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Executives

Jack Noonan – President, ChiefExecutive Officer

Raymond Panza – ChiefFinancial Officer, Executive VicePresident

Douglas Dow – Senior VicePresident, Corporate Development

Analysts

Nathan Schneiderman -Roth Capital Partners

Steve Ashley - Robert W.Baird

Daniel Cummins - Banc of America Securities

Robert Schwartz -Jefferies

Sean Jackson - AvondalePartners

Peter Goldmacher - Cowenand Company

John Maietta - Needham & Co.

Frank Sparacino - FirstAnalysis Corp.

Nabil Elsheshai - PacificCrest Securities

SPSS, Inc. (SPSS) Q3 2007 Earnings Call October 30, 2007 6:00 PM ET

Operator

Good day everyone, andwelcome to the SPSS 2007 third quarter conference call. With the exception ofhistorical information, the matters discussed on this conference call includeforward-looking statements that involve risks and uncertainties including butnot limited to market conditions, competition, and other risks indicated in thecompany's filing with the Securities and Exchange Commission. A full Safe Harbor statement is available in the SPSS 2007 third quarter press releaseposted at www.spss.com.

At this time, I would liketo introduce Mr. Jack Noonan, President and Chief Executive Officer; Mr.Raymond Panza, Executive Vice President and Chief Financial Officer; and Mr.Douglas Dow, Senior Vice President of Corporate Development.

Jack Noonan

Good evening and thankyou for joining us to discuss our 2007 third quarter operating performance.I'll give some opening remarks and then Ray Panza, our CFO, will comment on ourfinancial results and provide guidance for the fourth quarter of 2007. We willend with a Q&A session.

As announced earliertoday in our press release, we again met our revenue goals and exceeded ourearnings expectations. New license revenue for the quarter was up 15% from the2006 third quarter and up 14% for the nine-month period compared to last year.

We have strong sales ofour statistics and data mining product line, as well as success in closingseveral predictive analytic solutions transactions, including predictive claimsto Infinity, Property, and Casualty Corporation and Royal and Sun Alliance.

As many of you know, weare talking to you today from our Annual Users’ Conference in Orlando, Florida, where one of our guest speakers is TomDavenport, author of Competing on Analytics. He is also a foundingpartner of Waterstone Analytics, an executive level consulting firm with whichwe just announced a key strategic partnership.

Waterstone joins thegrowing number of management consultants, business leaders, and industry expertsrecognizing that decisions are now being made based on analytics over intuitionand guesswork. In fact, Ian Ayres, author of the new book Super Cruncherswrites, "We are in a historic moment of horse versus locomotivecompetition where intuition and experiential expertise is losing out time andtime again to number crunching. Business and government professionals arerelying more and more on databases to guide their decisions."

We know that SPSS ishelping drive that train with a widespread adoption of predictive analytics asa core competitive advantage. With that, I'll now turn the call over to RayPanza for his comments on our third quarter financial results, as well as ouroutlook for the fourth quarter of 2007.

Raymond Panza

Earlier today, we issuedthe 2007 third quarter earnings press release, including un-audited financialstatements for the quarter and nine month period ended September 30, 2007. It is to thosefinancial statements that I'll direct my comments.

As Jack stated, SPSS hasagain delivered a quarter of record earnings, exceeding expectations andrealized record revenue within our previously stated expectations. Dilutedearnings per share for the quarter was $0.41. These earnings include a chargeof $1.2 million, or the equivalent of $0.03 per share, related to thepreviously announced planned closing and consolidation of certain R&Dfacilities.

This earnings growth wasdriven by a 29% increase in operating income, primarily resulting from revenuegrowth, wherefore the 2007 third quarter, SPSS reported record total revenue of$72.3 million, for a 12% increase over the same prior year quarter revenue of $64.7million.

Furthermore, the 2007third quarter revenue represents the 16th consecutivequarter-over-quarter prior year quarter comparison increase. This revenueimprovement includes higher total revenue in all major geographies: the Americas, Europe, and the Pacific Rim, and is driven by new license revenue of $34.5million, representing a 15% increase over new license revenue of $30 million inthe 2006 third quarter.

In line withexpectations, third quarter total revenues benefited from currency exchangerates by approximately $2.4 million, an impact less than the FX impact in thestrong first quarter of this year.

For the quarter, totalrevenues, excluding the effects of currency exchange, were up 8% for thenine-month period, while total revenues, excluding currency exchange, were up7% during that nine month period, thereby showing the decrease in the impact ofcurrency. Excluding the effects of currency exchange, new license revenue wouldhave increased 12% versus the 15% mentioned earlier.

For the 2007 quarter, newlicense revenue per staff tools and data mining tools were up over the sameprior year period by 22% and 43% respectively. Maintenance revenue for thequarter was up 2%. While this increase was minimized due to asset mix, timing,and contractual changes, as will be discussed in more detail later, maintenancerevenue for the nine months continues to be up strongly year-over-year at 8%.

Service revenue, whichincludes higher royalties from channel partners, was up $2.6 million or 39%.Total operating expenses for the 2007 third quarter were $59.8 million, up $4.8million or 9% compared to the third quarter in 2006. As discussed earlier, the2007 third quarter expenses include a charge of $1.2 million related to thepreviously announced planned closures and consolidation of certain R&Dfacilities. Also compared to the prior year, the third quarter 2007 charge forshare-based compensation was approximately $900 thousand lower.

While the higher 2007expenses are largely driven as a cost associated with the higher revenue, wecontinue to realize the benefits of past cost management initiatives, resultingin operational efficiencies and improved productivities. It is of note, thattotal operating expenses as a percent of revenue were 83% or lower than the 85%of revenues for the prior year third quarter period.

For the 2007 thirdquarter, operating income was $12.5 million, a 29% increase over the 2006 thirdquarter's $9.6 million. Operating income as a percent of revenue was 17% in the2007 quarter compared to 15% in the 2006 third quarter. At $12.5 million and17%, this represents a record quarter for operating income and operatingmargin.

In the 2007 thirdquarter, SPSS realized net other income of $2.1 million compared to net otherexpense of $0.7 million for the 2006 quarter. This turnaround includes $1.4million of higher interest income reflecting the benefits of a higher cashbalance and the ability to leverage the increasing financial strength of thecompany, and $2.4 million lower unrealized losses from balance sheet currencytranslation charges as we proactively were able to manage the negative currencytranslation risks.

Overall, the improvementin the other income expense line is all the more significant considering that2007 excludes a $1 million gain recognized into 2006 third quarter, associatedwith the prior year divestiture of the Sigma-series product line.

For the 2007 thirdquarter, income before income taxes was $14.6 million, or 63% higher than the $8.9million for the 2006 third quarter. As required by GAAP, the companycontinuously evaluates expected full-year effective income tax rate. During the2007 third quarter, the company filed its 2006 U.S. federal income tax return as well as timelycompleting certain other income tax filings. For the full year and after givingconsideration for various non-cash adjustments related to prior year income taxattributes, it is estimated that the 2007 full-year effective income tax ratewill be 39%.

As a result of therequired year-to-date true-up of the effective income tax rate, the effectiveincome tax rate for the 2007 third quarter was 42.5% compared with 35.7% forthe 2006 period. Income tax expense reported for the 2007 third quarter wasapproximately $1 million. This is equivalent to $0.05 per share higher than theprior year due to the year-over-year increase in the effective tax rate for thequarter.

Diluted earnings pershare for the 2007 quarter ended September 30 were $0.41, up 46% or $0.13 fromthe $0.28 reported in the same 2006 quarter. The number of diluted shares usedin the 2007 quarter's EPS calculation was down slightly, less than 2% comparedto the prior year. The slightly lower share count had no impact on the dilutedEPS calculation.

Turning to the ninemonths ended September 30, 2007, total revenues were $211.4 million, for an 11%increase over the $190.4 million in the same 2006 period. New license revenuefor the nine months was up 14% in 2007 over 2006, led by a 14% increase in the U.S., a 20% increase in Europe, and a 37% increase in Australia. As discussed last quarter, Japan continues to under-perform and management actionshave been taken to correct that situation.

For the first nine monthsof 2007, maintenance revenue was $87.9 million for an 8% increase over the sameprior year period. As discussed in recent quarters, we believe that this rateof increase is above the norm and that maintenance revenue growth will continueto decline as it has in the current quarter, resulting in new license revenuegrowth to grow as a percentage of total revenue, and maintenance revenuedecline as a percentage of total revenue.

For the 2007 nine-monthperiod, approximately 57% of the reported total revenue was generated fromoutside the Americas. This amount is somewhat down from the previouslyreported six-month period. Total operating expenses for the 2007 nine-monthperiod were up $8.8 million or approximately 5% over the 2006 nine-monthperiod.

These higher expensesinclude $4.6 million related to the impact of currency exchange rates. 2007 expensesalso include $1.9 million related to the previously discussed restructuringcharge for R&D facilities consolidation; also include higher royalties andother expenses driven by the higher revenue. These higher expenses are somewhatoffset by the benefits of improved productivities and operating efficienciesresulting from previous cost management initiatives.

For the nine months endedSeptember 30, 2007, total operatingexpenses were 84% of net revenues, a decrease from the 88% of net revenues in thefirst nine months of 2006, and 87% for the full year 2006.

Operating income for the2007 nine-month period was $34.8 million, a 54% increase from the $22.6 millionin the first nine months of 2006. The reported operating margin defined asoperating income as a percent of net revenues was 16% for the 2007 nine monthsended September 30, 2007,compared to a reported operating margin of 12% for the same 2006 period.

As set forth in the Reg. Gnon-GAAP reconciliation schedule, provided with the press release financialstatements, as a percentage of revenue operating income excluding the effect ofshare-based compensation would have been 19% for both the three and nine-monthperiod ended September 30, 2007.

Other income and expensefor the 2007 nine-month period was a net other income of $4 million, comparedwith a net other expense of $1.8 million for the same 2006 period. The 2007improvement is primarily due to favorable net financing costs; a $3.6 millionimprovement resulting from higher interest income; and $3.2 million lowercurrency translation expense. The improvement in other income expense line issomewhat offset by the 2007 absence of a $1 million gain recognized in 2006third quarter associated with the prior period divestiture.

The effective income taxrate for the first nine months of 2007 is 39%, up from 38% recognized from thefirst nine months of 2006. Net income for the first nine months of 2007 was $23.7million, for an 80% increase from the $13.1 million for the same 2006 period.

Reported diluted earningsper share for the nine months ended September 30, 2007, was $1.16 compared to $0.63 for the same period in2006, slightly more than a 84% increase. The regulatory process for theconsolidation of R&D facilities in Europe is proceeding and we remain on schedule for the closure andconsolidation of certain facilities prior to year-end.

Moving on to the balancesheet, at September 30, 2007, the cash balance was $297.1 million,representing an increase of $156.9 million from the December 31, 2006 balanceof $140.2 million. The increase in cash includes net proceeds of $95.7 millionresulting from $150 million convertible debt offering, less both the completed $50million share repurchase and approximately $4 million of issuance expenses. Theconvertible debt offering was completed in March of this year.

Net accounts receivableat September 30, 2007,were $47.8 million resulting in days outstanding, or DSO, of just under 61days. This is down from net receivables of $50 million and 65 days at June 30and down from the $53.8 million and DSO 70 days at December 31, 2006.

The balance sheet amountof capitalized software at September 30, 2007, was $34.5 million, an increase of $2.9 millionfrom the 2006 year-end balance of $31.6 million. The amount of softwarecapitalized through the first nine months of 2007 is $1.1 million higher thanthe first nine months of 2006. At the same time, software amortization was up $0.5million for the nine months, such that the difference between softwarecapitalization net of amortization continues to decline.

Software capitalizedduring the 2007 third quarter was only $2.7 million down from $5.4 millioncapitalized during the same 2006 third quarter, and as expected, was the lowestlevel of software capitalized during any quarter since the second quarter lastyear. As discussed on previous calls, the decline in software capitalizedduring the quarter was expected. The increase in software capitalized for thenine months was also expected, and is largely due to higher spending during thefirst six months of the current year and for a project began during the thirdquarter of the prior year.

As mentioned earlier, thecompany did complete $150 million convertible debt offering earlier this year.These funds have a five-year maturity and an annual coupon rate of 2.5%.

Turning to the statementof cash flow, net cash flow from operating activities was $51.5 million for thenine months ended September 30, 2007, for an increase of $25.6 million or nearlydouble the operating cash flow of $25.9 million for the first nine months of2006 - and in excess of the 2006 full-year operating cash flow. Net cash flowfrom operations for the 2007 third quarter was $16.9 million compared with $11.3million for the 2006 third quarter.

Looking ahead, for the2007 fourth quarter, we expect revenues to be between $74 million and $76million, with reported diluted earnings per share of between which $0.34 and$0.40. The 2007 fourth quarter EPS guidance includes an estimated $0.06 chargefor share-based compensation and an estimated $0.09 charge related to thepreviously announced closure and consolidation of selected R&D facilities.

Including the charges forthe fourth quarter, the total restructuring charges for the year are estimatedto be $5 million or $0.14 per share. As a result of these initiatives, it isexpected that the resulting savings to be realized in 2008 will more thanexceed the restructuring cost. Earnings guidance assumes an effective income taxrate of 39% for the 2007 fourth quarter and fiscal year.

For the fourth quarterand beyond, our focus remains on building increasing sales momentum, with anefficient cost structure based on improving productivity in every aspect of ourbusiness. We are committed toward building a solid foundation for sustainablegrowth, by delivering superior customer value and long-term shareholder returnson investment through disciplined financial and operational management.

Question-and-Answer Session

Operator

Your first question comesfrom Nathan Schneiderman - Roth Capital Partners.

NathanSchneiderman - Roth Capital Partners

I was hoping you couldstart us off talking about what exactly happened to maintenance revenue in thequarter? I don't recall seeing you take such a sequential decline before. Couldyou talk through that issue?

Raymond Panza

As you'll recall lastquarter, we said that 8-9-10% year-over-year growth on maintenance was nottypical, and that there are asset mix issues, currency issues, timing issues,and that we would expect that to get back more to normal, which would be in themid-single-digits and that that would regress. All that happened was, weregressed back down to more of a normal change on a year-over-year basis.Wasn't unexpected; a tad lower than maybe we overall expected, but a declinewas absolutely expected for the reasons I mentioned.

Nathan Schneiderman - Roth Capital Partners

To what extent did youhave catch-up maintenance payments last quarter that did not recur thisquarter?

Jack Noonan

There were not materialcatch-up payments in this period, and again I'd just point out, we looked atrevenue in total, license, maintenance and services; at the end of the day,we're a software company serving the customers with selling software, focusingon new license revenue, and what we focus on is the fact that we producedrecord revenue for the quarter. The maintenance is one aspect of that and itcontinues to represent 42% of the overall revenue of the company.

Nathan Schneiderman - Roth Capital Partners

Last quarter you gave2007 guidance of $285 to $295 million. If I've done the math right, you're nowat $285 to $287, so you've taken it to the very low-end. Can you talk throughthe dynamics that have led to the change in guidance to help us understandthat?

Jack Noonan

Sure I can. As you know,the economy itself has a number of uncertainties built into the fourth quarterjust given what's been happening in the financial markets and elsewhere. Thefact of the matter also is in the second quarter and third quarter we did comein slightly below the mid-point on our guidance but clearly within guidance,within what we expected, and so our current guidance is the visibility that wehave at this stage.

Nathan Schneiderman - Roth Capital Partners

And then final questionfor you, you had a surprising sequential growth in professional services. Canyou talk to that change? What drove that and, as I recall, you had intentionallytried to shift business towards partners going back a little more than a yearago. Are you changing your stance in that or is this a one-quarter anomaly?

Jack Noonan

Actually this is goodnews. We are focusing more on our channel partners and other sales channels/meansof distribution and the fact of the matter is we had some successes during theperiod; now royalties from those sales go into the line called “services.” Inthe past this has been relatively small and “services,” to be correct aboutthis, is really “services and others.” It includes publications, royalties; itincludes a lot of miscellaneous stuff as well as the services which dominateit.

This past quarter we did,in fact, have some successes in some of the channel partners, as I mentioned inmy comments, and that generated royalties that got included in that line item.So while services itself were up slightly and the additional royalties wereabout $800 thousand overall of the increase in the quarter, yes, we did have agood quarter in the services line.

Operator

Your next question comesfrom the line of Steve Ashley - Robert W. Baird.

Steve Ashley - Robert W. Baird

I'd actually just like tofollow-up on Nathan's question regarding the guidance. If you look at just thefourth quarter, kind of the mid-point of where revenue suggests 6%year-over-year growth, that's a little bit below where the trend line is. Youtalked about being a little more cautious on the economy. Have you seenanything tangible, with respect to behavior change in the market, with respectto either products or specific geographic markets?

Jack Noonan

Well we had a slowdown inJapan, which we've made some changes there already.There's a couple things going on though in the market: we have a calendar thatwe knew from the beginning of the year is very unique, with the New Year’sfalling on a Tuesday and Christmas before that, so when we look at it we've gotan exposure of selling days in our transaction or a short-cycle channel whichis our telesales.

Additionally, as I lookat the pipeline, the pipeline is the same kind of numbers that we have seen inprior quarters for our long-cycle selling, so we're sitting with the same kindof overage we would expect, but we've got a big swing in the forecasts. When you look at ‘this is my low end, this ismy target, and this is my high end,’ we've got a larger swing this quarter thanwe saw in prior quarters, and it's the uncertainty in the marketplace. So ourpipeline is as large as any other one as compared to our revenue but we've gota larger swing bottom to top.

Raymond Panza

And, Steve, at the end ofthe day we're still putting up record numbers, good growth rates, good productmix, so it's within what we expected.

Steve Ashley - Robert W. Baird

Am I hearing that theshort-cycle sales performance during the third quarter was pretty much as youhad expected?

Jack Noonan

It was as we hadexpected. In fact, if we look at the distribution over the year between fieldsales and inside sales, there's about a 1% swing from the beginning of the year,first quarter to this quarter, so they're in line with our expectations.

Steve Ashley - Robert W. Baird

Terrific. In terms of theprospects for additional restructuring charges in 2008, Ray, can you talk aboutthat, please?

Raymond Panza

I won't talk specificallyabout that, but as I've consistently said, what we're constantly focused on isimproving productivity and efficiencies. At the end of the day this is all arevenue story, driving the growth of revenue but doing it efficiently, costeffectively, and we will continue to look at each of our business processes. Wewill look at ways to improve services to our customers, improve our margins.

We're not looking to doanything draconian. We're not looking for anything as a short-term hit, but wewill continue to identify opportunities to operate more efficiently and I wouldhope that we would continue to find opportunities into 2008 and forever - thisis a never-ending process.

Steve Ashley - Robert W. Baird

And just lastly, in termsof a revenue breakdown, can you give us the percentage total of tools versusdeployment solutions and how that growth might have been in those businessesyear-over-year?

Douglas Dow

The tools business forthe third quarter year-on-year comparison was up 23%, and the solutionsbusiness for the third quarter again year-on-year comparison was down about26%, and then if we look at how that splits out, 90% of the new license revenuewas generated out of the tools business in the third quarter, whereas 10% cameout of the solutions business. I think that the one comment we should add iswhat we saw are strong solution sales around our predictive price services andpredictive claims offerings and they were offset by a decline in the dimensionsrevenue for the quarter year-on-year.

Operator

Your next question comesfrom the line of Daniel Cummins - Banc of America.

Daniel Cummins - Banc of AmericaSecurities

If your partner channelcontinues to perform well, or along the trend line, would you expect to seemore royalty revenue along the lines of what you saw this quarter in the fourthquarter, and then I just had a quick follow-up.

Raymond Panza

The answer is yes. Idon't know that it will be at the magnitude we saw in the third quarter. We'reexpecting it though for the year to be up year-over-year and also thepartner-assisted revenue is at 13% this quarter, which is a record for us.

Daniel Cummins - Banc of AmericaSecurities

Terrific, and withrespect to the uncertainties that you saw or the unexpected results you saw onmaintenance, could you just scope that a little bit for us in terms ofvertical? Was there anything perhaps either in government, financial, orhospitality?

Raymond Panza

Again, it's not any oneparticular vertical. It really had to do with what we said last quarter. Theprior numbers were high. The current numbers aren't necessarily low, and so itwas going to regress more to the mid-single-digits and if you go back the lastcouple years what we've consistently said is that's more the norm for us. It'sdifficult to move that number.

Jack Noonan

As Doug has stated onprior calls, that we have a number of transactions now. We're trackingtransactions over a period of time with individual customers, as they doadditional transactions, we align maintenance months when we do these types oftransactions and this moves the booking of the maintenance from variousquarters and you've got to look at the maintenance on an annual basis not onjust a given quarter because it does move around.

Raymond Panza

Which is year-to-date; we're still at 8%.

Daniel Cummins - Banc of AmericaSecurities

Would you characterizethe delta between the results and let's say towards the high end of theguidance more on the license line or on the services line this quarter?

Raymond Panza

On the license line.

Jack Noonan

For the fourth quarter?

Daniel Cummins - Banc of AmericaSecurities

For the third quarter.

Raymond Panza

Oh. Okay, I'm not sure Iunderstand. Ask again, please, Dan?

Daniel Cummins - Banc of AmericaSecurities

Well, we could ask it forthe entire second-half. We seem to be coming in a little bit below expectationsfor the second-half here, with respect to the third quarter below mid-point,and taking down the fourth quarter guidance, so I guess I'm just asking, isthis more a depiction of what's happening on your services line or on yourlicense line?

Raymond Panza

It is a little bit on themaintenance. I would not have expected 2%. I absolutely expected it to belower. It came in a tad lower from where we were projecting. The other issue,though, is we did expect a little more from the license side of the businessand there were certain deals that you expect to come in that sometimes don'tclose for various reasons, so it's a little bit of both. I would have expectedboth license and maintenance to be up a little more than what they are.

Jack Noonan

We were also within therange and you put the range together and you say that this is going to be yourswing and optimum as you come in at the mid-point and we were just a little bitoff.

Raymond Panza

And that's the point: it'sa little bit; there’s nothing dramatic.

Operator

Your next question comesfrom Robert Schwartz - Jefferies.

Robert Schwartz - Jefferies

I'm going to go back tomaintenance like a junkyard dog on a pork chop. A swing from 11% to 2% isprobably more than I would have taken from your language last quarter. Is thereany other explanation for the decline other than the fact that some people justdidn't renew their maintenance contracts, or is there something else flowing inthere that I need to understand?

Jack Noonan

This is literally mix.You've got to look at it annualized and we'll walk it the end of the yearsomewhere in the 4% to 5% for the year and that's what our expectation was andit's moved around. We were exceedingly high early and we're going to come in alittle bit lower the second-half but you'll see our maintenance exactly whatyou saw it in the prior year, somewhere around 4% or 5%.

Robert Schwartz - Jefferies

But for it to declinesequentially, wouldn't that mean that some people came off contract?

Raymond Panza

No, not necessarily.Again, it gets back to mix; it gets back to currency. Mix both in product, mixin geography, mix in types of contracts and, remember, every time I saw alicense I take a certain portion of it, 17% to 20%, it's amortized over thesubsequent 12 months and over time, just how that overlaps has an impact onwhen that revenue gets recognized, and so we predicted it was coming down. Weknew, and we said so.

Robert Schwartz - Jefferies

You're taking some prettystrong steps to control your R&D expenses. How should we think about runrate R&D expense going forward after you're done with all of this?

Raymond Panza

Let me push back just alittle bit, Rob. Now, we're not taking steps to push down R&D. What we'retrying to do though is get certainly more efficient in R&D.

Robert Schwartz - Jefferies

Fair enough.

Raymond Panza

Yes there is arationalization of resources. But what has been happening here iscapitalization was up previously because, and some spending was up previouslybecause of the new front-end on the flagship product and some other specialprojects we were spending on. We said a year ago that those projects will bedone at the end of June. Those projects were done on time and so now thespending has dropped off, and the capitalization dropped dramatically, so thatshouldn't be read as pulling back on R&D spending.

Robert Schwartz - Jefferies

What I meant to say wasthat you're taking steps to consolidate, I understand that but my questionreally is, how should we think about run rate R&D going forward once theconsolidation is done? As a percent of revenue or some other way to think aboutit?

Jack Noonan

We're all going throughthe budgeting thing for next year. You should look at our percentage of expenseand we'll talk in the first quarter about what's going to happen next year, butwe're aligning in a similar kind of percentage as we were this year. Thecapitalized software walks into the R&D side, but it's the amortization ofthat over time, so you're going to look at next year in a similar kind ofpercentage that you see this year. It won't move up as a percentage; if itmoves down, it will move a point. You should expect next year to look like thisyear.

Raymond Panza

It's still in the mid-teens,maybe on a little more on the high side of the mid-teens.

Robert Schwartz - Jefferies

One last question if Imay. Last quarter you talked about increasing median deal value by about 22%and you had real strength in the 25K to 100K segment. Any color trends there inhow it's continued?

Douglas Dow

What we saw was again anincrease in median deal value in the quarter. It was 7% overall, year-to-date,we're running about 13%, so we're continuing to increase the median transactionvalues, and then we also saw a growth of about 21% in terms of the number ofdeals we did in the 25 to 100K range, and we increased the total value of dealswe did in that range about 14% on the quarter, so the middle action and thelarge deal size were about flat in terms of the number, but we increased totalrevenue coming through by about 10%. So, again, we're increasing the averagetransaction value.

Operator

Your next question comesfrom the line of Sean Jackson - Avondale Partners.

Sean Jackson - Avondale Partners

I wanted to hone again inon the R&D expense side. Now, the charges that you took in the thirdquarter and fourth quarter, are those recorded in that R&D line?

Raymond Panza

I'm not sure I understandyour question. Is it the savings that we're getting from last year's closure orthe charges this year?

Sean Jackson - Avondale Partners

Charges this year.

Raymond Panza

They're in the R&Dline.

Sean Jackson - Avondale Partners

Okay. So if the chargesare in the R&D line this year, and then you said in the press release youexpect cost savings of at least $5 million going forward, and those costsavings are going to be in the R&D line?

Raymond Panza

Well, for example, lastyear in December we closed our Amsterdam facility and we've been recognizing those savingsthrough this year so you're already seeing those savings come in. Next year, wewill continue to spend, in terms of product development, but you'll see thespendings offset by the savings that we're realizing from this year.

Sean Jackson - Avondale Partners

So I'm just trying to getat if the savings are in excess of $5 million then you'd have to really offsetthat by a bunch to not have an absolute decline in R&D in '08. Is that fairto say?

Raymond Panza

That could happen. Theidea is we will continue to invest in products, and remember we're launching afacility in China that continues to expand. This year alone we'veadded close to 100 people, so there is some spending going on, but at the endof the day, we're a technology company and we will continue to invest inR&D.

Sean Jackson - Avondale Partners

Real quick, on the stockcompensation expense, why was it so low in the third quarter and it looks likeit's going to go back to normal in the fourth?

Raymond Panza

It's going to go back tonormal in the fourth. We did, through a calculation of some changes organizationally,had a true-up in the quarter for about $0.5 million. It's favorable.

Sean Jackson - Avondale Partners

Lastly, just the tax rateexpectations into '08, I think you said in the past you attempted to utilizesome tax attributes that you had. Are you going to see a measurable change inthe tax rate in '08?

Raymond Panza

We're still looking atthat. To be real blunt with you, I've been disappointed with our effectivetarget. It's non-cash, non-operating, largely related to prior year, priorattributes. When we filed the return this year, we reevaluated some of theattributes, particularly in the EMP, and it's caused our rate to have to go upfor this year and for the quarter. We are taking some steps to try to bringthat back down into next year and that's still part of the planning process.

Sean Jackson - Avondale Partners

Okay, and lastly, you hadthe metric of number of application deals in the past. I know it's not quite asmeaningful anymore, but do you have that metric on you?

Douglas Dow

We did 14 of those dealsin the quarter, and the amount of revenue we produced out of those deals was upabout 25% as compared to what we did in Q2.

Operator

Your next question comesfrom Peter Goldmacher - Cowen & Co.

Peter Goldmacher - Cowen & Co.

Doug, just following upon that last question, 14 deals in the queue, up 25% from Q2. Do you know whatit was year-over-year?

Douglas Dow

I do not haveyear-over-year with me, Peter. The sequence looks like I've got numbers as farback as Q4, so we had nine deals in Q4, 11 in Q1, 17 in Q2, so as we said we're off a little bit in termsof number, but we generated more revenue from them, including some significantdeals. I mean, Royal and SunAlliance, it was a significant deal. It approached just a little over $1million in software. We had a couple other deals, one with the government thatwas in the mid–six-digit range and then the Infinity Property and Casualty thatJack mentioned was also in the upper six-digit-range.

Peter Goldmacher - Cowen & Co.

Ray, you addressed theservices business in your earlier comments. What are the other things that aregoing into that revenue line now?

Raymond Panza

The principal items,Peter, are the training, the consulting, publications, royalties. It iseverything that's not directly license-related and, in the past, most of thoseitems were fairly small; now that we're seeing some successes of notable sizeand the channels, there are some additional numbers. To be real blunt about it,if that continues and the good news continues we'll probably have to break thatout as a separate line. What we saw in the period is total services for thequarter we were up about $2.6; about $800 of it was in the royalties increase,and about another $700 of it, which is the most significant other number inthere, was in the consulting, the true services.

Peter Goldmacher - Cowen & Co.

I'm sorry, Ray, I don'tunderstand. You're generating a revenue from your partners and it's going inthe services line?

Raymond Panza

There's a royalty that ispaid when they sell our products and we get that money, but that's not really alicense so it needs to be booked somewhere and it goes into the services line,and in the past it's not been material.

Douglas Dow

Peter, it's a verytechnical point on the accounting side. If the contract reads that it is aroyalty agreement, that we are paid a royalty percentage as a part of someoneelse's product that's OEMing it; the software is technically licensed in eitherway, but when it's written up as a royalty agreement that's when it goes intothe services bucket.

Peter Goldmacher - Cowen & Co.

I see, so that's whythere was no commensurate increase in cost, because the services delivery isrelatively consistent?

Douglas Dow

Yes. I would say so.

Peter Goldmacher - Cowen & Co.

Can you give us a breakouton what the actual implementation services were? In the quarter?

Raymond Panza

Excuse me, Peter, are youasking for the OEM stuff?

Peter Goldmacher - Cowen & Co.

What I'm asking about isall the stuff that's normally in the services line. It's 1.5 million, right?

Raymond Panza

Right.

Operator

Your next question comesfrom John Maietta - Needham & Co.

John Maietta - Needham & Co.

Jack, as you look at thepipeline going forward here, could you comment on the level of activity byindustry vertical and maybe how the level of activity that you're seeing forQ4's pipeline compares to last quarter versus the year ago period?

Jack Noonan

When I look across theverticals, there's literally no change. Again, we cross all of them, so I wouldsay I don't see anything exceptional as I look at the pipeline.

A couple things thoughthat I'm seeing in the pipeline is one, when Doug shared with you thedimensions, which is the data collection technology focused on enterprisefeedback management, we are seeing transaction level, so the ASP is droppingbut the number of transactions is up the last quarter and so we're looking atthe same thing going forward.

That's about the onlychange if I look across the pipeline is the ASP of the dimensions; the numberof transactions is going up but the ASP is going down.

John Maietta - Needham

Doug, do you happen to havethe total headcount for the quarter?

Douglas Dow

Headcount was 1238 total.

Operator

Your next question comesfrom Frank Sparacino - First Analysis.

Frank Sparacino - First Analysis

Two questions: one is,how did the public sector perform this quarter relative to expectations givenit's been somewhat mixed to cost various vendors?

Jack Noonan

They struggled thisquarter. This was a tough quarter for them, and we pushed out a deal that lookslike it's pushed out for a full year because they run the budgeting cycle, soother than that though, there was a tremendous amount of work and it wasn'tthat they were off substantially. They were off this quarter.

Frank Sparacino - First Analysis

Okay, and then lastly, justmaybe some comments around the new release of the base product this quarter andimpact maybe relative to the year ago quarter given the timing being somewhatsimilar?

Douglas Dow

Well, Frank, it was astrong release. I mean, we're seeing real good growth in that categoryyear-on-year. It did come a little later in the quarter than usual so I thinkthat one would have thought that would have mitigated the growth, but I thinkwe were able to have the sales force working pretty effectively and what we'reseeing is the growth in the statistical tools is in line with the category.It's right around 20%, so we're real happy with that one. It's performing well.

Jack Noonan

This is the first timewe've ever done a multi-platform release for SPSS and it was because we rewrotethe front-end. We were able to release on Windows, Mac and Linux, and we foundthat we saw some nice growth. Again, on a small number with the Mac platform.

Operator

Your next question comesfrom Nabil Elsheshai – Pacific Crest Securities.

Nabil Elsheshai - Pacific Crest Securities

A couple things: followingup on that royalty deal, is that with one customer and is that a recurringroyalty or was that a one-time thing in the services numbers to go back tocloser to what we've seen over the last few quarters?

Douglas Dow

Well, a big chunk of thatnumber was part of the ongoing OEM agreement we had with HP, and we think thatthat's going to continue. What we saw with HP, we talked about HP a little bitin the last quarter when we got into the partner revenues this year. I meanthis quarter rather, what we saw is seven of the deals we did were with HP, andwe did about 40 odd-deals in total, so that partner influence number includesboth just purely influence as well as our OEM when we shared that with you. Ithink HP's going to continue to build. I think it's going to be slow andsteady. I don't think it's going to be rocket fire.

Nabil Elsheshai - Pacific Crest Securities

And then just tofollow-up what Jack said about maintenance, if you guys did 5% for the fullyear, we would see a similar sequential decline in Q4 in the maintenance line?

Raymond Panza

It's going to be flat orslightly down.

Nabil Elsheshai - Pacific Crest Securities

And then lastly on the APside, you had mentioned one predictive claims deal. Were most of those dealspredictive enterprise services or were there other applications deals in there?

Doug Dow

Two predictive claims andthe majority of the rest were predictive enterprise services. As long as we'reon the topic, the other interesting thing is we continue to see strong dragalong, so that seven of the deals brought along data mining tools, two of thembrought along statistical tools and another two brought along both statisticsand data mining, so what you're seeing is 11 out of the 14 drag along a prettygood size of tools business as well.

Nabil Elsheshai - Pacific Crest Securities

And then lastly, ondimensions, I think you have been expecting a little bit of a rebound fordimensions and it sounds like it didn't this quarter. What is your expectationgoing forward?

Jack Noonan

I think we had muchhigher expectations on deal size than the market has actually shown. Gartnerhas said similar kind of things about the EFM market. If you go back two yearsago, they were expecting a substantial number of seven-figure deals in theenterprise feedback management space and I think they've backed off of that andwhat we've seen is the same thing. Our transactions are up but they're smaller.

Doug Dow

And really just to add tothat, Nabil, I think what we're seeing is we're able to use our telesaleschannel here to effectively seed the market, and that we think we're plantingseeds that we should be able to harvest in the future, so I don't think it'sall bad news here. We think it's still very much an evolving market especiallyon the EFM space.

Operator

There are no furtherquestions at this time.

Jack Noonan

Well, thank you all forjoining us to hear our third quarter results. Look forward to talking to youafter the first of the year.

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Source: SPSS Q3 2007 Earnings Call Transcript
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