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Lionbridge Technologies, Inc. (NASDAQ:LIOX)

Q4 2007 Earnings Call

February 26, 2008 9:00 am ET

Executives

Sara Buda – Vice President, Investor Relations & Corporate Development

Rory J. Cowan - Chairman of the Board, President & Chief Executive Officer

Donald M. Muir - Chief Financial Officer

Analysts

Brian Kinstlinger – Sidoti & Co.

Randy Hugen – Piper Jaffray

Matt McCormack – Friedman, Billings, Ramsey

Richard Baldry – Canaccord Adams

Joseph Vafi – Jeffries & Co.

Operator

Welcome and thank you for standing by. At this time all participants are in a listen only mode. After the presentation we will conduct a question-and-answer session. (Operator Instructions) This conference is being recorded. If you have any objections you may disconnect at this time. I would now like to turn the meeting over to your host for today’s conference, Miss Sara Buda. You may begin.

Sara Buda

Hello everybody. Welcome to the Lionbridge investor call to discuss financial results for the fourth quarter and fiscal year 2007. During this call we may make certain statements that may be considered forward-looking statements under Federal securities laws and which involve risks and uncertainties. Our actual future results may differ significantly from the matters discussed in any forward-looking statements. We have disclosed in greater detail in our Form 10-K filed with the Securities and Exchange Commission on March 16th, 2007 and in subsequent filings the factors that may cause such differences. And now I’ll turn the call over to Lionbridge Chairman and CEO, Rory Cowan.

Rory J. Cowan

Welcome everybody and of course today I’ll walk through our fourth quarter and our fiscal 07 results as well as discuss sales and operational achievements that really position us for a strong 2008, then as always I’ll turn the call over to our new CFO Don who will walk us through some of the accomplishments of this first few months and also his direction for the coming year.

So first let’s talk about the quarter. As many of you have seen it was a very, very strong revenue quarter particularly Q4 where we delivered about 16% year-on-year growth and also we had very solid reduction, and I think the reason for the delay in the earnings was doing a lot of work in the background on getting our tax rate where it should have been and I know when Don joined us really the priorities were for a plan for tax in place but we really wrestled this tax thing to the ground and he took that as a top priority and has had an immediate positive impact. We also delivered record cash flow from operations and more than $20 million for the year. We reconfigured two offices in Q4 and there are some expenses inside the statement as well as some restructuring expenses associated with that where we embraced a sort of work from home or work on site model and this is giving us the successful model for future cost reductions as more of our higher value knowledge workers can now avail themselves of the same capabilities of working from home as our translators have for many years. So this will reduce our fixed expense structure and minimize currency exposure really well while ensuring client stability. And last of course we completed our initial share repurchase program and the authorization. We have authorization for an additional share program in 2008.

Let’s talk about Q4 in particular. For revenue the quarter was $117 million far out of our expectations and this marks about a $16 million growth compared to last year’s Q4. While there were several drivers to this increase including a few large client programs that kicked off during the quarter and some new relationships that really began to scale and pleasingly currency was less than a third, about $5 million year-on-year growth to quarter so the remaining $10 million was honest to goodness straight forward solid execution. In the beginning of 2007 I indicated that the second half would be strong and it was a shoestring tackle but it really ended up being quite strong a year, the second half of the year for us as Q4 was.

We also talked about a refocusing to our larger customers and they grew about 12% year-on-year indicating once again that our customer base is stable and growing. In addition we secured several new programs during Q4 including a large contract with a US financial institution and this one is very interesting because they have many, many websites around the world and we’ll be maintaining their marketing material and their web content across a number of languages and the US financial markets may be in a bit of disarray right now but many international markets are humming along just fine and so I think that is the sorts of the things that we’re seeing. This new program is also one example of how our technology platform and superior service are really setting us apart from the competition and enables us to secure large recurring client relationships, and remember these clients do not have to buy any software to achieve the savings and this velocity of global communication.

So Q4 marked a really strong revenue quarter all around. We’re delighted to see that growth is returning and our pipeline feels stronger than ever. However we were disappointed with the earnings for the quarter and the year of course and while Don has done a terrific job turning around our tax situations currency continues to be a significant headwind affecting both margins and G&A. In fact we did an internal analysis here that really, currency affected our earnings last year by almost $0.16 a share. That’s $0.16 a share for the year. Yeah we picked up a little bit of revenue from the currency issue but the cost magnitude of G&A and other things was really very, very strong so clearly this is number two on our task here which is to mitigate the currency exposure going forward and Don and I will detail those going forward in just a minute.

On the margin side Q4 currency as I mentioned negatively impacted gross margin by about 200 basis points year-over-year. So normalized for currency gross margin would have been about 34% for the quarter on a cost of currency basis with last year’s Q4. So that shows that really operationally we’re getting our arms around the business. And looking at sequential quarters currency had a negative impact as well but not as much of course because if the dollar had just stayed flat quarter to quarter where it was in Q3 gross margins would have been about 33%. So you can see that it isn’t just Euro dollar ratio and we can adjust our cost structure over time but it’s really the volatility within or during a quarter as it did during second half of the year and it really can have quite an impact.

Currency also hurt us in G&A. In fact currency makes up about $4 million for our year-over-year increase in G&A and the remaining increase is related to general costs like leases, people that rent, we expanded in India for example and some other areas. It also includes about $1 million in consulting fees for areas like tax and that had about an hourly ROI based on what we got with taxes here so it was money well spent but nonetheless it’s $1 million we didn’t want to have to spend but I think it sets the table for a very strong 2008 tax position.

That said it looks like today’s currency structure is here to stay so we’re taking a few actions to reduce this cost structure. First, we’re increasing our technology investment in our GLC business. This increases our overall efficiency and enables us to improve our margins. Second, we are reducing our fixed costs. These two are intertwined because as I mentioned in Q4 we reconfigured two offices, one in New York and one in Germany. We had three offices in Germany, now we have two offices in Germany and this alone will save us $2 million a year in fixed expense. But most importantly these transitions were successful for clients and employees alike. As I mentioned for years we’ve been able to work from home model for our translators and now using our technology we extended that model to program managers, project managers, engineers and other sort of high value workers in the New York area and in Germany. So many employees are now working remotely at home or on site at clients. This allows us to eliminate rent and other office costs while retaining key employees and ensuring client stability. So this is giving us a lot of confidence about the reconfiguration of the model as we go through 2008.

Let’s talk about cash. We generated record cash flow of about $12 million for the quarter so it felt pretty good and about $20 million for the year, a significant improvement over 2008. We ended the quarter with about $32 million and of course this is after purchasing about 10 million of our own stock. So that feels pretty good and we completed that $12 million remaining, about $2 million was completed in early January. As we announced today we have enough confidence in our continued cash flow of the business, then our Board has approved an additional $12 million share repurchase program for 2008.

So as we look back on 2007 I would say it was a solid year with a lot of achievements. We drove 80% top line growth and finished the year with very positive revenue momentum. Don joined us a new CFO who has had an immediate positive impact on tax which was one of our biggest hurdles to profitability. Many of you commented on our well over 100% tax rate. The business is generating record cash flows and our technology investments are increasing and these are throughout the states but not just in R&D because the benefits of technology and our hosted model are becoming increasingly important.

So let’s talk about 2008. Again in 2008 there are several business trends in our favor that indicate strong revenue growth and earnings growth for this year and beyond. First, we’re beginning to see growth return across all areas of our business. Remember our clients generated more than half of their revenue outside of the US so regardless of the current economy clients have to spend on language to sustain and grow their international customer base. That’s our business, so market demand really is remaining quite fertile. I mentioned on the last call that our strategy of course accelerating growth is to expand the key accounts and add some new vertical markets. We’re executing this strategy on all fronts. In fact our core client relationships are growing and our top 25 accounts now make up about 70% of our revenue and we expect that trend to continue. And we’re winning new clients across life’s verticals like life sciences and financial as I mentioned. In the mobile market the mobile handset market, device market is actually looking very, very interesting as well. So the deal pipeline feels very strong.

So secondly more customers are realizing the benefits of our technology. We have the only free hosted platform for translation in the industry. In fact we believe that Logoport is now the single largest repository of commercial translation memory data in the world. One instance of code single largest translation memory data in the world and this has immediate benefits for us and our clients. In fact a recent multi-million dollar client stated that our technology improved their time to market and reduced their cost by 20% compared to other solutions they had and in fact they didn’t have to buy or deploy any software to achieve these savings. So this is why hundreds of clients are using our technology and increasing their spend and why they’re centralizing more of their work on our platform.

With a number of the new features built into this platform and this upcoming series of releases we feel the platform is getting stronger than ever and as a result we will pursue some new business models with our technology and this includes opening the platform to a broader community including freelance translators so that they could do some of their own work on this platform, smaller agencies that act as suppliers with us and also work with some of the smaller projects and even students because we’re getting lots of requests for student participation in the translation industry from a number of the major translation universities around the world.

So using this hosted technology platform we can offer these communities immediate access to business and in turn we gain access to a greater number of resources to enhance our efficiency and maintain client satisfaction. Clearly this is a win for everybody and then I think you’ll hear more from us in this area during the coming few months.

So in summary I think 2008 feels pretty good. It promises to be an exciting year. Growth is returning, technology is accelerating, we’re improving our cost structure and we’re generating record cash. So all this indicates a positive year.

So Don I’ll turn it over to you for the play by play.

Donald M. Muir

Good morning. First I want to thank all of you for being so welcoming during my first few months at Lionbridge. I’ve met many of our investors and look forward to meeting more of you in the coming months, the first full quarter here at Lionbridge. It’s been extremely busy and very exciting.

In brief the highlights of the fourth quarter and the year were solid revenue growth particularly in the fourth quarter which is up 16% year-over-year. This positive momentum points to accelerated growth for 2008. Successful cost reduction actions in New York and Germany, the whole insurance structure we put in place gives us a model for additional cost management actions in 2008 which combined with our accelerating language technology should help us better manage the currency impact on margins and G&A, an improved task model that should serve as the foundation for lowering our tax rate as a function of earnings in 2008 and beyond. Strong cash flows that give us added confidence in the business and additional opportunities to buy back stock. All of this points to Lionbridge’s enduring opportunity even in a domestic downturn.

In the last call I outlined my top priorities as new CFO at Lionbridge which included reducing foreign income taxes, enhancing cash flow and better management of foreign currency exchange rate exposure. I’m very happy to report that we did make some solid progress against several of these initiatives which I’ll detail today along with a financial update on the fourth quarter and full year 2007. Coming into the business my first priority was tax. This was a significant task that took several months to analyze and put into context. That is why our earnings call is a bit later than usual this quarter but I think the extra time was well worth it. As we had discussed last quarter we have been generating very large foreign tax provisions during earning low levels of corporate profitability. Our third quarter year to date tax provision actually exceeded our corporate pre-tax income. In fact we’re on track to having a $10 to $12 million tax provision for the year of 2007 which is about ten times our pre-tax income. It was very ugly. Instead we ended up with a tax provision of about $5 million for the year and a methodology that will enable us to reduce this even further in 2008.

To do this I engaged a professional tax advisory firm to help us perform a thorough examination of the primary drives of our tax provision including economic assumptions around transfer pricing, contract domicile, inter-company cost allocations, intellectual property ownership, etcetera. So over the past four months I spent a lot of time with my team and about $1 million for consultants to put in place a model that changes our 2007 statutory tax filing positions and appropriately allocates our revenue and profits to our foreign and domestic subsidiaries. And of course this is been [inaudible] with our professional tax consultants and our auditors. At this point we had planned only to provide a status update of the progress of our review. However given our ability to accelerate this process we are in a position to deliver actual tax provision reductions in our 2007 P&L much earlier than anticipated.

Without going into excruciating detail and you’ll see that when we file our 10-K in a few weeks, what we did was to accurately reflect the fact that in our legal entity structure we have business owners and service providers. Our foreign affiliates are service providers and should earn profits in line with comparable companies in the same geographic region. The business owners are the US and Ireland locations because these regions actually own the intellectual property, enter into client agreements and take business risks. Therefore the US and Ireland are entitled to earn [inaudible] the entrepreneurial profit emanating from the business. Given this mix of economic profitability to 2007 our corporate tax provision was $5 million. Pre 348 tax provision was $4 million for the year which includes a BGS acquisition related deferred tax item of $2.1 million that’s targeted as a tax provision reduction opportunity in 2008.

I expect by applying this appropriate model we can drive a more normalized tax provision for 2008 somewhere well below $5 million for the year even with increased earnings and it is possible over the long term we can bring this tax rate down as a function of earnings even further. So addressing the tax complexity has been job number one for me and I think we’re on the right track here.

My second priority was cash flow. As you saw we drove record cash flow from operations during the quarter of $12 million. This led to operating cash flow of more than $20 million for year, our strongest quarter and strongest year ever from a cash generation standpoint. Our fourth quarter ending cash balance was up slightly sequentially from the third quarter to $32 million and that is after using about $10 million in cash to buy back our stock during the quarter. Our net debt position is just under $40 million a very comfortable level. Our working capital is getting into better shape but we still have a lot of work to do around improving our working capital management. For example accounts receivable and WIP combined was up only $5 million despite the added volume.

So we had some improvement in the second half of the year with our focused collection efforts. We had a simple DSO of 65 days which is now two days of last quarter. As you saw in today’s announcement our management team and the Board have confidence in our growth opportunities and in the cash flow opportunities of the business. Now that we’ve completed our first share repurchase program we have received approval to repurchase an incremental $12 million worth of stock. With LIBOR hovering around 3% and given our stock price we believe that buying back stock is an appropriate use of our excess cash.

On a final note regarding the balance sheet at the time of our annual FAS 142 annual goodwill impairment tests we ended the year with a book value of about $160 million and market cap of about $210 million. So at the end of the year we had solid coverage. Of course as many of you are aware under FAS 142 the company’s market value is at or below book value better than increased risk of an impairment of goodwill which will require additional testing and our analysis here is ongoing.

With the strategies for tax and cash management in place let me talk about my plans for managing currency and reducing costs. The two are tightly related. As we’ve said currency has hurt us primarily in the margin, G&A and other expense lines because a lot of our infrastructure spent is in Europe and other non-US regions. On the margin side our technology and cost reduction activities have offset some of the impact of currency and gross profit but not all. In G&A currency negatively impacted us by $4 million during the year and we had about $3.4 million of other expense in the P&L which is due primarily to revaluation impacts of foreign currency denominated assets and liabilities. We’ve mitigated that exposure somewhat this year through hedging these positions. In total with the impact on cost of sales, operating expenses and other expense currency negatively impacted our total earnings by $0.16 per share in 2007.

Now economist may differ in their opinions on the dollar but from what we see today we have to assume the dollar is going to stay above where it is today and that $1.45 to $1.48 range versus the Euro. This means that while quarterly exchange rate fluctuations may be lessened we are likely in for a long period of high cost structures driven by currency in Europe and emerging geographies. This means in order to have a meaningful impact on our currency exposure we need to do three things. One, increase our use of technology to increase productivity. Two, reduce our overhead costs particularly in Europe. And three, better manage our cash positions.

I think the team has done a good job on all fronts particularly towards the end of the year when we advanced our technology deployments and took actions to eliminate two of our office leases. to further reduce costs starting in January we put in a number of incremental discretionary cost control programs. These actions combined with our ongoing focus on minimizing our office lease expenses particularly in Europe should help us keep total operating expenses in check. So we expect full year 2008 operating expenses to grow only about 3% versus last year. And with my successful tax and cash management plans in place I’ll be playing a more active role in cost management and currency exposure to assist the team with their efforts.

Now let’s talk about the fourth quarter and the year in more detail. Revenue for the fourth quarter was very strong. We drove $117 million in Q4 up about $16 million or 16% of last year’s fourth quarter. From a segment standpoint GLC, that’s our language business, was up $10 million year-on-year. About half of that growth was currency related. The other $5 million increase in GLC was related to the growth of a few existing accounts and a few new programs that we kicked off during the year. The GDT business, that is our testing and development business was up about $5 million year-on-year in Q4. That is largely related to growth in our Google relationship although we are starting to see some nice new business growth in that segment as well.

Where we touched on margins from a segment standpoint our GDT margins recovered nicely from last quarter as expected with incremental volume and better work mix. Margins in GDT were 36.8% in the fourth quarter. In Q4 margins in our language business decreased in percentage terms about 150 basis points year-on-year all because of currency. Exact margins in GLC would have been over 34% if the dollar had stayed flat last year’s fourth quarter. So it appears that our technology and our cost reduction efforts are offsetting but clearly not all of our currency margins. In the fourth quarter margins were also negatively impacted by about $600k of restructuring costs associated with the reduction of our New York and Germany office leases. Because this cost couldn’t be technically classified to the restructuring line this hit gross margin during the quarter. So normalized for currency and this one time restructuring cost our language business had a strong quarter.

Looking at G&A as you can see G&A is up about $3.5 million from the third quarter. This sequential quarter increase was driven by a couple of items, tax consulting fees as we discussed, currency which fluctuated quite significantly during the quarter, compensation and rent increases particularly in India. Going forward we expect G&A to inch back to prior quarters’ levels as some of these one time items are minimized and as benefits of our recent office reductions begin to show through. So for Q4 we had a GAAP net loss of $4 million or $0.07 a share. This compares to a loss of about $6 million for $0.10 a share for fourth quarter of 2006.

For the full year 2007 revenue was up $33 million or 8% from last year. Our GLC language business drove about $19 million of the year-on-year growth and our GDT business delivered about $13 million of the growth. We saw normal growth year-over-year for Google, Pearson, Merck and Motorola. Microsoft revenue remains strong as well. Our largest client relationships appear to be strong and growing. In fact our top 10 customers in 2007 grew 12% compared to last year. Our enhanced vertical market focus specifically life sciences and mobile seems to be working well. These two trends, growth of large accounts and vertical market expansion give us added confidence in our top line growth line opportunities in 2008 and beyond.

Total company margins were down about 50 basis points from last year again related to currency. In fact total company gross margins would have been almost 35% if 2007 was at 2006 average exchange rates. So currency had a 160 basis point negative impact which we offset almost completely with cost reduction and technology efficiency. G&A increased significantly year-on-year of about $13 million, roughly $4 million of that was currency related. The rest was general expense, stock-based comp and consulting fees. On a GAAP basis we reported a loss of $4.2 million or $0.07 a share. This reflects a strong revenue growth in Q4 and reduced tax expense.

So in summary it looks like we have strong revenue momentum in 2008, we have a normalized tax strategy in place, cash flow is strong and with our technology and cost management plans we should be able to steadily improve margins throughout the year and control our operating expenses. My first full quarter here at Lionbridge has been very exciting. We have a terrific team, top notch customers and a growing market opportunity. These were the reasons why I joined Lionbridge in the first. The business, the team and the strength of the customer relationships have all exceeded my expectations and I’m delighted to be here.

Rory, back to you.

Rory J. Cowan

Let’s talk about Q1 and 2008. First for Q1 we’re estimating revenue to be about $113 to $116 million, in that range. It’s still a little early to give any more perspective than that. That feels pretty good for the moment and for 2008 let me give you a framework for a high level. We’re maintaining our revenue estimate at a 6 to 10% for the total year in revenue growth. Our plans call for margins to up tick throughout the year as technology drives improvement and assuming that we get that solid volume of work mix that comes with the revenue growth. Operating expenses should be relatively flat to up roughly 3 or 4% based on today’s currency and this really depends on what we can do with the cost actions that Don and I have already shared with you and how quickly we can get those through the statements. And the [inaudible] has indicated a sort of a rough expectation for a tax provision of under $4 million, in that range, despite an expected increase in earnings and so that also feels that we finally have this one under control. So all this points to a return to a profit in 2008 with accelerated revenue and earnings growth.

So now I guess I’ll open the call to questions. Sara.

Question-And-Answer Session

Operator

(Operator Instructions) One moment please. Brian Kinstlinger of Sidoti you may ask your question.

Brian Kinstlinger – Sidoti & Co.

First question I had was related to the success you’ve had in closing an office in Germany. One of the things you mentioned in the past was concern about relationships and things like that. I’m wondering if based on that success you’re expecting more such actions and a second related question to that, to Don, is are there are many charges? I counted like $600,000 in charges in the gross margin. Will we see any more of that related to Germany going forward?

Rory J. Cowan

Let me first talk about the – really Brian you want to take these in context because this is a complex world and so our approach in Germany was different than our approach in New York. In Germany we were able to – we had an office we acquired with Bowen and were able to merge that into one of our other offices and that reduced the overhead expense associated with an office, lease expense and other things and it concentrated the delivery personnel in a building that we owned and we have significant excess space in. So that one had to be thoughtful, this is a services business, it’s a little bit like merging law firms and having your lawyer of many years go away. You want to make certain that that client is handed off gently. Our team in Germany did an excellent job of combining these two offices and on our worldwide finance call last week our team in Germany mentioned that a couple of the customers are delighted with the new teams they have. New York was a different experiment for us. Given that that was in our time zone and given that Manhattan is not an inexpensive place to translate words, we decided to really put more of the knowledge into the cloud and so we offered employment onsite for some of our large New York area of activities so customers are much more delighted they have a PM actually in their building managing their program. And then we offered some employees the ability to work from home. So we crafted our technology platform to be able to do this. You’re seeing this at home work begin in lots of call center businesses, contact center businesses now that the Internet of course more and more information is in the cloud it’s easy to work remotely and so I think that that’s a model that we want to continue evolving. Regarding the charges of course that ended up in the gross margin line, Don you may want to add something here, but that was clearly because there was ongoing benefit for some of these charges so accounting conventions that you’d normally put into restructuring suggest that it would go into cost of sales.

Donald M. Muir

That’s it, Rory, and we don’t expect any further charge related to that German office closure.

Brian Kinstlinger – Sidoti & Co.

And Rory if you could follow with when you acquired Bowan how many other cities right now or countries in close proximity do have multiple buildings or facilities?

Rory J. Cowan

What we’re doing because a lot of this expense is of course leases and so you can imagine I have a chronology of when the leases roll up around the world and those are the ones that we look at first and we’ve had some plans in place. There’s a lot of judgment that goes into whether or not you consolidated an office or enable at home model. In some offices of course it’s very complicated, very technical activity and you want to have that knowledge concentration. I think in particular of our Spanish office for example or one of our offices in Dublin or our office in Ireland. There are a couple of offices that you clearly do not want to touch but then there are some other peripheral offices where actually employees are saying, gee can’t I work from home. And so we’re looking at that lease by lease, culture by culture, company by company, customer relationship by customer relationship. There is not a formula here, Brian, because we’ve learned as you’ve been with us if you close an office wholesale you end up losing customers, you lose customers and you get to be pretty much where you were before you closed the office because you’ve lost so much revenue yet you’ve also lost the commensurate expenses.

Brian Kinstlinger – Sidoti & Co.

Related to the tax consulting fees, I wasn’t sure if you were talking about the year or for the quarter. Can you give us the yearly total and in 08 do you still expect to be using tax consultants and if so to a lesser degree, maybe some numbers around that?

Donald M. Muir

That expense is primarily a fourth quarter related expense, the $1 million we talked about. We do expect to continue to utilize the tax consultants going forward but not to that same level. We expect to dramatically reduce the spending from a tax consulting perspective although we certainly will continue to pursue vigorously reducing our tax rate. We have recently hired a new in house tax director and I’ll be looking for that individual to be driving this process going forward, taking some of that burden away from me and alleviating some of the cost pressures associated with the outside consultants. But certainly you need to tap into that expertise given the global nature of our business and looking at tax issues which can be very arcane in various countries around the world.

Brian Kinstlinger – Sidoti & Co.

And the GLC margin, I think it was about 31% and you said most of that was for currency. I’m wondering when you look at the first and second even all of next year is that the base you’re working off though now because currency is where it is? So is that what we should use as a starting point for modeling that division?

Rory J. Cowan

No, I think we’re just going to say currency is what it is, we are able to take costs out over time. We’re generally about a quarter or two lag behind the volatility here. If you look at our technology as I mentioned we’ve probably picked up almost 200 basis points last year just in technology efficiency. So for your model is that a range you might want to keep, but you may want to mark that up a little bit quarter by quarter by quarter based on volume increases and the reason for that as you know is there’s a fair amount of fixed expense above our gross margin line. So volume has some significant impact and if you model out quarters for the year based on the guidance I have you Q1 you’ll clearly see volume increase happening in GLC.

Brian Kinstlinger – Sidoti & Co.

Right and the $600,000 GLC was from the Germany office, right?

Rory J. Cowan

Germany and New York together.

Brian Kinstlinger – Sidoti & Co.

And the last question I have, the margin restructuring charges (a) are those cash and (b) can you give us a sense of what they are and your expectations for those kind of costs in 2008?

Donald M. Muir

Those are about 50/50 in terms of the breakout and we haven’t given any guidance for restructuring for 2008, no.

Brian Kinstlinger – Sidoti & Co.

Will you expect some in the first quarter?

Rory J. Cowan

We probably will because we’re working on the stuff. As you heard Don’s comments here they’ll be pretty small but we first want to get tax in place, then we want to get our arms around currency, now we’re looking at costs so I can see some more restructuring coming through throughout the year. Who knows what it will be?

Brian Kinstlinger – Sidoti & Co.

What was that? I mean – and that’s my last question. It was a bigger number this quarter than usual. What was that?

Rory J. Cowan

First it was writing off the remaining part of the lease, it was some bonuses for people to be able to hand projects off that were not going to be with the company and then the last issue generally is just moving and restructuring expenses.

Operator

Randy Hugen of Piper Jaffray you may ask your question.

Randy Hugen – Piper Jaffray

Looking at your first quarter revenue guidance is that assuming a flat exchange rate?

Donald M. Muir

Yeah.

Randy Hugen – Piper Jaffray

So obviously the organic growth and growth rate was much better than that in the fourth quarter, what was the reason for the spike?

Rory J. Cowan

I think a couple things. First we had a couple of large projects that we – actually I know you guys were a little disappointed by Q3 and then Q4 came in a little bit stronger. So traditionally I think what I’m feeling this year and this is a feel, this is not a hard point, is that it used to be that Q4 and Q1 were a pair and Q2 and Q3 were a pair. As we’re changing our end markets, as we’re changing more of our applications, we’re beginning to see maybe a little bit softer in seasonality. Having said that Q1 seems to be up, it’ll be up a fair amount from last year. Q4 is a lift that you want to really talk about was two or three projects that came in from Q1 and the slip from Q3 as we had talked about. We had said at the beginning of last year that the second half of the year felt very strong. Everybody lost confidence in us in Q3 and we got the revenue back in Q4. It came in about where we thought it would be because some projects, these are some big projects that sometimes slip back and forth on quarter end.

Randy Hugen – Piper Jaffray

And then what was driving new client wins in the quarter? Was it an increase in RFPs as companies are looking for ways to cut expenses with the economy or was it increasing in win rates?

Rory J. Cowan

I think it’s probably a little bit of both. We’re a much more focused team now. We now know how to position our technology. We now know what we’re selling, to whom it we’re selling it, we sort of reorganized internally our sales forces and our business units somewhat so that feels better. But I will say that there is an increased awareness of international markets and I’m not the economist that can say, gee the low dollar is finally revving up the US export engine, therefore they need more language. But you could draw that conclusion.

Randy Hugen – Piper Jaffray

And then that large financial services client win, can you give us an idea of what sectors that client participates in?

Rory J. Cowan

No, we’re under pretty strict NDA with these guys. In fact, more and more of our people, because they don’t want – they’re investing heavily in international markets. They sort of want that, their actions to speak for themselves and we’re early on in that process with a lot of these players obviously. But you can imagine is a multiple website, lots of compliance marketing material. All the things you would expect of a major international financial player beginning to expand into emerging markets.

Randy Hugen – Piper Jaffray

And then are you seeing a tick up in revenue growth in the middle market?

Rory J. Cowan

Yeah, I think that our platform as I mentioned this one customer, there are two ways you can do this. You can outsource this to us or you can buy a software to build an internal department. The middle market is where we’re seeing more and more people really outsource directly to us and I think you saw our technology release – what was that, a couple weeks ago now I guess – about the traction that we’re getting and a lot of those client wins that are mentioned there, thousands of translators in 300 clients that we crossed maybe less than two years on this platform are largely middle market players or middle market applications within large companies.

Randy Hugen – Piper Jaffray

And then finally one last one here, could you or are you in a position now to give kind of an expected range for a GAAP tax rate a year or two out?

Donald M. Muir

No, we’re really not yet. I think that what we said was that we expect to drive the total provision lower in 2008. Certainly as a function going forward we expect the tax rate as a percentage of pre-tax earnings to be lower going forward. So I think what you’re going to see is Lionbridge down the road that to put in context with a better than the average US company tax rate, kind of 30 to 35%. We should be able to do better than that, but it’s going to be a function of our earnings as much as the absolute tax dollars that we have liability for.

Operator

Matt McCormack of FBR Capital Markets you may ask you question.

Matt McCormack – Friedman, Billings, Ramsey

In terms of your hedging program, has there been any changes in the philosophy there and could you talk about how far out you’re hedged?

Donald M. Muir

We essentially concentrate on our balance sheet exposures, asset liabilities, inter-company and we’re looking at really quarterly type positions so that’s what we’ll be hedging. Maybe three to six months out at the most. We’re not very aggressive, we’re not trying to be a financial services firm, we’re not playing with any derivatives.

Matt McCormack – Friedman, Billings, Ramsey

Right, but what about hedging your P&L out say 12 months and can you roll that forward?

Donald M. Muir

We have not embarked on a strategy to get FAS 133 exposure as yet.

Matt McCormack – Friedman, Billings, Ramsey

And you’d mentioned increased costs in India, can you just remind us of the headcount currently in India and the growth you’re expecting there?

Rory J. Cowan

India we have about 1,200, 1,300 people this year. Think about our entire low cost platform that’s China, India and Poland. We have 1,800 or 1,900 people in that area. The expansion in the increased lease costs – I was in Chennai, that’s the old [Madra], in India week before last and toured our new facility there. We’re building a single floor a single 700 person floor in Chennai that really will give us some significant expansion capability because in addition, having people work from home, we’re also offshoring the technical and the content development activities to India. So it’s a long process. We’re talking about our technology allows us to get the action out of the offices and out of the countries.

Matt McCormack – Friedman, Billings, Ramsey

In terms of your strategy in India and obviously a big facility in Mumbai, expanding in Chennai, do you have to expand geographically? I mean how do you balance the scale or the overhead efficiencies versus having to locate in different areas for the labor, different labor markets?

Rory J. Cowan

That’s a great question because my belief is that you really have to have in India the opening chip is about 1,000 people or so. So you’ve really got to get to that level of scale. We wanted to have two separate operations because of as you rightly point out labor management issue that you want to pass some comfort in scale that if you get some turnover in one location it doesn’t spread to the other location or if an IDM or someone comes in and sets up beside you and wants to use 50 of your people as their starter for their bread then you can be picked off there but then you still have another operation that’s stable. It is very important in India to have more than one location. Yes, you probably have a couple hundred thousand – well maybe a penny a share more expense but that’s a great insurance policy from my viewpoint.

Operator

Richard Baldry of Canaccord Adams you may ask your question.

Richard Baldry – Canaccord Adams

Can you give a little of whether there was anything unusual in the cash flow in the fourth quarter? I think if you looked at it on full year basis the first three quarters have you run rating a little less than $3 million a quarter versus the $12 million or run rate of almost $50 million a year in the fourth and the fourth still includes some drags. The top line looks like it holds up relatively steady sequentially and then higher as the year progresses. Did that run rate $50 million hold up or is there something I’m missing in that?

Donald M. Muir

No, it’s really – it’s all about working capital management primarily and we did throw some off some decent cash earnings. It’s just the bulk of our cash flow from operations. So we’re going to continue to focus very aggressively on improving our working capital. As I said we have a lot of work to do there. We’re going to get down to basic fundamental blocking, tackling, doing a better job of accelerating cash flow by more timely collection of our receivables. That’s just fundamental.

Rory J. Cowan

I guess just a quick sketch here, Rich, is Q1 of last year where I guess we can assume at about 7, Q2 we generated about $7.5, Q3 about $8, Q4 about $12. So it’s roughly directionally that’s really where it is. So I really think it is working capital management. There may have been some prepays in there from some customers, there may have been some other things but generally where we’re getting our arms around the financial management of the company. That’s really what it says.

Operator

Joseph Vafi of Jeffries & Co. you may ask your question.

Joseph Vafi – Jeffries & Co.

Maybe we could drill down a little bit into the development business. It sounded like about $5 million of the growth came in development during the quarter and I know you said some of that was from Google. Maybe we could kind of get a feel of what the year-over-year growth was in the development business, that’d be helpful.

Rory J. Cowan

Let’s see, our GDT business Q4 over Q4 was about – where are we here – it was about 30% growth quarter-over-quarter so your year-over-year quarters and sequential quarter was about 5% or about $1 million and after it sums out in dollars.

Joseph Vafi – Jeffries & Co.

And if we could get a feel for where margin might have come in there if we kind of look at the development business as a stand alone.

Rory J. Cowan

Yeah, the development business as stand alone in Q4 had some pretty good margins, it was probably 37% and that’s in spite of a lot of the realty stuff going on in there as well. A fair amount of that as well, remember we have this website rating business that we work, we’ve got a lot of other testing businesses in there, so roughly that’s where it is. Now last year that was about a 33% of margin and of course in Q3 it was about 33% too. So volume has had some impact there.

Joseph Vafi – Jeffries & Co.

And maybe a little bit, just kind of staying on the same subject, the competitive landscape in that business. Obviously you do have some competitive advantages obviously on the language side of things, but obviously there’s a lot of big gorilla competitors out there. What are doing you think now that’s kind of differentiating yourself from the others?

Rory J. Cowan

I don’t want to say that we’re that bowl of porridge that’s the right temperature but I think that a lot of people – we had a couple of good wins recently where people were feeling as if they weren’t getting attention from some of the big gorillas because the big gorillas are moving into more of these sort of valued added more esoteric delivery propositions and that this aggregation of tasks and all the things you’re thinking about and people have been burned by some of the smaller entrepreneurial inexpensive players that haven’t really had the follow through, the professionalism or the scalability so I think that we’re a nice size right now, Joe, so we had a couple of good wins in Q4 that really are making us feel as if we’re pretty positive. Now remember our skills as well are at this intersection of code and content, it isn’t just necessarily globalization but we know how unstructured data bases are content behaved. We also know how structured activities development behave and so that seems to be our sweet spot. So not only in size of the business but also in offering we’re getting a fair amount of traction.

Joseph Vafi – Jeffries & Co.

And then the Google business there sounded like it up ticked. Is that a sustainable up tick or is that kind of project business there that might trail off?

Rory J. Cowan

I think that’s a business that we’re – as Google goes global and people are adding more countries and it’s other search engine companies, it isn’t just Google that we do this for, go global and add more countries, we begin to see that business growing quite nicely this year. And it is really – that’s more of a program activity rather than the one off project.

Joseph Vafi – Jeffries & Co.

And then maybe switching gears, I know I guess probably set some maybe acquired Bowan and during this time there’s been I think probably a conscious effort to maybe kind of divest let’s say of some smaller business, nonprofitable revenue. I was just looking for an update there on where we are in that cycle. If there’s really anything left in the top line that you see at this point might not be there moving forward over the next –

Rory J. Cowan

A lot of the smaller projects that we worked with customers on moving them to some of our suppliers actually that process is pretty much done but now that’s sort of ongoing. But if you heard my comments and I think as I’ve shared with many of you before we have this global sort of hosted platform now and we’re looking at ways of opening that up to new markets that you might consider individual translators or smaller regional or local translation companies as a potential market in which we might be able to work with them on smaller projects leveraging our technology and I think I shared that with a lot of you last year and this was in our plan for the coming year so I don’t think you should see too much more shrinkage of the smaller players. If anything that business may become a little more solid as we reconfigure the value creation from there.

Joseph Vafi – Jeffries & Co.

And then maybe just finally if you look at global 2000 companies and obviously I think with Lionbridge’s size at this point the real holy grail here is getting them to think about localization and globalization maybe a little more strategically and bundle a lot of their spend here into larger contracts. How is that process going?

Rory J. Cowan

I think as we talked about this one large financial player it’s really that traditional decision of – and I guess the old Seybold versus Salesforce decision of the decade ago do you go outsource it and host it and don’t deploy any software or do you buy something and spend two years deploying it internally. Large companies seem to be caught up on their decision into that process. We find the less technically sophisticated they are, the more they want to outsource this because translation is clearly not a core competence. The more technically sophisticated they are people tend to build internal globalization departments to interact inside of development even though we can prove that the numbers would suggest otherwise. It’s a corporate culture thing.

Operator

There are no further questions at this time.

Rory J. Cowan

Great everybody. Thanks very much for your participation today and if you have any other questions or thoughts you know where to reach us. I would route all calls through Sara because she knows where we are for the rest of the day. Thanks very much.

Operator

That does conclude today’s conference call. Thank you for your participation.

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Source: Lionbridge Technologies Q4 2007 Earnings Call Transcript
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