SupportSoft Inc. Q4 2008 Earnings Call Transcript

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SupportSoft Inc. (NASDAQ:SPRT)

Q4 2008 Earnings Call

February 11, 2009 4:30 pm ET


Anne-Marie Eileraas – Vice President and General Counsel

Shelly Schaffer – Chief Financial Officer

Josh Pickus – President and Chief Executive Officer


Jon Maietta – Needham & Company

Chad Bennett – Northland Securities

Ted Ketterer – TK Associates

Gene Weber – Weber Capital Management

Stephen Silk – C. Silk & Sons

Jim Kennedy – Marathon Capital Management

Nick Farwell – Arbor Group


Good day everyone and welcome to the SupportSoft Fourth Quarter and Year End 2008 Conference Call. Today's call is being recorded. At this time, I would like to turn the call over to Ms. Anne-Marie Eileraas, General Counsel for SupportSoft.

Anne-Marie Eileraas

Thank you, [Jamie]. Good afternoon. This is Anne-Marie Eileraas, General Counsel of SupportSoft. Joining me here in Redwood City are Josh Pickus, our Chief Executive Officer, and Shelly Schaffer, our Chief Financial Officer.

Before we begin, I'd like to remind everyone that our remarks today will include forward-looking statements about our financial results and other matters. There are a number of risks and uncertainties that could cause our actual results to differ materially from expectations.

These risks are detailed in today's press release and the reports we've filed with the SEC, all of which can be found through the investor relations page of our website. I would also like to point out that we will like to present certain non-GAAP information on this call.

The reconciliation of GAAP to non-GAAP financial measures is included with today's press release and is available on our investor relations webpage. The statements we'll make in this conference call are based on information we know as of today, and we assume no obligation to update any of those statements.

With that, I'll turn it over to Shelly.

Shelly Schaffer

Thanks Anne-Marie. I'm going to cover the fourth quarter financial highlights and then turn the call over to Josh.

Fourth quarter 2008 revenue was $12.8 million and it exceeded the midpoint of our guided range of $11.8 million to $13.4 million, primarily as a result of the continued growth in our consumer segment. Non-GAAP loss per share of $0.07 was lower than our guided loss per share of approximately $0.11 to $0.14. This reduced loss primarily resulted from lower costs across the P&L as a result of our December reduction in force, as well as a strong dollar and partially offset by the ramp in work-from-home agents.

In our consumer segment, Q4 revenue of $3.1 million represents an increase of 47% as compared to Q3 revenue of $2.1 million, and growth of nearly 800% when compared to Q4 2000 revenue of $349,000. Fourth quarter gross margin in the Consumer segment was negative, as it was for the full year of 2008. As Josh will discuss, shift in gross margin into the positive territory is a key goal for us in 2009.

Turning to the Enterprise segment; revenue of $9.7 million was down from the prior quarter, due to reduced professional service revenue and partially offset by increased license revenue.

Our operating expense lines for both businesses, which include sales and marketing, research and development, and G&A, were consistent with the prior quarter. Not withstanding lower revenue, Q4 marked the fourth consecutive quarter of non-GAAP profitability for our Enterprise segment.

From an overall expense perspective, Josh highlighted on our Q3 call, that we anticipated a difficult environment for Enterprise Technology spending in 2009, and that we planned to align our cost structure with this environment.

In actions taken in December 2008 and early this month, we implemented these planned reductions, restructuring impairment charges related to the Q4 action, totaled approximately $1.9 million, reflecting $1.3 million in employee-related costs, $450,000 in facility impairment costs, and $100,000 related to professional services incurred.

From a balance sheet perspective, $1.3 million was accrued at year end 2008, and $600,000 was paid within the fourth quarter, with a significant portion of the balance to be paid in Q1 2009. We expect the restructuring charges related to the first quarter action to approximate $900,000. In total, the two reductions in force affected approximately 16% of our non-agent workforce.

Finishing the statement of operations, other income and expenses for the quarter was $177,000 in line with the $158,000 in the third quarter. This is comprised of interest income of $306,000 less $129,000 related to the impact of foreign currency fluctuations. And as we look into the first quarter, due to the current interest rate environment and our focus on capital preservation and liquidity, we expect interest income to be in the range of $250,000 to $290,000.

Now turning to the balance sheet; we ended the quarter with cash and investment balance of $95 million compared to $98.3 million at September 30, 2008, a net reduction of $3.3 million. The change in cash and investments reflects approximately $3.4 million used for operations, $800,000 of a incremental write-up in the value related to auction rate security, less $600,000 used in the Q4 restructuring and approximate $350,000 related to other balance sheet movements.

We expect our cash usage in Q1 to exceed that of Q4, primarily due to payouts related to the Q4 in 2008 and Q1 in 2009 restructuring actions.

Q4 DSOs were 73 days as compared to 57 days in the prior quarter, and 72 days in Q4 2007 in line with seasonality.

Accounts receivable increased by approximately $2.2 million sequentially. Deferred revenue increased from $8.8 million at September 30th to $10.1 million at December 31st, again consistent with historical experience.

As a final note, I'd like to give you an update regarding our auction rate securities. At 12/31, SupportSoft held a par value of $24.5 million in auction rate securities, $20.9 million of the stocks is held with UBS.

During November, the company accepted the UBS auction rate securities right offer. This offer gives SupportSoft the right to sell the auction rate securities back to UBS at par, beginning June 30, 2010. SupportSoft separately values both the auction rate securities and the rights offer in each period.

At 12/31/08, the value of the rights offering offset all unrealized losses on our UBS auction rate securities. The value of the rights offering is presented in the auction rate in the asset section of our balance sheet as auction rate security put auction.

Now I’ll turn the call over to Josh.

Josh Pickus

Thanks, Shelly. Today I’m going to provide color on Q4 and perspectives on 2009.

In Q4 we had a solid finish to the year. In our Consumer unit, Q4 revenue grew 47% sequentially and nearly 800% from the fourth quarter of the prior year. For the full year, Consumer revenue grew 550% from approximately $1 million in 2007 to almost $7 million in 2008.

Within the Consumer unit, let me update you on programs and pilots. Q4 was the first full quarter in which all Office Depot Stores in North America offered our services. Service volumes grew substantially from the prior quarter as a result of the store increase.

In addition to the store increase, two other factors contributed to growth; first, a significant improvement in attach rate, the rate at which services, such as software installation are attached to sales of new products, second, a substantial increase in sales of diagnosis and repair services for customers’ existing computers.

The highlight of the quarter was Black Friday weekend, when we successfully delivered almost 6,000 services, a new record. Recognizing our contribution to making tech people one of the fastest growing technology service offerings in the market, Office Depot honored us in December with its Most Innovative Vendor award. The award reflects multiple innovations that enable retailers to leverage a variable label model, provide seamless multichannel services, and offer distinctive customer tools.

In retail programs outside the U.S., tech guys delivered solid Q4 results and now have defined possibilities for expansion. Our program with the leading anti-virus provider launched in late November, hit late October, and immediately began generating results. Since launch, we’ve experienced substantial growth, albeit, off a very small base.

We’ve recently expanded the offerings to include subscriptions and are experiencing good traction there as well. Both we and our AV partner are delighted with the initial results, and planning is underway to increase the scale of the program.

In our direct business at, a number of new strategies are beginning to drive growth. In our pilots, progress with the major U.S. and European retailers continues. Since we last reported to you, the U.S. retailer has increased the number of skews offered and outlined a plan to expand the scope and scale of the services offering.

We are in discussions with the retailer about the particulars of this expansion plan. In Europe, the retailer has decided to proceed with the technology services initiative in a number of countries. We are currently in discussions with this retailer about the territory, economics, and timing of the program.

Progress in these pilots reinforces our view that the incremental revenue screens and high margins from technology service programs remain compelling for retailers, but when and if these pilots will become full scale programs remains to be determined over the coming months.

From an operational perspective, Q4 saw a number of important developments. Our work-from-home agent population grew by a 100 or so to over 300, we released significant enhancements to our agent toolkit that we expect to reduce handle times, we expanded our service portfolio with a number of new skews, including data backup and data migration, and we introduced subscriptions, so consumers have a choice of incident-based pricing or a flat monthly fee.

Turning to the Enterprise unit's Q4 performance; revenue declined sequentially, but profitability remained consistent on lower costs. License revenue increased sequentially, largely on the basis of transactions with digital service providers. Verizon was the largest license customer in the quarter, but a number of European and agent telcos also contributed, including Telefonica and firms in Denmark, Sweden, Italy and India.

Services revenue decreased materially from Q3, reflecting a slow global economy. A recent CIO survey listed third party consulting as the first area being trimmed to met reduced spending targets and we clearly saw the effects of this in Q4.

I indicated in our last call that we planned to reduce costs to prepare for a difficult Enterprise spending environment and as Shelly described, we have taken action to affect those reductions. As a result of lower costs, we maintain profitability levels consistent with prior quarters.

While reducing costs, we have prioritized our engineering investment in the new products that will power the Enterprise unit's future, Dynamic Agent, our enhanced desktop software for digital service providers and Remote Tango, our remote support offering for mid-market enterprises.

We have our first customer for the Dynamic Agent and several prospects in sales cycles. It appears that the first revenue from this product will be in the services area as customers upgrade their agent platform, followed by licensed revenue from the new modules.

Development of Remote Tango for a launch later this year continues, and we are excited about the prospects for this product.

Let me now discuss our prospectus on 2009. Since we launched our consumer business, we've demonstrated that people will pay for premium technology services, that we can reach large numbers of them through the retail channel, that we can provide high quality services with a distributed work-from-home workforce, and that we can bring differentiated technology innovation to this emerging market.

With respect to the future of this business, the core questions I hear from shareholders are first, can you grow revenue in a meaningful way over 2008, even in the current economic environment, and second, can you eventually make money in this business?

I believe the answer to both questions, is a resounding yes. On the first question, the key metric is obviously top line growth. Given the seasonality associated with consumer businesses, we think this is best measured in a year-over-year basis.

Predicting meaningful growth in this economic environment is not an easy thing to do, but our experience to date indicates that consumers spend to make their technology work, even in this environment and that how remote services represent a cost effective and convenient solution.

To achieve growth, our plan is to enhance our go-to market channels and expand our service offerings. With respect to channels, we plan to expand existing programs, convert our most promising pilots into full programs, add new partners, both large and small, and grow our direct business.

Our account teams have mapped specific areas for expansion with their counterparts and our partners, and we expect a number of initiatives to launch in the first quarter, including participation in our partners’ customer loyalty [robe] programs, placement in our partners’ catalogs, and enhancement of our presence in our partners’ online offerings.

With respect to service offerings, we recently introduced subscriptions in and will begin offering subscriptions through partners this quarter. We have also introduced new services, such as online backup and data migration, and plan to continue to expand the shopping cart with educational services and support for additional devices.

On the second question relating to profitability, the key metric is gross margin improvement. As with top line growth, we think this is best measured on a year-over-year basis, given seasonality. For clarification, our cost of consumer revenue consists primarily of employee related expenses as well as direct technology and telecom expenses associated with the delivery of services.

Over time, we expect increased scale to cover relatively constant operating expenses, so our focus is on improving gross margin. For 2008, as Shelly noted, our consumer gross margin was negative. For 2009, our goal is to move gross margin into positive territory. We will discuss our progress with you on a quarterly basis going forward.

We’re employing a number of strategies to achieve this gross margin improvement. We expect our enhanced call center management team to drive efficiency gains and productivity increases. We expect newly introduced technology to deliver service time reductions.

We expect revenue scale and improved forecasting to enable resource optimization, and we’re exploring additional means of achieving lower agent costs. We continue to target gross margins above those achieved by best-in-class call centers and while we do not foresee reaching those targets this year, we do expect substantial improvement.

Turning to our Enterprise business, we have two challenges in 2009. The global slow down affecting businesses generally and the completion of payments under a large customer contract that contributed substantially to revenue in 2008. Relations with this customer are strong, but we expect a much smaller contribution from them in 2009.

As a result of these challenges, we have planned conservatively and set a goal of maintaining profitability with this revenue decline. To achieve this goal, we have substantially reduced costs in the restructuring Shelly described earlier. We see our new products, Dynamic Agent and Remote Tango, as the foundation for future growth, and we’ve been careful to preserve our full engineering investment in these products.

We are selling Dynamic Agent first into our installed base, and as I noted earlier, we are seeing good traction so far. Remote Tango will not be introduced until later this year, and will be offered in the SAS Model. As a result, we expect each revenue contribution this year to be small, but to contribute significantly in future years.

In terms of guidance for Q1, we expect overall revenue of between $9.5 and $10.3 million. We expect consumer revenue within a couple of hundred thousand dollars of Q4, with Q1 seasonality potentially offsetting program growth. We expect Enterprise revenue to be down substantially, reflecting the challenges I described above, as well as our typical Q1 Enterprise seasonality.

Based on this revenue range, we expect a pro forma loss per share of $0.12 to $0.14 in the first quarter. With that, I’ll open it up for questions.

Question-and-Answer Session


(Operator Instructions) We’ll take our first question from John Maietta – Needham & Company.

Jon Maietta – Needham & Company

Josh, just to be clear, the goal is to kind of work toward profitability in the Consumer business over the course of ’09 or it's to actually achieve it at some point?

Josh Pickus

We do not expect the Consumer business overall to be profitable in 2009. Our real focus in on significant improvements in gross margin in the Consumer business, and we do expect to achieve those improvements and to get into positive territory on gross margin, but we’re not saying anything about getting to full profitability for Consumer in 2009.

Jon Maietta – Needham & Company

Okay, and then so it sounds like volumes picked up quite a bit on the consumer side. Could you maybe grade yourself as to how you think you guys executed in terms of delivering that service?

Josh Pickus

Yes, I would say that I’m really beginning to see the kind of improvements that we’ve been working to for a while. They’re not fully visible yet, but we’re really beginning to see them, and I’m seeing two distinct things; number one, in the technology area we have automated increasing parts of the simple services, what we call factory skews, and we are steadily reducing the handle time for those skews.

We are not all the way to our target, but I have a lot of confidence that over the course of this year, through that technology innovation, we’re going to meet and then beat our scope handle times in those services.

The second thing I’m seeing is that we’ve really got a full and expert call center management team in place, and they’ve now had a few months to really work with the agents to begin to drive productivity improvements, and much of this is quite straightforward. It’s setting baselines and making sure everybody on the team knows where they stand with respect to them. It’s optimizing staffing so that supervisors and agents have better communication.

It's a hundred things of that nature and what I’m really beginning to see is that the overall productivity in any period, whether it’s an hour, a day or a week, of the agents, is improving. So again, we’re not all the way there, but there’s really detectable increase and I believe we’ll see more and that’s why I’m confident in saying that we’re going to get our gross margin from the negative territory it’s been in, to the positive territory it needs to be to drive the ultimate profitability of the business.


We’ll take our next question from Chad Bennett – Northland Securities.

Chad Bennett – Northland Securities

Josh, in looking – you gave a little bit of insight into what you expect in the first quarter on the Consumer side, I guess the first question is, should we expect the first quarter to be the low point for the year and then normal sequential progression throughout the year?

And then when you talk about the Consumer business turning gross margin positive in ’09, I guess when I look at the COGS and this is I guess, very remedial but, COGS right now are about $3.9 million. Obviously, just simple second grade math, you have to get to a revenue level above that in order to turn a positive gross margin, unless there’s something in COGS – inefficiencies or something – where that absolute dollar goes down, which I highly doubt, but can you kind of explain that dynamic too?

Josh Pickus

Yes, let me comment on both of those. Your first question was about Q1 and you’re right. We think Q1 will be the toughest quarter this year, and we expect kind of the normal seasonality in the balance of the year. The question about COGS, your simple arithmetic is right.

All I would add to it is that we do think that COGS will actually increase in this year, and as a result, our revenue needs to increase more than the simple math you did – indicated, but what I’m saying is that I’m confident that even with the COGS increases that we have built into the plan, that revenue will grow faster than that, and therefore we will be able to get into positive gross margin territory.

So there's nothing magical, there's nothing we're expecting about COGS going down. It's more that we finally believe that we're at a stage where we can see revenue growth begin over the course of the full year, to outpace investment in COGS.

Chad Bennett – Northland Securities

Okay, so I'm going to say this so you don't have to. So based on that, the Consumer business appears to basically, potentially be doubling again in '09.

Josh Pickus

You anticipated my response, which is that I'm not going to comment on the full year. It's just too strange an environment to have confidence in any type of specific calculation. I clearly am running a plan in Consumer that expects substantial growth, and I'm very comfortable saying that.

I don't want to quantify it further until we're deeper into the year.

Chad Bennett – Northland Securities

Fully understood, I'll take the blame for it. And then, Shelly or Josh, one of the two, how should we look at the service business? Obviously, we're assuming pretty decently lower license run rate, I believe, going forward. How should we look at the service business going forward in the relationship to license? I know you guys aren't giving detailed stuff, but can you give us, kind of directionally, where it goes from maybe fourth quarter?

Josh Pickus

Let me take a stab at it, and I'll see if Shelly wants to add anything when I'm done.

If you look at the overall guidance for Enterprise, which is I think what you're talking about here, and you think about Q1, we are forecasting that license will be down, meaning we are also forecasting that services will be down, meaningfully.

Remember that our services organization is somewhat unusual, in that a much smaller percentage of its revenues are derived from new license implementation. We do a very large amount of, sort of establishing and putting into place incremental functionality that's in the product that customers, one, is get the benefit of, and so if we don't tend to look at it internally very much as a function of what license is to a greater than 50% degree, it is independent of that.

Chad Bennett – Northland Securities

Okay, that's what I was getting at, the correlation there. Okay, and there isn't much.

Josh Pickus

No, there really isn't and what we saw in Q4, if you look at the detail on Q4, maintenance was strong, license was actually up sequentially. We took a big hit in services, and we have assumed that in 2009, that services operates at a meaningfully lower revenue level, and that license takes some hit as well, because we don't have specific data around license the way we did on services, but we want to be cautious as we look forward into this year on Enterprise.

Chad Bennett – Northland Securities

Okay, and then, Josh, could you – I don't know if this is a big deal or not – but could you remind us how much that large customer deal that was amortized over 2008 was in the license line?

Josh Pickus

It was between $2 and $2.5 million in the license line, and if you wanted to think more broadly about revenue in the license line that came from deals signed in prior years, and we got the benefit of in 2008 that we will not see the benefit of in 2009, that number's actually closer to $4 million in total.

Chad Bennett – Northland Securities

Okay. That's great, and last one for me at least, I'll jump off and let some other people on, but again Shelly or Josh, the restructuring that you made in December, and it sounds like a little bit in the first part of this year, is there a dollar amount in terms of reduction in OpEx run rate related to that reduction? Or just, do you care to give the newly revised operating expense run rate right now after it?

Shelly Schaffer

A couple things, if you think about just the total guidance from the Q4 actuals to Q1 guidance range which we gave the 9.5 to the 10.3, and Josh pipe in with anything in the $0.12 to $0.14 loss, that takes into account the efficiencies, although you won't get them for the full first quarter, and we're not framing that in total.

So it definitely can't offset, as you can imagine, the decline in revenue. So we are constantly being proactive on aligning the cost structure in advance; number one, to protect the profitability at the segment level for ESG, and then allow for the investing in the funding to grow CSG.

So you kind of get mixed up and if you were to just say, hey, here's a run rate that you can apply, because it goes across a series of line items of the budget. So that's the way we look at it, and if you've got the decline that Josh just alluded to around, kind of both on the license side and the services side, but particularly the amount in license, that is a high margin business.

You couldn't possibly make it all up in the run rate savings of COGS, and at the same time, again, we're investing in CSG. So that's how I'd look at it, and it's a dangerous thing to do to say, hey, it's a point in time at which you have these savings, you've got to run the business going forward, and we're running both the gross business and we're maintaining the profitability of ESG.

Josh Pickus

Yes, and I'd just supplement that by saying, as we try to think about the themes for the year and how all of this works out, clearly we've taken some meaningful cost out, particularly in the Enterprise unit. When you're talking about a 16% RIF, not all of which was Enterprise, but a substantial portion of it was, you've obviously taken costs down.

And we've done that so that we can, with a very conservative revenue forecast, maintain profitability in the Enterprise unit this year. We don't think we can match the level of profitability that we did last year, 'cause just as Shelly said, even with that cost out, the revenue delta is larger.

Then on Consumer, the way to think about it is we are modeling very meaningful growth, a little bit more in the back half than in the first half, but very meaningful growth. And we are modeling increased investment in COGS because, clearly, when you're driving incremental revenue, even if you're getting more efficient, you're going to have some more COGS, and then OpEx overall, you'll see the level in Q1 and we think it'll be relatively constant throughout the year.

So that's kind of the model guidance we can give you without tying very specific annual numbers to it.

Shelly Schaffer

And the only other thing I'd add to it is that, out of fairness, with the exception of ramping agents as needed or ramping investment as needed for CSG, and still getting to the exiting gross margin target that we talked about, we wouldn't anticipate any material or anything even slightly material in hiring in the non-agent workforce.

So I think it's fair to call that out too.

Chad Bennett – Northland Securities

Okay. So the majority of it will be in COGS?

Josh Pickus


Chad Bennett – Northland Securities

Okay and I lied; just one last question. Do you care, Josh or Shelly, for that matter, to take a stab at cash burn for '09, or kind of your expectations there? I know we've done that in prior years, but it's a lot different this year? Any care, any?

Josh Pickus

Here's what I would say. There will be cash burn this year. It won't be immaterial. I don't want to be more specific, because that's the very hardest bit to forecast.

I think you've seen that we've worked very hard, even though we're making these substantial investments in CSG and the Consumer Group to try and limit the burn, and nothing is changing about that. We're going to try to be very disciplined, but we do think net-net for the full year, there will continue to be some cash burn.

Chad Bennett – Northland Securities

Yes. Okay, thanks. Again, nice job in managing cash while still investing in the Consumer side and growing it nicely. Thanks.

Josh Pickus

Thank you.


We'll take our next question from Ted Ketterer – TK Associates.

Ted Ketterer – TK Associates

Hi, guys. Just a question, Josh, on the first quarter Consumer guidance. Is there anything in there from the U.S. retailer, the Europe retailer, or the anti-virus provider?

Josh Pickus

Yes, there are little bits from each of them. We expect the anti-virus provider to be material. Still much smaller than some of the more established ones, but it's growing very nicely.

We've modeled conservatively on the U.S. retailer, because we think more of any ramp that occurs will occur in Q2 and Q3, and we've modeled very conservatively on the European retailer, because that program is somewhat different than the U.S. one, which is sort of a slam-dunk for us to do.

We need to make sure that on the European one, even if there are really attractive revenue opportunities, but the bottom line on that program will work for us, so we're trying to not build too much in the plan until that becomes clear. So the short answer to your question is yes all will contribute the slightly more expanded view is the EV player will be larger, and the other players will contribute but we don’t expect to be mature until a little bit later in the year.

Chad Bennett – Northland Securities

Those three are the ones, the three pilots that have been talked about for at least two, maybe more quarters; do you have any – can you sort of talk about – do you have other ongoing?

Josh Pickus

What I'd say about that is, we have done a few things that we haven’t made a lot of noise about and won't make a lot of noise about because, they didn’t yield the results we wanted in terms of providing an attractive long-term opportunity.

And second, we have a number of other things that we expect to launch this quarter but I want to get them launched and then come back and talk to you in Q2 about them.


And we'll take our next question is from Gene Weber – Weber Capital Management

Gene Weber – Weber Capital Management

On the agents, without giving a lot of competitive information, how variable is that agent force? You're up to you said about 300 now, do you commit to a minimum number of hours and then sign them up as you need them, or maybe you could just give us a little color on how all that works?

Josh Pickus

The way we do agent staffing is we sit with our partners and we do the best possible job we can of forecasting demand and the revenue team has gotten much, much better at that. Based on that demand projection for a quarter, we set in place a staffing plan and we operate to that.

If it flexes way up and looks like it's going to be sustained, we would then add more agents, same thing on the lower end, but generally speaking we're forecasting on a quarterly basis, projecting demand and staffing to that, and Gene, as you can tell form that kind of a process, the accuracy of your forecasting becomes very important and as I say, we're getting better at that and in Q1 to date, the five weeks we've had, we feel very good about our forecast.

We're ahead of it, but we're not ahead of it so much that you think the forecast was bad. So that's how we look at what the agent population should be.

Gene Weber – Weber Capital Management

Okay, so when you have set that staffing plan, you're locked into the costs associated with that staffing plan, more or less?

Josh Pickus

We are. You can make changes to it, because that agent workforce can be reduced, but you would do that only where you felt that you were staffed inappropriately for some meaningful period of time. Even in a quarter like Q1 you see some monthly seasonality.

January is probably a little bit better than February and then March ticks up again. So what you're looking at is what is your overall demand level to effectively serve the aggregate demand for the quarter and it is important to get it right, because if you don’t get it right then over time you'd have to make reductions or you'd have to carry too much cost.

So the focus is really on forecasting well and that's not an exact science, but I see real meaningful progress on that.

Gene Weber – Weber Capital Management

Okay and then as it relates to the European project, does that – I've never asked you this before I don’t think – does that require you to have agents overseas?

Josh Pickus

It does. The agents for that program are currently based in Poland, one of the lower wage places, and the challenge, of course, with Europe is that if you're going to do a program and it's going to span five or eight countries, that's complicated right, you've got to do that in the language of the relevant country and so you've got to make sure that your cost model works and we are delighted with the level of enthusiasm and the progress that we've made with this retailer in terms of making this program real.

But we're in some serious discussions about how the program needs to work so that ultimately we make money. Nobody here enjoys being in this loss position and we're more than ever focused on how we move the consumer business towards not just revenue but the profitability and so we got to make sure with those additional complexities, that deal works, and it does have complexities that don’t exist for a pure U.S. deal or for a deal that say was only U.K. based and that we could serve out of the U.S.

Gene Weber – Weber Capital Management

Understand and could you say how many of your agents – how many of those 300 agents are overseas?

Josh Pickus

Very small percentage.


We'll take our next question from Steven Silk – C. Silk & Sons.

Steven Silk – C. Silk & Sons

Josh, if you take a look at the example of Office Depot, I guess the stores that were in trial in Florida now have been online for a year, and there was a large number that went online in the third quarter, so they've only really had a month.

Could you talk about the learning curve within Office Depot, about how they're ramping up to speed so that we can get some idea of how that's progressing, how important Tech Depot is as an initiative for Tech Depot so it drives business to you?

And I'd also be interested to know from your side with the agents as they get more experience, the response as far as being able to fix what's wrong quicker. I mean seeing more things over and over, is it becoming easier for the agents to handle situations?

Josh Pickus

Sure, so there were I think three questions relating to OD that were embedded in there and let me try to take them in order. This program I think is important to Office Depot, because while it is still small relative to their total revenues, it is very fast growing, relative to other parts of the business and it's very attractive from a margin standpoint, relative to other parts of their business, and it has the ability of deepening the customer relationship as opposed to just being purely transactional.

So it's kind of a triple win for OD and for other retailers looking at these programs and that's why I think that's a very, very fertile vertical for us.

In terms of efficiency levels, it's very interesting, if you look at the stores that say were open across all of Q3 and all of Q4, and you look at how did the sales per store per day increase across those stores, it definitely increased and it increased at a notable percentage.

If you then, if you say let's take all stores and look at the overall growth in sales per store per day, so you're looking at all of these new stores who came online, that growth number triples or quadruples, because what you're seeing is not just the older stores that are already pretty good and getting better, but you're seeing dramatic increases in the efficiencies of the new stores.

So we think the OD team managing this is doing a really good job of continually driving up efficiency in selling these services and we could see growth like we saw in Q3 to Q4 going forward, it would be spectacular because it was quite notable in Q3 to Q4.

And then in terms of our agents, the way I'm going to talk about it is this, if you broadly describe the skews that we offer they fall into two buckets. These things that I call factory skews, that are relatively simple skews, an example would be installing anti-virus software, installing parental control software, doing some Vista configuration and removing crap ware, something like that.

Our agents have gotten dramatically more efficient at those services and that is a function, as I noted earlier, of both their own efficiency and getting better at the process and the technology work that our development team has done.

The next big challenge is when you apply that to the second big bucket, which is what we call diagnosis and repair, somebody calling up with some kind of a problem unknown until you start the call, those are harder and we're not as efficient as we are with the factory skews there yet.

We have made huge progress, but one of the key tenants of improving the gross margin overall is not just getting the factory skews to be at or below scope, but it's dramatically enhancing our efficiency on the diagnosis and repair skews, and we have quite a few strategies for doing that and they're beginning to play out, but that's a key part of the plan for this year.

So I think I picked up all of the questions you had, but let me know if I missed any.

Steven Silk – C. Silk & Sons

No that was fine, and so the learning curve that you have at Office Depot would be laid out for when any new customer came on, you would really hit the ground running as far as the preparedness.

Josh Pickus

Absolutely, and we’re already seeing that. The benefits we’ve seen from OD when you apply it to a new program like the anti-virus program are very noticeable. So, we do feel that from an agent efficiency standpoint, but also from a overall program standpoint, we have learned some important things and they should make us better and more efficient at ramping things in the future.

Steven Silk – C. Silk & Sons

I know you’ve only talked about the two trials in a broad sense, so we don’t really know where they are in what would be the trial phase but what, in your opinion, would perhaps speed up the process to going live, and conversely, what would be a deterrent or what would slow down the process, if – to make these people wait perhaps until the time was better?

Josh Pickus

On the pilots, broadly speaking, I would again divide it into two boxes; one is how has the pilot performed, and within that, there’s a question of is the partner satisfied with the quality of our service delivery, our technology infrastructure, etc., and I think in that case, it’s all positive and all good.

The second part of how the pilot performed is how are the numbers, and I’m satisfied at this point that in both cases, the customers feel that the pilots are, or are on their way to, meeting the numbers that they need to meet. So when you look at this and you say, did the pilot prove what it needed to prove, I think we’re in very good shape and that’s why there are real indications from both retailers of moving forward.

The second part, though, is the broad mix of things that any retailer is thinking about today; do I invest in this, do I launch that, how does it compare to this? It’s really a much broader discussion about what’s going on at that retailer, what their challenges are, what their needs are, and that’s the harder piece because we don’t control that.

I feel right now like we’ve had some important developments that lead us to say both are moving where at that level, they’re more serious about getting this real, but I’m hopeful that in the next three or four months we’ll have very tangible evidence of that, and because I don’t quite have that yet, I’m not talking about we’ll go from this many districts, to that many regions, to national.

We’re working on those plans and I expect to share them when they’re a little riper, but that’s kind of how I’d give you a little bit more color on where we are with those two.

Steven Silk – C. Silk & Sons

Finally, considering the macro environment and people are laying off all over the place, are there any retailers that currently are doing things in-house, that might present opportunities to you because they would like to downsize their help and can do it more remotely and more efficiently?

Josh Pickus

There are, there are absolutely opportunities like that and some of them are quite interesting. There are also a substantial number of retailers who haven’t done anything yet, or have a very, very limited program that say is limited to just on-site.

So, this continues from the retailers’ perspective to be a very interesting new growth factor and it’s mostly a matter of cutting through the clutter and the challenges of the overall environment to move these things forward, not does the case make sense when you really look at it.


Your next question is from Jim Kennedy – Marathon Capital Management.

Jim Kennedy – Marathon Capital Management

Question, follow up to the last gentleman, he asked something similar to what I wanted to know. Could you also share with us what are the challenges in Europe versus the U.S.? Was there anything that you found that you had to do differently? Can you just give us a little flavor of, or is it a uniformed type of program internationally? What did you run into maybe that you weren't expecting or how does it vary?

Josh Pickus

There are several observations there. Our first question was, do Europeans have an interest in consuming these kinds of technology services, as the U.S. has demonstrated through Geek Squad that they do, and the answer to that is clearly yes, and the fact that Geek Squad is now in Europe, is one other bit of evidence for that.

The second one was, how do the price points work, are they comparable to what you charge in the U.S.? You’re going to find some radically different behavior there, and the learning so far is no, not radically different. Retailers there, retailers here have relatively similar price points. So, in those respects what we’ve learned is that there’s quite a lot of comparability.

The other things though are if you think about the process of service delivery in Europe, it’s more complex than it is here. For the first and most obvious reason that you’ve got different languages and there isn’t any single population center that is as large as the U.S. So, you’ve got to figure out how to serve things in different languages.

Second, you have to figure out whether work-from-home will work effectively in Europe and we have not yet gone to work-from-home in Europe, because we want to make sure that there is a large base before we do that.

So we’re doing this one from a call center, which is more expensive, and we’re doing that outsourced, which is more expensive, because we think it’s not prudent to really go for the broad scale work-from-home until later. And Europe is different, it has the technology infrastructure to do it, where say other parts of the world wouldn’t, but you also have to make sure that when you actually get down to the dollars and cents of doing it, that will work out.

It’s more complex, right, when you’re launching a multi-country program, you’ve got to make sure that the tuning of the materials and the merchandising and all of that is going to work as well in Poland as it will in Austria, and that’s just more complicated. So I wouldn’t say that any of this is rocket science, it’s kind of retailing 101 in the sense of operating in Europe.

It does though have important implications for our cost structure. In other words, if I were going to broadly generalize, I’d say we haven’t learned a lot about the demand side of the equation that has surprised us, but we are very cognizant of the cost challenges there and given our focus on moving towards profitability, we’ve got to make sure that works for us. That’s really – refining that and understanding those numbers, have been probably the single biggest set of inputs that we’ve had so far.

Jim Kennedy – Marathon Capital Management

Josh, were the – or are the trials, I should say, multiple country trials and wouldn’t it make more sense if you were going to roll out the real deal, to do it country by country for all the reasons you just said? I mean if you undertake a four or five country massive rollout of the same program, aren’t you likely to not only compound your cost, but compound the likelihood of something not working well?

Josh Pickus

From your lips to our retail partners ear, I mean yes, is the short answer. That’s exactly what we think and I’d go further and say why not just do it in a very big country at first, but what you have to understand is we’re dealing with a multi-billion dollar retailer that has its own priorities and we don’t get to make those decisions.

And so when I say we’re having detailed discussions with them, it’s on exactly that topic, and whether this makes sense or not, will largely depend on whether we can get to the right answer, because as you know, doing multiple places, particularly multiple smaller places at once, is a very, very expensive thing to do.

Doing one big place, really tuning it and getting it right, would obviously have a lot of efficiency. So, we’re not confused about the way to do this, but I cannot tell you with complete confidence that our view of it will carry the day with that retailer.

Jim Kennedy – Marathon Capital Management

Okay and then last question, in your earlier comments, it almost sounded as though you were ready to go to a full program, but you’re still in the trial mode. Are we to the point where we’re saying that we’re in negotiations to roll this out as a full-blown program? Or we’re in negotiations to tweak some more trials and run some more trials?

Josh Pickus

You’re talking, I think, about the U.S. retailer?

Jim Kennedy – Marathon Capital Management

No, the European.

Josh Pickus

Oh, the European one, there is a plan in place that they have put forward that would do a rollout in 2009 to a specified number of countries and continue it in 2010, okay? And the details around that are being firmed up and as I’ve indicated, we need to make sure that that is a plan that works for us economically. So that’s the exact status of that one.

Jim Kennedy – Marathon Capital Management

So in that vision then, that would no longer qualify, say, as a trial, that would be we’re ready to go?

Josh Pickus

Yes. If in fact, we executed on that and everything that they told us was right, and we decided that the numbers in the end made sense; that would exactly be the case.


And we have time for one final question today and that question will come from Nick Farwell – Arbor Group

Nick Farwell – Arbor Group

Thank you Josh, can you hear me? Yes, I just wanted to add on the questions that have been asked a little bit, and in terms of the experience you have with your home agent and the turn over. Obviously, the current economic environment might afford you an opportunity to either upgrade your headcount or reduce compensation levels and I’m curious to what degree you feel this environment has helped you in that regard?

Josh Pickus

Sure. First of all, the turnover in our agent population – voluntary turnover I’m talking about here – is astonishingly low. It is miles away from traditional call center turnover, so one of our theories in going to this innovative work-from-home model, was that it would in fact enable you to keep people for meaningful longer.

And on the experience we have to date, which is admittedly nine or ten months, that is very much the case. In terms of turnover that we initiate, we have a very disciplined program right now where every agent knows exactly where they stand relative to their swat team.

And they know that they need to achieve that or ultimately they will be managed out. Now you make a training investment in people and so you don’t want to rush people out the door, but we do have a much more disciplined program today than we did even three months ago, to ensure that everybody we’ve got is of first quality, because as you note, given the economic environment there are a lot of opportunities to hire very qualified people.

We have not done anything around compensation reduction. Right now we feel like we have a competitive but quite reasonable compensation program. I’m not saying that’s a lever that we couldn’t or wouldn’t pull later, but that is not something that we have done or have immediate plans to do.

It’s there as a lever ,but right now what we’re laser light focuses on is skilling up that work force, so that there efficiency in terms of service per hour and per day increases to achieve our target and enabling us to do meaningfully more revenue, without so much in the way of increased headcount.

There will be some increase given the magnitude of the revenue increases, but we want to limit that as much as possible by driving efficiency.

Nick Farwell – Arbor Group

What degree have you performance based your agent head count?

Josh Pickus

Well I think what you mean – tell me a little bit more about what you mean performance based your agent headcount?

Nick Farwell – Arbor Group

I’m sure there are a variety of metrics and I don’t know the business well enough, but productivity basis, how many calls you handle, how well handled it, how quickly you solved the problem, whatever the critical elements are to providing a successful experience to the customer, over a shorter period of time as possible.

Josh Pickus

Sure. Yes. We have an extensive set of metrics that are monitored every single day and we have a QA team that does that monitoring and a team of supervisors that implements changes and they broadly fall into the, how fast did you do it efficiency, and how well did you do it? Successful resolution and customer satisfaction.

That is something that is at the heart of our movement toward greater efficiency and what I’m finally seeing after a lot of effort by that team is I’m beginning to see some real pay off in that and I have a lot of confidence if we keep them focused and don’t distract them, that they’re going to continue to drive that and in fact drive more of it over the course of the year.

Nick Farwell – Arbor Group

But is that dollar – is that compensation in large measure compensation based to the agent?

Josh Pickus

No. At this point it’s mostly job retention based and there is very much a model here that looks towards a variable compensation structure and that is very much something that we have in the planning stage. It is not something that I believe we will implement at this point in 2009.

In other words, ideally over the long term if you can get to a model where this big piece of your P&L was more variable, the simplest thing would be the more services that people do at high quality, the more they’re paid and then the inverse of that, that would be a very attractive model.

And there are examples in business that don’t involve technical support where that is done. We want to make sure that we get the basics right, and really. really improve efficiency and quality and look towards something like that longer term.

So we’re mindful of it, but we’re still working on the basics.

Nick Farwell – Arbor Group

And then one or two quick additional thoughts and that is to what can we do to differentiate skill set so that you have agents specialized so they escalate up complex repair issues?

Josh Pickus

What we have is increasingly a specialized work force. We have people who are doing purely the factory skews and then people who do the complex skews, then within that we have something we call the guru crew. The second level for the complex skews that are sort of the even more accomplished agents, who do a combination of monitoring and stepping in where there are challenges, and I think we will increasingly create those skill based differences and skill based routing, because that is one of the key pieces of driving the efficiency I keep talking about.

Nick Farwell – Arbor Group

All right, and then one last question; in the past you have appropriately so I would add, have shied from talking to much about your priorities of cash utilization beyond some reasonable amount for obviously managing the business during an uncertain period, but clearly with your current cash balance there are other areas in which that cash can be deployed. Acquisitions might be one as an example. Could you feel comfortable commenting about that?

Josh Pickus

Sure, the first thing I’d say, is since we last talked about cash, what’s happened is this sort of cash is king environment has become even more prevalent. There are no debt markets today, and we’re in very uncertain times.

So generally speaking, having more cash rather than less is probably even better now than it was. So I'd say that as sort of directional view. The second thing I’d say is there are basically three uses of cash that we think about.

One is to fund the continuing investment in the consumer business and as I have indicated, we will do more of that this year, though we don’t expect that would ever consume anywhere near our entire cash balance.

The second piece is for M&A and we have a very active M&A program and what I would say about that is that I do believe it would be a very smart move for us to invest some of that cash in consumer focused M&A that would drive scale, drive revenue diversity, and a number of other things about the business.

The caveat is that I have to be disciplined around price, and you do have an environment still where most of the companies that we would buy are private companies that don’t deal with day-to-day market reality and have a view of valuation that is somewhat different than the public markets do.

And as a result, I haven’t been able to pull the trigger on a substantial deal yet. I think if we can find one and one that is fairly reasonably priced, that generally speaking that’s good, but I am going to continue to try and maintain discipline around that.

So that’s the first other usage and where we are. The third usage is to buy back stock, and that is something that we think about all the time, particularly at the current prices. Our general view, as I indicated before, has been that it’s a tricky thing to do in a very uncertain environment when you’re not just a quarter or two away from profitability.

And that hasn’t changed, but I will say that we never say never and there is a combination of events that I could imagine that would drive us to a point where that would be a real sensible thing to do. And I would tell you that we view cash as a key asset and we view deploying it very prudently, as one of the key things that we got to do as management team since we’ve got a lot of it.

And I can’t really be more definitive than sort of giving you those three buckets and those perspectives on those buckets right now.

Nick Farwell – Arbor Group

Okay and just an adjunct to that, roughly a quarter of your cash position is at a relatively locked up position, as Shelly commented earlier. To what degree is that accessible should you feel you needed it in a reasonable period of time?

Shelly Schaffer

We talked about it in third quarter's call. One of the provisions on the RIF offering is that in the UBS, which is almost $21 million of the $24 million – beside the fact that we’re guaranteed par at or before June of 2010 – we also have access to a loan against that. So it – to me, if you needed it, you wouldn’t take that out if you didn’t’ need it, but you have the right to get to it.

Nick Farwell – Arbor Group

Perfect. Thank you Shelly, that’s the answer I was looking for, sorry I missed that.

Shelly Schaffer

And it would obviously – the other provision of that is it’s basically at a no cost to us.

Josh Pickus

Okay. Thank you very much. Let me just kind of quickly wrap up by saying as we think about our business for this year, we do think about it very much in terms of the two segments, with Enterprise we’ve indicated very clearly that it’s going to be a challenging year, that revenue is going to be down, that we’ve tried to get our cost down so that we can maintain profitability, and that these new products are quite important as we create the future for that business.

On the Consumer side of the equation, we have had really positive results notwithstanding the economic turmoil in Q4 and in Q 1 to date, and we’re very hopeful that will continue and will enable us to scale revenue in a meaningful revenue this year.

We are also increasingly mindful of the necessity of moving towards profitability and while we do not expect the Consumer unit this year to be profitable, we have indicted a real focus around gross margin, gross margin improvement, and moving gross margin into positive territory, which is the key for us given that we believe the operating expenses will remain relatively consistent.

So that’s kind of our game plan as we go out to this year and we look forward to sharing it with you over the course of the quarters. Thanks very much.


That does conclude today’s conference, thank you for your participation. You may disconnect at this time.

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