LivePerson Inc (LPSN) 2004 Q4 法說會逐字稿

Please stand by, the program is about to begin.

Good afternoon, ladies and gentlemen, and thank you for standing by. Welcome to LivePerson's fourth quarter 2004 earnings conference call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. At that time, the operator will give you instructions.

As a reminder, this conference is being recorded on Thursday, February 3rd, 2005.

Speaking on today's conference call will be Robert LoCascio, Chief Executive Officer of LivePerson, and Tim Bixby, President and Chief Financial Officer. I would now like to turn the call over to Mr. Bixby. Please go ahead, sir.

Thanks very much. During the course of this conference call, comments that we make regarding LivePerson that are not historical facts are forward-looking statements, and are subject to risks and uncertainties that could cause such statements to differ materially from actual future events or results. Any such forward-looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

It is routine for our internal projections and expectations to change as the quarter progresses. And therefore it should be clearly understood that the internal projections and beliefs upon which the company bases its expectations may change prior to the end of the quarter. Although these expectations may change, we are under no obligation to inform you if they do.

Our company policy is generally to provide our expectations only once per quarter, and not to update that information until the next quarter. Actual events or results may differ materially from those contained in our projections, or forward-looking statements.

The following factors, among others, could cause LivePerson's actual results to differ materially from those described in a forward-looking statement. Our history of losses; potential fluctuations in our quarterly and annual results; responding to rapid technological change and changing client preferences; competition in the real time sales marketing and customer service solutions market; continued use by our clients of the LivePerson services and their purchases of additional services; risks related to adverse business conditions experienced by our clients; our dependence on key employees; competition for qualified personnel; the possible unavailability of financing as and if needed; risks related to the operational integration of acquisitions; risks related to our international operations, particularly our operations in Israel; risks related to protecting our intellectual property rights, or potential infringement of the intellectual property rights of third parties; our dependence on the continued use of the Internet as a medium for commerce, and the viability of the infrastructure of the Internet; and risks related to the regulation or possible misappropriation of personal information.

This list is intended to identify only certain of the principle factors that could cause actual results to differ from those discussed in the forward-looking statements. Listeners are referred to the reports and documents filed from time to time by LivePerson with the Securities and Exchange Commission for a discussion of these and other important risk factors.

And now I would like to turn the call over to LivePerson's Chief Executive Officer, Robert LoCascio.

Thanks, Tim. Good afternoon, everyone, and thank you for joining us.

During the fourth quarter of 2004, we generated revenues of 4.6 million, up 32 percent from a year ago, and up six percent sequentially over the third quarter of 2004. Bottom line was in line with expectations with EBITDA per share of two cents, and GAAP EPS of one cent.

Later in the call, Tim will provide you with a more detailed financial overview.

As many of you know, LivePerson's primary focus during the third quarter was laying a foundation for our next stage of growth. To accomplish this, we focus on significant improvements in product, positioning, and people.

In Q3, we launched Timpani, a fully integrated multi-channel online communications platform. Our Web site, advertising, product interfaces, and communication strategies have all been repositioned around the new Timpani branding and messaging.

In the fourth quarter, our new advertising campaign entitled lost person began to roll out to the market. The concept revolves around how Timpani enables Web site owners to increase their conversion rates by embracing the majority of the consumers who come to their Web site and do not buy.

We are in effect enabling our clients to transform lost people, or buyers searching for online services and products, into satisfied, paying customers.

We are significantly increasing our marketing, investment, and focus on our lost person campaign, and the multi-channel aspects of Timpani, and will continue to do so over the course of 2005.

As you know, I became more involved in the day to day selling operations in the second half of 2004. And I feel confident that we now have a base level process in place to support a re-acceleration of sales growth. This was evident in the increase in sequential growth in the fourth quarter of six percent.

I'm now pleased to pass the sales baton to Jim Dicso, who was hired in December. Jim came to us from Witness Systems, where he ran their largest sales region. Jim's focus has been on hiring new sales execs, as well as refining and enhancing the existing sales process. I'm confident Jim's focus on sales process, coupled with our spending and marketing and lead flow generation will increase the sales pipelines.

During Q4, we signed over 15 new enterprise companies, including British Telecom, Citibank, and Armstrong World Industries. More than 20 percent of our new deals included e-mail and self-service capabilities in addition to chat. So we're now seeing the beginning of a planned transition to a multi-channel focus.

We're feeling very good about the business. But instead of making broad assumptions about the future, I prefer to reserve commentary and let the numbers speak for themselves as our new marketing and sales initiatives begin to generate results over the coming quarters.

I would characterize 2004 as a year in which we focused in on retooling our business for the next phase of growth and execution. While we were primarily inwardly focused on releasing our new products and positioning, we still grew by 45 percent sequentially over 2003. And if you subtract the revenue impact of two acquisitions we completed in 2004, our organic growth was still more than 30 percent.

During 2004, we had record revenue, cash flow, and earnings, and are now on our twelfth consecutive quarter of positive cash flow and revenue growth. We've built a business model that not only drives top line, but also bottom line gross and operating margins that are above the industry average in hosted software technology.

Furthermore, we put a face on our long-term strategy by releasing the Timpani product lines, and migrated nearly all of our customers to this platform. Since the migration is nearly completed, we are now focusing on educating our customer base on the new services, and our expectations are that this will result in incremental up sells during 2005.

Our focus in 2005 will be on sales and marketing execution. We will focus more resources than ever before into sales and marketing as we tend to capitalize on our momentum and unique position in the market.

Momentum is really important, but I also believe that the true mark of a strong company is its ability to survive the tough times, and constantly adapt to the challenges at hand.

Thank you, and I'd like to now turn the call over to Tim - Tim.

Thanks, Rob. We reported revenue of $4.6 million in the fourth quarter, a 32 percent increase versus the prior year, and up six percent sequentially from the third quarter. GAAP EPS and EBITDA per share were in line with our previous guidance at one cent and two cents per share respectively. And I'll give a lot more detail on our Q1 and 2005 expectations at the end of the call. They're also detailed within the press release from earlier this afternoon.

And now I'll go through in a little bit more detail the results from the fourth quarter and for the full year 2004.

For the quarter, LivePerson reported record revenue of $4.6 million, which was a six percent increase, versus $4.4 million in the prior quarter, and a 32 percent increase versus $3.5 million in the fourth quarter of 2003. Revenue for the full year 2004 was $17.4 million, which represented a 45 percent increase as compared to $12 million in the prior year.

Revenue growth from Timpani sales and marketing was particularly strong in the quarter. Our small business growth was in line with overall company revenue growth in the quarter, while our contact center revenue growth was a little bit slower than the other two lines, primarily due to the rollout of the completely upgraded platform during late Q3 and during Q4.

Growth in the quarter from large clients was split approximately 60 percent from new clients, and 40 percent from existing clients. More or less in line with previous quarters.

On a product basis, again for the high-end portion of our business, the split was approximately 30 percent from service clients, and about 70 percent from sales and marketing clients. Again showing the strong sell through the sales and marketing product. Though we are also beginning to see more customers using both products, especially in the high end, that is part of our go to market strategy is to begin with the strongest product for a given customer, and then cross sell them onto the other product.

We expect the growth in 2005 to come from all three product lines consistently in terms of absolute dollar growth. Where we feel the greatest up side potential to our current growth assumptions resides with Timpani sales and marketing. Overall, we've seen a slight improvement in retention rates over the past few quarters, and preliminary information for the first quarter of 2005 also supports that improvement.

As Rob mentioned, we've signed about 15 new enterprise type clients, including Overstock.com, British Telecom, Citibank Home Equity, and several others. More than 20 percent of new customers, both small business customers and enterprise level customers, are signing up for a combination of services, that includes e-mail and knowledge based capability, in addition to our core chat.

We expect our ratio to continue to increase during 2005. Our eventual goal is that 100 percent of new business will be using multiple channels of communication.

Cost of revenue in the fourth quarter was up slightly to $.8 million, resulting in an overall gross margin of 83 percent, the same level that we reported in the prior quarter. Cost of goods sold for the year was $2.9 million, versus $2 million in the prior year. While gross margin for the full year was 83 percent, at the - and represents the same level as in the prior year.

Product development expense for the quarter was flat at $.5 million, versus the prior quarter and the prior year. Product development for the full year was up about 25 percent to $2 million, as compared to $1.6 million in 2003.

Sales and marketing expense in the fourth quarter was $1.4 million, up from 1.3 million in the prior quarter, and - as compared to 1.1 million in the same quarter of the prior year. Sales and marketing expense for the full year was up about 44 percent to 5.2 million for the full year, as compared to 3.6 million in 2003.

General and administrative expense for the quarter, excluding amortization of intangible assets, was up significantly at $1.3 million, as compared to $1 million in the prior quarter, and compared to $1 million in the fourth quarter of 2003. G&A for the full year was $4.5 million, as compared to $3.6 million in the prior year. These relatively significant G&A spending increases were driven primarily by two items: one, increased legal costs; and two, increased professional service fees for accounting services.

Relative to legal expenses, we did settle two significant legal matters during the fourth quarter. We currently have no material legal matters pending currently before the company, and thus expect our legal costs to resume tracking more in line with historical levels.

Costs generated - incurred by the company to comply with the Sarbanes-Oxley legislation of 2002, particularly what we refer to - and most refer to as SOX 404 (ph) compliance, these expenses were significant in the fourth quarter. And they will continue at higher rates going forward, but at a lesser rate than in the fourth quarter.

We expect Sarbanes-Oxley compliance costs to peak in the first quarter of 2005, and then decline somewhat thereafter to a more static run rate.

In dollar terms, these costs related to Sarbanes-Oxley compliance will total approximately $550,000 over the last half of 2004 and the first half of 2005, split approximately 50/50 over the two years. We expect the ongoing run rate for Sarbanes-Oxley work to settle at roughly $50,000 a quarter by the second half of 2005.

We recognized amortization expense of $.2 million in the quarter, and $.8 million for the year, and we will continue to have amortization expense related to intangible assets at approximately these levels throughout 2005 related to - related to prior year acquisitions.

EBITDA, or earnings before interest, taxes, depreciation, and amortization was $.7 million, or flat versus the prior quarter, and also flat versus the prior year. EBITDA per share in the quarter was two cents versus a penny in the prior year.

EBITDA for the full year was $3.4 million, or nine cents per share, as compared to $.8 million, or two cents per share in the prior year. The prior year period did include a $1 million restructuring charge.

The reconciliation between EBITDA and GAAP net income is provided in the financial statements that accompany our press release from this afternoon.

Net income per share in the quarter was again positive at a penny per share, compared to a penny in the prior quarter, as well as for the fourth quarter of 2003.

EPS for the full year was six cents, as compared to a net loss per share of two cents in the prior year. And again the prior year period did include the $1 million restructuring charge.

And now if you look quickly at the balance sheet, our cash balance at quarter end was $12.4 million, or roughly flat with the prior quarter. We did generate cash flow from EBITDA of about $.7 million. This increase in cash was offset by three one-time items, two of them were the legal settlements that I referred to a moment ago, and one was the second of two progress payments for a small acquisition of a company called Face Time that we talked about on the last conference call, which took place in the beginning of the third quarter. There was one payment in the third quarter, and one payment and final payment in the fourth quarter.

Our accounts receivable balance was up slightly to $1.5 million. Our deferred revenue was up as well to about $1.3 million versus the prior quarter. And DSOs collections are running right in line with history, running at approximately 30 days. So no material change there.

And we'd like to talk a little bit about expectations, and then we'll take questions from those of you who have questions for us.

For the first quarter of 2005, we expect sequential revenue growth of six percent, and revenue would be in line with that would be $4.9 million. And we expect to see EBITDA per share of a penny, and breakeven EPS. So what we're seeing now is expected continued strong sequential revenue, as well as some additional costs coming online primarily related to sales and marketing, and to a lesser extent in the R&D area.

For the full year, we expect revenue of $22 million or more, which represents a 22 - a 26 percent annual increase. This of course does not include any impact from potential acquisitions, which have historically given us some revenue lift when they occur, but we did not include an amount for that in our guidance.

We expect EBITDA per share for the year of 11 cents, and GAAP EPS for the year of five cents. This excludes any impact of option grant expensing that we expect to begin reporting in the third quarter as a result of the new accounting requirements that we expect to come on line at that point in time related to FAS123.

Once we know more clearly, as we get closer to a date what the impact will be, and what the accounting treatment will come out as, we will update our expectations accordingly.

Capital expenditures for the year will remain more or less in line with history, with perhaps some slight increase, and we expect a total for the year of about $500,000. We also expect an effective tax rate of approximately 40 percent in 2005, and that is contributing to a portion of the difference between the EBIDTA expectations and the GAPP EPS expectations. So we'll be moving during the course of 05 from minimal tax impact in 2004 to an effective tax rate of 40 percent in 2005 as we burn off NOLs.

And that covers the financial review. At this point, we would be happy to take your questions. If you could ask the operator to rejoin the call, and let's just -- instructions for those questions.

Very good. At this time, if you would like to ask a question, please press the star and one on your touch-tone phone. You may with drawer that question that anytime by pressing the pound key. Again, to register your line for a question, please press the star and one on your phone now. We'll go first to the line of Denyse Rush (ph). Go ahead.

Hi, a few questions. On your G&A line it was about 350,000 ahead of what we expected. How much of that increase -- you mentioned the two items, was -- where one time in nature? I mean can you discuss more the settlement that you made on the second legal one? And also, was the first legal settlement made in the September quarter or was that pushed to the fourth quarter?

Yes, on the legal settlements, there were two legal settlements. One -- they both hit the fourth quarter. One had P&L impact -- I'm sorry, one had P&L impact in the third quarter, but had cash impact in the fourth quarter. And the second was a settlement related to MCI, and that had no P&L impact in the fourth quarter as we had previously reserved for that full amount, but it did have a cash impact of $250,000 in the quarter.

In terms of the one time costs, one time P&L hits were primarily related to legal expenses, not the legal settlements themselves, but the costs of legal counsel to work through the legal settlements, and so those costs anticipate dropping, you know, relatively quickly in the first quarter, as those were fairly full-time efforts in the fourth quarter and we'll go to zero in the first quarter, so we're back to a normal ongoing rate. In terms of dollars, there's probably about $150,000 potential swing between Q4 and Q1 for legal costs.

The Sarbanes-Oxley costs totaled approximately $350,000 in 2004. 300 of that, the vast majority of that, hit in the fourth quarter, and then we'll expect Q4 will be fairly high but not quite as high and then will taper off to a more reasonable run rate in the second half.

So net approximately $350,000 of G&A that hit the P&L we would not anticipate that -- we'd anticipate that going to zero by Q2, and going probably dropping by 75 percent in Q1.

OK, and then just last quarter I think you had guided tax rate to be about 30 percent. What are the NOLs currently and why the change in guidance on the taxes?

We're upping that, we're finalizing our analysis related to the NOLs, and we also are anticipating some impact on the effective tax rate from option accounting, and because of timing we want to be somewhat conservative on that number. It appears that the 40 percent rate will be a fairly good rate, although it is still approximate at this point, so the change here is really just more information relative to the limitations of the NOLs.

OK. And then, Robert, if you could comment on what your sales headcount is now and what kind of sales and marketing investment, in terms of the headcount you're looking for in 05. And then secondly, can you address you know why you're guiding sort of down on a year the basis for 05, given that the OnDemand space is strong. You seem to be adding headcount, and you have a new product and a decent existing client base to sell across.

Yes, we had 10 reps beginning Q3. We took it to six, so I took it over. We removed four reps, and now we're back to 10. So Jim came on and brought back to 10 reps, and then he'll probably continue to hire obviously throughout 2005. He's being fairly aggressive, but is got a pretty solid team right now to go out into the market. I think what we wanted to do this time with guidance, I think a little bit of a lesson learned last year was more or less just guide to what we know versus what we think we'll be. You know, we're confident in the business. Obviously, we're guiding up for sequential growth in Q1, and we feel good about what we're seeing in the pipeline so we just want to give the investors exactly what we know versus OK, it's going to be this much bigger than 22, let's just give them exactly what we know we can hit today.

And to the real clear on the relative increase versus the prior year, we're guiding to plus 4.6 million, which is about 29 percent increase. If we back out the embedded (ph) acquisitions, we made two acquisitions in 2004, one of them was actually done you know -- generated about 10 percent growth that we knew of, as we gave guidance. So that was sort of baked into the guidance. So if you back those out, you know, the growth will be taking this year is about 4.6. Last year, ex acquisition about 4.2, so we're really guiding to plus 10 percent. We would hope to have things on track where you can come back in a quarter and that number improves, but right now, that's where the guidance is.

: And I think one of the things we want to do too is we guide -- we just started our campaigns, our marketing campaigns. The first one just went out a couple weeks ago, and so we're seeing some good results, but I need another quarter to basically get a better track on, OK, those leads are converting into you know this type of a pipeline, but so far, so good. You know, like once again we just want to give what we got.

OK, thanks.

We'll move next the line of Brad Mook. Go ahead please.

Thank you. Good job getting the sequential growth back on track. You had -- you mentioned that 20 percent of the new deals were for combined product. I'm wondering now that you've launched the product last fall, the Timpani product last fall, and have moved through the holidays selling season now, and people start to settle down and make their decisions for 05, what kind of feedback are you getting now that people have had a chance to look at the Timpani platform as an integrated unit?

Yes, I mean it was developed pretty much with our customers driving it, and so as we, you know, mentioned that we started the product over a year and a half in development, and released a first version of it almost eight months ago, and then the final version was in Q3. I think we migrate our customers in Q4, so you know they want a multichannel solution, and there was a time where point solutions, you know, having just an e-mail system or Just Us (ph) for chat was fine, but now the market's matured on that side and they just want them integrated, so you know right now one of the big sales efforts on our side is to really educate our customers that they all can use now the capability to FAQ knowledge-base and then we'll have voice coming out, actually you know in 2005. So far so good. And right off the bat, it was 20 percent new sales, so we feel confident that, you know, the direction is the right direction.

How about up sell success you had with the existing customers who've been waiting for this product to be delivered?

Same thing. I mean we're seeing -- if you look at the split out of the growth of new sales, there's you know a split of that would be the existing base, but a lot of the existing base is starting to get market too. Now they get converted. The point people actually take the chance, and the managers, we're trained on the new product lines and the new interface of Timpani, and now we go back into the business owners and give them you know the capabilities and sell them. Because it is a sale. Most of them do have existing systems. They may have an e-mail system, they may have a knowledge-based system, so we do have to go back in and we do have to sell them, but you know, so far it looks good.

Of the challenge is really in the education. But we found that when we get to the -- get the customer to the right level of understanding of what we have and they're putting two products side-by-side, we are a strong or stronger as anybody in the market, and it comes down to a pricing and survey, and support and reputation sales discussion, as opposed to which product is better or not better. So it's really -- the biggest hurdle for us is just education. We're still running into customers to just don't know that we have the product yet, and that's the biggest hill to climb, and that's really why we're dramatically raising the amount of marketing expense, so that we can chip away at that because once the products in front of the customer, the feedback is very strong.

OK. It's your customer summit in September. HP had mentioned with some of their reorganization that they were going to be embracing chat globally. Have you seen up tick from them and kind of a renewed push?

HP is still -- is a work in progress, so yes, the things that we were -- the specific divisions that we were expecting to be interested and move online are still interested. We haven't seen it -- you haven't seen it in the numbers yet, and we would -- we're hopeful that the first quarter we'll see some results from them.

OK, and then you talk the little bit about the sales headcount. Can you just mentioned -- refresh us as to the overall headcount? Kind of how that breaks out?

So we have -- well, there's 10 reps today. Seven are in the enterprise group and then three are in the midmarket, and then we have 10 small business, but we sort of separate them out of that number of 10. So it's seven high-end, and three midmarket today.

OK, and what about the rest of the company?

Total headcount is right around 95.

OK. And then just lastly on the taxes, is that going to vary through the year? Are you going to work your way up to 40 by the end of the year or is that 40 really a rate for the entire year?

That should be the rate for the entire year.

OK. All right, thank you.

We'll move next to the line of Michael Shonstrom. Go ahead please.

I'm having a little difficult the coming up with a zero, a breakeven GAPP EPS in the first quarter, given sort of the numbers that I've thrown down as you've spoken here, so as I look at the operating costs, from fourth quarter last year to third quarter this year, do you expect your R&D to be up a little, selling expense to be up a little but the G&A to be about flat or up a little bit? And if I throw that in against your revenue number, with and 83 percent margin I come up with, with some profitability, what am I missing there?

On - I'll sort of talk to the margins a little bit. The cost of goods, I think a safe assumption ((inaudible)) for the first quarter, and for the year, is about 84 percent. Sixteen percent cost of goods, 84 percent gross margin. A little bit better than Q4, but holding relatively steady. Sales and marketing is going to represent the largest jump, and we expect that to be in the mid-30s, 35, 36 percent, and I think that's probably the biggest shift versus the fourth quarter. Some of that is coming - you know, has come online, is in the Q4 numbers, but there'll be - you know, we've done a fair bit of hiring at the end of the quarter, and we've upped our expertise level in the sales area and marketing area as well as the marketing budgets, so you know, right around 35, 36 percent. G&A, will come down significantly over the course of the year, but probably only three points, maybe four points in the first quarter. So it's right around 29 percent in the fourth quarter, so I'd expect 26 percent, 25 percent in the first quarter. And then R&D, will be coming up a little bit, one or two points versus the fourth quarter.

OK. And the implication of those numbers are - the salesman you're adding back in our little higher - at a little higher price points and what you previously had. Is that true? Or is it more general marketing?

It's primarily marketing. The cost per head is for the sales reps is slightly higher. The executive level talent in both sales and marketing has been bumped up and the costs, you know, commensurate with that, and then the marketing - discretionary marketing budget is up significantly. We'll look to spend over the course of the year outside of personnel costs in marketing between 1 1/2 and $2 million, as a more all less - a little bit more loaded towards the front half of the year than the back. Not dramatically, but somewhat front loaded.

OK. And can you give us any feel for what you're traction is in running against you know the leaders out there, whether you're being invited into situations at an increasing rate versus right now and karna (ph) or just some general feel for that picture.

Yes, I mean we - you know, we're invited now into e-mail and knowledge base discussions, and so that's something that's obviously knew for us. The good thing, as Tim pointed out, is that - and we knew that when we deliver the product because the time we put into the product is that we don't have product differentiation's. So if we look at their knowledge bases or their e-mail products and you put them side to side with us, we have those features, plus we're fully integrated across each of the product lines, and plus we have a very strong real-time chat program, which they don't, so if it's a lead with a chat product, you know, we basically have a really leg up, and then the other way we just go basically head-to-head.

I think one of the things that we really shine that, and if you ever come to one of our conferences you've seen it, is really a support, and - that we give to our customers, and when you look at products, it's not about another feature, it's really more or less about the company behind it and how we integrate and how we support it, and I think we definitely see this on our sales and marketing product line, where you need a lot of expertise and knowledge to help a web site converted more visitors into buyers, so that's where we really shine also. So we're excited. I mean it's interesting. I mean we were a Company up until third quarter, and now we're this full communications platform for online communications, and that shift was made dramatically, and we're seeing obviously the results in the numbers.

Thank you.

Thank you Mike.

Will move next to the line of John Riley (ph). Go ahead please.

Hi, good afternoon, it's actually a Arnie Gerstner (ph), backing up John. A question to ask you conceptually is could you perhaps give us a feel for the catalyst that encourage you to change or marketing plan so dramatically?

The big thing we saw is there is a - sort of the shift to real-time and the shift to online support and embracing a customer, and really a focus on Web site owners to convert more of their visitors into buyers is a hot topic. Conversion rate you'll see is going to be sort of the number one topic this year. Last couple of years it's been how do you drive traffic, and a lot of what Google has done for the world has made it easier for potential customers show up at a web site. Where everyone's having problems right now is how do you - once a customer comes to your web site, how do you embrace them? And so it's interesting, in our sales cycle, when we meet with a potential client of ours we'll ask a couple questions like where are you in your process of your web site? If they say, you know, we do op our (ph) marketing, we use Google as a search engine, we use analytics packages on our web site, we know they are up to buying our type of software. And a lot of the big sites already there today, and they're very focused on conversion. That's really the catalyst, so we dropped our first campaign a couple weeks ago. We did a direct mail piece and outbound e-mail, and we drove them back to micro sites and we have gotten some very good - you know, first of all the conversions about seven percent rate of conversion back from the ad back to our web site to a registration, to a lead, so that's good. So we think we're in the middle of sort of a hotspot, and we want to take the leadership in it, and you know, I think lesson learned last year was we were a little - we skimped out a little bit on sales and marketing to get more data. Well, we got the data now, and now it's time to ramp it.

Thank you.

Thank you.

Our next question comes from the line of John Pinto (ph). Go ahead please.

Hi guys. Just a quick question, Rob, -- good to hear your voice here. The existing customer base, what's - what is your loss rate or churn rate? And then if you could talk a little bit about your expectations, I think I heard a number of internal growth of 30 percent, but I don't know if I was off on that.

Yes, this is Tim, I don't know if my voice is as interesting as Rob's, but I'll ...

I'll hear your voice.

Thanks. The attrition rates and the retention rate, the trend lines have been good, and fairly steady. And the trend has been sort of flat or some improvement ever since beginning of the third quarter last year. Overall, we're experiencing roughly a 2.1 or 2.2 percent monthly attrition rate, and the way that breaks down is primarily small business at a much higher rate, about 3 to 3.5 percent, depending on the time of the year. And that's been steady and slightly improving over time.

And then on the corporate side, the high end side is much lower, and that sort of results in the mix of about 2 percent. So, everything looks pretty stable on that front.

Okay. So, you're kind of expecting growth in the first quarter of $1 million over last year. You're thinking 60% of that will come from existing? Is that about right? So, maybe 15, 20 percent growth from existing, previous year customers?

Yes. We actually didn't give a number on that, but historically the mix has been fairly steady between new and existing customers. In the past quarter, in the fourth quarter and most of the year, actually, the incremental new business that came from new customers, about 60%.

Okay.

Between 60 and 70 percent, and then the balance comes from existing customers.

Okay. What, is that - shouldn't that be changing a little bit as you get more business from existing customers through the Timpani?

Yes, that is true, except it's offset, to some extent, by the sales and marketing product, which has a much higher price point. So, if you bring in one or two of those customers at relatively high price point that really skews the number for new customers. And so, in quarters where that product does particularly well then the number, the proportion from new customers will spike up fairly significantly.

The fourth quarter was strong with new sales and marketing addition customers, particularly Overstock.com. So, that's why you saw that number, the new customer number spike up.

Okay. Just in terms of the pipeline going forward, the growth - what are - have you implied in your guidance the growth in the HP business?

There's a little bit of that in it, but it's very slight. Once again, I think Tim and I, we looked at the numbers and said, okay, what do we know we have today? And business stopped. What do we grow at? And that's the number we want to give versus just making a number up that may be bigger.

And guessing at it, we figure we'll come back in a quarter from now. We'll know where the pipelines stand. Jim just started at the end of Q4, Ramtha's (ph) team. He's on the road with his team. The marketing campaign just hit a couple weeks ago, so everything looks positive. But instead of making up something, I'd rather come back and actually give you some actual data based on that information.

Okay. Then this final one maybe. What are your assumptions for Overstock for '05 versus '04?

Once I - I think they definitely have potential to grow. We had very good results during the holiday season. And actually that's one of their biggest times of the year. It's about 40% of their revenue, if not more. And so, there's definitely a focus, especially with them, on increasing the conversion rates using our technology.

So, over the next, I would say, two quarters, we should see them start to contribute more revenue. What's normal, if you look at like an HP, once we get them, they have that initial big slug of revenue and then there's usually the next two to three quarters of revenue growth. Then they flatten out a little bit because they sort of, they get that initial demand going and then they sit back, see where it is. Then they look for other opportunities. Then we go back up the curve.

And that's where we are at, the beginning of that, with Overstock. And we're probably on the other side of that with HP. They're coming off their flat and now looking to expand. Obviously during Q4 HP was, and the holiday, there wasn't much sales there for them.

Okay, great. Well, thanks. And I'll sign off. I'll ask a final question and you can - but I'll sign off first. Any success on moving to success pricing models? And I'll let you speak about that. All right. And Tim, I liked your voice too.

Thank you. I feel like a - the way you put that when you opened up, it was like I haven't been on the call for a while. Yes, we are experimenting with more of a business model for pricing that goes directly to the revenue impact that we have on a Website, but it's very preliminary. So, there's not really any real tangible data.

We are still on a seed model today and we'll continue that. But we definitely thin we're not capturing the upside that our products provide from a value perspective. Next?

We'll move next to the line of Skip Barrence (ph). Go ahead, please.

Tim, can I ask a revenue recognition question? Considering the tranche of your new enterprise customers, you no doubt have installation, support, training, all these costs up front. Does the revenue really match that timing or is there a delay?

It matches up fairly well. We recognize the revenue as we provide the service. When we launch a sales and marketing installation, the value that we're driving and the work that we're doing tends to break out roughly two-thirds value in the software itself and the support of the software and about a third in setup and professional services and training. And they're typically 90-day proof-of-concept installations and we recognize a relatively straight line over the 90 days.

And so, it represents the work that we're doing, but also it sort of a straight line over the time period.

And then if there's, if the client doesn't, at the end of 90 days doesn't like the proof of value, that just means you eat those costs and the client goes away?

Yes. We have effectively eaten the costs up to that point, so if a client terminates at the end of that concept, which almost never happens, but if it does happen, then there's no additional cost that must be expensed. We've expensed everything as we go.

Rob, a question for you. Is anything going on in the particular industry segment, and you and I have talked about airlines in the past, where there could be a company that's taking a lead, and particularly you might be interested in multi-channel? From a personal utilization standpoint, I'm very impressed with what Jet Blue is doing. And could that be sort of a new beachhead?

Yes. I mean, we - travel has always been interesting for us. We're doing some more with American Airlines. We actually had their non-travel part of their site and now we're doing some testing on the AA.com part. But our focus right now is - Telco is very big for us. We have Verizon, AT&T, Bell South, Bell Canada, Qwest. There's a couple more and then there's international.

We also - e-retail is obviously big and then hardware/software manufacturers like HP, Microsoft, Computer Associates. So, the next campaigns that are going out - the first campaign we did was to more retailing-based potential customers. The campaigns that are going out now are FI. So, we're doing financial services, insurance, Telco behind that and then computer hardware and software behind that. And those are the verticals that we have.

We have great references in and we also know that they can use our product, and we know how to sort of make the ROIs work there.

Good, thanks. Good luck.

We'll move next to the line of Adam Coopersmith (ph). Go ahead, please.

Hi guys. You mentioned earlier, or alluded to possible acquisitions going forward. Where do you see those acquisitions coming? Is it more in the sales, new customer - acquiring new customers or is it enhancing your technology or adding new products? Any thoughts on that?

Yes. Traditionally we've done acquisitions of companies where we bought a customer base and then we convert them onto our platform. So, we're always looking at acquisitions in that area. When Tim said that I kind of, my eyebrows raised too, 'cause I figured people were thinking that we have an acquisition on the horizon. So, that's not the case right now. We're very focused on the organic aspects, executing on the organic aspects of our business today.

But we traditionally have done a very good job at acquiring companies for their bases and converting them. And that's what we are focusing on.

Okay. Can you give us an update on your VOIP product, both in product development and potential for launch?

Yes. The VOIP betas will start fairly soon. So, there's 4 customers in our beta program who will be testing the platform. And then there will be a rollout somewhere in 2005, probably towards the tail end of 2005. Right now I feel like we have almost too much product, like our sales force has a lot of product to sell. And we just need to get the sales and marketing down. We've never really had a product issue in the company. It's always been more of, let's take sales and marketing to the next level.

So, I think if we hit them with VOIP today it would be even a challenge for them to sell with everything that they've got on their plate. But it's good. You literally could come to the office here, and we're using it internally at our call center in Israel. So, they're using it. And that was the first part of it.

Okay. And one last question about the socks expenses. Can you tell us a little bit more about how those expenses broke down and if you feel like you've got a good handle on expenses for, I guess the rest of, the implementation in '05 and if there could be other surprises on that end?

No. I think, given the fact that we came in on the bottom line, right around expectations for the fourth quarter, we did anticipate that this was going to spike up. It was significantly more than we expected 12 or 15 months ago, but I think that's probably consistent across every public company.

The breakdown was, the numbers I went through, it was about $550,000 in expense over the course of Q4, 2004 and Q1, 2005. And the breakdown of that was about 350 in Q4 and then the balance will come in Q1 and beyond.

So, I think we have a pretty good handle on it. If it goes anywhere, it's probably going to go up, but not in any meaningful amount. So, we're getting down to the point where we know what work is remaining to be done. And the deadlines are coming up, so I wouldn't expect any surprises there.

Okay. And just a quick follow up on that and then I'll get off. Most of those expenses are based on price - where's actually the money being spent?

The money is in primarily 2 places. One is our KPMG (ph), our audit firm. Most companies get billed twice, one for the normal financial audit process and one for the Sarbanes-Oxley work. And all this is on top of a normal ongoing financial audit costs. The second piece is, we've hired a third party firm, which again, many or most public companies have done to support the internal staff here to do the documentation and evaluation and test work. And the split is probably close to 50/50 between KPMG and the other third party that we've hired.

The third area, which is not actual hard cost is just internal management time. And we've obviously been spending a fair bit of time on the process.

Thanks a lot, guys.

We'll move next to the line of John Hickman. Go ahead, please.

John Hickman. Hi. My question has been answered. Thank you.

[OPERATOR INSTRUCTIONS]. We'll move next to a follow up from the line of Denyse Rush. Go ahead, please.

Hi. You had a nice rebound this quarter in signing enterprise clients coming off of last quarter. Can you characterize, in terms of how many of those were coming from the proactive chat product? I know you said that 20 percent were a combination, but in terms of the higher margin product, can you talk about that?

Yes. A fair amount of the sales for, or sales growth, was in the, actually just the inbound product line. So, the chat/email knowledge base inbound and selling that into the market. We had a couple of big customers like Overstock. That accounted for some of the growth in Q4. But the majority, because there was a focus in on getting that multi-channel product to market. And that was really the focus of that.

Okay. And then the product percentage that you mentioned earlier of 30 percent service and 70 percent sales and marketing, is 30 percent service comprised of what used to be called small business or is there a Service Edition type product in there as well?

No. That breakdown represented the enterprise level customers, so the non-small business customers. All of the small business customers are using primarily a service application, which includes chat, email and knowledge base. And then the high on the enterprise clients are split between sales and service.

The old Sales Edition product is the Timpani sales and marketing. And the old Service Edition product is Timpani Contact Center.

And then just, maybe from an overall perspective, you talked about being conservative in your guidance because you have a visibility - I mean, you have a very highly visible model and over 2004 you've added a lot of enterprise clients that are potential for resale, but can you talk about the drivers in 2005 that would enable you to have upside in the sales and marketing focus that you talked about before?

I think it's pretty straightforward. Last year we spent very little on our marketing efforts to generate leads. A lot of the leads that were generated were just outbound activity from the direct sales force. So, we hired Kevin Kohn in Q3 to head up marketing. He put a group together and then we gave him a budget and he's gone out and developed a campaign.

And now we've taken that campaign to the street with a direct mail piece and outbound email and obviously through the search engine. So, that activity is going to generate more leads. And then putting a new VP in sales and new reps with a tighter process will be a catalyst.

And the third part is really the product lines, which we were limited last year. It's not limited. I mean, we were selling chat and we grew at a certain percentage, 45 percent predominately off of chat. So, now our sales guys can go after email, knowledge base, chat, full contact center, deals that they couldn't do last year.

So, those are really the three cows (ph) - people, the products and then the increase in marketing sales spend this year. And we intend to increase that spend and continue to grow these revenues.

And we'll move next to the line of Brad Mook for a follow up. Go ahead.

Thanks. As you guys increase your sales and marketing spending and kind of push forward on that front, there clearly is a short-term impact on profitability. Have you reassessed your long-term operating model, what the target model looks like? Did that change at all in the long term or will you eventually get there?

I think the only material change there, I think we'd probably be a little bit more conservative on the gross margin line. I think we've experienced about an 83 percent gross margin over the last several quarters, over the last full year and we're projecting or we've given guidance of about 84 for next year.

In the core cost of the product, that gross margin would probably be 85 - 84, 85, 86 percent, but we are investing in some potential new business that requires some more robust spending in the infrastructure up front. And if that sort of pans out, as we expect, then the gross margin would continue to increase. But I think we'll always have those opportunities, which will just require an investment over time. The gross margin will increase.

But I don't expect gross margin to go to 90 percent over time. And I know there was a time when we probably communicated that, but still, the mid 80s or so is reasonable and the rest of the cost line, I don't think that the long-term model has changed substantially, no.

Okay. Even G&A and sales and marketing. Okay, thanks.

[OPERATOR INSTRUCTIONS]. It appears we have no further questions at this time.

Okay. Thank you, and we look forward to speaking to you on our next quarterly call after Q1. Thank you.