in order to permit comparability in your analysis of our financial results.

With that, let me turn the call over to the operator, and we can begin the question-and-answer period.

Thank you.

[OPERATOR INSTRUCTIONS]

Your first question comes from the line of Brad Eichler with Stephens, Incorporated.

Good afternoon, guys.

A couple of questions -- first, it sounds like you're having a lot of success with the EDM product in terms of filling up the pipeline.

Can you talk a little bit about the sales cycle, and what we should expect there?

As I said the backlog of opportunities -- is that working here?

Brad, you might want to go to mute.

Okay.

As I said, the backlog of opportunities is the largest we've ever had entering a quarter, and these opportunities include not only very large engagements, but our traditional, smaller engagements.

So, for example, a large engagement would be a million dollar -- multiple million dollar professional services engagement -- and a small one might be a few hundred thousand.

We have good distribution of those types of engagements in the pipeline, the large ones obviously take a quarter or two to close.

The small ones happen within a quarter.

Based on the backlog in the pipeline, we're very confident about the 36 million in the professional services, given what we've already got done I think because we have about a $39 million booking quarter there.

So if we just work it now, we should be in pretty good shape in professional services.

In that number, was about $6 million of EDM-related consulting services, in that category of engagements I was talking about.

That's the largest number we had, and that number is growing very, very quickly within the professional services arena.

So, a good backlog, as I said, we do have a lot more feet in the street.

A number I didn't pass out, but I should probably highlight, is -- I have talked before about sales people that we have been hiring.

We have been putting lots and lots of salespeople on the street.

We now also have accumulated what we call Client Partners, not unlike the kind of partner a consulting firm would have, but we have 32 of those on board now, many of which have come in the last couple of quarters.

So part of the reason for some of the uptick is not only are our normal product service guys, if you will, attaching services to our products, but our consulting organization is starting to generate demand on its own, if you will, in these larger EDM situations.

Okay.

Thanks.

Turning to scoring for a second -- two questions -- one, could you quantify -- it sounds like the newer products are really starting to take hold.

Could you quantify how much of the growth you're getting from those, A, and then, in the fourth quarter, I know we had some true-ups on the PreScore side.

It sounds like that's continuing to be strong.

Where there any true-ups in this quarter, or was this all pretty much just normal, regular-way business?

This was just good old, normal, more people buying, so there weren't any true-ups of any significance.

That makes it is a particularly strong quarter as well.

It's really a function of lots of folks using scores in marketing, and I think just in general, transaction volumes going up all across all of the bureaus.

So it's just a general trend that is continuing, and yes, we're getting new product revenue.

We're getting some bigger customers now that expansion scores have been out for a while.

It's being tested, and people are getting confidence in it, so it's starting to grow faster.

We're in ten different countries now with our global FICO scores.

So we're planting flags around the world, and that's starting to take off.

It's – as you know, for the last two years, we have been focusing on this, and we're starting to get some results.

We believe that this is a – we’ve jumped to another level, if you will, of revenue here that we suspect will be consistent for this year.

Okay.

Final question, Tom.

Any update on the strategic direction of either the marketing or the healthcare business?

Stay tuned.

Still working hard on trying to find the right solution and not quite done yet, lots of ideas though, lots of creative ideas.

Okay.

Thank you.

Your next question comes from the line of Thomas Ernst with Deutsche Bank.

Good afternoon.

Thank you.

Hi, Tom.

Following up on the -- on the EDM, and thanks for the detail on some of the customers.

I think that's one thing that's been hard to get information on is where you've been branching out.

Now that you have got a couple of years experience behind you in EDM, and you have been invested both direct, indirect, what business model are you finding completes the sale, and how do you think this evolves as this market matures a bit for you?

Do you see it being consulting-intensive, where you own your own consulting, or do you think that you're going to find that the client partners and the system integrators are the most important component?

How's the model going to look as we look out three, four, five years from now?

Yes, great question.

I think number one, the competency you need to succeed here is the ability to transform the competencies that Fair Isaac has traditionally had, into new problem sets.

So, the Client Partners we have been aggressively hiring are talented, analytic, and general business problem people, who can walk into a new environment where we don't have a product, and explain how analytic decisioning can change their world.

And so -- so, the model for the next couple of years is how can we, as analytics becomes more of a common topic, and not one that is just talked about in the back rooms, how can we be at the forefront of this thought leadership?

I need executive-level, Client Partners, in executive suites around the world talking about that.

So we're -- and the good news is, we're making good progress in that regard.

Now, the better news, I guess, what I was trying to elaborate on today, is we've been doing this.

This isn't new in a sense, the traction is becoming new, but we've been working this for a long time.

We've now been completing projects that are a year, two years, old, and our standard platforms are transferable to other industries, and our competencies are impressive, and we can deliver results in areas where we haven't figured out the problem to the eighth decimal point.

I think the confidence that that's giving our organization is probably a key to the momentum that we're trying to create right now.

Our culture is one where we don't like to sell what we don't know how to do.

So now that we have proven that we can do this, I suspect we'll do it more confidently.

Finally, the business model so far, has been primarily licensed in hours-based type consulting, if you will.

However, with several of the ones I mentioned, we have engagements where they're either gaining share, where we have to deliver the results, or we have turned them into transaction-level reimbursement.

I can't say that I have succeeded 100% in convincing everyone to buy these services on a recurring transaction basis, but we're trying, and I think the smarter customers are jumping on that bandwagon, at least the customers that now trust us and know that we can deliver.

Sometimes it's hard to sell that when you don't have delivery experience.

In the short-term, the model will be software-like and consulting-like, in the long-term, we're still trying very hard to convert those engagements into recurring -- take the benefits of the transaction level like we've done in other areas.

In the collections area, that seems to be the marketplace likes that, so we're learning that we can make offers where if we reduce your collections X, we'll take Y. In fraud, if we do custom engagements, if we reduce your fraud X, we'll take Y. In marketing, we haven't been as successful yet at converting that, although there is some indications of at least not taking a benefit, but of saying we'll provide our services X per customer.

So I wouldn't call it over and out on that one, but we continue to try hard.

Great.

And as a follow-up to that -- it's good to see I guess one of the hallmarks of an emerging market that's gaining momentum is other entrants, so I'm wondering if you're seen competitively, or who you're seeing most competitively from the software perspective.

Are you seeing companies like [Sass] or Cordiant or [Variants] or [Nice]?

Who shows up most from the evaluation side?

Actually, that is sort of the beauty of this.

If we can get this to -- we're trying to sell -- don't just buy a rules engine, buy an EDM solution.

If the customer wants to buy the answer and not just a piece of the pie, then we tend to run into the larger guys on the street, the big consulting firms, or the big systems integrators, or the big technology companies.

When you're doing multimillion dollar consulting deals where the company is trusting you to deliver the result, you tend to with the bigger companies.

The good news is now that we're approaching $1 billion, we’re in a different field now than a lot of those software companies that you mentioned that are smaller on the scale.

Can sell a tool or two but at the end of the day can't really guarantee the customer that they're going to get the result out the other end.

So actually, in all of the ones I have mentioned yes there has been some of those as competitors but, we're trying at EDM to change the game from one of buying a tool, to one of buying a solution.

So at the solution level, most of the people you just mentioned aren't in the game.

Great.

Thank you.

Your next question comes from the line of Ed Maguire with Merrill Lynch.

Yes.

Good afternoon.

Looks like on the international side, you're having some success there.

In the US, it looks like growth is being a bit weighed down by the marketing and the bill review.

Could you talk also dynamically about what you may be seeing competitively in the US?

Is that compared to international markets, and where do you see most of your growth coming from in '06?

Okay, your analysis was correct.

So, the bill review and the marketing are holding us back a little bit in North America.

Although I mentioned a couple of marketing examples that are hopefully key success stories for the future.

I think that international is simply a better growth opportunity for us because we really haven't tried.

In North America, we're entrenched; we have huge share.

We have been beating the competition for a while, and so it's just harder to keep taking share in a marketplace where we have a lot of share.

Internationally, we don't have as much share, and so naturally, now that we're moving resources there and trying harder, by investing more, we're seeing more -- more growth.

And then maybe another way of saying it -- what appears to be happening is in North America, where we have a lot of the Blaze and EDM thought leadership going on, we're seeing good, mostly EDM growth is in North America, or a large part of it is, and the rest of the world following, whereas in TRIAD and Falcon, which are mainstay industry solutions, there -- and collections for that matter -- there we're getting better international growth, simply because we're putting more sales resources in countries and in locations that we hadn't focused on before.

So, we are seeing good EDM growth in North America.

Good Falcon, TRIAD, growth internationally.

Net/net, I still think international will probably be a bigger growth driver in the next couple of years simply because of our new focus there.

Okay.

And a question on scoring, which seems to have held the level pretty close to last quarter, do you anticipate going forward being able to maintain roughly similar patterns to what we have seen over the least couple of years, where you see fairly steady quarter-over-quarter growth?

Yes.

Okay.

Thank you.

Your next question comes from Phil Mickelson from JP Morgan.

Yes, just one more question regarding the scoring -- can you quantify what the new products in terms of global FICO or expansion FICO contributed to that revenue number in the quarter?

Yes, for competitive reasons, I don't want to give that out yet.

When it gets to be a big enough number that I have to, I will, but I think -- it's just fair to say, it's not a significant part of it.

It's -- it's counting, and it's helping, and every million here and million there helps.

It's really our standard business growing.

And so -- and, as I think one of the other callers said in your PreScore area, which is market-driven -- marketing score driven -- we're getting lots of good traction there as the big credit card players fight it out in the marketplace, and we get a little teeny, teeny, teeny share of that competition, if you will, and it helps them to beat, so they don't mind.

So I think it's as simple as that, just more transaction volume.

Our prices haven't changed significantly.

It's all just volume.

As there -- is there one of those two products that is currently generating revenue versus the other?

Are they both contributing right now?

No. (multiple speakers).

All of the ones I mentioned are contributing revenue for sure.

They're different -- they have different strategic value.

When we implement a new score in a new country, it's a small project, it's a consulting project, we get something going, we build a score at a bank or two, that's hugely significant to us because now we get a major organization to add a FICO score to their thinking, to their analytics, in another country.

What we're doing -- yes, we're getting revenue.

Yes, they're real.

Now what we're doing is trying to follow that up.

Once a country embraces scoring, they embrace fraud, they embrace account measurement.

They embrace collect -- .

They start embracing analytics across all those customer life cycle points.

So, our success in the world FICO score is probably -- more important will be revenue that falls in the future as these countries accept scoring as a way of life like North America has.

So, yes, the numbers are getting bigger.

They're not significant enough that I want to break them out yet, in general, it's just a good scoring environment.

We're doing well.

As I said earlier, our custom analytic scoring business had a record quarter.

Our customers are calling us up and asking us for more.

And our Indian operation has been up and running now for over a year.

We're getting good economies of scale there, so we're able to provide value to our customers at good value.

We have got great talent there now, that understands our culture and how to build scores the Fair Isaac way, if you will, and we're starting to see some benefit from all these investments we've been making overall.

One last question with the scoring -- with those two product lines, for example, are those any element of license, or are those all transactionally based revenue?

All transaction based.

So those should ramp going through the year?

Yes, and more importantly, through the years because as we plant those flags, if every one of them grows, we'll get a nice network effect a few years out.

Okay.

Switching gears to the strategy machines area -- obviously you talked about some weakness in a couple of areas that have been talked about before.

I think we have talked -- or I thought the question has been asked, is there a bottom to these numbers?

Are they going to continually go decline year-on-year, quarter-on-quarter?

Where do we stand?

Is there a base run rate that a lot of these -- ?

It should be going up from here.

I think the effects of marketing services, et cetera, (indiscernible) are all factored in now.

My expectations is that those are factored in now.

Okay.

So, I'm not aware of significant numbers of clients that are leading or moving or that would hurt that number so.

Gotcha.

There was one last question, is within the strategy machines, a lot of controversy stirred up during the quarter on Falcon, similar competitive concerns on TRIAD, can you comment on any maybe head-to-head win ratios, or in terms of any kind of significant customer losses or legacy incumbent losses to the competition within that space?

Actually, we'll be trying to improve our PR in this particular area.

Other PR machines seem to be doing better than us.

No, I think I just told you we had records in those areas, we're killing the competition.

I'm not aware of any significant losses unless someone's giving something away for free.

We don't do that.

So, I think that was all just a nice -- if I wasn't number one, I would probably be trying to do the same thing, but -- so, I'm not aware of anything significant.

Thank you.

Your next question comes from the line of Bruce Simpson with William Blair.

Good afternoon.

Hi, Chuck, this is a question about gross margin.

If looks like to me like if you remove the dollars allocated to 123, it was about 68.3%.

Is that right?

I think that's close.

That's pretty extraordinary, certainly higher than this quarter last year.

We have been working to make some efficiencies due to labor and some of the areas that Tom's talked about where the growth is slow.

We've had to manage expenses, and there are some other things in the back office that we allocate -- some of which we allocate up into the cost of sales that we try to manage as well.

So, where can that go?

Well, I think within the context of our guidance, we have given out some guidance in that respect in terms of gross margins.

Beyond that, I think that there is always places where you can pick up points here and there.

Our labor rates, obviously, as we improve some of these other businesses, we'll pick up some of that in cost of sales, but some our savings, too, are in the administrative line because we use systems, we're still consolidating some of our data centers.

So, I would hope to see the improvement in both areas, but beyond predicting out, I don’t think I’d want to set a target out publicly yet on where it might go, and as far as our people are concerned, it's across the board, it's not just in one category.

So, I think the language in the press release looking forward with respect to margins, was operating margins consistent with prior quarters.

In the fourth quarter of fiscal '05, and then in this first quarter of fiscal '06, my calculation for operating income is about 26.1%, ex FAS123.

It's picking up a little bit.

We have stated that objective throughout.

I think Tom's been pretty clear about our target at 30% for the Company, so we're looking to move to that.

So with -- I think you have got about maybe 3% of amortization of intangibles.

Adding that back in, you're, what, like 29%?

So, your target is about 100 basis points higher – (multiple speakers).

From where we are right now, that's right.

On this mix of businesses, and as some parts of the business grow faster than others, the business model for those will skew the margin a little bit one way or the other.

Scoring is a very high margin product for us.

It's a main stream product.

It had good growth recently, it helps that we've added in -- in some of the areas as Tom mentioned -- we have invested in some of our selling activity and our consulting activity.

That's beginning to pick up and we'll see operating leverage coming off of that, and so, each of the areas can contribute to it, but in any one quarter, it can be skewed a little bit by the high grower and net quarter.

Right.

And, Chuck, what bookings number and yield from that are you looking for Q2?

I think on the Waterfall you have got the – yes, 145, 26.

145 is the bookings number you're looking for for the second quarter?

Right, and 26 is the rev/rec in Q2 – (multiple speakers) -- from that new 145.

And we have got this quarter -- remember this, the booking mix is even more complicated than the revenue mix, but as I said, of the 128 we did in Q1, if you look at the waterfall report, we got 22.

So, we're trying to get 26 out of 145.

That's just the way the math works.

Okay.

And, a little bit curious why, at the time of the last call, I recall that you said that there were some deals that had slipped from the September into the December period, which would have indicated that your 140 in bookings, if anything, might have been a little bit light, and yet you came in, what, maybe 12 million below that.

Were there timing-related issues on software packages that impacted the bookings in this quarter, and made it less than what you had anticipated?

As Tom mentioned in his answer on a previous question about the sales cycle here on some of these larger transactions, particularly very large, potential deals where there is a mix of both consulting and software, the sales cycle can -- can stretch out.

Many of these deals are worked on for six to nine months before they actually hit a quarter in terms of recognized revenue, and then, of course, they carry on for some time.

So, timing differences within three months, a measurement of every 90 days in our pipeline, has a fair amount of volatility as you get into these larger transactions.

It is tough to predict.

We put a bookings target out there for a year, and we looked for a yield, and we're looking at it for a mix across really eight or nine different product lines.

So, yes, we do have stuff slip from quarter-to-quarter, but I can assure you that we don't lose it.

We end up pushing it or pulling it back into a period.

And, actually, again -- let me just add to the confusion probably -- and again, it depends on mix.

What I was trying to say -- I thought I said -- was even though the total was 127, if you take the six areas that we're focusing on as our highest growth for those [inaudible], we've hit it out of the park.

So in the 127, the real question is, and we don't show this, what are the bookings per area right now?

An example of last fiscal year, we had lots of big bookings in bill review, which are now being turned into revenue, big ones, $20 million ones.

In this quarter, we had small ones in bill review, not big ones, so there is a number that if we would have had a big bill review project -- one project could have changed the number, is the point.

Okay.

And then, Chuck, do you want to throw out a free cash flow expectation for fiscal '06?

I think we're running at about 250, 240 right now, if you're just taking in the first quarter.

Beyond that, I wouldn't go too far.

CapEx during the first quarter was low; our share repurchase a little lower.

We'll see how that -- some of that picks up.

Okay.

And last financial-oriented thing, and I got one more.

Chuck, did you make any changes in compensation structure in anticipation of 123, or just did the same thing that you have historically done?

I think that 123 is really, for us, an accounting entry.

The whole idea of how options motivate people and the roll that they play is, particularly in a technology company, is well practiced in this industry, and I think now the accounting is just coming around to recognizing in a different way.

So we have a option program that has been in place, a comp program that has been in place for some time, and really, the recognition of this an expense item per se, didn't influence those decisions at all.

Okay.

On the cash side, we have to be competitive.

We compete for labor in several geographies, the Twin Cities, San Diego, San Robell, where technologies -- competition for good people is stiff, and we have to step up and make sure we have the talent on-board.

So, while it's a bit burdensome to, for a year here, to show comparisons, I don't think -- we don't plan to let that alone drive how we attract people.

Okay.

And the last question is just, Tom, you mentioned the marketing activities of credit card issuers as a key driver of the increase in scoring revenue.

Is that really the primary change that you're seeing out of the credit bureaus, or are you seeing other particular financial service entities or different applications that are driving scores?

Well, again, these scores are used in such a [inaudible] fashion, I think -- I think the -- all the boats are rising, but the marketing spend, use of scores, seems to be rising the fastest.

I think that's the simple answer.

Our scores are used in telecommunications now.

People buy wireless phones; people buy cell phones, we benefit.

So, cell phones are up?

That's good.

Have you to get a score to originate a phone, so far we're doing well as are the bureaus in any of those areas where there's people trying to extend credit.

There is just more decisions.

Your next question comes from the line of Tony Wible with Citigroup.

Sorry about the bad connection, guys.

Real quickly, what would the organic growth rate have been if you excluded the marketing and insurance businesses.

I'm trying to get a sense excluding those four businesses.

13%.

13?

Okay.

And, I guess historically you guys have provided little more granularity when it comes to guidance going through the segments, and in addition, it looks like you have beaten this quarter, but yet are keeping the 215 number.

How should we read into that?

Is the business becoming inherently a little bit more difficult to forecast?

Good question.

I think -- I think as we're growing in this EDM space and the sales cycles are longer and the projects are bigger, I think the beta in EDM will be bigger per quarter than we're used to in scoring or Triad or fraud, so I think that's what happened this quarter.

We had a great quarter EDM.

I thought we'd even a little bit better one.

We had a great quarter in collections.

I thought we'd have a little bit better one.

We had a great quarter in consumer.

I thought we'd have a little bit better one.

So, we're off $4 million across the six or seven or eight things, the major areas.

There was nothing off by very much, they just added up to being off a little bit.

I think that's not a trend.

I think that's just an animality, and our backlog and our traction give me the confidence that we still have got the -- the guidance that we provided is still good.

Okay.

As you look at '05 full-year bookings number, and what you have implied for the second quarter in conjunction with what you reported for the first quarter, it looks like we should expect to see acceleration in the back half of the year.

What is driving that, and what is the confidence level, meaning are these from deals that you're engaged in right now since you indicated it has longer sales cycles, that you're expecting to close then?

Yes, exactly.

We have very detailed pipeline reporting, as I said before, we've had more sales -- salespeople than we've ever had.

We started that a couple of quarters ago as you recall.

New salespeople, new Client Partners -- if they do their job, they generate new sales.

So we have a lot more folks on the street than we've ever had before, so our expectations are, as we manage those resources, that it'll be successful.

We have -- if you add up all of the opportunities we have in our online sales reporting and consulting reporting systems, there is plenty of opportunities to chase.

It's all about chasing them in a high-quality way.

So -- so the deals are out there to be had.

It's not a demand problem.

Last question is can you just remind us how big the marketing and insurance businesses are as a percentage of total revenue?

Let's see here.

Together they're in the -- hang on a second.

Give me a second while I look at my details here.

They're in the -- you want to go first?

Both Chuck and I both did numbers, we're going to see if we come up with the same one.

It's in the 60, $70 million, give or take, per year annualized.

Okay, and that's on a combined basis, right?

Yes, adding together, yes.

Okay.

Great.

Thank you.

So, whatever percent that is -- .

Ladies and gentlemen, that's all the time we have today for questions.

Mr. Grudnowski, I will turn the call back to you for closing remarks.

Thank you very much, and see you next quarter.

Bye now.