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Executives

Derrick Vializ - Vice President of Investor Relations

Robert E. Beauchamp - Chairman, Chief Executive Officer and President

Stephen B. Solcher - Chief Financial officer and Senior Vice President

Analysts

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Gregg Moskowitz - Cowen and Company, LLC, Research Division

Philip Winslow - Crédit Suisse AG, Research Division

Walter H. Pritchard - Citigroup Inc, Research Division

Philip C. Rueppel - Wells Fargo Securities, LLC, Research Division

Michael Turits - Raymond James & Associates, Inc., Research Division

Tim Klasell - Stifel, Nicolaus & Co., Inc., Research Division

Matthew Hedberg - RBC Capital Markets, LLC, Research Division

BMC Software (BMC) Q3 2012 Earnings Call February 1, 2012 5:00 PM ET

Operator

Good day, everyone. Welcome to today's BMC Software Third Quarter Fiscal Year 2012 Earning Results Conference. Today's call is being recorded. At this time for opening remarks, I'd like to turn things over to Mr. Derrick Vializ. Please go ahead, sir.

Derrick Vializ

Good afternoon, everyone. I'm Derrick Vializ, Vice President of Investor Relations. And I would like to thank you for joining us today. During our call, Bob Beauchamp, our Chairman and CEO, will provide an overview of the third quarter fiscal 2012 performance of both our company and business units and update you on recent initiatives. After that, Steve Solcher, our CFO, will provide additional financial and operational details. Bob will then discuss and provide an update to our expectations for fiscal 2012 before we open the call to questions.

These prepared comments were previously recorded. This call is being webcast and a complete record of the call will be made and posted to our website. In addition to today's earnings press release, we have posted a presentation, which we will refer to at various times during the call. Both of these documents are available on our Investor Relations website at investors.bmc.com.

Before we continue, I would like to remind you that statements in this discussion, including statements made during the question-and-answer session regarding BMC's future financial and operating results, particularly statements and views regarding the remainder of fiscal 2012, the development of and demand for BMC's products, BMC's operating strategies, acquisitions and other statements that are not statements of historical fact are considered forward-looking statements.

These statements are subject to numerous important factors, risks and uncertainties, which could cause actual results to differ from the results implied by these or any other forward-looking statements. Cautionary statements relative to these forward-looking statements and BMC's operating results are described in today's earnings press release and in our annual report on Form 10-K. All of these documents are available on our website. These forward-looking statements are made as of today based on certain expectations, and we undertake no obligation to update these forward-looking statements.

I would also like to point out that the company's use of non-GAAP financial measures is explained in today's earnings press release and a full reconciliation between non-GAAP measures and the corresponding GAAP measures is provided in the tables accompanying the press release and at investors.bmc.com.

Now I will turn the call over to Bob.

Robert E. Beauchamp

Good afternoon, everyone. Before I discuss the results during the quarter, let me begin by saying BMC is well-positioned with the right strategy and the right products in attractive growth markets. Our strong position is validated by significant customer wins where large enterprises are standardizing on BMC solutions: by growing demand for our solutions in high growth areas, such as cloud management and Software-as-a-Service; by our strong partnerships with industry leaders, including 2 recent announcements. And we believe our position will be further strengthened by our pending acquisition of Numara, which will broaden our portfolio and expand our reach into new growth markets.

Let me now elaborate on each of these areas beginning with our ongoing success with major BSM implementations. Today, our solutions are at the heart of IT transformation efforts in the world's largest enterprises. I was visiting with the CIO of one of the world's largest energy companies in our Executive Briefing Center recently. And they described our BSM Solutions as a cornerstone of their IT transformation program. They envision a 10-plus year platform commitment to BMC. The head of infrastructure of one of the world's largest financial institutions, after a significant transaction this quarter, considers the automation initiatives that our solution support as fundamental to delivery of all their services to all their clients. The CTO of a Fortune 500 leading pharmaceutical company, who recently standardized on our BSM portfolio across their worldwide IT environment, confirmed our BSM Solutions are core to their technology and business transformation efforts. We hear from our customers every day about how our solutions are driving the strategic long-term transformation of IT and contributing to new strategic business models.

The ongoing validation confirms that we're on the right path. I noted on prior calls one of our key goals is to generate more cross-platform and multiproduct wins. During the third fiscal quarter, 19 of our 22 ESM license transactions over $1 million included multiple product lines. We continue to see increasing demand for our heterogeneous cloud management and SaaS solutions. During the quarter, we had dozens of cloud wins at all major geographies. New cloud wins included Atos and CSC, 2 large and global IT services and solutions providers that selected BMC's cloud management solutions as an important part of their offerings. In addition to our strong position with global outsourcers and systems integrators, we had continued success in the enterprise market. Energy giant Chevron offers a compelling example of using our cloud management solution to build and manage their private cloud environment. They will leverage our cloud management and automation capabilities to accelerate deployment of all their business services. Also, the solution reduces their IT unit cost by providing a unified business service management solution to manage all business services spanning physical, virtual and hybrid environments.

Another area of excitement for BMC is Remedy OnDemand and Remedyforce, our high-growth SaaS solutions. New Remedy OnDemand wins included Baxter Healthcare, Cornell University and Saint Louis University. Our Remedyforce offering, marketed directly and through Salesforce.com, is generating significant interest in the marketplace. In November, we announced our 100th Remedyforce customer. We expect to sign our 200th customer this quarter. This excludes any benefit from Numara. We see a lot more potential here as does Salesforce.com. I was very happy to share the stage with Marc Benioff at the recent Dreamforce '11 event in Tokyo, Japan where we launched the Japanese version Remedyforce. It's one of the premier events in cloud computing, and I can tell you, the level of interest and excitement in Remedyforce was strong. We're starting to add new Remedyforce customers in Japan already. We believe we've only began to tap the sales potential of our ITSM SaaS solutions.

Next we're building strong partnerships with industry leaders as evidenced by our expanded partnership with Dell and our newly formed partnership with VCE, both recently announced. Further supporting our small and medium business or SMB strategy, Dell will now offer Remedyforce to their SMB customer base. In addition, Dell is also helping to sell and market our other SaaS offering, Remedy OnDemand, which we market directly to large enterprises through BMC and partner channels. We partnered with Dell to host and sell Remedy OnDemand into the public sector: federal, plus state, local and higher education markets.

We're also very excited about the new partnership we announced yesterday with VCE. This is another important strategic alliance, which brings together industry leaders in the rapidly growing cloud infrastructure and management markets, which we believe further underscores the scope and scale of the management solutions we're bringing to enterprises around the world.

Let me turn next to the pending acquisition of Numara, which we announced on Monday, and discuss how it fits into our strategy.

First, it's important to note that we are committing to ensuring that Numara's customers will continue to receive value from their current products. BMC will make additional investments to expand the capabilities of the Numara platform. This pending acquisition triples our installed base of active help desk and ITSM customers to approximately 17,000 customers. Numara provides us with a significantly expanded direct sales force and over 70 channel partners with extensive experience in selling to mid-sized and small businesses. This will enable BMC to not only sell more Numara products to customers in these segments but also BMC Remedyforce and BSM Solutions that address the needs of the mid-market customers will be serviced. This is expected to accelerate the growth of our SaaS business through sales to new customers as well as migration of on-premise customers to Remedyforce as they evaluate the economic advantages of a SaaS model. Remedyforce is the fastest-growing ITSM SaaS solution and we expect the addition of Numara to continue that trend.

In addition to Numara, our portfolio creates some exciting possibilities. Listen to what our key partner has to say about it. George Hu, the Chief Operating Officer of Salesforce.com, said, and let me quote, "BMC's acquisition of Numara is a game changer for Remedyforce. With Numara's sales channels, we will accelerate the momentum of Remedyforce and help more customers realize success with IT management in the cloud." These are all proved points that we have the right products and the right strategy in attractive growth markets.

Let me now discuss the highlights of our third quarter financial results and then Steve will provide more details on the quarter before I end with an updated fiscal 2012 guidance. Our third quarter financial results were mixed. While we reported strong growth in non-GAAP operating income, operating margin and diluted earnings per share, solid performance in our MSM and professional services business and record results from maintenance revenue, we fell short relative to our growth expectations for ESM license bookings.

Let me first discuss the positive highlights of the quarter and then I will discuss details on our ESM performance and provide specifics on key underlying trends that we look to as measures of our progress. We achieved records for non-GAAP net earnings and non-GAAP diluted EPS during the quarter. These were driven by both solid growth in MSM, professional services, as well as significant savings in variable expenses, as we closely aligned compensation to performance. Our MSM business continues to deliver solid results. Total MSM bookings on a trailing 12-month basis increased 22%. Our top 15 MSM transactions in the quarter showed solid growth in annual spend.

During the quarter, we added or expanded our relationships through new and existing customers with 160 new product placements in MSM. In our Data and Performance Management or DPM product line, we expanded our relationship with customers like J.P. Morgan Chase, Caixa and CSX Technology. We also saw continued strength in workload automation, which includes our Control-M product line. Cross-platform workload automation solutions represent about 1/3 of our MSM business. We added 22 new Control-M customers and expanded our existing relationships with 89 new product placements. Some key workload automation wins in the third quarter included Société Générale and Centrelink. As part of our strategy to maintain and enhance the growth and profitability of our MSM business, we continue to make investments that expand our capabilities. To that end, we recently acquired I/O Concepts, a mainframe software firm that enables us to extend our MainView solutions with new capabilities to consolidate, streamline and automate the management of IBM's System z console environment.

Our professional services business had another strong quarter, delivering solid results with double-digit increases in revenue and a significant improvement in profitability. New customer signings are growing strong. We're enabling our customers to achieve significant value from our solutions through our professional services organization.

Let me shift now to ESM. We spoke with you last quarter about the trends underlying our sales performance this year with ESM. Given the sales issues we discussed last quarter, we did not expect ESM license bookings growth in the third quarter as fixing these issues will take multiple quarters. However, we were also negatively impacted during the quarter due to worsening economic conditions that our customers are facing, particularly in Europe and the U.S. public sector. Deals are being scrutinized with more sign-offs required, resulting in lengthening sales cycles, particularly for larger deals. In some cases, we're seeing customers opt for shorter-term contracts. We did though see some relative strength in the non-government business within the United States.

We continue to believe that most of the issues related to our ESM performance are within our control. As you know, our goal is to be the leader in providing enterprises with a universal IT management platform for their hybrid environments, including cloud, SaaS, mobile and social enterprises. A productive and experienced sales force is essential to positioning the full value of this approach. Unfortunately, as we've reported before, our mix and number of tenured ESM sales reps have been lower than expected throughout the year.

However, I'm pleased to report we have taken positive steps towards reversing this trend, and we are seeing improvements in this area, which bode well for us in the future. ESM sales force attrition trends have reversed course and are now improving. ESM sales attrition during the quarter was below 25% on an annualized basis, which is significantly better than what we experienced in the first half of the fiscal year. After hiring over 55 sales reps in the second quarter, our third quarter new hiring was above plan for the second consecutive quarter. Total sales force capacity is growing and tenured capacity is increasing.

In addition, we now have in place the sales leadership that we need to execute on our vision. Earlier this quarter, we hired Carv Moore as Senior Vice President and Head of Worldwide Sales for ESM. Carv has over 25 years of software sales and general management leadership at Sun, SeeBeyond, Novell and IBM. We've also filled several other key positions in our sales organization with experienced sales executives.

As our sales team regains its momentum, we're excited about what lies ahead. So let me summarize our performance and key developments since our last call.

First, our focus remains on generating rapid improvement in the near-term by addressing the sales force issues that have weighed down our results thus far in fiscal 2012. The trends in attrition, headcount and sales force capacity are turning positive. We now have in place a strong sales management team to carry it forward.

Second, we're continuing to invest in the strategic initiatives that will drive our success and growth over the longer-term, including strategic acquisitions and key partnerships. We're successfully moving our cloud and SaaS initiatives forward. We're investing to maintain our technology edge. We've added a new growth engine to the company with an SMB sales channel and product portfolio through the pending acquisition of Numara.

Third, by balancing short-term imperatives with our long-term vision, we remain focused on building value for shareholders. We are a very profitable, financially strong company and are aggressively returning capital to shareholders through our share buyback program. In fact, over the last 12 months, we have returned nearly $800 million, which is over 100% of our free cash flow to our shareholders.

We have the right strategy, the right technologies, the right partners and the right people to win in our marketplace, and we are excited about the opportunities that lie ahead.

Steve Solcher will now provide a more detailed financial review of our quarter. Steve?

Stephen B. Solcher

Thank you, Bob, and good afternoon to everyone. Our performance during the third quarter was mixed. On the positive side, we maintained financial discipline and achieved record non-GAAP earnings in the quarter, generated significant cash flow from operations, posted solid results in our MSM and professional services businesses and achieved record maintenance revenue. While our ESM business continues to be impacted by the sales issues we discussed last quarter, as well as the challenging macroeconomic environment, we are seeing encouraging signs in the underlying metrics, such as attrition and new hire rates that position us for future growth.

With that, let me now turn to our results for the third quarter. In the third quarter, non-GAAP operating income increased 13% to $213 million from $188 million in the third quarter of last year. Non-GAAP operating margin increased 4 points to 39%.

Please refer to Slide 5 in our presentation for highlights of our ESM and MSM business unit non-GAAP operating results. ESM's non-GAAP operating income in the third quarter increased 6% to $76 million. ESM's operating margin was 23%, 2 points higher than the year ago quarter. MSM's non-GAAP operating income for the third quarter increased 18% to $137 million. MSM's non-GAAP operating margin was 63%, a record, up 6 points compared to the year ago quarter. Non-GAAP net earnings for the third quarter were $157 million, an increase of 10% from the third quarter of fiscal 2011. Non-GAAP diluted earnings per share for the quarter was $0.93, up 18% from the year ago quarter. These results reflect a non-GAAP effective tax rate of 25% for the quarter. GAAP operating income in the third quarter was $162 million, an increase of 16% from the third quarter of fiscal 2011. GAAP net earnings and diluted earnings per share were $120 million and $0.71, up 10% and 18%, respectively, from the year ago quarter. These results reflect diluted shares outstanding in the third quarter of 170 million compared to 182 million in the year ago quarter.

Turning now to bookings. In the third quarter, total bookings of $524 million were down 12% as reported and 11% on a constant currency basis compared to the year ago quarter. Total bookings on a trailing 12-month basis were $2.2 billion, up 7% compared to the year ago quarter. The weighted average contract length for total bookings on a trailing 12-month basis was 2.3 years, up 6% from the year ago quarter. After normalizing for contract length, trailing 12-month annualized bookings for the third quarter were $971 million, up 1% from the year ago quarter. Please see Slide 7 in our presentation.

Now let me turn to the bookings performance of each of our business units. For our ESM business unit, license bookings are the best measure of performance. Our SaaS business, which is a subscription-based offering, is not included in our reported ESM license bookings results. During the quarter, ESM license bookings were $126 million, down 23% from the year ago quarter and down 22% in constant currency. Weakness in ESM license bookings was reflected in all product lines in all major geographic regions. We did though see some relative strength in the non-government business within the United States.

Turning to the MSM business unit. We believe that MSM is best evaluated on the basis of total and annualized bookings over the trailing 12 months. In the third quarter, total MSM bookings on a trailing 12-month basis increased 22% to $930 million compared to the year ago quarter and had an average contract length of 3.19 years. After normalizing for contract length, total annualized MSM bookings for the trailing 12 months were $292 million, an increase of 10% from the year ago quarter. We are pleased with the strong new product performance led by our Control-M solution, products from our Neon software acquisition and the opportunities related to our recent acquisition of I/O Concepts.

Turning to revenue. Total revenue for the quarter was $548 million, up 2% as reported and on a constant currency basis from the third quarter fiscal 2011. ESM's total revenue was down 1% to $332 million and MSM's total revenue was up 5% to $216 million. License revenue in the third quarter was $225 million, a decrease of 4% from the year ago quarter. ESM license revenue was $134 million, down 10% from the year ago quarter. MSM license revenue increased by 7% to $91 million from the year ago quarter. During the third quarter, the percentage of license bookings that was deferred was 45% versus 54% in the year ago quarter. For the third quarter, maintenance revenue was a record $272 million, up 5% from the year ago quarter and up $2 million sequentially. This is the third quarter in a row that we have had sequential improvement in maintenance revenue.

ESM maintenance revenue was $148 million, up 6% compared to the year ago quarter. MSM maintenance revenue was $125 million, up 4% compared to the year ago quarter. Professional services revenue, which is included in our ESM business unit, increased by 11% from the year ago quarter to $51 million. During the quarter, our professional services non-GAAP gross margin was about breakeven compared to a $7 million loss in the year ago period.

Moving next to operating expenses. During the third quarter, non-GAAP operating expenses were $336 million, down 5% from $352 million in the year ago quarter. The decline in operating expenses, especially for our ESM business, reflects significant savings in variable pay programs as our compensation is tightly aligned to performance.

Looking at our business units. ESM non-GAAP operating expenses were $256 million, a decrease of 3% compared to the year ago quarter. MSM non-GAAP operating expenses were $79 million, a decrease of 11% from the year ago quarter. Given the demand that exists for our products and solutions and the opportunity for management of public, private and hybrid cloud solutions, we will continue to invest in our major growth initiatives around cloud and SaaS. We will also continue to increase our ESM sales force capacity. In addition, we plan to expand our investment in the growing SMB market as demonstrated by our pending acquisition of Numara. Other income in the third quarter was a loss of $4 million compared to a $2 million gain in the year ago quarter.

Now turning to the balance sheet. Total deferred license revenue at the end of the third quarter was $659 million, up $12 million sequentially. During the quarter, we deferred $108 million of license revenue or 45% of license bookings and recognized $96 million of deferred license revenue from the balance sheet. Total deferred revenue was $1.9 billion and decreased by $24 million sequentially. The current portion of deferred revenue now stands at 54% of total deferred revenue. Software development costs were $230 million as we capitalized $39 million and amortized $23 million during the quarter.

Cash and investments at the end of the quarter totaled $1.4 billion, down $139 million sequentially. Our net cash position was $1.1 billion. For the quarter, cash flow from operations was $164 million, down 9% from $180 million in the year ago quarter. For the first 3 quarters, cash flow from operations has now increased by 24% over the same period last year to $587 million.

We remain committed to our share repurchases. During the quarter, we repurchased 6.3 million shares for a total of $225 million. At the end of the third quarter, we had $1 billion remaining in our current share repurchase program. The Numara purchase price is approximately $300 million and we expect to close this transaction this quarter. The acquisition will be roughly $0.04 dilutive to the fourth quarter non-GAAP earnings per share, which includes the impact of the fair value adjustment to deferred revenue. We expect this acquisition to be accretive by the end of fiscal 2013. The addition of Numara will add approximately 270 employees and will operate as a separate unit within ESM. The transaction will be funded from cash on hand.

In summary, in the near-term, we remain focused on improving the trends in our ESM business by growing productive sales capacity and improving sales productivity. We have made good progress as demonstrated by our lower attrition rates, growth in sales capacity and the recent hiring of strong sales leadership. From a longer-term perspective, we remain committed to creating shareholder value by maintaining financial discipline while investing in growth areas, both organically through investments and growth markets, such as cloud and SaaS; and through strategic financially attractive acquisitions, such as Numara. At the same time, we're returning excess cash to shareholders through our share repurchase program.

I'll now turn the call over to Bob for his concluding remarks.

Robert E. Beauchamp

Thank you, Steve. While we're pleased with the strong profitability we've achieved year-to-date, we remain focused on delivering more balanced and consistent performance over the near- and long-term. We are rapidly addressing the sales force issues within our ESM business to restore license bookings growth and predictability. We're pleased with the important steps that we're taking in the quarter to put in place our ESM global sales leadership and to exceed our goals for greater sales capacity and lower sales attrition. We're excited about our SaaS, cloud and new SMB solutions, and we remain focused on creating value for our shareholders.

Let me now update you on our current view for the full year fiscal 2012. Given our year-to-date performance, we now expect non-GAAP diluted earnings per share in the range of $3.26 to $3.34 per share. At the midpoint, this would represent a 10% increase over the prior year. This includes approximately $0.04 dilution related to the pending acquisition of Numara. This range excludes an estimated $0.90 to $0.95 per share for non-GAAP adjustments, including expenses related to the amortization of intangible assets, stock-based compensation and severance, exit costs and related charges.

The assumptions underlying our full year fiscal 2012 expectations include: total bookings growth flat with the prior year; ESM license bookings decline of high single digits to low double digits with solid sequential growth in the fourth quarter; MSM total bookings growth in the mid single digits; revenue growth in the mid single digits; operating margin up slightly from the prior year; license bookings ratable rate lower than the prior year; currency impact at today's rates; other income at a loss of $13 million for the year; weighted shares outstanding 5% lower than fiscal 2011; and a non-GAAP tax rate of 26% for the year. We now expect full year fiscal 2012 cash flow from operations to be between $775 million and $825 million, which at the midpoint represents a 5% improvement over fiscal 2011.

With that, we will now turn the call over to questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] We'll go first to Aaron Schwartz with Jefferies.

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Bob and Steve, as you mentioned, I mean, I don't think anyone expected everything to rebound just in one quarter. But, Bob, you mentioned a number of things that could possibly impact performance in fiscal '13, and if we just look at the bookings growth over the last couple of quarters here, it's hard to see how that could translate to positive organic revenue growth maybe in the early part of '13. I don't know if that's sort of the correct way to think about it, but maybe you could contrast the recent bookings growth, how that impacts revenue growth into the next couple of quarters in sort of the positive impacts that will come into the model in '13.

Robert E. Beauchamp

Sure. So, yes, first of all, I think you have to look to the core issue of sales capacity. Sales capacity challenges can turn a very good salesperson into a less productive salesperson because they're having to deal with taking inbound calls, dealing with account issues and handling after-the-sale issues. So just in general, I think sales productivity will increase once our sales force can spend more time driving demand and closing orders as opposed to servicing accounts, and the sales capacity issue puts stress on them on some very talented salespeople in multiple ways. We're off to -- again, we had the biggest hiring quarter in our history in Q2. We had another solid quarter in Q3. We're doing well in Q4. Attrition in Q3 was below the 25% annualized number that we'd generally like to target. And so there is just general -- we're optimistic that the sales capacity engine will kick back in and will begin in to get some more speed in the engine there. You also have some exciting products to sell. You've got the cloud product line that is really something that is keeping the customers and the sales force energized. We just won, as we mentioned, Chevron on a deal where we had VMware and a whole set of other people in that deal upfront and very quickly. The customer narrowed it down to us. We're winning cloud deals in the large outsourcers and systems integrators, architectural wins. Some of those deals were small ESP when you get the first transaction because it essentially you won the architectural bid and now it basically lays us down as the architecture for their future data center architecture. So you've got the add-on sales going there. We've got Numara cross-selling opportunities that we didn't -- that we would not have had before. You've got our SaaS business doubling in the unit count approximately within 90 days, up to where we went from the 100th customer announcement last quarter to the -- we'll do 200 this quarter, pass 200 this quarter. So I think I'd say, in general, there is just -- the capacity issue is really the key once you get that going. And Carv Moore, our new Head of Sales, brings his own expertise into the segmentation model that we're going to be working toward. I think there's every reason, I believe, particularly coming off what has been some -- what will be some unfortunately fairly weak comps, we should be able to see growth, organic and inorganic growth, next year.

Stephen B. Solcher

Aaron, this is Steve. Let me quickly -- maybe the question that you were asking was around how does the bookings growth, which is flat, translate into revenue growth next year.

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Exactly. Just given the magnitude of the last couple of quarters, I know you said it's lagging.

Stephen B. Solcher

Yes, so let me just say, we typically do 2-year, so on average, our weighted average term length is 2 years. So you really need to think about how you average not only last year's growth, which was 13%, which we'll get in fiscal year '13, as well as this year's growth, which is approximately flattish. That will translate typically into something in the mid single digit growth rate for next year. But just, you've got to take that bookings number over that 2-year timeframe that it's associated with. And there's a high correlation. You can go back and just look at our bookings growth over a 2-year period, go back in time, and it's pretty highly correlated to what the revenue CAGR will be too over that same period of time.

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Okay, great. That's helpful. And one more, if I could squeeze it in. But on the attrition, and I understand that's certainly moving in the direction you want to see, was that more weighted towards forced attrition or voluntary out with some of the management changes you're making? I don't know if you're still sort of -- or maybe you could just comment on sort of one or the other.

Robert E. Beauchamp

Yes, it was about 40% forced where we were terminating people last year, of the people that we lost. And so that number by Q1 had become untenable for us and that was pretty obvious. But we also had been targeted. If you look at our numbers last year, I mean, they were pretty strong growth numbers and we had an aura of growth around the company that targeted headhunters and others towards our sales organization. We hired -- we had good salespeople and people wanted them. And so it was a little of both, but the forced was pretty high, almost 40% or up 50% [ph].

Operator

We'll go next to Gregg Moskowitz with Cowen.

Gregg Moskowitz - Cowen and Company, LLC, Research Division

I wanted to maybe start off just asking a couple of questions about Numara. First of all, why now? And then also, Steve, wondering if you could add some color as to what 2011 revenues were for Numara. Were they growing? And if so, by roughly how much?

Robert E. Beauchamp

Sure, so let me -- I'll take it first. So Numara triples our IT service management install base. It presents to us over 13,000 customers that we now get to cross-sell into. Given the sales channel capacity challenge that we're facing, the opportunity to add 75 field-facing people, about 50 direct, about 25 indirect, along with a network of sales channel partners that Numara had, gives us the opportunity to put additional products through that channel, to grow that business, to grow those that -- the revenue for other products into that market. It also puts us in a good position to accelerate our SaaS business, which we think is very strategic to our long-term future as we'll have the opportunity to -- for those customers who want to explore SaaS model that we think is particularly a good ROI in that mid-market, we will give those customers the opportunity to transition, say, to the Remedyforce product line and we think we'll have a competitive advantage in terms of making that transition. We will -- in general, I just think that it fits very, very well. And also, the mid-market is an area that BMC has not really targeted for a long time. And more and more with the consumerization of IT, some of the innovation and product demands that come from that mid-market are moving their away up stack and they will give us more R&D expertise and more of a culture of designing faster time, the implementation, faster time for value to the mid-market demands.

Stephen B. Solcher

And then on revenue and then growth, you're looking at revenue, I think it's been published in -- the numbers are pretty close to what I've already seen people write. It's something in the low 90s. You also have seen growth that's probably what I'd say in the kind of the low- to mid-single digits. I would also say that this was run by a private equity firm that was primarily focused on margin and not top line growth where our focus will be almost the opposite. So it's really how do you take their business start accelerating growth and we'll probably do a little bit more investing in their area. So I would expect the margins to kind of moderate more toward our ESM margins and then see growth rates starting to accelerate.

Gregg Moskowitz - Cowen and Company, LLC, Research Division

Okay. That's helpful, guys. And, Steve, I know it's early at this stage, but just wondering if you can give us any sense because obviously you have a lot of moving part here but even directionally as to your thoughts on fiscal '13 cash flow versus fiscal '12.

Stephen B. Solcher

Well, I'd rather not right now give you anything. We are building plans as we speak. The expectation is growth, but I just -- I think it would be premature right now for me to give you a number yet.

Gregg Moskowitz - Cowen and Company, LLC, Research Division

Okay, fair enough. And then if I could just ask one last one. So last week, we saw one of your primary competitors announce a very large capital allocation plan. As you guys have pointed out, you've bought back a very healthy amount of shares over the past year in your last quarter. But I'm wondering, philosophically speaking, if you could share with us your latest views on whether you would consider doing an ASR and/or issuing debt or more or less just kind of continue along the pace that we've seen recently.

Stephen B. Solcher

We, today and have been for a long period of time, this is not new so hopefully you won't see any real change. I mean, we've always been very focused on taking excess cash and returning it back to shareholders that what we believe is a very efficient program, which is our stock repurchase plan. I don't foresee us changing that in the future. As Bob said in his prepared remarks, we're already over 100% of free cash flow, so I don't know how much more we can go as we take down our net cash position. Our domestic balances today are approximately 40% of total outstanding cash and marketable securities. So we're getting to a level today that you get to a threshold just for liquidity purposes. As for debt, we look at everything. I mean, we're constantly evaluating the market. IBM placed some paper today, I'm sure, but he picked up very thin spreads in the 3 and the 5 years. So it's incredibly attractive. We've got a working capital revolver today that is out there that's $400 million that we can take up to $600 million. So capital structure is something that we look at quite a bit and we're constantly evaluating it. But I wouldn't say there's a major change to what we've already thought through and have been able to demonstrate over the last year.

Robert E. Beauchamp

I think that the company you spoke of was in the 40s or 50s in terms of their free cash flow and we're -- I think 106% of our free cash flow was returned to shareholders this year through the share repurchase and so we're already pretty aggressive in that. And as Steve mentioned, with the financial performance we're going though right at this moment, it's very important to us that we continue to return cash to shareholders in whatever form we can.

Operator

And Philip Winslow with Crédit Suisse has our next question.

Philip Winslow - Crédit Suisse AG, Research Division

Just focusing back on the ESM segment. You talked about some improvement in the sales force churn, but it's still -- it's relatively elevated here, you said sort of south of 25%. And sort of how are you going to focus on those going forward? I mean, how much of it is sort of a product issue that you guys might be having or versus territory sales coverage or quotas? I mean, how should we think about balancing it as the product or just something kind of the nuts and bolts of running a sales force? And then also, just in terms of the revenue contribution for this coming quarter from Numara, just what was that? And then also, you talked about writing down a deferred revenue. What's going to be the impact of that deferred revenue write-down on revenue over a 12-month period?

Robert E. Beauchamp

So Steve will give you the last 2. On the first part, on sales, one of the things I just take you back to is that, in Q1, whenever we really began the spike, again, it was -- a little over 40% of that was forced attrition where we were terminating sales people. That obviously can get a lot better in a hurry and has already begun to get better. In terms of targeting our sales people and having them hired away, that's something that we can do something about in a number of ways. One is just, culturally, the compensation systems of the managers are now going to be tied to attrition in their regions. We also have adjusted the sales compensation models this year, so that those people who got off to a slower start have the opportunity to make some solid money in Q4. We're going to be looking at how we continue to give them that opportunity to bridge into Q1 and beyond, so we're looking at compensation plans at a sales level, we look at compensation plans, carrot and stick compensation plans for our management team around that. We do exit interviews really with all of them, that depart, and try to determine what's the root cause of the departure. And as it relates to product, every company is going to have some product-related issues. But I think as I said earlier, whenever you run that thin on sales people, then it turns your salespeople into not only salespeople but customer sat managers and implementation managers and project managers and administration managers and dealing with contract issues and maintenance agreements and things that, when you have a better coverage model with more people covering the accounts, you spend more time selling. So I think that will improve the quality of life of our salespeople in general, which is part of it as well. But in general, I think we've got -- I mean, when I talk to the salespeople, and I spend a lot of time out there, I don't get very much whining and complaining about I can't sell it. It's -- they love the story. They've got very, very competitive products. Our win/loss ratios against our competition are excellent, and we've got the strategy the customers like. Not that we don't have issues and challenges that everybody does, but I don't get too much the grass-is-greener story from our salespeople.

Philip Winslow - Crédit Suisse AG, Research Division

Got it. And then just one quick follow-up to that. Are you still pretty committed to having a singular go-to-market sales force in ESM? Or would you actually ever consider breaking it back into sort of assurance and service and automation actually breaking for sales force and stuff?

Robert E. Beauchamp

Yes, we're going though right now. We went kind of to a one-size-fits-all. It wasn't purely one-size-fits-all. There was some quota differentiation, there was some specializations. I don't want to make it sound like it was absolute, but we're definitely looking to start April 1 with a more segmented model around strategic enterprise commercial accounts. We're looking at the specialization model. So that anytime we have a fast-track acquisition or a fast-track new product, that we're going to make sure we apply plenty of resources to get that off the launchpad before we put it into the sales force. And I wouldn't rule out that we might take some product segments out of the core sales force and put it into a dedicated specialized sales force. We've done some of that with maintenance renewals already, in fact, where maintenance renewals have moved into more of a dedicated sales model. And we're exploring that right now. We're going to watch the growth rates inside of the product segments, but right now, there's nothing off the table. But I wouldn't expect it to be dramatically different. We will move towards more segmentation.

Operator

We'll move on to Walter Pritchard with Citi.

Walter H. Pritchard - Citigroup Inc, Research Division

Bob, a question on the product side with all the opportunity in the high end of the market and cloud seemingly doing well and it's just been execution issues. Just wanted to understand better the movement into SMB here. It seems like, just broadly in software, companies have had trouble moving really up and down the market like that and it seems like you got plenty of opportunity where you're at. So just wanted to better understand that.

Robert E. Beauchamp

Yes, so that's what we -- you're absolutely right, and it's why we have never launched into SMB organically. If to the extent that we want to move into SMB, the decision was that it would make sense when we found a company that was already doing well in SMB, that already had learned the sales motions and the support motions and how to deliver at a profit into an SMB market. I think most of companies like us that move into SMB end up doing it in an unprofitable manner because they try to apply large enterprise structures to -- what a higher-volume, lower-margin business. And Numara have done a really good job of building a good profitable business. So I think that by leveraging that platform, taking products of ours that we think that will fit very nicely into that, we can expand it into their channel, put it into their channel and it's as much about what we can do for them with our products and our coverage and our ability to add other technologies into it as it is just vice versa. The other thing is the SaaS model. As you know, we have a smaller competitor in the SaaS space. And what we -- if we do this right, we could eclipse their entire install base really fast. We could be the largest ITSM SaaS vendor in the world really quickly, in terms of unit count, and with Remedy OnDemand in terms of total revenue behind that, but nonetheless coming up strong. I think that by having, let's say, many, many hundreds and let's get into thousands of SaaS ITSM customers, it will establish the brand recognition and the halo effect around that brand. And Remedyforce is a perfect application for that. And it will give us a stronger entrance into the cloud space in that mid-market. And so it will help us there as well.

Walter H. Pritchard - Citigroup Inc, Research Division

And then, Steve, just on the ratable side, I mean, just we measure you guys on a bookings basis, but this number swings around a lot including this past quarter here. And I'm wondering, as we think about the fourth quarter, March, as well as sort of into next year, I mean, is this going to continue to trend down the ratable business? Or any help there in terms of what we should expect?

Stephen B. Solcher

Yes, I would do it. Let me back up a little bit and just make sure that -- the biggest driver of our deferral rate is the mix of business is one. So as ESM becomes a bigger piece of the pie, the overall corporate deferral rate is going to go down just because we defer less in our ESM business than we do in our MSM business. Number two is that within each of the businesses, we have seen a lower deferral rate in our ESM business this year, primarily driven from the lack of large complex transactions. So if we go back to doing fairly sizable, large, complex transactions, more than likely, they will carry terms that cause deferral. So I'd look at it as a positive as we're looking this year that what you're seeing, what I would say, is fairly stable corporate deferral rates. I mean, in the aggregate, we're slightly under last year's number. But if you go back over the last 4, 5 years, the corporate rate has been within 1 point or 2 in just about every year.

Operator

We'll go next to Philip Rueppel with Wells Fargo.

Philip C. Rueppel - Wells Fargo Securities, LLC, Research Division

Can you talk a little bit about the hiring of Carv Moore. Is he onboard as we speak? And will he be playing a key role in terms of setting the 2013 goals? And are there any other in his team or in the sales management in general that are still need to be hired? Or is the team pretty much set as we head into fiscal 2013?

Robert E. Beauchamp

Sure. So Carv's been on site and working with the sales team now for about 3 weeks, I'd say. Fortunately for him, he came on board just as our sales regular schedule large reviews were going on. So he had a chance to sit and learn and observe, listen to all of the forecast meetings in the end of quarter and what happened in the quarter and look at the team. So he is just now beginning to kind of be felt in the sales organization as he took his time in the first couple of weeks to really get to understand what's going on. He will spend a lot of time with customers. He's a customer-facing sort of sales guy as well. We've been out there in the field. And I think the salespeople will appreciate that face time he will be spending out there with them. The team around him -- I wouldn't want to paint him in a corner and say that he's going to keep everybody or that what he's got is what is going to keep. But I don't think we'll have big changes. He's got some very good people around him. Our organization will always change somewhat, but we have brought in some other very key players. We brought in a Head of Sales Operations from another very large company that was in our space much larger than us and also in the harbor business, who is running sales operations, who's really very, very good. Paul Avenant, the President of the business unit, has now around him a mature team that's really gelling well together, I think. And they are preparing for, first and foremost, to closeout Q4 well but to get ready for fiscal '13 and be ready to launch in a big way with all of our compensation plans, our territories, sales models and everything. So Carv is here on time to really help guide fiscal '13 well.

Philip C. Rueppel - Wells Fargo Securities, LLC, Research Division

And then could you comment a little bit? The one area in the U.S. or one major area is the government. Is that really a kind of a secular issue? Or are there some things you could do from an execution perspective to improve you performance going forward?

Robert E. Beauchamp

Yes, I wish I could say it was all secular. I think we do have some execution issues. We got some awfully good people in that office. And so they had a fantastic year last year. And I think some of it is we just underestimated how much they really cleaned the pipe out and, while they had -- the pipeline was building. Some of the biggest deals we've ever done were done last year in U.S. Federal. So what I would not want to do is say that, that group is a poor group. They really did well a year ago. But this year, performance wasn't so good. And I'm going to be there next week, I believe, at Federal. And I'll be there visiting with our customers and with our sales teams there. They're very high-quality folks. I think we're going to get that turned around. We have made some minor adjustments there on that team. We think we'll help add some additional speed to their recovery. But they're well respected products, well respected sales organization there. We just need to get it back on track.

Operator

We'll hear now from Michael Turits with Raymond James.

Michael Turits - Raymond James & Associates, Inc., Research Division

A couple of questions. First, on the Mainframe side. Mainframe seems to be doing pretty well and yet you did lower the bookings bogey for this year in terms of growth rates. So what's going on that, that also seemed slow, we haven't really focused on that?

Stephen B. Solcher

Michael, it's really 2 pieces. The first piece is, is FX change. So there is about 2 points of growth just in FX in that business. And number two is, we have seen in that business a shortening of some deal links. And so the term actually on a TTM basis looks like it's growing. Within the current quarter, we're actually shrinking. We're now well below the 3-year time horizon that we typically see contract lengths. So it's really composed of 2 pieces, the first of which the biggest piece was just FX itself.

Michael Turits - Raymond James & Associates, Inc., Research Division

To sum up, annualized constant currency, there's no slowing in the bookings growth rate?

Stephen B. Solcher

There is. On a gross basis, there's no slowing other than the, what I would say, the -- only reason I'm hesitating is, it's very hard to compare a 3-year business year-over-year.

Michael Turits - Raymond James & Associates, Inc., Research Division

Sure.

Stephen B. Solcher

So I would say that, that 3-year growth CAGR is actually improving, not decreasing.

Michael Turits - Raymond James & Associates, Inc., Research Division

So that actually kind of leads to my next question. What might we expect in terms of the -- directionally in terms of the bookings growth Mainframe going into next year? I know you're not giving guidance, but you also have a good sense of what's going on in terms of the renewal cycle. So assuming your renewal rates are about the same, but we think that they kind of -- more bookings that are -- should be bookings up, bookings down, same kind of growth rate, assuming that you have the same kinds of renewal rates going to next year?

Stephen B. Solcher

Yes. And again, this is a repeatable pattern. So historically, we've grown that business pretty consistently between 3% and 4%. And this year, it looks like our 3-year growth rate is going to be closer to 6%. I think it's a safe assumption that we'll revert back to the mean. And I'll let you imply what that means, but we're not looking at having our peak year next year. We are...

Michael Turits - Raymond James & Associates, Inc., Research Division

Okay, but anyway, you should get bookings growth in Mainframe next year.

Stephen B. Solcher

I don't want to give you a number yet because we're debating that. And I'll lose my leverage if I tell you that number right now with a -- not to give them an excuse, but one thing I just do want to mention, we have one of the largest orders in our history in Q1, in Mainframe. And that renewal is not coming up. It's not an annual renewable. So there's a little bit -- that lumpiness is more than just a quarterly lumpiness. It's a multi year lumpiness that, that business occurs.

Michael Turits - Raymond James & Associates, Inc., Research Division

Quick question, too, on margins. In the other years, where things have been light in terms of growth, you've managed to get some pretty good margin expansion. Any general thoughts on how we might look at '13 where that might be a good margin expansion year?

Stephen B. Solcher

Again, I don't want to get into next year's margin. I think we have the same dilemma that we have as ESM becomes a bigger piece of the pie. The corporate margin is going to get impacted. We're trading a business that -- at the MSM side where you're close to 60% margins for a business that's in the 22%, 23%.

Operator

And Tim Klasell with Stifel, Nicolaus has our next question.

Tim Klasell - Stifel, Nicolaus & Co., Inc., Research Division

Yes, just a question on the acquisition. In the service desk area, you obviously have a lot of products, including you acquired Magic a few years back. How much overlap is there with the product? If you go to the website, it certainly seems like there's some and I just want to get a handle on that.

Robert E. Beauchamp

Yes, the only product that really have some kind of overlap that we need to manage through is the Magic, which is not a very big number, but it's the Magic product line with the Numara product line. We're going to be getting out to those customers in the next -- we hadn't closed yet, so I got to wait a little bit, in very short order. We will protect our customers. We're not going to do a forced march on any customer and make anybody get off of anything, so the customers can continue to use these various product lines. We will financially incent customers to move so that we have less code streams to deal with.

Tim Klasell - Stifel, Nicolaus & Co., Inc., Research Division

Okay, good. And then not to beat this horse to death, but on the sales force build and attrition, as you go into your Q4, do you think it's possible as you -- and your fiscal year, do you think it's possible for the attrition to tick back up? And then on the positive side, is it going to be easier to recruit now that maybe many of your potential hires are off their fiscal plan?

Robert E. Beauchamp

The second part of the question, I'm not sure I understood. I'm going to come back to it. The first part of the question, it -- where you usually see a spike is in Q1, right, because most of -- a lot of the accelerators are in Q4. So if somebody's with us in Q4, they're operating at usually their richest compensation plan and it got deals to close in Q4. So where we watch for attrition spikes is in Q1. And we're trying to work through that, so that we're doing things in order to try to avoid that being a number. We expect it to go up, but we need it to be a manageable number that's more in line with historical norms rather than kind of the kind of the unfortunate number that occurred this last year that got us off to such a bad start that we're still dealing with. I mean, really, the root cause of all these issues we're dealing with began in Q1 of this year when the attrition rate shot up so high. And so we're doing all that we can and we're going to -- we're looking at other options as well to even reduce it further. But that's what to watch for, so I'm worried about Q4.

Tim Klasell - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And then maybe I'll repeat the question. A lot of your peers out there are on calendar fiscals, so their sales peoples would be now off their accelerators. Have you noticed a pick up in recruiting activity in the past month?

Robert E. Beauchamp

Well, I know that we have been hiring people. I was just downstairs in the sales training area, visiting with the sales lady, who we just hired over from VMware. We're able to hire people from many of the companies out there that were targeting us. Unfortunately, I think we trade employees. We'll probably hire almost double in Q4 what we hired in Q3 to get ready for the fiscal year. So we're going to be hiring a lot of people. The pipeline's good. We got a lot of good people who want to come onboard. And the thought that we call it beating a dead horse there is nothing that we're spending more time on than this topic to get -- I believe that once we get the sales engine back to capacity, we will stop meeting to have long earnings calls talking about what's wrong with ESM license bookings.

Operator

And that will be from Matt Hedberg with RBC Capital Markets.

Matthew Hedberg - RBC Capital Markets, LLC, Research Division

I guess I'm wondering about EMEA. I think in your prepared remarks, you mentioned that things are maybe getting a little bit worse there. I'm wondering if you could provide a little bit more color there. Or maybe have trends bottomed? Is it EMEA specific? Or is it any particular issue going on, company-specific? And then maybe on APAC, a little bit of color there will be helpful.

Robert E. Beauchamp

Yes. So on APAC, I'd just say, in general, it's small enough or lumpy. Sometimes we have a hyper performance there and then sometimes we have under performance. I think APAC is okay. It was a little down this -- it was a little disappointing this quarter, but we're not taking it as a trend. We think that was an anomaly because they had hyper performance in the pre -- it's, like I said, it's lumpier. In terms of Europe, it was really the larger deals and it was the usual suspects. It was some of the large financial services companies. And we literally had one transaction, one of our larger deals, where it was -- we had been -- it was all ready to go, signed, sealed, ready to give to us, and they call us up and said that from the top of the company, they had said freeze it and freeze all spending. So we got -- we had a few very large transactions. We had one, I think, went away, just nobody's going to get it, just the project has been called. We had one that got cut back dramatically from a 3-year deal to a 1-year deal. And we have another that's actually our largest deal that we're working right now this quarter that just got delayed. And so we've got a really good team in Europe that has been outperforming those. They were doing well even in the bad economy in the first half of the year. This is the first really weak quarter for Europe and it's the first time that they had, had that kind of slip. Okay. Any other follow up on that?

Matthew Hedberg - RBC Capital Markets, LLC, Research Division

No, I'm good.

Robert E. Beauchamp

All right. Well, thank you all very much for joining us today. We look forward to following up with you individually. And Steve and I and Derrick will be available to you. Thank you very much.

Operator

That concludes today's BMC Software teleconference. Thank you all for joining us.

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