Lawson Software F2Q08 (Qtr End 11/30/07) Earnings Call Transcript

Jan. 7.08 | About: Lawson Software, (LWSN)

Lawson Software, Inc. (NASDAQ:LWSN)

F2Q08 Earnings Call

January 7, 2008 4:30 pm ET

Executives

Barbara Doyle - Investor Relations

Harry Debes - President, Chief Executive Officer, Director

Robert A. Schriesheim - Chief Financial Officer, ExecutiveVice President, Director

Analysts

Tom Ernst - Deutsche Bank Securities

Adam Holt - J.P. Morgan Securities

Alan Cooke - Merrill Lynch

Peter Goldmacher - Cowen & Co.

Ajay Kasargod - Piper Jaffray

Mark Schappel - The Benchmark Company

Alan Weinfeld - Henley & Company

Brad Smith - Dougherty

Operator

Good afternoon and thank you for standing by. (OperatorInstructions) I would like to introduce your host for today’s conference call,we have Ms. Barbara Doyle and Madam, you may begin.

Barbara Doyle

Thank you, Laurie and good afternoon to everyone on thecall. Welcome to Lawson Software’s fiscal 2008 second quarter conference callcovering the quarter ended November 30, 2007. On today’s call, Harry Debes, Lawson'sPresident and CEO, and Rob Schriesheim, Lawson's CFO, will discuss our Q2results and future guidance. We will then open up the call to your questions asthe operator described.

Let me remind you that you can reference our press releaseand financial tables on our investor website at www.lawson.com/investor. Nowplease allow me to review our Safe Harbor statement.

This call will include forward-looking statements that containrisks and uncertainties. These forward-looking statements contain statements ofintent, belief or current expectations of Lawson Software and its management.

Such forward-looking statements are not guarantees of futureresults and involve risks and uncertainties that may cause actual results todiffer materially from the potential results discussed.

The company is not obligated to update forward-lookingstatements based on circumstances or events that occur in the future.

Risks and uncertainties that may cause such differences includebut are not limited to: uncertainties in the company’s ability to realizesynergies and revenue opportunities anticipated from the Intentia acquisition;uncertainties in the software industry; uncertainties as to when and whetherthe conditions for recognition of deferred revenues will be satisfied;uncertainty regarding potential future deterioration in the market for auctionrate securities, which could result in additional permanent impairment charges;global military conflicts; terrorist attacks on the United States or any futureevents in response to those developments; changes in the condition of thecompany's targeted industries; increased competition; and other risk factorslisted in the company's recently filed 10-Q and 10-K, filed with the SEC andavailable on our website.

With that, let me turn the call over to Harry Debes.

Harry Debes

Thank you, Barbara and good afternoon, everyone. As usual, Iwill begin with an overview of the quarter. I’ll discuss some sales metrics andhighlight some client wins and then I’ll turn the call over to Rob Schriesheim,our CFO, who will cover our financial results and also guidance.

So as you’ve seen from our earnings release, during oursecond quarter we continued to make very good progress. Here are someyear-over-year highlights, and I’ll remind you that these are non-GAAP numbers.

Our second quarter total non-GAAP revenue was $219 millionand that’s an increase of 16%, all of which is organic. License revenues grew50% to $33 million. Maintenance revenues increased 15% to $85 million andconsulting services revenue increased 9% to $101 million, and fully burdenedservices margins increased to 17% from 15.3%, and we continue to believe thatthere’s plenty of opportunity to improve on the margins in this consultingservices area over time.

Non-GAAP operating margin was 10% compared to 7% last yearand non-GAAP earnings per share was $0.09 in Q2 compared to $0.03 a year ago.

On the GAAP side, earnings were $0.02 and that’s due to anextraordinary event connected to the current financial markets, which Rob willexplain, and that compares to a loss of $0.02 last year.

These improvements are the result of improved execution in anumber of important areas. Our software solutions are more tailored to the verticalindustries we serve. Sales productivity is improving. We have higher servicesutilization and greater use of our resources in Manila. We have successfullylaunched a variety of new products and services offerings and we are now moredisciplined in maintenance pricing and contract renewals.

We are not claiming victory as we readily acknowledge thatthere are still many opportunities to improve but given where we’ve come fromand the amount of work that was on our plate, it was a quarter that for thefirst time in the history of our Lawson/Intentia combination reflects a steadystate and we believe that we will continue to build from here.

Now let’s review some of the sales metrics and key customerwins in Q2.

In the quarter, we signed 331 deals compared to 307 deals inthe previous year’s quarter. Our trailing 12 months average selling price forall deals, both new and existing clients, is $78,000. In Q2, we added 38 newname customers with an average selling price of $373,000 and this compares toan average selling price of $314,000 for new deals over the last trailing 12months.

Forty-percent of our license contracting came from newcustomers and we expect new customer deals to account for 30% to 40% of thelicense dollars signed for the foreseeable future.

With regard to large deals, we closed two deals greater than$1 million compared to three a year ago, and we signed eight deals between$500,000 and $1 million, compared to 13 last year. As you can see from ourresults, we are not overly dependent on large deals to have a good quarter.

Now let’s discuss some of our performance in our targetverticals.

In healthcare, we signed some great new accounts includingthe Nebraska Medical Center, Children’s Hospital Centers of California, and SoutheastAlaska Regional Health -- all were wins over Oracle.

In the Middle East, we signed American Hospitals Dubai andthis is our third healthcare win headquartered in EMEA. We plan to be moreaggressive in growing our healthcare business in EMEA and we’ll report onprogress on this initiative in a few quarters.

In our public services vertical, we added the City ofColumbus, Ohio; Scott County, Minnesota; and the City of Topeka, Kansas, as newaccounts -- all were wins over Oracle.

In our retail vertical, we had a new business win overOracle at Marsh Supermarkets and upgrades at Outback Steakhouse and also atSports Authority.

Now moving to our M3 solution, we signed Boissons GlacieresInternationales, the main Coca-Cola and Schweppes bottler and distributor inFrench-speaking Africa. They selected Lawson M3 over SAP and Oracle for a fullERP implementation in Africa.

Hermes, the luxury fashion icon, has been an M3 customer formany years but we were only installed in one of their divisions. In Q2, afteran extensive review that included evaluating SAP and Oracle as alternatives,Hermes decided to upgrade to our latest version and to standardize on M3worldwide for all of their divisions.

Also in fashion, Kumfs, a women’s footwear designer and manufacturerbased in New Zealand, opted for Lawson M3. Kumfs needed an innovativefinancial, manufacturing, and logistics system and they found that Lawson wasbest suited to deliver on the unique and complex requirements of footwearmanufacturers.

Finally, and as you know, building M3 sales in the Americasis an important growth strategy of the company. I am pleased to report that wesigned the largest M3 Americas deal in our history during our second quarter.Oldcastle is the largest manufacturer of building products in North America,with 1,700 locations and 50,000 employees. They needed a financial and supplychain system that could grow and adapt with them and also work directly withtheir manufacturing operations. After an extensive review, they selected a4,000 user Lawson M3 solution over Oracle and SAP. This deal was signed inSeptember and we are now in the implementation phase.

So to summarize, I am pleased with both the top and bottomline progress we are making as a business.

Now I will turn the call over to Rob for a more detailedreview of our results.

Robert A. Schriesheim

Thanks, Harry. I will cover the company’s non-GAAP resultsfor Q2 and provide our guidance. Then I’ll turn the call back over to Harry forclosing comments before we take your questions.

Q2 revenue results and EPS exceeded our guidance, even aftertaking into account currency impacts. Compared to last year’s rate, theweakened U.S. dollar had a beneficial impact of $10.9 million on revenue.Recall that nearly half of our revenue are from sales made outside the UnitedStates.

Currency contributed roughly 6% of the 16% reported non-GAAPrevenue growth. However, currency also had the negative effect of increasingtotal expenses by $12.6 million. The greater negative impact from currency onexpenses cost us a penny on EPS for the quarter and slightly more than $0.02for the six month year-to-date period.

I’ll now discuss some key drivers behind our financialresults, beginning with some additional insight into the company’s revenueperformance. Total revenues of $219 million increased 16% year over year.Revenues increased in all geographies. The Americas continued to drive slightlymore than half of our revenues at 52% of total. Revenues in the America regionincreased 16% year over year.

America sales productivity improved solidly over Q1 but with40% of sales account executives on board for less than a year, productivity hasbeen impacted. We look for America sales productivity to continue to improve inthe second half of the year.

The EMEA region represented 44% of total revenues andincreased 21%. The remaining 4% of our revenues were generated in theAsia-Pacific region and increased 21%.

As already mentioned, we had some up-lift in internationalrevenues due to currency fluctuation and we signed a large deal that was 100%recognized in the quarter. I’d also point to two beneficial items in thequarter that were driven by one-time transactions.

First was a $1.5 million unplanned benefit regardingdeferred license revenue. We have extensively discussed the trend where weexpect the benefit to the P&L from deferred license revenue this yearcompared with the suppressive P&L impact in fiscal ’07.

In Q2, we had approximately $1.5 million more licenserevenue roll in than expected from the deferred account, which would be viewedmore or less as a one-time event. As we have discussed, deferred licenseroll-in is not equal or smooth every quarter. It is driven by specificcontracts, terms, projects, and milestones.

In maintenance, we recognized approximately $1.5 million ofrevenue related to maintenance contracts that we would also consider a one-timebenefit in the quarter. Without question, however, the growth was first andforemost attributable to business performance. We would have reported healthygrowth rates in all line items of revenue regardless of these few items and wewould have still been solidly in or at the high end of our revenue and EPSguidance ranges.

Operating margin improved to 10.1% on a non-GAAP basis, up310 basis points from a year ago. Total costs and expenses increased 12% yearover year, lower than the 16% growth in revenue. The company has begun toattain some efficiencies in scale from our expanded global structure, whichprovides solid operating leverage as our revenues increase.

The majority of our profitability improvement was evident inthe gross margin line. Gross margin increased 300 basis points from 50% to 53%,reflecting the benefit of higher license revenues as well as the improvedconsultant services margin.

Let me add some additional color on services margin.Services gross margins have been on an improving trend over the last sixquarters from low teens to mid-teens, and this has positively impacted grossand operating margins.

Consistent with Q1, demand for our consulting servicescontinues to be greater than we expected, as you can see in the high consultingrevenue, and more than our current capacity as we transition more hours toManila. We therefore continue to supplement our resources with subcontractedpartner resources, which has negatively impacted our total expenses by $4million in Q2 and $7.5 million year-to-date.

Non-GAAP operating expenses were held constant as a percentof revenue on a year-over-year basis at 43%. Lower R&D expenses resultingfrom development efficiencies from [Lanmar] and through our team in Manila wereoffset by increases in sales, marketing, and G&A. As we have discussed, ouroperating plan this year includes investing in customer facing resources as webenefit from lower R&D expenses.

Let me take a moment to report on our progress in our twokey operational initiatives, our European operation center and our operationsin Manila.

We previously reported on our Q1 conference call that weopened our European center in Lausanne, Switzerland on July 1, 2007, and wereactively building the team. We now have a team of more than 20 people on staffin Lausanne. The staff continues to have a positive impact on the business.

Our Manila team grew to 570 employees at the end ofNovember, a 29% increase in headcount from Q1. Currently, we are at 14% of ourworldwide FTEs in Manila compared to our objective of 20%. We continue to growthe team and are on track for our goal of 800 to 900 employees on board inManila by the end of May of ’08.

The productivity of our off-shore resources is alsobeginning to improve. For example, on the consulting side, a total of 32,000billable service hours were delivered by Lawson employees in Manila in Q2 comparedwith 23,000 hours in Q1 and virtually zero a year ago.

While we have made good progress on both of thesetransformational initiatives, our productivity plans get increasingly moreaggressive in the second half of the year. Our forecasts are dependent onachieving higher productivity in Q3 and Q4, allowing us to reduce duplicativeand contractor onshore staff that we have in EMEA, Asia-Pac, and U.S.

Our Q2 effective tax rate on a non-GAAP basis was 39.3%,down substantially from 67% a year ago. We continue to expect that theeffective rate will remain below 40% on average for the year, which is asignificant improvement over last year’s annual average rate of 47%.

Non-GAAP net income for the quarter was $15.6 million, athree-fold increase over the $5.4 million net income in Q207. Second quarterGAAP net income was $3.7 million, or $0.02 per diluted share.

Now let me discuss the impairment charge noted in our pressrelease. Lawson has a long history of investing excess cash under aconservative corporate policy that only allows investments in highly ratedinvestment grade securities with preservation of capital and liquidity asprimary objectives.

Our investments include $63.7 million par value of auctionrate securities. These auction rate securities are currently rated double A ortriple A and are current on all obligations. However, the liquidity and fairvalue of the securities has been impacted, primarily by the uncertainty in thecredit markets and leaves securities exposure to the financial condition of thebond insurance companies, such as NBIA, AMBAC, and FGIC, which I am sure you’veall read about in the press.

The fair value of the auction rate securities we hold wasestimated to be $58.7 million as of November 30, 2007, based in part on marketinformation provided by the broker dealer managing our investments. As aresult, the company believed it was prudent to record a permanent impairmentcharge of $4.2 million, as well as a temporary impairment charge of $767,000 toreduce the value of our auction rate securities to their estimated fair value.

The $4.2 million permanent impairment charge is recorded asa non-operating charge that reduces GAAP income by the same amount becausethere is no tax effect due to the nature of the loss. This impacted GAAP EPS by$0.02 per share in the quarter, although there is no impact to non-GAAPmeasurement for the charge.

The remaining $767,000 is a temporary impairment that flowsto the shareholders equity section of the balance sheet, not the incomestatement.

We are not in the business of taking risk in the managementof our cash resources. We are a software company. We are disappointed that animpairment charge is required. However, our existing cash resources, exclusiveof the affected securities are more than sufficient to meet anticipated workingcapital needs and fund our business plan. We will continue to monitor thesituation and update you in the future based upon market conditions.

Fully diluted shares outstanding were 181.9 million, down 4%year over year. During the quarter, we purchased 331,000 shares at an averageprice of $9.29. That brings the total to 12.5 million shares repurchased sinceinception of the program in November of ’06 at an average price of $8.93. Thisrepresents a buy-back of 6.7% of our outstanding shares. Through November 30th,we utilized $111.6 million of our $200 million authorization.

Subsequent to the November quarter, we have utilized anadditional $7.8 million to repurchase 823,000 shares at an average price of$9.52 per share.

We had a $49.9 million net use of cash from operations inthe November quarter. Total cash used in the quarter was $59 million, whichincluded $7.9 million used for capital and $3 million used for sharerepurchases.

We ended Q2 with $432 million of cash, equivalents,marketable securities, and investments, including $7.5 million of restrictedcash for the remaining minority shares of Intentia.

I’ll remind you that net use of cash from operations in thequarter is fully consistent with our cash flow pattern resulting from thetiming of our January 1 and June 1 maintenance contract renewal dates.

We anticipate cash inflows in our February and May fiscalquarters based on these renewal dates, then a new use of cash in our August andNovember quarters. November quarter cash inflows are the lowest of the fourfiscal quarters. We likewise anticipate turning to a net positive cash flowfrom operations in Q3 based on international maintenance contract renewals dueon January 1.

Similar to last year, Q4 will again be our strongest quarterfor cash flow.

Now I’ll cover financial guidance. Analyst average estimatesfor Q3 are $212 million of revenue and $0.09 per share. I’d like to providesome color before providing guidance. First, currency; it is difficult toimagine a sudden change in currency trends in Q3. Based on Q1 and Q2 history,currency fluctuations would benefit analyst estimates for revenue butnegatively impact their EPS by about $0.01 a share.

Second, we identified $4 million higher than planduplicative in contractor costs and services in Q2, which is an impact of 1% to2% on our operating margin. We expect this will continue to some degree whilewe are in this Manila ramp-up phase.

With this perspective for Q3, we anticipate that totalrevenues will be between $216 million and $220 million, and GAAP EPS isexpected to be $0.03 to $0.04 per fully diluted share, exclusive of furtherimpairments and auction rate securities.

On a non-GAAP basis, excluding the impacts which most of youmodel, EPS is expected to be $0.07 to $0.08 per share. Our estimate of Q3non-GAAP EPS excludes $9.5 million of pretax expenses related to theamortization of acquisition related intangibles, amortization of purchasedmaintenance contracts, and stock-based compensation charges.

We anticipate an effective non-GAAP tax rate to likelyremain in the range of 37% to 40%. We also feel comfortable with currentanalyst estimates for license revenues which, as a reminder, show growth ofmore than 20% year over year.

One additional comment on full year FY08; we gave priorguidance for FY08 of between $820 million and $830 million in total revenue,and EPS between $0.30 and $0.34 per share. As indicated in my initial guidanceremarks, the weakening dollar has impacted us in the first half. Assuming thiscurrency trend continues, we would increase our full year revenue guidance tobetween $845 million and $850 million. The approximate composition of thisrevenue is in the ranges of 15% license, 40% maintenance, and 45% services.

We currently anticipate FY08 EPS to be towards the high endof our $0.30 to $0.34 range.

In summary, we feel very comfortable with the progress ofour business. As we have always said, a transition story is not about any givenquarter, as transitions do not occur in a linear fashion and are managedthrough the progression over time. By any measure, on a year-over-year basis weare doing well, feel good about where we are today, and feel sanguine about ourpotential.

Now I’ll turn the call back over to Harry.

Harry Debes

Thanks, Rob. Earlier I mentioned that in Q2, we signed a4,000 user M3 deal at Oldcastle. I am pleased to now also advise you that earlyin our third quarter in December, we signed an even larger 7,000 user M3 deal.In fact, this is the largest deal for Lawson or Intentia in five years.

However, unlike the Oldcastle deal, which we were able torecognize in the quarter in which it was signed, in this second case thelicense revenue on this contract will be deferred for nine to 12 months as wecomplete some services work related to this project.

Now, I don’t want to get into detailed discussions ofsoftware license revenue recognition rules, but let’s just say it’s complicatedin that every deal is different. But here’s the message from these two recentwins.

Lawson solutions are robust. We can scale and we can competein larger transactions as well as in our traditional mid-sized accounts. Tothis end, we’ve created a small but dedicated team which focuses on largertransactions and we expect to periodically sign relatively large deals in thefuture.

Furthermore, in both of these transactions, IBM GlobalServices has joined Lawson's team to work on these implementations and thisexperience shows that systems integrators, who traditionally only work with SAPor Oracle, will join forces with Lawson as we prove that we can win sizabledeals.

We believe that having such SIs in our camp is an importantingredient to help us continue our growth and we’ve an active program todevelop and grow our partner ecosystem around the world.

We can’t provide more details on this second deal until ourQ3 earnings call but we wanted to give you color on it today to help youunderstand it when you see the press release, and that while we signed a verylarge deal, it will not impact our Q3 results as we expect to recognize it innine to 12 months from now.

So to summarize, Q2 was a solid quarter all around. Oursoftware and services solutions are gaining traction in the market as customerscontinue to seek alternative solutions and a superior partnering experience.We’ve added new service and maintenance offerings to help our customers achievethe greatest benefit from their Lawson implementation. Our sales team is maturingand becoming more productive and as we have more success, SIs and otherpartners are becoming eager to work with Lawson.

None of this would have been possible without the hard workand commitment of the people who make up the Lawson organization and to them Ithank. As well, our results show that the market values and continues toendorse Lawson as an alternative to the other ERP vendors in the market.

So while there’s still much to do, our story has now changedfrom one of integration of the former Intentia to one of revenue and earningsgrowth. Now it’s purely an execution story and while this still represents itsown set of challenges, we now have a much different risk profile than we hadfor the past 12 to 18 months.

Operator, that concludes our comments. Now it’s time forsome questions.

Question-and-AnswerSession

Operator

(Operator Instructions) We do have our first question fromMr. Thomas Ernst. Sir, go ahead.

Tom Ernst - DeutscheBank Securities

You mentioned on the call the use of a significant level ofsub-contracted partner resources. I think you said $4 million. I’m curious --what kind of levels have you seen in previous quarters? And you mentioned agoal here to hire and ramp that down. How long do you think you can get to whenyou don’t need any sub-contracted services?

Harry Debes

Tom, I’d say that this is a transition issue as we areramping up our Manila facilities. You know, there’s a time when you have tohire people and then they train and they aren’t quite ready to be productive incustomer sites, so we believe it’s just a temporary situation.

Tom Ernst - DeutscheBank Securities

Does that mean that you haven’t extensively used suchsub-contractor services in the past?

Harry Debes

We have. We have in the past used sub-contractors but Ithink in this particular quarter, it was more than we had budgeted to do.

Tom Ernst - DeutscheBank Securities

Okay, fantastic. The --

Harry Debes

The whole message on this subject is that services margins,if you track it for the last six quarters as we’ve been talking about it isgetting better every quarter, with the exception of Q1, which is the seasonallyweak vacation quarter. But that services margin is improving and will continueto improve. Our goal is to be -- and this will take maybe even a couple ofyears, but our goal is that, and we think it’s entirely possible, to be in themid-20s at some point down the road. Today we are at 17%.

Robert A. Schriesheim

To Harry’s point, Tom, in the first and second quarter oflast year, we were at 13% and 15% gross margin in services. The first twoquarters of this year, we were at 15% and 17%.

The fact is when we outlined our plans for going through thetransitional activities related to the offshoring, we always explained that therewas this both ramp-up of resources in Manila and concurrent ramp-down ofonshore resources. However, we always knew the ramp-up was going to front-runthe ramp-down and we did have some suspicions, or there was always thepotential that we were going to require third party contractors in order tomeet the increased demands on our consulting services organizations.

So I think we are just being transparent about it. We neverreally thought that we would be able to perfectly match the ramp-up and ramp-downand so we are just seeing a little bit of that effect and we might for the nexttwo quarters or so.

Tom Ernst - DeutscheBank Securities

Okay, one quick follow-up there; does this flow through theincome statement or not, the consulting?

Robert A. Schriesheim

Yes, yes.

Tom Ernst - DeutscheBank Securities

Okay, fantastic. And if you’ll permit one more question;stepping back to the big picture, I think all of Wall Street is waiting to hearhow you approach guiding looking forward, given the fears that are in themarket about potential weakening and the macro-economy. What was your thoughtprocess towards closure rates and how you factor in multiples of your pipelinetowards producing your forecast?

Harry Debes

You know, I’ve been reading those comments and I’ve beenseeing the various analysts talk about a weakening purchasing environment. Wehave no indication of that at the present time, either in the last quarter orin the quarter that we are in right now. So we are puzzled with what people aretalking about.

I think many times I see those comments related to chipmanufacturers, et cetera, but when it comes to Lawson Enterprise software, weare not seeing a slowdown in purchasing.

Tom Ernst - DeutscheBank Securities

Okay, and looking forward, do you need the same kind ofclosure rates as you’ve had in the recent quarters to meet your guidanceexpectations for February and May?

Harry Debes

Yes, and I would tell you that in some areas, specificallyM3 in the U.S., we believe that the closure rates will in fact improve overtime as our sales people -- you know, we’ve got a substantially neworganization. We had, don’t forget, not that long ago we had five people andtoday we have 28 or 29, and we are hiring all the time.

So as those people mature, as they get experience, as theyget training, as the pipeline builds and there are opportunities to workthrough the typical sales cycle, we think their close rates will in fact go up.

Tom Ernst - DeutscheBank Securities

Okay, thanks again.

Operator

Our next question comes from Adam Holt. Sir, your line isopen.

Adam Holt - J.P.Morgan Securities

Good afternoon. If I could ask a follow-up on the consultingbusiness, I believe in previous conference calls, you’ve talked about reachinga target this year of offshoring 15% of your billable hours. You are at 14%this quarter. Is it possible that you are actually tracking ahead of yourannual plan, that we should be thinking about that actually getting revisedupward?

Robert A. Schriesheim

Adam, we’re actually -- we did about 30,000 or 32,000 hoursin services delivered offshore, which was about 8% or 9% of our total hoursdelivered offshore. So we still are striving to meet our objective by the endof the year to get to 15% of our hours delivered offshore and ultimately 20% ofour hours delivered offshore. So we think we still have upside this year versusthe 17% gross margin that we achieved in Q2.

Adam Holt - J.P.Morgan Securities

I apologize; I must have misheard you. And then I guess twoother quick questions on your personnel; you mentioned in your preparedcomments that you still have about 40% of your organization in the U.S. hasbeen there for less 12 months. As you think about your forward-lookingguidance, when would you expect to see that capacity get to full productivity?And could you remind us where you ended the quarter in terms of direct sales?

Harry Debes

Total direct sales was about 195 sales people, so slightlybelow where we were at the beginning of the fiscal year. In the U.S., I thinkyou’re talking about the U.S. M3 sales people that were relatively new, and Imentioned that we won a significant deal in Q2. We’ve already won a significantdeal in Q3. It’s great to win those deals but -- and those are two sales peopleinvolved. I think the vast majority of them are now developing theiropportunities and getting ready to close deals in Q3, 4, and in the future aswell.

So I still look forward to everyone else getting completelyproductive and that just takes a little while.

Adam Holt - J.P.Morgan Securities

And should we assume that you are in a period where hiringshould effectively decelerate on the direct sales side and we’ll opt for moreproductivity out of existing capacity, or was this quarter an anomaly and we’llexpect to see sales expansion continue?

Harry Debes

From the first of the year until now, sales headcountactually went down by five people, so there’s a 2% reduction. We expect --that’s not our plan, by the way. That’s just sometimes situations evolve whereyou either have resignations or some terminations for non-performance and wesimply haven’t increased our -- you know, met determinations with increasedheadcount in the short term but I don’t think you should think about that longterm. We will continue to hire people. We’re below our sales headcount targetsright now.

Now, we’re not planning to add 20% sales people in the nexttwo quarters but we do want to get north of the 200 sales persons because we doexpect to continue to grow this business beyond this quarter or next quarter.

Adam Holt - J.P.Morgan Securities

And just one last question on the product side; youmentioned the large M3 deal you just signed. I was wondering if there were anyother common denominators in terms of areas from a product perspective wherethere was particular strength in the quarter. Thanks very much.

Harry Debes

I’m not sure I followed his question -- from a productperspective?

Barbara Doyle

We talked about the strength in M3, he’s just looking forother products.

Harry Debes

Well, we had a terrific quarter in our healthcare vertical.We’ve always been strong in that but I mentioned three new deals that weresignificant transactions. The people in Europe had a good quarter; people inAsia and Australia had a good quarter as well.

So the business was strong pretty much across the board andso I’m pretty pleased with that. S3 had a good quarter, M3 -- both had a goodquarter. Rarely when you have a good quarter as well as -- a good quarter as wedid doesn’t mean that one organization blew things out. Everybody has to fireon all cylinders, and that’s what happens.

Barbara Doyle

Adam, hopefully you’re still listening; I heard you hang upon the call but I’ll clarify the Manila resource comments that we made in theprepared remarks. Total headcount, we’re currently at 14% of our worldwide FTEsoffshore but that’s not all consulting; that’s consulting, development,support, some G&A as well. So the 14% was the percent of our totalworldwide FTEs that are in Manila and in terms of consulting, we deliveredabout 8% of the total billable hours from consulting.

Adam Holt - J.P.Morgan Securities

Terrific. Thank you very much.

Operator

Our next question comes from Alan Cooke. Go ahead, sir.

Alan Cooke - MerrillLynch

Thank you very much. Harry, with respect to the U.S.operation, are you satisfied that the weakness that we saw in Q1 has resolvedand that the management changes that took place at the end of Q1, beginning ofQ2 are helping that organization perform well?

Harry Debes

Yes.

Alan Cooke - MerrillLynch

Okay, so the transition in terms of the new management hasgone smoothly? Did you see any disruptions or do you expect Q3 to actually bestronger relative to Q2?

Harry Debes

The transitions have gone smoothly. It’s almost like we don’t even remember thenames of the people who left and I think the new EVP of Sales, Eduardo Sanchez,has ramped up very quickly. He’s a very bright, high energy guy. I am verypleased with the work he’s doing and we expect that we will continue to growthis business. This is a growth story, so top and bottom line will grow.

Robert A. Schriesheim

The revenue results in the second quarter speak forthemselves.

Harry Debes

Yeah, the revenue speaks for itself. It wasn’t just ayear-over-year growth story; it was a significant quarter-over-quarter story aswell.

Alan Cooke - MerrillLynch

Right, and then with respect to strength in [spending], justfollowing on from Tom’s question earlier, your pipeline for Q3 and Q4, how doesit look relative to a year ago, or even comparing Q2’s pipeline at thebeginning of Q2 to the Q2 pipeline the previous year?

Harry Debes

Pipelines are relatively the same. We do have -- obviouslythe deals fall out as we either sign them or sometimes we lose them or wequalify out, but then we top up with our marketing initiatives, we top up inthe deal.

One thing I will tell you that we’ve really focused on isscrubbing the pipeline to make sure that they are valid deals. I mean, one ofthe greatest wasters of time and resource is when you have deals that are notin our market portfolio or within our scope and we consume and burn a lot ofwasted energy.

So one of the things we are really focusing on is makingsure that the deals are well-qualified early in the stage and I’d rather useliminate ourselves because we don’t think that they are suitable for us and wedon’t have a good match for the client than find that out six months, ninemonths later.

But in terms of your question, it’s about the same.

Alan Cooke - MerrillLynch

Okay, and have you seen any changes in terms of the approvalprocess or the length of sales cycles, either in Q2 or the first part of Q3?

Harry Debes

No. I spent a lot of time reviewing the details of thewins/losses and competitive intelligence that our team puts together at the endof every quarter and while it will vary in one quarter from the next by eitherregion or by vertical or by individual product line, I will tell you that I seeno change in the close cycles or customer acceptance levels or spendingpatterns.

Alan Cooke - MerrillLynch

Okay, thanks, and one more question, just for Rob; withrespect to the impairment charge, do you have any concerns about needing totake another similar charge for the third quarter?

Robert A. Schriesheim

Alan, we’re obviously not the experts on this. We are --this quarter, we looked at the portfolio of investment and based upon inputfrom our financial advisor and the market conditions, did what we felt was theappropriate thing to do. We feel that as the 10-K season unfolds, the issuewill probably become more widely spread and well-known to the marketplace andwe’ll just have to keep everybody updated and take action as the marketconditions warrant.

But beyond that, I really can’t say anything.

Alan Cooke - MerrillLynch

Okay. Thank you.

Operator

Our next question comes from Peter Goldmacher. Your line isopen, sir.

Peter Goldmacher -Cowen & Co.

Two quick questions; Rob, as I read guidance in your pressrelease and you talked about 20% growth, that’s about I think $32 million, $33million, and your Q3 year-ago guidance was bookings for about $32 million to$38 million. So it seems like on a bookings -- if we equate this year’s revenuewith bookings of last year, it seems like it’s relatively flat. Is that just aconservative approach or have there been changes? Can you address that?

And then secondly, you guys made a lot of noise about yourhuman resources product and winning the HR tech shootout in Chicago late lastyear. I would love an update on that product and I believe you were offeringthat on-demand as well, so seeing what the uptake is on that. Thanks.

Robert A. Schriesheim

Sure. As far as -- we’re obviously not giving bookingsguidance this year versus last year. Our revenues, our license revenue Q208over Q207 was up 50% and we anticipate, as we said, that our license revenueQ308 versus Q307 would be up about 20%, and we’d anticipate that our bookingswould be up by a very healthy margin as well.

Harry Debes

Peter, I just mentioned we signed the largest deal in fiveyears. It won’t be recognized but I don’t think you need to worry about ourbookings in Q3.

Robert A. Schriesheim

Yeah, as a matter of fact, our deferred revenue on ourbalance sheet was actually modestly up Q208 versus Q108, so I don’t thinkthere’s any conservatism. We feel pretty good about our bookings and that’s whywe raised our full year -- one of the reasons why we raised our full-yearrevenue outlook and guided people towards the upper end of the range.

Peter Goldmacher -Cowen & Co.

Right, so Harry, is that a $35 million deal we’re talkingabout?

Harry Debes

I can’t discuss the deal. Let me take the second questionyou asked, strategic human capital management solution, which we did make alittle bit of noise about before but you’ll notice we didn’t talk about it atall during our prepared remarks. It’s because the product isn’t generallyavailable.

We are very pleased with the progress that the product ismaking. It’s now installed in four beta sites. We expect that near the end ofQ3, we will have a formal release, or maybe even early Q4 we’ll have a formalrelease of the solution. We’re very excited about it’s potential in the marketand yes, it is a SAS solution.

So I’ll just have to ask you to be patient for anothercouple of months and we’ll tell you all about it.

Peter Goldmacher -Cowen & Co.

Okay. Thanks, guys.

Operator

Our next question comes from Ajay Kasargod. Go ahead, sir.

Ajay Kasargod - PiperJaffray

Thank you and congratulations on your quarter.

Barbara Doyle

Ajay, we can hardly hear you.

Ajay Kasargod - PiperJaffray

How about now?

Barbara Doyle

A little better.

Ajay Kasargod - PiperJaffray

All right, well, bad hotel phone but just on the guidance,just to be clear, Rob, you outlined a couple of one-time items, I thinkadditional contractor costs that might impact Q3 but when we look at therevenue guidance and the earnings guidance, should we be assuming that marginswill be flat as we head into Q3?

Robert A. Schriesheim

Are you talking about operating margins?

Ajay Kasargod - PiperJaffray

Pro forma operating margin, that’s correct.

Robert A. Schriesheim

I’d say that’s approximately right. I’d say operating incomemargins will be roughly consistent with where we are on Q2.

Ajay Kasargod - PiperJaffray

Okay, and is that just a conservative outlook, Rob, or isthat just because of those one-time items you had mentioned?

Robert A. Schriesheim

You know, let me just try -- I feel like I do this everycall. Everyone says is that just a conservative outlook. Our philosophy onguidance is we give you numbers we are comfortable we can deliver on with ahigh degree of confidence. I mean, there’s a non-zero probability that we’llexperience some upside. There’s also a non-zero probability that we’llexperience some downside but we’re giving you the best insight that we have andwe are focused on running the business and the numbers at the end of the daywill lie where they lie at the end of the quarter and year.

And at some point, we are going to be eliminating quarterlyguidance altogether as it’s just not very helpful in evaluating or managing thebusiness over a longer period of time.

So you’re right -- in the second quarter, we had someone-time benefits, which we discussed, in both maintenance and license. Thereare some higher-than-expected costs as we ramp up our offshore operations andramp down our onshore operations and that may very well continue over one, twoquarters. And as we discussed, we’ve been negatively impacted in net income bycurrency fluctuations as the dollar weakens and, as Harry mentioned, we signeda very significant deal in Q2 which we were able to recognize in the quarterand we also will probably -- we’ve got some other contracts we’ve signed wewon’t be able to recognize.

So I don’t think it’s a matter of conservative guidance oraggressive guidance. We’re providing you with insight and color and again, byany measure, we outperformed our expectations and we are clearly guiding forthe remainder of the year that we will continue to do so.

Ajay Kasargod - PiperJaffray

Okay, great, and then just on the -- Harry, if I could turnthe question over to you on the SIs, you talked about more SIs moving towards Lawson.Are there any significant names or large ones you can talk about? And can youtalk about what they are doing in terms of building their practice? Are theyadding more people? Just talk about how you are helping to form thoserelationships and who they are with.

Harry Debes

Absolutely. We have training programs, we have recruitingprograms and yes, they are hiring and putting their people through Lawsontraining. And we also know that they are out in the market with headhuntersseeking to hire Lawson trained or experienced consultants to theirorganization. So IBM certainly is one of them that we have a globalrelationship in this regard. Deloitte is another one, and then there are anumber of regional firms. There are going to be some that we are going to havea tough time with in terms of our relationship like Accenture, because we knowthat if we were to recruit Accenture, anything we’d tell them would immediately-- they would hand over to SAP, so it’s unlikely that we are going to beterribly friendly with them.

But a lot of other ones, we are very interested in workingwith and have good working relationships with. So we expect that in the U.S.alone, we’ll double or triple the number of SI consultants over the next 12months.

Ajay Kasargod - PiperJaffray

Okay, great, and I’ll just leave on this question; Harry,can you -- your thoughts on the M&A outlook for Lawson in 2008 and I’llhang up and listen. Thank you.

Harry Debes

All right. Well, you know, M&A is one of thosesituations that it’s impossible to predict. We have said that we wanted to growthe business but we are not going to do it in a foolish, haphazard way. We arevery thoughtful and we’re conservative how we approach opportunities. There areopportunities out there. We have looked at quite a few, I would tell you, andas you’ve noticed, we haven’t done any because frankly, they didn’t meet eitherour strategic or our financial thresholds.

And while we continue to evaluate situations, it’s prettymuch impossible to predict if or when or what we might in fact be involved in.We have done some small transactions and when the right deal, small or mediumcomes along and we think it adds value to our business and creates value forour shareholders, we’ll certainly take it very seriously.

And to this point, we haven’t found that magic formula orcombination so we haven’t done anything.

Ajay Kasargod - PiperJaffray

Thank you.

Operator

Our next question comes from Mark Schappel. Your line isopen, sir.

Mark Schappel - TheBenchmark Company

Good evening. Harry, in your prepared remarks, you say thatthe company was more disciplined in its maintenance pricing and contractrenewals. I was just wondering if you could elaborate a little bit on that interms of what you are doing differently.

Harry Debes

Okay, well we have some standard terms that we now don’treally vary from in terms of maintenance amounts, first of all, as a percentageof license revenue. We also have some renewable, renewing terms and conditionsthat we don’t really vary from, where we set certain preset and pre-agreed uponlong-term maintenance increases. And we don’t trade license for maintenance, etcetera. We don’t discount existing maintenance for short-term license and thenflip it over again.

So these were practices that perhaps existed in the industryand to some degree in former Intentia, former Lawson for a number of years.They are counter-productive to the business and we just -- you know, we’retougher in establishing what the rules were and also about our renewable dates.As you know, now we have two major renew dates. One is the end of May, the 31stof May for the Americas business and the other one is the first of January forthe international business, and we’re pretty rigorous about the approach wetake in terms of invoicing, increases, and collections. And that’s just helpedus get a better handle on our maintenance revenue and I think you see it in thenumbers. The numbers are growing at a healthy rate.

Does that answer your question?

Mark Schappel - TheBenchmark Company

Yes, that’s good. Thank you. And one final question; Rob, ifyou could just review the one-time benefits that were recognize on the licenseand maintenance revenue lines in the quarter again? I didn’t catch thosenumbers.

Robert A. Schriesheim

Yeah, we realized about $1.5 million in more or lessone-time benefits in both license and maintenance.

Harry Debes

Yeah, we go to great lengths to point out our one-timebenefits. We almost never mention our one-time disappointments, which everycompany has both good and bad, but just to make sure you guys are fullyinformed, we go to great lengths to tell you about “oh, this was an accident,blah, blah, blah” so --

Robert A. Schriesheim

We accidentally did well.

Harry Debes

Yes, we accidentally did well and it seems like we’ve beendoing accidentally well for a couple of quarters.

Barbara Doyle

Anything else, Mark?

Harry Debes

I think Mark’s gone.

Robert A. Schriesheim

Operator, next question.

Operator

Our next question comes from Alan Weinfeld.

Alan Weinfeld -Henley & Company

Congratulations, guys. Could you talk about some of theverticals besides healthcare that worked really well and some that were maybe alittle slow in the global economy out there?

Harry Debes

Sure, Alan. I mentioned wins in healthcare. I mentioned winsin fashion. I mentioned wins in public sector, in distribution. Those were allsectors that we had pretty good results and frankly, those are our primary targetsso you’d expect us to do reasonably well in our primary target sectors.

Then we have a secondary set of targets but frankly, weprobably don’t spend as much time, energy, or resources on those and so wedon’t really have as much visibility on those.

In terms of our global opportunities, these are thesituations, these are the verticals that you can expect that we will continueto invest in for the balance of this year and next year and we expect toharvest opportunities from them.

I’m not sure I can answer your question, you know, where --what the buying situations in verticals that are secondary or third levelverticals for us. We don’t really focus on them. If we weren’t doing well inhealthcare and public services and retail and fashion and food anddistribution, then we’d have something to worry about. But these are the oneswe’ve put our chips on, so to speak, and those are the ones that we’reinvesting in.

Alan Weinfeld -Henley & Company

So correct me if I’m wrong, you’ve beaten the consensus thelast few quarters, your costs are coming down because of your actions in movingpeople to Manila, which is four or five people work in Manila as compared tothe cost of one person in America and your costs are coming down in Europebecause of the center in Switzerland; and at the same time, your sales peopleare getting more mature, so you are doing bigger deals and able to do moredeals globally on the license front, so you raised your expectations forlicenses today, or just I guess kind of staying at the high end for the year onthe earnings front, but tempering the earnings for next quarter, but your stockis down right now. Do you have any explanation for that?

Harry Debes

On our stock price? We can’t figure that out. We don’t knowwhat the heck’s going to happen on the stock price.

Robert A. Schriesheim

We’ll leave that up to you but we would agree witheverything you said. We obviously feel good about the business. The trends aremoving in the right direction. Our costs will come down as a result of ourtaking these actions. They might not be coming down this quarter but they willcome down as a result of our taking these actions and we did guide -- we didupgrade our revenue guidance for the full year pretty significantly and we didguide towards the upper end of our EPS, just to take into account some of thenegative impacts of the currency and some of the higher costs as a result ofthe transitioning. But we do feel good about the business and we think thebusiness, the potential in the business is very good.

I’m not in the business of predicting what the stock priceis --

Alan Weinfeld -Henley & Company

And you are in there in December buying almost a millionshares.

Robert A. Schriesheim

Yes, we did.

Harry Debes

Here’s the thing, Alan --

Robert A. Schriesheim

On an average price of $9.50 recently.

Harry Debes

What we think is that if we continue to do, if we continueto execute as we are executing over the long-term, the share price will takecare of itself. We can’t explain day-to-day variances, you know, what’shappening, blah, blah, blah. That’s just not something we can control, thesemarket conditions as the economic situation, the credit markets, et cetera. Wedon’t know all of the factors.

We just know that if we continue to do what we said we woulddo, we will keep people on track, focus on both our top and bottom line growth.We think the investments we are making are sound and they will pay off as theyhave in the past. That’s as much as we as a management team can do.

Barbara Doyle

I would just remind you that we’ve had $0.02 of negativeimpact on our EPS year-to-date, so there is some impact of currency on that.There is some pressure on our full year EPS outlook from currency.

Alan Weinfeld -Henley & Company

Well, we look forward to seeing you at the National RetailFederation. We’ll see your newest and best retail products, so good luck.

Operator

Our next question comes from Brad Smith.

Brad Smith -Dougherty

Good afternoon, guys. I was wondering if we could just touchon Europe for a second. If you could give us an overview on what you are seeingin that environment as it compares to a year ago. I know you had the road showout there in September so I was just curious what you are seeing, if you couldtouch on both M3 and S3 products out there.

Harry Debes

Sure. As you know, Europe is predominantly an M3 market forus but historically, we’ve had some success with S3. As I mentioned, we nowsigned our third healthcare deal and when we think of Europe, by the way, wethink of EMEA, so it’s Europe, Middle East, and Africa as a region. It’s notjust Europe. But at this point, M3 isn’t a significant portion of the businessthere. We do believe that healthcare has great potential. We’ve recently hiredsome senior people to help us launch a more aggressive healthcare initiativeand we’ll report back to you in a couple of quarters on the progress on that.

On the M3 side, the European business has actually beenpretty strong in both Q1 and Q2. We’ve signed some relatively large new dealsand as well, some significant upgrades -- upgrades, while it was an existingclient in one division and then they decided to standardize. But the other dealI mentioned, Boissons Glacieres, is in fact a brand new large deal and in Q1,they also signed a significant number of new deals.

So we are very pleased with the progress we are making inEurope. In fact, Europe is a slight, year-to-date at the end of the secondquarter, slightly ahead of its targets where we thought that they might be.

I’m heading off for a sales conference actually tomorrow tospeak with the entire European sales organization where we’ve got them intraining and productivity tools, et cetera, education. So we are feeling goodabout what’s happening in Europe.

And I should also tell you, we’ve also expanded our partnernetwork in Europe into some of the Eastern European countries, you know,Hungary, Czechoslovakia, Russia, Turkey, et cetera. So there seems to be anappetite there for Lawson solutions.

Brad Smith -Dougherty

Okay, and I guess -- I don’t want to characterize it as aconstraint, but I guess a constraint around getting S3 out in those regions, isit a regionalization of the product or is it more of a distribution bottleneckthat you are working through?

Harry Debes

It’s a regionalization of the product but you know, this wasvery much part of our plans. We never anticipated or expected that S3 wouldgrow significantly in Europe. Our story was always watch M3 in the U.S. That’salways been our number one growth initiative and it still is today.

Brad Smith -Dougherty

Okay, and then just one more, with you just kind of exitingthat recent maintenance renewal period, were you happy with the performance, orhow did some of the new premium offerings that you’ve been talking aboutperform when you went through that cycle?

Harry Debes

Very well. We’re very pleased. Both the silver, gold, andplatinum offerings, which are enhanced versions of our standard basismaintenance solutions, have been well-received. It always takes a couple ofmonths for people to truly understand and absorb what it is that we are proposing,and then for them to go through an internal review and then a purchasingexercise. But right now I would tell you we are in full swing. We have signedquite a few customers, existing and also quite a few new customers who areimmediately signing up for the enhanced offerings which offers a premium.

But obviously we think we’ve delivered great value for thosenew offerings, so we are very pleased with the progress. We just wish we’d doneit five years ago.

Brad Smith -Dougherty

Okay. All right, thanks a lot, guys.

Barbara Doyle

Operator, I think that’s it for our call. Harry, do you wantto make some last comments?

Harry Debes

Yes. Just in closing, I think we were very pleased with theprogress in Q2, both as it relates to quarter-over-quarter performanceimprovement and also year over year. We feel reasonably positive about thebusiness. That’s reflective in the numbers and the improved guidance that Robhas given you and we look forward to speaking with you again in a couple ofmonths time when we discuss our third quarter. Thank you very much.

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