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Deltek Inc. (NASDAQ:PROJ)

Q2 2008 Earnings Call

August 7, 2008 5:00 pm ET

Executives

Dave Spille - VP, IR

Kevin Parker - CEO

Mark Wabschall - CFO

Analysts

Corey Tobin - William Blair

Bryan McGrath - Credit Suisse

Kash Rangan - Merrill Lynch

Priya Parasuraman - Wachovia

Corey Tobin - William Blair & Company

Aaron Schwartz - JPMorgan

Operator

Good afternoon. My name is Todd and I will be your conference operator today. At this time I would like to welcome everyone to the Deltek Second Quarter 2008 Earnings Call. (Operator Instructions).

I would now like to turn the call over to Dave Spille. Sir, you may begin.

Dave Spille

Thank you. Good afternoon, everyone. My name is Dave Spille, Vice President of Investor Relations for Deltek. Joining me here today are Deltek’s CEO Kevin Parker and Mark Wabschall, our CFO.

I want to welcome you to today's conference call announcing Deltek's financial results for our second quarter ended June 30, 2008. The press release, we issued this afternoon containing our financial results for the quarter is available on our website at www.deltek.com. This call is being recorded and will be available for replay on Deltek's website or by dialing the following numbers: 1-800-642-1687 or 1-706-645-9291. The access code for the replay is 55235400 and the conference call replay is available through August 14, 2008.

During the course of this conference call we may make forward-looking statements that involve substantial risks and uncertainties. You can identify forward-looking statements by words such as anticipate, believe, estimate, expect, or similar words. Actual outcomes and results may differ materially from what is express in these forward-looking statements for many reasons. Any forward-looking statement in this conference call speaks only as of the date on which it is made. We are under take no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise except as required by law.

Please refer to our earnings release for further information on forward-looking statements and for explanations on the use of non-GAAP financial information. You can also obtain more information about Deltek including reviewing our SEC filings and press releases by visiting www.deltek.com.

AND with that, I will turn today's call over to Kevin.

Kevin Parker

Thanks, Dave. Good afternoon everyone and welcome to our Q2 earnings conference call. Before Mark dives into the details of Q2 and outlook for Q3, I want to give you an overview of our results and discuss what we are currently seeing in the marketplace and what we are hearing from our customers.

Q2 was a very strong quarter, highlighted by license revenues of $22 million, an increase of 17% year-over-year and 30% sequentially. Services and support revenues both increased more then 10% from 2007 and our total revenues were an excess $77 million, a 13% increase from last year. Strong sales combined with strong execution helped us succeed the high end of our guidance for GAAP EPS by $0.02 and pro forma EPS by a penny.

As a team, we are pleased with our license revenue and total revenue results, especially in light of the unsettled macroeconomic environment in the US. We are particularly pleased with our results in our two core markets, government contracting and A&E, where we saw double-digit year-over-year license revenue growth in both of these important segments and across both our major product families Costpoint and Vision.

I think our success in the quarter the results of the few key factors. Perhaps first on the list is the containing strength of the government contracting environment. Our gov con customers are generally very bullish about their business these days and for what we can tell they expect that trend to continue for the foreseeable future. We serve a very wide range of gov con customers with a growing range of products that are critical to running their complex product focus businesses, while maintaining compliance with contracting regulations and planning, monitoring, and delivering their growing portfolio projects.

In Q2, we obtained a number of significant deals and some significant new customers as well. In fact during the quarter, we closed one of our largest Costpoint transactions and our largest single transaction for the quarter was with a new Costpoint account. At the low end of the gov con market, we are seeing strong uptick for our GCS applications.

In Q2, we saw an increase level of interest in GCS as we nearly doubled the number of new transaction we completed, as compared to Q1. We believe that demand for GCS is being partially driven by recent changes in government’s spending requirement including the new defense authorization bill signed in January. This new bill will require more government contract it is a more projects to use cost and fixed price contract instead of time and materials.

Cost and fixed price contracts are inherently more complex and require significantly higher degree of compliance reporting. We believe these new statutory requirements will continue to have a positive impact on our GCS sales in the future, as well as potentially our Costpoint business in the coming years. At the mid and higher end of the government contracting market, we continue to experience strong demand for our enterprise project management or EPM suite and for our Costpoint family of products

In Q2, our EPM license revenue saw growth an excess of 10% for the prior year’s level. We continue to build our pipeline, which includes the potential several large EPM deals in the coming quarters and beyond. In Q2, we saw a Costpoint products continue to perform well recording double-digit revenue growth in the quarter.

Included in our Q2 results was an important win for more than $1 million with a new Costpoint customer. This was our early, million dollars plus deal in the quarter. I think it is especially noteworthy that this customer like many other in our gov con market is not a military defense contractor. This purchasing decision included almost the entire Costpoint family of applications and for their fast growing publicly trading company.

I think this deal is significant not only for it is size, but also for the breadth and scope of the functionality of the Costpoint product they acquired. This new Deltek customer turned to Costpoint instead of moving forward with the large incumbent ERP vendor because they wanted a fully integrated solution that provided out of the box functionality without the need for costly customization and implementation for their core business processes.

Equally important to our Q2 results was our ability to continue our success in the architectural and engineering mark, with A&E contributing more than 40% of our Q2 license revenues. We have reported a strong quarter with our Vision applications in the A&E market with new customers and with legacy customers upgrading division.

In Q2, we implemented several programs to focus on Vision license sales and those programs have clearly paid off, as we grew Vision sales approximately 20% year-over-year. To improve our traction in this market, we have launched several programs focused on encouraging over 5000 legacy A&E customers to upgrade to our Vision applications. These programs had a positive impact on our direct Vision license sales as well as the results in our partner channel.

We also benefited from this very significant diversity of the customer that does exists with an A&E market. By way of illustration, we took a look at our top 50 A&E customers from Q2 to see what was driving their business. We founded the majority of those 50 A&E customers are conducting business in numerous industries that some may not immediately associate with the A&E market.

Their business is include A&E oriented activities for the aviation, education, healthcare, hotel, energy, environmental and transportation industries among many, many others. The breadth and diversity in A&E industry gives us an ample opportunity to sell our Vision application beyond the traditional commercial, real estate oriented view at the market place and it is helps us to build the strong pipeline.

A few examples of our Q2 Vision sales they demonstrate the significant diversity in the A&E industry include client such as Reid Middleton, a 90% engineering firm located in that Pacific Northwest. Reid Middleton provides structural and civil engineering and planning and surveying services that include the designing and building of Aviation, Runways and Hangars as well as Education, Municipal Facilities and Schools and Libraries. This unique firm even performs seismic upgrades for various military and commercial structures and this is one of the largest renovators and builders of fire houses in the US.

Modjeski and Masters a 100% A&E firm from the Pennsylvania is widely respected for its specialized technical expertise and the design, inspection, and rehabilitation of all types of bridges. They perform these services for wide variety of clients including State DOTs, Federal Agencies, Railroads, Turnpike Authorities, Bridge and Port Authorities, Local and County Governments, Universities and other Private Organizations.

Another good example is Perkins Eastman. Perkins Eastman is one of the top 10 architectural design firms in the world. This firm’s areas of expertise include education, healthcare, senior living, corporate interiors, cultural institutions and public sector facilities.

Probably the best example of the global reach of the industry is Leo A Daly, one of the largest planning and architectural, engineering and interior design firms in the world. Leo A Daly has expanded internationally to capitalize on the thousands of A&E projects taking place outside the US. Countries included Kazakhstan, Russia, China, Eastern Europe, Andria, India and Northern Africa. This type of forward thinking allowed Leo A Daly to sustain double-digit revenue growth and is enable them to forecast double-digit revenue growth again this year.

These four examples demonstrate some of the significant breadth and diversity in A&E market, diversity well beyond commercial, real estate and construction. As our customers expand their footprint globally, we have an equal opportunity to expand our global A&E footprints as well.

Looking back on the quarter, I am pleased with our performance in both gov con and A&E markets. We executed well and took advantage of the opportunities that we saw there. While we do not want to know there is, frankly I little bit disappointed with our revenue results in both AMEA and breaking into general consulting market in Q2 and year-to-date.

Our continuing efforts in those markets did not contribute a meaningful way to our Q2 results. Within both of these markets it is taking a bit longer than expected to close the deals we are generating in our pipeline. Perhaps the largest single challenge we are looking over become in both markets is the absence of significant brand recognition.

As you might imagine in our existing gov con and A&E markets, we generally recognition is the market leader and almost always considered as a part of any significant evaluation. In both AMEA and the consulting markets obviously not well known, we are putting a lot of effort to identifying potential customers and educating them in our solutions in our company.

Our general experience is that, if we get a foot in the door and then start our applications, we can get engaged in sale type cycle. While we have been successful getting a number of potential clients actively engaged in sale cycles, it is been challenging getting those some of those deals closed on our quarterly timeframes.

The good news is that, we saw our pipeline in both markets increased during the quarter and we are expecting to see our license revenues in the coming quarters reflect the results of our efforts and expanding in these new markets. We do know, there is a tremendous opportunity for us to grow our business within both these markets, and we fully anticipate taking advantage of these opportunities in the near future.

Q2 also saw continuation of our success and expanding our partner channel, with Q2 license revenues increasing more than 50% from the prior year. Resellers contributed more than 17% of our license revenue in Q2, compared to approximately 9% in Q1 of 2008 and 11% in Q2 of 2007.

As a percentage of license revenue, Q2 is the largest quarterly contribution our resellers have ever made to our business. This strong traction result of their ability to upgrade legacy customers through our new Vision product and win new Vision customers as well as our ability to add new resellers.

Our new resellers are quickly gaining traction with more than one-third of the already closing new business in the first half of 2008. We believe this is a strong indication of their commitment to Deltek and the opportunities it exists within our markets. Q2 saw a very strong turn at Deltek Insight. Our annual customer conference was held in May.

Some of you on this call joined us at Insight to get a better sense of the enthusiasm our customers have for our solutions and their strong loyalty to Deltek. This year’s event was by far most successful customer conference ever with paid attendance up 9% over 3,000 people, sponsorship revenue up over 60% and a record number of partner attendees.

Insight hosted representatives from small, large and multinational companies and highlighted major product announcements. The addition of new reseller and technology partners in the debut of our customer excellence awards. The feedback, we receive from inside is extremely positive from a customer satisfaction, product direction and sales opportunity perspective. We were very pleased with the outcome of this event and we even more excited about next year.

In summarizing Q2, I say we bounced back very strongly after a tough Q1. I do not believe the macroeconomic environment is changed much in the last 90 days, we did find wide ways to be successful across a very wide variety of customer opportunities in our large customer base, and we expect that trend to continue in the coming quarters.

I also know that we successfully focused on the execution issues that contributed to some of the challenges in Q1. We executed well in Q2 and our results reflect are focus. Our awards have led to a strong top line and bottom line performance in Q2 and a strong pipeline heading in to Q3. We believe we have a tremendous long-term market opportunity in front us and we will do everything in our power to ensure we take advantage of that opportunity and drive shareholder value.

With that I will turn it over to Mark. So, he can give you a detailed view of our financial results. Mark?

Mark Wabschall

Thank you, Kevin. I am really glad to be here today, to be part of a great team at Deltek. It has been exiting first three months for me a CFO. I am particularly pleased to be reporting the very successful second quarter. As Kevin just shared with you the strengths and experience in Q2, was a result of double-digit license revenue growth in both the government contracting and A&E vertical markets, which is driven by the combination of several sales and marketing initiatives. The continuing strength of the vertical markets we serve and improved execution.

In Q2, we delivered license revenue of $22 million, representing a 17% year-over-year increase and a 30% sequential improvement, a $22 million in our license revenue result exceeded the high-end of our guidance of $19 million, $21 million. Our license growth was primarily driven by the strong results we experienced in our Costpoint and Vision product families.

Looking at some of the details of the quarter, we added nearly 100 new customers, continuing the trend we see for several quarters and one we could expect to continue for the foreseeable future. New customers accounted for over 20% of our Q2 license revenues, which is consistent with prior quarters.

We had one sale this quarter that is over $1 million and that deal was with a new Costpoint customer. This is the third quarter in a row that we have closed the transaction over $1 million. We continue to add these large deals to our pipeline, but as you know, the timing of when these deals ultimately close is difficult to predict.

While we have been very successful at adding new customers, we have also been successful selling into our installed base of more than 12,000 customers. These customers are expanding the use of their existing applications, adding new modules to their existing portfolio by entirely new segments of our products like EPM and upgrading from legacy applications to our Vision and Costpoint application suite.

The volume of transactions grew last quarter, as we closed approximately 1,400 license transactions. Our average selling price to new customers is the highest it has been since we began tracking this data. In Q2, we did not increase the level of discounts and other incentives provided to customers in order to achieve our sales performance as we continue to benefit from our market leading position.

For the quarter, our indirect sales from our reseller partners comprised nearly 17% of our license revenue compared to approximately 11% in Q2 of last year. International license revenue represented 4% of total license revenue in Q2 compared to 5% in Q1. Our margin on licenses was 92%, in line with our expectations and recent trends, and we expect to maintain these margins going forward.

Our Q2 consulting revenue was $22.3 million, representing a 12.9% increase over the prior year. This significant year-over-year increase was driven by the growing number of implementations with new and existing customers, which has been driven by our additional license sales. While we have been successful at expanding our partner community, including partner who deliver services for applications for global services organization, we still provide the vast majority of implementation directly to our customers.

During the quarter, our services organization participated in over 900 billable client engagements of all sizes. Our average utilization rate remained close to our internal target in the mid-70% range. AND our average billing rates of $150 to $200 have increased over prior quarters.

On a sequential basis, our consulting revenue declined by $1.9 million. The change from Q1 levels was a result of the successful completion of several large Costpoint implementation projects, slightly lower billable headcount in Q2 as a result of some planned attrition and the recognition of the non-recurring milestone billing revenues in Q1.

Our Q2 consulting margin was 14% compared to 9.4% in the prior-year period. The increase in consulting margins was primarily the result of higher utilization as more of the additional headcount we added in Q1 of last year became utilized. Our services margins are down from 16.9% in Q1 2008, primarily due to impact of the significant success fees we recognized in Q1. Absent the impact of these milestone billings, the Q1 consulting margins would have been more in line with Q2 margins.

We believe there are opportunities to expand our services margins in the coming quarters and the next year, and we are expecting to gradually trend upward to the high teens over time.

Maintenance revenue increased 11.3% year-over-year to 28.3 million, primarily as a result of our increased license sales over the past 12 months and our ability to maintain retention rate in excess of 90% of our maintenance paying customer base. Maintenance revenue increased approximately 1% from Q1 2008. Excluding certain adjustments made in Q1 and Q2, our sequential increase would have been more in line with our typical sequential increase of 2% to 5%. The margin on our maintenance business was 83%, consistent with our history and internal objectives.

Q2 2008 total revenue increased 13.2% to $77.4 million, which is a new company record. Our total revenues worked the high end of our guidance of 75.5 to 77.5 million. The increase in our total revenues was driven by a double-digit growth in license, services and maintenance revenues.

During Q2, we also generated $4.6 million in other fees, which was almost exclusively registration and sponsorship fees related to our annual Insight Customer Conference, which took place in May. Our gross profit margin increased to 60.5% compared to 58.1% in Q2 and 60.2% in Q1 of 2008. This increase primarily reflects the increase in our revenue mix from higher margin license sales.

Looking at the rest of our P&L, our research and development expense in Q2 increased by $1.1 million over the prior period year to $11.6 million. This increase was primarily driven by higher labor and labor related expenses. We continue to invest in functionality and architecture of all of our products and looked at new releases in all of our major product families in the coming year.

Q2 R&D expenses were relatively flat from Q1 levels. Our Q2 sales and marketing costs were $13.4 million, an increase of $3.3 million over the prior year. This growth was primarily driven by an increase in our direct and indirect sales organization headcount, an increase in sales commission as a result of higher license sales and increased marketing expenses. The 9% sequential increase in our sales or marketing expenses was largely due to the result of higher sales commissions as we grew license revenue 30% sequentially.

Our Q2 G&A expenses were $8.4 million, an increase of $1.2 million over the prior year. This growth was primarily driven by increased labor and labor related expenses as well as increases in insurance and professional fees associated with being a public company.

As we discussed on our last earnings conference call, we implemented a restructuring in Q2 of approximately 50 employees in order to align some of our resources so we could further invest in the growth of our business while protecting product profit margins.

As result of this action, we recorded $1.1 million restructuring charge, which was comprised of approximately $1million in severance and related payment and $100,000 of charges incurred in consolidating space in a couple of our offices.

Our non-GAAP operating income increased 6.4% year-over-year to $15.8 million, which was at the upper end of the $14 million to $16 million guidance range we provided on our last earnings conference call. We were able to achieve the high end of our guidance range primarily due to our strong license revenue results.

Our Non-GAAP operating income margin was 20.4%, which is a strong performance for an established software company. Our Q2 GAAP operating income increased 3.7% to $12.4 million, and our margin for the quarter was 16%.

Our Q2 net interest and other expense was $2.5 million, which is lower than the amount we reported in both Q1 and Q2. Our lower interest expense was due to lower borrowing cost as a result of lower LIBOR rates and a decrease in our credit agreement interest rate as a result of a lower leverage ratio. Our interest expense in Q2 was also positively impacted by a decrease in our debt levels as compared to last year as a result of our IPO proceeds. Just for the record, we are well in compliance with all of our debt covenants.

In Q2, we experienced a slightly higher than expected tax rate of 45.5%. This was the result of higher than expected loss in the startup of our international businesses, resulting in loss for tax purposes that we cannot offset against our U.S. taxable income. We expect that with growth in our international revenues, we will experience a reduction in our tax rate later in the year. At this point, we expect that our full year tax rate will be around 43%.

Non-GAAP net income for the quarter was $7.5 million or $0.17 per share, $0.01 ahead of the high end of our guidance of $0.15 to $0.16 per share. On a GAAP basis, our net income was $5.4 million or $0.12 per diluted share, which also exceeded our guidance range of $0.09 to $0.10 by $0.02 at the high end.

Turning to our cash flow and balance sheet, we ended the quarter with the cash balance of $32.9 million compared to $35.4 million at the end of Q1. Our Q2 cash flow used in operation was $300,000 for the three months ended June 30, 2008. We generated $5.4 million in net income, plus an additional $5.1 million in non-cash expenses. This was offset by $10.8 million in payment of estimated income taxes, recognition to fees and expenses related to our Annual User Conference that were deferred in Q1 and an increase in receivables from higher level of license sales.

Purchases of capital equipment and leasehold improvements totaled $2.2 million in Q2, which is consistent with last quarter. DSOs for the quarter were 59 days compared to 61 days in Q1, and at 59 days, our DSOs within our benchmark range of 55 to 65 days, and we expect to stay within that range or perhaps slightly better in the future.

We ended Q2 with a deferred revenue balance of $22.7 million, which is down $3.2 million from Q1. This decrease in deferred revenue is primarily the result of $2.9 million decrease in deferred revenue as we recognized a prepaid conference registration fees for our annual Insight Customer Conference. At quarter end, our deferred revenues substantially consisted of maintenance and professional services. In addition, we had approximately $900,000 of deferred license revenues, which is consisting with last quarter.

Looking ahead to Q3, we expect license revenue to be in the range of $22 million to $23 million and total revenue to be between $74 million and $75.5 million. We expect non-GAAP operating income to be in the range of $16.5 million to $17.5 million, which results in an operating margin of approximately 22% to 23%. Our non-GAAP operating coming excludes the impact of approximately $2.5 million of stock-based compensation expense and approximately $850,000 of intangible amortization expenses.

Our Q3 GAAP earnings per share is expected to be in the range $0.14 to $0.15 per share. On a non-GAAP basis, we expect our earnings per share to be in the range of $0.19 to $0.20 per share. Our Q3 GAAP and non-GAAP EPS target assume an average share count of approximately 45 million shares, and we expect our effective tax rate to be approximately 43% in Q3.

Looking ahead to the remainder of the year, we expect the current economic turbulence to continue, particularly in the U.S. While we continue to work with our customers and take advantage of the opportunities in front of us, it is important to recognize that there has been an impact on original growth plans for the year. Although we do see an impact from the macroeconomic challenges, we continue to expect to grow our businesses, giving the increasing demand we see for our software solutions.

At this point, we are expecting our full year license revenue to be approximately $90 million or an increase of approximately 3% to 4% over the prior year. We expect our total revenue growth to be in the 8% to 9% range with our full year total revenues to be in the range of $302 million to $304 million.

We expect non-GAAP operating income for the full year to be in the range of $67.5 million to $68.5 million, which results in an operating margin of approximately 22%. Our non-GAAP operating income excludes the impact of approximately $9 million of stock-based compensation expense and approximately $3.5 million of intangible amortization expenses.

Our 2008 GAAP EPS is expected to be in the range of $0.55 to $0.57 per share. On a non-GAAP basis, we expect our EPS to be in the range of $0.73 to $0.75 per share. Our 2008 GAAP and non-GAAP EPS expectation assume a weighted average share count of approximately 45 million shares and effective tax rate of 43%.

Now, I will turn it over to the operator for the Q&A portion of the call. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Corey Tobin with William Blair & company.

Corey Tobin - William Blair

Hi, good afternoon.

Kevin Parker

Corey, how are you?

Corey Tobin - William Blair

Good, congrats on the rebound and licensing.

Kevin Parker

Thanks very much.

Corey Tobin – William Blair

I want to just check in with some thing that was mentioned last quarter? You mentioned the lengthening sales it was across the company, I believe last quarter and outside of the comments you made regarding the consulting side in Q2. Have you seen any change with respect to the sales cycle primarily in the A&E and government contracting space?

Kevin Parker

You know, we did not, I think there was a, we recently did not see any additional deterioration. I think its little early to tell if they return to normal levels, but we did not see any continuing deterioration of that. I think, it was really the shock of the March timeframe with all of the headlines going on and caught peoples attention on a decision making side, but its not gone any worse.

Corey Tobin - William Blair

Great! Then on backlog coverage you have mentioned before the 1.5 to 2 times backlog covered ratio. Any comments on where that currently stands into the third quarter?

Kevin Parker

I think we entered the quarter with a very strong backlog in a couple of key areas. I say EPM were doing very well. On the Costpoint side, we have got the right number of things in place in Vision. It is a little bit more challenging and this is probably more detailed, when you wanted to hear a bit, some of our products that we, it is almost impossible to measure the pipeline because the deal originates and closes in a very short period of time.

GCS is a great example of that, where customers just come to us and say, I need this and sales cycles could be as short as weak in some cases. But we got to think a very strong backlog and we look at over six months and I think we have got a very good pipeline. It is an integer multiple of what the target is for the quarter.

Corey Tobin - William Blair

Okay. Thank you. Congrats again.

Kevin Parker

Thanks.

Operator

Your next question comes from Bryan McGrath with Credit Suisse.

Bryan McGrath - Credit Suisse

Hello. Congratulations on a great quarter and is up environment.

Kevin Parker

Thanks, Bryan

Bryan McGrath - Credit Suisse

Kevin. Going back to what you are talking about the branding issue for better worth you having over in Europe. Can you talk about what you are going do to overcome now, then I just wondering if partnerships and partner arrangements are one way you are going to combat that?

Kevin Parker

I think, there is a couple of things we are doing and one is trying to find industry luminaries or key stake holders or noted names to the industry and building events around them and in some areas it could be to create example in the UK somebody that is associated with the Olympics, which the development authorities working on there. If we can get a luminary or somebody that is an attractive quality to that organization, we can get decision makers to that.

Where a tradeshows and where it is working with the Royal Institute of British Architects and people like that. So, it is a focused community that we are working with and I think it is really best to reach out of them. On the partner’s side, we are identifying and looking to add resellers, but there is almost a bit of reluctance and there is an initiate (inaudible) phenomenon, they are waiting to see if we can develop the market and were asking to help us develop the market and we are both looking added together.

The responsibility at the end of the day is ours, we are making good headway, but we are starting with an environment, where if you talked almost any A&E firm in the US city, you know, Deltek could get instant name recognition and in the UK it draw complete blank and that is the some of the problem. We are making good progress and its really building around those industry events and we have got a lot of that going on.

Bryan McGrath - Credit Suisse

Yes, that makes sense. Going back to the increase in the sales costs, you mentioned higher sales commission was there, did you add headcounts in sales as well as that the part of the driver of the increase?

Kevin Parker

Certainly year-over-year, we did have an increase in the sales headcount and in sequentially, we just add a small amount of headcount.

Bryan McGrath - Credit Suisse

Can you roughly talk about plans on how that, suppose the trends for the next couple of quarters?

Mark Wabschall

Yes, I think we are pretty good in terms of the headcounts and the sales resources that we got. We look to add in specific areas with specific expertise, but I think in terms of the total number and the leadership there were and I think we are in very good shape and we certainly have the capacity to do the numbers that we are talking about here and perhaps do better than that if were fortunate.

Bryan McGrath - Credit Suisse

Got it, if you pass me just it opportunistically higher if you came across…

Mark Wabschall

Yes, exactly right and somebody came in and said, I am a particular sales rep. He is work with a particular type of product and I have got a count control at a large, pick the type of customer consulting from government contractor that we think very highly, we would not hesitate to add that resource.

Bryan McGrath - Credit Suisse

Okay. Thank you, very much and again congratulations on a great quarter.

Mark Wabschall

Thanks, very much.

Operator

(Operator Instruction). Your next question comes from Kash Rangan with Merrill Lynch.

Kash Rangan - Merrill Lynch

Hi, thank you very much. Nice rebound in Q2 also that as well. Just a couple of clarifications one Mark, I think you said that maintenance revenues adjusted for certain and other considerations would have gone 3% to 4% sequentially. That is the growth that we are expecting in the model I am just curious if you can talk about, what those adjustments, where particularly and also wondering if you look at the sales marketing as a percentage of revenues it certainly looks like compare to your peek license quarter in December sales and marketing still ended being a little bit higher, as a percentage of revenues compared to where we would have expected that is the license are compared to June quarter, yes very good, but still lower than the December quarter. So, I am wondering if any one-time items or expenses or investments you making in sales and marketing that you have to show up in the revenue line and I have a follow-up. Thanks

Mark Wabschall

Sure, let me go and tackle the maintenance. In Q1 we had some catch up revenues adjustments, where we are able to conclude some renewals and we are able to go ahead and recognize basically some catch up revenue related to a maintenance contracts. In addition as we go ahead and we renew some of our additional contracts going forward, we do have adjustments to the revenue rates and some of those reflected in the Q2 as well. Really the growth rate you mentioned you normally expected 2% to 5% sequential growth, which is what we have really experienced over the last four quarters and which has been about couple of $100,000 higher level in maintenance revenue.

So, it was not a significant amount, but just percentage-wise, you normally would have expected in your models to be higher. Going forward, we would continue expect to see the 2% to 5% sequential growth in maintenance.

Kevin Parker

On the sales of marketing side cash, we have quite deliberately increased both of those over time. On the sales side, we have added capacity. We have added resources and expertise to the sales force, and we have been quite deliberate about increasing our demand generation and produce significantly over the course of the last year. We expect that to continue with the rate that we have got now. I think we have a sense that the market is out there. We just want to make sure we can reach the customers and get involved with them at the right point in time. So, both have been conscious decisions on our part.

Kash Rangan - Merrill Lynch

Great. Also, looking at the guidance, it looks like you are taking more conservative stands or maybe some of those of caution as well with license revenue and operating margin. So, does this mean that the investments we are making in sales and marketing are probably going to be more revenue producing next year? Is that one of the reasons coupled with the macro that we are taking more conservative stands on the license revenues for this year?

Kevin Parker

Well, I think our general bias is to make sure that we visit, if there is a methodology, we would like to be seen as being thoughtful and cautious and clear and sober about it. We want to make sure we are pushing forward as the customers are out there. The license revenue particularly in this environment could be particularly tough to predict. So, we have a bias of sorts being a bit cautious on that side.

In looking at things like professional services, it is really important to keep those things going. So, we built that momentum not only for Q3 and Q4, but obviously beyond in the 2009. I think we are very reluctant to throttle that back in any meaningful way to optimize around Q3, for example, because we think there is a long-term potential there and we do not want to sub-optimize around what the best long-term objective is.

Kash Rangan - Merrill Lynch

Got it. So, Kevin, just on that point, do you feel like you have comfortable dialed in the incremental sales and marketing spending, that it deem to Belgrade into Europe into Europe and create more branding, if you will? In another words, I mean have we got the margin structure to a very barebones or fairly conservative point in 2008?

Couple that with the license revenue, it shows about 3% to 4%. That going forward would have flushed out the risks to the incremental spending, and therefore, 2009 is the year then that these investments could potentially start to bear fruit, because you do have easy license comparison in 2009, and the sales and marketing expense productivity should also start to come from 2009? So, it is look like the next year is the year when it all comes to bear?

Kevin Parker

Well, I think that is a very good thesis. Leaving any uncertainty about the macroeconomic environment to the side, that is I think the way we would think about it as well. In terms of looking at the opportunity of potentially, it there is a question behind the question with regard to margin expansion, I think that exists. I would also take some of that. I think we, as a team, wanted to take some of that and put it into areas where we can accelerate the business further.

2009 is probably a good year and will be a good year for us to start thinking about expanding beyond the English-speaking world with Vision set of applications. So, we want to make sure that we are thoughtful about how we do that and take the experiences we have learned in the U.K. and then our startup here in EMEA and take that in some of the new markets as well.

Kash Rangan - Merrill Lynch

Great. That is a very good color, Kevin. Thanks a lot.

Kevin Parker

Thanks.

Operator

Your next question comes from Phil Rueppel with Wachovia.

Priya Parasuraman - Wachovia

Thank you. This is actually Priya Parasuraman for Phil. A couple of quick ones. Did you close any deals that slipped out from Q1?

Kevin Parker

The answer is nothing material. We had a few small deals, but none of the big ones that we are expecting to close in Q1. They are still out there. There were some in the Vision marketplace that quite honestly have not closed yet. There are a few things that we did close. In the larger sense, it did not cause us to achieve our goal this quarter.

Priya Parasuraman - Wachovia

How was linearity in the quarter?

Kevin Parker

Well, it is a softer business model. So, I would love to tell you that there was a third, a third, a third, and unfortunately, it is not. We probably did the better part of 50% to 60% of the business in the last month of the quarter. That has been a trend that we have seen since I have been with the company. That is the trend that the rest of us in the software business look with as well. So, we were exactly at that trend.

Priya Parasuraman - Wachovia

You mentioned the slip between A&E and government contracting ratio that is 40-60 from your historical 50-50. I was just wondering, is that [umbrella] going to be 40-60 for the foreseeable future, probably end of '09 or if how do you look at that?

Mark Wabschall

Sure, there is a lot of trends in there. We survey with our largest deal being in the Costpoint side and the government contracting side that has a little bit of impact there. Certainly the growth in the EPM applications has a bit of influence there as well, but over the long term, we see Vision, particularly internationally and in these new markets, being a very big opportunity. I would not expect it to go below 40% near, probably trend back to 50% over the next year.

Priya Parasuraman - Wachovia

Thank you.

Operator

You do have a follow-up question from Corey Tobin with William Blair & Company.

Corey Tobin - William Blair & Company

Hi. One quick follow-up, if I may. You mentioned at the Analyst Day that end market issues clearly played a role in the Q1 shortfall. The question is, the rebound this quarter, would you characterize it as more gauged toward any sort change in the end market? Based on your comments on some of it, is it really more the internal execution issues (Inaudible)? Is there anything you can pinpoint specifically that threw over the rebound? Thanks.

Kevin Parker

Well, I think end markets have not changed all that much in terms of the overall economic environment. I think decision makers have probably gotten more comfortable with how it is going to affect them one way or another. On the margins, we have done a better job of transitioning perhaps or messaging from "you are growing very quickly, you need us to help you manage that growth to you are focused internally on project profitability and organizing your firm in a different way and we can help you with that as well."

So, there is a little bit of subtext in there that I think is helping on the margins to some degree. I think this is a company-wide challenge that we had last quarter and that there were a few things that the handoffs of a few activities and the handoffs of several programs that we were supposed to be putting in place did not work the way they were supposed to.

So, we have gotten much more disciplined, I think, as a team about understanding how to execute around particular initiatives or particular activities. We did those things, I mean, pretty close to flawlessly in the second quarter. We have changed our methodology or management methodology about how we run those things internally.

I think it is a permanent fix for us, and we expect that to continue. Certainly, in the very long-term future, I think it will still be there for us. It was an important point of self-intersection on our part and self-reflection, and we changed what we needed to change.

Corey Tobin - William Blair & Company

Great. One last one, if I could. You mentioned, Kevin, in your prepared remarks that A&E accounted for roughly 40% of the licensing revenue, if I heard that correctly?

Kevin Parker

That is right.

Corey Tobin - William Blair & Company

What was the contribution from A&E last year?

Kevin Parker

It was probably closer to 50-50 last year. Mark has probably got the numbers there. It is a little bit of influence, so this is may be what the question was from the last question two. A little bit of influence from the growth in EPM, which is almost primarily a government contracting market and the growth in Costpoint particularly for the very large Costpoint deal, but it was about 45 to someone's given me the note, it was about 45% last year and it is about 40% this year.

Over the long term Corey, Vision in the Vision Applications suite beyond A&E continues to be a very important part of our revenue. That is what is going to be growing internationally, that is what is going to be growing in to some of these new verticals that we are talking about, and so it will continue to be a very important part of the business. It will bump around a little bit, but it’s not going anywhere south of 40% I would imagine.

Corey Tobin - William Blair & Company

Thanks again.

Operator

Your next question comes from Aaron Schwartz with the JPMorgan.

Aaron Schwartz - JPMorgan

Good afternoon. You had mentioned that the strong trend you have seen with ASP as the new customer, and I am just wondering what is behind that. Is that a maturing of your sales force or did you change something in your sales process where you are selling higher up in the organization or are customers buying a greater amount of module to begin with. Can you just walk through what is driving that?

Kevin Parker

It is probably a couple of things, one I think we are calling higher up in the organization in a variety of different areas, and in historical view a lot of work what we did in EPM and other parts which sell to the controllers, sell to the project manager, the chief accounting officer and we are calling higher into organizations, and so I think we are getting larger deals, we are adding more things, we are convincing people to expand there use of the applications, and that is helping us to some degree certainly.

We have always been pretty disciplined about discounting and the discounting approval process is pretty rigorous, and you have got to really justify what you are doing. So I do not see any change in discounting. We certainly did not change our processes, but I think it is more as we said calling higher in to the organization and looking to get some larger deals, and we have a dedicated new customer sales force that is very good at doing that.

Aaron Schwartz - JPMorgan

Okay. One last question from me. You had mentioned that, I think you said it was challenging to close some deals on that quarterly timeframe, I do not know if that was specific to the international region or not, and then just to marry that back to your discipline on discounting. Are those two correlated to where, because you are not discounting, it is challenging to close deals or are they are unrelated to where the, and challenging to close deal and is just an international reason for the other reasons that you spoke about.

Ken Parker

Yes I would look at it independently of discounting. We tend not to discount to get deals closed. I think that is a very bad practice to get started, and it can spread through an organization very quickly. On the international side and just so on the professional services side, we have been selected.

There a couple of customers that I know of that have been involved with personally, they have been selected, they are eager to move forward, but their Boards are meeting and, they just do not have necessarily the same 90 day focus on getting deals closed on the customer side that perhaps our customers in the US have grown accustomed to. To them time is a little bit more fluid. So it is been challenging.

We have not lost any deals as a result of that, and some of the deals actually seem to have gotten bigger over time as we work with those customers, but it is been frustrating looking at the clock thinking. I would love to get this closed and realizing perhaps that even an additional discount will not make that much of a difference to them.

Aaron Schwartz - JPMorgan

Okay that is helpful thank you very much.

Ken Parker

Thanks

Operator

We have reached the allotted time for Q&A. I will now turn the call back over to Mr. Parker

Kevin Parker

Well certainly we do not have any significant closing comments. Obviously we were very proud of the quarter and look forward to continuing this success and look forward to talking to everyone at the end of Q3. Thanks very much.

Operator

This does conclude the Deltek second quarter 2008 earnings call. You may know disconnect at this time.

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Source: Deltek Inc. Q2 2008 Earnings Call Transcript

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