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Executives

Richard Lindahl – CFO

Tom Monahan – Chairman and CEO

Analysts

Tim McHugh – William Blair and Company

David Ridley-Lane – Bank of America/Merrill Lynch

Gary Bisbee – Barclays Capital

Paul Ginocchio – Deutsche Bank

Shlomo Rosenbaum – Stifel Nicolaus

Suzy Stein – Morgan Stanley

Dan Leben – Robert Baird

The Corporate Executive Board Company (EXBD) Q2 2010 Earnings Call Transcript August 3, 2010 9:00 AM ET

Operator

Good morning. And welcome to the Corporate Executive Board’s second quarter 2010 conference call. Today’s call will be available for replay beginning today and through August 11th, by dialing 719-457-0820. The confirmation code for the replay is 9544010. The replay will also be available beginning later today and through August 11th at the company’s website, which is executiveboard.com and at www.earnings.com.

To the extent any non-GAAP financial measures discussed in today’s call, you’ll also find a reconciliation of that measure to the most directly comparable financial measure calculated according to GAAP by going to the company’s website and following the Investors link to yesterday’s news release. You’ll also find a PDF of the supporting materials that the company will use in its prepared remarks this morning by following the Investors link to the second quarter webcast. Please review the second page of these materials, which include important information about any forward-looking information included in the presentation.

This conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements, among others, regarding the Corporate Executive Board’s expected quarterly and annual financial performance for fiscal 2010. For this purpose, any statements made during this call that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the foregoing discussions or forecasts, estimates, targets, plans, beliefs, expectations and the like are intended to identify forward-looking statements.

You are hereby cautioned these statements may be affected by important factors among others set forth in the Corporate Executive Board’s filings with the Securities and Exchange Commission and in its second quarter news release. Consequently, actual operations and results may differ materially from the results discussed in the forward-looking statements. The company undertakes no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.

At this time, for opening remarks, I would like to turn the conference over to the company’s Chief Financial Officer, Mr. Richard Lindahl. Please go ahead, sir.

Richard Lindahl

Thank you, Scott. Good morning everybody. I’m Rich Lindahl, Chief Financial Officer of the Corporate Executive Board. Thank you for calling or logging into our second quarter 2010 conference call. Let’s begin with a quick overview of our time together this morning. I will start by giving you a financial perspective on the quarter and reviewing our 2010 guidance. Next, Tom Monahan, our Chief Executive Officer will provide an update on our operational progress and the strategic priorities we are following to build long-term shareholder value. Then, we’ll take your questions.

Please turn to slide three of our presentation for the key messages we’d like you to take away from today’s discussion. We are pleased with our second quarter results, which we believe demonstrate that our strategies are working.

We experienced strong sequential growth in both contract value and revenues, driven by solid bookings and the acquisition of Iconoculture in May. As expected, we had seasonal increases in selling and service delivery expenses, as well as higher spending on product investments.

Through the first half of the year, we are tracking ahead of our original plans and as a result, we are updating our guidance to reflect this improvement in our performance and to incorporate the impact of the Iconoculture acquisition. Finally, we remain focused on our four key operating priorities and are continuing to invest in selected growth opportunities.

Please turn to slide four for an overview of our financial results. At June 30, 2010 contract value was $410.1 million, which is an increase of 2.1% from June 30, 2009. As expected, contract value increased sequentially and ended the second quarter up $28 million or 7.3% from March 31.

Continued strength in program renewals combined with improvements in both cross sales and new sales led to a sequential increase in both large corporate and middle market memberships. The addition of Iconoculture contributed approximately $13 million to the sequential change in contract value.

Revenues were $109.6 million in the second quarter, 1% lower compared to the $110.7 million we reported in the second quarter of 2009. On a sequential basis, revenues increased by 9.4% from the first quarter driven primarily by stronger program renewals and a lift in non-subscription revenues from events and performance analytic services. Iconoculture, which we acquired in early May also accounted for approximately 25% of the increase from the first quarter.

As expected, operating expenses in both the cost of services and member relations and marketing lines increased from the first to the second quarter. Seasonal increases in selling and service delivery activities resulted in higher travel, meeting and print production expenses.

We added staff and other resources as we continue to invest in product development. Incentive costs also increased due to continued improvement in bookings performance and the addition of Iconoculture layered expense primarily in cost of services and to a lesser degree in member relations and marketing.

Adjusted EBITDA margin in the second quarter was 22.1% versus 26.9% in the second quarter of 2009. Last year’s margin benefited from a $2.2 million foreign currency gain and higher revenues. On a sequential basis, adjusted EBITDA margin declined 240 basis points from the first quarter as seasonal expense and product investment increases offset the sequential gains and revenues.

Other income in the second quarter decreased $4.9 million, compared to the second quarter of 2009, primarily due to last year’s foreign currency gain, as well as a $2.3 million swing from a gain to a loss in the fair value of the deferred compensation plan assets. Our effective tax rate in the second quarter was 41.9%, an increase from last year mainly due the book versus tax treatment of foreign currency losses.

Non-GAAP diluted earnings per share was $0.32 in the quarter, a decline of 22% from the $0.41 we reported in the prior year period and a 6% reduction from the $0.34 recorded in the first quarter. Membership fees receivable remained nearly flat $80.9 million on June 30, as compared to $80.8 million at March 31st.

Day sales outstanding declined to 66 days for the second quarter of 2010 consistent with historical patterns. The current portion of deferred revenues decreased sequentially by $13 million or 5% to $227.2 million at June 30, reflecting the seasonal change in booking patterns. As compared to the prior year period, deferred revenues increased by 5.2% due to improved year-over-year bookings, as well as the additions of Tower Group and Iconoculture.

Year-to-date cash flows from operations were $56.1 million, an increase of 184% versus the first six months of 2009. We paid approximately $9 million through June 30, net of cash acquired in connection with the Iconoculture transaction. Year-to-date capital expenditures totaled $1.2 million and we paid out $7.5 million in dividends during the first half of the year. We ended the second quarter with $113 million in cash, cash equivalents and marketable securities. As of June 30 we had $21.1 million in remaining share repurchase authorization.

Turning to slide five, as just discussed, contract value grew 7.3% sequentially during the first quarter. This increase was fairly evenly split between the organic growth we expected and the acquisition of Iconoculture.

Our North American and Asia-Pacific regions both performed very well during the quarter growing both sequentially and on a year-over-year basis. In Europe, our teams did a great job maintaining their focus despite experiencing some disruption following their transition to the account management model.

We saw solid performance across all our practice groups with notable strength shown by our employee and sales performance analytics teams. Improvements across all elements of our bookings, renewals, cross-sales and new sales, led to improved cross-sale ratios in both the large corporate and middle market sectors.

Next, I’ll discuss our outlook. The following comments are intended to fall under the Safe Harbor provisions outlined at the beginning of the call and are based on preliminary assumptions, which are subject to change overtime.

Please turn to slide six, which again shows the lag effect concept we have previously described and let me remind you again that this is simply an illustrative graphic. As we have discussed with you during the last several calls, because we recognized revenue over the life of our contracts. There is a lag between changes in contract value and the time it takes for those changes to be fully reflected in our revenues.

Our second quarter results show we are moving in the right direction and we expect to see further gains in contract value and to a lesser extent revenues in the second half of the year. Our second quarter results also point to the fact that we are following through on our plans to make selective investments where we see clear opportunities to accelerate our return to growth. And so in 2010, we continue to expect our operating margins to be pressured by the combination of the revenue lag and a higher expense base.

Turning to slide seven, I will review our updated outlook for 2010. We are seeing improved performance through June 30 and expect the combination of sustained renewal rates, improved cross-sales and better new sales to result in continued contract value growth this year.

Second half revenue should be comparable to somewhat higher than the run rate seen in the second quarter depending on the timing of bookings and the contribution of non-subscription revenues. On the expense and capital investment side, we expect the second quarter’s expense run rates to persist with selected increases coming through, as we add sales and service capacity, drive initiatives such as the new member portal and continue product development and launch readiness.

While many of these costs were not directly impact 2010 revenues, we believe they will help set us up for further growth in 2011 and beyond. As you all know, the economic news and the direction of the global recovery remain mixed.

On balance, we are finding that companies are increasingly focusing on forward looking priorities, areas where we can and do add significant value but they continue to control expenses as a hedge against another downturn. And while pleased with the European teams focus and progress, we remain in the early stages of their transition to the new commercial model. Accordingly, our outlook contemplates both continued momentum and the possibility of slower growth through the second half.

And so our updated guidance, which now fully incorporates the addition of Iconoculture is as follows. Annual revenues ranging from $430 million to $440 million, adjusted EBITDA margin between 21.5% and 23.5%, non-GAAP diluted earnings per share of $1.20 to $1.35, depreciation and amortization expense of $19 million to $21 million and capital expenditures of approximately $6 million to $8 million.

The above guidance represents our best estimate at this point and we will update you periodically as appropriate. That’s it for the financial summary. Please turn to slide eight and I’ll turn the call over to Tom.

Tom Monahan

Thank you, Rich. Good morning, everybody. As Rich has made clear, our strategies are taking hold, our plans are on track if not slightly ahead in some places. The economic environment while still very cautious is certainly fine and I believe most of the credit for our strongly than expected results goes to our teams.

We really started to run with our new operating models, I see real energy and enthusiasm in the field and the research organization. We’re committed to providing these great teams with the support they need to keep raising the bar on performance.

To do that, we’ll keep focusing on our four key operating priorities, which are number one, driving large customer loyalty to high-value personal engagement; number two, investing globally in our strongest brands; number three, improving the member experience through enhanced technology and analytics platforms; and number four, elevating member performance through great content and innovative products.

Our long-term growth depends on driving all four of these priorities consistently across time. Since we’ve kept you up to date on the restructuring and realignment of our sales and service organization, I’d like to spend a bit more time today on some of the great research data and analysis that our teams are creating.

Our member companies are still navigating a very complex time in the global economy. And our teams have done a particularly good job producing must-have analysis and insight to help them with their critical decisions. So I want to spend more of our time this morning talking about some of our new content and research developments, because we see real opportunities both to create member impact and build new product lines across time. But first, let me take you quickly through the highlights of what we’ve done this quarter and where we’re going in the other three priorities, all of which remain critical to our success.

If you could turn to slide nine, driving large customer loyalty through high-value personal engagement. As we said from the outset of our change process, the biggest driver of our growth is our ability to increase revenue per member.

We have built the preeminent customer base in the business services sector. And we have rebuilt our company to better engage and support our largest members with the explicit goal of growing our footprint across these customers overtime. Even with recent improvements, our biggest customers buy just under a third of what they could from us and most a much less penetrated than that.

During this past quarter, we implemented our account management model in Europe. The reorganization is now largely done and I want to compliment the team there for their professionalism and focus, which they displayed throughout the process.

We obviously were at early days in this important transition, but we are already seeing promising initial outcomes from the team. As our cross-sales numbers indicate our North American account managers are doing great work developing and expanding relationships with existing members and we are seeing initial signs of traction on new sales.

We now have absolutely top-notch teams in place and throughout the year we will continue to refine and improve their performance by adding and enhancing support and more aggressively adding staff against growth opportunities. Given our emphasis on relationships and continuity, we’re likely to focus equally on adding support to leverage our highest performers and adding new capacity to the system.

Please turn to slide 10, investing globally in our strongest brands. There are two major fronts in this priority. First, continuing to build public recognition of powerful resources in our core domains and then leveraging that strength to grow quickly in key growth markets. First as to brand building. Many of you likely saw our major article in the Harvard Business Review in June entitled Stop Trying to Delight Your Customers.

The article drew insight from our rich data on customer experiences, preferences and buying behaviors at more than 100 companies. We leveraged this exposure into other media outlets and most importantly, to build relationships with existing and potential members.

Beyond our normal slate of several hundred principles only meetings in the quarter, we also hosted some important events in the quarter that helped us showcase leading edge work and engage key members and prospects. Most notably, the Iconoculture team hosted their annual Iconosphere Conference held in LA.

The event was very well attended. More than 200 senior marketers from a broad range of the best companies were there. We shared more than 20 leading edge presentations of our work and debut some exciting new quantitative assets. We were thrilled to be part of it and came away even more excited about the people and resources of our new business line.

Even as we built stronger brands around our most compelling resource areas, we are extending these brands to important growth markets. The largest and most important of these continues to be our growing middle market business.

Our team in North America has done a great job adding new companies to the membership roster, renewing the membership base and designing valuable add-on services that allow us to take average price up overtime. We also have begun to build the capabilities necessary for targeting middle market companies outside of North America.

The Singapore office opened last quarter has already begun extending our reach to western multinational companies who have regional headquarters in the region. We saw strong growth in Asia Pacific beyond our traditional core of Australia and New Zealand. Finally, we continue to adapt our resources to the needs and interests of the government market globally.

Moving forward, we have begun to incubate several alliances to help us build our brands, particularly in targeted markets. We will share some details on these as they come into production.

Please turn to slide 11. Improving the member experience through enhanced technology and analytics platforms, our goal here is to keep ensuring that we complement our great research and high-end service capabilities with leading edge technology tools that both support our Service and Advisory personnel and link our resources directly to member work flows. Our major work in the quarter focused on finalizing design and testing of our new member portals and planning for rollout across the remainder of the year.

Given that our existing technology platforms are already generating consistently higher levels of usage, we are leveraging and streamlining the most valuable features of the existing platform and pursuing a phased rollout to ensure little or no member disruption. We also see continued returns from our investments in analytic capability and service that leverage our insights to provide members with company-specific data about employee engagement and sales performance. Both our Employee Analytics group now fully integrated with the Genesee team and our sales performance solutions team turned in a stellar first half.

Now, if you’ll turn to slide 12, great content and innovative products that elevate member performance. Our business begins and ends with great research data and analysis. It’s our ability to give members definitive answers to the most pressing recurring decisions that causes them to engage, buy and renew their relationships with us. And great content assets also pave the way to new revenue stream.

As our teams work to turn single data assets into a recurring part of a members work, we’re at a appoint in the year and in our delivery cycle where we have a pretty complete view of what our members are wrestling with and of the quality of our work in supporting them. Each of our research teams focuses intently on the needs and interests of their particular member base.

But, we do see certain themes that transcend individual executive roles and functions. Let me touch on just two of these themes and show how individual product areas are building unique data and insights that drive member performance.

The first area is understanding and managing risks to the enterprise. A substantial number of our products help companies manage risks, but recent work in two areas really stands out. First our Compliance and Ethics Leadership Council has put together a massive database on employee behaviors and perspectives and how these correlate with nature and severity of employee misconduct.

Across the past year, they have marred this data set with data on shareholder value better understand how different risk profiles move the P&L. We’ve now combined data from more than 500,000 employees and managers and more than 100 leading companies with our proprietary database on corporate performance to quantify the impact of certain management behaviors on shareholder value.

The data is eye-opening, companies which score in the top bracket on our integrity index outperformed their peers by more than 15% in 10-year total shareholder return. Some of this is to be expected. Companies that score high on the integrity index or a lot less vulnerable to misconduct and related events, but perhaps more surprisingly they also enjoy higher levels of ongoing labor productivity.

Members use this diagnostic in our related tool kits not only to assess their overall organizational integrity levels, but also to highlight and treat geographic or business line vulnerabilities. As you would guess with some of the events making news right now management teams are highly interested in data and resources that help them sense and respond to signs of trouble in their organization or in their employee populations.

Beyond employee behavior one other, one of the other major risks vulnerabilities for large company is the quality of its information security regime. Our information risks executive council has worked with more than 100 the largest corporate IT organizations to build the detailed set of benchmarks about their controlled process and their related effectiveness.

They then analysis this data to give members a controls maturity index that helps them assess their own control environments and pin point particular vulnerabilities. The team has done a great job on this analysis realizing that not all environments are equal and devising analytics that help each member assess where their own next dollar is best bet.

This is one of those places where the math points rather predictably to areas where organizations have under invested, so just end user awareness or security protocol during applications development. Thankfully, the data also gives members guidance on places to vote for savings, such as backup procedures or policy development.

This is the two of the many places where our members have direct us to, directed us to build and help those to a mass; unique assets to help them manage key risk vulnerabilities. We’re seeing opportunity not only to use insights from this quartile members prioritize their investments. But also to continue to forward integrate interior risk management processes.

Second major theme that we see members scrupling with across geography is driving the performance and critical talent. Some of these are focused here for obvious reasons.

In the vast majority of major markets globally, our members expect slow growth for the foreseeable future and remain cautious about adding new capacity. They are counting on driving performance for more careful management of their existing given capital and are relying on our work to help them select and execute the highest return strategies.

Two examples then out here; first our sales executive council has assembled three years worth of compelling data that provides members with an anatomy of high performing sales organization. We’ve drawn insights from three distinct data sets we maintained. Survey data from thousands of corporate customers about, what drives their purchasing behavior and loyalty, data on sales managers and time allocation and data on the profiles and activities of thousands of top performing sales people.

Together these help us create diagnostics tools and insights that help sales leader select deploy and manage sales talent to generate higher performance from their existing sales force. The economic returns from getting this rider huge in terms of that 53% of B2B customer’s loyalty is a direct result of the selling process in larger loyalty driver in brand or product quality.

And the biggest driver of the great sales process is the ability of a sales team to teach and challenge a customer as part of the selling process. As you’d imagine, there’s huge implications for the process, the types of people who excel in the territories you design for them and we’ve supplemented our data with a range of tools to help members navigate this shift.

Second, our Corporate Leadership Council continues to support members of their focused resources and their highest value and highest potential employees. More than 100 of the world’s leading companies have given us access to their employee data and the ability to serve and analyze those people, the companies identify as their highest performers.

This allows us to target their highest performing and highest potential employees to understand how companies can optimize the performance of this critical talent segment. The economics of getting this right are really compelling for member companies. Due to productivity and leadership potential the average hypos were twice as much as the average employee, but the last two years have taken their total on this population.

Lower pay, slower career tracks and stress around cost management initiatives have conspired to alienate the staff. And as a consequence, we see them trading down in terms of ambition and commitment to the organization.

Strangely, they aren’t leaving, there is making a choice not to drive this hard or aim has high in their career. To put this in context, two years ago 29% of the highest preforming employees had the capabilities and ambition to succeed at the next level. Now only 15% do.

Reengaging and remobilizing this population is job one for the HR Executives we serve. And this data and the research tools and best practices that surrounded helps them to identify and manage this Group effectively.

Here are just a couple of snapshots of how we’re developing research data and insights that help members drive great performance of their own companies. Obviously, these data assets not only allow us to engage and support our members right now, but they often provide platforms with deeper service lines and add-on products. As a result, the great work on employee engagements and our acquisition of Genesee has given us a strong platform in employee analytics.

Our team here saw a great success across the first half of the year and we see similar ability to extend other key assets deeper into member work flow. In a higher level with our sales and service teams now firing and member budget is stable, you can expect to see us push harder to increase the scope of our product set.

Obviously, in Q2 a major new add to the product set was the acquisition of Iconoculture and that occupied the bulk of our attention. With the addition of Iconoculture enrolling their various service lines of TowerGroup up into three broad categories, we now have 48 products in the market place.

Keeping in mind that about 15 of these are targeted toward the FS industry or toward middle market companies, we now have well more than 30 products to sell through the average large company. While we’d expect to see that number grow steadily from here, it’s important to realize that this is not the only level we use to grow the business. Indeed over time product count may not be the most salient indicator of our total growth potential as teams find ways to add features and services to our products that members are happy to pay out for.

An easy example would be in the middle market or our alliance with SkillSoft enables us to develop online training curricular targeted to the needs of Finance, IT and HR Executives in their teams. These additional services don’t show up in our product count but they’re a highly profitable way for us to deepen the relationship. So expect to see us add between three and five products a year, but expect us also to drive business in other ways.

Before closing, I’d like to say a word about our people. Once again they have demonstrated enthusiasm, creativity and commitment. We have great teams we’re becoming efficiently skilled at building and managing long-term trusted relationships.

Through business partners you can see how our content relates to member needs, you can match the right products and services to those needs at the right time. As a company, we are focused on making sure that they can always present the very best, most relevant and timely content packaged into the most useful appropriate products delivering through the most comprehensive and user-friendly platforms.

To wrap up, I want to say that we are pleased with our performance this quarter and excited about our prospects for the rest of the year. We are managing the business for sustainable growth over the long-term.

So we expect progress to be steady rather than sudden. We believe this will build a better, stronger company for our members, our employees and our shareholders. Thank you. Rich and I’ll now take your questions.

Question-and-Answer Session

Operator

Thank you. The question-and-answer session today will be conducted electronically. (Operator Instructions). We’ll go next first to William McHugh with William Blair and Company.

Tim McHugh – William Blair and Company

Hi. It’s Tim McHugh. First, I want to ask about the, you mentioned higher non-subscription and events driven revenue for the quarter. Can you maybe quantify that and then give a little more color about that and what you might expect going forward if there was anything one time or unusual that happened this quarter?

Richard Lindahl

Yes. We did see a little bit of a lift in that area. What we are talking about here there is really kind of a couple of different factors. As always the overlong majority of our revenues is coming in the form of subscriptions. Some of our more recent acquisitions though have some robust profitable non-subscription revenue lines like the Iconosphere Conference that Tom talked about. Tower Group also has a conference. The Canadian operation that we acquired previously known as Warrillow also has a conference and those kind of lined up in the second quarter as well.

In addition, we’ve been seeing a little bit more member demand for things that we’ve always done around customized support or data cuts and also some performance analytic services that Tom also talked about. So we saw little bit of a lift there in the second quarter and we would expect that to be more of a seasonal factor. I guess another thing that I would highlight over time is this could become a slightly larger portion of our revenue not only due to these factors but also due to the upcoming change in revenue recognition guidance that the FASB has put out effective for us next year and that will cause us to change how we account for a small portion of our program revenue as well.

I still wouldn’t expect over time for us to have more than call it 10 to 15% of our total revenues not coming in the form of renewable revenues, but that kind of paints the picture of kind of where we were in the second quarter results are going forward.

Tim McHugh – William Blair and Company

So would you say it was in that – still in that 10 to 15% for the second quarter...

Richard Lindahl

It was far less than that in the second quarter, but relative to the first quarter it was higher than the first quarter.

Tim McHugh – William Blair and Company

Okay and then can I ask about renewal rates you mentioned that they remain strong I think on last call you had mentioned that they rebounded back towards to your kind of long-term average by the end of the year, are you seeing further improvement in that metric or is it more you’re sustaining some of the improvements that you saw last year?

Tom Monahan

Hey Tim.

Richard Lindahl

Go ahead.

Tom Monahan

Tim, it’s Tom, yes we continue – as you know big focus of ours through this transition has been to put people out of place to develop long-term sustainable relationships first engage and then grow the relationships and we are very, very pleased with the renewal impacts that we’re seeing from those change efforts. We continue to see very solid progress on that and as you know that’s the platform for future growth and cross-sales that those numbers continue to move in the right direction.

Tim McHugh – William Blair and Company

Okay. And then my last question would be you’d mentioned that you are pleased kind of you are seeing some traction from the sales force reorg in the U.S. that the large company cross-sell ratio being up 2% year-over-year. Is it fair to say you are seeing better metrics in the U.S. on that – at this point given the reorg than you are in Europe, I mean you haven’t made that yet or could you just talk about where you would see the tangible results of some of the reorg in the U.S.?

Tom Monahan

Sure. Yes you are dead right. The reorg in Europe is a give or take 60 days old at this point. And we are pleased with how the teams set themselves up for the transition and pleased with how quickly they got engaged. But made no mistake about it, it’s a very real transition. So the real strength we are seeing in terms of cross-selling and depth of account management is in North America and APAC.

Tim McHugh – William Blair and Company

Okay. Thank you.

Operator

We’ll go next David Ridley-Lane with Bank of America/Merrill Lynch.

David Ridley-Lane – Bank of America/Merrill Lynch

Sure, what was the rough amount of integration cost in the second quarter that will not repeat in the third quarter?

Richard Lindahl

That was somewhat less than a penny.

David Ridley-Lane – Bank of America/Merrill Lynch

Okay. And were there any associated cost with the European sales transition that again will not repeat in the third quarter?

Richard Lindahl

Yes. The transition costs really come more in the form of diminished productivity, I think would be the best way to think about those. Actually, we’re still filling out some of the positions in that market. And so one of the things that’s going to drive additional cost for us in the second half of the year as we add more sales capacity in Europe.

David Ridley-Lane – Bank of America/Merrill Lynch

Okay. And then Tom, this is a second quarter you’ve mentioned the efforts to globalize the U.S. middle market product. When will those efforts sort to be out in the marketplace?

Tom Monahan

We certainly have pilots going on in Europe and Asia-Pac right now. We’re going to ask the same four questions, of those pilots that we asked in piloting this product in North America, the first is are the resources we’ve got valuable to the executives of those sized companies. We, I would say the strong hypothesis, the answer is yes but we need to – we need to make sure that we want to understand the pricing levels that those markets can support, make sure that we can be profitable in those. We want to understand what selling models work best. I want to make sure we understand what makes these offerings highly renewable across time. So, we certainly have people out there trying to solve those questions and live fire exercises. But as with all investments in our business, it will take multiple quarters if not couple of years for the full impact of those investments to be fully realized.

David Ridley-Lane – Bank of America/Merrill Lynch

And then may be one more question if I could sneak it in. When you think about the sort of the hiring you’ve done year-to-date and then your hiring plans in the second half. Would you say you’ve – are you hiring going to hire more in the second half than you did in the first half or about the same sort of curious and this is on the sales force primarily as far?

Tom Monahan

I think, I think you could see the step up in Q2 as the hiring engine started to turnover. So, I think when you think of the first half has been a combination of Q1’s expense level and Q2’s expense level where we’re adding to two 2Q’s expense level from this point forward, so more hiring.

And as always we’re not hiring 1000s of arms and legs, we’re looking for terrific people who are going to engage with the royalty and executives will create resources for them. So, we’re not talking 1000s of arms and legs, but we’re looking to add great people both in the sales organization, in the service organization and in the product organizations.

David Ridley-Lane – Bank of America/Merrill Lynch

All right. Thank you very much.

Operator

We’ll go next to Gary Bisbee with Barclays Capital.

Gary Bisbee – Barclays Capital

Hi, guys. Good morning. I guess on the backing of that last question it seems like the guidance calls for reasonably big at least several million a quarter sequential increase in cost and each in the next two quarters. And is that just what you’re referring to a few more heads or there are other big investments outside of the cost structure, the acquisition that you’re layering on that we should think about in the second half of the year?

Richard Lindahl

Yes. Hi, Gary. It’s Rich. I think there is probably a couple of things to keep in mind here. First, we constructed our guidance to contemplate a few different possible combinations of revenues and expenses outcomes and as you know we’re very focused on balancing growth and profitability to make sure we get the right returns on our invested capital.

And as we’ve talked about also this lag effect also manifest itself, kind of investing in front when we’ll see the revenue come as a result of that – of those investments. So, we are continuing to invest in some of the product areas in terms of research staff and advisory support where we see opportunities to strengthen and grow our business.

We’re also adding new sales resources both in terms of front line, gold bearing personal as well as support staff to leverage their productivity. In particular, in Asia Pacific in the middle market on our performance analytics teams where we’ve seen good momentum and we want to kind of leverage and build that momentum going forward. And as I just talked about a little earlier as we complete the transition in Europe, we’re adding some staff there as well.

You’ll also see a little bit more expense coming as a result of Iconoculture; you’ll recall we acquired them in early May. So, the quarter only includes a little less than two months of expense for them. And then, I’d just remind you and you saw some of that in this quarter as well that we do have fluctuations in our expenses relative to movements in the foreign currency markets and in the investment markets relating to our deferred compensation plan asset. So, depending on market conditions we could see additional expense or income as well on that line. So, hopefully that gives you a little bit more flavor in terms of how we’re seeing things play out.

Gary Bisbee – Barclays Capital

Okay. Thanks. In terms of the contract value if you back out, I guess you said $13 million from the acquisition. It’s a pretty healthy sequential increase and I guess that has to mean that the number of new sales whether new customers are cross-sales has improved significant in the last quarter or two, is that the right way to interpret it and I guess how do you think about leading indicators around continued trend in the number of total sales over the next couple of quarters?

Richard Lindahl

Yes. There has been an improvement in both cross-sales and new sales. And we saw that, sequentially as well as year-over-year. You remember we talked about last quarter how the first quarter is our biggest renewal pool of the year second quarter is a small renewal pool. So, the impact of cross-sales and new sales can have a larger effect on the second quarter bookings and contract value trends than – than they do in the first quarter.

Gary Bisbee – Barclays Capital

And, what would the third and fourth quarter look like in terms of that?

Richard Lindahl

Well again most of our bookings tend to be concentrated between the fourth quarter of the year and the first quarter of the year and less so in the second and third quarter. So that trend influences collection patterns that trend also influences what you see in terms of deferred revenues year-over-year. And so we do expect additional growth as we go through the third and the fourth quarters based on what we’re seeing today.

Gary Bisbee – Barclays Capital

And I guess just one last question from me. There were clearly some fundamental challenges the company faced in the last few years and the cyclical challenge layered on top with that. Can you give us the sense of the improvement in trends you’re seeing? How much of that is cyclical snapback like renewal rate sort of normalizing versus the progress you’ve made fundamentally with the new selling model? And how should we think about that and what I’m obviously getting is trying to understand how we should think about the growth potential of the business in moderately improving economy over the next 12 to 18 months? Thanks.

Tom Monahan

Hey Gary, the way we were pretty clear throughout the downturn that there were two factors that play; one was global economic crisis that we didn’t control. The second were some vulnerability in our business system that we did that we were committed to fixing. So coming out of this, I think both things through in the other direction which is we are certainly seeing member budgets and outlooks improve off of late 2008, early 2009 of any ones you had, throwing a victory pride for the global economy, but people are certainly planning and going about their business with an overall stability we hadn’t seen before.

At the same time, we’re very pleased with the impact of the moves we made in actions we took, we think both from a product set perspective we doubled down in our strongest areas. And from sales, service and support framework perspective, we’ve put great people in a position to have great impact on member companies. And through those two drivers really grow the business across time. So, it’s certainly much as it was in 2009 it’s certainly both in 2010.

Gary Bisbee – Barclays Capital

In any way to say how much is each or is that to that at this point?

Tom Monahan

Yes – no, I mean I think it would be virtually impossible to quantify. We’ve been pretty clear that the economy was not the only thing that gotten our way. And coming out of this, we are pretty clear the economy is not the only thing that’s helping us along.

Gary Bisbee – Barclays Capital

Okay. Thanks.

Operator

We’ll go next with Paul Ginocchio with Deutsche Bank.

Paul Ginocchio – Deutsche Bank

Yes thanks. Two questions, first can you talk about the financial services in market relative to the entire group that outperformed the group or underperformed the group, I would suspect it outperformed based on what we are hearing from some other companies. And second, can you give us an idea of maybe where free cash flow converging comes in versus a free cash flow versus that income or at least the range? Thanks.

Tom Monahan

Sure. Sure Paul, I will take the first, Rich will take the second. As you remember, our financial services is give or take about little a north of 20% or 21% or so of our total book of business and the vast majority of that are crossing the street programs sold in the financials. That was the sector that was most challenged at the depth to the downturn and I would say it’s the sector right now that looks most healthy relative to where it was last year at this time. So, we’ve got a lot of our opportunity continue to grow and rebuild our relationships.

And those members have a big new set of problems on their desk between financial reform here, financial reform globally, lines of business that used to generate profit for them that don’t exist anymore, so now is the sector more stable, but they are sitting out there with some big interesting problems on their desk and we think we are well positioned to go help them make progress on. Rich please go ahead.

Richard Lindahl

Sure. And on – as it relates to free cash flow, I think is where as we are coming through this transition and getting back to our growth profile. We are certainly getting the benefit on a full year basis of the working capital impact that we see not being able to collect upfront and that should translate into free cash flow being in excess of net income. I wouldn’t expect it certainly to be at where we’ve been in historical levels. But, somewhere between one maybe one in a quarter would be probably the high-end of the range I would expect.

Paul Ginocchio – Deutsche Bank

Thank you very much.

Operator

We’ll go next to Shlomo Rosenbaum with Stifel Nicolaus.

Shlomo Rosenbaum – Stifel Nicolaus

Hi. Thank you for taking my questions here. Rich, can you just talk a little bit about the gross margin was down sequentially, I am not sure if that’s a seasonal thing just in terms of the various conferences that were going on and there is cookies that we’re always talking about. If you could just talk a little bit more of as to what’s in there if there are some purchase intangibles in there as well?

Richard Lindahl

Sure, there would be no purchase intangibles impact in that line those would all go to the balance sheet and – the amortization of those would be on the depreciation and amortization line. As far as the increase, the biggest driver was we did see the seasonal uptick in travel and other expenses relating not only the meetings. But just general service delivery as we get our people out in front of our members and helping them work through their challenges and issues.

That was an area where we did see some investment in staffing to help with product development and there are some other product development cost in there as well. And then of course the addition of Iconoculture also contributed a lift to that item as well. So, I think of those three categories each of them represents roughly 25% of the increase quarter-over-quarter.

Shlomo Rosenbaum – Stifel Nicolaus

Okay. And then where would you see the bookings contribution from Iconoculture was do you have any kind of metric you can give me on that?

Tom Monahan

On our contract value basis I think Rich said it was right around $13 million, so.

Shlomo Rosenbaum – Stifel Nicolaus

Yes.

Tom Monahan

Flowing into the, flowing into the contract value total. I don’t – we would be able to pullout party standalone for the 30 days booking number for you.

Shlomo Rosenbaum – Stifel Nicolaus

Okay. And then just a little more detail on the non-subscription revenue, is some of that – is that just kind of the timing of the cycle over there or you guys actually developing products and stuff that it should give you a little bit more of that kind of revenue. In other words the analytical stuff that didn’t cuts it the data that you’re talking about?

Tom Monahan

Sure. I think the there are three factors that play there. Number one is there was a little bit of seasonality in that we held a couple of conferences and that has sort of one time revenue in the quarter, small but it does, you see it show up in the revenue line. Second, there were more on balance there was more member demand in some of performance analytics areas and other places for had additional counter a little more help making sense of their data relative to the membership as a whole.

And I wouldn’t say that would be and what I would say is we did anticipate that – that trend will continue across time. We’re going help members when they actually we’re going to account for just one-off because that’s the way it tends to present. And then third we did put a marker on FASB’s revenue recognition guidance. On the slight margin, it will probably change how we account for a couple of program features. I think when you added all up as Rich said even if you add all those factors up and look take a very long-term view on the business. It's hard to imagine we get belong, out beyond 10 to 15% of our revenue coming in the form of renewable subscriptions.

We like the renewable subscription business quite a bit and we really do try to architect most of our launches and most of our products to fit that model, because we think it serves us well and that we can plan we can provide you all with clear future perspectives on revenue, most things in terms of membership well and that they get dependability always on resources that helps them to solve their problem. So we like that business, but I do think it's fair to say that over time that number could creep up a little bit and we’ll keep you up to-date.

Shlomo Rosenbaum – Stifel Nicolaus

Did I hear you right that in the quarter it was actually less than the 10 to 15% from these non-renewable sources revenue?

Tom Monahan

Much less.

Richard Lindahl

Yes, considerably less.

Shlomo Rosenbaum – Stifel Nicolaus

Okay. Thanks a lot.

Operator

We’ll go next to Suzy Stein with Morgan Stanley.

Suzy Stein – Morgan Stanley

Hi, are you looking at any success in resigning customers who canceled during the downturn, I mean was this at all a meaningful part of your growth in the quarter?

Tom Monahan

Short answer is yes, we – the biggest decelerator in the business if you remember was, we kept customers but they trend to back what they were buying from us. And our teams have done a great job staying with those customers, staying against their needs and making sure that is, as their needs materializes, they got a little bit more putting as to where they were going at our products and services were lining up in support of those needs. So that’s a big piece of what we’re doing.

Suzy Stein – Morgan Stanley

Can you estimate kind of how close to, back to normal that group of customers as at this point, I mean do you still think you’ll get some acceleration in growth from just from that piece of the business?

Tom Monahan

Yes, it's funny at this point in the cycle, we don’t really think if it is win back anymore because, organization themselves have gone through a lot of change to the executive we were working with might not be there anymore. Their needs might have change, so they might, they might have had the control of product but they really need the treasury product now. I think we break the world up into people who have products and people who don’t and those who have our products we see as targets to continue to grow across time to cross-sale and those who don’t we get very allied people focused on engaging and bringing the numbers for the first time.

So I certainly think in the short to medium-term, a big portion of our growth is going to come from deepening and extending relationships with those people who already have products with us. But, we don’t really think it has win back per se as oppose to at this point in the cycle identifying their next set of niece and putting in products and services to support them.

Suzy Stein – Morgan Stanley

Okay and then just a quick maintenance question. How many membership programs are you currently offering and how many do you have planned to introduce throughout 2010?

Tom Monahan

We have including the Iconoculture acquisition and rolling the TowerGroup service lines up into three broad categories of support. We now have 48 product sets in the marketplace. We’ve – we said we anticipate doing high average range of three to five a year give or take of new product launches every year where with Iconoculture – we’d count Iconoculture against that total and so I would expect somewhere between two and four across the remainder of this year.

Suzy Stein – Morgan Stanley

Okay, great. Thank you.

Operator

We’ll go next to Dan Leben with Robert Baird.

Dan Leben – Robert Baird

Great. Thanks. Just a follow-up on the revenue recognition guidance that you guys have gotten. Is there going to be any change to the seasonality of the business, if you’ve got more shifts into this non-subscription portion, if there is a bigger piece you probably recognize that way is that going to change some of the seasonality of when those services are used?

Tom Monahan

I would say no, Dan. I think the contract value book of business is roughly, roughly 30% first quarter, 20% second, 20% third, 30% fourth. So, we even did on a lot over the years. And I don’t think you’ll see again as we said at the outer boundary, this is 10% to 15% of revenue and we’re nowhere near that right now. So that big contract value profile is a thing that tends to drive the business right now.

Dan Leben – Robert Baird

I was actually thinking more about in terms of revenue recognition are the big quarters for event or other types of revenue that you have to recognize when they are provided versus on contract; I would assume that’s what the change is?

Tom Monahan

Yes. I mean very – the short answer is the net effect of the changes would be so small, but it wouldn’t actually change the seasonality of revenue?

Dan Leben – Robert Baird

Okay. Great. And then could you talk about your new signing trends kind of through the quarter, did you see any changes and how people were approaching the product with the other market and some of the economic data weaker later in the quarter?

Richard Lindahl

Now we – bookings were solid throughout the quarter, we saw as it is frequently the case we saw solid performance as the quarter came to a close and we were pleased with that.

Dan Leben – Robert Baird

Great. And then last one from me was Iconoculture was it accretive in the quarter or there still a little bit higher expenses on that?

Richard Lindahl

No, we still as we had said originally we expect Iconoculture to be dilutive modestly dilutive for us for the year. It was in the quarter and we would expect that to continue to rest of the year.

Dan Leben – Robert Baird

Okay. So, even with the event boost in there, it still wasn’t quite there.

Richard Lindahl

No.

Dan Leben – Robert Baird

Okay. Great, thanks guys.

Operator

We have time for one more question. We’ll go to Gary Bisbee with Barclays Capital.

Gary Bisbee – Barclays Capital

Yes. Just two follow-ups, thinking – thinking back to your comment about getting back in position to add a few new programs over the next year few years. How do you, how was the research and betting process changed after having added a bunch of programs that you then decided, one is value add and having to close those. How do you get comfort you’re not going to sort of over extend again as you do that?

Tom Monahan

Hi, Gary. I think the two big changes that we’ve made to our new program launch philosophy. The first and most obvious is we’ve recognized that where we have real strength in our core domain areas. We’ve got a great installed base of happy customers. We’ve got terrific intellectual assets. We’ve got skilled teams. We have opportunity and permission to grow, so we made the difficult decision to exit some areas and double down on our areas with pretty intensive strength. And I think you’ll see those be the focus for new program and new product activity.

Second thing is, I’d expect going forward more of the new programs and products will be organized around recurring areas of member work rather than on gross per se, an easy example is our employee analytics business where we sell ahead of HR, who already has a product for his/her needs. But we actually have an – they have an ongoing need to go up and monitor and understand pockets of trouble or vulnerability or perception in their workforce.

And that’s a repeated process, but they do sometimes every year, sometimes every quarters, sometimes every – they do – they love to add a view of their workforce and get a sense of engagement levels etcetera. So it’s ongoing workflow the ability to survey, analyze, understand and take action on that. And we want to face up against that recurring need. So those are two big ways to begin to as you think about our new products that depth in our core domain areas, then targeting recurring areas of work rather than our new boxes on the non-chart.

Gary Bisbee – Barclays Capital

So potentially big portion that could be actually more revenue coming from an existing user if you’ve got more and I noticed you said not just programs, but programs and products, more products (inaudible)?

Tom Monahan

I would guess almost all of that will be revenue from existing users, because we’ve got there is great base of installed members of the world’s leading companies we’re saying, we would like to help on some other issues that you're not currently covering for us.

Gary Bisbee – Barclays Capital

And then just a last question of this, I think you said 48 programs, can you give us what that breakdown is by the main functional area so finance and accounting, HR, IT etcetera, et cetera?

Tom Monahan

We – I think the first and important breakdown is we’ve got give or take 14 or 15 that are either specifically to an industry. So, FS being the bulk of those although we did an outside the government specific program in finance and/or the middle market we get about six things that target middle market companies so your average large company has north of 30 things that they can buy from us.

And those are pretty evenly split across domain main areas. I think the one place you’d see in terms of program account of our five core domain areas on balance legal and compliance is probably a little light just because your average general counsel has fewer discreet direct reports then let’s say the head of HR might have or the head of, the CFO might have.

Gary Bisbee – Barclays Capital

Okay. Thank you.

Operator

And I’ll go back and would turn it over to Monahan for closing remarks.

Tom Monahan

Thank you all for calling in and/or logging in this morning. We’ll be at the Morgan Stanley Conference in late September and we look forward to seeing you there on our various travels across the summer and autumn and look forward to keeping everyone up to-date on our business. Thanks very much for dialing in.

Operator

This concludes today’s conference call. Thank you for your participation.

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