International Business Machines Corp (IBM) 2007 Q1 法說會逐字稿

Please stand by, we're about to begin. Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to the Kenexa first quarter 2007 earnings conference call.

(OPERATOR INSTRUCTIONS)

I would like to remind everyone that today's conference call is being recorded, and now would like to turn the program over to the Chief Financial Officer, Mr. Don Volk. Please go ahead, sir.

Thank you, Melissa. Today we will review Kenexa's first quarter 2007 results, which were announced after the market closed this afternoon. We will also provide guidance for the second quarter and update the full-year 2007 outlook, and then we will open up the forum for questions.

Before we begin, let me remind you that this presentation may contain forward-looking statements that are subject to risks and uncertainties associated with the company's business. These statements may concern, among other things, guidance as to future revenues and earnings, operations, transactions, prospect, intellectual property and the development of products. Additional information that may affect the company's business and financial prospects, as well as factors that would cause Kenexa's actual performance to vary from our current expectations is available in the company's filings with the Securities and Exchange Commission.

Also, I would like to remind you that today's call may not be reproduced in any form without the expressed written consent of Kenexa. We may refer to certain non-GAAP financial measures on this call. I will alter discuss the reconciliation of adjusted numbers to GAAP numbers and a reconciliation schedule showing the GAAP versus non-GAAP financial measures is currently available on our company website with the press release issued earlier today.

Our website is located at www.kenexa.com. I will now turn the call over to our Chairman and Chief Executive Officer, Rudy Karsan.

Thanks, Don, and thanks to all of you for joining us on the call as we review our first quarter results, which were strong across all key income statements, balance sheet and cash flow metrics. Market demand and awareness for talent management solutions continues to grow, as does Kenexa's track record of delivering value to our customers.

We significantly expanded our capabilities with the acquisition of BrassRing, and with approximately six months now under our belt, we are delighted with the profitability improvements that have been made and our increased traction with large global customers is in line to better than expected at this early stage.

Progress with and opportunities related to the BrassRing acquisition, combined with the overall momentum in our business, have led us to raise our growth and profitability outlook for the full year 2007, which Don will core in more detail later on.

Taking a look at the numbers, our first quarter total revenue came in at $42.2 million, an increase of 83% year-over-year and above the high end of our guidance. Similar to our presentation last quarter, if we were to subtract $11.2 million from our first quarter revenue, the revenue run rate of companies at the time we acquired them in the past year, we'd estimate that Kenexa's organic revenue growth would have been approximately 35% on a year-over-year basis.

The most important component of our business, subscription revenue, came in at $34.7 million, a 97% increase year-over-year. The strength of our subscription revenue growth was driven primarily by continued strong bookings across all our key product categories and the inclusion of the results from our recent BrassRing acquisition.

From a profitability perspective, we generated non-GAAP operating income of $8.1 million, above the high end of our guidance and representing a margin of 19%. While the first quarter is typically a seasonally weak quarter from a cash flow perspective, our cash from operations was strong at $6.2 million, which was more than six times the level of a year-ago quarter. Among the sources of strength driving that cash flow was the fact that deferred revenue increased sequentially for the first time in three years during the first quarter, which is among the indicators of the strength of our business.

The first quarter was a strong and balanced quarter, and it all began with the fact that we're participating in a tremendous market opportunity. From a high-level perspective, we believe that the talent management industry is a multi-billion dollar market opportunity, and it is increasingly being considered a strategic IT investment by companies on a global basis.

We believe that there are numerous positive long-term demand drivers that should fuel the growth of the talent management industry for an extended period of time, including the aging of the workforce, declining tenure of employees, increased globalization, fluidity of organization structures and pressure on the HR departments to minimize costs.

In addition to these factors, the ROI associated with reducing costs and improving employee retention and productivity are significant. And those are key reasons why companies are able to move forward with the decision to fund talent management purchases. During the first quarter, we continued to see small and large customers turned to Kenexa as their talent management solutions provider.

We added over 40 preferred partner customers in the quarter, an increase over the more seasonally strong fourth quarter of 2006. On the hiring side, we added customers such as Guess, American National Life Insurance, Emory University and the Army and Air Force Exchange Services, while on the retention side we added customers such as Rockwell Automation, Boeing, ING, HSBC, Kennametal, Johnson Controls and McGraw-Hill.

We believe that customers are looking for much more than just a software solution and Kenexa is differentiated by the breadth of our solutions across both hiring and retention and by our domain expertise, proprietary content, services and outsourcing capability. At the end of the day, customers are looking for business partners with a proven track record and our entire global organization is working very hard to ensure that we maintain and extend our leadership position in this regard.

Continuing the evidence of the value that we're delivering to our customers is increasing our P3 metrics, which measures the annual average revenue from our top 80 customers. This is a metric that takes into consideration customers expanding the size of their Kenexa deployments, purchasing follow-on offerings and making larger upfront commitments.

The figure was $560,000 at the end of 2005, and grew to over $800,000 at the end of 2006, and I am delighted to share with you that for the first time in our history, our P3 metrics increased to over $1 million annualized. Another key takeaway from the level of our P3 metrics has now reached -- is the increasing view of talent management as a strategic solution.

The willingness of customers to spend over $1 million per year on human resource offerings indicates that they view talent management as mission critical. Among recent moves that we believe significantly improved Kenexa's ability to serve as a strategic partner to large and global organizations was our acquisition of BrassRing. We are pleased with how the integration process has gone thus far, as we now have two quarter closes and one full quarter under our belt as a combined company. There are several points I will share to put this into perspective.

One, during the first quarter, our renewal rate was 100% of BrassRing customers, and customer response has been positive since we announced the acquisition as a result of Kenexa's added domain expertise, breadth and depth of our product and services capabilities, and financial strength backing the solutions that they have invested in.

Two, during the first quarter, we won new business with customers such as Bose, [Floor] Enterprises and Xerox, related to our Kenexa recruit of BrassRing, which followed last quarter's major competitive wins at British Petroleum and Volvo. We're seeing a strong overall increase in the number of conversations initiated with large global organizations since that acquisition of BrassRing, though we will expect this will be at least several quarters, [for manning] these opportunities to turn into closed business, given the nature of the sales cycle.

Three, from an efficiency perspective, we were able to quickly integrate our operations, assigning responsibilities and reporting structures for all individuals. We are now operating clearly as a single integrated company and there are no longer Kenexa employees or BrassRing employees. We are all Kenexans, executing against a shared vision.

The success of the integration is partly reflected in our better-than-expected profitability in the quarter.

Four, finally, while we did not comment or provide guidance on specific bookings, I'm comfortable saying that growing momentum with Kenexa's Recruiter BrassRing solution is one of the reasons our deferred revenue increased on a sequential basis for the first time in three years and it is among the key reasons we're increasing our full-year guidance.

In a relatively short period of time, we have been able to increase the run rate of business associated with Kenexa's Recruiter BrassRing, but it's important to realize that much of this benefit will not impact our reported revenue during 2007 given our ratable revenue recognition model. There's still work to be done, but I'm very pleased with the early stage results, including maintaining a high degree of customer satisfaction, improving the efficiency of the operations, and stimulating new business development activity.

We believe that very careful due diligence, strict evaluation criteria and having a well-thought-out integration model are key reasons that Kenexa has been able to quickly generate positive results from acquisitions that were completed in 2006, and we believe that they are a key competitive advantage as the market continues to consolidate over the next few years.

We believe there will be several winners and at least one major winner in the talent management market. We are executing against a strategy of continuing to gain market share on an organic basis, coupled with strategic acquisitions to best position Kenexa to be that ultimate winner.

In summary, our first quarter was a strong start to the new year. Market awareness continues to grow as Kenexa's brand and business momentum. We believe our organization is executing at a high level and that provides us with the confidence to increase our full-year growth and profitability outlook.

I will now turn it over to Mr. Don Volk to review the financials in more detail.

Thanks, Rudy. I will now review our results for the first quarter of 2007, which were strong and better than our initial expectations. Let me start with the details of our first quarter results, beginning with the P&L. Total revenue for the first quarter was a record $42.2 million, an increase of 83% over last year, and above the high end of our guidance of $41.7 million. Subscription revenue is the majority of our revenue and it is the strategic component of our business that encompasses our on-demand solutions.

During the first quarter, our subscription revenue was a record $34.7 million, representing 82% of our total revenue and growth of 97% on a year-over-year basis and 17% sequentially. The strong year-over-year growth in our subscription revenue was driven by continued strong momentum in our business, combined with the integration of BrassRing's results beginning in the fourth quarter of 2006.

The remaining $7.5 million of total revenue in the March quarter came from other and professional services, which increased 39% over last year and 14% compared to the prior quarter. The majority of the revenue from this line comes from discrete professional services, but we occasionally have a perpetual license that will go into this line item. We did not sign any perpetual deals during the first quarter.

Our clients typically purchase multiyear subscriptions with an average length of approximately two years. Our revenue continues to be highly visible as a result of our diverse customer base, long-term contracts, renewal rates that continue to be in the 90%-plus range, and the growing number of new customers that we are adding to our overall customer base.

During the quarter, we added over 40 preferred partners, and the average annual revenue from our top 80 customers, what we referred to as P3, was over $1 million, which is nearly double the $560,000 level at the end of 2005. We believe that there is still significant upside to this number from a long-term perspective given the growing breadth of our talent management suite, the fact that we are underpenetrated within the majority of our customers and the consolidation that we believe will continue to happen at customers and across the talent management industry.

Turning to profitability, we will be providing non-GAAP measures for each first quarter 2007 expense category, which excludes the stock-based compensation charges associated with FAS 123R and amortization of intangibles associated with previous transactions. All comparisons will be using the non-GAAP current period results. Non-GAAP gross margin was 73% in the quarter, at the upper end of our long-term target for gross margins, up approximately 1% from the prior quarter and in line with the year-ago-quarter. Looking at operating expenses, non-GAAP sales and marketing came in at $8.1 million, or 19% of revenue. The increase in sales and marketing on an absolute basis from the previous quarter was primarily due to the inclusion of a full quarter of expenses associated with BrassRing and PSL and secondarily due to the continued increase in our worldwide sales operations.

Sales and marketing declined as a percentage of sales due to the benefits of the on-demand model as the revenue scales over time. We ended the quarter with over 140 people in sales and marketing; similar with prior quarters, approximately 75% of these employees carry a quota.

As a result of the significant expansion in our sales organization, we are currently ahead of where we would target at this point of the year, and as such we will be primarily focused on optimizing our sales productivity in the near term. Further expansion in our sales headcount is likely to occur in the second half of the year.

Non-GAAP G&A expenses were approximately $9.4 million, or 22% of revenue, while non-GAAP R&D expense came in at $4.3 million or 10% of revenue. The increase in R&D is partly attributable to the BrassRing acquisition, but also because we continued to invest in broadening and deepening our solutions suite from an overall perspective.

We believe that Kenexa has a highly efficient R&D organization that is based on a significant offshore presence, and this is a key competitive advantage. At approximately 10% of our revenues, we believe our R&D organization continues to be among the most efficient in the software industry, and from a long-term perspective we would continue to expect R&D to be in the range of 6% to 9% of revenue due to the continued growth of our business.

The combination of better-than-expected revenue, increased mix of subscription revenue and a focus on close expense management led to record non-GAAP income from operations of $8.1 million for the first quarter. This represented an increase of 97% on a year-over-year basis and a margin of 19%.

During the first quarter, our non-GAAP tax rate for reporting purposes was 31%, resulting in non-GAAP net income of $5.7 million. Based on 24.5 million shares outstanding for the quarter, we generated non-GAAP diluted EPS of $0.23, which was above the high end of our $0.21 to $0.22 guidance.

Our non-GAAP earnings per share were negatively impacted by $0.02 related to the one-time charge associated with the restructuring of our debt facility, which we put in place at the time of the BrassRing acquisition in November of 2006, and which we paid off with the proceeds from our public offering in January.

Turning to our results on a GAAP basis, which include $700,000 related to the allocation of stock-based compensation and $300,000 related to the amortization of intangibles associated with previous acquisitions, the following were expense levels determined in accordance with GAAP.

Cost of goods sold, $11.4 million; sales and marketing, $8.2 million; R&D, $4.3 million; and G&A, $9.7 million. For the first quarter, our GAAP income from operation was $7.1 million, or a margin of 17%. For the March quarter, the GAAP net income applicable to common shareholders was $4.7 million, resulting in GAAP diluted EPS of $0.19 per share.

A reconciliation of GAAP to non-GAAP expenses and income from operations can be found in our press release and current report on Form 8-K that will be filed with the SEC. We ended the quarter with a strong balance sheet, cash and short-term investments were $111.7 million at March 31st, 2007, an increase from $42.5 million at the end of the prior quarter.

The increasing cash was primarily a result of cash from operations of $6.2 million and the proceeds of our public offering of common stock of $131.1 million, less the repayment of $65 million of debt incurred in the connection with the BrassRing acquisition.

For comparative purposes with the prior year, cash from operations of $6.2 million was up more than six times the level of the same period last year. This comparison is based on our cash flow reported on a GAAP basis as the impact of FAS 123R on cash flow is now presented in our year-over-year comparisons.

Accounts receivable ended the quarter at $29.1 million. Our DSO was 62 in the quarter, which compares to an adjusted DSO of 68 at the end of the prior quarter and 50 at the end of the year-ago quarter. Our deferred revenue at the end of the quarter was $31.7 million, an increase of approximately 96% on a year-over-year basis and 1% sequentially. For comparative purposes, in the previous two years, our deferred revenue decreased by 16% and 14% sequentially during the first quarter. he increase in our deferred revenue was a result of strong bookings and renewals.

I'd now like to turn to guidance for the full year and the second quarter of 2007. For the full year 2007, we are slightly increasing our revenue and profitability guidance. We now expect the following -- total revenue of $186 million to $189 million, subscription revenue to be $149 million to $152 million, non-GAAP operating income of $40.7 million to $42.8 million. Assuming an effective tax rate of 30% for reporting purposes and 25.7 million shares outstanding, we expect our diluted non-GAAP EPS to be $1.18 to $1.25. For the second quarter of 2007, we expect the following, revenue to be $43 million to $44.9 million, subscription revenue to be $34.9 million to $35.9 million, non-GAAP income from operations to be $8.7 million to $9.1 million. Assuming an effective tax rate of 30% for reporting purposes and 25.9 million shares outstanding, we expect our diluted non-GAAP earnings per share to be $0.27 to $0.28.

In summary, we are delighted with our first quarter results, which were strong across each of our financial statements and operating metrics. Market demand and our business momentum is strong, and we are optimistic about our forecast for 2007, as evidenced by our raised growth and profitability outlook. We'd now like to turn it over to Melissa to begin the Q&A session. Melissa?

Thank you. (OPERATOR INSTRUCTIONS)

Our first question comes from Brendan Barnicle, Pacific Crest Securities.

Thank you. I was wondering, as you're getting more of the large deals and the million-dollar deals, is that elongating the sales cycle, and by how much, and is that changing the sales strategy at all?

Heck of a question. It's a little early to say, Brendan, but I would think about it this way, that the sales cycle does increase with the larger deals. We do have -- our pipeline is about as strong as it's ever been in our history. Our bookings were as strong as they were last quarter as they've ever been, but you'd expect that in kind of record kind of year-over-year kind of growth numbers.

I would say that that number has moved up. We've told the Street about six months. I think for modeling purposes if it was to kind of seven and a half months, you wouldn't be that far wrong.

Great, thank you very much.

And we'll take our next question from Jason Maynard with Credit Suisse.

I wanted to follow up on the performance in P3 and just get a little bit of an idea from you how BrassRing has influenced maybe some of the increase which is seen in the annual revenue. Maybe a little color on how that's driving, if you will, average tickets higher, and then also what you're seeing in terms of the 40 partner customers. Were these customers buying multiple products, one product, any trends that you're seeing there now that you're a little bit deeper into the post-BrassRing integration phase?

Any acquisition, Jason, will increase your P3 numbers. It's impossible for it to bring it down, so there has been an impact on the P3 numbers with the BrassRing acquisition. I would say that if I was looking at the difference between over 800 and over 1 million, I would attribute less than 30% of that to BrassRing and the balance to just organic growth with multiple solutions.

If I looked at the preferred partners of over 40, I would break it out to say over 50% are now purchasing more than one simple solution. It might be added services upfront, or it might be multiple solutions, either one of the two.

We go next to Laura Lederman with William Blair.

Just a few questions on the applicant tracking side. You mentioned that the BrassRing customers renewed at 100%. Can you give us a sense of how many customers did renew?

Also, on the subject of BrassRing, who are you seeing more out there? Who are you seeing less? The [Verve], Taleo, Unicru, Virtual Edge, Success Factors? Also, you today have multiple ATS systems. Any thought on long-term how you rationalize the multiple products? Thanks.

So, Laura, let me kind of go backwards. The multiple ATS, again, from a customer perspective, customers will kind of drive those decisions. We will continue to meet the customer needs there, and as long as we are seeing the demand, we will continue to respond to that. As far as the players go, from a competitive perspective, the competitors are the same, the usual suspects, namely Taleo, Verve, Peopleclick. In Europe, we're seeing StepStone and a few others. And there was a third question? I don't remember. I remember those two.

Yes, those were the three. Thank you.

Great, thanks, Laura.

We go now to Richard Davis with Needham & Company.

Hey, thanks very much. Hey, Rudy, I'm thinking about when you guys buy companies and they come under your stewardship, it would seem to me that they would grow faster, so, for example, at least anecdotally, which is the only way I can figure it out, when I talk to people about Webhire, frankly, they're pretty excited. They're like, oh, yes, now they've been bought by Kenexa, they're doing better. They're better customer service, they're more responsive, things like that. And BrassRing especially, even more so, because they were kind of smothered underneath -- let's just say a large organization.

So it just seems to me that -- is that a correct assumption? That's really what I'm trying to get at, that presumably once you buy these things they start to grow and blossom under your stewardship?

I guess there are two ways I would answer that, Richard. The answer is, we are hoping that would be the case. Having said that, you don't normally see this stuff for at least another year out, because if you think about the selling cycle and then you think about the implementation cycle and then you think about when the revenue starts hitting the income statement, you don't really see it.

So if you take the BrassRing example, there were call it $36 million, '04, $35 million -- I'm sorry, $37 million in '05 and $36 million in '06. The run rate for '07, unless they did some dramatic sales in call it Q2, Q3 of '06, will remain at that $36 million, $37 million until the Kenexa wins start hitting the financial statement which would be in the second half, or very late, deep into this year.

So the huge impact of this you will see in '08, not in '07. Correspondingly, we are now starting to see some of the Kenexa Recruiter, which is formerly Webhire, going to come online, and so you are seeing -- that's why we are using the methodology that we're using around describing our organic growth and disclosing the numbers in a fully transparent basis.

Michael Nemeroff with Wedbush, your line is open. Please go ahead.

Hey, guys. So, Rudy, did I hear that you said there was an $11.2 million run rate for both BrassRing and PSL in Q1? Was that correct?

Yes, and there was PSL, BrassRing, Gantz Wiley and --

And Knowledge Workers.

The $11.2 is made up BrassRing, PSL, Gantz Wiley and I'm not sure if Knowledge Workers is in or not.

We take our next question from Andrey Glukhov.

Yes, thanks, congratulations on a good quarter. Rudy, two questions. First of all, kind of can you characterize the mix of business between recruiting and retention and how do you see this evolve throughout this year? And then, Don, separately, can you tell us what either the amortization of the adjusted deferred was, what was the component that got out it, or just give us flat-out the one-time items on deferred this quarter? Thank you?

Don's looking quizzical, so you might want to rephrase the second half while I answer the first half. Think of it as in terms of two-thirds, one-third or 70-30 favor of hiring over retention, and, Don?

Yes, Andrey, can you ask me that a different way? I don't quite understand the question?

(OPERATOR INSTRUCTIONS)

Your line is open. Please go ahead.

Thanks. So, you guys had about $12 million in deferred that came from the BrassRing, so how much of that deferred got amortized on the quarter?

No, the number from BrassRing was about $7 million and approximately [$350] came into income from deferred.

All right, thank you.

And we go next to Robert Schwartz with Jefferies & Company.

Yes, just one point of clarification. In the past, you gave the number of modules average in the P3 customers. I don't know if you'd do that again. And then for Don, your deferreds up this quarter, cash flow is up this quarter. How do we think about whether those increases, those trends, continued for the rest of '08, '07-'08.

What we're doing now is we're just simply saying it's between two and three. It hasn't gone north of three, but there is quarter-to-quarter fluctuations as kind of clients move in and out, so think about it in terms of two and a half, and think about that number kind of gravitating towards three by the end of the year.

And historically our first quarter for cash flow and operating cash has been our weakest quarter. So we also think that our DSOs contribute to that. Our DSOs ended the quarter at 62. We have been in the 50s range, previously, and we think we can get there over the rest of the year. As far as deferred, historically, Q4 to Q1 has been down and then takes off the rest of the year. We think that historical trends would continue for this year.

Brad Mook, with Boenning & Scattergood, please go ahead with your questions.

Hi, wondering if you could give us an update on where you stand with new product introductions and also if you have any comments on subscription length now that you're kind of looking at more of a strategic use of the solutions.

I didn't quite -- so new product introduction. Nothing brand-spanking new. We're doing updates. Release 10 will be coming out on BrassRing in kind of Q3 timeframe. BrassRing used to put out a release once a year. We're trying to shrink that cycle to call it nine months. We are continuing to look at enhancements around what we call our tier two metrics, which is improving our analytics tools, which gives us added juice when we're selling our main platform solutions, 5.0 still probably end of the year. That's the kind of timeframe they're looking at.

As we're speaking, we're looking at figuring out ways to modify it, to make sure that it ties in with the BrassRing and how we're going to handle languages in the future on 5.0. And the second half of the question, I'm not sure I understood it, Brad. So if you can rephrase it, I'd appreciate it.

Sure. You talked about talent management becoming more of a strategic imperative and I'm wondering if that's having an impact on your subscription contracts, subscriptions.

What has happened is our average duration is at about two years. I don't think that has changed dramatically. The cash forward I think has increased a tad, right, Don? From like kind of 3.2 months to 3.6 months? We are seeing, obviously, the 80% number, the 76% to 80% for subscription that we've modeled that in this quarter we were at 81% or 82%?

Eighty-two percent.

Eighty-two percent, so it's kind of staying the same. If you look at the business across all metrics, they've all climbed kind of in lockstep.

Okay, thanks.

We go now to Mark Verbeck with Cantor Fitzgerald.

Thank you. Rudy, on your guidance for Q2, there's a rather modest increase in subscription revenue. Is there something that we should think about that's happening there either in terms of BrassRing added or something else that's going on seasonally?

I'd say that our guidance has been pretty consistent over the last couple of years. Don, do you care to respond to that?

No.

We go next to Heather O'Loughlin, America's Growth Capital.

Hi, Rudy and Don. I have a couple questions to follow-up on Laura Lederman. Can you talk about your win rates against Taleo and Verve, Peopleclick, some other companies? And then I have some other follow-up questions.

The win rate in the ATS space, kind of the way we look at it is if it's a tactical sale or a strategic sale, a strategic sale is defined where we are involved then with the business units, and there we've got a pretty high win rate, kind of more than three and four, almost 80%?

Is that against Taleo?

No, when we're in a strategic sale, our only competition is no decision. In a tactical sale, we are kind of one over N, is the way we look at it, so if there are two players, we'll win half, if there are three, we'll win a third. Other than that -- I can't really comment in more detail other than that.

Okay, and then what percentage of your revenues is driven by international sales?

That's a great question, Heather. It is moving well into the double digits now. I think we were at 8% or 9% a couple of years ago.

Exactly.

Here's why we're having difficulties. So let me give you an example, a large pharma company, let's think Novartis or one of our clients, we do the sale in BASEL. It's been administered out of the New York office and we're billing them in U.S. dollars. I mean, I can give you like five such examples off the top of my head.

So when we're looking at the point being outside the U.S. and the currency being non-U.S., I think it's 13%, right, Don? So if we take the most conservative viewpoint, so in this case, this example I gave you, that would not be considered international, because the currency is U.S. So if we take the most conservative, which is sale was down outside kind of the 49th parallel and in the Rio Grande and in the ocean and we're billing in non-U.S. currencies, then it's 13%. If you take it to be a little bit more generous, then I think we would go north of 15%. We can't give you a definitive number because of these practical issues.

Is the company's target still 20% of revenues being internationally derived?

We are expecting that. We'll announce shortly the opening of our Singapore office. We're looking to do some sort of JVs in a couple of other countries. We're now in 11 countries. We're seeing revenues climb fairly dramatically outside the U.S.

If I look at our sales force as kind of -- Troy Kanter, who is our President and COO, who has spent a lot of time on the sales front, he's probably made eight trips outside the U.S. in 2006 versus two in 2005, versus almost zero in 2004. I probably spend 20% of my time outside the U.S., came back from a two-week trip, so you're seeing a lot of healthy activity out there.

Great, and then just one more quick question. How is the company thinking about M&A this year? Typically, Kenexa does an acquisition every year. Are you looking at an international acquisition, maybe something stateside? Just wondering what the priorities are.

Heather, if you look at our parameters, first and foremost it has to be accretive in the first full quarter after we close the deal, so like BrassRing was accretive this quarter, the first full quarter after we did the transaction. That parameter itself knocks the available candidates by about 90% to 95%. That's a killer right there.

Then they've got to meet one of three criteria, which is do they give us geographical expansion, do they give us vertical or industry expansion and do they give us solutions/content or service expansion? Once we're in that mode, we then make the decision. We are hungrier, if you will, for acquisitions outside the U.S. than we are within the U.S., because it meets one of the three criteria right off the bat, given that their physical location. But we're agnostic as far as kind of earnings growth and opportunities to expand our business go.

Great, thank you very much.

Our next question will come from Ajay Kasargod with Piper Jaffray.

Thank you. Just, Don, just very quickly on gross margin, should we expect a steady-state from the Q1 gross margin levels to the remainder of the year? Or can you talk about gross margin fluctuations and then also, just can you kind of walk us through sales and marketing as a percentage of revenue for the remainder of the year? Thank you.

Our gross margin target is 70% to 74%, and that's -- it'll fluctuate within that range based on the mix of sales, subscription and other. Now, we expect that we've been telling everybody 71% to 72% if you're going to model, that's where you should be. Sales and marketing as a percentage of sales came in at 19%. We got some efficiencies there and we continue to shrink that, but from a dollar perspective, I think that dollars go up and we hope to get some leverage there in that category, but not a significant amount.

And we'll go now to Laura Lederman with William Blair. Please go ahead.

I missed one of the three questions, which is what number of BrassRing customers renewed? You had mentioned that it was 100% at the quarter end. Can you also talk a little bit about customer concentration in terms of top five being less than 25%, that sort of thing?

The customer concentration is no difference, Don. Do you want to cover the numbers?

Yes, top one, less than 10%. Top five, less than 25%, same concentration as ever.

And I don't know the exact number, Laura, so I don't want to guess. But if you think about it, we had 180 customers, mean duration is probably 2.5 years, I think, Don, was the mean duration. So, on average, you'd have 18 renewing every quarter, based on that math. And that's a pure math answer. I don't have the exact answer.

James Friedman with Susquehanna. Please go ahead with your questions.

Can I ask you about the global delivery, which seems to be going quite successfully? What percentage, roughly, of your headcount is now offshore? And if you have any rough metrics as to where you expect that to go to, that would be helpful. Thank you.

We have over 1,200 employees. I think it's 1,240, 1,250 was the number at the end of Q3, of which 287 in India, 279 to be exact, 280, roughly. We have approximately 60 in England, call it about a dozen in Europe, maybe a little less, maybe eight or nine. And then all the other countries combined together is less than a dozen. Call it 15, high end. And then we have about 10 or so in Canada.

We move now to Brendan Barnicle with Pacific Crest Securities. Please go ahead.

Thanks. Just had one follow-up. Don, you told us last quarter that you guys were going to be paying the bonuses in Q1 and that was going to negatively impact the cash flow of Q1 versus where it was over the first half. Can you tell us what the size of that impact was?

Yes. We paid all of our bonuses in Q1, and the number was approximately $6 million.

Great, thanks. And then I think in the past you've given us a number on visibility based on sort of current subscriptions and 90% renewal rate assumptions. I don't know if we had gotten that number again or not, and so I --

No, we only give that on January 1st. So we look at our contracted revenue, plus our subscriptions, and we do that on January 1st for the rest of the year and we base our guidance on any improved -- we base our increased guidance on any improvement in that number, but we don't give that on a quarterly basis.

And we move now to Richard Davis with Needham & Company.

Thanks. I was going to ask the follow-up. So the question that, remember, that I asked a few minutes ago, so therefore, if that's true, because the business kind of accelerates just given the way you do revenue rec, and I know you're not giving guidance -- although if you want, you can -- for '08, the odds of your organic growth rate decelerating rapidly would seem to be low at worst, or whatever at best. So that's what I'm just trying to think about?

So at least directionally am I thinking correctly that the odds of the 35% number going down materially and whatever you want to call that is relatively low?

Yes, I think you're thinking about it the right way. Richard, I would look at it this way. I would say, first and foremost, we're not giving '08 guidance in May of '07, so if you're looking for kind of what it would look like, think about the space growth, which depending on who you talk to is anywhere from 15 to 20.

Kenexa has been growing anywhere from two to three times organically over the last three years. We think we're going to continue to grow faster than [Space]. If you believe Space is moving at 20 and you want to put us at 1.5 times that, by all means. If you think Space is moving at 15 and you want to put us at whatever number you want to, by all means, but you're thinking about it the right way.

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We'll move now to Michael Nemeroff with Wedbush. Please go ahead.

Hey, guys, just a couple of quick follow-ups. Rudy, you have a couple of different applicant tracking systems and on previous calls people have called that out a little bit. Have you made any decision on potential rationalization or further integration of multiple products into a single applicant tracking product?

And then also, in one of the answers, you had mentioned in talking about the growth of the acquisitions, and I think you had said that you don't anticipate -- maybe I heard this wrong, but did you say that you didn't anticipate growth from BrassRing specifically until the back half of '07? Thanks.

So the first question, Laura asked a similar question and we'll answer it exactly the same way, which is our customers will decide. We'll continue to support it and develop and as long as the customers vote with the dollars and the purchases, we're going to continue in that direction.

The second half of the question was -- jog my memory again. I'm getting old and senile. Don, do you remember?

You said that BrassRing revenue wouldn't impact our financials until the second half.

Oh, yes. What I was trying to say there was unless they had huge sales in Q2 and Q3 of '06, you would see that bumping up, and they clearly didn't. So in the first half of this year, you're going to see probably them being somewhat flat, which is what we're -- that's basically what we're putting in on guidance.

And at this time, gentlemen, we have no other questions standing by. I'd like to turn the conference back to you for any additional or closing comments.

I guess I will conclude the way that I think I concluded the last few conference calls, which is Kenexa is troubled by the trust that our partners have put in us, really delighted with the confidence that the Street has put in us, and at the end of the day, we are looking at a space that's rapidly growing and we're the beneficiaries of that tailwind. So thank you all for joining and we'll talk again in a quarter, if not sooner. Later.

Thank you, everyone, for your participation on today's conference call. You may disconnect at this time.