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Executives

Timothy Dolan - ICR, Investor Relations

Robert K. Weiler - Chairman, President and Chief Executive Officer

Christopher Menard - Senior Vice President and Chief Financial Officer

Analysts

Steven Crowley - Craig-Hallum Capital Group

Steven Halper - Thomas Weisel Partners

Sean Wieland - Piper Jaffray

Nabil Elsheshai - Pacific Crest

John Kreger - William Blair & Company, LLC

Brett Jones - Brean Murray

Richard Davis - Needham & Company

George Hill - Leerink Swann

Phase Forward, Inc. (PFWD) Q2 2009 Earnings Call Transcript July 27, 2009 5:00 PM ET

Operator

Good day, ladies and gentlemen and welcome to the second quarter 2009 Phase Forward Incorporated earnings conference call. My name is Anne and I will be your coordinator for today's call. (Operator's instruction) As reminder this conference is being recorded for replay purposes. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session following the presentation.

I would now like to turn the presentation over to Mr. Tim Dolan. Please proceed, sir.

Timothy Dolan

Thank you. Please note that various remarks today consist of forward-looking statements for the purpose of the Safe Harbor provision under the Private Securities Litigation Reform Act of 1995. These statements including management's forecast of financial performance and management's plans, objectives and strategies are subject to a variety of risks and uncertainties, which could cause actual results to differ materially those discussed today. These risks and uncertainties are contained in the Company's public filings with the Securities and Exchange Commission.

With that let me turn it over to the CEO of Phase Forward, Robert Weiler. Bob?

Robert K. Weiler

Thanks Tim and thank you for joining us on the call to review our second quarter results which were again highlighted by revenue and operating profitability that were above the high end of our guidance.

During the second quarter, we also renewed and expanded some of our largest customer relationships and we launched InForm GTM, a major new release of a market leading EDC Solution. This represented one of several recent strategic actions taken by Phase Forward that we believe will have significant long-term implications of Phase Forward and the overall competitive landscape. We expect our pending acquisition of Covance's IVRS/IWRS business to add further momentum to the growth of our star solution and a multi-year marketing agreement that means that we will have the two largest CROs in the world recommending Phase Forward as their preferred solution provider.

The acquisition of Maaguzi, which came out after the market closed today add ePRO a late stage solutions that round out our end-to-end IVRS offering. Customers are increasingly looking for global end-to-end integrated clinical research suite for IVRS and we believe Phase Forward is the only IVRS vendor that can provide best in class of solutions covering EDC, phase analysis, interactive response technology, data analysis platform, patient reported outcome and solutions that address Phase I clinical automation all the way through late stage study. We believe our recent acquisitions are critical step to ensuring that Phase Forward maintain and extend its current leadership position in the IVRS market.

Now, let me take you through a summary of our second quarter result and then I will take you through few of the business highlights for the quarter. Total non-GAAP revenue came in at $53.5 million, representing a 31% year-over-year growth. From a profitability perspective, non-GAAP operating income came in at $8.6 million, up 34% on a year-over-year basis, and non-GAAP EPS was $0.13.

During the second quarter, we launched InForm GTM at the BIA Trade Show representing a milestone in Phase Forward's history. There has been a paradigm shift in usability requirement whereby longer and more complex trials are managed by more sophisticated and knowledgeable EDC users. InForm GTM is the result of over two years of comprehensive customer research and testing and it is redesigned user interface simplifies navigation to help users reach conclusions quickly, reduce errors, quickly discern the most important pieces of information and streamline workload.

Another key aspect of InForm GTM is its significantly enhanced global trial management capability including increased multilingual support. Customer and partner feedback support our belief that InForm GTM delivers hands down the best end-user experience in the marketplace. We believe that InForm GTM solidifies Phase Forward's market leadership position in EDC segment of the overall IVRS market and assures our customers that they will continue to have the industry's most state of the art technology solution supporting their clinical trial.

During the second quarter, we secured extended and expanded relationship with some of our largest customers including J&J and Servier. J&J continues to reaffirm its major partnership with Phase Forward as they signed another multi-year multimillion dollar agreement related to InForm. We also continue to add new InForm customers of all sizes such as Abraxis BioScience and Pharmacyclics.

Our business with CROs is also quite stronger in the second quarter with CRO related non-GAAP revenue of $11.5 million growing 50% on a year-over-year basis. INC Research signed a seven-figure commitment for InForm as a result of experiencing increase demand for an EDC solution that could effectively manage the scale and complexity of their customer's trial.

During the quarter, we also continued to expand many of our longer standing CRO partnership which is Quintiles, Harvard Clinical Research Institute, PAREXEL, i3 and Covance among others. Our lab and software group secured a contract with a new customer, the Immune Tolerance Network, an international research solution headquartered at the University of California in San Francisco. ITN will implement Phase Forward's recently acquired Waban's Statistical Computing Environment, Clinical Data Repository, Submission Metadata Manager to further their biomarket discovery program.

On the IRT front, all of the reasons that let us do acquire Clarix are playing out and we are pleased with our progress related to bringing their solutions to market in a relatively short period of time since they have been part of Phase Forward. During the second quarter, Covance continues to drive order flow related to Clarix and we added trials from other CRO partners and customers such is Aptuit, Teflon and Shire’s Development.

We also signed a multimillion dollar agreement with Gensym related to both InForm and Clarix. We expect our pending acquisition of Covance IVR/IWRS business to add further momentum to our go-to-market as it relates to Clarix. While Covance are marketing Clarix as they prefer the IRT solution provider for new web based trial, they also have an installed base of approximately 35 IVRS/IWRS customers making Covance IVRS business one of the largest in the industry based on our estimate.

There are several key reasons that we believe is an extremely attractive strategic move for Phase Forward. First, it assures Phase Forward that Clarix will continue to be the preferred IRT solution that Covance markets to its client base. Second, we expanded critical mass of our IRT effort, not only the customer base but also the people, resources and skill set that might have otherwise become a gating factor to the rapid growth of our Clarix offering. Third, it provides Phase Forward with additional opportunity to cross sell and up sell our broad suite of solution in the Covance IVRS/IWRS customer base.

Fourth, in addition to the benefits related to our IRT offering, the multi-year marketing agreement with Covance also establishes Phase Forward InForm GTM solution as their only preferred EDC solution. This means that we will have the two largest CROs in the world that have selected Phase Forward as their strategic EDC supplier. The addition of Covance is a critical step in Phase Forward gaining a strong foothold in the increasingly important segment of the market.

We are also very excited about the acquisition of Maaguzi which came out after the market close today, Maaguzi is an innovative provider of internet-based ePRO or electronic patient reported outcome solutions for the life science industry. We believe internet-based ePRO is the emerging paradigm in ePRO study and will supersede the existing expensive and logistically challenging PDA-based eDiary.

Maaguzi also provide Phase Forward with EDC capability that address late stage outcome study which is an opportunity that we believe that has been underserved in the marketplace. These studies have quite different characteristics, user experience is quite different compared to the Phase II and Phase III market play and typically combined with the collection of Patient Report Outcome data directly from patient with information collected by site. This is important because we see more interest in late phase study such as chronic disease trials like diabetes that are coming to market as well as general increase in number of mandated late-stage FDA study.

As Chris will discuss in a moment, the Covance business unit and the Maaguzi acquisition have a short-term dilutive impact from a profitability perspective. However, while both these acquisitions are highly strategic on a standalone basis, it is the combination of the two that is extremely powerful for Phase Forward's long-term market leadership position. Our strong profitability and cash flow provided Phase Forward with the balance sheet and resources to do a comprehensive review of the market place and select the best of read vendors in each category to round out Phase Forward's IVRS offering.

As a result, Phase Forward now has the broadest and deepest IVRS and we are leading the charge in integrating this end-to-end suite and we believe we can advance on a point solution basis in any individual category. There is a proven history of software category evolving into integrated suite overtime such as desktop software and ERP software. Customers are looking for a single vendor to solve the IVRS need in order to lower their total cost of ownership and minimize the portion of their IT budget that must be dedicated to maintenance and integration of multiple systems provided by multiple vendors.

If we look at how this relates to life science industry, there is a significant shift occurring in which major pharmaceutical companies are outsourcing increasingly large and much more complex component of their R&D operations to CRO. As an example, Eli Lilly recently announced the sale of a major R&D facility to Covance and signed additional agreements with Quintiles and i3. As a result of these agreements such as these, CROs are becoming increasingly strategic partners to the pharmaceutical companies.

In response, CROs are evaluating which technology vendors can help them automate and manage its much broader step of outsourced clinical trial business processes. One of the primary drivers of our agreement to acquire Covance IVR/IWR business unit was Covance's desire to broaden its relationship with Phase Forward. It is the provider of status of EDC for clinical trial to include market leading IVRS technology for clinical trial.

Covance believe as with Phase Forward that as clients will benefit from our industry leading integrated data management platform. We believe we will become increasingly important to have all the major IVRS components to become the preferred suite to increasingly influence the CROs. Maaguzi's disruptive ePRO and late-phase technology solution are key components to rounding out our suite and we plan on turning our focus to executing on our operational strategy.

In summary, not only did we deliver strong second quarter, but we have significantly improved our long-term market position. We believe Phase Forward is in its strongest position to take advantage of a growing outsourcing trend with CROs based on the fact that we are the only vendor capable of delivering a true end-to-end integrated clinical research suite and we continue to broaden and deepen our CRO partner channel.

With that, let me turn the call over the Chris to review our financials in more detail.

Christopher Menard

Thanks Bob. Now, let me provide some further detail on the second quarter financial statements and then I will close with our third quarter and full year 2009 guidance including the expected financial impact associated with the pending acquisition of Covance's IVR/IWR business unit as well as the acquisition of Maaguzi which we announced after the market close today. We will then open the call to Q&A. We will review our numbers on both the GAAP and non-GAAP basis. The reconciliation between GAAP and non-GAAP result is contained in our earnings release which is posted on our website.

Our non-GAAP results exclude the non-cash expenses associated with FAS 123R, the amortization of intangibles associated with acquisitions and the write-down of deferred revenue and backlog associated with acquisitions and restructuring expenses.

Beginning with the P&L, GAAP revenues for the second quarter of 2009 were $52.5 million, an increase of 29% year-over-year. Non-GAAP revenues were $53.5 million excluding the $958,000 purchase accounting adjustment to the fair value of the deferred revenues and backlog of Clarix and Waban. This was above our guidance of $51 million to $52 million, and represents a year-over-year increase of 31%.

Within total revenue, InForm license, application hosting and other related revenues were $38.2 million, representing 71% of the total non-GAAP revenue, an increase of 23% on a year-over-year basis.

Non-GAAP revenues associated with Waban were inline with our expectations entering the quarter while non-GAAP revenue related to Clarix came in at approximately $2.9 million, a sequential increase of over 50% compared to $1.9 million in the first quarter.

Non-GAAP gross margin was 60.6% in the second quarter of 2009 compared to 57.9% in the same period a year ago, and 60.4% in Q1 of 2009. Our services margin was 47% in the second quarter, compared to 39.7% a year ago and 45.8% last quarter.

From an operating expense perspective, total non-GAAP expenses in Q2 were $23.8 million, leading to non-GAAP income from operations for the second quarter of $8.6 million. This was above our guidance of $7.9 million to $8.4 million and represent an increase of 34% on a year-over-year basis and a non-GAAP operating margin of 16.1%.

Interest income of $500,000 was down from $1.4 million in the year ago quarter, and $640,000 last quarter, resulting from a decline in interest rates. Our non-GAAP tax rate was 39.4% in the second quarter, which was higher than the anticipated rate of 37% due to nondeductible expenses related to our recent acquisitions leading to a non-GAAP net income of $5.6 million or $0.13 diluted earnings per share which was at the high-end of our guidance of $0.12 to $0.13 and compared to non-GAAP EPS of $0.12 in the second quarter of 2008.

Looking at our second quarter results on a GAAP basis, GAAP net income was $2.2 million or $0.05 per diluted share, compared to $3.7 million and $0.08 diluted earnings per share respectively in the same quarter of 2008. Moving to the balance sheet, total cash, cash equivalents and investments were $158.7 million at the end of the second quarter, a decline from $178.1 million at the end of the prior quarter due to the second quarter payment of approximately $14 million associated with the Waban acquisition.

Accounts receivable declined by $2 million from the end of the prior quarter to $40.5 million. This led to DSOs of 69 days at the end of the quarter, and down from 77 days at the end of the prior quarter and compared to 65 days at the end of the same quarter last year.

Total deferred revenue was $91.1 million at the end of the quarter, compared to $95.8 million at the end of the prior quarter and $82.7 million at the end of the second quarter of 2008.

For the second quarter, the Company generated $9.2 million in cash from operations and $2.9 million after capital expenditures of $6.3 million. We continue to expect the Company to generate strong operational cash flow on an annual basis. Although quarter-to-quarter cash flows may vary based on the timing of when some of our larger invoices are issued and collected.

With that, let me now turn to guidance. The following statements are based on our expectations as of today and we assume no further obligation to update or confirm them. As a reminder, our non-GAAP references exclude the amortization of intangibles associated with acquisitions, deferred revenue and backlog write-downs associated with acquisitions, FAS 123R stock-based compensation expense and restructuring expenses.

Now, let me turn to Phase Forward's overall guidance including the impact of the acquisition of Covance's IVR/IWR business unit which we expect will close in the first half of August and Maaguzi and starting with the full year. For fiscal 2009, we expect total non-GAAP revenue of between $214.5 million and $217.5 million which is an increase from our previous guidance of $207 million to $212 million.

The increase is a result of two factors. First, we have increased the guidance relating to the core Phase Forward business to $212 million to $214 million based on our second quarter result and second half expectations. Second, we estimate that the Covance business unit and Maaguzi acquisition will contribute approximately $2.5 million to $3.5 million to our non-GAAP revenue during 2009.

On a GAAP basis, 2009 GAAP revenues including the write-down of deferred revenues and backlog from our acquisitions are expected to be between $210 million and $213 million. Our updated non-GAAP gross and operating margin assumptions for 2009 are lower due to the short-term dilutive effect of our recent acquisitions as Bob discussed. However, we expect the Covance business unit and Maaguzi acquisitions to become accretive on a combined basis by the end of 2010 at which time, we also expect our non-GAAP operating margins to be more inline with the level we saw this past quarter.

Importantly, we remain confident in the Company's ability to reach its non-GAAP operating margin target of 18% to 21% during the next 2 to 3 years. The only difference is we now expect to do so on a larger revenue base and we have a higher level of confident in scaling the overall Company based on our significantly strengthened product distribution and market position.

For the full year 2009, we are forecasting gross margins to be between 57% and 58% with service margins between 42% and 43% and operating expenses to be between 42.5% and 43.5% of revenues. Within operating expenses, we expect sales and marketing to be approximately 13.5% to 14.5% of revenue, R&D of approximately 15% to 16% and G&A of approximately 13% to 14%. As a result, we expect non-GAAP operating income to be between $30.5 million and $32 million or a non-GAAP margin of between 14.5% and 15% for the year.

We are currently forecasting interest income of between $2.5 million to $2.75 million in 2009. Our anticipated book tax rate is expected to be approximately 37% while our cash tax rate is expected to be in the 4% to 5% range. On a non-GAAP basis, full year EPS is expected to be between $0.47 and $0.50 which is a $0.04 reduction compared to our previous guidance of $0.51 and $0.54. This is a net result of approximately $0.04 to $0.05 of delusion related to the just mentioned acquisitions.

Using an estimate of stock-based compensation of expense of approximately $13 million and amortization of intangibles associated with acquisitions of $4 million, we expect full year GAAP EPS to be between $0.17 and $0.20 which is a $0.09 reduction compared to our previous guidance of $0.26 to $0.29 due primarily to delusion related to the Maaguzi acquisition and the pending Covance IVR/IWR business acquisitions. We expect to spend approximately $20 million in capital expenditures for the full year of 2009.

Turning to our expectations for the third quarter, we are targeting non-GAAP revenues of between $53 million and $54.5 million including a contribution of approximately $500,000 to $1.3 million related to the acquisition of Covance's IVR/IWR business unit and Maaguzi. We anticipate gross margins will be between 53.5% and 54.5% and service margins between 37.5% and 38.5%. We expect non-GAAP operating income to be between $5.5 million and $6.2 million, non-GAAP EPS is expected to be between $0.09 and $0.12. These include a dilutive impact of approximately $0.02 to $0.03 related to Covance's business unit and the Maaguzi acquisitions.

We expect the GAAP revenues to be between $51.5 million and $53 million. GAAP EPS is expected to be between breakeven and $0.01 which include stock-based compensation expense of approximately $3.1 million and amortization expense of approximately $1.1 million. The expected EPS reflect an estimated tax rate of approximately 37% and included dilutive impact of approximately $0.04 related to the acquisition of Covance's business unit and Maaguzi.

In summary, the Company delivered strong second quarter result and even more important of the major strategic even that have occurred over the last month that we believe will have a significant long term impact on Phase Forward in the ICRs market. We launched the major new release of our market leading EDC solution, added ePRO and late-stage EDC capabilities rounding out our end-to-end ICRS offering. Expanded our presence in the IRT segment of the market and signed an agreement that will establish Phase Forward as the preferred solutions provider for the world second largest CRO.

We believe the combination of these factors further solidifies Phase Forward's long-term leadership position in the ICRS market. With that, we will begin the Q&A portion of the call. So we can try to get to each analyst before time expires, we ask that you please limit yourself to one question and a brief follow up if desired. We appreciate your efforts in this regard. Operator, we will now take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Steven Crowley - Craig-Hallum Capital Group.

Steven Crowley - Craig-Hallum Capital Group

My question is related to service margin. You had a very nice quarter in service margin but obviously that is where the model is feeling the hit over the short term with these acquisitions. First of all, is that the correct inference from all the information you threw out at us and what are the implications of these acquisitions for your long-term service growth profit margin?

Christopher Menard

I think when you look at the services margin, there are really three factors and first, we are still very enthusiastic about the core business in the short term and how that service business is doing. As we look at the drop in the third quarter, I think we are seeing is first in the base business, we are ramping up the base business to make sure we are properly staffed with the demand we see in the second half of the year. In addition, we have also seen some FX headwinds particularly with the pound sterling which has strengthened against the dollar by about 14% since the last time we gave guidance about 90 days ago and then in regards to the acquisitions, both Covance's business unit and Maaguzi are actually losing money at a gross margin level.

At Covance side, it is because we are switching the revenue recognition model. They have been doing their work on a percent complete basis and we are putting on the ratable model that we employ with the rest of our business and on the Maaguzi side, it is more just that business is just ramping out. It is relatively small. We did not buy them for their revenue run rates. There was more for the technology and right now, it is still on a loss mode.

Steven Crowley - Craig-Hallum Capital Group

And my follow up, it looks like Clarix had a particularly impressive quarter. Was that a function of the bundling of InForm with Clarix or is this still a reflection of Clarix' growth on its own and the bundled story is largely in front of us?

Christopher Menard

I would say that the majority is based on the growth on its own and the bundling that is still on front of us.

Steven Crowley - Craig-Hallum Capital Group

But you did have a deal with Gensym, did I hear that correctly Bob?

Robert K. Weiler

That is correct. So, I think what Chris is reflecting is obviously the current numbers with Clarix growth standalone, we are very, very pleased with that. I tend to be even more pleased with what we are seeing in the market like the Gensym opportunity and others where people are now starting to grasp the benefit of multiple products.

Operator

Your next question comes from the line of Steven Halper - Thomas Weisel Partners.

Steven Halper - Thomas Weisel Partners

Bob, could you just give us a snapshot of overall trial activity, things like the InForm business is doing very well but just little industry snapshot would be helpful?

Robert K. Weiler

Yes, I mean the trial market is really volatile if that is what I said because we are seeing trials move from Phase I and Phase II they have done a while ago and then Phase IIIs were up and now it is time for frequent cancellations in Phase III where the money goes back to Phase II. I am saying at generic standpoint, not our standpoint but in a generic, as companies are really trying to manage their trial portfolio, we are also seeing more of a move to targeted medicines which tend to have smaller trials but they can be more of them than just a few big blockbuster trials.

So, if we look at the forecast, the forecast of Phase III have been pretty flat and they continue to forecast Phase III flat for the next couple of years. What we did see and why I think we are also excited about Maaguzi is that we are seeing an increased interest from our customers and also from other people looking at the market that Phase IV late-phase trials are actually going to be one of the areas of growth over the next two or three years.

Steven Halper - Thomas Weisel Partners

And could you just size the market opportunity from Maaguzi for us like you would, like what you did at the analyst day where you size each of the respective niches?

Christopher Menard

Yes, we think the total market opportunity is between $250 million and $300 million fully addressable and the current market is between $90 million and $210 million.

Steven Halper - Thomas Weisel Partners

And that is just for ePRO.

Christopher Menard

That is just for ePRO.

Operator

Your next question comes from the line of Sean Wieland - Piper Jaffray.

Sean Wieland - Piper Jaffray

A couple of questions on the acquisitions front. First, are these acquisitions going to have to go through pilot stages with your customers and when should we expect to start to see some cross selling efforts on these?

Robert K. Weiler

Okay, to tell you Sean, the first one is Covance IVRS business, they were actually the first CRO, the first company that ever do to have IVRS. They have a long-standing customer base and as we saw the move from phone to web based which they saw, they started selling the Clarix solution a number of years ago. So that model is up and running full spin and no pilot is necessary. In fact, we are picking up 35 brand new customers to our portfolio that we did not have before.

As we look at the Maaguzi, Maaguzi is much smaller but it is a proven product that has customers that are up and running and what we are trying to do with Maaguzi or what we feel that is going to happen to Maaguzi is the same technology trend that took place between IVRS and web is the same technology trend that we think taking place and our customers are telling us moving from PDA based to more of a web based and eventually, web browser, smart phone type devices and Maaguzi really has the technology and the leadership position from a technology standpoint to do that even though they are very small.

We also believe that, we know that over the last number of years, we have had many, many request from customers to ask us to participate in outcome studies or Phase IV studies that InForm was just over killed for, that we were never able to respond to. So, we have a position in distribution channel that the customers are already coming for us that we believe is bringing us through. But like Covance, there is not a pilot stage in it. We believe that just by telling this and implementing this and that is going a lot right away as they have been doing.

Sean Wieland - Piper Jaffray

Okay and then one quick follow up on the Covance transaction, it is not clear to me how this fits in or overlaps with Clarix, the product itself gets in with your strategy around Clarix.

Robert K. Weiler

Okay. So, Covance has their own product called IVRS. IVRS means, the typical phone, voice response system. When they saw that the market was moving to web, they did not have a web solution so they sign an agreement and they became sellers and implementers and supporters of Clarix' product and when we acquired Clarix, that relationship is in place and many of our Clarix business actually came through Covance being one of the avenues of channel and they were already selling that product as their old product was moving towards the web.

So, what we will do is we are going to continue to sell the web base product and we will sunset and essentially run out the IVRS solution. Now, that does not mean that the customer is going to change because what was so great about this is that many of the customers that other IVRS customers had already started moving into Clarix for web base.

So, it really is the situation would less to expand our Clarix offering while we pick up the new customer, the old IVRS solution and we will continue to support that product as it runs though until trial conclusion.

Operator

Your next question comes from the line of Nabil Elsheshai - Pacific Crest.

Nabil Elsheshai - Pacific Crest

A couple of questions to follow up on acquisitions, do you guys have obviously picked up the pace over the last couple of quarters? You feel like you have kind fell down all those boxes at this time. Do you think the pace will continue at a similar rate and then could you talk a little bit about integration that has been how you manage to integrate these all at the same time?

Robert Weiler

Okay. First, yes, we have been regressive. But the goal of that was that we really did see this need to this ICRS market emerging and we want to be able to fulfill that need. We will now be less aggressive in the future on acquisition as we focus on the integration of this platform.

First in foremost, each of these products is best of breed in their own product right. So, we will continue to sell them as best of breed product in their own product right. We will begin integration as we did with Clarix and EDC. We will begin integration with our Waban products. We will begin integration between Maaguzi products with not only this EDC but we overlook the other types of things which we integrate as central coding environment, a late stage study needs coding market. We have one of it. The late stage product needs to design a market. We have one of it.

So, the integration model will be taking place of using a core technology that I am still independent and bringing them across our product line and the glue that really pulls this altogether and I think really separate those is the Waban transaction, is that the platform of which managing the study where all of these data comes in to one place. So, it is now like just floating out there, on their own, and Waban already does that, to open that standpoint we still have a strong point solution product as well as an integration offering right now as well as future integration that leads us tighter and tighter the time goes on.

Operator

Your next question comes from the line of John Kreger - William Blair & Company, LLC.

John Kreger - William Blair & Company, LLC

Another question about the environment, Bob, well, I think we are about three quarters into an environment of slowing R&D spending growth by your clients or maybe even declines. Can you just give us a little bit more perspective on how that impacting your business, if at all? And are you comfortable that you have kind of weathered the storm or should we continue to expect that to impact your business in the next couple of quarters?

Robert Weiler

No, no. We have raised guidance and Chris’ comments where our core business was strong. So, from that standpoint, I believe we have weathered the change to portfolio. That is why it is so important to have more than one product. It is so important to have a broad portfolio. So, as a need arises, as these trials.

If you look at the market over the next couple of years and you are going to see 50 to 60 new drugs coming to market and those drugs, the FDA is now talking about orphan drugs and the pediatric drugs, chronic disease drugs or diabetes drugs, all having had post market evaluations going along with them.

So, if you are dependent upon one single product and able to pace a Phase 1 product or Phase 3 product, you are going to have more variability to your results. We believe that by selling the integrated solution that they are going to be buying our products to meet all of their needs and make us less susceptible to a one product spike up or down.

So that is one of the reasons why we think, number one, people will move to IVRS applications because that is where all technology categories of software have ended up. The second part is and we do not want to understate this that you are seeing a big change in the pharmaceutical companies from what used to be called FIP code which is a Fully Integrated Pharmaceutical company to now FIP Net and FIP Nets are the relationships of asset lift, major strategic relationships with major CROs to take over major function of the Company. The CROs are offering all these services and they are looking for one staff vendor to deal with this wealth.

John Kreger - William Blair & Company, LLC

That is very helpful. I could follow up to that. As you renew your relationships with Pharma clients, as you can maybe, I am sure you do not want to give us details but if you contrast that both discussions one or two years ago, how have they changed? How the priorities of these Pharma companies have changed in this environment?

Robert Weiler

I can make it very quick because we hear it over and over again.

Two years ago, customers are talking about EDC and Data Capture. Now, they are talking a platform to manage the whole process. They have got to get costs out of their system and they are not going to get it by beating their vendor down by 5% or 10%. The way they are going to get the costs out are by dealing integration of multiple maintenance from multiple vendors, the validation of products from multiple vendors, multiple project managers, multiple evaluation and they are trying to get to a platform to manage this whole process and every discussions that we have with company, large and smaller, are trying to figure out how to handle this amount of data that they have been automating for the last two or three years to give it, we had a customer that we referred on a last call just three months ago and they have signed up for a number of trials at Phase Forward and they said, “You know the next evaluation is going to be about EDC. It is going to be about a platform to manage this process.” That is the biggest change we are seeing and we are hearing it on both customers, large and small, and CROs.

Operator

Your next question comes from the line of Brett Jones - Brean Murray.

Brett Jones - Brean Murray

I was curious on the bundling front, when you talk about bundling Clarix and InForm with Gensym dealing and you have a few of these, I think now. Can you talk about how does the ASP is holding up on those when you are looking at from a combined basis?

Robert Weiler

You mean how it is holding up from a margin standpoint?

Brett Jones - Brean Murray

Well, I remember when you guys first bought Clarix, you were talking about 400K ASP for InForm and about 150 for Clarix in a standalone basis. I was wondering how to bundle pricing compares to the standalone pricing.

Robert Weiler

Yes. So, in InForm ASP is still have it in at about 450,000 per trial and when you bundle it, it actually goes up by about 200,000. So, it would seem the bundle transactions are about 650,000 where some of them much, much higher than that. The Gensym deal for example was a multimillion dollar deal.

Brett Jones - Brean Murray

Okay great. And then, with the cancellation rate in this environment, Bob, sort of alluded to the overall cancellation for Phase 3 picking up for the whole industry, I was wondering what you guys have seen from the cancellation rate and did that how many impact on your license or service revenues this quarter?

Robert Weiler

Yes, we did see a couple of more cancellations this past quarter. I would say about a handful more, mostly from one individual customer and the incremental revenue was probably in the range of 300,000 to 400,000 more in the services line than what we would normally expect.

Christopher Menard

And I just like to correct, maybe I misspoke. I did not mean that the overall industry is seeing Phase 3 cancellation rate. I think what we are seeing is a portfolio volatility where you might see a specific customer just give up on a Phase 3 and take that money and put it back into a Phase 2 and moving around. I do not want that to be characterized as seeing a major cancellation rate in Phase 3.

Operator

Your next question comes from the line of Richard Davis - Needham & Company.

Richard Davis - Needham & Company

Have you seen any differences in demand by geographically in another word is a different in Europe and different in North America or just really most kind of worldwide phenomena where there is equal strength in one way or another?

Robert K. Weiler

Yes, it is global. I mean, compared to all software companies where it used to go sequentially through emerging market where you have the US and then you go western Europe and then Asia, this really is a global market and it really started I think a number of years ago when the pharmaceutical companies really started moving offshore for patient. So, we are seeing this move by a product to IVRS really global and we have not seen any change in geography.

That said, you will hear about more and more patient coming out and investigators coming out of the global environment but we have been servicing that since we started.

Operator

Your next question comes from the line of George Hill - Leerink Swann.

George Hill - Leerink Swann

Quick question for you, Chris, just to clear something up, the combination of the acquisitions, did you think that they would be accretive by the end of 2010 or for the full year 2010?

Christopher Menard

By the fourth quarter of 2010.

George Hill - Leerink Swann

Okay and Bob, a strategic question, I imagine you feel like this probably a good opportunity here to unlock some value in the Covance IVRS and IWRS business by taking it up by just Covance and giving you the ability to cross sell to other CROs?

Robert K. Weiler

Well, many of our other CROs already use Clarix and we have been always doing that, Aptuit and other have been using the product already so Clarix was already being sold by Covance but is also being sold by other CROs as well already.

George Hill - Leerink Swann

Okay, and I guess Chris just to step back a big picture of question here on the acquisitions, if we think about these over the next 12 months, you guys could effectively spend about $22 million to buy call it $8 million to $11 million in an annualized revenue and losing $5 million to $7 million at the operating line. Does that sound about right?

Christopher Menard

Yes, I actually did not guide to a revenue number for 2010.

George Hill - Leerink Swann

Okay.

Christopher Menard

But we have to say that like I expect it is going to be accretive in the fourth quarter of next year at which point I think will get back in line with the operating margins that you saw at this past quarter.

George Hill - Leerink Swann

Yes, I was just annualizing the numbers you have kind of given to us. So, assuming that there is growth and there is lift off the installed base that you guys have now but I understand if you do not want to comment further.

Robert K. Weiler

Anna, are there any other follow ups?

Operator

(Operator's instruction) Yes, there were two others and they disappeared. I am hoping they will return.

Robert K. Weiler

Well, I guess that they have not returned. There are no further questions. Thank you for joining us in the call and we will talk to you next quarter.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation and you may now disconnect. Have a great day.

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Source: Phase Forward, Inc. Q2 2009 Earnings Call Transcript
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