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Executives

Daniel F. Incropera, CPA – Vice President & Corporate Controller

Michael A. Morrison – President, Chief Executive Officer & Director

Murray P. Fish, CPA – Chief Financial Officer, Vice President Finance, Treasurer & Secretary

Analysts

James Franda – Sidoti & Company

Datawatch Corporation (DWCH) F4Q11 & Year End 2011 Earnings Call November 15, 2011 4:30 PM ET

Operator

Welcome to the Datawatch Corp., fourth quarter and fiscal year 2011 conference call. At this time all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr. Dan Incropera, Vice President and Corporate Controller for Datawatch.

Daniel F. Incropera, CPA

Thank you for joining us today for the Datawatch Corporation four quarter and fiscal year 2011 earnings conference call. I am Dan Incropera, Vice President and Controller at Datawatch. Joining me today is Michael Morrison, our President and CEO and Murray Fish, our Chief Financial Officer and Vice President of Finance.

You can obtain a copy of our earnings release which was distributed at four o’clock pm Eastern Time today by emailing us at Investor@Datawatch.com. This release is also available on our website at www.Datawatch.com. Let me first outline to you this afternoon’s agenda. I will present our Safe Harbor statement followed by Murray who will provide a summary of our fourth quarter and fiscal year 2011 financial results. Michael will then provide an update on our business initiatives and operating results. Following our prepared remarks we will open up the call for a question and answer session.

Before we begin I’d like to review our Safe Harbor statement with you. While we do not share projections of our future performance, we do need to remind you that any statements we make that do not describe historical facts may constitute forward-looking statements and are made under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Any such statements are based on our current expectations and are subject to a number of risks and uncertainties that could cause actual results to differ materially from current expectations.

For more information, I’d refer you to a description of these risks factors found in our earnings release as well as the company’s annual report on Form 10K for the year ended September 30, 2010, its quarterly report on Form 10Q for the quarters ended December 31, 2010, March 31, 2011, and June 30, 2011 and other publically available documents filed with the SEC. Any forward-looking statements should be considered in light of those factors.

I will now turn the call over to Murray for a discussion of our financial results.

Murray P. Fish, CPA

For those of you who may not have seen our results we released earlier today, our total revenues for the fourth quarter fiscal year 2011 were $4.84 million as compared to $4.28 million for the fourth quarter fiscal year 2010. Revenue increased $563,000 or 13% quarter-over-quarter. For the fourth quarter of fiscal year 2011 revenues from licenses were $2.8 million as compared to $2.34 million for the fourth quarter of fiscal year 2010. As a percentage of revenue, software license revenue accounted for 58% of revenue for the fourth quarter of 2011 as compared to 55% for the fourth quarter of fiscal year 2010.

For the fourth quarter of fiscal year 2011, revenues from maintenance were $1.65 million as compared to $1.55 million for the fourth quarter fiscal year 2010. As a percentage of revenue, maintenance accounted for 34% of revenues for the fourth quarter of 2011 as compared to 36% of revenues for the fourth quarter of fiscal year 2010. For the fourth quarter fiscal year 2011, revenues from services were $.39 million as compared to $.38 million for the fourth quarter of fiscal year 2010. As a percentage of revenue, services accounted for 8% of revenues for the fourth quarter of fiscal year 2011 as compared to 9% of revenues for the fourth quarter of fiscal year 2010.

Gross margins for software licenses was 79% for the fourth quarter of fiscal year 2011 as compared to 76% for the fourth quarter fiscal year 2010. Gross margins for maintenance and services was 71% for the fourth quarter fiscal year 2011 and 66% for the fourth quarter of fiscal year 2010. Overall, total gross margins were 76% for the fourth quarter of fiscal year 2011 as compared to 72% for the fourth quarter of fiscal year 2010.

Sales and marketing expenses increased by $767,000 or 60% in the fourth quarter of fiscal year 2011 as compared to the fourth quarter of fiscal year 2010. Sales and marketing expenses as a percentage of revenues were 42% for the fourth quarter of fiscal year 2011 as compared to 30% for the fourth quarter fiscal year 2010. This increase is primarily attributable to higher headcount and related costs such as commissions, benefits, and travel and increases in marketing programs, lead generation, and consulting costs.

Engineering and product development expenses increased by $6,000 or 1% in the fourth quarter of fiscal year 2011 as compared to fourth quarter of fiscal year 2010. Engineering and product development expenses as a percentage of revenues were 13% for the fourth quarter of fiscal year 2011 as compared to 14% for the fourth quarter fiscal year 2010. General and administrative expenses increased by $61,000 or 8% in the fourth quarter of fiscal year 2011 over the fourth quarter of fiscal year 2010.

General and administrative expenses as a percentage of revenues were 17% for the fourth quarter of fiscal year 2011 as compared to 18% for the fourth quarter fiscal year 2010. This increase was primarily attributable to higher professional service fees. Net income for the fourth quarter of fiscal year 2011 was $201,000 or $0.03 per diluted share as compared to net income of $455,000 or $0.07 per diluted share for the fourth quarter fiscal year 2010.

For the year-to-date results, our total revenues for fiscal year 2011 were $17.89 million as compared to $17.67 million for fiscal year 2010. Revenues increased by $211,000 or 1% year-over-year. For fiscal year 2011, revenues from licenses were $9.86 million as compared to $9.56 million in fiscal year 2010. As a percentage of revenue, software license revenue accounted for 55% of revenue in fiscal year 2011 as compared to 54% of revenue in fiscal year 2010.

Revenues from maintenance for fiscal year 2011 were $6.22 million as compared to $6.23 million for fiscal year 2010. As a percentage of revenue, maintenance accounted for 35% of revenues for fiscal year 2011 as compared to 36% of revenue for fiscal year 2010. Revenues from services for fiscal year 2011 were $1.81 million as compared to $1.79 million in fiscal year 2010.

As a percentage of revenue, services accounted for 10% of revenues for both fiscal year 2011 and 2010. Gross margins for software licenses were 77% for fiscal year 2011 as compared to 75% for fiscal year 2010. Gross margins for maintenance and services were 68% for fiscal year 2011 and 64% for fiscal year 2010. Overall, total gross margins were 73% for fiscal year 2011. That compared to 70% for fiscal year 2010.

Sales and marketing expenses increased by $482,000 or 8% for fiscal year 2011 over fiscal year 2010. Sales and marketing expenses as a percentage of revenues were 35% for fiscal year 2011 as compared to 33% for fiscal year 2010. This increase is primarily attributable to higher headcount and unrated costs such as commission and travel which were partially offset by lower consulting costs, lower depreciation, and amortization costs.

Engineering and product development expenses decreased by $106,000 or [inaudible] for fiscal year 2011 over fiscal year 2010. Engineering and product development expenses as a percentage of revenues were 14% for fiscal year 2011 as compared to 15% for fiscal year 2010. The decrease in engineering and product development expenses is primarily due to lower headcount and related costs and lower external consulting costs.

General and administrative expenses increased by $710,000 or 20% for fiscal year 2011 over fiscal year 2010. General and administrative expenses as a percentage of revenues were 24% for fiscal year 2011 and 20% for fiscal year 2010. This increase was primarily attributable to severance costs of $641,000 related to the restructuring to align sales and marketing operations with the company’s new business strategy and increased outside consulting costs.

The net income for fiscal year 2011 was $132,000 or $0.02 per diluted share as compared to a net income of $380,000 or $0.06 per diluted share for fiscal year 2010. Excluding the effects of the restructuring charge, the company’s non-GAAP net income for fiscal year 2011 would have been $773,000 or $0.12 per diluted share. As of September 30, 2011, the company has $8,384,000 in net cash and cash equivalents, an increase of $1,331,000 or 19% compared to September 30, 2010.

Michael A. Morrison

As Murray noted, we had a solid finish to fiscal year 2011. We saw good momentum into our year end close with some real crisp sales execution, particularly in September. We also saw steadily improving market awareness in Datawatch and our report analytics messaging as well as improvement in our competitive positioning. This resulted in existing customers expanding their use of our products and new customers on boarding as they came to recognize the differentiated value of our Datawatch solutions.

I’m pleased with how we finished the year but also keenly aware that we have a tremendous amount of work to do in order to build upon the momentum we created in Q4 and to fully capitalize on the opportunity we see in the market today. Let me make a few observations about the current market dynamic, where we see our greatest potential, and why we’re convinced that we can capture a leadership position in an exciting new segment of the business analytics market.

I see the early indications of an emerging market trends that holds great promise for Datawatch. A well respected Gartner analyst recently remarked to me that, “The established BI vendors have spent the better part of two decades figuring out the reporting challenges with respect to structured and non-premise data. What these vendors are starting to face more and more frequently are the challenges involved in working with semi-structured or loosely structured data.” This Gartner analyst calls it diverse data, as well a data that is off-premise meaning in the cloud, or originating from customers, suppliers, or other third parties.

There’s currently a tremendous buzz and many initiatives around both the cloud and big data and this is creating an attractive opportunity for Datawatch. You can’t discuss the cloud initiatives or big data initiatives without taking into account all the semi structured and loosely structured data that need to be mined for analytic value. These data assets, the ones that aren’t neatly structured and stored in relational database typically present as reports or business documents in all sorts of formats in text files, PDFs, HTML, EDI principles, or the like and a good portion of these data assets originate from third party sources.

The need to mind these semi structured reports and business documents for analytic value is driving interest in Datawatch and our report analytic solutions. It’s also a key reason why I believe we are at the forefront of a new and potentially significant wave in the business analytic space. We see Datawatch as a primary beneficiary of this growing trend to derive analytic value from the reports and documents that are generated by an organization or that originate from outside the organization.

We believe we are uniquely positioned to capture a leadership spot in this emerging market. Datawatch has over 15 years of domain experience managing loosely structured report information. This experience is reflected in the robustness of our product offerings and the breadth of our technical capabilities. We also have 40,000 customers who have validated our products and our expertise. They’ve invested in our solutions and derive significant value from our solutions.

As companies continue to recognize the need to leverage all the data within their organizations including semi structured report information, we see them pursuing different approaches generally based on company size and the maturity of the reporting strategies. Many midsized organizations that have not yet invested heavily in BI solutions look at report analytics as a cost effective way to leverage existing investments in reports and reporting processes.

These organizations may implement the Datawatch report analytic solution as an alternative to a traditional BI deployment because they can achieve a must faster time to value. Other midsized organizations without a defined reporting strategy may look to us as a bridge to a longer term BI solution or strategy. In both of these instances we’re able to provide demonstrable immediate value to these organizations.

Global enterprises on the other hand, have significant investments in BI reporting systems, data warehouses, and data integration technologies. All these investments have met with varying degrees of success. In most instances, reporting infrastructures in these organizations are fairly well established. The growing need to incorporate semi structured and loosely structured data into these reporting frameworks is a challenge and is serving as the catalyst for our business.

In addition, more and more data from third parties needs to be integrated into these enterprise reporting systems. Data in the cloud needs to be accounted for. Big data, big date in the form of large reports and business documents needs to be brought into the enterprise reporting framework. Datawatch has a tremendous opportunity here to compliment the established BI vendors by leveraging and transforming the data that these vendors can’t get to and can’t analyze.

We’re solving the critical business problems that the established BI providers have never been asked to address but which are becoming more and more common place. As this requirement becomes more mainstream, I’m convinced that our report analytics solution will become recognized as a necessary element of any enterprise reporting strategy.

Looking forward to fiscal year 2012, we have set aggressive internal goals to grow our business. While we do not provide revenue and profitability guidance, we do want to share some metrics that we track as a company in order to gage our progress towards our growth goals. These metrics include average deal size, six figure deals, new enterprise customers, and new partners.

With respect to average deal size, we calculate this metric based on license revenue only for individual transactions greater than 15,000 in license revenue. In Q4 our average deal size was $29,000 as compared to $23,000 for Q4 of 2010. For all of fiscal year 2011 average deal size was $29,000 which compares to $26,000 for all of FY 2010. The metric for six figure deals is again, based on license revenue only. We had no six figure deals in Q4 and two six figure deals in all of FY 2011. There were no six figure deals in FY 2010.

The enterprise customer metric is based on new enterprise customers signed on a global basis. In Q4 we signed seven new enterprise customers compared to four in Q4 2010. For all of fiscal year 2011, we signed 24 new enterprise customers which compares to 12 for all of FY 2010. The new partner metric is based on new partner signings on a global basis. In Q4 we signed four new partners as compared with no new partners in Q4 of fiscal 2010.

One final point with regard to disclosure; you will note with our Q4 and year end results, within our service revenue line we’ve specifically called out our maintenance revenue and our professional services revenue. We believe this segmentation gives you better information on which to evaluate our business and we will continue to segment our services revenue in this manner going forward.

In closing, we finished fiscal year 2011 with positive growth, reversing several years of declining revenue. We’ve set aggressive internal goals for total revenue growth, license revenue growth and profitability for fiscal 2012. Achieving these goals will put us in the company of the fastest growing players in the business analytics market. Disciplined sales execution and the support and encouragement of our 40,000 plus customers around the world will be key to delivering on these goals.

As I noted on our last call and I reiterate here today, there’s still a lot of work to do but the path to consistent growth is clear. I’m encouraged with the state of our transition as well as the feedback from customers, partners, and industry analysts. We will undoubtedly face challenges and market dynamics that could impact results from quarter-to-quarter especially in the near term. However, I strongly believe with our product platform, our strategy and our people, Datawatch will soon be recognized as a key player in the vital segment of the business analytics market space.

With that I will turn it over to the operator for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from James Franda – Sidoti & Company.

James Franda – Sidoti & Company

Can you just I guess elaborate a little more on what the mix was like? Just a little more color was it more new customers, or just existing customers upgrading? I know you have a lot of clients I just wanted a little more color on what the mix was like?

Michael A. Morrison

Predominately existing customers cross sell opportunities for additional revenue. And, there was a mix of new named customers as well but it was predominately existing customers.

James Franda – Sidoti & Company

I guess in terms of the sales and marketing expense of the $2 million in the fourth quarter, do you think that’s a good run rate to use or do you think that might come down a little bit? I know you guys have been marketing a lot so I was just a little curious if that might come down?

Murray P. Fish, CPA

I think there was an increase in the prior quarters in order to get out our new messaging but I think that will even out over time.

James Franda – Sidoti & Company

Do you see any incremental costs going forward maybe into fiscal ’12 to an upgrade of any of your software? Maybe going to a Monarch 12 from a Monarch 11?

Michael A. Morrison

We have some fairly intriguing and aggressive development plans for FY ’12 but I don’t think that will result in any noticeable increase in our R&D line for the year.

James Franda – Sidoti & Company

Any specific use of cash or are you just going to keep it on the books there?

Michael A. Morrison

Keeping it on the books.

Operator

(Operator Instructions) It appears there are no further questions at this time. I would like to turn the floor back to management for closing comments.

Michael A. Morrison

Thank you for your interest in Datawatch. We certainly appreciate your support. Anybody here can feel free to contact me if you’ve got any questions or need any follow up. We look forward to speaking with you after we report our first quarter results. Thank you.

Operator

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.

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