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Vocera Communications (NYSE:VCRA)

Q2 2014 Results Earnings Conference Call

July 31, 2014, 05:00 PM ET

Executives

Brent D. Lang - President and CEO

Paul Johnson - EVP, Sales and Services

Jay M. Spitzen - General Counsel and Corporate Secretary

Analysts

Sean Wieland - Piper Jaffray

Mohan Naidu - Stephens, Inc.

Ryan Daniels - William Blair & Company

Gavin Weiss - JPMorgan

Jamie Stockton - Wells Fargo

David Larsen - Leerink Swann

Gene Mannheimer- Topeka Capital Market

Operator

Ladies and gentlemen, good afternoon and thank you for joining the Second Quarter 2014 Vocera Communications Results Conference Call. My name is Ryan and I’ll be the operator on the event. And at this time all participants are in listen-only mode. Later we will conduct a question-and-answer session. (Operator Instruction). As a reminder we are recording the call for replay.

And now I will turn the call over to your host for today, Mr. Jay Spitzen, General Counsel.

Jay M. Spitzen

Hello everyone. Vocera distributed a two press release earlier this afternoon, one detailing our quarterly results and one introducing our new Executive Vice President and CFO. They are posted on our website at www.vocera.com and also available from normal news sources. This conference call is being Webcast live on the Investor Relations page of our website where a replay will be archived.

On this call we will refer to both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP financial measures is provided in our posted earnings release. This conference call will contain forward-looking information, including statements regarding Vocera’s projected operating results and anticipated market opportunities. This forward-looking information is subject to risks and uncertainties described in Vocera’s filings with the Securities and Exchange Commission. Actual results or events may differ materially.

Let me now introduce our President and Chief Executive Officer, Brent Lang. Brent?

Brent D. Lang

Good afternoon, everyone. Revenue for the second quarter was $23 million coming in below our expectations. My goal today is to tell you why this happened and what we are doing about it. U.S. hospital spending continued to be a challenging Q2 resulting in a lack of revenue growth in the quarter. The short term pressures facing our business have not subsided and in some ways have intensified. While Q2 bookings grew compared to Q1 continued market softness and an increased portion of bookings tied to longer term transactions and subscription sales resulted in revenues that fell well below our expectations.

Hospital spending in the U.S. continues to be directed towards further EMR investment, the ICD10 rollout and preparation for population health. Outside those priorities spending remains under a high level of scrutiny. In addition lower patient populations in hospitals resulted in continued tight expense control in the quarter.

Just last week we heard of three large health systems looking for an additional 20% operating expense reduction. These macro trends have impacted our short term growth prospects. In spite of this there are several metrics that show our business remains stable and well positioned. Customer loyalty for our solutions remains strong and renewal rates on our software maintenance remain at 98% for our healthcare customers.

Communications, patient experience, alarm management and work flow remain very important priorities for our customers and represent large market opportunities even though they are falling seconds to EMR and ICD10 projects in the short term.

Our product pipeline of new solutions is expanding our addressable market and strengthening our competitive position. Vocera collaborations suite, care experience suite and the just announced alarm management and analytics solutions are expanding our reach beyond the hospitals walls and bridging communication gap between nurses and physicians across hospitals, ambulatory and office settings.

We have over $120 million available to sustain our business and invest in our growth. We don’t believe we are losing share. We have over 1,000 customers and are winning the vast majority of deals we compete for. And finally Class announced today that we won their wireless communications category for the second year in the row. However based on the current market dynamics and our results year-to-date we are setting revenue guidance for Q3 at $20 million to $23 million and revising our full year guidance down to $90 million to $95 million.

We continue to invest in the business and still believe we are building a very valuable enterprise for the long run. We are well positioned to accelerate growth as the buying patterns improve in the U.S. We continue to strengthen and refine our ROI and other selling tools and we are investing to drive higher growth in federal and international markets.

New products such as our alarm management solution that addresses the mandated requirements of the Joint Commission’s National Patient Safety goals should contribute to future growth. Our best strategy for our customers and to drive long term shareholder value is to remain focused on improving our products and processes and solving customer communication pain points. Despite the short fall in the company’s strategic, operational and team building progress continues to improve. While we are disappointed with the short term results we remain motivated and focused on returning the company to double-digit growth.

I am proud of how much our culture has accelerated its sense of urgency and accountability over the past year. While these improvements have not been enough to make up for all the market slowdown they have helped significantly and give me confidence for the future. We remain determined to succeed.

A significant focus for our improvement efforts has been in sales. Every quarter I provided an update about what’s happening in the field and today I have asked Paul Johnson, our Executive Vice President of Sales and Services to join us to provide his direct personal perspective. Paul?

Paul Johnson

Thanks Brent. Hi everyone. I’m happy to be on this call to share some perspectives from the field. First, I would like to provide some color around our bookings and the current selling environment. I recently had a conversation with a senior execute of a large customer regarding her hospital spending environment. She summed it up with the following. Off spending is being challenged organizationally. But if anyone ever tried to take Vocera away from my nurses we would have a mutiny our hands. We are partnering well with your sales team to overcome the challenges but the scrutiny is definitely real.

That quote is a powerful statement and accurately characterizes our current selling environment and the hurdles our sales team and client sponsors are facing in the U.S. healthcare market. Overall bookings for the second quarter improved compared to Q1 but did not meet our expectations due in large part to this very challenging environment. International bookings however were particularly strong growing substantially compared to the prior year and exceeding our expectations for the quarter and the first half of this year.

We are seeing a materially different spending environment internationally particularly in APAC and Middle East and we've secured several large opportunities in those regions which will convert to revenue in coming quarters. In addition, bookings for the Collaboration Suite exceeded our expectations and represented a strong start for this new offering. We've seen a variety of approaches to utilizing this platform since we introduced it. Some customers are using the Collaboration Suite as a way to add additional users, some customers are choosing it for all users and some customers are deploying a mix of both. The important thing is we are giving customers the flexibility to mix end-user devices as well as the choice of perpetual or subscription licensing. We believe this will maintain our leadership position and send off competitive offerings.

Now I'd like to talk a little bit about the sales team and what we're doing to continue improve sales execution. I know this has been a popular topic on prior calls and it's an important driver of our growth. The overall caliber and capability of our sales team has improved from the past. At the midway point in the year, the top third of the sales team is performing very well. The middle third is improving as they get more experience with the industry and our comprehensive offerings and for the bottom third we are continuing to train and coach those who are making progress and for those who are not we are managing them out of the business.

In the second quarter we made a small but important structural change in our U.S. healthcare leadership. We elevated two key people to lead the Hunter and Farmer groups at a national level leveraging their expertise and success in those two respective areas. These leaders are now driving improved focus and energy and are delivering a more consistent and successful selling process.

We have implemented and are enforcing better account planning and opportunity management processes and we are improving our sales methodology and playbook to drive a more consistent approach in messaging to our customers and prospects. Training and sales enablement have been significantly expanded and all sales personnel have been trained and certified on selling our core products as well as the Collaboration Suite and Care Experience Solutions. Final training on Vocera of our management and alarm analytics will be completed next week. I am confident we are continuing to align our sales model and team to meet the needs of our revolving and growing market.

The third topic I would like to share some insights on is the competitive pressure in the market. First, there is no doubt we are hearing more competitive noise from small secure texting companies. And sales opportunities in which we are strongly aligned with clinical leaders, the impact of this competitive pressure is additional scrutiny, often with the CIO and CFO to help them understand Vocera's differentiation. This is part of the education process as we build awareness and understanding of the value of our comprehensive platform.

Second, we are seeing more hospitals experimenting with their mobile strategies. We've seen examples of customers who have tried text-only smartphone solutions but are now bringing in Vocera because realtime voice and hands-free capabilities are core requirements. While texting will continue to drive some market discussion and experimentation, the evidence is beginning to show that texting maybe a useful feature but is not a full solution for most hospital workers.

We are not seeing texting apps unseat Vocera. Clinicians are unwilling to give up their Vocera system because of the need for realtime voice communication for urgent clinical issues. I believe this is validated by our 98% maintenance renewal rate among our U.S. base. That said, we are keenly aware of our competition and will continue to battle them to win new opportunities and protect our turf with our existing customer base.

I hope these insights have been helpful and have conveyed my confidence in Vocera, in our sales team and in our future. I'll be available to answer question at the end. So let me turn the call back to Brent.

Brent D. Lang

Thanks, Paul. I want to provide you with some new information about the army hospital I mentioned on the last call that had documented substantial ROI savings estimating annualized returns of nearly $2 million. Last Lieutenant Colonel Francisco Dominicci, the CIO of Evans Army Community Hospital at Fort Carson, Colorado presented a case study on hands free communication devices at the Institute for Help IT Summit in Denver. Now that this case study a public document we are free to distribute the information and if you like to get a copy you can call Brad Samson our VP of Investor Relations.

There are a few highlights that I’d like to share from the business case. First, the hospital measured a 20% improvement in in-patient satisfaction resulting in expected returns of $150 per quarter as a result of the paper performance model. The hospital reduced fall related injuries by 88%within 10 months of the implementation. Nurse response time was cut by 75% and the hospital achieved better efficiency and productivity and cited nurses saving an hour and half per day and physicians saving 40 minutes per day.

Last Tuesday Lieutenant Colonel Dominicci and his team received the Army midcomps Mercury Award the top performance award for IT and Medcomp for their use of Vocera solution. This visibility should accelerate other military health system opportunities for our sales team.

While hospitals continue to have tight budgets for capital expenditures and departmental spending, the project we made in the quarter on our strategic investment’s operational excellence and team building give me a positive outlook for the company’s future success. We remain confident in our strategy, our products and our sales processes we just need to keep fighting and improving and we will weather the storm.

Now let me turn -- transition to our growth pillars. These provide a number of specific proof points and additional color about our expanding position opportunities and competitive strength. First, new hospital booking in the U.S. were up compared with Q1 but were lower than last year due to the tight capital budget. Some highlights in the quarter included wins for a new male clinic hospital in Cannon Falls, Minnesota, University of Wisconsin Hospitals and with Clinics and Woodland Healthcare and six dignity hospital.

Another particularly significant win for us was though medical center as it gave us an important reference account in Boston and was RFP win for the collaboration over some of our newer competitors. We also added a new VA hospital in the quarter, Mountain Home VA Medical Center which servers 41 counties in Tennessee, Virginia, North Carolina, and Kentucky.

They will be using both our core voice product and our collaboration suite for smartphones. And we are now up to 25 of the 153 VA Hospitals in the country.

Our second pillar, expansion bookings within our installed base was also up sequentially but below the second quarter of last year which benefited from a very large and successful badge upgrade promotion. Among the larger expansion deals in the quarter were several badge refreshes including SUNY Upstate Medical University, Kaiser Sunnyside in Portland and multiple hospitals in HAC Mountain division in Utah.

Our third growth pillar is developing and acquiring new products to cross selling to our installed based. The new collaboration suit went some important bookings in the quarter. We saw a number of existing customers buying both badges and the collaboration suit including Children Medical Center of Dallas and Saratoga Hospital. These are early successes combining badge and collaborations we purchases affirm our expectation for some of these sales to additive to our core communication solution.

We are still building market awareness for the collaboration suite but these early wins provide excellent proof points and I am confident in our competitive value proposition we are unifying multiple communication methods in connecting nurses, physician and other clinicians both inside and outside hospital in related facilities. Our unique ability to address the wider environment is a key advantage and important area future growth.

Last week we launched Vocera Alarm Management and Vocera Alarm Analytics two new solutions designed to design to increase patient safety and combine clinician or alarm fatigue. Communication breakdowns caused by alarm fatigue have become a top patient safety concern and a regulatory priority. Thousands of alarm signals sound within hospital everyday yet the joint commission estimates that 85% to 99% of those alarms do not need immediate clinical intervention.

As a result keratins often suffer from alarm fatigue and become immune to alarms which can have serious or fatal consequences. Due to patient safety risks associated with alarm fatigue the joint communication announced a new patient safety goal on clinician alarmed safety which requires hospitals to meet specific requirements for alarm management policies and practices into 2014 and 2015.

The Vocera Solutions works with clinicians mobile device of choice, smartphone, tablet or Vocera badge additionally care teams using Vocera alarm management are able to streamline clinical workflows across units by intelligently filtering and escalating alarms.

In addition we announced the latest version of Vocera care experience, a comprehensive cloud solution that enables hospitals to improve patient experience with significant enhancements to our care rounds, care calls, and business intelligence modules. Vocera care experience combines patient engagement communication and care coordination tools into one application suite enabling customers to manage patient experience longitudinally from the first impression to the last, to improve patient outcomes and to increase workflow efficiencies.

While we have a medium to long term expectation for these new products as we cross-sell them into our installed base of customers, our guidance includes very little for these this year. International continued its positive streak in the second quarter with bookings up 20% from the last year with Asia Pacific in the Middle East coming in strong. However it’s important to note that significant portions of these deals did not convert to revenue in the quarter. Quarterly highlights includes several new age care facilities in Australia, a significant expansion at Chengi General in Singapore and an expansion at the Cleveland Clinic, Abu Dhabi.

Based on the opportunities demonstrated in the Middle East and Asia Pacific we have established a UAE subsidiary and an office in Dubai, hired an additional clinical executive in Australia and formerly engaged with IVM in Malaysia.

Our final pillar is focused on growth in non-healthcare markets. While overall results were disappointing in the second quarter, one very notable win was the Four Seasons, Orlando.

Based on the successful outcome of a pilot run at the corporate level that I mentioned on last quarter's call. This will be a small -- this will start small with the Orlando facility but success here can be leveraged in our sales to other Four Seasons properties. The pipeline in nuclear deals remains strong and I have every reason to expect continued progress there later this year.

Before turning to the financials, I want to highlight two recent hires, I am pleased to announce the appointment of Justin Spencer as our new Executive Vice President and Chief Financial Officer. Justin was our top pick based on recommendations from a number of trusted friends and advisers. As you saw from today's announcement, he has a strong track record and experience in finance, accounting, corporate development and legal. Equally important he is the right cultural fit for Vocera and he and I share many perspectives. I am excited to have him on the team and I am confident that you will find him a strong addition too. He will be officially starting on August 11th.

Also in mid-July, Rob Bourne joined us as Vice President of Corporate Development and a new position designed to help us accelerate our acquisition activities and corporate partnerships. Rob brings a great background to the team. Most recently from Thomas Weisel Venture Partners where he was responsible for leading investments in software and mobile sectors including their investment in Vocera. Prior to that he was an investment banker with Thomas Weisel and Montgomery Securities. I think Rob will help us in larger pipeline and accelerate our close rate on acquisitions and corporate partnerships.

Okay, now let’s turn to the financials, since Justin doesn't start until mid-August I will be covering the financial highlights on today's call.

Second quarter revenue was down 9% year-over-year to $23 million. Product revenue was down 23% year-over-year to $12 million with device revenue down 28% and software revenue down 2%. The decrease in product revenue with the result of lower device bookings in the quarter, lower product backlog entering the quarter as well as the higher proportion of bookings having longer term conversion to revenue as a result of subscription or multi-year contracts.

As a reminder the year-over-year decline in device revenue was also affected by big comparable in Q2 of last year when we had a very successful badge promotion. Average initial deal size which can vary from quarter-to-quarter based on contract sizes and product types was down slightly from a year ago but up sequentially from Q1. As you would expect as a result of last year's promotion badge ASP was up year-over-year but also slightly higher than any of the preceding three quarters, but also slightly higher than any of the preceding three quarters.

Services revenue was 12% higher year-over-year at $11 million. Within services, support revenue was up 14% to $9 million. Support includes software maintenance and extended warranties. As our installed base our grown, support has consistently increased every quarter. The professional services portion of services revenue increased 6% from the prior year quarter to $2 million.

As I switch to margins and other income statement line items, please remember that I’m going to focus on non-GAAP figures, which have been adjusted for stock-based compensation and amortization of the acquired intangibles. We believe these non-GAAP numbers are more representative of the actual performance of the business. Our press release includes a reconciliation to reported GAAP numbers.

For the second quarter, gross margin was 62.7% versus 63.6% in the year-ago quarter. Product gross margin was 64.1% compared to 66.2% a year-ago, warranty expense decreased sequentially from Q1 and decreased year-over-year. Services gross margin increased 150 basis points to 61.2% compared to 59.7% a year ago. This was driven primarily by higher utilization and lower warranty cost related to our extended warranty revenues streams. As we said before, the company’s business model provides significant financial leverage as revenue grows. We remain confident in our ability to achieve our long range gross margin target of 70%.

Looking at operating expenses total OpEx was $18.5 million up $2.7 million, R&D was up $900,000 as we maintained our commitment to investing in new products and we will continue to invest in this area. On a year-over-year basis, sales and marketing was up $1.6 million and G&A was up $100,000, with the revised revenue expectation for the remainder of the year, combined with some of the actions we have taken in the sales organization, we expect sales and marketing expenses to be flat to down through the remainder of the year.

Turning to the balance sheet, our cash, cash equivalents and short term investments at June 30th were $121 million decreasing $1 million from last quarter primarily due to operating losses in the quarter.

Next, I would like to cover our guidance, due to the result to-date current backlog and continuing uncertainty about hospital spending, we are reducing our revenue expectations for the year. For the full year 2014, we expect revenue of between $90 million and $95 million, non-GAAP EPS loss between $0.74 and $0.62 and adjusted EBITDA loss of between $16.4 and $13.2 million. We expect GAAP EPS loss to be between $1.29 and $1.17 per share. Our full year 2014 non-GAAP guidance excludes estimated stock-based compensation expense of approximately $12.8 million, intangible amortization of approximately $900,000, potential acquisition expenses and legal cost related to the pending securities litigation.

Non-GAAP earnings per share guidance is based on a fully diluted share count for the full year 2014 of 25.4 million shares. Income tax for the year is expected to be $300,000. For the third quarter 2014 we expect revenue between $20 million and $23 million, non-GAAP EPS loss between $0.26 and $0.18 and adjusted EBITDA loss between $6 million and $4.1 million. We anticipate GAAP EPS loss between $0.41 and $0.34.

We have widened the Q3 revenue guidance range due to the uncertainty and timing from anticipated federal contracts. Historically federal is a big part of our Q3 bookings but has been unpredictable and the timing could have a material impact on revenue. Our third quarter 2014 non-GAAP guidance excludes estimated stock-based compensation expense of approximately $3.6 million, estimated amortization of intangibles of approximately $200,000, potential acquisition expenses and legal costs related to the pending securities litigation.

Non-GAAP earnings per share guidance is based on a fully diluted share count for the third quarter of 2014 of 25.5 million shares. We do not expect material income tax expense for the quarter.

In closing I would just like to say that we are treating the Q2 results very seriously. We are taking quick and decisive actions for the things that we can control and we are trying to minimize the negative impact of the things we can’t control. The team and I are extremely focused and determined to build long term shareholder value and we are working with a great sense of urgency in the short term to make the necessary changes.

Despite this set back we remain extremely excited about our future, the impact we are having in the market and the company we are building. We have tremendous customer loyalty, market leading product solutions and employees who are committed to delighting customers with products and services that will make lasting impact on hospital productivity, patient satisfaction and patient safety.

Thank you for your time today. We would welcome the opportunity to answer your questions and discuss the business in more detail. Operator, please proceed with the questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question comes from Sean Wieland with Piper Jaffray.

Sean Wieland – Piper Jaffray

Hi, thanks. I’m still a little stuck on this device revenue number. So given the tight budgets that you are talking about you must be getting push back on price. And so I wanted to dig in to that a little bit. Is it the upfront cost that’s the issue or is the ongoing maintenance cost or internal cost, where are the push backs?

Brent D. Lang

So couple of things I would point to you Sean. First, as I mentioned device ASP is actually up quarter-over-quarter and year-over-year. So we are not seeing large amounts of discounting or price pressure on device ASP. I think that the overall budget environment is basically saying that they are perfectly willing to continue to invest in the existing installations and the evidence of our maintenance renewals at 98%, I think points to that fact. But where we are seeing pushbacks is expansions in to new parts of the hospitals or for new customers who are evaluating this as a priority relative to the other spending priorities that they are facing.

Sean Wieland – Piper Jaffray

Okay. So I understand that the value proposition is stronger for dynamic voice communication and text-based apps. But are you hearing any hospitals saying that text-based apps are good enough given their lower price point?

Brent D. Lang

We are hearing of some who have experimented with text-only solutions. In some cases they have ended up coming back to us after those experiments and asking us to come in and deploy the full Vocera solution. I would describe the market as somewhat in an experimentation mode or a bit of a frothy situation where they are trying to decide on their mobile strategies. But what we’ve seen is that most hospitals that we had interacted with don’t feel like texting alone is going to be good enough for their work flow and they are actually interested in the combination of both the voice capabilities as well as the messaging capabilities.

Now as you highlight there are some free texting solutions out there and in some cases we are seeing experimentation with some groups of doctors who are experimenting with that but for the most part what we are seeing is that they require an enterprise class solution and they really need more robustness and they also need the combination of both voice and text messaging.

Sean Wieland – Piper Jaffray

All right. And then last one on this. You used to breakout the booking ship supplies business versus the rest of the devices. Can you give us a sense of what that mix was?

Brent D. Lang

I believe supplies in the quarter was pretty much standard as it’s been in the past. I don’t think we saw a big change in the supplies portion of our business. Again that speaks to the installed base that made a commitment to the solution and as Paul highlighted in his numbers or in his comments I should say the level of loyalty and commitment to the product is high. And so most of the supplies orders tend to fall in to that bucket of essentially existing users.

Sean Wieland – Piper Jaffray

Right, right. Okay. Thanks a lot.

Brent D. Lang

Thank you.

Operator

Next we have [Grace Torsky] with Stevens. Go ahead please.

Brent D. Lang

Hello?

Mohan Naidu - Stephens, Inc.

Yeah. This is Mohan Naidu from Stevens. Just wasn’t sure whether I am on. Am I on?

Brent D. Lang

You are, yes.

Mohan Naidu - Stephens Inc.

Thanks for taking my questions Brent. Quickly on hospital spending environment, you talked about the spending still tight but we are seeing some other hospital vendors doing well and utilization seems to be going up. I’m just trying to understand VMR you are going to be here for long-time and that spending is not going go anyway anytime soon. What else needs to change in the hospital in your view to get Vocera up in the priority?

Brent D. Lang

Well a couple of things that we are working on to try to move up in the priority list. One example I would give us is with the Alarm Management Solution because that falls in the category of a mandate solution we believe that will end up being higher on the priority list and will be more like the category of VMR or the ICD 10 types of work. So if you think sort of two buckets of product providers one that’s selling mandated solution and in some cases subsidized solutions versus the priorities of the remaining solutions with our core communication solutions, I would describe it being very high in the overall priority list amongst the non-mandated non subsidize solution. The example of Alarm Management I think it would put into the mandated bucket.

But beyond that in terms of driving better sales of our core solution one of things we are focused on is the ROI selling because the consistent theme that we are hearing from hospitals is that they continue to need to cut expenses within their organization and we believe that Vocera can actually be part of the solution to help them do that with some of the efficiencies and productivity savings that I talked about and referenced with the Evans Army Hospital example.

You know in terms of the patient population I think that it’s too early to know where that data is going to come out and there is probably going to be a time lag when real data comes out on patient population and when the sentiment towards spending goes back to what I will consider more levels. So it’s hard to predict when that might happen but I think the things that we can control on the short term is how we are selling, the message points we are using driving strong ROI and then also making sure that the new products we bring to market are going to be in the category of mandated or not certainly in the high priority list of things that they are spending money on.

Mohan Naidu - Stephens Inc.

Okay. In your view the way you are looking at it has the situation worsened since the beginning of the year?

Brent D. Lang

I would say that the Q2 ended being pretty consistent with Q1 in terms of the hospital spending environment. Paul, do you want to comment on that?

Paul Johnson

Yeah, it’s Mohan it was we have some ups and downs in the quarter we started second quarter feeling like it was opening up a little bit. We actually closed the quarter pretty strong but in the middle we had a little bit of bumpiness so, we can’t say for sure it’s opening up or getting that much better than Q1 we have a little bit better Q2 than Q1 but it still feels pretty tight.

Mohan Naidu - Stephens Inc.

Okay. And last question on the guidance, how much visibility do we have in the new guidance, I mean how much of it in the second-half that you already have booked in the backlog versus you need to book new in the remaining of the year?

Brent D. Lang

Yeah, so on the metrics that we have talked about before is visibility if you exclude any new customers or any large expansions. So essentially you would look at backlog that’s shippable between now and the end of the year, deferred revenue that’s already sitting on our books, maintenance that we expect to renew between now and the end of the year and then the steady flow of supplies and if you look at those together we have got direct line sight visibility to about 77% of the revenue that would be required to get to the midpoint of the guidance out that portion that we need to recognize in the second-half of the year. So it’s very high number and that only leaves us relatively small amount that needs to be in the go get if you will in the new customer and or expansions that we need to book and ship and turn to the revenue in the remainder of the year.

Mohan Naidu - Stephens Inc.

Okay, thank you very much for taking my questions.

Brent D. Lang

Thank you.

Operator

Next is Ryan Daniels with William Blair & Company.

Ryan Daniels - William Blair & Company

Yeah, I am curious given the difficulty on the sales front to year so if you guys would consider moving back to a war model. I know actually went away from that a few years ago but there is other device companies who have you know good success partnering with some of the EHR vendors or other providers so is that something you have considered or will consider?

Brent D. Lang

Hey, Ryan yeah, great question actually it’s something we have spent a fair amount of time talking about internally and as you mentioned back in 2009 we went to 100% from reseller channels to 100% direct. I think what we are realizing is that we need to find a happy medium. And whether it's traditional VARs like the ones we used before or whether it's more on the category of strategic partnerships, I think it probably fall more into the latter but we're recognizing that the market is really a very large market. There is a lot of integrations and related technologies that need to be of the overall solution and we believe that there is an important opportunity for partnering with some of the EMR companies which we're already doing as well as some of the other organizations that have widespread presence throughout the customer base.

So, I think you will see us expanding that as I mentioned part of the rationale for bringing Rob Bourne on Board to help Head up Corporate Development was not only on the M&A side but also to enhance some of our corporate partnership activity.

Ryan Daniels - William Blair & Company

And then how long has that been in the works? Is that more recent development and how long till we may see some announcements on you lending some of these VARs on strategic front?

Brent D. Lang

I would put it in the recent category. Yeah, I mean Rob only been on Board for a few weeks and I think this is more yet to be done so we wouldn't expect big announcements in the near term but I think strategically something we recognize it's important and so as a result it's going to get high sense of urgency associated with it. But I don't you're going to see a dramatic shift in business model in the near term.

Ryan Daniels - William Blair & Company

Okay. And then last question I have on the ROI driven sale which you indicated is more important in this environment. How many different areas of a hospital can you validate in ROI? I guess I can see in some departments maybe within initial sale it's pretty easy to show ROI but then expansion into other markets is going to be some diminishing returns such that they didn't buy it all upfront. So give me your thoughts there on hunters, farmers and how the ROI varies between the two? Thanks.

Brent D. Lang

Yeah, so, we have a combination of ROI data that falls into both of those buckets. In some cases we got departmental ROI studies that we've done and we talked about those in the past, for example on operating room or in the emergency department and then there is other ROI metric that we tracked there more broad based across the entire population driving efficiency and productivity across the entire work force. So, it's depends on the target that we're talking to but we've used a combination of both those and I think we'll continue to do that.

Paul if you want to.

Paul – few one.

Paul Johnson

Yeah. So, Ryan, we talked about the ROI specifically that our devices drive from a productivity standpoint but then indirect of fall related injuries being reduced end patient satisfaction being up lifted response time improvement. We try to build that into a little bit of softer ROI that's not quite as direct but we're working on building that model and that value proposition.

Operator

Okay. Our next question comes from Gavin Weiss with JPMorgan.

Gavin Weiss - JPMorgan

Hi. So, last quarter you talked about the sales force being bullish and having a strong start to second quarter bookings. And I know last year you had some issues as deals got bigger and kicked up to the C suite. So were there typical type of deal that got pushed in this quarter or is that certain sales people not performing, can you just give us some more color I mean where the misses were?

Paul Johnson

Yeah. Thanks Gavin. This is Paul. It's a couple of different issues. One, the deals are just pushing and they are subject to a lot more – so we're getting a lot more deals. We're doing really effective jobs, selling into the clinician or the business owner and then they are having to go to CIO and CFO for some pretty intense in and so, while we are not losing a lot of deals; a lot of them continue to push. So very similar story to which you heard last quarter.

With respect to the sales team, I talked about upper third, middle third and bottom third. The upper third is really being effective out there. They are finding very effective ways to sell to the CIO and CFO. They're leveraging the value proposition we have. The middle third of our sales team is also getting much more up to speed and getting more effective in selling and the lower third we're just working with them right now. So, I would agree with what you just said. It's a little bit spotty.

Some folks are selling very effectively, some regions are performing better than other regions but it's – right now it's not a consistent theme across the entire sales force or across any region and nor is it any kind of specific deal that really is hospital by hospital specific as to whether or not they got the appetite to make the purchase.

Gavin Weiss - JPMorgan

Alright. And then Brent I just wanted to make sure I heard you correctly. I think you said that sales and marketing is expected to be flat down in third and fourth quarter. And as I look at your EBITDA guidance, I guess that implies that R&D and G&A would have to increase materially in the back half of the year. Am I thinking about that correctly?

Brent D. Lang

I can confirmed it what I said was that sales and marketing should be flat to down and in fact if you look at sales and marketing sequentially from Q1 to Q2, it was actually down sequentially as well. The overall rollup of the EBITDA has got obviously other pieces in it. The investment in R&D will continue G&A should remain relatively flat.

Gavin Weiss - JPMorgan

Okay. Thank you.

Operator

Next question comes from Matt Hewitt with Craig-Hallum.

Unidentified Analyst

This is actually Dylan on for Matt. So given the conversation around the hospital spending and how tough that's been and it’s been tough for the past could of quarters for you guys. At what point do you guys start to shift a material amount of resources outside of the healthcare vertical and started to pursue some of the adjacent markets like nuclear and hospitality.

Brent D. Lang

Hey Dylan, it's Brent. So we feel like we've done that, we got resources focused on those markets and I think our, we are actually somewhat disappointed with the results we've gotten so far there at least in Q2. Clearly the win at the Four Seasons was a big deal and represents an opportunity for further expansion and as I mentioned the pipeline and the -- deals remains strong but I don't think that moving towards the non-healthcare markets is necessarily going to be panacea. We recognize we want to make investments along multiple fronts but we still believe the healthcare market is a strong market for us. I would say that probably a bigger shift that we're making is towards the international where we've seen good traction with healthcare and other verticals outside of the US. And so probably if we're going to shift additional resources it would be more shifting towards some of those international markets as we see growth there.

Unidentified Analyst

Okay. And then on that front again I may have heard incorrectly, but did you say you had engaged formerly with IBM in Malaysia?

Brent D. Lang

Correct. So we have used IBM as a partner, actually we used to have them as a partner here in the US but pretty exclusively or sensibly I should say in international markets. So we have partnership with IBM in Singapore that's been involved in sales into the Singapore market, we've used IBM historically in Canada and some of the other international markets. And we've now extended that relationship with IBM Malaysia.

What we found is in the Asia Pac markets, it's good to have the local presence and obviously IBM brings tremendous amount of local knowledge and capability there. So they've been a good partner for us in the region and yes we did extend to the Malaysia market which we see as another growth opportunity for us.

Unidentified Analyst

Okay and then lastly from me on the alarm management front. Have you guys been getting requests from current customers or greenfield opportunities regarding -- acquisition have been pursuing that I know the government roll down the new MPSG or is that something that you guys can be bundling in with existing offerings, how do you guys expect to roll that out?

Brent D. Lang

Yes, so we've been pretty quiet on it for the last six months from the time of the acquisition until the launch of the Vocera alarm management and Vocera alarm analytics products that occurred last week. So the marketing launch and the launch after the sales force really just occurred at the beginning of this quarter. We have gotten inbound inquiries from customers and from prospects who read about the acquisition and were intrigued by it, so there is an existing pipeline that's come in but the active selling and development within the region is now starting in earnest and the product has been fully Vocerized in terms of quality and branding and functionality.

And it is integrated with existing products, so it can tie into not only to the Vocera badge but it can tie into the Vocera cloud operation suite on the smartphone. So it will be sold both as a standalone solution for folks who are looking to just address the alarm management challenges that they're facing as well as part of an integrated overall platform that combines the messaging and voice capabilities along with the alarm management piece.

Unidentified Analyst

Thanks for taking the questions.

Brent D. Lang

Thank you.

Operator

Next we have Jamie Stockton, Wells Fargo

Jamie Stockton – Wells Fargo

Hi. Thanks for taking my questions. I guess my first one with the collaboration suite is it possible what is going on with hospitals is you’ve rolled this out they are thinking really hard about whether or not they want to starting giving nurses and physicians smartphones. And it is freezing some expansion deals that might have otherwise happened both because smartphone adoption is becoming so prevalent and also you have a very highly visible offering for that now?

Brent D. Lang

Hey, Jamie. I think there is definitely an element of that it could be happening. There is clearly a market dynamic going on where customers are analyzing their mobile strategies and they are trying to come to terms with the right mix of products and solutions to address the various user groups. And so in some cases they may be stepping back and looking at the environment and looking at the work flows within their user base.

I think the good news from our perspective is that we feel like we’ve got market leading solutions across the range of different options and the customers who have done the evaluations in depth and have made purchases their by and large are seeing that a mixed environment is the most appropriate environment where some users prefer using the handsfree wearable badge and others prefer potentially using the smartphone.But I wouldn’t be surprised if some of the pause in the market was related to people stepping back and just evaluating their overall mobile strategy.

Paul Johnson

Yeah, Jamie. I think that was the good way to put it. I think when I spoke earlier about the competition from the smaller texting organizations it is adding a level of scrutiny from the CIO and the CFO. And so it’s just adding another element of what we got to do to sell the comprehensive solutions.

So I do think that is part of the pause and I do think that is why we are seeing deals pushed. And when I say we are not losing these deals, they are pushing out that’s part of the element is they are evaluating what their overall strategy is.

Jamie Stockton – Wells Fargo

Okay. And then Paul couple of questions on the sales force. I guess the first one what was quota carrying reps number at the end of the quarter?

Paul Johnson

So Jamie let me walk you through a little bit detail on that. I know that’s been a topic on some previous calls. We entered the second quarter with 73 quota carrying reps. Three of those folks left on their own. Eight of them left involuntarily for performance issues. So we netted down about 11 to 62. And we are in the process of or hired 3 additional fill on those folks that have left. So we are up to about 65 headcount depending on how you count open reps versus existing people in the seats.

Jamie Stockton – Wells Fargo

Okay. And when you talk about third and I’ve heard within the sales force. The third that are really performing right now. Are those mostly the sales people that have been with Vocera for a long time? There was this massive expansion of the sales force towards the end of 2012 and early ’13. Are most of the guys who were with Vocera previous to that expansion in that top third?

Paul Johnson

Yeah. Jamie, it’s a little mix. I don’t want to characterize most. But there is a connection between experience and understanding our solution base and the performance. And so as I said in my comments that as the middle third and some of the other folks that are not performing at the top as they get time with our offerings and more time understanding the value proposition they are definitely moving up to chart.

And so if I look at the performance year to date of the sales team and I look at this staff rankings there was some shift from folks who really did well in second quarter that had not been here in as long. But if you look at the very top of the list they are typically people that have been here for quite some time, know their territory well, know our offering well.

So there is something to be said for that. It’s just more of getting some of these other folks more time and more understanding of what we are offering.

Jamie Stockton – Wells Fargo

Okay. And then you started I think in October I am sure internally there have been some changes. You kind of put in place another level of sales management that you talked about earlier in the call and I think also the conference. Would you say that the changes in the sales organization are basically done and that at this point it’s going to be

Brent D. Lang

Yeah, so Jamie you know the way I look at the sales organization anywhere I have been its got to be constantly evolving to move where the market is moving. This is we are going to continue to evolve because we are leasing some new great products and we have got to make sure we continue to have solution base sale the changes I have made have not been that dramatic. We are really trying to do a fine line between making sure we have stability in the work force and making sure that we have got top performers so, we are gradually making changes, we are going to continue to make changes for the foreseeable future but I think structurally we have got the team where we want. We have got a very strong enablement team that I talked to you about in Florida that we brought on board and they are up to speed and they are really helping to engage the sales team. So, the changes are never going to be complete and we are not going to make radical changes but we are going to keep moving forward.

Jamie Stockton – Wells Fargo

Okay, thank you.

Operator

Next we have David Larsen with Leerink Partners.

David Larsen - Leerink Swann

Hi, can you talk about the collaboration suite, the demand that you are seeing for products within the collaboration suit or the new products and then if just sort of the revenue contribution from that will be great. Thanks.

Brent D. Lang

Yeah, David hi so, the Vocera collaboration suit is really part of the overall integrated platform that’s sold along the voice platform and the badges. What we saw in Q2 which was really the first quarter that we were selling, we introduced if you remember towards the end of Q1. So the first real selling of the products occurred during Q2. We had some nice wins. We had a number of existing customers badge customer who roll-out the collaboration suit as an addition for incremental groups of users in many cases for physicians. We had a couple large wins where the wins were with the Collaboration Suite across the entire installation.

Tops was a good example of that and others were you know new customer that were buying a mixture it really represents a fairly small percentage of total revenues to-date yeah. I wouldn’t describe it as having had a huge in roads into our overall mix but I think we were encouraged by the reaction that we got from some of the pilots that occurred and feedback we got form customer on the user interface and then we think of grow over time but it’s still representing a relatively small percentage of total revenue.

And in fact I’ll just comment one comment further the bookings most of what we got in Q2 was bookings for the collaborations suit and because collaboration suit is sold both as perpetual license and as a subscription license some of the larger wins we had form the collaboration suit in Q2 were actually subscription license deals and none of that revenue was actually recognized within the quarter.

David Larsen - Leerink Swann

Great. And then Paul if you could sort of wave your magic want and create new products for Vocera to sell in the market I mean what would you do? Thanks.

Paul Johnson

Hey, thanks David. You know David I got to tell you when we rolled out the collaboration suite earlier in the quarter I felt that really rounded out the offerings that we had from an overall communication standpoint. We were talking a little bit about you know Jamie was talking about the environment and you know our reevaluate their communication solutions I think VCS is giving us the solution that we need to both have folks inside the hospital and outside hospital communicating properly so, I think VCS definitely rounds that out and I think an Alarm Management if we can continue to build the awareness and get the team geared up on an Alarm Management and get that integrated with the solution I think we have got a pretty comprehensive solution.

One thing you will notice we have really not build in a lot of revenue for Alarm Management and in fact hardly any price zero for this year very low bookings it’s just a matter of getting the sales team ramped up making sure we get the awareness there so, I think the combination of our traditional watch the collaboration suit and Alarm Management. I think that’s going to bring the demand that we need.

David Larsen - Leerink Swann

That’s great. Thank you very much.

Brent D. Lang

Thank you.

Operator

(Operator Instructions). And our next question comes from Gene Mannheimer with Topeka Capital.

Gene Mannheimer- Topeka Capital Market

Hey, thanks, good afternoon. I joined the call a bit late but did you quantify the level of 3,000 upgrades during the quarter and can you tell us you are tracking relative to your expectations and the total opportunity within the installed base?

Brent D. Lang

Hey Gene it’s Brent. Yes, we did not give any specific numbers on that during prepared remarks. I can tell you that in terms of new sales the transition for products sales to B2000 to B3000 is pretty much fully completed over to B3000 for new purchases especially now that the certification on the B3000 is complete for the federal government.

But in terms of the upgrade opportunity for existing installed base customers who would be upgrading installed base B2000 up to the B3000. We’ve done some recent estimates on that and we still see it to be a very substantial upgrade opportunity. In fact one of the things that we’ve got Paul’s sales team focused on in Q3 particular amongst the former group of the organization is going back in to the installed base and working on those upgrades sales. We can actually run reports based on the logs that we run based on usage and we can identify the usage levels of the B2000 badges that are still in existence in the marketplace. And there is a substantial opportunity there. I would say probably 30% to 40% of the upgrade opportunity is still out there in the market place and opportunity for us to go get and upgrade it.

Gene Mannheimer- Topeka Capital Market

Okay. All right. That’s helpful. And just a question on the backlog in the conversion here. You entered 2014 with a record backlog, if I’m not mistaken north of $24 million. I know product doesn’t sit in backlog long I think it ship -- shifts typically one to two quarters. But what is going on? Is that backlog been converted or have there been some cancellations or deferrals that have hang up some of these implementations? Thank you.

Brent D. Lang

Yeah. It’s a good question Gene. It’s a complicated piece of analysis that I’ll try to simplify. The challenge with backlog is that there is obviously multiple elements that make up backlog. There is product backlog there is backlog associated with maintenance renewals. There is backlog associated with subscription business. So what happened I think during the course of Q1 and Q2 is that we clearly decreased backlog during that period of time. Some of the backlog that was in the system as of the end of the year was related to maintenance renewals as we mentioned the high rate of maintenance renewals and as that becomes due it moves from backlog in to deferred revenue and then get recognized as a revenue over the period of time.

So I would say that right now my assessment of backlog is that it’s low, it’s lower than where we like it to be. And part of the goal moving forward is that we would like to continue to build particularly product backlog up in the system just creates better environment for us to operate the business.

Gene Mannheimer- Topeka Capital Market

Okay. Thank you.

Operator

And we have no further questions. So I’ll pass it back to Brent Lang for any closing remarks.

Brent D. Lang

I just want to thank everybody for taking the time today. And we’ll be following up with one-on-one sessions and we’ll be travelling. In fact just in hour I’ll be travelling the first week on the job here to go out and visit with investors and we look forward to continuing the dialog with all of you. Thanks a lot.

Operator

Thanks for your time and your participation. And have a great rest of the day.

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Source: Vocera Communications' (VCRA) CEO Brent Lang on Q2 2014 Results - Earnings Call Transcript

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