Netezza F3Q08 (Qtr End 10/31/07) Earnings Call Transcript

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 |  About: NETEZZA CORP. (NZ)
by: SA Transcripts

Netezza Corporation (NZ) F3Q08 Earnings Call November 28, 2007 8:30 AM ET

Executives

Deb Murphy - Vice President, Corporate Controller

Jitendra Saxena - Chief Executive Officer, Co-founder andDirector

James P. Baum - President, Chief Operating Officer, Director

Patrick J. Scannell - Chief Financial Officer, Senior VicePresident, Treasurer, Secretary

Analysts

Robert Semple - Credit Suisse

Kathryn Huberty - Morgan Stanley

Glenn Hanus - Needham & Company

Kevin Hunt - Thomas Weisel Partners

Nabil Elsheshai - Pacific Crest

Jeff Embersits - Shareholder Value Management

Chris Tuttle - Research 2.0

Operator

Good day, ladies and gentlemen, and welcome to the Q3 2008 Netezza Corporationearnings conference call. (Operator Instructions) On our call today thismorning will be Jit Saxena, Chief Executive Officer; Jim Baum, President and ChiefOperating Officer;

Pat Scannell, Senior Vice President and Chief Financial Officer.I would now like to turn the call over to Deb Murphy, Vice President andCorporate Controller. Please proceed.

Deb Murphy

Thank you. Good morning, everyone and thank you for joiningus on our second earnings release conference call as a public company. Jit, Jimand Pat will take you through our financial results for our quarter endedOctober 31, 2007, which is our third quarter of fiscal year 2008 and we’ll giveyou color on the trends in our business for the next quarter and for thebalance of the year.

Before I turn the call over to Jit, there are some importantpoints to cover. On this conference call, we will be referencing both GAAP andnon-GAAP financial measures. We provided GAAP and non-GAAP reconciliationinformation in the press release we issued this morning announcing our Q3results. The press release is available on the homepage of the investorrelations section of our website at www.netezza.com. The webcast of the callwill be archived in the same section.

In addition, a recording of the conference call will beavailable later today and will be available for two weeks. The replay can beaccessed by dialing 1-888-286-8010 for participants in the United States and bydialing 1-617-801-6888 for participants outside the United States. The passcodefor the replay is 49374446. This information is also included in the pressrelease.

Some of the statements made on this call will beforward-looking statements, including our comments on expected financialperformance, operating performance, the growth of our business and otherfinancial expectations. Actual results may differ materially from thoseindicated by these forward-looking statements as a result of various importantfactors, including those discussed in the risk factors section of our mostrecent quarterly report on Form 10-Q, which is on file with the SEC.

In addition, any forward-looking statements represent ourviews only as of today and should not be relied upon as representing our viewsas of any subsequent date. While we may elect to update these forward-lookingstatements at some point in the future, we specifically disclaim any obligationto do so even if our views change. Therefore, you should not rely on theseforward-looking statements as representing our views as of any date subsequentto today.

Now let me turn it over to Jit Saxena, our Chief ExecutiveOfficer, for his overview and commentary on the quarter.

Jitendra Saxena

Thanks, Deb. Good morning, everyone. I realize that it isreally very early in the morning for some of you on the west coast and weappreciate the fact that you have taken the time to join us on this call. Weare very pleased with our results for our third fiscal quarter. Based on whatwe saw during the last quarter and what we are currently seeing, I would liketo make the following comments.

First, demand from both our existing customers and from newcustomers continues to be very good.

Second, our pipeline for future business is very robust andour visibility in terms of our business is getting better. The macro factorsaffecting certain sectors of our economy have not had any impact on ourbusiness.

Third, we have continued to improve our value propositionand our price performance and cost of ownership is getting stronger.

Fourth, based on the strength of our pipeline, we havecontinued to aggressively invest in product development and in expanding ourdistribution channels.

Fifth, we continue to see evidence that the market for ourproducts and the applications in which our customers are deploying our productsare quite large and that the market segment that we have created is becomingmore mainstream.

At this point, I would like Jim Baum, our President and COO,to elaborate on several of these observations.

James P. Baum

Thank you, Jit and good morning, everyone. As Jit mentioned,we are very pleased by our fiscal Q3 results. During the quarter, we againexceeded our objectives and saw strong new customer wins, as well as key repeatorders from our installed base. We added 18 new customers in the quarter,notably the U.S. division of a major telecommunications provider, which usesour technology to optimize call routing and minimize carrier costs. We alsoadded one of the largest advertising agencies in Japan using our technology toperform audience rating analysis, and we added a large European online travelprovider, which performs customer analysis and segmentation to allow them tomore effectively target prospects.

We experienced large repeat orders from several existing clients,expanding our penetration into some of these key accounts as they expand theirdeployments to support new users and applications.

In each of our Q3 wins, we were able to beat our competitionbased on our key strengths. Our price performance remains strong, our systemsare substantially easier to deploy and administer, and our company is perceivedby our clients and prospects as an easy to do business with partner.

Let me comment on the market for a moment. We continue tobelieve that we are in the early innings in the business analytics space. Theanalytical applications that our customers and prospects deploy range incomplexity from what we would characterize as simple business reporting to nearreal-time operational reporting to more sophisticated analytics andoptimizations that are crucial to business decision making.

In every case, the first consideration to a successfuldeployment of such an analytical environment is the information infrastructureon which these applications are built. The keys to the suitability of thisinfrastructure lie in its ability to accommodate changing data and userprofiles, performance and of course, costs. The successful informationanalytics platform must be able to support the current and changing requirementsthat the trends in business analytics in fact demand.

Our confidence in our own ability to rapidly grow ourbusiness remains high as we see substantial differentiation from the largervendors in this space, especially in the context of the changing landscape andbusiness analytics.

In the case of what we would characterize as the traditionalenterprise data warehouse vendors like Teradata, or the new entrant from HP,Neoview, customers are forced to make a commitment to a very high-cost,mainframe like solution to their information infrastructure problem. Thesesystems tend to be large environments that promote the idea that all of theenterprise data must reside in a single large system that has been tuned for aspecific application. Many of these deployments require a great deal ofprofessional services to deploy, often as much as the cost of the productitself.

As a result, not only is the initial commitment high, theongoing cost to maintain these systems is also high, in terms of bothinflexibility and the human capital required for system maintenance.

Clearly the advantage that these vendors have once installedis that the switching cost is perceived to be high. This is an obstacle that weovercome through the proof of capability phase of our sales cycle, allowing usto complement or replace these systems, and often deploying our systems in newareas altogether, clearly a further illustration of the strength of our valueproposition.

In new application deployments or greenfield situations, it’sdifficult to convince a company to make a commitment of the magnitude in termsof both dollars as well as human capital required to deploy one of thesemainframe like systems, and we believe this may indeed be a significantinhibitor to the growth for these businesses.

In contrast, the Netezza solution with our $1.1 million to$1.5 million average order size solves the information infrastructure problemwith an incrementally scalable architecture that requires very little effort todeploy, creating significant time to value for our clients.

As an example, a specialty finance company in the U.S. wasable to evaluate, purchase and deploy a Netezza environment to support aproprietary scoring model for the evaluation of very large volumes of consumercredit data in under 30 days. This is something that’s just unheard of withtraditional data warehousing technology.

While our customers do experience a substantially lower TCOas a result of the minimal maintenance required to run our system, we see thatthe key drivers of this reduced TCO, namely the elimination of the need tospecifically tune our systems, provides the flexibility to support newapplications and new data easily, promoting the rapid deployment of our systemsand better supporting the changing analytical needs of the market.

Our recent announcements about the Netezza developernetwork, or the NDN, show the beginnings of a new set of opportunities toexploit our architecture into new application areas. Through this initiative,we’ve partnered now with over 50 technology providers and customers to enablethem to actually embed their analytical applications into our appliance. Thisgives them the ability to take advantage of the tremendous database priceperformance benefits of our platform and in effect bring that same advantage totheir applications now that traditionally sit outside the database.

We believe that this further extends our competitivedifferentiation by making Netezza's platform ideal for differentiating the fullrange of business analytics applications from simple reporting through complexalgorithmic optimizations.

As an example of this, one of the U.K.’s largestcommunications companies initially deployed Netezza to run call data recordreporting for regulatory compliance, network routing, and usage analysis. Thiscompany quickly then decided to migrate several more multi-terabyte data marksfrom Oracle onto Netezza to launch more applications.

As this progression of new applications has continued, theyare now embedding application capability from one of our NDN partners into ourappliance to bring game-changing performance to their ability to benefit fromadvanced price modeling and analysis on all of their call data records. Thisultimately provides them with bottom line savings and the ability to optimizetheir profits in ways previously unobtainable by this business.

The competition cannot easily mimic this experience, giventheir constraints with both the services intensive business model andtechnology. We believe that our approach will support the current and emergingneeds of the business analytics market and that it is highly accessible to thecompanies that drive their businesses on analytically based decision making.

Another market dynamic I would like to mention is the impactof the state of the financial services industry on Netezza's business. We havenot experienced any unexpected changes in our business in this vertical. Ourbusiness in financial services is primarily in the areas of compliance and highvolume transaction analysis. This fact has kept us relatively immune to theissues surrounding this vertical segment of the market. In fact, across allsectors we sell into, we’ve not seen any purchase delayed or deferred based onany IT spending pull back. As a result, we continue to invest aggressively inour distribution channel and product offerings.

I would now like to turn it over to Pat to have him take youthrough the specifics of the quarter and our outlook from Q4 and next year.

Patrick J. Scannell

Thanks, Jim and good morning, everyone. Let’s review revenuefirst. Revenue for the third quarter was $33.4 million, representing anincrease of 44% over the third quarter last year of $23.2 million and asequential increase of 18% from last quarter. Year-to-date revenue was $87.2million, or an increase of 65% over $53 million for the same period one yearago.

Product revenue increased 41% year over year and 19%sequentially, reflecting continued momentum in our business analytics appliancestrategy. Service revenue increased 60% year over year and 12% sequentially.One-hundred percent of our service revenue comes from the installed base,substantially representing annual maintenance contracts on the Netezzaappliance. Our experience has been that we get 100% attach rate with ourmaintenance contracts when we sell on appliance.

Forty-eight percent of our total revenue in Q3 came from theinstalled base, versus 53% a year ago and 47% last quarter. As Jim mentioned,we secured 18 new customers this quarter, up from eight new customers in Q2, sothe total number of new customers year-to-date are 40 new customers versus 28through three quarters of last year. And the average deal size this quarter wasin the range of $1.1 million to $1.5 million.

As we have said time and time again, the ebb and flow of ournew customer acquisition rate will vary from quarter to quarter but it doesrepresent a key indicator for the longer term growth of our business. Ourexperience has been that the recurring revenue from the installed basecontinues to be a growth engine for revenue, a leverage factor in reducing ourcost of sales with shorter sales cycles, and an excellent visibility metric toour longer term forecasts.

Geographically, 83% of our business was generated in theU.S. and 17% internationally in Q3, versus 80% in the U.S. and 20%international a year ago. We expect that this will be in the range of 75-25U.S.-international over the next year as we continue to expand into newinternational markets. Today we operate in seven countries with 29 personneldeployed internationally with four additional staff targeted to join us inthis, our fourth quarter.

Our products were deployed in 10 separate vertical marketsthis quarter versus the same number of vertical markets a year ago. We had twoverticals that each represented more than 20% of the revenue this quarter,e-business and telecommunications. As we have said, we continue to see wideadoption of the Netezza appliance across a variety of vertical markets withexcellent diversification.

At the end of the year, we expect that no one verticalshould represent more than 25% of our business for the year.

We have 33 quota carrying teams in addition to our resellersand analytical service providers. We have commitments from six new salespersonnel for our fourth quarter and are targeting to have 40 quota carryingteams on board by the end of this fiscal year. Our plan is to continue to buildboth the direct and the indirect channels, adding an average of three to fivedirect quota carrying sales teams each quarter, while maintaining one of thehighest standards of performance in the industry for our direct salespersonnel.

We had two customers that each accounted for more than 10%of the revenue for the quarter, one from the e-business sector and one from amajor telecom account. For the year, we do expect one customer to account forslightly more than 10% of our business when you look at our business over thecourse of the year.

Now I am going to turn to gross margins and our operatingexpenses. As a result of the feedback that we’ve received from many of you, Iwill be speaking mostly in non-GAAP terms. The non-GAAP numbers all excludestock-based compensation and accretion of preferred stock dividends. Because ofthe varying valuation methodologies and assumptions that companies use underFAS-123R, we believe that excluding non-cash stock-based compensation allowsinvestors to analyze our recurring business over multiple periods and providesmore meaningful comparisons with other companies.

Upon the closing of our initial public offering, theaccretion of preferred dividends was no longer applicable due to the conversionof our preferred stock to common stock and is therefore excluded again inaiding to compare current and future operating results with those of pastperiods.

For a reconciliation of non-GAAP to GAAP results, pleaserefer to our earnings release which can be accessed on our website.

Now, specifically gross margins; on a non-GAAP basis, we reporteda blended gross margin of 60%, combining our product margins of 59% with ourservice margins of 68%. On a GAAP basis, blended gross margins were 60% withproduct margins of 58% and service margins of 68%.

For the same quarter one year ago, we reported non-GAAPgross margins of 59%, with 58% product and 62% service. On a GAAP basis,blended gross margin was 59% with product margins of 58% and again servicemargins of 62%. You can expect that these margins will continue to blend in atthe 60% level on both GAAP and non-GAAP basis as we continue to grow ourbusiness.

Margins are impacted by a number of factors, includingmaintaining inventory at the lower cost of market, discounting, and in thelevel of investment that we make in our support resources.

Turning now to operating expenses, and again the remainderof this income statement discussion is now on a non-GAAP basis, we had totaloperating expenses of $18.3 million, which was up from $14.8 million a yearago, or an increase of 23%. The company is operating with 254 personnel at theend of Q3, up from 212 a year ago.

Sales and marketing expenses increased 17% year over year.Approximately 70% of this increase is due to employee compensation, whichincludes higher commissions on record revenues this quarter.

R&D spending increased 15% year over year. We have 90personnel in R&D, in addition to the investment that we have in Pune, Indiawhere we have contracted for the equivalent of 56 personnel that are dedicatedto the Netezza solution.

G&A expenses increased by 128% year over year. Sixty-sixpercent of this increase is related to the additional costs of being a publiccompany; in particular, incremental audit fees, tax planning fees, as well ascosts associated with consulting related to SARBOX compliance. An additional16% of this increase is the result of additional headcounts to support theinfrastructure of a public company, growing from 17 heads a year ago to 22heads today.

Moving on to operating income, our operating margins were5.7%. It was $1.9 million for the quarter, up from a loss of 5.1%, or $1.2million loss a year ago.

We saw four points of operating margin improvement, or callit leverage improvement in our model from last quarter, and that leverage came-- three points of that leverage or improvement came from R&D, two pointscame from sales and marketing, and it was offset by one point in G&A, whichwas the incremental investment as we previously discussed, due to theinvestment we made in our public company infrastructure.

We will continue to experience operating leverage in ourmodel consistent with our ongoing guidance of at least generating one to twopoints of operating margin improvement in our operating margin at the pace ofevery six months.

The non-GAAP net income for Q3 was $2.9 million and non-GAAPEPS was $0.04 on a diluted weighted average share count of 63.8 million shares.Our prior year non-GAAP loss was $1.2 million and a non-GAAP EPS loss of $0.08on a diluted share count of 14.7 million shares.

Our effective tax rate for the quarter on a non-GAAP basiswas 9% and on a GAAP basis was 15% and was comprised of [inaudible] tax,foreign taxes and state taxes for those states where we have no net operatinglosses.

Turning now to the balance sheet, we exited Q3 with over$123 million in cash, cash equivalents and investments, up from $117 million onJuly 31st, our last quarter. Cash flow from operations was $7.7 million for thequarter, compared to cash used in operations of $400,000 a year ago. Capitalexpenditures in the quarter were 360K. Accounts receivable ended the quarter at$23.2 million with DSOs of 60 days. Our target DSOs remain in the 75 day range,even though we had the benefit of some early payment from some customers overthe last two quarters.

We ended the quarter with $33.7 million of inventory, upfrom $18.8 million a year ago and relatively flat from last quarter of $33.2million; $18.1 million -- of the 33.7, $18.1 million was finished goodsinventory ready for customer shipments and roughly $14 million was ourproof-of-concept inventory, which is deployed at customer sites and in ouroffices. All of this inventory is current and saleable as we constantly rotatesystems through to ensure that we are maintaining our inventory up to currentrevs and specs and accounting for this inventory at the lower of cost [to ourmarket].

Inventory turned at the rate of 3.2 times this quarter andyou can expect that our inventory turn will fluctuate between three and fourtimes.

We ended the quarter with $46.3 million of deferred revenue.Approximately $31 million is made up of deferred maintenance revenue,maintenance renewals for our prepaid maintenance and support contracts, and thebalance is deferred product revenue where we have further obligationsassociated with future product deliverables.

We expect the majority of this $14.4 million of productdeferred revenue will turn to revenue over the course of the next three to ninemonths, as we complete the delivery of all products that have been ordered.These product deferrals are a normal part of our business and will vary fromtime to time.

Now I would like to spend a few minutes addressing guidance.As we have indicated to the market, our intention is to give annual guidancewith quarterly updates with the exception of these first two quarters where wewill give quarterly guidance on certain line items on the P&L. As I’ve saidbefore, this is an effort of letting you get to know us and us getting to knowyou.

For this fiscal year, we are raising our annual guidancefrom $114 million to $116 million in total revenue to revenue that will beslightly north of $120 million. For Q4, we expect to maintain the GAAP andnon-GAAP diluted EPS at roughly the same levels as Q3 while taking into accountthe level of investment that we’ll make over the course of this quarter andadding additional headcount across the board.

We expect our effective tax rate to approximate 10% on anon-GAAP basis and 20% on a GAAP basis.

For next year, fiscal year ’09, we are providing guidance torevenue levels of approximately $160 million. We are expecting FY09, nextyear’s gross margins to stay at the 60% level on both a GAAP and a non-GAAPbasis.

During next year, to take advantage of our acceleratingmomentum in selling business analytic appliance solutions, we will continue toinvest in sales and R&D aggressively. These investments will drive furtherpenetration of targeted vertical markets and extend our leadership and reach inbusiness analytics.

In addition, we expect to incur additional public companycompliance costs associated with Sarbanes-Oxley.

We expect these investments in sales and distributions willbest position us to exceed our fiscal year ’09 and fiscal year ’10 revenue andprofitability objectives. As we continue to accelerate top line revenue growth,we also maintain that we can incrementally increase our operating margins atthe pace of one to two points every six months on a GAAP and non-GAAP basis,while maintaining our long-term operating margin goal in the 15% to 20% rangeon a GAAP and non-GAAP basis.

We expect our effective tax rate to approximate 10% on anon-GAAP basis and roughly 25% on a GAAP basis next year.

This concludes the formal part of our presentation and thecommentary on the financials. Thank you for your attention and I would now liketo turn it back over to the moderator to open it up for questions.

Question-and-AnswerSession

Operator

(Operator Instructions) Our first question comes from the line of RobSemple from Credit Suisse. Please proceed, sir.

Robert Semple -Credit Suisse

Thank, guys. Understand the demand environment looked prettygood; can you talk about the competitive landscape? Did you see any aggressivepricing out of some of your larger competitors in the quarter?

Jitendra Saxena

Focusing primarily on the larger competitors, we did not seeany appreciable changes on their part. As Jim pointed out in his presentation,the selling model and the selling strategies for the larger competitors, especiallyTeradata and newcomer HP Neoview, is substantially differentiated from our ownselling strategies and I think that has not changed and it continues to favorus, especially in situations where time to value is very, very critical to theend user.

Robert Semple -Credit Suisse

Okay, and I guess since we heard from you guys last, we haveseen both Business Objects and Cognos announce their intent to be acquired. Canyou talk about your relationship there? Do you expect any impact on yourbusiness from these acquisitions?

Jitendra Saxena

Those relationships continue to be very, very strong for us.They have been that way in the past and continue to be very strong for us rightnow.

One thing that I should point out that in most of the dealswhere we are involved, our customers are really looking for the best-of-breedofferings from different vendors and when the focus is on the best-of-breedofferings, we generally win that business. Now there are clearly some caseswhere a particular customer may ask a vendor for the entire solution and to acertain extent, some of this consolidation will favor those larger folks. Butfor all of our business, which is again primarily a best-of-breed basisbusiness, those relationships are at the same level or are in fact, in somecases are getting better for us.

Robert Semple -Credit Suisse

Okay, and I guess the last one for me; you talked about thedemand environment being good and no real deferrals. Just a question on salescycles -- did you notice any lengthening at all or anything of that nature?

Patrick J. Scannell

None whatsoever. Our sales cycle continues to be nine to 12months on our new business and on the recurring business, it can be as short as30 days to 60 days.

Robert Semple -Credit Suisse

Okay, thanks, guys.

Operator

Our next question comes from Kathryn Huberty from MorganStanley. Please proceed.

Kathryn Huberty -Morgan Stanley

Good morning. A couple of questions; first, in the past youtalked about signing something in the range of 10 to 12 new customers aquarter. This quarter you are clearly well above that range. What do you thinkdrove the incremental wins in the period? And then, can you just touch on howthat influences your sequential guidance for January?

Patrick J. Scannell

You know, in any one quarter the ebb and flow of our rate ofacquiring new customers will vary and as we had guided last quarter, we said itcould be six to 15 and in fact, it’s 18 and I think you’ll see that it’s morelikely to be the pace of 10 to 20 customers a quarter.

Kathryn Huberty -Morgan Stanley

And then as it relates to leverage, a quite impressiveimprovement this quarter. It sounds like sales hiring will be at a higher levelin January, so should we still assume that we’ll see a half a point or so of leveragein January or do we take a step back and that’s really pushed out into futurequarters?

Patrick J. Scannell

I think it’s more the latter because we are accelerating theinvestments from the 254 people that we have on board and looking at almost 300people by the end of the year, which is across the board but with a primaryemphasis on sales and R&D. So I think you’ll see while we maintain the oneto two points every six months, that you’ll see that more towards the latterpart of the year.

Kathryn Huberty -Morgan Stanley

Okay, and just a last question; longer term view of thebusiness, at the user conference in September you discussed the opportunity tomove out closer to the edge and allow more users to run analytics. You alsotalked about the ability to run unstructured as well as structured data. Whendo these opportunities become real from the standpoint of product availabilityand real customer adoption?

James P. Baum

I think that during the course of FY09, we have a series ofproduct deliverables that will come out that involve both some new productopportunities as well as some extensions to our existing product.

When we talk about moving analytics to the edge and movinganalytical applications into the appliance, we are starting to see those thingshappening as near-term as right now in a few cases. I would say it’s notsignificant yet in terms of our sales but we do see some early indications ofreal interest in this area and as I said, product deliverables will becomeavailable during the course of next year that will extend our capabilities onall those fronts.

Kathryn Huberty -Morgan Stanley

Great, thanks. Congrats on the quarter.

Operator

Our next question comes from Glenn Hanus from Needham.Please proceed.

Glenn Hanus - Needham& Company

Good morning. Could you talk maybe a little bit about sometrends in some of the newer vertical markets -- government, healthcare, pharma,manufacturing -- some of the initiatives you have there and whether thataccounted for some of the strength in the quarter?

Jitendra Saxena

I think as you can see from our results, our businesses arefairly well spread out and we did get some orders from some of these newersectors like travel and entertainment that Jim and Pat alluded to. And wecontinue to see those kinds of situations in most of our markets.

I think one thing we should keep in mind though that thefour or five dominant sectors for us will continue to be telecommunications,e-business, retail, financial services, and our federal market. And thebusiness will be fairly well spread out across these things and from time totime, we’ll see new opportunities in the travel and entertainment, from some ofthe healthcare opportunities and so on.

It will be a while before they become a double-digit shareof our vertical market segmentation.

Glenn Hanus - Needham& Company

Anything particular sort of surprise you on the upside thisquarter? I guess you had one or two 10% customers and you beat my model onproduct by about $3 million or so. Was it one or two orders that came a littlebigger than you thought or was it much broader based than that?

Jitendra Saxena

I think it was fairly broad-based and we should continue tosee that as we move into the future.

Glenn Hanus - Needham& Company

And on the gross margin side, your product gross margin wasmaybe just a hair under what I was looking for and services was very strong.Could you comment on that?

Patrick J. Scannell

Well, services will continue to be strong as we continue toget, as I said, 100% attach rate on all our customers. And gross margins, whenyou blend in all of the costs of manufacturing, the 60% level is the level thatwe’ve guided to and we feel good about that.

Glenn Hanus - Needham& Company

Indirect sales, maybe I missed it, what percent was that inthe quarter? And maybe just sort of give us some color on how you are buildingout your indirect sales initiatives.

Patrick J. Scannell

Indirect was 15% of the quarter, 15-85 direct versus a yearago when it was 75-25. And the initiatives that we have in indirect are showingthemselves more internationally. For example, in Japan where we have tremendousrelationships with NEC and Unisys and [C-ETO] and we’re also establishingindirect footprints in some of the other Western European countries where wedon’t have a direct presence. So we have that avenue in addition to theanalytical service provider partners that we have being Epsilon and Axion. Idon’t know if you can add anything to that, Jim.

James P. Baum

No, I think that pretty much covers it. As we look at that,those are areas where we continue to focus on finding those indirectdistribution relationships. Certainly in North America, the analytical serviceprovider relationships are strong and represent ongoing opportunity and themore classical kind of indirect reseller relationships as Pat said, tend to beprimarily internationally focused today.

Glenn Hanus - Needham& Company

Thank you.

Operator

Our next question comes from Kevin Hunt from Thomas WeiselPartners. Please proceed.

Kevin Hunt - ThomasWeisel Partners

Thank you. I have a couple of questions. It sounded likeyour average deal size was slightly down in the quarter. Was that just sort ofa random fluctuation?

Patrick J. Scannell

I think the random fluctuation was last quarter where it was-- where that was anomalous, where it was $2.3 million with the three largecustomers that we secured last quarter. So the 1.1 to 1.5 is really the --where we’ve been since inception and where we expect to be as time goes on.

Kevin Hunt - ThomasWeisel Partners

Okay then, following up on some earlier questions about thesales cycle and maybe the pipeline too, inventory was fairly flattish yet youhave pretty good numbers. Would that imply maybe that you are going to seesales cycles start to come in a little bit, and having to the point where youhave less demo units required?

Patrick J. Scannell

Well, there are a couple of different variables in thatquestion. One, inventory is coming down because we believe we are managing thatmuch more effectively based on our visibility and based on our ability topredict demand and give demand to Sanmina, our contract manufacturer andpartner.

Sales cycles are what they are. They are nine to 12 monthsand to the extent that we have repeat business coming from the recurringrevenue from the installed base, that just gives us excellent visibility andpredictability, such that we can load the plant much more effectively. So Ithink you will see inventory being managed tighter. We’re at 3.2 times turn. Itmay go to 4, it may go to 4.5 but I think our objective is to make sure that weare managing that as tightly as we can so that we are not sitting there withinventory where we have to take a hit for lower of cost or market typeaccounting.

Kevin Hunt - ThomasWeisel Partners

And one last one on the pipeline, you did imply that it’sdefinitely improving and you also mentioned some of the verticals obviously,but is there any commentary you can give on within that improving pipeline, ifit is specific verticals? Last quarter you had mentioned a government deal. Isthat something that’s improving or is it --

Patrick J. Scannell

Let me comment first and I’ll turn it over to my colleagues.The pipeline is as good as it’s ever been and that’s across -- that’s abroad-based statement across many different verticals. Jim.

James P. Baum

I don’t think that we would say that any particular verticalstands out. I think interestingly, when you look at some of the concerns aroundthe financial services vertical, that’s an area where we just have not seen anyslowing down in terms of our visibility in our pipeline. So we feel good acrossall verticals.

I think we would also say that we continue to see the trendsin business analytics driving interest across verticals. And again, it’sprimarily focused on the key verticals that Jit mentioned earlier.

Jitendra Saxena

I think you should keep in mind that at this size of thecompany and for the foreseeable future, our pipeline issues are really focusedon our value proposition and our distribution channel expansion, and I thinkthose are the elements that really determine how good the pipeline is versusany macro-economic factors at this point.

So we continue to make our value proposition stronger and wecontinue to make the distribution channel wider and I think that really drivesour pipeline.

Kevin Hunt - ThomasWeisel Partners

Thanks, guys.

Operator

Our next question comes from Nabil Elsheshai from PacificCrest Securities. Please proceed.

Nabil Elsheshai -Pacific Crest

A couple of questions; one, on the type of projects you guysare seeing, could you give me a little bit of detail on greenfield versusdisplacement and then if you see budgets getting squeezed a little bit goingforward, would you see that changing? Or have you seen that changing at all?

Patrick J. Scannell

From a market standpoint, greenfield opportunities we see,and it’s pretty typical that that would represent 5% to 10% of our business,and that 90% is that we are actually displacing.

James P. Baum

Or complementing.

Patrick J. Scannell

Or complementing.

Nabil Elsheshai -Pacific Crest

Okay, and then from a competitor perspective, I think you’vetalked about Oracle being about 50% of the cases historically. Has that beenthe case in this quarter?

James P. Baum

Yeah, that continues to be the case.

Nabil Elsheshai -Pacific Crest

Okay, great. And then last question, I just missed the taxrate that you had said for --

Patrick J. Scannell

For Q4?

Nabil Elsheshai -Pacific Crest

For next quarter, yeah.

Patrick J. Scannell

For Q4?

Nabil Elsheshai -Pacific Crest

Yes.

Patrick J. Scannell

Let’s see, on a GAAP basis -- 10% on a non-GAAP basis and20% on a GAAP basis.

Nabil Elsheshai -Pacific Crest

Great. Thanks.

Operator

Our next question comes from Jeff Embersits from ShareholderManagement. Please proceed.

Jeff Embersits -Shareholder Value Management

Good morning. On your channel strategy, could you talk morein detail about how that’s going to link with I guess the 100% services orfollow-on? And given the flexibility of the product, it seems like you’ve gotan awful lot of different channel opportunities. How are you going to weighthose in terms of margins and trade-offs on the services, follow-on sales, etcetera?

Patrick J. Scannell

Well, the service paradigm when you have a channel partner,you have to look to the channel partner as the first line of defense. So theeconomics in terms of how much do they get and how much do we get, that allgets sorted out on a case-by-case basis. So we’ll work that as that expands.

But it’s most important, our most important asset is the 127customers that we have and making sure that we’ve got, that we don’t delegateor abdicate that responsibility to someone that can’t do the job. So first andforemost, we make sure that the first line of defense is there with thein-country service partner and then we’ll be there to back them up.

The economics of all that, we have to sort out. The marginhaircut that perhaps we would take with a distribution partner, that’s -- wehave to look at that trade-off versus us trying to go in-country directlyourselves, so each of those are one-off discussions.

James P. Baum

And I think as we look at it vertically, a number of ourpartners tend to be partners who provide influence and provide additionalapplication and professional service capabilities that are vertically oriented,so from our perspective while they may not represent a classical resellerchannel, they are a strong influencer for us and they drive product revenuethrough our direct sales channel and then they add their own value on topthrough the availability of their application and their domain specificprofessional services capability.

Jeff Embersits -Shareholder Value Management

Okay, and would you characterize most of the installation asbeing sort of data mark oriented as opposed to [an enterprise data marks]?

James P. Baum

It’s clearly a combination of the two. I think that thisdistinction of kind of a data mark versus an enterprise data warehouse is oftenone that the market defines in terms of database size and number of users andtypes of applications that are run against the data warehouse. And ourcustomers range from smaller, what you would call data mark implementations tovery large, multi hundreds of terabytes kind of enterprise data warehouses thatsupport the entire user population in the corporation.

Jeff Embersits -Shareholder Value Management

Okay, and then one last question on the scale and ability tonot have to tune your products the way a Teradata or some of the competitorsdo; could you just -- a little more detail sort of understand how that --

James P. Baum

Absolutely. One of the characteristics of our technology andour architecture is that as a result of the level of performance that we’vebeen able to obtain through our appliance architecture, it in fact tends toeliminate many of the needs to create some of the traditional constructs thatthe other database guys create -- things like indices and things like veryspecific approaches to partitioning data. And those requirements are eliminatedin our architecture and the result of that, of course, is that you don’t haveto deploy the system and then tune it to a very specific and known use case, ifyou will. And as a result of that, you get a very flexible environment that cansupport changing data, changing applications, changing use cases veryeffectively.

Jitendra Saxena

In fact, it is that time to value part of our productequation that is the most appealing to many, many of our customers because theyare dealing in many of these cases with mission critical type of analytics andfor them, the effort that is required to deploy a Netezza based solution issignificantly shorter than anything that is out there in the marketplace today.

Jeff Embersits -Shareholder Value Management

Well, I know it’s hard to generalize, but what would be thattime difference, roughly?

Jitendra Saxena

It could clearly be -- for example, let’s say one month inour case versus 10 to 12 months in some of the competitor situations.

Jeff Embersits -Shareholder Value Management

Okay, great. Thank you. I look forward to following up.

Operator

(Operator Instructions) Our next question comes from ChrisTuttle from Research 2.0. Please proceed.

Chris Tuttle -Research 2.0

Thank you very much. Two questions, one of them is can yougive a little bit of an update in terms of what the path to productivity is forthe new sales people you are bringing in? And I would also be curious to knowwhere you are finding those people, what types of organizations are yougenerally extracting them from?

James P. Baum

The path to productivity remains pretty consistent. We inour own thinking tend to look at new sales people as being fully productiveafter 12 months in a territory or in a market and we tend to see a little bitof upside on that depending on the particular geography or market where a newsalesperson goes. But we tend to think in terms of a 12-month ramp to fullproductivity.

As far as where we find them, a lot of our sales force hascome from the business intelligence space and really continues to, so we’vedone a lot of hiring of people from BI providers. In some cases, from companiesthat are ETL organizations and in some cases from other database companies, butI’d say primarily in the BI and ETL world is where they tend to come from.

Chris Tuttle -Research 2.0

Okay, and it seems that you are very much on an organicgrowth strategy for the next year or two at last. Is there any element of yourplans that would lead us to expect any kind of M&A activity with youfilling in some areas, or is that just not really on the plate for the nextlittle while?

Jitendra Saxena

Chris, the whole business analytics market is still in afairly early stage and we believe that there’s a lot of interesting work thatis being done by some smaller companies that are adding a lot of verticallyoriented analytics to this problem. And we believe there may be someopportunities there down the road for us to look at some of those situations.

Nothing in the M&A area right now is imminent but wekeep on watching a lot of this new activity that is coming, that is becomingmore mainstream as we continue to move forward.

Patrick J. Scannell

The one word I’d use is we are very opportunistic in lookingat those and evaluating and assessing those.

Chris Tuttle -Research 2.0

Right, understood. Understood. Thank you.

Operator

We have a follow-up question from Jeff Embersits withShareholder Management. Please proceed.

Jeff Embersits -Shareholder Value Management

I was just curious following up on the M&A, since youguys just recently went public and I have no idea whether or not you can answerit, but I was just curious if there have been bidders to acquire you guys asopposed to going public.

Jitendra Saxena

Nothing that we are aware of at this point.

Jeff Embersits -Shareholder Value Management

Okay. I was just curious. Thanks.

Jitendra Saxena

If there are no more questions, I would just like to closeby saying that we are seeing excellent momentum for our offerings in themarketplace. Our visibility continues to get better and we are investingaggressively and focused on executing as our business continues to moveforward. Thanks for your support and talk to you in a few days.

Patrick J. Scannell

Yes, and by the way, I’m speaking at the Credit Suisseconference tomorrow in Scottsdale, Arizona. Thanks for your participation.

James P. Baum

Thanks, everyone.

Operator

Thank you for your participation in today’s conference. Thisconcludes the presentation. You may now disconnect. Have a great day.

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