Pegasystems Inc (PEGA) 2012 Q2 法說會逐字稿

Good day ladies and gentlemen welcome to the Pegasystems Q2 2012 Earnings Call. At this time, all participants are on a listen-only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time.

(Operator Instructions)

As a reminder, this conference call is being recorded. I would now like to introduce your host for today's call, Craig Dynes, Chief Financial Officer. Please go ahead.

Good evening, and welcome to the Pegasystems 2012 Q2 earnings conference call. With me here in Cambridge is Alan Trefler, Pegasystems Founder and CEO. Before I introduce Alan, I will start with our Safe Harbor statement and then provide my financial commentary. Certain statements contained in this presentation may be construed as forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995.

The words anticipates, projects, expects, plans, intends, believes, estimates, targets, forecast, and could and other similar expressions identify forward-looking statements which speak only as of the date the statement is made. Because such statements do reflect future events, they're subject to various risks and uncertainties.

Actual results for fiscal year 2012 and beyond could differ materially from the Company's current expectations. Factors that could cause the Company's results to differ materially from those expressed in forward-looking statements are contained in the Company's press release announcing its Q2 2012 earnings. And in the Company's filings with the Securities and Exchange Commission, including its report on form 10-K for the year ended December 31, 2011. Its report on form 10-Q for the quarter ended June 30, 2012, and other recent filings with the SEC.

The Company undertakes no obligation to revise or update forward looking statements as a result of new information since these statements may no longer be accurate or timely.

Similar to our experience in Q3 of last year, Q2 bookings were suppressed by the increased uncertainty about the economy. This is most evident in Europe, where on a year-to-date basis bookings were down 61% from the same period of last year. There seems to be a lot of trepidation to sign any contracts of significant size. In fact, we observed that some larger license arrangements were split into a series of smaller projects, which are then scheduled throughout the year with only a portion recording in Q2.

The second, third and fourth stages of these now segmented larger projects, have been moved out into future quarters. As a result, we actually closed more license arrangements in Q2 than in Q1, and more throughout the first half of this year than we did in the first half of last year. But the average deal size was greatly reduced. In addition to larger deals being split into a series of smaller ones, customer uncertainty and budget constraints have also shown up in some larger, contingent license arrangements.

In a couple of cases, we've signed recently large license arrangements, but we have only recognized as a booking or as revenue the first, usually smaller, portion of the license, while the remaining piece will not be recorded until a future specified date when contingencies expire. Arrangements with contingencies are not in our backlog or detailed on page 33 of our 10-Q, since in this analysis we only include non-cancelable arrangements. The net result, like last year, is a very back-end loaded year for new license bookings.

Lastly, there was a significant swing towards term licenses in the quarter. The change in the mix has an immediate impact on revenue and earnings since revenue in term licenses is generally recognized over five years, where as perpetual licenses our usually recognized in the quarter that they were booked.

A move to more term licenses combined with a more back-end loaded year means that we will have fewer quarters in 2012 to recognize term license revenue. As a result, it will be very difficult to exceed $500 million in revenue. Even though, as we expect, we hit our annual bookings goals.

In spite of the influence of Europe, healthcare primarily a US-based business, had a solid Q2. And both communications and life sciences were up on a year-to-date basis compared to last year. While bookings were down for the first six months of 2012 as compared with 2011, our backlog has stayed very strong. Our off-balance sheet backlog of signed, non-cancelable licenses is down only $2.1 million from December 31.

And backlog is up $77.2 million from $130.6 million at June 30, 2011 to $207.8 million at June 30, 2012. $73 million of the $77.2 million increase is in term licenses. The detail as to how we will take this backlog to the P&L in future periods is shown on page 33 of our 10-Q.

In addition to the increase in term license backlog on page 33, the impact of this quarter's change in our mix towards more term licenses shows on the financial statement. As I said, term license revenue is generally recognized over five years. So an increase in the term license bookings takes a while to hit the P&L.

The move to term licenses in Q4, and again in Q2 resulted in term license revenue for the first six months being up $6 million as compared to 2011. However, the mix change shows up immediately in perpetual licenses as revenue is down about $10.8 million on a year-to-date basis from last year.

Maintenance revenue was $34.5 million for the quarter. This is a significant jump from $30.8 million in Q1, where the majority of the increase is due to a larger installed base. We recognized $2 million of maintenance revenue from one customer maintenance [screened]from the quarter. This was a one-time event. As a result, we expect maintenance revenue to be lower or more normalized in Q3, but still higher than it was in Q1.

Professional service revenue on a year-to-date basis is supplemented by about 2% or $1.9 million for 2012, compared to the first six months of 2011. Professional service revenue was lower in Q2 than in Q1, as we had a few large time material projects end in the quarter. And partners now lead on the majority of projects, it is often more difficult to quickly redeploy stock. However, we expect professional services revenue in Q3 and Q4 to return to levels more comparable to Q1.

Overall, in spite of the current economic conditions, and the difficult compared to the fast start that we had last year, revenue is still up $10.3 million or 5% for the first six months of this year. And with the revenue mix changing in favor of more license and maintenance as compared to professional services, gross profit is up $9.2 million as compared to last year.

Operating expenses for the quarter increased by about $4 million from Q1. $2.4 million of the increase was in marketing events and programs, of which the lion's share was PegaWORLD. And $900,000 due to a step up in audit, tax preparation and payroll fess. The remainder of less than $1 million was primarily due to headcount increases.

Given the back-end-loaded nature of the year and the move to more term licenses, we will reduce our [grow up] in operating expenses with the objective of still hitting our earnings targets. Even with lower growth rates, we will still increase sales organization to provide additional capacity for growth beyond 2012.

We increased the sales and marketing headcount by 25 in Q2, of which 14 were in sales. We will also continue to grow R&D capabilities. And during the quarter, we opened our first office in Bangalore, which is allowing us to replace contractor R&D with our own employees as we find that we are more effective with our own people. In addition, we finished another expansion to our Hyderabad office.

So for the first six months, even with the bookings and revenue being less than our targets, GAAP net income of $1.8 million or $0.05 per share is better than the GAAP earnings guidance we gave on February 29 when the economic outlook was less [P&D] than it is now. In order to provide normalized run rate financial information to allow comparisons to those building or publishing financial models, we've provided supplemental information in our press release to reconcile to a non-GAAP model.

Following the same format that was used when we provided guidance as part of our Q1 earnings release, there are three reconciling items. [Size] one, two, three are charges for stock-based compensation for Q2 were about $2 million or $0.05 per share on a pre-tax basis. The amortization expense of the intangible assets created by the purchase accounting for our Chordiant acquisition was also approximately $1.8 million or $0.05 per share on after-tax basis.

And lastly, as we explained on our Q4 call, we're in the process of moving our offices. GAAP accounting (inaudible). This results in double or overlapping non cash rent expense for both offices, while in reality we have free rent in the new office until the old office lease term ends next May. As we did in Q4 and Q1, we've added back this overlapping non-cash lease expense as well as the one-time cost of moving the offices to present a more normalized or run rate model. In Q2, we recorded $1.8 million or $0.05 per share on an after-tax basis for these non-recurring expenses associated with the office move.

The supplemental GAAP to non-GAAP reconciliation shows a non-GAAP EPS of $0.09 per share for the second quarter, $0.31 for the year to date. Again, this is better than our earnings guidance of given on February 29. [Lease rates] quarter-to-quarter for cash collections and ended with $102.9 million in cash. An increase of $14.9 million from the $88 million in cash we had at the end of Q1.

This dramatically changed our cash flow from operations from a negative cash flow of $17.8 million at the end of Q1, to a positive $12.5 million at the end of Q2. Collections dropped accounts receivable from $106.9 million at the end of Q1 to $92.5 million at the end of Q2. The age of these receivables dropped from 62 to 54 days. In no '13 for the financial statements, we noted that one customer represented 10% of our trade accounts receivable. This receivable has not been collected in full.

During the quarter, we purchased 55,540 shares for $1.7 million, at an average price of $33.48 per share. At quarter-end, we had a balance remaining of approximately $11.4 million available for future repurchases.

On our 2011 Q4 conference call, we gave our annual guidance. We've always given only annual guidance followed by a policy of not commenting throughout the year for several reasons. First of all, we saw both term and perpetual licenses and the mix between the two to cause quarters to be lumpy and unpredictable. The swing to term licenses in Q4 back to professional licenses in Q1, and then back again to term in Q2 illustrates this fact.

Secondly, customers set annual budgets, not quarterly budgets. We were reluctant to offer large discounts to incent a customer to purchase in a particular quarter because our business model is to sell an additional purposed based licenses into our existing accounts.

A big discount this quarter with certain unreasonable customer expectation for the following quarters when we were selling better on deals. As a result, we don't manage to the quarters and so we don't give quarterly guidance. We are reluctant to discuss any quarterly or part of your guidance as we look at our business over longer time periods. We see our objective is not hitting a quarterly number, but maintaining the tremendous growth that allowed us to grow from $100 million a year software Company that we were as recently as 2005.

However as I stated earlier, it would be very difficult to exceed $500 million in revenue in 2012. We expect strong bookings in the second half of the year, but the mix change in favor of term licenses combined with the overall back-end-loaded nature of the year, results in fewer quarters in 2012 in which we can recognize revenue from term license [pokers].

Therefore, we are managing expenses to keep our profitability targets in sight even at 95% of our $500 million revenue growth, which we believe represents a more appropriate objective in this economic environment. But even with this low expense rate we will continue to invest in our sales capacity and our R&D team. We will continue to focus on achieving our goals. Historically in the quarters like Q2, where revenues have not frown sequentially.

And in the high-growth years of both 2006 and 2007, we have down Q2s during the year, but on an annual basis still put up growth numbers of approximately 30% in both years. Last year was another example. We followed slow bookings in revenue Q3 with a bookings blow out in Q4, and annual revenue growth of more than 20%.

Customers are cautious and are delaying spending in this environment. We have not seen deals disappear or go to competitors. Our pipeline is very strong, and so we will work hard for the remainder of the year. With more detail on Q2 achievements, I would like to now turn the call over to Pega Founder and CEO, Alan Trefler.

Thank you Craig, and good evening to those of you on the phone. For those of you who have followed us for some time, you know that we have taken and continue to take a long-term view of our business. Focusing on market leadership, customer success, and profitable growth. The market opportunity for our software is enormous, and we see more and more customer organizations experiencing the power and huge returns of using our model-driven approach to business applications instead of handcrafted coding or living with bad process.

We believe this long-term perspective has been proven to be in the best interest of our shareholders, our customers, our partners, and our employees. And the long-term approach means that we invest in technology innovation instead of following legacy technology trends. We have and continue to set the standard for what software should be able to do for business users. In optimizing the customer experience, and in automating operations.

We continue to see validation of our differentiated approach as more and more leading organizations choose and implement Pega's Build for Change software over traditional stack vendors or niche suppliers. This means we do not try to manage our business quarter by quarter, but to rather do business with our customers for long-term success. As a result, sometimes business moves from one quarter to the next, as it did in 2011 when our disciplined business practices caused a number bookings to move from Q3 to Q4. You will recall that 2011 ended with a blowout result with overall bookings up 75% from 2010. Because of this, sometimes our term licenses and perpetual licenses will vary in mix and all of this can make it difficult to forecast anything with great specificity.

But in the long-term, focusing on quality, smart business practices, enablement, certification of staff and partners and customers, is how we manage the business. And what we think is ultimately going to let Pega grow to be a very substantial enterprise. And all of our indicators show the approach is continuing to win, and even though the Q2 results were not per target our pipeline continues to grow an the ecosystem of Pega, customer, and partner-certified staff continues to really, really build.

The number of marquee organizations we're buying and increasing adoption also continues to grow, and we are continuing to add world-class capabilities to our market-leading BPM platform that is going to be key to winning new opportunities as we go forward.

For example, we've announced our newest release of our core and unified platform PegaRULES Process Commander. And its new series of products focused on using a BPM approach, the customer relationship management, operations case management, and unified marketing. Our marketing approach takes a customer centric approach, which we call Next Best Action, which allows you to blend the intent of the customer with the intent of the business in a truly dynamic way.

Fundamentally, it uses predictive and adaptive analytics together, blending them with the BPM and case management that enable you to execute and leading to a unified approach across channels that can bring inbound and outbound marketing together in novel ways. We've seen some of the world's largest and leading communications, financial services organizations, and other firms adopt this approach with tremendous results and we're very excited with the where these new releases and capabilities our taking us.

We also announced a new release of our customer service solution, which blends in with rules and analytics to provide a truly optimal experience. One of the coolest features of the new release is the ability for agents to see organization workload and obtain customer service coaching even when they're in a distributed environment.

For example, as many organizations now try to set up work at home, these features allow a distributed group of operators to operate as if they were in a highly integrated environment. Only Pega enables organizations to build service processes once, and use them across distributed operations and deploy them across channels ranging from mobile devices to contact centers to the web in ways that provide a excellent customer experience and save money.

We also released in Q2 a powerful set of new solution families aimed at vertical markets, which we think are going to be increasingly important for us. For example, we released Customer Process Management for government, for communications, and a new product composer solution for healthcare. These solution packs in effect make it possible for customers to achieve value much, much faster. And, as we continue to build these out, we think it will bring increased benefits to our clients, and we expect over time greater reliability to our business.

In Q2, we announced a very important step forward as it related to broadening the Pega ecosystem. It's a new approach to enablement we call Pega Academy, and it's a video-based online style of technical training and certification. There's great excitement within our partner community about this. And early returns show that Pega Academy takes about 30% less time and 50% less cost, while providing greater flexibility than traditional classroom courses.

In June, we held our annual Pegasystems User Conference in Dallas, Texas. It was a phenomenal event with about 2,000 participants from over 22 countries. Ranging on one side from Australia and Japan to the other at Russia and Turkey. There were 15 customer speakers with keynotes from Jim Bush, Executive Vice President of World Service at AMEX, who discussed how AMEX is using Pega to continue their journey as a leader in world-class service.

Alistair John of United HealthCare, the largest insurer in the US, who is working together with Pega to improve the fundamental way that care and service is delivered. John Dimanche at BMC Bank has spoke about the use of our Next-Best-Action technology to drive multi- channel selling.

These were just a few of the examples of how the world's leading organizations are optimizing the customer experience and automating. These clients represent what ultimately makes us most proud. Dramatic results and ongoing improvement through the use of our software.

To the extent the partner ecosystem is growing, one way to look at is the increase in certifications. Year to date, new partner certifications are already at about 80% of the number of the staff for all of 2011, and that was up 80% over 2010. We are significantly increasing the breadth and depth of how we can support our growing footprint of customers.

And as I said, our pipeline remains strong. Active pipeline at the end of Q2 was 23% higher than at the start of the year, and the total pipeline is now over $1.7 billion. We had a series of great wins in Q2 and a lot of wins, as Craig discussed, but as Craig said the whale deals, some which we'd hoped for, ended up being purchases over multiple quarters. So the average deal size was a bit lower than Q1.

Examples of Q2 wins range across the industries. From financial services, with wins at Bank of America, Bank of New York and Prudential Insurance, to healthcare at Medical Mutual of Ohio, Amerigroup and CareFirst, and at teleco which has been terrific. Where we had terrific wins at Telecom Italia and [Telstrip] two of the largest telecos in the world and both new name customers for Pega.

As I said when I started my comments, we take the long-term view of the business. We see an enormous market opportunity. Our business indicators tell us that this business is going to be extremely successful, and customer adoption is continuing at an unrelenting pace.

We are investing smart, and as you see from our profit performances this quarter, we're investing in profitable growth. But we are going to make sure we do what it takes to be the market leader of what we think is going to be a large, growing and ultimately extremely important market. Thank you, and with that, I will open it up to questions.

(Operator Instructions)

Our first question comes from Nathan Schneiderman with Roth Capital.

I just wanted to start off on a question about the big deal, the bigger deals and the pressure you felt. Were you feeling pressure, would you say, across the board or was more in deals over $1 million, over $5 million, over $10 million? Just where was it that you felt the pressure?

I think the pressure is more on the much larger deals and, as Craig said, it was a whale-less quarter and usually we're accustomed to getting a whale or two here and there. The reality is when faced with some of the choices in difficult economies, I think software providers often end up getting squeezed to signing mid-sized deals and giving up a tremendous amount of value as opposed to actually doing what we ended up doing which is we closed a number of pieces of business that were described as entree pieces of business that have secondary and tertiary parts that we think we will get as we execute where the numbers have even been laid out.

So, we're very loath to just cut value because they, quote, don't have the budget that quarter. We are much happier to match the available budget to a reasonable and rational purchase for the customer and us. It's just that in these times there's a lot of uncertainty. We saw that happening more than we typically have in the last quarter or two.

Craig, you shared with us that you had more deals, the number of deals in Q2 was greater than Q1, but the ASP's were down. Approximately what percent were they down?

They were actually -- is the year-to-date numbers that I gave where we've done more deals for six months than they were -- than we did for the first six months last year. I don't really want to talk about percentage down. It's just, as Alan said, big deals get chopped up in smaller deals and that tends to put the average selling price down when you don't close a particularly big one.

Got it. Craig, you mentioned some deals with contingencies that cause delays in [rubric]. Can you explain in more detail what was going on there? What specifically were the contingencies? Were they future products or something else? Was it a macro-related issue that caused the contingencies to get in, and can you clarify they're not -- I gather they're not in the off-balance sheet backlog disclosures. Can you go over that one more time in more detail and what these contingencies are and whether you expect similar contingencies in Q3, Q4? Thank you.

So, first of all they're not in the financial statements, they're not in page 23 at all. If something has a contingency, as far as we're concerned, it's not a booking, it doesn't go in backlog, and it certainly doesn't count as revenue. As far as the reason for the contingencies, there'll all different. They depend on particular customer circumstances. I'll defer to Alan. He was involved in some of these deals. I think there's a variety of reasons for the contingencies, aren't there on some of these deals?

I think a lot of what Craig is describing is contingencies is the situation I was talking about where a piece of business a year ago we might have seen go in for, say, a $7 million piece of business that involved a variety of things happening that perhaps would hold the customer for a year and a half now becomes something where they will say, okay, well, they're feeling some stress.

We'll take down $2 million, we'll put the other $5 million in the agreement, we'll maintain our price points, which is what we care about, and when we get to the point where we're more comfortable or the date happens, we'll make the decision to take down the $5 million. So, in those cases we would never consider any of that to have a place on the financial statement, but it is the problem that you do all the work to win the $7 million deal and it comes in a couple of chunks. Did that answer your question?

I think so. So, it's really all about deals that were split into pieces? It's not future product agreements or --?

No. There's no future products. If there was a future product, you wouldn't get any of the revenue because we don't have the sow of license and if it was the right to future products, then it would be accounted for as a subscription. So, it was none of those situations. A lot of it as well is customers just need to fit this into their budgets and they our restricted and corporations, when times are tough, especially in Europe, they just make it tough for them to bypass.

In Allen's example, the $7 million, would you recognize the $2 million but the $5 million you're calling contingent and in the future or is it something different?

Yes. It would be specific date, a specific event that what happened in the future quarter and at that point in time the contingency is waived and it becomes a booking and probably revenue.

Got it. Thank you.

Our next question comes from Richard Davis from Canaccord.

You hired a bunch of salesmen, so it sounds like you've got a bunch of stuff kind of percolating of various flavors. From an outsider standpoint, is there a demarcation line that you would draw between good and not good execution, and were you there on this quarter in your opinion. We have recently seen a company like ServiceNow go public and they at least indicated that at some point they aspire to move towards your space. Have you seen them now or do you expect to see ServiceNow in the future as a competitor? Thanks.

ServiceNow, to my knowledge, we've never seen them. I don't expect to see them as a competitor, frankly, because we generally sell into sort of more customer oriented environments these days and I don't think that actually is their game plan or their strategy to do the sort of applications we have, but we're obviously a lot larger than they are as well.

The question about the sales execution we closed, as Craig said, a lot of deals. It was a size problem and I think we need to take responsibility for making sure we're doing a good job to get clients to step up for the bigger numbers. We know how to do that. It's a little bit of wood saw with the economy being better and worse and better and worse because when the economy is worse, we really pitch the automation and cost savings message.

When it's better, we pitch the front office, world-class business like AMEX user experience message, and I think we can do and we are doing work to do a better job of making sure that particularly the new sales guys are all equipped with both messages at scale so they can get the numbers from both. But I'm not fundamentally concerned, and I think the business has everything it needs to meaningfully end the year and meaningfully grow in the future.

Okay, thanks.

Our next question comes from [Evan Canfield] from William Blair.

Hi, it's actually Laura Lederman. Can you talk about the vertical markets? What you're seeing in financial services, banking versus insurance, oil and gas? In other words, is it across the board where people are cutting deals into smaller pieces? Are there verticals that are stronger than others? Just a sense of the environment macro is difficult, but where is it better and where is it worse?

So, the financial services markets unsurprisingly are choppier. It's not news and it's something over a longer period of time we've traditionally been able to do a good job of addressing. The healthcare market came in strongly for us. I think that with an additional 40 million lives, 30 million lives coming online the next couple of years, that market should continue to be very, very good for us.

I'd say telco was a real joy and we're excited by the business we signed, it was a very, very expensive telco pipeline. We just got awesome references and they've got money to spend. So, that's how I look at the verticals right now.

What about oil and gas? There were a couple big prospects? How is that market shaping up? Are those prospects holding up? What else are they doing?

Well, we've got initial clients and that's always great when you have that. And for us it's still among the earliest of verticals that we have gone into, so I would describe it as still young. We're also extremely encouraged. Once again, once you get into a market like that, there's just a tremendous number of opportunities and they're not as whipsawed, from what I can see, as the financial markets are by what goes on say in Europe.

If you look at the competitive environment, is there anybody in the margin you are seeing more of? Anyone in the margin you're seeing less of?

I think the competitive environment is excellent. We've driven most of the pure play BPM players into the arms of large companies. Many of those implementations of those companies frankly haven't been going very well when they've had them, and we have a level of referenceability that I would say is a full factor of 10 higher than the guys we see.

So, we routinely now are able to push people to places like PegaWORLD or the many references on our website and you get the comparisons from the other big stacked vendors who've generally done this through acquisition and have lost a lot of the talent. I feel very good about the competitive landscape.

You mentioned the pipe and how big it is and how much it's grown. There are a lot of whales out there. Would you expect the whales to continue to be chunked? Are any of the whales expected or hoped to come in single bit whale-like pieces instead of chopped up into, I hate to use the word chum, but smaller chopped up fish?

I'm not sure whales actually go after chum, Laura. I think that's --

Whales like plankton, I understand that. But if whales are chopped up, so --

I understand the point. When we put items in the pipeline, we don't generally put them in at whale proportions. We tend to put them in at modest proportions. It's not uncommon for us to actually raise what's in the pipeline as a deal goes into closure because we've taken sort of, I wouldn't say conservative but I would say mid point approach to the way we do that. So, the pipeline growth is not because of slews of whales in there. There are frankly still lots of whales out there.

I do think that if things stabilize, the chopping will stop, but faced between a decision of eroding the value of our relationship with the customer and breaking it into some pieces so that they can be more comfortable, our track record in implementation success is such that breaking it into pieces is a smart thing to do.

I'd also say that our first half of last year was just a really hard compare. Now, if you go back and take a look at the scripts, we were having a nice whale of a time back then. I think they're going to be back. This isn't a secular change. I think it was more a change related to particular peak and anxiety that we saw in the third quarter.

Thank you so much. I'll pass the baton.

Our next question comes from Raghavan Sarathy from Dougherty & Company.

I want to go back to, Alan, your comment about you are expecting strong bookings in the second half of the year. Is that expectation predicated upon you closing some of the deals and maybe expanding some of the deals that you already closed this quarter? Or are you anticipating not much improved economy, so probably closing more volume of deals at the current ASP? What's driving your strong bookings expectations in the back half of the year?

We do a lot of very detailed review of pipeline. So, despite the fact we've ground, we're still small enough that we're able to have very specific understanding of all the deals globally of any size. I'm expecting the ASPs will head back up. I expect that we'll get more whales in midsize deals than the drought we saw in the first half, but we're not depending on just a couple of whales to have a stronger second half. The business is out there. It's in the pipeline and we've got proposals and frankly a staggering amount of activity going on, so that's what gives me the level of confidence to say I feel good about the second half.

And then the second question is about sales capacity. So, it's understood that the bookings number moves all over the place. So, I looked at the trailing 12-month license signings, so the trend we have seen was about $150 million at the end of the first quarter, crossed over $200 million, $230 million actually by the end of fourth quarter, so it seems like some of the hiring you made back in 2010 paid off. Now we our starting to see a plateau, so I was wondering how you are thinking about sales capacity, where is that today. It seems like you also had to protect the EPS in the meantime, so I was wondering how you're looking at the sales capacity investments in that?

We're going to continue to increase sales capacity. We've undergone a study of the level of coverage we've had on accounts in our major established verticals. And there are some very large companies that are just frankly grossly under-covered. Some of the world's largest insurers and financial institutions that have a quarter of a person on them that makes no sense whatsoever, some very large telecommunications companies that aren't covered at all despite our success in this business.

Remember, we're not a lead generation model, we're a target account vertical penetration model. So, we are going to continue investment in sales judiciously, and we're going to continue investment in R&D also judiciously, and I don't feel like we're making any major compromises that could affect our future should things pick up as we're really hoping they will.

So, your guidance implies $0.60 roughly EPS in the back half. That's much more back-end-loaded than the previous years. Can you talk about the linearity of EPS? And, if I recall correctly, your previous guidance assumed 20% license revenue growth with a haircut to the top line. How should we think about license revenue growth? Thank you.

We are managing expenses to reflect the reality of the economy that's out there right now. We're still increasing capacity in sales, still increasing our R&D organization, but I think we're doing it very carefully and mindful of the economy. It is very back-end loaded. The non-GAAP full-year guidance we're above where we thought we would be at the midpoint in the year, so we always thought it was going to be a very back-end-loaded year. So, it all comes with license revenue. It's 100% margin and we expect that we dramatically larger bookings going forward and all of that falls at the bottom line.

So, how should we think about licensing when you go with the haircut for total revenue?

Well, if we were to achieve about 95% of our target, we had originally laid out $500 million as a revenue target and we're still working towards that target, but we're running the business at about a 90%, 95% of that given the economic situation, so that would represent just over a 15% revenue growth year over year.

Now, we're running at that basis, we are still running the business and the sales organization is still working hard to hit our annual bookings targets and that's what's more important to us. A lot of the difference in 95% versus 100% is a move to term licenses. The most important thing is to close the business. Get the deals off the table, win the deals and whether we take it as a term or perpetual, we're pretty indifferent.

Great. Thank you.

Our next question comes from Steve Koenig from Wedbush.

Maybe just additional color on traction with CPM and unified marketing template as well and with your SaaS efforts. And the other question is more about longer term vision and strategy. I'd would love your commentary on how your competitive positioning is evolving over time as large competitors are aggressively going to market with their acquired product footprint in tandem with some of their products they already have.

The new unified marketing capabilities and some of the new pieces we added are actually very new, but we've already sold a number of them to customers and are getting just enthusiastic feedback. So, we're fortunate there in that we have an installed base of formally Chordiant customers, many of whom for pieces of that product line had not really received a refresh or product update for over a decade as a result of Chordiant having bought a product and not really come out with any sort of meaningful subsequent changes to it.

So, we have two ways. We've got a lot of very exciting and new customers including, for example, some of these telcos I've been talking about which are just tremendous opportunities and we've got a replacement business as we go into next year where I think we'll be able to upgrade a lot of those customers and get some revenue uplift as a result of that.

The competition, we have an unprecedented number of absolute world-class references, and if you want to understand what's different between us and our acquired competition, you can see the movie. If you go to our website, if anybody's actually interested in understanding our business, there's a four-minute video about two customers, the pair of them. One about OCBC, which is overseas Chinese Banking Corp., which is rated by Bloomberg as the number one bank in the world and is a very innovative bank.

The recommendation they were prepared to give us publicly on how they used us to completely change their business is frankly not like anything you'll see on any other site. Similarly, for another video about Heathrow Airport which is using us. So, we've got I think just a tremendous advantage both in the technology and the willingness of customers to talk about it.

To do what we do, every one of our competitors, these big companies, needs to stitch together a dozen products and I think customers are seeing that's just too hard, too difficult and frankly not leading to the same reference successes that we've got hundreds of.

They'll keep trying and sooner or later they'll make progress, but you'll have evolved as well, and I'm just curious what thoughts you have about how you will evolve longer term to stay ahead of the competition?

Well, you'll notice that we are continuing to invest in R&D. We think that we cannot take for granted that our competitors will be ineffectual. I'm pleased with their lack of progress so far, but we're not counting on that, and the good news is that we see many tangible ways that we can continue to push the envelope here and ultimately that will lead to more client success and greater adoption.

There are still things we can do to make this technology easier to adopt, easier to use, more verticalization, and all of that I think is going to be very, very powerful going forward and we're seeing customers respond very well to the types of things we're doing. So, were not taking anything for granted, but I'll tell you there's an increasingly large difference between our product and our competitors and that does make me feel a little better.

Thanks, Alan.

Our next question comes from Brian Murphy from Sidoti & Company.

Craig, I think you said that you still expect to hit your annual bookings goal for the year, and it sounds like you have the pipeline to do that. Just curious, did that original bookings goal imply growth over 2011?

Oh, yes.

Very significant growth.

I think we're being candid about where we are, but the team has not backed off. We did a complete reset at the end of Q2 and we had all the members of the team go through and take a look and actually lay out what they thought they could do and percentage handicap that on specific known business in the pipeline and far along in the pipeline and they told us not to back off of that as a target, but it is an increasingly tough target, of course. But, no, we haven't backed off.

I think to just be flat with bookings versus last year you need about $170 million in license bookings and that would be up 15% second half over second half of last year, so that's just to be flat. To hit a significant growth number, I'm just curious, what would the book-to-bill look like because I think that would imply a book-to-bill of like 2 to 1?

Well, traditionally we do about one-third of the deals as term licenses. That's the long-term history that we've established. But, as I said, it moves around quarter to quarter based on a handful of deals in the margin that you're closing each quarter. So, in Q4 was dramatically term and Q1 it was perpetual and then term again, so even though we have a long history about one-third of the deals being term, it can change around. I think when you look at how much business we booked in Q4 last year, it's a pretty good indicator that the years can be back-end-loaded and we can do a lot of business in any one quarter let alone two quarters.

Okay. So, we shouldn't consider that bookings level that you did in Q4 of '11 as some kind of anomaly?

I think it was unusually high. It was an absolute blow-out quarter on the back of what had been a Q3 that was much worse than this quarter was. I think looking at any single quarter if you average Q3 and Q4 of last year you're going to have a much more rational but still really, really awesome number compared to just looking at Q4 and ignoring the fact that Q3 was, as Craig said, half of what this quarter was. So, this appears to be the nature of our business at this point in time. I relish the day and age in which it becomes more predicable, but on a quarter basis it's not this year.

Yes, and you have to keep in mind our customers have annual budgets, they don't have quarterly budgets and so for them, whether they sign something last week in June or the first week in July it doesn't make any difference, but that's the way they budget and that's the way they spend.

Okay. And you were buying back stock I think you said at an average price of $33 a share in the quarter. Any thoughts about being more aggressive here?

We buy pursuant to a 10b5-1 plan so we can buy right back through quiet periods. And at the present time the plan is still in effect.

Okay. Thanks very much.

Our next question comes from Edward Hemmelgarn from Shaker Investments.

Thanks. Can you talk a little about, I think you mentioned, Alan, that the pipeline was now at about $1.7 billion? At least I thought I got that number right.

That's about where it is.

Could you compare that to where it was a year ago and talk about it in terms of giving us some ideas about number of companies that were involved in the pipeline then, were involved in the pipeline now? Things like that just to give us a little bit better perspective?

Yes, I would say it's about a good order of magnitude 15% to 20% up over last year from a number point of view. I don't have the number handy for the number of companies that it represents, but I will tell you that the document I look at, which has all the items in the pipeline when we do the periodic reviews, feels about 50% chubbier than it was a year ago, so the number of companies is also very meaningfully up. As you think about allocating more salespeople to more areas, you'd expect that.

Is it any one vertical where it's up a lot more than last year?

Some verticals we're seeing a real push in, but I think it's pretty nicely up across all of the verticals at the stage. There is no vertical that is a particular laggard that I can think of.

Can you talk a little bit -- I guess the last time, I guess it was back in '08 I think when there was a pretty significant crisis in the world. You had pretty good bookings for orders, especially in Europe, but this year it appears as if that is really causing you some challenges. Can you talk a little bit about that?

Yes, I think historically part of having been around for as long as we have, we've seen a lot of tough times as well as good times. Historically we actually do pretty well, certainly much better than our competitors, many of whom shrank in 2008 and 2009. We continued to grow at a terrific rate organically during those years. And part of the challenge for us is the education of the sales force around how you sell in difficult times is actually a little different than the education of the sales force when you're selling or revenue increases.

The difficult times almost always really need to be about automation efficiency as a key element. And so we're actually, we have been actually re-factoring a lot of our education training and we're about to roll out a whole new marketing approach in the next basically 30 to 60 days that will become visible.

That's actually much more akin to really automating operations as being an even more prevalent theme than it is if you took a look at our website today. It's there, but hasn't been highlighted. So, I think we know how to go back and get the messages the customers want to buy but, once again, Q2 was a pretty ugly quarter in Europe and a lot of folks either hesitated or split things and I'm not surprised. I don't think that will continue, but we can't be sure.

Okay. Thanks.

Our next question comes from Mark Schappel from Benchmark.

With respect to your government business, just wondering what your outlook is for your government sector business heading into the seasonally strong quarter for federal agencies?

So, the government pipeline is up, as I told folks last year. We really felt a lot better about the state and local government business as well as the federal government business last year We're seeing some really good things start to develop. I won't say we've cracked the code, but we're clearly in a very different place than two, three years ago when we were openly concerned that we hadn't gotten the level of government business. So, we are feeling much better about that pipeline and, as you said, we're coming into a season where some of the stuff closes.

We have one more question from Raghavan Sarathy from Dougherty & Company.

Just a quick question on the mix of pipeline. So, Craig, I was wondering if you can comment on the mix of the deals in the pipeline, whether it's more weighted towards term or perpetual this year compared to last year?

It's really hard to determine what the mix is as the pipeline goes out in time. And actual fact the pipeline, you talk to customer about a project, you work towards closing that project and beating competition, and it's only in the very late stages of the pipeline do you actually find out if they're going to buy term versus perpetual, so it's pretty hazy beyond. For the next quarter we have a really good idea, the quarter after we have somewhat of an idea looking at the accounts knowing what the accounts are, but beyond that it gets really hazy.

We don't code opportunities early in the pipeline as being in one category or the other because, as Craig pointed out, it very often evolves late in the deal cycle.

Craig, can you at least talk about the third quarter, whether it's going to be more weighted towards the perpetual or term?

I would say viscerally, as I said we don't have all the coding, viscerally I would say that compared to last year it's going to be a little more weighted towards term, but once again not enough to drop major conclusions over.

Great. Thank you. Appreciate it.

Thank you. And with that, thank you, everybody, for sticking with us here. We appreciate your attendance and you should know we're working hard for you. With that, Operator, our call is done.

Ladies and gentlemen, thank you for participating in today's program. This concludes the program. You may all disconnect.