Salary.com F3Q08 (Quarter End 12/31/2007) Earnings Call Transcript

Salary.com, Inc. (SLRY)

F3Q08 Earnings Call

January 31, 2008 5:00 pm ET

Executives

Kent Plunkett – Founder & Chief Executive Officer

Chris Power – Senior Vice President & Chief Financial Officer

Analysts

Tom Roderick – Thomas Weisel Partners

Richard Davis – Needham & Company

Philip Ruepell – Wachovia Capital Markets, LLC

Laura Lederman – William Blair & Company, LLC

Brendan Barnicle – Pacific Crest Securities

Presentation

Operator

Good morning and welcome the Salary.com third quarter 2008 earnings call. Today’s call is being recorded. For opening remarks and introductions I would like to turn the conference over to the Chief Financial Officer, Mr. Chris Power. Please go ahead sir.

Chris Power

Good afternoon. This is Chris Power, Chief Financial Officer of Salary.com. Thank you for joining us today to discuss Salary.com’s results for the quarter ended December 31, 2007 which is Salary.com’s third quarter of fiscal 2008. Before I turn the call over to Kent Plunkett, Salary.com’s Chief Executive Officer, let me cover the following Safe Harbor Statement.

During the course of this conference call we will discuss our business outlook and make other forward-looking statements regarding our current expectations of future events and the future financial performance of the company. We want to remind you that these forward-looking statements are based on information available to us today as of today’s date and are subject to risk and uncertainty. We assume no duty or obligation to update these forward-looking statements even though our situation may change in the future. We encourage you to review our filings with the Securities and Exchange Commission which are available at www.SEC.gov for additional information on risk factors that could cause actual results to differ materially from our current expectations. We also intend to discuss some non-GAAP measures. A reconciliation of GAAP and non-GAAP results is available in the press release we issued today which is available on our website at www.Salary.com and which is filed with the Form AK today.

I will now turn the call over to Kent Plunkett.

Kent Plunkett

Welcome to Salary.com. I’m pleased to report that in the third quarter of fiscal 2008 Salary.com continued to build momentum as the leader in the on-demand compensation management market. We delivered our 27^th consecutive quarter of revenue growth by continuing to execute on our growth strategies. Notably in the third quarter we continue to see rapid revenue growth driven by expanding leadership position in comp management. We are increasing our presence in the pay performance and compensation management segments on a management market which is also complementing this growth. We’ve put in place the data and services components to complement our talent management software through the acquisition of Schoonover Associates, ITG Group last summer and have established a competency data services group. Our positioning as a provider of integrated data, software and [inaudible] expert services continues to resonate with our HR customers.

We invested our IPO proceeds successfully fiscal year 08 and in the coming year we will see several new product offerings launch and we expect synergy from acquisitions have a meaningful financial impact in fiscal year 09. We have continued to successfully balance generation of positive cash flow and growth with incremental investment innovation and remain committed to maintaining a low cost of operations as a key to financial health and long-term competitiveness. The proof of our ability to manage costs is evidenced by ability to invest in building a talent management business without impacting our ability to ramp our free cash flow margins into the high teens.

I am proud of our financial discipline and the flexibility it allows us to continue and invest for the future without sacrificing the present. I’m also happy to welcome Chris Power, our new CFO to his first conference call with Salary.com. Chris has been on board with us since the beginning of the month. Prior to joining us at Salary.com, Chris led the finance team at Monster Worldwide. His experience guiding Monster’s finance organization through rapid global expansion, numerous acquisitions and strong organic growth made Chris an excellent choice for providing the next generation of financial leadership to Salary.com.

Turning to the financial highlights for the quarter third quarter revenue for fiscal 2008 was $9.2 million representing 52% growth from a year ago. Subscription revenue was up 55% year-over-year driven by new customer licenses, recurring revenue, integration of acquisition and up-sell of additional products to existing customers. Advertising saw the benefits of enhancements of our website design made last year and other improvements to produce 23% year-over-year growth the fastest year-year-over growth we have seen in advertising for the past six quarters. We are also pleased with our continued efforts to manage expenses which led to a smaller than expected non-GAAP net loss of $848,000. Our operating cash flow was also very strong coming in at $2.3 million for the quarter and $5.4 million year to date. We remain on track to achieving our previous [inaudible] for operating cash flow of $7.8 million to $8.2 million.

Turning to the business our key success drivers remain in place today. Our success has largely been driven by our commitment to providing data-filled, on-demand software solutions for HR executives. Our unique ability to integrate our proprietary data sets with our on-demand software platform continues to drive growth. This data-filled software approach has been the foundation of our leadership position in the comp management market and is driving our success as we expand our customer share in the performance management market as well. The software as a subscription business model continues to drive our current revenue. The on-demand model provides high visibility assisting revenue growth and momentum even if the some of the troughiness we have seen in the economy continues. In terms of the current market environment customers are clearly keeping an eye on the economy but also seeing the strategic value in improving the efficiency and effectiveness of their compensation and performance management practices. Interest level among our customers and prospects remains high. Additionally we have not seen any adverse changes in the competitive environment and our newly architected talent management offering is receiving a warm reception from prospects and customers.

In the quarter we made progress in the areas of technology, data, sales and service. Notably we launched a new software platform for all of our enterprise products. In particular we have closed the gap substantially with the best of read application vendors in the performance management space. We have also added to our dataset through both acquisition and internal development with ongoing investments in the area of U.S. compensation database, a U.S. executive database, compensation datasets for other countries and for leadership and functional competency libraries. This increased breadth and depth of our solutions has helped increase the number of follow on, cross-selling and up-sell opportunity our sale forces has been able to pursue. At the same time we have expanded our services delivery team to accommodate much larger deployment to our larger customers as [inaudible].

Moving on to customer metrics we ended Q3 with over 2,700 enterprise customers adding over 250 new customers in the quarter and our enterprise customer retention rate remained consistent with historical levels. Our penetration within the Fortune 500 is now just under 25%. Marquee customer additions in the quarter included Bose Corporation, the City of Austin, Coach, Inc., Harry Winston, Lord & Taylor, P.F. Changs China Bistro, Salesforce.com, Time Warner, Unisys, Samsonite, United States Fire Insurance Company a/k/a Crum and Forster, and Exxon Mobil Corporation.

This continued growth and momentum is an outcome of our ability to delivering [inaudible] growth strategy. As I review our growth strategy you’ll note that we have kind of split it from five into seven growth strategies in order to more accurately reflect some of the initiatives that we’re leaning towards as we build the company going forward. The first is we’re maintaining our leadership position on focus on compensation management. In the quarter we deployed a rewrite of our flagship product, CompAnalyst, to successfully migrate our customers to the new compensation management platform. In the fourth quarter we will release new analytics tool, Merit Modeling to enable comp analyst clients to model the cost of various scenarios for the proposed distribution of merit budgets across the organization. We’ve also completed the application build of an international version of our flagship CompAnalyst product. We expect to see the Beta launch of our first non-U.S. product in dataset a software product in dataset for Canada in the fourth quarter. Other country datasets we made available as they are more fully developed and will simply be turned on inside of a product for those who purchase access to those.

Our second growth strategy is to continue to expand our human resources footprint and addressable market size. We are actually adding this new goal to our growth plans. Part of the opportunity facing Salary.com is the opportunity to further monetize the thousands of customer relationships it has built by creating new products and services and datasets to offer to those customers. We are well known for our fantastic service level and have built up substantial goodwill and credibility over the years with our customer base. We are committed to expanding what we do for these customers and to growing our addressable market opportunity to extend beyond just on-demand compensation. For example adding a complete performance suite offering adds about $8 billion in addressable market size to the $2 billion compensation management opportunity we talked about during our IPO.

A third growth strategy is to add more proprietary datasets. In the second quarter we announced the expansion of prior datasets through the acquisition of the ITG competency job models and the third quarter we acquired the Schoonover leadership library databases which we had previously held the license to. We now have competency databases for leadership and job-specific competencies and have gold standard competency consulting framework to guide the implementation of competency driven talent programs. HR buyer interest and demand for competency data is strong. We continue to add jobs to our U.S. database, expand the fields we compile and analyze for our U.S. executive proxy dataset and build out datasets for other non-U.S. countries. We continue to be optimistic that non-U.S. data product sales could become a significant driver of growth in fiscal year 09.

A fourth strategy is to develop new best-of-breed applications. In addition to the global version of CompAnalyst discussed earlier we are rapidly evolving our talent management offering into a best-of-breed offering. It is differentiated by our data build software program. We have seen clear evidence of increased demand and traction in the marketplace. Buyers continue to be focused on the Pay-For-Performance suite consisting primarily of compensation planning, performance management and succession planning. Our succession planning module is near completion and Beta release is expected in the near term. This module rounds out the major functionality of our Pay-For-Performance suite and customers are already purchasing. Our succession planning module will be unique in the market as we will provide competency-rich talent management software to manage the performance of the succession planning process.

Our fifth strategy is slightly revised and is to expand the sales team to support our drive for new customer acquisition and market share leadership into our businesses. With our latest CompAnalyst release migrated to our customer base our sales team is now demonstrating a duly broad in compensation management platform. For the fourth quarter we have aggressive hiring plans in sales. We are highly focused on the productivity of new sales reps and the new solutions we bring to the market. In a move to adopt more of an enterprise software selling methodology we tested last summer and after having a great success with it we are now adding a layer of HR compensation domain expert sales engineers who are equipped to our aids a handle a broader set of products and add more abreast practices expertise to our selling process. We believe the increase throughout the staff is offset by the higher priced point of the products they are trained to support and the increased productivity especially from our newer AE hires as they ramp up.

A sixth strategy for us is to up-sell, cross-sell and renew existing customers. Our up-sell initiatives continue to pay dividends and have provided a steady source of new business and existing customers to augment new account acquisition efforts while our renewal rates have remained consistent with prior periods.

Our seventh strategy and final is to selectively pursue additional [inaudible] acquisitions. After completing the acquisition of Schoonover Associates, Salary.com acquired a global 2000 competency consulting customer base and adds Dr. Schoonover to our management team. His mission is to build a world class competency driven talent management consulting practice as the General Manager our Competency Data Services Group. This rounds out our capabilities to deliver a total data software and services capability to our largest talent management clients.

We continue to look at strategic acquisitions as a way to enhance our value proposition and expand our leadership footprint in the compensation and talent management markets. In short Salary.com continues to operate at the intersection of several macro trends that are driving the adoption of on-demand HR solutions. As long as employers continue to show a strong focus on employee attraction and retention our products will find an interested buyer. We remain confident in our ability to grow our leadership position for the balance of the fiscal year and for many years to come.

With that let me turn the call over to Chris for review of our financial results.

Chris Power

Before I get into the financial details for the quarter I want to say that I’m very pleased to be here as part of a vibrant and growing leader in the human capital management arena. In this role it’s my intention to provide investors and analysts with transparent and open communications while providing a constant focus on driving long-term shareholder value. I look forward to working with each of you.

Turning to the results Q3 was a very good quarter for Salary.com. Revenue of $9.2 million was an increase of 52% year-over-year pushing our year-to-date growth rate to over 51% for the first three quarters of fiscal 2008. Subscription of $8.5 million was up 55% year-over-year once again demonstrating the predictability of our operating model. Advertising revenue of almost $700,000 was up 23% year-over-year showing acceleration from earlier in the year and growing faster than the non-search online ad market. As enhancements made to our site helped improve the quality of inventory and improve our overall pricing levels. The delivery of close to $200,000 of products and services in this quarter that were initially anticipated to be delivered in Q4 as well as some strength in our self-service small business channel helped push revenue to the top of our business outlook range for the quarter.

On a non-GAAP basis which excludes the amortization of intangible assets and stock-based compensation expenses our net loss of $848,000 was roughly half the midpoint of our previous outlook and an improvement of $200,000 from the second quarter. In addition to our revenue strength gross margins came in very strong at 81% though we do not anticipate being able to sustain these levels as investments in our professional services and content creation team will put mild pressure on gross margins moving forward.

From an operating expense point of view lower than anticipated personnel expenses with more employees added in China relative to the United States help control non-GAAP operating expenses. R&D expenses increased 22% on a year-over-year basis although our capacity for innovation increased a significantly faster rate as we are just beginning to enjoy the cost advantages and scaling benefits of our China operation. Over one quarter of our employees are now located in this low-cost high-productivity facility allowing us to leverage our fast and flexible software architecture to quickly deliver best-in-breed solutions. Sales and marketing expense was up 51% from a year ago but will likely increase slightly as a percentage of revenue in Q4 as we get increasingly aggressive in increasing our sales headcount and increasing our marketing investments to support our product pipeline. G&A for Q3 dropped from the previous quarter when a one-time legal settlement drove expenses up. We were able to absorb the cash severance costs for our CFO transition and still drive a sequential reduction in overall G&A.

While we are still in the midst of some first-time public company costs and will continue to spend for Sarbanes Oxley certification over the next two quarters we anticipate a significant leverage will come from this line as we grow the company.

Overall non-GAAP loss per diluted share was $0.06 compared to $0.20 a year ago and $0.08 in Q2. On a GAAP basis the net loss for the quarter was $3.1 million a $200,000 improvement from the midpoint of our outlook range and represents a loss of $0.22 per diluted share a marked improvement from the $0.43 loss during the same period of fiscal 2007. One-time non-cash severance costs of roughly $300,000 and the additional amortization costs associated with bringing some strategic data assets online offset much of the non-GAAP expense savings. Headcount finished the quarter at 343 up from 307 at the end of Q2 and 206 a year. Two-thirds of the headcount that has been added over both time periods has been in China.

Turning to our balance sheet cash and cash equivalents were $35.6 million at the end of Q3 a decrease of $3.8 million in the quarter as $3.7 million of cash was spent to acquire Schoonover Associates. We also continue to invest in strategic assets that will help us extend our leadership in the compensation management marketplace consuming $2.3 million of cash in the quarter. Record positive cash flows from operations of $2.3 million helped offset these expenditures and keeps us on track for a full year operating cash flow of between $7.8 and $8.2 million DSO of 40 days remain virtually unchanged from Q2 and was down significantly from 48 days a year ago.

As Kent mentioned total deferred revenue was $20.9 million compared to $18.3 million at the end of Q2 and $15.4 million a year ago. Total deferred revenue includes both current deferred and long-term deferred revenue component. Total deferred revenue does not reflect the full value of non-cancellable multi-year deals for which the unbilled portion is held off balance sheet. Capital expenditures and a capitalization of software and development costs combined total just $500,000 year to date. Positive free cash flow defined as cash flow from operations less capital expenditures and the capitalization of software development costs was $2.2 million for the quarter which helped drive year-to-date free cash flow margins to over 19% of revenue clearly demonstrating the impressive operating leverage in our business model.

Turning to our outlook for the fourth quarter of 2008 which ends March 31, 2008 Salary.com is anticipating revenue in the range of $9.6 to $10.1 million which represents a 54% growth year-over-year at the midpoint of the range and an acceleration of the growth rate relative to Q3. Non-GAAP net loss for the quarter is expected to be in the range of $1.1 to $1.3 million. This excludes non-cash stock-based compensation expenses of just under $1.6 million and amortization of intangibles of just under $800,000. Including these expenses are GAAP net loss is expected to be $3.4 to $3.6 million. This quarterly outlook results in our outlook for revenue for the full year in the range of $34.8 to $35.3 million an increase in the midpoint of the range compared to the company’s prior outlook and a growth rate of 52% year-over-year. For the full year on a non-GAAP basis which excludes approximately $5 million inn stock-based compensation charges and $1.8 million in amortization of intangibles we anticipate a net loss of $3.6 to $3.8 million a marked improvement relative to our previous outlook as a result of our solid control over expenses.

We will continue to invest in selling and marketing particularly in the expansion of our sales force and increased marketing in order to capitalize on the stream of new products currently in the pipeline for both the U.S. and international markets. We will also accelerate marketing directed at the small business space to allow us to penetrate this underserved market with our high margin self-service product. Gross margins will see some downward pressure as we strategically invest in our professional services team to support larger deployments at enterprise customers. The scalability of our R&D and the flattening of G&A expenses will help offset these expenses.

On a GAAP basis we anticipate a net loss of $10.4 to $10.6 million relatively unchanged from our prior outlook as investments in new datasets begin to be amortized, previously mentioned stock-based Q3 severance costs kick-in and the amortization of intangibles from our acquisition of Schoonover Associates will offset improvements in non-GAAP spending levels. We estimate an average basic and diluted share count of $14.2 million for Q4 and $13.8 million for the year. Our operating cash flow estimate for the year remains $7.8 to $8.2 million.

As we have indicated in the past any excess cash flow is more likely to be invested in the company for future growth initiatives. We anticipate free cash flow margins for the year to be in the 20% range an impressive achievement that demonstrates the excellent progress we’ve made towards our long-term goals. We see the opportunities in the marketplace and we will continue to invest to expand our leadership position in compensation management, our emerging uniquely positioned talent management offering and our overall strategy of partnering data software and services. We will utilize our high predictability and scaling leverage of our model to be prepared to move quickly regardless of the external environment. We remain confident about achieving our outlook for the balance of the year and believe our new product pipeline, strong competitive position and continued commitment to execution will deliver and drive superior growth.

Before we open up the call for questions I’d like to announce that Kent and I will be presented at the Thomas Weisel Partners Technology Telecom and Internet Conference on February 4^th as well as the Pacific Crest On-Demand Conference on February 28^th. And with that, I’ll turn it over to the Operator for any questions.

Question-and-Answer Session

Operator

Today’s question and answer session will be conducted electronically. (Operator Instructions) We’ll go first to Tom Roderick with Thomas Weisel Partners.

Tom Roderick – Thomas Weisel Partners

So I guess it’s becoming an underwritten rule that somebody has to ask on every conference call about the macro environment and what you guys are seeing out there, so I guess I won’t be an exception there, but there’s no shortage of talk about weaker employment numbers and, Kent, last quarter you indicated you saw a brief period of tighter spending from your customers followed by a strong finish to the quarter. Can you give us an update as to what has materialized from a demand standpoint for you in the third quarter and then thus far this year? That would be helpful.

Chris Power

Why don’t I take the first question asked which is an economic overview. We’re certainly not naïve enough to think that our customers aren’t watching the economic environment and some of the news, but if we look at our situation we’re a fairly low-ticket product that really help make human capital investments more effective and more efficient. Customers continue to look for ways to be more efficient and to operate more effectively regardless of the economic environment and we’ll continue to see the secular shift where we’ve gone from sort of paper based in automated systems going to more on-demand software as a demand and a trend that’s going to continue. Our retention rates, as Kent mentioned, remain strong and more importantly our new product pipeline is full and ready and available and beginning to come on line to sell to our existing customers. And finally since we have a very highly predictable business model we wanted be able to act quickly to any changes in the economy from a spend perspective.

Tom Roderick – Thomas Weisel Partners

That’s helpful, Chris. Thank you. Maybe following up you mentioned kind of a full boat of products that you have out there in the marketplace and the talent manager product was one that the company seemed to be pretty enthusiastic about in the last couple of quarters. Can you update us on what the sales team looks like there, how aggressively you’re investing in that sales team? And any metrics you can offer back from product adoption here would be helpful.

Kent Plunkett

Tom, we don’t break our businesses by product line but I can give you some color. In talent management we have been aggressively adding sales headcount and I think we mentioned that we added sales engineers to that team as well earlier this year. We experimented with several of our folks and we’re generally investing also in a larger sales engineering team to support not just talent management but also compensation management as that seems to be giving us a productivity lift where we apply that. So that’s rolling out in the next quarter or two. But in talent management we are growing the sales team, we’re getting good uptake on the product since we re-engineered it, re-architected it and gave it to sales to sell last fall. As far as customer counts we’ve in the past and at least for now we’re going to withhold kind of being more specific - Customer counts, comp management versus talent management. But both businesses are growing. Talent management is probably growing a little bit faster but off of a much smaller base of business. We just are basically very optimistic about both product lines and pleased to have closed the gap substantially on product features and functionality with [inaudible] and where before I think we were able to successfully sell a talent management application into a customer who had complex compensation needs, we were the best at supporting that in the category. We now are starting to sell deals that are stand-alone performance management. Compensation is part of the buying criteria. That is new for us and indicative of how far we’ve come on product development there.

Tom Roderick – Thomas Weisel Partners

Last quick question from me for you Chris. Can you give us a sense as to the directional movement of the term length of your deals in the quarter?

Chris Power

Yes. We really didn’t see any significant movement in the deal length with one small exception which is in our self-serve product which is really targeted at the small business sector and we did see a continuation of a trend there where we’re seeing more and more folks opting for a one-month product versus an annual product. In terms as kind of the core large enterprise business we didn’t see any real significant change in the contract length.

Operator

We’ll take our next question from Richard Davis at Needham & Company.

Richard Davis – Needham & Company

The first question has to do with on the expansion of your talent management suite. Usually some of the best, the most successful growth strategies have a product when you’re trying to compete in a marketplace that’s a super set of your competitors and as well as a reasonable price. You guys have always been known to price your products, frankly, pretty fairly and distribute them at a really low-cost methodology. Is that the right way to think about what you guys are doing as you kind of expand your presence in talent management?

Kent Plunkett

There’s a couple of things that customers are telling us are differentiating us from some of the larger companies that have been more focused on talent management than we have over the past five years and one is that the dataset differentiation, the data-filled software approach we’re bringing to the category basically mimicking what we did in compensation management as an approach is resonating with HR customers. They really like the investments we’ve made in competency libraries and the way that we’re integrating how competencies will work with the software to deliver more of a complete talent management solution.

The second thing is that we are understanding our platform is being viewed as more configurable. I guess that’s a technology advantage in the way that we architected the product so that we need less customization to get to go-live with and that’s probably more appealing to customers in kind of a 1,000 to 10,000 employee count level because the larger customers, more than 10,000 employees they can command the professional services resources that are required to customize even applications that are a little bit more rigidly architected but it’s giving us a nice selling advantage in that 1,000 to 10,000 employee range

And the third level is that probably half of the deals we’ve done have been into our existing customer base and for those customers they actually see our service levels as being really top-shelf compared to some of the other vendors that they’ve done business with in the past and so when we talk to them about what services we can provide them having to do with talent management they actually are true believers that we can deliver the same service levels in talent management that we deliver to them in compensation management. So that gives us a big leg up. Those are probably are biggest differentiates.

Richard Davis – Needham & Company

With regard to the move up kind of up with a little bit more towards enterprise sales is the way to think of this as a kind of a gradual approach or I can’t remember if you said how many kind of in effect quota carrying salesmen you have. I know you’re going to be rolling it out in 08 but just a little more color on how you’re going to manage the sales process and manage the hiring and kind of mix and match that.

Kent Plunkett

I think we will provide more visibility in the next earnings call about our sales force plans for fiscal 09. I think in the past we’ve suggested that we were planning to start the year at around 40 account executives and grow that by 40% to around 56 account executives. We’re looking at sales engineers frankly as incremental to those heads and we’re dividing up our sales organization between – We divided our organization all year between compensation management and talent management reps and we’ve been able to add headcount without frankly seeing - The territory opportunity is so significant that we’ve not run up into problems with creating space to add more headcount as far as giving them enough opportunities to work on.

Chris Power

Important to note as well is that this is not a brand new business for us. This is a business that we’ve been in and we now have the product that puts us in a very solid market position that we can really begin to capitalize. But we’re not starting from scratch so this is more of a gradual build over time.

Kent Plunkett

Like it’s more of an add on. That’s what I was getting at.

Operator

We’ll go next to Philip Ruepell with Wachovia.

Philip Ruepell – Wachovia Capital Markets, LLC

A couple of questions. First to kind of continue on the talent management product. I know you don’t want to break out revenues or bookings by products but can you give us a sense of whether or not you’re still in the investment phase of that product or as the way you measure it to bookings kind of cover the investment, the R&D that is going into that?

Kent Plunkett

We do not even run internal management reports at this point in time that are that precise but I could talk to it generally. Generally I believe that we are probably cash-flow positive contribution before the G&A line out of that business but I have to repeat I have no actual financial reporting basis for that presumption. We haven’t scrubbed any numbers there. But that business is large enough and the identifiable marginal headcount that’s applied to it all seems to line up. Probably the best evidence I can point to, I think that if we were heavily in investment mode for talent management it would be difficult for us to put up a 20% free cash flow budget. So talent management is not creating a significant drag on our free cash flow budget.

Philip Ruepell – Wachovia Capital Markets, LLC

You had mentioned the importance that your customers are placing on the competency libraries that you just recently added. How integrated is that today in the talent management product? Is it sort of a separate, stand-alone module? Are there ways that you can integrate it further? Is that something that customers are looking for going forward?

Kent Plunkett

We have a significant opportunity actually to integrate the competency libraries into our software suite. Actually ITG Competency Group which we purchased in August when we acquired it their standard delivery methodology was to deliver actual data in Excel spreadsheets. That’s pretty old school. We of course are building technology to make that a more interesting delivery vehicle and we’re developing the modules inside our talent management application to more tightly integrate those libraries and those competencies into other functionality across the talent management suite. But today we would be able to accept competencies into the application and use them inside of it but it’s basically a disconnected sale but it’s a sale that if you’re competency-driven talent management you would have to buy competencies from somebody, you’d have to buy an application from somebody. And we’re able to provide that together. That integration is going to get a lot tighter over the next 12 months.

Philip Ruepell – Wachovia Capital Markets, LLC

And then finally one for you Chris. You had mentioned a couple times that the expectations for gross margins, for them to moderate a bit and you mentioned sort of the incremental services cost. Is that based on some of the personnel you recently acquired, some of the stuff that’s happened in the past or do you anticipate adding more folks in the services area and is that really the kind of sole driver directionally of lower gross margin in the future?

Chris Power

I think if we look at it there’s definitely the impact of the acquisitions as we bring these folks on board, but also we look at it as absolutely a strategic opportunity for us to really build services on top of the data-rich software so we kind of get all three elements working together and we’ve seen some early successes there that certainly suggest that we continue to invest in that area.

Operator

We’ll go next to Laura Lederman with William Blair.

Laura Lederman – William Blair & Company, LLC

A few questions. One is I know that you have off-balance sheet bookings and so you can’t really the change in deferred and add it back to the revenues to get the growth, but if you do that math it only shows 30% growth down from 50 last quarter and 41 in Q1 so I wanted to ask how are bookings? Were they quite strong vis-à-vis the number you’re able to calculate off the balance sheet? Is that a misleading number?

Chris Power

Just to reiterate what we said in the past is we really don’t guide the bookings because of the very reason that they can fluctuate pretty heavily from month-to-month and quarter-to-quarter. But our pipelines remain very strong. We remain committed to the full-year numbers. Having said that if we kind of peel the quarter back just a little bit our new business number was a little lighter than we had hoped for and one of the challenges was the sales productivity and we’ve really taken a good hard look at put some significant actions in place to really improve that on a go-forward basis. For example we tested sales engineers this past summer on a small scale and we found that it really helped to boost the sales productivity of the AEs and as a result of that we’re rolling that out support all of our sales force on a go-forward basis so we expect to see that productivity pick back up. But as I mentioned we continue to see the strong pipelines in both talent management and compensation management and we’re confident of achieving our full-year outlook.

Laura Lederman – William Blair & Company, LLC

Following up on that point can you talk a little bit more about the sales execution issues and why they hit the new business this quarter and didn’t hit it last quarter? Because you’ve had the same sales process before the IPO [inaudible] so I don’t why it would hit you this quarter. I guess what I’m trying to get at is could it be maybe an impacted economy and really less sales execution on your part?

Kent Plunkett

Stepping back to the prior quarter versus the current quarter I think that our expectations are ramping as we go through the year and certainly the amount of sales execution we’re looking for especially out of the newer reps would increase as we go through the year. I think if there’s a place where we have more softness rather than less it was probably in the slower ramping or lack of ramping from some of the newer reps that we hired and that’s precisely why we think part of the solution is to put more experts on the phone with them when they’re early in their development. We’ve historically seen that it takes around nine months to get a rep fully ramped. Overall I don’t see it actually to be a significant block against the achievement of [inaudible] plan after this fiscal year or what we’re planning on for next year.

Laura Lederman – William Blair & Company, LLC

Why were these reps less productive than one you’ve hired in the past or is this periodically mis-planned because of new reps not ramping? And you knew you were ramping the reps so what I guess I’m asking is why did they ramp slower than what you thought because you knew you were hiring the reps. Sorry I’m coming across as inarticulate, it’s been a long week.

Kent Plunkett

We had significant competition for sales talent in the spring and in the summer and we have a much broader and more complex product line than we’ve had in the past. When we’ve ramped reps in the past we might have had one or two compensation products that they had to learn, now they about eight and it’s just more difficult for them to get through it. And some troughiness of the economy we saw earlier in the year and that may frustrate a few people who instead of getting their first one or two deals don’t necessarily break through. We obviously looked at all these things, diagnosed the problem and began to put fixes in frankly as early as September, October.

Operator

(Operator Instructions) We’ll go next to Brendan Barnicle with Pacific Crest Securities.

Brendan Barnicle – Pacific Crest Securities

In the quarters now that we’ve had you guys as a public company it’s been pretty consistent that you’ve beaten on the bottom line EPS and shown sort of better leverage than where guidance had been. As you look at the model now after having been public for a year do you still think that the profitability is still a couple of years out or is there a chance that we may see faster profitability based on the leverage you’ve been able to demonstrate?

Kent Plunkett

I think right now we continue to see the opportunity in front of us. We’re pretty pleased with the improvement in our product portfolio, both what’s available in public now and also what’s in the pipe. So we’re going to continue to invest to get at that opportunity. I think we are still driving towards the same milestones and the same commitments and we just continue to get closer to it.

Brendan Barnicle – Pacific Crest Securities

And you also had some very large customer wins in the quarter. I think it was like Exxon Mobil that you mentioned. What level of penetration are you at on some of those big customers and what’s the follow on potential they look like?

Kent Plunkett

I want to believe that Exxon Mobil was close to a six-figure deal and I believe that was actually a competency data win. That’s a nice piece of business. I do know that we’re talking about other things, I just don’t know what the prospects are for other things going forward but certainly they’re looking at competency data, talent management [inaudible]. I am sure we’re talking about compensation [inaudible]. But we are finding that there is an opportunity to cross over. We talked about the cross over between people who buy talent management are interested also in compensation management from us because they like dealing with a single vendor but we’re finding the same kind of cross over exists in competency management data customers and are looking at talent management software. In fact we have one client that’s asked us to can you take all our jobs, link them to your pay dataset and then link them to competency models and deliver [inaudible].

Brendan Barnicle – Pacific Crest Securities

Just following up on the question on the sales force and the training. It sound like you said are putting those changes as fixes back in September, October. Have you started to see any impact in them in this quarter, in the fourth quarter, either in January or June at the end of the month seeing how some of those things have worked post Q from high Q3?

Kent Plunkett

I don’t want to make it sound like we had this big meeting we said oh my God we’re in trouble with September. As we look at it now we say Wow we actually really changed the business without really noticing that we were changing how we were managing sales and revolving sales. It’s easy to look back at it now and say look at what we were doing last June and look at what we’re doing now. Really it had to do more with the increased functionality and the increased complexity of some of the higher level apps that we’re selling and it became natural that people needed more support on the phone to be able to talk intelligently to – It’s basically a market of very smart customers and they ask questions that are very technical and technical in the compensation sense. And the same thing with talent management. When you’re talking [inaudible] professional. Some of these people are actually PhD psychologists and so for these types of customers we gradually found that we were more successful when we involved professional services people acting as sales engineers, then we took a couple PS people, made them sales engineers. That worked really well and now we’re expanding that effort and we’re going to provide sales engineering help across the board.

One other thing that we did was that we began to hire sales people that cost a little bit more in base pay but that have prior human capital management fields experience and so they came with a pre-learned level of HCM knowledge of the language and the tactics of the best practices that had HR experience and those people have been much more successful in their first six months of ramping than probably the set of people we hired in kind of January of last year.

Operator

There appear to be no further questions at this time. I’d like to turn the call back to our speakers for any additional or closing comments.

Kent Plunkett

Thank you everybody for joining us on our conference call. We are pleased to be working hard on your behalf and we appreciate your support. Thank you very much.

Operator

And that does conclude today’s conference call. We again thank you for your participation and you may disconnect at this time.

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