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Electronics For Imaging, Inc. (NASDAQ:EFII)

Q2 2012 Earnings Call

July 19, 2012 5:00 PM ET

Executives

JoAnn Horne – IR

Guy Gecht – CEO

Vincent Pilette – CFO

Analysts

Shannon Cross – Cross Research

Ananda Baruah – Brean and Murray

Keith Bachman – Bank of Montreal

Morris Ajzenman – Griffin Securities

Operator

Good afternoon. My name is Jay, and I will be your conference operator today. At this time, I would like to welcome everyone to the Electronics for Imaging Second Quarter Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. (Operator Instructions) Thank you.

Ms. Joann Horne, Investor Relations for EFI, you may begin your conference.

Joann Horne

Thank you, operator and thank you for joining us everyone today. I have here with me, Guy Gecht, Chief Executive Officer, and Vincent Pilette, our Chief Financial Officer. Before we get started, let me review the Safe Harbor statements.

During the call, we will be making forward-looking statements that are statements other than statements of historical fact, including, but not limited to statements regarding our strategy, growth opportunity, industry innovation, product introduction, real estate property transactions and the use of any prestige from such transactions, as well as estimates and/or projections of revenue, operating profit growth, EPS, gross margin, operating expenses, tax rate, working capital and any statements or assumptions underlying any of the foregoing.

Forward-looking statements are statements of risks and uncertainties that could cause our results to vary materially or cause a materially adverse effect on our results. Please refer to the risk factors discussed in our SEC filings and the press release issued today. We do not undertake to update in light of new information or future events.

In addition, reference will be made to non-GAAP financial measures. Information regarding the reconciliation of the non-GAAP and GAAP measures can be found in the press release that is issued this afternoon on our website at the IR Section at www.efi.com. There are also slides available that corresponds to today’s comments.

I’ll now turn the call over to Guy Gecht. Guy?

Guy Gecht

Thank you, Joann, and thank you all for joining us today. In an increasingly challenging operating environment we’re very pleased with our Q2 2012 results. We achieved 16% operating revenue growth for a record of $164 million, which is our 10th consecutive quarter of double-digit revenue growth.

Q2 also marks an all-time record for our two high growth segments, our Industrial Inkjet business at $80 million, up 39% from a year ago and Productivity Software at $25 million, growing 33%. And we again achieved a record level of recurring revenue at $43 million, increasing 20% year-over-year. Our team also executed on the cost front, which allowed us to deliver non-GAAP EPS of $0.30 per share, which included a one-time $0.03 unfavorable non-operational currency impact. Excluding the non-operational currency impact on the other income line, we grew non-GAAP EPS 50% year-over-year. A second very positive development I would like to discuss is our announcement today that we have sold our Foster City headquarters for $180 million, a very attractive price in any economic environment and adding roughly $3 per share after-tax to EFI’s balance sheet.

Monetizing this asset is yet another example of our determination to maximize shareholder value. The transaction is expected to close in October, after which we have negotiated 12 months to transition out of this building at no cost to EFI. As we look for a new location in the Bay area, our precedence will be to be to rent a similarly sized facility around the fall of 2013.

The Board and management recognize the impact of future EPS caused by renting versus owning our headquarters and we’ll consider alternatives, such as a share buyback program to offset the impact. And it goes without saying that our Board will continue to discuss and evaluate the alternatives for the company to utilize what will be even a healthier cash balance for the best long-term outcome for our shareholders.

Before I talk briefly about each of our businesses, I did want to highlight our successful drupa show, which clearly demonstrated the industry bias towards the tech players that are leading the analog to digital transformation. Our new products and the excitement and attention they generated reinforce EFI’s leadership in this transformation.

Note that while the reception to those products was very positive and the pipeline coming out of the show was at record levels for both Industrial Inkjet and Productivity Software, the economic headwinds slowed down the conversion of this interest into closed deals. Even though our Ink volume proved the demands for digitally-printed product remains solid, concern about the economy, especially in Europe, are leaving many potential equipment buyers on the sidelines. The strength of our product line and the robust pattern appeal allowed both our Inkjet and software businesses to outperform despite the economy. But we do see it as a factor in our third quarter outlook, which I will discuss shortly.

Now turning to the results of our Industrial Inkjet business for Q2, we again saw outstanding growth, increasing 39% year-over-year. These results were driven by strong demand for our new LED printer, as well as strong growth of our Cretaprint lineup is our strategy to expand the business to the emerging market is already driving great results.

We also continued to show high growth in UV Ink volume, increasing 31%, the eleventh consecutive quarter with greater than 20% growth. Our Industrial Inkjet segment is approaching a fairly significant product introduction cycle with new innovative products in the signage, label and tile categories. Launches are planned beginning in September and continuing throughout Q4. Next quarter, we expect Industrial Inkjet revenue to increase roughly 25% year-over-year, as we anticipate demand for this new product will help offset the softening economy.

As I noted earlier, our Productivity Software posted record revenues for the quarter, capitalizing on healthy demand for business process automation software in our industry. Similar to Industrial Inkjet, we have the strongest pipeline in our history, offset by a slower than usual conversion rate. In this segment of our business, we believe that concerns around the software economy could push customers to ultimately buy as they seek ways to run their business more efficiently and cost effectively, which is exactly what our software products enable them to do.

Looking into the September quarter, we expect growth around 20%, again, a slightly lower growth rate than the past few quarters, as we’re being cautious with the economic headwinds, especially in Europe. Fiery performance was below our expectations at $58 million, a 10% decrease year-over-year, due to both a lack of new products as we discussed last quarter, as well as the challenging environment.

The softness we’re seeing is across all of our partners and product lines. Unlike in our direct businesses, we don’t have the ability to accelerate time-to-market of new products and we are more limited in our ability to directly impact the market when fighting to win every possible deal. As we won’t see an uptick in new products until late this year to offset the economy, we expect Fiery revenues would be down roughly 20% in the September quarter.

The key takeaway in Q2 was that the strong growth in our direct businesses more than offset the weakness in Fiery. At the same time, we were very aggressive in managing expenses, so the product mix did not impact our profitability.

Bottom line, our strategy is working and our team executed on both direct sales and expense management. However, as the economic impact really started to become apparent late in the quarter, we anticipate that even 20% to 25% growth for our Inkjet and Software will not offset the current ratio on Fiery results. As Vincent will discuss, we are taking additional steps to more closely align our expenses with our revenue expectations.

In summary, we continue to challenge ourselves to maximize our performance and the area we can control, while maintaining solid execution against our committed strategies. We have positioned EFI in the world page of print and the Q2 results are a testament to the business model and the execution by the team and we acted decisively when Gilead engaged us unsolicited with a very significant offer to monetize our real estate assets in the Bay area.

Finally, let me summarize our Q3 outlook. While our direct business sales channel is in record shape, unfortunately it will be after this quarter, by the cyclical nature of the Fiery business, combined with macro and currency headwinds. Taking all of these factors into account, we expect revenue growth of 2% to 5% or approximately $150 million to $155 million and a non-GAAP EPS in the range of $0.25 to $0.27 per share.

And with that let me turn the call over to Vincent for future – for further financial details on the quarter and then we will be happy to take your questions.

Vincent Pilette

Thank you, Guy, and good afternoon, everyone. Revenue for the second quarter of 2011 totaled a record $164 million, up 16% from the prior year. It is the tenth consecutive quarter of year-over-year double-digit growth, which was achieved despite the currency and macroeconomic headwinds. Recurring revenue also achieved another record at $43 million, up 26% year-over-year and coincidentally also 26% of total EFI revenue

Focused execution in this challenging environment drove non-GAAP operating profit growth of approximately 40% year-over-year and non-GAAP EPS of $0.30, including an unfavorable non-operational currency impact of $0.03 per share. In addition to our strong Q2 performance, we also announced a very positive development regarding the sales of our Foster City building, expected to close around October for about $3 per share, net of estimated tax.

Now let me go into more detail, starting with revenue by business segment and region. The second quarter of 2012 was consistent with Q1, posting strong growth in our direct businesses, Industrial Inkjet and Productivity Software and weaker performance in Fiery, as we are preparing for the next product refresh cycle with our printer manufacturing partners. Our direct business now represents 68% of our total revenue, an increase of 11 percentage points over the prior year. This highlights the success of our transformation, focusing on the high growth areas of the printing industry, as well as our ability to offset the cyclicality of the Fiery business.

The Industrial Inkjet segment generated $80 million, a record revenue, up 39% year-over-year and contributing 49% of total EFI revenue. Once again, we saw solid demand for our ink linearly to the quarter with 31% growth in UV ink volume, driven by a growing installed base. This was the eleventh quarter of over 20% UV ink volume growth and a record quarter from an ink revenue perspective, yet again demonstrating the high utilization of our equipment, which drives significant profitability for our customers.

EFI Productivity Software delivered another record quarter with revenue of $26 million, up 33% year-over-year, contributing 16% of total revenue. We continue to see strong geographical expansion, leveraging our recent small acquisitions, as well as continued positive organic performance across our different markets.

Fiery revenue was $58 million in the second quarter of 2012, down 10% year-over-year and representing 35% of total EFI revenue this quarter. We finished the quarter with inventory weeks on hand in the channel within our operational target range, despite lower sell-through. As we said in prior calls, we continue to tightly manage our channel inventory and adjust it to sell-through projections.

By geography, revenue in Americas was flat year-over-year at $83 million, with growth in Industrial Inkjet and Productivity Software, offset by Fiery decline.

Revenue in EMEA amounted to $52 million and increased 21% year-over-year, driven by drupa in May and high growth in Productivity Software and Industrial Inkjet. While Americas was flat on a sequential basis, the EMEA revenue declined 6% sequentially with 2.5 percentage points driven by negative currency fluctuations. Note that the weaker euro negatively impacted our revenue in the tune of approximately $2 million year-over-year.

Finally, Asia-Pacific grew 89% year-over-year and 30% sequentially, admittedly off a small base, but a direct result of our efforts to increase our emerging market exposure.

Looking forward to Q3, 2012, we expect revenue growth of 2% to 5% year-over-year or $150 million to $155 million. This outlook is based on growth in our direct businesses of approximately 25% year-over-year for the Industrial Inkjet segment and approximately 20% year-over-year growth for the Productivity Software segment, offset by a cyclical decline in Fiery of approximately 20% year-over-year.

Now moving on to gross margin, non-GAAP gross margin for the second quarter was 54.9%, down 110 basis points year-over-year, due to the continued expected revenue mix shift towards Inkjet. Non-GAAP Industrial Inkjet gross margin was 40.4% in Q2, 2012, up 290 basis points year-over-year, mainly driven by cost reduction initiatives and successful execution of cost synergies in Cretaprint.

In the Productivity Software segment, non-GAAP gross margin continues to increase as we scale the business, resulting in 71.9% for the quarter, up 180 basis points year-over-year and up 60 basis points sequentially. Finally, Q2 2012 non-GAAP Fiery gross margin was 67.4%, down 70 basis points year-over-year, driven by product mix and lower volumes. Going into Q3, 2012, we expect overall gross margin to be approximately in line with Q2.

Turning to operating expenses, we are proactive in managing our cost in light of the weakening environment, which enabled us to deliver OpEx $2 million below our guidance, admittedly, partially helped from currency exchange rate. Non-GAAP OpEx of $70.4 million represented 42.9% of revenue, a decrease from 46% of revenue a year ago and 43.7% last quarter.

Non-GAAP R&D expenses were $29 million, representing 17.7% of revenue, compared to 19.1% of revenue a year ago. Non-GAAP sales and marketing expenses were $31.4 million, representing 19.1% of revenue, down from 20.2% a year ago, despite the cost associated with drupa this quarter. And non-GAAP G&A expenses were $10 million, 6.1% of revenue compared to 6.7% a year ago.

For Q3, 2012, cost reduction efforts targeted largely at our non-direct business, along with adjusted variable spend to align with the new revenue projections will drive an approximate 5% sequential decline in our non-GAAP operating expenses. As we noted in the past, we have a long-term business model with OpEx in the range of 40% to 44% of revenue and we’re committed to maintaining this level regardless of the economic environment.

Now, on to profit margin, we delivered non-GAAP operating profit of $19.7 million, up approximately 40% year-over-year. Non-GAAP profit margin amounted to 12% of revenue, up 200 basis points year-over-year, benefiting from strong operating leverage of our expense structure.

Non-GAAP other income and expense was a net loss of $1.3 million, compared to gain last year for the same period of $0.8 million. The non-operational unfavorable currency impact was $1.7 million or $0.03 per share in Q2, 2012. Using July 19 currency exchange rate, for day rates, we are factoring in our guidance approximately $0.9 million non-operational loss from currency or $0.02 per share, with Euro to U.S. dollars exchange rate down about 3.5% compared to June 30.

Rounding out the P&L, our Q2 2012 non-GAAP tax rate was approximately 22.6%. As we mentioned on our last call, our tax rate continues to be optimized, as we integrate our acquired IP into our international structure and we continue to assume the retroactive renewal of the federal R&D tax credit by the U.S. Congress. We are forecasting the Q3 tax rate at approximately 23%.

Disciplined operational execution enabled us to deliver non-GAAP EPS of $0.30 in Q2 2012, compared to $0.23 per share in Q2 2011, which included a one-time $0.01 favorable non-operational currency impact. Excluding those non-operational currency impact on OI&E, we grew non-GAAP EPS 50% year-over-year. For Q3, 2012, we expect non-GAAP EPS of approximately $0.25 to $0.27 per share, assuming this foreign exchange rate.

Turning to the balance sheet, total cash, cash equivalents and short-term investments amounted to $192 million, a net decrease of $11 million versus the prior quarter, mainly driven by the acquisition of Metrics, partially offset by cash generated from operations.

Q2 2012 cash flow from operating activities was $8 million. As discussed last quarter, Cretaprint and its industry’s less efficient cash cycle, as well as the overall product mix shift negatively impacted cash flow from operation in the first half of 2012. In addition, in the second quarter, the intra-quarter revenue linearity and the inventory build-up based on our strong sales funnel coming out of drupa impacted cash flow from operation in the short-term. We expect cash from operation to gradually improve moving forward, but still be under historical levels.

Working capital was 64.7 days, up 0.2 days sequentially and up 6.1 days year-over-year. Accounts receivable was $125 million, up $5 million sequentially, resulting in DSO of 69.1 days. Our net inventory balance was $61 million, also up $5 million sequentially, as we built to our forecast exiting drupa. Inventory turns dropped to 4.8 in Q2, 2011 compared to 5.1 in Q1.

Finally, our total diluted weighted average share count for Q2 2012 amounted to 47.8 million shares.

This concludes my comment, and now Guy and I will be happy to answer your questions.

Joann Horne

Operator, we’ll take questions now, please.

Question-and-Answer Session

Operator

(Operator Instructions). The first question today will come from the line of Shannon Cross with Cross Research. Your line is now open.

Shannon Cross – Cross Research

Thank you very much. Good afternoon.

Guy Gecht

Hi, Shannon.

Vincent Pilette

Hi, Shannon.

Shannon Cross – Cross Research

Hi. I guess the first question, which I’m sure is on top of everyone’s mind is cash usage. And clearly – I know this is a Board decision, but Guy and Vincent, I’m curious as to how you will sort of present it to the Board or what you think the best use of cash would be, given your view on the company, the shares, and potential acquisitions?

Guy Gecht

So, Shannon, we got this question before and we had no illusion that the question will come back even stronger with potential addition of about $3 per share after-tax once we get the money in October. So, the Board is not – is very familiar with the question. We didn’t have time to talk about it in the last few weeks as we negotiated and got very close with Gilead to a deal. And we’ll look at all the options.

There’s clearly a buyback, that’s something we have done quite a bit in the past. We used a lot of the – most of the cash when we sold the previous building for buyback. They are the other options. We had a couple of shareholders that brought up the possibility of dividend. And the company, I must say, is very successful in acquiring companies. We’re not looking to transform the business. We transformed that.

We’re very happy with where we are, but clearly there are opportunities to do something that is accretive and will grow our business faster and make EFI even stronger and more valuable, so that will be another option. And I don’t know that the Board will pick one or next, but we’ll sit down, we’ll have all the data, we’ll look at what other companies are doing and well I’m sure the Board will have a very good discussion on the topic, it’s a good problem to have, of course.

Shannon Cross – Cross Research

Absolutely. Can you talk a little bit about what the acquisition or the potential pipeline looks like and what kind of companies are you looking at? What kind of valuations are people asking for? Are they getting – I think things have gotten a little – I don’t know – a little exuberant perhaps with some of the prices and maybe Facebook and a few other things brought people down to earth a little bit. But, I guess, what are you seeing out there and sort of what type of – what size of deals are you thinking about?

Guy Gecht

Well, we continue to be active. You know that most of the acquisitions we did in the last two years, actually small acquisitions allow us to grow geographically to places like China, Brazil and Asia-Pacific, Australia, New Zealand and things like that. And so we will continue to look at things that are expanding and threatening the segments we’re in and expanding geographically what we do and bringing more recurring revenue. We’re seeing the pipeline is, of course, much busier as far as small companies that will find it tougher to compete with us or with other people, and let’s visit with some bigger companies that obviously we’ll try to work.

But we’re very patient when it comes to pricing. We have negotiated – we took our time to negotiate from our perspective. We take time for due diligence, we take time to get the right valuation. We take time for the right integration and we walk away from deals when necessary. And I don’t think that will change because we have more cash. I think it’s very important to win every deal, every time.

We go back to show the Board the year after or two years before – after that what was the plan, how do we execute against the plan and I want to continue to earn the price of the Board and the shareholders in doing those acquisitions. The last thing on acquisition, obviously, we getting into tile printing in Inkjet on industrial things like tiles open the door to more software or potentially other type of equipment or ink in that regard and we obviously are looking at that too.

Shannon Cross – Cross Research

Okay, great. And then just sort of on a more muted basis, I guess, can you talk a little bit more about what you are seeing in terms of Fiery, cyclical versus secular? Clearly you indicated the pipeline looks pretty strong, so how should we think about this as a sort of a one-time blip in terms of Fiery demand and then it should improve and is this one OEM-specific or is this more of an industry type issue?

Guy Gecht

Okay. So, we actually have many (inaudible) and we know that what’s driving the demand in this business is the upgrade cycle to new machines at better quality, better prices, better speed. We knew all along that this year, at least until Q4, it is going to be pretty slow. You saw yourself in drupa there was not a lot of new production engines being displayed, which show that people not ready to launch. So that was definitely something we know and we knew that that’s a cyclical part of the nature of the product.

If you go back in history, you will find that and, of course, when new engines are launched, for example, in Q1 of last year, then you have the bounce back of the business. And, of course, it’s not immune to economy. That’s the only segment that we don’t have a large recurring revenue. People hesitate, they don’t necessarily upgrade to the latest device or any device from our partners. If there is impact on their business they’d rather wait, (inaudible) and from an EFI perspective, obviously, we knew it’s tough out there, with the direct business we’re fighting hand-to-hand battle on every deal and we win more and more deals and we find ways to move the needle even if it stops.

On the Fiery business, we’re tied to other people innovation cycles and what they do in the field, which is not all the time something we can offset trends in the market. But it’s also cyclical, this is a cyclical business, we’ve seen it before. The product cycle of the first half of next year is very good. We’re going to – we have a first product that’s – towards really the end of this year and our partners are bringing more products first half next year.

I was talking about it on prior calls and this will happen and I’m pretty sure that that would benefit us. We have a very strong market position. The loyalty to Fiery probably never been stronger. All the surveys we’re doing, people – over 80% of customers are telling us that they will recommend Fiery to their colleagues and friends. So the segment we’re going after we feel very good. But unfortunately there are less deals right now, because of the combination of economy and new products introduction.

Shannon Cross – Cross Research

Great. Thank you so much, and good negotiating on the real estate.

Guy Gecht

Thank you, Shannon.

Operator

The next question comes from the line of Ananda Baruah with Brean & Murray. Your line is open.

Ananda Baruah – Brean & Murray

Yeah, thanks guys for taking the question and congrats on the deal. I guess it’s – I mean it’s significantly more than I think we were all envisioning you guys getting. So congrats.

Guy Gecht

We’re pleased with it.

Ananda Baruah – Brean & Murray

Yeah, I can imagine. I mean I think we were thinking like what, $100 million, $120 million or something like that so...

Guy Gecht

I mean we always told our neighbors here and we always told ourselves that for us to sell we would need something substantially above market, so I think we proved that.

Ananda Baruah – Brean & Murray

I’d say so. Just following up on the controllers, I guess, it sounds like, Guy, you mentioned in kind of Q4 is when engines will start to come out and then you mentioned kind of the first half of next year feels pretty solid. How should we think about, I guess, sort of the pull from the OEMs ahead of when they do engine launches, what’s the timing of that? It sounds like there’s not a lot of that baked into September quarter, but could you get some of that in the September quarter and how should we think about pull in the December quarter? I know you can’t give guidance, but would you get to have people in December if it’s really a March quarter engine launch?

Guy Gecht

We expect to get something in December quarter from new engines, but majority of that would be in next year, especially first half of the year is very busy Q1 and Q2 from new engines. Of course, things can get delayed with – as new products tend to be, but there’s a lot there and we’re very busy working on that right now. As you mentioned, the number indicate not much pull in this quarter from new engines. There will be one product that will ship really toward – from one partner will ship toward the end of this year, but more productivity in the first half of next year.

Ananda Baruah – Brean & Murray

Got it. So it sounds like December quarter is not – you’re sort of in the throes of the market for the December quarter as well?

Guy Gecht

Again, we are not guiding for December quarter. December is normally the strongest quarter, it’s pound-for-pound the strongest quarter, but I would, in fact, throw new engines into December quarter.

Ananda Baruah – Brean & Murray

Okay, got it. And how long – I guess, we don’t have the visibility you do – this sort of cycle of new engines coming out, is it across all of your OEMs and when we get into 2013, what kind of – I guess what kind of sales should we expect there to be? Is it something – I know you mentioned first half, is this something that can go sort of through the majority of the year with the bulk in the first half, or is it really sort of a first half phenomenon?

Guy Gecht

So, we’re working with all of our partners. All of them have new products all the time. We only care about products that they’re in the sweet spot of the Fiery business, which is for production, printing and professional printing. And in that regard, all of our partners will have some refreshments in the next year. Right now it looks like it’s a lot busier in the first half of the year. It could be that some will shift, so something that’s scheduled for Q1 will shift to Q2 and something that’s – from Q2 will shift to Q3. So it might be even – when get back to next year it could be a little bit more. Even right now it looks – from our work perspective, we’re working toward a lot more work in the first half compared to the second half of the year.

Ananda Baruah – Brean & Murray

Okay, got it, thanks. I just was interested in getting just some commentary around the linearity for the product, the non-supplies. As you came into the last – I guess into the month of June and then sort of into the first three weeks of July, how do you guys see business shape up? I guess you’ll sort of exiting the quarter? Did it get noticeably slower and what’s sort of the tone been through the first three weeks of the quarter?

Vincent Pilette

Yeah. Hey, Ananda, this is Vincent. Just a few comments around Q2. We actually were very bullish exiting drupa, very strong funnel, lots of opportunities. Mid-May and early June, almost all the way to the last week of June, it was pretty dry. And then we had the record week in term of the last week of June. It was tough out there fighting for every deal, but we’re very pleased for how the quarter turned out to be.

When you come into July, we obviously have, as you know, in many of our business, recurring revenue and that’s on track, whether it’s ink or maintenance software. When it comes to the transactional business, like every Q3, July and August tend to be pretty low and then September is really the busy month. The encouraging sign is that we are at the record level in term of funnel and sales quality or qualifying sales within our funnel, record level for Productivity Software and Inkjet.

Ananda Baruah – Brean & Murray

Got it. So it sounds like – it sounds like if we have – if things firm up a little bit, there is actually a chance that you’ll have some upside maybe or maybe downside too, for that matter. Who knows, I mean things aren’t great. But it sounds like – I’m assuming you’re sort of being sanguine with your guidance for those – given your pipeline and that there is probably – if there is any part that – any segment that those would be the two that may have some upside potential and the controllers are going to kind of be what they are going to be. Got it, okay.

And, I guess, just last one from me is, Vincent, your comments around cash flow sort of trending below typical for the balance of the year, is that due to just softer than expected revenue or the macro softness or is there anything else going on that we should be aware of?

Vincent Pilette

Yeah, let me explain how we think about our cash flow and working capital. Obviously, it’s more than a quarter – it’s more 12 months trailing and then through to next quarter, but there are three dynamics going on. The first one is really the mix in the business model, a lot more Inkjet business than Fiery and those two have different working capital requirements, longer DSO for Inkjet than in Fiery.

And then as part of that mix as the first lever it was also the fact that we’re growing international sales and more customer internationally means also longer DSO. That’s a structural change, if you want. We discussed it in our last call, with Cretaprint part of the mix a lot more international, and that is more Inkjet.

The second one is really the intra-quarter revenue linearity. I mentioned the last week of June being a record week and obviously that delay a lot of our AR into the following quarter, so that may be a little bit more short term. I wouldn’t expect a full correction in Q3, because Q3 is normally back-end loaded. As I mentioned, September is the busiest month, but then it gets corrected towards Q4 and Q1. And then the last point I wanted to mention is that we really build the inventory for drupa forecast mid-May and then we saw a change in the business forecast short-term that inventory will get sold automatically.

Ananda Baruah – Brean & Murray

Got it, okay.

Guy Gecht

You can also get back to historical level.

Ananda Baruah – Brean & Murray

Got it. That’s very helpful. Thanks a lot. Appreciate it.

Guy Gecht

Thanks, Ananda.

Operator

The next question comes from the line of Keith Bachman with Bank of Montreal. Your line is open.

Keith Bachman – Bank of Montreal

Thanks. I had a couple too. Just to follow up on Ananda, Vincent is there any dimensions you can give around the cash flow forecast that you have for September?

Vincent Pilette

We already done guides on the cash flow basis; it’s very – many different dimensions in that. At this point in time last year, we delivered about $10 million. I would say, at that level.

Keith Bachman – Bank of Montreal

Okay. So just up a little bit sequentially. And is there any risk on cash flow on that inventory? Can you give investors assurance – I mean on inventory obsolescence or damages or anything like that? I mean is the inventory good so we don’t have to worry about that?

Vincent Pilette

Yeah. Now, when you look at our reserves, gross versus net inventory, actually reserves went down, because we got rid of some old inventory. All of our inventory were in new machines we built exiting drupa. So at this point in time there’s no obsolescence risk in that inventory.

Keith Bachman – Bank of Montreal

Okay. Secondly, going to – on the table for GAAP and non-GAAP, there’s a change in value of consideration for $1.4 million; what is that?

Vincent Pilette

So, as you know, one of our net requirement principle when we acquire companies is that a portion of the purchase price is based on future performance and so we have a portion – we did publish it. For Cretaprint it was two-thirds upfront and a third in earn outs and this is one earn out for a prior acquisition that we did that did not meet all of the performance requirement and therefore that we’re not obliged to pay. So we unbooked that liability.

Keith Bachman – Bank of Montreal

Okay. Then going back to the top level, if you think about demand weakness, I know you said it was Europe, but I was wondering if you can peel the onion back or at least talk a little bit about Europe versus U.S., and Asia obviously seems good off a low base. And then also – it sounds like you expect modest changes in the Software side and the Inkjet side, but you’re not really seeing things on that side of the business. Is that a fair way to talk about the demand drivers as you see into September or December? It’s really wrapped up in the Fiery side of the business, are you seeing, particularly on Inkjet side, is there incremental weakness in Europe that you’re worried about sustaining itself?

Guy Gecht

Keith, this is Guy. I’ll take it. So, first of all, want to separate the Q2 and the Q3 result. The Q2 from our perspective is very solid and if it wasn’t for the currency, it was exceptionally strong quarter. So when we look at what is going on, we have a very solid pipeline of sales, the highest we ever had for the Inkjet and the Software, a lot of interest.

People that we were not aware in the market, particularly on the software side, are coming and talking to us about putting an infrastructure, automating, getting more efficient, very encouraging. However, we’re seeing a slower conversion rate. I mean, people take more time to make decisions and they do their homework and they need a little bit push. And the good news is the pipeline was strong enough. So we managed to close enough deals, so a very strong Q2. When we look at Q3, we think we’re going to see – we expect to see continued growth in both Inkjet and Software. We guided to this 20% and 25%.

We look at July and August, tend to be a little slower month, so we factor that into the equation on the top of the slow conversion rate. And we expect Europe to be relatively weak in the September quarter and we factor that into the conversion rate. So, overall, I would say when you look at overall, Fiery is really the one that’s bringing us to where the outlook is different than what maybe people thought before. I think we’re pretty much in line on the other two segments. If you ask me for a target for those – for all the segments, what I just said, no, internally we’re going to fight extremely hard to try to do a lot better. But, we think it’s prudent at this point to guide to what we’re guiding.

Keith Bachman – Bank of Montreal

Okay. Have you seen any change in the ink usage level in the Inkjet business?

Guy Gecht

No, it actually came very solid. I mean throughout the quarter, it was very strong, as we mentioned, 31% year-over-year growth that any quarter I’ll take it. I think that should be above the normal. And actually in all geographies, maybe Europe was not the strongest but still growing nicely and I think that that showed that our customers are actually doing quite well with the digital printing that things are moving from screen printers to digital printers or to – from analog labels to digital labels and we are very pleased with that. When we talk to customers, well, they are nervous about the future and maybe in Europe they’re more nervous than the rest of the world, their business is doing just fine.

Keith Bachman – Bank of Montreal

Okay. And then, only...

Guy Gecht

Yeah, good business in inkjet. So the ink is pretty good and was solid throughout the quarter.

Keith Bachman – Bank of Montreal

Okay. And so, you’re not seeing any trends – or just let me ask it in a question. Are you seeing any trends where there is more share shift on the Fiery business, in-sourcing versus the Fiery business?

Guy Gecht

We don’t see that. We don’t see any evidence of this. In the past, by the way, initial plus or minuses take multiple quarters, so certainly that will not be the reason to why we’re guiding Fiery at those levels.

Keith Bachman – Bank of Montreal

Okay. Last one for me

Vincent, can you go over the restricted cash? What’s the mechanics upon the transaction of the sale of the real estate?

Vincent Pilette

Yeah, correct. So we signed the agreement now and as reported, we expect to close in October, and at that point in time, restricted cash will leave the balance sheet, will leave with the building. We’re going to exchange restricted cash against the value of the building.

Keith Bachman – Bank of Montreal

All right.

Vincent Pilette

And then get $180 million of cash, and against that $56 million restricted cash. So, there’s a little bit of land and other associated asset on our balance sheet for up to – on top of my head I think it’s $62 million and that’s what will be exchanged against the $180 million, and then we will have the tax charge to offset the $180 million and the capital gain on the building.

Keith Bachman – Bank of Montreal

Right. So that’s why – that’s the $3?

Vincent Pilette

Yes, correct.

Keith Bachman – Bank of Montreal

Okay. Okay, yeah, fair enough. That’s it for me. Thank you.

Guy Gecht

Thanks, Keith.

Operator

The next question comes from the line of Morris Ajzenman with Griffin Securities. Your line is open.

Morris Ajzenman – Griffin Securities

Hi, guys.

Guy Gecht

Hey, Morris.

Morris Ajzenman – Griffin Securities

Hi. In the quarter, Inkjet up 39% plus and software up 33%; can you give that on an organic basis?

Vincent Pilette

We don’t break it to organic and inorganic. As I mentioned in my opening remarks, we’re actually pretty pleased with the high growth of Cretaprint this quarter. We took this business, expanded, built the sales force, we’re still doing that and we got a lot more traction outside of their historic focus on Spain and Italy. So, that’s definitely helped us. We, on the Software side, we bought small companies in Europe and in Asia Pacific.

But what we do there is, we’re actually putting their product on maintenance mode, which mean we don’t sell it in general to new customers, we’re selling our products, upselling. So it’s tough to say what’s organic or not organic, it’s the same product we’ve been selling before but obviously it’s leveraging the installed base of the companies we bought. So it’s getting more complex than just that. We are very pleased with the growth. The growth was good on all fronts. Some were a little slower or faster than others. But we are very pleased with those two segments.

Morris Ajzenman – Griffin Securities

And sustainable growth rates for those divisions, albeit the next quarter too. I mean it’s so good, but what do you forecast and what you think it can be of next few years for each of those two units?

Guy Gecht

Well, I don’t think we’ll – at the point we will – we are ready to change either up or down the long term model. So the same model we shared with you on November still apply to the good growth opportunities in all of our segments, especially the Software and Inkjet will grow faster than the Fiery, we think. But nothing changes. Maybe when we do the next Analyst Day we’ll update, but at this point we’re sitting – we believe in the model.

Morris Ajzenman – Griffin Securities

Okay. And anything more you can say about Europe? I know it’s part of the EMEA, but is there anymore you can break out and give us some sort of feel for percent of revenues, what’s – where that hurts, specifically what country it’s coming from? Anything more you can put on that for us?

Guy Gecht

Some more, just to clarify, we actually had a pretty decent quarter in Europe in Q2. Of course, drupa helped most customers that came to drupa from Europe and that was a Q2 story. The kind of – if you went to Europe, it’s very negative out there. If you think, there is a little bit of gloom and doom. There it’s – you’re bombarded with negative news. So customers that – their business are doing well are sitting and waiting and we factor that to conversion rate, we saw that in June and we think it’s going to continue in Q3. And so that’s what we think.

Overall, Europe is a fantastic market for us, definitely grow from very little base on the software side. The transition from analog to digital will happen in Europe too. As I mentioned to Keith, the ink is going there too, so we think in the long run Europe is going to be pretty good, even if not great growth overall, it would be a great opportunity for us to grow our business.

Morris Ajzenman – Griffin Securities

Okay. And last question here, Vincent, assuming that revenues come in at the $100 million, $125 million range, somewhere in there, where do you think inventories will exit the third quarter?

Vincent Pilette

So, on inventory, we just reported inventory turns of 4.8, obviously our target is to improve from that. The cash improvement that I mentioned gradually improving cash flow from operations going back to historical level, will be driven by DSO and inventory and therefore an improvement from the 4.8 turns that we are at today should be in Q3. With that said, most of the improvement should be viewed in the Q4 quarter than Q3, due to the linearity was mentioned for Q3.

Morris Ajzenman – Griffin Securities

Okay. All right, thank you guys. Everything was picked over. I appreciate it.

Vincent Pilette

Sure.

Guy Gecht

Thanks, Morris.

Operator

There are no further questions in queue at this time. I turn the call back over to Guy Gecht.

Guy Gecht

Thank you, operator, and thank you so much everyone for joining us this afternoon. Once again I want to thank the shareholders for trusting us and for the customers for their loyalty and of course I want to thank our employees of EFI for their hard work that allowed us to accomplish those record results. We look forward to share even more exciting news later in the year and we will talk to you soon. Thanks a lot.

Operator

This concludes today’s conference call. You may now disconnect.

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