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Blackboard Inc. (NASDAQ:BBBB)

Q4 2007 Earnings call

February 05 2008 4:30 pm ET

Executives

Michael Stanton – VP of IR

Michael Chasen– President and CEO

Mike Beach – CFO

Analysts

Amy Junker - Robert Baird

Michael Nemeroff - Wedbush

Trace Urdan - Signal Hill

Goran - Thomas Weisel Partners

Brandon Dobell - William Blair& Company

Terry Tilman - SunTrust RobinsonHumphrey

Nate Swanson - ThinkequityPartners

Bennett Notman - Davenport

Operator

Good day, ladies and gentlemenand welcome to the fourth quarter 2007 Blackboard Incorporated earnings call.(Operator Instructions).

I would now like to turn the callover to Mr. Michael Stanton, Vice President of Investor Relations. Pleaseproceed, sir.

Michael Stanton

Thanks, Colby and happy Tuesday everyone,and thank you for joining us for Blackboard's fourth quarter and year endconference call. I'd like to remind everyone that except for historicalinformation presented, the matters discussed today may contain forward-lookingstatements, under the Safe Harbor provision of thePrivate Securities Litigation Reform Act of 1995. Such statements are basedupon management's current expectations and are subject to a number of risks anduncertainties that could cause actual performance and results to differmaterially from those discussed in the forward-looking statements.

Among the important factors thatcould cause actual results to differ materially from those indicated by suchforward-looking statements are: delays in product development, undetectedsoftware errors, competitive pressures, technical difficulties, marketacceptance, availability of technical personnel, changes in clientrequirements, risks of international operations, general economic conditions,the integration of the NTI Group and such other risks as described in the riskfactor section of Blackboard's most recent Form 10-Q on file with the SEC.

Blackboard undertakes noobligation to update or revise forward-looking statements to reflect changedassumptions, the occurrence of unanticipated events, or changes in futureoperating results.

A few administrative notesrelated to some of the metrics we will provide today. First, we will providenon-GAAP adjusted net income and non-GAAP adjusted net income per share on thiscall, and additional information regarding our operating results. The measuresare not in accordance with, or an alternative for GAAP and may be differentfrom other non-GAAP measures used by other companies. Blackboard believes thatthe presentation of these non-GAAP financial measures provides usefulinformation regarding additional financial and business trends relating to thecompany's financial condition and results of operations. A reconciliation ofGAAP and non-GAAP methods has been provided in today’s earnings press releasewhich is available on our website.

The second administrative noterelates to our contract value, which we will also be discussing today. Ourcontract day represents the annualized recurring ratable revenue under existingcontracts with clients, in effect at the end of the quarter, and with thatregard, the remaining duration or renewal of such agreements. This is notintended by management for the estimation of, or as a proxy for future revenueto be recognized, the management believes that it is a useful tool for investorsto evaluate our current operating performance.

The third administrative noterelates to our recent acquisition of NTI, which we closed this as Thursday. Wewill provide preliminary estimates including, but not limited to the impact ofcertain purchase accounting adjustments and amortization expense. As wecomplete the final purchase accounting for the NTI transaction, theseassumptions may vary materially from actual results.

Finally, we have once againprovided supplemental information related to licenses, claims, and contractvalue on the Investor Center section of ourwebsite at investor.blackboard.com. The document is titled, Q3 2007 BlackboardMetrics. On today's call are Michael Chasen, President and CEO, Mike Beach, ourChief Financial Officer.

At this time, I'd like to turn itover to Michael Chasen. Michael?

Michael Chasen

Thank you Michael Staton andmight I add Happy Birthday. Good afternoon everyone. Blackboard as a companyhas grown from an organization that originally sold just basic level coursemanagements software at institutions in higher education to an organizationthat today, provides the enterprise technology that institutions use to improveall aspects of academic life that student experience. Blackboard technologyhelps higher education; K-12, corporate and government organizations to extendlearning online, facilitates a career for students in commerce and access andenables effective communications to their entire organization. Each day,million of students in thousands of institutions use Blackboard as part oftheir academic alliance.

What I would like to do today isto talk to you about some of the numbers behind our growth and then discusssome of our opportunities for 2008. First, I will give you a summary of ourperformance for the quarter ended December 31st, 2007 and some of the majorcontributors to our results.

I will then provide an update onour operational priorities in 2008, including our recently closed acquisitionof NTI. Finally, I will then turn the call over to our CFO, Mike Beach to takeus through a more detailed review of the financials and guidance. And we willclose with your questions at the end of the call.

We had another excellent quarterand a terrific year in 2007. In the fourth quarter, we increased revenuesyear-over-year by 23% to $63.2 million. Our GAAP net income was $4.2 million or$0.14 per basic and diluted share. And our non-GAAP adjusted net income was$7.7 million or $0.25 per diluted share. For the full year, we had revenue of$239.4 million, a 31% increase from a year ago. Our GAAP net income was $12.9million resulting in GAAP net income for a basic share of $0.45 and GAAP netincome per diluted share of $0.43. Our non-GAAP adjusted net income was $26.2million or $0.87 per diluted share.

All of our results were inline orahead of our guidance and I think that this is a tremendous accomplishment andtestament to the hard work of our employees at Blackboard.

Now, as a reminder, Blackboard'sbusiness model is primarily driven by first, our ability to renew our largesubscriber base of clients, which provides a great operating leverage inherentin our business. Second, our ability to expand our existing clientrelationships, growing their subscription value over time by addressing moreand more of their emerging technology needs. And third, our ability to add newclient subscribers across the education spectrum here in the United States and around the world.

A few examples of fourth quarterdeals in the US Higher Education include: Colorado State University, Colorado,which licensed the Blackboard Learning System, the Blackboard Community Systemand our ASP hosting offering during the quarter; Kendall College, which adoptedour Blackboard Learning System and the Blackboard Content System and finally,the Kentucky Community and Technical College System was the latest US HigherEducation Institution to adopt the Blackboard Outcome System.

On the international front, in England, both LewishamCollege and Newcastle Collegelicensed the Blackboard Learning System to bring their academic institutionslearning environments online. Amersham & WycombeCollege and NielsBrock College,Copenhagen are two of our newest enterpriseclients in Europe to take advantage of our ASPhosting offerings. I would also note here that we ended 2007 with more than 60international ASP clients at our Amsterdamhosting facility.

In the fourth quarter, we werepleased to have our first two international sales of the Blackboard OutcomesSystem to the Caribbean University and the AmericanUniversity of Sharjah in the United Arab Emirates.I think that the American University of Sharjahdeal is particularly noteworthy, as it was the first Blackboard Outcomes Systemdeal sold by an international reseller.

In K-12, I would like tohighlight a couple of deals, including Jefferson County Public Schools whichadopted the Blackboard Learning System, the Blackboard Community System and theBlackboard Content System. Similarly, the Mississippi Department of Education,center for professional developments, adapted the Blackboard’s learning system,the Blackboard’s Community System, the Blackboard Content System and our ASPhosting offering. This deal highlights some of the great success we’re havingacross all levels of education in Mississippifollowing our second quarter academic suite deal with the community collegesystem.

For the year, we ended 2007 with3,536 clients, which included 1,915 US Higher Education institutions, 932international clients, 388 k-12 entities and 301 publishers, commercialeducation companies, corporations and government organizations.

Moving on to licenses, we endedthe year with a total of 3,935 enterprise category licenses. Breaking downthese licenses, we had 2,293 licenses of Blackboard learning system enterprise,749 licenses with the Blackboard Community System, 431 licenses with theBlackboard Content System, 24 licenses with the Blackboard Outcomes System and438 licenses with the Blackboard Transaction System. Investors should note thatwe are including both the Blackboard portfolio system in Xythos contentmanagement licenses under our Blackboard Content System adding.

In terms of the BlackboardLearning System basic product, we had 954 licenses at the year end. The totalnumber of enterprise of basic licenses at the end of year was 4,889. In terms of ourASP hosting business, we finished the year with 522 ASP hosting clients. TheCompany’s up sale rate were enterprise license of Blackboard Learning Systemwas approximately 13% in 2007. Our renewal rate, which represents thepercentage of renewal dollars collected at the overall pool, targeted forrenewal for the trailing four quarters was 92% which was higher than the 91%renewal rate we reported in 2006.

As for contract value, wefinished the quarter with an annualized contract value of $198 million. Thisrepresents an increase of 21% over 2006. This resulted in average contractvalue per client of $56,000 and an average contract value per license of$40,500, both of which represent an increase of 19% from the prior year.

Our total headcount at the end ofthe fourth quarter was 890 people. We ended the quarter with 189 people insales, 77 in marketing and business development, 186 in product development, a157 in support, ASP Hosting and production, 130 in professional services and151 in operations.

Before I turn it over to our CFO,Mike Beach, I would like to provide a few comments on some of our operationalpriorities in 2008 for both our organic business, as well as the integration ofthe NTI Group.

In November, we outlined productdevelopment plans to develop more K-12 specific functionality within ourAcademic Suite products, specifically, safe standards alignment and lessonplanning. As a reminder the drivers of K-12 development plans are theincreasing number and increasing dollar sizes of K-12 RFPs, as well an someemerging statewide education opportunities. We are aligning our developmentefforts closely with the current K-12 market needs and most importantly fundingsources, which is in some cases, are billion of dollars per year. Thisdevelopment priority is now underway and will position us well in the K-12market.

Also in product development, wetalked last quarter of our plans to continue to ensure product stability forinstitutions on the legacy WebCT code base. We are committed to identifying andaddressing issues that could affect our clients Blackboard experience.

In December, we released ServicePack 3 for former WebCT clients and we have current plans to release version 8of the Blackboard Academic Suite this coming spring. These investments will notonly pay near-term dividends through client retention, but will also greatlyenhance our ability to cross-sell products to these clients over the next fewyears.

The final investment area I wantto talk about relates to our ASP hosting business. We talked last quarter aboutour plans to open a new international ASP hosting facility. And I am pleased toreport that we are already up and running with our new location in Australiaand have our very first client. We are honored to have the curriculum councilof Western Australiaas our first Australian ASP client. The education environment in Australiais generating a significant amount of demand for our new facility and we expectto have great success with this new hosting center.

In terms of the NTI transaction,I am pleased to report that Blackboard closed the NTI deal last week. We arevery excited about this addition to our business, and so are many of ourclients.

As we mentioned on our previouscall, we continue to work closely with our large and growing installed base ofinstitutions. We witnessed several trends in the education marketplace takingplace. First, as online learning continues to grow and more institutionsutilize the internet to connect with traditional and virtual students, it isbecoming increasingly important to have a capability to deliver mappedcommunication with large populations of users across an array of technicaldevices.

Second, it has become imperativethat academic institutions have the ability to quickly and effectivelycommunicate with their entire campus constituency in the wake of a range ofschool and campus tragedies, severe weather and other safety concern.

Third, institutions are focusingon mobile centric strategies and looking to tightly integrate their learningenvironments with cell phones and PDAs. By augmenting Blackboard's existingproducts with NTI's messaging and notification technology, Blackboard can helpinstitutions better these industry challenges and trends.

With NTI, Blackboard joins a fastgrowing alert and notification market, forecasted by Yankee Group to grow in anestimated $1.2 billion by 2011, representing a five year compounded average annualgrowth rate of more than 30%. With the acquisition of NTI's Connect family ofproduct, we have added an important complimentary technology offering to ouroverall product portfolio. We’ve also added a significant number of neweducation clients, including more than 1,200 new relationships with the US K-12market and nearly 100 new relationships with higher education. And with NTI’stechnology, we believe that we can effectively deepen our relationship with the1,900 institutions in North American higher education we currently serve, aswell as attract new clients.

Finally, I said this past week,in our new LA office where the NTI team is based and I’m more certain than everthat this acquisition is a great cultural fit. Our newly acquired employees areincredibly talented and motivated and I could not be happier to welcome them toBlackboard.

Now, I will turn the call over toour CFO, Mike Beach, to cover our financial and future guidance. Mike?

Mike Beach

Thanks Michael. I organizetoday’s financial review around the income statement, balance sheet and cashflow, and will close with the outlook and guidance for the first quarter andfull year of 2008. Revenue for the fourth quarter of 2007 was $63.2 million, up23% from last year. The increase in revenue was driven by continued growth inthe annual licensing of our enterprise level products, as well as continuedstrong growth from our ASP hosting business.

Product revenue for the quarterwas $57.4 million, representing an increase of 23% over the same quarter lastyear. Professional service revenue for the quarter was $5.8 million whichrepresents an increase of 26% over the prior year.

In terms of revenuecharacterization, we also break out our revenue by the nature of the revenuestreams, which include ratable recurring, ratable non-recurring and otherrevenues. For the quarter, ratable recurring revenues increased 24% to $49.4million compared to $39.8 million in the same quarter of last year. Ratablenon-recurring revenues increased less than 1% to $5.5 million as compared to$5.4 million in the same quarter last year.

Other revenues increased 36% to$8.4 million as compared to $6.2 million in the same quarter of last year.

Moving on to gross profit, ourgross profit for the fourth quarter excluding stock based compensation andamortization of acquired technologies was $47.1 million as compared to $37.3million in the same quarter a year ago, representing an increase of 26%. Forthe quarter our gross margin was 75%, excluding stock based compensation andthe amortization of acquire intangibles.

Total operating expenses,excluding the cost of revenue stock based compensation and the amortization ofacquired intangibles, were $31.6 million representing an increase of 12% ascompared to $28.3 million in the same quarter last year. For the quarter, weincurred stock based compensation expense of $3.3 million, amortization ofacquired intangibles were $5.7 million, which was approximately $300,000 higherthan our original guidance, due to the acquisition of Xythos Software, Inc. inDecember.

During the quarter, weexperienced a negative impact on earnings from currency translation losses.This relates to activity during the quarter and the pay down of certain innercompany debt, which will significantly reduce the impact of translation, lossesand gains in future periods. We also experienced the positive impact in netincome from our tax provision, resulting from the completion of certain taxprojects during the fourth quarter.

Our net income was $4.2 millionin the quarter, resulting in net income per diluted share of $0.14. Adding backthe amortization of acquired intangibles, net of the associated tax impact,results in non-GAAP adjusted net income of $7.7 million or non-GAAP adjustednet income of $0.25 per fully diluted share.

In terms of the balance sheet, weclosed the quarter with $207 million in cash and cash equivalents. Accountsreceivables increased slightly to $52.8 million at the end of the quarter, from$52.4 million for the same quarter last year. Current deferred revenuesincreased to $126.6 million at the end of the fourth quarter, up 7% from the$118 million at the end of the fourth quarter in 2006. Current deferredrevenues related to recurring products totaled $111.9 million, compared to $102million for the same quarter last year, representing a 10% increase.

An important reminder here forinvestors, similar to last quarter, our new purchase order policy resulted inapproximately $7 million of invoicing shifting from the last weeks of thefourth quarter to the first weeks of the first quarter in 2008. It's importantfor investors to take this change into account when comparing Blackboard'sdeferred revenues and accounts receivable balances with prior periods.

Cash flow provided by operationstotaled $29.6 million for the fourth quarter, which represents a 140% increasecompared to the fourth quarter last year. We are pleased with cash flow in thequarter and continue to see the benefits of the purchase order process weimplemented in the second quarter of 2007. Capital expenditures were $4.9million in the fourth quarter.

Now, turning to the full yearincome statement. For the year ended December 31st 2007, revenue was$239.4 million, an increase of 31% over 2006. Net income was $12.9 million forthe full year 2007 compared to a net loss of $10.7 million for 2006. Net incomeper basic share was $0.45 and net income per diluted share was $0.43 comparedto a net loss for basic and diluted share of $0.39 for the full year 2006.

Adding back the amortization ofacquired intangibles, net of the associated tax impact resulted in non-GAAPadjusted net income of $26.2 million or non-GAAP adjusted net income of $0.87per fully diluted share. Cash flow provided by operations totaled $69.4 millionfor the year, which represents a 203% increase as compared to 2006.

Moving on to guidance, for thefirst quarter of 2008, we expect revenue of $64 million to $66 million. Stockbased compensation expense of approximately $3.9 million. Amortization of acquiredintangibles of approximately $8.7 million, GAAP net loss of $5.7 million to$4.9 million resulting in a GAAP net loss per diluted share of $0.18 to $0.16which is based on estimated 31.5 million diluted shares and an estimatedeffective tax rate of 39.5%.

And non-GAAP adjusted net loss orincome, excluding the amortization of acquired intangibles and the associatedtax impact of a range from a net loss of $500,000 to net income of $300,000,resulting in non-GAAP adjusted net loss per diluted share of $0.02 to non-GAAPadjusted net income per diluted share of $0.01 based on estimated 31.5 milliondiluted shares and an estimated effective tax-rate of 39.5%.

For the full year of 2008, weexpect revenue of $306 million to $314 million. Stock based compensationexpense of approximately $17 million, amortization of acquired intangibles ofapproximately $38 million, net interest expense of approximately $2.5 million.GAAP net loss of $4 million to $800,000 resulting in a GAAP net loss perdiluted share of $0.12 to $0.02, which is based on estimated 32.4 millionshares and an estimated effective tax-rate of 39.5%, and non-GAAP adjured netincome, excluding the amortization of acquired intangibles and the associatedtax impact of $18.8 million to $22 million resulting in non-GAAP adjusted netincome per diluted share of $0.58 to $0.68 based on estimated $32.4 milliondiluted shares and an estimated effective rate of 39.5%.

It's important to recognize thatour 2008 guidance includes our recent acquisition of NTI and an initialestimate of a $12 million reduction in deferred revenues to be made duringpurchase accounting. Our guidance also includes an estimated $13.8 million ofincreased amortization expense and $5 million in non-recurring merger and anintegration cost.

We also want to provide you witha look of how the NTI acquisition would have affected our 2000 results on a proforma basis, excluding purchase accounting and the non-recurring acquisitionrelated cost. We are providing you with this information today, but we will notbe doing so on a go forward basis and we will be reporting only GAAP andnon-GAAP adjusted results.

With that said, if you take themidpoint of our 2008 revenue guidance as the starting point. Blackboard's proforma revenue and non-GAAP earnings per share guidance would have beenapproximately $322 million for revenue and $0.95 for non-GAAP adjusted earningsper share for 2008, which shows the slight accretion that we previouslydiscussed.

A few other comments related toguidance, we expect cash flow from operations to be between $70 million to $78million in 2008. This guidance assumes higher cash taxes in 2007, as well asthe impact of the $5 million in non-recurring merger related cost during theyear. We expect that CapEx will be slightly higher than our normal range of 6%to 7% in 2008, due to one time expenditures related to the relocation of ourcorporate headquarters, which we originally expect to take place in 2007, whichis now pushed into the beginning of 2008. We would expect CapEx to return to 6%to 7% of revenues in future years.

Finally, our 2008 financialguidance excludes any impact of the pending patent infringement suit againstDesire2Learn Inc. This matter is scheduled for trial beginning later this monthand we will provide informational updates as they become available.

That concludes the discussion ofBlackboard’s financial. Now, let me hand it back to Michael Staton for closing.Michael?

Michael Staton

Thanks Mike. We plan to be atseveral upcoming investor conferences later this month, as well as into Marchso we look forward to spending time with investors face to face. And before Iturn it back to the operator for Q&A, I’d just ask everyone that’s in queueto limit questions to a single question and a follow up and then have folks getback in queue. I know that a lot of analysts have other companies reportingtoday so, I want to make sure that we get through everybody’s questions in anefficient manner.

That concludes our formalcomments. Operator, we’re ready to begin Q & A.

Question-and-Answer Session

Operator

(Operator Instructions) Yourfirst question comes from the line of Amy Junker with Robert Baird. Pleaseproceed.

Amy Junker - Robert Baird

Just a quick question on, Iguess, if you could help quantify what percentage of your current client baseare subscribers of just the basic learning system so of the total customer basethat you have and I guess, maybe within the US Higher Education is what I’mlooking for. And what you’re comfort level is and your ability to up sell thoseclients. I guess I 'm just trying to get a handle on what the real up sellopportunity is left at this point?

Mike Beach

Amy we ended the year with 954basic customers. We don’t break that up by market, so it's 954 basic customers.When you look at that kind of up sell historically, it's ranged, about 10% ofthe basic customers have upgraded on an annual basis. This year, we ended theyear with slightly more than that; 13% of the customers moved from basic toenterprise during 2007.

Amy Junker - Robert Baird

So that 954 actually representthe number of clients, because I thought some client might have multiple basiclicenses?

Mike Beach

Well, yes --so it is possible forthem to have multiple basics, but in general it's a fairly good proxy for thenumbers of clients.

Amy Junker - Robert Baird

Okay. Thanks and if I could justa quick follow up, although unrelated, on the professional services. That line,that revenue really rebounded from the last couple of quarters, was that just afunction of you making the decision to pay bonuses on that or commissions onthat or was there something else that drove that and do you think that thatlevel is sustainable?

Mike Beach

Yeah. So, I think it's just amatter of focus. I think we focused on it during the year and got it backinline with kind of what our expectations for services would have been for thefourth quarter as we entered 2007.

Amy Junker - Robert Baird

Okay, Great. Thanks.

Operator

Your next question comes from theline of Michael Nemeroff with Wedbush. Please proceed.

Michael Nemeroff - Wedbush

Hi, guys. Just a couple ofquestions on the guidance specifically around Q1, I was curious that theguidance for Q1 was a little bit lower than what I was expecting. How much ofthat did the deferred or the acquisition write-down from NTI affect Q1?

Mike Beach

Yes. Michael, the NTI transactionwhich closed last Thursday, obviously there is only two months worth of resultsand it is significantly, any revenues are significantly impacted by thepurchase accounting adjustments. So we don’t expect to see any materialrevenues in the first quarter for NTI.

Michael Nemeroff - Wedbush

Okay. So, no, really no revenues.You are going to get no revenues after the write downs from NTI in Q1?

Mike Beach

Yeah. It isn’t that nothingmaterial.

Michael Nemeroff - Wedbush

Okay. That makes sense. And Iguess how many of your existing higher rate customers have a product like NTI?

Mike Beach

A lot of clients are starting tolook at it. Of course, many already have, for example an email system in placeor starting to use some of the SMS messaging technology. But as far as thesolution that has, that covers the multi modal functionality built into NTImeaning that you can send a voice message, an e-mail, SMS or text and you cansend it in a way supported by a fully hosted solution that can reach thatamount of clients in minutes. While there are about a 100, just over 130clients have the NTI specific solution. As far as institutions they have thatfull range of capabilities, we think that it is still pretty much a wide openmarketplace.

Michael Nemeroff - Wedbush

And then, just one quick followup on that. I think you had mentioned, Mike Chasen that you thought the marketfor that product was growing at a CAGR of about 30% per year. Do you expect therevenues from NTI to grow about the same rate?

Mike Chasen

That market stat was actuallyfrom Yankee Group who predicted that that was what the market was growing at.Certainly, we think that there is a large amount of upside, because of thecombination of NTI with Blackboard and just how naturally our products aregoing to be incorporated together and the fact that they really are notpenetrated in higher [rate] where we obviously have a very strong install base.It's probably hard at this point as we just completed the merger to put somespecific growth number around it, but obviously, we think that there is a lotof opportunity there.

Michael Nemeroff - Wedbush

So, you think you’re going togrow at the market rate at least?

Mike Chasen

It really would be hard for me tosay at this specific point in time, but certainly we think that there are a lotof opportunities since they are barely penetrated in the higher educationmarketplace where we are strongest.

Michael Nemeroff - Wedbush

Okay. I will get back in queue.Thank you

Operator

Your next question comes from theline of Trace Urdan with Signal Hill. Please proceed.

Trace Urdan - Signal Hill

Yes, good afternoon. I’m a littlestruck that this acquisition is something. Effectively a software productwouldn’t kind of come with more synergies than may be there are, what if youconsider walking through the cost structure of NTI a little bit and explainwhere the costs that are coming into your income statements are and why thoseare necessary in order to grow NTI and not duplicative. Are you supporting anR&D effort there? For example, are you having a dedicated sales force withNTI? Can you talk us through some of those cost items associated with NTI?

Michael Chasen

Sure, but where we think there isreal opportunity, for Blackboard it is not necessarily in the area of the costsynergies. We really think that this type of opportunity is about the revenuesynergy generated by connecting together the strength in the products andreally the focus in the different education market. So for example, NTI hasbuilt up over 1,200 great relationships in the K-12 space, with 1,200 differentsuperintendences in districts.

Obviously, they’ve just startedto penetrate the higher ed spaces, since they have only about 130 clientsthere. Compared to obviously Blackboard’s strong market penetration in highered, we've just started to go into more deeply in K-12. So we think that byleveraging Blackboard’s higher ed relationship with NTI technology andleveraging NTI’s relationships in K-12 with Blackboard’s technology. What weare looking at is some synergistic revenue upside and so when we bring thesecompanies together, we are not looking at it from a way to just reduceexpenses, because we think that this market is really has a lot of opportunityin front of us and is just starting to build up momentum.

Trace Urdan - Signal Hill

Right, so are there license feesthat you are paying that are part of the cost structure here?

Mike Beach

See Trace, when you think of thecost to sales for this business, there are telecom charges where every timemessages are sent out. There are cost of sales related to that. So, that is --we talked about it in the last call that their margins are going to be slightlyless than ours in the kind of low to mid 60% range at a gross level. Other thanthat they have a fairly efficient cost structure. It is a software, it's aservice model and it has been growing at a nice rate and we want to continuethat growth.

Trace Urdan - Signal Hill

Okay.

Operator

Your next question comes from theline of Tom Roderick with Thomas Weisel Partners. Please proceed.

Goran - Thomas Weisel Partners

Hey, guys this is Goran for Tom.So I want to wish Michael Stanton a very happy Birthday.

Michael Stanton

Thank you, Gor.

Goran - Thomas Weisel Partners

No problem.

Michael Stanton

Thank you Michael Chasen formentioning that.

Goran - Thomas Weisel Partners

So with NTI can you talk about whoare targeting within the enterprise? Who are you selling into? Say, if a personthat’s going to buy a Blackboard Learning System or are you really targeting toa different person with the sale?

Michael Chasen

Yeah, I think the answer is alittle bit of both. Certainly what we've seen is that the buying decision forboth products have really started moving upstream and more and more we aredealing with the CIO's or the Presidents, the promos who are making eitherinstitution wide or in some cases system-wide technology decisions. Andcertainly the type of technology that we are offering, either of our missioncritical e-learning solutions, our campus card solution or now this massmessaging and notifications solutions are all technology decisions that affecteveryone on campus and therefore that’s now more and more being owned by thehigh level official.

That being said, when we aretalking on campus, to say heads of academic computing and we are able to showthem some of the benefit of using map notification and messaging as a way toreach out to all the students that are now online in their e-learning system oreven though when talking to, lets say the head of facilities, the CFO abouttheir campus card solution and talking about how they can use the NTI productto extend their campus security offering is really I guess a long winded way tosay, it is certainly these decisions that will be made by the senior leadershipat the institution. But it is also something that resonates with the otherdepartments as well.

Goran - Thomas Weisel Partners

Okay. That makes sense. And justswitching gears, you said that your renewal rates are now at 92%, could youperhaps talk about what your new rates would look like if you excludednon-renewing basic edition customers, would they be higher, about the same?

Michael Chasen

Well, we don’t specifically breakthat up, but certainly the largest amount of drops that we see across thevarious platforms, would be in our basic product line, as clients either useour enterprise software or have more than one product, those renewal rates godown substantially. So it would be hard for me to do the math in my head, but Ican tell you that the majority of our drops are coming from our basic clients.

Goran - Thomas Weisel Partners

Yeah. Thank you very much. I willjump back in the queue.

Operator

Your next question comes from theline of Brandon Dobell with William Blair. Please proceed.

Brandon Dobell - William Blair & Company

There is a question on contractvalue. How are you guys going to look at NTI, given your contract value or yourbookings perspective, for example was there any, would there be any impact inlike the first quarter contract value and when are you guys going to reportthat, those results, or how should we think about it? How are guys going toreport that number?

Mike Beach

Well, we will provide on it on anongoing basis that combines contract value of NTI and Blackboard. We, obviouslyin the first quarter, will give inside as to what the initial impact of addingNTI would be.

Brandon Dobell - William Blair & Company

Okay

Mike Beach

But, we closed the deal onThursday, so there is still finalization of purchasing accounting so we cankind of provide that number exactly. We talked about a $39 million number onthe last call and that should be kind of a ballpark of what the additional bag.

Brandon Dobell - William Blair & Company

Okay. And then a quick one, ifyou look at the last couple of three quarters, excluding Xythos' portfolio, thenumber of contracts or content license hasn’t grown awfully a lot may be justtalk a little bit about what’s going on there, how has the behavior been onrenewal within content, just trying to get a sense for, why those lines aregoing a little bit faster given the strength in enterprise sector?

Mike Beach

Actually, we have seen stronggrowth in our contracts value.

Brandon Dobell - William Blair & Company

No, contents system.

Mike Beach

I’m sorry, in our Contentssystem, licenses. The amount of the portfolio, even what Xythos had isrelatively a small amount. I think you can look back on the previous quarterand see that we have actually, I think, had a strong growth there.

Michael Chasen

Yeah. And Brandon, the other thing I noticed is that,the reason, the portfolio system ended up getting bucketed into the contentsystem, because it is just a very similar product. So it does sort ofrepresent, sort of the overall content system category. It's not entirelydifferent, it's just a (inaudible) application.

Brandon Dobell - William Blair & Company

Okay, thanks

Operator

Your next question comes from theline of Terry Tilman with SunTrust Robinson Humphrey.Please proceed.

Terry Tilman - SunTrust Robinson Humphrey

Hey guys. Thanks for taking myquestions. Just the first question relates to any evidence of WebCT customersstarting to look at the add-on modules given in Service Pack 3 as it comes out,maybe there is better stability, are they starting to actually recreate somesales cycles around some of the add-on modules?

Michael Chasen

Yeah, and the good news is thatwe've now had the add-on modules available for the WebCT code base since justafter the middle of the year. We do have, I think a good amount of clients,they’ve expressed interest in it and are in our sales pipeline, certainly thekey item, that the getting item, in fact that’s pulling down is, making sureeverybody is on a stable version of the WebCTproduct, even though we recently the last update which we think really gets WebCT clients where they need to be from a stability andscalability perspective.

There is always a little bit of alag of clients getting that installed, because they wait for downtimes toinstall those upgrades. So, even though it's been released it's not fully outand in production with all our clients yet. So, that’s still something thatneeds to happen and we are hoping over the next quarter or two. And then Ithink that will reopen up the sales pipeline that we previously built and withthat cross-selling opportunity will start to happen.

Terry Tilman - SunTrust Robinson Humphrey

Okay, thanks. And then thefollow-up question just relates to Outcomes. So, clearly you had the big rampin the second quarter of '07 and like you guys had said you are a little bitahead of where you expected for the year, but how do we think about Outcomesmay be in terms of license growth assumptions in '08? Could it still be verylumpy or could it be growing linearly through the year? Thank you.

Michael Chasen

I think what we've seen historicallywith Outcome Systems is that it is a little bit more lumpy and I think itappears lumpy though just, because at this point we are talking much smallerunit numbers than our other licensed products that are now in the hundreds,which therefore I think kind of naturally smoothened itself over time.

Also recognizing that the OutcomeSystem being a higher dollar product means that there is a, often a larger orlonger sale cycle. It also involves sometimes either high level or differentpeople in institutions. So, all those things I think actually affect the timingof the product. And again though as a company while we certainly are verybullish and see a lot of opportunity going forward into 2008 in the OutcomeSystem, we are equally focused on really just making sure we are expanding thatannual subscription with our clients no matter what additional products thatthey want. So our sales people are pushing all of the products across theboard; obviously Outcome takes a little bit longer to sell because of theextended sales cycle.

Operator

(Operator Instructions) Your nextquestion comes from the line of Nate Swanson of Thinkequity. Please proceed.

Nate Swanson - Thinkequity Partners

Well, hi, just a question on theNTI sales force and I am wondering, how prepared are they to sell a broadersuite, and I guess what kind of assumptions have we made in terms ofcross-sells in your '08 guidance?

Michael Chasen

Really, on the more immediatefront, we are utilizing the Blackboard higher education sales force to take theNTI product into the higher education space. So, our team, which has experiencein carrying multiple products and creating various relationships at theinstitution level, I think its both prepared and ready to be able to help morequickly move the NTI product in to the US Higher Education space.

We are going to start leveragingthe NTI relationships with their K-12 districts this year, utilizing really, Ithink more of the existing relationships they have to get in front of them withour products to start forming those relationships. But we will probably notgoing to start seeing that type of cross sell opportunity till later towardsthe end of the year. But I think more immediately what we will start to see isjust another cross-sell opportunity and Higher Ed utilizing our existing salesforce.

Nate Swanson - Thinkequity Partners

Okay. That’s helpful. And then, Iguess, just on the basic license line, I am wondering shouldn’t we be thinkingthat will continue to kick down here over the next few quarters or does thatretail floor at some point?

Michael Chasen

No. We are rarely, if at all,selling that product at this point and through our both, either priceadjustments or the natural up sell rates which we just talked to have being13%, you can expect that product to continue to slowly go away, probably at thesame level that we have seen over the last several quarters.

Nate Swanson - Thinkequity Partners

Okay. Thank you.

Operator

Your next question comes from theline of Bennett Notman with Davenport.Please proceed.

Bennett Notman - Davenport

Yeah. Thanks for taking my call.And I apologize if you already covered this, I’m running a little bit late, butcould you talk a little bit about the cost structure of NTI sort of the splitbetween SG&A and R&D and Domino for the integration charges? Are theygoing to be pretty heavily loaded into the first quarter or to be spread outmore throughout the year, just talk about them on a cost side a little bit?

Mike Beach

Yes. As it relates to that mergercost, they will be spread throughout the year. Thinking about the operatingexpenses that came on a consolidated basis, it's probably best to look at theG&A, sales and marketing and R&D will be a higher percent of revenuethan what we experienced in 2007 during the first three quarters, primarily asa result of the merger-related expenses and the deferred revenue right down.

But when you get to the fourthquarter, you’ll see is that our sales and marketing and R&D will be prettymuch in line with the fourth quarter of 2007. And G&A actually will be; wewill expect to be slightly less as a percent of revenue to what we experiencedin the fourth quarter 2007. So we will exit 2008 with our operating expensesbeing in line to slightly less than as a percent of revenue compared to how weexited 2007.

Bennett Notman - Davenport

Okay. And then it looks like isthe deferred revenue hit front end loaded for NTI and in terms since they haveless impact on the first quarter will be (inaudible) beyond or is it?

Mike Beach

Yeah, it will have the greatestimpact kind of in the first month and then by the time you get to the twelfthmonth it will have virtually no impact.

Bennett Notman - Davenport

All right great. Thank you.

Mike Beach

Sure.

Operator

At this time there are no furtherquestions in queue.

Michael Stanton

All right, Colby. Thanks verymuch. Everyone we look forward to seeing you out on the road and we will talkto you soon. Thank you.

Operator: Thank you for yourparticipation in today's conference. This concludes the presentation. You maynow disconnect. Good day.

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Source: Blackboard Inc.Q4 2008 Earnings Call Transcript

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