Pegasystems Inc (PEGA) 2014 Q2 法說會逐字稿

Presentation

Greetings, and welcome to the Pegasystems Second Quarter Fiscal 2014 Earnings Conference Call. (Operator instructions.) As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Rafe Brown, CFO of Pegasystems Incorporated.

Good evening, ladies and gentlemen. Certain statements contained in this presentation, including but not limited to statements related to future earnings, bookings, revenue, and mix of license revenue, 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, forecasts, and could, and other similar expressions identify forward-looking statements, which speak only as of the date the statement was made. Because such statements deal with future events, they are subject to various risks and uncertainties. Actual results for fiscal year 2014 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 earnings earlier today and in the Company's filings with the Securities and Exchange Commission, including its quarterly report on Form 10-Q for the quarter ended June 30, 2014, its Annual Report on Form 10-K for the year ended December 31, 2013, and other recent filings with the SEC. Although subsequent events may cause the Company's views to change, the Company undertakes no obligations to revise or update forward-looking statements whether as a result of new information, future events, or otherwise, since these statements may no longer be accurate or timely.

And with that, I will turn the call over to Alan Trefler, Founder and CEO of Pegasystems Incorporated.

Thanks, Ray. Q2 was an outstanding quarter, leading to what has been a terrific first half for Pegasystems. For the quarter, we achieved non-GAAP license revenue growth, which we believe is the key metric for a successful software company, of 36% compared to Q2 2013, bringing the first half non-GAAP license revenue to $108 million, with 29% increase over the first half of 2013.

Very impressively, we delivered this license revenue growth while also increasing license backlog. Typically, we've consumed backlog in the early quarters of the year and have historically achieved our annual backlog increases through a monster Q4. Being able to both make up the backlog we consumed in Q1 and achieve an overall increase in backlog year-to-date, makes our strong license revenue growth even sweeter.

Of course, adding to the backlog has a short-term negative impact to EPS because the sales effort and expense is recorded in current periods while the revenue will be recognized in future ones. Nonetheless, I think, looking contemporaneously at the increase in both license revenue and backlog, shows how strong our performance truly was in the first half. And our total non-GAAP revenue grew 22% year-over-year for the first half, powered by the increases in license and maintenance, and despite the continued strategy we have of engaging partners for the predominant share of services work, with Pega providing expert services to clients and partners.

Now, as we've discussed in the past, sales management has been taking a number of steps to try to mitigate the traditional lumpiness of our business and try to smooth bookings throughout the year. While we still expect that the back half of the year, and in particular the fourth quarter, will be incredibly important to achieving our 2014 goals, we believe we're seeing some early fruits of our efforts in the strength of the first half.

We see these financial results as indicative of the success our clients are having in adopting Pega technology. This was clearly visible in Q2 when we held our best-ever PegaWORLD user conference, which registration's up dramatically, with about 3,000 attendees coming for the first time in our history.

For those of you who were there, you know that, unlike many of our competitors' user conferences that tend to focus on their own speakers and their own product announcements, PegaWORLD focuses on our customers telling other customers and prospects about their transformational journeys and the tremendous returns they are deriving by choosing Pega. At PegaWORLD, and as well with many ongoing customer interactions across industries and geographies, we are now engaged in conversations not just about specific applications but increasingly about our customers' needs to become so-called digital businesses. Many of these conversations occur because more and more organizations are recognizing that Pega software, its architecture, its solution products and its end-to-end capability are the only ones able to successfully take them on this journey to becoming a digital business.

And it's interesting, because our customers' customers are changing, as well. Across nearly every type of industry, whether commercial or public sector, organizations are faced with dealing with client expectations that are now being set by an emerging generation of customers we refer to as Gen D. These are the successors to the so-called Gen C, the connected generation, the millennials we've gotten used to, and represent new risks and new opportunities for companies. This is because their expectations are elevated and their reactions can be virulent. The D stands for devour, because they will passionately engage and devour the brands they love, but the D can also stand for demonization, to business-busting social media destruction if the customers are disappointed.

So, our clients and prospects are keenly aware, and they're telling us that they must meet entirely new and different market criteria to remain competitive and grow and retain their customers. They know they must be market relevant to this new level of Gen D expectation. They know they must be world class at customer engagement not separately, but across every channel, and that their customers want to engage differently. They recognize they must drive organizational simplification because they can't afford the non-value-added costs, and their customers, frankly, will simply not tolerate getting bounced around organizational silos. They'll just go find someone else to do business with.

Finally, our customers are telling us they need to be increasingly agile, because these customer preferences and competitive offerings are changing faster than ever before. It's these types of conversations that are driving both the agenda for Pegasystems now and our plans, going forward. And they're resulting in the terrific outcomes we saw in Q2.

To dig into a couple of examples of what clients are doing and how they talk to each other and to us, let me just draw on a few examples from PegaWORLD. I'll start by noting an interesting juxtaposition from two of our major financial services clients. One is BNY Mellon. They've been in business for over 200 years, undergoing major changes, major mergers, implementing lots of new products as they became such an important global force. And they're looking to be more effective while maintaining their reputation for top-tier client service.

To quote their COO, Jeffery Kuhn, quote, "Bank of New York Mellon is seizing the opportunity with our friends at Pega. We're transforming our company into becoming the industry's recognized service, quality, and productivity leader. Our aims are simple - increase client satisfaction, increase employee satisfaction, increase efficiency, eliminate waste, and reduce risk. At Bank of New York Mellon, we're a technology company today that's focused on financial services." What a great sentence, to realize that banks today understand that they are and need to be technology companies.

He also gave just a terrific example of how, in one of our applications there, they achieved really tangible savings. To quote again, "Our costs were reduced by about $2 million per year, and we increased the number of inquiries processed daily by about 50%. Without Pega to handle this additional volume, we would have had to probably add another four and another whole team of people to deal with the volumes. Meanwhile, service quality improved and same-day response rates today are over 98%."

Now, at that end of the spectrum, it's great to see these new technology companies emerging. There's also, of course, other clients of ours, clients like, for example, Paypal, that were literally born digital. Now, some people may think that because firms were born digital that they don't have any issues, but growth and innovation, which they're so terrific at, promotes complexity, and Paypal has seen the need to create end-to-end process.

To quote Brad Strock, quote, "At Paypal, our technology strategy is focused on accelerating innovation, so we've been very deliberate and careful about our choice of technology partners, and some are best-in-class technology solutions like Pega. The partnership we have with Pega is part of our strategy to accelerate innovation. We use Pega as the foundation for building both our customer service apps and our back office operation applications. These products are used by over 7,000 teammates around the world, and we've also completely integrated Pega with Agile. We are synchronized on two-week sprints. We have a major release every three or four weeks, and we've invented some new ways to do continuous integration in automated testing."

This is a perfect example of a digital business really harnessing the power to change. But, these were just two examples of more than 80 customer speakers across industries from telecom to government to manufacturing to health and general insurance, who all talked about the use of Pega in a much broader way to become digital businesses.

Pega's philosophy and approach, which was instrumental to our becoming the leader in the BPM market, remains with us as we drive to become the leading software for digital transformation. Software is at the center of companies becoming digital businesses because you can't be one without it. Having a digital strategy is great, but to execute it, you need software.

And Pega is winning because our approaches to the software architecture and applications that are needed by clients is based on our unified -- our unique model-driven architecture. And just as companies need a unified platform across their policies and processes, they need a technology that can bring together all the elements.

And with our new acquisitions and with some of the work we've been doing are absolutely state-of-the-art in a variety of sort of traditional ways as well as the sort of newer models of what they call SMACT. This is Social, Mobile, Analytics, Cloud, and the Internet of Things. We need to see how clients can transform themselves. We need to empower clients to transform themselves, and we need to continue to push on these envelopes because we think there's an enormous return.

Thus, at PegaWORLD we demonstrated many new investments and capabilities that digital businesses need and that we think will continue to enable us to be a leader, going forward. Social, as I mentioned, where we showed the integration of technology from a company called Mesh Labs, which is able to bring advanced sentiment analysis right into the application to sort of feel what's going on there and use it to respond to customers, to literally tune the processes that are happening. And a company called Firefly, which brings to us state-of-the-art collaboration between, for example, contact centers and their customers over the Internet.

We showed the way that mobile can be advanced by doing sophisticated mash-ups where, using the latest technology from the Internet, you could actually bring together the user experience from multiple sources into a single coherent way that enables us to engage in customers' existing mobile and Web applications. And we also showed a terrific example from a company called Safelite, the largest provider of auto glass repair, that shows how they use the Pega mobile technology to really both respond to customers but to create the highest efficiency in the industry. Very, very exciting.

We also heard from Suzanne Woolley, the head of the customer base from the UK's largest telecom called Everything Everywhere. They gave a fascinating presentation about how they're using our next-best action marketing technology to know and understand how to best respond to each customer's journey and to build value to offers and interactions on that journey. And we showed tremendous growth in our Pega Cloud offerings, which has continued to grow at a record rate and is going to be absolutely central. We see already enormous use of this, both through customers doing development testing and production, and also customers using our multi-tenant Pega Academy to be able to learn how to better apply Pegasystems technology.

This is used not just by our customers, but by our growing ecosystem of partners. Partners, as I mentioned, is central to our strategy of broadening the ecosystem that can help our clients install Pega. And I'm thrilled that Pega Academy enrollments by partners was up more than 50% in the first half of 2014 compared to the first half of 2013, partners to be central to our strategy, and more and more of them are coming on board.

Now, we've talked many times about what this means for Pega, and we think that we're at a point where the market opportunity is just enormous before us. We have our land-and-expand approach, where we look to get into clients, show them what's possible, increase our market share within the customer, but we also see that an increasing number of organizations want to become digital businesses. And we believe, by continuing to invest and by continuing to focus on this digital business concept, that we're going to be able to deal with an increasing number of clients, perhaps well beyond what our traditional base of customers has been, which has been the very, very large firms exclusively.

So, we're going to continue in the second half building on the strength that we've had financially to invest in a variety of areas. I think that the two major areas you can think of this happening is, one, try to make it easier for prospects to see how Pega can help them, and two, to improve their ability to be hands-on with our technology.

Regarding making it easier for prospects to see, we think there are many things we can do. We'll be investing in our digital marketing platform to make it easier for prospects to research and understand our offerings, and to improve our engagement with clients and prospects throughout the sales cycle. We're going to continue to invest in the verticalization of our technology, which builds on the elements of our architecture that are very effective in capturing best practices and gives customers just an easier and better starting point to work to become digital.

And regarding improving access to our technology, we're going to be looking to significantly improve client access both during the selling process and as they continue to sort of land and expand themselves inside the organizations. We're going to increase the partnerships we have with business process outsourcers who want to offer their applications on Pegasystems' multi-tenant build-for-change cloud platform.

And with investment in our core build-for-change platform, we're going to take our unified model-driven architecture, which is so powerful in many client bases, and continue to enhance it and make it possible for customers to find it easier to access and more accessible, to perhaps be able to offer a test drive so that people will be able to come, touch the system, and we'll be able to really open the aperture up to folks who today we only deal with through what I would describe as more traditional selling channels. Now, these investments will be complemented with our continued aggressive hiring of account execs to ensure distribution capacity for increased growth into 2015.

So, it's clear to us that we have very, very significant things we can do and that there are major opportunities emerging. Our excellent first half results enable us to invest in building this business into the very significant firm we feel it can become, working to deepen our backlog in the second half of 2014, and prepare for 2015 growth while maintaining our non-GAAP EPS guidance for the year of approximately $0.78 a share.

Now, to provide more color on these financial results, I'll turn it over for some additional discussion to Rafe Brown. Thanks, Rafe.

Thank you, Alan. For the second quarter of 2014, we are reporting both GAAP and non-GAAP results. A full reconciliation of all GAAP to non-GAAP measures is provided in the financial tables of the press release issued earlier today and is available on the Investor section of our website.

As we have discussed in the past, quarter-to-quarter comparisons do not necessarily reflect the underlying momentum of our business, as the timing of a small number of large transactions can significantly impact our results. What is important, from our point of view, is to how our business performs on more of a trending or year-to-date basis.

For the first half of 2014, non-GAAP revenues totaled $286 million, up 22% year-over-year. This includes a contribution of approximately $11 million from Antenna, which we acquired in the fourth quarter of last year. Non-GAAP license revenue was $108 million, up 29% year-over-year, which includes a contribution of approximately $4 million from Antenna. Year-to-date non-GAAP cloud revenue stood at $8 million, up 115% over the prior year, including a contribution from Antenna of approximately $3 million.

As a percentage of year-to-date non-GAAP revenue, license, cloud and maintenance revenue stood at 72% of total revenue, up from 69% for the same period of 2013. In dollar terms, non-GAAP professional services and training revenues were $80 million in the first half of 2014, up approximately $8 million from the first half of 2013. As we have stated in prior quarters, we do expect professional services revenue will continue to grow but at a slower pace than license, maintenance and cloud revenue as our professional service partner ecosystem continues to grow.

Looking at our results on a geographic basis, non-GAAP revenue in North America grew 17% to $164 million for the first half of 2014 and stands at 57% of total revenue. Our European business had a strong start to the year. Overall revenue from EMEA was approximately $104 million on a non-GAAP basis, up 33% year-over-year. Our first half Asia-Pacific business was up 22% year-over-year.

We've previously discussed the importance of our land-and-expand strategy, where we often begin with a smaller implementation, demonstrate our value proposition, and earn the right to future transactions with the same client. As a result of a long and growing relationship with just one such client, we were pleased to close a large transaction in the second quarter in excess of $10 million. It is also important to note that this large transaction did not contribute to revenue in the second quarter, but rather the full value of the transaction is now in backlog, which we will discuss momentarily. Overall, over 80% of our bookings were from existing customers on a year-to-date basis.

In terms of the mix of license revenue recognized during the first half of 2014, 46% of our revenue was recognized from term or subscription arrangements, up from 39% in the first half of 2013. For the first half of 2014, our non-GAAP gross margin was 69.6% compared to 69.9% for the first half of 2013. While we are pleased overall gross margins have remained strong, professional service margins are currently impacted by investments we are making in Antenna implementation to ensure they meet Pega's high standards for customer success and satisfaction.

Turning to the rest of the income statement, for the first half of 2014, we posted a non-GAAP operating margin of 12.4% compared to 13.8% for the same period of 2013. First half non-GAAP operating expenses were approximately $164 million, up 25% from the first half of 2013.

It is worth discussing a couple key points that impacted expenses and operating profits during the first half of the year. The first is a very welcome item to discuss. We had a very strong quarter in terms of the sales team's achievement. Not only did this result in strong revenue growth, but, as we will discuss in a moment, backlog is up nicely.

As we have previously discussed, however, we expense a vast majority of commissions and other bookings related to variable compensation when the deal is signed even if the associated revenue is deferred. As a result of a sharp increase in bookings in the first half of the year, variable compensation expense increased significantly.

Second, as we discussed when we provided guidance for the year, Antenna operates at a loss and is expected to continue to impact earnings for the entirety of 2014 as we integrate their technology into Pega's core platform and invest in their customer base, which, as Alan mentioned, has some terrifically valuable names.

Turning then to earnings, we posted non-GAAP earnings totaling $23.7 million in the first half, an increase of 11% over the prior year. On a fully diluted EPS basis, this totals $0.30 per share and reflects approximately $0.025 of dilution from Antenna.

Now to discuss license and cloud backlog, we computed license and cloud backlog by totaling two elements, deferred license and cloud revenue as posted on our balance sheet, and off-balance sheet license and cloud commitments that are signed but as yet unbilled. As a reminder, you can find detail of both elements in our 10-Q and a summary table in our press release, both of which were filed earlier today.

We finished the quarter with $354 million of total license and cloud backlog. This [A&D] number includes only approximately $2 million of acquired Antenna backlog. For year-over-year comparison purposes, total backlog as of Q2 2013 was $284 million, including cloud backlog. Thus, at the end of Q2, backlog has increased $69 million, or 24% over the prior year. For your reference, please note that we have added a table to our press release showing our historic backlog trend, including cloud backlog.

We have had a strong start to 2014, and we are particularly pleased at billed backlog in the first half of the year. While visibility of future revenues is increasing, work of course remains to achieve our revenue and EPS targets for the year.

This said, we do believe we will modestly exceed our previously issued non-GAAP revenue guidance of approximately $580 million for the full year 2014. The additional visibility we have on the year affords us the opportunity to accelerate our investments in the product, cloud and distribution resources Alan discussed earlier in the call. In fact, we believe the time is right to invest in the momentum we are seeing and plan to invest further revenue upside, if it becomes available, back into the business, as well. Hence, we reiterate our non-GAAP earnings guidance for the year of approximately $0.78 per share.

Turning to cash, for the first half of the year, the Company produced $74 million of operating cash flow, an increase of 15% over the prior year. Free cash flow, which we define as operating cash flow less CapEx, was $71 million, up 14% over the prior year. We finished the quarter with total cash and marketable securities of $216 million.

During the first half, the Company repurchased 420,000 shares for $8 million, and at the end of the quarter we had a balance of $6 million available for repurchases for the remainder of the year. On headcount, we finished the quarter with approximately 2,790 employees, up approximately 27% from the same point last year, though notably approximately 10% of this growth is as a result of the Antenna acquisition.

In summary, we are very pleased with our first half results. We have a lot of work to do to close out the year. But, with the power of Pega 7 and the momentum of PegaWORLD behind us, we are looking forward to an exciting second half of 2014.

With that, Operator, we will open the call to questions.

(Operator instructions.) Steve Koenig, Wedbush Securities.

Hi, guys, thanks for taking my question. Let's see, I'd like to -- I'll do one and one follow-up, if you don't mind.

So, there are clearly a lot of things going right, going well for Pega right now, and a lot of things that you've talked about that have helped you in the quarter and in the half, and you talked about big deals, potentially less seasonality, the product cycle, the partner ecosystem. I guess two things I'd like to zero in on for more color, one would be how is the Pega 7 product cycle helping you? And secondly, maybe a little bit on specific new marketing initiatives that may -- have already been bearing fruit in the first half, and what might be important in the second half.

Sure. So, I'll tell you, the feedback on Pega 7 has been terrific, both in terms of a lot of the core capabilities that we put in where we actually invested about a million hours of engineering effort in the Pega 7 initiatives, and I'll tell you, we've gotten a lot of [good] results from that. But also, some of the other things that we've done to either, I think, get on the front foot or otherwise position ourselves well in areas such as the collaboration and the co-browsing and some of the social aspects, which historically we had not put as much energy in. We've really brought ourselves, we feel, to superiority, not just parity, in these areas.

And the continued product cycle of Pega 7 is going to, I think, really, really push us much more aggressively into mobile on the back of what we've done with Antenna. And the level of excitement in the firm is palpable, and that comes from dealing with clients who are finding the technology really, really appealing.

Relative to marketing, we brought on a new CMO in February, and he's busily working to, I think, try to improve our marketing. He's been making a number of staff and organizational changes. We've been upgrading our website, which is much better since he came, and has a lot of big changes planned in the Q4 range. So, I think that we've kicked that off, but it's going to take us, I believe, through the end of the year to get to where we want to get, but we're planning to do a big push as we enter 2015.

Okay, that's great. That's great. And Alan, if I may ask one follow-up, I know that Pega has a presence in the cloud, and you have rolled out some SAAS applications, as well. But, beyond what you've rolled out in these SAAS applications in your current presence in the cloud, can you elaborate a little bit more on your vision for Pega in the cloud down the road here? And then, maybe either for Rafe or Alan, what will [the state of] subscriptions in your mix, over time, and how quickly will they grow?

Sure. So, I think, conceptually, we've always believed that the cloud was going to be very important, and one of the actual differences between us and a lot of the other players in the various spaces in which we work is that, from day one for this generation, we built it so the entire configuration environment, the whole way you defined these systems, was actually done through a Web browser, which today people are saying, "Well, yes, that makes sense," but I guarantee you, when we began rolling this stuff out, and this generation out in the 2005, 2006 range, people were just coming and telling us we were out-and-out wrong. This gives us, I think, a long heritage and a deep understanding of how to build systems of the sophistication in the cloud.

Historically, the cloud was not a prime focus simply because the public cloud was of, well, less interest to some of the really large companies. The folks at JPMC will tell you that they have a private cloud. They've basically created their own cloud, which is running Pega, they've got about 40, 50 instances of Pega running on it, and they believe that they can do that with greater security and cost-effectiveness compared to some of the other ones out there.

So, we do find that even large companies now are sort of softening up a bit. But, what we've seen as we've gone to work more flexibly with clients, and as we want to move to a broader penetration of the market, we think cloud can be tremendously valuable. And now, we have dozens of production cloud customers. We've done a big investment, and will continue to invest, in deepening our cloud infrastructure and staff, building out a world-class 24-7 network operations center, which we've now rolled out. It's operating both out of North America and out of India about so we can support our clients well.

And we see that as a big part of our go-forward strategy to really, as I said, open the aperture on who we market to and who we sell to. Was that helpful, Steve?

That's great. That is helpful. I'm just wondering if you can comment maybe on how soon do we see the [stuff] begin to impact your revenue mix with subscriptions becoming a much bigger part of the mix, or impacting your financials because of the ratability of subscriptions.

Yes, Steve, I think one of the great things about cloud is that they help you build backlog, but it also, of course, takes longer for that to start peeling off into revenue.

But, we do see it increasing. As I talked about the cloud subscription numbers as opposed to the license subscription, just to be clear, is growing nicely. We got a boost from Antenna in that respect, but even breaking that out, you can see it's a very fast line item that's [growth] for us.

And the other thing that's really part of that is in Q1 we started including cloud backlog in our overall backlog metrics because we're seeing really nice growth there of people coming to us and wanting to go with Pega cloud. So, I think it's going to continue to grow and grow quickly, and we're investing to make sure that happens and moves along even faster, if we can.

Okay. I'll leave it at that. Thanks a lot for the answers, and congrats on the quarter.

Thank you.

Thanks, Steve.

Mark Schappel, Benchmark.

Hi, good evening. Nice job on the quarter, specifically on the license line. Alan, just starting off with you, I was wondering if you can just talk a little bit about some -- a very good license quarter. Wondering if maybe there's a little -- if a few deals had come in a little bit earlier than planned, than maybe you anticipated?

Well, I think that -- I think the quarter was a very well executed quarter. And I'll tell you, as we entered this year, we sort of resolved that we were going to try not to save it all for Q4. On the basis -- and we actually talked about that, and we talked about some changes to both how we just talk to the sales force and how we really manage day to day, and also some small incentives that we put in to try to move things up a bit in the year.

I can't tell you on the back of two quarters whether I'm sure that that's working or this is just the vagaries of statistics, but it sure felt good, and I really do feel like that we weren't relying on any miracle to make the revenue number for the quarter. We were able to, as I think Rafe mentioned, we did book one whale in the quarter, but it didn't impact revenue, so it went all to backlog. And we would feel good about having actually gotten positive backlog for the first half. That's not a normal state of affairs for us.

So, we'll see to what extent this becomes a permanent pattern, but I think we actually executed well pretty much across the board, and you've seen the results.

Okay, great. And then, with respect to that, though, that large deal, just a little more color if you could provide for us, that'd be helpful, like what industry it was in, maybe a use case?

Yes. It was a large financial services company that has been doing business with us for, oh, more than five years, had really adopted us as part of their multinational strategy. They were large clients, became much larger clients, really wanted to use us for everything from how they on-boarded their customers in the lending setting to being able to provide customer service to being able to really do what we're really big on, is end-to-end digital concept, where you can actually go from touchpoint to a customer all the way through to execution, and really put the control of that much more in the hands of the business. So, a really good example of where they use both technical teams from IT, but business people involved in doing the bids, working with partners.

So, I think just a culmination of a large strategic relationship, and the thing I love about these sorts of relationships is they're not one-and-done. We expect that we will continue to get money from this customer in the future as they continue to further roll out the Pega technology.

Okay, great. And then, Rafe, did currency play a role in the quarter at all on either the top or bottom lines?

So, on a year-over-year basis, we've gotten -- yes, I think the currencies have worked to help the top line, but also to bring up the expenses with them. I think we've had pretty -- parity from an EPS perspective on that. I mean, obviously a bit of a mixed bag going from currency to currency, but overall we -- there's been a little bit of an uplift from that, but not huge.

Okay, great. That's all for me, thanks.

Jeremy Benatar, Sidoti & Company.

Hey, guys, thanks for taking my question. Can you maybe talk about what you're seeing in EMEA and APAC? Is there anything specific that's working well out there?

Yes. EMEA was -- so, I think that, in general, we're seeing good activity across the board. I think we're seeing the financial services sector come back in both areas. APAC, we're still hoping for a big end to the year. It was not as quick in the uptake in the first half, but I don't think that that's meaningful in any particular way. It's just the -- some of the normal vagaries that we get.

Japan is turning into a very significant success story for us in terms of both signing some really, really key marquee names, and also being able to start to generate some meaningful business. It's been a long time coming. But, as we said last year, we really thought we had begun a breakthrough, and it looks to me like that's going to continue and accelerate.

Okay, great. And could you also give us a little more color on the different verticals, overall, in the quarter? Were there any surprises there?

I think the traditional verticals were -- I think the traditional verticals actually really did quite well. We saw financial services, insurance, healthcare were up nicely year-over-year. One of our new verticals, energy, performed well, but it's small. So, on a percentage basis, that makes it easier. But, it wasn't a single vertical.

Got it. Okay, great. Thanks, guys.

Brian Murphy, Merriman Capital.

Hi, thanks for taking my question. Alan, can you talk a little bit about your partners and how, if it all, the concentration of businesses is changing? For instance, are you guys still working as much with IBM Global Services as you have in the past?

Well, I would say that we have not been seriously working with IBM Global Services for the last, I'd say, three or four years. An interesting thing has happened with IBM. When they started, they really prided themselves on being objective. But, I think, if you surveyed the customer base, that's long gone. And IBM Services is largely there to promote IBM products, not exclusively, but for the lion's share. So, we decided that that service relationship, which years ago had been a pretty important one, was one that has really, I think, been deemphasized in recent years, though we still do projects with them that go well.

The interesting thing that we're seeing is some new companies who you'd think of as more strategic in terms of their positioning, really taking very high level of interest. And we have companies like McKinsey. McKinsey actually did a couple sessions at PegaWORLD, which were extremely well-received, really linking us into their sort of transformational agenda. Accenture has been tremendous. They actually published a whole paper, which you can get off the website, about how they see Pega being central to transformative initiatives, and Ernst & Young, for instance, which earlier this year did an interesting thing of actually buying a small Pega-only consultancy to be able to jump-start the way that they came to market.

So, we're seeing some interest from what I would think of as these extremely well-established strategic firms, as well as seeing some of our other more Indian and other types of partners working themselves to try to become more strategic and seeing Pega as a capability that can really, really help them do that. So, I think we're very well-positioned for where the partner ecosystem is trying and working to move as they look to differentiate themselves further, going forward.

Are they developing their own -- I don't want to say package, but more standardized applications on your platform?

Yes, actually they are. At PegaWORLD, if you went around, there were dozens of partners -- there were a couple dozen partners who had built Pega frameworks or applications to go to market to try to differentiate themselves, some of which were capability-based, just sort of horizontal in terms of being able to help people build systems in general, and some of which were vertical and offered actually industry-specific solutions to be able to go to market. So, I think this is a really interesting trend, and we're going to see more of it, going forward, as the partners are looking to be able to show prospects that they really get it.

Okay, thanks very much.

Noah Steinberg, G2 Investment Partners.

Hi, nice quarter, guys. I had question for you. First off, just -- this is the first time -- I've been following the Company for a while. This is the first time the Company has changed and raised its guidance. You've lowered in the past, but this is the first time I remember the Company raising their guidance, or alluding to beating the guidance. I just wanted to understand what gave you the confidence to do that.

Well, I think the performance in the first half, through the combination of the revenue that was achieved in the first half and the visible backlog additions, which you can see in the schedules, meant that we didn't feel, with a straight face, we could say nothing. So, it is not our (inaudible)--.

--You could exceed it by a little bit, though?

Well, we still have a lot of work to do to complete the year. So, if you've been listening to calls for a long time, as I know you have, this is certainly the strongest first half that we've seen.

Right. And then, on the large deal that you guys did, and you went into backlog and it wasn't recognized as revenue, was that -- did that show up in the off-balance sheet, perpetual license to recognize by end of 2014, or will that be recognized? Because that number was fairly high in the footnotes in the 10-Qs, so just curious whether that's going to show up this year, or that will be spread over many years or a few years.

And secondly, if you -- sorry -- if you do any other big deals in the back half of the year, will we see them? Are you going to try to put those into backlog, as well, as opposed to recognizing them on the income statement? Thanks.

Yes, Noah, the backlog from that particular deal will be spread over the remainder of this year and the vast majority of next year.

And relative to -- it's not like we have control over what deals come in as term, which would end up in backlog, or what deals would come in perpetual. We ultimately work to try to make sure we do something rational with our clients.

But, I would tell you, it is sort of my preference, and I think I alluded to it in my various statements, that it's our goal to try to enter next year with meaningful increases in backlog. I mean, that's one way in which we can become more revenue predictable on at least the half basis, if not on a consistent quarter basis. So, we're really putting our sort of heads and hearts into figuring out what we can do to achieve that, all of which, frankly, gets easier with scale because the law of large numbers help you.

Right. And last question -- sorry for a bunch here, but the sales and marketing expenses are up quarter-on-quarter, and I'm guessing a bunch of that had to do with PegaWORLD, and you said commissions as well. Was it mostly PegaWORLD, or was it commissions? Because I see on the headcount of sales and marketing side it wasn't up tremendously, so just curious, or maybe you're giving more money to your CMO to spend.

We'll keep the last one private, but you can imagine how that's going. The answer is, I think in truth, it was both, right? PegaWORLD was a lot bigger this year than it has been in prior years and, of course, that requires additional investment to put on something that big and that impressive. So, that's a key piece of it. But, then also, as we talked about in the call or in the script itself, we had a good -- great performance from the sales team, and that does drive variable comps. So, both of those items had been combined and showing up there.

Yes, and of course, the irony is that the way we -- since we don't defer the comp expense to match with when the revenue comes in, because we're more conservative than that. It's sort of ironic that a spectacular bookings quarter can lead to in-quarter EPS pressures, to a degree. But, frankly, from a business perspective, we'll take that all day.

Great, of course. Thank you very much, and great job.

Thank you.

Jim Gentrup, Val Vista Capital Management.

Good afternoon, gentlemen, how are you?

[Well, thank you.]

Yes, just one -- actually, one quick follow-up, because most of my questions have been answered. But, on the sales and marketing in the second half of the year, should we then expect a little better leverage because of the -- just because of the way it's rolling off and the fact that you had already incurred the expenses for the whale deal, the commission expenses? Should we expect a little more tempering, a little better leverage in the second half?

Well, the things that work towards leverage are just our scale. The things that work against them is that we're working hard to become a much better marketing organization. Historically, that has not been a strength. And so we are actually bringing on staff with deeper and broader experience, thinking about how we create our Web presence, and what we need to do to be able to become a very effective digital marketing organization, and that's going to add to expense.

The other thing, of course, is that we're going to be hiring salespeople to be able to, in the traditional way, continue to build our business. And finally, I hate to convey to you that I believed that that was going to be our only whale for the year. And so, that doesn't mean I have any whales guaranteed, but we see a couple in the harbor, and we'd be glad to land them and have them hit either revenue and backlog. So, I wouldn't be quick to assume that.

Okay, all right, fair enough. And then, on Antenna, just your thoughts again. I didn't hear all the comments on Antenna. I guess you said it's operating at a loss. And can you just give us a little better idea of when you can fully integrate that, as well as -- and kind of the turn profitable in that area?

Yes, I think the turning point for that is going to be early next year. I think, through the rest of this year, we caught some great customers with Antenna, and I think we've decided they deserve a high level of attention. And that's what we're doing, and I think it's going to lead to some very nice cross-sell opportunities of some of the BPM and other technologies that we have. That's part of what requires us to invest.

So, Alan, I'm sorry to interrupt, but that -- then that sounds like that's more of a function of revenue growth from Antenna, that is, opposed to cost-cutting in that area, then?

We're not intending. We're going to grow the revenue. We don't see -- it sounds like we're contemplating any sort of cut -in the mobile-related expense. If anything, I think that that will [continually] grow. But, we think that that's going to become better on the top line, and that's the way to address that shortfall.

And the last question I have is just the spending environment. It sounds like Europe is coming back, and APAC wants to invest more in this area, or that's what I'm assuming or inferring. Correct me if I'm wrong, but can you just talk a little bit more about the propensity for companies to spend a little bit in this environment, loosening up? Is it -- what are you seeing out there? Thanks.

I am seeing it loosening up some. I mean, they're still spending carefully. But, companies have gone through pretty extended periods of austerity, and we're actually seeing some of the financial services companies, in particular. As I mentioned, we had a very, very good first half to the year. I think after just years of suffering and years of just trying to cut back, they've decided that this technology can really help them do a couple of things - one, engage with their clients better, and two, to the extent that there are still, and there are going to be regulatory pressures that they're under, being able to have better control of your processes, being able to show the regulators exactly what you're doing, but still being able to change at a rapid rate is increasingly appealing. That was part of the story we got at both Bank of New York Mellon and Paypal when they spoke at PegaWORLD. Well, thank you.

So, I guess we're wrapping up now. As we do, I want to tell you that there was another interesting milestone that happened recently, and that was my book was published. It's called "Build for Change," and it's about really revolutionizing customer engagement through continuous digitalization. It's available at Amazon and lots of other bookstores, and I hope those of you who are interested in the Company will find this, which actually is not an ad for the company -- it's really a book intended to affect a broader audience -- will find this as sort of representative about a lot of the thinking that goes into how we see the demographic shifts that are happening occur, and also how we think technology needs to be applied differently in the future. So, hopefully some of you will have a chance to enjoy that. Take care, everyone.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.