Open Text (OTEX) Mark J. Barrenechea on Q2 2016 Results - Earnings Call Transcript

| About: Open Text (OTEX)

Open Text Corp. (NASDAQ:OTEX)

Q2 2016 Earnings Call

February 09, 2016 5:00 pm ET

Executives

Greg Secord - Vice President-Investor Relations

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Stephen Murphy - President

Analysts

Phillip Huang - Barclays Capital Canada, Inc.

Richard Tse - Cormark Securities, Inc.

Kris Thompson - National Bank Financial, Inc. (Broker)

Paul Treiber - RBC Capital Markets

Paul Steep - Scotia Capital, Inc. (Broker)

Steven Li - Raymond James Ltd. (Broker)

Operator

Thank you for standing by. This is the conference operator. Welcome to the Open Text Corporation Second Quarter 2016 Financial Results Conference Call. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the presentation, there will be an opportunity to ask questions.

I would now like to turn the conference over to Greg Secord, Vice President, Investor Relations. Please go ahead.

Greg Secord - Vice President-Investor Relations

Thank you Brandon, and good afternoon, everyone. I'd like to welcome you to today's call. With me is Open Text's CEO and CTO, Mark J. Barrenechea; as well as our Chief Financial Officer, John Doolittle. Welcoming to the call as well our new President, Steve Murphy. As with our previous calls, we'll read prepared remarks followed by a question-and-answer session. The call will last approximately one hour with a replay available shortly thereafter.

I'd like to take a moment and direct investors to the Investor Relations section of our website where we posted two PowerPoints that will be referred to during this call. The first is our quarterly supplemental update on the financial results; and the second PowerPoint is our annual strategic overview presentation from July, outlining our leadership positioning in the EIM marketplace with supporting stats outlining both our historical performance and cloud transition initiatives. I encourage all of our investors to download both presentations.

As with previous quarters, we've updated a summary table highlighting Open Text's historical trends and financial metrics. Both PowerPoints and our trended financial spreadsheets are downloadable from the front page of the IR section of our website. Open Text will be hosting an Investor Day in New York on Thursday May 12. Details and official agenda will be posted on the IR section of our website in the coming weeks. If you're interested in attending or want to find out more information, please contact our Investor Relations team directly. And with that, I'll proceed to the reading of our Safe Harbor statement.

Please note that during the course of this conference call, we may make statements relating to future performance of Open Text that contain forward-looking information. While these forward-looking statements represent our current judgment, actual results could differ materially from a conclusion, forecast or projection in the forward-looking statements made today. Certain material factors and assumptions were applied in drawing any such conclusion while making a forecast or projection, as reflected in the forward information.

Additional information about the material factors that could cause actual results to differ materially from a conclusion, forecast or projection in the forward-looking information and the material factors or assumptions that were applied in drawing a conclusion while making a forecast or projection as reflected in the forward-looking information, as well as risk factors that may project the future performance results of Open Text are contained in Open Text's Forms 10-K and 10-Q, as well as in our press release that was distributed earlier this afternoon, each of which may be found on our website. We undertake no obligation to update these forward-looking statements unless required to do so by law.

In addition to the conference call will include a discussion of certain non-GAAP financial measures. Reconciliations of all non-GAAP financial measures to their most directly comparable GAAP measures have been included in today's press release, which may be found on our website.

And with that, I'll hand the call over to John.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

Okay Greg. Thank you very much. Good afternoon, everyone. Welcome to the call. Let me go through the numbers, and my references will all be in millions of U.S. dollars unless I indicate otherwise. I'll start with total revenue. For the quarter it was $465 million, down 1%, compared to $468 million for the same period last year, and up 6% on a constant currency basis. Year-to-date total revenue was $900 million, down 2%, compared to $922 million for the same period last year, and up 5% on a constant currency basis.

Recurring revenue for the quarter was $383 million, down 2% year-over-year, compared to $392 million for the same period last year, and up 4% on a constant currency basis. Year-to-date recurring revenue was $767 million, down 3%, compared to $788 million for the same period last year, and up 4% on a constant currency basis.

Now to foreign exchange; in Q2 compared to the same period last year, our revenues were negatively impacted by $32 million. Adjusted operating income negatively impacted by $11 million and adjusted EPS by $0.07. The negative effect of the $32 million by revenue type is broken down as follows: license $8 million, cloud services and subscriptions $7 million, customer support $12 million, and professional services and other $5 million.

Year-to-date our revenues were negatively impacted by $65 million, compared to the same period last year, adjusted operating income negatively impacted by $20 million, and adjusted EPS by $0.13. The $65 million revenue is broken down as follows; license $13 million, cloud $15 million, customer support $27 million and professional services and other $10 million.

License revenue for the quarter was $82 million, up 9%, compared to $75 million reported for the same period last year; and up 19% in constant currency. Year-to-date license revenue remain stable at approximately $133 million, but up 9% on a constant currency basis.

Cloud services revenue for the quarter was $149 million, down 4%, compared to $155 million in the same period last year, but up 1% in constant currency. Year-to-date cloud services revenue was $297 million, down 4%, compared to $309 million during the same period last year, but up 1% in constant currency.

Customer support revenue for the quarter was $184 million, up 3%, compared to $179 million in the same period last year and up 9% in constant currency. Year-to-date customer support revenue was $370 million, up 2%, compared to $363 million during the same period last year and up 9% in constant currency.

Professional services and other revenue for the quarter was $50 million, down 14%, compared to $58 million in the same period last year and down 6% in constant currency. Year-to-date professional services and other revenue was $100 million, down 14%, compared to $116 million during the same period last year and down 5% in constant currency.

Now to gross margins; license margins increased to 98% from approximately 95%, primarily due to lower third-party technology costs including the impact of informative graphics and lower sales of third-party products. Cloud services and subscription margin was 60% compared to 62% in the same period last year. The increased expense in this period primarily attributed to non-recurring sales credits booked in Q2 of fiscal 2015 and increased cloud certification costs in fiscal 2016.

Customer support margin increased slightly to 88% compared to 87% in the same period last year due to a reduction in the installed base of third-party products and from organizational efficiencies. Professional services margins remained stable at approximately 24%.

Gross margins on a year-to-date basis: license 96% compared to 95% in the same period last year, cloud 60% compared to 62% in the same period last year; customer support 89% compared to 87% in the same period last year; and professional services margins were stable at 24%.

Adjusted operating income was $172 million this quarter; it was up 12%, compared to $153 million in Q2 of last fiscal. On a constant currency basis, adjusted operating income was $183 million, up 19%. Year-to-date adjusted operating income was $320 million, up 4%, compared to $309 million during the same period last year, and on a constant currency basis, it was $340 million or up 10%.

Adjusted net income increased by 3% to $122.4 million this quarter, up from $118.8 million in Q2 of last fiscal, and this is primarily due to a $20 million increase in adjusted operating income that was partially offset by higher interest and taxes. On a constant currency basis, adjusted net income was $131.2 million, up 10%. Year-to-date adjusted net income was $225.6 million, down 5% from $237.4 million last year. The decrease on a year-to-date basis is primarily due to higher interest expense of $19 million and an increase in the company's adjusted tax rate from 18% to 20%. On a constant currency basis, year-to-date adjusted net income was $241.8 million, up 2%. And even though our GAAP rate this quarter is quite low, we expect to continue to see an adjusted tax rate of 20% for this fiscal year.

Adjusted earnings per share was $1.01 per share on a diluted basis compared to $0.97 for the same period last year, up 4%. And on a constant currency basis, adjusted earnings per share was $1.08, up 11%. Year-to-date adjusted earnings per share was $1.85 on a diluted basis compared to $1.93 for the same period last year, down 4%. On a constant currency basis, it was $1.98, up 3%.

On a GAAP basis, income from operations was stable at approximately $110 million. Year-to-date income from operations was $186.5 million, down 13% from $213.6 million in the same period last year and the decrease is due to lower revenue of $22 million and higher operating expenses of $20 million, primarily due to increased special charges.

Net income for the quarter was $87.7 million, $0.72 per share on a diluted basis, compared to $74.3 million, or $0.60 per share on a diluted basis in Q2 last fiscal. Year-to-date net income was $129 million, or $1.06 per share on a diluted basis, compared to $138.9 million or $1.13 per share on a diluted basis in the same period last year.

There were approximately 121.8 million shares outstanding on a fully diluted basis for the second quarter fiscal 2016 and a 122.2 million shares outstanding on a fully diluted basis year-to-date. We repurchased 0.3 million common shares during the quarter and 1.5 million common shares year-to-date under our NCIB program. Year-to-date, this has had minimal impact on EPS, approximately $0.01, due to the timing of when the shares were canceled.

On a weighted average basis, the shares canceled impacted total diluted shares outstanding by $0.2 million for the quarter and $0.8 million year-to-date and we've repurchased approximately $65 million of a $200 million program.

Daegis was acquired on November 23, 2015 for a total consideration of $23.3 million, or $22.1 million net of cash acquired. The acquisition had no significant effect on revenue or earnings.

Operating cash flow for the quarter was approximately $124 million, an increase of 13%, compared to $110 million in the same period last year. The increase was primarily due to an active working capital management program which contributed $11 million in operating cash flow compared to Q2 2015. And driving cash flow improvements continues to be a top priority for us.

Now to the balance sheet at December 31, 2015, deferred revenues were $339 million compared to $386 million at June 30, 2015, and this decrease is a result of normal seasonality. Cash and liquidity, our cash and short-term investments balance at December 31, 2015 was $742 million compared to $711 million at June 30, 2015 and $543 million at December 31, 2014. Our overall liquidity position continues to strengthen with growing cash flows and balances and conservative leverage ratios.

Accounts receivable was $279 million at December 31, 2015 compared to $284 million at June 30, 2015. Days' sales outstanding were $54 million at December 31 compared to $53 million at June and $50 million at December 31, 2014.

And now just a few comments on our fiscal 2016 external target model that's published on the IR website. I'm pleased with our margin performance this quarter. We're just two quarters in and our target model is annual with two more quarters to go to complete our fiscal year. The fact is there is still a lot of economic uncertainty yet there and the currency markets remain unstable. The company has its most significant product release plan for the second half and investment is required to support version 16 and Mark will expand on this. So even with the strong first half of the year, we're maintaining our fiscal 2016 non-GAAP operating margin target of 30% to 34% and expect to execute to the high end of that range.

Tax update: as previously announced and disclosed last quarter, we received the first of two expected draft notice of proposed adjustments on July 17 and we continue to expect to receive the second draft notebook. There is no additional news at this stage. On February 8, the board declared a cash dividend of $0.20 per share for shareholders of record on March 10, 2016 payable on March 31, 2016.

And with that, I will turn it over to Mark.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Thank you, John, and welcome, everyone. As I usually do, let me convey our key messages in the introduction and then do a deeper dive into those topics that require more information or insights after my introduction. The team delivered a strong Q2, both financially, and strategically and I'm pleased with our progress. John has provided the financial detail and I'll get into a few additional items here in a moment. I recently announced a series of executive promotions at the very top of the organization and I welcome the addition of Steve Murphy as President of Open Text. He'll be on the call a little later. Release 16 is on schedule.

We are making select key investments immediately and in the coming quarters, help capture the Release 16 opportunity. The data opportunity is large, transformative, and expanding. The most recent notable expansion, being the rise of machine-to-machine transactions, and EIM will play a key role in those machine-to-machine transaction as a platform to manage a single source of truth, some call this the Internet-of-Things.

Customers are looking to Open Text for leadership in digital. This includes EIM, Cloud, hybrid, Analytics, the Internet-of-Things, managing their own digital transformative agendas and many other items. We have earned a right at the table with the Fortune 10,000 and we are shaping our own future. We have made significant progress in Forrester Waves and Gartner Magic Quadrants. We are in six Waves and lead in three. We are in seven Magic Quadrants and lead in three. The industry is beginning to recognize our leadership in the EIM. There is economic uncertainty which ultimately is an opportunity for Open Text. The company tend to behave in one of three ways in uncertain markets I tend to find. They either freeze, they retreat, or they invest. We are investing and we see that opportunity really as two fold. First customers need to go faster on their digital transformations and with Release 16, we have the opportunity to be their strategic partner for the next decade. Our investments will center on those customers and market share gains including enablement, readiness, upgrades, and competitive replacements.

Second as an acquirer with M&A as a core part of our business model, assets should become more actionable and we should accelerate and we can accelerate the growth of our platform breadth and depth. As I commented on our last earnings call, our Q2 pipeline looks strong and we executed to that.

As we look into Q3, we expect typical seasonality. What is Q3 seasonality? It's pretty simple for us. The majority of our customers, it is their first fiscal quarter and thus they allocate more time on planning and alignment for spending. It is the beginning of their budget cycles. As John noted, we're on target to both our internal fiscal 2016 operating plan and our external target model and we are not updating our external model today. Our business model, the OpenText Intelligent Growth System is our guide.

M&A will continue to drive the majority of our revenue growth in net income and cash flow expansion, coupled with a relentless focus on organic growth. Over the last 12 months, cash flow from operations was near $0.5 billion. These are the key messages and let me dive a little deeper into a few of them.

On Q2, the team delivered a strong quarter. The quarter shows the potential from our customers on the multiyear digital transformation market opportunity. We have built a powerful operations engine, net income, and cash flow business and this quarter shows its potential. As for our financial performance in the quarter in constant currency year-over-year, total revenues were up 6%, recurring revenues were up 4%, maintenance revenues were up 9%, cloud revenues were up 1%, license revenues were up 19%, PS revenues were down 6% a balance with solid margin of 24%.

With this revenue performance and our operations engine, solid execution and our May 2015 restructuring now behind us, we deliver strong margin, income and cash performance. Please recall, this previously announced restructuring was to align the organization to our hybrid on-premise cloud view of the world and digital strategy. The teams have executed well on the restructuring and I'm pleased with where we've landed.

Adjusted operating margin was 37%, adjusted operating income was $172 million, up 12% year-over-year and an ending cash balance of $726 million, highest quality adjusted operating income in our history.

On to the cloud: At the risk of repeating myself our customers see the world as hybrid and you can see that actually in the financial results within the quarter and that is customers also want to run the right workloads in the right place regardless of the physical location on-prem and the Open Text cloud or in a third-party cloud. Ultimately, as we state in our 2020 aspirations, I see our on-premise and cloud services businesses with equal weightings. Quarters may vary, but as we go to our 2020 aspirations we see this with equal weightings.

Four years into the cloud services transition and as we've stated previously and have delivered to, we expect license revenues remain constant on an absolute dollar basis as we expand the company operating margins and net incomes. We delivered to this for the last three years, we delivered again this quarter.

I want to look back a little bit. In Q1 of fiscal 2013, we introduced our first cloud services revenues of $46 million and 29% adjusted operating margins. In this quarter, cloud services revenues totaled $149 million and adjusted operating margins with 37%.

As you can see 14 quarters later the transition has worked. Our financial model is working. Fiscal 2016 Q2 is another strong data point. Hybrid is working, recurring revenues is working and we expect to deliver another solid fiscal year in this transition to a hybrid world. When you have a chance please read our quarterly supplement investor presentation in which you'll see our customer wins and their narrative from the quarter. We brought on board some blue-chip customers in the quarter: Elcom, Braun, (sic) National Commercial Bank, Shiseido, GTAA, City of San Diego, Schneider Electric, ENGIE formerly known as GDF SUEZ, Ayuntamiento de Barcelona, Pirelli and Banque de France.

So, it was very nice customer win quarter for us. Their key buying considerations included digitalization, information governance, information security, new regulations that effect financial services, agriculture, and a lot of other industries, managed services or as I like to say do it for me and rapid application delivery. We added over 25 new managed service customers in the quarter and our total managed service customers are now above 900. We also delivered 57 million of new MCV bookings which will turn to monthly revenues in the coming quarters. MCV as a reminder stands for minimum contract value. These are multiyear guaranteed contracts that once a customer is live, we begin to bill monthly or quarterly for the service.

We have decided to discuss this most meaningful aspect which is new value. For example if we have $1 million contract over three years and renew that contract for $1 million over three years, the new MCV value is zero. If we renew and expand the contract for $1.2 million, the new MCV is $200K. New customers are new MCV. Within the quarter, we delivered $57 million of new MCV. Also ECM applications and analytics, these product lines performed well in the quarter. Americas was 56% of our business, EMEA 35%, and APJ 9%. As for verticals financial services, technology services, public sector and healthcare were all greater than 10% license contributors, great to see healthcare up there in the above 10%.

Next, I'd like to speak to the executive announcements that we've recently made. Executives need to be ruthless on prioritizing to the highest impact items and time management every day. I just completed my fourth year with Open Text and as I look to the future on how to continue to gain market scale, fill white spaces, grow revenues and cash flow with speed and focus through our own innovation, and smart capital allocation, strengthening our executive talent, and prioritizing my time are quintessential elements to our continued success.

To that end, I'm very pleased to introduce Steve Murphy, President of Open Text. Steve joins us from Oracle, where he was leading the $9 billion North America Services business. Steve has an MBA from Harvard and a Bachelor of Science in Mechanical Engineering from UC Davis, which means he is an engineer, which implies he is wicked, smart, and very fact base.

Global enterprise software businesses are complex. And Steve brings the scale and experiences we need at Open Text. Steve's role is new. He is directly responsible for all revenue and all the organizations required to deliver revenue. This includes all selling teams, pre-selling teams, maintenance revenues, marketing, partners, customer support and our professional services organization. It's a delight to work with Steve and it'll be exciting to watch his many contributions to the company over time.

Muhi Majzoub was promoted as well to EVP and is responsible for all products, cloud services, commercial cloud and corporate IT, one team for all products and services on-premise or in the cloud. John Doolittle was promoted to EVP as well and is responsible for finance, human resources and all the operations of the business. Gordon Davies was promoted to EVP as well and is responsible for legal services and corporate development. Steve, Muhi, John, Gordon are my direct reports and this is what I refer to as the top of the organization changes. That's what changed in the organization. I'm delighted with the exceptional quality of this team and my wider executive leadership team and their span of influence.

Further, this alignment laser focuses me on strategy, M&A, products and competitive differentiation, customers, our key stakeholders and the strategic operations of our business. I can already feel the effect of it.

Let me move on to Release 16. Let me put my CTO hat on for a moment and talk about Enterprise Information Management, Digital and Release 16. Obviously, we could spend a lot of time here, but let me just provide the highlights.

Our vision is to deliver a singular platform for the management, analysis and exchange of enterprise information. We call it Enterprise Information Management or EIM for short. One platform to manage all information, one platform for predictive information analysis, one platform to exchange information with business networks, business-to-business, cloud-to-cloud and now machine-to-machine. For enterprises, ERP was the most important system over the last 20 years as it automated structure transaction – add an employee, pay this invoice, schedule this job – and with a single source of truth for a transaction. Very important, it remains very important today. That served large business as well, they reduced G&A expenses, closed the books, paid employees, et cetera.

In our view, EIM is the most important enterprise system for the next 20 years. Why? The value is in the information, not the transaction, and we believe that all enterprises are ultimately information companies whether you be in financial services, insurance, agriculture. Pick your industry, ultimately, all enterprises are ultimately information companies. If they are not, they'll face the dilemma of digital or die. EIM automates information, global loan processing, food, health and safety, trillions in digital commerce. We have been building and buying the components of EIM and will continue to do so. It took ERP 30 years to mature into three meaningful companies – SAP, Oracle, Salesforce. EIM is still in the early stages, currently fragmented across a couple thousand companies. We are leading in shaping the market and there remain significant white spaces, verticals, geographic, size considerations and consolidation opportunities in front of us for our M&A strategies.

Over the last two years as an example, we've added business networks and analytics to the definition of EIM. Release 16 is rich in functionality, wider in scope, more deeply integrated and includes business networks and analytics. It runs both on-premise and in the Open Text cloud and as a reminder, we own our own cloud and we operate our own cloud. This is very, very important. It's offered as a managed service and includes new vertical capabilities in healthcare, public sector, retail, consumer packaged goods, media and entertainment, financial services, and our new transportation and logistics modules to just name a few. We will see, we expect to see, key customer buying considerations aligning with Release 16, digital top of the list. Information, security and governance, analytics, managed services or do-it-for-me – self-service is no longer good enough – the Internet-of-Things. And another key buying consideration is the rapid and lightweight application building and deployment for applications that are both information and process oriented like loan processing, case management, contract management to name a few. With Release 16, we believe all existing customers will find strong benefit by upgrading. There will be a set of competitors when stacked up against Release 16, will simply look more like a feature, not a company.

We are also building a culture of sustained innovation from Release 9 to Release 10, aka Red Oxygen, to Release 16 now, Blue Carbon, and of course, our next project BAM. Release after release our products get stronger and stronger, more functionally rich and more deeply integrated. We're excited about our new and differentiated Open Text Release 16 product cycle that approaches us in the coming quarters. We see Release 16 as the world's first digital platform. And as I said earlier at the end of the day, enterprises are ultimately information companies and Open Text can help customers achieve digital excellence.

Let me wrap up my comments. I'm pleased with the company progress and our financial results in Q2. We remain on target for our internal fiscal 2016 operating plan and our external target model.

We're not updating our external target model today, and as John stated, we expect it to be at the high end of our adjusted operating margin target range for fiscal 2016. There is economic uncertainty which ultimately is an opportunity for Open Text. Companies tend to behave in one of three ways in these uncertain markets – they freeze, they retreat, they invest. We're investing in the success of Release 16. We are making key – and part of – some of those key investments, which we're going to make immediately and over the coming quarters are centered on customers to help capture that opportunity.

We strengthened our leadership team with recent promotions and the appointment of Steve Murphy. The alignment laser focuses me on strategy, M&A, products, competitive differentiation, customers, stakeholders and the strategic ops of the business. We expect additional Q3 seasonality. Our business model, the OpenText Intelligent Growth System, as our guide and M&A will continue to drive the majority of our revenue growth and net income and cash flow expansion in the coming years, coupled with relentless focus on organic growth. We have an important second half in front of us starting with the kickoff of our Global 2016 Information Tour in two weeks. We have the opportunity to continue that digital transformation, and Release 16 conversation with thousands of customers, partners and employees. And I'm personally looking forward to giving the keynotes in Tokyo, Sydney, Paris, Munich and London over the next 30 days.

John will be meeting with investors in Toronto later this week, I'll be presenting at the Morgan Stanley Tech Conference in San Francisco on March 2. And please save the date for annual Investor Day in New York City on May 12 where myself and members of the executive leadership team will present our outlook on the strategy for the business.

Before I open the call to questions, let me introduce Steve Murphy and hand the call over to Steve. Steve?

Stephen Murphy - President

Thank you for the warm welcome, Mark. I'm extremely excited to have joined Open Text. It's been just over 30 days and I'm really impressed with the quality of the team. We have a world-class organization with the best EIM suite of products in the marketplace.

Let me give you my first impression of the company. First, something that's very important to me is that the culture of the company is one of customer first, whatever it takes to help the customer whether that's during an escalation or during an upgrade or during a transition. Second, my philosophy is that customers don't buy from companies, but rather they buy from people. I have observed first hand that all around the world customers like us and trust us. This is a huge competitive advantage. Third, as an organization we are margin focused and this is a good fit for me. I am operations oriented and I see lots of opportunity to balance cost discipline with real growth initiatives.

And then fourth, we're big enough to leverage our scale, but small enough to be agile which gives us a major advantage over some of our larger more cumbersome competitors. Customer is my number priority and I'd love to be out in front in them getting to know them. Over the next 60 days or so I plan to get face-to-face with as many customers as possible and will be traveling all over North America, Asia, Europe, UK and Australia to do so. When I'm back home, I'll be working out of our U.S. headquarters in San Mateo, California.

I'd also like to describe the breadth of the role of President which I have assumed. I have functional responsibility across the entire spectrum of customer facing operations for Open Text including marketing, professional services, pre-sales consulting, license sales, cloud sales and technical services. The holistic nature of the role allows me to have laser focus on healthy and sustained organic growth for Open Text.

Before I pass it back to Mark, I want to say again just how enthusiastic I am about the opportunities at Open Text. The executive team is a great group of individuals with a get things done mentality. They don't let egos get in the way. We're in a unique position to help customer realize concrete return on investment with digitalization. And I look forward to being a major part of this. I hope to meet many of you who are on the call at our New York Investor Day at May.

Back to you Mark.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Thanks, Steve, I really appreciate it. I would like to now turn the call over to the operator for your questions.

Question-and-Answer Session

Operator

Thank you. The first question is from Phillip Huang of Barclays. Please go ahead.

Phillip Huang - Barclays Capital Canada, Inc.

Hi, thanks, good afternoon. Congrats on a solid set of results. It should certainly help to address any sort of lingering concerns on a cloud transition strategy. But I was wondering if you could give us some additional color or perhaps an update on how much of the revenue growth on the cloud side is now coming from what you would consider as new revenue sources rather than existing customers switching from older platforms?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Phil, thanks for the question. Yeah I mean on cloud specifically on constant currency we were up 1% year-over-year. We brought on board I think 24 to 25 new customers in the quarter, over 900 managed service customers now, and there are variety of growth opportunities for us in the cloud. I think we have a geographic opportunity in EMEA for both our value-added network, our on-demand messaging, and managed services. I also think we have more vertical opportunity in the cloud. Our transportation and logistics module coming out, some of our new healthcare capabilities for on-demand messaging.

So a majority of our revenues are from existing customers. We've added new customers in the quarter and we do have a handful of meaningful growth factors for us out there as well, geographic, vertical and functional. I also want to note that our cloud strategy is one of not substitution, right. We've been very focused on driving for new spend in new revenues. Whether that be taking a license and hosting it, taking a license and providing managed services. So to that end being able to provide managed services back to our traditional ECM and BPM customers is also a growth factor for us. So look and – within the quarter we had a good license quarter as well. So the revenue can move between the lines. So the opportunity is strategic. The transformation is very successful and I think we've got some very well defined growth factors to go after.

Phillip Huang - Barclays Capital Canada, Inc.

Right, that's very helpful. Just along the same line given what's happening at some of your competitors, you know Dell, HP, can you give us an update on any changes observed, perhaps by your sales team. Have you done any analysis perhaps on potential benefits as a result of disruptions at some of your competitors? Thanks.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Yeah. You mentioned, thanks, Phillip. I put the competitive landscape into probably three buckets. And with kind of market conditions – as like to say between – well let's just call it market conditions and Release 16. I'd kind of look at the competitive landscape in kind of three categories. I think we're going to have some very established incumbents such as IBM and Adobe that will be our main competitors, if you will. By pillar, we'll have a competitor may be Pega in BPM and Release 16 is going to be that much differentiated. I think you have a handful of competitors as well from properties like ReadSoft, Kofax, Documentum, Interwoven that have not invested in EIM, have not invested in digitalization that we're going to look at for competitive replacement programs.

Then you probably have a third category of those companies that are going to look a lot more like a feature with Release 2016 such as the jives and the boxes of the world. So with Release 16, our competitive differentiation is going to get that much stronger. Our analysis shows sort of three big buckets of the IBM and the Adobe's of the world and has a secular competitor. Secondly those who have not invested in EIM, digital which we're going to look at for competitive replacement programs and then a handful of others that are going to look a bit more like a feature versus the company when Release 16 comes to market.

Phillip Huang - Barclays Capital Canada, Inc.

Thanks very much.

Operator

The next question comes from Richard Tse of Cormark Securities. Please go ahead.

Richard Tse - Cormark Securities, Inc.

Yes, thanks. Mark can you talk about the go-to-market strategy for Release 16 when it comes to existing and new customers or any sort of major programs that you're planning here, and maybe give us a bit of color on that?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Sure, thanks, Richard thanks for the question. We weren't planning to go into detail today. I'll touch on a couple of things. We're – in the beginning of Q4, we'll do our launch event and we'll talk about those specific programs. Certainly, there are things we can help existing customers with and that is an upgrade. We spent a fair amount of time learning from Red Oxygen of how to be able to provide upgrade capabilities. We have potentials of upgrading customers into our cloud as part of an installed base program. So kind of bucket number one investments. Bucket number one will be going into the installed base and looking at every opportunity and we think there is an opportunity to every customer to upgrade, making it easier, faster, and less – and potentially in our cloud.

For new customers, it will be centered around competitive replacement programs and probably industries, a handset of verticals, but more detail to come. We'll talk about the specific programs when we do our actual launch in beginning of Q4.

Richard Tse - Cormark Securities, Inc.

Okay. And then as far as the M&A environment goes, I was wondering if you can maybe talk to the opportunities today, the pipeline, how robust it would be and perhaps a little bit of color on valuation of the market?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Sure, thanks. Well look we've talked over the last couple of calls that here in fiscal 2016 we expect to do multiple and meaningful transactions in the year and nothing has changed our view on that and without getting into vertical, geographies, pillars and that sort of thing. Our pipeline is rich, and in volatile markets assets theoretically become more actionable on valuation. Our methodology hasn't changed, our sense of valuation hasn't changed and nothing has changed my view that we can't execute two multiple and meaningful transactions on the year. And as market become more volatile, it's an opportunity for Open Text.

Richard Tse - Cormark Securities, Inc.

Okay, and then the last one from me. I was just wondering if you can maybe comment on your progress in regards to cross-selling products among your base. You've obviously expanded through acquisitions both through products and your customer list. Is that something that you're focused on now and perhaps give us color on that progress? Are you really waiting for Release 16 to do that? That's it. Thanks.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Yes, fair enough, thanks Richard. My best way to describe this is show me one buyer and I'll show you one sales force right. And we intentionally designed the field coming into 2016 to be focused – really kind of three sales forces if you will or go into three buyers, so that means we'll call it three buyers. One is the information platform, the other is analytics and the other is the business network. And they have their quotas and they have their goals and they got lots of opportunity to go hunting. I think one of the things that Steve and I are working on and designing is as we get into 2017 is more cross-sell opportunity, but the key word here is probably going to be verticals, right, verticals.

So right now, we're targeting kind of three buying centers, the business networks helps the business network analytics, sales analytics and the information platform sells the information platform. Analytics is an opportunity everywhere for us and that's pretty clear. But those are our mandates coming into 2016 as well look into fiscal 2017 and Murphy studies the organization and we think account segmentation, we'll think more of cross-selling. I know analytics is top of the list and probably more of a vertical focus as well.

Richard Tse - Cormark Securities, Inc.

Great. Thanks guys.

Operator

The next question comes from Kris Thompson of National Bank. Please go ahead.

Kris Thompson - National Bank Financial, Inc. (Broker)

Great. Thanks and this question is for Steve. Welcome first of all. I think it's probably fair to say that Open Text has had fits and starts with the formal Oracle partnership over a number of years. Is there now renewed hope for a formal agreement similar to the one with SAP now that you're now on board at Open Text?

Stephen Murphy - President

Hey, thanks for the question. What I can say is that we've had great success with SAP and it's certainly reasonable to think that that success could be modeled elsewhere. There are some strengths I bring as far as relationships with folks at Oracle right now, but Oracle has also got a way that they go to market that has a different view of third-party products and how they are willing to sell those.

So it's something that we'll take a look at, but I'm certainly not willing at this early stage to make any commitments around – certainly in the next six to 18 months – how much progress we can make there. But it's something worthy of taking a look at for sure.

Kris Thompson - National Bank Financial, Inc. (Broker)

Okay. So it's fair to say it's not a priority for you then in the near term?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Thanks for your question, Kris.

Kris Thompson - National Bank Financial, Inc. (Broker)

Mark, one for you then. In your opening commentary you talked about customer setting their budgets in this March quarter. Are you seeing any spending caution so far when you're talking to your customers looking into this quarter?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Yeah. Kris, I haven't seen in the pipeline at this point budgets being deferred or budgets shrinking. I haven't seen that behavior yet. It feels like typical Q3 seasonality but they're not going to shrinking budgets, disappearing projects, we haven't seen that yet. We're only one-third of the quarter as well, but it feels more like typical Q3 seasonality.

Kris Thompson - National Bank Financial, Inc. (Broker)

Okay, good stuff. I'll hop back in the queue. Thanks a lot, guys.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

All right. Thanks, Kris.

Operator

The next question comes from Paul Treiber of RBC Capital Markets. Please go ahead.

Paul Treiber - RBC Capital Markets

Thanks very much. I just wanted to touch on cloud revenue. It's been flattish for the last number of quarters despite the strong cloud and MCV year bookings. Could you speak to some of the moving parts in cloud revenue? And then when should we think about cloud bookings translating into stronger headline cloud revenue on a constant currency basis?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Paul, thanks for the question. Maybe we'll just talk about the parts a little bit, right? I just like to just remind us that the asset classes for us in the cloud are more like GDP growth, right? So EasyLink as an on-demand messaging platform, GXS as a B2B VAN as well. These are not 20%, 40% growers, right? We intentionally went for kind of the infrastructure, the value, being able to optimize to income. So I just wanted – just remember that we've on-boarded lower growth assets. We see potential to grow them.

Second is, this is really in three layers. We have our value added network; we have our on-demand messaging; and we have managed services. And we have opportunity in EMEA for ODM and VAN. We have opportunity in the enterprise for managed services. A couple of other data points – we run in the mid 90%s, John, on renewal rates in the cloud, right? So on the on-prem license side, we're in the low 90%s, and in the cloud, we're in the mid 90%s. So we have to make up for that, right, to be able to grow.

Managed services, we're experiencing, I'd say, two to three quarters, two to four quarters from a booking to full revenue if you will. So it takes a while, right, to able to on-board – to bring the infrastructure in, on-board a customer, to be able to get all the transactions flowing over the network, and sort of from time from booking to revenue is multi-quarter. Obviously, you want to work on that and be able to bring that in as well, so Paul that's another variable in the equation as well.

And on the MCV number, that will translate to revenues in the coming quarters.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

Yes.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

With that said, in any given quarter revenue can move between lines in our hybrid strategy. And in Q2, we had a strong license quarter, right? It doesn't change our view of recurring revenues, our managed services, but it can move between lines.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

The other variable I was going to point out, maybe you did already Mark, but just a duration of these contracts.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Sure.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

We're talking on average three-year contract, Paul, so you've got to factor that in as a variable as well.

Paul Treiber - RBC Capital Markets

Okay, thanks. I just wanted to ask one more question to Steve, just could you elaborate on what you feel personally is the opportunity that you see for Open Text in EIM over the next several years? And just in regards to your own goals and priorities at Open Text, in what ways do you feel that you can improve Open Text's performance going forward?

Stephen Murphy - President

Hey, let me give you a few things to think about, but I'm not sure I can do complete justice to the question. I do think that having been on the job for a month, a couple of things I'm just ecstatic about. One is, this is a healthy, stable company that has done a great job of focusing on margin, right, so you see that in the numbers. When I think about some of the acquisitions we've made and the assets we have, embedded analytics for instance, there are a lot of places where that – someone had asked it earlier about up-selling and cross-selling. There certainly is a lot of potential to take our global scale across the thousands of people we have that face the market and sell embedded analytics into the customers we already do business with.

With Release 16, I'm not going to go into detail on some of the features or functions around things like entity modeling, but there are some really fantastic pieces of technology in there, I expect us to do the same with that. So those are couple of places where I can already see. We've got a differentiated technology that no one else has, we've got a sales force that's very capable and we'll take those pieces of technology and weave them into the solution we sell.

Paul Treiber - RBC Capital Markets

Thank you, I'll pass the line.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

And Paul, I'll just emphasize one thing. As we continue this conversation, right, on cloud in the quarters to come, the organization is very focused on managed services, and both in the enterprise, analytics and business network. We think ultimately that is one of our great opportunities. We sort of nicknamed the 3M strategy of maintenance, margin, and managed services. And for managed services, the more customers we can bring into our infrastructure the stronger our cloud becomes. So you'll hear me continue emphasize managed services and the one metric that we're publishing behind it which is new MCV, but ultimately we'll turn to revenue over a series of course.

Operator

The next question comes from Paul Steep of Scotia Capital. Please go ahead.

Paul Steep - Scotia Capital, Inc. (Broker)

Great, thanks. I guess the first one is a clarification. Mark, you've talked a bunch of times in the calls, as has John, about strategic investments for the back half of the year. Maybe you could talk about the significant, or the size of these investments, you've highlighted to customers. Is this a ramp in additional head count or is this more related to R&D and marketing spend, marketing spend around the tour and then I have a quick follow-up?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

It's a combination of all of those things Paul. So as we look at Release 16, its sales folks, its sale support staff, its engineering folks, its marketing. So we need to invest across the board in order to launch this release, so it's not one item and I'm not going to get into the specifics of how many here, how many there, but we kind of baked it into the analysis that we've given you in terms of the operating model for the back end of the year.

Paul Steep - Scotia Capital, Inc. (Broker)

Okay, that's clear. Mark I guess we're just slightly over one year anniversary in Actuate, so happy anniversary. Can you reflect a little bit on the performance-to-date? It was a company with great assets and maybe some executional challenges on a prior strategy. What's your take at year end? And we've talked about some of the opportunity but maybe where are we standing here today on February 09, 2016?

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Paul, a great question. I'll just start with what a gem. So we are just delighted to have Actuate as part of the Open Text family. And one year end, we're right on our internal plan. And the opportunity, there is a standalone opportunity and then there is an integrated opportunity. The standalone opportunity is embedded analytics. Actuate is just the best asset, the best analytic platform out there for embedded analytics. We provide the daily reporting for Bank of America branch management. We do the daily reporting for Deutsche Bank's mortgage business. We recently won the next-generation embedded analytics platform at NetApp. And this is just an incredible opportunity having Actuate as part of Open Text.

The next horizon is to bring Release 16 to market where analytics is embedded everywhere and that's going to be exciting to watch. It's part of the content suite, process suite, experience suite, it's just now on top of the business network as part of Cloud 16, the business activity index. We're on target for that in our April release that we showed at Enterprise World. So that's the next big opportunity is to bring Suite 16 and Cloud 16 to market. So just a gem of our product that people are delight, we're on our financial plan, the standalone opportunity in embedded gets more credibility with Open Text. And then with Cloud 16 and Suite 16, we're going to just see it integrated everywhere as the next step.

Paul Steep - Scotia Capital, Inc. (Broker)

You know what you made me think one last one then I'll slide in. You've talked a bunch of this call more than any time in the past I can recall but M-to-M and IoT as an opportunity area. What have customers been brining that up to you or is that a vector that you're identifying as an area of growth? Thanks very much.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Yeah, you bet. It's actually I think the first time I'm bringing it up. We won two platforms last quarter that are actually machine-to-machine transaction generators, if you will and all the information is being stored in our EIM platform. And so it's got to become a stronger focus for us with Release 16 that it's not just humans, right, putting in the unstructured data, it's going to be machines putting in unstructured data. So I think we've begun to figure it out a little better. We've had a few customer wins and we got some more product obviously, go build and deliver. But it's we're highlighting as a growth factor.

Paul Steep - Scotia Capital, Inc. (Broker)

Thank you.

Operator

The next question comes from Steven Li of Raymond James. Please go ahead.

Steven Li - Raymond James Ltd. (Broker)

Hey, guys. Just a quick one from me. Your DSOs very strong in Q1, but in Q2 at 54 days, probably the worst it's been in a couple of years. Anything going on there, John? And would you expect that to revert as soon as Q3? Thank you.

John Marshall Doolittle - Executive Vice President and Chief Financial Officer

Yeah. I wouldn't call it a trend Steven. I'm focused on DSO. I've talked to my new partner Steve about that as well. Our DSOs within the kind of call it all the Open Text are very good. We have some opportunity to reduce DSOs within GXS and we're really focused on that and so that's going to be, that's on the top of my list of things to look at and as well we're focused on our days payable. And the easiest way to drive cash or raise cash is to drive it from your balance sheet and we're going to do that, so look for improvements.

Operator

This concludes time allocated for questions on today's call. I will now hand the call over back to Mr. Barrenechea, for closing remarks.

Mark J. Barrenechea - Chief Executive Officer and Chief Technology Officer

Thanks, Brandon, I appreciate it. And thanks, everyone, for joining us today. We have an important second half coming up in front of us and it's about our execution. I'm looking forward to being on the road with the team for information tours and personally giving with the team big keynotes and connecting with a lot of customers in the coming weeks. Hope you better join us at the Morgan Stanley Tech Conference, to join John later in this week in Toronto and please save the date for Annual Investor Day in New York City on May 12. There will be an important update as the executive team presents the strategy on the business. Thanks for your time today and I look forward to speaking and seeing many of you soon. That concludes today's call.

Operator

This concludes today's conference call. You may now disconnect your lines. Thanks for participating and have a pleasant day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!