Executives
Carla Chun - Director of IR
Kevin Royal - SVP and CFO
Brian NeSmith - President and CEO
Analysts
Ryan Hutchinson - WR Hambrecht
Samuel Wilson - JMP Securities
Dave Duley - Merriman Curhan Ford
Rajesh Ghai - ThinkEquityPartners
Erik Suppiger - Signal Hill
Josh Jabs - Roth Capital
Rohit Chopra - Wedbush Morgan
Scott Zeller - Needham & Company
Marianne Thornton - Smith Barney
Blue Coat Systems Inc. (BCSI) F2Q08 (Qtr End 10/31/07) EarningsCall November 20, 2007 8:00 AM ET
Operator
Ladies and gentlemen, thank youfor standing by and welcome to the Blue Coat Systems Incorporated Q2 FiscalYear 2008 Financial Results Conference Call. At this time all lines are in alisten-only mode. Later there will be a question-and-answer session andinstructions will be the given at that time. (Operator Instructions) As areminder, today's call is being recorded.
At this time then, I would nowlike to turn the conference over Carla Chun. Please go ahead.
Carla Chun
Good morning and thank you allfor joining us this morning. Today, Kevin Royal, Blue Coat's Senior VicePresident and Chief Financial Officer will begin today's call with an overviewof the financial results for the second quarter of our fiscal year 2008, whichended October 31, 2007, and the current outlook for the third quarter whichends January 31, 2008. Then, Brian NeSmith, Blue Coat's President and ChiefExecutive Officer will provide his commentary and other operating highlights.
As you know, we will makeforward-looking statements during the course of this conference call. Thisincludes statements regarding expectations concerning market growth andbusiness opportunities, expectations regarding future revenues, expenses,margins, or tax rates, and other financial metrics and other matters impactingBlue Coat's financial outlook and future business. These statements are basedon current expectations, and they are subject to a number of risks,uncertainties and other factors that may cause industry and market trends orour actual results, level of activity, performance or achievements expressed orimplied by these statements, to differ materially.
We refer you to the risk factorsreferenced in our press release issued earlier today, as well as the documentsthat the Company files with the Securities and Exchange Commission, includingour Annual Report on Form 10-K. These documents identify and discuss importantfactors that could cause our actual results to differ materially from thosecontained in our forward-looking statements and projections.
Now, I will turn the call over toKevin.
Kevin Royal
Thank you, Carla. Today, we'repleased to announce another quarter of record net revenue, including theproduct and service revenue of $73.4 million for the second fiscal quarter of2008. It was an 18% increase, compared to revenue of $62.4 million reported inthe prior quarter, included in the $73.4 million of net revenue as productrevenue of $56.7 million, which includes sales of appliances and Blue CoatWebFilter. The $56.7 million of product revenue in the second quarter of fiscal2008 reflects an 18% increase, compared to $48.1 million in the prior quarter.This increase is primarily due to continued strength in both security and WANapplication delivery.
During the quarter, we alsocontinue to make progress in the WAN application delivery market, with bookingsin excess of $34 million for the quarter, a 31% increased compared to $26million of bookings in the prior quarter. As Brian will discuss, we areobserving a growing number of purchase decisions based on both security andacceleration functionality. However, our continuing growth in the applicationdelivery market is to estimate our commitment to this market.
As you are aware, there is not ashortage of competitors in this space. Our differentiation is resonating wellwith enterprises and driving our success in this market. As I mentioned,product revenue also includes revenue recognized on sales of Blue CoatWebFilter, which increased 15% to $9.4 million in the second fiscal quarter,compared to $8.1 million in the first quarter. Approximately, $7.7 million ofthe revenue recognized on Blue Coat WebFilter this quarter is related toperpetual licenses, compared to $5.9 million in the first quarter of fiscal2008.
Now, turning to service revenue,we recognized $16.7 million in the second quarter, a 17% increase over $14.3million recognized in the prior quarter. On a geographic basis, net revenue in North America was $40.7 million, representingapproximately 55% of total revenue. Net revenue in EMEA and Latin America was $24.3 million representing approximately 33% of totalrevenue and net revenue in the Asia Pacific region was $8.4 million,representing approximately 11% of total revenue.
Gross margin on a non-GAAP basisincreased to 78.7% in the second fiscal quarter, from 77.9% in the priorquarter, due to strong pricing and our product mix favoring higher marginproducts such as Blue Coat WebFilter. Although, we anticipate pricing pressurein the WAN Application Delivery market, which has not significantly impacted usat this point.
On a non-GAAP basis, operatingexpenses increased approximately $5.1 million to $46.3 million in the secondquarter. However, as a percentage of total revenue, operating expenses declinedby approximately 3%.
R&D expense increased byapproximately $1.5 million, but was essentially flat as a percentage of netrevenue. As we stated in last quarter, we expect R&D spending to continueto increase in absolute dollars. However, we intent to maintain R&Dspending as a percentage of net revenues, at approximately 15% of net revenues,for the remainder of the fiscal year.
Sales and marketing expenseincreased by approximately $3 million, but decreased approximately 2.4%, as apercentage of net revenue. The increase in the sales and marketing expense isconsistent with increased headcounts, to expand our sales force. In fact, thenumber of sales teams increased from 79 at the end of the first quarter to 87teams at the end of the second quarter.
G&A expense increasedapproximately $600,000 from the prior quarter, and was essentially flat as apercentage of net revenue. On a non-GAAP basis, the company reported net incomeof $12.4 million or $0.30 per diluted share in the second fiscal quarter of2008, compared to non-GAAP net income of $8.3 million or $0.21 per dilutedshare in the prior quarter. For purposes of calculating non-GAAP earnings pershare for the quarter ended October 31, 2007, our fully diluted shares wereapproximately $40.8 million reflecting the stock split that occurred on October4, 2007.
On a GAAP basis, the companyreported net income of $6.7 million or $0.17 per diluted share in the secondfiscal quarter of 2008, compared to net income of $2.6 million or $0.07 perdiluted share in the prior quarter. As a remainder, a reconciliation ofnon-GAAP to GAAP financial measures is included in today's press release.
Turning to the balance sheet, weended the quarter with cash, restricted cash, and short-term investments ofapproximately $152.4 million, representing an increase of $34.4 million fromthe prior quarter. Operating cash flow in the second fiscal quarter was $19.2million, compared to $12.1 million in the prior quarter. Capital expenditureswere $1.4 million for the first fiscal quarter, and depreciation andamortization was $1.8 million. In addition, the net proceeds from the issuanceof common stock, primarily as a result of the exercise of stock options,totaled approximately $16.4 million.
The accounts receivable balanceincreased to $40.3 million due to the increase in revenue. DSO's declined to 45days at the end of the second fiscal quarter. The net increase in deferredrevenue was $8.6 million from the prior quarter. Included in that net increasewas approximately $1.7 million, which was associated with ratable revenuerecognized on the Blue Coat WebFilter. Approximately $6.8 million of deferredrevenue related to WebFilter subscriptions remains.
During the second quarter, the42,060 convertible preferred shares held by Francisco Partners and SequoiaCapital were converted into approximately $4.8 million common shares. There areno longer any preferred shares outstanding.
Turning to our guidance for thethird fiscal quarter of 2008 ending January 31, 2008, the company currentlyanticipates net revenue in the range of $78 million to $81 million. On anon-GAAP basis which excludes the amortization of intangible assets,stock-based compensation expense and expenses associated with our stock optioninvestigation, earnings per share is expected to be $0.31 to $0.35 per dilutedshare. For planning purposes, we are currently forecasting a tax rate of 5% forthe remainder of fiscal 2008.
As of the end of the secondquarter, the valuation allowance was applied against substantially all of thecompany's net deferred tax assets. Due to the company's continuedprofitability, we may need to reverse that valuation allowance in the future.This reversal will cause a significant non-cash increase in earnings in theperiod if the reversal occurs. Subsequent to the reversal of the valuationallowance, we are anticipating a higher effective tax rate of approximately 30%on an accrual basis. As it is uncertain when it might be necessary to reversethe deferred tax valuation allowance, we are using an effective tax rate of 30%for fiscal 2009 planning purposes. We expect the cash basis tax rate to lag theaccrual basis tax rate for several periods.
Now, let me turn it over to Brianfor his perspective on the quarter and our business, going forward.
Brian Nesmith
Thank you, Kevin. Good morningeveryone and thank you for joining us at the start of this holiday season. It'sbeen another good quarter for Blue Coat. We can attribute this primarily to ourcontinued momentum in the WAN Application Delivery market. We saw our WANApplication Delivery solutions grow from approximately $26 million bookingslast quarter, to over $34 million in bookings this quarter.
During the past year, we havehighlighted that we see our traditional market for Gateway Security productsmerging with our WAN optimization functionality into a new market called WANApplication Delivery. It is getting increasingly difficult for us to break outrevenue into one category or another. The majority of the WAN ApplicationDelivery bookings this quarter included some significant security or policycapability. A fair amount of our security customers use our platform for morethan security to help accelerate their business critical, internet-basedservices and applications.
Are we a security company withacceleration or WAN optimization company with security? Clearly, we are bothand our customers are buying our products for the combination of thisfunctionality. Because of this, we do not intend to break out the bookings,going forward, and we guide investors to look at our overall revenue growth toindicate how well we are doing in the WAN Application Delivery market.
Over a year ago, when we enteredthe market, we highlighted that WAN optimization would evolve from a tacticalissue related to application performance between data centers and remote branchlocations, to an overall solution for security and acceleration at businessapplications. Corporate trends around the centralization and web applicationenterprise caused significant performance segregation, where some applicationscan take a minute or more to respond, rendering the applications essentiallyunusable.
Today, the WAN infrastructure isa strategic consideration when enterprises deploy applications and allow [WAN] optimizationsolution is a key part of their WAN infrastructure. As enterprises become morevirtualized, services beyond acceleration become important. If a missioncritical application travels across the WAN, it is essential to assure theintegrity of that application and to control who uses it, and how it is used.Additionally, many customers are using their internet as their WAN and requiresecurity as a part of their direct to the net architectural solution. Theserequirements are best addressed by moving beyond WAN optimization to WANApplication Delivery.
First, WAN Application Deliverymust cleanly fit within the enterprise network, including everything fromauthentication to routing, network monitoring management and security. It mustscale to reach all of the enterprise locations, often up to hundreds of sites.Second, the solution must provide intelligence in controlling the network. Thisrequires two key competencies, the ability to identify and understand users andapplications, and their ability to control the interactions between them.Third, WAN Application Delivery requires the ability to manage the full rangeof business applications. This includes enterprise video and encryptedapplications. It is becoming increasingly important for an enterprise to beable to distribute video throughout the organization, both live and stored.
We have seen a substantialincrease in customer requirements for video delivery. It also includes theability to see and manage or accelerate what would otherwise be invisibleSSL-encrypted traffic. This is especially important with the rise of softwareas a service, where enterprise is dependent on externally hosted software thatcommunicates across the internet using SSL encryption.
And finally, something we havetalked about in the past, WAN Application Delivery includes the ability toexpand application delivery to remote employees, regardless of the location. Inanother words, it's the ability to provide web security and forced corporatepolicies and accelerate business-critical applications, using a software-basedclient that can be loaded on employees' laptop computers.
We continue to evolve ourproducts and technology. For instance, just yesterday, we announced ExtendedAuthentication for our ProxySG Appliance. It is already well recognized for thevariety of authentication systems it supports and the richness and flexibilitythat out-manages those systems. Yesterday's announcement describes how we areexpanding both the types of authentication we support and the way we manage it.
Authentication, as you may know,is the processes of verifying a network user's identity. Verified identity isessential to grant or limit access to certain applications, determine networkpriority and bandwidth, assign group membership, and apply other permissions orcontrols. Knowledge of the user is important for web security and controldeployments, but is also important for WAN Application Delivery.
Authentication enablesacceleration or prioritization of traffic to be performed, based on theindividual or the group to which the individual belongs, as well as the type ofapplication the individual is using. Different individuals or groups will havedifferent privileges and levels of access. A salesperson in a branch office,for instance, may have a higher priority than a staff marketing employee, inaccessing the company's centralized Customer Relationship Management system.
Last week, we announced ourparticipation in SAS Partner Program. Together with SAP, we have conductedjoined testing using ProxySG Appliances to accelerate SAP applications acrosssimulated WAN environments, and witnessed dramatic performance results of up to97 times faster response time. In addition, only ProxySG Appliances can exceedand accelerate transactions using SSL encryption and SAP saw this as animportant differentiator.
It is clear that the market isevolving and the customers are demanding more robust solutions to accelerate,secure and manage their enterprises. Yesterday's WAN optimization is no longergood enough. WAN Application Delivery is the stage of the market today. Webelieve that we have a considerable advantage in this new and still evolvingmarket, and we believe that we are well-positioned to meet the new marketrequirements with a superior solution to ProxySG Appliance. I think probably asimpler way of stating this is to remember Blue Coat stops the bad, andaccelerates the good.
Again, I would like to thankeveryone for listening in today, and I'll turn the call back over to Carla.
Carla Chun
Thank you, Brian. That concludesour prepared remarks this morning. We will now turn the call over to Ken forquestions.
Question-and-AnswerSession
Operator
Great, thank you very much. (Operator Instructions) And ourfirst question, then, this morning comes from the line of Ryan Hutchinson withWR Hambrecht. Please go ahead.
Ryan Hutchinson - WRHambrecht
Good morning. Congratulations on the quarter and the guide.A few questions here. Can you talk to the pipeline for the WAN optimizationbusiness at the end of the quarter?
Brian NeSmith
I know we recently talked about it in some detail. We don'tthink--we've basically started--I don't think we're going to keep breaking thatout. So, we look at the overall pipeline which was better from what we have,but I actually don't know the exact number. I think we tried to highlight inthe call, Ryan, that there is something, it's worth understanding here, it'sgetting more difficult for us to just classify something in one category oranother.
Ryan Hutchinson - WRHambrecht
Understood, but I am assuming it's certainly north of the$100 million you highlighted on last quarter's call?
Brian NeSmith
Yes, it is.
Ryan Hutchinson - WRHambrecht
Okay. In terms of the financial exposure, can you talk towhether or not that negatively impacted you in the quarter, or do you expect itto, in the coming quarter…and perhaps, just provide maybe, a general sense ofthe exposure you have to that vertical?
Brian NeSmith
I assume what you are talking about is just everything goingout with the sub-prime market…
Ryan Hutchinson - WRHambrecht
Correct.
Brian NeSmith
…and everything around that area. One thing, I think that'sworth highlighting is--one is that, we don't have, financials are good segmentfor us; and even this last quarter, we saw a fair amount of activity with somelarger financial services firms. So, I am not, we haven't seen as much of afall out related to that activity around that area. That being said, we alsoare not in any way concentrated, I guess, with financial services. We do a lotof business outside of the financial services sector and government,healthcare, pharmaceuticals, manufacturing--you name it--just about everysegment.
The other, I think, very relevant piece to is that, oursolutions, for a number of customers can be justified from a standpoint ofReturn on Investment that can be measured in a matter of months, which meansthat, in a lot of cases, we are actually at cost saving solutions for a lot ofthose customers. So, I am not going to say that we're immune to what's going onthere, it is, clearly, we are not, but we haven't seen anything that would,first of all, as our exposure to that market and as far as our forecast for ourbusiness going forward.
Ryan Hutchinson - WRHambrecht
Okay. And then in terms of the MACH5 Edition that youunveiled recently. Can you talk about the pricing compared to the core proxyoffering and the interest levels to date, and even more importantly, perhapsthe uptake in any early successes there?
Brian NeSmith
The price difference between the MACH5 Edition and the Proxyedition of the ProxySG ranges anywhere from 25% to about 40%, last hitting onthe actual platform. What happens, as we use the MACH5 Edition, in a lot ofcases, as part of the bidding process, and explain to customers that when theywant to do an apples-to-apples comparison of our product to one of ourcompetitors products, that the MACH5 Edition it's pricing is more appropriate.But what ends up, what the customer ends up purchasing in the majority of cases,we've seen so far, as a lot evaluation occurs around the MACH5 Edition, andthen for reasons of around design some other piece of functionality, a goodmajority of the customers still under purchasing the proxy edition, I think inthe last quarter, I've said the amount of uptake we saw in the MACH5 Editionwas nominal, at best. It wasn't a huge amount of volume in the quarter, and Iwouldn't expect it to be a lot of volume going forward as well. A lot of it isabout the selling dynamic and allowing us to do a more apples-to-applescomparison to our competitors.
Ryan Hutchinson - WRHambrecht
Understood. And then, finally, one for Kevin. Jus… on theboth-- the gross margins and the operating margins came in well ahead ofexpectations. First of all, I just wanted to get a better understanding how weshould think about gross margins over the next couple of quarters. And then,obviously, the operating leverage is surfacing here but how should we thinkabout that from an investment spend perspective over the next several quartersas well? And that's it for me, thanks.
Kevin Royal
So, I think from an operating expense standpoint, we'llcontinue to improve our operating expense as a percentage of net revenue. Asfar as gross profit, we did have a very strong gross profit in the quarter andwe had expected when we forecast the quarter to encounter pricing erosionrelated to the WAN Application Delivery market, we did not encounter that inthe quarter. But we do expect gross profit margins to be slightly down fromwhat we reported in the second quarter and for our modeling purposes, we areusing gross profit of 77.5%.
Ryan Hutchinson - WRHambrecht
Okay, great. Thank you.
Operator
Thanks. And our next question that comes from the line ofSamuel Wilson with JMP Securities. Please go ahead.
Samuel Wilson - JMPSecurities
Good afternoon, everyone. Also, just a few very smallquestions. Two for Brian, can you describe the overall WAN optimization marketin the sense that are, bluntly asking, is the market accelerating,decelerating? And what your sense on the overall growth--more customeractivity, the same amount that you saw maybe 90 days ago, or six months ago?
Brian NeSmith
I think it's probably a little bit of an acceleration fromwhat we saw last quarter. I wouldn't say substance so. The activity level isincreasing for us, especially in the larger enterprise environments, and as weget better known for solutions in the space, I would say there is slightacceleration.
Samuel Wilson - JMPSecurities
Awesome. And then, do you know if any changes in the marketbetween the domestic market versus the international market?
Brian NeSmith
I don't, nothing that I can think of that, but standout,there is nothing like that I think of, Sam.
Samuel Wilson - JMPSecurities
Perfect. And then, just one for Kevin, just what'sheadcount, I missed it?
Kevin Royal
See, we added 62 during the quarter, bringing our regularfull time headcount to 815. We also had 30 temporary and contract employees atthe end of the quarter. So, our total headcount in the quarter was 845.
Samuel Wilson - JMPSecurities
Thank you so much. Great quarter, gentlemen.
Operator
Thank you. And our next question then comes from the line ofDave Duley with Merriman Curhan Ford. Please go ahead.
Dave Duley - MerrimanCurhan Ford
Yes, congratulations on a nice quarter. First question fromme is, similar to the question that the person just asked, on the WANoptimization front, it seems like the growth of the business there is slowing abit, and clearly your competitors are, its growth rate slow, and I waswondering if you might talk a little bit to about the trends that you areseeing in that respect?
Brian NeSmith
I am not sure, I would agree that I think that the market isslowing. I think its clear the market is getting is more competitive, and Ithink that we're a big contributor to that equation for a lot of companies inthat space. There are a lot of people interested in this technology, a lot ofthe purchases that we're seeing are growing larger, which means that, peopleare doing more thorough evaluation, but I don't see a slowdown in the overallspace that we're playing out the WAN application delivery, and I see a lot ofactivity, and if anything from our standpoint actually, we just probably seethe activity strengthening not weakening.
Dave Duley - MerrimanCurhan Ford
So, in regards to Riverbed, who has a much different channelthan you do, and it seems like you have an advantage of, so to speak, miningthe current customer base that you have on the security side and is thatproviding you with a large bundle of business to attack, whereas yourcompetitor who has clearly seen its grow slow was up 25% and it was up 17%,they guided only up to 10% sequentially. Is that a matter of the customer basethey are serving and the channel they are serving as to why your growth looksdifferent than theirs?
Brian NeSmith
I can't totally speak to it, what's driving, thefundamentals of their company. What I do know from our standpoint is that, itsoften times of struggle to get the right balance for how much you invest in thebusiness for future growth versus how much you drive for profitability andstriking the right balance for that when you are in a higher growth situationis a challenge for any company, and we've clearly lived it in our past history.I think, in a lot of the cases here, we've seen a lot of the opportunity wemade investments several years ago. We continue to make investments in a waythat I think, can fund and drive that sustained growth.
We also, I think, are a bit different than the pure play WANoptimization vendors in that with the CDN video streaming capabilities, withthe ability to accelerate encrypted traffic and all types of encrypted traffic,not just the ones that you can control the certificates and the security andthe policy capabilities, they were not purely a vendor that's aboutacceleration. And so, I think that also creates a bit of different dynamic inwhat we're doing.
We bring up, I think, a broader solution than a lot of ourcompetitors in the WAN optimization space. And so, we are not entirelydependent upon our value propositions of simply just accelerating businessapplications.
Dave Duley - MerrimanCurhan Ford
Okay. One question on the margin front, I believe, in thequarter that we just reported, you were guiding margins down and margins cameup and up, and I've seen, to recollect that when you are guiding margins downyou thought you would see some price pressure when you introduced the MACH5kind of WAN only optimization product. And so, you are thinking there was thatmargins will go down. Clearly, the mix of business and the margins didn't godown. So, I was wondering what kind of is the surprise factor here, how come,so to speak, you are not seeing the margin pressure that you anticipatedinitially?
Brian NeSmith
A couple of things. One is, I think that--I think, doing alittle bit better than we expected with Blue Coat WebFilter, which obviouslyhas a good positive impact on margins. The other part, two is, with theintroduction of MACH5 Edition. What we didn't, and we still, I'm not sure havea completely good idea of what's going to happen, but we didn't expect is thatthe customers that we were selling WAN optimization to, as we were doing anapples-to-apples comparison to our competitors MACH5 Edition-- a substantiveportion of those customers actually bought proxy edition, which means that thelower price products and lower margin products didn't have as a big an impactas we might have expected during the quarter. We still, I think, there is a bitof uncertainty around that, and as we go forward there's still going to be afact on what we are doing. And obviously, as part of our sales process, weencourage our customers to make the upgrade to fully loaded product and all thevalue that it brings. But that's the part of the factors that are helping drivethat gross margin.
Dave Duley - MerrimanCurhan Ford
So, kind of, to say it another way, you thought you'd havean uptake on a lower margin product that secure WAN only and they are choosingthe kind of Combo products that has higher margins and some more differentiatedproducts for yield.
Brian NeSmith
That, and I think the Blue Coat WebFilter, yes.
Dave Duley - MerrimanCurhan Ford
Okay. Final thing from me. Can you maybe update us on yourtarget model, do you have any update there as to what levels of revenue toachieve that target model or anything around that?
Kevin Royal
So, the target model in the near term is 20% operatingprofit, long-term would be 25% operating profit, and we have not in the past,and where we today give a revenue level and when we expect to achieve that.
Dave Duley - MerrimanCurhan Ford
And what near term means within a year then?
Kevin Royal
Again, Dave, we don't give a timeframe on that or a revenuelevel.
Dave Duley - MerrimanCurhan Ford
Thanks.
Operator
Thank you. And our next question then comes from the line ofJonathan Ruykhaver with ThinkEquity Partners. Please go ahead.
Rajesh Ghai -ThinkEquity Partners
Hi, this is Rajesh Ghai, for Jonathan. Congratulations,again. One question on the competitive landscape. Are you still seeing thelikes of Riverbed, Cisco in most competitive situations or…
Brian NeSmith
No, I am sorry.
Rajesh Ghai - ThinkEquityPartners
And also just wanted to know what your win rates were in thequarter?
Brian NeSmith
I don't think the competitive dynamic has changed much; itsCISCO and Riverbed and, to some extent, Juniper and what we're seeing in themarket. I think our win rates are staying fairly consistent with what we'veseen before. I actually don't know the exact numbers, I didn't calculate inthis last quarter in any kind of detail, so I couldn't tell you that, but Ihaven't seen as much of a change from over the last couple of quarters.
Rajesh Ghai -ThinkEquity Partners
And in terms of RFP activity, are you seeing an increase inthe combined solution requirement in terms of WAN optimization of security orare you kind of seeing no change?
Brian NeSmith
We as a company, even when our customer asks for a pure WANoptimization solution, a pure WAN optimization solution will as part of oursales activity try to show the customer how some of the other valuepropositions can affect their enterprise. So, even when the customers arebuying pure WAN optimization, we tend to work pretty hard to turn that into abroader WAN Application Delivery sale, and are generally, fairly successfulwith that. And so, I would say that, I don't actually know and couldn'tdelineate what we see from customers when they are asking for pure WAN-opversus something broader and the original request. It's a little blurry for usto be able to tell that because our sales people, even in the initialqualification will start talking about some of the capabilities and will muddythe waters there and drive customers, and helping them to understand that ifthere is a broader set of capabilities available for them in this market. Andso, I would say in general, I don't know if we could answer that questionspecifically and it's mainly because we focus on the broader solution set.
Rajesh Ghai -ThinkEquity Partners
Okay, thank you so much.
Brian NeSmith
Thank you.
Operator
Thank you. And our, I am sorry, please go ahead.
Brian NeSmith
That's all for me, thank you.
Operator
Okay. Great, thank you. We're going to go then to a questionfrom the line of Erik Suppiger with Signal Hill. Please go ahead.
Erik Suppiger -Signal Hill
Good morning, congratulations.
Brian NeSmith
Thanks, Erik.
Erik Suppiger -Signal Hill
First of, can you give us a little more color in terms ofthe size of deals you are wining on the WAN Application Delivery. You talkedabout getting some better success within the enterprise. Can you give us afeeling for where some of your largest deployments are at this point?
Brian NeSmith
I think in the last quarter, we had a one or two north of amillion, we had several in kind of 250 million to a 1 million range in a bunchand that kind of 100K to 300K range. So, they tend to be a bit bigger than ouraverage on the gateway side of the business probably by a factor of two orthree on average.
Erik Suppiger -Signal Hill
Yeah, and for the ones that are $1 million, how many unitswould that be?
Brian NeSmith
Just thinking through the two lines I know of exactly, oneof them I think is roughly around 80 units and the other one's a little bitnorth of just under a 100 units.
Erik Suppiger -Signal Hill
Okay. And how far along are those early in the rollout phaseor is that the majority of the rollout or how big are the potential on some ofthe big deals you are working on?
Brian NeSmith
Those in particular, that's probably their entire rolloutother than, they are not doing anything with the client at this point in timebut that's probably from there for the two that we just talked about it, that'sprobably the majority of their rollout. Customers, they are all over the map asto whether they do a small purchase upfront and then buy overtime where theybuy in both upfront.
Erik Suppiger -Signal Hill
Okay. And on the hiring front, you added a good number ofsales people. What is the environment right now, there is seems to be a lot ofhiring across the board? What availability are you seeing out there in terms ofhiring?
Brian NeSmith
As far as hiring sales people or hiring in general?
Erik Suppiger -Signal Hill
Sales people, in particular, but comments on the others isgood too.
Brian NeSmith
Yeah, so far I would say we're seeing a lot of good activityaround hiring sales people right now. In general the market, there is lot ofattractive people that I think have the profile for what we are looking for.More broadly speaking, I think that hiring in the Valley is getting a littlebit more interesting in the last six months from the standpoint of talent iscompetitive. Given that we have R&D facilities outside the Valley, we alsodo a fair amount of hiring there. So that relives somewhat of the pressure thatwe see in that area but nothing like we saw on the bubble days, that's forsure.
Erik Suppiger -Signal Hill
Okay. And then lastly Kevin, What WebFilter, how muchrevenue from the deferred revenue for WebFilter are you expecting in the nextquarter?
Kevin Royal
I think in the third quarter it will be about a $1 million.
Erik Suppiger -Signal Hill
So, it will go from the $1.7 million down to a $1 million.
Kevin Royal
That's right
Erik Suppiger -Signal Hill
And what would you expected to do after that?
Kevin Royal
After that it will trail slowly up over the next fourquarters. It won't be a meaningful contribution to revenues in our fiscal year2009.
Erik Suppiger -Signal Hill
Okay, Very good. Well, congratulations. Thank you.
Operator
Thanks. And our next question then comes from the line ofJosh Jabs with Roth Capital. Please go ahead.
Josh Jabs - RothCapital
Hi, good morning. Can you give us a sense of the mix ofMACH5 sales to the legacy Blue Coat and NetCash customers versus new customers?
Brian NeSmith
I can't, I'm thinking whether I can, I couldn't tell you anyspecial mix. I don't quite think of it that way. I know we sold some to thesome of NetCash customers and a fair number through out install base, so there is no specialconcentration there.
Josh Jabs - RothCapital
Okay. So, you are not, I mean, I'm thinking may be not lastquarter but then in previous call you kind of said that, it was may be even50-50 to new customers versus legacy customers?
Brian NeSmith
Yeah, I think we're probably falling into, probably, asimilar ratio to the volume of the installed base. We look at the NetCashcustomers as almost similar to the way we look at our installed basedcustomers. And so…
Josh Jabs - RothCapital
I am sorry Brian. I mean, if I include NetCash with thelegacy Blue Coat customers, so, all that -- consider that your installed baseversus customers outside of that installed base, well that's actually theratio, I'm looking for?
Brian NeSmith
Okay. That part, I couldn't tell you the exact number butjust to off the cut estimate, it's definitely like two-thirds or more orprobably installed base.
Josh Jabs - RothCapital
And how far would you say yours is a process of have beeninto that installed base?
Brian NeSmith
Not heavy into it yet.
Josh Jabs - RothCapital
Okay, that's helpful. And then, on the book-to-bill on theWAD side versus the legacy product sales, are there any real differences there?
Brian NeSmith
Not really, our business -- that is our business. So to someextent you can look at the WAD business and our, the overall company isevolving into being exactlythe same sort of business.
Josh Jabs - RothCapital
Okay. And then Kevin, can you repeat the WebFiltercontribution in the quarter?
Kevin Royal
Yeah, the WebFilter contribution in the quarter was about$9.4 million.
Josh Jabs - RothCapital
Okay. And then, last one here, Kevin you said you'remodeling 77.5% sort of in your own projections?
Kevin Royal
Right.
Josh Jabs - RothCapital
On the gross profit side--is that for next quarter? Did yousay that sort of sustainable may be in near term over the next few quarters?
Kevin Royal
That's only for next quarter. We only give guidance for onequarter at a time.
Josh Jabs - RothCapital
Okay. So, I mean, to be safe, if pricing pressure does comeinto play at some point here, I mean, can we still look sort of back at thetype of margins that you've had on appliances in the past as being sustainable,so it may be slightly better than that given you sign additional software asmodule here? I mean is it a 76%, 75% model long-term, where do you see thatbreakdown?
Kevin Royal
It's difficult to determine given that we're talking aboutprice competition. We've modeled it several different ways. Last quarter, wethought we end up around 76%. So, it is difficult and as we get visibilitywe'll, of course, give insight as that's available.
Josh Jabs - RothCapital
Alright, good quarter. Thanks guys.
Operator
Thank you. And our next question then comes from the line ofRohit Chopra with Wedbush Morgan. Please go ahead.
Rohit Chopra -Wedbush Morgan
Thank you. I just had heard during the quarter that thesales cycle had begun to extend just a little bit. Have you seen anythingsimilar to that? Some people have told me that 30 to 60 days things havechanged a little bit out there?
Brian NeSmith
I haven't seen any change in and what's going on as far assale cycle.
Rohit Chopra -Wedbush Morgan
Okay. And can you tell me what the linearity was like in thequarter?
Brian NeSmith
I think the linearity was fairly normal. It wasn't reallyimpacted in the quarter.
Rohit Chopra -Wedbush Morgan
And the other thing I wanted to ask is that, there isRiverbed talks a lot about their client and I remember coming to your officesand there was a demo of the client, have you noticed that people are actuallydemanding that as a part of the product that you are selling, is that part ofthe sale?
Brian NeSmith
I think there are two parts to that; two answers to thatquestion. The first is, for the customer that is definitely looking forsomething to deal with a desktop solution, it's absolutely a big deal. And inthat situation, very important that we provide that capability and wedemonstrate that to the customer.
And we're continuing to make investments in thefunctionality and capability of that product, both on the acceleration and thesecurity side from a functionality perspective. But the other part, I think is,even for the customer that is not looking for a client right now, it is acheckbox feature for a lot of those customers to know that they are protectedat a point in the future that they may need a client, and knowing that weprovide that, I think, as a big part of enablement of our core ProxySGbusiness, we're selling boxes to those remote brands locations. So that most ofthose are factors in the equation.
It's still, and I think I have said multiple times, I viewthe client as more a feature than I do something that's going to enable a lotof future revenue, and it enables revenue from the standpoint of helping ourcustomers by more of our ProxySGs. But the client is an essential part of thesolution, but not one that I think that's going to be a big driver ofincremental revenue.
Rohit Chopra -Wedbush Morgan
Lastly, there were a couple of companies in the quarter whoreported, who had indicated where they wanted to go with their WAN products, isthere anything you see that you need to be doing to augment it's capabilitiesover the next six or twelve months something that's not there for example?
Brian NeSmith
Rohit, there are incremental features that we want tocontinue to add, so it's not a static place from a standpoint of newfunctionality. There is both acceleration features and security features. Andyou look on a security side, we're definitely seeing a lot of activity aroundWeb 2.0 software as a service, a variety of different things in that area onthe acceleration side of things. There is a lot of functionality around newtypes of applications, challenges what Microsoft protocols. There is also a lotof incremental work on our part around the SG client and features andcapabilities that we're adding in the product, as well. So, I don't know if youare alluding to, if there was something that we need to acquire from atechnology standpoint or do we feel like how competitive our product is, and Iam not quite sure, what the gist of your question is going.
Rohit Chopra -Wedbush Morgan
It was more of just functionality. I mean, you could answerit any way you wanted to.
Brian NeSmith
Okay.
Rohit Chopra -Wedbush Morgan
Thank you. I appreciate it.
Brian NeSmith
Yes.
Operator
Thanks. And our next question then comes from the line ofScott Zeller with Needham & Company. Please go ahead.
Scott Zeller - Needham & Company
Thank you. I wanted to ask about the tax rate change thatyou had mentioned. It sounds like, we maybe modeling this on a ramp-up basisthrough fiscal '09, but not unlikely going to 30%?
Brian NeSmith
That's right, in fiscal '09….
Scott Zeller - Needham & Company
Fiscal '09--ramping to finish fiscal '09 around 30%?
Brian NeSmith
That's right.
Scott Zeller - Needham & Company
Okay. And then, Brian, on the competitive landscape. Youknow, we've heard the other names, but could you tell us, though, when you lookat all of the deals, how many of them are uncontested, just a roughguesstimate, is it like 30% or any idea?
Brian NeSmith
It's at the lower end of our scale. I think the vastmajority of what we're seeing is our deals that are more contested than not.So, it's probably less than 25% that are uncontested.
Scott Zeller - Needham & Company
So less than 25%. Has that changed materiallyquarter-to-quarter?
Brian NeSmith
It's getting lower every quarter; that's not a big jump, butjust, I think, gradually going down to the fact where, I expect just we getanother year, I think everything will be contested.
Scott Zeller - Needham & Company
Okay. Then the last one is, if you, and this is just anotherguesstimates, you disclosed the bookings, I know for WDS, but could you tellus, just from your viewpoint as management, how many quarters, you now, believeyou had material actual revenue from MACH5 influence? Would you say we're threequarters into like noticeable revenue contribution or how would you estimatethat because we've heard about bookings, but as far as actual revenuecontribution?
Brian NeSmith
I think four quarters.
Scott Zeller - Needham & Company
Four quarters end for material contribution.
Brian NeSmith
Maybe five, but I think four.
Scott Zeller - Needham & Company
Okay. Thanks very much.
Operator
Thanks. And our next question then comes from the line of [Marianne Thornton] withSmith Barney. Please go ahead.
Marianne Thornton -Smith Barney
Hi, yes good morning. Thanks for the news this morning, andthe call and one of my questions has already been answered, and the second oneis, could you just speak briefly to geography of sales, and in particular ifyou see continuous exploration outside of North America?
Brian NeSmith
We've been making--I think we've highlighted, and this isprobably more related to Blue Coat than it is the overall macroeconomicmarket--that we've been making significant investments in Asia Pacific, andexpanding what we are doing in that region, and we've seen with that the growththat comes along with those investments, from a geography standpoint over thelast year, and probably the only thing that's distinct or unique. In general,in any one quarter, we will see a surge in a geography, as it gets averagedthat across a couple of quarters. It's generally consistent across all theregions coincident with the amount of investment we make in that region.
Marianne Thornton -Smith Barney
Okay. Thank you. I appreciate it.
Operator
Thanks, and at this time and we have no further questions inqueue.
Carla Chun
Great. Again, we would like to thank all of you for joiningus this morning on the call and I'd like to remind you that a replay of today'scall will be available at area code 320-365-3844 with the pass code 893289beginning today at 11:30 a.m. Eastern Time and an audio archive is alsoavailable on our website. We hope you have a great holiday and we look forwardto speaking with you again soon.
Operator
Thank you. And ladies and gentlemen, that does conclude ourconference for today. Thanks for your participation and for using AT&T'sExecutive Teleconference. You may now disconnect.
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