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Executives

Karl Lopker - Chief Executive Officer

Daniel Lender - Chief Financial Officer

Pam Lopker - President

Eileen Osborn - Vice President of Finance, Investor Relations

Analysts

Mark Schappel - Benchmark

Brian Murphy - Sidoti

Joe Delcaar - Cowen & Co.

QAD Inc. (QADI) F3Q09 Earnings Call November 25, 2008 5:00 PM ET

Operator

Ladies and gentlemen, thank you for standing by and welcome to the QAD fiscal 2009 third quarter financial results conference call. At this time, all participants are in a listen-only mode. Later we will conduct a questions-and-answer session with instructions being given at that time. (Operator Instructions) As a reminder this conference is being recorded.

I would now like to turn the conference over to Eileen Osborne; please go ahead.

Eileen Osborn

Hello everyone. I’m Eileen Osborn, QAD’s Vice President of Finance in charge of Investor Relations.

Earlier today, we issued the press release announcing QAD’s financial results for fiscal 2009 third quarter ended October 31, 2008. The press release and associated financial statements are available through the Investor Relations section of our website at www.qad.com. Additionally, please be advised that this call is being webcast live on our website.

Before I begin, I want to ensure that everyone on today’s call understands that our discussions might contain forward-looking statements that are based on certain expectations and analysis as of today November 25, 2008. Such forward-looking statements are subject to risk and uncertainties that could cause actual results to differ materially from those anticipated.

QAD takes no obligation to revise or update forward-looking statements to reflect events or circumstances after the date of this call. For a complete description of risk and uncertainties, please refer to QAD’s 10-K filings for period ended January 31, 2008.

Now I’d like to turn the call over to Karl Lopker, QAD’s Chief Executive Officer.

Karl Lopker

Good afternoon and thank you for joining us to discuss our third quarter results. With me today is Daniel Lender, Chief Financial Officer and Pam Lopker, President. While we are reporting our highest third quarter revenue ever, we are not satisfied with our profitability. The current economic climate has had an effect on our revenue and we’ll need to adjust our plans to compensate for it.

Daniel will give you the number for the quarter and then I’ll discuss the details. Daniel.

Daniel Lender

Thank you, Karl. Total revenue for the quarter was up 2% to $67.8 million. Foreign currency negatively impacted total revenue this quarter by approximately $600,000, compared with the same quarter in the previous year. While we experienced modest growth in our maintenance and other business and high single digit growth in our services business, we believe license revenues were impacted the most by the current economic environment.

During the fiscal 2009 third quarter, we received orders from 24 customers, representing more than $500,000 each in combined license, maintenance and services billings. Of these, five exceeded $1 million and one exceeded $2 million. Licensed revenue was $13.1 million in the third quarter of fiscal ’09 versus $14.1 million in the same period of last year.

Slower business conditions resulted in delayed purchasing decisions as customers cause to assess the impact of the global financial crisis on the organization. However, we continue to sign technical deals during the quarter of which some were differed and we expect to recognize the revenue by the next 12 months to 24 months.

Maintenance and other revenue grew slightly to $32.7 million in the third quarter of fiscal ’09 compared to last year. On a sequential basis, although maintenance renewal rates remained consistent with historical levels, our revenue decreased primarily due to foreign currency rate movement experienced during the quarter.

Services revenue increased to $22 million as we continue to improve engagement and corporation with our customers and this is vitally important in the current environment. Gross margin was 54% of revenue in the fiscal ’09 quarter compared with 58% of revenue in the similar period last year. The change reflects our mixed revenue in each quarter and higher services and support personnel cost.

Total operating expenses in fiscal ’09 third quarters came in at $37.1 million or 55% of total revenue versus $35.3 million or 53% of total revenue in the fiscal ’08 third quarter. Total operating expenses were impacted by higher personnel costs and additional expense related to acquisitions.

While we do not intend to jeopardize our ability to take advantage of marketplace opportunities, we believe it is prudent to operate under new guidelines that take into account the global macroeconomic picture. Given the uncertainty surrounding the current environment we tighten spending controls during the quarter in the areas of capital expenditures, travel, hiring and other discretionary costs. In addition we will continue to adjust the operating expenditures as we monitor the impact in the current economic situation to our revenue stream.

Operating loss in the fiscal 2009 third quarter totaled approximately $500,000 which includes $1.3 million in stock compensation expense, compared with operating income of $3.2 million, which includes $1.5 million of stock compensation expense, in the same period last year.

Foreign currency negatively impacted our results by approximately $200,000 in the third quarter of fiscal ’09. Other income and expense was nil for the most recent quarter versus other expense of $300,000 for fiscal ’08 third quarter. The change primarily relates to foreign exchange.

Our net loss for the fiscal 2009 third quarter was approximately $1.8 million or $0.06 per share versus net income of $1.5 million or $0.05 per share in the same period last year.

As we noted in today’s press release, net loss in the third quarter included $0.04 of tax expense, incorporating changes related to the estimated level of profitability by tax jurisdiction. Note, starting this quarter we’re not providing stock compensation expense per share, we will instead provide total stock compensation expense.

Moving to our year-to-date results; total revenue for the first nine months of fiscal ’09 increased 9% to $204 million from $187 million in the first nine months of fiscal ’08. Operating loss of fiscal ’09 nine months period was $4.4 million, including $4.5 million in the stock compensation expense. This compares with prior year-to-date operating income of approximately $900,000 including $4.5 million in stock compensation expense.

Net loss for the current nine months period was $4 million or $0.13 a share, compared with net income in the first nine months of fiscal ’08 of approximately $200,000 or $0.01 per share.

Cash flow provided by operations for fiscal ’09 third quarter was approximately $2.5 million compared with $3.4 million for the same period of last year. For the first nine months of fiscal ’09, cash flow provided by operations was $9.6 million versus $11.5 million in the first nine months of fiscal ’08.

Cash and equivalents at October 31, were $36.2 million, compared with $43.2 million at July 31 and $45.6 million at the end of last fiscal year. The change in our cash balance over the last nine months reflects acquisition related payments of $6.2 million and $4.5 million in dividend payments and stock repurchases.

Day sales outstanding using the count-back method was 68 days in the third quarter of fiscal 2009 versus 66 days in last year’s third quarter. This is specifically north worthy in today’s environment.

Now for our full year 2009 outlook; taking into account that current environment, QAD now expects revenue in the range of $274 million to $278 million and earnings per share in the range of breakeven to a loss of approximately $0.10 of share, including approximately $0.02 to $0.04 per share in tax expense, depending on the level of mix and profitability by tax jurisdiction. We also expect approximately $5.5 million in stock compensation expense for the full-year.

As you will know, we typically do not comment on the coming fiscal year during our third quarter conference call; however, I’d like to provide you some high level insight into our future planning. For fiscal 2010, we are managing our cost base to allow us to be profitable, assuming revenue levels about flat to fiscal ’09. We are closely monitoring the economy and our performance. I will make prudent investments or reduce cost further as warranted.

With that, I will return the call back to you Karl.

Karl Lopker

Okay, thanks for the update Daniel and by the way welcome back to the QAD, we knew you couldn’t stay away too long. Our services revenue again pushed our total revenue into recorded territory; however, despite the current economic environment, we posted reasonable results due to the hard work out in field by our reps, services teams, and managers.

As Daniel mentioned, we deferred more license revenue in the quarter than we recognized from prior deferrals due to the structure of some of our deals. We will recognize this revenue in future quarters as the conditions for revenue recognition are met.

We’ve all been hearing about the effects of the global financial crisis on recent earning calls. In our case, there are a number of headwinds associated with the industries we serve. As you know, we focus exclusively on manufacturing companies which are bearing much of the brunt of the financial crisis. This is especially true for automotive and durable goods manufacturers. Our focus has shifted somewhat to our food and beverage and life sciences customers, who are not seeing the same intensity of challenges as the other vertical markets.

Having said this, we did maintain a reasonable level of business in automotive due to our strong position in that market. As the automotive supplier consolidation continues, we’re often selected for the acquired companies; however, we’re watching with great interest what’s happening at the big three automotive companies. We’re also taking steps to focus more closely on our installed based and help them use our software more effectively, in order to weather the economic climate.

Our overall license pipeline is up slightly from a year ago. This is partly due to the lengthening of certain sales cycles, which we expect will get even longer in the coming months. Our overall headcount was up around 8% year-over-year, mostly in sales and services. You will start to see a decrease in the current quarter as we’ll not be replacing all of the people. On geographical basis, all regions grew year-to-date, with Asia Pacific leading the way percentage wise.

In the product area, QAD 2008 Enterprise edition, which includes the new enterprise financials is in limited released with a number of customers due to go live after the start of the New Year. The economic situation has made some customers delay their upgrades, in order to delay expenses and to focus on the financial situation. Our on-demand products are growing in our pipeline.

Our camp just got back from Europe where we held our European Explorer Conference, so Pam can you give us an update on what you’re assume that the conference in our customers?

Pam Lopker

Sure Karl. We had a very enthusiastic of 300 attendees in beautiful Sorrento, Italy. We had good representation from all European regions including Central and Eastern Europe. It looks like I guess what happened was that the polls actually ran [Inaudible] which was an interesting approach.

The global economy downturn and capital market situation is certainly in the minds of our European customers. Many of our customers, particularly those in automotive and homebuilding products, expect their businesses to be quite a bit down next year. While the ones in food and personal care products are more optimistic.

We saw lot’s of interest in our products with continued strong interest in our enterprise financials as it is very well suited for the global nature of the European countries. In turn up we saw that 40% of our customers implement have implemented or are in the process of implementing our late issue eye on human engineering capabilities.

In Europe the multi-lingual and ease of use capabilities is extremely important. We did here caution in what our customers will be able to implement next year and issues they are having with CapEx and financing. We anticipate this could have some effect on our 2009 upgrades and rollouts. However, our cautions lead to discuss and an interest in our on demand an application management services. Prescriptive implementations applying industry process templates seem like a good fit for today’s situation.

This year we also held customer training prior to the conference. This is well attended with over 100 classroom seats. We find training is key to getting the most value out of our software and it is important for our building closer relationships with our customers. Thank you, Karl.

Karl Lopker

Okay, thanks Pam. Overall, we’re pleased that we’ve been able to grow organically 9% this year; however, we do need to improve profitability. We’ll be working on this for the rest of the year while we gauge the opportunity for revenue growth next year. We feel we should act prudently for the time being and look for those opportunities in certain geographies, vertical niches, and acquisitions which are unique to our situation.

That finishes our report for the quarter. Operator, can you open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Mark Schappel - Benchmark.

Mark Schappel - Benchmark

Could you just review the tax issue in the quarter? You just said briefly, I didn’t catch that in your prepared remarks.

Daniel Lender

Yes, sure. There was a change in our estimated levels of profitability by tax jurisdiction and as a result some of the benefits that were taken earlier in the year were reverse and let to a tax expense, even though we were showing an operating loss for the quarter.

Mark Schappel - Benchmark

Going back to the automotive question and the amount of revenue from automotive; typically it’s in the 25% of total sales range; what was it at this quarter?

Daniel Lender

Automotive was actually about 30% and year-to-date for the whole year last year was 30%, so it’s been maintaining that percentage.

Mark Schappel - Benchmark

A question on the On Demand side of the business; Karl, was there any meaningful On Demand revenue in the quarter?

Karl Lopker

No, we didn’t really have that much revenue, but it’s becoming a larger part of our funnel. People are very interested in it, but many of the deals end up going to the traditional perpetual license, but we are seeing a lot more interest and it is a bigger part.

Pam Lopker

As well as application management services; so sometime they’ll opt to the On Premise with application management service. So, it can go either way, but there is a quite a bit of interest in it.

Mark Schappel – Benchmark

That the interest on the On Demand side that’s in your pipeline, is that on the supply chain visualization product that you’re seeing that or is it on the broader suite?

Pam Lopker

Actually both; we’re currently doing a re-launch of supply visualization, where we have dedicated team going out and visiting both current customers and new customers. That started just about two weeks ago and we’re seeing a quite a bit of interest and growth because of that dedicated effort.

In the On Premise, the whole enterprise area, we have applied a pipeline. What we see is the smaller and new customer, so the less than $200 million and in fact we’ve sold some now in the companies that are $10 million to $30 million companies. They typically always go for the On Demand Enterprise capability. It’s the larger customers. We have two customers I want to state in the $1.800 million to $1.2 type range last quarter that started off as going for On Demand and ended up deciding to do On Premise.

So, we’re seeing a real dividing line, I want to say around $200 million, where the less than $200 million will go for On Demand with the larger runs; besides they want to have more control and I think that’s probably about what the industry is thinking right now.

Operator

Your next question comes from Brian Murphy – Sidoti.

Brian Murphy - Sidoti

Daniel you mentioned that you had a negative currency impact on the maintenance line; is there anything else going on there; any change in the renewal rates?

Daniel Lender

No, our renewal rates have been consistent with prior quarters and prior years; so we have not seen any significant movement either positive or negative there. We do experience every quarter, certain amount of fluctuation relating to some of the timing of some of the contracts which we got either a little bit more benefit of that in Q2 and then there was a significant impact with the dollar movement that happened during Q3 that affected our the overall revenue number for the Q3 quarter.

Brian Murphy - Sidoti

Okay and the year-over-year decline in deferred revenue, is that the currency as well?

Daniel Lender

Some of the effective, yes exactly, is related to the currency movement.

Brian Murphy - Sidoti

Okay and what percentage of your license revenue came from existing customers in the quarter?

Daniel Lender

Our license revenue for the quarter coming from new customers was about 24%. So, the rest, about 75%, 76% came from existing customers.

Brian Murphy - Sidoti

And that’s pretty much inline with your historical base.

Daniel Lender

Yes, we typically like to see somewhere between 20% to 25% of licensed revenue coming from new customers.

Brian Murphy - Sidoti

Okay and looking out into ’09 with the sort of renewed focus on the cost structure and trying to maintain profitability and it looks like a flat environment, are you going to continue to sort of aggressively go after new customers when sales cycles are getting longer or would you be focusing one on the installed base?

Karl Lopker

We’ll continue to go after new customers when we see a certain set of circumstances, when we know that we have a really good chance of winning those and as we have in the past and in fact last quarter we have kind of on the high side of new customers, but that is just the ebb and flow of the licenses as they happened during different quarter.

Operator

(Operator Instructions) Your next question comes from Peter Goldmacher - Cowen & Co.

Joe Delcaar - Cowen & Co.

This is actually Joe Delcaar in place for Peter. So, I heard you mentioned on the call the impact of currency on your operating expenses. What was it, was it 200 or 300?

Daniel Lender

The impact on the bottom line was about 200,000 negative

Joe Delcaar - Cowen and Company

And then in your guidance it implies that there is some significant margin expansion from quarter-to-quarter going from the third quarter to the fourth quarter; I was wondering whether you could like talk a little bit about the leverage in your model that would help you get to the midpoint of your guidance.

Daniel Lender

Yes, our margins are mainly affected by our mix of revenue and typically what happens in the fourth quarter, there is a higher proportion of license revenue to maintenance and services revenues than there is in other quarters and that’s where you would see some margin expansion as license revenue carries the highest margin.

Operator

Thank you and at this point there are no further questions in the queue. Please continue.

Karl Lopker

Okay. Well, thank you everyone for your attendance. We’ll update you again in March with the results of our fiscal year. Goodbye and have a great Thanksgiving.

Operator

Ladies and gentlemen that does conclude your conference for today. Thank you for your participation and for using AT&T executive teleconference. You may now disconnect.

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