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Executives

Paul Auvil – Chief Financial Officer

Gary Steele – Chief Executive Officer

Analysts

Rob Owens – Pacific Crest

Phil Winslow – Credit Suisse

Robert Breza – RBC Capital Markets

Jonathan Ruykhaver – Stephens, Inc.

Craig Nankervis – First Analysis Securities Corp.

Tim Klasell – Northland Securities

Proofpoint, Inc. (PFPT) Q1 2013 Earnings Call April 25, 2013 4:30 PM ET

Operator

Please standby we’re about to begin. Good day and welcome to the Proofpoint First Quarter 2013 Financial Results Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Paul Auvil, Chief Financial Officer. You may now begin, sir.

Paul Auvil

Thank you. Good afternoon and welcome to Proofpoint’s first quarter 2013 earnings call. Today, we will be discussing the results announced in our press release that was issued after the after close today. I’m Paul Auvil, Chief Financial Officer of Proofpoint, and with me on the call today is Gary Steele, Proofpoint’s Chief Executive Officer.

During the course of this call, we will make forward-looking statements regarding future events and the future financial performance of the company. These forward-looking statements are subject to material risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. We caution you to consider the important risk factors that could cause actual results to differ materially from those in the forward-looking statements, contained in the press release and this conference call. These risk factors are described in our press release and are more fully detailed under the caption Risk Factors in Proofpoint’s most recent Form 10-K filed with the SEC and the company’s other filings with the SEC.

During this call, we will present both GAAP and non-GAAP financial measures. These non-GAAP measures may exclude both stock-based compensation expenses as well as the amortization of intangibles related to acquisitions or other components of GAAP metrics. These non-GAAP measures are not intended to be considered in isolation form, a substitute for or superior to our GAAP results and we encourage you to consider all measures when analyzing Proofpoint’s performance.

A reconciliation of GAAP to non-GAAP measures is included in today’s press release regarding our first quarter 2013 results, which can be found in the Investors Relations section of our website. In addition, please note the date of this conference call is April 25, 2013, and any forward-looking statements that we make today are based on assumptions that we believe to be reasonable as of this date, and we undertake no obligation to update these statements as a result of new information or future events.

With that, I’ll turn the call over to Gary.

Gary Steele

Thanks, Paul. I’d like to thank everyone for joining us on the call today. We are very pleased with the company’s continued strong execution during the first quarter that resulted in meeting or exceeding the high-end of our guidance across all metrics. Our performance is driven by the ongoing demand for differentiated next generation cloud-based platform.

Proofpoint has steadily shown the capability to defend, protect, archive and govern the most sensitive data for many of the world’s largest enterprises. And we believe we are well positioned to maintain our traction and further – and gain further market share. Our strong first quarter results and our momentum in the business continue to benefit from the increased in the number and types of advanced security threats including advanced persistent threats as well as the continued need for our cloud based solution in both regulated and non-regulated industries to meet enterprise compliance requirements.

In addition, enterprises continue to replace their on premise legacy security solutions with our integrated cloud based solution to more fully protect their data and drive lower total cost of ownership.

If you look at the financial results for the first quarter, total revenue increased 25% to $30.8 million compared to the year ago period representing our 39th consecutive quarter of sequential revenue growth. We also recorded billings of $35.1 million, up 47% on a year-over-year basis.

Both revenues and billings exceeded our first quarter guidance ranges. In addition, we generated $1.2 million of operating cash flow in Q1 compared to $0.2 million in the same period last year. Our continued growth was due to renewal rates that once again exceeded 90%, sustained strong competitive run rates, new and add on business momentum and further traction with our strategic partners and resellers.

Now I’d like to highlight some of our key accomplishments during the first quarter. To start, we continue to benefit from Google’s end-of-life decision for their standalone Postini infrastructure and we expect to continue to drive replacements for the remainder of 2013 and into 2014. Some examples of significant competitive wins during the first quarter in which Proofpoint enterprise protection and privacy replace Postini include one of the nation’s leading luxury retail brands with 5500 users, one of the nation’s largest transportation services companies with over 8500 users and a large European based industrial materials manufacturer with 28,000 users worldwide.

In addition, in the wake of the Postini exit, we recently introduced a new channel focused cloud-based solution to extend our customer reach to the mid and small enterprise. The acquisition of European-based MailDistiller Limited provided a foundation for a launch of Proofpoint Essentials, a new suite of SaaS security and compliance solution specifically designed for distribution across managed service providers and dedicated security resellers.

I think it’s important to highlight that MailDistiller the type of acquisition that Proofpoint has successfully completed in the past given that it’s primarily a technology related purchase with a small focus team of developers who are excited to have their work incorporated into the Proofpoint SaaS platform

In addition to Postini, we continue to achieve high win rates versus our other competitors, which led to many new customer wins during the first quarter, including a leading European-based auto manufacturer with a 100,000 users where we replace Cisco IronPort, a leading retail provider of health services where we replace Intel McAfee for 6000 users, and a leading North American specialty retailer with more than 5000 users where we also replace Intel McAfee.

We were also very excited about the ongoing momentum for Proofpoint Targeted Attack Protection as evidenced by the fact that TAP represented a growing percentage of Proofpoint’s total new and add-on business.

We are particularly pleased by our success in selling TAP into our installed base in addition to our ability the use TAP as a lead product to drive competitive replacements. Some of the TAP wins during the quarter included one of North America’s largest providers of educational services with over 24,000 employees, a leading global communication services company, which has more than 5,000 clients, a worldwide provider of consumer services with more than 14,500 employees and the leading North American specialty retailer I just mentioned, which also purchased TAP.

In addition, we continue to experience growth in our cloud-based archiving and governance business, specifically during the first quarter we closed deals with one of the world’s largest international energy companies with 3,500 users and the leading regional provider of health services that I mentioned earlier, which purchased our archiving solutions along with protection and encryption for over 6,000 users.

Proofpoint also remains committed to innovation and extending its technology leadership position as evidenced by the release of Proofpoint’s Content Collection module for SharePoint, which is a new tool to automate the collection and preservation and information residing on Microsoft SharePoint. Working in conjunction with Proofpoint Enterprise Archive, the Content Collection module for SharePoint substantially extends the value of our archiving capabilities and helps legal teams to improve process defensibility as well as efficiency by providing completely reporting and audit trails. We are pleased to say that the initial feedback has been very positive on the new product.

In regards to selling additional products to our expanding customer base, we continue to gain traction resulting in our ability to further increase the number and size of add-on deals book during the first quarter. While we offer an integrated cloud-based platform, our customers have historically selected our solutions on a modular basis enabling us to scale our relationships over time. As we mentioned on our fourth quarter call, we increased the number of customers with more than one product to 30% during 2012 and these option of multiple modules on our platform by customers continues to represent a significant growth opportunity for Proofpoint.

Examples of key add-on wins this quarter include a seven figure deal with a Fortune 100 global financial services company, which used the Proofpoint infrastructure for global compliance initiative, in addition, the customer paid for all four years of service upfront underscoring their belief in the strategic nature or Proofpoint solutions, a large U.S. financial services firm, which enhanced their protection capabilities for 60,000 users, and a leading U.S. provider of industrial equipment that added our privacy solution for 10,000 users. We also had a number of key wins in our international operations highlighting the momentum we are starting to experience.

During the first quarter, our European team closed two of our largest deals including one with a multinational conglomerate with a 120,000 users worldwide and the other with a European auto manufacturer that I referred to earlier. In addition, we were pleased to recently announce that Integralis, one of the largest European providers of IT Security solutions and Exclusive Networks, one of the largest value-added distributors in Europe specializing in security, networking, and storage solutions and one of the largest distributors of (inaudible) Europe both have chosen to market Proofpoint solution.

We continue to believe that the market outside the United States in both EMEA and Asia represents a significant growth opportunity for Proofpoint and we plan to continue to expand our sales and marketing team and add new channel partners to grow market share in these regions.

Finally, our current strategic partnerships continue to meet our expectations in the first quarter, specifically we saw consistent growth with Microsoft as it continues to report customer demand for Proofpoint’s cloud-based archiving solution for Microsoft Office 365 customer. In addition, the IBM pipeline continues to build and we saw a handful of deals completed during the first quarter.

Before turning the call over to Paul, I wanted to remind everyone that on our Q4 call in January, we announced that Tom Cooper, our EVP of Worldwide Field Operations made the decision to retire in order to pursue his philanthropic interests and had agreed to remain in place to ensure a smooth transition. Since that time, we have made good progress on the search for his replacement and have found that our sales team continues to execute very well. As a result, we thought it was reasonable for Tom to move on and again wish him well in his future endeavors.

So in summary, I am very pleased with our execution in the first quarter, which resulted in a strong start to the year, and believe we are well positioned to continue to drive momentum and grow market share. Enterprises continued to select Proofpoint’s cloud-based data protection solution over legacy solutions given its proven capability in handling today’s advanced security threats.

With that, let me turn it back over to Paul.

Paul Auvil

Thanks, Gary. We were very pleased with our ability to meet or exceed our first quarter guidance across all of our key operating metrics during the first quarter. These outstanding results were driven by a combination of strong renewal activity and a robust mix of both new customer acquisition and expansion of business with our existing customers. I’m going to start by providing additional details on our performance for the first quarter of 2013 and then conclude with our outlook for the second quarter and full year 2013.

Turning to our first quarter results, total revenue was $30.8 million, up 25% year-over-year and above our previously announced guidance range of $29.3 million to $29.5 million. These strong results were driven in part by the 22% growth in our subscription revenue, which accounted for 92% of total revenue during the quarter. From a geographic perspective, our growth continues to be largely driven by our strength in the U.S. market, where our revenue grew by 27% year-over-year and accounted for 83% of total revenue as compared to 82% last year.

However, as Gary mentioned earlier, we continue to build momentum in our international operations as two of our largest deals in the first quarter were booked in Europe. Billings for the first quarter totaled $35.1 million reflecting growth of 47% on a year-over-year basis and exceeding our previously announced guidance range of $29.4 million to $29.9 million. This marks the third consecutive quarter of billings growth above 35%, significantly exceeding our expectations. Our continued execution in terms of billings performance was a result of the sustained strength of our competitive win rates on new accounts, our increased success in selling additional solutions to our installed base of existing customers, and a retention rate that continues to exceed 90%.

The billings growth of 47% for the quarter was bolstered by several one-time items without which we still would have reported growth of just over 30%. The largest of these items was the 7-figure add-on deal with an existing Fortune 100 financial services company as discussed by Gary earlier in the call, where the customer paid for all four years of service at the time of signing, underscoring the quality and caliber of our solutions and the long-term financial commitments that large institutions are comfortable making with respect to the Proofpoint platform and the strength and differentiation of our underlying technologies.

This large four-year deal combined with the $1 million data import that was completed during the quarter and a disproportionately higher number of three-year renewals that came due in Q1 of 2013 when compared to the first quarter of 2012, all contributed to our extraordinary billings growth this quarter. Regarding the net new subscription business that we closed during the first quarter, approximately one half of this activity was driven by sales of new products to our exciting customers consistent or better than our performance during the past several quarters and in line with our long-term target. We remain pleased with this statistic as it demonstrates our ability to leverage our considerable and growing list of customers by selling them additional solutions and expanding their user base, hence providing a meaningful and important contribution to our long-term revenue growth.

In addition, our strategic partners and resellers continued to account for approximately one half of our billings activity during the quarter reflecting our ongoing ability to leverage external sales resources to further drive growth and market share gains in a cost effective manner.

Turning to expenses and profitability for the first quarter; on a non-GAAP basis, which excludes stock-based compensation and the amortization of intangibles associated with acquisitions, our total gross margin was 72% during the first quarter as compared to 71% during the same period last year and in line with our first quarter guidance. This increase was primarily driven by the growth of our higher margin subscription revenue, which continued to have a non-GAAP gross margin of over 74% during the first quarter as well as our ongoing cost reduction efforts to improve our efficiency in delivering our security service solutions to our customers.

In terms of our operating expenses, we continue to invest in both sales and marketing as well as research and development to support future growth. During the first quarter, non-GAAP sales and marketing expenses increased 35% over the prior period to $15.3 million representing 50% of total revenue. This growth in expense was primarily driven by the addition of sales personnel as well as the investment in key marketing and lead generation programs during the quarter.

Research and development expenses increased 29% year-over-year to $7 million accounting for 23% of revenue and reflecting our continued focus on enhancing and expanding our solutions. General and administrative expense was $3.4 million compared to $2.5 million last year driven by our larger scale and the higher cost of operating as a public company. Non-GAAP operating loss was $3.4 million for the quarter compared to a non-GAAP operating loss of $1.8 million during the first quarter of 2012.

Non-GAAP net loss, which excludes stock-based compensation expense and amortization of intangibles associated with acquisitions was $3.9 million or $0.12 per share based on $33.5 million weighted average outstanding and is within our previously announced guidance range of a loss of $0.12 to $0.13 per share. This compares to a non-GAAP net loss of $2 million or $0.08 per share based on 25.2 million weighted average shares outstanding in the year-ago period.

First quarter 2013 adjusted EBITDA was negative $2.1 million compared to negative $0.8 million during the same period last year and was better than our previously announced first quarter guidance. On a GAAP basis, GAAP net loss for the first quarter totaled $6.4 million or $0.19 per share based on $33.5 million weighted average diluted shares outstanding. This compares to a GAAP net loss of $4.8 million or $0.85 per share based on 5.6 million weighted average diluted shares outstanding in the prior year period.

A reconciliation of GAAP to non-GAAP financial measures has been provided in the financial statement tables included in our press release. In terms of cash flow, I am pleased to report that we generated $1.2 million in operating cash flow for the quarter, which was primarily driven by the growth of deferred revenues related to the one-time items I mentioned earlier. During the first quarter, we invested $1 million in capital expenditures in support of our ongoing build out of infrastructure for our global SaaS platform resulting in free cash flow generation of $0.2 million for the quarter as compared to negative $1.1 million during the first quarter of 2012.

Turning to the balance sheet, we ended the quarter with $90.2 million in cash and short-term investments and $3.6 million in debt, compared to $86.5 million in cash and short-term investments and $4 million in debt as of December 31, 2012. This sequential increase in cash during the quarter was primarily driven by proceeds from the exercise of stock options as well as contributions to capital from our employee stock purchase plan.

We ended the first quarter with an accounts receivable balance of $20.5 million resulting in DSOs of 53 days during the first quarter, a bit above our historical long-term average due primarily to our strong billings activity late in the quarter. Total deferred revenue increased $15.7 million year-over-year to $91.2 million during the first quarter, up from $75.5 million in the year ago period. Compared to the fourth quarter of 2012, deferred revenues increased $4.3 million.

During the first quarter, the overall duration of our contract terms finished at the low end of our historical range of 20 to 25 months, slightly higher than our fourth quarter performance. It’s important to note however, that if we exclude the impact of the four year contract with the Fortune 100 global financial services company that we mentioned earlier, our overall duration would have been below our historical range and down sequentially from our Q4 results.

Now turning to our financial outlook, starting with the second quarter, we currently expect billings to be $33.7 million to $34.3 million resulting in a year-over-year growth of 28% to 30%. As I indicated earlier, our billings growth rate in the first quarter benefited from a number of one-time items, which we don’t expect to recur again in the second quarter. Regarding revenue for the second quarter, we are targeting total revenue of $30.8 million to $31.4 million or 20% at the mid-point of the range. Note that this revenue outlook includes no material contribution from the acquisition of MailDistiller since their revenues prior to the acquisition were immaterial in the context of Proofpoint’s current revenue run rate.

Our plan going forward is to drive additional organic growth opportunities for Proofpoint by combining the MailDistiller channel platform with Proofpoint security technology hence providing a more efficient and effective approach to how we serve our channel partners and their associate customer base. We expect second quarter non-GAAP gross margin to be approximately 72% consistent with the first quarter. We are currently targeting adjusted EBITDA of negative $1.4 million to negative $1.7 million for the second quarter.

We expect second quarter non-GAAP net loss, which excludes stock based compensation and amortization related acquisitions to be $2.9 million to $3.2 million or a loss of $0.08 to $0.09 per share based on approximately 34.5 million weighted average diluted shares outstanding. This assumes an income provision exclusive of discreet items of $0.1 million to $0.2 million during the quarter. From a full-year perspective, we continue to be excited about the momentum we are seeing in the overall business. As a result, we remain committed to investing in our sales and product development infrastructure in order to continue taking advantage of this traction and gaining market share.

During the full-year 2013, we expect billings to be in the range of $149.5 million to $151.5 million, an increase from our prior guidance of $144 million to $146 million. This presents growth of 28% to 30% compared to last year. With this billings performance, we would expect total revenue of $128.5 million to $129. 5 million, again an increase from our prior guidance of $126 million to $128 million and hence annual growth rate of 21% to 22%.

Subscription revenue should continue to account for approximately 95% of our total revenue for the full-year. We expect full-year 2013 non-GAAP gross margins to be approximately 72% and adjusted EBITDA for full-year of 2013 to be in the range of negative $4.5 million to negative $4.8 million with breakeven performance in the fourth quarter reflecting our continued plan to invest in sales, marketing and product development to further drive our top line growth.

I’m pleased to note that our updated full-year outlook is consistent with our guidance provided last quarter, this despite our acquisition of Mail Distiller in early April of this year. We expect full-year 2013 non-GAAP net loss which excludes stock-based compensation and amortization related acquisitions to be $12 million to $12.3 million or loss of $0.34 to $0.35 per share based on approximately 35 million weighted average diluted shares outstanding. This assumes an income tax provision, exclusive of potential discrete items of approximately $0.5 million to $0.6 million for 2013.

As an additional point of interest, I would like to highlight that we are currently generating a net loss and as such our fully diluted share count of $33.5 million for the first quarter did not include the impact of vested options. if we were profitable today, our fully diluted share count would have been approximately $37 million shares when applying the treasury stock method to these vested options.

Finally, consistent with the guidance provided during our last earnings call, we are continuing to target positive free cash flow of approximately $5 million for the full-year 2013. This range assumes capital expenditures of $7 million to $8 million for the full-year.

While we do not normally provide quarterly cash flow guidance, we wanted to highlight that we expect free cash flow during the second quarter to be negative $2.5 million to negative $3 million, taking into account a one-time disbursement of approximately $2 million as we move to a new zero accrual vacation methodology for all of our U.S. employees.

The methodology is similar to the systems that have been adopted at many other leading technology companies. The advantage of this new approach to vacation is that it eliminates the need to carry a vacation accrual on our balance sheet while providing our management team and employees with a more modern and lightened approach to how they planned the time they were from the office.

In addition, note that the cash disbursement associated with the purchase of Mail Distiller, we’ll be essentially offset by the expected proceeds from ongoing stock option exercises as well as contributions to capital from our employee stock purchase plan.

It is important however to note again that we plan to continue to reinvest any upside performance in terms of billings and or revenue back into the business rather than to deliver any near-term upside in terms of profitability or cash flow. As well, we may still choose to invest more aggressively over the course of the year than what is reflected in our current guidance depending upon the market conditions in our target markets.

So in summary, we had a strong start to the year and remain very optimistic about our ability to maintain the momentum driven by a healthy pipeline of business worldwide and the continuing demand for our cloud based security and compliance solutions.

With that, I’d like to thank everyone for taking the time to join us on our call today and we will be happy take your questions at this time. Operator?

Question-and-Answer Session

Operator

Yes, thank you. (Operator Instructions) And we’ll take our first question from Rob Owens at Pacific Crest.

Rob Owens – Pacific Crest

Great, thank you and good afternoon everybody. I want to drill down a little bit in to the acquisition of MailDistiller and just what that brings to the table relative to what you guys didn’t have from a functionality standpoint before or a geographic standpoint?

Gary Steele

Hi Rob, it’s Gary. Yeah, so MailDistiller has a couple of key capabilities that we didn’t have in our grand product portfolio. First, they have a multi-level channel interface that enables channel partners to easily provision and to, customer management directly from a very compelling UI, and that is something that is absolutely critical to govern MSPs and multi-tier distribution organization, so that’s exciting. And then the second thing is their end user UI, their admin UI are really designed for that mid and small enterprise. So, a much simpler set of capabilities that make all the functionality a little bit more accessible for that smaller enterprise for those few things.

Rob Owens – Pacific Crest

Great, thanks. And then second, if we can talk a little bit about the duration. I understand that it was at the low-end and without full-year deal and without it, it was below again. So you’ve seen a couple of quarters below. How should we think about that kind of for remainder of the year as you look at your renewal pipeline and your expectations for multiyear renewals? But we continue to see that at the low-end and could that pressure bill in, because even though it’s been at the low-end, you’ve had phenomenal billings growth last couple of quarters? Thanks.

Paul Auvil

Yeah, a good question, and this is Paul. So, as we look at it, when we thought about putting our guidance together that we shared both for second quarter and the full-year, we have in mind, maintaining a duration that’s at the low-end of that range in that 20 to 25 month range. So to the extent that for whatever reason we saw pressures to cause that duration to be higher, it could potentially create billings upside. But as we’ve discussed many times before, shorter duration typically means higher price per user, because as a result of getting a shorter duration kind of come towards cash upfront.

The customer ultimately is paying more per user per year. So there’s kind of a trade-off between more billings production on that longer duration contract versus a better revenue production on shorter duration. And so as we’ve talked about several times before, we continue to focus on driving towards shorter duration where we can. but like this deal that Gary highlighted, the Fortune 100 financial services company, sometimes for various reasons for the customer, they just prefer to make the long-term commitment and put the cash to work now. And so we have some control over driving duration downward, but at the end of the day, the trigger ultimately resides with the customer in terms of how they want to structure the contract and then the pricing that flows through from that.

Rob Owens – Pacific Crest

So is there anything in your renewal pipeline, to the second part of the question that’s going to extend duration throughout the back of the year or we should just continue to expect it at the low-end of the range, and I think it speaks to the strength and velocity that you’re seeing with customer acquisition here, if I look at the March quarter, the December quarter?

Paul Auvil

Yeah. I would say, to answer that question specifically, there’s nothing that I see the pipeline right now that would put upward pressure on the duration. And again, another comment that we shared with people in the past is, with new customers, we’ve been sent to the sales force to go in and essentially drive shorter durations where they can and their compensation plans are designed accordingly, although ultimately, there is only a limited amount of control they have, because of the customer still may choose to do a multi-year transaction and we’ll support that effect for customers’ preference. For renewals, we do have historical pipeline of both one, two and three-year deals that come up for renewal in given quarter. Many customers do prefer to just stick with whatever duration they’ve had in the past. so a three-year deal will often get renewed again as a three-year contract.

That said, we do look to move to longer duration contracts to shorter duration where we can. but again, only if I can move to price per user out, if I can’t, I’m certainly not going to move to a shorter duration contract and not get better overall price premiums or [prior] economics. So the net of it is, as we look at the current pipeline, we feel reasonably comfortable right now maintaining our duration in the low-end of 20 to 25 range.

Gary Steele

And Rob, one other comment in the Postini conversion customers had done one-year contracts at Google. and so they’re pre-conditioned to do one-year contract as they look to move to an alternative solution. And so as we progress with those conversions, I think you’ll see a lot of our new business year-on-year.

Rob Owens – Pacific Crest

Great, thank you guys.

Paul Auvil

Thanks, Rob.

Operator

And we’ll go next to Phil Winslow with Credit Suisse.

Phil Winslow – Credit Suisse

Hi guys, thanks guys and congrats on a great quarter. You’ve done through a lot of people with accelerating billing these days. Just want to dig into a little bit as far as outside this quarter. Obviously, you talked about pretty good upsell into your existing customer base and the new products as well as your good run rates versus Postini. I wonder if you could just provide us with some more color there. And then in terms of how you’re seeing increased billings expectations, how should we think about sort of the mix coming from, call it competitive wins versus upsell? Thanks.

Gary Steele

Yeah. So I’ll start and Paul will have additional comments. So I think the one thing that I would say is the competitive landscape as we indicated in the script. The competitive landscape continues to be very positive for us. So it’s a combination of the Postini conversions that are happening today and we do anticipate that those run through the course of ’13 and into ’14.

The second thing is we’re seeing other competitors be weaker than historically seen. So McAfee has a lot of legacy products out in the market. Those customers are looking for alternatives and they’re actively evaluating Proofpoint and we feel like we’re well positioned to drive conversion. So that’s a piece of it as well.

And then finally with a strong product cycle, with the introduction of TAP, Targeted Attack Protection, the increasing concern around that persistent threat. That’s also getting us audience with a lot of people who are evaluating what they want to do in that particular space. It’s also giving us an audience to talk about our broader product line and introducing us into a broader set of customers.

So I think there’s a lot of things working in our favor as we go out and drive both new business that add on. And then the final comment that I make on add on is I think we’re getting closer to our – through a conservative marketing and sales effort, I think we’re getting closer to our customers and we’re finding ways to drive additional capabilities into those accounts. The example, the large transaction that we had this quarter was just an example of that where we had a very close strategic relationship with the customer, they had a key compliance problem that we were able to solve for them. And that was a nicely executed transaction that happened over a couple of quarter period.

And Paul, do you have additional comments?

Paul Auvil

Just one, that was very comprehensive. I think the only thing that I’d add is you may remember from the time that we went public, 2011, our mix of new versus add on was about two thirds new, one third add on. And over the course of 2012, we’ve migrated that slowly. So two of the four quarters of 2012, we were at the 50-50 mix, which is our long-term target. we were pleased here again in Q1 ‘13 that we were at 50-50 and I feel like as Gary described, when you look at TAP and some of other products in the productivity of the add-on pipeline we’re developing. We feel like that add-on business is definitely developing the momentum that we were investing toward in 2012. And so as a result, I can’t say for certain that every quarter, we’re going to be at 50-50, I feel like we do have a formula that’s working in terms of driving about half of the business that’s driving growth from new and about half from add-on, which is where we want to be as a business right now.

Phil Winslow – Credit Suisse

Great, thanks guys.

Gary Steele

Thanks, Tom.

Paul Auvil

Thanks, Tom.

Operator

And we’ll go next to Tom Ernst with Deutsche Bank.

Unidentified Analyst

Hey, guys. This is (Inaudible) for Tom. I have a question about TAP. For last quarter, you shared that half of TAP revenues came from existing customers and the remaining half came from you. How is that mix in this quarter for TAP?

Gary Steele

Yeah, It’s very similar. so one of the things that was really encouraging is we’re seeing a high interest level from our installed base as it relates to TAP. Customers are actively evaluating, looking at it and seeing the value that it can deliver to their organization. At the same time, as we indicated in the script, it’s providing an entry point into new opportunities where our customers want to talk about advanced persistent threat and they want a solution to these kinds of issues. TAP is actually getting us into accounts where we’re then selling the broader suite. So it’s really – we’re very pleased with the results we’re seen basically half going to new customers and half going to our installed base.

Unidentified Analyst

Got it. On the big circular deal, it was an add-on win. What did they have before, and what was sold as an add-on, if you guys can share that? What parts do they have existing and what was the add-on? Was it more suites or was it a new product or the existing product?

Gary Steele

So, what the customers had previously was a protection solution and what we’ve sold them as the add–on was technology to help them with the compliance initiative.

Unidentified Analyst

Okay. So, having what is the product line?

Gary Steele

Yeah. if you think about it in the context to kind of four classic products for protection privacy, archiving and governance, this is sort of a sophisticated capability that we’ve developed for them that sits between, I will describe it is protection privacy and archiving. so we’re able to pull together kind of an amalgam of those capabilities to serve kind of a specific proprietary needs. so we’re able to use the standard capabilities of our platform to deliver something that’s a unique capability to meet requirement within their infrastructure. that again, we think we can probably replicate the same combination potentially across other companies of that kind, but it’s not a standard off the shelf capability that you’d necessarily call it, classic product line offering per se.

Unidentified Analyst

Got it. Cool. Just one follow-up, from the guidance for next quarter and for the year, is it material contribution from the MailDistiller or is it fairly non-material at this point?

Gary Steele

Yeah. So as I described a little bit during the script, MailDistiller was another one of those classic acquisitions where, what we’re essentially buying is, people at technology platform and no real material revenues. And so as Gary described in terms of what it is, they’d bring to the table, it’s really what they developed it’s really elegant is this wonderful front-end that enables us to go out and engage in a very different way with channel partners, so that the channel partners come in, provision and essentially we’re on to manage a privacy and protection business their customer base, with limited touch from us. And so very little revenue comes with the capability and we really view it now on a go-forward basis. We’ll take the back-end privacy and protection capabilities that they have licensed from third-parties will place them with hours.

and so we’re essentially looking to drive, think it this is another enabling lever to drive organic growth around our privacy and protection solutions is the right way to think about it. And so to be clear, when we though about our guidance spend for the remainder of the year, since we’re really just getting started with driving a go-to-market initiative around that, we have I would describe as an extremely modest additional element built into revenue guide based on how MailDistiller will contribute. So there’s definitely potentially some room for upside there to the extent that this helps to accelerate some of our partner engagements and drive additional billings and the revenue for us over the course of the rest of the year.

Unidentified Analyst

Perfect, thank you.

Gary Steele

Thanks.

Operator

And we’ll take our next question from Robert Breza with RBC Capital Markets.

Robert Breza – RBC Capital Markets

Hi, thanks for taking my questions. Just quickly and I’m sorry for the airport noise here. Gary, I’m wondering if you could talk a little bit about what you’re doing on the international market, clearly that was a source of strength here. Are you investing more there on a relative basis on the international side or doing additional new marketing programs, I’m just curious to see what you’re using to drive that strength. Thanks.

Gary Steele

Yeah, Robert, I think it’s actually pretty simple. It’s really the investor that we made through 2012 is early maturing. And we’re seeing the results of the efforts that we put in 2012 now paying off. And so there’s been a very – for example, there has been a very active channel recruitment effort. Those efforts have really come to provision with closing into balance and exclusive that we’ve referenced in the call script earlier.

We’ve also been working with a good number of these large customers and some of those really just came to provision in the quarter. We believe that a lot of the investment that we made in 2012 will payoff in 2013 and we look forward to continue to deliver results around that.

Robert Breza – RBC Capital Markets

Thank you very much.

Gary Steele

Thanks Rob.

Paul Auvil

Thanks Rob.

Operator

And we’ll go next to Jonathan Ruykhaver with Stephens, Inc.

Jonathan Ruykhaver – Stephens, Inc.

Hey guys, congrats on the quarter. If you could just clarify the large deal that you referenced, the large 4-year deal, you mentioned a seven figure value of around that. Is that annually or is it over the term of that deal?

Paul Auvil

It was a 7-figure deal in terms of the upfront billing. I can tell you that the annually recurring revenue value of it is amortized over that full-year period is high six figures.

Jonathan Ruykhaver – Stephens, Inc.

Okay, okay. Perfect. Second question just regarding TAP, two things I’m curious about. first, can you talk about pricing; I believe the per-seat pricing is similar to the Proofpoint enterprise protection. The value would appear to be much higher and I believe some of the private competitors do price the similar offering at a much higher rate. And then just second, how do you view TAP as a product over time? Does it remain as a standalone product or does it become a feature of it, of an e-mail security platform?

Gary Steele

Yeah, it’s a great question, this is Gary. So the first is on pricing. so again, we’ve indicated that our pricing for TAP is basically consistent with our pricing for protection and that you should view that as introductory pricing as we had indicated in previous call, we were still doing price discovery. We’re really using the opportunity as we close out at the first few quarters; really in a standalone pricing will end up falling out.

You referenced private companies in this particular space charging more. I think the one thing that is different here that I’ll remind everybody on the call is that our price is a subscription-based price whereas many of the organizations out are selling on perpetual licenses with appliances. So you have to make the contrast between a perpetual appliance-based pricing model and a cloud-based description-based pricing model. I think we’ll continue to adjust our pricing and update you as we made for the pricing generation, but it really is a different philosophy in a different way, I’m thinking about how to go after this market, and if you can remind me on your second question?

Jonathan Ruykhaver – Stephens, Inc.

Just how do you view TAP over time? Is it a standalone product or a feature of an e-mail platform?

Paul Auvil

Yeah, another great question. So we do view it as a standalone set of capabilities. Customers view it that way as well. We’ve had no issues communicating with customers, the value that it provides over protection and the fact that and what we’ve seen is high resonance around the fact that they’re willing to pay, incremental dollars, we don’t see these things combining and we have – we built an aggressive roadmap around this product that you’ll see rolling out over the course of the next 36 months.

Jonathan Ruykhaver – Stephens, Inc.

Okay. And you did comment in the December quarter on, I think it was several dozen customers added for TAP. can you provide us an update in terms of what you might have added in the March quarter?

Paul Auvil

Yeah. I’d call it several dozens again.

Jonathan Ruykhaver – Stephens, Inc.

Okay, okay, good. And then just from a cost of goods perspective, looking at TAP, is there anything around the analytics and performance that drive a higher cost of compute perspective relative to the enterprise protection product?

Paul Auvil

No, to your point, it’s a very different set of technology and capacities that drive TAP as opposed to the e-mail protection product line. But even with the introductory pricing as Gary described, we have our gross margin targets to operate 70, moving towards 75 and potentially above. So pricing and costs are developed in that context and I would say there’s certainly room for some additional leverage in terms of the cost model associated with developing and driving full production ramp of TAP above and beyond what we are currently seeing in terms of the cost on the income statement. Obviously, absolute costs will go up over time. But I think we can get measurable additional leverage from a gross margin standpoint as that business scales.

Jonathan Ruykhaver – Stephens, Inc.

Okay, good. And then just the final question I have is just regarding the IBM partnership. Has it been performing? Is it meeting your expectations where geographically are you seeing more success?

Paul Auvil

Yeah, as we indicated in this script, it did meet our expectations in the quarter. We did have another good handful of deals closed. We’re also seeing the pipelines continued to build, and I would say the pipeline is really operating across EMEA, North America including Canada, which we’re encouraged by just that distribution of pipeline. And so as we continued to ramp that relationship, we’re encouraged by how the business is building.

Jonathan Ruykhaver – Stephens, Inc.

I think you’ve commented in the past that the size of deals hasn’t necessarily been on the large side, historically do you see any change from that perspective?

Paul Auvil

Today, you would see a broad range of customer sizes in our pipeline. and for us given that the relationship is new with IBM, I think it’s early to be able to try to project it, some of those larger deal close and what is the timeframe on those.

Jonathan Ruykhaver – Stephens, Inc.

Okay. Okay, good enough. Thanks guys.

Paul Auvil

Thanks, Jonathan.

Operator

And we’ll go next to Craig Nankervis with First Analysis.

Craig Nankervis – First Analysis Securities Corp.

Thanks, good afternoon. Nice quarter also. Back on TAP, can you say if your new customer win rate has accelerated since TAP was introduced or how many new customers you ran it, because of TAP? Is there any way to sort of get some sort of feel for the impact the product is having on you in that direction, in that way?

Paul Auvil

Yeah. I think it’s a little early to comment on win rates, because I think we’re new at selling the product. I think we need probably a few more quarters of sales execution to really nail that down. What I would say is that the pipeline for TAP continues to expand. We’re incredibly encouraged by what we’re seeing. The market is relatively new and everyone is looking for or has a list of things that they’re looking for. And so we’re simply encouraged by the rate at which the pipeline is building, the rate at which we’re doing evaluations with customers. That’s all very encouraging TAPs at this point.

Gary Steele

Yeah, I think the other thing I might add and Craig, I think you and I may have discussed this one point in the past. But the other dynamic that we found that’s interesting with TAP is whereas with the Postini service, Google has essentially announced that there’s some setting it and so it inherently is creating a sales cycle. Many of the other people that we compete with, while we’ve seen the effectiveness their products drop off over time, many customers are in the middle of multi year contracts. And so they may not necessarily be looking even though they’re not completely happy with the service.

What we’ve found with TAP is it has created an opportunity to get in and rekindle a conversation with those customers that we think could then ultimately lead to accelerating the rate at which they turn over their existing service, whereas in the status quote of our TAP that’s a conversation that we may have needed to wait until we got within maybe 6 months to the end of that contract period to get the dialog going.

TAP provides natural entry to get a conversation going. And even if they choose not to buy TAP, it just helps drive more active conversations with perceptive customers. And so it’s certainly helpful in that regard. It’s hard to measure exactly what that benefit is, but we can definitely see it in new-gen activity.

Craig Nankervis – First Analysis Securities Corp.

Okay, and thanks for that color. Can you discuss Postini’s specific competitive environment versus maybe what you expected? We’re hearing for example that some of the larger competitors we think would be buying for that business or maybe not so aggressive and it’s a bunch of smaller companies pursuing the Postini businesses. Is there any perspective you can offer on what you see happening?

Paul Auvil

Yes, a little bit. Again, this is one of that that’s a little hard to quantify. We can provide a little bit of color. I would say that we’re operating in a competitive environment right now where some of the larger companies are just focused on other banks. Just in general, they’ve got other issues and other challenges or so, that’s as focused as we might be in terms of going after that opportunity. and if you look at the investment and focus that we have around that we’re going after the big customers Postini, we also through the acquisition of MailDistiller and the introduction of Proofpoint Essentials, we want to soak up a bigger and broader base Postini accounts. So, I would say, today, if you look across traditional competitors. I’m not sure that there’s anybody as focused as we are frankly. And it’s probably some smaller guys that want to soak up some of that business. but I’m not sure that they’re well positioned to go out to types of the customers and scale the customers that were closing.

Gary Steele

All right, okay. Thank you. And lastly, Paul, you mentioned in your remarks that you guys may choose to invest more aggressively through the year, depending on circumstances market environment et cetera. Has that always been true of your perspective or does that comment represent some sort of incremental change in your thinking?

Paul Auvil

I wouldn’t say it’s an incremental change in our thinking. I think it’s an important caveat to make sure the investment communities are wear out, because there are possibilities that things could change competitively in a way that either, because we think there is a way for us to even more productively deploy sales resources, and hence we want to accelerate hiring, but there’s still a ramp associated with those. and it could then cause us to have less profitability or cash flow between now and end of the year, as compared to the guide that we just provided whether it’s staff’s area or another one. We think it’s just important to have that marker out there, just to apply full disclosure to the investment community in that regard.

I think as Gary mentioned, Tom Cooper did great job for us, but he is now off pursuing some of his own individual interest in his retirement. We have a strong team of leaders that are running the sales organization now that he put in place in his absence. But as we look to bring a new leader in, and we get to know that individual better, it could be they’re assuming something that we haven’t brought out before changes to the status call that might cause us to rethink some of our investment strategies there as well. This is all the speculation at this point, but there is a couple of examples of things that we might do.

Craig Nankervis – First Analysis Securities Corp.

Okay, thank you. That’s helpful. Again, nice quarter.

Gary Steele

Okay, Craig.

Operator

And we’ll take our final question from Tim Klasell with Northland Securities.

Tim Klasell – Northland Securities

Hey good afternoon and my congrats as well. Just jumping back on the MailDistiller acquisition, as you alluded to earlier Gary, that seems like that can address a different end user than you have historically gone after. How does that sort of affect what you think as far as your total addressable market, is it significant or is it maybe just a nice add-on?

Gary Steele

I think the most significant thing here is that it’s really opening up the broader channel that we can go to pursue with something that is very compelling with this new channel front-end. So we think that the managed security channel is an important one, and it gives us access to a broader set of mid-size and small enterprises. those are enterprises today that we can serve very efficiently, so it creates efficiency there. This does definitely open up incremental market that I think it’s opening up away to better serve and serve more efficiently to small and mid-size enterprise.

Tim Klasell – Northland Securities

Okay, great. And then there’s something over to TAP. is the way to understand the TAP could be used in front of somebody else’s security offerings, as a few does and that you signed in this quarter? Are there any examples like that?

Gary Steele

We do have a handful of examples exactly like that where they have something in place for their current protection. we’ll obviously try to displace that at the time when it becomes the subscription runs out. But that is definitely part of our selling strategy.

Tim Klasell – Northland Securities

Okay, great. The rest of my questions have been answered, and again, great voices.

Paul Auvil

Thanks.

Gary Steele

Thanks, Tim.

Operator

This does conclude our question-and-answer session. I would now like to turn the conference back over to Gary Steele for any additional or closing remarks.

Gary Steele

Thanks, Amber. I just want to take a moment and thank everyone for joining us today. We are very happy with the results that we delivered and we’re off to a good start for the year. Thanks for taking the time. Bye-bye.

Operator

Thank you. That does conclude our conference. You may now disconnect.

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