Ansys Management Discusses Q2 2012 Results - Earnings Call Transcript

| About: ANSYS, Inc. (ANSS)

Ansys (NASDAQ:ANSS)

Q2 2012 Earnings Call

August 02, 2012 10:30 am ET

Executives

James E. Cashman - Chief Executive Officer, President and Director

Maria T. Shields - Chief Financial Officer, Principal Accounting Officer and Vice President of Finance & Administration

Analysts

Perry Huang - Goldman Sachs Group Inc., Research Division

Sterling P. Auty - JP Morgan Chase & Co, Research Division

Richard H. Davis - Canaccord Genuity, Research Division

Ross MacMillan - Jefferies & Company, Inc., Research Division

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

Jay Vleeschhouwer - Griffin Securities, Inc., Research Division

Blair Abernethy - Stifel, Nicolaus & Co., Inc., Research Division

Jason Rogers

Daniel T. Cummins - ThinkEquity LLC, Research Division

Steven R. Koenig - Wedbush Securities Inc., Research Division

Operator

Good morning, and welcome to the ANSYS 2012 Second Quarter Financial Results Conference Call. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Jim Cashman. Please go ahead.

James E. Cashman

Okay, thanks, Amy. Good morning, and thanks, everyone, for joining us discussing our 2012 second quarter financial results. So again, consistent with our normal protocol, all of the general information and key topics relative to both Q2 and the first half of 2012 business results, they're included in our earnings release and in some prepared remarks that we posted on the homepage of our Investor Relations website this morning.

So, but as always, before we get started, I'll introduce Maria Shields, our CFO, for our Safe Harbor Statement. So Maria?

Maria T. Shields

Okay. Thanks, Jim. Good morning, everyone. I'd just like to remind you that in addition to any risks and uncertainties that we highlight during the course of this call, important factors that may affect our future results are discussed at length in our public filings with the SEC, all of which are available via our website.

Additionally, the company's reported results should not be considered an indication of future performance as there are risks and uncertainties that could impact our business in the future. These statements are based upon our view of the world and our business outlook today, and ANSYS undertakes no obligation to update any such information unless we do so in a public forum. Also, consistent with our standard practice, during the course of this call and in the prepared remarks, we'll be making reference to non-GAAP financial measures. A discussion of the various items that are excluded and a full reconciliation of GAAP to comparable non-GAAP financial measures are included in this morning's earnings release, the related materials and the Form 8-K.

So Jim, I'll turn it back over to you for some opening comments.

James E. Cashman

Okay. Thanks, Maria. Okay, so before we open up the call for Q&A, I'd like to briefly highlight a few points about our Q2 results and the updated 2012 outlook.

So -- and now, I'll begin by saying that Q2 was really a strong quarter for us, but it was also a pretty busy quarter. And it ended ahead of what we originally expected on earnings and above the midpoint of the revenue range. And this was even factoring in some additional currency headwinds that we observed, that we had actually absorbed during the quarter.

So as we demonstrated over many years, the strength of the revenue performance, combined with our own discipline around spending, drove operating leverage and earnings beyond what we had originally guided.

Overall, we achieved double-digit growth in reported and constant currency in both software license and maintenance revenue, and of course, this yielded a new all-time high in deferred revenue balance. This in turn, as usual, drove strong margins and cash flows from operations.

So also consistent with what we've outlined about use of the cash, even dating back to the Investor Day we had in early March, during Q2, we repurchased 1 million shares of stock, which leaves around 2 million shares remaining in the authorized pool. We also continued our strategy to expand breadth and depth in our multiphysics portfolio, with the addition of Esterel, which we announced during the quarter and actually just closed yesterday.

Speaking back to that Investor Day, many of you might recall when we met in early March at that time in New York City, we laid out some of the key themes of our long-term strategy, including the opportunities that lay ahead for the future of Simulation Driven Product Development. The Esterel acquisition is just another step forward that enables us to respond to our customers' new reality, and that's a business environment where they simply can't afford to compromise on depth, breadth or quality of the simulation tools that they're using to solve their own increasingly complex design challenges.

But it also uniquely positions us to provide embedded systems simulation with certified cogeneration further differentiating our solutions. So other comments, you can find in there, but our industry composition, it remains averse with continuing success in areas in this particular quarter, such most notably things like automotive, aerospace and defense and material and chemical processing.

So the result of all this is that we reiterated our outlook on fiscal year 2012 non-GAAP revenue and non-GAAP EPS. This also translates to Q3 revenue in the range of $197 million to $204 million, an EPS of $0.67 to $0.69, with revenue for the full year in the range of $810 million to $830 million, an EPS of $2.78 to $2.87.

And before we wrap up, I'd like to provide some qualitative context around the guidance. First and foremost, first and foremost, the fundamentals of our business and the customer interest and market demand remain intact. And although we are maintaining our original revenue range, we've not just slapped an even probability across that range for a number of obvious reasons. First of all, the variance that we're experiencing over this protracted period carry through for the first couple of quarters of results, and it's demonstrated the current unevenness in the macro environment. So as compared to our revenue outlook, while we're on our guidance range, we wound up in the lower half of guidance in the first quarter, in the upper half for Q2. So there's a lot of variance in that.

Secondly, as we pointed out in our Q1 call, during these kind of times, our lease license ratios can be more volatile and that affects short-term impact. There's just an ocean of uncertainty regarding the resolution of the Eurozone and other global issues. The volatility of the currency rates remain, and there's also a continuation of just general macro uncertainty around the predictability, timing and composition of deals. Now what does this mean? I mean the bottom line is, there -- the timing of deals are difficult, but there's a greater probability that buying cycles extend rather than compress in this time frame.

So the sum of these factors would favor probably a heavier probability below the midpoint of the range. But while the growth demand stays relatively stable, this is the primary tenet for us reiterating that range.

Now in addition, we've also updated our currency rate assumptions to be in line with the current rates and added in the impact of Esterel for Q3 and the remainder of 2012. And they -- and essentially, the 2 of these things, one's a slight increase, one's a decrease, so essentially the 2 of these net each other out.

So the outlook also assumes an increased ramp in our second half spend in connection with the hiring resources for 2012 and preparing for 2013 and beyond, and also some marketing activities around the release of ANSYS 14.5, which we're really excited about and of course, the inclusion of Esterel, even in the early stages.

So to net it all out, our long-term enthusiasm remains intact. We believe now is the time to invest in our business, to prepare for the long term and the opportunity that we see over the next 3 to 5 years, but we're also cognizant of the world around us.

A final point that we'd like to add in there is that -- talk about some of the thoughts concerning the uses of cash, and I think we've been demonstrating that, particularly over the last couple of quarters on many fronts. But consistent with what we've been saying for the past several calls, several years, and we highlighted in our Investor Day, first and foremost, we plan to continue to invest in our business for the long term. Nothing's changed on that front.

Second of all, we'll continue to pay down the outstanding debt, of course, which steps up a little bit to over $26 million in quarterly principal payments beginning in Q3. Then, number three, and not necessarily third in terms of importance, but as the Esterel acquisition demonstrates, we have been and we will continue to look at opportunities around strategic M&A that allow us to accelerate the realization of our vision and extend and elevate this overall thing in our customer engagements.

So with those brief words, Amy, I think we'll be prepared to begin with the Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Perry Huang at Goldman Sachs.

Perry Huang - Goldman Sachs Group Inc., Research Division

I just wanted to ask a follow-up question for the Esterel acquisition. Jim, you mentioned that essentially, FX and macro was offset by the Esterel acquisition in terms of guidance. But could you provide anymore color around the revenue and earnings contribution for the September and fiscal '12 guidance?

James E. Cashman

Well, yes, somewhere in the $5 million, $6 million, $7 million range for the remainder of the year. There are some interesting issues there in terms of the revenue recognition, which is why we've got to cover this very carefully. Because in general, the way it was set up, we may have to actually recognize things on a pro rata basis over an extended period, which will stretch out. So they may wind up a little bit depressed. And of course, we just closed, we'll be getting into some of these details. But this is our -- and we'll be able to refine that over time, but we don't want to get premature. So that's one of the big things. And of course, you can also infer the contra impact of rates from the guidance, the published rates that we posted compared. So they are roughly awash. Keep in mind, the other thing is that when you factor in the Esterel, the fact that we'll have to kind of stretch it out, I mean, almost on a quasi-lease kind of basis, even if it was a paid-up license, it's a VSOE kind of issue, the main thing is that if you look at the way some of the structure of these companies -- Apache included, and Esterel, you look at the year-end impact. And when you look at the back end loading of commission rates, it's actually -- even though it's a good business over the next 12 months and we'll be able to build it into our business model, it will be relatively flat in terms of earnings contribution for the next 4 or 5 months.

Perry Huang - Goldman Sachs Group Inc., Research Division

Got you. That's helpful. And then just as a follow-up, if I could ask a question about the performance in Europe. You highlighted sort of continued macro issues in certain markets and also longer sales cycles. I was wondering if you could provide any more color on the U.K.? I think last quarter, you mentioned there were some execution issues there. But for this quarter, it looks like revenue was up sequentially, just wondering if those issues have been largely resolved?

James E. Cashman

I get -- in this environment, first of all, there are always the things that we can do better internally and there are the things that are around us that we just have to -- if the sea is chopping around, we have to navigate them the best we can. The things that we've done on the internal front, yes, they are showing to -- they definitely are showing some of the causal relationships to some of the results you observed. With regard to the other things related to the overall environment, there are so many ups and downs over the next few months, which we see on a global basis, not just England. And we haven't heard this yet, but I mean, I remember back in 2008, all ChiNex slowed down for a quarter because of the Olympics. Now will England slow down because of the Olympics? Haven't heard it. But I mean those type of things always have been slow. Those things are factored into the overall view. So I can't -- I really can't speak to all the puts and takes that are going to happen in the macro environment. But we're relatively pleased, I'll say, guardedly pleased about some of the steps and some of the progress that we're seeing. I wouldn't -- I never -- for years, I've never claimed that we've ever been all the way there in any markets that we've been in. So I won't make that stretchier. But the direction factor is definitely in the right direction.

Operator

The next question comes from Sterling Auty at JPMorgan.

Sterling P. Auty - JP Morgan Chase & Co, Research Division

So in terms of Esterel, I didn't hear in your answer, and I'm sorry if I just misinterpreted it, but where is that going to be placed in terms of which part of the sales organization is going to be pushing it? How, if any, integration of their technology is going into any of the other product lines? And who makes the purchase decision at your core customers for their set of solutions at this point?

James E. Cashman

Well, first of all, it's going to be relatively kept separate because it really -- there really is not a lot of overlap with our existing technologies, and that's a very positive good thing. Now the second part is, just like we've done in every integration that we've done, we actually -- it's not like done in one 100% chunk all at once. We actually take the very important parts. And where we focus first on this one is, for obvious reasons, how embedded software affects system functioning. So it's going to be in our overall system, our overall system portfolio type of solutions and connecting up with that. So we can actually see the impact that the software functionality will add to the inherent design inputs of the more traditionally physical aspects of the hardware design. So we're going to keep it in that particular direction. Yes, the -- and the other thing is, one thing that's very interesting is we haven't been able to do much of it because we hadn't closed until yesterday. But the minute we announced the deal, the number of majors, major customers that were actually coming and asking to participate in that, I mean it was very evident right off the bat, I mean to the point where we actually had to rein things in until we really legally could function at that. We had to function really as continuing 2 separate companies. So okay, that's speaks to integration. I think there was a third element of that question, wasn't there, Sterling?

Sterling P. Auty - JP Morgan Chase & Co, Research Division

No, I think that -- no, no, actually that basically covers it. And then, my follow-up question in a different topic is, as you look at the guidance for the full year, what needs to happen in terms of organic growth for you to deliver on the guidance here in the back half? Does organic have to further accelerate, stay the same or, what's embedded in that part of the guidance?

James E. Cashman

It's roughly the same and as you can tell, I mean, we've been plunking along at that -- around -- continuing to push up, even over the last few quarters, pushing up toward that mid-teens kind of thing. And you know what, again, there's an awful lot of uncertainty. I mean it gets down to everything of how European governments are going to react, how elections are going to go, how all sorts of things like that. But you're probably looking at that kind of 13%, 14% constant currency kind of standpoint. And of course, our guidance, of course, assumes certain currency situations. So all of those things will factor in. And the only thing that makes us a little bit trickier and the reason why I talked about you just don't put a bell curve over the guidance range, is the fact that orders slip and slide. One order that slips out of Q1 into Q2 still count in the annual guidance. An order that might slip extend out to Q4, it's still there, or if it turns to a lease, all the goodness is still there, it's just that the snapshot of how it's recognized is different. And we just want to be cognizant of that and basically, upfront. So those are really kind of the basic overall assumptions. And of course, if there's a complete meltdown or if it goes supernova, of course, those things will change. But nobody can really predict those because we can -- so we can really only go off the forecast, the upside and other factors like that, and then try to bounding box it with the -- with all the other exogenous factors.

Sterling P. Auty - JP Morgan Chase & Co, Research Division

Well we're all hoping that there's no supernova then, in the back half.

James E. Cashman

Well, supernova would be good, meltdown would be bad. Supernova is where we're really eased up, meltdown is we're kind of...

Maria T. Shields

Supernova is people unleash their budgets for year-end sums.

Operator

Our next question comes from Richard Davis of Canaccord.

Richard H. Davis - Canaccord Genuity, Research Division

Simple question on Esterel, is it logical to assume -- I mean I know it's a small part of your overall business, but is it logical to assume that it will grow organically on a constant currency basis faster than kind of ANSYS overall, because it's -- you've got a bunch of fresh-faced people to cross-sell it and things like that?

James E. Cashman

No, the first thing is, with a smaller denominator, apparent growth rates can be numerically higher. The -- but I tell you, the overall assumption is that it would grow a little bit ahead of the overall base. And you're absolutely correct, one of which is that the increased reach of our channel basically provides opportunities that a smaller company that's operating financially soundly just can't plug the market with that. Now on the other hand, it's a combined technology that fits in with the engineering buying centers. However, it tends to happen sometimes with a higher group and in the system side of things. And as a result, there'll be some latency in terms of the sales force getting adopted or getting up to speed on it, being able to communicate with customers. So it's not like it's going be throwing on a light switch and a step function. But like I said, there was immediate interest that we've actually had to hold the reins in on. So I think over the next year or 2, you'll see a combination of things. First of all, you'll see the margin depression that we always see with any acquisition we do start to get built into the ANSYS model, and within a couple of years, we've got things operating pretty well. And that kind of defines the wait-and-see in there. So, yes, they're definitely -- on its own basis, I think it would grow above the base rate. But with the expansion of the channel and being able to link that in, we do see that growing higher.

Richard H. Davis - Canaccord Genuity, Research Division

Got it. All right. Now this is kind of a -- maybe it's a weird question. But a few software companies have priced their software in dollars, so they don't then have the worry about the excitement going on in Europe. And I realize that, that would put pressure on guys in your customer side. Does that -- why would not you do that? I mean why would -- why does that not make sense? Or is it just would that make you less competitive in competitive environments and stuff like that? Or would that ever work or not?

James E. Cashman

Well, actually, at one time, we kind of came from that and it somewhat filtered through our indirect channel that might bear the burden of it. But the bottom line is, we've been saying if you look historically, there are ebbs and flows in currencies in all parts of the world, and we look at this from a long-term perspective. So frankly, with the employees we have over there, we don't confuse them by paying them in dollars because they have to live in local currency. Likewise, when customers overseas are buying in local currency, we don't want to have them sit there and think they have a certain budget amount that's improved and then find out that their budget got blown apart because of the change. If we've got that in there, first of all, it makes it simple for the customer, it all balances out over time and particularly if we can -- we just don't want to create obstacles to people in acquiring the software. And we think that extra kind of turning them all into currency wizards really causes a bunch of unintended consequences into it. Long term, we've got more users that way, and long term, the currencies kind of balance out. And when you figure out how much even a paid-up license contributes long term into our recurring revenue base, it really is a good stable flow for us. So if anything, we kind of come in the other direction and then we just have to manage amongst that.

Operator

Next question is from Ross MacMillan of Jefferies.

Ross MacMillan - Jefferies & Company, Inc., Research Division

Jim, your large deal count over $1 million is a really very, very strong number this quarter. I think relative to normal seasonality, I don't think we've ever seen such a strong Q2, and on absolute numbers, we've never seen such a strong Q2. Can you just talk to the large deal activity in the quarter? Because it didn't look like March was particularly soft on the large deals. So it just -- it strikes me that it's a very strong number after a very strong Q1.

James E. Cashman

No. Well, Q1 was strong from a big deal standpoint comparatively but in a -- or relatively. But from an absolute standpoint, if you look at the trend, actually, Q1, we were -- I tried to make that point earlier. That's why you don't just put a normal to bell distribution over a range. Q1, we're actually in the lower half of the range. And basically, some of that was for orders that were delayed, partially because of some of the issues that we saw on the macro and geopolitical environment. So actually, maybe a little bit of that's spillover. But keep in mind, if you look at what's going on, first of all, there are several other factors. Apache is playing an increasing role in these things and particularly, the cross-termination or the cross-buying of those 2 phenomenon with the rest of our main lines, just speaking to the integration, that's actually going forward. The second part is that you look at -- a number of you've talked, yes, we're growing across all sectors of our business. But since this is relatively new in its adoption, I'm talking about just the overall concept of the proliferation of simulation, we actually are seeing our major customers growing actually in a slightly higher rate than the aggregate of the rest of them. What that means is that in these big deals, you will actually start to see accumulation of that, that comes on. So that number does bump up. But on top of it, Q2 was not a bad quarter. So I mean you put all of those factors together and then our -- finally, our customers are just -- the same thing we've talked about for a decade, but it's really been in earnest the last few years under this stressful environment. It is -- this is viewed as a means to competitive survival and excelling. So I think, though, all of those factors come together. But the one point I'd also say and I've been saying it for 10 or 15 years, we may be hitting some home runs, but we're just trying to get good level contact, continual contact. It's not like we're trying to live and die by big deals. It's just that it's happening as a natural consequence of our business model and the execution that we're doing out in the field.

Ross MacMillan - Jefferies & Company, Inc., Research Division

That make sense. And just on the paid-up, I think your comments, both today and previously, is you may in tougher environments have deals slip from paid-up to lease or maybe even push if they're paid-up, they could move across quarters. The paid-up number this quarter was certainly, I think, better than we saw in Q1. Do you just put that down to timing mostly?

James E. Cashman

Yes, it was timing, like I said, and some of it was -- when we tell you that sometimes the thing can slip across, that's not a euphemism for we lost it. No. You're seeing some of the Q2 effect was a slight amount. I mean, we were still in range in Q1 but a little on the lighter side, and now we are on the stronger side. So again, it's one of these things if you try to just live in quarterly snapshots, you can get some small perturbations. But when you're integrated over the long term, it pretty much stands out.

Ross MacMillan - Jefferies & Company, Inc., Research Division

And then, pulling this together, last thing, just -- I heard you say earlier, I just want to go back and make sure I heard that. You talked about your guidance for the year, but then you said, I think, a line probably favor growth below the midpoint of the range. I don't know if that was just -- if you said that meaning you'd be having us think at the midpoint or lower is the most likely outcome or whether I just misinterpreted that comment?

James E. Cashman

Well -- no, essentially, if you look at -- the way we look it, we take all the factors we've got, and of course, there's a certain amount of Sigmas on either side of the range. But the bottom line is, it just -- I was just saying don't slap an even distribution for this is not just an evenly distributed curve there. And if you look at the various factors of where currencies can go, if you look at the, like I said, the one impact is the effects of timing stretching out is disproportionately higher than the chances of timing compressing and squeezing in. And when you put all those things out, I'm just saying it doesn't look like just a normal curve centered around the middle. I'm just saying -- I was trying to provide a little bit of color. The range is intact because our customer demand functions are basically statistically the same. Same thing, when something changes from -- tweaks from a license to a lease, again, you're going to -- the business is all there but you're going to -- what you recognize and show is going to drift out into outlying quarters or in this case, outlying years. So all I'm saying is that, that you don't just pick -- I was just trying to give you a mental image, don't -- I wouldn't picture that bell curve. And by the way, those are things that we'll look at on an ongoing basis as we continue to look at our investment patterns and things like that. And finally, there's no saying that in terms of what's happening with either the European situation, recent elections there, upcoming elections here, these are cycles that tend to -- will tend to have significant impacts. So I mean, all of those factors together, it was just -- I was just trying to get away. Sometimes, people like to fit a nice even normal curve over the range, and that's really not the way we're looking at it, although, we find that our ongoing range to be a statistically valid construct.

Operator

Our next question comes from Steve Ashley at Robert W. Baird.

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

I think I would just like to try to reconcile the change in the full year guidance. You've taken it down by $6 million to $9 million. You said that Esterel will contribute $5 million to $7 million and you still need to hash through some rev rec there. But your best guess today is $5 million to $7 million, but did FX probably change by an equal-ish amount, $5 million to $7 million, suggesting...

James E. Cashman

Yes.

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

Suggesting that just organically, you're taking the core business down $6 million to $9 million. Does that all sound right?

Maria T. Shields

No, we haven't changed the outlook on the core business. It's basically Esterel's addition nets out FX headwinds that are greater than what we had guided to back in May. So we're still at $810 million to $830 million, which is where we were back in May.

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

Got it, got it. Okay, I guess I was looking at GAAP numbers.

Maria T. Shields

But, Steve, we're not looking at GAAP.

James E. Cashman

That would, of course, make a difference.

Steven M. Ashley - Robert W. Baird & Co. Incorporated, Research Division

Yes, okay. And then, my other question was Esterel, you paid $53 million. Do you think that's the new normal in terms of size of acquisitions we might think about for you guys making in the future?

James E. Cashman

Well, actually, if you look at from last -- I think actually the last 2 years because everybody was after -- it was like every 3 years, we'd do some that might be like a few hundred million purchase price. And first of all, we made the stunning observation that there are a lower number of those available over the last decade. And that's the case. And I think I even made the point starting 2, 3 years ago saying, I would start to look at things in the basically $50 million range, clumps of those things that really have significance. But the other thing is, if you chart everything we've -- the few we've done over the last 10 years, you couldn't find a normal. I mean there isn't, and I don't really think there's a normal per se. The only thing I'd say is the population of these larger ones right in the sweet spot of our technological vision, they're just fewer, because you can just look at all the tombstones that have happened on that and it's a lower number. So I think statistically, it's just safer to say that. But you will see us sometimes, I'm sure, do tuck-ins. You will see us do these midrange kind of things. I mean, so it could be all over the map. And it's -- I just don't know how to clarify it because even when we eye something, it doesn't always happen at the exact time, at the exact price, at the exact anything that would be perfectly ideal for us. But it all turns out to work for the long-term good.

Operator

The next question comes from Jay Vleeschhouwer at Griffin Securities.

Jay Vleeschhouwer - Griffin Securities, Inc., Research Division

Jim, I'd like to ask you about the competition. With your results and with those reported last week for the sohs -- Somoa [ph] brand, you comprise, the 2 of you together, the majority of the market and would appear to be doing well collectively. But they appear to be growing more quickly than you, both in the second quarter and for the half year-to-date versus your core CAE business. And by our calculations, they are now the equivalent of roughly 3/4 of your core business size. So the question is, given the compatibility between your size and theirs where you compete, where are you seeing them, and could you just overall talk about competition?

James E. Cashman

Well, we -- I mean, we really don't see them any differently than we've seen them over the last few years. So -- and all I can say, I don't know how they -- I have no idea how they internally account and divide up growth inside there. So I mean, I really can't speak to that. In terms of what we can see about ourselves is it's been significant. Simulation basically is our focus. It's critical to our customer base. It's what we live, and the things have been pretty much along the guidance that we said. So it's really not much change. I'd say the only major change on the overall competitive front is if you look 10, 15 years ago, we were $40 million, $50 million, and we were much narrower, and we would kind of get involved in a lot of micro-transaction kind of things, and we'd go head to head more often. I'd say, as of recent, it's not like -- there are probably literally dozens of people that we see midge competition from and really, there's nobody we see across the entire spectrum. And that really hasn't changed. I mean, we still have technology providers. We still have the major CAD/CAM or PLM companies that are also getting in and trying to create names themselves. And then there are always new startups. And that dynamic, really -- that's really not been the major story for us in anything that we've encountered.

Jay Vleeschhouwer - Griffin Securities, Inc., Research Division

Okay. Just a couple of follow-ups. First, what's your thinking long term about the correlation of your services capacity and revenue to your Software business? We've talked about this before, but services are a fairly low percentage of your business. But you've also talked about it having to become larger in connection with growing the software business, perhaps update us on that thinking. And just a clarification on Apache. Could you talk about the number of new customers they're gaining. At around the time you bought them, they had 120 customers. And I'm wondering are they adding significant number of logos over the last year or are they largely growing with existing customers like Intel?

James E. Cashman

Well, the thing is, first, let me tackle the service one. Yes, and as I've mentioned, we think that, that now is one of the longer pulls in the pan in terms of helping customers jump the chasm, if you will, in terms of doing that. And right now, it's the lowers. It's been in the lower single-digit range. But we've also mentioned that we were investing along those lines. And the actual service business has been -- the pure service business is overall starting to grow fairly nicely. But we'd like to get it at least in the next 3 to 5 years up into that mid-single-digits kind of range. On off the top of my head, I mean, I can only -- I can't speak holistically with regard to the Apache integration, but I can think of situations where we were both strong, but were in different buying standards and the same customer, and we've actually elevated those customers like in -- I know that there are some that we've introduced Apache into. And I know there are some that even with our broad footprint, Apache was probably relatively more significant in that customer. We've actually been able to use that to leverage in new capabilities. But I think other than that, we'll have to mine the data in kind of a different way to give statistically meaningful information on the raw numbers of new platforms and things like that.

Operator

Next question comes from Blair Abernethy at Stifel.

Blair Abernethy - Stifel, Nicolaus & Co., Inc., Research Division

Jim, I wonder if you can give us a little more color on vertical performance this quarter in sort of standout positive quarters versus -- verticals versus maybe some that were lagging a bit?

James E. Cashman

Well, again, it's one of those things where the lag -- the one thing we try to do -- I want to be kind of really clear on this. If you look at it, we've still got a high degree of diversity in the business. And I want to be -- sometimes, just for color, we try to tell you what sectors were doing well in a quarter. But that's not to say, oh, here's a big overwhelming trend that's significant for the next 3 to 12 months and going forward. So first and foremost, so all -- I mean, all sectors are doing okay. But as I mentioned, first of all, I would -- if you haven't had a chance to look, we try to put a lot of commentary and some numbers into the prepared remarks that are posted on our IR website. So I clearly think you'd get a real good picture on that. But the -- I'd say some of the interesting things, I think we mentioned automotive, I think we have mentioned aerospace and defense. A relative newcomer was in terms of material and chemical kind of things, and that's just kind of popped up. It's the first time for that. Again, we're not saying long-term trend, we're just seeing that. But automotive, there seems to be kind of a sea change in there in terms of what people are doing in terms of fuel efficiency and AGB and the likes, as well as the increasing competition from overseas manufacturers, many of which are the relatively newer places in Asia. In aerospace and defense, that -- in some cases, we said, "Well, maybe that's a little bit counterintuitive," but if you think about it, all the advanced research is going into unmanned surveillance and electronic countermeasures and the things like that. Those are all new research as opposed to refining the next-generation of battle tank or something like that or the next strike fighter kind of project. And with those things, whenever they tend to be R&D and highly innovation-driven, wow, that creates at least an uptick for simulation, even if those markets weren't traditionally used to using it in that standpoint. So those are really the main things. And again, I invite you to look at some of the prepared remarks because it will give that. But in terms, we still have -- we're still seeing the balance. We still see growth in sectors. It's just that any one quarter, there's -- if you got an average, there are going to be a few that are above the average and a few that are below the average. I don't know, Maria, do you have anything you...

Maria T. Shields

Yes, the only other thing I'd suggest is our industry guys are constantly posting updates about customer successes and innovation within each of those important verticals, so check out ansys.com.

Blair Abernethy - Stifel, Nicolaus & Co., Inc., Research Division

Okay, great, and I did get the industry highlights. Can I also, Jim, just ask you to -- how about the electronics vertical in particular, how did that perform in the quarter?

James E. Cashman

Well, it performed -- it actually performed pretty well. Now there's also some regional things where you can see there are -- particularly over in Asia, there are certain countries and companies that are kind of in ascendancy. There are other big names that are going through some more difficult stretches and things like that. But in general, the push toward the denser chips, 3D and basically, just the overall drive for electronic system-on-chips, things like that, it's intended to increase, which by the way, is yet one more reason why we're very excited about the long-term prospects embodied in Esterel in terms of looking at embedded systems. Because now you've got some of these microprocessor system-on-a-chip things and now you've got this drive in our customers across a wide range of industries for Smart Products. Well, this is where an awful lot of the smart comes from is in that embedded software. But for the system to properly function, you've got to have a unity of performance between the traditional, mechanical hardware, electronic hardware and the software that's operating in it. And if they don't all work in concert, you can kind of have a dud of project -- a dud of a product out there.

Blair Abernethy - Stifel, Nicolaus & Co., Inc., Research Division

Okay, great. And, Maria, just on the tax rate in the quarter, Q2 was a little bit lower than we're expecting. Anything going on there? And sort of do you have a view yet for what the tax rate might be next year?

Maria T. Shields

Next year? No. Let's see what happens in 95 days and then maybe I can give you a little bit more color on next year's tax rate. But as far as the most recent quarter, we did file some tax returns for Apache in some of the foreign locations and ended up resulting in some slightly greater benefits than we estimated coming into the quarter. So for the second half of this year, we're looking at 31% to 32% based on everything we know right now.

Operator

The next question comes from Jason Rogers at Great Lakes Review.

Jason Rogers

Looking at the number of open positions you have, just wanted to get a figure for current open positions and how many were added in the second quarter?

Maria T. Shields

I think probably around 50-ish in the second quarter, and we've got probably over 100 right now.

James E. Cashman

The 100 is all functions -- I mean, that you can check if you go to ansys.com and just find about positions. But that's total positions across the company.

Maria T. Shields

Yes, that's total across the company, across the globe.

James E. Cashman

Disproportionately, the high-end R&D technologist types and the customer-facing types, probably the disproportionate portion of that.

Jason Rogers

Okay. And what was the performance of Japan on a constant currency basis x Apache for the quarter?

Maria T. Shields

Yes, Jason, I think we spelled that out in the prepared remarks.

James E. Cashman

I think we spelled that out in the prepared remarks, too. You want to just clarify that and then we'll...

Maria T. Shields

Yes, Japan, total combined in constant currency was 13.5%.

Jason Rogers

Does that takes out any contribution from Apache? I'm just trying to...

Maria T. Shields

Well, Apache wasn't there last year, so...

Jason Rogers

Right. I'm just trying to look for the core performance if you take out Apache.

Maria T. Shields

Yes, 10% plus a little bump for currency.

Jason Rogers

Okay. And do you anticipate that to improve a little bit for the coming quarters given the sales force changes that you've made as they get up to speed?

Maria T. Shields

Yes, absolutely. We highlighted that we were going through some net sales management issues in Q1. We kind of worked through that. We on-boarded a new team and so we have a lot of confidence that the second half will look better for Japan than the first half did.

James E. Cashman

Don't think -- I mean we're not guaranteeing what the ramp-up rate will be. But the -- again, the direction factor being in the -- going in the right direction is definitely there.

Jason Rogers

Okay. And finally, Jim, I wonder if you could give your best guess on the potential size of Esterel's market?

James E. Cashman

Well, the problem is, again, this is almost kind of like saying you're -- again, this is like trying to predict the size of the PC market. When you're sitting in 1990 and you're trying to predict how it will -- what it will be in 2010. And all I can say is that it's so many orders of magnitude bigger than what Esterel currently is that, that's really not the long haul and the time for us. I mean if you think of the amount of microprocessors going at all Smart Products, if you look at the amount of software that's required for those, if you look at the amount of certification that's required for everything from nuclear plant operation, to aircraft, to maybe running these smart train systems and things like that, cars that drives themselves and the like, I mean it's -- I think there's the really big opportunity for it to go viral over the next 5 to 10 years. So it's so much bigger that trying to pin it down, it's just not where we put the attention. Because right now, the pull demand that we're getting from inquisitive customers is virtually enough to totally swamp us.

Operator

[Operator Instructions] The next question comes from Dan Cummins at ThinkEquity.

Daniel T. Cummins - ThinkEquity LLC, Research Division

I apologize if this was asked previously. I wanted to see if, Jim, if you could give us kind of sketch Esterel as compared to Wind River and Green Hills and the embedded OS companies on the one hand, but also, something like Symyx, which a piece of simulation software that Intel acquired I think to pair with Wind River, where is Esterel positioned competitively? And then a question about optimizing your direct, indirect model over the next 2 to 5 years.

James E. Cashman

Yes. On some of the things -- I wouldn't pretend to have the in-depth knowledge of all those different companies. I can only tell you why we were interested in Esterel. And I know when sometimes when people say embedded software, even after we announced Esterel, I started getting a bunch of inquiries from all sorts of "embedded software companies". Again, we're focused -- there are many aspects of that. That's not necessarily just the operating system. With us, we're more interested in the functioning code that affects the functioning of an overall smart product. So you'll see a level there. Now there are people that will dice it. There are some people that manage the product life cycle, if you will, of embedded code. And there are other people that will deal with the infrastructural aspects of it. Again, we're staying true to the simulation aspect and as such, treating embedded software as one of many components that comprise a functioning system, all of which have to interact together. I'm sorry, the second part of the question, Maria, did you...

Maria T. Shields

Optimizing the...

James E. Cashman

Optimize a direct, indirect, yes. Well, I mean that's something that we continue to look at on an ongoing basis. The truth of the matter is that having the balance between the 2 is very important as anybody has seen over the last 10, 15, 20 years of our business in terms of providing the resiliency, the recurring revenue, all of those kind of aspects. However, it's not easy to find high-quality new salespeople for the direct side, and it's even more difficult to percolate these indirect channels that you built a 20-year history with and you trust them and you know they'll provide quality software and they can actually perform. That's the thing that takes a long -- that's not just to go out and recruit. That's a long-term building process. So if you look at it, we would still like to increase the rate at which our indirect channel can represent the full portfolio of products. So obviously, there's the luring process of that, but we want both of those to grow. And frankly, over the last few years, you've seen that we've kind of reached a pretty good balance point where in fact both sides are growing somewhat symmetrically. And that's a very positive thing. We'd like to see those kinds of things going. If we can continue to get additional reach to everything from OEM partnerships, which sometimes are problematic to increase indirect channels, in addition to continuing to grow our direct channel, we're interested in all aspects of that. And basically, the whole situation will probably continue to change and evolve because the distribution landscape of today looks very different from the one of 20 years ago. And it's going to look different 10 years from now. And you start throwing things like the evolution of the cloud as it starts to become more significant for this massively parallel world that we operate in. There's going to be a lot of changes going in, but there's also a lot of things that have to happen for that to come into effect.

Daniel T. Cummins - ThinkEquity LLC, Research Division

So when you say balance, you don't necessarily mean 50-50 but just some equilibrium?

James E. Cashman

Yes, yes. In other words, we don't want to see one where there's a big trend line that shows that one or the other is dropping off a cliff.

Operator

Next question comes from Steve Koenig at Wedbush.

Steven R. Koenig - Wedbush Securities Inc., Research Division

I wanted to -- let's see, my main question here is deferred. It looks like it was up pretty sharply in Q2 more than just seasonally typical. And I'm wondering, is it FMC, what other factors come to play and any color on that you can give?

James E. Cashman

No, the bottom line is, the fact is, both on an organic and on an overall standpoint, the business intake grew at a faster rate than the revenue that we recognized. And when you have those things happen, it has to go somewhere and it goes into deferred balance. But we actually view that as being a very positive thing. And frankly, that's one of the aspects that even though there's a lot of uncertainty towards the end of the year, and I talked about the skewing within the range, it still is one thing that speaks to the -- basically, a statistically stable kind of demand function. So really, there's really kind of no real surprise. I don't know, Maria, sometimes we balance for FX. I don't know if there's any of that kind of thing.

Maria T. Shields

Yes. And the only other thing...

James E. Cashman

And we had strong renewal -- yes, the renewal rates were stronger, actually improving.

Maria T. Shields

Right. Good strong renewal rates. A portion of those 19 deals that we highlighted over $1 million certainly contributed to that deferred revenue.

Steven R. Koenig - Wedbush Securities Inc., Research Division

Okay, great. And then on the flip side, I want to ask on services, you -- they were -- looked a little light. You mentioned the core services was growing. So education and training, sometimes, we see that as -- that tends to drop off when people are worried about the macro. Was that light and is that any sort of alarm or indicator to you?

James E. Cashman

No, actually, training was actually up quite a bit. And again, that's not -- your core assumption is actually valid, but the thing is that when people were starting to continue to invest in the technology, in some cases, what they were doing was they were training existing known resource when you might be a little bit more reserved in hiring of new ones. And a lot of times, when we expand and add new logos, we do that. So actually, the training was relatively strong. It's just that even if it grows in the higher double-digits, it's not going to move the dial a whole lot. But that's been a pretty good portion for us.

Operator

This concludes our question-and-answer session. Mr. Cashman, would you like to make any closing remarks?

James E. Cashman

Oh, certainly, always, but I've got to think of some. Okay. So basically, let's just summarize. So the emphasis for the remainder of 2012, it's obviously going to be in the initial integration of the Esterel business; continued integration of the Apache, basically with a focus on in those with execution growth customer engagement; continue our investment patterns, basically, the customer receptivity, the long-term vision, it just continues to strengthen; we're going to focus of course on the release of ANSYS 14.5, which is expected toward the end of this year. But with the addition of Esterel solutions, the breadth of this portfolio strengthened even further. And bottom line is, again, it's almost becoming like a mantra here, but we're continuing to be propelled. It's a strong combination of the vision. The business model is resilient. But, golly, our customers are great, and they've been with us for a number of years. Same thing for the partners. And not only partially because of the strong technology we have and frankly the, I'll say, the growing base of employees that we think are just really exceptional. Thanks to any of them that might hear -- listen to this playback. But now, it also includes a very, very talented team with new core competencies from Esterel.

So that -- those are the things. Yes, we've got some uncertainties out there in the world, but everybody's got those, we just try to do with customers, technology, employees and a solid business model, those things that allow us to make the best of whatever comes our way.

So with that, I'll just thank everybody for your time, and we'll look forward to seeing you next quarter. Thanks.

Operator

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.

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