Demandware, Inc. (NYSE:DWRE)
Q2 2012 Earnings Call
August 7, 2012, 08:30 am ET
Erica Smith - Director, IR
Tom Ebling - President & CEO
Scott Dussault - EVP & CFO
Greg Dunham - Goldman Sachs
Tom Ernst - Deutsche Bank
Laura Lederman - William Blair
Brian Schwartz - Oppenheimer
Richard Davis - Canaccord
Craig Nankervis - First Analysis
Good day ladies and gentlemen and welcome to the second quarter 2012 Demandware financial results conference call. My name is Erica and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator Instructions)
I would now like turn the presentation over to your host for today’s call, Ms. Erica Smith, Director of Investor Relations. Please proceed.
Good morning and thank you for joining today's call to discuss the results for the second quarter. Here with me today are Tom Ebling, our CEO and Scott Dussault, our CFO. Tom will provide highlights for the quarter and Scott will talk about the financials in more detail. Then we will open it up for questions.
Before we begin, let me remind you that during (inaudible) we will discuss both GAAP and non-GAAP results to supplement investor understanding of the company’s financials. A GAAP to non-GAAP reconciliation schedule is provided in the press release issued this morning.
Also today's discussion contains forward-looking statements such as statements regarding the market acceptance of SaaS solutions, the growth of ecommerce, our business strategy, demand for our solutions, growth of our customers ecommerce businesses, the seasonality of our business, our pipeline and our projected financial results.
Forward-looking statements involve risks and uncertainties and our actual results could differ materially from those projected in our forward-looking statements. The company assumes no obligation to update the information provided during today's call to revise any forward-looking statements or to update the reasons actual results could differ materially from those anticipated in forward-looking statements.
These risks and uncertainties include risks relating to our ability to attract new customers, the extent to which customers grow their revenue and renew their contracts for our solutions as well as other risk factors that could affect our results which are included in our 10-Q and other filings with the SEC.
And with that I am going to turn the call over to Tom.
Good morning and thank you for joining today’s call. As you saw in our press release we had a strong second quarter. Subscription revenue increased 47% to $15.2 million. Again this quarter our subscription growth was driven by an increase in the number of new live customers on our platform as well as by existing customers growing their initial sites and launching new sites.
As of June 30th, we have 124 live customers, which was up 59% from 78 a year ago. In addition, we also had 445 live sites, which was up 76% from 253 last year. Our significant new customer wins like Ethan Allen, Godiva, London Drugs, the Apparel Group, Crabtree & Evelyn and Finish Line increased our roster of leading brand name customers and further deepen our diversification in specific verticals and geographies. We were very pleased that they selected Demandware as their cloud based commerce solution last quarter. Later in the call, we will also discuss the Neckermann insolvency filing which happened in July.
Since this is our second as a public company, I wanted to remind everyone of our strong industry tailwinds. The paradigm shift in the way consumer spend and communicate online continues to dramatically change the commerce landscape. We have a tremendous market opportunity as the $12 trillion in traditional retail spending continues to shift online. This trend is forcing retailers to change the way they do business.
To remain competitive is imperative that they keep pace with rapid technology innovation not to mention the ever changing consumer expectations. Brands are looking to connect with their consumers through mobile, tablets and through social media. They will also need to respond rapidly to the next trend or technology that emerges such as digital enabled television.
With traditional on-premise software keeping up with these changing trends and latest technologies can be very daunting and extremely costly. It also takes significant time away from merchandiser’s core competency connecting and selling consumers. With our cloud based solution we not only make managing this complexity easier and less costly we also help our customers grow.
We've seen increases numbers of enterprise organizations turning to the cloud this significant certainly true in our business. As you can see from of the great customers we acquired this quarter, larger retailers and brand manufacturers are embracing the cloud in our unique share success model. Many of our customers choose Demandware for similar reasons. They want to grow faster, they want to innovate faster and they want peace of mind. To know their e-commerce environment is up and running.
We have proven that our state of the product sure is reliable and second quarter we achieved $99.99% average up time and have achieved 99.98% availability since the company was founded. To help customers drive their growth, we provide them with extraordinary levels of customization and empower then with best in class merchandising tools.
If you look at the customization of sites like Henri Bendel or TaylorMade Golf or Giggle. You would never know that the underlying technology platform is the same. Our customers are able to provide their targeted consumers to unique brand experiences. We also empower our retailers with best in class merchandizing tools, giving them the control and flexibility over their e-commerce environment and they need help and drive growth.
Our unique SaaS platform also makes launching sites in Demandware e-commerce fast, enabling our customers to get to market quickly. As a result our existing customers are seeing dramatic GMV growth. GMW stands for Gross Merchandise Value and represents revenue through the Demandware e-commerce platform.
Excluding Neckermann, our customers experienced on average same customer growth in the mid-to-high 30% range. This was true to both of our customers in North America and for those in Europe. By the way, same customer in this context is defined as customers around the platform for all of the second quarter of 2011 and all of this quarter. This revenue growth demonstrates not only our value proposition to customers but also our land and expanse strategy which plays a significant role in our revenue growth.
Our customers' GMV growth is well above the historical averages of 10% to 15% reported by [Comscore] in the United States. I touched on piece of mind in faster growth. Our customers also chose demand because we innovate. Through the cloud, we seamlessly provide our customers with new e-commerce functionality, multiple times a year.
This quarter we rolled out two global releases to all of our customers. One in hand was to store API layer introducing new promotion methods for Richard (inaudible) capabilities, another new feature provides enterprise scale customers with even more control over the e-commerce environments. They now enhanced change tracking, which is particularly important to rapidly growing global organizations with many users in growing camps. Our proven and reliable infrastructure to support large scale retailers as well as robust marketing and merchandising tools were important factors in the decision making process for customers like Finish Line, we signed this past quarter.
According to Internet Retailer, last year Finish Line generated more than $100 million of GMV online. In 2009, we had one customer running an online business in more than $100 million. In 2011, we had seven. Wins like Finish Line are further evidence that our cloud infrastructure can support the needs of the largest, fastest growing e-commerce environments in production today, and it demonstrates that our shared success model resonates.
Our customers have a true business partner with Demandware. We're committed to meeting their needs because our success depends on their success.
Ethan Allen, another new customer this quarter is investing in their online channel and they plan to leverage the power of Demandware e-commerce to better support their consumers internationally.
In the June quarter, we also signed a first End-to-End partner in Australia, Amblique. And we also secured our first joint customer win with Amblique, signing an agreement with the apparel group for we launching two brands on the Demandware e-commerce platform SABA and [Sportscraft]. We further broadened our reach in the second quarter by selling into a new vertical grocery when we signed Picard. Picard is a frozen foods supermarket chain based in France. More broadly in Europe during the second quarter, we continued to sign accounts in our core verticals including Magasin Du Nord and Meninvest.
Magasin Du Nord is a well known department store in Denmark and Meninvest is a men’s fashion leader in France. We know there are a lot of questions about business in Europe. As a reminder, we started making more significant investments in sales and marketing in Germany, France, the United Kingdom and the Benelux Region during the back half of 2011 and the first part of 2012.
With our enterprise sales cycles we are still in the early stages of seeing returns for these investments. Despite the economic backdrop in Europe, one-third of our new customer wins came from the European region. The customers we've acquired had smaller contract sizes on average than those in the United States, and the sales cycles in Europe are more complex.
We are acquiring the right European customers, those who view e-commerce as a strategic growth vehicle. As I mentioned earlier, carving out Neckermann, European customers were on the platform for all of this quarter and all of the second quarter of last year, grew their online businesses in the mid-to-high 30% range which was consistent with our customers in North America.
Our customers worldwide achieved a strong year-over-year GMV growth by expanding their initial sites or launching new sites in new geographies for new brands. During the quarter, customers such as the Limited Stores, Perry Ellis, Icebreaker and Diane von Furstenberg launched new sites.
In addition, new balance rolled out in the unitedstates.com site and its voyeur brand in United Kingdom. Crocs because it's aggressive international expansion launching a new site in Korea. One of the differentiators of our cloud based model versus traditional on premise software is that customers like Crocs can quickly and cost effectively launch new sites which minimizes their business risk. Companies that have launched initial sites and began generating revenue through the platform included FitFlop, (inaudible) Wine Henri Bendel and [Summon] Sports. We were also very pleased with the Quiksilver launch. During the second quarter they quickly rolled out 10 new live sites across Europe including their initial site further illustrating how fast our customers can get up and running and then launch new sites.
It feels like some time ago but early in the quarter we hosted our second annual exchange customer conference. We had about 600 attendees which was close to double the participation from last year. At Demandware we take great pride into lighting our customers and during the exchange conference, we get to see and hear firsthand how we are doing. The overall feedback was extremely positive which was very rewarding for all of us.
I talked a bit earlier about some of the new e-commerce functionalities, part of our two global releases this quarter. We also continue to make significant investments in other R&D projects. This includes the development of Order Center, our order management module, our API layer and Commerce Center, our customer dashboard and work processes application. Our approach with Order Center is to work directly with a few of our large customers as early adopters to ensure that the functionality in this module meet their needs.
Once Order Center is actually deployed in production within one of these early adopt environments, we will determine the appropriate go-to-market strategy for this module.
In July Neckermann filed for insolvency with the German courts. We are pleased to reach a swift and mutually acceptable agreement with Neckermann and a preliminary insolvency administrator that extends through the third quarter of 2012.
The term of this agreement is intended to coincide with the conclusion of the preliminary insolvency process. Providers in the Neckermann's online business remains operational. They will prepay the base and other subscription fees per the current contract grades on a billion-weekly basis.
We are continuing to work with Neckermann and the preliminary insolvency administrator as they manage through these proceedings, Scott will talk more about Neckermann's contribution to our financials later.
Overall, we are very pleased with our results during the second quarter particularly our new customer acquisition and the productivity we are seeing in our sales force. With that I am going to turn the call over to Scott.
Thanks Tom and thank you to everyone for joining today’s call. Before I get into the financial I want briefly review how our revenue model works. Our customers pay us fees based on the percentage of total GMV processed over Demandware commerce platform. Customers commit to a minimum subscription level with rates generally ranging from 1% to 4%. The rate works like a volume discount and is based on the minimum commitment and the total revenue our customers are generating.
While our customers exceed these minimum commitment levels we invoice overage fees. Overage fees are build in arrears in the period they are processed and earned. Because our customers typically commit conservatively for the base subscription, we generate overage fees every quarter.
One important point to know the rate for overage fees is not punitive. Overage fees are built to customers at the same rate as the minimum subscription. Our SaaS delivery model price has constant visibility into our customers' revenue environment which make this overage fees highly visible and predictable. As a reminder calculated billings is not a relative metric for us because approximately 55% of our deferred revenue is related to services versus subscription revenue.
And the vast majority of our contracts are built monthly in advance versus many other SaaS companies that build their customers annually upfront. We start generating revenue when a customer's site goes live on Demandware commerce. Because we are in a mission critical customer facing application, our implementations run longer than some other SaaS solutions and on average take approximately six months. A customer typically will not ramp beyond his minimum subscription and begin generating overages until the end of his first contract year.
So the customers we sign in the second quarter provide great visibility in our results for 2013 and 2014 but will not contribute meaningfully to our revenue in 2012. And customers we signed during the remainder of this year normally will not be up and running until after the 2012 holiday season. So with that as background, I'll take you in to the financial results for the quarter.
Total revenue for the second quarter increased 43% to 18.4 million. Revenue recognized (inaudible) from customer Neckermann represented approximately 10% of total revenue and subscription revenue recognized from Neckermann was just less than 10% of our total subscription revenue.
Neckermann continues to trend down as a percentage of total revenue. They represented 12% of our total revenue in the first quarter of 2012 and 16% for the full year of 2011. And as you will see in our guidance, we're not forecasting Neckermann to grow in absolute dollars.
Nowhere the customer contributed 5% or more to revenue in the second quarter. Of our total revenue, 53% was generated from North America and 47% was international. During the second quarter, changes in foreign exchange rates did not have a material impact on our results compared to our guidance for the quarter.
Our subscription revenue which is a growth driver of our business increased 47% year-over-year to 15.2 million in the second quarter compared to 10.4 million last year.
Overage fees in the quarter accounted for 4.1 million or 27% of subscription revenue, compared to 3 million which represented 29% of subscription revenue in the second quarter of 2011.
Our results in the second quarter demonstrate the power of our land and expand strategy. Once the customers arrive they can grow to their initial site and they can grow by launching new sites for new brands or into new geographies.
During the first quarter the execution of our land and expand strategy showed tangible results. New customers on the platform contributed $3.4 million to the $4.8 million increase in our subscription revenue from the second quarter of 2011; while existing customers on the platform contributed $1.4 million to that increase.
Our average annualized revenue per customer excluding Neckermann was approximately $465,000 for the trailing four quarters, up from approximately $420,000 in the second quarter of last year and $460,000 in the first quarter of 2012. Like Tom mentioned, we had a 124 live customers and 445 live sites on the platform, up from 78 live customers and 253 live sites in the second quarter of 2011.
It’s important to put the live site metric into context. They can launch and decommission sites at very little cost of business risk to them as we saw in the second quarter with customers like Crocs and Quiksilver. As we talked in the last quarter, the site metric is a good leading indicator for future revenue. However, when modeling our business investors should use average revenue per customer and the number of live customers on a platform versus the number of live sites.
Now for services revenue, as a reminder we view our services as an enabler of our subscription business. Services revenue in the second quarter was $3.2 million, an increase from $2.5 million in the second quarter of last year. The increase in services revenue during the second quarter as well as the increase in services gross margin was primarily the result of our Xchange Conference which generated approximately $600,000 in non-recurring sponsorship fees that's recognized as services revenue during the quarter. That revenue is non-recurring outside of our Conference.
Services gross margin was positively impacted by 21 points and overall gross margin by one point in the second quarter as a result of these fees. To a lesser degree, our year-over-year increase in service revenue resulted because we performed more post implementation projects for our existing customers which we recognize revenues as we perform such services.
In our guidance, we have not planned for significant post-launch implementation work in a given quarter, but from time-to-time our strategic customers do engage for post-launch services. Going forward, we expect services revenue to decline from the second quarter levels and eventually flatten. This is because we recognize the revenue from initial customer implementations over the average life of the customer relationship and also more and more of our implementation work is being done by our partners today.
Moving down the income statement, our total gross margin for the second quarter was 67% compared to 63% last year. The improvement in total gross margin was mainly driven by a shift in our revenue mix towards subscription revenue as well as the overall scalability of our infrastructure. And as a result of that subscription gross margin was 80% in the second quarter, an improvement over 78% a year ago.
Our total operating expenses increased 84% to $17.4 million from $9.4 million a year ago as we increased our investments in sales and marketing to grow the business. Stock based compensation within operating expenses was $1.9 million in the second quarter of 2012, an increase from $299,000 a year ago. Therefore if you exclude stock based compensation our operating expenses increased 69% year-over-year.
The increase in our total operating expenses was primarily related to headcount to grow the business. At June 30, 2012 we had 277 employees, a 48% increase from 187 a year ago and a 12% increase sequentially. The majority of our investment in people was in sales and marketing in the United States and in Europe where we increased headcount from 63 at June 30th, last year to 112 at June 30th, of this year, an increase of 78%. 77 of the 112 people in sales and marketing were in sales, which is an increase from 44 people a year ago.
Even with the significant increase in headcount, our average revenue per employee for the rolling four quarters remained strong this quarter at greater than $280,000. We generated more than $200,000 in revenue per employee since the first quarter of 2010. We believe this metric is evidence of our scalable multi-tenant SaaS infrastructure.
Our GAAP operating loss for this quarter was $5.1 million which compares to GAAP operating loss of $1.3 million last year and on a GAAP basis our net loss for the second quarter of 2012 was $5.6 million or $0.19 per share attributable to common stockholders compared $1.2 million or $0.71 per share attributable to common stockholders in the second quarter of 2011.
On a non-GAAP basis our net loss was $3.4 million or $12 per share for the second quarter compared to a non-GAAP net loss of $854,000 or $0.24 per share for the same period in 2011. Non-GAAP results exclude expenses related to stock based compensation and the accretion of redeemable preferred stock.
Now I would like to turn to forward-looking guidance which as Erica outlined falls under the Safe Harbor provisions. We expect revenue in the third quarter to be in the range of $17.25 million to $17.75 million or approximately 30% growth over last year and subscription revenue to be in the range of $14.75 million to $15.25 million representing growth of approximately 34% compared to the third quarter of 2011. And as a remainder, our results for the second quarter of 2012 included non-recurring services revenue of approximately $600,000 related to the Xchange Conference.
Our revenue guidance for the third quarter includes $1.5 million from Neckermann of which $1.065 million represent subscription revenue and $425,000 represent services revenue. The entire amount of services revenue represents fees paid by Neckermann as part of their initial implementation and therefore we will roll off deferred revenue from the balance sheet.
Of the $1.065 million that represents subscription revenue, $708,000 or approximately 66% has already been collected; Neckermann is approximately €200,000 for services rendered prior to the July filing for insolvency. This unsecured receivable is under consideration in the insolvency process and as a result we did not include it in our guidance. We will work with the insolvency administered in the German court regarding this receivable.
Also our guidance for the third quarter no longer assumes that Neckermann grows beyond their base subscription and therefore does not include any overage revenue. In 2011, we recognized overage revenue beyond the base description for Neckermann in both the third and fourth quarters.
I also want to remind everybody about the seasonality we have seen in our subscription gross margins. During the second and third quarters of any given year, we plan for and deploy the infrastructure we will need to support the fourth quarter retail holiday season when we see the highest volume of business.
The impact of this increased capacity at lower utilization rate is typically seen in a ramp up of cost of subscription revenue and a lower subscription gross margin during the third quarter which we expect to see this quarter as well. Our subscription gross margin has historically ranged from the mid-to-high 70% to low 80% range.
We expect our GAAP net loss for the third quarter to be approximately $9 million to $9.5 million or $0.31 to $0.33 per share and our non-GAAP net loss to be in the range of $6.7 million to $7.2 million or $0.23 to $0.25 per share. Our loss is driven predominantly by increased investments in sales and marketing in Europe, the Asia-Pacific region as well as the North America. We anticipate our weighted average basic and diluted shares outstanding will be approximately 29.2 million shares.
For the full-year 2012, we expect total revenue to be in the range of $75 million to $76 million or 34% increase year-over-year and subscription revenue to be in the range of $64.5 million to $65.5 million, a growth of 38% from 2011.
Our full-year guidance assumes that Neckermann contributes an additional $1.75 million in revenue for the fourth quarter, of which $1.32 million represents subscription revenue which has not yet been invoiced and collected and $430,000 represents services revenue, which like the services revenue discussed in guidance for the third quarter were rolled out deferred revenue from the balance sheet.
And again, similar to our guidance for the third quarter, our full-year guidance no longer assumes that Neckermann grows revenue beyond the base subscription in the fourth quarter and therefore does not assume any overage revenue.
For the full-year 2012 guidance for our GAAP net loss is in the range of $20 million to $21 million or $0.79 to $0.83 per share and our non-GAAP net loss in the range of $13 million to $14 million of $0.52 to $0.56 per share. For the year, we expect our weighted average basic and diluted average shares outstanding will be approximately 25.2 million shares.
Finally, we have factored into our guidance for the third quarter and the second half of the year, the current macroeconomic environment as it relates to the weaker euro versus the US dollar. As you are aware, the euro exchange rates were very volatile during the second quarter; while the changes in euro did not have a material impact on our results we guided to you for the second quarter, we adjusted our forward guidance to assume an exchange rate for the euro of $1.20.
When we gave guidance during the first quarter call, we had assumed an exchange rate for the euro of $1.30. As a result of this change in view of the euro, our third quarter and full-year subscription revenue guidance was negatively impacted by approximately $400,000 and $900,000 respectively. Similarly, our third quarter and full-year non-GAAP EPS guidance was negatively impacted by $0.01 per share and $0.04 per share respectively.
We are pleased with our results for the second quarter as we continue to execute against our land and expansion strategy. We believe that the investments we are making today will position Demandware well for future growth.
And with that, I would like to turn the call back over to Tom.
Thank you, Scott. Our business is squarely at the convergence of two dynamic industries; ecommerce and cloud computing. This provides us with tremendous growth opportunities. The fundamentals of our business are extremely strong and we continue to see new customer acquisition productivity increase through the first half of 2012.
As a result in the coming quarters as Scott outlined in the guidance, we plan to invest even more aggressively in our sales and marketing to maintain our competitive advantage and to continue to gain market share. The majority of the added investments in sales and marketing will be to increase our penetration in Europe and Asia Pacific as well as to enhance our global marketing and demand generation programs.
We also plan to continue to aggressively invest in our demand for commerce application and our platform as we distance ourselves from our competition in terms of the robust functionality of our solution. We firmly believe that these investments are in the long-term best interest of the company, our customers and our shareholders.
With that I would like to open up the call for Q&A.
(Operator Instructions) And our first question comes from the line of Greg Dunham with Goldman Sachs. Please proceed.
Greg Dunham - Goldman Sachs
I wanted to hit on the growth in the existing installed base of the mid to high 30% range. Can you remind us what that has been historically and if I recall that is an acceleration and really what is driving that acceleration, is it more site, is it just that's these are just bigger customers, what's the real driver there? Thanks.
So I think for last year again excluding Neckermann last year was around the same. We saw on average our customers in North America grew 37% and in Europe about 38%. So we are still seeing that mid to high 30% range. We compare that as a benchmark the [comscore] range which has been in the low-to-mid teens.
So we are seeing obviously an acceleration on that and its really coming from everything, its coming from customers going through their initial site but more predominantly from launching new sites, launching into new geographies, launching new brands and so forth, its really a function of adding customers to the platform and then having those customers grow with us as they execute against their plans.
Greg Dunham - Goldman Sachs
And then a follow-up on the new business generation I mean, I think you mentioned 70% growth in sales headcount if I'm doing the math right, how should we think about that impacting kind of new customer additions and the tale of when that actually hits revenues, just so we have a framework on when that will actually have an impact on the overall P&L?
Yeah, so I think one of the things that we've, that we talk about obviously from a modeling perspective on customer acquisition and revenue is, on a quarterly basis looking at customer launches as well as average revenue per customer. I think at the end of the year we will talk more about backlog Greg, which we think is an important metric on an annual basis more so than it is on a quarterly basis given our volume and then also we will talk about a number of customers that are in any implementation stage. So you can kind of see how where we are there year-over-year. We talked about that I think exclusively on the road.
From a revenue perspective, its likely again, most of the acquisition that we are doing in 2012 even in the beginning half of the year is going to impact 2013 and ’14 more than it impacts 2012. We will see some impacts from the customers that we acquired in the first quarter and in the first half of the year impact customer launches by the time we get to the holiday season but won't impact the whole lot of revenue because they are still at the beginning of their contract cycle so they are not going to experience overage until they get to usually that further along in their contract. So let's see the revenue growth really in ’12 and ’13 and that's similar to what happened I think when we talked about this before, last year our customer acquisition grew, quite a bit last year we had a lot of success getting new names some launched, main launched into this year and they will provide revenue into 2012 but really significantly it’s in 2013.
Greg Dunham - Goldman Sachs
Okay, great. And then I guess lastly on Neckermann you did provide a lot of detail you included a number for 3Q and 4Q in terms of your guidance but I don’t know if I heard you mentioned that there is the preliminary hearing obviously I already went through there is a couple things that are going to be decided going forward. What are the news events that we should watch out for as we look forward on getting better visibility of that for not only Q4 but also the first half of 2012?
Yeah, well I think right now Neckermann operate through the third quarter, so I think the agreement that we have currently with the insolvency administrator runs through the initial insolvency period which is September 30, under that agreement they are going to prepay their base subscriptions on a biweekly basis, where we have 66% because we have got some differed revenue there we have got 66% of that subscription revenue already covered and as the quarter goes on, we are going to continue to work with them to see if we can do something further. The contract is still valid the MSA still exits and runs through June 30, 2012 and so once we get through, as we work through the third quarter we will provide more information when we have it.
One thing to note to I wanted to make sure that this was as we provided obviously do you want to provide Greg a lot of guidance on Neckermann when we get to the end of September we will still have about of $1 million of deferred revenue related to Neckermann still on the balance sheet. So that’s something that we get out into future periods Neckermann too. I think we talk about services revenue in the fourth quarter being rolling up the balance sheet as well the total is about a million in deferred revenue at September 30.
Our next question comes from the line of Tom Ernst with Deutsche Bank. Please proceed.
Tom Ernst - Deutsche Bank
Thanks for all the detail on the Neckermann that’s very helpful, it looks to me based on where we thought Neckermann was going to be in the second half that you have made a significant cut in expectations for that, I think we were expecting somewhere around 10% of revenue so I just want to check that you have taken it sounds like you have taken overages out, you also taken out some consideration which given the base fee?
While Tom, we are taking we certainly not forecasted Neckermann to grow beyond the base inscription so we are not forecasting over just from Neckermann any of the third or the fourth quarter. For the base subscription, so I will separate the two and I repeat it just so we could be clear and have an understanding. The revenue that would we are guiding to the second half the year include both services and subscription and the services revenue which is about $425,000 or so I think $425 in Q3 and $430 in Q4 that is rolling the balance sheet.
We are going to get that either way. The subscription revenue of $1.065 million in Q3 that we are planning on and $1.5 million in Q4, it is different and in Q3 the $1.065 of that revenue approximately 66% of that is already collected. So effectively the $1.5 million that's currently in guidance for the fourth quarter is not collected. So we still need to invoicing to collect that under our current agreement. And then the other thing to note is that the 200,000 Euro receivable, the 200,000 Euro, the reason why the prescription revenue that regarding [Q1] and Q3 is lower than Q4 as we have taken the $200,000 receivable that we would have been invoiced that between July 1 and date in filed for insolvency out of our guidance altogether. So that’s not there either and that’s because that doesn’t fall under the agreement that we have with the insolvency administrator to an unsecured receivable. So we won't recognize any revenue on that until the tax rate settled and we're not planning on that settling for the before the end of the year.
Tom Ernst - Deutsche Bank
And then switching gears to overage fees, they had a tough comp in terms of last year 2Q; I think was your strongest growth that we’ve seen in overages. So, we did saw some slow and I think my math 36% growth versus about 80 something of the 84% the trailing 12, what is the momentum you’re seeing in terms of transactional activity in this quarter, help us interpret those numbers and then does this indicate somewhat of a weakening of your end customers transactional volume and how you've positioned us for the second half in terms of your assumption split and conservatism against kind of 10 years macro? Thank you.
Sure, so the reason why we feel two things. The overage fees in the quarter, the one that we can given out as well as the revenue from new customers as well as revenues from existing customers because I think that’s an important thing to look out as oppose to just what the overage fees are I'll explain why in a minute, and that remained pretty much consistent, where 70% of the growth came from new customers and 30% came from existing customers.
So, regardless of whether it's overage fees or not, 30% of our revenue growth for subscription revenues was coming from existing customers. In addition to those existing customers grew again both in North America and in Europe, their GMV in the mid-to-high 30% range. So, we're seeing great transactional volumes from those customers.
I think the function of what the overage fee is as a percentage of revenue is really a function of how contracts work and so on an annual basis; we will talk about our renewal rates. We've talked about in the past that we've experienced renewal rates that are greater than a 100% on a dollar value basis and even though we are going to wait and continue to accumulate information until the end of the year, I can tell you that we still believe that this year will be in excess of 100% on a dollar value basis for renewal.
So we are seeing, so I think that has part of the distinguishment between base and overages because people are renewing at base subscription levels that are higher and therefore putting more of their revenue to the base subscription instead of the overage and I think that the overage fee is a result of customers at different stages in their contract.
Some customers that are maybe in the second or the third year of a three-year contract and other customers that maybe in the early stages of a renewal, that will drive the difference between whether it's overage or whether it's base. The mid to high 20% and low 30% range as we get into the fourth quarter is likely where it will end up there.
I think we've seen that over the past couple of years, I think we will continue to see that and then finally Tommy on your question about just the transaction volume, again the Neckermann contract, we didn't experience any overages in the second quarter there and we have in the past. So we experienced, Neckermann grew their GDP last year I think on the platform about 12% and we experienced overages from them every quarter.
In the first quarter of this year they grew their business 5% and we experienced overages in the first quarter. In the second quarter, their GMP growth was flat and we didn't experience overages from Neckermann at all. So I think that also had a little bit to do with the decline in the percentage.
Tom Ernst - Deutsche Bank
Okay, great, that's helpful reminder of the complexity. So we have a shift of new existing customers and you have shift of basin and overage fees. So if you fix those what are you seeing, what did you see in 2Q in terms of the overall transactional growth momentum of your customers unlike on a same-store basis, a look at existing customers and new customers, how is transactional growth trending for you in 2Q?
So that’s exactly that mid to high 30% range. That’s the same customer growth that we talk about, so in North America it was in the mid 30s and in Europe it was even greater than that. So we are seeing our customers -- and again this excludes Neckermann which didn’t grow -- their GMB growth was flat. So for transactional volume our same customer revenue meaning customers that run the platform for all of Q2 of 2011 as well as all of Q2 of 2010 on average grew in the mid to high 30% range for both regions.
Our next question comes from the line of Laura Lederman with William Blair. Please proceed.
Laura Lederman - William Blair
Just a few, one is NetSuite is making a lot of hullabaloo of them entering the e-commerce market which they did theoretically last quarter. Have you seen them at all with their new product and if you have seen it, can you give us any little color of what functionalities do you think they have or they don’t have. My guess is that your competitive analysis people have looked at in just like to learn from what you observed so far?
Yeah this is Tom, Laura. Yeah, we are certainly aware of the NetSuite announcement and of what they have been saying about it. The most useful competitive intelligence comes from competitive situations and we have not yet seen them in a competitive situation. So I don’t know if that comes earlier, that's because they are going after different customer set, but we have not seen them in a single competitive situation yet at this point.
Laura Lederman - William Blair
Well that tells us something too, so that’s actually very useful. Shifting gears back to the question of the EMEA, obviously your GMB growth there was solid, but can you give us any feel have you seen slowing in any geographies in Europe or are the retailers that are selling through stronger retailers with the exception of Neckermann.
So given the macro environment I am trying to understand why you have not seen a hit from that in terms on our volumes and I guess a related question you mentioned also that the deals are smaller in Europe and that it takes more complex sales cycle for new deals. Is that new or is it always been that way over the last year or whatever, so both questions on EMEA?
Okay yeah. While with respect to the first quarter we certainly see the macro stuff too when we read papers and everything, but our customers as Scott mentioned have had very strong growth and so I don’t know if we have complete understanding of the reconciliation between those different facts. I think partly what's going on with our customers is they are predominantly concentrated in Northern Europe which is clearly as a region done much better than Southern Europe.
The other factor could well be that our customers are those who placed yearly and strong, strategic emphasis on e-commerce and hence we are early adopters of Demandware platform in Europe and therefore are growing much faster others. We really don’t have insight into the others, but we know do ours continue to experience this kind of growth.
So that's sort of the best explanation I can come up with the bad discretion fee, but as Scott mentioned we have seen very strong growth from our existing customers excluding Neckermann. In terms of the sales cycles in Europe I think our average deal size in Europe as we mentioned was smaller in the quarter and I think that's a phenomena we are seeing as we're expanding our sales force and we are going after more European business.
And the complexity has to do I think when we refer to that mostly has to do with our brand recognition. In the US our brand recognition is extremely strong among potential customers. And in Europe, it varies by country but nowhere is that as strong as it is in US and that's one of the reasons we were adding some of these investments around programs and things to help build that brand recognition and get it to a point in Europe where some of it were in the United States.
Laura Lederman - William Blair
Final question broadening up the competitive question. Who you are seeing more of in the margin, who are you seeing less of in the margin and that bigger GMB deal, who did you displace and who else was trying to win the $100 million GMB?
Well, I think probably that hasn’t changed a lot from the first quarter, and the bigger, you know, I would say that in the United States, in the larger deals, it's IBM and ATG, Oracle and in Europe in the larger deals, it's IBM and Hybris and among those three competitors, those were almost always the ones we see in the larger deals.
Now at the end of the day, it's almost always the same final two they were involved with and thus against an non-premise choice and that’s usually the compatible battle we are fighting no matter who we’re battling on the other side and especially in the larger deals.
Our next question comes from the line of Brian Schwartz with Oppenheimer. Please proceed.
Brian Schwartz - Oppenheimer
Tom I wanted to ask you if you could possibly give us some insight here in to the pipeline compensation and really interested in really the changes that you've noticed here over the past 12 months in regards to the type of prospects that are filling in to the final. Are they getting larger, are they getting smaller or really about the same size compared to about 12 months ago?
Thank you, Brian. In terms of the composition of the pipeline, on an overall basis, it continues to grow. We’re very happy with the volume. In terms of the mix and size of prospects, certainly North America what we’ve seen is a trend towards larger prospects and I think that goes back to sort of earlier answer about the establishment of our brand in North America and the comfort there. I think in Europe we are seeing also a trend, a little bit large but not as strongly. We think that will come in the future. Europe was a little, probably a little slower in terms of SaaS adoption and a little slower in terms of the brand recognition of Demandware. But North America, we are continuing to see a mix of larger prospects in our pipeline which we are very happy about.
Brian Schwartz - Oppenheimer
Great, and then Tom I wanted to dive in here, you talked about really a couple of new geographies and the new vertical expansion, so they happened here in Q2 really in the grocery vertical and then an early win here in Australia. Can you maybe talk a little bit about what you see in terms of these new opportunities and kind of the strategies going forward to capitalize on or is this just a one off-deal in the grocery vertical that came to you guys or are you building pipeline in that type of segment, thanks.
So let me talk about two different types of expansion separately. In terms of geographic, we think there's a long-term opportunity worldwide for our type of offering and we are continuing to expand our presence in European countries where we are already located, some new European countries and certainly expanding in the US. And then as we mentioned Australia is a new area and in Asia Pacific we are primarily focused on investments at the moment on helping our customers, our European and North America customers build Asian businesses with Asian consumers and that will we think will give us a very strong base for expanding to go after Asian customers for Demandware at the right point in time.
So we think there's a lot of geographic expansion opportunity and we are balancing how we expand the different regions whether it's further deepening the ones we are in as well as expanding new geographies.
With respect to verticals, we are not pushing a concerted effort in the grocery vertical; we think we have an offering that meets the need of some grocers depending on their brands and their products and the nature of their consumers and demographics. So that’s something we sort of opportunistically pursue, but we are not sort of making a major investment in going after grocery as a specific vertical at this point and do think it’s a long run opportunity we can also pursue, but it’s not at the top of our list at this point.
Brian Schwartz - Oppenheimer
And then on the product front Tom, really excited to hear about the order management module; I know you have been working on it for a while and I think Laura highlight in that so that’s what they kind of talk about as a potential advantage. Is it possible to update us on where we are in terms of the development cycle on the order management module and if there is any potential timelines when you think you will start being able to sell that into the base?
Well, yeah where we are on the development cycle is and just to go back, to step back a second I guess, we view that as providing us primarily as we roll it out, we view it as primarily providing us additional new prospect opportunities where new prospects view it as important to have as part of the overall offering.
Secondarily and very much less so something we would sell into the base because most of the base will have already have established on order management solution as part of their showing good mutation.
In terms of where we are in the cycle with development, we are working right now with early adopter customer where we have got a release that they are working with preparing for them to go live and what we are really waiting for in order to figure out exactly the right timing of further go to market activities is making that successful for certainly about the customer.
And then also leveraging that knowledge we gain from that to figure out which market segment is the right one to attack first for our to go market strategy. What we have learned in the process of talking to prospects and customers over the last year about order management is that there is sort of more opportunity than we may be originally targeted in terms of the segments in which it appeals and we have got to make sure we focus on them one at a time as we roll out that product and that sort of what we’re doing out now as we get through this early adopter cycle with the early adopter customer work.
Brian Schwartz - Oppenheimer
Thanks Tom and then one for Scott and then I’ll hop back in the queue. Just in regards to Neckermann and I too think you very much following the transparency, it’s real helpful process; I just want to ask on the expense side really, is there any -- do you think that you need a true-up provision any additional litigation expense just to handle this process here over the next couple of quarters or maybe you have provisioned some additional litigation expense and if so how much are you planning for here over in the next couple quarter? Thanks.
We have not specifically started or initiated any litigation against Neckermann; we are working with them in the (inaudible) through the third quarter and effectively we are going to see you know how things go through the third quarter and try to continue the path forward, so nothing material has been considered for that right now.
Our next question comes from the line of Richard Davis with Canaccord. Please proceed.
Richard Davis - Canaccord
So with regard to kind of thinking about the deals that you are going after, so you talked about competing with Oracle, ATG, IBM and to a greater or less degree Hybris; are these deals for example, are they replacements, I mean if I think back to ATG I mean that’s nice people, but a lot of their stuff is eight, nine, 10 and 12 years old.
Are you actually, are we at the stage where we are actually sometimes you guys have been replacing now, in other words, they’re betting, you know, they say we got a some new version, please use ours, but you guys walk in, compete with them in other words. Are we at this stage where we actually, I am trying to figure out the mix of kind of replacement versus new greenfield kind of opportunities and just trying to triangulate around that? Thanks.
Sure Richard. So, yeah, almost all of our prospect sales cycles are replacements of something as you sort of hypothesize. That’s correct, there is occasionally Greenfield, but they’re almost out of replacement for something. Now, having said that, it's somewhat remarkable considering how long customers have been at e-commerce, how often it’s a replacement of a customer home grown system.
That’s still sort of the most single common thing we're replacing. But they’re also meaningful number of ones just like you asked about, where someone has an old version of a platform like an APJ, Oracle or whatever and they’re now confronted with a situation where they've got to spend a lot of money to upgrade to the new release of that vendor and the vendor is trying to persuade them that that’s the right thing to do but what has caused them to do is enter a decision cycle saying, if we are going to go through a lot of time, energy and cost to get to something.
Let's make sure we're going to do the right thing. And that provides opportunity for us. So we do see replacements of those types of products as well. So it’s a mix, it's almost all replacement, but at the mix of replacing customer home grown systems as well as order legacy types of software like you mentioned.
Richard Davis - Canaccord
How important of a driver of that decision making process by the potential customer, the ability of you I guess or anyone else to deliver kind of multi-platform in excess ability IE, mobile, tablets stuff like that because frankly a lot of the original stuff was in a world where everyone was gathered to PC sitting to their desk?
Right. That capability is very important. Now, usually in a competitive situation, every vendor is touting that they have that capability and their customer maybe as trapped on over release and not experiencing that but been promised that they will get it on a new release.
So usually our competitive energy is not so much that we’re the only ones claiming or showing customers who can do that, but that we think with our model and when we win, we convince customers of this that these changes are going to keep happening, where as everyone is gathered to a PC a while ago.
Now they are on always different devices. The future is going to be just as different from that today as the current present is from the past, and that our model will help keep you up with that no matter what happens. So that’s really our primary competitive selling advantage as oppose to the other vendors not offering or not claiming those kinds of multi-channel capabilities, and that makes sense.
Richard Davis - Canaccord
That’s good, and then one last quick question. You know, you have a bunch of partners and stuffs like that. is it premature for us to be thinking about you guys making kind of tuck in partnerships and acquisitions and things like that or is that I mean it seems like that's maybe more of a 2013 thing, obviously you had to tell sooner rather than later but I mean, how do you think about M&A and things like that?
Yeah, in terms of that. We haven't factored in to our broad planning for that kind of time horizon, any acquisitions in terms of our needing them to achieve our growth targets and our goals in terms of growing the company. There is remarkable amount of inbound calling to us, you know, obviously as a public company with people offering different types of acquisitions, and so we're certainly looking, but we are not counting on that for any of our growth plans in sort of that type of time horizon.
(Operator Instructions) And the next question comes from the line of Craig Nankervis, First Analysis.
Craig Nankervis - First Analysis
Tom did I hear you say that you are accelerating your investments in the second half versus your original plan and if I heard that correctly, can you share what areas sort of incrementally you are expanding your investments in?
Yeah, we did say that we were increasing our investments compared to our previous increase for increasing them more, right based on. So we did say that and I think the primary area that we are experiencing that is in our sales channel where we have been very happy with our sales productivity. And as a result since we are you know philosophically at this point primarily about grabbing more market share we want to kind of leverage that and enhance productivity and continue to increase our investments. And that's particularly true sort of more of the incremental increases in Europe and Asia than it is in the US, but we are increasing across all the regions.
Craig Nankervis - First Analysis
So you plan to probably end the year with more quota-carrying reps than you originally planned to end the year, sounds like.
I think that's true marginally. Some of the investments are around programs and things like that to, maybe more of the incremental investments are of that nature than in quota-carrying reps, but we are probably going to be little bit above in reps too.
We will add more folks Craig in the Asia Pac region that we've planned, but a lot of the investment in Europe is specifically as Tom mentioned around building our brand and program spend as opposed to headcount.
Craig Nankervis - First Analysis
And then a couple of questions for you Scott, on Neckermann do I understand. Do I hear it right that if we think about the Q4 guidance that there is some risk to the Neckermann assumption for Q4 in terms of the $1.5 million minimum subscription or not. How do you look at the risk for what you've assumed for Q4 in Neckermann. I understand the services side.
Right, so the guidance that I gave Craig assume that we are planning on about $1.5 million subscription revenue from Neckermann in the fourth quarter and $430,000 of services revenue and of the services revenue that's entirely, that's coming up the balance sheet is entirely deferred revenue off the balance sheet.
So the $1.5 million of subscription revenue is effectively the current contract, the current MSA that we have that runs through June of next year, the base subscription that we expect to get from them. The other piece that I brought up I think in Q&A but not in the prepared remarks is that at the end of September when the initial and solvency period ends, we will have about a million euro on the balance sheet of deferred revenue.
So about a million, a little more than $1 million based on the $1.20 exchange we are assuming. So effectively there's certainly risk in the fourth quarter with regards to the base subscription if they were to go away, but there's some deferred revenue that would accelerate as well if that were to happen.
Craig Nankervis - First Analysis
And then on just Europe overall maybe separate from Neckermann, aside from the currency impacts. As you think about how you forecast overage for the second half, have you modified your European overage forecast for the second half just based on the environment or is that pretty much maybe unchanged as to how you are looking at the potential for overage here in the second half.
Yeah again from a modeling of overage, we don’t actually model overage per se, we model our customers GMV and their GMV growth and again the first half of the year both in the first quarter and the second quarter in Europe we have seen our customers grow significantly more than what we have seen the industry grow on a quarterly basis, at least as comScore reports in North America.
So we are not forecasting, we are not guiding our customer growth in Europe or North America for that matter at those same high levels, that same mid to high 30% level range. It's closer to where the industry has commanded over the last couple of quarters in North America.
Craig Nankervis - First Analysis
But I mean I do understand that your guidance does include some assumptions for overage as well, correct?
Yeah, exactly but again the overage is a function of our customer’s GMV growth not of something that they have to do. So in other words if our customers are growing their business significantly greater than the industry, we will obviously get more overages. If they are not growing their business significantly in the industry we will get less overage.
We have no further questions at this time. I will now turn the call back over to Tom Ebling for any closing remarks.
Well thank you. We very much appreciate everyone’s participation today. Thank you. We remain as you can tell very excited about our opportunity and look forward to talking to you next quarter. Thank you.
Thank you for your participation in today’s conference. This concludes the presentation everyone may now disconnect and have a great day.
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