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Executives

Jennifer Baker - IR Manager

Mike Aviles - President and CEO

Pat Kelly - CFO

Somesh Singh - SVP, R&D and Technical Operations

Analysts

Nathan Swanson - ThinkEquity

Mark Schappel - Benchmark Company

Jack Ripsteen - Potrero Capital

Brian Murphy - Sidoti Incorporated

Nathan Schneiderman - Roth Capital Partners

Vignette Corp. (VIGN) Q2 2008 Earnings Call July 24, 2008 8:00 AM ET

Operator

Good morning. My name is Katina, and I will be your conference operator today. At this time, I would like to welcome everyone to the Vignette Q2 2008 Financial Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions).

Thank you. Jennifer Baker, you may begin your conference.

Jennifer Baker

Thanks, Katina. Good morning and welcome to Vignette's second quarter 2008 Financial Results conference call. I'm joined today by Mike Aviles, President and CEO; Pat Kelly, our Chief Financial Officer; and Somesh Singh, Senior Vice President, R&D and Technical Operations. I'll begin today by reading our required risk disclosure statement.

Our comments today may include forward-looking statements related to Vignette that involve risk and uncertainties including but not limited to quarterly fluctuations and results, management of growth, market acceptance of certain products, integration of acquisitions, general economic conditions and other risks. These risks are discussed in the company's Form 10-K, and in our quarterly reports filed from file to time with the Securities and Exchange Commission. Please be cautioned the forward-looking statements are not guarantees of future performance and actual results may differ materially from management's expectations.

Furthermore, our discussion includes certain non-GAAP financial measures in an effort to provide additional financial information to investors. All non-GAAP measures have been reconciled to their related GAAP measures in accordance with SEC rules. Such reconciliation is included with our results and is in our earnings press release available on our website as well as in the Form 8-K filed with the SEC.

I will now turn the call over to Mike.

Mike Aviles

Thank you, Jennifer, and thank you all for joining our call today. I've been with Vignette nine full quarters and wanted to take this opportunity to comment on a few things; what we are trying to do, the progress that we have made and the adjustments we continue to make. I will then turn the call over to Pat for a more detailed discussion around the quarter, followed by Somesh, who will talk about our progress around our products and solutions.

I joined Vignette in early '06 with a goal of returning the company to a position of growth. We identified many areas that needed to be addressed, and I feel we have made considerable progress across many fronts. However, we also know that we still have a lot of work to do.

As we look back over the past nine quarters, we believe we have made some meaningful progress across people, products, customers and operations. We note, for example, increased levels of customer satisfaction, significantly enhanced core products, many new products and an expansion into video, personalization and social computing, improved financial performance and a much stronger operational foundation, a stronger services business, as evidenced by service revenues and service margins, the introduction of on-demand product offerings, our stock repurchase program and upgraded senior and frontline management across all functional areas.

Reflecting on this past quarter, we were able to deliver results within guidance despite a challenging economic environment. Services remained strong with maintenance up 5% and professional services up 11% year-over-year. We saw positive momentum around new products. Approximately 20% of our license bookings in the quarter came from new products.

Vignette Recommendations was also named best new Web 2.0 technology by Incisive Media. We closed the acquisition of Vidavee, which gives us distinctive capabilities around video. We saw traction around our on-demand model through several new product offerings and we continue to upgrade our sales and marketing talent with several key additions.

We also had some great customer highlights during the quarter. One example was NASA, the US space agency. On May 25, 500,000 people watched online as the Phoenix Lander touched down on Mars. The Vignette platform proved again that it's fast, flexible and scaleable as our Portal allowed NASA to post real-time images received from Mars and deliver an amazing customer experience. CIO Magazine wrote a cover story on NASA in their July issue. In the article, NASA credits Vignette as key for their teams in organizing and presenting their rich content.

Another example was a competitive win at Hyatt Corporation, one of the world's premier hotel companies. Hyatt purchased Vignette Content Management, Portal, Rich Media Services and Collab to power the Hyatt global Portal. This solution will deliver corporate information and services to over 90,000 Hyatt employees worldwide. Our comprehensive suite of products, the Vignette team and our customer references were deciding factors in this key win.

We also had some terrific recognition from industry analysts. For example, our positive product momentum was reflected in the recent Gartner WCM Market Scope. Among other things, Gartner commented, and I quote, that Vignette has a full suite of well integrated products that can meet the requirements of the most demanding websites and strategies. Another quote read, added to the Vignette Content Management suite are new releases in media management and Portals as well as a focus on analytics through a partnership with Omniture. Scale, availability, Java, Oracle architecture and improved user interface are all in Vignette's favor.

Another example is a terrific recognition from Forrester. Following our recent Analyst Day event, a respective Forrester Analyst commented on the strength of our customer panels. Specifically, he wrote in his blog, "What is really compelling is when a high visibility, high volume content provider like Fox News participates in a customer panel and stands up and praises a vendor, Vignette in this case, talking about how valuable their products are in creating those customer experiences and how those products have helped them become more competitive in the marketplace."

This is the type of recognition we're seeing in the marketplace. We believe it will continue as we drive even greater levels of innovation and customer satisfaction. Yet, with all our progress around customers, products, and services, we know we need to show better performance from a license revenue perspective. So what are we doing about it?

First, we will continue to invest in our customers and in our products. Back in January, as we moved into fiscal '08, we told you there would be a shift in our emphasis from margins towards growth. We believe we demonstrated we could drive operating performance, and we were shifting more of our emphasis and investment towards growth. We explained that we were willing to accept lower margins in '08 in return for investing in products and customer support to drive longer term license revenue growth. We felt we had some exciting momentum around new and existing products, but explained that these investments would lead to margin pressure during the first half versus last year.

Second, we will continue to stay focused around our key sales and marketing initiatives, such as upgrading the team. We have had a major rebuilding effort at Vignette that started when I joined the company in '06. Most of the senior leadership team is new since then, and so are a number of front line managers. Those efforts continue to move throughout the sales and marketing organization, as we have new geo GM's, four new regional Vice Presidents in the field, and many new additions in product management, product marketing and field marketing.

We'll also continue to enable the team. Lots of work has been done with the Q2 rollout of Vignette University, and other sales enablement programs around new and existing products. We will continue to work on building our pipeline. We have more focused efforts around building our pipeline through field and inside sales, as well as field marketing. We will be running campaigns around new products, while continuing our efforts to up sell and cross-sell existing customers and targeting new prospects.

The third thing we are doing about it, is we are taking action in Q3 to further increase our return on investment in sales and marketing. The main action is a rationalization of non-productive sales and marketing investments and a reallocation of those dollars into more promising market opportunities. These adjustments are driven by several factors including customer segmentation, market segmentation, and an evaluation of quota to non-quota carrying investments.

The actions involve more investment to productive geographies and major metropolitan market opportunities, as well as some aggressive performance management. These actions are a proactive part of our plan. In fact, the progress we have made around customers, products, and our people have put us in a position to make these changes at this point. As Pat will discuss later, these actions will result in approximately 2.5 to $3 million of special charges in Q3.

So as I reflect on the current state of our business, it's clear that we have made much progress over the past 24 months, with more to follow. We are not where we need to be from a license revenue perspective, but the opportunity is there for us. We compete in a large, growing, and attractive market. We are financially solid with room to invest and grow. We have leading edge technology, and impressive customer base and some terrific talent, and there is an opportunity for us to grow market share.

But we are also realistic about the work that remains in front of us. We feel we are focused on the right things. We are excited about our people at Vignette, and the momentum around our products and solutions, but we also know some of the changes we are making take time to show meaningful results.

With that, let me turn it over to Pat for a more detailed discussion around the quarter and our actions.

Pat Kelly

Thank you, Mike. Let me start off with a couple high level summary observations about our financial results. Our second quarter financial results were in line with our guidance. We had strong maintenance in professional services revenue, which helped to reduce the impact of a weaker than desired license revenue.

As expected and previously discussed, our costs were up versus last year as we continued to invest in sales and marketing, and continued making investments in R&D. Although those increased investments created some margin pressure in the short-term, we continue to believe they are critical to the long-term success of the company.

In fact, we're starting to see some early traction in the marketplace around our new product releases, and that's very encouraging. Nevertheless, when we roll all of that up, what we see is year-over-year declines in GAAP and non-GAAP net income and EPS. Those are consistent with our expectations. Let me talk about the revenue side of the equation.

Total revenues were 45.8 million, down 4.7% from Q2 of last year and in line with guidance. Revenue from our international operations represented 44% of the total during Q2 versus 41% in Q1 of '08 and 39% in Q2 of last year.

Our new products are gaining traction in the marketplace. The associated new product bookings of approximately 20% generated in the quarter were very encouraging, and we look forward to building on that early progress.

License revenue for the quarter was $9.9 million and represented 22% of total revenue. We had three large deals in excess of $1 million during the quarter. No customer accounted for more than 10% of our revenue.

During the quarter, our average sales price for all deals was $211,000. We have not previously disclosed that information but we plan to do so on a quarterly basis going forward. Historically, what we have said is our average sale price was directionally in the range of 200 to $250,000, and for reference, in the first quarter of this year, ASP was $249,000. So part of that did decrease from 249,000 in Q1 to 211,000 in Q2. It is just normal volatility in that metric. We are large deal-driven, so the number tends to bounce around a little bit from quarter-to-quarter.

But it was also partly driven by some on-demand deals that we did during the quarter, which we did not have in Q1, and those on-demand deals have an ASP that tends to be lower, but also that on-demand revenue is more recurring in nature than traditional perpetual license revenue. We’ll continue to pursue more on-demand business.

Maintenance and professional services remain strong during the quarter at 35.8 million and 78% of the total. That represented an increase of $2.4 million and 7.3% over Q2 of last year. Of that, professional services revenues totaled 14.2 million, which was an 11% increase over Q2 of last year and maintenance revenues totaled 21.6 million this quarter, up 4.5% from Q2 '07.

Turning now to the cost side of the equation, looking at COGS, gross margin on license was 95%, which is consistent with prior quarters. Cost of services revenue actually declined 1.7% versus last year on top of a 7.3% increase in services revenue, which means, of course, that our gross margin on services was higher.

Overall gross margin percentage was 61.7% this quarter, although that's down 1.4 points from the 63.1% we had last year. It is at the high end of our guidance for the quarter.

Looking at operating expenses now, sales and marketing expenses were up slightly versus last year, $300,000 or 2%, which reflects our rebuilding from a relatively low levels in the first half of last year. As planned and discussed before, R&D is up significantly versus last year, 1.2 million or 16% from Q2 '07. That increase reflects our continued strategic investments in new and enhanced products and also the Vidavee acquisition, which we completed during the quarter.

G&A was down slightly from last year.

Looking at the income side of the equation on a GAAP basis, we had a loss from operations of 1.8 million. However, after making adjustments of $2.6 million, we generated a non-GAAP profit from operations of $800,000. Other income is off sharply from last year due to lower cash balances resulting from the share buyback program and the Vidavee acquisition, together with falling interest rates.

We recorded income tax expense of $680,000 in the quarter and the tax provision includes income taxes on the profits of our foreign subs, foreign withholding taxes and US minimum taxes.

After interest and taxes, our GAAP loss was 860,000 -- sorry $863,000 or $0.04 per share. After making non-GAAP adjustments, our non-GAAP net income was 1.8 million or $0.07 per share. The adjustments we make for GAAP to non-GAAP are given in a special table in our press release. The key items include amortization of intangibles, amortization of acquired technology and stock option expense.

Turning now to the balance sheet, our cash and investments remain very strong at the end of the quarter at $152 million. During the quarter, we used $500,000 of cash for operations, primarily due to the increase in accounts receivable. Accounts receivable ended at a very low balance of 24 million at the end of Q1 and are up to 28 million at the end of Q2. DSOs increased because of that from 49 in Q1 to 56 in Q2, which is not concerning because that's still well within our goal for DSO.

In the quarter, we continued to use cash to repurchase shares in the open market, buying back 798,000 shares at an average price of $12.37. This reflects our continued confidence in the future of the company. Total headcount was 687, increasing 20 from last quarter and 23 from last year and the significant increase in the quarter is primarily due to the Vidavee acquisition.

With that, let me turn the call over to Somesh, to give us an update on our continued progress around our products and solutions.

Somesh Singh

Thank you, Pat. Vignette product and engineering machinery is humming. At the end of first quarter and the beginning of the second quarter, 11 significant products became generally available. The second quarter was the first full quarter when these products were available for sale and as Pat said, we are already seeing good momentum from these releases.

Of these 11, six were our core Next-Generation Web products, specifically, there were Content Management, Collaboration and Portal, and associated companion products like Builder, Dynamic Portal Module and Dynamic Site Module. A common theme in these releases has been improvement in total customer experience along with enhanced capabilities, each one of these products has seen significant usability, ease of administration, and ease of upgrade improvements.

Content 7.5 follows up the usability and ease of administration advances made in 7.4 release last year, with more usability improvements, search engine optimization capability, and integration with Vignette High Performance Delivery. One of the key strengths of our Content Management product is that it is highly flexible and it allows customers to customize it to match their particular needs. One of the most important features delivered in content 7.5 is the skip level upgrade capability. The skip level upgrade enables customers to have the best of both worlds. They get the flexibility and the ability to upgrade the enhanced functions and features on their timetable.

In Collaboration 7.2, capabilities like blogs, wikis, forums, ratings, et cetera, enable customers to create efficient user communities and allow them to harvest the power of the collective wisdom of the community. One of the big challenges companies face is the proliferation of many Web 2.0 applications all over the enterprise. Vignette Collaboration 7.2 provides a single secure environment to consolidate them in.

Portal 7.4 delivers on Vignette's commitment to architecture openness and support of industry standards by being one of the first companies to deliver support for interoperability industry standards, JSR 286 and WSRP 2.0. Integration with Vignette High Performance Delivery and with community line of products allows administrators to create screaming fast sites with rich community participation.

Some of the key new products released during the same timeframe were Vignette's Recommendations, Community Services, High Performance Delivery, and Rich Media Services 7.1. These new products give customers cutting edge Web 2.0 capabilities and speed up content delivery dramatically.

Vignette's Recommendations is an online -- is an on-demand offering that helps customers increase revenue and customer loyalty fast by enabling automatic content and search recommendations. Vignette's Recommendations can be deployed fast without IT involvement. It is easy to use and delivers quick ROI.

As that name suggests, Vignette Community Services enables customers to tap into the wisdom of community of their customers. Using Vignette Community Services customers can evolve their websites and portals to allow end-users to contribute content and express and exchange their opinions and ideas. Out-of-box integration with Vignette Portal and Vignette Dynamic Site Module helps reduce deployment costs and accelerate time to value.

One of the enduring challenges customers face is the ability to deliver the freshest content fast. There are solutions out there that can deliver content fast, but when you combine the need for speed with the need for determining where is the most updated content recites at any given moment, then, the problem becomes very complex.

Vignette High Performance Delivery is designed to intelligently pick the freshest content and deliver it fast. Our entire PCC suite is being enabled to take advantage of this technology.

Rich Media 7.1 follows on the highly successful Rich Media 7. 0 release done late last year. Rich Media 7.1 streamlines Rich Media Management, and upload to desktop integration. It delivers capabilities that are not possible browsers and hands the power of desktop to editors who can seamlessly move from browser to desktop to perform their tasks improving their productivity and accuracy.

Late in Q2, we released Vignette Case Manager, and its companion product, Vignette process modular. These are significant new releases for our imaging and work flow business. Vignette Case Manager enables electronic management of processes for loans, credit cards, insurance, et cetera. Case Manager works with Vignette, our third party repository and enables customers to interact with the end-users via paper, web, e-mail, or telephone.

In Q2, we also released Vignette Rich Media video module. This module provides a seamless and integrated experience for managing web content, rich assets, and video. The video module provides access to video -- Vignette video Services from a single easy-to-use console that is used for management of all digital assets. Vignette video services is also an On-Demand offering.

During the next six months, we are on a course to deliver additional new products and update others with additional capabilities. Prominent among coming releases are an entertainment, media and telco specific solution, enhanced Vignette video capabilities, and a significant release of Content Management.

In summary, our product engine is humming and our product pipeline is healthy. Vignette has regained its edge around product innovation. Now, let me hand it over to Pat for guidance.

Pat Kelly

Okay. Thank you Somesh. The following Q3 guidance reflects our outlook today, July 24, 2008 and contains forward-looking statements subject to the risk we outlined earlier in the risk disclosure statement. Vignette is not obligated to update guidance during the quarter, and if we do so it the will be in a public statement. Let me set the stage a little bit for our guidance. We are cautious about the second half of 2008, given the economic climate. And considering that Q3 has been a seasonally weak quarter in the past, we're being conservative regarding license revenue. We expect Services revenue to remain strong in Q3.

Investments in R&D and customer support will continue to be higher than Q3 of last year. Thus, we are projecting, our operating margins lower in Q3 versus last year. We also expect other income to be down, versus last year due to lower cash balances resulting from the share buyback program and lower interest rates. We expect that will all add up to lower EPS than last year as we continue to focus on and invest in growing license revenue.

Building on the comments Mike made earlier, we are currently reevaluating some of our investments and anticipate a reallocation and adjustment of resources in order to achieve the company's long term license revenue growth objectives. We expect these reallocations and adjustments will result in special charges of 2.5 to $3 million in Q3. With that background, we expect third quarter total -- third quarter 2008 total revenue to be between 43 and $48 million, and for license revenue to be between 20 and 27% with services revenue driving the remainder.

We expect a gross margin 58-62% depending on the mix of business in the quarter. In terms of operating expenses, we expect R&D to be approximately 17-20%, sales and marketing to be between 32 and 34% of revenue, and G&A to be approximately 11-12% of revenue.

Third Quarter 2008 GAAP net income is currently expected to be between a loss of $0.21 and a loss of $0.07 per share on a fully diluted basis, assuming 23.4 million shares outstanding. And this includes those estimated special charges of 2.5 to 3 million discussed earlier. We expect adjustments for non-GAAP to GAAP to be fairly consistent with the past few quarters, with the exception of the special charges related to reallocation of investments I just spoke about. We expect non-GAAP net income per share of $0.02 to $0.17 on a fully diluted basis, and that excludes the 2.5 to $3 million of special charges I discussed earlier.

With that, let me turn the call over to Katina, and we'll take questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Nate Swanson with ThinkEquity.

Nathan Swanson - ThinkEquity

Hi, guys.

Mike Aviles

Hi, Nate, how are you doing?

Nathan Swanson - ThinkEquity

I'm doing good.

Mike Aviles

Good.

Nathan Swanson - ThinkEquity

I guess first just in terms of the investments or shifting of your sales and marketing resources: How should we think of that in terms of numbers or headcount? Should we think of this as a headcount reduction or possible investments in terms of your quota reps. I guess it's not clear in terms of your comments.

Pat Kelly

Yes. I wouldn't think about it in terms of headcount reduction. It's certainly a rationalization, Nate, and a reallocation. So, we're going to take down some investments in certain areas, and then increase investments in other areas. Now, in our business, those investments are people. So, that's kind of the way we're looking at it, customer segmentation, market segmentation, rationalizing quota to non-quota carrying investments and putting more resources into the best market opportunities.

Nathan Swanson - ThinkEquity

Okay. Can you talk about where you're at right now for quota reps and any turnover you experienced during the quarter?

Pat Kelly

Yes. So we've decided, Nate, to stop releasing the number of reps. I think any time we give out information, we have to balance the forces of the value of the competitive information versus the value of that information to investors. One thing we talked about over the last few quarters is that it's for us, a lot more about the productivity of our sales reps than it is the absolute number of sales reps. So, I think with regard to turnover, we haven't seen a significant amount of turnover. It's just that we believe that giving out reps per se is not something where we think the value to investors is enough to offset the sort of the competitive information we're giving out.

Mike Aviles

Yes, Nate, what I would add to reinforce what Pat said, it's not a capacity issue. We talked about that before. Attrition has stabilized at Vignette, certainly in the field and throughout Vignette. Most of the actions now we're driving as opposed to voluntary, its involuntary attrition.

Nathan Swanson - ThinkEquity

Okay. Okay, I understand all that. How would you describe your progress in terms of driving sales force productivity, and I guess what metric should we look at to track you in that regard?

Pat Kelly

Well, I think the most important metric to look at is just kind of the relationship between license revenue and sales and marketing spend. Not all -- not 100% of our sales and marketing spend is focused on license -- on generating license revenue, but certainly the vast majority of it is. As we look at that metric, we're not pleased with where we are right now. Now, as Mike says, we're looking at some reallocation to that level of spend. We're not really trying to bring it down significantly, but we're trying to do some reallocation to increase the amount of license revenue that comes out of the sales and marketing spend. I think in terms of progress, I don't know, Mike, do you want to talk about that a little bit?

Mike Aviles

Yes. So, Nate, I would agree with what Pat said is at the end of the day we got to go drive some license revenue, and that's a very key measure. But if you look at other measures throughout Vignette, they're actually pretty good, you know, increased customer satisfaction, the maintenance renewal rates, the services, performance out of services business as a whole, services margin, the recognition we're getting in the marketplace. So these are all elements of sales and marketing effectiveness that we can look at. But, that license revenue line and the investments we're making to drive that certainly is a key measure.

From a productivity perspective, to be fair, we've had to deal with so many challenges over the years, the course, and it's the art of transition of how much can you handle at any one point in time. So there's been a major rebuilding effort. And when we get some -- that strength and stability in those key positions, in particularly in sales and marketing, we will have a better measure of success. In this last quarter, in Q2, three of the four RVPs in North America were new.

We hired a new Head of Product Marketing, a new Head of Field Marketing, a new Head of -- SVP of Products and Marketing. So there have been a lot of things in terms of upgrading the team and strengthening the team that we're dealing with on a quarter-to-quarter basis. As those positions are filled, as those people get time in the seat, an opportunity to go do their job, then we'll have a real good measure of their performance. We’re optimistic. I think Vignette has been able to attract some great talent into the company and we were blessed with some great talent already in the company. So we're optimistic. It's just a matter of time.

Nathan Swanson - ThinkEquity

Okay. I guess just in terms of the outlook for license growth, how would you segment the drivers of license growth if you're to look at the macro issues, as clearly you're not getting any help from a macro level versus competitive or internal issues?

Mike Aviles

Yes, it's a great question, Nate. So you've heard me say before, I'm not one to make a lot of excuses, and that's not going to change. So, I believe that 80% of the challenge is internal and 20% of it's external. 80% of it is in our own hands in getting more marketing effectiveness, in positioning ourselves well in the marketplace. I said earlier that I think the market, it's big, it's growing, it's attractive and it's competitive.

As you commented, general economic conditions are not exactly an update right now plus with the vertical, the market presence that we have around financial services in the public sector, it aggravates that a bit. So certainly, there's ,we're not going to say when it's going to happen, but a combination of as business turns or as the economy turns around, particularly the verticals that we have a strong presence in as our new people get more traction and development, we think we can drive better results.

Nathan Swanson - ThinkEquity

Okay. Thanks. I'll jump back in the queue.

Mike Aviles

Thanks, Nate. Good questions.

Operator

(Operator Instructions). Your next question comes from Mark Schappel with Benchmark Company.

Mark Schappel - Benchmark Company

Good morning. First question, Pat, what was the percentage of total revenue that came from new customers this quarter?

Pat Kelly

Well, we're not going to disclose a specific percentage there Mark. I think we've always sort of said that new customers generate 20, 30% of new license and it's been consistent with that.

Mark Schappel - Benchmark Company

Okay, thanks. Then with respect to the three large deals in the quarter, could you give us an idea of who you were competing within those deals?

Mike Aviles

It's the traditional people you would see. It's Oracle, it's IBM, its the mid-tier guys. There's plenty of competition out there and we see them.

Mark Schappel - Benchmark Company

Okay, thanks. Then Mike, over the past few earnings calls, there's been or there appears to be little discussion or focus on the work, on discussion of the work flow imaging business.

Mike Aviles

Yes.

Mark Schappel - Benchmark Company

I was wondering if you could bring us up to speed on what's going on in that business and maybe you can give us your plans or intentions for that business going forward?

Mike Aviles

Yes, so the imaging work flow business continues to be something we pay more attention to. So I think it was probably about a year ago Mark, but don't hold me specifically to that. We started talking about dedicating specific sales and services personnel to the IMW business as opposed to just throwing it into everybody's bag. So that is out there. It's a much more accountable organization, much more focused organization. We said that our position in imaging work flow was good. It was strong. The customer satisfaction in that business is very high, and we get some great customers there, but we needed to strengthen our position because that business is dominated much more by IBM found that in EMC documental.

I think in addition to the efforts that we've done on the sales and services side, one of the things Somesh talked about today in his comments was the release of a new product, which is imaging and work flow product called Case Manager, which we're pretty excited about. The imaging and work flow business is lumpy, so you'll have a big deal come in and it looks great for the quarter and then it takes a little while to go get the next one. So overall, things are progressing well in imaging work flow.

Mark Schappel - Benchmark Company

Okay, thanks. Then just finally here, Mike, with license revenue down year-over-year for the past few quarters here, what's really driving the growth in your professional services business?

Mike Aviles

Well, there's a bit of a transformation going on with our services organization. We've always talked about moving it from the quality of work to the quality of service and looking at customer success on a broader level, so I think we're paying much more attention to our customers, customer sat is up, you got a lot of new product releases, both with our core products as well as our new products that our existing customer base is embracing.

So we're seeing a lot of upgrade activity in the core products with the new releases. Somesh and his team have been busy over the last 18 months and then with the new product activity that's coming in, plus we're just running the business much better. We got good leadership in place there and much more focused around metrics. So it's a combination of those things Mark.

Mark Schappel - Benchmark Company

Thank you very much. That's all.

Mike Aviles

You're welcome. Thanks for the questions.

Operator

Your next question comes from Jack Ripsteen with Potrero Capital.

Jack Ripsteen - Potrero Capital

Thank you. My question -- I'm sorry if this is a repeat for something you already said but did you breakout the services license or sorry, services revenue in terms of maintenance revenue.

Pat Kelly

Yes. Let me just look that up here. So in the quarter, maintenance and professional services was 35.8; professional services was 14.2 of that, and maintenance was 21.6 of that.

Jack Ripsteen - Potrero Capital

And what kind of renewal rate is that?

Pat Kelly

That's in the high, well, we track that sort of on a lagging basis, so but most recent data is in the high 80s.

Jack Ripsteen - Potrero Capital

High like 88, 87?

Pat Kelly

Yes, we haven't released a specific but yeah, 87 or 88 range.

Jack Ripsteen - Potrero Capital

Okay, great. Then sorry just one more time. It’s a little early on the West Coast. What was the gross margin Q3 guidance you guys just gave?

Pat Kelly

Let me just look that up for a second. 58 to 62 I think. Yes, 58 to 62.

Jack Ripsteen - Potrero Capital

Okay, with 27% being license revenue; correct? On a percentage revenue.

Mike Aviles

20 to 27%

Pat Kelly

20% to 27% is the guidance on license revenue.

Jack Ripsteen - Potrero Capital

Okay, and what kind of linearity or visibility do you guys get in the quarters now on license? You got a little more time under your belt with different changing sales forces. What kind of reporting are they telling you?

Mike Aviles

When you talk about linearity, you are talking about sort of how business flows in month one, month two, month three?

Jack Ripsteen - Potrero Capital

Yeah, right, exactly. I mean we're still really early on obviously, but just how you see that shaping up.

Mike Aviles

Yes, we're still very backend loaded, traditional enterprise software, so we're getting 50 plus percent in the third month. So it's still way early in this quarter.

Jack Ripsteen - Potrero Capital

Okay, perfect. Thank you very much.

Mike Aviles

Thank you, Jack.

Pat Kelly

Thank you.

Operator

Your next question comes from Brian Murphy with Sidoti Incorporated.

Pat Kelly

Hi, Brian.

Brian Murphy - Sidoti Incorporated

Hi, Pat, good morning. Thanks for taking my question.

Pat Kelly

You bet.

Brian Murphy - Sidoti Incorporated

Mike, I was just trying to get a little bit more color on the reallocation of sales and marketing. I know you don't want to break out specifically how many bag carriers you have quarter-to-quarter, but directionally is that reallocation going to flow more towards our quota carrying reps?

Mike Aviles

Directionally it's going to flow more towards non-quota carrying investments.

Brian Murphy - Sidoti Incorporated

I see and can you give us --

Mike Aviles

So it's going to be a combination, so there's going to be quota carrying reallocate...restate that question.

Pat Kelly

Let's restate that one.

Mike Aviles

Because Pat is looking at me.

Pat Kelly

I think he's asking, is the mix moving in the direction of more quota carrying or is it moving in the direction of more non-quota carrying.

Mike Aviles

Is that your question?

Brian Murphy - Sidoti Incorporated

Yes.

Mike Aviles

Okay, it's moving more into the direction of quota carrying.

Brian Murphy - Sidoti Incorporated

Okay. Just to follow-up on that reallocation, are you reallocating that from product management, product marketing [mark] inside sales? Can you give us a little bit more color there?

Mike Aviles

Yes. So it really starts more outside. It's in our sales organization first, right. So the quota carrying as and the pre-sales that to in a non-quota carrying investments. So more shift of investment towards quota carrying as we just clarified, and then moving more of that investment into major market opportunities, around major customers, major prospects, major metro markets.

Then from a marketing perspective, overall, the level of investment we're trying to hold, but there's a lot of reinvestment going on within the marketing organization as well to get higher lead gen around, building the pipe, and more field marketing type stuff, product management. So, all areas around marketing are pretty much beefed up. It's something as we moved into '08 we put some more investment dollars on as part of the R&D efforts into the product manager and product marketing space.

Brian Murphy - Sidoti Incorporated

Okay. Mike, it sounds like you have a lot of new faces out there in some key positions. How long do you expect it will take some of these guys to ramp up?

Mike Aviles

You know, I am not going to go there. It's a great question and any time I try to predict, it's going to come back to haunt me, but so hopefully it's fast. We've got some good people and we really are getting after the enablement issues. We think we're going to be much more targeted from a marketing perspective, so hopefully all the stars will align. Getting back to the question that Nate asked earlier, I look at 80% of the opportunities within our own control, 20% is external but we do need to compete better and we will.

Brian Murphy - Sidoti Incorporated

Got it. Pat a couple for you: Could you give us a sense of the percentage of license sales that were influenced by channel partners?

Pat Kelly

We haven't seen any significant change there, and it's been running around 30%, sometimes up a little bit. So we're continuing to focus on channels and partners, and we've got some new initiatives under way that we're hopeful about, but so far we haven't seen a whole lot of traction, any significant change on the channel side.

Brian Murphy - Sidoti Incorporated

Okay. I think you said that the ASP for the quarter was 211. What was that a year ago?

Pat Kelly

You know, I'm not going to go back and give all of the history there. I gave Q1, Q2 is a new metric that we're disclosing and we're just starting it as of Q1.

Brian Murphy - Sidoti Incorporated

Okay. Last quarter, I think you talked about you guys saw some aggressive discounting out there in the marketplace, was that the case this quarter as well?

Mike Aviles

Yes. The answer is yes, Brian. But last quarter, we saw things pretty focused on some specific, I think in one quarter I commented about BEA being very aggressive, and that was right around the time of the Oracle situation. So, in general with the economy as it is, I think you're seeing some aggressive pricing at all levels. You're seeing it from the stack players as well as the little guys, and you see it as you look at software companies across-the-board, you're seeing it in their ASPs that they're publishing.

Brian Murphy - Sidoti Incorporated

Got it. Would you say that, it's mostly maybe the big guys trying to put the squeeze on you or is it just the customers have more leverage in this environment?

Mike Aviles

I think customers have a lot of leverage in this environment and everybody is scrambling to get as much business as they can.

Brian Murphy - Sidoti Incorporated

Got it. I imagine sales cycles might be getting a little longer. Did you guys have anything big maybe slip out into next quarter or Q4?

Mike Aviles

Sales cycles are getting longer, and we saw slippage which is a nature of the business to some level. So we have seen deals slip. And now the question is will they slip forever or are they just slipping for a quarter in this environment? But certainly customers are tightening up.

Brian Murphy - Sidoti Incorporated

Got it. That's all for me. Thank you very much, guys. Good luck.

Mike Aviles

Thanks, Brian.

Operator

Your next question comes from Nathan Schneiderman with Roth Capital Partners.

Nathan Schneiderman - Roth Capital Partners

Hi. Thanks much. Hi, Mike. Hi, Pat.

Mike Aviles

Hi, Nate.

Nathan Schneiderman - Roth Capital Partners

Initial question for you. So, your license revenue missed badly in the first quarter and this quarter was just barely up from last quarter. So I gather it was a disappointing print. Do you want to or would you care to comment on what you feel happened and why it came in at low levels?

Somesh Singh

Well, as I said, we're not where we need to be from a license revenue perspective. 80% of that is internal, 20% of it is external. So you have a sense of the external environment, Nate, as well as anybody in terms of what's going on in financial services, public sectors another big vertical for us, just overall level of competition slow downs here and there. But, for us, it's about having the right people in place, enabling them on the new products that we had a fair amount of still building in our marketing organization, in our sales organization during the quarter and we just need to be stronger. We're getting out-marketed in this very competitive environment that we just need to be stronger positioning ourselves against the competition.

Nathan Schneiderman - Roth Capital Partners

Last quarter, you mentioned that competition had intensified and you referenced a number of vendors, BEA, IBM, Microsoft and Oracle, and pressure on pricing and deal closures. I'm curious, Q2 compared to Q1, would you say things got more intense or stayed about the same or just what were the differences in the competitive dynamics that you would highlight?

Somesh Singh

I would say this is strictly a subjective evaluation -- as intense. So I wouldn't say -- Q1 it was intense and Q2 was equally intense, and both quarters were uncertain in terms of what was going on in the marketplace. So I wouldn't necessarily characterize it as getting more, but it's certainly fairly intense, fairly competitive, and we're seeing that competition at different levels.

Nathan Schneiderman - Roth Capital Partners

Okay. And then one for Pat. License revenue basically flat sequentially, yet your DSOs were up sharply on a sequential basis. Can you speak to that dynamic?

Pat Kelly

I think it's a function of collections effectiveness in Q1. I mean, we just did a stellar job in Q1 and we had cash flow from operations of 10 million in Q1. So, I just think that all of the forces came together and worked kind of perfectly in Q1. What’s happened in Q2 is we just had sort of a normal , more normal looking AR at the end of the quarter. As I mentioned in my remarks, AR went from 24 to 28. I mean 24 would be just a really low number. I wouldn't expect to be able to hold it at that level.

Nathan Schneiderman - Roth Capital Partners

Was Q2 a little more back-end loaded on the deal signings ?

Pat Kelly

Yes. You know, maybe, but I don't think it was that so much as how the cycle worked in terms of when collections -- when customers, maybe a few big customers were ready to pay. I really don't read a whole lot into it, Nathan. I mean, with DSOs being at, I guess, 56 for Q2, we're very comfortable with that number.

Nathan Schneiderman - Roth Capital Partners

Okay. Then a follow-up question on the restructuring. It sounds like you are shifting things around. What's actually driving the 2.5 to $3 million charge though? Is that severance or is it facilities or what actually causes that level of spending?

Somesh Singh

Yes. Well, most of it is going to be severance kind of related cost associated because there are people that we are going to be taking out of the business and then reinvesting in other areas, as Mike talked about. So most of it is severance related. There's some other parts of it which I can't get into all of the details around it, but it's sort of related to just some other things we're doing with some other arrangements we have with suppliers, but most of it is severance-related.

Nathan Schneiderman - Roth Capital Partners

A final question for you on the product side; I gather you have a couple of products that are available on-demand at this point. Is it your intention to offer the entire suite as it eventually is an on-demand solution? Then on the 20% of your bookings from new products, was there a particular product there that drove it or was it pretty diversified? That’s it for me, thank you.

Mike Aviles

Nate, thanks for the questions. An earnings call wouldn't be the same without you. So on the question about offering everything on-demand, no, that's not our intention, so we are building our on-demand model a lot often with new products, but we don't have any intention of offering everything on an on-demand model. Then on the 20% that came through these new products, the license bookings for the quarter, Community Services was good, Recommendations was good, video. So we sort of saw across a few of the different media categories, Rich Media Services, it wasn't just one. So we had a good sprinkling around of it. Operator, anymore questions?

Operator

At this time, there are no further questions. I would now like to turn the call over to Mike Aviles for closing remarks.

Mike Aviles

Well, thank you all for joining the call today, and for your active participation with the questions. I feel we have made substantial progress over the past 24 months with more to follow. We believe we are investing in the right areas to grow our company. We're investing in our customers. We're investing in our products. We're investing in our partners and we're investing in our people. We will continue to stay focused and work hard around all our key initiatives to drive license revenue momentum, and look forward to speaking to you again after the third quarter. Thanks so much. Bye-bye.

Thank you, operator.

Operator

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

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Source: Vignette Corp. Q2 2008 Earnings Call Transcript
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