John Neff - William Blair Jonathan Maietta - Needham and Company James Wilson - JP Morgan Securities Christopher Mammone - Deutsche Bank Vance Edelson - Morgan Stanley

Ladies and gentlemen, thank you for standing by and welcome to the CoStar Group's Fourth Quarter and Year End 2008 Conference Call. Today we have CoStar Group's Chief Executive Officer, Andrew Florance; Chief Financial Officer Brian Radecki; and Communication Director, Tim Trainor. At this time all lines have been placed in to a listen-only mode. Later we will conduct a question-and-answer. (Operator Instructions) And as a reminder, this conference is being recorded. I would like to turn the conference over to Mr. Trainor. Please go ahead.

Thank you, operator and good morning everyone. Welcome to CoStar Group's fourth quarter and year end 2008 conference call. Before I turn the call over to CoStar's Chief Executive, Andrew Florance, let me state for the record that certain portions of this discussion contain forward-looking statements which involve many risks and uncertainties that can cause actual results to differ materially from such statements. Important factors that can cause actual results to differ included, but are not limited to those stated in CoStar's fourth quarter and year end 2008 press release which we issued yesterday and in CoStar's filings with the SEC, including CoStar's Form 10-K for the period ended December 31, 2007 and CoStar's Form 10-Q for the quarter ended September 30, 2008 under the heading Risk Factors. All forward-looking statements are based on information available to CoStar on the date of this call and CoStar assumes no obligation to update these statements. You can find a webcast of this conference on our website at www.costar.com/investors. Thank you for joining us. I would turn the call over to Mr. Florance. Andy.

Thank you, Tim. Welcome everyone to CoStar Group's fourth quarter and year end 2008 conference call. I am pleased today to report our results for 2008 a year in which CoStar continued to benefit from our core three attributes as a company. The strength of our subscription-based business model, our industry-leading research and the value of our products that our products provide to our subscribers. All of which helped us to strengthen an already strong financial position and achieve the earnings goal we set out two years ago. Net income for the year increased 145% to $24.6 million or $1.26 per diluted share compared to $10.1 million or $0.52 per diluted share for 2007. And EBITDA for the full year in 2008 was $56.6 million, a 115% increase compared to EBITDA of $26.4 million in 2007. These results exclude the favorable one-time gain associated with the lease assignment on our former London office in 2007 to more clearly show the organic earnings growth we generated in our business. Being able to again report triple digit year-over-year quarterly net income growth in the middle of a very challenging economy is something all of us here at CoStar Group are very proud of. The fact that we are successful in executing the plan we laid out to investors to achieve the earnings goals we set clearly demonstrates the absolute strength and resilience of CoStar's business model. The strong profits we generated follow the substantial investments we made to significantly expand our commercial real estate coverage in the US and the UK in 2006. In 2007, we completed the work of adding hundreds of thousands of new properties to our database, and announced plans to focus on earnings leverage following those substantial investments. In 2008, we delivered on the aggressive earnings growth we…

Thank you and you can take a breath. As Andy mentioned earlier during Q4, CoStar posted another strong quarter of earnings growth in cash generation. In yesterday's press release, we provided adjusted results for 2007 in that of the Q4, 2007 one-time lease settlement gain. We believe these adjusted 2007 results provide a better basis of comparing full year and fourth quarter 2008 results. Our net income for the fourth quarter 2008 increased 96.5% to $7.5 million, or $0.38 per diluted share from $3.8 million, or $.20 per diluted share in the fourth quarter 2007, excluding the fourth quarter 2007's one-time lease settlement gain. EBITDA, which is our earnings before interest, taxes and depreciation and amortization for the fourth quarter 2008 was $16.7 million, an increase of 82.3%, compared to EBITDA of 9.2 for the fourth quarter 2007, again excluding the one-time lease element gain. Reconciliation of EBITDA and all non-GAAP financial measures discussed on this call to GAAP basis results shown in detail in our press release issued yesterday. The press release is available on our web site at www.costar.com. Revenues in the fourth quarter of 2008 increased sequentially approximately $125,000 compared to the third quarter 2008 excluding the unfavorable impact of foreign exchange rate fluctuations on International revenues. In the fourth-quarter 2008 alone, the unfavorable impact from quarter-over-quarter changes in exchange rates totaled approximately $1 million on a functional currency basis, US revenue in the fourth quarter of 2008 totaled $48.2 million compared to $48 million in the third quarter of 2008, and International revenues 3 million pounds in the fourth quarter of 2008, consistent with the third quarter of 2008. International operations contributed 9% of total revenues in the fourth quarter and international subscription revenues accounted for approximately 89.2% of this revenue in Q4 of 2008. In…

(Operator Instructions). The first question will come from John Neff from William Blair. Please go ahead.

Hi, guys.

Hi, John.

Andy, I just want to make sure I got a couple of things right that you said, I think you referenced to 100% growth in research productivity during, I think 2008. Can you just talk about how you define that?

Sure. Actually in the two-year period, the listing account grew I believe 240% and researcher headcount grew 13%. So a huge productivity gain over a two-year period, and that was achieve through continuing improvements in software, the integration of the comparable sale research team, the tenant team and the listing team made it much more efficient, call recording systems for better coaching of the researchers. But at some point, there is sort of unprecedented growth in the database requires you to realistically, not continuously count on productivity gains to be able to increase workload. So, still are meeting the quality expectations we want, but we just want to make sure we continue to do that.

We happen to end the year at the low end into that range. And I think again, I encourage everyone to go back to the last two transcripts. I mean I pointed out fairly specifically the numbers in saying that half of that was temporary. I think the goal and focus this year as Andy said is to make sure that we are providing the highest quality research, so we do expect to actually continually push that number up to the high end into that range to provide that quality to our clients.

No, I appreciate that. And then, one thing, Andy, I am not sure if I heard you right as well. I think you talked about, were you projecting 1 billion square feet of negative absorption over the next two years? Did I hear that right, number one? And then number two, could you compare that to the magnitude of whatever you did say to prior downturns?

Sure, okay. That is a number across all types of real estate. All types of commercial real estate. Not just the office sector, but that's right. I mean we are talking about big numbers here. So, if you lose 6 million jobs, that's going to have a significant negative impact on absorption. And by comparison, I think, during the dot-com bust, the worst quarter for office only leasing was, $37 million, negative absorption. So, order of magnitude sort of increased in negative absorption.

And then, I was wondering, you mentioned a couple of things. But could you describe the types of specific analytics products you envision delivering in the next, call it 12 to 18 months? And then what has to be done/spent to deliver those products?

Good question and I am going to remain somewhat vague for all those competitors listening to the call today. What we are basically doing is, we are redirecting a lot of our systems resources or software developer resources towards continuously releasing incremental upgrades to our product that makes the utility of our products more valuable to people who are trying to value, analyze commercial real estate assets. So it's going to be a whole series of incremental upgrades giving you more indicators on the real estate markets, giving you tie-in from our commercial real estate data to related streams of data. We are also going to be, for instance, the webinar series that we recently hosted, we had several thousand people participate where we did 90 minute sessions by product type reviewing commercials real estate market conditions. I did the office sector one. I would like to bring in people other than myself to do this, and begin to bring in some econ on top, economists to interpret all the information that is in our system for our customers, as well as to add forecasting to our products. So, incremental spend is, I don't really think there is an incremental increase in software development cost associated with this. And we are talking about probably less than half a dozen additional personnel. So there is more a change of focus than it's been on cost of investment.

Yeah. So this is very incremental to your cost base?

Right. It will make us much more competitive in that space though.

The ad sales that you mentioned in January, I think 500,000, was that essentially preferred property listings on the Showcase/CoStar.com platform. Was that part of the $3 million in annualized sales for Showcase or was that categorized differently?

No, categorized differently. Jim Black, the person you said, the namesake of Black's Guide, for the last several years has been leading an advertising sales team that sells preferred placement within our professional products, so that the brokerage community, when they do a search for space available in a given area, advertised properties within our professional product will come to the top of the results and get additional exposure to the brokers. So that 0.5 million in sales in January, product that has been out there for several years. That is not Showcase. That is separate and distinct from Showcase but it shows the counter-cyclicality. If you are sitting on 100,000 square feet of class A space you hope to lease for $55 a foot and it's not leasing, you go buy an ad for a couple hundred bucks or a couple thousand dollars.

You gave the net bookings number for the year I think it's 9.2 million. Just doing the math, it was about 100,000 net in the fourth quarter?

Yeah. It was positive in the fourth quarter.

Okay. And then I can get back in queue, but maybe one more before I do that. In terms of thinking about the guidance, the first quarter guidance to take the midpoint you get about $1.16 annualized in '09 EPS. Your guidance is $1 to $1.05. Just wondering what that is, is that a reflection of the renewal rates over the course of the year continuing to move down to that mid-80s level on a trailing 12-month basis, a function of gross sales, or is it expense, you are clearly expecting things to get worse as the year progresses.

Yes, I think it is a function of kind of everything that you said. I think obviously I have been saying it for a long time, and I think we are seeing it happen. We do expect the trailing 12-month renewal rate to decline this year to the mid-80s. Obviously I think that's going to put pressure on revenue hence the guidance ranges that we gave basically flat or down slightly. So, again, we don't know how bad that is going to get. We will have to factor all that into our guidance. In addition to the other areas we talked about, I do expect the cost of sales line to increase slightly as we try to basically stay fully staffed. We have a lot lower turnover that we have ever had, part of it is the economy and part of it is the great job that the research group is doing. So we would expect to stay at more full staffing levels, so you will see that number come back up to what I would say is the more normalized rate which is again what I have kind of communicated in the last couple of quarters. I do expect to see increasing bad debt, John. I think it is unrealistic. When I look at, my days of sales are up 19.7 up to 22.3 from Q3 to Q4. Bad debt is up also, so I think it is prudent for me to guide to higher bad debt. There is just more companies going bankrupt. I think we have to factor that in. And then obviously the interest which I explained. The interest is basically almost zero. We have longer-term instruments out there that are still helping push our number up a little bit, but I expect that to decline even with an increasing cash balance this year. So, some of it to me is very mechanical as far as the interest goes. That really has nothing to do with the core operations. But I think, it's pretty prudent guidance. There is a lot of companies that aren't coming out with annual guidance at all, which I don't necessarily agree with. So, I think obviously we are trying to do the best we can in this type of environment.

Last question and then I will get back in queue. You mentioned the typical annual term for the subscription. Is the fourth quarter, first, can you remind us of the seasonality of the renewals. Is it typically concentrated in the fourth quarter or the first quarter? And what kind of advanced notice are you requiring from customers from a renewal or a cancellation standpoint?

Sure. It is basically fairly smooth throughout the year. It is slightly higher in the first quarter, and typically they would have to have at least two-month notice.

Great, thanks so much.

Alright. Thanks, John

And our next question is from Jon Maietta from Needham and Company.

Thanks very much. Brian, just to piggyback off of John's question there. When thinking about kind of revenue linearity across the year, let's assume the economy stays as is for sake of argument, would it be fair to assume you kind of see a down sequential Q1, Q2, maybe some stabilization in the revenue line in Q3 and, you know, maybe we get an uptick in Q4. Is that kind of a rational way to think of about it?

I think it is pretty rational if you actually look at like the guidance essentially, I am guiding down in the first quarter only by, you can look at the range, couple hundred thousand dollars or so. So I think I am expecting, companies are going to go bankrupt are not going to make it until the end of the year. So realistically, if I am projecting I am thinking that the majority that will struggle are going to go out bankruptcy early in the year and obviously we do hope to see some recovery as we get through closer to the end of the year. So I think that’s a good way to look at it.

Okay. And then Andy, maybe you can talk about the customer base a little bit and maybe incorporate some of Brian's comments there in your feedback with regard to bankruptcies. With the greatest preponderance of those bankruptcies, do you think kind of be with some of these property owners who have levered up in the past when debt was cheap, as well as some of the smaller brokers maybe closing their doors for business as well?

Yes, there is a definite pattern to the folks who are going bankrupt. It's not your established. Obviously the established brokerage firms of the mid to upper size are under severe pressure. It's the folks who predominantly deal with buying and selling Commercial real estate at the middle and lower end who are just getting killed and they are going bankrupt or the folks who are originating commercial real estate mortgages, smaller entrepreneurial operations there being decimated. We actually had two cancellations in that area where the customers took their lives, where they were involved in some speculative stuff some investment stuff and got hammered. So, you are seeing some brokerage firms where they have speculative development as part of the firm who are in trouble. We don't have a lot of exposure to the owners who over-levered. That is a smaller part of our business. The very good news here is that our biggest exposure is to brokerage firms that do leasing for living. And while that area is under duress, they are not experiencing anything like what these other sectors are experiencing.

Okay. And then any material change in some of the other customer sectors build in the past couple of months whether appraisers, government agencies.

Well, the government is growing. The appraisers I think should actually do okay, because with values moving all over the place, people are more interested than ever in what the value of a corporation's assets are. So, I think the appraiser will do okay in this situation, and I would hope that our government business grows over the next year or so.

Okay. And then Brian, just a couple of items with regard to cash flow, do you happen to have what CapEx and cash from operations was in Q4?

Yes, CapEx was pretty low, about 0.5 million. We closed the year a little bit lower than 4 million or something like that. Cash flow from ops is in the 30 million plus or so. I don't have the exact number with me, but when we will be filing our 10K on Friday or Monday at the latest, so we can get all the exact numbers in there.

Okay. And that's it for me. Thanks very much.

Thanks, Jon.

And the next question is from Jim Wilson from JP Morgan Securities. Please go ahead.

Hi, good morning, guys.

Good morning, Jim.

Let's see, a couple of things, two-three things here. You gave the number of new accounts generated at 514 for Q4.

Yes.

Do you have a number for how many you lost?

We do not.

More than 514 or less?

Just like with sales, I think sales was up slightly for the quarter. I don't have the exact number, Jim, but sales were up for the quarter, even net new bookings were still positive and client ads were positive.

So, you didn't necessarily see yet out of Q4 that loss has exceeded ads. You are just expecting that given obviously the (inaudible) market conditions and what you are seeing or hearing from clients.

Correct.

Yes, that kind of make sense. Are you expecting any meaningful change, I am guessing you might spend less at ICSC this year?

Well, yes.

Or are you even going?

ICSC, what? No, we actually, Jim, it's a good question. We are reducing our presence. You will not see a 10 storey Billboard on the hotel across the street from the convention center this year. We are definitely spending less money, but last year we actually sold more in annual subscriptions than we spent at the show. So, the show is profitable on an absolute basis. So we can't walk away from it. We got to participate. We made money there.

We are still participating I think we are obviously just trimming back a little bit of some of the expenses but we will still be there.

Sounds good, alright.

Sorry to waste your time, but I think we used to give away portions as a draw and then a two-year lease, now we are doing a weekend rental.

Okay. Then the final thing, just on your cash. I know you are asked this plenty of times. Any thoughts on anything you might do? Is this the point in time you might even look to buy stock back? Or what do you think of acquisitions. Obviously the [re-steel] or there won't be [re-steel] went away but what do you think of anything you can do with cash to drive a higher return?

We still are very optimistic about the ability to, opportunistically take advantage of some potential acquisitions out there. There are companies that will take a beating that don't have a strong balance sheet in this downturn. That could have real value to the company. We want to keep an eye on that and see what emerges. I think it is still a little early right now. So again, we constantly re-evaluate whether or not to do a share buyback or to do something else with the cash, but given the extreme uncertainty in the market right now, it is likely we are going to sit tight for a little bit.

Okay.

But there are some interesting things out there.

Alright, thanks.

Thanks, Jim.

The next question is from Chris Mammone from Deutsche Bank. Please go ahead.

Hi, guys.

Hi, Chris, how are you doing?

Good. First to be clear about the revenue guidance. The guidance isn't predicated on any sort of back half recovery. Just something you are hopeful to see at this point in time, right.

I don't think we are terribly optimistic about recovery in 2009. I don't see that happening.

Okay. Sort of a follow-up to that. You made some comments on 2010 and hoping that GDP returns to positive territory. Where you sit today, is there anything that you are seeing that makes you optimistic that could happen or is that just sort of drawing a line in the sand there. Can you maybe flesh that out a little bit your comments on 2010?

Well, I would defer to the Federal Reserve on the outlook for 2010. So based on our experience with the '90s, I would say it is safe to say that the investing side of commercial real estate, the buying and selling of assets will not recover in 2010. It will not recover in 2011, and probably won't recover until 2012. The leasing marketplace will be the first to recover, and it will recover once employment losses stop. You will have a reasonably quick recovery because you don't have a lot of excess inventory. So, '09 will be negative. And, it is out of my pay grade to forecast the GDP in '10.

Okay. Any sense I guess what are your expectations for what Showcase will continue to the top-line this year?

Fairly optimistic. We are not prepared to talk about it, but we have some innovative new ways to sell the product, and I think it will be a great year for CoStar Showcase, and I think it will keep the revenues moving in a very-very extraordinary difficult time. And Showcase has been most successful product launch we have ever had as far as that goes and continues to be, and we do expect it to be all of '09. Chris you took the one-time gain out last year so don't put it back in for the year-over-year comparison.

Right. Okay. And I think you mentioned your add a little bit to the sales force in the first half. About how many heads are you guys expecting to add back?

I think 10. 10 to 15, somewhere in that, hopefully good ones.

Yes. And then any issues with, I guess, you mentioned you have very low turnover, was that just the research staff or is that sort of sales and research everybody else got out of the year.

That's across the board, the research turnover is extremely low and generally turnover is very low as one would expect.

Right. Alright, and then, go ahead.

Good news also there are great candidates out there. As we bring in these new sales positions, there is some really good talent out there.

Okay. I guess lastly just on the UK. I know it's relatively small part of the business still, but just looking at the last few quarters, has revenue really plateaued in that market or is it more.

Absolutely not, Christy. I think my sense of things is that the UK, commercial real estate market went into this downturn a full two quarters ahead of the United States. And so I think the brokerage community over there the surveyors got hit a lot earlier than the US did. And actually I think we are seeing some signs of recovery in our sales in the UK right now. My belief, if you compare our revenues, we have accomplished a lot in the UK that wouldn't show up in revenues in 2008. Like we went from 30,000 listings at the beginning of '07 to 100,000 listings at the end of '08. As I met with our biggest customers in the UK in the fourth-quarter 2008, we have gone from being regarded as a small sort of optional vendor in that market to becoming clearly the best, highest-quality provider of information service to the industry over there and absolute utility. And if you take the, our experience of generating revenue per millions of square feet in a given market, I would expect that market can quadruple and can grow tenfold over the next ten years or so. So, I think that will be a bright spot to the company over the next decade.

Great. That's it for me. Thanks, guys.

Thanks, Chris

Your next question is from Vance Edelson from Morgan Stanley. Please go ahead.

Hi, thanks a lot. On the number of sales reps, it looks like it dropped from about 170 a year ago to 144 most recently. But you also mentioned that the turnover is very low. I assume that's across the entire business. So, is that reduction mainly a reflection of the cost-cutting efforts and reaction to reduce selling opportunities during the slump, is that what we are seeing there?

A little bit of that. Given the very large number of markets we have released in the last two years, we are moving a little bit more to slightly more hub and spoke sales system. We are going to be concentrating not trying to put our salespeople into every single MSA out there in the United States, but rather than centralizing them and a couple of dozen. It got dozen or so offices around the country. So a transition going on there. We have a significant number of sales reps in training right now who will be in centralized locations.

Okay. Got it. And any plans to hedge the foreign exchange exposure. A lot of people expect the dollar to continue to strengthen which would leave you susceptible to additional unfavorable FX impacts. Any thoughts there?

Actually we did the work. We have got some money in several different International banks that we spoke to, RBC, HSBC, and I have gotten four or five different report. I have got one report of it going down to 1.1, another report going up to 1.6. I think currently we are at 1.4 something. So, I still think there is a lot of uncertainty going in both directions. So, I think right now we will stay put. But we have hedged in the past. So, obviously we will watch it carefully and if we feel like it is appropriate, it is something that we will consider.

Okay, got it. And a final question from me. You mentioned as an example how CB Richard Ellis has reduced numbers that they have seen the past year. Can you comment on how lower activity levels in general could impact your ability to gather data and keep it up to date? Are there any special considerations there on your operations as we move through this cycle?

Yeah, well, actually it will be kind of easier to collect the data. There will be more volume of it. So, people are more motivated now than ever to make sure that they are putting their information into our system, and that is great. We are continuing to see our 'for sale' listings and our lease listings information boom, and our success is part of the reason we have to actually add a few more researchers because they are being very forthcoming and talking us to too much.

Thank you.

(Operator Instructions). We do have a follow-up from John Neff. Please go ahead.

Hey, guys.

John, you always like to open and close these calls, right?

I try my best.

Okay.

Brian, I was wondering if you could just comment on the status of your NOL carry forwards are going to be a full cash taxpayer in 2009, what the status there is? Andy, I was wondering if you could comment on what, if any, inroads you are seeing from Xceligent given the funding of that company from one of your competitors in recent quarters? Thank you.

Sure. We have utilized our NOL. You know, after many, many years, we actually utilize all of them in the U.S.; it will be full cash in the U.S. We obviously have a bunch of NOLs in the U.K. that will be able to utilize over the coming years. So, again, it will be kind of that blended rate. It will look a little bit higher than the actual cash taxes that they are paying. Even at 45% will be paying cash taxes at something just South of 40% or less because of the U.K., U.S. differences.

And, John, to answer your question, I believe that the competitor you are referring to. There are rumors they have launched a service in Winter Harbor, Maine and in Osceola, Iowa, but that it will be up and running shortly. But in markets like, San Diego, California, and I am being somewhat facetious. I think a press release about Little Rock and another market that would not be in the top 100 U.S. MFAs and the majority of the revenue business comes from the bigger cities. We have still seen, for instance, in Denver, we conducted focus groups out there recently. And the word there was that a number of major shops had left the brokerage association there and it stop subscribing to the competing company you are talking about. And then I heard in San Diego a number of major shops and stops subscribing there as well. So, we are actually doing extremely well against that competitor, and I think, as long as they are launching the cities that have less than 200,000 population, it is a complete non factor.

And I believe we have more revenue in one of those markets than they have across the entire country, and [indiscernible] the day our business built on 200,000 MSA markets.

Okay. Great. Anything else, John?

Nope, that was it. Thank you very much.

Thanks, guys. With that we will wind up and thank you for joining us for this fourth quarter year end conference call and we look forward to speaking with you next quarter.

Thank you. That does conclude our conference for today. Thank you for your participation and for using AT&T teleconference. You may now disconnect.