NICE Ltd. (NICE) Q2 2015 Earnings Report, Transcript and Summary

Welcome to the NICE Systems conference call discussing Second Quarter 2015 Results. [Operator Instructions] As a reminder, this conference is being recorded, July 30, 2015. I would now like to turn this call over to Mr. Marty Cohen, VP, Investor Relations at NICE. Please go ahead.

Thank you, operator. With me on the call today are Barak Eilam, Chief Executive Officer; Sarit Sagiv, Chief Financial Officer; and Eran Liron, Executive Vice President, Marketing and Corporate Development. Before we start, I would like to point out that some of the statements made on this call will constitute forward-looking statements in accordance with the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Please be advised that the company’s actual results could differ materially from these forward-looking statements. Additional information regarding the factors that could cause actual results or performance of the company to differ materially is contained in the section entitled risk factors in Item 3 of the company’s 2014 Annual Report on Form 20F as filed with the Securities and Exchange Commission on April 2, 2015. During today’s call, we will present a more detailed discussion of second quarter 2015 results, and the company’s guidance for third quarter and full year 2015. Following our comments, there will be an opportunity for questions. Let me remind you that unless otherwise noted on this call, we will be commenting on our adjusted results of operations, which differ in certain respects from generally accepted accounting principles that reflect mainly in accounting for acquisition-related revenues and expenses, amortization of intangible assets, and accounting for stock-based compensation. The difference between the non-GAAP adjusted results and the equivalent GAAP figures are detailed in today’s press release. And I will now turn the call over to Barak.

Thank you, Marty, and welcome, everyone. I’m glad to be on the call with you today. We are pleased to report another strong quarter. For the second quarter, we reported revenue of $235 million, which represented 6% organic growth compared to the second quarter of last year. Revenue growth was 9% excluding the impact of currency exchange rates. Our earnings per share came in at the high end of our guidance range, at $0.70 per share. This represents a 21% increase year over year. Our drive to improve profitability is also reflected in the 22.3% operating margin that was reported in Q2, which was a significant improvement over the 18.9% operating margin reported in Q2 last year. In July, we closed the sale of our intelligence division to Elbit Systems. This divesture will allow us to place greater focus on the execution of our long-term strategic plan and enable us to better concentrate on our core markets and business models where there is now more unity throughout the business. Moreover, the divesture will allow us also to place greater emphasis on our higher margin businesses and also enables us to focus more on product where the intelligence business was not product oriented. As I shared with you in the beginning of the year, over the past 12 months, we have significantly accelerated the pace of innovation including products like NICE Engage, Robotics Automation, Insight Amplifier, Suspect Search, and many others. These innovations are well aligned with our strategic plans and allow us to leverage our existing go-to-market assets, including our competitive position, our customer base, our sales teams and our brands. Every new innovation or product is aimed at areas where we can leverage our current assets. In a moment, I will share with you some of the recent successes we have seen as we’ve already witnessed rapid adoption of some of these products by our customers. Moreover, with this innovation and our extensive assets and go-to-market capabilities, our sales team has been able to sell larger enterprise portfolio deals along with more competitive replacements. In fact, we had another quarter in which we saw an increase in enterprise portfolio deals and competitive replacements, each contributing to year-over-year increase in the number of booked deals over $1 million. This effective go-to-market execution is occurring in all three areas of our domain expertise, taking care of peoples’ money, their safety, and their experiences. In taking care of peoples’ experiences, we continue on our journey of enabling enterprises to create perfect experiences. For example, we signed a seven-digit enterprise portfolio deal with a large healthcare company. This company is purchasing a full suite of NICE solutions and at the same time replacing the solutions of the competitor. Also in the second quarter, a large telecommunications company further expanded its footprint with NICE in another seven-digit deal, continuing in a multiyear process of replacing one of our competitors. And in another very large deal, one of the world’s largest financial institutions is now standardizing with NICE on communication surveillance all over the world. This particular deal reflects the increasing success of the joint work between our customer interactions in financial crime and compliance businesses. Furthermore, about a month ago, we announced additional new joint solutions, NICE Complaints Manager and NICE Work Manager, which demonstrates our further accomplishments in combining the technologies from both business units. We had another strong quarter in our financial crime and compliance business. An expanding regulatory landscape and increases in financial crime continue to drive demand for our industry-leading and unique set of solutions that help our customers protect people’s money. And to meet the demand, we continue to innovate, like the launch of our new customer due diligence suite. It is the first enterprise-ready, out-of-the-box solution that addresses branch-to-bank customer risk, while managing requirements for due diligence and entity monetary regulations. We are putting our financial crime and compliance solutions to work with our long list of existing financial institutional customers, as well as customers in new verticals, such as alternative payments, money transfer, insurance, broker dealers, and others. We closed a very large deal which involved a major competitive replacement with a large independent brokerage firm for our compliance and enterprise risk case managerial solutions. We won this deal because of our ability to deliver a single enterprise platform with robust dashboard and reporting capabilities and software ability to scale across multiple solutions. We also closed multiple large deals with a major bank that continues to expand its footprint with NICE. The deals were for our fraud and enterprise risk case manager solutions. Our market leadership in this domain continues to be reinforced as reflected in the numerous awards and high rankings we continue to achieve, several in this quarter alone. Our capability to deliver to our customers a full suite of holistic anti-financial crime solutions on a single platform sets us apart in this industry. Caring for people’s safety is another one of our domains where demand is strong, which led to a strong quarter for our security solutions. Innovation is key to our success on that front as well. Late last year, we announced the release of Suspect Search, followed by major traction from the market. In Q2, we won a large deal with one of the world’s biggest private agencies. In this case, the new Suspect Search solution helped us to further expand our footprint within this customer. We also won a major eight-digit deal with one of the world’s largest cities, equipping the city’s new emergency control center with our most advanced NICE Inform solution. We recently launched NICE Inform Audio Analytics, a new analytic solution that accelerates and simplifies the process of finding critical information from the ever-growing volume of emergency calls, body-worn audio and video devices, interview rooms and other critical communications. The solution can be used for investigations, compliance, quality insurance and operational intelligence. In closing, our markets are strong. The demand for our growing portfolio solution is robust and we look forward to further executing on our plans while driving operational excellence throughout the organization. This, together with our expanding addressable market and a strong leadership and competitive position, leaves us well positioned for further growth and profitability. Our pipeline is strong and similar to the trend we have seen in previous years, we expect a larger portion of our revenues to come in the fourth quarter. Constant innovation and leveraging our many assets to effectively and rapidly bring new products to the market is what we do every day at NICE. This has been the focus of our employees over the past year and with their continued dedication, we’ll further capitalize on the opportunities that lie ahead. I will now turn the call over to Sarit, who will review our financial results.

Thank you, Barak, and good day everyone. I’m pleased to provide you with an analysis of our financial results and business performance for the second quarter of 2015 as well as our outlook for the first quarter and full year of 2015. Before I begin, I would like to point out that following the divesture of our intelligence division announced on May 21 and closed on July 1, we are reporting results of continued operations, which exclude the intelligence business as of the second quarter of 2015 and also for the comparative numbers of 2014. Except for the cash flow statement, results of the intelligence division are presented as discontinued operations. Revenues for the second quarter were $235 million, up 6% organically from $222 million in Q2 last year. Excluding the impact of foreign currency exchange rates, organic revenue growth was 9% in the second quarter. Customer interaction revenues in the quarter were $144 million, similar to Q2 2014. Financial crime and compliance revenues increased 20% to $57 million and security revenues increased 17%, reaching $34 million in the second quarter of 2015. Moving to the regional breakdown, revenue from Americas region was $164 million, representing 14% growth. It was the fourth consecutive quarter of double-digit growth in the Americas. Revenues in EMEA were $48 million compared to $54 million last year and was negatively impacted by foreign currency exchange rates. Revenues for the Asia Pacific region were $23 million, similar to last year. Looking at revenues by business line. Product revenues grew 12% and accounted for 34% of total revenue. Maintenance revenues accounted for 43% of total revenues in Q2, and professional services including cloud accounted for the remaining 23% of the total revenues in the quarter. Gross margin in Q2 was 68.7% compared to 67.3% in Q2 last year. The gross margin improvement was the result of the increase in product revenue as well as product mix. Operating profit in the second quarter increased 25% to $52 million and operating margin improved to 22.3%, compared to 18.9% last year. The improvement in the operating profit and margin is the result of the improvement in the gross margin along with further progress in our plans to improve expense management. The effective tax rate for the quarter was 19%, which was in line with our expectations. Earnings per share increased 21% to $0.70 in Q2 compared to $0.58 last year. This growth is a direct result of the improvement in our operating model. Second quarter cash flow from operations was $57 million. Total cash and financial investments were $629 million at the end of June 2015, which does not include the profit from the intelligence divestiture. As part of our share repurchase plan, we bought back a total of $12.1 million during the second quarter. In line with our dividend plan, our Board of Directors approved a dividend for Q2 2015 of $0.16 per share. Turning to guidance, we expect third quarter 2015 total revenues to be in the range of $236 million to $246 million and fully diluted earnings per share to be in the range of $0.68 to $0.74. We continue to expect total revenue for the full year 2015 to be in a range of $985 million to $1.005 billion. For earnings per share, we increased our guidance for the full year 2015. We now expect fully diluted earnings per share to be in the range of $3.04 to $3.15 for the full year. This will conclude my comments. I will now turn the call over to the operator for questions. Operator?

[Operator Instructions] The first question comes from the line of Shaul Eyal from Oppenheimer.

A couple of quick questions on my end. Services, which I think also take into consideration the cloud, seems to have had a good quarter. Is it mainly the cloud approach, cloud-related products that are beginning to take off step by step?

I don’t think necessarily contributed to the cloud, we didn’t see a different phenomenon. I think it’s the just overall healthiness of the business, we can also – you can see that the product moved quite significantly and very nicely this quarter and also it’s followed by services that are attached to the stronger product sales.

Barak, one of the notable contracts you mentioned during your prepared remarks on a financial front, you mentioned some communication surveillance, is it including portions of the Actimize-related products or some of your additional capabilities? Just want to make sure that I understand it correctly.

So this particular deal, the communication surveillance does not – not in this sale, does not include the Actimize portion. However, it is well integrated into a more broader suite that we have, which is the holistic surveillance and we believe that the follow-on to that will be for those customers as well as others to expand and basically connect the dots between the Actimize assets that they have and the communication surveillance assets, again, to get into full holistic approach. And I think it speaks to the different synergies we’re starting to see much more heavily than in the past between Actimize and the customer interaction business that we have. More and more customers are taking the approach of holistic appliance, which covers both the transactional element, which Actimize brings to the table as well as the different means of communication, which are more than just voice that we bring with the communication surveillance. At the end of the day, the buyer or the user, if you like, in many cases is the same and more importantly the desktop asset, which is the case manager coming from the Actimize side with all be different alerts and the entire workflow, the compliance, goes through the case manager. So for us we have, if you’d like, a strategy of that and that is coming from multiple directions. One is leveraging customer interaction assets through communication surveillance to expand the footprint of compliance. Similarly on the Actimize front and either in day one or later on to combine the two together, and many of the deals that we have in the pipeline are actually the combination of the two either in Phase 2 or in Phase 1

So that specific significant contract in size, is it the first time you are in a way taking that strategic approach, i.e., implementing that, or the uniqueness this time is just the size of the specific contract?

It’s not the first time, this is not the first deal we had already quite few deals of that nature, but what the uniqueness and why we decided to emphasize is that these are the customers that already purchased this solution several quarters ago and now they’re actually expanding further globally beyond the first location. And for us, it’s certain proof that the first part was very successful, so they decided to expand globally and it’s a trend which we believe that will continue not all, but many of the banks are either global in nature or have multiple divisions and multiple business units, so if we don’t sell an enterprise license agreement in day one, we always have the opportunity to expand like this particular deal that we saw over here.

The next question is from the line of Daniel Ives from FBR Capital Markets.

Could you just talk about on the enterprise how much of the success now is replacement versus just pure cross-selling and a refresh going on within the NICE product cycle?

We don’t break down the, I’d say the three categories. I’ll mention the three categories in a second, but I will say that it’s healthy on all three. The first category which I highlighted a few opportunities is the replacement and we do see an accelerated [indiscernible] of replacement of competitive solutions. I’ll refer more to that in a second. The second, as you called it refresh or upgrade, we have products like NICE Engage and others that give us great opportunity to do a refreshment cycle of existing customer base. And the third one still goes to the customer base, it seems we have such a broad and growing the portfolio with great opportunity to go back to our existing customers and do more of the cross-sell, customers that used to have one or two products of ours. And we have the opportunity to either sell them the third and the fourth product or actually approach with the full portfolio and sell the entire suite and expand them from two or three products to many products. Actually what we’ve seen with the expanded portfolio and innovation and I’m going back to the replacement part, which we’re starting to see those things merge. Yes, there are opportunities when they come into completely new accounts to us and do a complete replacement of the competitor, but one of the examples, for example, that I’ve mentioned is on the one hand the replacement, but at the same time it’s also a cross-sell opportunity. It’s an existing customer of ours in one hand and this particular customer has one of our products, they had a competitor product, actually several products across several other categories and we have cross-sold to this customer and at the same time replaced that competitor on the different categories. So again we don’t break it down, but we see good traction for the two categories that you’ve mentioned and the third one that I’ve mentioned.

And just one final question. You’ve obviously done a great job since taking over, as well as the team, in terms of margin leverage and now we’re starting to see in the bottom line. How far are we through this efficiency period? Do you still think we have a lot of room to go in terms of just increasing margins but just finding more inefficiencies internally and just continuing to see this margin story play out, which has been a real NICE for investors?

So yes, we are seeing a very nice improvement in the operating margin, faster than the plan that we’ve put ourselves. We’re executing well on that front. I think we should contribute that to several elements, it’s not just one of them. The first one of this quarter, and similarly happened to us in Q1, we are seeing better gross margin than expected. I still believe that for the long run we should expect gross margin to be between 65%, 67%, and there can be some fluctuations between one quarter to another. It goes a lot on the product mix versus services and even we’ve seen the products themselves. Some of those improvement in the operating margin obviously come from the plan that we are executing on in terms of driving shared services and other efficiencies across the company. But as I mentioned on the previous calls, we had mid-term items or short-term items over the year and we’re also executing on the long-term items, which I do believe will come in the mid and long term. And as a result of the combination of everything that I’ve just mentioned, I believe there is still room for margin expansion, very healthy now, healthy one, and also there is much greater leverage in the model than we had in the past as you can see in the last several quarters.

The next question comes from the line of Greg McDowell from JMP Securities.

My first question just is a geography related question. You called out the Americas as growing for the fourth consecutive quarter of double-digit growth. I was wondering if you could just talk a little bit about what’s going on in EMEA and APAC and whether or not you can apply the playbook you’ve been running in the Americas for the last 18 months to those regions.

I’ll refer to the geography split, so as Sarit mentioned for several quarters now we see good strength in the Americas. We see certain weakness in EMEA, but I would contribute some o it for the currency, combination, by the way, of both the currency exchange rate as well as certain particular countries in the territory in EMEA, that have, regardless of the currency exchange, had some weaknesses. We are working diligently and the go-to-market efforts that we have over there to further improve, regardless of the market’s condition. And I believe in the long run, we will see improvement in the territories beyond the Americas.

And my last question I want to drill down into the eight-figure deal with, I think you mentioned it was a global city or a large city. Can you just talk a little bit about how those eight-figure deals work? Do you typically have to partner up with a big systems integrator or did you essentially go it alone with this type of deal? And I guess a second part of that question, if you could just comment on the large deal pipeline that you see and whether or not there are other whales like that out there?

First, to the eight-figure deal I’ve been talking to with that particular city, we have many ways to go about that and sometimes we partner and sometimes we not. In this particular case, this was actually a direct deal with the city. This particular city, they know us well, we have long-standing relationships. And they actually asked to partner with us directly without someone in the middle. They know the brand, they know the people and they really wanted to work directly with us and they were actually very fast in closing contracts and all the legal, given the longstanding relationship we have with them. And this is the way that particular deal works. However, as I said, sometimes we do partner, sometimes we don’t, depending on the situation. With respect to the outlook, as I mentioned, the pipeline is strong and it’s a mixed pipeline in the sense that it has small deals, medium-sized deals, very large deals and you call them world deals or very, very large deals. I don’t know what the definition of world is, but if it’s eight figures, yes, we have those in the pipeline as well and we are pretty pleased with the pipeline that we see right now.

The next question is from the line of Dan Bergstrom from RBC Capital Markets.

Shaul touched about the strong services line, but product growth has really accelerated now with consistent growth, double digits for three quarters. Can you talk a little bit about what’s responsible for this and how sustainable this is? I’m assuming it’s analytics and Engage being the big drivers, but any other color would be helpful.

So, yes, we are seeing a positive momentum on the product growth and this is definitely very healthy from a variety of services and also impacting positively on the gross margin, as you have seen. And I attribute this growth to actually multiple things; it’s not just one thing. It goes to what I said earlier which is we invested a lot in accelerating the innovation that comes out of our different product houses throughout the company. But when we do that, we don’t just create stand-alone products, going to market where we don’t have any assets in or anything like that. It’s part of our strategic planning process. We look closely on our existing market, the assets that we have, the sales teams that we have and we decided that both to our markets and the close adjacencies to our market, we’ll develop products that we can actually easily cross and up-sell to our customers and to new customers. But we are leveraging on our existing go-to market. And what we are witnessing is that when we come up with a new product idea, we manage to translate it relatively fast or faster than before into actual market-ready products and the existing sales teams that we have, without investing in new sales teams, are capable in taking in cross and up-selling them either to existing customers or driving replacements. And I think that’s the result of the product growth that we are seeing and this is our strategy across the different domains where we are operating in.

The next question is from the line of [Chris Ramus] from Barclays.

I wanted to ask a little bit about competition. The new deals you mentioned recently you said were for new customers. When you win these deals, is it based on pricing? Are you seeing any increased competition around those?

So, yes, I’ve been talking about this quarter and, if I’m not mistaken, also in Q1, we’ve mentioned that we see a good amount of deals that are a replacement of competitors. I don’t think it’s on price. Price, obviously, is always a factor but I think that it goes to the value that we provide to customers. And more particularly it’s the completeness of the offering and the ability to drive synergies between the different products of our portfolio. And I believe that’s the main reason why we see those different replacements and more often than not we are not just replacing one product, but rather different set of products all at once. So when we compete, for example, with the best of breed companies that offer just one or two products and we come with our full suite of products, I think it gives us quite a significant competitive edge. The last thing I’ll say about competitive replacement is I believe the strength of our go-to-market in terms of the main expertise and the different specialists that we have. They are not just selling technology or I would say throwing products at our customers, we come with a very process methodological sales process, where we inject a lot of the main expertise in the domain where we operate in. We have decided to focus the company, as you know, and a lot of investments and brainpower go to focusing on those core markets, which allows us to bring more expertise to the front line to our customers.

The next question is from the line of Tal Grant from UBS.

Just wondering what happened in customer interactions because that was down year on year. Was that part of your budget or – it’s a bit surprising, given there’s a new NICE Engage product, if you could just expand on what happened there, please.

So first, it was – just a small correction, I think it was flattish, not down, but I think this is just one quarter, actually Q1 was very strong in customer interactions. And there is always one deal that move from one side to the other and there is certain fluctuations in the business. But all in all, we are executing well on the front of customer interaction and I believe we can continue to be a strong business.

So did a deal close early in Q1 or was there a deal which has slipped into Q3, are you implying there?

We had actually a stronger Q1. So, yes, Q1 we had a good one and then Q2 was a bit slower, but we have a strong pipeline for the rest of the year.

And then the cash flow was very strong again. Just wondering, on working capital, can we – should working capital be positive in H2 or how is that being managed, is some of that going to unwind in the second half?

We continue to see good cash flow because there was also good execution and healthy business and we expect to continue for the remaining of the year. Obviously, it’s – again, the standard of the business can fluctuate in between the quarters, but overall it continues to perform very well.

And, finally, on M&A I see you – those $1.5 million of spend, is that just an earn-out? And also you’ve got a lot of cash on the balance sheet now. I’m just wondering if you can update us on what you’re thinking with M&A or how much cash you want to keep on the balance sheet and hence how much is available for M&A? Are you looking to do a very big acquisition?

So, Tal, the $1.5 million that you see, it’s a small investment, at a cost base it’s nothing significant to mention. I believe that Barak can address the M&A question.

Yes. So on the M&A, we continue to be active. We have a healthy amount of cash in the bank. We continue the capital allocations to buyback and dividend, but we remain very active on the M&A front and we’ll continue to pursue opportunities that will help us in our strategic direction. And obviously, when one of them will materialize, we’ll update.

Thank you. I would now like to turn the call back to Barak Eilam for closing remarks.

I would like to thank you very much for joining us today and wish you a great day. Thank you very much.