SolarWinds Management Discusses Q3 2012 Results - Earnings Call Transcript

| About: SolarWinds, Inc. (SWI)
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SolarWinds (NYSE:SWI) Q3 2012 Earnings Call October 25, 2012 9:00 AM ET

Executives

David Hafner

Kevin B. Thompson - Chief Executive Officer, President, Chief Operating Officer, Treasurer and Director

Michael J. Berry - Chief Financial Officer and Executive Vice President

Analysts

John S. DiFucci - JP Morgan Chase & Co, Research Division

Rob D. Owens - Pacific Crest Securities, Inc., Research Division

Adam H. Holt - Morgan Stanley, Research Division

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

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Scott Zeller - Needham & Company, LLC, Research Division

Gregory Dunham - Goldman Sachs Group Inc., Research Division

Daniel H. Ives - FBR Capital Markets & Co., Research Division

Stewart Materne - Evercore Partners Inc., Research Division

Karl Keirstead - BMO Capital Markets U.S.

Operator

Good morning, and welcome to the SolarWinds Third Quarter 2012 Earnings Call. Today's conference is being recorded. [Operator Instructions] At this time, I would like to turn the conference over to Mr. Dave Hafner, Director of IR. Please go ahead, sir.

David Hafner

Thank you, Roxanne. Good morning, everyone, and welcome to SolarWinds' Third Quarter 2012 Earnings Call. With me today are Kevin Thompson, our President and CEO; and Mike Berry, our Executive Vice President and CFO. Following prepared remarks from Kevin and Mike, we'll have a brief question-and-answer session. Please note that this call is being simultaneously webcast on our Investor Relations website at ir.solarwinds.com.

The press release with our results for the third quarter was issued earlier today and is also posted on our Investor Relations website. Please remember that certain statements made during this call, including those concerning our business and financial outlook, product roadmap, growth plans and opportunities of the company, and our products and our ability to capitalize on our opportunities are forward-looking statements. These statements are subject to a number of risks, uncertainties and assumptions described in our SEC filings, including our Form 10-Q for the third quarter of 2012, which we anticipate filing with the SEC on or before November 9, 2012. Should any of the risks or uncertainties materialize or should any of our assumptions prove to be incorrect, actual company results could differ materially and adversely from those anticipated in these forward-looking statements. These statements are also based on currently available information, and we undertake no duty to update this information, except as required by law. Cautionary statements regarding these forward-looking statements are further described in today's press release.

In addition, some of the numbers during this call will be presented on a non-GAAP basis. Our use and calculation of these non-GAAP financial measures are explained in today's press release, and a full reconciliation between each non-GAAP measure and its corresponding GAAP measure is provided in the tables accompanying the press release. Each non-GAAP item in our forward-looking financial outlook that we will provide today has not been reconciled to the comparable GAAP outlook item because we cannot reasonably or reliably estimate future adjustments such as stock-based compensation expense, which is dependent on our stock price at the time. I'll now turn the call over to Kevin.

Kevin B. Thompson

Thanks, Dave. Good morning, everyone, and thanks for joining us for our third quarter earnings call. Believe it or not, we are planning to make our comments on this call a bit shorter than normal. Our Annual Analyst Day is scheduled for November 13 in New York. So to make sure give you a great reason to come to that event, we are going to save some of the really good stuff related to product and market strategy, geographic expansion, potential new markets, M&A strategy and, yes, our growth forecast for 2013 for our discussion at our Analyst Day. So if you're interested in hearing our thoughts on these topics, please sign up to attend in person or plan to listen in on the live webcast.

Today we're going to focus our comments on the strength of the Q3 results that we just announced and on our forecast for the fourth quarter. I'm very pleased to report that we delivered yet another in a series of quarters of record results. Total revenue exceeded our forecast, reaching a record $71.7 million, increasing year-over-year by 33%. Our operating model once again showed its resilience and leverage, shaking off the dilutive impact of 2 small acquisitions we made during the quarter and allowing us to deliver record non-GAAP operating profit of $39.6 million and an operating margin of 55%. This represents our strongest quarter of operating margin performance in 3 years.

We believe that our recent results illustrate the strength and consistency of our go-to-market approach to all of our market areas. Unlike almost all other companies in enterprise software, we focus exclusively on developing relationships with the individual IT pros who use our products on a daily basis. We are focused on making these IT pros successful, providing solutions to their daily challenges which simply work and solving their IT management problems the way they want these problems solved. We provide them with products that are easy to implement, use and maintain. In addition, we make these products available to them at prices that are among the lowest in the industry.

As you've heard us say on several occasions, we call this concept unexpected simplicity. It is the cornerstone of our company and is a driving factor in all the decisions that we make. We also believe that it's important that IT pros view our products and market expansion efforts as logical extensions of the problems we have historically solved for them, that we build on a positive relationship that we have developed with several hundred thousand IT pros around the world over the years and that we continue to delight them with the solutions we provide to their daily challenges. We believe that our success in meeting these goals has been a significant factor in the progress we have made in increasing awareness among IT professionals to the widening range of IT management issues our products address for them. We believe that the increase in awareness has had a significant influence on our accelerating revenue growth rate in 2012.

In addition to total revenue increasing year-over-year by 33% and reaching a record $71.7 million, our license revenue also grew 33% in the third quarter of 2012 compared to the third quarter of 2011, reaching a record $34 million. To complete the trifecta, third quarter maintenance revenue grew 33% year-over-year as well, finishing the quarter at a record $37.7 million.

Third quarter new license sales were led by our commercial business, which continued this year's trend of greater than 35% year-over-year growth quarters, delivering 39% growth over the third quarter of 2011, reflecting an acceleration from 37% year-over-year growth in the second quarter 2012. In addition to strong overall global growth, our commercial business saw a solid year-over-year growth in all our geographic regions during the third quarter.

We have also seen a meaningful improvement in the consistency of the commercial business sales performance within each of the first 3 quarters of 2012. The third quarter was the most linear commercial quarter in our history with new license sales strength across each month of the quarter. Once again, our EMEA sales team bucked the trend we have seen for many technology companies who have underperformed in Europe this year. EMEA led our new license sales growth for the third straight quarter, posting a year-over-year increase in new license sales of 65%. The U.K., Germany, France and the Middle East were the third quarter's EMEA growth leaders, each putting up year-over-year new license sales growth rates of greater than 60%.

In EMEA, we believe we are benefiting from 3 key factors: First, our expanding product portfolio, which has allowed us to increase our presence in many countries in the region; second, our go-to-market model, which allows us to reach IT buyers across the entire EMEA region in companies of all sizes; and finally, from our affordable product pricing, which provides IT buyers the ability to address must-solve problems at a cost they can afford during the time of growing economic uncertainty and shrinking IT budgets in the region.

We have a simple philosophy at SolarWinds. If you do not have competitive advantage, then don't compete. If you have competitive advantage, then leverage it aggressively. We believe we have a meaningful competitive advantage in EMEA and plan to use that advantage and the uncertain economic environment to attack the EMEA market. The goal is to meaningfully increase the rate at which we are growing our IT management market share in the region over the next 12 to 15 months.

Our North American commercial region, which represents the majority of our new license sales, delivered another solid growth quarter with new license sales increasing by 34% compared to the third quarter of 2011. While the North America commercial sales team continues to add a significant number of new customers to our customer base each quarter, this team is also leading our efforts to expand the number of products owned and used by historical SolarWinds customer base through a variety of method, including the development of new inside sales roles, focus on the install base and a number of new techniques for communicating with our customers. As these roles and communication tactics become well defined and operationalized, we then roll them out to our international sales team.

We will discuss some of these new approaches to attacking the growing opportunity inside our install base further at our Analyst Day.

Asia-Pacific had its strongest growth quarter of 2012, with new license sales growth accelerating from the second quarter resulting in a 24% year-over-year increase in the third quarter. We believe we are beginning to see positive impact from the investments we have made in the region, which have included increasing the size of our sales team to respond to the growing demand created by expansion of our Web presence and the increasing awareness among IT pros in Asia-Pacific of the SolarWinds brand. These factors, among others, drove a significant acceleration in growth in the third quarter in Australia, Hong Kong, Japan and Thailand. These 4 countries led our growth in the region, delivering third quarter growth rates in excess of 35%.

And last but certainly not least, given that September 30 was the U.S. Federal government's fiscal year end, our U.S. Federal business had a solid and consistent quarter of new license sales, which resulted in U.S. Federal new license sales increasing by 17% on a year-over-year basis. We believe that our success in the U.S. Federal market in the first 3 quarters of 2012 is due, in large part, to the focus we have a placed on expanding the number of departments and agencies in the U.S. Federal government, which use some product from SolarWinds to manage the performance at a portion of their IT infrastructure. This successful expansion translated into strong results -- the run rate portion of our U.S. Federal business during the first 9 months of 2012, which has led to strong growth in total transaction volume, led by the adoption of some of our newer products like DameWare and Web Help Desk.

We believe that we remain uniquely positioned among our IT management peers for success within the U.S. Federal government, with a set of products that install quickly, are intuitive, easy-to-use and can be integrated relative simply with a number of other products currently used by the U.S. Federal government.

Our focus as we move into the U.S. Federal government's fiscal 2013 will be to leverage our large and growing Federal install base to spread the story of how easy SolarWinds' products are to deploy and use. And that in periods of tightening Federal budgets, SolarWinds is the only choice to solve the U.S. Federal government's IT management challenges.

Turning to a product-based view of our third quarter 2012 new license sales performance. Core product transaction volumes increased by 42% on a year-over-year basis, comprised of an increase of 46% in commercial core product transaction volumes and 7% in U.S. Federal core product transaction volumes.

Over the last 4 quarters, our commercial market network management new license sales have grown at an average rate of 23%. This growth rate is almost 4x greater than that of the overall network management market. In the third quarter, commercial market network management new license sales increased by 15%. Network management new license sales growth in the quarter was led by greater than 25% year-over-year growth in new license sales of SolarWinds' IP Address Manager and SolarWinds' Log & Event Manager. We remain convinced that the IP address in config management markets within network management are ripe for disruption. The problems are well defined and the leading players in this portion of the space have products and distribution models that leave gaps for a company with the right combination of products and model to exploit. We believe this acceleration and growth we saw on this segment of the network management market over the last 2 quarters shows that we are that company.

Over the last several years, we believe that we've become one of the most dominant players in network management. We believe that significant growth opportunities remain for us in this market. Based on what we see in our business every day, much of the market remains under-penetrated, with the majority of IT pros either still not proactively managing performance of their network infrastructure or being forced to make do with network management products that are expensive, hard to use and do not solve the performance management problems in the way they want them solved. In addition, we believe that many of the new trends that we see in networking like software-defined networks in which companies like VMware and Cisco are making substantial investments, should create meaningful additional opportunity for us in the future. We believe these trends while reducing the cost of IT infrastructure will significantly increase the complexity of managing the performance of this infrastructure. And while our network management product portfolio is relatively mature, we believe there's still room to fill in product gaps with additional network management related technology that fit within our model.

In fact, we did just that during the third quarter. Through the release of SolarWinds Firewall Security Manager, which is based on technology we acquired through the acquisition of Athena Security in late August. The release of SolarWinds' Firewall Security Manager adds an affordable and comprehensive multi-vendor firewall management to our extensive network management product portfolio. Systems management new license sales increased by over 125% for the quarter and included strong contributions from sales of SolarWinds Server & Application Monitor, SolarWinds Virtualization Manager, SolarWinds Storage Manager and DameWare.

In addition, SolarWinds Web Help Desk had a solid initial quarter, benefiting from its ease-of-use, the simplicity and affordability of the new product packaging and pricing model we introduced simultaneously with the close of the acquisition and the product's focus on addressing the specific helpdesk needs of the IT department.

Over the last 2 years, we have significantly expanded the number of IT management problems we can address for IT pros. Most recently, the majority of our expansion has taken place within the systems and application management portion of our product portfolio, where we have a very rapidly developed and acquired a set of products that solve a wide range of systems management problem.

Starting with a single product for server & application management 2 years ago to today having a robust set of powerful and scalable yet easy to use and incredibly affordable systems management product, we now offer IT pros the ability to manage application, physical and virtual servers and remote systems. In addition, we also now solve the problems to patch management, IT help desk management and can provide our customers with convenience of being able to solve their IT management issues from a mobile device. Coupled with our storage resource management capability, which we believe is rapidly converging with systems management, we have put together a carefully assembled and logically constructed product portfolio that addresses a meaningful number of IT management issues for system administrators in organizations of all sizes. As I indicated earlier, in addition to impressive new license sales growth during the third quarter of 2012, we also continued our string of strong maintenance revenue growth quarters with maintenance revenue increasing to a record $37.7 million, reflecting year-over-year growth of 33%.

I'm fairly confident that even after over 3 years of being a public company, many investors still do not appreciate the unique and powerful attributes of our maintenance model. We have built a financial and operational model that focuses on the long-term value of customer relationships. We have a consciously chosen to maximize the financial value of our customers over time rather than maximizing the financial value of the customer at the date of the initial license sale. This means that customer retention is a very important part of our unique business model. Our customer retention has continued to be strong, reflecting our ongoing commitment to provide frequent and valuable releases to all of our products to our customers. This has driven maintenance revenue growth rate of over 30% on a year-over-year basis for 19 straight quarters and has resulted in the increase of our recurring maintenance revenue to 54% of total revenue for the last 12 months. We believe this increase in recurring revenue provides us with a higher degree of visibility into a more meaningful portion of our future revenue growth than most of our perpetual license peers. I will now turn the call over to Mike for a more detailed review of the third quarter financial results and review our outlook for the fourth quarter.

Michael J. Berry

Great. Thank you, Kevin. Very good morning to everybody on the call. Similar to previous earnings calls, this morning I will give an overview of the third quarter 2012 financial results, our key operational metrics and our outlook for the fourth quarter and full year of 2012. As Kevin mentioned during his prepared comments, the third quarter of 2012 continued our string of strong results for SolarWinds as the power of our unique business model was once again highlighted in our financial results.

For the third quarter 2012, we exceeded the high end of the quarterly outlook for all of the revenue and non-GAAP profitability measures we provided on the July 2012 earnings call. Non-GAAP operating margins exceeded 50% for the 10th straight quarter. Similar to the first 2 quarters of 2012 and based primarily on our continued strong results in the third quarter of 2012, we are increasing our revenue and non-GAAP profit outlook for the full year 2012, which I'll cover later in my remarks.

Okay, with that said, let's get started with a more detailed review of the quarterly results for the third quarter of 2012.

Total revenue was $71.7 million for a 33% year-over-year growth rate. License revenue finished at $34 million, which is a year-over-year growth rate of 33%. And maintenance revenue finished at $37.7 million, which was also a 33% year-over-year growth rate. Our U.S. Federal business had a strong performance in the third quarter of 2012 with new license sales growing by 17% compared to the third quarter of 2011. For the third quarter of 2012, the U.S. Federal business represented approximately 21% of new license sales as compared to 24% for the third quarter of 2011.

We completed 2 larger U.S. Federal transactions in the third quarter. As we have discussed on previous calls, from a forecasting point of view, we take a portfolio approach to determining the level of U.S. Federal business we expect to do in a given quarter. In doing so, we begin with the aggregate pipeline. We've had excluded project-based deals and then applied probability factors that we have developed over a number of years of analyzing the performance of our U.S. Federal sales pipeline based against the age and stage of the pipeline to determine our aggregate outlook.

As a result of this portfolio approach, we do not forecast by specific transaction. That said, there were 2 transactions that closed during the third quarter that were each greater than $500,000 in license revenue. These deals were in our pipeline entering the quarter and were therefore included in the probability weighted outlook for our third quarter 2012 U.S. Federal business, as discussed above. We also closed 2 U.S. Federal transactions that generated more than $500,000 each in license revenue in the third quarter of 2011.

For year-over-year comparison purposes, the amount of license revenue recognized from the 2 larger U.S. Federal transactions we completed in both the third quarter of 2011 and the third quarter of 2012 was approximately the same amount. Excluding these large deals from both third quarters, U.S. Federal new license sales grew by approximately 21%.

For the third quarter of 2012, our international revenue declined to approximately 22% of total revenue from 25% in the second quarter of 2012 and reflects a normal trend that occurs with the higher proportion of revenue normally generated by the U.S. Federal business in our third quarter results. This trend occurred despite international revenue increasing by 39% year-over-year.

Our non-GAAP operating expenses in the third quarter 2012 were $29.4 million, an increase of approximately $2.1 million or 8% on a sequential basis versus the second quarter of 2012, which was consistent with our expectation. The largest percentage of this sequential increase related to increases in sales and marketing.

Our non-GAAP operating income amount reached a new record high as the non-GAAP operating income of $39.6 million in the third quarter 2012 was approximately $5.3 million higher than the previous high of $34.3 million, which was recorded in the second quarter of 2012. This resulted in a non-GAAP operating margin of 55.2%, which was the highest operating margin we have achieved in the last 3 years. We achieved this margin level despite the dilutive impact of the Web Help Desk and Athena Security acquisitions.

As illustrated during the third quarter of 2012, our financial model continued to exhibit strong leverage with the ability to drive incremental profitability. Similar to the first and second quarters of 2012, our non-GAAP operating margin and earnings per share out-performance during the third quarter of 2012 was driven mainly by the fact that our total revenue was approximately $3.2 million above the high end of our outlook, which in turn, drove more than 2/3 of the $4.7 million in incremental non-GAAP operating income as measured against the high end of our outlook. Non-GAAP net income and earnings per share were also new record highs as non-GAAP net income of $28.4 million resulted in non-GAAP diluted earnings per share of $0.37 for the third quarter of 2012.

Okay, let's move on to our key business metrics. As Kevin stated in the third quarter of 2012, core product transaction volumes increased year-over-year by 42% as commercial core product transactions grew by 46% and U.S. Federal grew by 7%. We are pleased with this level of core product transaction growth as core product sales are the biggest drivers of our growth. For the third quarter of 2012, the trailing 12-month average transaction size, excluding Kiwi and DameWare, remain consistent with the past several quarters and finished at approximately $8,800, an increase of 4% over the same measure ending the third quarter of 2011.

Now let's move on to the balance sheet. Including our short and long-term investments of approximately $51.5 million, total cash, cash equivalents and investments were approximately $208.5 million at September 30, 2012, versus $196.2 million as of June 30, 2012. The quarter-over-quarter increase in total cash of approximately $12 million was driven primarily by approximately $35 million generated by cash flow from operations partially offset by cash used in the acquisitions of the Web Help Desk and Firewall Security Management products during the third quarter. A large percentage of our cash balance is held in U.S. dollars. Approximately 18% of the total cash and investment balance is held in the foreign currencies of our international subsidiaries as of September 30, 2012. Accounts receivable finished at $39 million as of September 30, 2012, an increase of $10.2 million from June 30, 2012.

Our DSOs calculated on a trailing quarterly revenue finished at approximately 50 days. Our total deferred revenue saw a nice sequential increase of $11.4 million from June 30, 2012, to finish at $98.1 million. This equates to a 34% year-over-year growth versus the September 30, 2011, balance of $73 million. Our quarterly cash flow from operations finished at $35 million, an increase of approximately 8% on a year-over-year basis. Free cash flow was $37.2 million for a year-over-year increase of 15%.

Okay, let's stop here for a minute and discuss the cash flow dynamics for the third quarter of 2012. The cash flow results in our third quarter financials are influenced more than any other quarter by the timing of our cash collection, specifically related to larger transactions associated with our U.S. Federal business.

As I just discussed, our accounts receivable at the end of the third quarter of 2012 increased by approximately $10 million over the end of the second quarter of 2012, which is a similar pattern to previous third quarter results. This was due mainly to the larger, new license sales and maintenance renewals that were completed during the third quarter of 2012 but where cash was not collected until October 2012. Importantly, this is a timing issue of cash collection, not an indication of the collectibility of these receivables.

Indeed, as I've just mentioned, we have already collected the large majority of this specific receivable and thus expect cash flow from operations in the fourth quarter of 2012 to show a nice increase from the third quarter of 2012 amount.

Lastly, on cash flow. Remember that when you look at the year-over-year comparison that we paid approximately $3 million more in cash taxes in the third quarter of 2012 versus the third quarter of 2011. On a trailing 12-month basis, we have generated approximately $139.8 million in free cash flow or approximately 56% of total revenue for the same period. We define free cash flow as GAAP cash flow from operations less purchases of fixed assets plus excess tax benefits from stock-based compensation.

We continue to expect to pay approximately $15 million in U.S. Federal taxes during 2012. We have made tax payments totaling $11.1 million through the third quarter of 2012.

Cash used in investing activities was $29.5 million, which was primarily related to the 2 acquisitions completed during the quarter.

Cash provided by financing activities totaled $6.6 million, which includes $3 million received from the exercise of stock options and $3.7 million from the excess tax benefit of option exercises.

Let's move on to the outlook for the fourth quarter and full year of 2012.

We currently expect the fourth quarter of 2012 to continue the historical trend of strong sequential increases in new license sales in the commercial business that largely offset the expected large sequential decrease between the third and fourth quarter in the U.S. Federal business. As an example, last year, we saw new license sales increase in the commercial business by 25% from the third quarter of 2011 to the fourth quarter of 2011. As we discussed during the February 2012 earnings call, the commercial business saw strong new license sales results in the fourth quarter of 2011 with year-over-year growth of 29%. So despite last year's strong commercial growth and this being a robust comparison, we expect the commercial business to increase in the mid- to high 20% range on a year-over-year basis in the fourth quarter of 2012 or by nearly 20% on a sequential basis.

As I mentioned earlier, we had a strong quarter in our U.S. Federal business and we exceeded our expectations for both core transaction volume and new license sales. Primarily because of the strong performance and the uncertainty related to the level of government spending going into the fourth quarter of 2012, we are taking a prudent view for the U.S. Federal business in the fourth quarter of 2012. At this point, our current expectations are for the U.S. Federal new license sales to be flat to slightly down versus the fourth quarter of 2011.

As it relates to FX, our outlook reflects an assume euro to USD dollar exchange rate of $1.25 for the fourth quarter of 2012.

So with that being said, our current expectations for the fourth quarter of 2012 are as follows. We expect total revenue to be in the range of $69.3 million to $70.8 million, representing growth over the fourth quarter of 2011 of between 25% and 27%. This revenue range is expected to comprise with license revenue in the range of $30.3 million to $31.5 million and maintenance revenue of approximately $39 million to $39.3 million.

We currently expect non-GAAP operating margins to be in the range of that 50% to 51%. Non-GAAP EPS is currently projected to be $0.31 to $0.33 per share, given a non-GAAP effective tax rate of 30% and fully diluted weighted average shares outstanding for the fourth quarter of 2012 of approximately 77 million.

Before I move on to the full year outlook, I'd like to mention a few important items related to the fourth quarter outlook. First, as is typical of the third quarter results, we recognized a meaningful amount of catch-up maintenance revenue primarily related to the U.S. Federal maintenance renewals in the third quarter of 2012 that is not expected to repeat in the fourth quarter of 2012. We define catch-up revenue as revenue recognized in the quarter from maintenance agreements that renew after their original renewal dates and thus we are required to recognize the revenue applicable to the previous accounting period at the time of renewal. For the third quarter of 2012, this amount was approximately $550,000, which was consistent with the amount of catch-up revenue recognized in the third quarter of 2011.

Second, our margin outlook for the fourth quarter of 2012 includes an increase in planned spending from the third quarter of 2012 in a number of key areas as we continue to invest in an effort to drive long-term growth. We will discuss these investment areas in more detail at our upcoming Analyst Day. As we have discussed consistently throughout 2012, we do our best to plan the business right around the 50% non-GAAP operating margin based on our revenue outlook range, and the fourth quarter 2012 is no exception to that strategy.

Moving on to the full year of 2012. Mainly as a result of the strong performance in the third quarter of 2012, we are increasing our outlook for full year of 2012 total revenue, non-GAAP operating margin and non-GAAP EPS.

For the full year of 2012, we currently expect the following. Total revenue for 2012 to be in the range of $264.7 million to $266.2 million, which reflects anticipated growth of 33% to 34% over 2011 total revenue of $198.4 million and represents an increase in full year revenue of $3 million to $8 million from the outlook we provided on the July 2012 earnings call.

We now expect our full year non-GAAP operating margins to be approximately 53%, which would represent the second straight year of an increase in the full year non-GAAP operating margins. This is despite the dilutive impact of the 8 product acquisitions we have completed over the last 2 years.

We expect non-GAAP earnings per share to now be $1.31 to $1.32 per share, an increase of $0.08 to $0.11 per share from what we provided on the July 2012 earnings call. This reflects a non-year -- I'm sorry, reflects a full year non-GAAP effective tax rate of approximately 29% and fully diluted weighted average shares outstanding for the year of approximately 76.5 million.

Lastly, our expectations for year-over-year total revenue growth for our main product categories remained largely unchanged. We will provide a discussion of those growth rates at our Analyst Day, which, as Kevin mentioned, we are hosting in New York on November 13.

We are planning to go into a good bit of detail around our strategies and action plans as we head into 2013, as well as a high-level view of our financial outlook for 2013. So we look forward to seeing many of you in New York in a few weeks.

With that, I'll turn the call back over to Kevin.

Kevin B. Thompson

Thanks, Mike. As I'm sure you can tell by our comments, we are very pleased with the performance of our business in the third quarter. our third quarter 2012 results once again exceeded expectations. We continued the acceleration and growth of our commercial business, and our unique business model once again showed its leverage by delivering an operating margin level higher than any other quarter in the last 3 years.

In addition, off a strong 2011 growth comparison, our results for the first 9 months of 2012 reflect a meaningful acceleration in year-to-date total revenue growth, with 2012 growth reaching 37% as compared to 29% for the first 9 months of 2011.

We laid out a number of initiatives in our Analyst Day in November 2011 that we believe would accelerate our growth if they were effectively executed, which included: first, building awareness of our offerings in the systems and application management market; second, expanding the number of systems and application management issues that we address with our products; third, localizing our web and product presence in key countries around the world; and finally, increasing our focus on the market opportunity within our own install base.

We believe that each of these initiatives have been meaningful contributors to our accelerated growth in 2012 as evidenced by year-to-date systems and application management commercial market growth rate of 119%, EMEA year-to-date growth of 60% and an acceleration in year-to-date global commercial market growth from 23% in 2011 to 40% for the first 9 months of 2012.

However, we also believe there's still much to be done on each of these initiatives, and additional new opportunities exist for us to attack to drive future growth. We will share our plans and thoughts on these initiatives in a number of new areas of focus when we see you at our Analyst Day on November 13 in New York.

We also plan to share our perspectives on some of the new hot trends in IT infrastructure, the opportunity that we believe these trends will create or are creating for SolarWinds. We are enthusiastic about the current rate of change in IT in general, in IT infrastructure in particular. We believe that these changes will create long-term opportunities for SolarWinds because of our unique go-to-market model.

One concept that I would like you to keep in mind, and I plan to discuss further in November, is that SolarWinds does not need to be, in fact, it does not want to be the first company or even one of the early companies to develop solutions in these new emerging areas of technology. We are a commoditizer of markets. The problems our products address are well defined and recognized by IT pros and organizations of all sizes and are problems that must be solved. These characteristics only exist when a new market reach a meaningful size in a certain level of maturity. It is a great advantage for the SolarWinds model. We are not trying to predict future demand, we are responding to current demand.

We believe that our product strategy over the last 2 years in terms of both developed and acquired products has been working. It has allowed us to rapidly increase the number of IT management problems that our products address for IT pros, which we feel had a meaningful impact on increasing the awareness of IT pros of the relevance of the SolarWinds brand.

We expect to continue to aggressively expand the set of IT management problems we can solve for our users by bringing additional new products to market. We will bring these products to market by funding a new development team and by searching for additional product acquisitions in the areas of systems, application and network management.

We believe that we've been disciplined in our acquisition approach. We may be able to acquire additional products that meet our criteria of easy to evaluate, easy to implement and easy to use, yet powerful and scalable products to solve problems which IT pros and organizations of all sizes face on a daily basis. And we have quickly put these products into our unique go-to-market model.

And finally, we are extremely pleased that our work and focus over the past year was recognized by Forbes Magazine, which recently named SolarWinds the Best Small Company in America. This is an incredible recognition and gives our team a tremendous amount of motivation to continue to redefine the expectations in enterprise software.

With that, we will open up the call up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] We'll go first to John DiFucci with JPMorgan.

John S. DiFucci - JP Morgan Chase & Co, Research Division

Mike, I guess I was -- I wanted to ask a question on the numbers, but I think they pretty much speak for themselves, I guess, relative to most anything else we've seen this quarter. So let me move to Kevin. Kevin, am I thinking about this right, you really have 3 growth drivers or sort of like base growth drivers, you have your core business in your core markets, you have sort of product or portfolio expansion and you also have a geographic expansion. And this last one is the one I want to focus on in here. You launched a fully-featured localized Japanese website in this quarter, you have local language products. I know it's still early in this particular case, but is there anything you could share with us on how this strategy has worked either here or even elsewhere? Do you see similar characteristics to the U.S. when you do this, say, I'm talking about like hit rate -- sales hit rate versus leads in different geos? Or is it different from geo to geo because of cultural differences? Or even just, do you have to establish better familiarity with SolarWinds before you actually start to see that pick up? And I guess maybe you can remind us, where is next? I mean, it's a big world you're expanding.

Kevin B. Thompson

Yes, so good questions. What I would say is that our approach is consistent in every country that we decide to attack. We're going to go in with the same go-to-market model, inside sales-based approach and communicating directly to IT pros, making sure we understand the problems that they have and then we solve those problems and we market to those problems on the web in a way that they find us when they're out proactively searching. So I say, that is a very consistent approach in every market that we go into. Particularly as it relates to Japan, the real work in Japan, and we've been saying this for a while now, is creating presence and creating awareness. And we're not creating presence by putting feet on the ground, we're creating presence by putting feet in the web, if you will, meaning getting a lot of content on the web in Japanese and making sure we're talking about the problems the Japanese IT pros have and the way they think about those problems. I think we made a huge progress. In 2012, we had good growth in Japan, as I indicated in my remarks. In the third quarter, we've had good growth in Japan year-over-year. Now it's off a pretty small number, and it's still a very small number in relation to our total revenue even just for Asia. But we are very enthusiastic about that market. We feel like we're doing all the right things, and that the demand is growing at the pace that we want it to grow and growing in the right way, which is organic traffic to the website, direct traffic to the website. You can drive people to websites with paid search. But if you don't do that the right way, you're just throwing money down the well, and that's something we try to never do here as evidenced by our margins. So I think we're doing the right thing. Japan will be a meaningful market for us. It's going to be bigger in 2013 than it was in 2012, and I think will become much more meaningful as we move into 2014 and beyond. But we feel good about what we're doing, and I think we've learned a lot, which we will apply to other markets. So as I look at where our other markets, and we'll talk about this some more in Analyst Day, there are 2 or 3 markets that we'll focus on in 2013 and we'll talk about each of those specifically and what we're going to do in those markets when I see you guys in a few weeks.

John S. DiFucci - JP Morgan Chase & Co, Research Division

Okay. So it sounds like you have the -- a similar base strategy in every market you enter and you'll -- you're not going to tell us today what the...

Kevin B. Thompson

I got to say something.

John S. DiFucci - JP Morgan Chase & Co, Research Division

That's cool. If...

Kevin B. Thompson

What if you all come, and then I'll feel like I'm standing up there, being exciting, and nobody's there to listen to me. And I like having people -- I tell you, I like to have people listen.

John S. DiFucci - JP Morgan Chase & Co, Research Division

Believe me, people are listening. That's good [indiscernible]. If I could just one quick one for Mike. I just thought -- Mike, this is the second third quarter in a row you talked about maintenance catch-up for the U.S. Federal. Is that sort of just how the U.S. Federal works? I mean, I worked for the U.S. Army for 13 years, and I kind of know sometimes things can get bogged down. It's a bureaucratic organization, the U.S. Federal government. Is that just sort of -- is that sort of a norm for the U.S. Federal that when the maintenance comes due and they're like, "Yes, we'll get to it." and they eventually do?

Michael J. Berry

Yes. Over the last 3 years, John, it has been the norm. So we have had about that $550,000 of catch-up revenue in each of the last 3 years, and it's really just based on timing. So we're always working with them very hard to make sure that those maintenance renewals are completed. They may not happen on time, but as long as it's in the quarter, we're okay.

Operator

We'll take our next question from Rob Owens with Pacific Crest Securities.

Rob D. Owens - Pacific Crest Securities, Inc., Research Division

Question just around the margins and the continued guidance around this 50%, 51%. Has the business reached the scale where you might need to rethink that margin profile? And even if I back off the revenue average back to the middle of the range, I would still see you exceeding your margin targets at about 52%, and that includes the 2 acquisitions. So just trying to understand what the natural state of the margin is as you guys are running the business right now.

Kevin B. Thompson

Rob, this is Kevin. I'll start and I'll let Mike add in. So what I would say is that we really plan our business at a 50% to 51% gross margin because we believe with that margin, we can drive the kind of growth that you've been seeing from us for the last 6 to 8 quarters. And I guess one of the very unique things about our model, that ability to have high margins that have the ability to expand while still driving growth. I think that when we get out in front of the revenue number, we talk about this a lot, we don't have a lot of incremental costs related to dollars of incremental revenue. So when we beat our outlook, we are generally, and this isn't an always statement, but we're generally going to beat our margins by a decent amount. So I think that's what you've seen through most of this year. We've been out in front the revenue number. We have an aggressive investment plan. When we walk into each quarter, we have both on the hiring side, as well as on the web expansion side. And we intend to spend all of the dollars each quarter as we walk in. In some quarters, we spend them all. In other quarters, we're not able to quite get them all spent, mainly ideally it comes down to hiring being at a little slower pace than what we've had built into the plan. But we never want to build a plan where we have to slow hiring down because it came faster than we had anticipated. So I think, those are things we think about as we build our operating model. And we really are building in around that 50% to 51% with the ability to exceed if we have a strong quarter.

Michael J. Berry

And Rob, the only thing I'd add to what Kevin said, and we've talked this a good bit, keep in mind -- so for the last 4 quarters on a sequential quarterly basis, we spent in Q4 and Q1 about $1.8 million in total expenses quarter-over-quarter. We brought that number up to $2.4 million in the last quarter. And based on the outlook that we gave you, we're right about that $2.4 million again. So we are assuming similar spending patterns into Q4 that we did in Q3. The margin comes down a little bit because of where we put the revenue. But again, as Kevin said, we're going to invest where we think there is growth, and that's why we target that 50% to 51%. If we do better, hopefully the margins will be better as well.

Rob D. Owens - Pacific Crest Securities, Inc., Research Division

Sure. I understand that. But again, at the midpoint of the range, you would have still exceeded the margins. So was there underspending in the quarter? I'm just trying to get a sense of what you guys saw and where spending came in.

Kevin B. Thompson

Yes. I think it goes back to the point I made, Rob, that our -- we have an aggressive hiring plan as we walked into Q3, with a number of initiatives we've got underway both in terms of web expansion, product expansion, adding sales folks to respond to demand we're seeing. And so the hiring plan, we didn't hire quite to plan, so we're a little behind in hiring. So expenses were a little bit lower than what we'd thought they would be coming into Q3, but right now we're pretty much caught up from a hiring point of view. We've got a new VP of HR on board in the last 6 months, and she has 1 goal. And her goal is to make sure that we're never behind our hiring plan, and she's made good progress. So make sure you give Mike a little room for the fact that she now is making sure we're on target in hiring.

Operator

We'll go next to Adam Holt with Morgan Stanley.

Adam H. Holt - Morgan Stanley, Research Division

Just a follow-up on the margins. It would also seem that you're getting your acquisitions to corporate margins or at least close to corporate margins maybe faster than we first thought. Could you maybe walk us through that process? Are there any common denominators of where you are able to extract expenses maybe faster than you thought 12 or 18 months ago?

Kevin B. Thompson

I think there's a couple of things that we've been able to do, which is a little bit unique to the acquisitions that we've made over the last year, which we bought very small companies that for the most part have been owner-financed without any VC money in them, and so they've at least been kind of cash flow breakeven when we bought them because these guys didn't have third party money in the company. And so first, they weren't bleeding money. They weren't our margins, but they weren't bleeding money. They were generally right around breakeven. Second, we are able to take all the administrative functions over day 1 because these are very small companies. We generally give ourselves some time, so we actually do a lot of integration work before we close the acquisition, which is pretty unique. And the owner-financed companies are willing to work with us in ways that VC funding companing sometimes are not, meaning doing some of the work pre-close because they trust us that the deal is actually going to close, which allows us to hit the ground running. I think we've also done a nice job of getting those products into our go-to-market engine and starting to sell them pretty quickly, which always helps. But we make an assumption, it's going to take us, depending on the size of the acquisition, anywhere between 2 quarters in a year to get them to our margin. Some of them get to our margin earlier, or some of them are just so small that even though they're not in our margin, we're able to cover it in other areas of the business. Kind of goes with the comment I made that I still don't think most investors really get how powerful our maintenance model is, that we take every dollar discount that we give and we carve that off and put it in deferred revenue. That we bill maintenance at lift, not as a percentage of what we sold at. That gives us a level of profitability and a level of visibility on revenue that helps us to be able to overcome some of these smaller dilutive acquisitions a little more quickly than maybe people think we can.

Adam H. Holt - Morgan Stanley, Research Division

And just turning if I could to the commercial business, obviously another terrific quarter. Could you talk a little bit about where you saw some of the best bundling and/or product-attached stories in the quarter?

Kevin B. Thompson

We continue to see -- the products that have attached well over the years continue to attach well. So our NetFlow Traffic Analyzer module of our networking product portfolio continues to be our highest attaching module, the sales of SolarWinds Network Performance Monitor. One of the interesting things is, our systems management products, SolarWinds Application Performance Monitor, is our second highest attaching product to sales of SolarWinds Network Performance Monitor, which really validates the point we make all the time that we sell to organizations of all sizes and in most of those organizations, there is very little distinction between roles in IT. It's a group of guys who do a little bit of everything and who are making buying decisions together as we're selling to the same person or same group of people, whether we're selling application management or network management, which is why we believe we have such a large competitive advantage in systems management. So those continue to be the 2 highest attaching modules that we've got.

The rest of our modules attach rates have all been consistent and/or improving. And we've done a better job, and I think we'll do even a better job as we move forward of connecting products. And I don't mean connecting products at the sales rep level. I mean, when you come to our website and you download one product or you start reading about one product and you think it solves a problem that you have, that we do a better job of connecting another product for you as you do that research, so if you make a decision to download 2 products or 3 products instead of one product. Because we believe if you do that, we're going to sell you more products on that call, and we're going to do it just as quickly, as we sell you 1 product today. So that's a big focus of ours as we move into 2013. So I think we'll be even better at that than we are today, but we're doing a good job of it now.

Operator

We'll go next to Steve Ashley with Robert W. Baird.

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

My question is on the acquisitions, and maybe give us a little, if you could, color on what kind of contribution to revenue you might be seeing in the period. You guys acquired the Help Desk business, the Athena business, but now we've seen TriGeo probably anniversary here. Any color -- guidance you could give us around that would be great.

Kevin B. Thompson

Yes. I think a couple of things, and we talked about this a lot. So one, the 2 acquisitions we've made in the third quarter are very small. The average sales price of those products are very low, in a couple of thousand dollars per transaction level. So these are products that should sell hopefully in high volume, but they won't generate a tremendous amount of dollars of revenue per transaction. You're going to have to do a whole lot of volume in order to get to a meaningful dollar amount on our total revenue. I think the other thing to keep in mind is that just like Web Help Desk is a great example. Web Help Desk had 3 versions that they were selling. We said, okay, 3 versions are too many, let's make it 1. By the way, let's make the one version we sell basically be at the same price as their lowest priced version that they had because we want to take price out of the conversation in every deal that we're in, because we want to be the most affordable product in the market with the set of features and functions that we have. And we've done that consistently with kind of all the products we either build to bring to market or the products we buy and bring to market. So yes, TriGeo's anniversary-ed. We're doing a nice job of growing that business. And the business that we bought had very small contribution this quarter. But we're excited about them. I think, the IT Help Desk product has been well accepted by our customers. It's been well accepted by new IT guys. So it's bringing a combination of new IT guys to us, as well as our customers already buying the product, which is really nice. And so we're pretty excited about it. But it's early and it's going to be a good product. Is it going to be a SolarWinds Application Performance Monitor-sized product or a SolarWinds Network Performance Monitor-sized product for us? No. But is it going to be a really good product? I think it will be over time. So they're contributing at the level we kind of expected them to. And I think the thing I'm most excited about is the fact that we can buy a product or build a product. We have shown almost the same ability to slip it into our model and have it start to work, have our reps understand it, have our customers understand it and start to buy it almost immediately. And I guess, one of the unique things we're able to do with acquisitions than most companies can't do, because we really take whatever we buy and say I don't care what you're doing, probably wasn't interesting in terms of sales model, who you were selling to and how you were selling and how you are pricing, and that's in the case of almost every deal we've done. We're going to change all of that and put you into our model because I don't need your demand, what little demand what you might have had. I'm going to create brand-new demand that is the kind of demand we create and the kind of the sales cycle we have. So that's how we think about acquisitions, and how we think about their contribution, which is they should contribute just like a product we build contribute if we do them right. If we do them wrong, they're actually going to go the other way, because we only sell things one way, right? We do everything the same way regardless of what the product is, that's kind of the magic of how and why we've been successful in acquisition so far.

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

Do you think a reasonable guess on our part would be to assume that contributed a couple of million dollars in the period?

Kevin B. Thompson

So we don't talk about individual products at any level, but that would be considerably higher than what I would guess at.

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

Okay. And just lastly for me. In terms of the upside in the period, it seems like that government relative to guidance is where a good amount of upside came. Was there upside also in the commercial business? And if there was, what products might have kind of led to that license upside?

Kevin B. Thompson

Yes. So we had upside across the business. The federal absolutely performed well and really on the volume side. As Mike indicated, the big deals had about the same impact this year that they did last year. So those weren't any growth really at all. And so the growth came in the run rate side of the federal business, which really, really an important factor to know is that we've done a really nice job and our federal sales team has done a really nice job of building awareness and increasing volume, so that we are less and less dependent on large transactions in a 12-month window. So we feel really good about that, and that really came across many different areas of the federal government. The level of transaction volume in the third quarter was really high and was very consistent. We also had a very strong North America commercial quarter. We had a really strong EMEA growth quarter. In Asia, it was at its strongest growth this year. So really across the world, we saw growth. And the good things is it came across our product portfolio. Our Systems Application Management product team, our product portfolio, obviously, is growing really quickly, over 100% growth again. But yes, we're still seeing strong growth in network management, particularly IP address management, where we had a really good quarter I mentioned in my remarks. I think that address management [indiscernible] market is ripe to be disrupted. I think we now have a product that is really good and getting better. And so we're going to start to make more and more noise in that market. So the folks are in that market today might want to think hard about changing how they go to market or soon we're going to do the same thing we've done to the guys in network management.

Operator

We'll go next to Aaron Schwartz with the Jefferies.

Aaron Schwartz - Jefferies & Company, Inc., Research Division

You specifically spoke about the linearity in the quarter. Was there anything that you sort of changed internally to drive that? Or can you just sort of a walk-through sort of why you think that the period was so much more linear than in the past?

Kevin B. Thompson

We have gotten more and more linear as we've gone through this year, and I think it really goes to kind of 2 factors. First, we give a lot of credit to our sales management team. We've got a very experienced and mature team that's now been with us for a long time. The group of folks that run sales for us globally really understand our model. They understand what it is we're trying to accomplish, and they understand how to work with our marketing team and then work with their sales team to get more consistent performance. It doesn't mean we're always going to be as consistent as we were this quarter. It was a really consistent quarter. We've had a very consistent 9 months. But it's something we strive for. We've got a team that believes it's possible, a team that's constantly looking for ways to make it possible. And when you've got that combination, you're going to have some level of success. So I think that's really the primary reason. I think, the other thing we've done in our marketing team is really working very hard to partner with their sales team to make sure they deliver not just demand in a quarter but they deliver demand in a quarter in timing that allows us to be consistent. So those are the 2 factors that have really had an impact this year, things we're going to continue to focus on. I'd hope that we can always be that consistent. I don't want you to believe that we can, even though -- see, now everybody in my company is listening, I tell people we can, I believe we can, but you -- it's hard, right? And it's really hard. And we work at it. It's super hard to do. So if we're not as consistent in another quarter, it doesn't mean things are going bad. It just means we've done a really nice job this year, we want to keep doing a nice job. But it's not a guarantee every quarter it's going to be as good as this one.

Aaron Schwartz - Jefferies & Company, Inc., Research Division

Okay. And second question for me, if I could. On the cross sales teams that you put in about a year ago, can you sort of update us on where that productivity is. And then the hiring you spoke to, is that going to contribute to continuing to build that out? And then also, on the sort of web and demand gen, is there anything specific you're doing there to help out the cross-sell function?

Kevin B. Thompson

Yes, good question. So the cross sales teams are doing well. It was, as I indicated my remarks, I think they've been a meaningful contributor to our growth in 2012. It's one of the key as we walk into this year that we wanted to focus on. And I feel good about what we've got accomplished. I think we have done a nice job. As I indicated in my remarks, I've had a North American team, which has got the largest install base and the large number of reps, and that team of reps and managers have been with us longer than our international team, and so we tend to pilot things here. They've done a really nice job of building a set of processes that appear to be working. And they're beginning to export those processes to Europe and to Asia. So yes, some of our hiring has been adding resources like that in Europe and Asia, so we can start to replicate that activity. The productivity of those reps is very close to the productivity of all of our other reps, and we expected that it would be. We have a very large install base. The market opportunity inside that install base is growing, and we're doing a better job of connecting things both in terms of newsletters that we send, in terms of email campaigns that we do and yes, all our websites, we're doing a better job of connecting products. When you're looking and you're reading about one product. We're going to try to make sure you see another product that you ought to be interested in. When you come to your portal and you're either downloading the newest version of products you own, we want to do a better job of, hey, you own this and that, and you might look at these other things. You probably have this problem that, that product solves. Those are all things we're working on to try to make sure that as people come and touch us in any way, that we are doing a better job of pointing out the other problems we can solve for them, and that's a big piece of strategy as we move forward.

Operator

We'll move next to Scott Zeller with Needham & Company.

Scott Zeller - Needham & Company, LLC, Research Division

There was a question moment ago about the cross-selling team and we heard some directional positive color there. But specifically, on that team, what is their impact on the revenue lines? Do you -- would you say that their impact is more on the license line than on the maintenance, or would it be on both lines of the cross-selling team? Would it be disproportionately...

Kevin B. Thompson

Not on maintenance at all. Our sales teams don't do maintenance renewals. Maintenance renewals are handled on the operational side of the house, and that team reports up through Mike. And so our sales team doesn't touch maintenance renewals at all. We want our sales team focused on bringing new customers to us and selling new products to existing customers, so that's one clarification. We don't really talk about yet what percentage of our revenue is coming from install base versus what's coming from new customers. What I would say, just to give you a little color, we continue to add new customers at a very fast pace, and we believe we can continue to add new customers at a very fast pace. We are doing a larger portion, particularly in North America, of our license sales. On a percentage basis, a little larger portion is starting to come from that installed base. We're still early. If you remember, we really didn't put that team together until late 2011, and so we've had them in place now for almost a year and most of that was in North America. We've just started to export that to the rest of world. So we're pretty early in that. It doesn't mean we weren't doing any selling to our installed base in the past, we were. We had lots of customers who love the product they bought from us, who practically come back to the website, download another product and we'd sell them that product. So we've always done business back into the install base, but not as intentionally as we've done over the last 11 months.

Scott Zeller - Needham & Company, LLC, Research Division

Okay. And then also, are you able to talk about churn rates? I know last year at the Analyst Day we heard about retention and churn. And are you able to update us on that today?

Michael J. Berry

Yes, Scott, it's Mike. So what I'd say is our retention rates related to maintenance renewals has stayed very consistent throughout the year. We measure that, as you know, on a trailing 12-month just to take out the quarterly fluctuation. So it's remained very consistent. I also hit that pretty hard at Analyst Day. And the other thing I would like to do just take a second here, I just want to clarify one thing on the outlook for the year, just to make sure that this is clear. For the full year outlook that we gave for 2012, we took the whole beat in Q3 and rolled it forward. We did not lower the implied Q4 numbers that we had before. So the Q4 numbers that we gave are basically in line from a revenue perspective to what we gave in Q3. However, we did bump it significantly for profit and earnings per share. And the federal numbers that we talked about for Q4, keep in mind a couple of things, that's about 5% of the total new license sales, it's a very small number in Q4. And the number that we gave has been consistent with what we've talked about all year. We did not change that materially at all. So I just want to be very clear on the full year number. And keep in mind that the fed's number for the full year, U.S. federal new license sales, it's about 10% of the total business. It's very low in Q4. So I just want to make sure that there's no confusion of that. The outlook that we gave for Q4, we actually raised the low end in revenue and we bumped profitability pretty significantly. So sorry I had to make sure to get that in.

Operator

We'll take our next question from Greg Dunham with Goldman Sachs.

Gregory Dunham - Goldman Sachs Group Inc., Research Division

One quick one here. When you look at the sequential build and deferred in Q3, is the mix of that -- is that consistent with the mix of federal business in Q3, meaning that about 25% of it is related to federal? How should I think about that?

Michael J. Berry

Well, Greg, certainly the vast majority of our deferred revenue is maintenance and the U.S. federal business is a big quarter for new license sales, as well as for maintenance renewals as well. So, yes, U.S. federal has a pretty significant influence on that. And you can see that in historical Q3s as well, that the sequential increase in deferred revenue, the U.S. federal is a big piece of that.

Gregory Dunham - Goldman Sachs Group Inc., Research Division

And asked another way, if you looked at your commercial billings, did that grow consistently with kind of the commercial license growth overall?

Michael J. Berry

Yes. Yes. Yes they did.

Operator

We'll go next to Daniel Ives with FBR Capital Markets.

Daniel H. Ives - FBR Capital Markets & Co., Research Division

Just given margins, Kevin, did you take a salary this quarter?

Kevin B. Thompson

Yes. I do really like to get paid, almost as much as I like to have people listen to me.

Daniel H. Ives - FBR Capital Markets & Co., Research Division

Tell me, Kevin, you've done both sides of software in terms of -- on the direct side and indirect. I mean, do you feel when you're talking to customers, seeing things in the pipeline that just given that you don't have traditional feet on the street and the platform has gotten bigger and bigger product suite, that you're leaving some money on the table? I mean, how do you kind of balance them? I'm sure you'll talk more about it at the Analyst Day. An I'm just curious from a high level, what you're seeing given the success that you've seen within the install base?

Kevin B. Thompson

Yes. So do I think we're leaving money on the table? I don't think we are over a period of time. Could we do larger transactions at the date of the initial transaction, if that was the goal? Sure we could. But that's not the goal, right? The goal is to solve the problem that customer has, make sure they buy the product they need to solve the problems that they've got today. And then, if we do a great job of building products that solve problems the way they want them solved, if we delight them with the technology that we provide to them, then they're going to come back when they've got another problem that's a burning problem and they're going to buy more technology. So I think, over a period of time, if you look over a 12- or 24-month period forward after someone comes and buys that initial product or set of products from us, I think we're going to get those dollars. I don't think there's anyone in the marketplace today that is going to take away our opportunity inside those accounts. One of the great advantages of our model is one, I don't ever need to own the account and I definitely don't need to own the account today, because we can deploy along side, we can deploy it with, we can deploy instead of, we can deploy in replacement of, all those things work. But all those decisions are made by the customer and not by us trying to call the customer to make those decisions. So I don't feel like I'm ever making that trade-off of oop, I'm giving up revenue I could have if I'd either change the conversation I asked my inside sales team to have or if I put somebody on the street. I think we're getting what we're going to get, getting it in a much higher profit margin and actually believe ultimately, we're going to get more, because we don't go try to get you to buy everything today and give you some stupid big discount in order to get you to buy it all. Instead, we let you buy it as you need it over time, which I ultimately believe we'll cause you to buy more software, not less software. Look, here's the reality, most people that go buy big enterprise software deals from our competitors, they hate those products in about 12 months, and they may never buy from that company. I'd much rather be in a situation we're in and that they're delighted with what we gave them and they decide to come back and buy more and more and more over time. And we've got a lot of wonderful examples to the companies that started with $5,000 or $10,000 purchases that today have $200,000 or $300,000 of our technology deployed and are incredibly happy with what we've been able to do with them. So I actually don't think we gave anything up, I think we gained. We have.

Operator

We'll go next to Kirk Materne with Evercore Partners.

Stewart Materne - Evercore Partners Inc., Research Division

Just a quick one on Europe. Kevin, that geo has been clearly a standout relative to a lot of your peers in software. I guess, just when you look at that business, I guess, it's how much of that sort of out-performance is coming from the fact that, that teams now really taken hold of the model and is catching up to where some of their U.S. counterparts for in terms of efficiencies of sales and growing the market more effectively. And I guess how much of it is coming in your view from really stealing market share from some of your competitors in that market?

Kevin B. Thompson

Yes, I think it's a combination of factors. We've got a team in Europe that's getting more and more mature with each quarter. They've been together now for well over a year. The leadership team has and the sales team underneath that leadership team is beginning to get more and more mature. And obviously, we're growing that team as demand grows. We've also seen demand grow in Europe. And as we've done more localized -- localization on the website. As we've done more in local language, newsletters and emails and other types of communication, we're seeing demand grow, and we're seeing our conversion rates there beginning to improve. There's still room for them to improve further, and that team knows that I want them to improve them further. So I think we still have room to grow. We're absolutely taking market share. That market is not growing that fast. It's not growing 60% in any of the market that we're in. It's not even close. And so we're absolutely hurting our competition in many ways. As customers are out looking for solutions to problems, they're not looking at their incumbent vendors, they're looking at us and they're buying us and they're pulling us alongside. As they're out looking for solution in general, maybe it's the first time they deploy the solution. As soon as they see how easy to use and how affordable our products are, they stop looking at other products. So we're really leveraging the competitive advantages we have. We think we can continue to take market share, and that's really the focus in 2013. And I don't love a difficult economy. I don't think anyone does. We'd all take an economy that's growing 15% while inflation wasn't too high, I guess, because that what makes things a little bit easier. But I do think we have an ability to take advantage of uncertain environments in a way not all of other companies can, and we're going to try to make sure we're leveraging that as we look in 2013.

Operator

We'll take our last question from Karl Keirstead with BMO Capital Markets.

Karl Keirstead - BMO Capital Markets U.S.

I'd like to hone in on the commercial NPM growth rate of 15%. You obviously did a terrific job elsewhere in the suite. But that growth rate has now down-ticked for 2 quarters in a row. And I'm wondering, could you comment on what's going on? And I think on the last call you mentioned that you plan to increase your level of activity around this historical core product in the second half. Perhaps, you could give an update on what you've done to try to boost that rate.

Kevin B. Thompson

Sure. So I'll just make one point of clarification, so that's not -- the kind of percentage is not NPM alone, it's our network management group of products. So yes 15% in the quarter off a pretty strong Q3 of last year, over 23% year-to-date, so we're outpacing the growth of the market by a lot. I do believe that there's significant growth opportunity in that market. I think that we are adding technology, which is good, and that's part of the investment we talked about. We have increased our marketing effort as we move into Q4 around that product, but we really don't believe there's a viable competitor out there on the network management side. No one is doing anything interesting other than what we're doing in the area -- of the market that we serve. And so I do think that growth can accelerate, will accelerate. I think we've had a strong year. We've had a much stronger year than any other competitor in that space on the network management side and have delivered a lot of growth in both dollars and customers. You've got to keep in mind that's the largest single revenue line that we have when you look at product groupings. And so while it maybe 15% in the quarter, it's a very large dollar amount compared to even 120%, 125% we grew on the Systems Management side. So strong market for us, strong growth, strong quarter, absolutely killing our competitors in that space, and believe it's something we can continue to do.

David Hafner

All right. Everyone, thanks very much for dialing in today. That concludes our Third Quarter Earnings Call. Have a good day.

Operator

Thank you for your participation. That does conclude today's conference.

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