OneSpan Inc (OSPN) 2005 Q2 法說會逐字稿

Your first question is coming from Jonathan Wycather (ph), with Wayman James.

Hi, good morning guys.

Hi Jonathan.

Can you clarify. Does the guidance incorporate revenues from EMV?

Yes it does, it does include some orders that we already have in house for EMV.

Can, can you talk a little bit more detail about EMV, just related to the interest in that Digipass pro800, what kind of pilots might be in place today?

Jan, would you like to handle that?

Yes, I can handle that. First of all, I suppose you do understand for competitive reasons, I cannot tell where the pilots are, are going on. But basically, we see some trends. Just as a reminder EMV it is a standard, and for those who had done some research on the internet about EMV, will see that more and more countries, are implementing EMV as a security standard between the consumer with his smart card credit card and a shop with a terminal. And again as a reminder, that means that more and more countries, or the banks in more and more countries are offering to their customers smart cards and if you have a smart card, you can also put a authentication protocol on that and that makes those credit cards smart cards compatible with our existing Digipasses.

Now, what are the trends we see in some countries? That the trend is that the banks are putting a authentication protocol on that EMV smart card. They use it, or they promote it to use it for their own security banking, to secure their banking, their internet banking transactions. But at the same time that means that once you have a consumer, you have a EMV smart card, you have a Digipass. You can do the security for your internet banking, but at the same time you can also use it and, or more and more you can use it then also to buy, let's say, products over the internet.

Are you seeing traction with that card not present product?

Oh yes, there is a trend that in countries, again for competitive reasons I cannot say so much about that, there is a trend that in some countries the banks are going to do the promotion. So it is a push by the banks to their customers and once the customers have it, they are going to use it for other applications.

Do the customers need to purchase it directly from VASCO? Or is it the bank that's going to assume the cost?

It is the bank who is doing the distribution. As an example I can say to you that it's an announcement that we have done, that in Slovenia Banka Koper has announced that they are going to work with EMV cap and Digipass.

Jonathan I think its, historically speaking, all the banks have historically bought these devices, bought the Digipasses from us and given them to their corporate and retail clients. We don't expect that trend, that historical trend, to change.

Okay, okay. So no change in terms of how it's going to be --?

That's right.

Okay, can you comment a little bit more on the HSBC deal in Hong Kong, who the competition was in that opportunity, what kind of sales cycle and what was the differentiating factor for VASCO to win.

Well, the original transaction that we did with HSBC as the global bank actually started down in Sao Paulo Brazil about 10 to 12 months ago. And Jan correct me if I am wrong, but that was an RFP that our local agent got and we helped them respond to the RFP and it was a very competitive situation. We won that deal and of course like any smart global company, we took that as our entree or introduction back to their corporate headquarters and their locations around the world. The next tangible result you see down in Hong Kong. Jan, why don't you talk about the specifics of the Hong Kong deal?

Okay. Today, honestly you need to see competition not only as strong authentication vendors, but also as vendors with let us say like a pretty much script scratch list and calm list and, maybe some other products that can be used to do some kind of strong authentication.

So when a bank is doing a research, they will look at all those products and so not only at strong authentication products but also at other potential devices products that can be used to do against some level of authentication.

Yes.

Now the first step that we did in Hong Kong is and it's a little bit the same thing that is happening in US with the FDIC, it is the Hong Kong monetary department that have launched a program to promote strong authentication meaning real strong authentication towards the banks to secure their internet banking application that has been the first step. They have issued a document to the banks and in the document, they have talked about strong authentication and in that document they have also published a photograph of one of our Digipasses so we are very strong introduced in that local market.

Did you anticipate that HSBC and RCON is going to roll out your goals per unit to -- I believe they have about 870,000 on line banking customers. Was there going to be a portion of that?

How much online banking customers are you saying?

They said, I believe it is 870, 000.

Yes.

So there is going to be all those online banking customers. What kind of time period?

It depends on - - well, first of all they have announced that for every of their customers, they are going to give them or sell them a Digipass. That has been announcement of HSBC Hong Kong.

Alright.

The second thing the timeframe is going to be somewhere this year and a part next year.

Okay, is there any implication to the gross margin given such a big deployment over let us say the next 6 to 9 months?

You mean the gross margin of - -

Yes.

VASCO?

Yes in terms of the ASP that you have assumed with that transaction.

Jonathan, HSBC Hong Kong is simply 1 transaction as you know we have a blend of, a mix of business both other large and mid size bank orders. We also have the CNA so I don't think that that 1 order will dramatically impact our results one way or the other.

Okay, but I can assume that the ASP in that product is lower than the average ASP disclosed earlier in your comments?

Yes you can assume that.

Okay, Cliff just 1 final question. You have -- it can, you have probably seen this. The bank of America has announced new authentication mechanism that they are calling Psyche which they plan on rolling out to online banking customers. And it is going to include some form of a challenge questions, the selection of a specific image in written phrase. And Bank of America has stated that they have done surveys with their customers and survey, these surveys suggest their consumers do not like the idea of having a device like a token. So, I guess the question is, as opposed to your experience in Europe because of maybe cultural differences in the US. Is convenience going to drive banks to look to alternatives to tokens?

Well first of all the Bank of America deal, that transaction you talking about is an implementation to foil phishing. It allows the customer to authenticate the server not vice versa. So the customers actually being through this identification of some kind of a graphic image that they choose when they sign on. They are assured that they are actually, they think they are assured that they are actually dealing with Bank of America. That is not authentication product.

Okay, okay, so it is not going to be used for authenticating online banking transactions.

It is meant to authenticate the banks online application. Now as far as cultures are concerned, I don't know that I would jump to that conclusion that you have just foisted here. I think that the total cost of ownership that Jan was talking about before will drive the banks to do what is right. And there have been in the market for a long time, these tan lists which are pre printed passwords that are mailed to the customers and every time they sign on they use the next sequential password on the list, they scratch through it. Well a lot of banks have thrown those out because from a help desk point of view, a support point of view, it is a nightmare and so they made a choice in Hong Kong to use our very simple Go3 because it provides them the lowest total cost of ownership and the least hassle to the users.

Now will that transcend into the United States Market place? We are counting on it. Yes. I do not think that the issue is a concern for us .Will it be adopted as quickly as we have in other countries around the world? I do not know. I would say that we are making progress and that even us Americans can learn things and learn to do the right things.

Okay. Thanks Ken

You're welcome.

Thank you, your next question is coming from Allan Winefield (ph) with Coffman Brothers.

Thanks. Could you give us a little more guidance on the hedging? How that affects the interest and other income you might have for the rest of the year as well as what the NOL picture might look like in the second half.

The hedging program, Allan, won't have a significant impact on our overall results. When we looked around for different ways to hedge, the exposure to our transaction gains and losses, we found this to be the most simple and most cost effective. The mechanism itself, relates back to our strategy in terms of hedging operating income as well .We have a large portion of our expenses denominated in local currencies and therefore we need to denominate a reasonable portion of our revenues in those same currencies .

That being the case those offset, but that also being the case, the remaining balance of revenues are in US dollars. So the way that we intend to manage that issue, those US dollar denominated receivables match up to some degree with our US dollar denominated payables. Most all of our inventories if not all of our inventories are also purchased in US dollars. So we end up with a difference between the receivable balance in dollars, the payable balance in dollars and we borrow incremental amounts under our line of credit so that the US dollar dominated assets are approximately equal to the US dollar denominated liabilities. And I am having trouble saying denominated for some reason.

So what we will do is we will borrow the amounts necessary and then you can see at the end of the first quarter that number was $1.9 million. We will borrow that amount in US dollars. We will convert it to Euros. We will invest those Euros in short term investments and our cost will be the net difference between the borrowing cost and the investment cost. So it will be 2 to 3 percentage points of that $1.9 million number and that $1.9 million number is probably reasonably representative of what we expect the borrowings to be over time. Did that answer or help with what the hedging question Allan?

Yes, can you give us any idea how much NOL's are going to be in the third and fourth quarter from some of these countries?

Well, I would have to refer you back to our 10k where we disclosed the overall NOL's and then you will see there that we have sizeable amounts of NOL's and we sort of identify the countries. That's sort of the art that goes into projecting the effective tax rate for the full year. So we have done our full year detailed forecasting by geographic region. We have calculated the amount of NOL's we expected to use during the year based on that forecast and all those are currently rolled into our 35% effective tax rate.

And Jan could you give us a flavor if you have seen the lobe -- the like, the lower cost of bingo card out of the other 27 trials of the identity card from interest and if you are currently competing against any of those globally?

Yes. Well may be I can start to give a comment on the previous gentlemen about the AOS. Now, first of all I can not, VASCO can not I believe not one of our competitors can motivate a bank to use one kind of strong authentication. What we can do is that we can compete against all generic competition products now. If you see that our low cost of products and again low cost does not mean just the cost price it means the way you will, ship it, the way you will deploy it, the way that the customers how they will receive the card they will unpack it, how they will use it to secure their internet banking transactions, I believe today I am very convinced if that we can compete against all kinds of different generic products.

We estimated as an example, when we go to a bank and a place that we call a new country and that could be a, also a new application like retail banking it always the same remark that we are getting. Yes, but - -and I am talking about a large country, yes, but our customers they are different than in other countries and probably maybe we don't know they want to do it on another way.

When then we start explaining our total cost of ownership and again it is just more than just a cost price. It is a whole concept how we market the product. How it gets integrated in the existing application and so on and so on and if at the same time I say that one of our largest customers for 2 million, 2 million retail banking customers is only getting 800 support calls a month then I can assure you that everywhere rings a bell.

Again we as VASCO we cannot motivate and I believe not 1 vendor can motivate banks to go for strong authentication but if that decision has been taken I believe that we can extremely compete on a professional way to show that our products, it is not just hard products it is just not soft products but it is really authentication, electronic signature concepts and the way we have put them on those different platforms that it is - - then it is a real concept. So if you are asking about those whatever you call it, bingo card, scratch card, we will see yes, from time to time, we see them but I believe and it is very strange in fact where most of the countries are skipping from scratch cards suddenly you see them appearing again from some US companies. But I don't think that is really a - - I don't think that with -- again with our concept, we don't see that really as a threat.

Thanks a lot guys.

Thank you Alan.

Thank you, your next question is coming from Michael Teal (ph) with Surplus Securities.

Yes. Good morning. Can you hear me okay?

Yes Michael we can.

I just wanted to go down a little further on your guidance and you have mentioned 65 to 75% year over year growth --

Yes

- - of revenue line - -

Yes.

What can you tell us about the assumption or I guess the events that has take shape for you to hit the top end of the guidance?

What has happened to cause us to increase our guidance at the top end by 10%?

Yes. What would it take for you to hit that 75% top line growth?

Yes. I think we have already seen the fundamentals of what it takes to hit that growth, Michael because we have - - in terms of the text of what Ken mentioned we took our organic business, we have added in AOS and part of the change in guidance is the order that we have from Verisign the EMB orders that we now have and house. So if you sort of compare current guidance to what we guided before, we are starting to disclose some of the activities that we are seeing from these new areas.

We are also seeing very strong growth from our core banking business and as that business continues to gain momentum because you may recall when we first gave guidance back in December of '04, our guidance for our organic growth was 35 to 45%.

Right

And you will see in our results this quarter that the actual growth has been greater than 50% excluding AOS - -

Yes.

of that organic business. So we are looking very much at the order flow, the back log and so forth and we are comfortable that that top end of the range is potentially achievable. Yes?

Okay. And in terms for the second half of the year that is so far what we are seeing 70 plus % year over year growth each quarter. Do you see that continuing on a quarterly basis or do you see that being a little bit different since you had a strong Q4 in '04?

When you look at the growth we had a 72% growth in this quarter 80% year today and we forecasted 65 to 75% growth so we have obviously given ourselves a little bit of room to not maintain that same year over year growth rate but when you look at the back log that we have for Q3, which is already 57% greater than our actual result for the same quarter last year, we are still seeing very strong quarter over quarter growth. So yes the, last year the fourth quarter was very strong with over $9 million of revenue. Will it be a challenge to hit 70% growth on that number? Yes it will. Is it impossible? No its not. So we've given our best estimates for the full year and how it breaks down by quarters, we need to leave to the analyst to sort of chew on a little bit.

Okay, fair enough.

That's very possible.

Yes, don't forget what guides us internally and we do not share our total 12 months rolling back log, you recall that when we reassembled our management team, one of the things that we started asking as many of our banking customers as possible was for a 12 month purchase order. So we do have very good visibility going out 12 months, even though we don't comment on that in our guidance or any of our comments. The only back log we give is for the current quarter. So combination of that back log going 12 months and our general sales pipeline gives us confidence in that range.

Okay, good. Also on just to kind of revisit the competitive front, I know that some of your competitors, RSA had talked about winning some consumer deals. ActivCard announced that sweat bank deal. Are you seeing any changes there, are they being more aggressive, recognizing the opportunities now or is it really just marketing fluff?

Well I have to turn that over to Jan. Yes there is a lot -- there are a lot of statements by both those companies. Jan, are we seeing RSA in these large deployments?

They'd said that there has been some -- first of all there has been some changes at VASCO the last year. Three years ago-- one year ago, our marketing was not world wide. We didn't have enough sales people to cover the whole market world wide. And with the announcement that we did, I believe somewhere a little bit more than a year ago or some where a year ago, by saying that we are going to hire more people that we see that in 2004 no talking that our results of-- I don't know how we explain that or that they were better expected than that some of that money we going to invest in -- by hiring new people.

Of course a lot of those investments that we did was in fact hiring people, sales people, marketing people, pre-sales people for regions where we were not so well introduced and explained little bit in the script about perhaps explained also little bit about that around those hubs we are starting up more and more regions where we hire local people either as an employee, either as an agent. So why do they say that? Well first of all, we entered in regions, where and I'm going to honest about that. Where RSA was already introduced. So yes, there we have seen that RSA is a strong competitor, but I believe in that it has also been proven by the banking summit that we know how to tackle, how to make sure that those banks are also looking at VASCO. And I should say as an end result, VASCO is not only more opportunistic company that is just looking to scratch the fat for the market. But has now very oiled machines in all those different regions.

Michael, I think it is clear that we do have RSA's attention, with the last two quarters and the market leadership we now have in terms of total number of units shipped, particularly to these consumer and other large deployments we have their attention. And so I would expect them to be thrashing around and competing as hard as they can. But we have some distinct advantages that we've described before this call, and are talking about in this call particularly in our strong vertical banking finance.

Okay. And just to follow up Jan, your comment earlier on market leadership and being a trend setter now. Does that in any way present maybe a conflict to your low cost high volume producer or maybe you can just give us more color on how that compliments your strategy overall.

Okay but, you need to see that you need first to look at the applications. Now applications or if we have a chance to banks or whatever e-commerce applications. They are not only limited today only to do some balance information, some money transfer. You need to see that all banks, e-commerce shops are putting multi applications on the market. So, what do I mean with that? Well they have customers who will do a transaction for buying a book once a year. Or they going to have to see CFOs who are doing transactions every hours of $100 million. And between that, a lot of variety now of applications where strong authentication is needed. That's the first remark, the second in remark is some application today, they cannot afford to do real security with outworks that are of hardware or projects that are too costly.

Again if you buy only once a book a year, think about E- Bay applications or Yahoo or buying applications. You just cannot afford to have a strong authentication, product could cost $10. That's too costly. That means that the trend setting is to have by one and unique authentication platform to have a -- authentication product by customer. And that customer can use it for multiple applications. Some will call it federated identity; others call this multi applications authentication products. Trend setter means here that I think we have a little lee-way in the past maybe we have been a little bit too -- say that in English-- to mother it.

I believe if you look more in detail today, most of our products are already multi- application and Trendsetter means that we are now entering more and more in non traditional applications, where the market is huge, where real security is needed for all of those reasons that you read everyday in the news paper, why people don't want to use their credit cards anymore on the internet. So the trendsetting means is that we are listening to the application, it's not just e-banking it's a lot more than that and that's all products are ready today or we move the application products and that you see them more and more appearing on platforms or other people think about mobile telephones, think about all those credit cards, smart cards, think about these PDA's, and, yes.

Thank you. And just a quick housekeeping. Cliff, there was increase in the inventory from, I guess 1.3 million to 2.1 million. Any color you can add to that?

Well, Yes. As our volume grows, we need to carry more inventory on the books. If you do the computation to calculate the inventory turnover, you'll see even at the higher rate the inventory turnover in terms of revenues divided by costs of goods sold is still very high or inventory divided by cost of goods sold.

Okay. Thank you.

So, the other piece as you think about it Michael is that the processors have a little longer lead time than some of the Digipass units. So when you get into the details you'll see that the most significant increase of that was the processors' side as opposed to the finished goods' side.

Okay. Great. Thank you.

Thank you. Your next question is coming from Edward Chang with Rodman and Renshaw (ph).

Morning guys.

Hi Ed.

Could you get some more color on deployment sizes? What are the sizes of the initial deployments are they increasing as opposed to last quarter and when the customers are coming back again, what are the deployment sizes growing by?

You mean the average order size?

Yes.

I don't have that data available this morning.

Have you seen a turning. Has it -- well, I guess we will talk offline then.

Ed, I really wouldn't expect it to be materially different than what we saw in the first quarter and the reason being is the average selling price first quarter is about $7.60. The average selling price this quarter was $7.85. Those average selling prices are generally driven by mix of business and size of deployments. When you look at the mix of business in this quarter, our mix between banking and corporate network access was the same in Q2 as it was in Q1. And then therefore the mix from CNA is not going to have a significant impact. So I believe once I dig down into the numbers more specifically, it's going to be some small changes in order sizes within the banks that will talk to that $0.25 increase in average selling price for Digipass. But I don't expect it to be materially different.

Okay. In the backlog for -- we're going into third quarter here, how much of that, percentage-wise, is existing customers?

I haven't done that computation either. Well, normally the backlog comes from the banks. And we do have some orders from these new account banks that I've described over the last two years and first quarter but you could think that most of the backlog probably is POs from existing banks.

Okay. And third quarter is normally when your core banking customers come in and renew those large contracts, right? In the past?

I think that's probably a question Jan can handle better but I think it varies by bank as to when they place their orders. It depends on when they make their final decisions on the applications they want to deploy and how aggressive they want to be on those deployments. Jan, I don't know if you've got any other --

Yes. That's it. I guess we need to of course to make a difference between a PO and a sales. That doesn't mean that we get a PO that you're going to ship the products right away. Some banks are better organized than other banks and they give you the PO early enough so that you can do your planning on a correct way. Others are a little bit more heretical and wait a little bit too long. But let's say that typically at the end of the third quarter, typically new POs are getting in either for the rest of the quarter and for the beginning of next year.

Okay.

And Ed if I can circle back to your comment on new customers' backlog, new customers and old. I don't have any more information than what Ken gave you but let me give you another general thought because we do monitor sales by customer and when we look at top ten, if I were to look at the top ten through the first six months of this year versus the top ten last year, I've got four new people in that top ten group.

That's great.

So Ken talks about the layering of the banks and the pilots and the rollout over a period of years. We see that in terms of the overflow which is why people will be in the top ten for a while as they're going through that deployment over those periods of years and then they drop out -- for a while. And then they'll come back with a new application. So within the cycle and just as kind of another thought in how to think about it or look at it, four of the top ten through the first half weren't in that category last year.

I agree.

And Ken, in the guidance here. For the reason of the guidance, is it safe to assume that Hagenuk is really, the basis for the reason why you're raising guidance?

No, not at all.

Okay. And right now for Verisign and EMV, how far out is the visibility right now? You looking -- is it just two quarters, is it a year? What's the picture you're getting right now from -- I mean I know they're still early but how far up can you see those sales right now?

You mean when significant sales will occur? Is that what you mean?

Yes.

Well, the reason we don't have it in our guidance is that we have not yet seen significant orders and so that's why we choose to be rather conservative, I think. And -

Do you think though in the Verisign deal, I mean they have other vendors. Do you think possibly you're gaining the market share there just because of the fact that it's the right device for most of the customers signing up for the old product?

I don't know. Jan, can you handle that?

Sure. First of all, a little bit on the previous question. There is a big difference of course between EMV and Verisign. EMV is a market. We own that market. We know very well that market and we have a very visibility for the next two or even three years. Verisign of course is a little bit different. It's a company and that visibility is of course different that if you own the market.

Now to come back to our strategy in the banking. We may not forget that we are knocking as VASCO very hard on the doors of the banks. We do really got our marketing with an average of one banking summit a month with a lot of prospection seminars that we are doing with more than two events as an average per week. We are knocking very hard on the doors of the banks. Now the banks, we convince them of course of a, the first thing we convince them is to use strong authentication .We use strong authentication. And b, of course we convince them to use Digipass with all the reasons we've mentioned before.

Now, if a bank say yes, then they have a couple of different options to do the integration on the infrastructure side, first one is do the integration themselves. The second one is to, work with a, lets say, traditional vendor of banking software, like you have many in this work. Third one, they can say, well we will do the integration ourselves; we will do through an integrator. And the fourth one is of course is to say, 'well no, we don't want to have the infrastructure here on the premises, we want to outsource it. Again enter, of course, the Verisign business. So we should say as a partnership, as a technological partnership, its not--we are not waiting, until Verisign comes to it and say hey we have your prospect, and we don't know what prospect going to chose either you or one of the other products that you are presenting. Now that's not the way of working, we are really anticipating on that knocking on the doors.

Well thanks Jan, and if they work here in R&D, and I know you guys are looking at new products and new hardware. How much of the new product line is in cooperated in R&D costs today, or will you have to add some engineers or to increase in some new programs, going forward here?

I think that's probably his question, and Jan can answer in more detail, but I'll start. The increase in cost that you see in R&D is in good measure, due to the AOS-Hagenuk acquisition. We got several high quality engineers and have made the organization in the Netherlands, our smart card development or smart card reader development center of excellence, within the company.

As we go forward, we'll do the maker by analysis on each of the other technologies that we enter into, and so that may take various forms, it may end up in an acquisition like AOS. That company may have a large engineering group, it may not, it may just have strong products or we may add to our own engineering staff, to work on the new products. Jan is there more that you could add to that?

Yes, we must make a lot of a difference, between different types of development. Some developments are based on the existing platforms and maybe physically you don't see that its really new products think about this old program. Think about all the different 800s with all the different standards that are on the market. You don't see maybe physically, but internally we're putting more and more options. And lucky for us that, our engineers have chosen so many years ago, to work with a strong foundation platforms, that those options, you are really to see that there is a big difference between hardware and software. That -- all those different options can be put on that standard platform. That means also, that as an advantage as a vendor, we can do really just in time to lift the programs, and we don't see a product different I should say then, another model, due to the fact that we have always used our, some foundation platforms. Now that's one part of the development, yes, that costs us a lot of money I think, we makes money because a lot of those options of course, and certainly if they are really typical to a customer are paid by the customer.

Another part of development is really new products. I don't expect really significantly raise in the cost of R&D, again and that's thanks to the smart engineering foundations that our engineers have chosen so many years ago.

And I think it's safe to say, that for the foreseeable future, it's our strategy in terms of getting more and more leverage out of the business. Although we will grow all our operating costs centers. Our R&D sales and marketing, G & A. Our goal is to have that expense not grow percentage wise as fast as the top line, and so you'll see, for the foreseeable future those cost centers as a percentage of the top line, continue to decrease little by little.

Alright, thanks guys.

Thank you Ed.

Thank you. Your next question is coming from with Horatio Zambrano (ph) with Wedbush Morgan.

Hi, good morning guys, congratulations on very pleasant results from AOS-Hagenuk. Can I ask about how much, the order back log is from AOS?

No, I don't think we want to go there Horatio. I would ask that you just consider the guidance and the aggregate. I think as a policy, we'd like this to stay away from breaking down specifics by companies or by entities. Or even by product lines within VASCO.

Okay.

We'd like to stay away from that for competitive reasons.

Okay. In terms of your customer concentration in the past, I think you used to give us the top 5 in that look percentage ,by now shouldn't we see that ticking down? Can you give you give us any indication on your top 5 customers. What percentage of sales there are?

I mentioned earlier that we do track at the top 10 for the first 6 months of this year are about 70% of our revenue. Which is not substantially different than what the top 10 was, for the first quarter, it's a little bit higher than what the top 10 was for 2004, which was about 60%. And I think one of the points to take away is who's in that top 10, and is it really a concentration of business issue or is it part of the normal flow where people are going through the pilot to full blown deployment, and then back to another stage.

That's why, I think, when we look at it, and especially since we're focused on extremely large deployments, we expect to see a high percentage of our business in that top 10, at any particular time. So our customer base is growing, as evidence by the significant number of new banks that we've added over the last 2.5 years, the number of corporate network access customers that we've added. But with the layering affect of the banks, because they're multi-year roll outs, we're expecting to see the top10 to be a sizeable percentage of out total business. But we'd also expect to see that top 10 to rotate in and out.

Right, if you'd seen our corporate presentation, we actually have a slide, that depicts a normal roll out, a 4 year roll out, where as Cliff had just said, the decision is made, the product is integrated, they go through a 3 to 4 month pilot and then if it ends up being a 4 year roll, out roughly 40% of all the units shipped during that 4 years is shipped in that first 12 months after the pilot. So that's 1 of the reasons why you'll see, companies enter and leave that top 10. That's 1 of the reasons we have a new, 4 companies in the top 10.

Okay, I guess the question for Jan. I was at the Burden Group Catalysts conference, and heard a lot about where the identity and access management market is going. It seemed and maybe it's just that group, but there seems to be a lot of talk about digital certificate based authentication, not so much a huge return to PKI but for sure a use of certificates particularly with the Window -- Microsoft are now offering certificate authority. Are you guys seeing a shift in that direction in the market, and could possibly need to begin to offer USB tokens with that capability or does your current product set allow you to move in that direction and plan that trend?

Well we certainly are recognizing that there is a trend towards PKI or certificates and you can deliver it on a smart card, you can deliver it on a USB token, it certainly has our attention and we're looking into it.

Okay and then, last question. I guess from other calls, I think I was expecting that you might ship some tokens to Verisign in this past quarter. Was there a slip in that into this quarter or is this been sort of what you were expecting?

As far as I know, it's been what we've expected, as the startup, the ramp-up with Verisign--

Okay. Alright, thank you very much.

Welcome

Thank you, your next question is coming from Amy Sank (ph) with JMC Securities;

Can you hear me,

Hi Amy, How are you?

Good, how are you?

Good.

I had a quick question again about the AOS-Hagenuk contribution into your upwards guidance range. Basically, your guidance is being raised by approximately $3 million, and if we assume that AOS-Hagenuk contributed about $1.4 million, this quarter and that stay steady, wouldn't that be the bulk of your guidance range raising for the--rest of the year?

Maybe I can help you with the math of that, Amy. Going back to December, we originally set our organic growth excluding any acquisitions to be 35 to 45. When we acquired AOS in February, we came out and increased the guidance 55 to 65. So that increase in guidance really was the AOS component. Now as we go from our current or our former 55 to 65 to 65 - 70%, the baseline for AOS was already in that, so earlier Ken commented that the increase in guidance wasn't AOS and that is in fact correct, because we built that into our earlier changing guidances, in February.

Okay, thank you for the clarification, 2 other questions, can you give us a sense of what are your ASP's that you're seeing currently on your go three the lower end product, and what I'm driving at is with ASP's declining approximately 35% year over year in the first half of '04 versus first half of '05, can you give us a sense what the product mix that you're seeing currently, that your shipping of the low end product versus your high end tokens, as well as what are you seeing in ASP's on the go three?

Well the ASP obviously is a combination of our smaller orders, sold through the channel, higher ASP's and much higher gross margins, the mid sized companies and the mid sized banks that are just getting started ordering smaller quantities, higher ASP's, higher gross margins, and the very large deals like an HSBC where they're ordering hundreds of thousands if not north of a million, in a shorter period of time, and not a four year roll out but perhaps something on the order of 12 months or less. So it's a combination of all those things. In terms of mix of units--

Can we talk about that ?

Well I think the best way to look at mix, Amy is in the aggregate as well. So if you took our total cost of goods and divided it by the number of units in the quarter, you'd see that we're still well under a $3 per unit price, in terms of our cost of goods all in. The Go3 is less expensive than some of our other models. It is a model that we would focus on for the larger consumer deployment, so if you're projecting out and you're using a Go3 to project your revenue growth, then it would be reasonable to assume a lower continuing decrease in the cost of goods sold, because that would be a bigger percent of the mix. But there again, for competitive reasons, I don't think we want to go into product specific information on ASP or cost.

Okay, and then lastly about North America, can you give us a sense of what is your go to market strategy currently in North America? And then as you expand your presence here, would we expect to see higher operating expenses, particularly in the sales and marketing side?

It would be a quid pro quo, I can guarantee you. We've already invested 3rd quarter of last year in the United States. We made that conscious decision when we exceeded 20% on the operating income percentage. We decide to hire more people around the world and particularly here in the United States, but any more hiring would have to be after more success in the United States, before we would significantly increase our head count here. Jan you might talk about the go to market strategy that Amy asked about?

I'm sorry I didn't hear the question?

Amy's question was what is your Go to market, or your marketing strategy or sales strategy for North America?

Okay, basically in the US, there are a couple of items that we need to separate. The first thing is that in the CNA market, most of our partners are American companies, so CNA market that's the market of the Cisco, the check point. The business development side, we are investing much more than we did in the past, I mean, we do more co marketing actions, we try to have as much as possible high level meetings, and of course, all our banking business is helping there because, the no fouls, the check points, they see also successes in the banks and I believe that, I said that in my script last quarter, that the different strength that is in the market is that if, as in the past, we needed, really in US, to chase for having new resellers, that now we're having, several requests a month and even several requests a week of companies who want to become resellers, so there we have that mix of business development going to technological partners, do road shows with them, and at the same time, the resellers or more and more resellers are selling VASCO products. Second thing in the CNA market, what we doing more and more, is lead generations seminars, lead generations programs, so we go really, we knocking again on the doors of south of those cooperates and then after that, we give the lead to or we work together with, typical resellers to that market. In the banking today, in the US is certainly more and more banks, going to use strong authentication products to secure their transactions, for cash management institutional banking. The opening of the retail banking I mentioned before in the FDIC is promoting strong authentication. And I believe that we will see, as from next year, more and more banks offering or doing pilots of strong authentication products for retail banking.

Great thank you very much.

Thank you, Amy.

Thank you, your next question is coming from Jeff Englander with America's Growth Capital.

Good morning gentlemen,

Hi Jeff

Ken how are you?

Good

Couple of quick questions. First one is in terms of the fiscal year tax rate which I think since you kind of guided up just 35%, you historically have used about 34%, can we draw any conclusions from that about strength of business in any regions?

I think the general sense there Jeff would be, that if we're 34 35% that the net income that we're making in the countries where we have NOL's, is largely break even, that there isn't a lot of income, there isn't a lot of loss. If the tax rate goes up from 34 to 35% rate, that suggests that we're continuing to generate losses that we can't benefit, on the books, if we're substantially below 34 35 that means that we're actually using those NOL's, in the aggregate.

We could still be using NOL's in one country and generating losses in another country that we can't tax benefit. The 34 to 35% rate, when you think about it, the statutory rate in Belgium is essentially 34%. There are some items under the Belgian code that are not tax deductible just as there are under the US code, which would be considered to be permanent differences. So the 34 to 35% really is reflective of the baseline tax rate in Belgium.

Okay great. The other quick question is you've had massive disclosures of consumer identities and now you've got 13 state laws and a couple attempts at federal preemption, can you characterize maybe on a scale of 1 to 5, the level of interest really let's just say, this quarters since the majority of them happened this quarter in this country, in your products and whether its gone up because of these actions?

Just in this country Jeff?

Yes, please

Jan, you could answer that question. I know one thing that all this notoriety is driving is just general consumer awareness. Just about anybody I talk to is aware of fishing, believe it or not and how to spell it, people are aware of identity theft and fraud, so its absolutely, I think driving a cultural change in the United States. Whether or not we're seeing it, Jan, are we seeing a direct impact in terms of the interest level from the banks and other organizations here in North America?

First of all, I believe, that last quarter we were still talking about 84 countries now we are talking about almost 100 countries. So there is certainly awareness in a lot of countries that strong authentication is needed to tackle the fraud. In the US, again its --today the level is at corporate banking, institutional banking. There we see of course, that -- more and more banks are interested to use, real security products, strong authentication products and again the only thing you can say about retail banking is that, probably we will see pile ups starting next year.

Okay, so now could you characterize whether that's, because of the events, is that moved forward at all, or is it about the same as your -- it sounds like its about the same as your previous expectations. Is that correct, or is that been accelerated at all?

Every attack is a acceleration in business yes.

Okay --

Every newspaper, it's very sensible in banks.

Right, can you just talk about also outside of the financial vertical, if you're seeing interest from other a new verticals that they know of obviously there is probably some interest in health care, but are there any other verticals, with all these disclosures that you're starting to see, new interest from?

Yes I believe again -- first of all strategy. Our strategy is big deployment in banks, customers are getting Digipass, and those customers are working at other incorporate, and when they see the Digipass, the VASCO brand name, they're thinking about using also such products for other application.

The first application is of course, the generic name, the corporate networking access. While we're pushing through our resellers, just the general application again for multi access and typical network security. Besides that, we see of course, more and more interest of fueling strong authentication in all kinds of applications where; A, again user authentication is extremely important, and B where they need to secure the transactions. Health care is certainly one of it, automotive is another one and there are a lot of others who are there, who are coming, where we are doing business out of the traditional banking and out of the traditional network security.

Jeff, for our reporting, where you see that in the numbers is in the corporate network access side. Right now, we're not disaggregating the details of the various vertical markets that are in corporate network access. I explained it and highlighted the banking, but CNA sort of is the collection point for all of the others.

In terms of the second quarter, that corporate network access area grew by 20% over the same quarter last year. And on a year-to- date basis, 6 months it's up 17%. As a percentage of our total business it's down because, the banking growth has been so extraordinary.

Right, maybe I can just talk about one application, to see how far it goes, where they use strong authentication, it's about the member application. Where our most popular sport over here is football, you call it soccer; soccer is so popular that you see them in every street of the smallest villages, you see all those clubs, all those young people and on Saturday and Sunday, when they play matches they need to call -- in our number in Brussels and there they need to say which club they are, which team they are and they need to say the results. You know in the past, those results are phoned by people, some that drink a little bit too much beers sometimes they're found to be -- well, at the end of the day, let's say that some of the results were false. Now all the clubs or the teams these day use a Digipass. Just to get the right results and then they get the wrong results that the football organization or the soccer organization can fine them. You see, its all kinds of applications now.

And I see Jan you volunteered to go to the different pubs to make sure that these are being sold correctly.

Yes.

Thanks very much.

Thank you Jeff.

Thank you. Your next question is coming from Jay Sangurani (ph) with Thompson Davis and Co.

Hi Jay.

How you doing gentlemen? Congratulations. Boy that was a long wait. Just real quick. I just wanted to go over the-- what you said about the Verisign and EMV as it relates to your guidance Ken. Are you saying you have the visibility now to see orders from both opportunities but they're still not part of the guidance? You've just got to clarify that a little bit.

Yes. I'll try. We actually have some orders in-house from our banks that are getting involved in EMV. We actually have some orders in-house that's in the guidance. We have no -- Jan correct me if I'm wrong. We don't have any forecast for additional business in EMV from the banks in our guidance.

As far as Verisign is concerned, it's the same thing. We have some small orders. We're going to ship those in the third quarter. We don't have any substantial orders so we have no forecast for Verisign in our guidance.

Okay. So when you think about Verisign and you talk about small orders versus significant orders and so on, can you characterize -- I guess we're all looking for that announcement because I really don't think you've made an announcement saying you have even the small orders, you know. You've just kind of even given us an indication that Verisign business is starting to roll, if you will. And so I guess we're waiting for that significant order in the form of one large customer with VASCO being the sole supplier.

At this time I have nothing to report.

But that's what we're sort of kind of waiting for.

Yes. What you're looking for seeing them get some traction out there. We know that they're out calling on many different organizations. We know that. We talk to them. We have meetings with them. So we're aware that they have activities going on but until they have a significant order or multiple significant orders, or multiple orders in hand, we're not simply going to put it in our guidance.

Okay. Great. And then if you can, or close from the new counts, the 23 new banks and 169 new corporate network access, do you know how they break out geographically?

I do not.

Okay.

No. I'm sure we have the data. It'd just be a matter of compiling it.

That's okay. I could catch up with you offline. And then with regards to R&D, you mentioned something about the engineers from Hagenuk being more a part of that R&D expense and perhaps maybe that explains why not a lot -- there wasn't a -- large increase in overall GNA. Can you just kind of tell me how you see that going forward in terms of how it can be modeled?

R&D expense as a percent of revenue?

Right. And GNA as well.

Well, we had -- I think we've mentioned before-we've had the headcount in our original plan for that number in the R&D organization. And when we made the acquisition they came in all in one group. And so there was an acceleration in the R&D expense, because of that celebrated - -

Fulfilling of those positions.

- - yes fulfilling those positions. In terms of a macro number, Jay, we don't have a target of R&D as a percent of revenue which I'm sure every body would like as they build their models. So I am not sure I can give you much help over - - if you just focus on the revenue, the gross margin guidance and the operating income guidance, that will get you within the macro ball park as we see it. Then the distribution between the 3 areas, sales and marketing, R&D and G&A, I would put the most significant increase in the sales and marketing line of for example -this - - compared to the second quarter or compared to your to date second quarter last year, we're up 3.9 million in total expenses, 2.6 of that was in sales and marketing. I would expect our expense distribution within the categories to still emphasize sales and marketing with R&D and G&A also increasing but not at the same rate.

Okay, and again we --going back to I think the last quarter but perhaps even last year and we talked about shipments of tokens, you seeing no reason why tokens shouldn't increase sequentially every quarter this year. Is that still something you can foresee given that you have the twelve month visibility?

Yes, I think - - I won't say its obvious but it--you can expect that, yes.

Okay, great, I'll catch up to you guys off line again. Congratulations.

Okay.

Thanks.

Thank you Jay.

Thank you, your next question is coming from Chris Hoves (ph) with Morgan Keegan.

Thank you guys, my question has been answered.

Okay, thanks for joining us.

Thank you. Your next question is coming from Josh Goldberg with Intrinsic Capital.

Hey Ken, how are you.

Hallo Josh, how are you?

Great, just 2 quick questions, one is, in terms of your customers, is there any one that was a 5 or 10% customer this quarter?

Yes.

How big was your biggest customer?

Well, I don't have that data right at my fingertips; I don't know that if it would make sense to disclose quarter by quarter? I would, we had 3 customers who were greater than 10% customers last year than we disclosed in the 10k and we will have - -

- -for the year?

- -yes, for the year and then we'll have similar disclosures for this year, that's GAAP. So, I would prefer not to go into the data quarter by quarter.

Okay, but I guess, is it fair to assume that 1 customer might even be over 20% of revenue?

No.

Okay, and in terms of your ASP which I guess, definitely was strong and remains sort of flattish from the first quarter, what should we look at for ASP trends as this becomes even more and more mainstream in the banking world?

Say it again, I was writing it

Sorry. He is asking what we can expect going forward with the ASP particularly since we're so strong and growing in the banking world.

Well I think you'll still see some variability in the ASP if the banks continue to grow and it's the large deployment, the retail deployment, you'll see the ASP still come under some pressure. So gross margin can go down when you look at the year today, 6 months, we're at 64% margin, we had 65% for the quarter but we're still putting guidance out there to 60 to 65% range. So as we look forward, if we're going to be toward the higher end of the revenue we would likely expect to be a little bit toward the lower end of the gross margin, as that reflects

Higher value and its lower ASP.

Yes, now when it comes to operating margins, I think those are going to hold up strongly because as those higher volume orders come in, they do not put pressure on our expense structure - -

Right.

- -and so even though it's a lower margin, it will still have very strong operating margins for those kind of deals.

Got you. And then in terms of - - just going back to the customer concentration, is the new customer or some of your top customers, lets say the top 2 or 3 customers this quarter, were they different from last quarter or they were similar in terms of the grouping.

Well, there again it depends on how far back you go to define a customer, new customer. Because we got the multi year roll out which is part of the reason I have difficulty answering that question. How many are brand new customers and how many are not, because you could effectively consider to be a new customer even though we've been with him for 5 years and we have been doing that multi-year rollout.

Right.

- -might be the first application so - -

Right.

- - I don't have a specific answer to it but in general, I would characterize now that the new customers are not at the top of the top 10 list at this point, not that they won't become but they get more into the roll outs that right now , I would say that the top of the top 10 is not new.

Okay, thanks so much.

Thank you Josh.

Thank you, your next question is coming from Fred Zigo (ph), Bristlelow Securities.

Hi guys

Hi Fred

Let's see.

Fred you need one of those passes you can get down at Disneyworld where you can go and then come back and get to the head of the line.

I was going to lunch here in a second?

Sorry.

Let me ask Jan a couple of quick questions. First , were some of your banks that are global like HSBC where you've done a couple of deals at the country level, are you starting to see more discussions with those types of customers moving more to a centralized deployment/purchasing decision where I guess corporate will make a decision for more than country by country. That's question one. And question two, is in Hong Kong, what have the U.S. banks that are part of the monetary authority, what have they been doing to comply with the HK mandate for stronger authentication?

So, about the first question about the centralized purchasing deployment, first of all, I don't thing there is so much big difference with the past. There has always been a centralized purchasing or security groups that set up the rules. The big difference is, probably is that the banks have started to communicate and tell me a lot better that was in the past. And that I think is for me the biggest difference. The second difference is that, and I think it's a, that there are the banks if you look at the banking market not so much about strong authentication here, but in general, you see that the banks are merging together, they are acquiring other banks, they're becoming bigger and bigger and so I should say as a consequence that, in the past just as an example. You had whatever bank, a UK bank, or a Belgium bank, or an American bank. They had a very strong market in their own country but outside their country, their branches, their offices were there both for customers, when the headquarter was in their home country. That has changed due to acquisitions. Those banks has really not only any more that strategy, but have also more, much more strategy of yes, we want to go also do the cooperate banking. Yes, we want to have also retail banking customers. So there are, as a consequence they say first of all there are fewer banks than they were due to mergers acquisition. And it appears then that it is more centralized decision. I think that has always been like that in the past. Just now that the banks are due to acquisitions coming bigger and bigger. I am sorry, I forget the second question about the Hong Kong.

Yes, the question was with the mandate in Hong Kong for the banks to move to authentication I guess that was effective the 1st of June. What have the US banks that are part of the Hong Kong monetary authority what are they doing? What have they chosen for a strong authentication?

Well, if again, if the US banks are offering applications; retail banking, internet-banking applications. They are going to need to follow that rule.

Do you have any sense because I know that the monetary authority has said you could either use a cell phone, a token, I think it was the USB key. What the US banks have decided to do in terms of form factor?

You mean in Hong Kong?

Yes

Yes I have ideas about that but you know, you should take the HSBC and you should take a subsidiary called Hang Seng Bank .HSBC, Hang Seng Bank, I believe if you count all the accounts, it's probably 70, 75% of the Hong Kong bank market.

And those are both your customers?

Yes, it has been announced if you look at their website you are going to see that the, I think Digipass. I am not saying that they are the only customer, I just, I only saying that it is only those 2 who has announced that they are working with Digipass.

Thanks

Thank you, your next question is coming from Joe Maxwell (ph) with Sodium Company.

Hi, I will try to make it brief. Just a couple of questions on the operating model Cliff. First off, did you indicate the cash flow from operations?

Yes, we talked about the EBITDA - -

Okay

- - and that was, let me just go back there to make sure I am giving you the right information earnings before taxes, interest, depreciation, amortization for the quarter was 2.7 million, 5.1 million year to date 6 months.

Okay and then on your amortization line 220,000 the quarter. Do you expect to maintain that level going forward?

It will, that was -- again are you talking because 222,000 was the number for AOS-Hagenuk?

Well I am just looking at -- on your income statement when you report on your line item.

Okay but that includes a couple of things so the majority of that will be recurring. Yes.

Okay. Then lastly where do you see the share count going from here? See it below that's about 37.3 in a quarter?

Yes. It may be edge up slightly as the price of the stock goes up it will come down if the price of the stock comes down because the only significant common stock equivalent we have right now are stock options. We had a number of warrants that were converted in the period, and so the most significant piece that's different than our true outstanding are our stock options.

Got you. Okay thanks, good job guys.

Thank you Joe.

Thank you. There appear to be no further questions in queue at this time.

Alright. Well ladies and gentle men, thanks very much for joining us today. Thanks for your patience and thanks for your enthusiasm, and your questions. I know we run a little bit long, but obviously a lot of people had questions they wanted to ask. At this time I'd like to thank all the VASCO people around the world, for their hard work and their execution of our well defined business plan. Thanks very much, have a good day.

Thank you for your participation this does conclude today's teleconference.

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