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Blackboard, Inc. (NASDAQ:BBBB)

Q3 2007 Earnings Call

November 1, 2007 4:30 pm ET

Executives

Michael Stanton - Vice President of Investor Relations

Michael Chasen - President and Chief Executive Officer

Mike Beach - Chief Financial Officer

Analysts

Tom Roderick - Thomas Weisel Partners

Amy Junker - Robert W. Baird

Kash Rangan - Merrill Lynch

Trace Urdan - Signal Hill

Michael Nemeroff - Wedbush

Trey Kuppin - Banc of America Securities

Operator

Welcome to the third quarter 2007 Blackboard Incorporated earnings conference call.  [Operator Instructions] I would now like to turn the call over to Mr. Michael Stanton, Vice President of Investor Relations.  Please proceed sir.

Michael Stanton

Thank you, and thanks everyone for joining us.  I'm just going to actually take a quick second; my understanding is that our conference vendor is having a little bit of difficulty patching people into the call.  So I want to apologize for that, I'm not certain what the technical issues is, but certainly we apologize for any delay that people experience getting into the call.

Per usual, I'd like to remind everyone that except for historical information presented, the matters discussed today may contain forward looking statements under the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995.  Such statements are based upon management's current expectations and are subject to a number of risks and uncertainties that could cause actual performance and results to differ materially from those discussed in the forward looking statements.  Among the important factors that could cause actual results to differ materially from those indicated by such forward looking statements are delays in product development, undetected softwares, competitive pressures, technical difficulties, market acceptance, availability of technical personnel, changes in client requirements, risks of international operations, general economic conditions, and such other risks as described in the risk factor section of Blackboard's most recent Form 10-Q on file with the SEC.

Blackboard undertakes no obligation to update or revise forward looking statements to reflect changed assumptions, the occurrence of unanticipated events, or changes in future operating results.  A few administrative notes related to some of these metrics we will provide today.  First, we will provide non-GAAP adjusted net income and non-GAAP adjusted net income per share on this call as additional information regarding our operating results.  The measures are not in accordance with, nor an alternative for GAAP and may be different from other non-GAAP measures used by other companies.  Blackboard believes that the presentation of these non-GAAP financial measures provides useful information regarding additional financial and business trends relating to the Company's financial condition and results of operations.  A reconciliation of GAAP and non-GAAP metrics has been provided in today's earnings press release.

The second administrative notes relates to our contract value, which we will also provide today.  Our contract value represents the annualized recurring ratable revenue under existing contracts with clients in effect at the end of the quarter without regard to the remaining duration or renewal of such agreements.  This is not intended by management for the estimation of, or as a proxy for future revenue to be recognized, but management believes it is a useful tool for investors to evaluate our current operating performance.

Finally, I have once again provided supplemental information related to licenses, contract value on the investor center section of our website at investor.blackboard.com, the document is titled, "Q3 2007 Blackboard Metrics."

On today's call are Michael Chasen, President and CEO, Mike Beach, our Chief Financial Officer.

At this time, I'd like to turn it over to Michael Chasen. Michael.

Michael Chasen

Thanks, Michael.  Good afternoon everyone.  Let me start with an overview of the agenda for today's call.  First, we'll give you a summary of our performance for the quarter ended September 30, 2007.

I will cover our operational highlights in the third and some of the dynamics we are experiencing in the industry.  I will also discuss our initial thoughts on some planned investments given the growth opportunities we see ahead.  I will then turn the call over to our CFO, Michael Beach, to take us through a more detailed review of the financials and guidance.  Finally, we will close with your questions at the end of the call.

Among the financial highlights in the third quarter, we increased revenue year over year by 22% to $61.6 million and generated net income of $3.3 million and earnings per diluted share of $0.11.  We had $6.6 million in non-GAAP adjusted net income and non-GAAP adjusted net income per share of $0.22.  All of these results are ahead of expectation and put us on track for another great year.

As a reminder, Blackboard's business model is primarily driven by, first, our ability to renew our large subscriber base of clients, which provides a great operating leverage inherent in our business.  Second, our ability to expand our existing client relationships, growing their subscription value over time by addressing more and more of their emerging e-learning needs.  And third, our ability to add new client subscribers across the education spectrum here in the United States and around the world.

This quarter we expanded our existing relationships and established new ones with a wide range of different institutions.  A few examples of deals in the US higher education market include Brigham Young University and the University of Pittsburgh.  Each licensed the Blackboard Content System during the third quarter to more effectively manage and share their academic resources across their respective campuses.

In our Commerce business, we are pleased to welcome Kentucky State University and Hamilton College as new clients.  Both schools licensed the Blackboard Transaction System.  Additionally, we also had substantial expansion commerce sales with UCLA, Temple University, and Ducane University, all of which expanded their relationship with us by moving to the Blackboard Transaction System Universal Edition.

Other academic suite expansion sales in the quarter included Howard University, North Harris Montgomery Community College District, Malone College and Rio Hondo College, all of which adopted our ASP hosting offering.  And finally, the Southeastern Baptist Theological Seminary was our first former WebCT client to adopt a Blackboard Community System which they will use to better communicate and interact with their student and faculty members.

On the international front, in England, the City of Wolverhampton College licensed the Blackboard Learning System and is also using our ASP hosting service.  In Turkey, Kadir Has University with 2,000 students, and Istanbul Bilgi University with 10,000 students, each licensed our Blackboard Learning System, the Blackboard Community System, and the Blackboard Content System products.  Both schools also opted for our ASP Hosting offering service. 

Lastly, the Estonian IT Foundation, the legal body of the Estonian e-learning Development Centre has adopted the Blackboard Learning System Vista Edition for all universities and vocational and secondary schools in the county.  The goal of the program is to establish high quality, flexible, and internationally competitive higher and vocational education that is available to various target groups in Estonia.  

In K-12, I would like to highlight a couple of deals, including New Orleans Public Schools, which upgraded from the basic Blackboard Learning System to our Enterprise Version.  In addition to the license upgrade, New Orleans also contracted with us for our ASP Hosting offering.  This was a great expansion sale for us in quarter.

Similarly, the South Carolina Department of Education has also decided to transition their Blackboard Learning System license to our ASP Hosting facility.  In moving to Hosting, South Carolina administrators can now better focus their attention on building online content and marketing those materials to the K-12 districts throughout the state using Blackboard solutions.  Again, these are just a few of the client examples from the third quarter, but they are representative of the traction we are seeing in our business so far in 2007.

Moving on to licenses, we ended the third quarter with a total of 3,797 Enterprise category licenses.  Breaking up these licenses, we had 2,255 licenses of the Blackboard Learning System Enterprise, 700 licenses of the Blackboard Community System, 354 licenses of the Blackboard Content System, 28 licenses of the Blackboard Portfolio System, 21 licenses of the Blackboard Outcome System, and 439 licenses of the Blackboard Transaction System.  In terms of the Blackboard Learning System basic product, we ended the quarter with 1,077 licenses.  The total number of licenses at the end of the third quarter was 4,874.  We finished the third quarter with 502 ASP Hosting units.

As for contract value, we finished the quarter with an annualized contract value of $184.5 million, representing approximately 19% growth year over year.  This resulted in average contract value per license of approximately $37,850.

As many of you know, Blackboard's third quarter represents the peak renewal period for the company during the year.  In the third quarter, our retention rate was in line with our historical experience of approximately 90%.  Our total headcount at the end of the third quarter was 815 people and was comprised of the following.  We had 184 people in sales of which 70 were quota bearing sales reps, 68 in marketing and business development, 143 in product development, 148 in support ASP Hosting and production, 129 in professional services, and 143 in operations.

In closing, I am excited to discuss some investments we intend to make over the coming year given the growth opportunities we are seeing in our business in the broader market.  As you all know, Blackboard continues to enjoy growth through new client relationships both domestically and internationally and in multiple education sub vertical.  Naturally, we will continue to expand our educational sales force into increased productivity among sales professionals in penetration in our target markets.

Blackboard's existing client base provides us with access to more than 3,400 institutions who continue to share perspectives on how we can further innovate by integrating technology into teaching, learning, and academic life throughout their organizations.  We have an ongoing dialog with our community of users.  We speak with and solicit feedback from them constantly through our sales support and service organizations at our user conferences and other industry events and via senior level collaboration between our executives and industry thought leaders.  Based on this feedback, we believe that we have identified a number of attractive opportunities for investments that will not only enhance the education experience for all of our extended constituents, but will support superior client satisfaction and future growth opportunities consistent with our long term operating objectives.

Over the course of the next year, we will make investments in the key areas that drive overall client satisfaction.  Specifically, the three areas of investment are in product development, client support, and ASP Hosting.  First, in product development, we will be funding several different initiatives.  One of the most important investments that we are making is to develop more K-12 specific functionality within the academic suite products.  This year we have seen an increase in the number and dollar sizes of K-12 RFPs, and believe that we will soon see more K-20 opportunities in the coming years.  These are very encouraging developments and demonstrate the evolving maturity of the K-12 institutions and their use of Enterprise technology.  In order to meet the growing demands in this market, we will develop features for both safe standards alignment and lesson planning.

Integrated learning standards provide our K-12 clients with the ability to align their institution with the standards mandated by their state Department of Education.  Additionally, a lesson-planning tool will empower our K-12 clients to create and maintain standard spaced instructional material.  By investing more in these K-12 offerings, we believe that we can better deliver on our vision of lifelong teaching and learning with Blackboard solutions and be in an excellent position to win the new deals that we are beginning to see in the market.

As for our clients who joined us through the WebCT merger, we are taking measures in product development to ensure that 100% of these institutions are on a stable release of the Blackboard Learning System products.  As you know, we released Application Pack 2 in June of this year, which addressed over 1,500 known issues with the Legacy WebCT code base.  That release went a long way towards resolving product issues and we continue to release service packs to stabilize our clients.

Going forward, we are committed to identifying and resolving any other issues that would affect our client's Blackboard experience.  These investments will not only pay near term dividends through client retention, but will also greatly enhance our ability to cross sell products to these clients over the next few years.

One final product development initiative that we will be focusing on in the coming year relates to our Blackboard Commerce Suite offerings.  As I mentioned earlier, we had some tremendous new wins in expansion sales in the quarter and much of this is due to some investments we have been making in the past 12 months.  We will continue to invest in the Blackboard Transaction System, particularly in our Universal Edition offering to meet the evolving student service requirements in the higher education market.  As part of this effort, we will be foregoing new partnerships to incorporate the latest technologies into our solutions.

Second, in terms of client satisfaction, we recognize the critical importance to our support organization and the direct correlation this group has to long term client retention. We have launched a client experience advisory committee that will work directly with us on client issues and feedback.  We will also be adding additional resources for primary and secondary support issues over the coming months. Again, by enhancing our support organization, we think we can substantially improve our client's experiences with Blackboard, which should drive client retention and cross sell opportunities.

Third, and finally, we continue to see growing opportunity for our ASP hosting business.  Blackboard began offering hosting about six years ago with two facilities here in the United States.  Last year we launched a hosting facility in Amsterdam and we have seen tremendous uptake from our clients in Europe who depend on us to run their e-learning applications.  Based on these successes, we are planning to expand our current international facility and open another hosting facility to serve our international clients.  We believe that the business environment that has contributed to a healthy ASP performance domestically is now developing internationally and we want to meet this robust demand.

In summary, we are encouraged by the increasing number of opportunities that we see to invest in our existing client base driving instrumental growth through cross sell, up sell, and enhanced retention opportunities.  As we continue to experience enhanced operating leverage due to the scale and reoccurring revenue base, we will look for ways to opportunistically reinvest those profits, strengthening our competitive positioning and supporting our sustainable growth profile.

Accordingly, while we would have expected to see natural margin expansion over the coming year, we would expect the net impact to be more modest after taking into account reinvestment in the initiatives I have just described.  We are confident that the nature of these investments will benefit both our customers and shareholders and that they are consistent with our long term plan for driving growth and profitability.

With that, I'm pleased to hand it over to our CFO, Michael Beach, to cover our financials and future guidance.  Mike.

Mike Beach

Thanks, Michael.  I’ll organize today's financial review around the income statement, the balance sheet, and cash flow, and close with the outlook and guidance for the fourth quarter and full year of 2007.  Revenues for the third quarter of 2007 were $61.6 million, up 22% from last year.  Product revenues for the quarter were $54 million, representing an increase of 24% over the same quarter last year.  Professional service revenues for the quarter were $7.6 million, which represents an increase of 9% over the prior year.  In terms of revenue characterization, we also break out our revenues by the nature of the revenue stream, which include ratable recurring, ratable non-recurring, and other revenues.

For the quarter, ratable recurring revenues increased 31% to $46 million as compared to $35.3 million in the same quarter last year.  Ratable non-recurring revenues increased 2% to $5.5 million, as compared to $5.4 million in the same quarter last year.  Other revenues increased 3% to $10.1 million as compared to $9.7 million in the same quarter last year.

Moving on to gross profit, our gross profit for the third quarter, excluding stock based compensation and the amortization of acquired technologies, was $45.5 million as compared to $34.9 million in the same quarter a year ago, representing an increase of 31%.  For the quarter, our gross margin was 74%.

Total operating expenses, excluding the cost of revenues, stock based compensation, and amortization of acquired intangibles, were $32.4 million, representing an increase of less than 1% as compared to $32.3 million in the same quarter last year.

Operating expenses were slightly higher than expected in the quarter.  In particular, I would like to point out that we experienced higher than expected costs in R&D due to professional service expense we incurred supporting ongoing product development efforts on the transaction system business

.

Our G&A expenses were also higher by approximately $500,000 due primarily to the severance costs we discussed on the last call and professional services related to a non recurring tax project which has had the direct result of increasing our net operating losses by over $4 million which will be available to offset future cash tax liabilities.

For the quarter, we incurred stock based compensation expense of $3.5 million and intangible amortization expense of $5.5 million.  

Our net income was $3.3 million, compared to net loss of $4.8 million in the same quarter of last year.   Net income per basic share was $0.11 for the quarter. Adding back the amortization of acquired intangibles and net of the associate tax impact results in non-GAAP adjusted net income of $6.6 million or non-GAAP adjusted net income of $0.22 per diluted share.

In terms of balance sheet, we closed the quarter with $208 million in cash and cash equivalents.  Accounts receivables increased to $65.8 million at the end of the quarter from $61.4 million for the same quarter last year.

Current deferred revenues increased to $130.5 million at the end of the third quarter, up 10% from the $118.4 million at the end of the third quarter last year.  Current deferred revenues related to recurring products, totaled $114.7 million, compared to $101.5 million for the same quarter last year, representing a 13% increase.

An important reminder here for investors, similar to last quarter, our new purchase order policy resulted in approximately $6.5 million of invoicing shifting from the last few weeks of the third quarter to the first few weeks of the fourth quarter.  It's important for investors to take this change into account, when comparing Blackboard's deferred revenues and account receivable balances with prior periods.  For example, if you add back the $6.5 million to the ending Q3 2007 current deferred revenues related to recurring products, year over year growth would have been 19%.

Cash flow provided by operations totaled $38.4 for the third quarter, which represents a 57% increase compared to cash flow from operations of $24.5 million for the third quarter of last year.  We were pleased with cash flow for the quarter and are seeing the initial impact of the purchase order system, we implemented last quarter.  Capital expenditures were $4.1 million for the third quarter.

Moving on to guidance, for the fourth quarter of 2007, we expect revenue of $61 to $62 million.  Amortization of acquired intangibles of $5.5 million, net income of $4 to $4.5 million, resulting in net income per diluted share of $0.13 to $0.15, which is based on an estimated 30.4 million shares and an effective tax rate of 41.5%.  Non-GAAP adjusted net income, which excludes the amortization of acquired intangibles and the associate tax impact of $7.3 to $7.8 million, resulting in non-GAAP adjusted net income per diluted share of $0.24 to $0.26, based on an estimated 30.2 million shares and an effective tax rate of 40.5%.

For the full year 2007, we expect revenue of $237.3 to $238.3 million.  Stock based compensation expense of $12.3 million.  Amortization of acquired intangibles of $22 million.  Net income of $12.6 to $13.1 million, resulting in net income per diluted share of $0.42 to $0.44 which is based on an estimated 29.9 million shares and an effective tax rate of 41.5%.  Non-GAAP adjusted net income, which excludes the amortization of acquired intangibles and the associated tax impact of $25.9 to $26.4 million, resulting in non-GAAP adjusted net income per diluted share of $0.86 to $0.88, based on an estimated 29.9 million shares and an effective tax rate of 40.5%.

Included in the fourth quarter and full year guidance is non cash rent expense, which we will begin to incur when we are granted access to our new headquarter space for the purpose of construction.  We will not have cash rent related to this lease until late in the second quarter of 2008 when we take occupancy, but we will have to record approximately $400,000 of additional rent expense per month in the interim period.  We expect to incur approximately $600,000 of this non cash expense in the fourth quarter of 2007.

In addition to our formal guidance, several of you have asked about updated expectations for cash flow for the full year, so I wanted to give an update.  We have slightly outperformed year to date against cash flow from operations.  It is my expectation that we will continue to do so in the fourth quarter.  Currently, our expectation is that we would achieve cash flow from operations of approximately $60 million.

That concludes the discussion of Blackboard's financials. Now let me hand it back to Michael Stanton for closing.  Michael.

Michael Stanton

Thanks Mike.  We are going to be on the road to see investors in a few different cities in the coming weeks and months, we'll be in New York and Boston, and we will be in New York tomorrow and Boston in two weeks.  We will also be presenting at a few upcoming conferences, we'll be at the UBS Technology conference on March 14, and we will be at the Credit Suisse Technology conference on November 28 in Phoenix, Arizona. 

Again, I just want to apologize for any of the technical difficulties that folks had with our conference call vendor.  Operator, that wraps up our formal comments.  Let's go ahead and start Q&A.

Question & Answer Session

Operator

[Operator Instructions] Our first question comes from the line of Tom Roderick with Thomas Weisel. Go ahead.

Tom Roderick - Thomas Weisel Partners

Good afternoon and thank you.  Looking at the cash flows, Mike, you talked about this briefly at the end of your script here, but it was a big quarter for cash flow.  I was wondering, if you could just sort of review the evolution of your collections process there where you have gone back to customers with a formal invoice process.  How did that work our throughout the quarter, was there sort of an artificial bump within this quarter on cash flows and should we still expect to go back to sort of normal cash collection trends as we look into the fourth quarter here?

Mike Beach

I think it's been positive.  I think it will take about a year with the process in place to get all the improvements out of it.  So, we're expecting continuing improvements but it did result in some level of improved cash flow during the quarter and we are seeing a significant decrease in the efforts that we need to make in our collections front, which is exciting.

Tom Roderick - Thomas Weisel Partners

Looking over at the total number of licenses here, a little bit surprised, I guess, to see the Enterprise license down on a sequential basis and no growth in the number of outcomes deals.  Can you speak to those specific numbers knowing that it is a big renewal season, can you speak to those numbers with reflection of what is in your pipeline and should we expect to see some more deals coming in the next few quarters on the outcome side?

Michael Chasen

Sure, let me actually tackle both of those questions separately.  So first of all, just talking about our overall license count, we do have a good deal of seasonality, when it comes to our license count.  If you take a look even over last year, the difference between Q2 and Q3, we have the largest number of renewals in Q3 which also means we have the largest number of drops in Q3.  So, usually if you take a look at the growth from Q2 to Q3, we have a lot of new client sales in Q2, a lot of new client sales in Q4, but a large amount of drops in Q3 which usually means our numbers are a smaller increase from the previous quarter.  So, while total Enterprise licenses increased 12%, you have to factor in the seasonality as part of that.

When you take a look at the sales, we have been doing higher value deals, and we've had also some benefit of pricing increases, and our retention numbers have been very good.  So, we're actually pleased with where we've been from an Enterprise sales perspective in the quarter and thinks this is very much in line with where it has been previous years for Q3 as well.

In addition, if you think about the investments that we're looking to make and we've talked about on the call, we're very excited about the opportunity to increase the number of new clients that we have adopting our technology.  We think were putting in place several programs that are going to cause new client adoption to pick up as well.

When we talked about our Outcome System license, we just came out with that product, as you know, at the beginning of this year, and we anticipated about a yearlong sales cycle.  We were actually pleasantly surprised to be ahead of our own internal expectations when we achieved 21 licenses at the end of last quarter.  We are pleased at the pipeline buildup that we've been seeing and certainly think that you're going to be seeing increasing sales on that in future quarters.  Again, just because of the timing of the sales cycle and the seasonality institutions, we didn't see an increase for this specific quarter but are more than pleased for where we are for the year.

Tom Roderick - Thomas Weisel Partners

Michael, one last follow up for you on the outcomes there itself, you obviously had a big win with the state of Mississippi as we get into the election timeframe.  Does that have any impact on other potential statewide deals, should we look for any of those coming within the next few quarters?

Michael Stanton

Yes, Tom. This is actually Michael Stanton.  I've been spending a bunch of time with sales and actually we all have, looking at some of the trends. Already, we're finding that deals like Mississippi, not only is it helping us in the state of Mississippi.  We feel like we've got some really great traction in the K-12 market right now specifically and have high hopes for some good size deals there at the K-12 level in the state.  We’re seeing more and more deals in states across the country.  

You might have noticed last week we announced a formal K-20 initiative that we are funding and investing in.  And definitely with sort of the election cycle, we think that education is very much a hot button issue, but we think it's sustainable beyond that.  The reality is that there's going to be more of this K-20 traction and we're trying to position ourselves as best we can to take advantage of those opportunities.

Tom Roderick - Thomas Weisel Partners

Great, thanks, helpful guys.

Operator

Our next question comes from the line of Amy Junker with Robert W. Baird.  Go ahead.

Amy Junker - Robert W. Baird

My first question is Mike, can you maybe quantify, I know one of the issues in the quarter in terms of the EPS you talked about it last quarter was that you had a larger number of user conferences fall in this quarter.  Can you just quantify, what that impact was versus perhaps what the mix looked like a year ago?

Mike Beach

It is in the $1 to $1.5 million range.

Amy Junker - Robert W. Baird

Okay, great, and then, Michael, can you maybe talk a little bit more about your opportunity internationally, specifically I guess, I am interested outside of the U.K. and Western Europe. You hosted your first Middle East summit during the quarter.  Can you talk about what you learned there, what the trajectory is, and how soon we could potentially see the impact from growth in that region?

Michael Chasen

Sure, thanks Amy.  I recently got back from a trip to Dubai, where I had the opportunity to visit with 30 different institutions and meet with a number of clients that are using our technology in the Middle East.  In fact, just next week, I am off to China to our user’s conference there, where there will be over 200 schools that are not using Blackboard technology.  Both of those regions I really classify as early stage emerging regions that certainly, we believe, have some longer term potential but are just now starting to invest in the technology infrastructure to bring their institutions online.

One of the things that I notice, especially as I visit these countries that are just starting to put a lot of money into developing their e-learning technologies, is the effect in how much they look to what has been happening in the US and the European markets that they are interested in duplicating in their regions as well.  So, when we're abroad and we're speaking with institutions and they say what are the leading institutions in the United States using and those institutions are using Blackboard, that goes a long way to help convince them to also use Blackboard technology, and I think that gives us a strong base to leveraging our install base in the United States than outside in these other countries. And that's definitely affect we're seeing in the Middle East and seeing in China as well

.

Amy Junker - Robert W. Baird

Can you just share what percentage of your revenue now is coming from international?  I know it has been growing over the last couple of quarters.

Mike Beach

Amy, this quarter was $13.2 million of the revenues were derived outside the US.

Amy Junker - Robert W. Baird

Great, and then this last question and I'll pass it over, in terms of your ASP hosting, you listed several customers who have added, but looking at the numbers, the units are only up two.  Is that a case that some of those customers that maybe dropped in the quarter were hosting or is there something else that's offsetting that?

Michael Stanton

That's definitely the factor.  So, if we churn clients through our peak renewal period, what we're finding is that our clients are coming back to us and doing more with us in terms of hosting, which it doesn't necessarily translate to that unit cap that we give, so you see sort of unit count up just two units.  That doesn't truly reflect the growth that we're seeing there.  The deals that we described on the call, I think that we had five or six that we named in higher education, those were all substantial, six figure, recurring revenue ASP deals.  Similarly, the ones internationally were more of the newer ones, so we see some churn of the low dollar ASP relationships and we see added back higher dollar recurring ASP relationships.

Amy Junker - Robert W. Baird

Perfect. Thanks guys.

Operator

Our next question comes from the line of Kash Rangan with Merrill Lynch. Go ahead.

Kash Rangan - Merrill Lynch

Thank you very much.  To sort of get a clearer understanding of the investments, Michael, you pointed out you were putting in place in the product development support in ASPs.  What is the top point of these investments in terms of operating expenses, and when should we start to experience the revenue productivity from these investments?  It looks like you are definitely talking about operating margins being relatively flattish for 2008.  If you can just talk to the trajectory of how you should be thinking about our models for operating margins as we work through different quarters of 2008?  When should we expect to see the revenue productivity? Is it going to be more 2009 as a result of these investments or is it one where you are investing, we take margins flat but we get the revenue outlook in 2008 itself so the net result is actually not going to change our models?  How should we think about your investment profile?

Michael Chasen

Sure. As I mentioned, we are just seeing a large amount of growth opportunities across all of our different markets, higher ed., K-12, international of the commerce business, and we want to be able to fund those investments to allow us to grow revenue at the high end of our target operating model, which is 15% to 20%.  We think that we can actually make those investments and maintain stable to slightly expanding margins over the course of the next year.  We'll actually give specific 2008 guidance on our year end call.  It is a little bit more specifically, certainly, we expect to start ramping up those investments throughout 08’.  We believe we'll start to see kind of a revenue benefit in 08’ and 09’.  To talk a little bit more specifically about the margins, Mike.

Mike Beach

Well I think the one thing to keep in mind that's important is to keep in mind how our revenue is recognized.  So, investments in 08’ will translate into increased revenues or increased sales in late 08’ and into 2009, but since we recognize revenue ratably, the revenue benefit really is going to be a 2009 event.

Kash Rangan - Merrill Lynch

So at some point, we should model a dip in your operating margins in 2008 and then a corresponding pick up in 2009?

Mike Beach

No, I think what we're saying is that our current expectations are that operating margins excluding stock based comp will be flat to modestly up in 2008, and we'll give additional guidance on that in the Q4 call.

Kash Rangan - Merrill Lynch

Got it, great. That's all I had. Thank you.

Operator

Our next question comes from the line of Jeff Lee with Signal Hill.  Go ahead.

Trace Urdan - Signal Hill

Hi, this is Trace Urdan.  My question was when you guys did the convert, I think there was maybe set an expectation that you might be buying some of the feature sets, and I kind of glean from your comments today that you're talking more about maybe building, especially in the K-12 arena.  I'm just wondering, if you could sort of comment on what the outlook looks like for you guys to sort of buy external companies or products to augment your offering in the market?

Michael Chasen

When we talk about our product plans, we are always taking a look at the opportunity either build it internally, OEM it from one of our close partners, or acquire the technology, and that is certainly the case as we talk about these different expansions in product development as well.  So, we continue to analyze what our different options are going forward.  We think that the plan that we've laid out is likely to certainly be a lot of internal development, but we'll look to explore other opportunities as well.

Trace Urdan - Signal Hill

So, just to make sure that I understand, as you're talking about kind of a pick up in the K-12 space and the desire to make your product more specifically suited to that K-12 market.  Could we expect just as well to see you buying things, as well as, building things?

Michael Chasen

Well, I think actually it wasn't just specific to K-12.  Certainly, we're starting to see a lot of opportunity as we recently announced with our K-20 initiative that we're seeing not only increased pickup in the K-12 market space, but also in the connecting of K-12 to higher end and continuing education.  So, we are going to be making specific product investments there, as well as in the commerce suite line of business, we're continuing to see increasing opportunity in that market as well and are looking to be able to improve investment in that space also.

The other item that I talked about though was really in a focus on stability and scalability for the clients using the Legacy WebCT learning system products.  We really have been working over the past several months to make sure that that product was stable and secure so that clients were comfortable as they then didn’t look to other products in our academic suite to be able to expand their e-learning initiatives on their campus.  So, we've been making a strong investment there, we're going to actually continue and increase that to make sure that those clients are on a stable product so that they can feel good about expanding their product suite and their relationship with Blackboard.

Trace Urdan - Signal Hill

Okay. Thank you.

Operator

Our next question comes from the line of Michael Nemeroff with Wedbush.  Please go ahead.

Michael Nemeroff - Wedbush

Hi guys.  Just a couple of questions it does look like there was a little bit of churn, especially with the Learning System Enterprise licenses.  Of the customers that churned, what percent of them were WebCT customers?

Mike Beach

Michael, we don't have that data.

Michael Nemeroff - Wedbush

Could you talk qualitatively to it?

Michael Chasen

I mean the qualitatively, I would say that greater than 50% of the churn is going to be in the WebCT base.  These were folks that were probably in the Learning System Enterprise client count last year that were, again, in our client count but were probably making plans to do something different for any number of reasons and it takes sometime to make those decisions and get off the product.  So I think, again, coming through the peak renewal season, we're sort of seeing that drop off.

Mike Beach

The one thing we can talk to since we don't have that information in front of us is clearly the retention rates on a combined basis were in line with what we experienced historically and consistent with last year.

Michael Nemeroff - Wedbush

Then, Mike Chasen, if you could tell us about how the cross selling into the WebCT customer base is going.  I know this is the first quarter that you had product really available to sell in.  Can we start to or can we expect a modest pick up in the quarterly contract value from those initiatives starting in Q4, or will it be in Q1, Q2?

Michael Chasen

Well as we said previously, we really expect that the WebCT cross sell opportunity will begin to manifest itself in 2008 and it will be a multi year opportunity.  It's just you've got to take a look at given the timing of the introduction of the new products and the current instability of the code base for a number of WebCT clients.  We really didn't expect to see much progress in terms of Q3 unit sales.  As I mentioned in the investment areas that we're really looking to focus on, we are working to make sure that our product stability for WebCT client is a top issue for us, because really, those clients need to be on a stable e-learning system before they then want to look to expand that e-learning system and get even more users and usage onto the system.

We are seeing a pipeline starting to buildup for that technology.  You also have to realize we just introduced that midway through the year.  Our typical sales cycle is six to nine months.  If you throw that on top of the fact that WebCT was having these stability issues, you can see how very easily that pushes new sales opportunities into the Q1 or Q2 of 2008, although I do believe we'll start to see some traction towards the end of this year there.

Michael Nemeroff - Wedbush

Okay then, Mike Beach, the invoicing system, clearly still a little bit of an issue much less than last quarter.  Will Q4, do you think that will more normalized system process or will this take a full year before this starts to work itself out?

Mike Beach

Well, I mean, it is going to take a full 12 months until the numbers are comparable.  I think when we look at it; we're excited about the benefits that it is already driving from an expense perspective.  We're not going to need to expand our collection force and from a cash flow perspective, we're seeing renewals paid at a rate far faster than they have been in the past.  It's going to take a while until the process is perfect in terms of getting invoices out as fast as possible and I think that will take about 12 months to realize all the benefits, but we're already seeing DSO benefits in Q3 from the implementation of this.  So, we're excited about that we've seen so far.

Michael Nemeroff - Wedbush

Okay and then just one last one for Mike Beach.  Could you just give us what the non-recurring ratable product revenue was during the quarter?

Mike Beach

Non-recurring ratable was $5.5 million.

Michael Nemeroff - Wedbush

Great. Thanks very much guys.

Operator

Our next question comes from the line of Trey Kuppin with Banc of America Securities.  Go ahead.

Trey Kuppin - Banc of America Securities

Just one quick question just to touch back on the investments that you're planning for next year, are you expecting to have that more front end loaded in the year where you do most of the spending or can you just provide a little bit of color on your plans for that?

Michael Chasen

No, those investments will be made pretty much across the year in each of the quarters and will certainly start to ramp up in Q1.

Mike Beach

Yes, we expect it generally to be consistent throughout the year and when we give guidance in Q1, we will clearly identify if there are any kind of lumpiness, but that’s not our expectation right now.

Michael Chasen

And keep in mind, some of these things we have already actually already started to fund here in Q3 and Q4.

Trey Kuppin - Banc of America Securities

Okay, and then, you may have mentioned this I may have missed it but could you talk a little bit about the average ASP, what happened this quarter, was it consistent or growing slightly or what did you see there?

Michael Chasen

Trey, I just want to make sure we heard that correctly. Average, so just sort of average deal size?

Trey Kuppin - Banc of America Securities

Yes

Michael Chasen

Well, I don't know what the average contract value per license I don't know what that was up as a percentage.  I don't have that immediately available though it should be pretty quick, pretty easy to calculate.  We're figuring out right here, but qualitatively, we're seeing bigger deals, we're seeing bigger ASP deals.  Again, we did have sort of the churn in units.  But again, just qualitatively, I would say that average deal size is going up.  We had the big deal in Estonia, which was effectively a countrywide deal in higher education.

Michael Stanton

And I think that not only are we seeing larger ASP deals, but we're getting them from not only new clients, but also existing clients that are deciding to move into our hosting facility if they've just started to achieve certain levels of scale in their institution that they really believe they need professional management to be able to run their e-learning applications.

Again, we think that the unit count is a little bit misleading just because in Q3 is always our largest amount of churn because that's where the most clients actually have their renewal date set, and while we had a small number of small clients turn off of ASP, we had an equal number of rather large clients come join us, so we are starting to see a pick up.  The year over year growth looks like it is probably about 16%.

Michael Stanton

That's contract value per license.

Mike Beach

Contract value per license is up 16% over last year.

Michael Stanton

Pretty strong there.

Trey Kuppin - Banc of America Securities

Okay, great. Thank you.

Operator

Ladies and gentlemen, there are no further questions at this time. I'd like to turn the call back over to management for any closing remarks.  Proceed gentlemen.

Michael Chasen

I think that's all we have for now.  Thanks everyone for participating on the call and we'll talk to you next quarter.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. That does conclude the presentation.  Have a wonderful day.

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