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Intuit Inc. (NASDAQ:INTU)

F3Q09 Earnings Call

May 20, 2009 4:30 pm ET

Executives

Jerry Natoli - Vice President, Investor Relations, Treasurer

Brad D. Smith - President, Chief Executive Officer, Director

R. Neil Williams - Chief Financial Officer, Senior Vice President

Scott Cook – Founder

Analysts

Sarah Friar – Goldman Sachs

Kash Rangan – Merrill Lynch

Bryan Keane - Credit Suisse

Laura Lederman - William Blair

Brent Thill - Citigroup

Heather Bellini - UBS

Jim Macdonald – First Analysis Security Corp.

Adam Holt - Morgan Stanley

Scott Schneeberger - Oppenheimer & Co.

Michael Millman – Millman Research

Brendan Barnacle – Pacific Crest Securities

Gil Luria - Wedbush Morgan

Ross Macmillan - Jefferies & Co.

Operator

Welcome everyone to the Intuit third quarter and fiscal year 2009 conference call. (Operator Instructions) With that, I will now turn the call over to Jerry Natoli, Intuit's Vice President of Finance and Treasurer. Mr. Natoli?

Jerry Natoli

Thank you. Good afternoon and welcome to Intuit’s third quarter 2009 conference call. I’m here with Brad Smith, Intuit’s President and CEO; Neil Williams, our CFO and Scott Cook, our founder.

Before we start, I’ll remind you that our remarks include forward-looking statements. There are a number of factors could cause Intuit’s results to differ materially from our expectations. You can learn more about these risks in the press release we issued earlier this afternoon, our form 10K for fiscal 2008 and our other SEC filings. All of those documents are available on the Investor Relations page of Intuit’s Web site at intuit.com. We assume no obligation to update any forward-looking statement. Some of the numbers in this report are presented on a non-GAAP basis. We’ve reconciled the comparable GAAP and non-GAAP numbers in today’s press release. A copy of our prepared remarks and supplemental financial information will be available on our Web site after this call ends.

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

Brad Smith

Thanks Jerry and thanks to all of you for joining us today. Today we announced third-quarter revenue growth of 9% and non-GAAP operating income growth of 15%. Both results are at the upper end of our guidance we provided last quarter and I am pleased with our performance in several key areas.

Consumer Tax had another successful season. Customers grew by 11% and our data suggests we gained share overall, with very strong performance in the online segment. At the company level, our revenue generated from connected services has grown 15% year-to-date and is now 56% of the company’s total revenue and we continued to grow our operating income faster than revenue by increasing our productivity while continuing to be disciplined in our resource allocation.

With three quarters in the books, we are narrowing our full-year revenue and earnings guidance. We are still within our previously guided range and we are on track to deliver another strong year. I will share more of my perspective later, but first let me turn it over to Neil to walk us through the financial results.

R. Neil Williams

Thanks Brad. Let’s start with companywide results. Third quarter revenue was $1.4 billion, up 9% year-over-year. Non-GAAP operating income totaled $837 million, up 15%. Non-GAAP diluted earnings per share was $1.68, up 21% and GAAP diluted EPS was $1.47, up 11%.

Cash from operations was $935 million, up 12% year-over-year. As Brad mentioned, revenue and non-GAAP operating income came in at the upper end of our expected range. We are pleased we have been able to demonstrate the operating rigor to consistently deliver operating income leverage.

Now let’s review the business segment results starting with the tax segments. I will focus on year-to-date results for the tax segments because that is most relevant given where we are in our reporting cycle. Consumer tax third quarter revenue was $777 million. Year-to-date revenue was up 7% from last year and year-to-date total consumer tax units were up 11%. Revenue per return was in line with last year, but total revenue did not come in where we expected.

The shortfall was primarily due to our decision partway through the tax season to eliminate charges for multiple returns prepared with the TurboTax desktop product. While we anticipated an adverse impact from the change, we expected to make up the shortfall with higher unit volume. Though the season-end peak was higher than last year, it wasn’t as high as we had expected.

That said, our free offering performed as expected and brought in lots of new profitable customers and we gained share versus low-priced competitors and tax stores. We are still analyzing the season and will have more information at investor day. Our accounting professionals segment wrapped up a very good year. Revenue for the quarter was $179 million, and year-to-date revenue was up 8%.

Let’s turn to small business. While the environment remains difficult for our small business customers, we offer solutions that help people save and make money and customers are responding to that. Third-quarter revenue was $307 million, which is 1% higher than the third quarter of last year. We also continued to grow customers.

Within small business, QuickBooks segment revenue totaled $149 million, down 8% from last year. QuickBooks units grew 7% for the quarter, and are up 4% year-to-date. Given the environment, we are pleased that we increased our total units, especially considering the strong quarter we had a year ago and as you all know unit growth is key to the health of the small business ecosystem because it gives us the opportunity to monetize these customers over their lifetime through cross-sell and up-sell efforts.

The payroll and payments segment had another good quarter, with revenue of $157 million, or 11% growth. Our payroll retention rate remains in the mid-80s and our customer base grew year-over-year. We are particularly pleased with the growth in our online payroll product. The opportunity to sell payroll solutions to customers who are outside the QuickBooks base is very attractive.

Our payments business is also holding up well and we grew customers 12%. Average charge volume per merchant remains lower than last year, although the 8% decline this quarter is in line with our expectations. The financial institutions segment had revenue of $78 million in the third quarter or 3% growth. We see strong customer interest in our FinanceWorks products and we are pleased to see increasing growth in our user bases.

We had 5% growth in our Internet banking users and 20% growth in bill pay users. On the balance sheet, we ended the quarter with $1.7 billion in cash and investments. We still expect to generate about $900 million in operating cash for the year. We did not repurchase shares this quarter and we have $400 million remaining in the current repurchase authorization.

Capital expenditures for the quarter were $31 million and we are on track to hit our $200 million capital spending estimate for the year. We have a strong balance sheet that allows us to take advantage of strategic opportunities. Our preferred use of cash is to drive growth by investing in the businesses we have or in strategic acquisitions. Each of our businesses has an inorganic roadmap that is part of their long-term strategy.

In general, we look for skills, technology and products that will accelerate our ability to grow. We expect a risk adjusted return of about 15-20% on our investments adjusted for risk and we continue to invest in internal development and we made a couple of very small technology buys in the second and third quarters.

Turning to guidance, with three quarters in the books we are tightening our full-year revenue guidance. Fiscal 2009 guidance is now revenue of $3.155 billion to $3.185 billion which is annual growth of 3-4%. Non-GAAP operating income of $918 million to $938 million which is annual growth of 7-10%. Non-GAAP diluted EPS of $1.78 to $1.82 which is annual growth of 11-14%.

Full-year consumer tax segment revenue guidance has been updated to $980 million to $990 million which is annual growth of 5-7%. All other segment revenue guidance remains the same. Now I will turn it back to Brad.

Brad Smith

Thanks Neil. As we said last quarter, good companies find ways to capitalize on difficult times to strengthen their position. That is what we are doing. Our goal remains the same. We strive to be an innovative growth company that helps consumers and small businesses achieve their dreams. We contribute to their success by helping them save and make money with our easy-to-use products and services.

We are seeing tangible results from the five-point plan we put in place last fall to execute through this downturn. As a result, we are growing our customer bases and we are continuing to drive revenue and operating profit growth. I want to share with you a few of the examples for each of these five principles.

If you recall, the first principle of our plan is to stay laser focused on acquiring customers. Growing our customer bases remains our number one goal in this downturn. You can see the results in consumer tax where we grew customers 11% year-over-year with 36% increase in growth online. That is faster than the category and resulted in a 5-6 point gain in online share which we know is the most important segment in tax.

You also see similar results in small business where QuickBooks units have grown the past two quarters in a very tough environment and we have gained an additional 3 points of unit share. Our financial institutions business is also accelerating customer growth driven by our improved online banking offering and a streamlined bill-pay process that improves ease of use for end users.

Now let me shift to the second principle which is to continue to deliver operating income growth in spite of pressure on the top line. Our operating income increased 15% this quarter and we expect to end the year with operating income up 7-10%. Now in support of this we took a hard look at resource allocation last year focusing on G&A and other investments and that has not stopped. We continue to make tough decisions to make sure we are allocating our resources to the highest-yield opportunities.

Now our third principle is to continue to go for growth. We are investing to grow share so when this turbulent time comes to an end, we are going to be ahead of the game. For example, our free initiatives continue to work in every business. We are bringing new customers into the franchise and we have proven we are able to monetize them. For example, our Simple Start free offering which we shared with you on the last call generated about $30 per customer in the first 12 months is now averaging $40 per customer because we have improved our ability to cross-sell and up-sell. Just a reminder, the paid version of this product used to be $49 when on promotion at retail. Now we are bringing new customers into the franchise that are incremental with our free offering that we end up monetizing for $40. That is a pretty good equation no matter how you cut it.

Turbo Tax free also remained extremely effective as a new way to bring customers into our tax franchise and we maintained our price per return and segment margins. We also continue to grow our payroll segment. Our new Online Payroll product is gaining strong momentum. We are adding thousands of new customers each month and we are extending our payroll franchise outside of the QuickBooks base.

Now I will shift to our fourth principle which is protecting and nurturing innovation. In an environment like this it would be easy to scale back on innovation. But that is not us. We are putting it front and center. Even as we adjust our short-term spending we are planning for long-term growth by keeping the ideas flowing and continuing to explore new markets.

For example, we recently launched our Quicken Health Expense Tracker offering through Cigna. We have two additional plans in the queue for the coming months. As a reminder this is an online tool that makes it easier to keep track of your medical bills and resolve physician charges.

We are also making tangible progress in the mobile space. In the past few weeks we launched Quicken for the iPhone and we will be announcing this week the launch of GoPayment, a mobile application that allows small businesses to process credit card payments on their mobile phones. All in all our internal pipeline of innovative offerings has never been stronger.

Our fifth and final principle is to capitalize on opportunities for strategic alliances, mergers and acquisitions. Our strong balance sheet makes it possible to invest for the long-term and take advantage of M&A opportunities when they make sense. Not all of these acquisitions and partnerships make headlines, but even the small ones can move the strategy forward. For example, we made a technology purchase in the second quarter that will accelerate our delivery of CRM offerings to small business customers.

This quarter we purchased technology to help users understand and manage their online reputations or what we call word of mouth which is the number one driver of new customers for small business owners and we recently signed two strategic partnerships to integrate FinanceWorks into our partners’ banking channels. As Neil mentioned earlier, we continue to evaluate opportunities of all sizes and we have rigorous ROI hurdles in place. This allows us to ensure that we continue to effectively allocate the company’s capital relative to alternative uses of cash.

When you put them all together, these five operating principles are simply working. They are delivering concrete results, they are extending our leadership position and they are helping us succeed. Most importantly they are enabling us to help our customers do exactly the same thing. We are on track to deliver a solid year in a very difficult environment and we are setting ourselves up for even stronger results in the future.

With that, operator, I will turn it back over to you to go to questions.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Sarah Friar – Goldman Sachs.

Sarah Friar – Goldman Sachs

Just quickly on the cost side, clearly you have a great focus here and the quarter came in quite strong. As we look at the guidance it seems that you are getting a little bit more for the fourth quarter. Is there something incremental from a cost perspective that gets spent in Q4 we should be thinking about as to why the margins will kind of contract again?

R. Neil Williams

For the fourth quarter there are a couple of things going on. We are not expecting revenue to really change in momentum in the fourth quarter so our revenue forecast is a little more conservative. Secondly, the fourth quarter is when we begin to invest and really build for next year. So we have some expected investments in the fourth quarter that really position us well for 2010 and beyond. Those are the two big issues really affecting the fourth quarter performance.

Sarah Friar – Goldman Sachs

Are those more discretionary type investments like marketing and so on or is it true infrastructure build? I’m just wondering how much flexibility you have in terms of spending it or not as you see the quarter progress.

R. Neil Williams

I would say they are more discretionary in nature. They are things that we look at the pay back and the return we expect for those. They are still part of our plans that we are putting together for next year.

Sarah Friar – Goldman Sachs

On the linearity for the quarter since you are one of the best companies for us to look to as we think about SMB’s what did you see as you went through the quarter? Any signs that the purse strings were starting to loosen up as you saw it month by month or not much change right now?

Brad Smith

I think first and foremost entrepreneurs tend to be optimistic and resilient. They find ways to innovate and fight through a tough downturn but to be frank with you there is nothing we have seen that is sustainable that would indicate we are on the ride up. In fact, we plan no improvement for the balance of this year or even into 2010. We see some lift up and then some blips down. Some would argue that would suggest you may be at the bottom but until we can actually see sustained trajectory improvements we are not going to bank on an improvement.

Operator

The next question comes from Kash Rangan – Merrill Lynch.

Kash Rangan – Merrill Lynch

On the small business side, I think the NFIB had a survey which indicated that sentiment stopped getting worse. I’m just curious to get your take on it. Do you consider that to be a leading indicator of what could happen to the QuickBooks franchise? Also secondly, if you could talk about the payment side of the business we have seen very good metrics on the number of end users and the banking product and bill payment. How far are we or how close are we to the tipping point where this end user usage actually translates into more materially faster revenue growth, I guess, on those two products?

Brad Smith

Let me start with the first question on small business optimism. I think small businesses are the last ones to become pessimistic about the economy and I am not expecting we are going to be the first ones to see the optimism coming out. That is simply because on a day to day basis they find ways to fight through whatever the current environment is. I would say that what we actually look at is their behavior. Are they making purchasing decisions? Are they able to get customers when we talk to them? Are they able to actually keep the customers they have? Are they able to collect the bills from their customers? Right now I would say that it is still a dog eat dog world for small businesses but again they are finding ways to make it happen. Net/net I don’t say that is a leading indicator or a lagging indicator. We actually just look at our business results and that gives us the best indication of what performance looks like for small businesses. Right now it is no different than it was a quarter ago.

When you ask about the online banking, we are actually seeing improvements with our active ease of use work that we have been doing on online banking and bill pay. By improving ease of use for end users we have been able to grow our online banking customers quarter-over-quarter and we have had two very strong quarters of bill pay growth. At the same time we continue to have a good, solid pipeline of new banks signing up and with the current partnership we announced with Metavante we are able to sell stand alone finance work without the online banking platforms and Digital Insight. We can actually attach it to Metavante’s other online banking platforms which gives us a new way to reach new customers.

I think what you are going to see as a tipping point is as we exit Q4 of this fiscal year we are going to be on a continuing trajectory up in the Digital Insight business and that will deliver double digit growth as we head into fiscal year 2010. That is for that particular segment.

Operator

The next question comes from Bryan Keane - Credit Suisse.

Bryan Keane - Credit Suisse

We are in an obvious pretty serious recession here and yet you are growing units in QuickBooks up 7% for the quarter and I don’t think anybody expected you to be able to grow units that strongly in a recession. I guess how are you getting that done and where are these users coming from?

Brad Smith

Two things. One is we remained aggressive with our advertising. We have been aggressive with promotional discounts in retail. I think the bigger shift is one we have just recently shifted to and that is getting much clearer about the value proposition for small businesses. I will give you an example. We have now done work that tells us that a small business that uses QuickBooks improves their bottom line profitability 27%. That is over $13,000 a year for a product that costs you $199. By getting much clearer and better at executing things like that we are able to get customers into the franchise. That combined with things like Free Simple Start that we have been able to prove we can monetize get incremental customers in the category for the first time.

We are just playing offense and we think we are going to continue to be able to do that despite what the economy is and we find we can monetize those relationships over time.

Bryan Keane - Credit Suisse

I assume the strong unit growth in QuickBooks will help both payroll and payments going forward?

Brad Smith

It will. In fact, if you saw the results for payments this quarter we grew again new merchants and new acquirers coming in 12% and that is very healthy growth. Right now that particular segment has had a little drag because the average charge volume is down about 8% year-over-year but as soon as that charge volume starts to pick up with all these new customers we have brought into the franchise that is going to be a tailwind for that business. Our payroll business continues to execute great. We have retention in the mid 80’s which is world class levels compared to others. The online payroll product is adding thousands of customers a month. We are very excited about that space. I think you are going to see more for us in both payroll and payments.

Bryan Keane - Credit Suisse

I just want to switch gears to tax. I know you were expecting a stronger end to the year and it didn’t really materialize in terms of units. Any idea what happened or where those people went because you have a pretty good idea with the IRS numbers what kind of numbers to expect.

Brad Smith

I will tell you we really don’t have all the answers yet because the IRS hasn’t published the total results that they see. Let me put that into context. You are absolutely right. Revenue was disappointing for us in total but here is what we feel good about. We grew customers 11% year-over-year and we grew them 36% on line which you know that is the game to be played in the future. We were able to take share this year from tax stores and from the low end competitors on the web. In doing that we were able to hold revenue per return and margin in the segment year-over-year. You put all that together and what we have boiled it down to on our side is the fact we made the decision as we entered the season to do the right thing for the customer and that was to bundle our e-file price into our desktop product and that created a revenue divot. We thought we could offset that with incremental units and we were able to offset some of it but not all of it so at the end of the day we focused on the things we can control.

Once we see the IRS data we will know if there was any other shift. What we do know is the tax stores loss and we do know the competitors we go up against online lost and we gained. What we don’t know is what happened in the other segments that we haven’t been able to see up to this point.

Bryan Keane - Credit Suisse

It doesn’t look like because price per return was relatively flat it doesn’t look like you are seeing pricing pressure in that segment.

Brad Smith

No we are not.

Bryan Keane - Credit Suisse

Finally, I know you are not giving next fiscal year guidance but maybe you can just sum up how you are feeling about heading into next year?

Brad Smith

I think that we have played the game this year the best we can. We have gotten smarter and on some things we have gotten smarter later in the season like this value proposition messaging I mentioned in QuickBooks. There is nothing we could have hoped for other than coming out of this particular year with more customers than we went in, with more market share than we had going in and with investments in our R&D pipeline that are producing new products like the mobile payments product I mentioned and others. If those things start to click like we think they will then as soon as this economy starts to turn and we continue to get better executing we should have a good year going into fiscal year 2010.

Operator

The next question comes from Laura Lederman - William Blair.

Laura Lederman - William Blair

Starting with the Digital Insight business, I know that you had problems getting some of the banks up and running and were expecting that to improve. Has that already started or is that still at that pace behind plan?

Brad Smith

We are still seeing banks delay implementation. What our team has done which I am very delighted with, our team continues to be very innovative, our stand alone finance product which is the ability to actually plug that into your online banking channel, most implementations in this business take anywhere from 3-6 months. Our team has gotten that up to a 1-2 day implementation. Even though we are still having some of our implementation to Digital Insight platform pushed out from quarter-to-quarter we are able now with the relationship like Metavante where we sell stand along finance work to get those up and running and implemented in banks which will give us the ability to create some revenue streams in addition to our fiscal business.

The short answer to your question is there has been no material change quarter-over-quarter. We are still signing banks up but getting them implemented on the date continues to be a little bit of a crap shoot.

Laura Lederman - William Blair

Shifting to a financial question you mentioned the number one use of cash would be investing in the business and number two would be acquisitions. Historically Intuit has done a lot of buybacks. What is your thought on buybacks going forward? Is that something you would return to when the environment is better and you don’t have to hold onto as much cash?

R. Neil Williams

I think we will always have a hard look at that as we put our plans together for 2010 and beyond and depending on what happens in the environment we will make those type decisions. In the meantime we really are pleased with some of the opportunities. Brad mentioned a couple of small acquisitions we were able to make in the last couple of quarters and to add to our skill sets and our technology base to accelerate growth in some of the products that we have. For the current time period I think we like where we are with our liquidity and our balance sheet structure. So we will wait and talk about share buybacks when we have a little more clarity about the economic outlook.

Laura Lederman - William Blair

Shifting to if you look at QuickBooks obviously nice growth in units. Is the revenue more a function of the promotion and Free developed between the revenue units or is there also general pricing as well? I’m just trying to understand mechanically the difference.

Brad Smith

You nailed it. It is basically the aggressive promotional pricing we have had to try to generate category growth and get customers in the retail stores where retailers have been struggling to get traffic. The other is free as a percent of the mix. As we have shared, we are starting to monetize those free products and are starting to increase quarter-over-quarter in terms of the average ASP. The short answer is the pricing reflects the fact we have been aggressive on promotion. Now we are getting much smarter in how to message what the value is for the price.

Operator

The next question comes from Brent Thill – Citigroup.

Brent Thill - Citigroup

Your operating income is out pacing your overall revenue growth pretty nicely. Underneath the comment you made about no improvement plans for the next year do you still plan to continue to grow operating income faster and just from a sense of the margin side where do you think you continue to get better margin profile ahead and in 2010?

Brad Smith

First and foremost we have a simple philosophy inside the company that we will grow revenue faster than expense. That gives us the ability to generate operating income leverage. We have even proven in this downturn if we have some top line pressure we are able to maintain that discipline while still investing in the future. The areas we continue to push on is we want to be more efficient and effective across the company. We think general and administration areas are areas we will continue to be more efficient. We are getting a better return on our R&D dollars.

In terms of R&D we are getting more productive. We are now moving to more small [teams] for fast experiments. We are also capitalizing on working with partners who are helping us do some of the development work. So across the board we have an intense pressure to continue to get more efficient and effective in how we do our work day to day. I think in one particular area it is just the rigor we have built into the company.

Operator

The next question comes from Heather Bellini – UBS.

Heather Bellini - UBS

I was wondering, you mentioned before you don’t see things getting better this year but you also didn’t say things were getting worse. I was just wondering what are the key external sets that you monitor whether it is a weekly or monthly basis that you think we should all be paying more attention to in order to watch for the inevitable turn in the markets?

Brad Smith

I wish I could give you a magic bullet answer on that. I have been searching for it myself. On one hand I think optimism indexes or indices, we all know that confidence drives growth so I am watching that both in consumer and small business but I kind of hedged how much I bet on that earlier in the answer I gave.

The second one is just purchasing patterns and actual behavior. For example, charge volumes. Small businesses count on customers shopping as much as big businesses do and right now we see the average charge volume down 8% year-over-year. So you can’t make gold out of straw and I think that is one of the things we will keep our eye on. If we see an up tick in the actual behavior of customer shopping or small businesses buying. Other than that unfortunately we don’t have a real magic formula that we are looking at. We just try to continue to execute as best we can given the current conditions.

Operator

The next question comes from Jim Macdonald – First Analysis Security Corp.

Jim Macdonald – First Analysis Security Corp.

For accounting professionals your revenue ticked up despite sort of flat volume. Could you talk about that and how that bodes for the future?

Brad Smith

Our accounting professionals division continues to do a really good job of delivering a customer experience and retaining customer’s year-over-year. One of the biggest levers we have is not to lose one of our tax prep customers to a competitor. That team had an outstanding tax season last year and they had another one this year where the quality, the experience if you called in for support, was good. We are also getting smarter at going into the customer base and finding additional problems that we can solve and selling them a solution. So things like QuickBooks Accountant Edition and Payroll we have been selling into the accountant base and we have increased our year-over-year penetration. Then last but not least it is a customer base that sees the increased value and is willing to take a price increase on an every so often basis and so some of that increase this year was price as well.

I would actually start with it is the quality of the service that our team is delivering. Second is we are finding new problems we can solve for accountants and we are selling some of our products into the base. The third is with that additional value we are able to get more price.

Jim Macdonald – First Analysis Security Corp.

Online payroll you said it was doing really well. How are people coming into that service? I know they can come into it a lot of different ways and it is independent of QuickBooks these days. What are you finding is the best entry point for people finding that service?

Brad Smith

Today it is primarily through the web. There are three big channels that we think online payroll can play going forward. One is on the web site itself. The second one is through accountant recommendations because the accountants would also love to be able to view their customer’s payroll reports and help them make sure there aren’t any mistakes. The third is through online banking channels like Digital Insight.

We started with our web presence being the strongest by working with our accountants and with Digital Insight to make sure we have a more pervasive presence there but right now it is primarily web.

Operator

The next question comes from Adam Holt - Morgan Stanley.

Adam Holt - Morgan Stanley

My first two questions are about tax. I understand that you have limited information at this point but if you look at the delta between units and revenue through season to date and compare that to units versus revenue season to date last year it looks like the gap has actually widened a little bit. To the extent that your revenue per return is stable does that mean that the delta is primarily just fewer returns per box? Are there other elements that are at play there?

Brad Smith

I think one of the things that we think through today is as you see the shift away from desktop where you can do multiple returns for every unit we sell and you see it shift to the web where it is one for one, you buy the product and you can file one. If you want to file a second time you have to buy a second product. You are going to see that gap between revenue and units get further apart. So right now if you see that online grew 36% while the desktop was down year-over-year the math would lead you to believe that part of it is simply shifting to the number of people who are actually going on line now is driving more units for every return and as a result that difference between that and the revenue shows up.

Adam Holt - Morgan Stanley

So I guess the second part of the question would be as we look forward and you start to think about improving monetization of free should we expect that gap to ultimately stabilize or does that trend effectively continue given the shift you just described?

Brad Smith

I think one of the things that we are going to continue to try to do is maximize the revenue and we shared earlier that the revenue this year certainly didn’t come in as we had hoped although a lot of the other indicators are positive. I would believe that you are going to continue to see the shift from people filing multiple returns in desktop and into the web that you are going to see units continue to outpace revenue. The question of whether the gap will widen over this year or not is one that I can’t answer given the data that we have right now. We will do our best when we provide guidance going into next year to let people know what we believe.

Adam Holt - Morgan Stanley

If I could just turn quickly to the payments side, you had obviously nice growth on the payments front. The same store sales, if you will, were down year-over-year but if my notes are right they didn’t get any worse than last quarter. Do you think you have seen a stabilization on the payment or the transaction side? Would you echo your comments on SMB more broadly that it is just too early to tell?

Brad Smith

It is too early to tell. I would tell you that we have had a month that bounced a little better and then a month that went down a little lower and another one that bounced back up. On the one hand I could imagine it skipping on the bottom. On the other hand since it is not improving on a month to month basis it is hard to tell if we are at the bottom or if we simply are just consumers are shifting back and forth. Right now I would stick with what I said earlier. It is just too early to call. We haven’t seen anything that is trending any further down and nothing that is turning around.

Operator

The next question comes from Scott Schneeberger - Oppenheimer & Co.

Scott Schneeberger - Oppenheimer & Co.

I will start out on tax. This year from your report year-to-date and your report mid March to mid April that had been increasing for the last few years and that seems to be a little lower. Any thoughts on just the timing of when people filed this year?

Brad Smith

We are currently trying to get our arms around the cyclical nature of this tax season. I would tell you it was the hardest one in my time being here to actually predict. Short version is we continue to see people push later and later into the filing season. The second is however this year as we look back it looked like we had some people who filed earlier in the season because they knew they had money owed to them and they wanted to get it as quickly as possible. Then we think we saw people filing later in the season who expected they were going to have to pay. Also there is a group who we believe are still trying to sort through all the complexity of the stimulus package and all the other things that we have talked about and simply waited until the last part of the season.

If I had to talk about what I think the secular trend is I think the secular trend is we are going to continue to see people take advantage of technology as well as the fact that we just tend to be a little bit more of a procrastinating society and push later and later into tax season. This particular year we had a lot of variables in play and we are trying to get our arms around what is causal versus correlated.

Scott Schneeberger - Oppenheimer & Co.

So it sounds like you think going forward if we have reduced cyclicality we will see again more and more at the back part of the year as far as the percentage of mix for the full season?

Scott Cook – Founder

Let me add to what Brad is saying. Tax season is a double hump. Early season filers are there early to get refunds and late season filers are specifically there to pay as late as possible. It seems that it became even more of a double hump, accentuating each end more of a barbell this season. A bigger hump earlier and a bigger hump later and a little weaker in the middle.

Scott Schneeberger - Oppenheimer & Co.

You mentioned on online share that you had seen that increase or at least pacing more of the market. Could you discuss roughly what percent of online share you believe you may have?

Brad Smith

We haven’t talked about the actual numbers. When we get to investor day we will share a bit more once we have a full season under our belt. What we do believe given our data and what we track with external sources we have picked up about 5-6 points of share and we have said that our share is over 50% in online. It is not where we are in desktop. We like the fact that last year and this year we have continued to gain share and this year in particular we took it away from some of the lower priced competitors. We like that trajectory.

Scott Schneeberger - Oppenheimer & Co.

On tax, the tax community has been [inaudible] very special for you recently. Can you speak to that a little bit? Any implications it has on margins?

Brad Smith

I am assuming the question is the live community where customers answer each other’s questions?

Scott Schneeberger - Oppenheimer & Co.

Correct.

Brad Smith

It was another resounding success this year not only inside of Turbo Tax but also across 11 of our products in the company. For example, we put it in QuickBooks this year and of the customers who actually use the live community to answer their questions 70% of their questions got answered by another small business owner. We saw the same course of results happening in our Pro Tax products and also in Turbo Tax. In terms of impact on margin we see it as a two pronged opportunity. One is it is a great way for customers to learn and engage with each other and add more value to our products. The second is it is a way for us to get and take resources that would have otherwise answered a question and shift them to either building new products or finding ways to enhance the value of the existing products.

So we don’t really view it as much of a margin play as it is an opportunity for us to deploy resources to help accelerate our growth.

Operator

The next question comes from Michael Millman – Millman Research.

Millman – Millman Research

Following up on an earlier question about R&D being more efficient it was also down double digits. Is that decrease all from efficiency and better production or indeed are you reducing projects? Also I wanted to ask about the tax free online up 36%. Can you give us some idea as to how much of that was a shift from FFA into the other category and how much is free? Finally, it looks like some of the industry numbers that RT was down this year and yet your number returns were up so are you seeing a reduction and maybe you could quantify some of your RT numbers in terms of importance to the bottom line?

Brad Smith

Let me take these one at a time. We will tag team on a couple of them. I will start with your R&D question. It has really got two parts in terms of what you are seeing quarter-over-quarter. One is the efficiency and effectiveness that I mentioned earlier. We are simply getting better at getting a return on our investment. We have not said that we are stepping away from investing in R&D. What we are doing is deploying those assets more efficiently and we are getting better returns.

The second is there is an accounting adjustment. Some of the costs that we had allocated in R&D are now allocated in another part of the company in IT and so you have an apples and oranges comparison so that drops that big year-over-year comparison that you are seeing that looks like it is down. I would tell you that right now we aren’t looking to cut back R&D; we are simply looking to get a better yield on that investment.

Michael Millman – Millman Research

Was that the $10.5 or $10.8 million number? The [TI] number?

R. Neil Williams

No. The license payment refers to a new licensing agreement that we went into in the third quarter. The reallocation Brad is referring to of some R&D costs, some of which would have gone to the be used and some would have gone to general administrative. There was some reallocation but also a continued focus, as Brad mentioned, in getting more efficient and getting more return for the dollars we are spending in R&D.

Brad Smith

Your second question is regarding our online growth up 36% in Turbo Tax and asking whether that was a shift out of FFA. There was some shift out of FFA. Our year-over-year volume in FFA was down. That is a very small portion of the total number of customers. We expect that we saw them shift over into either a free product we have in the commercial market or into one of our paid products which we are able to monetize. That certainly does not explain the 36% year-over-year growth or our organic growth rates online which were very strong year-over-year and through our research we have been able to show that we actually took share from others and it wasn’t from our own redeployment from our own FFA into our own products.

Michael Millman – Millman Research

How much of your online is free?

Brad Smith

We don’t break that out because it is hard to tell as we have shared when a customer comes in and first puts on free many immediately move over and start to buy a State product and we make money off of the state attach. Some will start to process their tax return and decide they want to move up to a paid version. So it is very difficult to separate the free from paid and our goal is to monetize all those relationships whether it is this year or next year. We don’t break them out.

I think the key to look at there is that price per return we mentioned or revenue per return and if you look at where it was last year and where it was this year that gives you a pretty good feel for how we are able to monetize those kinds of customers.

The third question you asked was regarding our RT. I will hand this over to Jerry and let Jerry talk to you about the specific question about RT and returns getting up and RT being down.

Jerry Natoli

That is a pretty easy one since we don’t actually break out anything about RT. You just have to look at the disclosures we have got out there.

Michael Millman – Millman Research

So you don’t want to answer that?

Jerry Natoli

That is not a level of mix that we get into.

Operator

The next question comes from Brendan Barnacle – Pacific Crest Securities.

Brendan Barnacle – Pacific Crest Securities

You have made some good progress on the QuickBooks online business and you have also talked about intent to move into the sort of CRM business, envision ultimately tying this all into sort of a product suite that is more broadly based than just the financial part of QuickBooks?

Brad Smith

I think first of all our company strategy that we talk about is we help consumers and small businesses achieve their goals which is primarily saving and making money. The way we do that is with easy to use products that are increasingly becoming connected services. When you connect the services we talk about either products and services like payroll and payments that will work with the desktop products or stuff that is hosted or a SAS product and so when you put that together as the customer’s behavior starts to shift and they want to have products delivered that way then we want to make sure we have the market leader. The good news is we aren’t having to rush to catch up. We have had an online version of QuickBooks and an online version of Turbo Tax out there since the late 90’s. As you are starting to see and you pointed out QuickBooks online edition is continuing to deliver some solid growth. As we are starting to look at some of the other services and products customers want around those kinds of products they tend to be more hosted now. So that is why you see us investing in some of these hosted applications.

Will it end up being a complete suite where everything is online? That is going to be the customer’s choice, not ours. We are more than happy continuing to sell them a desktop product but then having other products that work with it that may be hosted. We will let the customer choose which way they want it to be delivered.

Brendan Barnacle – Pacific Crest Securities

So you ultimately envision where this may come out developing sort of an underlying development platform to tie all these together or to allow people to start building on top of these a little more progressively?

Brad Smith

We have over the last several years gotten smarter about how we can do this. Quite frankly the big opportunity is to make sure that the data flows freely between our product and other applications and services we build. It is not so much about building an entire platform that re-writes everything we currently have. So I think what you are going to see is a lightweight approach for us to be able to have products work well together and enable the customers to choose whether they want it to be desktop in some areas and web in others but as long as the data flows freely and the work flows are pretty seamless then you will see us continue to deliver products that way.

The other one I would say is we announced an input partner platform. This is our QuickBase product. It has Adobe Flex on top of it and it enables the third party developers to build web applications that will work well with our QuickBooks and related products. We are seeing very good up take on that. I think you will see that become more and more of a technology foundation for third party developers as well as our own developers to build on but the key again will be to get the data to flow between the products seamlessly.

Brendan Barnacle – Pacific Crest Securities

Lastly, any numbers in terms of either ISP’s or applications that you have on the QuickBase platform at this point?

Brad Smith

We haven’t broken out at this point how many are on that QuickBase platform versus our normal SDK. I can tell you our normal SDK we have over 70,000 who have downloaded. We have several hundred commercial applications in the market. I will tell you that our Intuit Partner Platform which is pretty early in the market at this point has more demand than we had anticipated and we are very excited about its prospects.

Operator

The next question comes from Gil Luria - Wedbush Morgan.

Gil Luria - Wedbush Morgan

First of all on QuickBooks it looks like a lot more of your business model is now transitioning to monetizing your customers in other ways except for charging them for the software. What are some of those main ways that you are especially successful? Is it getting people to upgrade QuickBooks? Is it getting them to upgrade the website? Consumables? What are the key ways you are seeing people pay you even though you are not charging them for the software?

Brad Smith

There are three ways that I would bucket it. The first one is they come in on a particular offering even if it starts out free and then as their needs become more sophisticated and they grow and they want to add product inventory they will move up the QuickBooks line. The second is they will come in with QuickBooks and they will have additional problems to solve like they need to pay an employee or they need to accept a credit card from a customer or they want to print out checks and supplies and they will start to bottle what we call tax services or razor blade. Those two in combination have proven that over a five year period we can increase the initial purchase price which averages about $200. We can increase that 3x over five years.

Now the third way is relatively new and that is with introducing new front doors, primarily things that help small businesses get found on the web and get customers so they can grow their businesses. That is where things like Homestead come into play and those are the things where a new set of razors that we will be able to attach razor blades to and sell attach services to that.

So you put it together and it comes down to moving up the upgrade cycle and buying a more sophisticated version of QuickBooks as they grow; buying a tax product and services that are meaningful to them or us actually starting a relationship sooner than they need accounting by helping them do things like get a website or get customers. Those are the three ways we grow our ecosystem.

Gil Luria - Wedbush Morgan

The second question is about some of your innovation, a couple of your core innovations like Finance Works and Quicken Health are based on adding value to your customers as opposed to end consumers which is what you are really used to doing and adding it in new ways to a new business model. I understand that your business model that you have at least initially done with Finance Works is to capitalize on the increase of adoption as opposed to focusing more on license. Is that something that you are going to shift more to license especially as you sell it outside of your base? Then related on Health is what business model have you decided on there? You are adding value to a lot of different participants in the value chain. Who are you going to be selecting from?

Brad Smith

Let me break it down into a couple of parts. First of all what we declared in our strategy is we are a consumer and small business company. We will serve anybody who has their primary target audience being either a consumer or small business customer that they are actually a key value added partner in. That takes us to banks. That takes us to healthcare providers and it takes us to accounting firms because each of them are very important relationships for small business or a consumer.

What we ultimately do and the way we add value is we build the easiest to use consumer or small business facing application. That is where we add the value in the relationship. So what you will see us doing in things like Digital Insight is the way we differentiate ourselves in the market is we tried to build the easiest to use online banking and bill pay front end that a bank can offer their customers or their customer can tell all their friends to go use. That is really our impetus.

The good news is on Digital Insight they already have the industry leading sales course and so what we had to do was we simply had to bring the products to that sales force so they could actually sell more banks. When you ask about the pricing, the pricing tiers are the same as they have been in Digital Insight. There is a license fee and then the bulk of the revenue is generated on usage or transactions which is why we get excited because if we can improve the end user ease of use we can improve the number of transactions and drive the revenue. That is where the bulk of our focus has been.

In terms of healthcare, we have not at this point announced our monetization model. We have several experiments that we are testing. We are going to continue to test to see the best way to create the best customer experience while also maximizing the revenue potential. Once we land on one or a couple that we think are going to be meaningful then we will share those with the analyst community. At this point we have multiple experiments going on.

Gil Luria - Wedbush Morgan

To clarify on some FinanceWorks now when you are working with partners and not just with the Digital Insight customers are you going on a license model or is it also a user model in terms of revenue?

Brad Smith

It is also a user model. There is some of what we do with the banks directly.

Operator

The next question comes from Ross Macmillan - Jefferies & Co.

Ross Macmillan - Jefferies & Co.

You did a great job on the OpEx again but actually gross margin was up year-over-year compared to it being down in 2Q and 1Q this year. Was that a reflection of some of the revenue shifts or was there something else going on there that has really helped out on the gross margin the quarter?

R. Neil Williams

That is primarily related to the revenue shift from 2Q to Q3 in Turbo Tax.

Ross Macmillan - Jefferies & Co.

Secondly, just looking at your QuickBooks units the Simple Start activations kind of exploded this quarter. I think they were well up versus trend. Was there a particular promotion or something else driving that?

Brad Smith

I think if we got our advertising ramped up on TV and we talked about go to the website and check it out for free and then you combine that with our small business united campaign where we went out and said we are here to help small businesses get up and running and we have products that are free it was all of that awareness and attention plus the fact that small business owners right now are trying every way possible to not have to put a lot of money out of pocket in tough times. That is what drove the Simple Start activation quarter-over-quarter.

Ross Macmillan - Jefferies & Co.

Lastly, I am just curious on your perspective on this. The IRS data year-to-date has total receipts down 6% but e-filing up about 6% and the delta between the two is a bigger delta than last year. In other words e-filing is moving up a lot better than aggregate receipts. What is your perspective on that and to what extent do you think you can benefit from that shift it is structural and not just transitional?

Scott Cook

E-filing, we really make our money per return so the e-file number is particularly relevant. As consumers understand the greater benefits of e-file particularly getting your refunds faster that is going to generate more demand for e-file. If people file by pen and paper you don’t really get to e-file. So it is a good supporting trend for the gradual transition of this business in our favor away from manual and other methods.

Ross Macmillan - Jefferies & Co.

Do you think that bigger barbell to the season this year perhaps was also augmented by more aggressive e-file adoption in this year?

Scott Cook

My guess is it is augmented by people wanting to hold onto their cash longer if they owe and wanting to collect their cash faster if they got refunds. Nothing as fancy as technology.

Operator

Gentlemen I am showing no further questions at this time. Would you like to proceed with any additional remarks?

Brad Smith

I just want to thank everyone for dialing in. I am proud of the results that our team has delivered in this downturn. I think we are continuing to make good decisions and trade offs to deliver the bottom line. We are also investing for the future. I want to thank our Intuit employees for all the hard work they are putting in and I want to thank you for your support and we look forward to seeing you again soon.

Operator

Ladies and gentlemen thank you for participating in today’s conference. This concludes the presentation. You may now disconnect.

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Source: Intuit Inc. F3Q09 (Qtr End 04/30/09) Earnings Call Transcript

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