iPass Inc. Q2 2009 Earnings Call Transcript

iPass Inc (IPAS)

Q2 2009 Earnings Call

August 6, 2009 5:00 pm ET

Executives

Steven Gatoff – Chief Financial Officer

Evan Kaplan – President, Chief Executive Officer

Analysts

Neil Weiner – Foxhill Capital Partners

Edward Einboden – William Smith Company

Justin Orlando – Dolphin Management

Presentation

Operator

Welcome to the second quarter 2009 iPass earnings conference call. (Operator Instructions) I would now like to the presentation over to the company to begin today's conference.

Steven Gatoff

Thank you for joining us to discuss our financial and operating results for the second quarter of 2009. I'm Steven Gatoff, Chief Financial Officer of iPass and I'm here today with Evan Kaplan, President and CEO.

I'd like to start by saying how pleased I am to be here at iPass. While the economy has certainly presented us with some challenges, iPass has a terrific franchise and I believe we have an exciting opportunity in front of us. I'm proud to be part of the team and I'm very bullish on our ability to grow revenues and drive increased stockholder value.

Before I turn the call over to Evan, I'd like to address some important housekeeping items. The date of this call is August 6, 2009. We want to caution that our discussion today contains forward-looking statements about events and circumstances that have not yet occurred. Statements containing words such as will, expect, believe, plan, intend and should, statements regarding our projected financial results for the third quarter of 2009, statements regarding our expectation of achieving full year 2009 non-GAAP profitability and full year 2009 positive operating cash flows and other statements in the future tense are forward-looking statements.

Results may differ materially from the expectations contained in these forward-looking statements due to a number of risks and uncertainties. The risks and uncertainties that could cause these statements not to come true are set forth in the documents that we file with the SEC and may be found in the disclosures under the risk factor section in our 2008 annual report on Form 10-K and our most recent quarterly report on Form 10-Q.

In this regard, we would also note that we intend to file our Form 10-Q for the second quarter of 2009 tomorrow, August 7.

Today's press release reporting our financial results was released to the wire services and is available on our web site at www.ipass.com in the investor relations section. Please note that iPass undertakes no responsibility to update the information discussed on this conference call.

We also wanted to note that we will provide and refer to non-GAAP financial results on this call. The press release on our web site and our 8-K filing with the SEC includes text and tables to explain how we calculate non-GAAP amounts and reconcile these non-GAAP results to GAAP results.

Please note that this call is being recorded for replay and is being webcast. It will be available on our website until the Q3 earnings call. This webcast is the property of iPass and any copying or rebroadcast of this webcast without the express prior written consent of iPass is prohibited.

With that, I'd now like to turn the call over to Evan who will provide an overview of our Q2 results, talk to our business initiatives and provide some color on what we're seeing in Q3. I'll come back on after Evan and go through the Q2 results in some detail and provide financial guidance for Q3. We'll then look to open the call for your questions.

Evan Kaplan

Thanks Steven. Good to have you on board. Good afternoon everyone. Thanks for joining us. I'm excited to be on the call today to share our second quarter results. Before I begin, I'd like to recap a few key points from last quarter's call.

First, last quarter we announced we achieved non-GAAP operating profits for the first time in nearly four years and we committed to delivering positive cash flow and non-GAAP profitability for 2009.

Second, we had pledged to continue our efforts to engineer cost out of the business to ensure we meet these financial commitments, and thirdly, we announced three new metrics that were designed to give you additional visibility into our progress against our strategic plan.

As a reminder, these metrics were 3G subscriptions, 3G revenues and new bookings which we measure as monthly order value or MOV. In an effort to maintain consistency in our communications, let me briefly provide an update for you on each of these items.

First, in Q2 not only did we once again deliver non-GAAP EPS and net income profitability, we also delivered net income profitability on a GAAP basis. Operating and free cash flow were also both positive for Q2 as we added $2.1 million in cash to our balance sheet. And at this point, I want to reaffirm my commitment and belief that iPass will deliver non-GAAP profitability for the full year 2009.

Second, our profitability was driven by improved efficiency and continued cost engineering. To be specific, we have pulled out $2 million of operating expense from our quarterly run rate and we continue to drive down our network access costs.

Third, our Q2 performance against our new metric that was articulated were not as strong as we would have liked. We'll talk more about this in a bit, but I wanted to call out to you that we are disappointed with Q2 bookings MOV which came in below our expectations.

In this regard, and with the back drop of a global recession and a steep decline in business travel, our ability to close new business and substantively grow our install base revenues have been challenged. In Q2 as in Q1, companies remained reluctant to commit upfront to large long term contracts. This has extended our sales cycle and resulted in disappointing MOV results.

While we're pleased to see modest growth in our 3G product line, which I would note is the most expensive access method we offer, our 3G results were also negatively impacted by the economic conditions as our customers continue to focus on bringing down costs. In addition we have seen the continued corporate lay offs and business travel restrictions impact our Wi-Fi and dial up usage based revenue streams.

But there has been some media coverage about the green shoots of an economic recovery, we will continue to be cautious, blending our growth initiatives but managing our costs carefully until we have seen substantial proof of a rebound in the marketplace.

With that context, let's review the quarter. The key points for Q2 are that revenue was down slightly but cash flow and profits were up. Our revenue in Q2 of $43.7 million came in just above the mid point of our guidance. Despite the economic headwind in Q2, we were able to increase 3G revenues sequentially by 10% and subscriptions by 2,000. To be clear, we view this as only passable performance and we simply must do better in the future.

Perhaps a positive data point in all this is that while customer deals were slowed and our monthly order value metric was disappointing, we believe that the decline was not due to competitive losses. While we saw a number of large deals get pushed out in the quarter, there is no indication that they have been lost. All of these opportunities remain in the pipeline, but the delay that has been inserted will likely have an impact on revenue in future quarters.

One place we did see strong deal activity was with our international carrier partners. In Q2, we signed up two new carriers and a third launched a new iPass powered service. We are encouraged by these early indications that the local telecom leaders around the world value our role as a provider of global mobility solutions. This is important as our new service delivery platform is being designed with these carrier partners as one of our key target audiences.

Finally, our managed network service product line continued to grow both from a revenue and a gross margin perspective in the quarter.

So to sum up the quarter, I'm pleased that we were able to run the business profitably even in the face of stiff economic business and travel challenges, but I'm also keenly aware that we have had some tough sledding on bookings and need to do better.

Let's turn now to our three strategic business objectives. As a reminder, they are as follows; first develop and launch our new service delivery platform to drive new value added services, and expanded market presence; second, was to lead the enterprise market and our customer to 3G and third, to drive increased penetration and usage within our customer base.

Let's start with the platform which I believe is critical to our future. The platform will serve as a foundation for a portfolio of new enterprise mobility offerings. We expect these services to operate on a software service model highlighted by these key four attributes; a, a lightweight simple to use connectivity manager which will increase user adoption and service utilization; b, a self service management platform that provides a high level of control and customization for both enterprise IT and iPass channel partners; c, a policy based cost control mechanism to help customers to improve their mobility ROI across a diverse and growing landscape of connectivity options and device platforms and finally, an open cloud based platform that will allow iPass itself and other mobility partners to integrate value added services and market them to our customer base.

I am pleased with the progress we've made to date and I'm excited as ever with the promise this platform brings to the company. Currently the platform is on schedule, has passed several key milestones and I want to affirm that we still expect to have services based on the new platform released to our customers and partners before the end of the year.

Our second objective is to lead our customers to 3G. As I said earlier, we saw growth of 10% in 3G revenue in Q2 as we continue to increase our penetration in the market. Our 3G margins are improving and our pipeline is strong. Opportunities include 3G constitute a growing portion of our deal flow.

In Q3, to help accelerate the adoption of this offering, we plan to expand our service selectively, add new software capabilities that should reduce our time to support new 3G devices and provide new device types such as Nova Tel Wi-Fi mobile Hot Spot that allows enterprise employees to share their 3G connections with co-workers while they're travelling.

Our third business objective is to drive penetration in the existing customer base. In Q2 we launched several new service enhancements that are already driving additional use. These include an enterprise ready iPass client for the I-phone, a new client, a new Mac SOS client and a new Wi-Fi detector.

I am pleased to report that user counts on the I-Phone, and Mac platforms increased 54% quarter over quarter in the wake of these new releases. And in Q3 we intend to augment our portfolio further with support for Blackberry smart phones, thereby extending our leading device breadth to all of the major enterprise platforms.

While not specifically an objective, there is another significant achievement I'd also like to mention. Over the last two quarters we have completely replaced the executive team and have brought in a new skill set that are particularly well suited to restoring profitable growth in our business.

We now have five new business leaders in place to support our transformational efforts. I thank the former team members for their valuable efforts and support during a very well engineered transition and transfer or organizational knowledge. In this past quarter alone, we've added a new SVP of marketing, a new general council, a new SVP and CFO and two weeks ago, a new SVP of sales.

To close it all out, we will soon add a VP of network supply to the executive team. This individual will report to me, and among other things will be responsible for driving down our network access costs which in Q2 were equal to 41% of our top line revenues. Just a note, this is the first time the company has had a senior executive dedicated to this critical business function.

So now let's take a look forward and let me start with an important element of delivering stockholder return. In the near term we're planning to execute on the anticipate dividend that was discussed in July. As we announced, we intend to return up to $40 million to stockholders in the form of a one time cash dividend of $20 million planned for Q3 with the remaining $20 million anticipated to return either through a tender offer, cash dividend or other form as determined by the Board.

There is a special stockholders meeting scheduled for August 18 related to the $20 million dividend and I encourage you all to read the proxy regarding the topics that are being voted on at that meeting.

Moving on to our financial performance for the quarter, while we are bullish on managing for profitability, we remain cautious and anticipate some continued challenges in driving new business and getting enterprise customers to commit to long term deals. We also expect to have some top line pressure as a result of the European summer holidays combines with the relatively light bookings that we experienced in the first half of the year. Knowing this, we will continue to manage our costs and look to run this business profitably.

In summary, now that I've been in this role for two full quarters, I can tell you that I am pleased with our accomplishments, but more importantly, I'm optimistic about the future. I recognize that we are still early in this transformation and there is much good work left to do.

I'm fortunate to be supported by a new and aggressive leadership team and we are well down the path to building our new service delivery platform. I believe the company has tremendous assets; its enterprise brand, its customer base, its unique know how, a highly disciplined management team and dedicated group of employees.

And while I remain optimistic, and will always push ahead, I'm also tempered by the knowledge of the difficult economic climate that we face. Further the financial realities of a recurring revenue driven business model rewards success not in any given quarter but over time.

So while I'm excited about the company's sizeable opportunity and our ability to capture, I'm also fully conscious of the fact first and foremost we must manage the business for profitability and positive cash flow, creating an efficient basis for operating leverage as we bring new services to market and grow our business.

With that, I want to thank you for your time and attention. I'd like to turn the call back over to our new CFO, Steven Gatoff for a deeper look into the financial results.

Steven Gatoff

Before we get into the quarter, I wanted to share with everyone that's it's one of my goals to not only help drive our growth and profitability but to also provide increasing visibility and transparency into our results and importantly, into the drivers and levers in our model. This is particularly true as we evolve the business and launch new services and drive forward strategically.

Admittedly, I've been at iPass now for only about a month, but I am diving into our model and looking forward to sharing with you the evolution of our revenue streams, product profitability profiles, cash generation and the other key metrics that are important to all of us.

With that, let's take a look at Q2 and start with the P&L. Total revenues for Q2 were $43.7 million, a decrease of about 2% or $900,000 from Q1. The net decline was a result of the anticipate erosion of dial up revenues as we previously communicated as well as decline in fee revenues, both of which were partially offset by growth in broadband revenues in the quarter.

While we certainly are driving for higher growth rates, we were pleased that all lines of broadband revenues increased sequentially in Q2 over Q1 as total broadband revenues came in at $27.6 million in Q2, up nearly 4% from Q1. The largest revenue component of that Wi-Fi and hotel Ethernet revenue came in at $16 million in Q2, a modest but respectable 3% growth over Q1 and that was primarily driven to an increase in demand for our enterprise flat rate, or EFR pricing plans.

Our managed network services, or fixed broadband revenues were $7.2 million in Q2 up slightly from $7 million in Q1. Importantly, as Evan discussed, we were pleased to see our mobile broadband or 3G revenues increase more than 10% to $4.4 million in Q2, and the number of 3G subscriptions, grew approximately 7% to 31,000 at the end of the quarter. It's worthwhile to note that while year over year 3G revenues are up $1.6 million over Q2 '08 or over 50%.

Moving on to services and other fees, this revenue line came in at $11.5 million for Q2, down modestly versus Q1 due to less minimum commitment revenue as customers continue to migrate to our EFR pricing plans as I mentioned earlier.

Dial up revenues in the second quarter were $4.6 million versus $6 million in Q1 and while it was certainly a large percentage reduction, it was less of a decline than anticipated and dial up now accounts for under 11% total revenue.

As far as our global footprint, iPass continues to maintain a strong global brand and presence and in Q2 international revenues accounted for 38% of total revenues.

Moving on to costs and gross margin, lower network access costs of $18 million drove a 65 basis point improvement in our gross margin the second quarter which came in at 58.9%. We were pleased to see the benefits of our cost engineering efforts start to bear fruit and that was seen in lower Wi-Fi rates in Europe, and 3G subscriber cost optimizations here in the states. That together increased profitability both for Q2 and structurally going forward.

Q2 gross margin also benefited from a one time true up of network access costs with an overseas carrier, which contributed approximately a net 50 basis points to gross margin in Q2.

Turning to non-GAAP operating expenses which excludes stock based compensation expense, restructuring charges and amortization of intangibles which I'll discuss together in a moment. These expenses improved across most categories over Q1 with the exception of the G&A line item which had one time expenses in it of approximately $650,000 associated with the recent annual shareholder meeting and proxy contest.

The reduction in overall operating expenses from Q1 was driven by a full quarter benefit from the Q1 restructuring of approximately $1.3 million as well as some additional cost savings from a company wide focus on smart spending and lower sales compensation expense on the back of lower than anticipated bookings, or MOV.

Rounding out operations, total stock based comp; restructuring and amortization of intangibles were about $800,000 in Q2 which was meaningfully lower than Q1 as a function of the $3.3 million restructuring charge recorded in Q1.

This all resulted in non-GAAP operating income of $1.7 million in Q2 which was a 31% increase versus Q1. In addition to maintaining our non-GAAP profitability as we committed to doing, we were pleased to also deliver GAAP operating income of approximately $900,000 in Q2.

Looking at the bottom line, we reported net income and earnings per share profitability on both non-GAAP and GAAP basis. We reported non-GAAP net income of $1.8 million or $0.03 per diluted share in Q2 as compared to $0.02 per diluted share in Q1. On a GAAP basis, we had net income in Q2 of $1 million or $0.02 per diluted share versus a net loss of $3 million or $0.05 loss per share in Q1.

Turning briefly to our balance sheet and financial position, during Q2 we generated solid operating cash flows of $2.3 million. We would note that this would have been higher if were not for the $650,000 in proxy related expenses incurred in the quarter.

We ended Q2 with more than $70 million in cash and short term investments and we continue to have zero debt. Our accounts receivable and AR is in very healthy shape. Our cash collections remain strong and similarly our net DSO's are at two year lows.

With that I'd like to provide our expectations for the third quarter of 2009. Please note that the following statements are based on information that's available to iPass today. These statements are forward-looking and actual results may differ.

For Q3 we anticipate a continued challenging environment for booking new business. Continued but moderate decline in dial, a seasonally slower Europe, reduced travel as well as some concerns about flu impact continue to put pressure on our enterprise customers, resulting in a lengthening of sales cycles.

Given these factors, as well as a recurring revenue model that gives us reasonably good visibility into our core revenue line items, we anticipate total revenues to be in the range of approximately $41 million to $43 million for Q3. It follows that we anticipate GAAP EPS results to be in the range of a $0.02 loss per share to break even for Q3.

On a non-GAAP basis, we would expect non-GAAP EPS to be in the range of break even to $0.02 net income per diluted share.

As disclosed in our press release and filings, the difference between the anticipated GAAP results per share and the non-GAAP results per share are approximately $0.02 is based on expected stock based comp of approximately $600,000, restructuring and severance charges of approximately $200,000 and the expected amortization of intangibles of $300,000 in Q3.

Before we move on and do some Q&A, we wanted to also briefly note that iPass is proud to have been added to the Russell 2000 index at the end of Q2.

With that, we would be glad to open the call for any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Neil Weiner – Foxhill Capital Partners.

Neil Weiner – Foxhill Capital Partners

Nice to see a profit in these times. I just want to delve into a couple of things and try to understand the drivers of what's going on in MOV. Are you having trouble with 3G contracts or other broadband services? Where is the weakness coming from?

Evan Kaplan

It came actually from both places and to be more specific there were a number of large deals in the quarter, certainly in the single digit, about half of them having a significant 3G component that just got stretched out on contract turn. People went back and reviewed utilization, got to the CIO's desk and didn't get final commitment and went back for review again. Those kinds of situations and it's across the general Wi-Fi and the 3G not just the 3G.

Neil Weiner – Foxhill Capital Partners

When you say the 3G pipeline is strong, are you saying that these are just push outs that you anticipate and you expect further growth in 3G over the latter half of this year?

Evan Kaplan

Without giving specific guidance yes, expect further growth and I do see these as push outs and I expect our results to improve.

Neil Weiner – Foxhill Capital Partners

Talking about the new service delivery platform, have you shown it to any potential clients yet? What's the time line of that? If you can just give us a guideline of when you said it's going to be released later this year, what's the time line we can look for in terms of corporations looking at prototype, and when do you expect sales of that type of service?

Evan Kaplan

Expect me to when we get on our next earnings call to discuss third quarter results, I'll be happy to provide an update on that. On the customer specific feedback, there's been a tremendous amount of work to gather that upfront and given that we're working on, without getting into too much detail, the actual development methodology, it's late this month and early next month that we start bringing customers in house for multiple days to sort of run though this stuff with us.

Most of the platform won't see what you would normally see as a software data cycle. Instead you will see constant reiteration with customer impact over the next 60 to 90 days. So look for me to give an even more complete update on the status on that next quarter call because then we'll be getting close.

Neil Weiner – Foxhill Capital Partners

But it's not going to be the typical release something, then there will be a beta period and then you'll start selling it, is that correct?

Evan Kaplan

What will happen is, a part of it, the client component, particularly the windows client will have a beta component to that, and that you'll be able to get feedback on potentially if you're a user of the service, you can get it probably in the mid October time frame, mid October to late October.

Neil Weiner – Foxhill Capital Partners

Will that be configured also for Windows 7?

Evan Kaplan

It will support Windows 7 right out of the box.

Operator

Your next question comes from Edward Einboden – William Smith Company.

Edward Einboden – William Smith Company

You were talking about bringing a new VP on to work with network access costs and kind of drive that down. Is that some opportunity see that you've been able to kick things around internally and find there's levers to pull there or is this something that you think you just needed somebody more dedicated to look into this and drive that point home.

Evan Kaplan

It's a little bit of both. I think there's a real opportunity to have an analytical senior person who's got deep telecom experience managing that stuff directly which is the kind of person we've hired for that position, and somebody who's used to dealing and negotiating with network carriers for a variety of different services.

So we felt like there was a strategic need for it. We also do feel like there's a real opportunity there. That is obviously as you look at it as a component of our cost model, it's a big number, and even small improvements have big impacts on profitability. So we think there's an opportunity there.

I'll also be pleased to comment more on that on our third quarter call to talk about what we're seeing once the person is in the role which we're expecting mid this month.

Edward Einboden – William Smith Company

Are you going to send out a press release regarding that?

Even Kaplan

Yes, when the person is on board.

Edward Einboden – William Smith Company

If you could comment on your R&D expenses, they declined a little bit sequentially and maybe the future of sales and marketing expenses and where you see that playing out, or is this something where you took some costs out temporarily and it may ramp in the back half of the year as you try to build some more business.

Steven Gatoff

As you heard, the expense profile for operating expenses generally is down in the quarter, saving G&A and that is something we would expect to see structurally continue through the year, albeit as we said, we'll manage for profitability but continue to make some investments. So there will be some investments in R&D and what have you around the next gen platform so that's something you should expect to see potentially offset some of the expense savings going through the rest of the year.

Evan Kaplan

And just to provide a little bit more color, as you know we said on previous calls, we now have a full time devoted team just to this platform in Redwood Shores and so I don't anticipate that there will be dramatic increases in R&D spending from where we are today.

I have enough to cover my growth initiatives. I've got a very strong team in place. I'm excited about the level of output that I'm seeing.

Edward Einboden – William Smith Company

I guess a little bit more color around the bookings. Last quarter you mentioned there was some towards the end that maybe slipped in and you expected to see in this quarter. Can you comment on whether you did see those contracts or those agreements close or that same level of activity or what have you that occurred this quarter and what's your expectations for next quarter, are they consistent with what you've been seeing or was there an uptick in that?

Evan Kaplan

In answering the questions, there is one deal that extended across both quarters that we marked as slipped for the previous quarter and this quarter, and that was a very sizeable deal. And so that was painful. There were pieces of that backlog that closed in the last quarter and then there were pieces in the backlog that did not close in the last quarter so it extended out over two quarters as customers held.

Edward Einboden – William Smith Company

Is that something that's specific to a certain industry or business type or just across the board?

Evan Kaplan

Because we're talking about such a few number of customers it would be easy to say it was, but I don't believe it is.

Edward Einboden – William Smith Company

I really appreciate Steven trying to add some more visibility there and appreciate all of that going forward, so good luck.

Operator

Your next question comes from Neil Weiner – Foxhill Capital Partners.

Neil Weiner – Foxhill Capital Partners

Could you just give us an estimate of how the percentage of customers are covered by EFR, your flat rate pricing?

Steven Gatoff

On a dollar basis, but not number of customers, it's about 50%.

Neil Weiner – Foxhill Capital Partners

And what is that up from last quarter or a year ago?

Steven Gatoff

I don’t have the number in front of me but it has continued to tick up sequentially quarter by quarter so I can dig out what it was year over year comparison for you.

Neil Weiner – Foxhill Capital Partners

Do you expect that number six months from now to be materially higher, marginally higher?

Steven Gatoff

I'd expect that number to be marginally higher. It will incrementally march up in the right direction.

Neil Weiner – Foxhill Capital Partners

Were there any large renegotiations of network access costs in the quarter?

Steven Gatoff

There were. There were some arrangements where we I wouldn't say renegotiated contracts, but we worked with the carriers to optimize our 3G cost structure with how different customer subscribers are costed out in various pools. So the answer is yes, we restructured our cost structure with underlying carriers that with some of the uptick you saw in the gross margin profitability for the quarter.

Evan Kaplan

We also made some specific progress with some of the wireless Wi-Fi renewals in those networks too. So in general, I think we moved the needle in the right direction in the quarter.

Neil Weiner – Foxhill Capital Partners

When will we see the fruits of those renegotiations? Is it the third or fourth quarter?

Steven Gatoff

You started seeing those in Q2 specifically where they had a nice impact. I won't quantify by carrier if you will to break that out, but the cost savings on one carrier alone on the 3G cost optimization definitely improved gross margin and ultimately to EPS in Q2 and we expect that to continue sequentially through the quarter.

Neil Weiner – Foxhill Capital Partners

One other question on 3G is the cost you have now to subsidize with the 3G card versus before?

Steven Gatoff

It is because the cards themselves are getting less expensive.

Neil Weiner – Foxhill Capital Partners

So that number has been coming down.

Evan Kaplan

Yes, it's been coming down. I wouldn't say it's been coming down dramatically but it's been coming down. As we also get a better view on our supply and are able to make more economic order quantity purchases, some of those sorts of things, we're generally as Steven was talking about the optimization; generally we're specifically getting more sophisticated about the operations around this business. As so we're looking to improve those margins consistently and make that business more attractive.

Neil Weiner – Foxhill Capital Partners

Is it fair to say that 3G is still more profitable than Wi-Fi?

Evan Kaplan

I think what we articulated was we felt that 3G would become more profitable than Wi-Fi and that in certain regions it was already more profitable than Wi-Fi early in its life. So our fundamental belief is that over the long term it will become more profitable than Wi-Fi.

Neil Weiner – Foxhill Capital Partners

But currently it is not.

Evan Kaplan

Currently it is not. That's right.

Operator

Your next question comes from Justin Orlando – Dolphin Management.

Justin Orlando – Dolphin Management

Can you give me a little bit of color on the differences in the sales and marketing line and maybe how your are, if you are thinking about sales and marketing a little bit different, or is it just the bookings change that gives you some help with that in the quarter.

How should I be thinking about gross margin as the revenue numbers drop in the back half a little bit here?

Steven Gatoff

Obviously as we've announced, we have a new head of sales running the organization so you would naturally expect to see some change and some initiatives going forward. Having said that the savings on that line item in the current period in Q2 was probably a combination of the lower sales compensation expense as you noted. And then also some impact from just lower head count.

So some of that will be structural going forward, and we'll obviously track to the revenue growth over time.

Justin Orlando – Dolphin Management

Do you think that you'll be examining the compensation structure for your sales and marketing team going forward? Will we see changes in it or are there opportunities there that you are looking at? How should I think about that?

Steven Gatoff

I would say everyone involved from Nick to myself to the head of HR and with Evan are very keen to look at the sales comp plan for 2010. We've kind of kicked off our planning process and thinking about what the structure looks like, how we're aligned, how we're incentivizing the sales folks from management down to quota carrying people to be aligned with some of our strategic initiatives.

So the answer is absolutely we will be looking at that and making sure that it's very much aligned with what we want to accomplish.

Justin Orlando – Dolphin Management

I'm sorry I interrupted you; you were turning to my gross margin question.

Steven Gatoff

Obviously we haven't given specific guidance on gross margin. There's a lot of dynamics as you said. As revenue would potentially tail off in a quarter like we've got it potentially in Q3, to some extent that will trickle down into gross margin. You'll see that flow all the way through to EPS. That will partially be offset by some cost savings, so it's kind of a mixed bag.

Operator

I would now like to turn the presentation back over to Mr. Steven Gatoff for closing remarks.

Steven Gatoff

Thanks a lot for you time. Appreciate it. Glad to get together and of course Evan and I and the team would be happy to take calls and do some one on ones with you afterwards and over the next week or so. Thanks very much.

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